ITAD Ruling No. 027-01

March 12, 2001 ITAD RULING NO. 027-01 RP Singapore, Article 11 Section 39, NIRC 1997 BIR Ruling ITAD 164-00. Sycip, Salazar, Hernandez & Gatmaitan Sycip All Asia Capital Center 105 Paseo de Roxas, City of Makati Attention: Atty. Ernesto S. Taino, Jr. Gentlemen : This refers to your letter dated October 25, 1999, requesting for a ruling that interest payments made by Lapanday Holdings Corporation to ST Merchant Capital Pte Limited are subject to preferential tax rate of 15% and capital gains are tax-exempt pursuant to the RP-Singapore Tax Treaty. It is represented that ST Merchant Capital Pte Limited (ST Merchant) is a corporation organized and existing under the laws of Singapore; that it has no permanent establishment in the Philippines as evidenced by Certificate of Non-Registration issued by the Securities and Exchange Commission dated October 5, 1999; that ST Merchant holds Secured Floating Notes Due 2000 (the Note) issued by La Panday Holdings Corporation (Lapanday) , a corporation organized and existing under the laws of the Philippines; that the Notes are issued in registered form in the amounts of US $100,000 or an integral multiple of US $100,000 in principal amount of Notes; that title to the Notes will pass by registration in the register of the Note holders; that the rate of interest applicable to the Notes is the aggregate of one percent plus the Singapore Inter-Bank Offered Rate; that the interest is payable every six months from the date of issue (Issue Date) on the interest .payment date; that the corporation may retire and redeem the notes on an interest payment date falling due in December 2000, that if the Notes are in fact retired, ST Merchant will receive, in addition to the principal, an amount which is referred to as "upside share" calculated on the basis of notional and hypothetical transaction as if ST Merchant had exercised an option to purchase from Lapanday a certain number of shares of Macondray & Co., Inc. (MCI) a subsidiary of Lapanday , at a specified price; that the said notional transaction never actually happened; that no shares in MCI are ever transferred to ST Merchant . In reply, pleased be informed. that Article 11 of the RP-Singapore Tax Treaty provides, viz: "Article 11 "Interest 1. Interest 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 interest may be taxed in the Contracting State in which it arises, and according to the law of that State, but if the recipient is the beneficial owner of the interest the tax so charged shall not exceed 15 percent of the gross amount of the interest. The competent authorities of the Contracting State shall by mutual agreement settle the mode of application of this limitation. 3. 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, as well as income assimilated to income from money lent by the taxation law of the State in which the income arises, including interest on deferred payment sales. Penalty charges for the late payment shall not be regarded as interest for purposes of this Article. (emphasis supplied) "xxx xxx xxx" Based on the foregoing provisions the preferential tax rate to be withheld by Lapanday on its interest payment to ST Merchant shall be fifteen percent (15%) of the gross amount of the interest. The Tax Treaty defines " interest" to "include income from bonds or debentures, including premiums and prizes attaching to such bonds or debentures." Thus it may refer to any amount that the issuer of the bond or debenture pays; at the redemption or at the issue, that is over and above the amount paid by the subscriber. This interpretation is founded on the Commentaries of the ORGANIZATION FOR ECONOMIC COOPERATION AND DEVELOPMENT (OECD) Committee on Fiscal Affairs on the Articles of the Model Convention thus: SEIcAD "As regards, more particularly, government securities, and bonds and debentures, the text specifies that premiums or prizes attaching thereto constitute interest. Generally speaking, what constitute interest yielded by a loan security, and may properly be taxed as such in the State of source, is all that the institution issuing the loan pays over and above the amount paid by the subscriber, that is to say, the interest accruing plus any premium paid at the redemption or at issue . . . (emphasis supplied) Accordingly the Upside share remitted to ST Merchant is included in the definition of interest and therefore subject to the preferential tax rate of 15% pursuant to RP-Singapore Tax Treaty . It is true that Section 39 of the Tax Code of 1997 it is provided that: "SEC. 39. Capital Gains and Losses . xxx xxx xxx (E) Retirement of Bonds, Etc For the purpose of this Title, amounts received by the holder upon retirement of bonds, debentures, notes or certificates or other evidences of the indebtedness issued by any corporation (including those issued by a government or political subdivision thereof) with interest coupons or in registered form, shall be considered as amounts received in exchange therefor. xxx xxx xxx" This section regards the retirement of the Notes held by ST Merchant as capital asset transaction and any gain derived therefrom is considered a capital gain from the exchange of the note. However, the aforequoted provisions of the Tax Code will only apply if no tax treaty exist between the government of the Philippines and Singapore, and the term "interest" is not defined so as to include premiums paid by the debtor upon retirement of an obligation. In case of conflict between a tax treaty and the Tax Code, the former shall prevail. This is so because a tax treaty is in the nature of a special law, i.e., a law which relates to particular persons or things of a class or to a particular portion or section of the State, which, in the case of the RP-Singapore Tax Treaty, the residents of Singapore insofar as the Philippines is concerned. On the other hand, the Tax Code is in the nature of a general law or that which applies to all of the people of the State or to all of a particular class of persons in the State with equal force. It is a rule in statutory construction that a general law and a special law on the same subject should be read together and harmonized, if possible, with a view to giving effect to both. In case of conflict between the two, the special law shall prevail. The fact that one law is special and the other general, creates presumption that the special law is to be considered as remaining an exception to the general law, one as a general law of the land and the other as the law of a particular case. Furthermore, this office adopts the commentary of the (OECD) in not referring to the Tax Code in interpreting paragraph 3 of Article 11 (Interest) of the said Model Convention, viz: " . . . the definition of the interest in the first sentence of paragraph 3 is, in principle, exhaustive. It has seemed preferable not to include a subsidiary reference to domestic laws in the text; this is justified by the following considerations; a.) the definition covers practically all the kinds of income which are regarded as interest in the various laws; b.) the formula employed offers greater security from the legal point of view and ensures that the conventions would be unaffected by future changes in any country's domestic laws; c.) in the Model Convention references to domestic laws should as far as possible be avoided. xxx xxx xxx" In view of all the foregoing, this Office hereby confirms your opinion that the preferential tax rate of 15% of the gross amount of interest should be applied on the interest payments of Lapanday to ST Merchant. Moreover, for reasons abovestated, the Upside Share remitted by Lapanday to ST Merchant is likewise subject to the treaty rate of 15% on interest. (BIR Ruling ITAD 164-00) This Secured Floating Notes Due 2000 shall also be subject to documentary stamp tax imposed under Section 180 of the Tax Code of 1997. This ruling is issued based on the foregoing facts as represented. If upon investigation, it will be disclosed that the said facts are different, then this ruling shall be considered null and void. AcHSEa Very truly yours, Commissioner of Internal Revenue By: (SGD.) LILIAN B. HEFTI Deputy Commissioner Legal and Inspection Group