BIR Rul DA-244-05

Copyright 2015 CD Technologies Asia, Inc. and Accesslaw, Inc. Philippine Taxation Encyclopedia First Release 2015 1

June 7, 2005

BIR RULING [DA-244-05]

40 (C) (2) & (3); 115-98

National Home Mortgage and Finance CorporationFilomena Building IIIAmorsolo St., Legaspi VillageMakati City

Attention: Mr. Celso delos AngelesPresident

Gentlemen :

This refers to your letters dated 14 December 2004 and 18 May 2005requesting for our confirmation that no gain or loss shall be recognized by theNational Home Mortgage Finance Corporation (NHMFC) upon the transfer of itsmortgage loan receivables in favor of the BALIKATAN HOUSING, INC. (the"Corporation") in exchange for the latter's shares of stock and other debt instrumentsunder Section 40(C)(2) of the Tax Code.

It is represented that the NHMFC is a corporation created by virtue ofPresidential Decree No. 1267 (1977); that among its objectives are to: (a) develop andprovide for a secondary market for home mortgages granted by public and/or privatehome financing institutions [Pres. Decree No. 1267 (1977)]; (b) act as the majorgovernment home mortgage institution [Exec. Order No. 90 (1986)]; and (c) developand provide a secondary mortgage market to finance mortgage take and fast track thedisposition of existing mortgages [Exec. Order No. 195 (1999)]; that in line with itsobjectives, NHMFC provided financing for various low-cost housing projects andtook over the various loan mortgage accounts of the buyers of houses and lots and thatover the years, many of these loan mortgage accounts defaulted and NHMFC began toaccumulate a portfolio of non-performing loans ("NPLs"); that in order to liquefy


some fifty-five thousand (55,000) of its highly delinquent NPLs, NHMFC obtainedapproval from the Office of the President of the Philippines to incorporate theCorporation as a vehicle for holding on to the NPLs and to serve as an eventual entrypoint for other investors; that in light of the Presidential approval, the Corporationwas incorporated with the Securities and Exchange Commission with an authorizedcapital stock of Two Hundred Million Pesos (P200,000,000.00) divided into TwoHundred Thousand (200,000) common shares with a par value of One Hundred Pesos(P100.00) per share and One Hundred Eighty Thousand (180,000) redeemablepreferred shares with a par value of (P1,000.00) per share; that out of theCorporation's authorized capital stock of Two Hundred Million Pesos(P200,000,000.00), Forty-Nine Thousand (49,000) common shares with a par value ofFour Million Nine Hundred Thousand Pesos (P4,900,000.00) and Fifty-EightThousand (58,000) redeemable preferred shares with a par value of Fifty-EightMillion Pesos (P58,000,000.00) have been subscribed and fully paid by NHMFC; thatin full payment of its subscription, NHMFC executed a Deed of Assignment dated 13December 2004 assigning the NPLs with an aggregate book value of approximatelyThirteen Billion Four Hundred Fifty Three Million Eight Hundred Six Thousand FiveHundred Sixty Two Pesos and Sixty Centavos (P13,453,806,562.60) (hereinafterreferred to as the "Receivables") at an aggregate transfer value of Five Billion OneHundred Twenty-Three Million Two Hundred Nine Thousand Five HundredThirty-Nine Pesos and Five Centavos (P5,123,209,539.05) in favor of theCorporation. On 18 May 2005, NHMFC and the Corporation executed an AmendedDeed of Assignment of Receivables to reflect mathematical adjustments made withrespect to the number and value of the mortgage loan receivables resulting in areduction of the book value of the receivables from P13,453,806,562.60 toP12,837,966,661.00 and an increase in the transfer value of such mortgage loanreceivables to PhP5,172,936,190.00 instead of PhP5,123,209,539.05. Thus, pursuantto the Deed of Assignment of Receivables dated as of 13 December 2004 andfollowing the execution of the Amendment to Deed of Assignment of Receivablesdated as of 18 May 2005, the Corporation issued the following equity and debtinstruments in favor of NHMFC in exchange for the Receivables:

a. Equity Type of Stock No. of Shares Par Value per Paid-in Premium share

Preferred 58,000 1,000.00 P58,000,000.00 P688,450,747.55Common 49,000 100.00 4,900,000.00 0Total 107,000 P62,900,000.00 P688,450,747.55


b. Debt Instrument Issue Value

Senior Debt Instruments + Additional Senior Debt Instruments 3,103,761,714.00Series "A" Subordinated Debt Instrument + Additional Series "A" 1,055,278,982.76Subordinated Debt InstrumentSeries "B" Subordinated Debt Instrument + Additional Series "B" 262,544,745.69Subordinated Debt InstrumentTotal 4,421,585,442.45

After the transfer by the NHMFC of the Receivables in exchange for theabove-described equity and debt instruments, the outstanding capital stock of theCorporation is as follows:

Name of Shareholder No. of Par Value Amount Premium Voting Shares Per share Paid-Up Power

Preferred SharesNational Home 58,000 1,000.00 P58,000,000.00 P688,450,747.55 -Mortgage and FinanceCorporation

Common SharesNational Home 48,995 100.00 P4,899,500.00 0 100%Mortgage and FinanceCorporation 1 100.00 100.00 0 - 1 100.00 100.00 0 - 1 100.00 100.00 0 - 1 100.00 100.00 0 - 1 100.00 100.00 0 ——— ————— ——————Total Common 49,000 4,900,000.00 0 100%

Grand Total 107,000 P62,900,000.00 P688,450,747.55 100%

That as a result of the above-described transfer, NHMFC gained control of theCorporation; that based on the above-mentioned transactions, you requested ourconfirmation of your opinion that:

"1. No gain or loss shall be recognized on the transfer by theNHMFC of the Receivables to the Corporation in exchange for 100% of theoutstanding voting stock of the Corporation, pursuant to Section 40(C)(2) and(C)(6) of the Tax Code;


"2. The basis of the shares of stock or debt instruments NHMFCacquired in the exchange shall be the same as the original acquisition cost oradjusted cost basis to NHMFC of the Receivables exchanged therefor; and thecost basis to the Corporation of the Receivables exchanged for stocks shall bethe same as it would be in the hands of NHMFC, pursuant to Section40(C)(5)(a) and (b) of the Tax Code;

"3. The transfer of the Receivables by NHMFC to the Corporationwill not be subject to value-added tax (VAT);

"4. The transfer of the Receivables by NHMFC to the Corporation inexchange for shares of stock and debt instruments shall not be subject todonor's tax;

"5. The transfer by NHMFC to the Corporation of the Receivables isexempt from DST pursuant to Section 199(m) of the Tax Code, as amendedby Republic Act No. 9243;

"6. The issuance of shares by the Corporation to NHMFC inexchange of the Receivables will be subject to the DST imposed under Section174 of the Tax Code, as amended by Republic Act No. 9243; and

"7. The issuance of the debt instruments by the Corporation toNHMFC in exchange for the Receivables will be subject to the DST imposedunder Section 179 of the Tax Code, as amended by Republic Act No. 9243.However, no DST shall be due on the subsequent assignment, transfer, oramendment thereof provided there is no increase in the amount or change inthe maturity date from that of the original instrument pursuant to Section199(f) of the Tax Code."

and that in support of your request, you submitted to this office copies of thefollowing documents: (1) BIR Form No. 0605 evidencing payment of the filing fees;(2) Deed of Assignment of the Receivables executed by and between NHMFC and theCorporation dated 13 December 2004; (3) Amended Deed of Assignment ofReceivables executed by and between NHMFC and the Corporation dated 18 May2005; (4) certified list of the Receivables to be transferred; (5) A certification as to theoriginal or historical cost or acquisition/adjusted cost basis of the Receivables; (6)Articles of Incorporation and By-Laws of the Corporation as filed with the Securitiesand Exchange Commission; and (7) Audited Financial Statements of NHMFC as ofDecember 31, 2003.

In reply, please be informed that pursuant to Section 40(C)(2) and (6)(c) of the


Tax Code of 1997, no gain or loss shall be recognized if property is transferred to acorporation by a person, in exchange for stock in such a corporation of which, as aresult of such exchange, said person, alone or together with others, not exceeding fourpersons, gains control of said corporation. The term "control" shall mean ownershipof stocks in a corporation possessing at least 51% of the total voting power of allclasses of stocks entitled to vote. Control is determined by the amount of stocksreceived i.e., total subscribed, whether for property or for services by the transferors.In determining the 51% stock ownership, only those persons who transferred propertyfor stocks in the same transaction may be counted up to a maximum of five.

Section 40(C)(3)(a) of the 1997 Tax Code further states that if, in connectionwith the above-described exchange, an individual, a shareholder, security holder orcorporation receives not only stock or securities permitted to be received withoutrecognition of gain or loss, but also money and/or other property, the gain, if any, butnot the loss, shall be recognized but in an amount not in excess of the sum of themoney and the fair market value of such other property received. Pursuant to Section40(A) of the same Tax Code, the gain from the sale or other disposition of propertyshall be the excess of the amount realized therefrom over the basis or adjusted basisfor determining gain, and the loss shall be the excess of the basis or adjusted basis fordetermining loss over the amount realized. The amount realized from the sale or otherdisposition of property shall be the sum of money received plus the fair market valueof the property (other than money) received. In an assignment of receivables, the gainshall be the excess of the amount realized therefrom over the cost or adjusted cost ofthe receivables and the loss to be recognized by the transferee from the assignment ofreceivables shall be the excess of the cost or adjusted cost of the receivables over theamount realized. The amount to be realized from the assignment of receivables isdetermined by considering the selling/transfer price of the receivables shall be the fairmarket value of the property received in exchange therefor and not the fair marketvalue of the receivables transferred. (BIR Ruling No. 15-98 dated July 28, 1998)

Accordingly, no gain or loss shall be recognized both to the transferors and thetransferee corporation on the transfer by NHMFC of the Receivables in exchange forthe common shares, redeemable preferred shares of stock and debt instruments issuedby the transferee corporation, considering that as a consequence of the exchange, thetransferor will gain control of the transferee corporation by owning 100% of its totalvoting stocks. Notwithstanding acceptance by NHMC of property consisting of debtinstruments other than shares of stock to be issued by the Corporation in exchange forthe Receivables, NHMFC will not realize any gains by virtue of the transaction sinceNHMFC will be transferring property consisting of the Receivables with a book valueof approximately P12,837,966,661.00 in exchange for shares of stock and debt


instruments with an aggregate par value of only P4,484,485,442.45.

It should be emphasized, however, that Section 40(C)(2) and (6)(c) of the 1997Tax Code merely defers recognition of the gain or loss from such transaction, for indetermining the gain or loss from a subsequent transaction of the properties or of thestocks involved in the exchange, the original or historical cost of the properties orstocks is considered. Thus, if NHMFC later sells or exchanges the shares of stock ordebt instruments it acquired in the exchange, it shall be subject to income tax on gainsderived from such sale or exchange, taking into consideration that the cost basis of theshares and debt instruments shall be the same as the original acquisition cost oradjusted cost basis to the NHMFC of the Receivables exchanged therefor, and that thecost basis to Balikatan of the Receivables exchanged for stocks and the debtinstruments shall be the same as it would be in the hands of NHMFC. (Section40(C)(5)(a) and (b) of the Tax Code)

In this connection, you are further advised that, in order that the parties to theexchange can avail of the non-recognition of gains provided for in Section 40(C)(2)and (6)(c) of the Tax Code of 1997, as amended, they should comply with therequirements hereunder mentioned:

a. The transferor must file with its income tax return for the taxable year inwhich the exchange transaction was consummated, a completestatement of all facts pertinent to the exchange, including:

1. A description of the properties transferred, or of its interest insuch properties, with a statement of the original acquisitioncost/adjusted cost basis or other basis thereof at the time of thetransfer;

2. The kind of stocks or other properties received and preferences,if any;

3. The number of shares of each class received; and

4. The fair market value per share of each class at the date of theexchange.

b. On the other hand, the transferee corporation must file with its incometax return for the taxable year in which the exchange was consummatedthe following:


1. A complete description of the properties received from thetransferor;

2. A statement of the original acquisition cost or other basis of theproperties in the hands of the transferor and the adjusted costbasis thereof at the time of the transfer; and

3. Information with respect to the capital stock of the corporationincluding:

a. The total issued and outstanding capital stock immediatelyprior to and immediately after the exchange with acomplete description of each class of stock;

b. The classes of stocks and number of shares and otherproperty issued to the transferor in the exchange; and

c. The fair market value as of the date of the exchange of thecapital stock issued to the transferor.

In addition to the foregoing requirements, permanent records in substantialform must be kept by the taxpayers participating in the exchange, showing theinformation listed above in order to facilitate the determination of gain or loss from asubsequent disposition of stocks/properties received in the exchange.

Furthermore, your opinion on the following are likewise hereby confirmed:

(1) Pursuant to Section 4.100-5(b)(1) of Revenue Regulations No. 7-95, asamended, a change of control of a corporation by the acquisition of the controllinginterest of such corporation by another stockholder or group of stockholders shall notbe subject to output tax. Example: transfer of property to a corporation in exchangefor its shares of stock under Section 40(C)(2) and (6)(c) of the 1997 Tax Code.Consequently, the transfer of the Receivables by NHMFC to Balikatan will not besubject to value added tax;

(2) The transfer of the Receivables by NHMFC to Balikatan in exchange forcommon shares, redeemable preferred shares, and debt instruments shall not besubject to donor's tax since there is no donative intent involved in the transfer. (BIRRuling No. 224-93 dated May 18, 1993)

(3) The certificates of stocks to be issued by Balikatan are subject to the


documentary stamp tax at the rate of P1.00 for every P200.00, or a fractional partthereof, of the par value of the shares issued pursuant to Section 174 of the Tax Code,as amended by Republic Act No. 9243, which shall attach upon issuance by the SECof Balikatan's Certificate of Incorporation.

(4) The documentary stamp tax due on the issuance of the Senior DebtInstrument, Series "A" Subordinated Debt Instrument, Series "B" Subordinated DebtInstrument and the Additional Senior and Subordinated Debt Instruments by Balikatanshall be subject to P1.00 for every P200.00, or a fractional part thereof, of the issuevalue of the debt instruments pursuant to Section 179 of the Tax Code, as amended byRepublic Act No. 9243. However, the subsequent assignment, transfer or amendmentof such debt instruments by NHMFC shall not be subject to DST provided that thereis no increase in the amount or change in the maturity date from that of the originalinstrument pursuant to Section 199(f) of the Tax Code of 1997, as amended byRepublic Act No. 9243. ADTCaI

This ruling is being issued on the basis of the foregoing facts as represented.However, if upon investigation, it will be ascertained that the facts are different and/orany of the requirements imposed in this letter is not complied with, then this rulingshall be considered null and void.

Very truly yours,

Commissioner of Internal Revenue

By:

(SGD.) JAMES H. ROLDANAssistant Commissioner

Legal ServiceBureau of Internal Revenue

BIR Rul DA-244-05

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