ITAD Ruling No. 136-00

September 19, 2000 ITAD RULING NO. 136-00 RP-US Article 14 Reservation Clause ITAD 12-00 Quisumbing Torres 11/F Pacific Star Building, Makati Avenue corner Sen. Gil Puyat Avenue, Makati City 1200 Attention: Atty . Shennan A . Sy Gentlemen : This refers to your letter dated October 7, 1999 on behalf of your client, Yazaki North America, Inc. (Yazaki), applying for tax treaty relief for the exemption of any gain that may be derived from the sale of its shares in YTM Component, Inc. (YTM) to Yazaki Corporation (Yazaki Corp.) and Mr. Feliciano L. Torres (Mr. Torres) pursuant to the provisions of Article 14, paragraph (2) of the RP-US Tax Treaty. It is represented that Yazaki is a non-resident foreign corporation organized and existing under the laws of the State of Delaware, United States of America; that Yazaki has not, at any time, engaged in any trade or business in the Philippines; that Yazaki is not registered as a partnership or as a corporation as per certification issued by the Securities and Exchange Commission dated February 24, 1999; that Yazaki has no permanent establishment in the Philippines; that YTM is a corporation duly organized and existing under the laws of the Philippines; that Yazaki currently owns 74,554 shares of the issued and outstanding capital stock of YTM, constituting approximately 63.22% of the issued and outstanding shares of YTM; that Yazaki intends to divest itself of its shareholdings in YTM; that to implement this, Yazaki and Yazaki Corp. executed, on August 2, 1999, a Deed of Assignment where in consideration for P67,858,571, the former transferred to the latter 49,154 shares of YTM; that in addition, Yazaki and Mr. Torres also executed, on August 30, 1999, a Deed of Assignment where, in consideration for P35,065,462, Yazaki transferred to Mr. Torres 25,400 shares of YTM; and that as a result of the 2 transactions, Yazaki will completely divest itself of its shareholdings in YTM. In reply, please be informed that Article 14 of the RP-US Tax Treaty states: "ARTICLE 14 "(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." On the other hand, the first Reservation Clause of the RP-US Tax Treaty, in pertinent part, provides: ". . . notwithstanding the provisions of Article 14 relating to 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 real property interest located in that country. Likewise, both countries may tax gain from the disposition of an interest in a partnership, trust or estate to the extent that 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." TcSCEa Note 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). The value of the real property interest of YTM located in the Philippines as appearing in its financial statements as of March 31, 1999 and its Detailed Description of Fixed Assets as of March 1999 is only 38% of the value of total assets, thereby making the assets of YTM not consisted principally of real property interest located in the Philippines. This being the case, gains derived by Yazaki as a result of its transaction with Yazaki Corp. on August 2, 1999 and with Mr. Torres on August 30, 1999 from the sale of its shares of stock in YTM shall be taxable only in the United States pursuant to the aforequoted provision of the RP-US Tax Treaty. Accordingly, said gains will not be subject to Philippine income tax. It must be emphasized, however, that the said transfer of shares of stock shall be subject to the documentary stamp tax imposed under Sec. 176 of the Tax Code of 1997. This ruling is being issued on the basis of the foregoing 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.) LILIAN B. HEFTI Deputy Commissioner Legal and Inspection Group