Tax Law J. Value-Added Tax (VAT) (R.A. No. 8424, as amended; R.R. No. 16-2005, as amended)

Question 1

J. Value-Added Tax (VAT)
(R.A. No. 8424, as amended; R.R. No. 16-2005, as amended)
1. Concept

Answer 1

The Value Added Tax (VAT) is an indirect tax levied on the consumption of goods and services in the Philippines. It is governed by Title IV of the Tax Code (Republic Act No. 8424) and characterized by the following key elements:

1. Incidence: VAT is an indirect tax, meaning it is imposed on the sale or exchange of goods and services, not directly on the consumer. Businesses registered for VAT collect the tax from their customers and remit it to the government, acting as collection agents.
2. Multi-stage Application: VAT is applied at each stage of production and distribution chain, from raw materials to the final product or service. At each stage, the tax is levied on the value added to the product or service, justifying the term “value-added” tax.
3. Calculation and Payment: The VAT amount is calculated by multiplying the tax rate, currently 12%, by the gross selling price of the goods or services, excluding the VAT itself. Registered businesses are then accountable for collecting this amount from their customers and remitting it to the government.
4. Input Tax Credit Mechanism: To avoid double taxation and mitigate the burden on businesses, a system of input tax credits is employed. Businesses can claim a credit for the VAT they have paid on their own purchases of goods and services used in their operations, effectively offsetting the VAT they collect from their customers.
5. Exemptions: Certain transactions are exempt from VAT as stipulated in Section 109 of the Tax Code. These include, but are not limited to, sales of basic necessities (e.g., agricultural products), educational and medical services, and transactions below a specified annual sales threshold.
6. Legal Basis: The legal authority for VAT implementation is enshrined in Section 105 of the Tax Code, which outlines the persons liable to pay VAT as “any person who, in the course of trade or business, sells barters, exchanges, leases goods or properties, renders services, and any person who imports goods.”

Question 1

J. Value-Added Tax (VAT)
(R.A. No. 8424, as amended; R.R. No. 16-2005, as amended)

2. Elements of VATable Transactions

Question 2

J. Value-Added Tax (VAT)
(R.A. No. 8424, as amended; R.R. No. 16-2005, as amended)

3. Destination Principle and Cross-Border Doctrine

Answer 2

In the Philippines, the destination principle and cross-border doctrine are intertwined concepts that play a crucial role in determining VAT liability, particularly for transactions involving exports and economic zones. Here’s a breakdown for each concept:

1. Destination Principle: (remains a core concept)
   Concept: This principle states that VAT is levied on the consumption of goods and services. The tax is collected in the country where the final consumption takes place, regardless of where the goods or services are produced.
   Key Points:
   Promotes tax neutrality between domestic and imported goods.
   Ensures the Philippines collects VAT on goods consumed within its borders.
   Example: A furniture manufacturer in the Philippines exports tables to a company in the United States. Since the tables will be consumed in the US, the destination principle applies. The Philippine manufacturer is not liable for VAT on this export sale.
2. Cross-Border Doctrine (Currently not strictly applied):
   Concept: This doctrine was a legal interpretation built upon the destination principle. It stated that a sale to a company in an export processing zone (EPZ) is treated as a sale to a foreign country. This meant that VAT was zero-rated on goods and services sold to EPZs.
   Key Points:
   Aimed to incentivize exports by making EPZs more attractive to foreign investors.
   Considered a legal fiction as EPZs are geographically within the Philippines.

Current Status: While the destination principle remains, recent regulations (e.g., RMC 024-2022) have rendered the cross-border doctrine ineffective for VAT purposes within EPZs. Now, only goods and services directly and exclusively used in the registered project or activity of a company within the EPZ qualify for VAT zero-rating on local purchases.

Historical Example: (No longer strictly applicable) A clothing manufacturer in the Philippines sells garments to a company located within a Philippine EPZ. Under the cross-border doctrine, this was considered a sale to a foreign country. The manufacturer would not have charged VAT on the sale.

Important Note: The cross-border doctrine’s application in the Philippines has been significantly limited. While the destination principle remains the core concept, businesses operating in EPZs should consult with tax professionals regarding the latest regulations and VAT treatment for their specific transactions.

Question 3

J. Value-Added Tax (VAT)
(R.A. No. 8424, as amended; R.R. No. 16-2005, as amended)

4. Transactions Deemed Sale Subject to VAT

Answer 3

Deemed Sales: When “Taking” is Taxable in the Philippines
The Philippine VAT system considers certain actions as “deemed sales,” meaning they are treated as taxable transactions even though there isn’t a formal sale with a buyer. Here’s a breakdown :

1. Personal Use of Business Goods:
   Scenario: A VAT-registered bakery owner takes bread home for his family instead of selling it.
   Explanation: This is a deemed sale because the goods (bread) were originally intended for sale but are now used personally, outside the course of business.
2. Distribution of Assets:
   Scenario A: A company distributes shares of its stock to its shareholders as part of their profit share.
   Scenario B: A company transfers equipment to a creditor to settle a debt.
   Explanation: Both scenarios are deemed sales. Distributing assets (shares or equipment) to shareholders or creditors is considered taking them out of the business, even if no actual money changes hands.
3. Unsold Consigned Goods:
   Scenario: A clothing store sends clothes to another store on consignment (selling on behalf of the owner). After 60 days, the clothes are returned unsold.
   Explanation: This is not a deemed sale because the goods returned within 60 days indicate no change in ownership. However, if the goods remain unsold after 60 days, it becomes a deemed sale.
4. Business Closure:
   Scenario: A restaurant closes down and has leftover ingredients, equipment, and furniture.
   Explanation: The closure triggers a deemed sale for all remaining inventory (ingredients, equipment, furniture), regardless of whether the business continues under new ownership.

Key Points:
Deemed sales occur when goods originally intended for business use are:
Used personally by the owner.
Distributed to shareholders or creditors.
Not sold within 60 days on consignment.
Leftover upon business closure.
These transactions are subject to VAT even though there’s no formal sale.

Question 4

J. Value-Added Tax (VAT)
(R.A. No. 8424, as amended; R.R. No. 16-2005, as amended)

5. Zero-Rated Transactions

Answer 4

In the Philippines, zero-rated sales are transactions subject to 0% VAT (Value Added Tax). Here’s a breakdown for easy memorization:

1. Services:
   Export-related services: These include processing, manufacturing, or repacking goods for export, or any services rendered to foreign businesses, as long as payment is received in acceptable foreign currency.
   Services to specific entities: This applies to services rendered to entities exempt under special laws or international agreements (e.g., Asian Development Bank).
   International transportation services: This covers services provided to companies involved in international shipping or air transport, excluding domestic services within the Philippines (subject to 12% VAT).
   Subcontracting for export: Services provided by subcontractors or contractors involved in processing goods for an export-oriented company (exporting over 70% of production).
   Domestic air/sea transport (international): This applies to transportation of passengers and cargo from the Philippines to foreign countries.
2. Goods:
   Export sales: This includes the sale and shipment of goods from the Philippines to foreign countries, paid in foreign currency or equivalent.
   Sales to export-oriented businesses: This covers raw materials and packaging materials sold to:
   Non-resident buyers for delivery to local export companies.
   Export-oriented companies exceeding 70% export sales.
   Goods under special laws: This includes transactions considered export sales under specific laws like the Omnibus Investments Code.
   Sales to international transportation companies: This covers goods, supplies, equipment, and fuel used exclusively for international transport operations (directly from a Philippine port to a foreign port, without stopping domestically unless for loading/unloading from abroad).

Key Points:
Zero-rated sales involve export-related activities, services to specific entities, and international transportation.
Payment must be received in acceptable foreign currency for most zero-rated transactions.
Domestic sales and services within the Philippines are generally subject to 12% VAT.
Understanding zero-rated sales is crucial for businesses involved in exports or those providing services to exempt entities.

Examples:
A company manufactures furniture and exports 80% of its products. They sell raw materials to another company for furniture production, which will be exported. This is a zero-rated sale.

An airline company purchases fuel from a local supplier for international flights. This is a zero-rated sale, as long as the fuel is used exclusively for international routes.

A local restaurant sells food to a customer. This is not a zero-rated sale and is subject to 12% VAT.

Question 5

J. Value-Added Tax (VAT)
(R.A. No. 8424, as amended; R.R. No. 16-2005, as amended)

6. VAT-Exempt Transactions

Answer 5

VAT-exempt transactions are those not subject to the 12% Value Added Tax (VAT) in the Philippines. This guide breaks down these exemptions into categories for easy comprehension:

1. Basic Necessities:
   Food: Sale or importation of agricultural and marine food products in their original state, livestock, poultry, and breeding stock used for human consumption.
   Agricultural Inputs: Fertilizers, seeds, seedlings, and animal feeds (excluding specialty feeds).
2. Personal Effects:
   Importation of personal and household effects for returning residents and non-residents settling in the Philippines, subject to customs duty exemption.
   Importation of professional tools, clothing, and personal effects for individuals settling in the Philippines, with limitations on quantity and value.
3. Specific Services:
   Services subject to a separate “percentage tax” under the Tax Code (e.g., financial services).
   Agricultural contract growing and milling services.
   Medical, dental, hospital, and veterinary services (except those rendered by professionals).
   Educational services by accredited institutions and government schools.
   Employer-employee related services.
   Services rendered by regional headquarters of multinational corporations under specific conditions.
   Services exempt under international agreements or special laws (excluding petroleum exploration).
4. Cooperatives and Non-profit Organizations:
   Sales by registered agricultural cooperatives to members and non-members, including their produce and imported farm inputs.
   Lending activities by registered credit or multi-purpose cooperatives.
   Sales by non-agricultural, non-electric, and non-credit cooperatives with specific limitations.
5. Specific Sales and Leases:
   Export sales by non-VAT registered persons.
   Sale of real properties not primarily held for sale or lease, low-cost housing, and specialized housing under specific value limits.
   Lease of residential units with monthly rent below a certain amount, adjusted for inflation every three years.
   Sale, importation, printing, or publication of books, newspapers, and magazines (excluding mainly advertising publications).
6. Transportation and International Operations:
   Transport of passengers by international carriers.
   Sale, importation, or lease of passenger and cargo vessels and aircraft for domestic or international transport, subject to specific requirements.
   Importation of fuel, goods, and supplies used exclusively for international transport operations.
7. Other Exemptions:
   Services of banks, non-bank financial intermediaries, and money changers, subject to separate percentage tax.
   Sale or lease of goods and services to senior citizens and persons with disabilities under specific laws.
   Transfers of property in mergers or consolidations.
   Association dues and fees collected by homeowners’ associations and condominiums.
   Sale of gold to the Bangko Sentral ng Pilipinas (BSP).
   Sale of specific medicines for diabetes, high cholesterol, and hypertension.
   Sales or leases with a gross annual sales/receipts below P3,000,000 (excluding self-employed individuals and professionals availing of specific tax options).

Key Points:
VAT-exempt transactions are not subject to the 12% VAT.
Exemptions cover various categories, including basic necessities, specific services, cooperatives, specific sales and leases, transportation, and others.
Each exemption may have specific conditions or limitations.
Examples:

A farmer selling vegetables directly to consumers in a market is exempt from VAT.
A hospital charging fees for patient care is exempt from VAT, but the doctor’s professional fee might be subject to VAT.
A registered cooperative selling agricultural supplies to its members is exempt from VAT.
The sale of a low-cost housing unit valued below P1,500,000 is exempt from VAT.
An international airline transporting passengers from the Philippines to another country is exempt from VAT on the ticket sale.

Question 6

J. Value-Added Tax (VAT)
(R.A. No. 8424, as amended; R.R. No. 16-2005, as amended)

7. Input and Output VAT

Answer 6

In the Philippines’ Value Added Tax (VAT) system, two crucial terms govern tax liabilities: input VAT and output VAT. Here’s a breakdown to clarify their roles:

1. Output VAT:
   Definition: This refers to the VAT amount a VAT-registered business owes to the government on its sales, leases, or exchanges of taxable goods, properties, or services.
   Calculation: Output VAT is calculated by multiplying the tax rate (currently 10%) by the gross selling price of the goods or services, excluding the VAT itself.
   Example: A bakery sells bread for P100 (excluding VAT). Output VAT would be P100 x 12% = P12.
2. Input VAT:
   Definition: This refers to the VAT amount a VAT-registered business pays on its purchases of goods, properties, or services (including lease or use of property) used in its trade or business.
   Claiming: VAT-registered businesses can claim a credit for the input VAT they have paid. This reduces their overall VAT liability.
   Example: The bakery purchases flour and ingredients for P80 (excluding VAT) and pays P8 in VAT. They can claim this P8 as input tax credit.
   Relationship and Calculation:

The key concept to understand is that a business can offset its output VAT liability with the input VAT it has paid on its purchases. This mechanism helps businesses avoid double taxation and maintain cash flow.

Here’s the simplified formula:

Net VAT payable = Output VAT - Input VAT

Example:
The bakery’s output VAT from selling bread is P12.
They paid P8 in input VAT on their purchases.
Their net VAT payable to the government would be P12 (output VAT) - P8 (input VAT) = P4.

Key Points:
Output VAT is the VAT collected from customers.
Input VAT is the VAT paid on business purchases.
Businesses can claim input tax credits to reduce their net VAT payable.
Understanding input and output VAT is crucial for VAT-registered businesses to ensure accurate tax compliance.

Question 7

J. Value-Added Tax (VAT)
(R.A. No. 8424, as amended; R.R. No. 16-2005, as amended)

8. VAT Refund or Credit – Section 112

Answer 7

VAT Refund:

Concept: This is the repayment of VAT that a business has already paid to the government but is entitled to claim back.
Eligibility: Typically, VAT refunds are applicable to export sales or purchases made for export. In the Philippines, businesses can also claim refunds if their input VAT exceeds their output VAT for a specific period.
Process: The business must submit a VAT refund application to the Bureau of Internal Revenue (BIR) along with supporting documents (e.g., invoices, customs documents). The BIR will then evaluate the application and determine if a refund is due.
Example: A company exports furniture and pays VAT on materials used in production. Since the furniture is leaving the Philippines (export), they can claim a VAT refund for the VAT paid on materials.

VAT Credit:

Concept: This is the amount of VAT a VAT-registered business can deduct from its output VAT liability. It represents the VAT the business has paid on its purchases of goods, services, or properties used in its operations.
Eligibility: Any VAT-registered business can claim input VAT credits for eligible purchases related to their business activities.
Process: Businesses claim input VAT credits by recording the VAT paid on their purchases and then offsetting it against their output VAT liability when filing their VAT returns.
Example: A bakery pays VAT on flour and other ingredients used for baking bread (input VAT). When they sell the bread (output VAT), they can deduct the input VAT they paid on the ingredients from their total output VAT before paying the net amount to the government.

Key Differences:
Timing: VAT refunds involve getting money back from the government, while VAT credits are used to reduce the amount of VAT owed.
Eligibility: VAT refunds are specific to situations like exports or excess input VAT, while VAT credits are generally applicable to all VAT-registered businesses for eligible purchases.

In essence:
VAT refund is like getting cash back on VAT already paid.
VAT credit is like a discount on the total VAT owed.