ITAD BIR Ruling No. 086-15

March 25, 2015 ITAD BIR RULING NO. 086-15 Article 11, Philippines-Japan tax treaty, as amended Sumi Philippines Wiring Systems Corporation Hermosa Ecozone Palihan Hermosa, Bataan Attention: Ms. Remedios M. Cunanan Gentlemen : This refers to the tax treaty relief application filed on September 17, 2012 requesting confirmation that the interest payments by Sumi Philippines Wiring Systems Corporation ("Sumi PH") to Sumitomo Mitsui Banking Corporation ("Sumitomo Japan") are subject to a preferential income tax rate pursuant to the Convention between the Republic of the Philippines and Japan for the Avoidance of Double Taxation and the Prevention of Fiscal Evasion with Respect to Taxes on Income as amended by a Protocol 1 ("Philippines-Japan tax treaty"). It is represented that Sumitomo Japan is a foreign corporation organized and existing under the laws of Japan and is a resident of Japan with principal business address at 1-chome, Chiyoda-ku, Tokyo, Japan based on the Certificate of Residence issued by the District Director of Kojimachi Tax Office on August 10, 2012; that Sumitomo Japan is not registered as a corporation or partnership but has a Manila Representative Office under SEC Registration No. AF95000032 based on the Certification of Non-Registration of Company issued by the Securities and Exchange Commission on September 24, 2012; and that, on the other hand, Sumi PH is a domestic corporation with address at Hermosa Zone, Palihan Hermosa, Bataan. It is further represented that on April 17, 2012, Sumi PH and Sumitomo Japan entered into a Facility Letter ("Agreement") whereby Sumitomo Japan, acting through its Honkong Branch, granted Sumi PH a revolving credit facility of up to USD5,000,000.00 secured by a Letter of Awareness duly executed by Sumitomo Electric Industries, Ltd.; that the facility shall be used exclusively by Sumi PH for the purpose of financing its general working capital requirements; that Sumi PH may draw a principal amount (Advance) under the facility, specifying therein the date, amount and currency, as well as the Repayment Date on which the Advance shall be repaid; that Sumi PH shall pay each Advance in full on its Repayment Date and shall pay interest on each Advance for each day during which such drawing remains outstanding at such annual rate of interest as the bank together with Sumi PH shall in good faith negotiate and agree which shall be on the basis of the rate at which the bank obtains deposits in the currency of the relevant drawing for the period equal to the relevant specified interest period in the financial market as the bank deems appropriate; that on September 24, 2012, Sumi PH made its first drawdown in the amount of USD$1,000,000.00 with an interest rate of 0.51% per annum based on the inward remittance advice issued by RCBC H. Luisita, San Miguel, Tarlac branch on September 27, 2012; and that on October 24, 2012, Sumi PH paid interest thereon in the amount of USD$425.00 based on the inward remittance advice issued by RCBC H. Luisita, San Miguel, Tarlac branch on even date. CSAcTa It is finally represented that Sumitomo Japan is not and has not been a stockholder of Sumi PH based on the Certificate issued by the Corporate Secretary of Sumi PH on October 2, 2012; and that the interest income derived by Sumitomo Japan from Sumi PH pursuant to the Agreement is not effectively connected to the registered activities of the Manila Branch of Sumitomo Japan based on the Certification issued by the Manila Branch of Sumitomo Japan on September 4, 2012. Ruling In reply, please be informed that such interests paid to a non-resident foreign corporation not engaged in trade or business in the Philippines, is subject to income tax at the rate of 20 percent. Section 28 (B) (5) of the National Internal Revenue Code of 1997 ("Tax Code"), as amended, provides: "Section 28. Rates of Income Tax on Foreign Corporations. xxx xxx xxx (B) Tax on Nonresident Foreign Corporation. xxx xxx xxx (5) Tax on Certain Incomes Received by a Nonresident Foreign Corporation. (a) Interest on Foreign Loans. A final withholding tax at the rate of twenty percent (20%) is hereby imposed on the amount of interest on foreign loans contracted on or after August 1, 1986; xxx xxx xxx" However, such interest may be exempt or subject to a reduced rate to the extent required by any treaty obligation on the Philippines. Section 32 (B) (5) of the Tax Code of 1997, as amended, provides: "Section 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. aATESD xxx xxx xxx" In this particular case, you invoke the Philippines-Japan tax treaty, as amended. Paragraphs 1 to 5, Article 11 thereof provide as follows: "Article 11 1. Interest arising in a Contracting State and paid to a resident of the other Contracting State may be taxed in that other Contracting State. 2. However, such interest may also be taxed in the Contracting State in which it arises, and according to the laws of that Contracting State, but if the recipient is the beneficial owner of the interest the tax so charged shall not exceed 10 per cent of the gross amount of the interest. 3. Notwithstanding the provisions of paragraph 2, interest arising in a Contracting State and derived by the Government of the other Contracting State including political subdivisions and local authorities thereof, the Central Bank of that other Contracting State or any financial institution wholly owned by that Government, or by any resident of the other Contracting State with respect to debt-claims guaranteed, insured or indirectly financed by the Government of that other Contracting State including political subdivisions and local authorities thereof, the Central Bank of that other Contracting State or any financial institution wholly owned by that Government shall be exempt from tax in the first-mentioned Contracting State. xxx xxx xxx 4. The term 'interest' as used in this Article means income from debt-claims of every kind, whether or not secured by mortgage and whether or not carrying a right to participate in the debtor's profits, and in particular, income from Government securities and income from bonds or debentures, including premiums and prizes attaching to such securities, bonds or debentures." In connection with the above-quoted provisions, Article 5 of the Philippines-Japan tax treaty provides: "Article 5 1. For the purposes of this Convention, the term "permanent establishment" means a fixed place of business through which the business of an enterprise is wholly or partly carried on. 2. The term "permanent establishment" includes especially: a) a store or other sales outlet; b) a branch; c) an office; d) a factory; AIDTSE e) a workshop; f) a warehouse; g) a mine, an oil or gas well, a quarry or other place of extraction of natural resources. Based on the above provisions, interest arising in the Philippines and paid to a resident of Japan may be taxed in the Philippines at a rate not to exceed, beginning January 1, 2009, 10 percent. Further, such interest is exempt from income tax if it is derived by the Government of Japan, a political subdivision or a local authority of Japan, the Central Bank of Japan, a financial institution wholly owned by the government of Japan, or by a resident of Japan under certain conditions. The term interest means income from debt-claims of every kind, whether or not secured by mortgage and whether or not carrying a right to participate in the debtor's profits, and in particular, income from government securities and income from bonds or debentures, including premiums and prizes attaching to such securities, bonds or debentures. However, the preferential rate will not apply if the recipient of the interest carries on trade or business in the Philippines through a permanent establishment and the interest is effectively connected with such. In this case, since Sumitomo Japan has a representative office in the Philippines, this constitutes a permanent establishment under paragraphs 1 and 2, Article 5 of the treaty. Nonetheless, interest payments made to Sumitomo Japan may be taxed in the Philippines only if these fees are attributable to the said establishment. Relative thereto, the Supreme Court, in Marubeni Corporation vs. Commissioner of Internal Revenue and the Court of Tax Appeals (G.R. No. 76573 dated September 14, 1989), ruled that the taxation of income derived by a foreign corporation which has a branch office in the Philippines will be taxed as income of the branch office only if the business transaction that gives rise to the income has been conducted by the foreign corporation through the branch office, to wit: "The general rule that a foreign corporation is the same juridical entity as its branch office in the Philippines cannot apply here. This rule is based on the premise that the business of the foreign corporation is conducted through its branch office, following the principal-agent relationship theory. It is understood the branch becomes its agent here. So that when the foreign corporation transacts business in the Philippines independently of its branch, the principal-agent relationship is set aside. The transaction becomes one of the foreign corporation, not the branch or the resident foreign corporation. Corollarily, if the business transaction is conducted through the branch office, the latter becomes the taxpayer, and not the foreign corporation ." (Emphasis added) TSEcAD Accordingly, we do not consider the payments made by Sumi PH to Sumitomo Japan as attributable to its representative office in the Philippines it having been represented that the interests are not effectively connected therewith based on the Certification issued by the Manila Branch of Sumitomo Japan on September 4, 2012. In this case, notwithstanding the presence of Sumitomo Japan's representative office in the Philippines, and since the interests arising from the Agreement are not in respect of government securities, bonds or debentures at hand, and since Sumitomo Japan is not registered with the Board of Investments as such, and since the interest is not paid to the Government of Japan, etc., the interest payments to be remitted by Sumi PH to Sumitomo Japan are still subject to the preferential tax rate of 10 percent of the gross amount thereof pursuant to Article 11 of the Philippines-Japan tax treaty. Finally, the Agreement, being a debt instrument, between Sumitomo Japan and Sumi PH is subject to documentary stamp tax equivalent to P1.00 for every P200.00, or fractional part thereof, of the issue price or the amount subject of the Note. Section 179 of the Tax Code, as amended, provides: "SEC. 179. Stamp Tax on All Debt Instruments. On every original issue of debt instruments, there shall be collected a documentary stamp tax of One peso (P1.00) on each Two Hundred Pesos P200, or a fractional part thereof, of the issue price of any such debt instruments: Provided, that for such debt instruments with terms of less than one year, the documentary stamp tax to be collected shall be of a proportional amount in accordance with the ration of its term in number of days to three hundred sixty-five days, provided, further, that only one documentary stamp tax shall be imposed on either loan agreement, or promissory notes issued to secure such loan. xxx xxx xxx" 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 Footnotes 1. Protocol Amending the Convention between the Republic of the Philippines and Japan for the Avoidance of Double Taxation and the Prevention of Fiscal Evasion with Respect to Taxes on Income effective January 1, 2009.