ITAD BIR Ruling No. 324-14

December 18, 2014 ITAD BIR RULING NO. 324-14 Art. 13, Philippines-United States of America Tax Treaty Manabat Sanagustin & Co., CPAs 9th Floor, The KPMG Center 6787 Ayala Avenue 1226 Makati City Attention: Atty. Manuel P. Salvador III Principal, Tax Gentlemen : This refers to your tax treaty relief application filed on October 16, 2012 requesting confirmation that royalties paid by WYETH PHILIPPINES, INC. ("Wyeth Philippines") to WYETH LLC ("Wyeth") are subject to the preferential rate of 10 percent pursuant to the "most-favored nation" clause under Article 13 of the Convention between the Government of the Republic of the Philippines and the Government of the United States of America with Respect to Taxes on Income ("Philippines-US tax treaty") in relation to Article 12 of the 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 ("Philippines-China tax treaty"). Facts: It is represented that Wyeth is a resident of the United States of America and a resident thereof based on the Certification issued by the Internal Revenue Service, Philadelphia, PA 19255 on July 9, 2012; that Wyeth is situated at Five Giralda Farms, Madison, New Jersey, 07940, United States of America; that Wyeth is not registered as a corporation or partnership in the Philippines as confirmed by the Certification of Non-Registration of Company issued by the Securities and Exchange Commission on October 10, 2012; that, on the other hand, Wyeth Philippines is a domestic company situated at 2236 Chino Roces Avenue, Makati City, Philippines and registered with the Board of Investments as New Producer of Infant Formula as evidenced by the Certificate of Registration No. 2006-035 dated March 8, 2006. It is further represented that Wyeth Philippines and Wyeth amended the License Agreement dated January 1, 2003, on January 1, 2008 replacing Annexes B and D in their entirety, as follows: HSDaTC Trademark Names Trademark Name Description Generic Name 2ND Age Bonamil Powder Follow-on Formula 3m Age Bonakid Powder Follow-on Formula 3m Age Promil Kid Powder Follow-on Formula Bonakid Powder Infant Formula Bonakid Preschool Powder Infant Formula Bonamil Powder Infant Formula Bonna Powder Infant Formula Nursoy Powder Infant Formula Progress Powder Infant Formula Progress Gold Powder Follow-on Formula Promil 2ND Age Powder Follow-on Formula Promil Global Powder Follow-on Formula Promil Gold Powder Follow-on Formula Promil Kid Powder Follow-on Formula Promil LF Powder Follow-on Formula S-26 Powder Infant Formula S-26 Gold Powder Infant Formula S-26 Lactose Free Powder Infant Formula Auralgan Drops Benzocaine, Antipyrine Fibrosine Powder Maltodextrin Iselpin Tablets Sucralfate Isordil Tablets Isosorbide Dinitrate Advil Liquid/Suspension Ibuprofen Advil Children's Liquid/Suspension Ibuprofen Clusivol Syrup, Hand Caps, Gel Caps, Multivitamin Preparation Tablets, Pediatric Drops, Power C Syrup Dimetapp Syrup Brompheniramine Maleate, Phenylephrine Hydrochloride Loviscol Syrup, Capsules Carboceisteine Polymagma Tablets Attapulgite Robitussin Syrup, Capsules, Liqui-gels Guaiphenesin Robitussin DM Syrup Dextromethorphan Hydrobromiede, Guaiphenesin, Alcohol Simeco Tablets Aluminum Hydroxide, Magnesium Hydroxide, Simethicone Royalty Rates Product Generic Name Royalty Rates 2ND Age Bonamil Follow-on Formula 5.0% 3m Age Bonakid Follow-on Formula 5.0% 3m Age Promil Kid Follow-on Formula 5.0% Bonakid Infant Formula 5.0% Bonakid Preschool Infant Formula 5.0% Bonamil Infant Formula 5.0% Bonna Infant Formula 5.0% Nursoy Infant Formula 5.0% Progress Infant Formula 5.0% Progress Gold Follow-on Formula 5.0% Promil 2ND Age Follow-on Formula 5.0% Promil Global Follow-on Formula 5.0% Promil Gold Follow-on Formula 5.0% Promil Kid Follow-on Formula 5.0% Promil LF Follow-on Formula 5.0% S-26 Infant Formula 5.0% S-26 Gold Infant Formula 5.0% S-26 Lactose Free Infant Formula 5.0% Auralgan Benzocaine, Antipyrine 2.0% Fibrosine Maltodextrin 2.0% Iselpin Sucralfate 2.0% Isordil Isosorbide Dinitrate 2.0% Advil Ibuprofen 2.0% Advil Children's Ibuprofen 2.0% Clusivol Multivitamin Preparation 2.0% Dimetapp Brompheniramine Maleate, 2.0% Phenylephrine Hydrochloride Loviscol Carboceisteine 2.0% Polymagma Attapulgite 2.0% Robitussin Guaiphenesin 2.0% Robitussin DM Dextromethorphan Hydrobromiede, 2.0% Guaiphenesin, Alcohol Simeco Aluminum Hydroxide, Magnesium 2.0% Hydroxide, Simethicone It is further represented that the Agreement shall commence on January 1, 2008 and shall be effective and binding as to each Product on the date of the initial commencement of the manufacture of such Product by or on behalf of Wyeth Philippines, on which date the Agreement shall supersede all other agreements with respect to the subject matter as such agreements relate to such Product. Said Agreement shall remain in effect for a period of three (3) years and shall be automatically renewed for successive one (1)-year periods subjection to the termination provisions. It is finally represented that the gains subject of this ruling are not under investigation, on-going audit, administrative protest, claim for refund or issuance of a tax credit certificate, collection proceedings, or judicial appeal, based on the Sworn Statement issued by the Finance Director of Wyeth Philippines on October 10, 2012. Ruling: In reply, please be informed that Section 28 (B) (1) of the National Internal Revenue Code (" Tax Code ") of 1997, as amended, provides that the fees paid to Wyeth, being a foreign corporation not engaged in trade or business in the Philippines, are subject to income tax in the Philippines at the rate of 30 percent, thus: "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 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): Provided, That effective January 1, 2009, the rate of income tax shall be thirty percent (30%). DTIACH xxx xxx xxx" However, under Section 32 (B) (5) of the Code, such fees may be exempt from income tax or subject to a reduced rate to the extent required by any treaty obligation on the Philippines, thus: "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" Paragraphs 1, 2 and 3, Article 13 of the Philippines-US tax treaty, provide: "Article 13 Royalties 1. Royalties derived by a resident of one of the Contracting States from sources within the other Contracting State may be taxed by both Contracting States. 2. However, the tax imposed by that other Contracting State shall not exceed a) In the case of the United States, 15 percent of the gross amount of the royalties, and b) In the case of the Philippines, the least of: (i) 25 percent of the gross amount of the royalties, (ii) 15 percent of the gross amount of the royalties, where the royalties are paid by a corporation registered with the Philippine Board of Investments and engaged in preferred areas of activities, and (iii) the lowest rate of Philippine tax that may be imposed on royalties of the same kind paid under similar circumstances to a resident of a third State. EIDATc 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 films or tapes used for radio or television broadcasting, any patent, trade mark, design or model, plan, secret formula or process, or other like right or property, or for information concerning industrial, commercial or scientific experience. The term 'royalties' also includes gains derived from the sale, exchange or other disposition of any such right or property which are contingent on the productivity, use, or disposition thereof. (underlining supplied) xxx xxx xxx" Paragraph 2 (b) (iii) above provides that royalties arising in the Philippines and derived by a resident of the United States shall be subject to the lowest rate of Philippine income tax that may be imposed on royalties of the same kind paid under similar circumstances to a resident of a third State (commonly known as the most-favored-nation tax treatment of royalties). The Supreme Court in Commissioner of Internal Revenue vs. S.C. Johnson and Son, Inc. and Court of Appeals (G.R. No. 127105 dated June 25, 1999) has cited two conditions for royalties arising in the Philippines and derived by a resident of another country (in this case, the United States) to be qualified for a most-favored-nation tax treatment. First, the royalties in question derived by a resident of the other country (the United States) must be of the same kind as those derived by a resident of the third country which are subject to the most-favored-nation tax treatment under the existing tax treaty between the Philippines and the third country. Second, the mechanism employed by the other country (the United States) in mitigating the effects of double taxation of foreign-sourced income derived by its residents must be the same with that employed by the third country, which can be determined by taking into account and comparing the respective articles on Elimination of Double Taxation of the other country (the United States) and the third country under their respective tax treaties with the Philippines. In looking for a third country which grants a most-favored-nation tax treatment on royalties, you cited the People's Republic of China, particularly, the 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 (Philippines-China tax treaty) which entered into force on March 23, 2001, and whose provisions on taxes apply on income derived or which accrued beginning January 1, 2002. Article 12 of this tax treaty 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 AICHaS 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. xxx xxx xxx" According to paragraph 2, royalties arising in the Philippines and derived by a resident of the People's Republic of China are subject to income tax at the rate of (a) 15 percent of the gross amount of the royalties for royalties arising from the use of, or the right to use, any copyright of cinematograph films, and films or tapes for television or radio broadcasting, or (b) 10 percent of the gross amount of the royalties arising from the use of, or the right to use, any copyright of literary, artistic or scientific work (except those for cinematograph films, and films or tapes for television or radio broadcasting), 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. Applying the Philippines-China tax treaty, the royalty fee to be paid by Wyeth Philippines to Wyeth for the use of the licenses, may be subject to 10 percent based on the gross amount thereof, provided the two conditions for the most-favored-nation tax treatment of royalties (as described above) are both satisfied. On whether the first condition is satisfied, we note that under paragraph 3, Article 13 of the Philippines-US tax treaty quoted below, payments received as a consideration for the use or the right to use of patents, information concerning industrial, commercial or scientific experience (know-how), and copyright of literary, artistic or scientific work to which the royalty fee for the use or the right to use of the Licensed Patents, Licensed Trademark and Technical Information are assimilated, respectively, are all considered royalties, thus: "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 films or tapes used for radio or television broadcasting, any patent, trade mark, design or model, plan, secret formula or process, or other like right or property, or for information concerning industrial, commercial or scientific experience. The term 'royalties' also includes gains derived from the sale, exchange or other disposition of any such right or property which are contingent on the productivity, use, or disposition thereof." TDSICH In the same manner, although lacking a separate paragraph for the definition of royalties in its article, paragraph 2 (a), Article 12 of the Philippines-China tax treaty, as quoted above, provides that royalties arising from the use or the right to use of patents, information concerning industrial, commercial or scientific experience (know-how), and copyright of literary, artistic or scientific work, among others, are subject to income tax rate of 10 percent of the gross amount thereof. This being the case, the first condition for the most-favored-nation tax treatment of royalties is satisfied, which requires the royalties derived by a resident of the US must be of the same kind as those derived by a resident of China. As to the second condition, under paragraph 1, Article 23 of the Philippines-US tax treaty below, the mechanism employed in mitigating the effects of double taxation of income from foreign source is the ordinary credit method. It provides: "Article 23 Relief from Double Taxation Double taxation of income shall be avoided in the following manner: 1. In accordance with the provisions and subject to the limitations of the law of the United States (as it may be amended from time to time without changing the general principle hereof), the United States shall allow to a citizen or resident of the United States as a credit against the United States tax the appropriate amount of taxes paid or accrued to the Philippines and, in the case of a United States corporation owning at least 10 percent of the voting stock of a Philippine corporation from which it receives dividends in any taxable year, shall allow credit for the appropriate amount of taxes paid or accrued to the Philippines by the Philippine corporation paying such dividends with respect to the profits out of which such dividends are paid. Such appropriate amount shall be based upon the amount of tax paid or accrued to the Philippines, but the credit shall not exceed the limitations (for the purpose of limiting the credit to the United States tax on income from sources within the Philippines or on income from sources outside the United States) provided by United States law for the taxable year. For the purpose of applying the United States credit in relation to taxes paid or accrued to the Philippines, the rules set forth in Article 4 (Source of Income) shall be applied to determine the source of income. For purposes of applying the United States credit in relation to taxes paid or accrued to the Philippines, the taxes referred to in paragraphs 1(b) and 2 of Article 1 (Taxes Covered) shall be considered to be income taxes. EDSHcT xxx xxx xxx" Under the ordinary credit method, the US (as country of residence) would limit a taxpayer's allowable tax credit to that portion of the taxpayer's tax liability in the US that is attributable to the income that is taxed in the Philippines (the country of source or country of situs). As a result of this limitation, if the Philippines has an effective tax rate that exceeds the effective tax rate of the US on a particular income, the US would not grant the taxpayer a full credit for the income tax imposed by the Philippines on such income. In the same manner, under paragraph 1, Article 23 of the Philippines-China tax treaty below, it can be seen that that ordinary credit method is also employed by China as a mechanism for mitigating the effects of double taxation of income derived by its residents from foreign sources, thus: "Article 23 Methods for the Elimination of Double Taxation 1. In China, double taxation shall be eliminated as follows: Where a resident of China derives income from the Philippines the amount of tax on that income payable in the Philippines in accordance with the provisions of this Agreement, may be credited against the Chinese tax imposed on that resident. The amount of the credit, however, shall not exceed the amount of the Chinese tax on that income computed in accordance with the taxation laws and regulations of China. 2. In the Philippines, double taxation shall be eliminated as follows: Subject to the laws of the Philippines and the limitations thereof regarding the allowance of a credit against Philippine tax of tax payable in any country other than the Philippines. Chinese tax payable in respect of income derived from China shall be allowed as credit against the Philippine tax payable in respect of that income. xxx xxx xxx" This being the case, the second condition for the most-favored-nation tax treatment of royalties, which requires that the mechanism employed by the US in mitigating the effects of double taxation of income derived by its residents from foreign sources must be the same with that employed by China, is also satisfied. In fine, by reason that all the conditions for the most-favored-nation tax treatment of royalties laid down by the Supreme Court in the S.C. Johnson case are satisfied, royalty fees to be paid by Wyeth Philippines to Wyeth for the use of the licenses granted, is subject to 10 percent income tax based on the gross amount thereof. aSDHCT Finally, the royalties payable to Wyeth are subject to value-added tax ("VAT") under Section 106 of the Tax Code, as amended, provides: "SEC. 106. Value-added Tax on Sale of Goods or Properties. (A) Rate and Base of Tax. 1 There shall be levied, assessed and collected on every sale, barter or exchange of goods or properties, a value-added tax equivalent to ten percent (10%) of the gross 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, 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%). (1) The term 'goods' or 'properties' shall mean all tangible and intangible objects which are capable of pecuniary estimation and shall include: (a) Real properties held primarily for sale to customers or held for lease in the ordinary course of trade or business; (b) The right or the privilege to use patent, copyright, design or model, plan, secret formula or process, goodwill, trademark, trade brand or other like property or right; xxx xxx xxx" With regard to the procedures for the withholding and payment of VAT, Wyeth Philippines shall withhold VAT on the royalties at the rate of 12 percent before remitting them to Wyeth. In remitting to the Bureau of Internal Revenue the VAT withheld, Wyeth Philippines shall use BIR Form No. 1600 (Monthly Remittance Return of VAT and Other Percentage Taxes Withheld). In addition, Wyeth Philippines is required to issue in quadruplicate the Certificate of Final Tax Withheld at Source (BIR Form No. 2306), the first three copies for Wyeth and the fourth copy for Wyeth Philippines as its file copy. 2 SECcAI 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 increase in the VAT rate to 12 percent beginning February 1, 2006, pursuant to the Provisions of Republic Act No. 9337, was announced in Revenue Memorandum Circular No. 7-06 (January 31, 2006). 2. Pursuant to Revenue Regulations No. 16-2005 (Consolidated Value-Added Tax Regulations of 2005), as amended.