ITAD BIR Ruling No. 230-13

August 15, 2013 ITAD BIR RULING NO. 230-13 Article 10 (2) (a), Philippines-Japan Tax Treaty, as amended Castillo Laman Tan Pantaleon & San Jose Valero Tower, 122 Valero Street Salcedo Village, Makati City Attention: Atty. Joseph Gregson A. Castillo Ms. Maritess C. Sy Representatives Gentlemen : This refers to your tax treaty relief application filed on March 29, 2012, on behalf of Mitsubishi Corporation ("Mitsubishi") , requesting confirmation that dividend payment made by Davao Central Chemical Corporation ("DCCC") to Mitsubishi is subject to the 10 percent preferential tax rate 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, as amended") . cCEAHT It is represented that Mitsubishi , with address at 3-1, Marunoouchi 2-chome, Chiyoda-Ku, Tokyo, 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 Kojimachi Tax Office on February 10, 2012; that Mitsubishi , formerly Mitsubishi Shoji Kaisha Ltd. , was issued a license to do business in the Philippines on March 20, 1967; that to date, no petition for the withdrawal or cancellation has been filed as shown in the Certificate of Corporate Filing/Information issued by the Securities and Exchange Commission on February 14, 2012; and that DCCC, on the other hand, is a domestic corporation duly organized and existing under the laws of the Philippines with office address located at Room 19 Tibungco, Davao City. It is also represented, per Secretary's Certificate dated March 28, 2012, Mitsubishi is the registered owner of 588,000 common shares of DCCC with a total par value of Php5,880,000.00, representing 20% of the subscribed and paid-up capital stock of DCCC since January 11, 1999; and that these shares were acquired by Mitsubishi on various dates from November 11, 1998 through subscription and purchase. It is further represented that at their special meeting on March 27, 2012, the Board of Directors of DCCC approved the declaration of cash dividend in the amount of Three Million Nine Hundred Ninety-Eight Thousand Four Hundred Pesos (Php3,998,400.00) out of unrestricted retained earnings of DCCC as of fiscal year of 2011 in favor of the stockholders of record as of March 27, 2012; that the said dividend was paid to Mitsubishi on March 30, 2012 as evidenced by a Confirmation of Outgoing Foreign Remittance of Bank of Tokyo-Mitsubishi UFJ Manila Branch dated March 30, 2012. It is further represented that the branch office of Mitsubishi in the Philippines ("Mitsubishi-Manila Branch") has neither investments nor owns shares of stock in DCCC, based on the Affidavit issued by the Treasurer of Mitsubishi-Manila Branch on February 21, 2012; that Mitsubishi-Manila Branch neither uses nor holds for use in the conduct of its trade or business any shares of stock in DCCC and that such shares were acquired directly by its head office in Japan without the participation of Mitsubishi-Manila Branch ; and that, consequently, all dividends that arise from the subject shares inure to the sole benefit of the head office that these dividends are not received by Mitsubishi-Manila Branch ; and that Mitsubishi-Manila Branch is not a material factor in the realization of such dividends received by the head office. AHTICD Finally, it is represented that the transaction subject of the herein 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 a judicial appeal of the taxpayers involved per the Sworn Statement issued by DCCC dated March 28, 2012. 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: TcHCDE "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" Thus, Article 10 of the Philippines-Japan tax treaty, as amended, which you invoke may apply to the instant case. It provides: "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; DaTICc (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. 6. Where a company which is a resident of a Contracting State derives profits or income from the other Contracting State, that other Contracting State may not impose any tax on the dividends paid by the company, except insofar as such dividends are paid to a resident of that other Contracting State or insofar as the holding in respect of which the dividends are paid is effectively connected with a permanent establishment or a fixed base situated in that other Contracting State, nor subject the company's undistributed profits to a tax on the company's undistributed profits, even if the dividends paid or the undistributed profits consist wholly or partly of profits or income arising in that other Contracting State." 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 (6) months immediately preceding the date of payment of the dividends; and in all other cases, 15 percent rate shall apply. CTEDSI 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 Mitsubishi if they are effectively connected to a permanent establishment which Mitsubishi has in the Philippines. Under paragraph 2 (b), Article 5 of the tax treaty, Mitsubishi-Manila Branch , being an office of Mitsubishi in the Philippines, is considered a permanent establishment of Mitsubishi 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: ASHICc " 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." TcCSIa Applying the OECD commentaries and the Supreme Court ruling, such dividends paid by DCCC to Mitsubishi cannot be considered as effectively connected with the Mitsubishi-Manila Branch since, as represented, Mitsubishi-Manila Branch has no investments nor shares of stock in DCCC; Mitsubishi-Manila Branch neither uses nor holds for use in the conduct of its trade or business any shares of stock in DCCC; and those shares in DCCC were acquired directly by its head office in Japan without the participation of Mitsubishi-Manila Branch . Consequently, all dividends that arise from these shares inure to the sole benefit of the head office and are not received by Mitsubishi-Manila Branch , and hence, Mitsubishi-Manila Branch is not a material factor in the realization of such dividends received by the head office. This being the case, inasmuch as Mitsubishi holds directly 20 percent of the outstanding capital stock of DCCC (which in fact exceeds the minimum required percentage of holding of 10 percent), and since Mitsubishi maintains such holdings since January 11, 1999, hence, more than six months immediately preceding the date of payment of the dividends, such dividend paid by DCCC to Mitsubishi is subject to income tax at the rate of 10 percent of the gross amount thereof, pursuant to paragraph 2 (a), Article 10 of the Philippines-Japan tax treaty, as amended. 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