ITAD Ruling No. 100-01

October 26, 2001 ITAD RULING NO. 100-01 Art. 14, RP-US Tax Treaty Sec. 176, NIRC BIR Ruling No. ITAD 40-01 Bengzon Narciso Cudala Jimenez Gonzales & Liwanag (The Bengzon Firm) SOL Building, 112 Amorsolo Street Legaspi Village, 1229 Makati City Attention: Atty. Jose V. E. Jimenez Atty. Mary Jane B. Austria-Delgado This refers to your letter dated January 29, 2001 requesting confirmation of your opinion to the effect that the gains derived by Eichleay Engineers, Inc. (EEI) from the transfer of its shares in Eichleay Pacific Inc. (EPI) to Eichleay Engineers and Constructors, Inc. (EECI) are not subject to capital gains tax pursuant to the RP-US Tax Treaty. It is represented that EEI is a corporation organized under the laws of the United States of America, with office address at 6585 Penn Avenue, Pittsburgh, Pennsylvania, USA; that it is not registered as a corporation/partnership licensed to do business in the Philippines per certification issued by the Securities and Exchange Commission dated March 9, 2001 and is the registered holder of Eighty-Three Thousand Nine Hundred Ninety-Five (83,995) shares of stock in EPI, as well as the beneficial owner of five (5) other shares under the names of its nominee incorporators/directors or a total of Eighty Four Thousand (84,000) shares, with a par value of One Hundred Pesos (P100) per share; that EPI is a domestic corporation engaged in computer generated design documentation using Computer Aided Design and Drafting (CADD) for export; that EPI is a PEZA-registered Ecozone Export Enterprise (Reg. No. 00-019), with office address at IBM Plaza Bldg., Eastwood Cyberpark, Quezon City; that EECI is a corporation organized and existing under the laws of the United States of America; and that on December 22, 2000 by virtue of the Share Transfer Agreement executed by EEI and EECI, EEI sold, ceded, assigned, transferred and conveyed to the EECI the total of 84,000 shares of stock including the qualifying one (1) share each under the names of the aforesaid nominee Directors of EPI with a par value of P100 per share, constituting all of EPI's outstanding capital stock. In reply, please be informed that Article 14 of the RP-US Tax Treaty provides as follows: "Article 14 CAPITAL GAINS 1. Gains from the alienation of tangible personal (movable) property forming part of the business property of a permanent establishment which a resident of a Contracting State has in the other Contracting State or of tangible personal (movable) property pertaining to a fixed base available to a resident of a Contracting State in the other Contracting State for the purpose of performing independent personal services, including such gains from the alienation of such a permanent establishment (alone or together with the whole enterprise) or of such a fixed base, may be taxed in the other State. However, gains derived by a resident of a Contracting State from the alienation of ships, aircraft or containers operated by such resident in international traffic shall be taxable only in that State, and gains described in Article 13 (Royalties) shall be taxable only in accordance with the provisions of Article 13. 2. Gains from the alienation of any property other than those mentioned in paragraph 1 or in Article 7 (Income from Real Property) shall be taxable only in the Contracting State of which the alienator is a resident." xxx xxx xxx On the other hand, the Reservation Clause of the RP-US Tax Treaty, in pertinent part, provides: "Article 1 ". . . notwithstanding the provisions of Article 14 relating to the capital gains, both the United States and the Philippines may tax gain from the disposition of an interest in a corporation if its assets consists principally of a real property interest located in the country. Likewise, both countries may tax gain from the disposition of an interest in a partnership, trust or estate to the extent the gain is attributable to a real property interest in one of the countries. The term 'real property interest' is to have the meaning it has under the law of the country in which the underlying real property is located;" xxx xxx xxx It is clear from the aforequoted provisions that any capital gains which may be derived by EEI from the alienation of any property other than those mentioned in paragraph (1) of Article 14 or in Article 7 (Income from Real Property) of the RP-US Tax Treaty shall be taxable only in the State where the alienator is a resident. It is to be noted that under the Reservation Clause, the Philippines may tax the gains derived from the disposition of interests in a corporation if its assets consist principally of real property interest located in the Philippines. "Principally" means more than 50% of the entire assets in terms of value (Sec. 2, Revenue Regulations No. 4-86). Verification of the 1999 and 1998 Audited Financial Statements of EPI disclosed that it has no real property interest located in the Philippines, thereby making the assets of EPI not principally consisted of real property interest located in the Philippines. Accordingly, your opinion that the gains derived by Eichleay Engineers, Inc. (EEI) from the sale of its shares in Eichleay Pacific Inc. (EPI) to Eichleay Engineers and Constructors, Inc. (EECI) are not subject to capital gains tax is hereby confirmed. (BIR Ruling No. ITAD 40-01 dated April 6, 2001). However, the Share Transfer Agreement entered into by EEI and EECI shall be subject to the documentary stamp tax imposed under Section 176 of the Tax Code of 1997. This ruling is issued on the basis of the facts as represented. However, if upon investigation, it will be disclosed that the facts are different, then this ruling shall be considered null and void. Very truly yours, Commissioner of Internal Revenue By: (SGD.) MILAGROS P. REGALADO Assistant Commissioner Legal Service