An FCDU is a unit of a local bank or a local branch of a foreign bank authorized by the Bangko Sentral ng Pilipinas (BSP) to engage in foreign currency-denominated transactions, including accepting deposits and lending in currencies other than the Philippine peso.
The growth in FCDUs was due to the increased demand for the products and services of FCDUs, including dollar-denominated loans.
A news report quoted the BSP as saying that income from the extension of loans denominated in dollars and other foreign currencies was brisk last year, as demand for such types of credit grew with the increase in the importation of various goods.
Another report said that loans granted by FCDUs increased by 18.1% in 2010 and that the borrowers were mostly residents and corporate entities engaged in external trade, as well as utility firms that needed to import oil.
Likewise, the FCDUs’ deposit liabilities, which were largely held by residents, increased in the last quarter of 2010.
With this growth in FCDU loans and deposits in 2010, the tax collections of the Bureau of Internal Revenue (BIR) from this sector should have increased.
One of the major sources of tax revenues from FCDUs is the documentary stamp tax (DST).
However, are foreign currency-denominated loans and deposits subject to or exempt from DST? Is the DST exemption on the transactions or on FCDUs?
These are the issues that took a while to resolve with the enactment of Republic Act No. (RA) 9294 in 2004 which restored the tax exemption of FCDUs.
Prior to the 1997 Tax Code, the taxation of FCDUs was covered by the Presidential Decree No. (PD) 1035.
Under this special law, the net income from foreign currency transactions by FCDUs with nonresidents, offshore banking units (OBUs) in the Philippines and other FCDUs was subject to a 5% tax, which was in lieu of all taxes on said transactions.
The exemption privilege is waived only on certain net income from transactions, as may be specified by the Secretary of Finance, upon recommendation of the Monetary Board, to be subject to the usual income tax payable by banks.
On the other hand, income from foreign currency loans granted by such FCDUs to residents was subject to 10% final withholding tax, except those from loans to other OBUs in the Philippines or depository banks under the expanded system.
Revenue Regulations No. (RR) 10-76, the implementing regulations of PD 1035 enumerates the taxes that are covered by the in-lieu-of nature of the 5% income tax. These include — but are not limited to — the privilege tax, gross receipts tax, documentary and science stamp tax and profit remittance tax.
This previous law and its implementing regulations clearly stated that the exemption was on the transaction and such exemption included DST.
In 1977, all tax laws were codified under PD 1158, otherwise known as the National Internal Revenue Code (NIRC) of 1977.
Under this law, the wordings of PD 1035 were changed and rephrased as: “Income derived by a depository bank under the expanded foreign currency deposit system from foreign currency transactions with nonresidents, OBUs in the Philippines, local commercial banks including branches of foreign banks that may be authorized by the Central Bank to transact business with foreign currency deposit system units and other depository bank under the expanded foreign currency deposit system shall be exempt from all taxes, except taxable income from such transactions as may be specified by the Secretary of Finance, upon recommendation of the Monetary Board to be subject to the usual income tax payable by banks: Provided, that interest income from foreign currency loans granted by such depository banks under said expanded system to residents (other than OBUs in the Philippines or other depository banks under the expanded system) shall be subject to a 10% tax.”
Note that the exemption provision is embodied in the Income Tax chapter of the NIRC of 1977.
It would appear that the exemption from taxes, based on the above provisions, refers only to income derived by the FCDUs.
Since the DST cannot be imposed on income, but is a levy on the document or on the transaction, it may not be included in the exemption.
In fact, in a 1982 ruling issued on the basis of the provisions of NIRC of 1977, the BIR took the position that the bank drafts, telegraphic transfers or travelers’ checks to be issued by the bank in case of withdrawals from its FCDU account are subject to DST since the exemption from all taxes refers only to the income derived by FCDUs from its foreign currency deposit transactions.
Notwithstanding this, the BIR has recognized that the current provisions of the law under the 1997 Tax Code, as amended by RA 9294 which restored the tax exemption of FCDUs, is substantially the same as the NIRC of 1977.
It has been clarified in BIR Ruling No. 051-2010 that with the restoration of the tax exemption of FCDUs in 2004, under the principle of legislative approval of administrative interpretation by reenactment, the provisions of RR 10-76 exempting FCDUs from gross receipts tax, among other taxes, is re-enforced.
Hence, RR 10-76 will still be the implementing regulations for the FCDU provision of the 1997 Tax Code, as amended, although DST was not an issue in this ruling.
Consequently, FCDUs should continue to be exempt from DST.
This BIR ruling is consistent with the recently decided case of the Court of Tax Appeals (CTA) in CTA No. 7874 (March 29, 2011). One of the issues raised in this case is whether or not the bank is liable to the alleged deficiency DST on its FCDU for taxable year 2004 in light of the categorical provisions of RR 10-76 and PD 1035.
The CTA held that from the date of effectivity of RA 9294, the FCDU transactions, except net income from such transactions, as may be specified by the Secretary of Finance, are now exempt from all taxes, including the assessment for deficiency DST. Section 1 of RA 9294 provides for an all-inclusive exemption from all other taxes.
Both the BIR and the CTA apparently agree that FCDU is indeed exempt from DST under the current law. However, under existing regulations, if one of the parties to the taxable transaction is exempt from the DST, the other party who is not exempt shall be the one directly liable for the DST.
However, even if the bank is exempt from the DST, it shall be regarded as an agent of the Commissioner for the collection of the tax under the regulations that the BIR has issued.
As a collecting agent, it becomes responsible for collecting the DST from borrowers and depositors, and remitting the same to the BIR. Hence, the FCDU is liable to charge the DST to the borrower.
Notwithstanding that the DST is not its direct liability, there will be corresponding penalties — if assessed by the BIR — if it fails to perform obligation to collect and remit the tax.
With the reported growth of the FCDU loans and deposits in 2010, the BIR would most likely look for growth in the tax remittances of FCDUs, including DST.
The author is a senior manager with the Tax Advisory & Compliance Division of Punongbayan & Araullo, a member firm within Grant Thornton International Ltd.