Maximing Returns on Foreign Investments

The Philippine government is encouraging foreign investors to invest in the country with businesses that will provide opportunities in employment, develop the productivity of resources, heighten the volume as well as the value of exports and provide the future development of the economy’s foundation. The Foreign Investments Act (“FIA”) of 1991[1] liberalized the entry of foreign investments into the Philippines. Section 2 of the FIA provides:

“It is the policy of the State to attract, promote and welcome productive investments from foreign individuals, partnerships, corporations, and governments, including their political subdivisions, in activities which significantly contribute to national industrialization and socio-economic development to the extent that foreign investment is allowed in such activity by the Constitution and relevant laws. xxxxxx”

Under the FIA, foreign investors are generally treated like their domestic counterparts and must register with the Securities and Exchange Commission (“SEC”) (in the case of a corporation or partnership) or with the Department of Trade and Industry‘s Bureau of Trade Regulation and Consumer Protection (in the case of a sole proprietorship).

In line with the Government’s thrust of making Philippines a competitive country in the global environment through various investments, investors, both existing and prospective should be well informed of the economic environment and regulations. Information about the economic environment of the country and industry is essential because it will help investors assess possible opportunities and avoid possible threats at the same time. Regulations, on the other hand, provide the guidelines with which investments must be done. It is therefore important to provide the investors with options that will assure them of an acceptable rate of return.

II. Legal Forms Available and the Tax Effects

There are several types of forms that a foreign investor may choose from in establishing operations in the Philippines.

A. Organized under Philippine Laws

1. Sole Proprietorship – a business structure owned by an individual who has full control/authority of its own.

Tax Effects:
An alien individual, whether resident or not of the Philippines, is taxable only on income derived from sources within the Philippines.[2]

2. Partnership – By the contract of partnership two or more persons bind themselves to contribute money, property, or industry to a common fund, with the intention of dividing the profits among themselves.[3] A partnership is treated as a juridical person, having a personality separate and distinct from that of its members.

Tax Effects:
A partnership is taxed like a corporation.[4]

3. Corporation – A corporation is a juridical person with personality separate and distinct from its stockholders.[5] Tax Effects:
A foreign corporation, whether engaged or not in trade or business in the Philippines, is taxable only on income derived from sources within the Philippines.[6]

B. Organized under Foreign Laws

1. Branch Office – a branch office carries out the business of the head office and derives income from the host country.[7] A foreign inward remittance of at least US$200,000 or its peso equivalent is required for branch office of a foreign corporation.[8]

2. Representative Office – deals directly with the clients of the parent company, but does not derive income from the host country and is fully subsidized by its head office.[9] The required foreign inward remittance of a representative office is at least US$30,000 or its peso equivalent.

3. Regional or area headquarters – an office whose supposed to act as an administrative branch of a multinational company engaged in international trade which principally serves as a supervision, communications and coordination center for its subsidiaries, branches and affiliates in the Asia-Pacific Region and which does not derive income in the Philippines.[10] 4. Regional operating headquarters – a foreign business entity which is allowed to derive income in the Philippines by performing qualifying services to its subsidiaries, branches and affiliates in the Asia-Pacific Region and in other foreign markets.[11]

III. Restrictions on Foreign Investments under the FIA Law

Within the 1991 Foreign Investment Act (FIA) there are two negative lists,
also known as the “Foreign Investment Negative List”, which defines the foreign investments, which are limited or restricted by the Constitution and specific laws. Negative List A and Negative List B.

Coverage of Negative List A

In Negative List A, foreign ownership in certain businesses is limited by mandate of the Constitution and specific laws. These are:

A. No Foreign Equity
1. Mass Media except recording
2. Practice of professions
3. Retail trade enterprises with paid-up capital of not less than US$2,500,000.00 4. Cooperatives
5. Private Security Agencies
6. Small-scale Mining
7. Utilization of Marine Resources in archipelagic waters, territorial sea, and Exclusive economic zone 8. Ownership, operation and management of cockpits
9. Manufacture, repair, stockpiling and/or distribution of nuclear weapons 10. Manufacture, repair, stockpiling and/or distribution of biological, chemical and radiological weapons and anti-personal mines 11. Manufacture of firecrackers and other pyrotechnic devices

B. Up to Twenty Percent (20%) Foreign Equity
1. Private radio communication network

C. Up to Twenty-Five Percent (25%) Foreign Equity
1. Private recruitment, whether for local or overseas employment 2. Contracts for the construction and repair of locally-funded public works, except: a. infrastructure/development projects covered in RA 7718; andˇb. projects which are foreign funded or assisted and required to undergo international competitive bidding (Sec. 2(a) of RA 7718) 3. Contracts for construction of defense-related structure

D. Up to Thirty Percent (30%) Foreign Equity
1. Advertising

E. Up to Forty Percent (40%) Foreign Equity
1. Exploration, development and utilization of natural resources 2. Ownership of Private Lands
3. Operation and management of public utilities
4. Ownership/establishment and administration of educational institutions 5. Culture, production, milling, processing, trading excepting retailing, of rice and corn and acquiring, by barter, purchase or otherwise, rice and corn and the by products thereof 6. Contracts for the supply of materials, goods and commodities to government owned or controlled corporation, company, agency or Municipal Corporation 7. Project Proponent and facility Operator of a BOT project requiring a public utilities franchise 8. Operation of deep-sea commercial fishing vessels

9. Adjustment Companies
10. Ownership of condominium units where the common areas in the condominium projects are co-owned by the owners of the separate units or owned by a corporation

F. Up to Sixty Percent (60%) Foreign Equity
1. Financing companies regulated by the Securities and Exchange Commission 2. Investment houses regulated by the SEC

Coverage of Negative List B

In Negative List B, foreign ownership in certain business is limited for reason of security, defense, risk to health and morals and protection of small-and-medium scale enterprises. These are:

Up to Forty Percent (40 %) Foreign Equity
1. Manufacture, repair, storage and/or distribution of products and/or ingredients requiring Philippine National Police (PNP) clearance:

a. Firearms (handguns to shotguns), parts of firearms and ammunition therefore, instruments or implements used or intended to be used in the manufacture of firearms

b. Gunpowder
c. Dynamite
d. Blasting supplies
e. Ingredients used in making explosives
f. Telescopic sight, sniper scope and other similar devices 2. Manufacture, repair, storage and/or distribution of products requiring Department of National Defense (DND) clearance; a. Guns and ammunition for warfare

b. Military ordnance and parts thereof (e.g., torpedoes, depth charges, bombs, grenades, missiles)
c. Gunnery, bombing and fire control systems and components d. Guided missiles/missile systems and components e. Tactical aircraft (fixed and rotary -winged), parts and components thereof f. Space vehicles and component systems

g. Combat vessels (air. land and naval) and auxiliaries h. Weapons repair and maintenance equipment
i. Military communications equipment
j. Night vision equipment
k. Stimulated coherent radiation devices, components and accessories l. Armament training devices
m. Others as may be determined by the Secretary of the DND

3. Manufacture and distribution of dangerous drugs

IV. Incentives to Foreign Investors

The government has come up with a liberal program of fiscal and non-fiscal incentives to attract foreign capital and technology that
complements local resources.

On the importance of these incentives, particularly the tax incentives, the Supreme Court held:

“The legislative grant of tax relief (whether in the EPIRA Law of the Tax Code) constitutes a sovereign commitment of Government to taxpayers that the latter can avail themselves of certain tax reliefs and incentives on the course of their business activities here. Such a commitment is particularly vital to foreign investors who have been enticed to invest heavily in our country’s infrastructure, and who have done so on the firm assurance that certain tax reliefs and incentives can be availed of in order to enable them to achieve their projected returns on these very long-term and heavily funded investment. xxxxxx”[12] (emphasis and underscoring supplied)

The incentives available depend on the government office or export zone under which such foreign corporation intends to undertake or register its investment.

A. Registration with the Board of Investments

The Board of Investments (“BOI”), an agency under the Department of Trade and Industry, is the lead investments promotion agency of the country. The agency is designed to promote inward investments and assist local and foreign investors in their venture of the desirable areas of business, defined in the annually-prepared Investment Priorities Plan (“IPP”). The BOI is mandated by law (Omnibus Investments Code, Executive Order 226) to encourage investments through tax exemption and other benefits in preferred areas of economic activity specified by the BOI in the IPP.

Foreign-owned firms or those whose foreign participation exceeds 40% of the outstanding

Among the incentives under Title III, Article 39 of EO 226 are as follows:

1. Income Tax Holiday – a BOI-registered enterprise shall be exempt from payment of the income taxes reckoned from the scheduled start of the commercial operations, as follows: a. New projects with a pioneer status for 6 years; b. New projects with a non-pioneer status for 4 years; c. Expansion projects for 3 years.

d. New or expansion projects in less developed areas for 6 years, regardless of status; and e. Modernization projects for 3 years.

2. Exemption from taxes and duties on imported spare parts

3. Exemption from wharf age duties and export tax, duty, impost and fees 4. Reduction of the rates of duty on capital equipment, spare parts and accessories

5. Tax exemption on breeding stocks and genetic materials

6. Employment of foreign nationals – a registered enterprise may be allowed to employ foreign nationals in supervisory, technical or advisory positions for 5 years from date of registration.

7. Simplification of customs procedures for the importation of equipment, spare parts, raw materials and supplies and exports of processed products.

8. Importation of consigned equipment for a period of 10 years from date of registration.

9. The privilege to operate a bonded manufacturing/trading warehouse subject to customs rules and regulations.

B. Registration with the Economic Zones and Freeport Authorities

The Philippine Economic Zone Authority (“PEZA”) is a government agency
tasked to promote investments, extend assistance, register, grant incentives to and facilitate the business operations of investors in export-oriented manufacturing and service facilities inside selected areas throughout the country proclaimed by the President as PEZA Special Economic Zones.

Fiscal Incentives to PEZA-Registered Economic Zone Enterprises depend on the type of business:[13]

1. Economic Zone Export Manufacturing Enterprise
a. Income Tax Holiday (ITH) – 100% exemption from corporate income tax o 4 years ITH for Non-pioneer Project
o 6 years ITH for Pioneer Project
b. Upon expiry of the Income Tax Holiday – 5% Special Tax on Gross Income and exemption from all national and local taxes (“Gross Income” refers to gross sales or gross revenues derived from the registered activity , net of sales discounts, sales returns and allowances and minus cost of sales or direct costs but before any deduction is made for administrative expenses or incidental losses during a given taxable period) c. Tax and duty free importation of raw materials, capital equipment, machineries and spare parts. d. Exemption from wharf age dues and export tax, impost or fees e. VAT zero-rating of local purchases subject to compliance with BIR and PEZA requirements f. Exemption from payment of any and all local government imposts, fees, licenses or taxes. However, while under Income Tax Holiday, no exemption from real estate tax, but machineries installed and operated in the economic zone for manufacturing, processing or for industrial purposes shall be exempt from real estate taxes for the first three (3) years of operation of such machineries. Production equipment not attached to real estate shall be exempt from real property taxes g. Exemption from expanded withholding tax

2. Information Technology Enterprise:
a. Income Tax Holiday (ITH) – 100% exemption from corporate income tax: o 4 years ITH for Non-pioneer project
o 6 years ITH for Pioneer project
b. Upon expiry of the Income Tax Holiday – 5% Special Tax on Gross
Income and exemption from all national and local taxes. (“Gross Income” refers to gross sales or gross revenues derived from the registered activity , net of sales discounts, sales returns and allowances and minus cost of sales or direct costs but before any deduction is made for administrative expenses or incidental losses during a given taxable period) c. Tax and duty free importation of equipment and parts. d. Exemption from wharf age dues on import shipments of equipment. e. VAT zero-rating of local purchases of goods and services, including land-based telecommunications, electrical power, water bills, and lease on the building, subject to compliance with Bureau of Internal Revenues and PEZA requirements f. Exemption from payment of any and all local government imposts, fees, licenses or taxes. However, while under Income Tax Holiday, no exemption from real estate tax, but machineries installed and operated in the economic zone for manufacturing, processing or for industrial purposes shall not be subject to payment of real estate taxes for the first three (3) years of operation of such machineries. Production equipment not attached to the real estate shall be exempt from real property taxes. g. Exemption from expanded withholding tax.

3. Tourism Economic Zone Locator Enterprise
a. Four (4) years of Income Tax Holiday ITH (as qualified under the National Investment Priorities Plan) b. Upon expiry of the Income Tax Holiday – 5% Special Tax on Gross Income and exemption from all national and local taxes (“Gross Income” refers to gross sales or gross revenues derived from the registered activity , net of sales discounts, sales returns and allowances and minus cost of sales or direct costs but before any deduction is made for administrative expenses or incidental losses during a given taxable period) c. Tax and duty-free importation of capital equipment

d. VAT Zero Rating on local purchases of goods and services, including land-based telecommunications, electric power, and water bills e. Exemption from expanded withholding tax

4. Medical Tourism Enterprise
a. Four (4) years of Income Tax Holiday on income solely from servicing foreign patients b. Upon expiry of the Income Tax Holiday – 5% Special tax on Gross Income upon in lieu of all national and local taxes. (“Gross Income” refers to gross sales or gross revenues derived from the registered activity , net of sales discounts, sales returns and allowances and minus cost of sales or direct costs but before any deduction is made for administrative expenses or incidental losses during a given taxable period) c. Tax and duty-free importation of medical equipment, including spare parts and equipment supplies, required for the technical viability and operation of the registered activity/ies of the enterprise. d. VAT Zero Rating on local purchases of goods and services, including land-based telecommunications, electric power, and water bills e. Exemption from expanded withholding tax

5. Agro-Industrial Economic Zone Enterprise
a. Four (4) years of Income Tax Holiday
b. Upon expiry of the Income Tax Holiday – 5% Special tax on Gross Income and exemption from all national and local taxes. (“Gross Income” refers to gross sales or gross revenues derived from the registered activity , net of sales discounts, sales returns and allowances and minus cost of sales or direct costs but before any deduction is made for administrative expenses or incidental losses during a given taxable period) c. Tax and duty free importation of production equipment and machineries, breeding stocks, farm implements including spare parts and supplies of the equipment and machineries d. Exemption from export taxes, wharf age dues, impost and fees e. VAT Zero Rating on local purchases of goods and services, including land-based telecommunications, electric power, and water bills f. Exemption from payment of local government fees such as Mayor’s Permit, Business Permit, permit on the Exercise of profession/Occupation/Calling, Health Certificate Fee, Sanitary Inspection Fee, and Garbage Fee

6. Economic Zone Logistics Services Enterprise
a. Exemption from duties and taxes on raw materials, semi-finished goods for re-sale to – or for packing/covering, cutting, altering for subsequent sale to PEZA-registered Export Manufacturing Enterprises, for direct export or for consignment to PEZA-registered export enterprise. b. VAT Zero Rating on raw materials for checking, packing, visual inspection, storage and shipping to be sourced locally
7. Economic Zone Developer / Operator
7.a. Manufacturing Economic Zone Developer / Operator a. Special 5% Tax on Gross Income and exemption from all national and local taxes, except real property tax on land owned by the Economic Zone Developer. (“Gross Income” refers to gross sales or gross revenues derived from the registered activity , net of sales discounts, sales returns and allowances and minus cost of sales or direct costs but before any deduction is made for administrative expenses or incidental losses during a given taxable period) b. VAT Zero rating of local purchases

c. Exemption from expanded withholding tax

7.b. IT Park Developer / Operator
a. Special 5% Tax on Gross Income and exemption from all national and local taxes, except real property tax on land owned by the IT Park Developer. (“Gross Income” refers to gross sales or gross revenues derived from the registered activity , net of sales discounts, sales returns and allowances and minus cost of sales or direct costs but before any deduction is made for administrative expenses or incidental losses during a given taxable period) b. VAT Zero rating of local purchases

c. Exemption from expanded withholding tax

7.c. Tourism Economic Zone Developer / Operator
a. Special 5% Tax on Gross Income and exemption from all national and local taxes, except real property tax on land owned by the Tourism Economic Zone Developer. (“Gross Income” refers to gross sales or gross revenues derived from the registered activity , net of sales discounts, sales returns and allowances and minus cost of sales or direct costs but before any deduction is made for administrative expenses or incidental losses during a
given taxable period) b. VAT Zero rating of local purchases

c. Exemption from expanded withholding tax

7.d. Medical Tourism Economic Zone Developer / Operator a. Special 5% Tax on Gross Income and exemption from all national and local taxes, except real property tax on land owned by Medical Tourism Zone Developer. (“Gross Income” refers to gross sales or gross revenues derived from the registered activity , net of sales discounts, sales returns and allowances and minus cost of sales or direct costs but before any deduction is made for administrative expenses or incidental losses during a given taxable period) b. VAT Zero rating of local purchases

c. Exemption from expanded withholding tax

7.e. Agro-Industrial Economic Zone Developer / Operator a. Special 5% Tax on Gross Income and exemption from all national and local taxes, except real property tax on land owned by the Agro-Industrial Economic Zone Developer. (“Gross Income” refers to gross sales or gross revenues derived from the registered activity , net of sales discounts, sales returns and allowances and minus cost of sales or direct costs but before any deduction is made for administrative expenses or incidental losses during a given taxable period) b. VAT Zero rating of local purchases

c. Exemption from expanded withholding tax

7.f. Retirement Economic Zone Developer / Operator
a. Special 5% Tax on Gross Income and exemption from all national and local taxes, except real property tax on land owned by the Retirement Economic Zone Developer. (“Gross Income” refers to gross sales or gross revenues derived from the registered activity , net of sales discounts, sales returns and allowances and minus cost of sales or direct costs but before any deduction is made for administrative expenses or incidental losses during a given taxable period) b. VAT Zero rating of local
purchases

c. Exemption from expanded withholding tax

8. Facilities Enterprises
8.a. Economic Zone Facilities Enterprise
a. Special 5% Tax on Gross Income and exemption from all national and local taxes, except real property tax on land owned by developers. (“Gross Income” refers to gross sales or gross revenues derived from the registered activity , net of sales discounts, sales returns and allowances and minus cost of sales or direct costs but before any deduction is made for administrative expenses or incidental losses during a given taxable period) b. VAT Zero rating of local purchases

c. Exemption from expanded withholding tax

8.b. IT Park Facilities Enterprise
a. Special 5% Tax on Gross Income and exemption from all national and local taxes, except real property tax on land owned by developers. (“Gross Income” refers to gross sales or gross revenues derived from the registered activity , net of sales discounts, sales returns and allowances and minus cost of sales or direct costs but before any deduction is made for administrative expenses or incidental losses during a given taxable period) b. VAT Zero rating of local purchases

c. Exemption from expanded withholding tax

8.c. Retirement Economic Zone Facilities Enterprise
a. Special 5% Tax on Gross Income and exemption from all national and local taxes, except real property tax on land owned by developers. (“Gross Income” refers to gross sales or gross revenues derived from the registered activity , net of sales discounts, sales returns and allowances and minus cost of sales or direct costs but before any deduction is made for administrative expenses or incidental losses during a given taxable period) b. VAT Zero rating of local purchases

c. Exemption from expanded withholding tax

9. Economic Zone Utilities Enterprise
a. Special 5% Tax on Gross Income and exemption from all national and local taxes, except real property tax on land owned by developers. (“Gross Income” refers to gross sales or gross revenues derived from the registered activity , net of sales discounts, sales returns and allowances and minus cost of sales or direct costs but before any deduction is made for administrative expenses or incidental losses during a given taxable period) b. VAT Zero rating of local purchases

c. Exemption from expanded withholding tax

C. Tax Treaties

Taxes are one of the most important considerations of investors in deciding whether to continue with the deal or not. To relieve from the impact of double taxation and prevent fiscal evasion, tax treaties are entered into by different countries.

The Philippine government generally taxed income at 30% but the tax rate may be lowered to 10% or the income may be exempt from tax because of the provisions of tax treaties. However, the tax authority requires the filing of the application of tax treaty relief before availment thereof.

Currently, the Philippines has tax treaties with the following countries:

a. Austria
b. Australia
c. Bahrain
d. Bangladesh
e. Belgium
f. Brazil
g. Canada
h. China
i. Czech Republic
j. Denmark
k. Finland
l. France
m. Germany
n. Hungary
o. India
p. Indonesia
q. Israel
r. Italy
s. Japan
t. Korea (South)
u. Malaysia
v. Netherlands
w. New Zealand
x. Norway
y. Pakistan
z. Poland
aa. Romania
ab. Russia
ac. Singapore
ad. Spain
ae. Sweden
af. Switzerland
ag. Thailand
ah. United Arab Emirates
ai. United States of America
aj. United Kingdom of Great Britain and Northern Ireland ak. Vietnam

The purpose of these international agreements (i.e. tax treaties) is to reconcile the national fiscal legislations of the contracting parties in order to help the taxpayer avoid simultaneous taxation in two different jurisdictions. The Supreme Court held in the case of Commissioner of
Internal Revenue vs Johnson and Son, Inc.:[14]

“xxxThe apparent rationale for doing away with double taxation is to encourage the free flow of goods and services and the movement of capital, technology and persons between countries, conditions deemed vital in creating robust and dynamic economies. Foreign investments will only thrive in a fairly predictable and reasonable international investment climate and the protection against double taxation is crucial in creating such a climate.”

V. Conclusion

In order attract foreigners to come and invest in the Philippines, our government has come up with wide array of forms, options and incentives they can choose from. These options are intended to afford them an acceptable rate of return on their investments. With these options, the Philippine government is hopeful that foreigners would be willing and attracted to invest that will provide more opportunities in employment for the Filipinos, develop the productivity of Philippine resources, heighten the volume as well as the value of exports and provide the future development of the economy’s foundation.

———————–
[1] Republic Act (“RA”) 7042, as amended by RA 8179.

[2] Section 23(D) of the National Internal Revenue Code (“NIRC”). [3] Article 1767 of the Civil Code of the Philippines.
[4] Section 22 (B) of the NIRC.
[5] Section 2 of the Corporation Code of the Philippines.

[6] Section 23(F) of the NIRC.
[7]
NPQ_`z}?Ž®±³´ÛÜÞßàáâïßïϿϯŸ?Ï¿¯ŸÏ¿Ï¿Ï‚uhuX?1hÄ]°hF[8]5?>*[pic]CJOJPJRule 1, Section 1, Implementing Rules and Regulations (“IRR”) of RA 7042.

[9] SEC Opinion No. 34, Series of 2003, dated 26 June 2003. [10] SEC Opinion dated 2 February 2001.
[11] Section 2(2) of RA 8756.

[12] Section 2(3) of RA 8756.

[13] San Roque Power Corporation vs Commissioner of Internal Revenue, GR No. 180345, 25 November 2009.

[14] Part VII of the IRR of RA 7916, otherwise known as “The Special Economic Zone Act of 1995”.

[15] GR No. 127105, 25 June 1999.