ITAD Ruling No. 010-01

February 12, 2001 ITAD RULING NO. 010-01 Art. 13, RP-US RP-Russia ITAD # 121-00 Laya Mananghaya & Co . 22/F Antel 1000 Corporate Center 139 Valero Street, Salcedo Village Makati City 1227 Attention: Atty . Remigio A . Noval Partner, Tax & Corporate Services Atty . Carolina A . Racelis Manager, Tax & Corporate Service Gentlemen : This refers to your request dated October 25, 2000 for tax treaty relief on behalf of PHILIPPINE COMPUTER ASSOCIATES INTERNATIONAL INC. (PCAII) that its royalty payments to CA MANAGEMENT INC. (CA-MGT) be subjected to the preferential tax rate of 15% pursuant to the most-favored-nation-clause (MFNC) under the RP-US Tax Treaty in relation to the RP-Russia Tax Treaty. It is represented that CA-MGT is a non-resident foreign corporation duly organized and existing under and by virtue of the laws of the State of Delaware, USA; that it is not registered as corporation/partnership in the Philippines as per Certification dated October 18, 2000; that PCAII is a corporation duly organized and existing under and by virtue of the laws of the Philippines, having its principal office at 30/F Philamlife Tower, 8767 Paseo de Roxas, Makati City; that PCAII and CA-MGT entered into a Distributor Agreement on April 1, 1994 with Certificate of Registration No. 1606 from the Technology Transfer Registry, Bureau of Patents, Trademarks and Technology Transfer of the Department of Trade & Industry (DTI); that PCAII is presently withholding 25% on royalty payments to CA-MGT as provided under the RP-US Tax Treaty. In reply, please be informed that Article 13 of the RP-US Tax Treaty provides, viz: "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. CTacSE 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. xxx xxx xxx" The "most favored nation" clause under Article 13(2)(b)(iii) of the RP-US Tax Treaty calls for the application of Article 12 of the RP-Russia Tax Treaty which provides: "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 State; 2. However, the royalties may also be taxed in the Contracting State in which they arise and according to the laws of the State, but the tax so charged shall not exceed 15 percent of the gross amount of royalties. xxx xxx xxx" Based on the foregoing, the tax imposed on royalties derived by a resident of the United States from sources within the Philippines shall be 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. The royalties arising from the Philippines and paid to a resident of Russia may also be taxed in the Philippines but the tax so charged shall not exceed 15 percent of the gross amount of royalties. The term "royalties" as used in this Article means any payment of any kind received as a consideration for the use of or right to use any patent, trademark, design or model, secret formula or process, or for the use of or the right to use, industrial, commercial or scientific experience. In the case of Commissioner of Internal Revenue vs. S.C. Johnson and Son and Court of Appeals, G.R. No. 127105 promulgated on June 25, 1999, the Supreme Court interpreted the "most favored nation" clause particularly the phrase "paid under similar circumstances" as referring to the matter of payment of taxes and not to the subject matter of the tax which is royalties. Hence, the "most favored nation" clause of the RP-US Tax Treaty must be interpreted not only in relation to Article 12 of the RP-Russia Tax Treaty but also in connection with the provisions on the elimination of double taxation of both the RP-US Tax Treaty and RP-Russia Tax Treaty. A perusal of the RP-US and RP-Russia Tax Treaties, particularly their provisions on the avoidance of double taxation, show that there is a similarity on the manner of payment of taxes, that is, allowable foreign tax credit on both treaties is the amount actually paid in the Philippines. In view thereof and as it appears that the lowest rate of the Philippine tax imposed on royalties of the same kind paid under similar circumstances is provided under the RP-Russia Tax Treaty, the payment of royalties by PCAII to CA-MGT is subject to fifteen percent (15%) preferential tax rate. The said tax rate shall be withheld and paid under similar circumstances as provided under RP-US Tax Treaty. (BIR Ruling ITAD No. 121-00) Moreover, the said royalties based on the net sales shall be subject to 10 percent value-added tax (VAT) pursuant to Section 108(A)(1) and (3) of the Tax Code of 1997. PCAII shall, before making payment of royalties to CA-MGT, withhold and remit to this Bureau the said 10 percent VAT due thereon by filing a separate VAT return for and on behalf of CA-MGT. The duly validated VAT declaration/return is sufficient evidence in claiming input tax credit. (Section 4.110-3(b) of Revenue Regulations No. 7-95) DcTaEH In fine, the royalties paid by PCAII to CA-MGT is subject to tax at the rate of 15 percent. Furthermore, PCAII shall, on behalf of CA-MGT, withhold the 10 percent VAT due by filing a separate VAT return for CA-MGT using BIR Form No. 1600. This ruling is issued based on the foregoing facts as represented. If upon investigation, it will be disclosed or discovered that the said facts are different, then this ruling shall be considered null and void. Very truly yours, Commissioner of Internal Revenue By: (SGD.) LILIAN B. HEFTI Deputy Commissioner Legal and Inspection Group