ITAD BIR Ruling No. 089-11

March 14, 2011 ITAD BIR RULING NO. 089-11 Article 10, Philippines-Netherlands tax treaty SGV & Co. 6760 Ayala Avenue 1226 Makati City Attention: J. A. Osana Partner, Tax Services Gentlemen : This refers to your letter dated October 19, 2009, on behalf of your client, United Utilities Pacific Holdings, BV (hereinafter referred to as "United Utilities" ), requesting confirmation that dividend payments to be received by United Utilities from Manila Water Company, Inc. (hereinafter referred to as "Manila Water" ) are subject to final withholding tax at the rate of 10% in accordance with Article 10 (2) (a) of the Convention between the Kingdom of the Netherlands and the Republic of the Philippines for the Avoidance of Double Taxation and the Prevention of Fiscal Evasion with Respect to Taxes on Income (hereinafter referred to as "Philippines-Netherlands tax treaty" ). IcAaEH It is represented that United Utilities is a nonresident foreign corporation duly organized and existing under the laws of The Netherlands with office address at Teleportboulevard 140, 1043 EJ Amsterdam, The Netherlands under Tax ID Number 812192813 as evidenced by Declaration of Residence issued by the Tax and Customs Administration of the Netherlands dated October 8, 2009; that it is not registered either as a corporation or as a partnership in the Philippines as shown in the Certification of Non-Registration of Corporation/Partnership issued by the Securities and Exchange Commission on October 28, 2009; that, on the other hand, Manila Water is a corporation duly organized and existing under the laws of the Philippines, with principal office at MWSS-Admin Bldg., Katipunan Road, 1105 Balara, Quezon City. It is further represented that United Utilities owns 81,934,915 common shares (4.0%), each share with a par value of P1.00, and 666,666,670 participating preferred shares (16.7%), each share with a par value of P0.10 of Manila Water , as shown in the Secretary's Certificate dated October 12, 2009; that on the regular meeting of the Board of Directors of Manila Water , Resolution No. 21 (2009) was approved to declare a cash dividend of P0.20 per share on the outstanding common shares and P0.02 per share on the outstanding participating preferred shares payable on October 30, 2009 to stockholders of record as of October 8, 2009; and that the issue/s or transaction subject of the above request for ruling 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 of the taxpayer/s involved. In reply, please be informed that Section 28 (B) (1) of the National Internal Revenue Code of 1997, as amended, 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 . . . dividends . . .: Provided, That effective January 1, 2009, the rate of income tax shall be thirty percent (30%)." However, Section 32 (B) (5) of the same Code provides as follows, 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 particular case, the tax treaty involved is the Philippines-Netherlands tax treaty of which, Article 10, provides as follows: "Article 10 DIVIDENDS 1. Dividends paid by a company which is a resident of one of the States to a resident of the other State may be taxed in that other State. TcEAIH 2. However, such dividends may also be taxed in the State of which the company paying the dividends is a resident and according to the laws of that State, but if the recipient is the beneficial owner of the dividends the tax so charged shall not exceed: a) 10 per cent of the gross amount of the dividends if the recipient is a company the capital of which is wholly or partly divided into shares and which holds directly at least 10 per cent of the capital of the company paying the dividends; b) 15 per cent of the gross amount of the dividends in all other cases. xxx xxx xxx 4. The term 'dividends' as used in this Article means income from shares, 'jouissance' shares or 'jouissance' rights, mining shares, founders' shares or other rights participating in profits, as well as income from debt-claims participating in profits and income from other corporate rights which is subjected to the same taxation treatment as income from shares by the taxation law of the State of which the company making the distribution is a resident. xxx xxx xxx" Based on the aforequoted Article 10 insofar as the Philippines is concerned, the 10 percent preferential tax rate on dividends applies when the following conditions concur: (1) the payor and recipient of the dividends must be separately treated as a "company", (2) the payor of the dividends must be a resident of the Philippines, (3) the recipient of the dividends must be a resident of the Netherlands, (4) the recipient of the dividends is the beneficial owner thereof, (5) the capital of such recipient is wholly or partly divided into shares, and (6) the recipient holds directly at least 10 percent of the capital of the payor the dividends. On the other hand, in applying the 15 percent preferential tax rate, less stringent conditions need concurrence, to wit: (1) the payor of the dividends must be a "company" , (2) the payor of the dividends must be a resident of the Philippines, (3) the recipient of the dividends must be a resident of the Netherlands, and (4) the recipient of the dividends is the beneficial owner thereof. In computing the percentage of holding of the recipient of the dividends on the capital of the company paying the dividends, no account should be taken of differences due to the different classes of shares issued (common or preferred) by that company, as such differences relate more to the nature of the shareholder's right than to the extent of his ownership of the capital. The following commentaries of the Organisation for Economic Co-operation and Development ("OECD") Model Tax Convention on Income and on Capital (Condensed Version, July 17, 2008) mention: "15. In subparagraph (a) of paragraph 2, the term 'capital ' is used in relation to the taxation treatment of dividends, i.e., distribution of profits to shareholders. The use of this term in this text implies that, for the purposes of subparagraph a), it should be used in the sense in which it is used for the purposes of distribution to the shareholder (in the particular case, the parent company) a) As a general rule, therefore, the term 'capital' in subparagraph a) should be understood as it is understood in company law. Other elements, in particular the reserves, are not to be taken into account. b) Capital, as understood in company law, should be indicated in terms of par value of all shares which in the majority of cases will be shown as capital in the company's balance sheet. c) No account need be taken of differences due to the different classes of shares issued (ordinary shares, preference shares, plural voting shares, non-voting shares, bearer shares, registered shares etc.), as such differences relate more to the nature of the shareholder's right than to the extent of his ownership of the capital . . ." (Pages 152-153.) (Emphasis added) TIESCA This being the case, since the shares of stock representing the capital of Manila Water are of two classes, common and preferred, the percentage of holding of United Utilities on the capital of Manila Water should take into account the total percentage of these two classes of shares held by United Utilities . For the 81,934,915 common shares held by United Utilities with a par value of P1.00 each, or a total par value of P81,934,915.00, which represent 4.00 percent of the total par value of the outstanding common shares issued by Manila Water , it follows that the total par value of these shares is equivalent to P2,048,372,875.00 (P81,934,915.00 divided by 0.04), which represents one part of the capital of Manila Water. For the 666,666,670 preferred shares held by United Utilities with a par value of P0.10 each, or a total par value of P66,666,667.00, which represent 16.70 percent of the total par value of the outstanding preferred shares issued by Manila Water, it follows that the total par value of these shares is equivalent to P399,201,598.80 (P66,666,667.00 divided by 0.167), which represents the other part of the capital of Manila Water . Based on these premises, the total capital of Manila Water is P2,447,574,473.80 (P2,048,372,875.00 plus P399,201,598.80). Thus, total par value of all shares held by United Utilities is P148,601,582.00 (P81,934,915.00 plus P66,666,667.00), which represents merely 6.07 percent of the capital of Manila Water . Accordingly, since United Utilities does not hold directly at least 10 percent of the capital of Manila Water , such dividends to be paid by the latter to United Utilities are subject to income tax at the rate of 15 percent based on the gross amount thereof, pursuant to paragraph 2 (b), Article 10 of the Philippines-Netherlands tax treaty. 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 having a different tax treatment, 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