ITAD Ruling No. 010-02

January 28, 2002 ITAD RULING NO. 010-02 Art. 5, Art. 7, RP-Japan Tax Treaty BIR Ruling DA-577-99 Sycip Gorres Velayo & Co. 6760 Ayala Avenue Makati City Attention: J. A. Osana Gentlemen : This refers to your application for tax treaty relief dated August 20, 2001, on behalf of your client, ITOCHU Corporation-Japan ("Itochu-Japan"), requesting confirmation of the following: 1) that income derived by Itochu-Japan from the supply of firefighting equipment to the Department of the Interior and Local Government-Bureau of Fire Protection ("DILG-BFP") is not subject to Philippine income tax pursuant to the RP-Japan tax treaty; and 2) that the promissory notes to be issued by DILG to cover the deferred principal and interest payment are subject to the documentary stamp tax (DST) under the 1997 Tax Code. It is represented that Itochu-Japan is a trading corporation organized and existing under the laws of Japan with principal business address at 5-1, Kita-Aoyama 2-Chrome, Minato-Ku, Tokyo, Japan; that Itochu-Japan is registered as a corporation licensed to do business in the Philippines through its Manila branch (Itochu-Manila) as per SEC. REG. No. F-507 issued by the Securities and Exchange Commission (SEC) dated May 19, 1967; that Itochu-Japan filed with the SEC its amended Articles of Incorporation on July 26, 2000 and was certified thereof on August 23, 2000; that DILG-BFP is a government agency with principal office address at A. Francisco Gold Condominium II, EDSA cor. Mapagmahal St., Quezon City; that under the DILG Code of 1990, the DILG-BFP is tasked to provide firefighting facilities and equipment in every province, city and municipality; that on August 8, 2001, DILG-BFP entered into a Supply Contract with Itochu-Japan for the supply of firefighting equipment; that the contract will be undertaken directly by Itochu-Japan without the participation or intervention of Itochu-Manila Branch; that Itochu-Manila indeed did not participate in the negotiation and implementation of the Supply Contract; that in consideration of the said Supply Contract, the DILG-BFP shall issue promissory notes to cover the payment of the downpayment equivalent to 20% of the total contract price of 2,491,500,000.00 and the remaining 80% of said contract price shall be paid in accordance with the five-year deferred payment terms; and that it was further stipulated in the contract that the deferred payment shall bear interest (the "Deferred Interest") at the rate equal to two percent (2%) above TIBOR (the "Deferred Payment Interest Rate") accruing on and from the date of First Shipment of the Equipment until the Deferred Payment Principal has been paid in full, as stated in Section 5.2(c) of the Supply Contract. In reply, please be informed that Article 7 and Article 5 of the RP-Japan tax treaty provide as follows: "Article 7 Business Profits 1. The profits of an enterprise of a Contracting State shall be taxable only in that Contracting State unless the enterprise carries on business in the other Contracting State through a permanent establishment situated therein. If the enterprise carries on business as aforesaid, the profits of the enterprise may be taxed in that other Contracting State but only so much of them as is attributable to that permanent establishment. HCDAac xxx xxx xxx" "Article 5 Permanent Establishment 1. For the purposes of this Convention, the term "permanent establishment" means a fixed place of business through which the business of an enterprise is wholly or partly carried on. 2. The term "permanent establishment" includes especially: a) a store or other sales outlet; b) a branch; c) an office; d) a factory; e) a workshop; f) a warehouse; g) a mine, an oil or gas well, a quarry or other place of extraction of natural resources. xxx xxx xxx Moreover, in the case of Marubeni vs. CIR (G.R. No. 76573 dated September 14, 1989), it was held that: "The general rule that a foreign corporation is the same juridical entity as its branch office in the Philippines cannot apply here. This rule is based on the premise that the business of the foreign corporation is conducted through its branch office, following the principal-agent relationship theory. It is understood that the branch becomes its agent here. So that when the foreign corporation transacts business in the Philippines independently of its branch, the principal agent relationship is set aside . The transaction becomes one of the foreign corporation, not of the branch. Consequently, the taxpayer is the foreign corporation, not the branch or the resident foreign corporation. Corollarily, if the business transaction is conducted through the branch office, the latter becomes the taxpayer, and not the foreign corporation." (emphasis ours) Based on the foregoing provisions, the profits of a corporation which is a resident of Japan is taxable only in Japan, unless the Japanese corporation carries on business in the Philippines through a permanent establishment situated therein and the business profits are attributable to that permanent establishment. In the instant case, it has been represented that while the Japanese corporation maintains a Philippine branch, said branch is not engaged in the sale of firefighting equipment and does not have any participation whatsoever in the negotiation and implementation of the Supply Contract , so that income derived by Itochu-Japan in the sale of firefighting equipment to DILG-BFP made independently of its Philippine Branch shall be considered as income of Itochu-Japan, applying the above-cited case of Marubeni vs. CIR (G.R. No. 76573). Based on the foregoing, this Office is of the opinion and so holds that the income derived from the sale of the firefighting equipment by Itochu-Japan to DILG-BFP is not subject to Philippine income tax pursuant to the RP-Japan tax treaty. However, the interest that shall accrue on the deferred payment as stipulated under Article 5.2 of the Supply Contract shall be subject to the preferential tax rate of fifteen per cent (15%) not being paid in respect of government securities or bonds or debentures as provided under Article 11 of the RP-Japan tax treaty stated as follows: ARTICLE 11 "(1) Interest 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 interest may also be taxed in the Contracting State in which it arises, and according to the laws of that Contracting State, but if the recipient is the beneficial owner of the interest the tax so charged shall not exceed: (a) 10 per cent of the gross amount of the interest if the interest is paid in respect of Government securities, or bonds or debentures; (b) 15 per cent of the gross amount of the interest in all other cases. xxx xxx xxx "(5) The term "interest" as used in this Article means income from debt-claims of every kind, whether or not secured by mortgage and whether or not carrying a right to participate in the debtor's profits, and in particular, income from government securities and income from bonds or debentures, including premiums and prizes attaching to such securities, bonds or debentures." Furthermore, it is noteworthy that there appeared in the supply contract between DILG-BFP and Itochu-Japan the following provisions: Article 4 Price Taxes Duties and Fees 4.1 The Price specified in this Contract is for the Equipment which (i) is to be delivered based on CIF Manila, Philippines in accordance with the Shipment Schedule set forth in Section 6 below and (ii) contains the definition figuring the type of the specifications valid on the Contract Date. xxx xxx xxx 4.3 The Price shall be exclusive of any taxes, duties, charges, fees and other expenses including, without limitation, import duty, taxes, customs duties, bank charges, transportation charges resulting from customs, laws, administrative and legislative regulations in Buyer's country, the Philippines, all of which shall be for the account and responsibility of Buyer : (emphasis ours) xxx xxx xxx Article 6 Delivery/Shipment Schedule 6.1 Delivery/Shipment Schedule (a) The Supplier (Itochu-Japan) shall deliver the Equipment (Firefighting Equipment) in two Shipments to Buyer (DILG-BFP) in accordance with the terms of CIF Manila, Philippines . . . (emphasis ours) xxx xxx xxx The above in effect stipulates that Itochu-Japan shall deliver the equipment to DILG-BFP in two shipments and DILG-BFP shall shoulder the necessary taxes, duties, charges, fees and other expenses of the importation. Relative to the above, please be informed that the importation of the firefighting equipment by the DILG-BFP shall be subject to ten percent (10%) value added tax pursuant to Section 107 of the Tax Code of 1997 which provides as follows, viz: "Section 107. Value-added Tax on Importation of Goods . A. In General . There shall be levied, assessed and collected on every importation of goods a value-added tax equivalent to ten percent (10%) based on the total value used by the Bureau of Customs in determining tariff and customs duties, plus customs duties, excise taxes, if any, and other charges, such tax to be paid by the importer prior to the release of such goods from customs custody : Provided, That where the customs duties are determined on the basis of the quantity or volume of the goods, the value-added tax shall be based on the landed cost plus excise taxes, if any." (Emphasis ours) Section 4.100-7.(b) of Revenue Regulations 7-95 further provides: "Section 4.100-7. Value-Added tax on importation of goods . xxx xxx xxx (b) Applicability and Payment . The rates prescribed under Section 101 (a) [now Section 107(A)] shall be applicable to all importations withdrawn from customs custody. The value-added tax on importation shall be paid by the importer prior to the release of such goods from customs custody . "Importer" refers to any person who brings goods into the Philippines, whether or not made in the course of his trade or business . It includes non-exempt persons or entities who acquire tax-free imported goods from exempt persons, entities or agencies. (Emphasis ours) xxx xxx xxx" Moreover, the promissory notes executed by and between them shall be subject to the documentary stamp tax under Section 180 of the Tax Code of 1997. Section 180 of the Tax Code of 1997 provides: "Section 180. Stamp Tax on All Bonds, Loan Agreements, Promissory Notes, Bills of Exchange, Drafts, Instruments and Securities Issued by the Government or Any of its Instrumentalities, Deposit Substitute Debt Instruments, Certificates of Deposits Bearing Interest and Others Not Payable on Sight or Demand. On all bonds, loan agreements, including those signed abroad, wherein the object of the contract is located or used in the Philippines, bills of exchange (between points within the Philippines), drafts, instruments and securities issued by the Government or any of its instrumentalities, deposit substitute debt instruments; certificates of deposits drawing interest, orders for the payment of any sum of money otherwise than at sight or demand, on all promissory notes, whether negotiable or non-negotiable , except bank notes issued for circulation, and on each renewal of any such note, there shall be collected a documentary stamp tax of Thirty centavos (P0.30) on each Two Hundred pesos (P200), or fractional part thereof, of the face value of any such agreement, bill of exchange, draft, certificate of deposit, or note: Provided , That only one documentary stamp tax shall be imposed on either loan agreement, or promissory notes issued to secure such loan, whichever will yield a higher tax: Provided, however , That loan agreements or promissory notes the aggregate of which does not exceed Two Hundred Fifty Thousand Pesos (P250,000) executed by an individual for his purchase on installment for his personal use or that of his family and not for business, resale, barter or hire of a house, lot, motor vehicle, appliance or furniture shall be exempt from the payment of the documentary stamp tax provided under this Section." (emphasis ours) This ruling is issued on the basis of the foregoing facts as represented. However, if upon investigation it shall be discovered that the facts are different, then this ruling shall be considered null and void. aEDCAH Very truly yours, Commissioner of Internal Revenue By: (SGD.) EDMUNDO P. GUEVARA Deputy Commissioner Legal and Inspection Group