ITAD Ruling No. 086-01

October 10, 2001 ITAD RULING NO. 086-01 Article 12, RP-Netherlands; BIR Ruling No. ITAD-67-00; BIR Ruling No. ITAD-54-99; BIR Ruling No. ITAD-141-00 Castillo Laman Tan Pantaleon & San Jose Law Offices The Valero Tower, 122 Valero Street 1227 Makati City Attention: Atty. Dina D. Lucenario/ Atty. J. Gregson A. Castillo Gentlemen : This refers to your application for relief from double taxation dated November 22, 2000 on behalf of your client Pascual Laboratories, Inc. (Pascual) requesting for a preferential tax rate of 15% on its royalty payments to MundiPharma B. V. (MundiPharma) pursuant to the RP-Netherlands Tax Treaty. It is represented that MundiPharma B.V. is a non-resident foreign corporation duly organized and existing under the laws of Netherlands with principal office at Van Alkemadelaan 1, 2597 A Den Haag, The Netherlands; that it is not registered as a corporation or partnership licensed to do business in the Philippines as per certification issued by the Securities and Exchange Commission dated January 4, 2001; that Pascual is a company organized and existing under the laws of the Philippines with principal office at 817 E. de los Santos Avenue, Quezon City; that on December 21, 2000, MundiPharma has entered into a Manufacturers License Agreement (MLA), Distributors License Agreement (DLA) and a Technical Assistance Agreement (TAA) with Pascual; that under the MLA and the DLA, in consideration of royalties from Pascual to MundiPharma, the latter grants the former the license to manufacture, package, warehouse, use, distribute, market, promote and sell as well as to package within the Philippines (the Territory) certain pharmaceutical preparations (the Preparations) using the know-how, trademarks and patents owned or licensed by MundiPharma; that under the TAA, in consideration of technical fees, MundiPharma agrees to provide Pascual technical assistance (i.e., certain of MundiPharmas proprietary and confidential procedures and technical expertise, knowledge and experience) as necessary to assist Pascual in the manufacture of the Preparations within the Territory. In reply, please be informed that Article 12 of the RP-Netherlands Tax Treaty provides, viz: Article 12 ROYALTIES 1. Royalties arising in one of the States and paid to a resident of the other State may be taxed in that other State. 2. However, such royalties may also be taxed in the 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: HTSaEC a) 10 per cent of the gross amount of the royalties where the royalties are paid by an enterprise registered, and engaged in preferred areas of activities in that State; and b) 15 per cent of the gross amount of the royalties in all other cases. 3. The competent authorities of the States shall by mutual agreement settle the mode of application of paragraph 2. 4. 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 cinematograph films or tapes for radio or television broadcasting, any patent, trademark, design or model, plan, secret formula or process, or for the use of, or the right to use, industrial, commercial or scientific equipment, or for information concerning industrial, commercial or scientific experience. xxx xxx xxx" Based on the foregoing, royalties arising in the Philippines and paid to a resident of Netherlands may be subject to Philippine tax at a rate not to exceed ten percent (10%) of the gross amount of royalties where such are paid by an enterprise registered and engaged in preferred areas of activities or fifteen percent (15%) of the gross amount of royalties in all other cases. The tax treaty defines "royalties" to include "payments of any kind received as a consideration for information concerning industrial, commercial or scientific experience." According to the Commentaries of the ORGANISATION FOR ECONOMIC CO-OPERATION AND DEVELOPMENT (OECD) Committee on Fiscal Affairs on the Model Tax Convention [par. 11, Commentary on Article 12 (Royalties), 1998, p. 151), such information alludes to the concept of "know-how" . The definition of know-how, which has been adopted by the said Committee, is "all the undivulged technical information, whether capable of being patented or not, that is necessary for the industrial reproduction of a product or process, directly and under the same conditions; inasmuch as it is derived from experience, know-how represents what a manufacturer cannot know from mere examination of the product and mere knowledge of the progress of technique." In the know-how contract, one of the parties agrees to impart to the other, so that he can use them for his own account, his special knowledge and experience which remain unrevealed to the public. ( BIR Ruling No. ITAD-67-00 dated April 7, 2000 ) Such being the case and since both the license fees under MLA and DLA and the technical fees pursuant to the TAA to be paid by Pascual are considered payments of any kind received as a consideration for the use of, or the right to use information concerning industrial, commercial or scientific experience and are, therefore, royalties within the meaning of the aforequoted article, this Office is of the opinion and so holds that both are subject to the preferential tax rate of 15 percent of the gross amount of royalties. ( BIR Ruling No. ITAD 54-99 dated December 23, 1999 and ITAD No. 141-00 dated September 19, 2000 ) Moreover, the said royalty payments are subject to the 10% value-added tax (VAT) pursuant to Sec. 108 of the Tax Code and that Pascual shall, before making payments of royalties to MundiPharma, withhold and remit to this Bureau the 10% VAT due thereon by filing a separate VAT return for and on behalf of MundiPharma using BIR Form 1600. The duly validated VAT declaration/return is sufficient evidence for Pascual in claiming input tax credit ( Sec. 4.110-3(b) of the Revenue Regulation No. 7-95 ). This ruling is issued on the basis of the foregoing facts as represented. However, if upon investigation, it shall be disclosed that the facts are different, then this ruling shall be rendered null and void. Very truly yours, Commissioner of Internal Revenue By: (SGD.) EDMUNDO P. GUEVARA Deputy Commissioner Legal & Inspection Group