Mergers, acquisitions, and other corporate
combinations (or simply, “M&As”) are a big part of the modern-day
business world. They help businesses grow quickly and, if put to good
use, positively impact the economy. From a business standpoint, they
provide a way for parties from both sides to obtain valuable assets,
both tangible and intangible. They also provide an opportunity for
companies to achieve synergy (i.e., be more profitable as a single
entity as compared to the individual combining parties). M&As could
even be beneficial to smaller firms by giving them a chance to adopt
business practices of larger, more established firms. These benefits are
acknowledged by our Tax Code which grants an incentive to firms seeking
to enter such transactions. Considering the intent of the law and the
economic benefits M&As could bring, this incentive should be made
easily available to taxpayers.
Section 40(c)(2) of the Tax Code embodies
the provisions on tax-free exchanges. It states that no gain or loss
shall be recognized if, pursuant to a merger or consolidation, an
exchange between the parties occurs. The exchange may consist of either:
the property or securities of one entity for shares of stock of
another, or a share-swap.
If qualified, these exchanges will be tax-free where no gain or loss
shall be recognized. As pointed out by the Supreme Court, the purpose of
the law in treating these exchanges as tax-free is to “encourage
corporations in pooling, combining, or expanding their resources
conducive to the economic development of our country.” The previous
imposition of taxes on corporate combinations and expansions discouraged
M&As to the detriment of economic progress. Thus, an incentive was
provided by our legislators to encourage these transactions.
M&As, however, can also be used by firms to carry out a harmful
purpose. Thus, the Philippine Competition Act (RA No. 10667) was passed.
By regulating M&As, the Act intends to promote and protect
competitive markets, preserve the efficiency of competition, and protect
the well-being of consumers. M&As that substantially prevent,
restrict, or lessen the relevant market, are prohibited. Under the Act
and its implementing rules and regulations (IRR), the Philippine
Competition Commission (PCC) may, on its own or upon notification,
review M&As having a direct, substantial, and reasonably foreseeable
effect on trade, industry, or commerce. Section 3, Rule 4 of the IRR
also provides specific instances where compulsory notification becomes
mandatory (i.e. upon reaching the indicated threshold).
From the laws cited above, it is clear that M&As are not mere
business transactions. These are transactions imbued with public
interest. They may either be helpful or ruinous to domestic markets and
the local economy.
While the Tax Code and the Philippine Competition Act are different laws
written for distinct purposes, both recognize the importance of
M&As. One intends to provide a benefit, while the other seeks to
regulate. As it stands, however, claiming the benefits of a tax-free
exchange is much more tedious for taxpayers as compared to seeking the
PCC approval regarding an M&A transaction.
In order to claim the benefits of a tax-free exchange, taxpayers are
required to first secure a tax-free ruling from the Bureau of Internal
Revenue (BIR) despite the Tax Code itself not imposing this requirement.
Under BIR rules, taxpayers who do not file the required ruling
application will not be able to obtain a Certificate Authorizing
Registration/Tax Clearance (CAR/TCL) for shares or property transferred.
This poses a problem because there are no assurances that taxpayers
seeking to claim the benefits of a tax-free exchange would have their
applications decided upon in a timely manner.
The BIR rules do not contain a “deemed approved” provision where a
taxpayer’s ruling application would be considered approved after the
lapse of a certain period. As a result, due to the long amount of time
it takes for ruling requests to be processed and issued (some taking
multiple years before they are concluded), taxpayers are left in limbo
because they are unable to obtain a CAR/TCL.
On the other hand, under the Competition Act, if upon the expiration of
90 days, a decision has not been reached by the Commission concerning a
merger or consolidation qualified for compulsory notification, it shall
be deemed approved and the parties shall be allowed to consummate the
transaction. This rigid deadline forces the Commission to act promptly
and expeditiously. The deadline provides a safeguard for parties such
that their M&A transactions would not be unduly restricted due to
the government’s inaction. Moreover, big mergers that could
significantly impact the economy in a positive way are given a chance to
come into fruition without facing the problem of unnecessary
bureaucracy.
It seems ironic that the Competition Act, the law enacted for the noble
purpose of regulating M&A transactions for the protection of local
consumers and market players, provides some assurance to businesses that
their transactions will not be prejudiced by the government’s inaction.
On the other hand, the BIR rules on tax-free exchanges do not contain
any such assurance despite the purpose of the legislature in crafting
Section 40(c)(2) of the Tax Code.
Notably, the Court of Tax Appeals (CTA) has recently ruled that “there
is nothing explicitly requiring a party, in exchanging property for
shares of stocks, to first secure a BIR confirmatory certification or
tax-free ruling before it can avail itself of tax exemption” under
Section 40 (c) (2). This case is somewhat parallel to the much
publicized 2013 Supreme Court case of Deutsche Bank where the Supreme
Court struck down the BIR’s requirement of filing a Tax Treaty Relief
Application (TTRA) before a taxpayer can enjoy treaty benefits. Four
years since the promulgation of the Deutsche Bank case, the BIR has
begun to show signs that it recognizes this jurisprudence, albeit in a
somewhat limited manner, with a new issuance which no longer requires a
TTRA for certain types of income payments. It has yet to be seen,
however, whether or not the BIR would adopt the CTA decision on tax-free
exchange rulings.
To be clear, the Tax Code indeed does not require the filing of a
tax-free ruling application in order for taxpayers to claim the benefits
of Section 40(c)(2). However, in trying to make a case for the
administrative requirement of obtaining a tax-free ruling, one may argue
that there may be a real need to regulate these transactions in order
to prevent unscrupulous parties from entering into schemes for purposes
of escaping taxation. After all, the Tax Code itself provides that in
order to be regarded as tax-free, the transaction must be undertaken for
a bona fide business purpose and not solely for the purpose of escaping
the burden of taxation. As it stands, however, the current practice of
obtaining a tax-free ruling pursuant to a merger or consolidation is too
cumbersome for taxpayers due to the indefinite amount of time it takes
to be completed, not to mention the numerous documentary submissions
required.
The current practice brings about an effect opposite to what Section 40
(c) (2) originally intended, which was to create a business environment
conducive to the economic development of the country. At the very least,
in the interest of continuous policy improvements, the BIR could
perhaps take a cue from the Competition Act and adopt a “deemed
approved” period. This would at least give businesses some assurance
that their commercial transactions will not be forestalled by the
government’s inaction. Taxpayers would be able to claim benefits
provided by the law without unnecessary restrictions. Most importantly,
making the incentive readily accessible would be more consistent with
the law’s intention of encouraging the pooling, combining, and expansion
of resources by the different market players.
The views or opinions expressed in this article are solely those of
the author and do not necessarily represent those of Isla Lipana &
Co. The firm will not accept any liability arising from the article.
Mats E. Lucero is a senior consultant at the Tax Services Department of
Isla Lipana & Co., the Philippine member firm of the PwC network.
(02) 845-2728
mats.e.lucero@ph.pwc.com
Source: Businessworld
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