ITAD BIR Ruling No. 168-13

June 19, 2013 ITAD BIR RULING NO. 168-13 Articles 5 (Permanent Establishment) and 7 (Business Profits); Philippines-Korea tax treaty Road Korea, Inc. #1602, KDB U-Tower 1029, Yeongdeok-dong, Kiheung-gu Yongin-si, Gyeonggi-do, Korea Attention: Mr. Iehyun Choi Project Manager Gentlemen : This refers to your tax treaty relief application ("TTRA") filed on November 26, 2012 requesting confirmation that fees paid by Department of Public Works and Highways ("DPWH") to Road Korea, Inc. ("Road Korea") for the purchase of the International Roughness Index (IRI) data are exempt from income tax pursuant to 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") . cDHAaT Facts : Road Korea is a corporation organized and existing under the laws of Korea and is a resident thereof, based on its Certificate of Residence issued by the Yong-in District Tax Office on August 14, 2012. Road Korea is situated at #1602, KDB U-Tower, 1029, Yeongdeok-dong, Kiheung-gu, Yongin-si, Gyeonggi-do, Korea. Road Korea is not registered as a corporation or partnership in the Philippines based on the Certificate of Non-Registration of Company issued by the Securities and Exchange Commission on September 27, 2012. On the other hand, DPWH is a government agency of the Republic of the Philippines situated at Bonifacio Drive, Port Area, Manila, Philippines. DPWH has received a loan from the International Bank for Reconstruction and Development (IBRD) for the implementation of the Second National Roads Improvement and Management Program (NIRMP2). DPWH under the Institutional Capacity Development (ICD) Components of NIRMP2 intends to undertake G-02: Pavement Data Collection Services Project (The Project) to conduct a special road survey for the collection of IRI data on selected national roads in the Philippines. The Project was awarded to Road Korea on June 14, 2012 by virtue of the Contract Agreement ("Contract") executed by the parties. Under the said Contract, Road Korea agreed to provide DPWH with the IRI data. For purposes of collecting the IRI data, actual survey will be done by the Road Korea's local representatives and technical staff personnel in the Philippines on per Region basis using its MIDAS 1 and portable vehicles specifically for the following services: Pavement Data Survey Service Description of Quantity Physical Place where Final Services Unit Services Completion shall be Date(s) of Performed Services 1 Roughness Survey 10,609,879 kilometer Philippines 2 Roughness Survey 1,591,482 kilometer Philippines 110 days (15% Quantity Increase/Contingency) Roughness Survey Data will be conducted approximately within 110 days on selected paved roads (concrete/asphalt) for secondary national road networks nationwide with a total length of 12,201,361 kilometers. The data to be collected shall conform to the standards and requirements of HDM-4 and shall be uploaded to RBIA database upon concurrence by the end-user. The activities to be performed by the contractor shall include: 1. Orientation of DPWH personnel on the conduct of survey using the equipment to be utilized for the surveys, quality control, data processing and encoding; 2. Conduct actual survey with DPWH assistance; 3. Data quality control, validation, processing and uploading to the RBIA database; 4. Reporting and submission of outputs; and initial trial for HDM-4 analysis. Acceptance for Survey Certificate was issued by the DPWH to Road Korea on January 14, 2013 formally authorizing Road Korea to start the survey on the designated regions under the G-02 Project. Midas and Portable teams conducted simultaneous survey in their respective regions as shown in the Gantt chart of the Actual Survey Work Plan, summarize as follows: STcHEI Summary of the Actual Survey Plan Midas Team Portable Team Region Date Started Date Finished Region Date Started Date Finished III Jan. 15, 2013 Jan. 31, 2013 VIII Jan. 15, 2013 Jan. 23, 2013 I Feb. 01, 2013 Feb. 08, 2013 XIII Jan. 23, 2013 Feb. 04, 2013 II Feb. 09, 2013 Feb. 14, 2013 XI Feb. 05, 2013 Feb. 19, 2013 CAR Feb. 15, 2013 Feb. 20, 2013 XII Feb. 20, 2013 Mar. 06, 2013 IV-B Feb. 21, 2013 Feb. 24, 2013 X Mar. 07, 2013 Mar. 23, 2013 VI Feb. 25, 2013 Mar. 19, 2013 IX Mar. 24, 2013 Apr. 05, 2013 VII Mar. 20, 2013 Apr. 02, 2013 V Apr. 06, 2013 Apr. 22, 2013 IV-A Apr. 03, 2013 Apr. 30, 2013 NCR Apr. 23, 2013 May 02, 2013 In consideration thereof, DPWH will pay Road Korea the amount of USD Four Hundred Seventy Eight Thousand Two Hundred Ninety Three & 65/100 (US$478,293.65) based on the following mode of payment: (i) On delivery and Acceptance of Data: Ninety (90) percent of the Contract Price of the Goods (Data) submitted monthly shall be paid within 30 days upon submission of the Data Acceptance Certificate and submission of claim supported by the appropriate invoice, data validation and Acceptance for Survey Certificate issued by DPWH. (ii) On Final Acceptance of all Data: 10 percent of the Contract Price within 30 days of submission of claim supported by the final Data Acceptance Certificate for the Project issued by DPWH. Official Invoice dated June 6, 2013 has been issued by Road Korea to DPWH for an initial payment for the processed IRI data accepted as evidenced by the Data Acceptance Certificates amounting to USD86,109.15 for the 2,440,734 m of the approved road sections. The remaining processed IRI data are already submitted pending for acceptance by the DPWH. Finally, the fees subject of this ruling are not under investigation, on-going audit, administrative protest, claim for refund or issuance of a tax credit certificate, collection proceedings, or judicial appeal, based on the Sworn Statement issued by the Department Chief Accountant of DPWH on November 14, 2012 and further attest that to date, no payment has been made to Road Korea by the DPWH in connection with the said Contract. Ruling In reply, please be informed that under Section 28 (B) (1) of the National Internal Revenue Code of 1997 ("Tax Code") , as amended, the service fees payable to Road Korea are subject to income tax at the rate of 30 percent, to wit: "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 interests, dividends, rents, royalties, salaries, premiums (except reinsurance premiums), annuities, emoluments or other fixed or determinable annual, periodic or casual gains, profits and income, and capital gains, except capital gains subject to tax under subparagraph 5(c) and (d) above: * Provided, That effective January 1, 2009, the rate of income tax shall be thirty percent (30%)." However, under Section 32 (B) (5) of the Tax Code, such fees may be exempt from income tax or subject to a reduced rate to the extent required by any treaty obligation on the Philippines, 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" On the other hand, the taxation of the fees to be paid by DPWH to Road Korea would depend if Road Korea has a permanent establishment in the Philippines to which these fees are attributable, under paragraph 1, Article 7 of the Philippines-Korea tax treaty, to wit: "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." In relation thereto, paragraphs 1, 2 and 3, Article 5 of the treaty provide: "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. DAEIHT 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 continue 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. xxx xxx xxx" As defined, a permanent establishment means a fixed place of business through which the business of an enterprise is wholly or partly carried on. With respect to the furnishing of services, an enterprise furnishing services in the Philippines is deemed to have a permanent establishment if it has a branch or an office in the Philippines [paragraph 2, subparagraphs (b) and (c)] or if it undertakes this activity for an aggregate period of 183 days within any twelve-month period. [paragraph 3, subparagraph (b)]. Accordingly, since Road Korea is not engaged in trade or business in the Philippines to which an office or a branch is necessary and based on its Actual Survey Work Plan Schedule the number of days performed for the survey services in collecting the IRI data did not exceed an aggregate period of 183 days within any twelve-month period, Road Korea is not deemed to have a permanent establishment in the Philippines. Being as such, the Contract, fees that would be paid by DPWH to Road Korea under the Contract shall be exempt from income tax, consequently to final withholding tax, pursuant to paragraph 1, Article 7, in relation to paragraphs 1 and 3, Article 5, of the Philippines-Korea tax treaty. However, under Section 108 (A) of the Tax Code, the service fees to be paid by DPWH to Road Korea are subject to value-added tax ("VAT"), thus: "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%). . ." "SEC. 105. Persons Liable. Any person who, in the course of trade or business, sells, barters, exchanges, leases goods or properties, renders services, and any person who imports goods shall be subject to the value-added tax (VAT) imposed in Sections 106 to 108 of this Code. IEHaSc The value-added tax is an indirect tax and the amount of tax may be shifted or passed on to the buyer, transferee or lessee of the goods, properties or services. This rule shall likewise apply to existing contracts of sale or lease of goods, properties or services at the time of the effectivity of Republic Act No. 7716. The phrase 'in the course of trade or business' means the regular conduct or pursuit of a commercial or an economic activity, including transactions incidental thereto, by any person regardless of whether or not the person engaged therein is a non-stock, nonprofit private organization (irrespective of the disposition of its net income and whether or not it sells exclusively to members or their guests), or government entity. The rule of regularity, to the contrary notwithstanding, services as defined in this Code rendered in the Philippines by nonresident foreign persons shall be considered as being rendered in the course of trade or business. " Relative thereto, DPWH shall withhold VAT on the payments at the rate of 12 percent before remitting them to Road Korea . DPWH shall use BIR Form No. 1600 (Monthly Remittance Return of Value-Added Tax and Other Percentage Taxes Withheld). If DPWH is a VAT-registered taxpayer, the duly filed BIR Form No. 1600 and its accompanying proof of payment shall serve as documentary substantiation for DPWH's claim of input tax on the payments; otherwise, it may treat such VAT as an asset or expense, whichever is applicable. VAT withheld shall be remitted within ten days following the end of the month the withholding was made. 3 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. Comprehensive survey vehicle. 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. Pursuant to Section 4.112-2 of Revenue Regulations No. 16-2005 (Consolidated Value-Added Tax Regulations of 2005), as amended by Revenue Regulations No. 4-2007 (Amending Certain Provisions of Revenue Regulations No. 16-2005, as Amended, Otherwise known as the Consolidated Value-Added Tax Regulations of 2005) , which provides: "SEC. 4.114-2. Withholding of VAT on Government Money Payments and Payments to Non-Residents. xxx xxx xxx (b) The government or any of its political subdivisions, instrumentalities or agencies including GOCCs, as well as private corporation, individuals, estates and trust, whether large or non-large taxpayers, shall withhold twelve percent (12%) VAT, starting February 1, 2006, with respect to the following payments: (1) Lease or use of properties or property rights owned by non-residents; and (2) Services rendered to local insurance companies with respect to reinsurance premiums payable to non-residents; and (3) Other services rendered in the Philippines by non-residents. In remitting VAT withheld, the withholding agent shall use BIR Form No. 1600 Remittance Return of VAT and Other Percentage Taxes Withheld. VAT withheld and paid for the non-resident recipient (remitted using BIR Form No. 1600), which VAT is passed on to the resident withholding agent by the non-resident recipient of the income, may be claimed as input tax by said VAT-registered withholding agent upon filing his own VAT Return, subject to the rule on allocation of input tax among taxable sales, zero-rated sales and exempt sales. The duly filed BIR Form No. 1600 is the proof or documentary substantiation for the claimed input tax or input VAT. Nonetheless, if the resident withholding agent is a non-VAT taxpayer, said passed-on VAT by the non-resident recipient of the income, evidenced by the duly filed BIR Form No. 1600, shall form part of the cost of purchased services, which may be treated either as an 'asset' or 'expense', whichever is applicable, of the resident withholding agent. VAT withheld under this Section shall be remitted within ten (10) days following the end of the month the withholding was made."