CTA Case No. 3549

DECISION

- 2 - An investigation by the Bureau of Internal Revenue of the tax case of petitioner for the ·fiscal years abovementioned allegedly showed that the latter did not remit any profit to Gestetner Limited of London.

That~ having funds because of undistributed earnings~ it u~ed such funds for short- term investments which are ·not deemed to be for the reasonable needs of the business fExhs. 4 & 5 .~ p ~ 11 1 an d p • 1 1 :~ .~ r e spec t i ~, e I y .•

B I R

r e c <,l r d) • It was consequently recommended that Section 25 of the NIRC of 1977 be applied against petitioner and that in accordance with said section a tax be imposed on petitioner for improper! y accumulating profits or surplus.

Petitioner controverts the cone lusion of the respondent's investigating examiners by positing that a mere branch in the Philippines of a foreign cot- poration that has no stockholder who is a citizen or resident of the Philippines~ like itself~ is not subject to the 251. additional ta>: under Section 25 of the NIRC of 1977. The respondent counters with these averments, among others:

1.)

The 25% surtax under Section 25 is also imposable on foreign corporations no shareholder of which is a resident or citizen of the Philippines;

DECISION CTA CnSE NO. 3549 ..,.

·-' 2.)

Foreign corporations~ whether resident or non-resident~ are subject to a dditional tax under the above section of the Tax Code of 1977 (Section 18, Revenue Regulations No. 2).

3.)

Ge s tetner~ Manila Branch~ is a mere holding company engaged in the collection of royal ties from Phi 1 ippine Dupl icato l~s ~ Inc.~ a domestic corpo- ration~ for Gestetner Limited of England; hence, it f~lls squarely under subsection (b) of Section 25 of the Tax code of .1977.

The subject for interpretation, the additional tax on corporations improperly accumulating profits or s urplus under Section 25 of the NIRC of 1977 is recognized as provision bodily lifted from Section 102 of the U.S. Internal Revenue Code of 1939 (The Hanila Hine Herchants, Inc.

v.

The Co~aissioner of Internal Revenue, G.R. No. L-26145, February 20.~ 1984}.

Expected 1 y, the tax against improper accumulation of profits or surplus appears in our National Internal Revenue Code of 1939.

Revenue F:egulations No. 2 ·fol loli':ed in February 2, 1940 containing rules for the effective enforcement of the ta >:.

The pertinent provisions of Section 25 read as follows:

Sec. 25.

Additional tax on corpo- rations improperly accumulating profits or sur·plus. --

(a) Imposition of ta>e. - If any cor·poration .i.s formed or availed of for the purpose of preventing the imposition of the tax upon its 3bo

-- 4 -·- shareho lders or me mbers of another corpora tion~ through the medium of permitting its gains and profits to accumu l a t e instead of being divided or distributed~ there is l evied and assessed against suc h corporation~ for each ·ta ~:a b 1 e year- ~ a t.:n: equa 1 to 25/. of the unc!Jstr·.i.huted portion of its accumulated profits or surplu s which shall be in addi t.i.on to the t .:n:

i mposed by Section 2 ·1~ .:~nd s h a ll be computed~ ' Collected e~nd pa i d in the ~a rne manner and subject to t he same provision s of law~ including penalties~ as that ta x. (b) Prim a fa c ie evidence.

The fact that any c orpor.:~tion is a mere holding company s hall be prima facie e v idence of a purpose to avoid the t a>: upon its shareholders or members.

Simi l a 1·- pr·esumption wi 11 1 ie in the case o ·f a n .iJYvestment c ompany wher-e at any time dur-i ng the ta >:able year more than ·f i f t y p er c e n tum in v a 1 L.l e of i t s outstanding s t oc k is owned~ directly or indirect ly~ by one person . (c) Evidence determinative of purpose .

Tha t fa c t that the earnings or profits of a corporation are permitted to acc umulate beyond the reasonable needs of the business s ha ll be determinative of the purpose to avoid the tax upon its share ho lders or me mbers unless the corporatio n~ by clear preponderance of evidence , s ha ll prove the contrary. (d) Exception.

The pr ovisi.ons of this sec ti o n s h.:\11 not apply to banks~ non - ban k financial intermediaries~ cor·pcwations organized primari 1 y ~ and authorized by the Central Bank of the Philippines to hold shares of stock of banks, ins urance companies, or persona 1 holding companies, whether domestic:

or foreign.

(As a mended by PO 1739) The Supreme Court in The Hanila Uine Herchants Ca se~ supra , cogn izant of the origin of Section 25

- 5 - deemed that it .is "proper- to resort to applicable cas e s decided by the American Federal Cour-ts for guidance and e nl ig htenment". We shall ther-efore be similar-ly guided .

The Supreme Court proceeded to set t he prerequisites to the imposition of the tax (cit- .ing f'Tertens .~ L aN of Federal In c ome Ta.-;.;· atiorr .~ Vol.

7~ Chapter 39~ p.

44)~ thus:

"A prerequisite to the imposition of the tax has been that the corporation be ·fanned or- availed of for- .t.h~ __ Q_t,\r:QQ§~_g_.f_ ~ ~!:9. ! .9. !n_g ___ .. th£? ...... J.:nc:::.9r.n.f=.!_ .... J:.?..l '. (or surtax) QD :i.. t?. ...... ?..he':\. r:: .. ~.JJqJ <::1 ~r.: .~ .. , ___ Pr: ...... 9.Q .. __ t..b. .. E.L .... ?.h?..r.:.!?h9..19.!?.!:.§. qf. .. 8.-r)Y. ........... P .:~.b .~T ............ C:::.9.r.:R9.r:.?. .. t..!.qo by permitting the earning s and pr-ofits to accumulate instead of dividing them among or di s tributi ng them to the s hareholder-s (underscor-i ng suppli e d). The language of the provision in Section 2~· ( a)~ to vlit.:

"If any cor-poration is for-med or- availed of the purpos e of preventing the impos ition of the tax upon its s har-eholders or members or- the s har-e holder·s or me mbers of another corporati o n" a l so been inter-pr-eted as indi c ative of the :i.nten t to apply the ta >t in the instance the avoidance is accomplished thro ugh the use o ·f one corpor-ation to shield its shar-eho lde r- s fr·om income ta >t ~ or, through the use of mor-e than one corpora tion, as for instance~ 1--1her .. e one co r~ por a tion Ol-'ln S the stock of another and

-- 6 -· the subsidiary fails to p a y dividends to the parent thereby permitting the parent's stockholders to escape the ta>:

(Ibid~ p.

c iting Regulation s Sect ion 532-1CaJC2J). Our own Section 18 o f Revenue Regu lations No. 2 carries an example. " >~>!>~ i ·f the capital ~t.oc:k of theM Corpot- a tion is he ld by the N Corporation so that the d ividend distributions of the 1'1 Cor por·ation would not be returned as income subj ect to the tax on individuals until distributed in turn by the N Corpor·ation to its individual share- hnl cler·s ~ never the 1 ess the ta >:

imposed by Section 25 app lies to the M Corporation, i f that corporation is formed or availed of fo r the purpose of preventing the impos ition of the tax upon the individual s t-l ~re h c) lc:l er-s o ·f the N Corporation. >:>t>t" In re l ation to for e ign corporations in the Un i t.ed States it was determined by the U.S.

Commi ssionf?r of Intern a l Revenue that certain precondition s have to be met before it can be said tha t any for··e.i. gn corporation has been formed or avai 1 ed o ·f ·for· the interdicted purpose, to wit:

"l\lhether· resident or non-resident, with respect to any i n c ome der· i ved from sources within the United i .f.l.!;.P..ff.l.l:?. ........ .t§..>.:_ .... P.r::t .. _ .. t..b.?. .. ... _9..J.?_t.r.:::J .. 9..l.:! .. .t .:i.9..0_._q.f__._.t_b..~-... f:...9.EfL9 r c;\J; .. :i.9...0. 3GJ.

- 7 - 2-P~C::: ..

:t. f. .i.l:?~ .... -.:i:.n .. ... J:l.:J ............. P .r..~ ........... J.:?.J.. ( 1 bid, c i t i r1 q Revenue Regulations Se c tion 532-J[cl .:

underscoring supplied).

The above tr-eatment giv'en by the u.s.

Commissioner on the imposition of the accumulated earnings ta>:

as to foreign corporations leads petitioner to assert that similar construction must also be given Section 25. The petitioner proceeds to postulate the concH tions precedent for the 25% tax on unreasonable accumulation of surplus to apply as:

(1.) that the corporation is subjected to the t.a >:

had individua l~ as opposed to corporate stockholder-s and ( 2) that such ind.iv.idual stockholders were subject to Philippine income tax on the dividends they receive from the corporation. In this connec tion~ petitioner tries to reinforce its position by giving evidence~ unrebutted~ that it had no shareholder who has either an individual or an enti ty which could have been subject to Philippine income tax on any dividends declared by petitioner (f x hs.

"N"~ "N-1"~ Further~ that petitioner· s share capital had been regi s tered through the years~ either in the name of Gestetner Holrlings PLC or Gestetner Management

-

B --

Ser-vices Limited Corpor-ation~ which ar-e also organized and existing under the laws of the United Kingdom (E .Yhs ..

" N" !' " N- 1 ").

It is emphasized that s.uch shar-e holders ar-e cor· por-a te enti tie!:;

not individuals and the di vidends they r-eceive from petitioner· 1.-'IOLi l d not have ' been subject.

to Philippine income tax. Thf.? view of petitioner- is well founded. At the beginning~ notice has been taken of the f act that the Supr-eme Cour-t in The Hanila Hine Herchants Case had pr-eviously lent authoritative value to the interpr-etation attached to the law by the sot.wc:e of the law. Given notice also that Section 25 of the NIRC of 1977 was adopted fr-om the U.S.

T.3. >:

Code~ i::~nd consider-ing the cir-cumstances su t- r-ouncl ing the accumulated ear-nings ta>: fr·om its introduction into our Ta >: Code of 1939 up to the time of the inception of the branch profits r · emittancE~ tr.~>: in 1 975 (P.D. No. 778~ promulgated {)ugust 24 ~ 1975) ~ suc h interpretation of American cour··ts and tr·eatment of the law as embodied in American Revenue Regulations would not only be persuasive but decisive in this case. When the accumulated earnings under· Section 25 first appeared in our Ta>: Code in 1939 then? v1as as ye t. no br·anch pr-ofits remi tt.ance ta >:

- 9 being imposed s ince the latter is to appear only in 1975.

It cou ld not be conceived therefore that the accumu l ated earni ng s ta x can be linked to the non - rP-mi t. tan ce of br-an c h profits as respondent would ha ve it.

The accumulated earnings tax is a penalty for improper accumu l ation of surplus or profits 01ertens.. Jbid .• p, 3 .• c iting HeN Oak•ont Corp. v. us 1" 86 F, Supp, 8'?7) • Such however, considering the t ime l ag between it and the branch pro·f:i t.s r-emittance ten:~ can not be said t.o have been formed in a n ticipation of the latter, so that even with the two eventually co-existing during the ta >:a ble yer.n- s in qu es tion~ it can not be ventured that this acc umu l ated ear-nings is also a pe n a l ty f or- non -remi ttanc e of branch pr-ofits as the co- existence is apparently merely coincidental. We see al s o that f ol lm•Ling this pr-oposition of t-espondent.

~·IOU 1 d make for a pen a 1 ty preceding the t.a >: pr-oper.

We will have an instance then~ as s ome ~>.~o ul d put it~ of a horse placed before the Nor can it simply be argued that the non- remittance of branch profits is a way of or can be used to acc umulate earnings or surplus in violation o ·f the Ta >: Code.

f._Q..!'.::_ ...... ;\; . .r.L.tb.g ..... -~ .. 9_fJ.Q_,! _ _t_,t_QD.§_ p__f ___ ~ ........ ~.r. .~O..£ .. D

- 10 - P.\ .. .t.r:.P.c:l? !'?. ~ ........ t..h.§' ......... ?!.Y.<::l.J . f:! .?!O. .C:: .~ ... -.. 91 .... J . .o_c;! _ _i._v_i..!;f ..

t,.t~ .. L .. _.i:.O.J;..Q.ffig_ _ _j:._@2L. OQ .t.b.E'?.... .:i 0. d . .t..v..i .. cJP?. L ...... ?b .. ~.r. .f? .h9J .. 9f?.r.-... !. ....... J .. ?. .. -... ...i.IJf:9J1...9 . .r_t,t . .OI:,LI:?. .. !.. It is easy to see tha t the non - citizen or non-res;ident ind ividua l s har e h o ld e r~ recipient of the declared di vidends by the for·eign corporation~ is not subject t o income tax by the Philippines. The point that pe titioner is a mere holding comp.=my assuming the same i.s correct vlill also be not r·eas:,on e no ugh for- the imposi t.ion of the ta>: ~ for suc h fact even i f e xisting is only prima facie evidence of a purpose to avoid the tax upon the S',hareho 1 ders or me mbers.

"The statutory presumption .in the case of a mere holding or i nves tment compa ny does no more than make the corporation come forward with its proof (Ibid .#

p. 11 3, c iting United Business Corp. o~ Aaerica v.

Coaa.~ 62 F2d 754~78 L Ed 552, 54 S Ct 53 [19331) and the tax may not be imposed unless the purpose of the corporation was to prevent the imposition of the income ta >: on its shareholders" (!bid.# citing Cecil B. de ffille, 31 BTA 11 6 1~ affd 90 F2d 12, 82 L ed 551, 58 S Ct 32 [19371). This case if VIe may add~ reveals an undisc l osed flaw in the conti nui ty of the statu t es -· .1.1 -·· ~-1hich we hav f.·?

looked into here, that is~ i ·f we assume that there was really an intent~ which became unfulfilled, to put the branch profits r-emittance ta>:

pr-ovision within the scope of the accumulated earnings ta>:

if that is at all possible.

WHEREFORE, the petition is GRANTED.

The assessment a gainst petitioner, with No.

01-32- 1- 000868-77-81 issued on October 31, 1981, in the amount of P1,013,772.99 is hereby ordered withdrawn, cancelled and revoked.

I CONCUR:

'1M?;--...

TANT{ C. ROAQUIN Judge

CERTIFICAT ION

I hereby certify that this decision was reached after due consultation between the members of the Cour t of Tax Appeals in accord a n ce with Section 13~ Article VIII of the Constitution. ~-~ Pres iding ,Judge 0til> Court of Ta>: Appeals