Tax Articles

VAT Zero-Rating on Purchases by Registered Business Enterprises

By Atty. Fulvio D. Dawilan

Fulvio D. Dawilan Managing Partner   +632 8403 2001 loc.310 This email address is being protected from spambots. You need JavaScript enabled to view it. View Profile

The continuing reform in our tax system saw the enactment of a number of tax legislations aimed at improving our tax system. A number of proposed tax legislations are also in the pipeline, many of which are already in the final stages.

One of these pending legislations is the Corporate Recovery and Tax Incentives for Enterprises to Maximize Opportunities for Reinvigorating the Economy (or the CREATE MORE). Recall that the Corporate Recovery and Tax Incentives for Enterprises Act (CREATE Act or RA No. 11534) became effective in the early part of 2021. It has two important components: (1) the reform in the corporate income tax, and (2) the rationalization of the tax incentive system in the country and the integration of the incentive rules in the Tax Code.

So why is there still a need to CREATE MORE when the necessary legislation had already been CREATEd? Again, recall that during the initial implementation of the tax incentives provisions of CREATE and up to now, there were and in fact there are still confusions or misunderstandings. Somehow, this created uncertainty in achieving the objective of the incentive component of CREATE - whether it is in fact serving the purpose of its enactment. CREATE MORE hopes to clarify and further improve the tax incentive system in the country in order to carry out the true intention of reform.

A number of modifications are being introduced for this purpose. But let me zero in on the VAT incentives. CREATE provided for VAT exemption on importation and VAT zero-rating on local purchases. The law provided one simple condition for the availment – shall only apply to goods and services directly and exclusively used in the registered project or activity by a registered business enterprise. Notwithstanding this simple requirement, some aspects of the implementation were not aligned with what the law intended to achieve and resulted in uncertainties.

To remedy this, CREATE MORE is proposing a few amendments. One of these relates to the use of the phrase “directly and exclusively used in the registered project or activity” as a condition in limiting the goods and services entitled to the VAT incentive. This is sought to be replaced by the phrase “directly attributable to the registered project or activity”. I’m not sure if this will make any difference. In fact, the Implementing Rules and Regulations and the related revenue issuances had already adopted the phrase “directly attributable” in describing the goods and services that are considered “directly and exclusively” used in registered project or activity. Yet, the same issuances still limit the goods and services entitled to the VAT incentives to those purchases that are necessary in carrying out the registered project or activity. Thus, local purchases for administrative purposes, for example, are being excluded from the coverage of VAT zero-rated transactions.

Perhaps what is more important is the enumeration in the proposed amendments of some of the transactions that can avail of VAT zero-rating, which include: janitorial services, security services, financial services, consultancy services, marketing and promotion, and services rendered for administrative operations such as human resources, legal and accounting. I believe that even under the present provisions, the use of the words “directly and exclusively” should not be interpreted to restrict these types of transactions from the benefit of VAT zero-rating. But yes, if this proposal becomes a law, it should put to rest any doubt as to what should be entitled to VAT zero-rating in so far as purchases of registered enterprises are concerned.

Also, to clarify further the VAT zero-rating incentive on local purchases, the proposed amendments specifically provide for the VAT treatment of the transactions of registered business enterprises as applied to a number of scenarios. First, sale of goods or services to an enterprise whose total sales are exported shall be VAT-exempt. Second, sale of goods or services by a VAT-registered seller to registered export enterprises, regardless of location, shall be subject to 0% VAT. Third, sale and delivery of goods to registered enterprises within a separate customs territory shall be subject to 0% VAT.

It is not clear who is the seller and the buyer contemplated in first scenario. But it seems that this is misplaced because the subject of the incentive in the paragraph is the VAT zero-rating on local purchases by registered business enterprises. It is not about VAT exemption. If there is a basis for VAT exemption for this type of transaction, that should not be the VAT zero-rating of local purchases by a registered business enterprise. The third scenario reminds us that the “cross border” doctrine is still alive - with the freeport zones and economic zones being treated as foreign territory and sales to locators within the said zones are considered export sales subject to 0% VAT.

For the registered business enterprises other than those located in economic or freeport zones, the second scenario will apply. Thus, purchases by registered business enterprises from their local suppliers should be zero-rated. Unfortunately, this reflects what had already been indicated in the implementing regulations – the VAT zero-rating applies only to purchases by registered export enterprises, and not to purchases by domestic market enterprises. For the domestic market enterprises, the VAT exemption on importation and zero-rating of local purchases will only apply to those with capital of at least 50 billion pesos.

In summary, the enactment of these proposed amendments will confirm the VAT zero-rating of local purchases of registered enterprises located in economic/freeport zones, under the separate territory concept. This will also confirm the VAT zero-rating of local purchases of other registered export enterprises. Domestic market enterprises may also be entitled to the same incentive, subject to some conditions. But the availment of all of these are still subject to the condition that the purchases entitled to VAT zero-rating shall be limited to those directly attributable (with a more relaxed definition) to the registered activities.