ITAD BIR Ruling No. 259-13

August 27, 2013 ITAD BIR RULING NO. 259-13 Article 12, Philippines-China tax treaty Tantoco Villanueva De Guzman & Llamas Law Offices 4th & 6th Floors, Filipino Building 135 Dela Rosa Street, Legaspi Village Makati City Attention: Atty. Cristina M. F. Villanueva Mr. Michael Dennis D. Rayala Gentlemen : This refers to your Tax Treaty Relief Application ("TTRA") filed on December 1, 2011, on behalf of Beijing Perfect World Network Technology Co., Ltd. ("BPWTC") (formerly the Beijing Perfect World Co., Ltd.), requesting confirmation that the royalty payments by Level Up, Inc. ("Level Up") to BPWTC are subject to a preferential tax rate of 10 percent, pursuant to Article 12 of the Philippines-China tax treaty . 1 It is represented that BPWTC, with address at 8th Floor, Yingchuang Dongli Bldg., #1 Shanghai East Road, Haidian District, Beijing, is a resident of China within the meaning of the Philippines-China tax treaty, based on the Certificate of Residence issued by the Haidian Local Tax Bureau of Beijing dated July 22, 2011; that BPWTC is not registered either as a corporation or as a partnership in the Philippines as shown in the Certification of Non-Registration of Company issued by the Securities and Exchange Commission on October 5, 2010; and that, on the other hand, Level Up is a domestic corporation duly organized and existing under Philippine laws located at the 11/F, Pacific Star Building, Makati corner Sen. Gil Puyat Avenue, Makati. It is further represented that on December 12, 2006, Level Up , as the Licensee, and BPWTC, as the Licensor, entered into a License Agreement for Perfect World2 Online English Version ("Agreement") , which was amended on March 28, 2011; that on September 1, 2011 a Supplementary Agreement to the License Agreement for Perfect World2 Online English Version ("Supplementary Agreement") was made and entered by BPWTC, Level Up and PlayWeb Games, Inc. ("Playweb") ; that pursuant to the Original Agreement, BPWTC appoints Level Up as its exclusive license of the Game 2 in the Philippines subject to the terms and conditions of the Original Agreement granting the following rights: SCIacA a) the sole, exclusive, sub-licensable, non-assignable and indivisible license to service, use, promote, market, distribute, distribute sell and otherwise Commercialize 3 the Game to Users 4 in the Philippines; b) the sole, exclusive, sub-licensable, non-assignable and indivisible license to develop, design, manufacture, publish, broadcast, promote, market, distribute offer for sale or trade, sell or otherwise dispose of the Game Peripherals 5 in the Philippines at such prices determined by the Level Up ; c) continued access to improvements in techniques and processes related to the Game and/or the Game Peripherals for the duration of the Term; d) provide maintenance and support service, including but not restricted to technological support, software support, client service and online service, Level Up shall send a report on the foregoing matters to the designated person of BPWTC and shall deliver services to Users in compliance with the client service regulations of BPWTC which BPWTC has disclosed to Level Up ; e) install, copy, store, edit and modify server-end programs to provide necessary service; f) upon consultation with BPWTC, the right to adapt the Game and/or the Game Peripherals to conditions in the Philippines and to introduce innovation to them; and g) other rights necessary or incidental to enable Level Up to properly and efficiently exercise its rights and perform its obligations under the Original Agreement. that the Agreement shall commence on the Effective Date 6 plus consecutive 5 years since the start of the commercial operations for the Games unless earlier terminated, and will be automatically renewed for periods of one (1) year; that in consideration of the grants, Level Up shall make payments of License Fees to BPWTC of One Hundred Fifty Thousand Dollars ($150,000.00) and Monthly Running royalties equivalent to twenty two percent (22%) of Game Service Fee. 7 It is finally represented, based on the Sworn Statement by Level Up on October 11, 2011, 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. SATDEI In reply, please be informed that under Section 14 of Revenue Memorandum Order No. 72-2010 (Guidelines on the Processing of Tax Treaty Relief Applications (TTRA) Pursuant to Existing Philippine Tax Treaties) ("RMO 72-2010") , which covers income derived or which accrued on November 4, 2010 and thereafter, 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 before the first taxable event subject of the TTRA, to wit: "SEC. 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 or 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 ours) In relation thereto, Revenue Memorandum Order No. 1-2000 (Procedures for Processing Tax Treaty Relief Application) ("RMO 1-2000") , which covers income derived or accrued before November 4, 2010 , provides that any availment of relief shall be preceded by an application filed at ITAD at least fifteen days before the intended transaction or payment of income, thus: " III. Policies: TCDHaE 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. . . " (Emphasis ours) This condition is 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. TACEDI 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. " (Emphasis ours) This decision is upheld by the Supreme Court in Resolution G.R. No. 168531 on 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. 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, since the Agreement that gives rise to the royalties has been in effect on December 12, 2006 , but the TTRA for this purpose was filed only on December 1, 2011 , this Office hereby DENIES relief on all royalties paid by Level Up to BPWTC on and before December 1, 2011 , pursuant to Section 14 of RMO 72-2010 and Section III (2) of RMO 1-2000. Accordingly, said fees shall be subject to income tax at the rate of 30 percent under Section 28 (B) (1) of the National Internal Revenue Code of 1997 (" Tax Code "), as amended, to wit: TAaIDH "SEC. 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 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%)." HESIcT On the other hand, the royalties paid to BPWTC by Level Up on December 2, 2011 and thereafter are GRANTED relief and are subject to a reduced tax rate of 10 percent of the gross amount thereof pursuant to Article 12 of the Philippines-China tax treaty. It provides: "Article 12 Royalties 1. Royalties arising in a Contracting State and paid to a resident of the other Contracting State may be taxed in that other State. 2. However, such royalties may also be taxed in the Contracting State in which they arise and according to the laws of that 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 royalties arising from the use of, or the right to use, any copyright of literary, artistic or scientific work including cinematograph films or tapes for television or broadcasting, or b) 10 per cent of the gross amount of royalties arising from the use of, or the right to use, any patent, trade mark, design or model, plan, secret, formula or process, or from the use of, or the right to use, industrial, commercial, or scientific equipment, or for information concerning industrial, commercial or scientific experience. For as long as the transfer of technology, under Philippine law, is subject to approval, the limitation of the tax rate mentioned under (b) shall, in the case of royalties arising in the Republic of the Philippines, only apply if the contract giving rise to such royalties has been approved by the Philippine competent authorities. THaDAE 3. 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 cinematography films, or 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" Moreover, the above royalty payments shall be subject to value-added tax ("VAT") as provided for in Section 108 of the Tax Code, as amended, viz. : "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%) 8 of gross receipts derived from the sale or exchange of services, including the use or lease of properties. The phrase 'sale or exchange of services' means the performance of all kinds of services in the Philippines for others for a fee, . . . . The phrase 'sale or exchange of services' shall likewise include: (1) The lease or the use of or the right or privilege to use any copyright, patent, design or model, plan secret formula or process, goodwill, trademark, trade brand or other like property or right; . . ." CTDacA With regard to the procedures for the withholding and the payment of the VAT pursuant to Sections 4 and 6 of Revenue Regulations No. 4-2002, Section 3 of Revenue Regulations No. 8-2002, and Section 7 of Revenue Regulations No. 14-2002, Level Up shall be responsible for the withholding of VAT on the royalties before remitting them to BPWTC. In remitting to the Bureau of Internal Revenue the VAT withheld, Level Up shall use BIR Form No. 1600 (Monthly Remittance Return of Value-Added Tax & Other Percentage Taxes Withheld). If it is a VAT-registered taxpayer, Level Up 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, Level Up may include as part of the cost of the royalty fees to it by BPWTC the VAT consequently shifted or passed on to it. In addition, Level Up is required to issue the Certificate of Final Tax Withheld at Source (BIR Form No. 2306) in quadruplicate, the first three copies for BPWTC and the fourth copy for Level Up 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. Agreement between the Government of the Republic of the Philippines and the Government of the People's Republic of China for the Avoidance of Double Taxation and the Prevention of Fiscal Evasion with Respect to Taxes on Income. 2. "Game" means object. 3. "Commercialize" means to engage in Commercialization. 4. "Users" means any person who connects to the network platform provided by Licensee to play online Game. 5. "Game Peripherals" means any tangible, digital or intangible objects or things related to the Game which are developed by Licensor or by authorization form Prefect World, including but not limited to, dolls of Game Characters, stamps about game content, costumes with Game logos, daily products and items in the game, that are made available and sold to end users. 6. "Effective Date" means the date of the execution of the Agreement by the Parties. 7. "Game Service Fee" means a right bought by a User with money or credits or disposed of by Licensee in the ordinary course of its business to play the Game with a certain period of time. The Game Service Fee shall be denominated and calculated in terms of a certain amount of money. The carrier of the "Game Service Fee" can be point-counting card or other applicable means. Prior to start of commercial operations the Game, an agreement will be reached between the Parties on a standard for the method of determining the price of the Game service Fee, including a range or standard acceptable to both parties. Pursuant to this pricing standard, Licensee can adjust the amount line variety and price of Game Service Fee at its option and shall notify Licensor of the same in the monthly work report. 8. 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.