ITAD Ruling No. 113-03

August 1, 2003 ITAD RULING NO. 113-03 Art. 11, RP-Japan Secs. 28 (B) (1) & 42 (A) (3), Tax Code BIR Ruling No. DA-ITAD 21-99 Sycip Gorres Velayo & Co. 6760 Ayala Avenue 1226 Makati City Attention: E.C. Alcantara Tax Division Gentlemen : This refers to your letter dated March 28, 2003 on behalf of your client, San Roque Power Corporation (SRPC), requesting confirmation of your opinion, as follows: 1. The interest income that will be derived by SRPC's non-resident foreign lender-banks from loans financed or guaranteed by the Export-Import Bank of Japan (JEXIM) is not subject to final withholding tax in the Philippines pursuant to Article 11, paragraph 4 of the RP-Japan tax treaty; 2. The interest income that will be derived by Japanese resident lender-banks from loans other than those financed or guaranteed by any of the financial institutions enumerated under the RP-Japan tax treaty is subject to the preferential tax rate of 10% final withholding tax in the Philippines to be withheld by residents of the Philippines that are registered with the Board of Investments and engaged in preferred pioneer areas of investment under the investment incentives laws of the Philippines pursuant to Article 11, paragraph 3, of the RP-Japan tax treaty; 3. (a) The income of JEXIM from commitment fees, guarantee fees, front-end fees, (b) the income of the JEXIM agent, Bank of Tokyo-Mitsubishi, Ltd. (BOTM) for Tranche A and Tranche B, from agency fees and (c) the income of Tranche C agent, Sumitomo Bank, Ltd. from agency fees and commitment fees, all paid by SRPC, are not subject to final withholding tax in the Philippines pursuant to Article 7, paragraph 1 of the RP-Japan tax treaty. It is represented that San Roque Power Corporation (SRPC) was incorporated under Philippine laws in October 1997 to design, construct, erect, assemble, own, commission, and operate power-generating plants and related facilities pursuant to and under contract with the Government of the Republic of the Philippines or any subdivision, instrumentality or agency thereof, or any government-owned or controlled corporation, or other entity engaged in the development, supply, or distribution of energy. That on October 11, 1997, SRPC entered into a Power Purchase Agreement ("PPA") with the National Power Corporation ("NPC') to develop the hydropotential of the Lower Agno River and generate additional power and energy for the Luzon Power Grid, by building the San Roque Multi-Purpose Project located in San Manuel, Pangasinan. The PPA provides, among others, that SRPC shall be responsible for the design, construction, installation, completion, testing, and commissioning of the Power Station and shall operate and maintain the same subject to NPC instructions. That the San Roque Multi-Purpose Project is funded by (a) loans from the Export-Import Bank of Japan (JEXIM) Tranche A Senior Loans, (b) syndicated loans from the private sector guaranteed by JEXIM Tranche B Senior Loans, and (c) syndicated loans from the private sector Tranche C Senior Loans. The loans financed or guaranteed by JEXIM are pursuant to JEXIM Credit Facility Agreement, JEXIM Participation Agreement, and Political Risk Guarantee Agreement all dated October 27, 1998, and the loans financed by the private sector are pursuant to the Tranche C Credit Agreement, dated October 27, 1998. That JEXIM is a financial institution wholly owned by the Japanese Government, and is now the Japan Bank of International Cooperation, after its merger with the Overseas Economic Cooperation Fund (OECF) on October 1, 1999, by virtue of the Japan Bank for International Cooperation Law. All payments of principal, interest, fees, and other amounts made by SRPC under the Tranche A and B Senior Loans pursuant to the JEXIM Credit Agreement and JEXIM Participation Agreement are received by the appointed JEXIM agent, BOTM, a resident of Japan. On the other hand, all payments of principal, interest; fees, and other amounts made by SRPC under the Tranche C Senior Loans pursuant to the Tranche C Credit Agreement are received by the Sumitomo Bank, Ltd., also a resident of Japan, as the appointed agent of the Tranche C senior lenders. HSIADc That under the above agreements, all payments of principal, interest, fees and other amounts made by SRPC are directly paid to the Japanese lender banks as primary lenders and appointed agents and SRPC does not deal with the individual senior bank lenders. In reply, please be informed that Article 11 of the RP-Japan tax treaty provides 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. "3. Notwithstanding the provisions of paragraph 2, the amount of tax imposed by the Philippines on the interest paid by a company, being a resident of the Philippines, registered with the Board of Investments and engaged in preferred pioneer areas of investment under the investment incentives laws of the Philippines to a resident of Japan, who is the beneficial owner of the interest, shall not exceed 10 per cent of the gross amount of the interest. "4. Notwithstanding the provisions of paragraphs 2 and 3, interest arising in a Contracting State and derived by the Government of the other Contracting State including political subdivisions and local authorities thereof, the Central Bank of that other Contracting State or any financial institution wholly owned by that Government, or by any resident of the other Contracting State with respect to debt-claims guaranteed or indirectly financed by the Government of that other Contracting State including political subdivisions and local authorities thereof, the Central Bank of that other Contracting State or any financial institution wholly owned by that Government shall be exempt from tax in the first-mentioned Contracting State. For the purposes of this paragraph, the term 'financial institution wholly owned by the Government' means: a) In the case of Japan, the Export-Import Bank of Japan, the Overseas Economic Cooperation Fund and the Japan International Cooperation Agency; b) In the case of the Philippines, the Development Bank of the Philippines; and c) Any such financial institution the capital of which is wholly owned by the Government of either Contracting State, other than those referred to in subparagraphs (a) and (b) above, as may be agreed from time to time between the Governments of the two Contracting States. "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 ." "xxx xxx xxx." Based on the aforequoted provisions, the interest payments will be taxed at a preferential rate of not exceeding ten per cent (10%) if the interest is paid in respect of government securities, or bonds or debentures, or if the company paying the interest, being a resident of the Philippines, is registered with the Board of Investments and engaged in preferred pioneer areas of investment under the investment incentives laws of the Philippines; and in all other cases, fifteen per cent (15%) of the gross amount of the interest. Furthermore, paragraph 4 above also provides for tax exemption on interest income derived by a financial institution wholly owned by the Government of Japan and interest income that are derived by a resident of Japan with respect to debt-claims guaranteed or indirectly financed by the said financial institution. Such being the case, this Office hereby confirms your opinion that the interest income that will be derived by SRPC's non-resident foreign lender-banks from loans financed or guaranteed by the Export-Import Bank of Japan (JEXIM), being a financial institution wholly owned by the Japanese government, shall be exempt from Philippine Income Tax. ( BIR Ruling No. ITAD 21-99 dated August 24, 1999 ) On the other hand, the interest income derived by Japanese resident lender-banks, herein referred to as the private sector under the Tranche C Credit Agreement, dated October 27, 1998, shall be subject to the preferential tax rate of 10% final withholding tax pursuant to paragraph 3 of the abovementioned provision, considering that SRPC is registered with the Board of Investments and is engaged in preferred pioneer areas of incentives under the investment incentives laws of the Philippines. As regards the service fees, the Tax Code, in general, provides that non-resident foreign corporations shall be subject to income tax in the Philippines only on income derived from sources within the Philippines (Section 28(B)(1), NIRC, as amended). Income from services rendered in the Philippines shall be considered derived from sources within the Philippines. Conversely, income from services performed outside the Philippines are considered derived from sources outside the Philippines. Thus, the income of JEXIM from commitment fees, guarantee fees, front-end fees and the income of the JEXIM agent, Bank of Tokyo-Mitsubishi, Ltd. for Tranche A and Tranche B, from agency fees and commitment fees, for services performed outside of the Philippines, all paid by SRPC, are considered income derived from sources outside the Philippines and therefore not subject to final withholding tax in the Philippines pursuant to Section 28(B)(1) in relation to Section 42(A)(3) of the Tax Code of 1997. Finally, the JEXIM Credit Facility Agreement and Tranche C Credit Agreement are subject to documentary stamp tax imposed under Section 180 of the Tax Code of 1997. This ruling is issued on the basis of the facts as represented. However, if upon investigation it shall be discovered that the facts are different, then this ruling shall be without force and effect insofar as the herein parties are concerned. Very truly yours, Commissioner of Internal Revenue By: (SGD.) MILAGROS V. REGALADO Assistant Commissioner Legal Service