When Clarifications lead to Confusion
by: Atty. Danica Anne S. Escobiñas
clar·i·fy (klerəˌfī) verb. to make something clear or easier to understand by giving more details or a simpler explanation.[1]
Unfortunately, not always.
The growth of digitalization in recent years has given rise to a new borderless world economy, one which gives parties the ability to conduct business activities in a territory without having a physical presence there. Increased digital transactions has put in check established tax rules, with tax authorities scurrying to update tax laws, rules, and regulations to keep up with this rapidly evolving digital world.
In an attempt to transform the taxation landscape in the Philippines, the Supreme Court (SC) made certain pronouncements affecting Philippine taxation of cross-border services in Aces Philippines Cellular Satellite Corporation v. The Commission of Internal Revenue.[2]
In the Aces case, the SC ruled that the satellite airtime fees paid by Aces Philippines to a Bermuda non-resident foreign corporation (NRFC) are subject to final withholding tax (FWT), despite the fact that the fees arose from the transmission of satellite signals from a satellite in outer space and an Indonesian control center. The SC applied a two-tier approach: (1) it determined the source of income, and thereafter, (2) the situs of the source, and held that since the income was earned only upon successful delivery of the satellite signals to the Philippines, the payments are deemed Philippine-sourced income for taxation purposes.
The Bureau of Internal Revenue (BIR) subsequently issued Revenue Memorandum Circular (RMC) No. 5-2024 “[f]urther Clarifying the Proper Tax Treatment of Cross-Border Services” in light of the Aces case. RMC No. 5-2024 imposes Philippine taxes on payments for services rendered by NRFCs “akin” to that in Aces, namely: consulting services, IT outsourcing, financial services, telecommunications, engineering, construction, education, training, tourism, hospitality, and other similar services, even if rendered entirely outside the Philippines. According to this issuance, payments to NRFCs for these services shall be subject to FWT and value-added tax (VAT) if the revenue-generating activity that is integral to the overall transaction occurs within the Philippines. For as long as the utilization or consumption of the service happens in the Philippines, the fees are taxable.
RMC No. 5-2024 raised uncertainties because not only did it go beyond the SC’s pronouncements in the Aces case, but there was also an apparent shift in the tax treatment of fees paid to NRFCs by Philippine-resident payors.
In an attempt to “further address and clarify the issues raised on RMC No. 5-2024”, the BIR issued RMC No. 38-2024 , which stated that the ruling in Aces does not automatically apply to all cross-border services. Determining the source of income from cross-border services requires an examination of the service agreement between the NRFC and the Philippine entity, specifically on where the economic activity and benefit occur. Further, RMC No. 38-2024 stressed that taxpayers can still invoke tax treaty benefits.
Despite the clarifications provided by the RMCs, there are still issues that still need to be resolved. First, none of the services listed in RMC No. 5-2024 are mentioned in the Aces case. Second, VAT was not even discussed in the Aces case, yet it was included in the RMCs. Lastly, Section 42 of the National Internal Revenue Code (NIRC) clearly provides that compensation for services performed outside the Philippines is considered income from sources outside the country, thus not subject to Philippine tax. In case regulations conflict with the law, the law should prevail.
While the BIR’s intention of ensuring the Philippines gets its fair share of taxes is laudable, the ambiguities caused by the RMCs may bring unintended repercussions. In fact, Senator Sherwin Gatchalian has already raised the concern that the BIR’s imposition of taxes might drive away foreign entities from doing business in the country. He seeks for the review of the issuances to ensure that these do not go beyond the NIRC and the Supreme Court decision.
While we wait for clearer guidance or new legislation settling these issues, taxpayers involved in cross-border services may need to carefully review their cross-border service agreements, check if treaty exemptions apply, or seek a tax ruling from the BIR to ensure the proper tax treatment of their transactions.
Danica is a Junior Associate and currently a member of the Corporate, Technology Media & Telecommunications, Energy, and Real Property departments of the Firm. Her practice includes corporate secretarial and compliance matters before regulatory bodies. She also assists clients in corporate and commercial dealings such as mergers and acquisitions and legal due diligence.
1. “clarify.” https://dictionary.cambridge.org/us/dictionary/english/ (15 June 2024).↩
