As the school year begins, it is common for students to be excited to see their classmates after the long summer vacation and to be hopeful that school won’t be as difficult or demanding.  When I recall my days in the academe, we juggled academics with extracurricular activities while balancing to stay connected with family and friends. We were assigned roles and responsibilities during the first few days of school - a very good example of which is the election of class officers. As an elected class officer, one was expected to perform the duties and responsibilities assigned specifically to his role. This is necessary in maintaining the structure and order and to make officers accountable for their respective duties. 

From the perspective of promoting investment and incentives, government agencies such as Philippine Economic Zone Authority (PEZA) and Bureau of Internal Revenue (BIR), are given roles with specific duties and responsibilities essential for maintaining effective administration of direct investments into the country.

Just as in the case of electing class officers, it is important for government agencies to know their respective roles and responsibilities. What happens when there is confusion on the roles and functions given to these government agencies? Will taxpayers be adversely affected by these clash of roles and functions?

A recent case decided by the Court of Tax Appeals (CTA) has dealt with this issue. In the consolidated case of AGM Packaging System Ltd. Corp. vs Commission of Internal Revenue and Commissioner of Internal Revenue vs. AGM Packaging System Ltd. Corp. (CTA EB. No. 1734 and 1739, March 29, 2019), the BIR assessed the taxpayer with deficiency taxes for its operations for the taxable year 2009 due to its failure to prove that its activities are within its PEZA registered activities.

As per its Registration Agreement with PEZA, the registered activity of the taxpayer is limited to the manufacture of wooden pallets and the importation of raw materials, machinery, equipment, tools, goods, wares, articles, or merchandise directly used in its registered operation. It was also presented that as part of the actual process of manufacturing these specialized wooden pallets, the taxpayer imports raw materials. The raw materials are then delivered from the taxpayer to its affiliate for assembly into finished goods. The finished goods are then transferred from the affiliate to the taxpayer.

The BIR took the position that the process was actually in the nature of “trading” and not manufacturing. BIR further stressed that trading and manufacturing are worlds apart in which manufacturing presupposes an act of producing something out of the raw materials while trading is the business of buying and selling. In this case, it was the affiliate that manufactured the wooden pallets being sold by the taxpayer after it bought the same from the former, in short, trading. BIR pointed that it was clearly beyond the taxpayer’s registered activity. Having engaged in a different activity other than its registered activity, taxpayer is disqualified from availing the incentives enjoyed by a PEZA-registered enterprise.

The taxpayer, on the other hand argued  that it is the PEZA, under its power provided under R.A. 7916, which has the sole authority to declare upon factual compliance that an entity is a bona fide PEZA-registered entity and its entitlement to Income Tax Holiday (ITH) or 5% Gross Income Tax (GIT).

In addition, a Certification issued by PEZA was provided which confirmed the available incentives of the taxpayer. It must be noted that before PEZA issues a Certification, taxpayer must comply with all submission of reportorial requirements. Thus, there is a documentary evidence to support that its sub-contracting agreement, in relation to its registered activity of manufacturing of wooden pallets, was duly authorized and approved by PEZA and not merely conducted at the behest of the taxpayer. Further, the issuance of various Letters of Authority by PEZA to cover the subcontracting agreement between the taxpayer and its affiliates confirms that the said subcontracting is within the scope of the taxpayer’s registered activity.

Based on the above, there appear to be two relevant issues, namely : (a) was it really correct that it is within the power of the BIR, in the exercise of its power to assess, to determine whether the taxpayer is qualified to avail of the incentives as provided by R.A. 7916 (Special Economic Zone Act of 1995) or is it the sole power of the PEZA to determine such qualifications; and (b) whether the sub-contracting of manufacturing of wooden pallets falls within the PEZA-registered activity of the taxpayer.

The CTA ruled in favor of the BIR on both issues. The CTA deciding En Banc concurred that the power and duty to assess national internal revenue taxes are lodged with the Commission of Internal Revenue (CIR) pursuant to Sections 2 and 6 of the NIRC of 1997, as amended. Thus, it logically follows that the CIR has the authority to determine whether or not a PEZA registered entity such as the AGM paid the proper tax due, more so considering the tax incentives given to it by virtue of its PEZA Registration. This authority was further confirmed by Revenue Regulations (“RR”) No.01-00 as amended by RR No. 27-02.

As to the issue on the sub-contracting whether it is within the scope of the taxpayer’s registered activity, the CTA further pointed out that the Letters of Authority from the PEZA disclosed that the sub-contracting was approved only on July 13, 2010 which is valid for six months and subject to renewal for another six months. In other words, there were no approval for the subcontracting in the year 2009 and hence, are outside the registered activity of the taxpayer.

Bearing in mind all that has happen on this case, I can’t help but get confused as well. If the issuance of Certifications by PEZA does not guarantee that PEZA-registered entities will absolutely qualify in enjoying the fiscal incentives available to them as provided by law, then what is the purpose of submitting all these required reportorial documents? Will this entail that taxpayers may be compliant with PEZA but not with the BIR?

Although it remains to be seen if this case will be reversed or further denied considering a Motion for Reconsideration has been filed recently, I hope that the BIR, PEZA and all other Investment Promotion Agencies (IPPs) come up with more cohesive and synergized rules and regulations so that the taxpayers and investors alike will not be burdened and get confused in these areas. After all, the ultimate goal of these agencies is to promote and attract investments in the Philippines without too much compliance costs and administrative burden on taxpayers.