ITAD BIR Ruling No. 318-14

December 15, 2014 ITAD BIR RULING NO. 318-14 Article 12, Philippines-Singapore Tax Treaty Gardenia Bakeries (Philippines), Inc. Gardenia Centre, Star Avenue Laguna International Industrial Park Mamplasan, Bian, Laguna Attention: Mr. Simplicio P. Umali General Manager Gentlemen : This refers to your application for tax treaty relief filed on May 6, 2013, on behalf of QAF Limited ("QAF") requesting confirmation that the royalty payments by Gardenia Bakeries (Philippines), Inc. ("Gardenia) to QAF are subject to the twenty-five percent (25%) preferential tax rate Convention between The Republic of the Philippines and The Republic of Singapore for the Avoidance of Double Taxation and the Prevention of Fiscal Evasion with Respect to Taxes on Income ("Philippines-Singapore tax treaty") . It is represented that QAF, with business address at 150 South Bridge Road, #09-04 Fook Hai Building, Singapore, is a corporation duly organized and existing under the laws of Singapore and is a resident of Singapore per Certificate of Residence issued by the Inland Revenue Authority of Singapore on January 24, 2013; that QAF is not registered either as a corporation or as a partnership as shown in the Certification of Non-Registration of Company issued by the Securities and Exchange Commission dated April 23, 2013; that, on the other hand, Gardenia is a domestic corporation duly organized and existing under Philippines laws with office address at Gardenia Centre, Star Avenue, Laguna International Industrial Park, Bo. Mamplasan, Bian, Laguna. It is also represented that on May 2, 2012, QAF and Gardenia entered into and executed an Agreement , which was registered with the Intellectual Property Office per Certificate of Compliance No. 5-2012-00031 dated April 22, 2013; that the Agreement was an amendment of the license agreement entered on November 1, 1999 and November 10, 2004 ("1999 Agreement"); that QAF and Gardenia mutually agreed to the termination and substitution of the 1999 Agreement which shall be effective on January 1, 2014 and shall be for a term of 10 years therefrom; that under the Agreement, QAF grants Gardenia the right to operate in the Philippines bakery plants utilizing the Gardenia Bakery System and to use certain Trademarks on bakery products; that QAF shall make available to Gardenia certain "know-how" formulations and technical information; that QAF shall provide technical assistance, marketing sales advertising promotions services and assistance in training the management staff; that in rendering the services mentioned, QAF may provide such number of qualified personnel as it deems reasonably necessary and shall bear the salaries of said personnel; that in consideration for the use of said formulations, technical information, provisions of technical and management services, Gardenia shall pay QAF royalties every quarterly in the amount equal to the percentage multiplied by the total of the Gross Sales: ScTCIE (i) 5% for the period from January 1, 2004 to December 31, 2018; and (ii) 5.25% for the period from January 1, 2019 to December 31, 2023. It is finally represented per Certification dated April 15, 2013 issued by Gardenia that the transaction subject of the above 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 taxpayer/s involved. In reply, please be informed that royalty payments to a nonresident foreign corporation are, in general, covered by Section 28 (B) (1) of the National Internal Revenue Code (Tax Code) of 1997, 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 . . ., 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: aETADI "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" In reply, please be informed that Article 12 of the Philippines-Singapore tax treaty states that: "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 law of that State, but, if the recipient is the beneficial owner of the royalties, the tax so charged shall not exceed: a) in the case of the Philippines, 15 per cent of the gross amount of the royalties, where the royalties are paid by an enterprise registered with the Philippine Board of Investments and engaged in preferred areas of activities and also royalties in respect of cinematographic films or tapes for television or broadcasting; aSADIC b) in the case of Singapore, where the royalties are approved under the Economic Expansion Incentives (Relief from Income Tax) Act of Singapore, the royalties shall be exempt; c) in all other cases, 25 per cent of the gross amount of the royalties. 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 cinematographic films or tapes for television or 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. 4. The provisions of paragraphs 1 and 2 of this Article shall not apply if the recipient of the royalties, being a resident of a Contracting State, carries on business in the other Contracting State in which the royalties arise through a permanent establishment situated therein, or performs in that other State professional services from a fixed base situated therein, and the right or property in respect of which the royalties are paid is effectively connected with such permanent establishment or fixed base. In such a case, the provisions of Article 7 or Article 14 of this Agreement, as the case may be, shall apply. xxx xxx xxx" The treaty defines "royalties" to include "payment of any kind received as a consideration for information concerning industrial, commercial or scientific experience." According to the commentaries of the ORGANISATION FOR ECONOMIC COOPERATION AND DEVELOPMENT (OECD) Committee on Fiscal Affairs on the Model Tax Convention [pars. 11 and 12, Commentary on Article 12 (Royalties), 2003, p. 175), such information alludes to the concept of "know-how". The definition adopted by the said Committee is, "all the undivulged technical information, whether capable of being patented or not, that is necessary for the industrial reproduction of a product or process, directly and under the same conditions; inasmuch as it is derived from experience, know-how represents what a manufacturer cannot know from mere examination of the product and mere knowledge of the progress of technique." In a know-how contract, one of the parties agrees to impart to the other, so that he can use them for his own account, his special knowledge and experience which can remain unrevealed to the public. IDSETA Based on the above, the herein payment by Gardenia to QAF fall under the definition of "royalties" under Article 12 of the Philippines-Singapore tax treaty. Inasmuch as Gardenia is not an enterprise registered with the Philippine Board of Investments (BOI) which is engaged in preferred areas of activities, and that the herein royalty payments are not in respect of cinematographic films and tapes for television or broadcasting, this Office is of the opinion and so holds that the royalty payments by Gardenia to QAF are subject to the preferential withholding tax rate of 25% of the gross amount of royalties pursuant to Article 12 (2) (c) of the Philippines-Singapore tax treaty. Moreover, the remuneration of QAF personnel who will render services to Gardenia under the provisions of the Agreement will be generally subject to Philippine income tax, unless the following conditions set forth in paragraph 2, Article 14 (Personal Services) of the Philippines-Singapore tax treaty below are all complied with: "Article 14 PERSONAL SERVICES 1. Subject to the provisions of Articles 15, 17, 18, and 19, salaries, wages and other similar remuneration or income for personal (including professional) services derived by a resident of a Contracting State, shall be taxable only in that Contracting State, unless the services are performed in the other Contracting State. If the services are so performed, such remuneration or income as is derived therefrom may be taxed in that other Contracting State. 2. Notwithstanding the provisions of paragraph 1, remuneration or income derived by a resident of a Contracting State for personal (including professional) services performed in the other Contracting State shall be taxable only in the first-mentioned Contracting State if: acADIT a) the recipient is present in the other Contracting State for a period or periods not exceeding in the aggregate 90 days in the case of professional services and 183 days in other cases, in the calendar year concerned; and b) the remuneration or income is paid by, or on behalf of, a person who is a resident of the first-mentioned Contracting State; and c) the remuneration or income is not borne directly by a permanent establishment which that person has in the other Contracting State. xxx xxx xxx" Paragraph 2 states that the subject remuneration will be exempt from tax if: (a) the personnel are present in the Philippines for an aggregate period or periods not exceeding 90 days in the case of professional services and 183 days in other cases, in the calendar year concerned; (b) the remuneration is paid by an employer who is not a resident of the Philippines; and (c) the remuneration is not borne by a permanent establishment which the employer has in the Philippines. In the instant case, the second and third conditions are satisfied by reason that the employer, QAF, is not a resident of the Philippines and it does not have a permanent establishment or a fixed place of business in the Philippines. Thus, remuneration of personnel involved in rendering the services mentioned herein shall be taxable based on whether or not the first condition under Article 14, paragraph 2 of the Philippines-Singapore tax treaty is fulfilled. Moreover, as provided in Section 108 of the Tax Code of 1997, the said royalty payments are subject to value-added tax (VAT). It 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%) 1 of gross receipts derived from the sale or exchange of services, including the use or lease of properties. xxx xxx xxx (3) The supply of scientific, technical, industrial or commercial knowledge or information; cIDHSC xxx xxx xxx" With regard to the procedures for the withholding and the payment of the VAT, pursuant to Sections 4 and 6 of Revenue Regulations (RR) No. 4-2002, Section 3 or RR No. 8-2002, Section 7 of RR No. 14-2002 and Section 4.114-2 of RR No. 16-05, as amended by RR No. 04-07 Gardenia shall be responsible for the withholding of VAT on the royalties fee before remitting it to QAF. In remitting to the Bureau of Internal Revenue the VAT withheld, Gardenia shall use BIR Form No. 1600 (Monthly Remittance Return of Value-Added Tax & Other Percentage Taxes Withheld). If it is a VAT-registered taxpayer, Gardenia 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, Gardenia may include as part of the cost of the royalty fees to it by, QAF the VAT consequently shifted or passed on to it. In addition Gardenia is required to issue the Certificate of Final Tax Withheld at Source (BIR Form No. 2306) in quadruplicate, the first three copies for, QAF and the fourth copy for Gardenia 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 Bureau of Internal Revenue Footnotes 1. 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.