ITAD BIR Ruling No. 284-12

July 17, 2012 ITAD BIR RULING NO. 284-12 Article 12, Philippines-Japan tax treaty; BIR Ruling No. ITAD 94-12 Nonato and Nonato Law Offices Room 406, Tulips Center A.S. Fortuna Street, Bakilid Mandaue City, Cebu Attention: Rolando P. Nonato Gentlemen : This refers to your tax treaty relief application ("TTRA") filed on May 25, 2009 requesting confirmation that royalties paid by Cebu Dai-Ichi, Inc. ("Cebu Dai-Ichi") to Dai-Ichi Seiko Company Ltd. ("Dai-Ichi Seiko") are subject to a reduced rate of income tax 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") . Facts Dai-Ichi Seiko is a foreign corporation and a resident of Japan based on the Certification issued by the Fushimi Tax Office in Japan on February 18, 2009. Dai-Ichi Seiko is located at 12-4 Negoro, Momoyama-cho, Fushimi-ku, Kyoto, Japan. It is not registered as a corporation or partnership in the Philippines based on the Certification of Non-Registration of Corporation/Partnership issued by the Securities and Exchange Commission on February 11, 2009. On the other hand, Cebu Dai-Ichi is a domestic corporation located at Mactan Economic Processing Zone I, Lapulapu City, Cebu, Philippines. It is registered with the then Export Processing Zone Authority ("EPZA") under Certificate of Registration No. 92-033 issued on June 9, 1992. On November 18, 2004, Cebu Dai-Ichi and Dai-Ichi Seiko entered into a Royalty Agreement where Dai-Ichi Seiko granted Cebu Dai-Ichi the right to use know-how relating to the manufacture, marketing and sale of molding dies, plastic parts and stamping metal pressed parts, and various industrial plastic products. The know-how encompasses all manufacturing knowledge (whether in the form of patented or unpatented inventions, formulas, procedures and methods) and current and accumulated skills or experience thereafter acquired on the use, sale or other disposition of the products. In consideration, Cebu Dai-Ichi will pay royalties to Dai-Ichi Seiko equivalent to five percent of its gross sales of the products. The royalties are computed and paid quarterly and payable in United States dollars. The Agreement took effect on November 1, 2004 for an initial period of one year and automatically renewed for another period of one year. The Agreement complies with the relevant provisions of the Intellectual Property Code on voluntary licensing based on Certificate of Compliance No. 5-2005-00039 issued by the Intellectual Property Office on April 5, 2005, valid from November 1, 2004 to October 31, 2005. ESHcTD However, based on the Certification issued by the General Manager of Cebu Dai-Ichi and by the President of Dai-Ichi Seiko on April 22, 2009, the Agreement continues to be in effect to date and will be in effect indefinitely. Ruling 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 fifteen 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. . ." (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. IaSAHC 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 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, since the subject TTRA was filed on May 25, 2009, and the Agreement that gives rise to the royalties has been in effect since November 1, 2004, this Office hereby DENIES relief on royalties paid by Cebu Dai-Ichi to Dai-Ichi Seiko before June 9, 2009, pursuant to Section III (2) of RMO 1-2000. Accordingly, said royalties shall be subject to income tax 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. 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%)" On the other hand, royalties paid to Dai-Ichi Seiko on June 9, 2009 and thereafter are subject to relief under paragraphs 1, 2, 3 and 4, Article 12 of the Philippines-Japan tax treaty, to wit: "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) 25 per cent of the gross amount of the royalties in all other cases. CEDHTa 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." The Protocol Amending 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, which took effect on January 1, 2009, reduced the rate in subparagraph (b) to 10 percent, to wit: "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: xxx xxx xxx b) 10 per cent of the gross amount of the royalties in all other cases." Under 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) 10 percent if the royalties are paid by a company registered with the Board of Investments and engaged in preferred pioneer areas of investment under the investment incentives laws of the Philippines; (b) 15 percent if the royalties are in respect of the use or the right to use of cinematograph films and films or tapes for radio or television broadcasting; and (c) before January 1, 2009, 25 percent in all other cases, and beginning January 1, 2009, 10 percent in all other cases. 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") . ESTcIA Accordingly, since the royalties paid by Cebu Dai-Ichi to Dai-Ichi for the use of know-how relating to the manufacture, marketing and sale of molding dies, plastic parts and stamping metal pressed parts, and various industrial plastic products, are not for the use of cinematograph films and films or tapes for radio or television broadcasting, such royalties paid to Dai-Ichi Seiko on June 9, 2009 and thereafter shall be subject to income tax at the rate of 10 percent pursuant to paragraph 2 (b), Article 12 of the Philippines-Japan tax treaty. (BIR Ruling No. ITAD 94-12 dated February 16, 2012) Finally, under Section 108 (A) of the Tax Code, the royalties, being payments for the use of intangible property (know-how) in the Philippines, are subject to value-added tax ("VAT"), to wit: "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 selling price or gross value in money of the goods or properties sold, bartered or exchanged, such tax to be paid by the seller or transferor: Provided, that the President, upon the recommendation of the Secretary of Finance, shall, effective January 1, 2006, 1 raise the rate of value-added tax to twelve percent (12%). . ." However, since Cebu Dai-Ichi, originally an EPZA-registered enterprise, is now governed by Republic Act No. 7916 2 and entitled to the same fiscal incentives available to enterprises registered with and administered by the Philippine Economic Zone Authority ("PEZA"), 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." Accordingly, since Dai-Ichi Seiko, the nonresident lessor of the know-how, is not a VAT registered taxpayer, such royalties for the use of the know-how paid to it by Cebu Dai-Ichi shall be treated as exempt from VAT and not subject to VAT at zero percent. In either case, no output VAT is shifted or passed-on to Cebu Dai-Ichi in the transaction. 3 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. TaCIDS Very truly yours, (SGD.) KIM S. JACINTO-HENARES Commissioner of Internal Revenue Footnotes 1. The VAT rate is increased to twelve percent 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. 2. 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. Section 11 thereof provides: "CHAPTER II GOVERNING STRUCTURES SEC. 11. The Philippine Economic Zone Authority (PEZA) Board. There is hereby created a body corporate to be known as the Philippine Economic Zone Authority (PEZA) attached to the Department of Trade and Industry. . . The existing Export Processing Zone Authority (EPZA) created under Presidential Decree No. 66 shall evolve into the PEZA in accordance with the guidelines and regulations set forth in an executive order issued for this purpose." 3. Revenue Regulations No. 16-2005 (Consolidated Value-Added Tax Regulations of 2005) , as amended, provides: "SEC. 4.106-5. Zero-Rated Sales of Goods or Properties. A zero-rated sale of goods or properties (by a VAT-registered person) is a taxable transaction for VAT purposes, but shall not result in any output tax. However, the input tax on purchases of goods, properties or services related to such zero-rated sale, shall be available as tax credit or refund in accordance with these Regulations." "SEC. 4.109-1. VAT-Exempt Transactions. (A) In general. 'VAT-exempt transactions' refer to the sale of goods or properties and/or services and the use or lease of properties that is not subject to VAT (output tax) and the seller is not allowed any tax credit of VAT (input tax) on purchases. The person making the exempt sale of goods, properties or services shall not bill any output tax to his customers because the said transaction is not subject to VAT."