ITAD BIR Ruling No. 052-11

February 15, 2011 ITAD BIR RULING NO. 052-11 Articles 5 and 7 of the Philippines-Singapore tax treaty; Sec. (28) (B) (1); Sec. 32 (B) (5); Sec. 42 (A) (3) and Sec. 108 of the Tax Code of 1997; BIR Ruling No. 088-86; BIR Ruling No. 566-88; BIR Ruling DA-ITAD No. 069-02; BIR Ruling DA-ITAD No. 059-04; BIR Ruling DA-ITAD No. 051-08 Manabat Sanagustin & Co. Certified Public Accountants 22/F, Philamlife Tower, 8767 Paseo de Roxas Makati City 1226 Attention: Ma. Georgina J. Soberano Principal, Tax & Corporate Services Gentlemen/Ladies : This refers to your letter dated 17 January 2008 and an application for relief from double taxation which were filed on behalf of CEMEX ASIA PTE., LTD. (for brevity, CAPL), requesting confirmation of your opinion on the following: a) the fees that Solid Cement Corporation (for brevity, SCC) and APO Cement Corporation (for brevity, APO) will pay to CAPL pursuant to their respective Service Agreements will not be subject to income tax because such fees do not constitute royalties but rather services fees for services performed by a foreign corporation offshore pursuant to Articles 5 and 7 of the Philippines-Singapore tax treaty; and b) the same fees shall not likewise be subject to value-added tax (VAT) since the services will be rendered abroad. Facts It is represented that CAPL is a corporation organized and existing under the laws of Singapore, as confirmed by the Memorandum and Articles of Association of CAPL with Company Registration No. 199507421K consularized by Mr. Nathaniel G. Imperial and signed by Pon Seng Fat, Senior Assistant Registrar of Companies and Businesses, Singapore; that its principal office address is at No. 1 Temasek Avenue #35-02, Millenia Tower, Singapore 039192; that CAPL is not registered either as a corporation or as a partnership in the Philippines per Certification of Non-Registration dated 9 October 2007 issued by the Securities and Exchange Commission; that SCC and APO are domestic corporations organized and existing under the laws of the Republic of the Philippines. It is further represented that CAPL entered into a separate Service Agreement (Agreement) with SCC and APO both dated 1 October 2004; that CAPL will provide the following services to SCC and APO: a) Provide advice and assistance on the development and coordination by SCC and APO of its overall business policy and strategy affecting its Philippines operations; b) Provide advice and assistance in research and market analysis of cement industry in Asia, including assistance in monitoring intra-Asia and inter-regional movement of cement products and advice on assessing cost and operating structures of various players in the industry; c) Provide advice and assistance on financial planning and regional report consolidation; HCITcA d) Provide advice and assistance on corporate and investment projects and trading operations between internal and external parties, including support in the documentation of investment transactions, mergers and acquisitions, charter arrangements and other business transactions, and advice on resolutions of disputes relative to such matters; e) Provide advice in the area of procurement, in relation to international purchases of goods, raw materials, materials and all kind of fixed assets that are necessary for the business of SCC and APO; f) Provide advice in the area of comptrollership, in terms of the elaboration and updates of chart of accounts; design and implementation for the preparation of reports for financial statements; training in the preparation of manuals and procedures for internal audit control; training in the analysis of financial statements; training in dealing with variables costs; g) Provide advice in the area of human resources, including advice and support on the training of personnel, and personnel reorganization in order to optimize the same; h) Provide advice in the area of marketing and distribution; i) Provide advice in the area of Treasury and Cash Management; j) Provide advice and support on the expansion and modernization of the communication and information technology processes and systems; and k) Provide advice and support in other areas that from time to time the parties agree based on the necessities of the market, products, production, maintenance, risks, security, etc. that it is hereby understood that pursuant to the Agreement all of the services will be rendered outside the Philippines; that in consideration of the performance of service, SCC and APO shall pay CAPL a fee equivalent to the services rendered and substantiated by CAPL in both written and electronic form and that this will be in the form of a reimbursement of expenses plus mark-up of 5%; and that the issue or transaction subject of the above application is not under investigation, on-going audit, administrative protest, claim for refund or issuance of a tax credit certificate, collection proceedings, or a judicial appeal. Ruling In reply, please be informed that Section 28 (B) of the National Internal Revenue Code of 1997, as amended by Republic Act No. 9337, provides as follows: "SEC. 28. Rates of Income Tax on Foreign Corporations. xxx xxx xxx (B) Tax on Nonresident Foreign Corporation. (1) In General. Except as otherwise provided in this Code, a foreign corporation not engaged in trade or business in the Philippines shall pay a tax equal to thirty-five percent (35%) of the gross income received during each taxable year from all sources within the Philippines, such as interests, dividends, rents, royalties, salaries, premiums (except reinsurance premiums), annuities, emoluments or other fixed or determinable annual, periodic or casual gains, profits and income, and capital gains, except capital gains subject to tax under subparagraph 5(c): Provided, That, effective January 1, 2009, the rate of income tax shall be thirty percent (30%). xxx xxx xxx" However, Section 32 (B) (5) of the same Code provides: "SEC. 32. Gross Income. xxx xxx xxx (B) Exclusions from Gross Income. The following items shall not be included in gross income and shall be exempt from taxation under this Title ( i.e. , TITLE II TAX ON INCOME): xxx xxx xxx (5) Income Exempt under Treaty. Income of any kind, to the extent required by any treaty obligation binding upon the Government of the Philippines." In this particular case, the treaty being invoked is Article 7 and Article 5 of the Philippines-Singapore tax treaty provide: "Article 7 BUSINESS PROFITS 1. The profits of an enterprise of a Contracting State shall be taxable only in that State unless the enterprise carries on business in the other Contracting State through a permanent establishment situated therein. If the enterprise carries on or has carried on business as aforesaid, the profits of the enterprise may be taxed in the other State but only so much of them as is attributable to that permanent establishment. TIDcEH xxx xxx xxx." "Article 5 PERMANENT ESTABLISHMENT 1. For the purposes of this Convention, the term 'permanent establishment' means a fixed place of business in which the business of the enterprise is wholly or partly carried on. 2. The term 'permanent establishment' includes specially but is not limited to: a) A seat of management; b) A branch; c) An office; d) A store or other sales outlet; e) A factory; f) A workshop; g) A warehouse, in relation to a person providing storage facilities for others; h) A mine, quarry, or other place of extraction of natural resources; i) A building site or construction or assembly project or installation project or supervisory activities in connection therewith, provided such site, project or activity continues for a period more than 183 days; and j) The furnishing of services, including consultancy services, by a resident of one of the Contracting States through employees or other personnel, provided activities of that nature continue (for the same or a connected project) within the other Contracting State for a period or periods aggregating more than 183 days. xxx xxx xxx." In view of the foregoing, the profits of a Singapore enterprise shall be taxable only in Singapore unless such enterprise carries on business in the Philippines through a permanent establishment situated therein. If the Singapore enterprise carries on business as aforesaid, the profits of such enterprise may be taxed in the Philippines but only so much of them as is attributable to that permanent establishment. For this purpose, a corporation which is a resident of Singapore may be deemed to have a permanent establishment in the Philippines if, among others, it has a seat of management or a branch, a factory, an office, a store or a sales outlet in the sale of its goods in the Philippines. Considering that CAPL does not carry on business in the Philippines as aforesaid, as evidenced by the Certificate of Non-Registration, income derived by CAPL from its services performed to SCC and APO is not subject to Philippine income tax pursuant to Article 7 in relation to Article 5 of the Philippines-Singapore tax treaty. (BIR Ruling DA-ITAD No. 013-09 dated February 6, 2009; BIR Ruling DA-ITAD No. 051-08 dated July 9, 2008; BIR Ruling DA-ITAD No. 074-06 dated June 22, 2006; BIR Ruling DA-ITAD No. 059-04 dated June 3, 2004; BIR Ruling No. 566-88 dated 29 November 1988 ) With respect to royalties, Article 12 (3) of the RP-Singapore tax treaty provides that: ETDAaC "Article 12 ROYALTIES xxx xxx xxx (3) The term 'royalties' as used in this Article means payments of any kind received as a consideration for the use of, or the right to use, any copyright of literary, artistic or scientific work, including cinematographic films or tapes for television or broadcasting, any patent, trade mark, design or model, plan, secret formula or process, or for the use of, or the right to use, industrial, commercial or scientific equipment, or for information concerning industrial, commercial or scientific experience. xxx xxx xxx" The treaty defines "royalties" to include "payment of any kind received as a consideration for information concerning industrial, commercial or scientific experience." According to the commentaries of the ORGANIZATION FOR ECONOMIC COOPERATION AND DEVELOPMENT (OECD) Committee on Fiscal Affairs on the Model Tax Convention [par. 11, Commentary on Article 12 (royalties), (C) 2005, p. 151], such information alludes to the concept of "know-how". The definition of know-how, which has been adopted by the said Committee, is "all the undivulged technical information, whether capable of being patented or not, that is necessary for the industrial reproduction of a product or process, directly and under the same conditions; inasmuch as it is derived from experience, know-how represents what a manufacturer cannot know from mere examination of the product and mere knowledge of the progress of technique." In the know-how contract, one of the parties agree to impart to the other, so that he can use them for his own account, his special knowledge and experience which remain unrevealed to the public. (BIR Ruling DA-ITAD No. 59-03 dated April 21, 2003) . Furthermore, in the case of Philippine Refining Company (PRC) vs. CIR, CTA Case No. 2872 dated January 15, 1986, the Court of Tax Appeals had occasion to rule on the distinction of service fees from royalties, to wit: "To distinguish between compensation for service and royalty payment, one must inquire on whether the payee has proprietary interest in the property giving rise to the income. If the payee has none, then the payment is a compensation for personal services, if the payee has proprietary interest then the payment is royalty." In view of the foregoing, the service fees paid in consideration of services rendered by CAPL to SCC and APO under the Service Agreement are not in the nature of royalties as the same does not involve any transfer of technology, know-how or other intellectual property rights, but as business profits under the provisions of the Philippine-Singapore tax treaty. Moreover, Section 42 (A) (3) of the Tax Code, as amended, states that: "Sec. 42. Income from Sources Within the Philippines. (A) Gross Income from Sources within the Philippines. The following items of gross income shall be treated as gross income from sources within the Philippines. xxx xxx xxx (2) Services. Compensation for labor or personal services performed in the Philippines." (emphasis supplied) Since the services rendered by CAPL are performed outside the Philippines, the compensation for such services constitutes income from sources without the Philippines and not subject to Philippine income taxes. Similarly, the service fee is not subject to ten percent (10%) [now 12%] value-added tax (VAT) imposed under Section 108 (A) of the Tax Code: "Section 108. Value-Added Tax on Sale of Services and Use or Lease of Properties. acCETD (A) Rate and Base of Tax. There shall be levied, assessed and collected, a value-added tax equivalent to ten percent (10%) of gross receipts derived from the sale or exchange of services, including the use or lease of properties: . . . The phrase 'sale or exchange of services' means the performance of all kinds or services in the Philippines for others for a fee, remuneration or consideration . . ." Section 108 (A) clearly states that the sale or exchange or services subject to VAT include only those services that are performed in the Philippines. Accordingly, since the subject services will be done entirely outside the Philippines, the service fees to be paid therefor by SCC and APO to CAPL is therefore exempt from VAT. (BIR Ruling No. DA-ITAD 063-05 dated June 27, 2005) This ruling is issued on the basis of the facts as represented. However, if upon investigation it shall be disclosed that the actual facts are different, then this ruling shall be without force and effect insofar as the herein parties are concerned. Very truly yours, (SGD.) KIM S. JACINTO-HENARES Commissioner of Internal Revenue