ITAD BIR Ruling No. 135-12

March 27, 2012 ITAD BIR RULING NO. 135-12 Articles 5 and 7 Philippines-Korea tax treaty KEPCO Ilijan Corporation 18th Floor, Citibank Tower 8741 Paseo de Roxas Makati City Attention: Ricardo A. Galano III Corporate Counsel Gentlemen : This refers to your Tax Treaty Relief Application ("TTRA") filed on June 25, 2009 requesting for a ruling that payments made by KEPCO Ilijan Corporation ("KEILCO") to Korea Electric Power Corporation ("KEPCO") pursuant to a Management and Technical Service Agreement ("MTSA") for the year 2008 between them, are exempt from Philippine income and withholding taxes pursuant to the pertinent provisions of the Convention between the Republic of the Philippines and the Republic of Korea for the Avoidance of Double Taxation and the Prevention of Fiscal Evasion with Respect to Taxes on Income ("Philippines-Korea tax treaty"). It is represented that KEPCO is a corporation organized and existing under the laws of Korea with principal address at 167 Samseong, Gangnam-Gu, 135-791 Seoul, Korea per Certification of Residence issued by the District Tax Office of the National Tax Administration of Korea dated March 2009; that it is not registered either as a corporation or as a partnership in the Philippines per the Certification of Non-Registration of Corporation/Partnership issued by the Securities and Exchange Commission dated June 17, 2009; and that KEILCO, on the other hand, is a corporation organized and existing under the laws of the Philippines with principal address at 18th Floor, Citibank Tower, 8741 Paseo de Roxas, Makati City, Philippines. It is further represented that KEPCO and KEILCO are parties to an MTSA dated November 9, 2000; that KEILCO has an existing Energy Conversion Agreement ("ECA") with the National Power Corporation ("NPC") for the operation and maintenance of the 1200 MW Ilijan Combined Cycle Power Plant located in Batangas City ("Project"); that pursuant to the terms and conditions of the MTSA, KEPCO shall provide technical and advisory services to KEILCO for an agreed fee; that all the services shall be done in Korea, subject to few exceptions wherein it is necessary to perform certain tasks in the Philippines for purposes of confirming and verifying all the works done in Korea; that for the year 2008, the aggregate period of the services rendered by KEPCO in the Philippines pursuant to the MTSA did not exceed 183 days; that KEPCO shall provide major services, including all incidental services related thereto, to the KEILCO during the term of the Agreement, as follows: SIcEHC 1. Consulting and advisory services to KEILCO; 2. Advisory services in respect of technical and engineering matters as may be required by KEILCO in the development, implementation and administration of the Project, and for the design, construction, testing, commissioning, operation and maintenance of the 1200 MW Ilijan Combined Cycle Power Plant; 3. Training of the KEILCO's staff and personnel in accordance with Schedule "B" at the KEPCO's facilities in Korea and coordinating such training with the training to be provided to the KEILCO's staff and personnel by Raytheon Ebasco Overseas Ltd. and United Engineers International, Inc. and Mitsubishi Corporation (Construction Contractors) pursuant to the Amended and Restated Construction Contract entered into by KEILCO and Raytheon-Ebasco Overseas Ltd., and the Amended and Restated Engineering and Procurement Contract to be entered into by KEILCO, United Engineers International, Inc. and Mitsubishi Corporation (Construction Contracts); and 4. Supply or procurement of equipment, Instruments, tools, spare parts and other materials and supplies for the 1200 MW Ilijan Combined Cycle Power Plant as KEILCO may request. It is also represented that the Agreement shall commence on November 9, 2000 and shall, unless terminated earlier pursuant to the terms of the Agreement, terminate upon the termination of the Cooperation Period, subject to extension or renewal on terms and conditions as may be agreed by KEILCO and KEPCO prior to the expiry of the original term; that KEILCO shall pay the following annual fee, to be prorated and paid on a monthly basis to KEPCO for advisory and consultancy services: Period Annual Fee January 2002 to December 2022 US$387,000 That KEILCO and KEPCO agree that the fee stipulated above for each year within the period of January 2002 to December 2022 is based on prices as of October 7, 1996, and shall be adjusted on each anniversary of the Commencement Date prior to the Completion Date and thereafter on the same dates that the Fixed Operating and Maintenance Fee is adjusted pursuant to the Eight Schedule to the Energy Conversion Agreement dated November 5, 1997, and as amended and restated pursuant to the Amendment and Restatement Agreement to be entered into by KEILCO and NPC (ECA) based on the following formula: DEHcTI where: Us n : is the arithmetic average of the values of the US PPI (excluding agricultural products) and the US CPI, both as last published on or before the relevant year. Us o : is the arithmetic average of the values of the US PPI (excluding agricultural products) and the US CPI, both as last published on or before October 7, 1996. That if the International Monetary Fund ceases to publish the US CPI or US PPI, the parties shall agree on an alternative reputable reference publication. If the US CPI or US PPI ceases to be reputably published, the parties shall agree on the substitute index. If the substitute publication of the substitute index is different from that agreed to by NPC under the ECA, the latter publication or index shall be applied by the parties; that KEILCO shall pay the following annual fees, to be prorated and paid on a monthly basis to KEPCO for technical and engineering consulting and advisory services: Period Annual Fee January 2002 to December 2022 US$586,000 That KEILCO and KEPCO agree that the fee stipulated above for each year within the period of January 2002 to December 2022 is based on prices as of October 7, 1996, and shall be adjusted on each anniversary of the Commencement Date prior to the Completion Date and thereafter on the same dates that the Fixed Operating and Maintenance Fee is adjusted pursuant to the Eight Schedule to the ECA based on the following formula: Us n Us o where: Us n : is the arithmetic average of the values of the US PPI (excluding agricultural products) and the US CPI, both as last published on or before the relevant year. STDEcA Us o : is the arithmetic average of the values of the US PPI (excluding agricultural products) and the US CPI, both as last published on or before October 7, 1996. That if the International Monetary Fund ceases to publish the US CPI or US PPI, the parties shall agree on an alternative reputable reference publication. If the US PPI or US CPI ceases to be reputably published, the parties shall agree on the substitute index. If the substitute publication or the substitute index is different from that agreed to by NPC under the ECA, the latter publication or index shall be applied by the parties; that the breakdown of managerial and technical assistant services rendered by KEPCO Personnel for the Year 2008 are: Name of KEPCO Inclusive Dates Total Number of Personnel Days Seo, Seok Bin January 10 to 14 5 Kim, Yong chan May 27 to 31 5 Kim, Byong Han July 3 to 8 6 Hong, Eun-Kee September 21 to 25 5 Kim, Byong Han October 11 to 20 10 Kim, Byeong-Rae October 21 to 31 11 Wi, Young-Ho October 16 to 21 6 Kim, Young chan October 27 to 31 5 Lim, Ick-Hun November 3 to 10 8 Yun, Wan-No November 6 to 9 4 Seo, Seok Bin November 7 to 16 10 An, Dal-Hong November 8 to 13 6 Kim, Ho Yol November 10 to 16 7 Total number of days 88 == That pursuant to the MTSA between KEILCO and KEPCO dated November 9, 2000, the aggregate period of rendition of services in the Philippines by KEPCO personnel under the said Agreement for the year 2008 is 88 days, which is less than 183 days per Sworn Certification of Mr. Jong Hun Tae dated March 11, 2009, General Manager of KEPCO; and that the issue or transaction subject of this request for ruling is not under investigation, on-going audit, administrative protest, claims for refund or issuance of a tax credit certificate, collection proceedings, or judicial appeal. In reply, please be informed that Section 28 (B) (1) of the National Internal Revenue Code (Tax Code) of 1997, as amended, applies, in general, to income received by a nonresident foreign corporation. It provides: "Section 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 subject to tax under subparagraph 5(c): Provided, That effective January 1, 2009, the rate of income tax shall be thirty percent (30%)." DASEac However, 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. xxx xxx xxx" In this particular case, you invoked Article 7, in relation to Article 5 of the Philippines-Korea tax treaty, which provides as follows: "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 an 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) premises used as a sales outlet; and h) a warehouse, in relation to a person providing storage facilities for others. 3. a) a building site or construction, installation or assembly project or supervisory activities in connection therewith, constitute a permanent establishment only if such site, project or activity continues for a period of more than six months; b) the furnishing of services including consultancy services by an enterprise through an employee or other personnel constitutes a permanent establishment only if activities of that nature continues within a Contracting State for a period or periods exceeding in the aggregate 183 days within any twelve-month period; and c) a place of exploration of natural resources constitutes a permanent establishment only if it exists for more than six months. . . ." Under Article 7, the compensation for consultancy and advisory services and technical and engineering consulting and advisory services are subject to Philippine income tax if it is attributable to a permanent establishment which KEPCO has in the Philippines; otherwise, the compensation are exempt from Philippine income tax. Under Article 5, KEPCO is considered to have a permanent establishment if it has in the Philippines a fixed place of business through which it carries on its business (like a branch or an office) or if it furnishes services in the Philippines for more than 183 days within any twelve-month period. CSHDTE Relative thereto, please be informed that under Section III (2) of Revenue Memorandum Order No. 1-00 (Procedures for Processing Tax Treaty Relief Application) ("RMO 1-2000") , any availment of tax treaty relief (exemption from income tax or reduction of tax) shall be preceded by an application filed at the International Tax Affairs Division ("ITAD") of this Bureau at least 15 days before the intended transaction or payment of income, thus: "III. Policies: In order to achieve the above-mentioned objectives, the following policies shall be observed: xxx xxx xxx 2. Any availment of the tax treaty relief shall be preceded by an application by filing BIR Form No. 0901 (Application for Relief from Double Taxation) with ITAD at least 15 days before the transaction i.e. , payment of dividends, royalties, etc., accompanied by supporting documents justifying the relief . . ." (Underscoring ours) This condition was emphasized by the Court of Tax Appeals in Mirant (Philippines) Operations Corporation vs. Commissioner of Internal Revenue (C.T.A. Case No. 6382 dated June 7, 2005) where it ruled: " However, it must be remembered that a foreign corporation wishing to avail of the benefits of the tax treaty should invoke the provisions of the tax treaty and prove that indeed the provisions of the tax treaty applies to it, before the benefits may be extended to such corporation. In other words, a resident or non-resident foreign corporation shall be taxed according to the provisions of the National Internal Revenue Code, unless it is shown that the treaty provisions apply to the said corporation, and that, in cases the same are applicable, the option to avail of the tax benefits under the tax treaty has been successfully invoked. Under Revenue Memorandum Order 01-2000 of the Bureau of Internal Revenue, it is provided that the availment of a tax treaty provision must be preceded by an application for a tax treaty relief with its International Tax Affairs Division (ITAD). This is to prevent any erroneous interpretation and/or application of the treaty provisions with which the Philippines is a signatory to. The implementation of the said Revenue Memorandum Order is in harmony with the objectives of the contracting state to ensure that the granting of the benefits under the tax treaties are enjoyed by the persons or corporations duly entitled to the same. The Court notes that nowhere in the records of the case was it shown that petitioner indeed took the liberty of properly observing the provisions of the said order. Petitioner quotes various BIR, as well as ITAD, Rulings issued to several foreign corporations seeking for a tax relief from the office of the respondent. However, not any one of these rulings pertains to the petitioner. It must be stressed that BIR rulings are issued based on the facts and circumstances surrounding particular issue/issues in question and are resolved on a case-to-case basis. It would be thus erroneous to invoke the ruling of the respondent in specific cases, which have no bearing to the case of petitioner." (Underscoring ours) This decision was also upheld by the Supreme Court in a Resolution (G.R. No. 168531) dated February 18, 2008. Furthermore, the necessary requirement laid down in RMO 1-2000 is reiterated in subsequent rulings of the Court of Tax Appeals: Deutsche Bank AG Manila Branch vs. Commissioner of Internal Revenue (C.T.A. Case No. EB 456 dated May 29, 2009), CBK Power Company Ltd. vs. Commissioner of Internal Revenue (C.T.A. Case Nos. 6699, 6844 and 7166 dated March 29, 2010) and Manila North Tollways Corporation vs. Commissioner of Internal Revenue (C.T.A. Case No. 7864 dated April 12, 2011). TCADEc In view of the foregoing, this Office hereby DENIES relief on all the payments of KEILCO to KEPCO before the subject TTRA was filed on June 25, 2009 since the TTRA was filed beyond the 15-day period prescribed by the RMO. Accordingly, payments made before January 1, 2009 shall be subject to income tax at 35 percent, and, payments from January 1, 2009 shall be subject to 30 percent income tax, pursuant to the above-cited Section 28 (B) (1) of the amended Tax Code of 1997. On the other hand, considering that the documents submitted to this Office show that KEPCO does not have a fixed place of business in the Philippines and that the personnel of KEPCO rendered services in the Philippines for an aggregate period not exceeding 183 days within a twelve-month period, KEPCO is not deemed to have a permanent establishment in the Philippines to which its profits could be attributed. In view thereof, this Office hereby GRANTS relief on the payments made by KEILCO to KEPCO after 15 days from the filing of the TTRA on June 25, 2009, and hence, the said profits derived by KEPCO from KEILCO for the rendition of services under the MTSA shall not be subject to Philippine income tax pursuant to the above-cited Article 7 (1) in relation to Article 5 (3) (b) of the Philippines-Korea tax treaty. Moreover, Section 108 of the Tax Code of 1997, as amended, provides that the above fees for such services rendered in the Philippines are subject to value-added tax (VAT): "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 after any of the following conditions has been satisfied: (i) Value-added tax collection as a percentage of Gross Domestic Product (GDP) of the previous year exceeds two and four-fifth percent (2 4/5%); or (ii) National government deficit as a percentage of GDP of the previous year exceeds one and one-half percent (1 1/2%). The phrase 'sale or exchange of services' means the performance of all kinds of services in the Philippines for others for a fee, . . ." (Underscoring supplied) With regard to the procedures for withholding and paying the VAT, KEILCO, being the resident withholding agent and payor in control of payment shall be responsible for the withholding of the final VAT on such fees before making any payment to KEPCO. In remitting the VAT withheld, KEILCO shall use BIR Form No. 1600 (Monthly Remittance Return of Value-Added Tax & Other Percentage Taxes Withheld). The duly filed BIR Form No. 1600 and the proof of payment thereof shall serve as documentary substantiation for the claim of input tax to be applied against the output tax that may be due from KEILCO if it is a VAT-registered taxpayer. In case KEILCO is a non-VAT-registered taxpayer, the passed-on VAT withheld shall form part of the cost of the service purchased and may treat such VAT as an "expense" or as an "asset", whichever is applicable. In addition, KEILCO is required to issue a Certificate of Final Tax Withheld at Source (BIR Form No. 2306) in quadruplicate, the first three copies for KEPCO and the fourth copy for KEILCO as its file copy. (Sections 4 & 6, Revenue Regulations (RR) No. 4-2002; Section 3 of RR 8-2002; Section 7 of RR 14-2002) This ruling is issued on the basis of the foregoing facts as represented. However, if upon 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. The VAT rate was increased to 12% on February 1, 2006, in accordance with the Memorandum of the Executive Secretary to the Secretary of Finance dated January 31, 2006, as circularized by Revenue Memorandum Circular No. 7-2006 (Publishing the Full Text of the Memorandum from Executive Secretary Eduardo R. Ermita dated January 31, 2006 Approving the Recommendation of the Secretary of Finance to Increase the Value-Added Tax Rate from Ten Percent to Twelve Percent) dated January 31, 2006.