ITAD BIR Ruling No. 248-12

June 7, 2012 ITAD BIR RULING NO. 248-12 Article 12, Philippines-Japan tax treaty, as amended; BIR Ruling No. ITAD 011-10 Isla Lipana & Co. 29th Floor, Philamlife Tower 8767 Paseo de Roxas Makati City Attention: Mary Assumption S. Bautista-Villareal Principal, Tax Gentlemen : This refers to your Tax Treaty Relief Application 1 ("TTRA") filed on March 30, 2011 requesting confirmation that royalties paid by Bridgestone Precision Molding Philippines, Inc. ("Bridgestone Philippines") to Bridgestone Corporation ("Bridgestone") are subject to income tax at a preferential rate of 10 percent pursuant to the amended 2 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 Bridgestone is a foreign corporation organized and existing under the laws of Japan and is a resident of Japan based on the Certificate issued by the Kurume Taxation Office in Japan on November 29, 2010; that Bridgestone is situated at 10-1, Kyobashi 1-chome, Chuo-ku, Tokyo, Japan; that based on the Certificate of Corporate Filing/Information issued by the Securities and Exchange Commission ("SEC") on May 6, 2011, Bridgestone was licensed by the SEC to establish a representative office in the Philippines, but such license has been withdrawn or cancelled by the SEC on February 27, 2009; that, on the other hand, Bridgestone Philippines is a domestic corporation situated at Lot 1, Block 7A, Phase 11, Cavite Economic Processing Zone, Rosario, Cavite, Philippines; and that Bridgestone Philippines is registered with the Philippine Economic Zone Authority ("PEZA") under Certificate of Registration No. 01-032 issued on May 15, 2001. It is further represented that on July 1, 2010, Bridgestone and Bridgestone Philippines entered into a License and Technical Assistance Agreement ("Agreement") whereby Bridgestone granted Bridgestone Philippines a non-exclusive and non-transferable license (and without the right to sub-license) to use the Technical Information 3 to manufacture the Licensed Products 4 at the Facility 5 in the Philippines; that Bridgestone Philippines shall not use the Technical Information for any other purposes than for the manufacture and sale of the Licensed Products; that Bridgestone Philippines shall not represent that it has any ownership in the Technical Information; that in consideration, Bridgestone Philippines shall pay royalties to Bridgestone equivalent to 3 percent of the Net Sales Value of the Licensed Products; that Net Sales Value means the gross invoice price billed by Bridgestone Philippines of the Licensed Products it manufactured and sold to its customers (but excluding those sold to Bridgestone ) less trade and cash discounts, allowances or credits for adjustments and returns, excise and sales taxes, duties, freight, freight insurance, delivery and transportation charges only to the extent they are borne by Bridgestone Philippines and otherwise included in the gross invoice price; that the royalties shall be computed semi-annually and paid within 90 days after the last day of each semester; that the royalties shall be in Japanese yen and shall be remitted to a designated bank account of Bridgestone; that the Agreement is effective starting July 1, 2010 until December 31, 2011 and shall, thereafter, be automatically extended for succeeding periods of one year, unless earlier terminated. It is finally represented that the transaction subject of this ruling are not subject of investigation, on-going audit, administrative protest, claim for refund or issuance of a tax credit certificate, collection proceedings, or judicial appeal, based on the Certification issued by the President of Bridgestone Philippines on December 7, 2010. AIaHES In reply, please be informed that royalties paid to Bridgestone, a foreign corporation not engaged in trade or business in the Philippines, are generally subject to income tax at the rate of 30 percent pursuant to Section 28 (B) (1) of the National Internal Revenue Code of 1997 ( "Tax Code") , as amended. 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, . . .: Provided, That effective January 1, 2009, the rate of income tax shall be thirty percent (30%). xxx xxx xxx" However, such royalties may be exempt from income tax or subject to a reduced rate to the extent required by any treaty obligation on the Philippines. Section 32 (B) (5) of the Code provides: "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 (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 you invoked is Article 12 of the Philippines-Japan tax treaty, as amended. It provides: "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. SACHcD 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 paragraphs 2 and 3 of 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 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 domestic company registered with the Board of Investments and engaged in preferred pioneer areas of investment under the investment incentives laws of the Philippines; and (c) beginning January 1, 2009, 10 percent of the gross amount of the royalties with respect to royalties not covered by item (a). Under paragraph 4 of Article 12, 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"). Relative thereto, however, please be informed that Section 14 of Revenue Memorandum Order ("RMO") No. 72-2010, published in the Manila Bulletin on October 20, 2010, and effective November 4, 2010 provides, as follows: "Section 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 of 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 . Failure to properly file the TTRA with ITAD within the period prescribed herein shall have the effect of disqualifying the TTRA under this RMO . (Emphasis Supplied)" In view thereof, since the TTRA was filed only on March 30, 2011, after the date of effectivity of the Agreement on July 1, 2010, this Office hereby DENIES relief on all royalties under the Agreement paid on or before the filing of the TTRA on March 30, 2011 in violation of the requirement that filing of the TTRA should be made BEFORE the transaction under RMO 72-2010, that is the payment of royalties. Accordingly, said payments shall be subject to tax at the rate provided for in Section 28 of the above-cited Tax Code of 1997, as amended. However, relief is hereby GRANTED to all payments made after the filing of the TTRA on March 30, 2011. Accordingly, such royalties to be paid by Bridgestone Philippines to Bridgestone under the Agreement, being essentially royalties for the use or the right to use the know-how of Bridgestone, are subject to the income tax at the preferential rate of 10 percent of the gross amount thereof, pursuant to Article 12 of the Philippines-Japan tax treaty, as amended. HTCAED Furthermore, the royalties, being payments for the use of an intangible property (know-how) in the Philippines, are subject to value-added tax ("VAT"). Section 108 (A) of the Tax Code, as amended, provides: "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%). 6 xxx xxx xxx" However, in Commissioner of Internal Revenue vs. Seagate Technology (Philippines) (G.R. No. 153866, February 11, 2005), the Supreme Court held, viz. : "Special laws may certainly exempt transactions from the VAT. 7 However, the Tax Code provides that those falling under PD 66 are not. PD 66 is the precursor of RA 7916 the special law under which respondent was registered. The purchase transactions it entered into are, therefore, not VAT-exempt. These are subject to the VAT; respondent is required to register. xxx xxx xxx Since the purchases of respondent are not exempt from the VAT, the rate to be applied is zero. Its exemption under both PD 66 and RA 7916 effectively subjects such transactions to a zero rate, because the ecozone within which it is registered is managed and operated by the PEZA as a separate customs territory. This means that in such zone is created the legal fiction of foreign territory. Under the cross-border principle of the VAT system being enforced by the Bureau of Internal Revenue (BIR), no VAT shall be imposed to form part of the cost of goods destined for consumption outside of the territorial border of the taxing authority. If exports of goods and services from the Philippines to a foreign country are free of the VAT, then the same rule holds for such exports from the national territory except specifically declared areas to an ecozone. xxx xxx xxx Applying the special laws we have earlier discussed, respondent as an entity is exempt from internal revenue laws and regulations. This exemption covers both direct and indirect taxes, stemming from the very nature of the VAT as a tax on consumption, for which the direct liability is imposed on one person but the indirect burden is passed on to another. Respondent, as an exempt entity, can neither be directly charged for the VAT on its sales nor indirectly made to bear, as added cost to such sales, the equivalent VAT on its purchases. Ubi lex non distinguit, nec nos distinguere debemus. Where the law does not distinguish, we ought not to distinguish. Moreover, the exemption is both express and pervasive for the following reasons: EAcHCI . . ., RA 7916 states that 'no taxes, local and national, shall be imposed on business establishments operating within the ecozone.' Since this law does not exclude the VAT from the prohibition, it is deemed included. Exceptio firmat regulam in casibus non exceptis. An exception confirms the rule in cases not excepted; that is, a thing not being excepted must be regarded as coming within the purview of the general rule. Moreover, even though the VAT is not imposed on the entity but on the transaction, it may still be passed on and, therefore, indirectly imposed on the same entity a patent circumvention of the law. That no VAT shall be imposed directly upon business establishments operating within the ecozone under RA 7916 also means that no VAT may be passed on and imposed indirectly. Quando aliquid prohibetur ex directo prohibetur et per obliquum. When anything is prohibited directly, it is also prohibited indirectly. xxx xxx xxx" Accordingly, since Bridgestone Philippines is an enterprise registered with PEZA and covered by the provisions of Republic Act No. 7916, 8 as amended, Bridgestone Philippines, as an exempt entity, cannot be directly subject to VAT on its sale of goods or services to its customers, and be subject to VAT indirectly when it purchase goods and services from VAT-registered persons when such purchase is otherwise subject to VAT. This being the case, such royalties paid by Bridgestone Philippines to Bridgestone shall be exempt from VAT, instead of being subject to VAT at zero percent. 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. Now governed by the rules under RMO 72-2010 which took effect on November 4, 2010. 2. The amending Protocol took effect on January 1, 2009. 3. "Technical Information" shall mean a body of technical information that is substantial and identified in any appropriate form, including present and future, published or unpublished, and patented or unpatented inventions, designs, specifications, drawings, production process sheet and other technical information or data directly relating to the Licensed Products developed, used, or owned by Bridgestone. 4. "Licensed Products" shall mean the following: (1) HDD parts; (2) Ink jet Printers parts; (3) Push Master parts. 5. "Facility" shall mean production and testing. 6. The VAT rate was increased to 12% on February 1, 2006, in accordance with Memorandum of 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 Secretary of Finance to Increase the Value Added Tax Rate from Ten Percent to Twelve Percent) dated January 31, 2006. 7. Referring to the old Section 109 (q) of the Tax Code of 1997 [now Section 109 (K), as amended by RA No. 9337]. 8. Republic Act No. 7916, Otherwise Known as "The Special Economic Zone Act of 1995".