Special Rules for Temporary Restraining Orders and Preliminary Injunctions

April 21, 2003 ITAD RULING NO. 059-03 Art. 5, 7, 12, RP-Singapore Tax Treaty BIR Ruling No. DA-ITAD-39-03 Joaquin Cunanan & Co. 29th Floor, Philamlife Tower 8767 Paseo de Roxas 1226 Makati City Attention: Mr. George J. Lavadia Principal, Tax Services Gentlemen : This refers to your application for relief from double taxation dated October 10, 2002, on behalf of your client Danfoss, Inc. (Danfoss-Philippines), requesting confirmation of your opinion that the service fees to be paid by Danfoss-Philippines to Danfoss Pte. Ltd. (Danfoss-Singapore) are not subject to Philippine income tax, pursuant to the RP-Singapore tax treaty. It is represented that Danfoss-Singapore is a corporation organized and existing under the laws of Singapore with principal office address at #6 Jalan Pesawat, Singapore 619364; that it is not registered either as a corporation or as a partnership and has not been licensed to do business in the Philippines per certification issued by the Securities and Exchange Commission dated October 14, 2002; that Danfoss-Philippines is a corporation organized and existing under the laws of the Philippines with principal office address at 6th Floor, Pacific Star Bldg.,corner Sen. Gil Puyat Avenue, Makati City; that Danfoss-Philippines entered into a Service Agreement with Danfoss-Singapore which became effective on 1st January 2002 and continues to be in force from year to year unless terminated by either party giving to the other not less than three months written notice; that under the said agreement, Danfoss-Singapore will provide Danfoss-Philippines management services and assistance in its operations including, but not limited to the following: (a) Advice and assistance in the preparation and conduct of market research, surveys and strategies, advertising campaigns and public promotions; (b) Review, analyze and give recommendations on improvement of management and activities; (c) Advice and assistance on financial matters including but not limited to budgeting to long-term financial planning; and (d) Assistance regarding seminars, customer training, employee relations and product application training; that the said services shall be performed primarily outside the Philippines except for occasional visits to and consultation with Danfoss-Philippines, which visits shall in no case exceed one hundred seventy (170) days during the term of the contract. In reply, please be informed of this Office's ruling on the following issues as follows: 1. The service fees are not in the nature of royalties . Article 12(3) of the RP-Singapore tax treaty provides that: "Article 12 "Royalties xxx xxx xxx "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. EacHCD The treaty defines "royalties" to include "payment of any kind received as a consideration for information concerning industrial, commercial or scientific experience." According to the commentaries of the ORGANISATION FOR ECONOMIC CO-OPERATION AND DEVELOPMENT (OECD) Committee on Fiscal Affairs on the Model Tax Convention [par. 11, Commentary on Article 12 (royalties), 1998, p. 151),such information alludes to the concept of " know-how ".The definition of know-how, which has been adopted by the said Committee, is "all the undivulged technical information, whether capable of being patented or not, that is necessary for the industrial reproduction of a product or process, directly and under the same conditions; inasmuch as it is derived from experience, know-how represents what a manufacturer cannot know from mere examination of the product and mere knowledge of the progress of technique." In the know-how contract, one of the parties agree to impart to the other, so that he can use them for his own account, his special knowledge and experience which remain unrevealed to the public. ( BIR Ruling No. DA-ITAD No. 49-02 dated April 15, 2002 ) Furthermore, in the case of Philippine Refining Company (PRC) vs. CIR, CTA Case No. 2872 dated January 15, 1986 ,the Court of Tax Appeals had an occasion to rule on the distinction of service fees from royalties, to wit: "To distinguish between compensation for service and royalty payments, one must inquire on whether the payee has proprietary interest in the property giving rise to the income. If the payee has none, then the payment is a compensation for personal services, if the payee has proprietary interest then the payment is royalty." Applying the above discussions to the case at hand, it is clear in the Service Agreement that the service fees are not within the definition of "royalties" under Article 12 of RP-Singapore tax treaty. Specifically, nothing in the agreement would require transfer into the Philippines of technology, equipment or other property where the payee has proprietary interest or would otherwise permit Danfoss-Singapore to impart to Danfoss-Philippines their special knowledge and experience which remain unrevealed to the public. Inasmuch as Danfoss-Singapore shall render these services using their customary skills, then the compensation to be received therefor shall not constitute as consideration for the use of, or the right to use, any copyright, patent, trademark, design or model, plan, secret formula or process, or for the transfer of technology. Thus, the service fees paid to Danfoss-Singapore shall not be considered as royalties but shall constitute as business profits derived from sources outside the Philippines. ( BIR Ruling No. DA-ITAD-39-03 dated March 4, 2003 ) 2. The service fees are business profits not subject to Philippine taxation . Article 5 of the RP-Singapore 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 specially but is not limited to: "(a) A seat of management; "(b) A branch; "(c) An office; "(d) A store or other sales outlet; "(e) A factory "(f) A workshop "(g) A warehouse, in relation to a person providing storage facilities for others; "(h) A mine, quarry, or other place of extraction of natural resources "(i) A building site or construction or assembly project or installation project or supervisory activities in connection therewith, provided such site, project or activity continues for a period more than 183 days; and "(j) The furnishing of services, including consultancy services, by a resident of one of the Contracting States through employees or other personnel, provided activities of that nature continue (for the same or a connected project) within the other Contracting State for a period or periods aggregating more than 183 days .(emphasis supplied) "xxx xxx xxx" In relation thereto, Article 7 of RP-Singapore tax treaty also provides: "Article 7 "Business Profits "1. The Profits of an enterprise of a Contracting State shall be taxable only in that State unless the enterprise carries on business in the other Contracting State through a permanent establishment situated therein. If the enterprise carries on or has carried on business as aforesaid, the profits of the enterprise may be taxed in the other State but only so much of them as is attributable to that permanent establishment. xxx xxx xxx" Based on the foregoing, a corporation which is a resident of Singapore and does not carry on business in the Philippines through a permanent establishment situated therein shall not be subject to Philippine income tax for profits derived in the Philippines. For this purpose, a Singaporean corporation may be deemed to have a permanent establishment in the Philippines if, among others, the furnishing of services through its employees or other personnel continue for the same or a connected project within the Philippines for a period or periods aggregating more than 183 days. Inasmuch as it is represented that the technical support services are to be performed outside of the Philippines by Danfoss-Singapore except for occasional visits to and consultation with Danfoss-Philippines, which visits shall in no case exceed 170 days during the term of the contract, then the furnishing of said services by Danfoss-Singapore through its employees or other personnel shall not constitute carrying of business through a permanent establishment in the Philippines. Such being the case, payments by Danfoss-Philippines to Danfoss-Singapore are considered compensation for labor or personal services performed outside the Philippines and are therefor considered income derived from sources outside the Philippines pursuant to Section 42(C)(3) of the Tax Code of 1997. Furthermore, since the services fees are considered income derived from sources outside the Philippines, the payments made by Danfoss-Philippines to Danfoss-Singapore shall not be subject to Philippine income tax and consequently to withholding tax under Section 28(B)(1) of the Tax Code of 1997. However, the fees to be paid by Danfoss-Philippines to Danfoss-Singapore in the Philippines covering those occasional visits and consultation with Danfoss-Philippines are subject to the 10% value-added tax pursuant to Sec. 108 of the Tax Code. Accordingly, Danfoss-Philippines, being the resident withholding agent and payor in control of the payment shall be responsible for the withholding of the 10% final VAT on such fees before any payment to Danfoss-Singapore. In remitting the VAT withheld, Danfoss-Philippines shall use BIR Form No. 1600 (Monthly Remittance Return of Value-Added tax and Other Percentage Taxes Withheld). The duly filed BIR Form 1600 and proof of payment thereof shall serve as documentary substantiation for the claim of input tax by Danfoss-Philippines upon filing its own VAT, if it is a VAT-registered taxpayer. In case Danfoss-Philippines is a non-VAT registered taxpayer, the passed on VAT withheld shall form part of the cost of the service purchased which may be treated as "expense" or "asset" whichever is applicable. In addition, Danfoss-Philippines is required to issue the Certificate of Final Tax Withheld at Source (BIR Form 2306) in quadruplicate upon request of Danfoss-Singapore, the first three copies thereof to be given to Danfoss-Singapore and the fourth copy to be retained by Danfoss-Philippines as its file copy. [ Sections 4 & 6, Revenue Regulations (RR) No. 4-2000; Section 3 of RR 8-2002; Section 7 of RR 14-2002 ] 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. CHIaTc Very truly yours, Commissioner of Internal Revenue By: (SGD.) MILAGROS V. REGALADO Assistant Commissioner Legal Service