Isla Lipana and Co.

October 22, 2018 ITAD BIR RULING NO. 095-18 Article 13 (Gains from the Alienation of Property) Philippines- Netherlands tax treaty Isla Lipana and Co. 29th Floor, Philamlife Tower 8767 Paseo de Roxas 1226 Makati City Attention: AAA _______________ Gentlemen : This refers to your tax treaty relief application filed on December 22, 2015 requesting confirmation that capital gains derived by Asia Outsourcing Netherlands B.V. ("Asia Outsourcing") from the redemption of shares of stock in Asia Outsourcing Philippines Holdings, Inc. ("Asia Outsourcing Philippines") are exempt from income tax pursuant to 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 ("Philippines-Netherlands tax treaty") . cSIHCA FACTS Asia Outsourcing is a foreign corporation organized and existing under the laws of the Netherlands and a resident thereof based on its Deed of Incorporation and Certificate of Residence issued by the Tax Administration Office of Arnhem in the Netherlands. Its objects are to incorporate, participate, manage, supervise, and finance businesses and companies, among others. Asia Outsourcing is not registered as a corporation or partnership in the Philippines based on the Certification of Non-Registration of Company issued by the Securities and Exchange Commission. On the other hand, Asia Outsourcing Philippines is a domestic corporation organized and existing under the laws of the Philippines. Based on its General Information Sheet and Audited Financial Statements as of December 31, 2014, Asia Outsourcing Philippines is a holding company the purpose of which is to hold, purchase, acquire, lease, contract or otherwise, any and all real and personal properties of every kind. As of that date, Asia Outsourcing Philippines ' investment in subsidiary accounts for 99.94% of its total assets, and it has retained earnings amounting to $ _______________ (P _______________ ). 1 Asia Outsourcing Philippines is a wholly-owned subsidiary of Asia Outsourcing where the latter holds 204,249,790 shares (12,754,951 common and 191,494,839 preferred) in Asia Outsourcing Philippines ,which account for 99.99% ownership in the company. Each share has a par value of P __________ . Based on Corporate Secretary's Certificates, on October 27, 2015, the Board of Directors of Asia Outsourcing Philippines approved a resolution authorizing the redemption of the company's 10,383,000 preferred shares held by Asia Outsourcing .The redemption will take effect on December 1, 2015, and the redemption price is P__________ per share. The redeemed shares constitute 5.08% of the capital stock of Asia Outsourcing Philippines . 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 A. Income tax In reply, please be informed that, for tax treaty purposes, gains from the redemption of shares are considered dividends based on the following commentaries of the Organisation for Economic Co-operation and Development Model Tax Convention on Income and on Capital (July 15, 2014),thus: "31. If shares are alienated by a shareholder in connection with the liquidation of the issuing company or the redemption of shares or reduction of paid-up capital of that company, the difference between the proceeds obtained by the shareholder and the par value of the shares may be treated in the State of which the company is a resident as a distribution of accumulated profits and not as a capital gain. The Article does not prevent the State of residence of the company from taxing such distributions at the rates provided for in Article 10: such taxation is permitted because such difference is covered by the definition of the term 'dividends' contained in paragraph 3 of Article 10 and interpreted in paragraph 28 of the Commentary relating thereto, to the extent that the domestic law of that State treats that difference as income from shares. .." (Page 252) However, based on those commentaries, such characterization is permitted to the extent that the domestic law of the Contracting State taxing such gains treats the gains as income from shares or dividends. Under Section 73 (b) of the National Internal Revenue Code of 1997, as amended ("Tax Code") ,gains from the redemption of shares qualifies as dividends only if the shares redeemed are stock dividends issued by a company, thus: " Sec. 73. Distribution of dividends or assets by corporations. (b) Stock dividends A stock dividend representing the transfer of surplus to capital account shall not be subject to tax. However, if a corporation cancels or redeems stock issued as a dividend at such time and in such manner as to make the distribution and cancellation or redemption, in whole or in part, essentially equivalent to the distribution of a taxable dividend, the amount so distributed in redemption or cancellation of the stock shall be considered as taxable income to the extent it represents a distribution of earnings or profits accumulated after March first, nineteen hundred and thirteen ." (Emphasis ours) HaIESC Otherwise, under Section 8 of Revenue Regulations No. 6-2008, 2 the difference between the redemption price and the par value of the redeemed shares are classified as capital gains (or capital loss, as the case may be) subject to regular income tax rate. Section 8 provides: " SEC. 8. TAXATION OF SURRENDER OF SHARES BY THE INVESTOR UPON DISSOLUTION OF THE CORPORATION AND LIQUIDATION OF ASSETS AND LIABILITIES OF SAID CORPORATION . Upon surrender by the investor of the shares in exchange for cash and property distributed by the issuing corporation upon its dissolution and liquidation of all assets and liabilities, the investor shall recognize either capital gain or capital loss upon such surrender of shares computed by comparing the cash and fair market value of property received against the cost of the investment in shares. The difference between the sum of the cash and the fair market value of property received and the cost of the investment in shares shall represent the capital gain or capital loss from the investment, whichever is applicable. If the investor is an individual, the rule on holding period shall apply and the percentage of taxable capital gain or deductible capital loss shall depend on the number of months or years the shares are held by the investor. Section 39 of the Tax C od e, as amended, shall herein apply in all possible situations. The capital gain or loss derived therefrom shall be subject to the regular income tax rates imposed under the Tax C od e, as amended, on individual taxpayers or to the corporate income tax rate, in case of corporations." (Emphasis ours) The same characterization as capital gains has been emphasized by the Supreme Court in Commissioner of Internal Revenue v. Goodyear Philippines, Inc. ,G.R. No. 216130 dated August 03, 2016, and in Wise & Co., Inc., et al. v. Bibiano L. Meer, Collector of Internal Revenue ,G.R. No. 48231 dated June 30, 1947. In the case at hand, since the redeemed preferred shares in Asia Outsourcing Philippines were acquired by original subscription and not as stock dividends, the difference between the redemption price and the par value of those shares constitutes capital gains which are subject to relief under Article 13 of the Philippines-Netherlands tax treaty below: " Article 13 GAINS FROM THE ALIENATION OF PROPERTY 1. Gains from the alienation of immovable property, as defined in paragraph 2 of Article 6, may be taxed in the State in which such property is situated. 2. Gains from the alienation of movable property forming part of the business property of a permanent establishment which an enterprise of one of the States has in the other State, or of movable property pertaining to a fixed base available to a resident of one of the States in the other State for the purpose of performing professional services, including such gains from the alienation of such permanent establishment (alone or together with the whole enterprise) or of such a fixed base, may be taxed in the other State. 3. Notwithstanding the provisions of paragraph 2, gains derived by an enterprise of one of the States from the alienation of ships and aircraft operated in international traffic pertaining to the operation of such ships or aircraft, shall be taxable only in that State. 4. Gains from the alienation of any property, other than those mentioned in paragraphs 1, 2, and 3 shall be taxable only in the Contracting State of which the alienator is a resident." Under paragraph 4, gains from the alienation of property other than that referred to in paragraphs 1, 2 and 3 shall be taxable only in the Contracting State of which the alienator is a resident. Paragraph 1 pertains to the alienation of real property; paragraph 2 to personal property of a permanent establishment (in the case of enterprise) or a fixed base (in the case of an individual performing independent personal services);and paragraph 3 to ships and aircraft used in international traffic. Accordingly, pursuant to paragraph 4, Article 13 of the Philippines-Netherlands tax treaty, since shares of stock are not in the nature of property referred to in paragraphs 1, 2 or 3 of Article, capital gains derived by Asia Outsourcing from the redemption of the preferred shares in Asia Outsourcing Philippines shall be taxable only in the Netherlands, and as such, exempt from income tax in the Philippines. B. Improperly accumulated earnings tax Moreover, under Section 29 [(A), (B) and (C)] of the Tax Code, as implemented by Sections 2 and 7 of Revenue Regulations No. 2-2001, 3 an improperly accumulated earnings tax ("IAET") is imposed on the improperly accumulated taxable income of a domestic corporation in the Philippines, particularly, a holding company ,thus: ATcaHS " SEC. 29. Imposition of Improperly Accumulated Earnings Tax. (A) In General . In addition to other taxes imposed by this Title, there is hereby imposed for each taxable year on the improperly accumulated taxable income of each corporation described in Subsection B hereof, an improperly accumulated earnings tax equal to ten percent (10%) of the improperly accumulated taxable income. (B) Tax on Corporations Subject to Improperly Accumulated Earnings Tax. (1) In General . The improperly accumulated earnings tax imposed in the preceding Section shall apply to every corporation formed or availed for the purpose of avoiding the income tax with respect to its shareholders or the shareholders of any other corporation, by permitting earnings and profits to accumulate instead of being divided or distributed. (C) Evidence of Purpose to Avoid Income Tax. (1) Prima Facie Evidence . the fact that any corporation is a mere holding company or investment company shall be prima facie evidence of a purpose to avoid the tax upon its shareholders or members ." (Emphasis ours) " SEC. 2. Concept of Improperly Accumulated Earnings Tax (IAET) . Pursuant to Section 29 of the C od e, there is imposed for each taxable year, in addition to other taxes imposed under Title II of the Tax C od e of 1997, a tax equal to 10% of the improperly accumulated taxable income of corporations formed or availed of for the purpose of avoiding the income tax with respect to its shareholders or the shareholders of any other corporation, by permitting the earnings and profits of the corporation to accumulate instead of dividing them among or distributing them to the shareholders. . . xxx xxx xxx SEC. 7. Determination of Purpose to Avoid Income Tax . The fact that a corporation is a mere holding company or investment company shall be prima facie evidence of a purpose to avoid the tax upon its shareholders or members .Likewise, the fact that the earnings or profits of a corporation are permitted to accumulate beyond the reasonable needs of the business shall be determinative of the purpose to avoid the tax upon its shareholders or members. In both instances, the corporation may, by clear preponderance of evidence in its favor, prove the contrary. For purposes of these Regulations, the term 'holding or investment company' shall refer to a corporation having practically no activities except holding property, and collecting the income therefrom or investing the same. The following are prima facie instances of accumulation ." (Emphasis ours) Pursuant to the above provisions, since Asia Outsourcing Philippines is a holding company, it is subject to the IAET with respect to its retained earnings in 2014. Therefore, prior to redemption of the preferred shares in December 2015, this Bureau shall impose the IAET on those earnings out of which the redemption price for those shares might be paid. C. Documentary stamp tax Finally, under Section 175 of the Tax Code, a documentary stamp tax ("DST") is imposed on deliveries and transfer of shares or certificates of stock, to wit: " SEC. 175. Stamp Tax on Sales, Agreements to Sell, Memoranda of Sales, Deliveries or Transfer of Shares or Certificates of Stock . On all sales, or agreements to sell, or memoranda of sales, or deliveries, or transfer of shares or certificates of stock in any association, company, or corporation, or transfer of such securities by assignment in blank, or by delivery, or by any paper or agreement, or memorandum or other evidences of transfer or sale whether entitling the holder in any manner to the benefit of such stock, or to secure the future payment of money, or for the future transfer of any stock, there shall be collected a documentary stamp tax of Seventy-five-centavos (P0.75) on each Two hundred pesos (P200),or fractional part thereof, of the par value of such stock: Provided, That only one tax shall be collected on each sale or transfer of stock from one person to another, regardless of whether or not a certificate of stock is issued, indorsed, or delivered in pursuance of such sale or transfer: and Provided, further, That in the case of stock without par value the amount of the documentary stamp tax herein prescribed shall be equivalent to twenty-five percent (25%) of the documentary stamp tax paid upon the original issue of said stock." However, under Section 4 of Revenue Regulations No. 13-2004, 4 it provides that for DST to be imposed, there must be an actual or constructive transfer of beneficial ownership of the shares from one person to another, thus: " SECTION 4. New Rate of DST on Sales, Agreements to Sell, Memoranda of Sales, and Subsequent Transfer of Shares of Stocks. xxx xxx xxx All transfer of shares of stock of a domestic corporation are subject to the DST upon execution of the deed transferring ownership or rights thereto, or upon delivery, assignment or indorsement of such shares in favor of another. No transfer of shares of stock shall be recorded unless DST thereon has been duly paid for in accordance with Section 201 of the C od e. For a sale or exchange to be taxable, there must be an actual or constructive transfer of beneficial ownership of the shares of stock from one person to another .Such transfer may be manifested by the clear exercise of attributes of ownership over such stocks by the transferee, or by an actual entry of a change in the name appearing in the certificate of stock or in the Stock and Transfer Book of the issuing corporation or by any entry indicating transfer of beneficial ownership in any form of registry including those of a duly scripless registry, such as those maintained for or by the Philippine Stock Exchange. .." (Emphasis ours) SCHATc In the case of redemption of shares, there is no transfer of beneficial ownership because the shares are merely surrendered by the stockholder to the issuing company, and not transferred to another person who becomes the new owner of those shares. When redeemed, the issuing company will either retire the shares permanently, or convert them to treasury shares for reissuance in the future. This being the case, the redemption by Asia Outsourcing of the preferred shares in Asia Outsourcing Philippines is exempt from DST pursuant to Section 4 of Revenue Regulations No. 13-2004. 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. http://www.bsp.gov.ph/dbank_reports/ExchangeRates_2.asp . 2. Entitled Consolidated Regulations Prescribing the Rules on the Taxation of Sale, Barter, Exchange or other Disposition of Shares of Stock Held as Capital Assets . 3. Entitled Implementing the Provision on Improperly Accumulated Earnings Tax under Section 29 of the Tax Code of 1997 . 4. Entitled Implementing the Provisions of Republic Act No. 9243, An Act Rationalizing the Provisions on the Documentary Stamp Tax of the National Internal Revenue Code of 1997, as Amended, and for Other Purposes .