Tax Articles

Welcome Foreign Corporations

By Atty. Irwin C. Nidea Jr.

Our country needs to attract foreign investments if it wants our economy to grow. This would mean creation of more jobs and business opportunities for our people. A foreign corporation can establish its presence in the country in many ways, i.e., regional operating headquarters (ROHQ), regional headquarters (RHQ) and representative office, among others.

In a recent case (GR No. 226287, dated July 6. 2021), the Supreme Court (SC) laid down the difference between an ROHQ, RHQ, and a representative office. These distinctions are important so that foreign investors are given a clear understanding of what company vehicle suits their purpose and the tax implications of the same.

According to the SC, an ROHQ is allowed by law to perform activities that generate income in the Philippines. These activities, termed as "qualifying services", include the following: (1) general administration and planning; (2) business planning and coordination; (3) sourcing/procurement of raw materials and components; (4) corporate finance advisory services; (5) marketing control and sales promotion; ( 6) training and personnel management; (7) logistics services; (8) research and development services, and product development; (9) technical support and maintenance; (10) data processing and communication; and (11) business development.

Similar to an RHQ, an ROHQ performs services only with the head office's affiliates, branches or subsidiaries. According to the SC, ROHQs are also prohibited by law to directly or indirectly market the goods and services of their mother company and its affiliates. Also, as regards taxes, since an ROHQ is primarily engaged in activities that generate income in the Philippines, it is considered a taxable entity.

In this case, the SC summarized the similarities and differences of a representative office, an RHQ, and an ROHQ: l. A representative office and an RHQ are not allowed to engage in any income-generating activities in the Philippines. An ROHQ, on the other hand, provides qualifying services that generate income in the Philippines. 2. a representative office and an RHQ do not earn or derive income in the Philippines. An ROHQ is allowed to derive income in the Philippines. 3. Unlike an RHQ and an ROHQ, a representative office deals directly with the parent company's clients and not with the affiliates, branches, or subsidiaries. 4. Under the Tax Code, as amended, RHQs are exempt from both income tax and VAT so long as they do not render any of the qualifying services, whereas ROHQs shall be subject to a tax rate of ten percent (10%) of their taxable income from its qualifying services and twelve percent (12%) VAT. It must be noted though that under CREATE, ROHQ is subject to regular corporate income tax beginning January 2022.

The SC added that a representative office, while not defined under the Tax Code, is akin to an RHQ and not to an ROHQ. A representative office is only allowed under the law to undertake activities such as but not limited to information dissemination, promotion of the parent company's products as well as quality control of products. These activities, while directed to the parent company's clients, are not income generating, similar to the activities of an RHQ and in contrast with the qualifying services performed by ROHQs. As such, a representative office should be treated and taxed in the same manner as an RHQ and not an ROHQ.

According to the SC, since a representative office is primarily engaged in non-income generating activities like an RHQ, it should be considered exempt from income tax and VAT.

How can a taxpayer prove that it is a representative office? First, it may show that it is fully subsidized by its head office. All costs associated with establishing and maintaining a representative office are covered by remittances from the parent company. Second, the representative office deals directly with the clients of its head office as it undertakes activities limited to information dissemination, promotion of the parent company's products, including the conduct of quality control. For example, in this case, all inquiries from Philippine clients are routed to its Japan head office, which, in turn, makes the final decisions. As a representative office, the taxpayer promotes and provides information about the products offered by its head office, but it does not enter into contracts on its own.

According to the SC, such contracts are referred to its parent company, which then enters into a contract with the clients within the Philippines. The Japan parent company is responsible for all negotiations regarding the price, payment terms, and delivery of the product. In fine, the taxpayer’s role is limited to introducing the parent company's products to clients in the Philippines.

The clear distinctions made by the SC should serve as a guide not only to foreign investors but to the tax authorities as well. The cited case came about because a representative office was assessed for income tax and VAT when it is clearly tax exempt. If we want to build foreign investment confidence, unfounded tax assessments must be avoided.