ITAD BIR Ruling No. 177-13

July 3, 2013 ITAD BIR RULING NO. 177-13 Article 12, Philippines-Japan tax treaty Sumisetsu Philippines, Inc. 8th Floor, G.C. Corporate Plaza 150 Legaspi Street, Legaspi Village Makati City Attention: Atty. Marilou I. Ababa-Premediles Assistant Manager Finance Accounting Division Gentlemen : This refers to your tax treaty relief application ("TTRA") filed on March 18, 2011 requesting confirmation that royalties paid by Sumisetsu Philippines, Inc. ("Sumisetsu Philippines") to Sumitomo Densetsu Company Ltd. ("Sumitomo Densetsu") 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 aSIAHC Facts Sumitomo Densetsu is a foreign corporation and a resident of Japan based on its amended Articles of Incorporation and Residence Certificate issued by the Nishi Tax Office in Japan on January 7, 2010. Sumitomo Densetsu is located at 12-15 Mita-3 Chome, Minato-ku, Tokyo, Japan. Based on the Certificate of Corporate Filing/Information issued by the Securities and Exchange Commission on February 9, 2010, Sumitomo Densetsu was previously licensed to do business in the Philippines but such license has been revoked since April 23, 2003. On the other hand, Sumisetsu Philippines is a domestic corporation located at 8th Floor, GC Corporate Plaza, 150 Legaspi Street, Legaspi Village, Makati City, Philippines. On January 1, 2011, Sumisetsu Philippines and Sumitomo Densetsu entered into a Royalty Agreement where Sumitomo Densetsu agreed to provide management assistance to Sumisetsu Philippines to enhance its business efficiency in the field of, among others, electrical design and installation by providing electrical equipment, design and installation services with the latest and best technology available in power supply system, illumination system, communication system, fire protection and automation systems. In consideration, Sumisetsu Philippines will pay royalties to Sumitomo Densetsu every quarter equivalent to 3 percent of its revenues for that quarter. The Agreement was signed and notarized in Japan on February 11, 2011; however, the Agreement retroactively took effect on January 1, 2011 and will be in effect indefinitely. Payment of royalties for each quarter will be made within 30 days after due receipt by Sumisetsu Philippines of such invoice from Sumitomo Densetsu .Invoice for the royalties will commence immediately after the signing of the Agreement. Sumitomo Densetsu will then issue an official receipt within 15 days after receipt of such royalties. Based on the notarized letter issued by Sumisetsu Philippines on March 27, 2013, although the Royalty Agreement has been in effect on January 1, 2011, Sumisetsu Philippines has not paid royalties to Sumitomo Densetsu as of the date of filing the TTRA on March 18, 2011. Under the Agreement, the first royalty quarter is from January 1 to March 31, 2011, and Sumisetsu Philippines will begin to pay royalties after this quarter and within 30 days after receipt of the relevant invoice from Sumitomo Densetsu ;hence, royalties for the first quarter will be paid certainly in the succeeding quarter. Also, notwithstanding the provisions of the Agreement, the payment of royalties is also subject to the cash flow status of Sumisetsu Philippines . Ruling In reply, please be informed that since the TTRA was filed on March 18, 2011 and the royalties subject thereof will be paid later after the end of the first royalty quarter on March 31, 2011 ,such royalties paid by Sumisetsu Philippines to Sumitomo Densetsu after the end of the first royalty quarter and each subsequent quarter 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") ,to wit: caADIC " 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, Article 12 of the Philippines-Japan tax treaty provides relief to such royalties as follows: "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. 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") . aECTcA Accordingly, since royalties paid by Sumisetsu Philippines to Sumitomo Densetsu for the use of information to enhance the former's business efficiency in the field of electrical design and installation, among others, are payments or royalties for the use of know-how ,and not for cinematograph films and films or tapes for radio or television broadcasting ,such royalties paid to Sumitomo Densetsu 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. Furthermore, under Section 108 (A) of the National Internal Revenue Code of 1997, the royalties for the use of the said know-how 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%)..." Relative thereto, Sumisetsu Philippines shall withhold VAT on the royalties at the rate of 12 percent before remitting them to Sumitomo Densetsu . Sumisetsu Philippines shall use BIR Form No. 1600 (Monthly Remittance Return of Value-Added Tax and Other Percentage Taxes Withheld).The duly filed BIR Form No. 1600 and its accompanying proof of payment shall serve as documentary substantiation for Sumisetsu Philippines ' claim of input VAT on the royalties; otherwise, if it is not a VAT-registered taxpayer, it may treat the 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. 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. 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."