Riding a favorable economic landscape, the Philippines is projected to sustain a 6.5% growth rate this year fueled by the government’s aggressive spending on infrastructure. Among the industries benefiting from this growth momentum is the real estate sector as manifested in the boom in transactions involving land, house and lot, and condominium projects.
If real property is sold, leased or exchanged, the gross consideration would normally include the value-added tax (VAT) as such transactions are generally subject to VAT. Section 105 of the National Internal Revenue Code of 1997 (Tax Code) states that any person, who in the course of trade or business, sells, barters, exchanges, leases goods or properties, renders services, and any person who imports goods shall be subject to VAT.
If a real estate company decides to execute a Deed of Assignment to assign its properties to another real estate company that is in the pre-incorporation stage, in exchange for shares in the latter, will such a transaction be subject to VAT?
The issue was brought to the fore in a decision docketed as Court of Tax Appeals (CTA) Case No. 9145 dated July 24, 2017. The CTA ruled that the transfer of real property, which is not done in the course of business, is not subject to VAT.
Under the Tax Code, the term “in the course of trade or business” is defined as the regular conduct or pursuit of a commercial or an economic activity, including transactions incidental thereto, by any person regardless of whether or not the person engaged therein is a non-stock, non-profit private organization (irrespective of the disposition of its net income and whether or not it sells exclusively to members or their guests), or government entity.
In support of its decision, the CTA relied on Supreme Court (SC) jurisprudence under G.R. No. 146984 dated July 28, 2006, stating that a sale not done in the ordinary course of business or trade is not subject to VAT. The SC interpreted the term “in the ordinary course of business” as usually done in the management of trade or business and connotes regularity. Since the primary purpose of the taxpayer as stated in its Articles of Incorporation does not cover the subject transfer of properties, the CTA considered the transaction as not done in the course of trade or business. Thus, the transaction is not subject to VAT.
Moreover, since the transfer of the lands were in the nature of a pre-incorporation subscription contract, then the transaction cannot be deemed as a sale transaction. Citing jurisprudence, the tax court ruled that the Deed of Assignment executed in this particular case cannot be considered a contract of sale.
The CTA also shot down the argument that the transaction should be treated as a deemed sale transaction based on Section 106 (B)(1) which provides that the “transfer, use or consumption not in the course of business of goods or properties originally intended for sale or for use in the course of business” is subject to VAT. While the tax court recognized that the taxpayer was a real estate company, there was no proof that the real properties transferred in exchange for the stock subscription were properties originally intended for sale or for use in the course of business.
Interestingly, though it does not change the decision, the court ruled against the taxpayer’s argument that Section 4.106-8 of Revenue Regulations (RR) No. 16-2005, as amended by Revenue Regulations No. 4-2007, was the prevailing rule when the transaction occurred. The regulations provide that the transfer of properties between two real estate dealers, in an exchange where the transferor gains control of the transferee-corporation, shall not be subject to output VAT. The CTA ruled that the RR 4-07 is not applicable in this case because the investee-company was still in the process of incorporation and hence, not yet a corporation at the time of the transaction.
The CTA decision reversed both the previous ruling of the Bureau of Internal Revenue (BIR) in its Certification Ruling SN. 014-2012 dated Feb. 20, 2012 and the resolution of the Department of Finance dated July 14, 2015, which ruled that the taxpayer’s transaction was subject to VAT.
Apart from the VAT issue, another significant discussion in the case was the CTA’s confirmation that it has jurisdiction to resolve cases involving adverse rulings appealed with the Secretary of Finance. This is consistent with the ruling in G.R. No. 210987 dated Nov. 24, 2014 where the SC upheld the CTA’s appellate jurisdiction to review an adverse ruling of the Secretary of Finance. Although Section 7 of the Tax Code suggests that the CTA’s jurisdiction covers only the rulings of the BIR Commissioner, to leave undetermined the mode of appeal from the Secretary of Finance would be prejudicial to taxpayers and that is not the intention of the law.
A noteworthy take-away and reminder from the CTA case is that tax laws can be interpreted differently depending on the circumstances presented by each case. No two cases are exactly alike. Hence, tax laws need to be applied consistently with the policy, wisdom and objectives behind its formulation. While court interpretations of the law may appear to be vacillating from time to time, taxpayers may find consolation in the fact that issues are resolved within the forum of a robust exchange of legal arguments and with a common goal of finding an equitable ground.
The views or opinions in this article are solely those of the author and do not necessarily represent those of Isla Lipana & Co. The content is for general information purposes only, and should not be used as a substitute for specific advice.
Janeth A. Parcon is a manager at the Tax Services Department of Isla Lipana & Co., the Philippine member firm of the PwC network.