ITAD Ruling No. 081-02

May 2, 2002 ITAD RULING NO. 081-02 NIRC, Sec. 27 (D) (3) BIR Ruling No. ITAD-196-00 Hongkong and Shanghai Banking Corp. Ltd. The Enterprise Center, Tower I 6766 Ayala Avenue corner Paseo de Roxas 1200 Makati City Gentlemen : This refers to your letter dated February 26, 2001 requesting clarification whether the following can be considered as interest on money lent such that the same will qualify for the preferential tax rates provided in Philippine tax treaties: 1. Interest on deposit accounts which includes demand, savings or time deposits maintained in Philippine banks by residents of other countries with which the Philippines has an existing treaty. 2. Interest on funds temporarily maintained by offshore (foreign) investors in the Philippines for the purchase of portfolio investments or for outward remittance of the divestment proceeds to the offshore investors who are residents in the countries with which the Philippines has an existing treaty. It is represented that as for item no. 2, your company acts as custodian for the offshore clients which make foreign investments in the Philippines; that each of these clients maintain a cash account for purposes of settling the securities investments and divestments to allow the client to effect a delivery-versus payment settlement with its onshore counterpart; and that your company pays interest on the said cash account at fixed rates equivalent to savings deposit account interest rates. In reply, please be informed that in all of the tax treaties entered into by the Philippines with other countries, interest is defined as 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, which includes particularly government securities and income from bonds or debentures. ITcCSA It is provided under Article 1980 of the New Civil Code of the Philippines that "fixed, savings, and current deposits of money in banks and similar institutions shall be governed by the provisions concerning simple loan." This provision is interpreted by the Supreme Court in the case of Guingona, Jr. vs. City Fiscal of Manila , 128 SCRA 577 promulgated on April 4, 1984; wherein the Highest Tribunal held that the relationship between a depositor and a bank is that of a creditor and a debtor since such deposits are in reality loans to a bank. Consequently, the ownership of the amount deposited is transferred to the bank to be used for its own transactions and for other banking operations. While the bank has the obligation to return the amount deposited, however, it has no obligation to return or deliver the same money that was deposited. Moreover, they are loans and not mere deposits because they earn interest. Hence, the interest on money deposits on banks falls within the purview of the definition of interest under the Philippine tax treaties as an interest income from a debt claim. Moreover, according to the Commentaries of the ORGANIZATION FOR ECONOMIC CO-OPERATION AND DEVELOPMENT (OECD) Committee on Fiscal Affairs on the Model Tax Convention [par. 3, Commentary on Article 11 (Interest), c1998, p. 141], "the term 'debt claims of every kind' obviously embraces cash deposits and security in the form of money, as well as government securities, and bonds and debentures, although the three latter are specially mentioned because of their importance and of peculiarities that they may present." (BIR Ruling No. ITAD-196-00 dated December 7, 2000) Such being the case, deposits of money in banks which include demand, savings or time deposits as well as cash accounts maintained in Philippine banks by residents and offshore investors of other countries with which the Philippines has an existing treaty fall under the purview of the term "interest" and will qualify for the preferential tax rates provided under Philippine tax treaties. Finally, as regards interest income derived by nonresident foreign individuals and corporations from transactions with local depositary banks under the foreign currency deposit system, the same shall be exempt from Philippine income tax pursuant to Section 27(D)(3) of the National Internal Revenue Code of 1997. As for the procedure and the necessary documents required for the processing of tax treaty relief application to avail of the preferential tax treaty rates on interest income, attached herewith for your perusal are copies of the Revenue Memorandum Order No. 1-2000 and BIR Form 0901, respectively. For your information and guidance. Very truly yours, Commissioner of Internal Revenue By: (SGD.) MILAGROS V. REGALADO Assistant Commissioner Legal Service