IAET for listed companies?

EVER since the introduction of the 1997 Tax Code, domestic corporations classified as closely-held corporations have been exposed to the 10% improperly accumulated earnings tax (IAET) for failure to declare dividends, which are beyond the reasonable needs of the corporation.
 
Closely-held corporations are those corporations, of which at least 50% in value of the outstanding capital stock or at least 50% of the total combined voting power of all classes of stock entitled to vote is owned directly or indirectly by or for not more than 20 individuals. Domestic corporations, not falling under such definition, are considered publicly held corporation and therefore, exempt from IAET.

In previous Bureau of Internal Revenue (BIR) rulings, Philippine corporations that are owned by corporations listed on stock exchanges locally or abroad were exempted from the IAET provided they complied with the ownership requirements for publicly held corporations.

In a recent BIR ruling, the BIR scrutinized the ultimate individual stock-ownership of a Philippine corporation owned by a listed corporation. Examining the ownership structure of the listed corporation, the BIR held that although the majority owner was listed on the stock exchange, the Philippine corporation was not publicly held and therefore, subject to the IAET.

In this ruling, more than 50% of the Philippine corporation was owned by an intermediate holding company which, in turn, was wholly owned by a listed corporation.

In analyzing the facts of the case, the BIR emphasized that for purposes of determining whether a corporation is a closely-held corporation, stocks owned by a corporation shall be considered as being owned proportionately by its individual shareholders.

Thus, the ownership of a domestic corporation for purposes of IAET is ultimately traced to the individual shareholders of the parent company. Accordingly, where at least 50% of the outstanding capital or at least 50% of the total combined voting power of all classes of stock entitled to vote in a corporation is owned directly or indirectly by at least 21 or more individuals, the corporation is considered a publicly held corporation as the term is defined in Revenue Regulations No. (RR) 2-2001, which implements the IAET.

Examining the stockholders of the publicly listed corporation, the BIR noted that there were only about five to six persons who controlled the listed corporation. As a result, the Philippine corporation was found to be closely-held and therefore subject to the 10% IAET under Section 29 of the Tax Code.

The IAET is imposed to discourage tax avoidance through corporate surplus accumulation. When corporations do not declare dividends, income taxes are not paid on the undeclared dividends. The Supreme Court in the case of Cyanamid Philippines, Inc. vs. the Court of Appeals explained that the tax on improper accumulation of surplus is essentially a penalty tax designed to compel corporations to distribute earnings so the said earnings by shareholders could, in turn, be taxed.

Aside from publicly held corporations, the following corporations are also exempt from the IAET: (a) banks and other non-bank financial intermediaries; (b) insurance companies; (c) taxable partnerships; (d) general professional partnerships; (e) non-taxable joint ventures; and (f) enterprises duly registered with the PEZA and enterprises registered pursuant to the Bases Conversion and Development Act of 1992 as well as other enterprises duly registered under special economic zones declared by law, which enjoy payment of special tax rate on their registered operations or activities in lieu of other taxes, national or local.

The new ruling seem to signal a tightening by the tax authorities in determining what corporations may be considered as publicly held corporations and therefore, exempt from IAET. Hence, it will not be surprising if tax audit examiners will now require proof that the publicly listed stockholde r or parent company is in fact, publicly held.

The 50%-21 stockholder rule may be particularly important for taxpayers whose parent companies are listed on the Philippine Stock Exchange (PSE). Under the minimum public ownership rule adopted by the PSE, the minimum public float is only 10% of the issued and outstanding shares. Thus, even if a Philippine corporation is listed on the PSE, there is a possibility that as little as 10% is owned by the public. Taxpayers, who invoke they are exempt from the IAET by being listed on the PSE or by having a controlling stockholder that is publicly listed, must evaluate the amount of ultimate individual stockholdings. They should be able to present proof that at least 50% of the value of the stocks or voting shares of the publicly listed company is owned directly or indirectly by not less than 21 individuals.

We know for a fact that tax authorities are hard pressed to increase their collections from the taxpayers. Consequently, it is expected that more rules will be issued that strictly interpret the laws in favor of tax collections. Taxpayers are advised to reevaluate their tax positions on the basis of whether they have tax exposures due to unclear rules in the past or liberal interpretations of the law.





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