The BIR further clarifies the proper tax treatment of cross-border services in light of the Supreme Court’s En Banc Decision in Aces Philippines Cellular Satellite Corp. vs. Commissioner of Internal Revenue, G.R. No. 226680, dated August 30, 2022.
Revenue Memorandum Circular (RMC) No. 5-2024
10 January 2024
In this case, the Supreme Court held that the satellite airtime fee payments made by Aces Philippines (payor/withholding agent) were income payments to a Aces Bermuda, non-resident foreign corporation (NRFC), for the satellite air time services it provided to Aces Philippines.
In resolving the issue whether the satellite air time fee payments to Aces Bermuda is subject to final withholding tax (FWT)requires a two-tiered approach, where we identify first, the source of the income and, second, the situs of that source.
DEFINITION OF INTERNATIONAL SERVICE PROVISION OR CROSS-BORDER SERVICES
International Service Provision or Cross-border Services refers to a service-based company operates in various countries, providing services to clients. The income earned is allocated to the countries where the services are performed, taking into accounts factors such as the time spent, resources utilized, or value created in each jurisdiction. The source of income is determined by the location of the business activity rather than the disbursement or receipt of funds.
International service provision includes the following or similar transactions:
- Consulting Services;
- IT Outsourcing;
- Financial Services;
- Engineering and Construction;
- Education and Training;
- Tourism and Hospitality;
- Other Similar Services
IDENTIFYING THE SOURCE
In ascertaining the income source, we must inquire into the property, activity, or service that produced the income or where the inflow of wealth originated. The subject may only be regarded as an income source if the property, activity, or service causes an increase in economic benefits, which may be in the form of an inflow or enhancement of assets or a decrease in liabilities with a corresponding increase in equity other than that attributable to a capital contribution.
The income-generating activity takes place not during the act of transmission but only upon the gateway’s receipt of the call as routed by the satellite. The Supreme Court identifies the gateway’s receipt of the call as the income source as it coincides with (1) the completion or delivery of the service, and (2) the inflow of economic benefits in favor of Aces Bermuda.
In other words, the satellite air time fees accrue only when the satellite air time is delivered to Aces Philippines (i.e., upon the gateway’s receipt of the routed call) and is utilized by the Philippine subscriber for a voice or data call. The accrual of fees payable to Aces Bermuda signifies the inflow of economic benefits.
IDENTIFYING THE SITUS
It is settled that the source of income is in the Philippines if the property, activity or service that produces the income is in the Philippines. The flow of wealth proceeded from, and occurred within the Philippine territory, enjoying the protection accorded by the Philippine government.
The source of income is not necessarily determined by the location where the payment is disbursed or physically received, but rather by the location where the underlying business activities that produced the income actually took place.
In cases where business transactions occur in multiple stages across different taxing jurisdiction, it becomes imperative to ascertain whether the particular stages occurring in the Philippines are so integral to the overall transaction that the business activity would not have been accomplished without them. If the income-generating activities in the Philippines are deemed essential, the income derived from these activities would be considered as sourced from the Philippines for tax purposes, irrespective of where the payment is ultimately received.
The following establishes the Philippine situs of Aces Bermuda’s income from satellite air time fee payments: (1) the income-generating activity is directly associated with the gateways located within the Philippine territory; and (2) engaging in the business of providing satellite communication services in the Philippines is a government regulated industry.
All told, that the main asset is situated in outer space cannot be determinative of the income source and the situs thereof. At this point, it is clear that: (a) Aces Bermuda’s income attaches to property operated and maintained in the Philippines, and (b) making Aces Services available to Philippine subscribers, albeit through its local service provider, is an endeavor that requires the intervention of the Philippine government. It is only fair that this income be subjected to Philippine taxation; to hold Aces Bermuda accountable for its share in compensating the government for the protection it accords to Aces Bermuda’s arrangements, operations, and related transactions in the Philippines.
WHAT IS THE TREATMENT OF REIMBURSABLE OR ALLOCABLE EXPENSES, ESPECIALLY FOR CROSS-BORDER SERVICES BETWEEN OR AMONG RELATED PARTIES?
The reduction of expenses for a foreign corporation can be considered as income because it represents a financial gain or savings for the company, it effectively increases the foreign corporation’s net income or profit. This is because the company is spending less on its operations, resulting in additional funds that can be used for other purposes or retained as profit. Therefore, the reduction in expenses is viewed as a form of income for the foreign corporations.
WHAT WOULD BE THE EFFECT IF THERE ARE NO BENEFITS DERIVED FROM THE CROSS-BORDER TRANSACTIONS?
If there are no benefits derived by the Philippine company, then the payment becomes unnecessary for regular commercial activity and instead becomes a means of shifting profits to a foreign company. In other words, if the income is not generated through business activities conducted in the Philippines or does not provide any benefits to the local company, then, it may be seen as an attempt to evade taxes or manipulate profits by funneling them to a foreign entity.
ARE REVENUES GENERATED FROM SERVICE FEES PAID TO FOREIGN COMPANIES OR INDIVIDUALS, WHICH ARE CONSIDERED SOURCES WITHIN THE PHILIPPINES, ALSO SUBJECT TO VALUE ADDED TAX (VAT)?
The source of income is not determined by where the payout is disbursed or physically received, but rather where the business activity that generated the income took place. Even if the services are conducted or paid abroad, but there are activities to be performed in the Philippines so essential that the entire service transaction cannot be accomplished without them. This means that the revenue-generating activity actually occurs within the Philippines. The income generated by the foreign company providing the services, which are considered sources within the Philippines, shall be subject to income tax and, consequently to final withholding tax.
In relation to VAT, Section 108(A), in relation to Section 114 of the NIRC of 1997, as amended, generally states that a twelve percent (12%) VAT is levied only if the services in question are performed within the Philippines.
The phrase “sale or exchange of services” encompasses a broad range of activities involving the provision of services in the Philippines to others in exchange of a fee, remuneration, or consideration. It includes any service performed within the country for the benefit of another party, whether it involves professional services, consulting, technical assistance, or any other form of service provision.
This includes income generated from service fees paid to foreign companies or individuals which is subject to VAT if the source of that income is within the Philippines. This means that even if the service provider is located outside the country, if the service is utilized applied, executed or consumed for a recipient within the Philippines, the income payment for such service is considered sourced within the country and, thus, the VAT is applicable. Consequently, payment for such service shall be subject to final withholding VAT.
Copy of the RMC can be accessed below.