Viva Communications, Inc.

July 15, 2020 ITAD BIR RULING NO. 056-20 Articles 5 (Permanent Establishment), 7 (Business Profits) and 11 (Royalties) Philippines-Hungary tax treaty Viva Communications, Inc. 7th Floor, East Tower Philippine Stock Exchange Centre Exchange Road, Ortigas Center 1605 Pasig City Attention: AAA _______________ Gentlemen : This refers to your tax treaty relief application filed on August 4, 2016 requesting confirmation that income payments made by Viva Communications, Inc. ("Viva") to Freeway Entertainment Korlatolt Felelossegu Tarsasag ("Freeway") are subject to relief under the Convention between the Republic of the Philippines and the Republic of Hungary for the Avoidance of Double Taxation and the Prevention of Fiscal Evasion with Respect to Taxes on Income ("Philippines-Hungary tax treaty") . FACTS: Freeway is a foreign corporation organized and existing under the laws of Hungary and a resident thereof based on the Certificate of Company Data Extract issued by the Igazsagugyi Miniszterium of Hungary and Certificate of Residency issued by the Nemzeti Ado-es Vamhivatal of Hungary. It is engaged in publishing journals and periodicals, sound recording and music publishing activities, other publishing activities, reproduction of recorded materials, motion picture, video and television program distribution activities, among others. It is not registered as a corporation or partnership in the Philippines based on the Certificate of Non-Registration of Company issued by the Securities and Exchange Commission. On the other hand, Viva is a domestic corporation engaged in producing, preparing, designing, staging, exhibiting, selling, distributing, leasing, trading or otherwise dealing in motion pictures, including undertaking theatrical, cinematographic and other varieties of entertainment, based on its Audited Financial Statements as of December 31, 2016. Viva and Freeway are not related entities. Viva is 74.90% owned by Viva Entertainment, Inc. (immediate parent), a domestic corporation, which, in turn, is 71.10% owned by VRJ Holdings, Inc. (ultimate parent), another domestic corporation. On July 15, 2015, Viva , as agent, and Freeway , as channel provider, entered into a Carriage of 24 Hour Channel Agent Agreement where Freeway appointed Viva as exclusive agent for the distribution of the Celestial Movies Pinoy Channel ("Channel") in the Philippines. The Channel is a 24-hour programming channel in standard definition version, which features Chinese and Cantonese language movies dubbed in Tagalog by Viva . All movies in the Channel shall be feature-length films. The Channel shall contain 300 movies for the first license year and additional 50 new movies for succeeding license years. Movies means any motion picture which has an original language primarily in Mandarin or any other Chinese dialects, and wholly or partially produced or distributed by companies domiciled in Hong Kong, Taiwan, China or Singapore. The Agreement took effect on July 15, 2015 and will be in effect indefinitely unless terminated by either party. IDSEAH The parties shall share the Channel Net Revenue equally (being 50% to Freeway and 50% to Viva ), which is equal to the Channel Gross Revenue less agency fee payable to Viva , equipment reimbursement, sub-agent costs (if applicable), value added tax ("VAT") , and other related costs. The agency fee is set at 5% for the first year of the Agreement, at 4% for the second and third year, and at 3% for the fourth year and onwards. Channel Gross Revenue means revenue derived by Viva from license agreements it entered into with local channel operators for the distribution or broadcast of the Channel via subscription television services or over-the-top linear services (streaming through internet). Viva shall pay Freeway the latter's share in the Channel Net Revenue together with equipment reimbursement and sub-agent costs (if applicable) within 30 days from the date of collection by Viva of the Channel Gross Revenue. Viva paid Freeway 's share in the Channel Net Revenue amounting to Php__________ in 2016, Php__________ in 2017, and Php__________ in January to April 2018. In 2016 and 2015, Viva 's gross revenue amounted to Php_______________ and Php_______________, respectively. In 2016, the ratio of Viva 's estimated Channel Net Revenue with its total gross revenue is 3.56%, as computed below: Amount paid to Freeway Php __________ Divide by: Revenue sharing percentage 50% Channel net revenue __________ Divide by: Viva 's gross revenue ______________ Ratio of Viva 's channel net revenue over gross revenue 3.56% ============= In addition, the parties shall share the Local Ad Net Revenue and the Regional Ad Net Revenue equally (being 60% to Freeway and 40% to Viva ). Local Ad Net Revenue means the Local Ad Gross Revenue less agency fee payable to Viva (set at 15%), VAT, sub-ad sales costs (if applicable), and other related costs. Regional Ad Net Revenue means the Regional Ad Gross Revenue apportioned by Freeway to Viva based on the former's rate card for the territory less agency fee payable to Viva (set at 15%) and tax. Viva shall pay Freeway 's share in the Local Ad Net Revenue together with sub-ad sales costs (if applicable) within 30 days from the date of collection by Viva of the Local Ad Gross Revenue. In the event there is any Regional Ad Net Revenue to be shared between the parties, Viva 's share in the Regional Ad Net Revenue may be offset and deducted from Freeway 's Local Ad Net Revenue before Viva 's remittance to Freeway . To date, Viva has not paid Freeway any share in the Channel Net Revenue because no commercial airtimes have been sold by Viva to either local or regional advertisers. Based on a sworn statement issued by Viva , the income subject of this ruling is not under investigation, on-going audit, administrative protest, claim for refund or issuance of a tax credit certificate, collection proceeding, or judicial appeal. RULING: Income tax In reply, please be informed that under Section 28 (B) (1) of the National Internal Revenue Code of 1997 ("Tax Code") , as amended, income derived in the Philippines by a foreign corporation not engaged in trade or business is subject to income tax at the rate of 30%, to wit: " 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) and (d) above: n Provided, That effective January 1, 2009, the rate of income tax shall be thirty percent (30%)." However, under Section 32 (B) (5) of the Tax Code, such income is exempt to the extent required by any treaty obligation binding upon the Philippine government, to wit: " 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: 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 case, Freeway 's share in the Channel Net Revenue constitutes payment of royalty and is taxable under paragraphs 2 and 3, Article 11 of the Philippines-Hungary tax treaty, which reads as follows: " Article 11 ROYALTIES 1. Royalties arising in a Contracting State and paid to a resident of the other Contracting State may be taxed in that other State. 2. Such royalties may also be taxed in the Contracting State in which they arise and according to the laws of that State. However, if the recipient is the beneficial owner of the royalties, the tax so charged shall not exceed the lesser of: a) 15 percent of the gross amount of the royalties, b) the lowest rate of Philippine tax that may, under similar circumstances, be imposed on royalties derived by a resident of a third State. AHCETa 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, any patent, trademark, 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 and includes payments of any kind in respect of motion picture films and works on films or videotapes or video cassettes for use in connection with television or tapes for the use of radio broadcasting." The Channel Gross Revenue, out of which the parties' respective shares in the Channel Net Revenue are paid, is derived from the distribution or broadcast of the Movies in the Philippines through local channel operators via subscription television services or by way of over-the-top linear services (streaming through internet). Under paragraph 3, Article 11 of the Philippines-Hungary tax treaty, the term royalties includes payments of any kind in respect of motion picture films and works on films or videotapes or video cassettes for use in connection with television. Under paragraph 2 (b) of the same article, royalties arising in the Philippines and paid to a resident of Hungary are subject to the lowest rate of Philippine income tax that may, under similar circumstances, be imposed on royalties derived by a resident of a third State (so-called most favored nation treatment ). In this connection, paragraphs 2 and 3, Article 12 of The Agreement between the Government of the Republic of the Philippines and the Government of the United Arab Emirates for the Avoidance of Double Taxation and the Prevention of Fiscal Evasion with Respect to Taxes on Income and on Capital ("Philippines-United Arab Emirates tax treaty") provide as follows: " Article 12 ROYALTIES 1. Royalties arising in a Contracting State and paid to a resident of the other Contracting State may be taxed in that other State. 2. However, the royalties may also be taxed in the Contracting State in which they arise and according to the laws of that State, but if the beneficial owner of the royalties is a resident of the other Contracting State, the tax so charged shall not exceed 10 per cent of the gross amount of the royalties. The competent authorities of the Contracting States shall, by mutual agreement, settle the mode of application of this limitation. 3. The term 'royalties' as used in this Article means payment 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 and films or tapes for television or radio broadcasting, any patent, trademark, 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." Under paragraph 3, Article 12 of the Philippines-United Arab Emirates tax treaty, the term royalties include payments for the use of, or the right to use, any copyright of literary, artistic or scientific work including cinematographic films and films or tapes for television. Under paragraph 2 of the same article, royalties arising in the Philippines and paid to a resident of the United Arab Emirates are subject to Philippine income tax at the rate of 10%. ScHADI This being the case, Freeway 's share in the Channel Net Revenue, being royalties, are subject to income at the rate of 10% under paragraph 2 (b), Article 11 of the Philippines-Hungary tax treaty, in relation to the most favored nation treatment under paragraph 2, Article 12 of the Philippines-United Arab Emirates tax treaty. On the contrary, Freeway 's revenue shares from the Local Ad Net Revenue and Regional Ad Net Revenue are not considered royalties but business profits taxable under paragraph 1, Article 7 and paragraphs 1, 2 and 6 of the Philippines-Hungary tax treaty below: " 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 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." " Article 5 PERMANENT ESTABLISHMENT 1. For the purposes of this Convention, the term 'permanent establishment' means a fixed place of business through which the business of the enterprise is wholly or partly carried on. 2. The term 'permanent establishment' includes especially: a) a place of management; b) a branch; c) an office; d) a factory; e) a workshop; f) a mine, an oil or gas well, a quarry or any other place of extraction of natural resources; g) a building site or construction project or supervisory activities in connection therewith, where such site, project or activity continues for a period of more than six months; h) an assembly or installation project which exists for more than six months; i) the furnishing of services, including consultancy services by an enterprise through employees or other personnel where activities of that nature continue (for the same or a connected project) within a State for a period or periods aggregating more than six months within any twelve-month period. xxx xxx xxx 6. An enterprise shall not be deemed to have a permanent establishment in a Contracting State merely because it carries on business in that State through a broker, general commission agent or any other agent of an independent status, provided that such persons are acting in the ordinary course of their business. However, when the activities of such an agent are devoted wholly or almost wholly on behalf of the enterprise, he shall not be considered an agent of an independent status within the meaning of this paragraph if it is shown that the transactions between the agent and the enterprise were not made under arms-length conditions. In such a case, the provisions of paragraph 4 shall apply. The Local Ad Net Revenue and the Regional Ad Net Revenue consist of revenue derived by Viva from providing commercial airtime to local and regional advertisers for the local commercials/advertisements on the Channel. Unlike local channel operators and internet movie providers, advertisers are not paying for the right to broadcast the Movies; hence payments for the airtime are not considered royalties under paragraph 3, Article 11 of the Philippines-Hungary tax treaty. The revenue constitutes business profits since it is derived from Freeway 's ordinary course of business. aICcHA Under paragraph 1, Article 7, business profits derived by an enterprise of Hungary in the Philippines may be taxed in the Philippines if the profits are attributable to a permanent establishment which the enterprise has in the Philippines. Under paragraphs 1 and 2, Article 5, the term permanent establishment means a fixed place of business through which the business of the enterprise is wholly or partly carried on, and includes a place of management, a branch, an office, a factory, a workshop. Under paragraph 6 of the same article, a permanent establishment includes also a broker, general commission agent or any other agent of an independent status, which acts on behalf of an enterprise of the other Contracting State, and where the activities of such agent are devoted wholly or almost wholly on behalf of the enterprise and the transactions between the agent and the enterprise were not made under arms-length conditions. In the case of a branch, an office, or other fixed place of business, Freeway is not deemed to have this type of permanent establishment since it is not engaged in trade or business in the Philippines to which a fixed place of business is necessary. In the case of an agent of an independent status, Viva is considered as such since it is not related with Freeway , and it is not established solely for the purpose of acting on behalf of Freeway or another specific principal. Secondly, Viva does not lose its independent status when it acts on behalf of Freeway . In 2016, the ratio of Viva 's estimated Channel Gross Revenue over its total gross revenue is only 3.56%, which means that its business activities were not devoted wholly or almost wholly on behalf of Freeway or another single principal. This being the case, Freeway 's share in the Local Ad Net Revenue and Regional Ad Net Revenue, if any, is exempt from income tax in the Philippines pursuant to paragraph 1, Article 7 of the Philippines-Hungary tax treaty. Value-Added Tax Finally, Freeway 's share in the Channel Net Revenue and in the Local Ad Net Revenue and Regional Ad Net Revenue, being payments for the lease of property (namely, use of motion picture films, films, tapes and discs, use of cable television time) in the Philippines, is subject to VAT under Section 108 (A) of the Tax Code, to wit: " SEC. 108. Value-Added Tax on Sale of Services and Use or Lease of Properties. (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: Provided, that the President, upon the recommendation of the Secretary of Finance, shall, effective January 1, 2006, raise the rate of value-added tax to twelve percent (12%). . . 1 . . . The phrase 'sale or exchange of services' shall likewise include: xxx xxx xxx (7) The lease of motion picture films, films, tapes and discs; and (8) The lease or the use of or the right to use radio, television, satellite transmission and cable television time. Lease of properties shall be subject to the tax herein imposed irrespective of the place where the contract of lease or licensing agreement was executed if the property is leased or used in the Philippines." Pursuant to Section 4.114-2 of Revenue Regulations No. 16-2005, 2 Viva shall withhold VAT on Freeway 's share in the Channel Net Revenue, Local Ad Net Revenue and Regional Ad Net Revenue at the rate of 12% before remitting it to Freeway . Viva shall use BIR Form No. 1600 (Monthly Remittance Return of Value-Added Tax and Other Percentage Taxes Withheld). The duly filed form and its accompanying proof of payment shall serve as documentary substantiation for Viva 's claim of input VAT on the payment; otherwise, if it is not a VAT-registered taxpayer, Viva may treat the passed-on VAT as part of the cost of the lease of property and treat the same as asset or expense, whichever is applicable. VAT withheld shall be remitted within 10 days following the end of the month the withholding was made. IDTSEH 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.) CAESAR R. DULAY Commissioner of Internal Revenue Footnotes 1. Republic Act No. 10963, otherwise known as the TRAIN (Tax Reform for Acceleration and Inclusion) Law, effective January 1, 2018, amends Section 108 (A) as follows: " SEC. 108. Value-Added Tax on Sale of Services and Use or Lease of Properties . (A) Rate and Base of Tax. There shall be levied, assessed and collected, a value-added tax equivalent to twelve percent (12%) of gross receipts derived from the sale or exchange of services, including the use or lease of properties. . ." 2. Entitled Revenue Regulations No. 16-2005 (Consolidated Value-Added Tax Regulations of 2005), as amended by Revenue Regulations No. 4-2007 (Amending Certain Provisions of Revenue Regulations No. 16-2005, as Amended, Otherwise Known as the Consolidated Value-Added Tax Regulations of 2005). n Note from the Publisher: Copied verbatim from the official document.