The end of 5-6 lending



True to his campaign promise, President Rodrigo Duterte is bent on eradicating the 5-6 lending scheme in the Philippines, a loan arrangement wherein borrowers—usually those operating very small businesses—incur an exorbitant 20 percent interest rate per month. The current administration has declared war against the practice, which the President considers the bane of the existence of his countrymen.

Recently, Justice Secretary Vitaliano Aguirre reminded practitioners of the 5-6 lending scheme that they are in violation of existing laws, rules and regulations, citing the strict requirements surrounding the lending business.

Aguirre even warned these practitioners they could be arrested without warrant because their lending practice could be considered a continuing crime. Further, the President allocated a fund and tapped cooperatives to provide an alternative microfinancing that could help fill the void created by the absence of the 5-6 lending scheme.

These pronouncements give rise to a myriad of legal implications involving banking and credit laws, as well as the Securities and Exchange Commission (SEC) and taxation rules, among others. For the purpose of this article, we will focus on the SEC and the tax aspect of this current controversy.

Persons who engage in lending activities are referred to as either ‘lending companies’ or ’lending investors.’
They are persons who are engaged in granting loans from their own capital funds or from funds sourced to not more than 19 persons and are generally governed by Republic Act 9474, also known as the Lending Company Regulation Act of 2007 (The Act).

The Act prescribes that the SEC shall regulate and supervise the operations and activities of lending companies and shall issue a Certificate of Authority (CA) to these companies. Furthermore, lending companies, or lending investors, may only be established in corporation form. Thus, sole proprietors or partnerships, including a corporation without a CA, that operate as a lending company are in violation of the Act and will be penalized by a fine of up to P50,000, imprisonment of not less than six months but not more than 10 years, or both.

To avoid the foregoing penalties, it is worthy to note some of the relevant requirements for establishing a lending company:

It must have a minimum paid-in capital of P1,000,000.

At least a majority of the voting capital stocks must be owned by Filipino citizens.

It shall maintain books of accounts and records as may be required by the SEC and prescribed by the Bureau of Internal Revenue and other government agencies. In case the lending company is engaged in other businesses, it shall maintain separate books of accounts for these businesses.

In addition to the foregoing penalties, lending companies are required to pay the following internal revenue taxes in the course of its lifetime:

Corporate income tax—The interest earned by a lending company is considered its ordinary income. It is liable to pay an annual income tax in whichever amount is higher between 30 percent of its net income and 2% of its gross income.

Value-added tax—Sec. 4.108-3 (g) of Revenue Regulations No. 16-2005 provides that lending investors are subject to 12 percent VAT on the basis of their gross receipts.

Documentary stamp tax—Section 179 of the National Internal Revenue Code provides that on every original loan agreement issued by the lending investor, there shall be collected a DST of P1 for every P200 of the loan, or a fractional part thereof.

With this policy direction, the government will be hitting two birds with one stone: It will arrest the abusive practice of imposing high interest rates on loans and it will have established a stopgap measure for the tax leakages from the informal lending sector, allowing the government to raise revenue.

But it is important that the government provide an alternative to this 5-6 lending scheme, which—whether we like it or not—has become a lifeline for our countrymen, allowing them to sustain their small businesses and address their day-to-day needs. Given the current policy direction, the President’s act of allocating funds and tapping cooperatives to provide the needed microfinancing is in the right direction.

The author is a senior manager with the Tax & Corporate Services division of Navarro Amper & Co., the local member firm of Deloitte Southeast Asia Ltd.—a member firm of Deloitte Touche Tohmatsu Limited—comprising Deloitte practices operating in Brunei, Cambodia, Guam, Indonesia, Lao PDR, Malaysia, Myanmar, Philippines, Singapore, Thailand and Vietnam.


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