For so many decades, the Philippines was in a constant struggle with other developing countries for investments. Granting tax incentives was a popular tool used by the government to persuade foreign capitalists to choose the Philippines as an investment destination. While tax incentives may have contributed to our economic growth through the influx of investments and the employment they generated, these incentives also entail costs in terms of foregone revenues.
In an attempt to assist in the recovery of revenue losses and to plug the large revenue leakages in the current tax system, our legislators proposed various amendments to our National Internal Revenue Code (NIRC) via the recent passage of House Bill (HB) No. 5636 by the House of Representatives and the pending deliberation of Senate Bill (SB) No. 1408 in the Senate. The aforementioned bills are the House of Representatives and the Senate’s respective versions of the current administration’s tax reform package, otherwise known as the Tax Reform for Acceleration and Inclusion (TRAIN). A review of our porous value-added tax (VAT) system led both houses of the legislative body to, among others, propose changes to broaden the current VAT base.
One of the sectors that will be greatly affected by the proposed revisions are the entities registered with the Philippine Economic Zone Authority (PEZA).
While the reforms will not change the VAT treatment of the sales of a PEZA-registered entity, whether during or after the expiration of its Income Tax Holiday (ITH), the same may not be said about its purchases. It is, thus, worth taking a closer look at the proposed amendments to the VAT provisions and their potential impact.
The supply of goods by local suppliers to PEZA-registered entities is subject to 0 percent VAT. However, with the proposed change in HB No. 5636, the sale of goods by local suppliers may be subject to 12 percent VAT and may be passed on to PEZA-registered entities. This will take effect upon implementation of the enhanced VAT refund system under the HB, where the refund process would be 90 days only. Nonetheless, HB No. 5636 did not touch the provisions granting 0 percent VAT on the sale of services and the VAT exemption on importation of goods by PEZA-registered entities.
Under SB No. 1408, there is risk that local suppliers’ sale of both goods and services to PEZA-registered entities may be subject to 12 percent VAT, without the benefit of zero-rating prior to the enhancement of the current VAT refund system. Further, with the proposal to remove the phrase “under special laws” from the VAT-exempt transactions provision of Section 109 of the NIRC, the VAT exemption on the importation of goods by PEZA-registered entities would be effectively withdrawn.
Upon effectivity of the 5% preferential income tax rate
Currently, upon expiration of the ITH period, PEZA-registered entities are subject to the 5 percent preferential tax rate on their gross income in lieu of all local and national taxes. The sale of goods and services to PEZA-registered entities are exempt from the 12 percent VAT.
However, pursuant to the proposed revisions under HB No. 5636, local suppliers will be able to pass on to PEZA-registered entities the 12 percent VAT on the latter’s purchase of goods. Similarly, under SB No. 1408, the sale of services to PEZA-registered entities will be subject to 12 percent VAT.
Considering that the sale of goods and services by PEZA-registered entities are treated as VAT-exempt sales during the effectivity of the 5 percent preferential income tax regime, any VAT passed on to them would be an additional cost in their hands. These additional costs are not eligible for VAT refund since these did not arise from zero-rated or effectively zero-rated sales. The passed-on VAT will, therefore, have a significant impact on the pricing of the goods and services of PEZA-registered locators.
Moreover, with the proposed deletion under SB No. 1408 of the VAT exemption on importation of goods by PEZA-registered entities, the 12 percent VAT on such importations would also now form part of the cost of the PEZA-registered entities, bearing in mind that they are considered VAT exempt at this stage. Again, these extra costs could lead to a spike in the pricing of goods and services by the PEZA-registered entities.
Despite our lawmakers’ good intentions in introducing these VAT reforms, we can’t help but fixate on the impact these changes might have on the competitiveness of our PEZA-registered entities in the global market. Prior to the formal enactment of any of these reforms, their advantages and disadvantages must be meticulously weighed, lest we draw the ire not only of potential investors, but even of the current ones who are already contributing to economic growth.
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.