ITAD BIR Ruling No. 190-12

May 18, 2012 ITAD BIR RULING NO. 190-12 Article 10, Philippines-Japan Tax Treaty, as amended; BIR Ruling No. ITAD-07-10; BIR Ruling No. ITAD-08-10; BIR Ruling No. ITAD-11-10; BIR Ruling No. ITAD-35-10 JFE Shoji Philippines, Inc. 17th Floor, 6788 Ayala Avenue Oledan Square Makati 1226 Attention: Takeo Inoue President Gentlemen : This refers to your Tax Treaty Relief Application ("TTRA") filed on June 17, 2010 requesting confirmation that the cash dividends to be paid by JFE Shoji Philippines, Inc. (JFE Philippines) to JFE Shoji Trade Corporation ("JFE Japan") are subject to the preferential tax rate of 10 percent based on Article 10 (2) (a) of 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 , as amended by its Protocol which took effect on January 1, 2009 ("Philippines-Japan tax treaty, as amended") . It is represented that JFE Japan , with address at 1-6-20 Doujima, Kita-ku, Osaka Japan, is a corporation organized and existing under the laws of Japan and is a resident of Japan per Residence Certificate issued by the District Director of the Kita Tax Office on August 6, 2010; that JFE Japan is not registered either as a corporation or as a partnership in the Philippines a registered company name similar is JFE Shoji Trade Corporation-Manila Branch as shown in the Certification of Non-Registration of Corporation/Partnership issued by the Securities and Exchange Commission dated October 29, 2010; and that JFE Philippines , on the other hand, is a domestic corporation duly organized and existing under the laws of the Philippines with office address located at 17 Floor 6788 Ayala Avenue, corner Oledan Square, Makati City, Philippines. CTEacH It is also represented, per Corporate Secretary's Certificate dated November 8, 2010, that JFE Japan is a stockholder of record of JFE Philippines , with 211,835 shares with a par value of Php100.00 per share, or an aggregate par value of Php21,183,500.00, which constitute 99.97% of the outstanding capital stock of JFE Philippines ; that at an organizational meeting on June 10, 2010 of the Board of Directors of JFE Philippines , the Board unanimously adopted and approved the declaration of cash dividend in the amount of Eleven Million Nine Hundred Fifty-four Pesos (Php11,954,000.00) out of JFE Philippines' unrestricted retained earnings as of December 31, 2009, to be distributed among the stockholders based on their proportionate stockholdings, as reflected in the Stock and Transfer Book of JFE Philippines as of June 15, 2010; that JFE Philippines has a separate and distinct personality from JFE Japan and has no participation in the dividend income of JFE Japan ; that a copy of bank statement and debit advice show that on June 30, 2010, the amount of $229,150.16 was ordered remitted by JFE Philippines to the account of JFE Japan in the Bank of Tokyo-Mitsubishi UFJ. It is finally represented, based on the Sworn Statement by the same Corporate Secretary on August 25, 2010, that the transaction subject of the request for ruling is not under investigation, on-going audit, administrative protest, claim for refund or issuance of a tax credit certificate, collection proceedings, or judicial appeal of the taxpayer/s involved. In reply, please be informed that Section 28 (B) (1) of the National Internal Revenue Code of 1997 (Tax Code of 1997), as amended, applies, in general, to dividends derived in the Philippines 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 . . . dividends, rents, royalties . . .: Provided, That effective January 1, 2009, the rate of income tax shall be thirty percent (30%). xxx xxx xxx" 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: AcIaST 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 relation thereto, Article 10 of the Philippines-Japan tax treaty, as amended, may apply to the instant case. It states: "Article 10 1. Dividends paid by a company which is a resident of a Contracting State to a resident of the other Contracting State may be taxed in that other Contracting State. 2. However, such dividends may also be taxed in the Contracting State of which the company paying the dividends is a resident, and according to the laws of that Contracting State, but if the recipient is the beneficial owner of the dividends the tax so charged shall not exceed: a) 10 per cent of the gross amount of the dividends if the beneficial owner is a company which holds directly at least 10 per cent either of the voting shares of the company paying the dividends or of the total shares issued by that company during the period of six months immediately preceding the date of payment of the dividends; b) 15 per cent of the gross amount of the dividends in all other cases. The provisions of this paragraph shall not affect the taxation of the company in respect of the profits out of which the dividends are paid. xxx xxx xxx" 4. The term "dividends" as used in this Article means income from shares or other rights, not being debt-claims, participating in profits, as well as income from other corporate rights assimilated to income from shares by the taxation laws of the Contracting State of which the company making the distribution is a resident. 5. The provisions of paragraphs 1, 2 and 3 shall not apply if the beneficial owner of the dividends, being a resident of a Contracting State, carries on business in the other Contracting State of which the company paying the dividends is a resident, through a permanent establishment situated therein, or performs in that other Contracting State independent personal services from a fixed base situated therein, and the holding in respect of which the dividends are paid is effectively connected with such permanent establishment or fixed base. In such case the provisions of Article 7 or Article 14, as the case may be, shall apply. aATESD xxx xxx xxx" Based on the foregoing, the Philippines may tax the dividends paid by a company which is a resident thereof to a company which is a resident of Japan at a rate not exceeding 10 percent if the last-mentioned company holds directly at least 10 percent of the voting shares of the company paying the dividends or of the total shares of the first-mentioned company for a period of six months immediately preceding the date of payment of the dividends. In all other cases, the 15 percent rate shall apply. However, under paragraph 5, Article 10 of the Philippines-Japan tax treaty, as amended, the reduced rates on dividends under paragraphs 2 and 3 of Article 10 will not apply to such dividends paid to JFE Japan if they are effectively connected to a permanent establishment which JFE Japan has in the Philippines. Under paragraph 2 (b), Article 5 of the tax treaty, JFE Shoji Trade Corporation-Manila Branch , being an office of JFE Japan in the Philippines, is considered a permanent establishment of JFE Japan in the Philippines, thus: "Article 5 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 store or other sales outlet; b) a branch; c) an office ; d) a factory; e) a workshop; f) a warehouse; g) a mine, an oil or gas well, a quarry or other place of extraction of natural resources." On the question of dividends being effectively connected with a permanent establishment, the relevant commentaries of the Organisation for Economic Co-operation and Development ("OECD") Model Tax Convention on Income and on Capital (Condensed Version, July 17, 2008) mention that such dividends are effectively connected if they are paid in respect of holdings forming part of the assets of the permanent establishment or otherwise effectively connected with that establishment, thus: CIDaTc "24. Certain States consider that dividends, interest and royalties arising from sources in their territory and payable to individuals or legal persons who are residents of other States fall outside the scope of the arrangement made to prevent them from being taxed both in the State of the beneficiary's residence when the beneficiary has a permanent establishment in the former State. Paragraph 4 (paragraph 5 of Article 10 of the Philippines-Japan tax treaty) is not based on such conception which is sometimes referred to as 'the force of attraction of the permanent establishment'. It does not stipulate that dividends flowing to a resident of a Contracting State from a source situated in the other State must, by a kind of legal presumption, or fiction even, be related to a permanent establishment which that resident may have in the latter State, so that the said State would not be obliged to limit its taxation in such a case. The paragraph merely provides that in the State of source the dividends are taxable as part of the profits of the permanent establishment there owned by the beneficiary which is a resident in the other State, if they are paid in respect of holdings forming part of the assets of the permanent establishment or otherwise effectively connected with that establishment . In that case, paragraph 4 (paragraph 5 of Article 10 of the Philippines-Japan tax treaty) relieves the State of source of the dividends from any limitations under the Article. The foregoing explanations accord with those in the Commentary on Article 7 (on Business Profits)." (Emphasis added) (Pages 156-157) Similarly, based on the Supreme Court ruling in Marubeni Corporation vs. Commissioner of Internal Revenue and Court of Tax Appeals (G.R. No. 76573 dated September 14, 1989), dividends paid to the head office of a foreign corporation which has a branch office in the Philippines are effectively connected to the branch office if the business transactions that give rise to the dividends are conducted through the branch office, thus: "The general rule that a foreign corporation is the same juridical entity as its branch office in the Philippines cannot apply here. This rule is based on the premise that the business of the foreign corporation is conducted through its branch office, following the principal-agent relationship theory. It is understood the branch becomes its agent here. So that when the foreign corporation transacts business in the Philippines independently of its branch, the principal-agent relationship is set aside. The transaction becomes one of the foreign corporation, not the branch or the resident foreign corporation. Corollarily, if the business transaction is conducted through the branch office, the latter becomes the taxpayer, and not the foreign corporation." Applying the OECD commentaries and the Supreme Court ruling, such dividends paid by JFE Philippines to JFE Japan cannot be considered as effectively connected with the JFE Shoji Trade Corporation-Manila Branch has no investments nor shares of stock in JFE Philippines ; JFE Shoji Trade Corporation-Manila Branch neither uses nor holds for use in the conduct of its trade or business any shares of stock in JFE Philippines ; and those shares in JFE Philippines were acquired directly by its head office in Japan without the participation of JFE Shoji Trade Corporation-Manila Branch . Consequently, all gains (dividends) that arise from these shares inure to the sole benefit of the head office and are not received by JFE Shoji Trade Corporation-Manila Branch , and hence, JFE Shoji Trade Corporation-Manila Branch is not a material factor in the realization of such gains (dividends) received by the head office. Considering that during the period of six (6) months immediately preceding the date of payment of the cash dividend, JFE Japan owns 99.99% shares in JFE Philippines , which is more than the 10 percent shareholding requirement of the total shares issued by that company, as shown in the certification issued by the Corporate Secretary of JFE Philippines dated November 8, 2010, then the dividends paid to JFE Japan by JFE Philippines are subject to 10 percent of the gross amount of dividends, pursuant to Article 10 (2) (a) of the Philippines-Japan tax treaty, as amended (BIR Ruling No. ITAD 35-10 dated September 14, 2010; BIR Ruling No. ITAD 11-10 dated June 16, 2010; BIR Ruling No. ITAD 8-10 dated June 3, 2010; BIR Ruling No. ITAD 7-10 dated May 20, 2010) 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