ITAD BIR Ruling No. 250-12

June 7, 2012 ITAD BIR RULING NO. 250-12 Article 12, Philippines-Japan tax treaty, as amended; BIR Ruling No. ITAD-48-10; BIR Ruling No. ITAD-10-11; BIR Ruling No. ITAD-37-11 Sycip Gorres Velayo & Co. 6760 Ayala Avenue 1226 Makati City Attention: J. A. Osana Tax Division Gentlemen : This refers to your tax treaty relief application filed on November 27, 2009, on behalf of SUMITOMO ELECTRIC INDUSTRIES, LTD. ("SEI") requesting confirmation that the royalty payments of FIRST SUMIDEN CIRCUITS, INC. ("FSCI") to SEI are subject to Philippine income tax under Article 12 (2) (b) of 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 SEI, with address at 4-5-33, Kitahama, 4-Chome, Chuo-Ku, Osaka, 541-0041, Japan, is a resident of Japan within the meaning of the Philippines-Japan tax treaty, and is subject to taxation in Japan per Residence Certificate issued by the District Director of Higashi Tax Office dated January 13, 2009; that it was issued by the Securities and Exchange Commission (SEC) a license to transact business in the Philippines in construction works, and to engage in design, supervision, material procurement and management of construction projects in the Philippines per SEC License No. A199810992 dated August 6, 1998; that pursuant to the said grant of license, SEI established a branch, Sumitomo Electric Industries, Ltd.-Philippine Branch (SEI-Phil branch) located at 5th Floor, King's Court 1, 2129 Pasong Tamo, Makati City; that SEI-Phil branch is already under liquidation following the Board of Directors approval of its closure on February 26, 2008 as evidenced by a copy of the Certificate of No Outstanding Tax Liability issued to SEI-Phil branch by Bureau of Internal Revenue-Revenue District Office No. (BIR-RDO) 48 for dissolution purposes dated May 12, 2010; and that, on the other hand, FSCI is a domestic corporation registered with Philippine Economic Zone Authority (PEZA) as ecozone export enterprise with principal place of business at Main Avenue cor. Ampere Street, Light Industry & Science Park, Inc. Cabuyao, Laguna. It is further represented that on March 1, 1996, a TECHNOLOGY LICENSE AGREEMENT (Agreement) was entered into by and between SEI and FSCI, as follows: I. GRANTS A. Grant of License IcESDA SEI grants to FSCI, during the term of the Agreement the following: (a) An exclusive right and license to manufacture, use and sell Products 1 in the Philippines manufactured under the Technical Information (b) A non-exclusive right and license to sell the Products except in Japan and in countries where exclusive licenses to manufacture and/or distribute the Product(s) have been granted. (as amended by Supplemental Agreement dated March 1, 1996) B. Technology Transfer During the term of the Agreement, SEI shall provide FSCI from time to time with such Technical Information as SEI may own or have the right to license after the Effective Date 2 and also additional information which SEI deems necessary and appropriate for the purpose of the Agreement. Effective January 1, 2008, Exhibit A incorporated in the Agreement and succeeding Amended Agreements "shall be amended to include the latest technology Assembly and Top coating." (per Amended Agreement dated May 5, 2009) C. Technical Assistance (a) FSCI's Engineers In accordance with the strategic intent of the parties to accelerate the transfer of technology by SEI to FSCI and upon written request made by FSCI during the term of the Agreement and subject to the convenience of SEI, SEI shall accept a reasonable number of qualified engineers of FSCI at SEI's facilities for study, training and instruction in the manufacture, testing and inspection of the Products. (b) SEI's Engineers In accordance with the strategic intent of the Parties to optimize the expertise of SEI's engineers and upon reasonable advance written request made by FSCI, SEI shall send to FSCI a mutually agreed number of qualified engineers of SEI for a mutually agreed period to provide FSCI with technical assistance on the Products, including sales promotion of the Products. II. CONSIDERATION In consideration of the right and license granted to FSCI, FSCI shall pay to SEI Running Royalties in the amount of three percent (3%) of the Net Selling Price of the Products (including parts or components thereof) sold by FSCI for each calendar quarter and shall be payable to SEI within the month following the end of such quarter. (per Article 7 of the Agreement, as amended by Amendment Agreement dated September 24, 2009) TADcCS III. TERM "This Agreement shall take effect on the Effective Date and shall continue in force until April 18, 2012, unless sooner terminated pursuant to Article 14 hereof, or until a new Agreement is entered into and finalized between Parties, whichever comes earlier." (Article 13 of the Agreement, as amended by Amended Agreement dated April 17, 2007 ) Finally, it is represented that the aforementioned three amending agreements, all entitled 'Amendment Agreement', respectively dated April 17, 2007, May 5, 2009 and September 24, 2009 comply with the provisions of Sections 87 and 88 of Chapter IX, Part II of the Intellectual Property Code on Voluntary Licensing, as evidenced by Certificate of Compliance No. 5-2007-00033 issued by the Intellectual Property Office dated November 17, 2009; and that, per the duly sworn certification executed by the President of FSCI dated September 16, 2009, the transaction subject of the above request is not under any investigation or on-going audit, administrative protest, claim for refund or issuance of tax credit certificate, collection proceedings, or a judicial appeal. Based on the above representations, it is your opinion that the running royalties paid by FSCI to SEI under the Agreement, as amended, which have accrued beginning January 1, 2009, are subject to the 10 percent reduced tax rate under Article 12 (2) (b) of the Philippines-Japan tax treaty, as amended; and that the said running royalties are exempt from withholding value-added tax (VAT). Relative thereto, please be informed that under Section III (2) of Revenue Memorandum Order No. 1-00 (Procedures for Processing Tax Treaty Relief Application) ("RMO 1-2000"), any availment of tax treaty relief (exemption from income tax or reduction of tax) shall be preceded by an application filed at the International Tax Affairs Division ("ITAD") of this Bureau at least 15 days before the intended transaction or payment of income, thus: "III. Policies: In order to achieve the above-mentioned objectives, the following policies shall be observed: xxx xxx xxx 2. Any availment of the tax treaty relief shall be preceded by an application by filing BIR Form No. 0901 (Application for Relief from Double Taxation) with ITAD at least 15 days before the transaction i.e., payment of dividends, royalties, etc., accompanied by supporting documents justifying the relief . . ." (Underscoring ours) This condition was emphasized by the Court of Tax Appeals in Mirant (Philippines) Operations Corporation vs. Commissioner of Internal Revenue (C.T.A. Case No. 6382 dated June 7, 2005) where it ruled: " However, it must be remembered that a foreign corporation wishing to avail of the benefits of the tax treaty should invoke the provisions of the tax treaty and prove that indeed the provisions of the tax treaty applies to it, before the benefits may be extended to such corporation . In other words, a resident or non-resident foreign corporation shall be taxed according to the provisions of the National Internal Revenue Code, unless it is shown that the treaty provisions apply to the said corporation, and that, in cases the same are applicable, the option to avail of the tax benefits under the tax treaty has been successfully invoked. CTDacA Under Revenue Memorandum Order 01-2000 of the Bureau of Internal Revenue, it is provided that the availment of a tax treaty provision must be preceded by an application for a tax treaty relief with its International Tax Affairs Division (ITAD). This is to prevent any erroneous interpretation and/or application of the treaty provisions with which the Philippines is a signatory to. The implementation of the said Revenue Memorandum Order is in harmony with the objectives of the contracting state to ensure that the granting of the benefits under the tax treaties are enjoyed by the persons or corporations duly entitled to the same . The Court notes that nowhere in the records of the case was it shown that petitioner indeed took the liberty of properly observing the provisions of the said order. Petitioner quotes various BIR, as well as ITAD, Rulings issued to several foreign corporations seeking for a tax relief from the office of the respondent. However, not any one of these rulings pertains to the petitioner. It must be stressed that BIR rulings are issued based on the facts and circumstances surrounding particular issue/issues in question and are resolved on a case-to-case basis. It would be thus erroneous to invoke the ruling of the respondent in specific cases, which have no bearing to the case of petitioner." (Underscoring ours) This decision was also upheld by the Supreme Court in a Resolution (G.R. No. 168531) dated February 18, 2008. Furthermore, the necessary requirement laid down in RMO 1-2000 is reiterated in subsequent rulings of the Court of Tax Appeals: Deutsche Bank AG Manila Branch vs. Commissioner of Internal Revenue (C.T.A. Case No. EB 456 dated May 29, 2009), CBK Power Company Ltd. vs. Commissioner of Internal Revenue (C.T.A. Case Nos. 6699, 6844 and 7166 dated March 29, 2010) and Manila North Tollways Corporation vs. Commissioner of Internal Revenue (C.T.A. Case No. 7864 dated April 12, 2011). In view of the foregoing, this Office hereby DENIES relief on the royalties paid by FSCI to SEI before December 12, 2009, which is 15 days after the subject TTRA was filed on November 27, 2009, as prescribed by the RMO. Accordingly, said royalties shall be subject to income tax at the rate provided under Section 28 (B) (1) of the National Internal Revenue Code of 1997 ("Tax Code") , as amended, to wit: "SEC. 28. Rates of Income Tax on Foreign Corporations. . . . (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 interests, dividends, rents, royalties, salaries, premiums (except reinsurance premiums), annuities, emoluments or other fixed or determinable annual, periodic or casual gains, profits and income, and capital gains, except capital gains subject to tax under subparagraph 5(c) and (d) above: Provided, That effective January 1, 2009 , the rate of income tax shall be thirty percent (30%) ." (Underscoring supplied) However, all royalties paid by FSCI to SEI after 15 days from the date of filing of the TTRA or on December 12, 2009 and thereafter, are hereby GRANTED relief and the same shall be subject to income tax at a reduced rate of 10 percent of the gross amount thereof, pursuant to paragraph 2 (b), Article 12 of the Philippines-Japan tax treaty, as amended. It provides: ECaTDc "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. . . ." On the other hand, with respect to value-added tax ("VAT"), under Section 108 (A) of the Tax Code, as amended, the royalties paid by FSCI to SEI, being payments for the use of intangible properties in the Philippines, are subject to VAT as follows: "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, 3 raise the rate of value-added tax to twelve percent (12%) . . ." However, since FSCI is registered with PEZA and governed by the provisions of Republic Act No. 7916, 4 as amended, the Supreme Court ruled in Commissioner of Internal Revenue vs. Seagate Technology (Philippines) (G.R. No. 153866 dated February 11, 2005) that: "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: First, 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." EaISDC Accordingly, as an exempt entity, FSCI is not subject to VAT directly on its sale of goods and supply of services to its customers, and indirectly on its purchase of goods and services when such purchase is subject to VAT. With respect to the royalties at hand, since SEI is a foreign corporation and not a registered VAT taxpayer, such royalties paid by FSCI to SEI are 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. 'Products' shall primarily refer to single and double-sided flexible printed circuits by etching process. 2. 'Effective Date' means the date of execution of the Agreement by both parties or the date of validation thereof by the Government of the Republic of the Philippines, whichever is later. 3. 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. 4. An Act Providing for the Legal Framework and Mechanism for the Creation, Operation, Administration, and Coordination of Special Economic Zones in the Philippines, Creating for this Purpose, the Philippine Economic Zone Authority (PEZA), and for Other Purposes.