ITAD Ruling No. 150-02

August 26, 2002 ITAD RULING NO. 150-02 Sec. 28, NIRC Article 12, RP-Singapore tax treaty BIR Ruling No. 078-97 SGV & Co. 6760 Ayala Avenue, 1226 Makati City Attention: Mr. R. M. C. Vinzon Tax Division Gentlemen : This refers to your letter dated August 24, 2000, on behalf of SANYO DENKI PHILIPPINES, INC. ("SDPI"), requesting confirmation that the rental payments of SDPI to SB LEASING (SINGAPORE) PTE, LTD. ("SBL") are exempt from the 10% Value-added tax (VAT) and the 7.5% withholding tax on rentals of machineries and equipment under Section 28(B)(4) of the Tax Code Of 1997, pursuant to the RP-Singapore tax treaty. It is represented that SBL is a non-resident foreign corporation duly organized and existing under the laws of Singapore with principal office address at 1 Shenton Way, #19-05, Singapore, 068803; that SBL is not registered either as a corporation or as a partnership and has not been licensed to engage in business in the Philippines per certification issued by the Securities and Exchange Commission dated December 11, 2000, that SDPI, on the other hand, is a Subic-registered enterprise duly organized and existing under the laws of the Philippines with office address at Subic Technocenter Bldg., Subic Tech Park, Boton Area, Subic Bay Freeport Zone, Olongapo City, that it is primarily engaged in the manufacture and exportation of precision motors for computer cooling; that by virtue of a Contract of Lease entered into on September 4, 2000, SDPI leases from SBL certain machinery for the use of which SDPI pays SBL rental fees. Based on the above representations, it is your opinion that applying the "Cross-Border Doctrine" or "Destination Principle" of the VAT System, and citing further VAT Ruling Nos. 009-99 and 100-99, the rental payments of SDPI to SBL is exempt from VAT. Also, it your opinion that pursuant to the RP-Singapore tax treaty, the said rental payments are not subject to Philippine income tax and to the 7.5 withholding tax imposed under Section 28(B)(4) of the Tax Code of 1997. In reply, please be informed that Article 12 of the RP-Singapore tax treaty provides, viz : "Article 12 ROYALTIES "1. Royalties arising in a Contracting State and paid to a resident of the other Contracting State may be taxed in that other State. "2. However, such royalties may also be taxed in the Contracting State in which they arise, and according to the law of that State, but, if the recipient is the beneficial owner of the royalties, the tax so charged shall not exceed: "(a) in the case of the Philippines, 15 per cent of the gross amount of the royalties, where the royalties are paid by an enterprise registered with the Philippine Board of Investments and engaged in preferred areas of activities and also royalties in respect of cinematographic films or tapes for television or broadcasting; "(b) in the case of Singapore, where the royalties are approved under the Economic Expansion Incentives (Relief from Income Tax) Act of Singapore, the royalties shall be exempt; "(c) in all other cases, 25 per cent of the gross amount of the royalties. "3. 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 cinematographic films or tapes for television or broadcasting, any patent, trade mark, 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. (Emphasis supplied) "xxx xxx xxx" Based on the aforequoted provisions, the above-mentioned rental payments are covered by the term "royalties" and as such are subject to the preferential tax rate not exceeding twenty-five (25%) per cent of the gross amount of royalties. However, Section 28(B)(4) of the Tax Code of 1997 provides, viz : "SEC. 28. Rates of Income Tax on Foreign Corporations. xxx xxx xxx "(B) Tax on Nonresident Foreign Corporations . xxx xxx xxx "(4) Nonresident Owner or Lessor of Aircraft, Machineries and Other Equipment . Rentals, charters and other fees derived by a nonresident lessor of aircraft, machineries and other equipment shall be subject to a tax of seven and one-half percent (7 %) of gross rentals or fees." In view thereof, this Office is of the opinion and so holds that the rental payments of SDPI to SBL are subject to the seven and one-half (7%) percent tax rate on gross rentals, the same not having exceeded the 25% rate imposed on the gross amount of royalties under the RP-Singapore tax treaty, contrary to your opinion that said rental payments are exempt from Philippine income tax pursuant to Article 7 in relation to Article 5 of the RP-Singapore tax treaty, ( BIR Ruling No. 078-97 ) As regards the issue on VAT, Section 108 of the Tax Code of 1997 states that, the base or use of property or property rights is embraced within the definition of "sale or exchange of services" and is subject to VAT. Under the current regulations, the sale of services to Ecozone Enterprises may be considered effectively zero-rated for VAT purposes but subject to the limitation that the sale of service is made to persons or entities who enjoy indirect tax exemption [Section 4.102-2(c), Revenue Regulations No. 7-95]. Since there is no express provision under the PEZA law granting exemption from indirect sales to Ecozone Enterprise, the recognition of zero-rated sale of services is made to rest on the Cross Border Doctrine or Destination Principle of the VAT system, viz: "the country taxes all value-added, at home and abroad, for goods that have as their destination the consumers of that country. Exports are exempt, imports are taxable. . . " ( VAT Ruling No. 009-99 dated January 21, 1999 ) The same principle is applicable to the case at hand. It should be noted that the lease of machineries is in connection with the manufacture of products for export. However, instead of the zero-rating which is not available to non-resident suppliers, the provision for exempt transactions under Section 109 of the Tax Code of 1997 which provides VAT exemption for transactions which are exempt under special laws, e.g., Republic Act 7227 or Bases Conversion and Development Act of 1992, is particularly applicable to the instant case. In the case of payment for lease or royalties to a non-resident owner, the responsibility for withholding the VAT and paying the same rest on the payor. However, since Subic Special Economic and Freeport Zone (SSEFZ)-registered export enterprise may not be passed on with nor claim input VAT, then its payment of royalties to a non-resident lessor, such as SBL should be, as it is hereby confirmed to be, exempt from VAT. ( VAT Ruling No. 095-99 dated September 14, 1999 ) Very truly yours, Commissioner of Internal Revenue By: (SGD.) MILAGROS V. REGALADO Assistant Commissioner Legal Service