ITAD Ruling No. 132-04

November 16, 2004 ITAD RULING NO. 132-04 Articles 5 & 7, Philippines-Japan Tax Treaty BIR Ruling No. ITAD 187-02 Punongbayan & Aurollo 20th floor, Tower 1, The Enterprise Center 6766 Ayala Ave., 1200 Makati City Attention: Maria Victoria C. Espao Tax Partner Gentlemen : This refers to your letter dated August 30, 2004, on behalf of your client, INA MICRO OPTO CORPORATION (Ina Micro), requesting confirmation of your opinion that the sale of goods by its foreign supplier, LINEX SANSIN, INC. (Linex), to Ina Micro under a proposed delivery and sales arrangement, or commonly known as "Just-In-Time" Inventory System Agreement (JIT Agreement), shall not be taxable in the Philippines. It is represented that Linex is a nonresident foreign corporation duly organized and existing under the laws of Japan with office address at 1-6-3 Higashi-Gotanda, Shinagawa-ku, Tokyo, Japan 141-0022; that it is not registered either as a corporation or as a partnership licensed to do business in the Philippines per certification dated February 26, 2004 issued by the Securities and Exchange Commission; that Ina Micro, on the other hand, is a Philippine Economic Zone Authority (PEZA)-registered enterprise under Certificate of Registration No. 00-007 dated January 25, 2000 as an Ecozone Export Enterprise; that its registered activity is limited to the manufacture of high-powered microscopes for export, and the importation of raw materials, machinery, equipment, tools, goods, wares, articles or merchandise directly used in its registered operation at the Mactan Economic Zone II and export of optical instruments such as but not limited to microscopes, medical equipment, pneumatic-hydraulic equipment, their component parts and other similar products and mechanical products or contrivance; that it is presently enjoying the income tax holiday (ITH) incentive as a non-pioneer PEZA-registered enterprise; that on December 1, 2003, Ina Micro entered into a JIT Agreement with Linex whereby the raw materials supplied by Linex will be delivered to Ina Micro's warehouse but Linex will only recognize sales and will issue invoice upon withdrawal by Ina Micro of the materials from the warehouse; that Ina Micro, on the other hand, will not recognize as its inventories the raw materials stored in its warehouse until it is actually withdrawn for production purposes. In reply, please be informed that Article 7 of Philippines-Japan tax treaty provides, viz : "Article 7 BUSINESS PROFITS 1. The profits of an enterprise of a Contracting State shall be taxable only in that Contracting State unless the enterprise carries on business in the other Contracting State through a permanent establishment situated therein. If the enterprise carries on business as aforesaid, the profits of the enterprise may be taxed in that other Contracting State but only so much of them as is attributable to that permanent establishment. DSHcTC xxx xxx xxx" In relation thereto, Article 5 of the same tax treaty provides: "Article 5 PERMANENT ESTABLISHMENT 1. For the purposes of this Convention, the term 'permanent establishment' means a fixed place of business in which the business of the enterprise is wholly or partly carried on. 2. The term permanent establishment' includes especially: xxx xxx xxx f) a warehouse; xxx xxx xxx" It is clear from the aforequoted provisions that the business profits to be derived by Linex the Philippines from the sale of raw materials to Ina Micro shall be taxable in the Philippines if Linex has a permanent establishment situated therein and only so much of them as is attributable to that permanent establishment. A warehouse is considered a permanent establishment if the business of an enterprise of one of the Contracting States is wholly or partly carried on through it. In the instant case, the subject warehouse is being utilized by its owner, Ina Micro, for storing raw materials delivered by Linex in accordance with the JIT Agreement. As represented, Linex will deliver raw materials to Ina Micro's warehouse but sales will be recognized only upon actual withdrawal of such raw materials by Ina Micro for production purposes. Based on this agreement, it is clear that the use of the warehouse is for the benefit of Ina Micro and not for the purpose of establishing a fixed place through which the business of Linex is to be wholly or partly carried on. If any, the connection between the warehouse and Linex under the arrangement is merely to attain the ultimate objective of carrying out the provisions of the JIT Agreement. In view of the foregoing, this Office is of the opinion and holds that since Linex does not maintain a permanent establishment in the Philippines to which its profits as such may be attributed, the business profits to be derived by Linex in the Philippines from the sale of raw materials to Ina Micro under the JIT Agreement are not taxable in the Philippines pursuant to Articles 5 and 7 of the Philippines-Japan tax treaty. ( BIR Ruling No . ITAD-182-02 dated October 22, 2002 ) This ruling is issued on the basis of the facts as represented. However, if upon investigation it shall be disclosed that the facts are different, then this ruling shall be without force and effect insofar as the herein parties are concerned. CSIDEc Very truly yours, Commissioner of Internal Revenue By: (SGD.) MILAGROS V. REGALADO Assistant Commissioner Legal Service