ITAD BIR Ruling No. 142-13

May 21, 2013 ITAD BIR RULING NO. 142-13 Article 12, Philippines-Japan tax treaty Asia Pacific Business Legal Consulting 2nd Floor, Building B, Mactan Marina Mall Mactan Economic Zone I Ibo, Lapulapu City Cebu Attention: Atty. Lauris L. dela Pea Managing Partner Gentlemen : This refers to your tax treaty relief application ("TTRA") filed on September 14, 2011 requesting confirmation that royalties paid by Philippine Iino Corporation ("Philippine Iino") to Iino Manufacturing Company Ltd. ("Iino") are subject to income tax at the rate of 10 percent 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 ("Philippines-Japan tax treaty") 1 ITaESD Facts Iino is a foreign corporation and a resident of Japan based on its amended Articles of Incorporation and Residence Certificate issued by the Omiya Tax Office in Japan on August 2, 2011. Iino is located at 1-135 Jumo-cho, Omiya Ward, Saitama City, Saitama, Japan. It 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 May 30, 2011. On the other hand, Philippine Iino is a domestic corporation located at Dinagyang Street, Mactan Economic Zone 2, Lapulapu City, Cebu, Philippines. It is registered with the Philippine Economic Zone Authority as an ecozone export enterprise under Certificate of Registration No. 91-13 issued on June 13, 1991, as amended and reissued on December 1, 2010. On July 31, 2011, Philippine Iino and Iino entered into a Technical Assistance Agreement where Iino granted Philippine Iino a non-exclusive and non-transferable right to manufacture and sell in the Philippines, dowel pins, pipe components, tensioner push rods, and other products for engine and transmission power train of automobiles and motor bikes, by using the relevant know-how belonging to Iino . In consideration, Philippine Iino will pay a running royalty to Iino equivalent to 5 percent of the ex-factory price of the products. The royalty is computed every month and payable within thirty days after each month. The Agreement took effect on August 1, 2011 and is in effect indefinitely. Based on the Affidavit issued by Philippine Iino on January 23, 2013, the running royalty for each month shall be paid or offsetted on or before the thirtieth day of the month following the sales are generated. The first royalty payment was made on September 30, 2011 for sales generated in August 2011. As a result of the offsetting against the trade receivables of Philippine Iino from Iino , an outward remittance is made by Philippine Iino to Iino , or an inward remittance by Iino to Philippine Iino . The royalties were paid as follows: Date of Remittance Running Royalty or Offsetting (in Yen) September 30, 2011 6,072,654.32 October 28, 2011 10,589,532.70 December 14, 2011 10,762,872.09 December 26-27, 2011 10,139,944.26 January 27, 2012 10,208,426.87 February 23-24, 2012 9,523,804.31 April 2, 2012 9,221,860.86 June 4, 2012 22,523,756.09 June 29, 2012 9,268,299.40 August 1, 2012 9,068,272.35 September 3, 2012 14,656,281.99 October 5, 2012 12,898,524.09 November 5, 2012 10,514,388.38 December 28, 2012 11,015,492.49 Based on the Certification issued by Rizal Commercial Banking Corporation on December 28, 2012, the following remittances were made through Philippine Iino 's Japanese savings account: SHIcDT Date of Inward Amount of Remittance Remittance Less Running Royalty, if Any (in Yen) December 14, 2011 9,530,404.00 December 26, 2011 30,000,000.00 December 26, 2011 24,535,741.00 January 27, 2012 18,708,806.00 February 23, 2012 50,000,000.00 February 24, 2012 40,495,118.00 August 1, 2012 1,188,931.00 September 3, 2012 18,212,406.00 October 5, 2012 27,439,817.00 November 5, 2012 49,708,805.00 December 28, 2012 42,377,700.00 December 28, 2012 30,000,000.00 Date of Outward Amount of Remittance Remittance Inclusive of Running Royalty, if Any (in Yen) September 30, 2011 30,864,728.71 October 28, 2011 55,218,924.84 April 2, 2012 5,605,103.00 June 4, 2012 20,800,121.71 June 29, 2012 9,628,386.64 Ruling In reply, please be informed that since the relevant TTRA was filed on September 14, 2011 , and the first payment of royalties subject thereof was made later on September 30, 2011 , such royalties paid on that date and thereafter shall be subject to relief (exemption from income tax or reduction of tax) pursuant to Section 14 of Revenue Memorandum Order No. 72-2010 (Guidelines on the Processing of Tax Treaty Relief Applications (TTRA) Pursuant to Existing Philippine Tax Treaties) ("RMO 72-2010") , which provides: "SEC. 14. When and Where to File the TTRA . All tax treaty relief applications (updated BIR Forms No. 0901-D, 0901-I, 0901-R, 0901-P, 0901-S, 0901-T, 0901-O and 0901-C) relative to the implementation and interpretation of the provisions of Philippine tax treaties shall only be submitted to and received by the International Tax Affairs Division (ITAD). If the forms or any necessary documents are submitted to any other BIR Office, the application shall be considered as improperly filed. Filing should always be made BEFORE the transaction. Transaction for purposes of filing the TTRA shall mean before the occurrence of the first taxable event . " (Emphasis ours) Relative thereto, these royalties are subject to relief under Article 12 of the Philippines-Japan tax treaty, to wit: "Article 12 1. Royalties arising in a Contracting State and paid to a resident of the other Contracting State may be taxed in that other Contracting State. AaSIET 2. However, such royalties may also be taxed in the Contracting State in which they arise, and according to the laws of that Contracting State, but if the recipient is the beneficial owner of the royalties the tax so charged shall not exceed: a) 15 per cent of the gross amount of the royalties if the royalties are paid in respect of the use of or the right to use cinematograph films and films or tapes for radio or television broadcasting; b) 10 per cent of the gross amount of the royalties in all other cases. xxx xxx xxx 4. 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 including cinematograph films and films or tapes for radio or television broadcasting, any patent, trade mark, 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 Article 12, royalties arising in the Philippines and paid to a resident of Japan may be taxed in the Philippines at a rate not to exceed (a) 15 percent if the royalties are paid in respect of the use or the right to use of cinematograph films and films or tapes for radio or television broadcasting, and (b) 10 percent in all other cases. The term royalties 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 including cinematograph films and films or tapes for radio or television broadcasting, any patent, trade mark, 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 ( "know-how" ). Accordingly, since the royalties paid by Philippine Iino to Iino are royalties for the use of know-how in connection with the manufacture and sale of dowel pins, pipe components, tensioner push rods, and other products for engine and transmission power train of automobiles and motor bikes, and not for the use of cinematograph films and films or tapes for radio or television broadcasting, such royalties shall be subject to income tax at the rate of 10 percent, pursuant to paragraph 2 (b), Article 12 of the Philippines-Japan tax treaty. HEcIDa Furthermore, under Section 108 (A) of the National Internal Revenue Code of 1997, as amended, the royalties in question for the use of an intangible property in the Philippines are subject to value-added tax ("VAT"), 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, 2 raise the rate of value-added tax to twelve percent (12%). . ." However, since Philippine Iino is registered with the Philippine Economic Zone Authority and entitled to fiscal incentives under Republic Act No. 7916 , 3 as amended, the Supreme Court ruled in Commissioner of Internal Revenue vs. Seagate Technology (Philippines) (G.R. No. 153866 dated February 11, 2005) that: "Applying the special laws we have earlier discussed, respondent as an entity is exempt from internal revenue laws and regulations. This exemption covers both direct and indirect taxes, stemming from the very nature of the VAT as a tax on consumption, for which the direct liability is imposed on one person but the indirect burden is passed on to another. Respondent, as an exempt entity, can neither be directly charged for the VAT on its sales nor indirectly made to bear, as added cost to such sales, the equivalent VAT on its purchases. Ubi lex non distinguit, nec nos distinguere debemus . Where the law does not distinguish, we ought not to distinguish. Moreover, the exemption is both express and pervasive for the following reasons: First, RA 7916 states that 'no taxes, local and national, shall be imposed on business establishments operating within the ecozone.' Since this law does not exclude the VAT from the prohibition, it is deemed included. Exceptio firmat regulam in casibus non exceptis . An exception confirms the rule in cases not excepted; that is, a thing not being excepted must be regarded as coming within the purview of the general rule. TaEIAS Moreover, even though the VAT is not imposed on the entity but on the transaction, it may still be passed on and, therefore, indirectly imposed on the same entity a patent circumvention of the law. That no VAT shall be imposed directly upon business establishments operating within the ecozone under RA 7916 also means that no VAT may be passed on and imposed indirectly. Quando aliquid prohibetur ex directo prohibetur et per obliquum . When anything is prohibited directly, it is also prohibited indirectly." Accordingly, since Iino , the nonresident lessor of the intangible property, is not a VAT registered taxpayer, the royalties paid to it by Philippine Iino shall, for VAT purposes, be treated as exempt and not subject to zero percent VAT; in either case, no output VAT is shifted or passed-on to Philippine Iino . 4 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. As amended by the 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 . 2. The VAT rate was increased to 12 percent beginning 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. 3. An Act Providing for the Legal Framework and Mechanism for the Creation, Operation, Administration, and Coordination of Special Economic Zones in the Philippines, Creating for this Purpose, the Philippine Economic Zone Authority (PEZA), and for Other Purposes . 4. Revenue Regulations No. 16-2005 (Consolidated Value-Added Tax Regulations of 2005) , as amended, provides: "SEC. 4.106-5. Zero-Rated Sales of Goods or Properties . A zero-rated sale of goods or properties (by a VAT-registered person) is a taxable transaction for VAT purposes, but shall not result in any output tax. However, the input tax on purchases of goods, properties or services related to such zero-rated sale, shall be available as tax credit or refund in accordance with these Regulations." "SEC. 4.109-1. VAT-Exempt Transactions . (A) In general. ' VAT-exempt transactions ' refer to the sale of goods or properties and/or services and the use or lease of properties that is not subject to VAT (output tax) and the seller is not allowed any tax credit of VAT (input tax) on purchases. The person making the exempt sale of goods, properties or services shall not bill any output tax to his customers because the said transaction is not subject to VAT."