ITAD BIR Ruling No. 205-11

August 3, 2011 ITAD BIR RULING NO. 205-11 Article 12, Philippines-Japan tax treaty; Section 28 (B) (1), Tax Code of 1997; BIR Ruling No. ITAD-074-10; BIR Ruling No. ITAD-011-10 Hi Eles Industrial Corporation 42 Montreal St., Cubao Quezon City Attention: Renato F. Porras Assistant Finance Manager Gentlemen : This refers to your tax treaty relief application filed on December 23, 2010, on behalf of Hitachi, Ltd., Urban Planning & Development System Co. (Hitachi) , requesting confirmation that the royalty payments to Hitachi by Hi Eles Industrial Corporation (Hi Eles) are subject to 10 percent preferential tax rate pursuant to the amended 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, as amended) . It is represented that Hitachi is a segment of Hitachi Ltd. , a corporation organized and existing under the laws of Japan, and is a resident of Japan within the meaning of the Philippines-Japan tax treaty, with registered address at 6-6 Marunouchi-1 chome, Chiyoda-ku, Tokyo, 100-8280, Japan, per certificate issued by the District Director of Kojimachi Tax Office on December 24, 2010; that Hitachi Ltd. was issued a license to establish a branch office in the Philippines on May 30, 1986 as shown in the Certification of Corporate Filing/Information issued by the Securities and Exchange Commission dated July 7, 2010; and that, on the other hand, Hi Eles is a domestic corporation duly organized and existing under the laws of the Philippines with office address located at 42 Montreal St., Cubao, Quezon City. It is also represented that on October 1, 2009, Hitachi and Hi Eles entered into an Assistance and Cooperation Agreement (Agreement) , whereby Hitachi agrees to the scope, manner, terms and conditions for the assistance and cooperation for the purpose of improving Hi Eles' technology and operations in the field of installation, adjustment, inspection and maintenance of elevators, escalators, autolines and dumbwaiters; and that such assistance and cooperation may extend as follows: 1. Products and Technology Hitachi's assistance cooperation will cover installation, adjustment, inspection and maintenance, which expression includes repair, modification and modernization of Hitachi's Products ("Cooperative Scope") 2. Assistance and Cooperation Hitachi will extend its possible assistance to Hi Eles to improve Hi Eles' technology and operations by means of diagnosing in terms of Cooperative Scope, proposing the idea on the improvement and providing with training therefor. Hi Eles will periodically provide Hitachi with the data and information with respect to Hi Eles' technology and operations within Cooperative Scope IHaCDE 2.1 Dispatch of Hitachi's Engineers (1) Upon request made by Hi Eles from time to time during the term of the Agreement, Hitachi will dispatch its engineers to Hi Eles and/or any other territory to be mutually agreed upon on a case by case basis in order to implement the assistance and cooperation in the following fields: (a) For installation (b) For adjustment and inspection (c) For quality assurance (including trouble shooting) (d) For countermeasure for better performance (e) For accounting, procurement and general affairs (2) The man-days to be spent by Hitachi's engineers and their schedules in this connection will be mutually agreed upon considering Hitachi's availability. 2.2 Acceptance of Hi Eles' Engineer 2.3 Supply of Technical Documents Upon request of Hi Eles when Hitachi judges it appropriate and necessary, Hitachi will supply Hi Eles with the following documents within Cooperative Scope: (1) Technical data (2) Installation and maintenance data (3) Parts catalogs (4) Modernization data It is further represented that as consideration for the aforementioned assistance and cooperation provided by Hitachi, Hi Eles shall pay to Hitachi royalties at rate of three percent (3%) on the net selling price of installation, adjustment, inspection and maintenance (including repair, modification and modernization) of Products executed by Hi Eles ; and that the Agreement will become effective from October 1, 2009 subject to the approval of both parties' government, if necessary, and remain effective five (5) years thereafter. Moreover, it is represented that on October 6, 2010, Hitachi and Hi Eles entered into Amendment Agreement No. 1 replacing Article 5 of the October 1, 2009 Agreement on the disputes and controversies which may arise between the parties; and that based on Certificate of Compliance No. 5-2010-00044 issued by the Intellectual Property Office of the Philippines dated November 3, 2010, which is valid for five years from October 1, 2009 to September 30, 2014, the Agreement complies with the provisions of Sections 87 and 88 of Chapter IX, Part II of the Intellectual Property Code (Republic Act No. 8293) on Voluntary Licensing. It is finally represented based on a notarized certification by the General Manager of Hi Eles dated December 23, 2010, that the transaction subject of the application for tax treaty relief is not subject of an investigation, on-going audit, administrative protest, claim for refund or issuance of a tax credit certificate, collection proceedings, or judicial appeal. In reply, please be informed that royalties derived in the Philippines by a nonresident foreign corporation are, in general, covered by Section 28 (B) (1) of the National Internal Revenue Code (Tax Code) of 1997, as amended. It provides: "Section 28. Rates of Income Tax on Foreign Corporations. xxx xxx xxx (B) Tax on Nonresident Foreign Corporation. TcIaHC (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 . . ., 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 that: "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" With respect to a treaty, what is being invoked for this purpose is the amended Philippines-Japan tax treaty. Its Article 12 provides 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. 3. Notwithstanding the provisions of paragraph 2, the amount of tax imposed by the Philippines on the royalties paid by a company, being a resident of the Philippines, registered with the Board of Investments and engaged in preferred pioneer areas of investment under the investment incentives laws of the Philippines to a resident of Japan, who is the beneficial owner of the royalties, shall not exceed 10 per cent of the gross amount of the royalties. 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. xxx xxx xxx" Under Article 12 of the Philippines-Japan tax treaty, as amended, royalties arising in the Philippines and paid to a resident of Japan may be taxed in the Philippines, but the rate of income tax that may be imposed thereon shall not exceed (a) 15 percent of the gross amount of the royalties 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; (b) 10 percent of the gross amount of the royalties if the royalties are paid by a company, being a resident of the Philippines, registered with the Board of Investments and engaged in preferred pioneer areas of investment under the investment incentives laws of the Philippines; and (c) 10 percent in all other cases. The nature of payments to be made by Hi Eles to Hitachi for the provision of assistance and cooperation in the installation, adjustment, inspection and maintenance of Hitachi's products is considered as "payments as consideration for information concerning industrial, commercial or scientific experiences" in accordance with paragraph 3 of Article 12. Accordingly, the royalties to be paid by Hi Eles to Hitachi , shall be subject to income tax in the Philippines at the rate of 10 percent based on the gross amount thereof, pursuant to paragraph 2, Article 12 of the Philippines-Japan tax treaty, as amended. (BIR Ruling No. ITAD 11-10 dated June 16, 2010; BIR Ruling No. ITAD-074-10 dated July 9, 2010) CDAHaE Moreover, as provided in Section 108 of the Tax Code of 1997, as amended, the said royalty payments are subject to value-added tax (VAT), thus: "SEC. 108. 1 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%) 2 of gross receipts derived from the sale or exchange of services, including the use or lease of properties. xxx xxx xxx (3) The supply of scientific, technical, industrial or commercial knowledge or information; xxx xxx xxx" With regard to the procedures for the withholding and the payment of VAT, pursuant to Sections 4 and 6 of Revenue Regulations (RR) No. 4-2002, Section 3 or RR No. 8-2002, Section 7 of RR No. 14-2002 and Section 4.114-2 of RR No. 16-05, as amended by RR No. 04-07 Hi Eles shall be responsible for the withholding of VAT on the royalties fee before remitting it to Hitachi . In remitting to the Bureau of Internal Revenue the VAT withheld, Hi Eles shall use BIR Form No. 1600 (Monthly Remittance Return of Value-Added Tax & Other Percentage Taxes Withheld). If it is a VAT-registered taxpayer, Hi Eles may use as documentary substantiation for its claim of input VAT the duly filed BIR Form No. 1600 and the proof of payment accompanying such form. On the other hand, if it is a non VAT-registered taxpayer, Hi Eles may include as part of the cost of the royalty fees it paid to Hitachi the VAT consequently shifted or passed on to it. In addition, Hi Eles is required to issue the Certificate of Final Tax Withheld at Source (BIR Form No. 2306) in quadruplicate, the first three copies for Hitachi and the fourth copy for Hi Eles as its file copy. 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. Section 108 was amended by Republic Act No. 9337 (An Act Amending Sections 27, 28, 34, 106, 107, 108, 109, 110, 111, 112, 113, 114, 116, 117, 119, 121, 148, 151, 236, 237 and 288 of the National Internal Revenue Code of 1997, as Amended, and for Other Purposes), which was signed into law on May 24, 2005 and became effective on November 1, 2005, which read as: "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%), 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%). xxx xxx xxx 2. 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.