Special InTAX: January 2024 Issue 1 | Volume 8

Bureau of Internal Revenue

The Bureau of Internal Revenue (BIR) issued the following:

Revenue Memorandum Circular (RMC) No. 11-2024, dated 12 September 2023, clarifying the tax treatment of lease accounting by lessees under Philippine Financial Reporting Standard (PFRS) 16.

RMC No. 11-2024 provides for an overview of the PFRS (financial reporting) and tax treatment of the following:

1. Depreciation of right-of-use asset (ROUA)
2. Interest on lease liability
3. Rent expense
4. Gain or loss on lease modification
5. Initial direct costs paid/incurred by lessee

The RMC also discussed the accounting/financial reporting treatment for lease under PFRS 16 particularly on how the lease assets and liabilities are initially recognized, measured and recognized in books. The issuance also discussed how the lease modification and exemptions (i.e., short-term leases and leases of low-value items) are treated under PFRS 16.

For tax purposes, the issuance distinguishes the operating lease, financial lease and conditional sale and provides the following tax implications: 

Income Tax (IT)

1. The depreciation expense pertaining to the ROUA and the interest expense that are recognized for financial accounting purposes shall not be treated as deductible expenses. Only the actual amount of rent paid or incurred, including any other payments to lessors, based on the lease agreements, shall be allowed as deductions in  arriving at the net taxable income. (Q&A No. 4)
2. The initial direct cost paid or incurred by the lessee in relation to the lease agreement shall be claimed as outright expenses in the year it was paid or incurred subject to substantiation and withholding requirements pursuant to Section 34 of the Tax Code*. (Q&A No. 6)
3. The amounts paid by the lessee for certain expenses, which are properly for the account of the lessor as indicated in the contractual agreement between the parties (e.g., realty tax, association dues, etc.) shall be allowed as deductions during the year the same has been paid or accrued pursuant to Section 34 of the Tax Code, and the issuance by the lessor of invoices/receipts** in the name of the lessee. (Q&A No. 7)
4. For short-term lease and lease for low-value assets, only the actual rentals paid or accrued during the taxable year, in relation to the lease contracts, shall be recognized by the lessee as deductible expenses. (Q&A No. 8)
5. Gains or losses from lease modifications shall not be included in the determination of taxable income as defined under Section 31 of the Tax Code. (Q&A No. 9)
6. Any advance payments made pursuant to a lease contract which are in the nature of a security deposit for the faithful performance of certain obligations of the lessee shall only be recorded as an asset in the year the advance payment is received. However, if the advance payment is a security deposit and the conditions which make the security deposit the property of the lessor occur, then the lessee shall be entitled to a deduction based on the amount of security deposit applied to the lease. (Q&A No. 10)
7. Any estimated costs to be incurred by the lessee in dismantling and removing the underlying asset, restoring the site on which it is located or restoring the underlying asset to the condition required by the terms and conditions of the lease shall only be considered as deductible expenses during the taxable year that the same has been actually paid or incurred pursuant to Section 34(A)(1)(a) of the Tax Code. (Q&A No. 11)

Value-Added Tax (VAT)

The corresponding input VAT shall only be creditable to the lessee upon payment of the rentals, which shall be evidenced by a VAT Official Receipt** pursuant to Section 110 in relation to Section 113 of the Tax Code. Also, for the transactions considered as conditional sale of real property rather than a lease, the existing rules on installment sale of real property shall apply. (Q&A No. 12)

Expanded Withholding Tax (EWT)

1. For contracts considered as leases, only the actual rental paid or accrued shall be considered as the tax base for EWT purposes***, without regard to the depreciation expense from the ROUA. (Q&A No. 13)
2. For transactions considered as conditional sales of personal property, the same are considered as sales of goods that are subject to 1% on income payments made by the Top Withholding Agents (TWA) to their local/resident supplier of goods. The interest related thereon is also subject to 15% EWT rate on income from other debt instruments outside the coverage of deposit substitutes. (Q&A No. 13)
3. If the conditional sale involves real property, the rules of withholding on the sale of real property under Section 2.57.2(F) of RR No. 02-98, as amended, will apply. (Q&A No. 13)

Documentary Stamp Tax (DST)

Transactions that qualify as finance lease are subject to the DST rates on debt instruments pursuant to Section 179 of the Tax Code while transactions that qualify as operating lease are subject to DST on lease agreements pursuant to Section 194 of the Tax Code. (Q&A No. 14)

_{* With the passage into law of the Ease of Paying Taxes Act (EOPT Law), the withholding tax requirement for deductibility of expenses under Section 34(K) of the Tax Code, as amended, is now removed.}

_{** In accordance with the EOPT Law, the requirement for a VAT official receipt, previously necessary for the sale of services or lease of properties, is now replaced by a VAT invoice.}

_{*** In accordance with the EOPT Law, the obligation to deduct and withhold the tax arises at the time the income has become payable.}

RMC No. 12-2024, dated 28 June 2023, to clarify and prescribe guidelines on the treatment of foreign currency transactions for financial reporting and tax purposes.

The salient provisions of the RMC are as follows:

1. Measurement of Foreign Currency Transactions (FCTs)
   

Under Philippine Financial Reporting Standards (PFRS)/Philippine Accounting Standard (PAS) 21

Under Tax Reporting/Treatment

Initial Measurement: FCTs are recorded in the entity’s functional currency using the spot rate of exchange at the transaction date. The use of average rate may be permitted if it is a reasonable approximation of the actual spot rate. Subsequent Measurement: Foreign currency monetary items – Closing rate Non-monetary items at historical costs – Historical rate at the date of the transaction Non-monetary items at fair value (FV) – Exchange rate at the date of FV measurement

Initial/Subsequent Measurement: FCTs are converted into Philippine peso using the spot rate at the time of recognition/measurement (e.g., date of transaction, reporting date, settlement date) (Q&A Nos. 1 and 2) The use of monthly average exchange rates is not permitted. (Q&A No. 10)

 

For tax reporting purposes of FCTs, please take note of the following:

• If there are no published foreign exchange (forex) rates available on the date of transaction, taxpayers should convert their FCTs using the latest closing spot rate from the business date immediately preceding the transaction date. (Q&A No. 3)
• The following are the sources of forex rates to be used in converting FCTs:

A. Banker’s Association of the Philippines (BAP) published rates; or

B. Other available exchange rates [e.g., Bangko Sentral ng Pilipinas (BSP), Bloomberg, Reuters exchange rates, etc.] if the BAP rates are not feasible. However, the use of these alternative exchange rates shall be subject to the conditions enumerated in RMC No. 12-2024. Non-compliance with these conditions may result in the imposition of administrative penalties under Section 255 of the Tax Code, as amended, for the first and second offenses. (Q&A No. 8)

• The election of forex rates is irrevocable and must be used consistently for both financial accounting and tax reporting purposes for at least one (1) taxable year. (Q&A No. 4)
• The actual published forex rates, regardless of the number of decimal places, shall be used when converting FCTs. If the taxpayer's system cannot adopt the exact number of decimals, they may use the maximum number of decimal places designed in their system, subject to written notification to their respective BIR office. (Q&A No. 5)
• If the taxpayer has a foreign currency transaction denominated in a currency other than USD:

A. The use of available forex rates other than the BAP published rates is allowed, subject to the conditions enumerated in RMC No. 12-2024. (Q&A No. 6)

B. If incurred during the middle of the year, but the taxpayer initially elected to use the BAP published rates, the taxpayer may use the BSP rates subject to the conditions enumerated in RMC No. 12-2024. (Q&A No. 7)

• The reportable amount of transactions denominated in foreign currency for taxes other than IT [e.g., VAT), Gross Receipt Tax (GRT), Other Percentage Taxes. (OPT), Excise Tax, Documentary Stamp Tax (DST), etc.] shall be converted to Philippine peso using the prevailing spot rate on the date of transaction. (Q&A No. 17)

2. Gains/Losses arising from Forex Fluctuations or Remeasurements

Under PFRS/PAS	Under Tax Reporting/Treatment
Unrealized forex gain/loss - recognized in profit or loss or other comprehensive income (OCI) Realized forex gain/loss – recognized in profit or loss	Unrealized forex gain/loss – results to a temporary difference for which deferred tax accounting should be applied. Realized forex gain/loss – recognized as taxable income or deductible expense for IT purposes.

• For IT purposes, taxpayers must separately record and report unrealized forex gains/losses from the realized gains/losses arising from FCTs. (Q&A No. 13)
• Automatic reversal of unrealized forex differences to realized forex gains/losses in the succeeding year, not arising from closed and completed transactions, is strictly prohibited for IT purposes. (Q&A No. 13)
• The practice of netting or offsetting of forex gains and losses is strictly prohibited for taxation purposes, as the gross amounts of the same must be presented in the IT return as follows: (Q&A Nos. 15 & 16)

A. Forex gains shall be presented as part of "Other Taxable Income" and be included in the computation of "Total Taxable Income" or "Gross Taxable Income".

B. Forex losses shall be presented as part of the "Ordinary Allowable Itemized Deductions".

RMC No. 13-2024, dated 28 June 2023, to clarify the treatment of retirement benefits expense for financial reporting and tax purposes.

The BIR provided the tabular list of differences in the treatment of retirement benefits expense for PFRS (financial reporting) and tax purposes:

The following are the salient points of the RMC:

• The amount of expense that can be claimed as deduction for IT purposes will depend primarily on whether the employer has a Tax Qualified Plan:

• If the employer has Tax Qualified Plan, the following shall be allowed as deductions:

— Normal Cost

— Contributions to the Retirement Fund during the taxable year in excess of the Normal Cost but only if such amount: (i) has not therefore been allowed as a deduction; and (ii) is apportioned in equal parts over a period of 10 consecutive years beginning with the year in which the transfer or payment is made.

• If the employer has no Tax Qualified Plan, only the actual amount of retirement benefits paid to employees pursuant to RA No. 7641 can be claimed as deduction from the gross income.
• The employer shall apply with the BIR for the issuance of a Certificate of Qualification as a Reasonable Employee’s Retirement Benefit Plan (“Certificate of Qualification”) within 30 days from the date of effectivity of the retirement benefit plan. Otherwise, penalty shall be imposed upon the employer under the existing rules and regulations.
• The income of the Retirement Fund from its investments are exempt from income tax provided all statutory requirements for a reasonable retirement benefit plan are met and complied with pursuant to Section 60(B) of the Tax Code.
• The retirement cost for financial reporting purposes is based on PAS 19/PFRS which uses the published discount rates for the projected unit credit method. On the other hand, retirement cost deductible for tax purposes is based on actuarial valuation for funding requirements that uses the expected return on the fund’s actual investments in determining normal costs and past service liability.
• The retirement benefit received by a retiring employee is considered as compensation subject to income tax, and consequently, from withholding tax. However, if the retirement benefit is received by a qualified retiring employee under RA No. 4917 or RA 7641, such benefit may be exempt from income tax, and consequently, from withholding tax provided subject to certain conditions.
  
• The tax treatment of the following during the interim period between the date of filing and issuance of Certificate of Qualification shall be:

• Retirement benefit of those who attained the age of 50 and rendered at least 10 years of service

— Once the retirement benefit plan is approved by the BIR, the effectivity of the approval is retroacting to the date of effectivity of the retirement benefit plan.

— Pending the approval of application with the BIR, the retirement benefits received by any qualified retiring employees shall be exempt from income tax and withholding tax. However, if the application be denied by the BIR, the employer shall be liable for the deficiency income taxes due on the retirement benefits.

• Investment income of the retirement fund

  Pending the application with the BIR, any income derived from the investment of the retirement fund shall be exempt from income tax pursuant to Section 60(B) of the Tax Code. However, should the application be denied by the BIR, the employer shall be liable for the deficiency income taxes due on the investment income.

• Tax-deductibility of contributions

  Pending the application with the BIR, the contributions of the employers to the retirement fund pursuant to a retirement benefit plan are deductible from the gross income based on Section 34 (J) of the Tax Code. However, should the application be denied by the BIR, the employer shall be liable for the deficiency income taxes due on the same.
  
• In case of transfer of employees from one participating company to another participating company within a multi-employer plan due to valid merger, the aggregate years of service to the said companies shall be considered in computing the prescribed 10-year period for the retirement benefits to be received by a qualified employee.
  
• Lastly, pursuant to RR No. 01-83, any amendment to the approved corporate retirement plan should be submitted to the BIR for certification that the amendment/s do not affect the qualification of the approved retirement plan.
  

RMC No. 14-2024, dated 24 January 2024, to inform that starting from 22 January 2024, the Annual Registration Fee (ARF) will no longer be collected from business taxpayers. This is in compliance to the EOPT Law.

The pertinent clarifications in the RMC are:

• Business taxpayers are exempt to file BIR Form No. 0605 and pay the PHP500.00 ARF, whether for new businesses or annual renewals.
• Business taxpayers holding an existing BIR Certificate of Registration (COR) that includes the Registration Fee will maintain its validity.
• Business taxpayers have the option to update or replace their COR voluntarily by surrendering their old COR at the Revenue District Office where they are registered on or before 31 December 2024.

Here are the links to the full text of the issuances: RMC No. 11-2024, RMC No. 11-2024 Annex A, RMC No. 12-2024, RMC No. 13-2024, RMC No. 13-2024 Annex A, RMC No. 13-2024 Annex B, RMC No. 14-2024.