5. What are the tax implications of a merger/consolidation?
A. On “Tax- Free” Exchanges
As a general rule, the gain or loss on the sale or exchange of property shall be recognized and will be taxable. The rule provides for exceptions such as the “tax-free” exchanges which refer to those instances enumerated in Section 40(C)(2) of the National Internal Revenue Code (NIRC) of 1997 that are not subject to Income Tax, Capital Gains Tax, Documentary Stamp Tax and/or Value-added Tax, as the case may be.
In general, there are two kinds of “tax-free” exchange: (1) transfer to a controlled corporation; and, (2) merger or consolidation.
In the first instance, no gain or loss shall be recognized if property is transferred to a corporation by a person in exchange for stock or unit of participation in such corporation of which as a result of such exchange said person, alone or together with others, not exceeding four persons, gains or maintains control of said corporation.
In the second instance, no gain or loss shall be recognized if in pursuance of a plan of merger or consolidation — (a) a corporation, which is a party to a merger or consolidation, exchanges property solely for stock in a corporation, which is a party to the merger or consolidation; or, (b) a shareholder exchanges stock in a corporation, which is a party to the merger or consolidation, solely for the stock of another corporation also a party to the merger or consolidation; or, (c) a security holder of a corporation, which is a party to the merger or consolidation, exchanges his securities in such corporation, solely for stock or securities in another corporation, a party to the merger or consolidation.
A subsequent sale or disposition of the shares of stock will be taxable based on the historical or original cost or “Substituted basis” of the shares. Thus, to that extent, the said “tax-free” exchange, is not really tax-free, but merely a deferral. In determining the gains or losses in subsequent transfers, the BIR issued guidelines under Revenue Regulation No. 18-2001 provides that the “Substituted Basis” or the original or historical cost of the properties or shares are considered in determining the taxable gains or losses in later transfers.
With the above requirements, the taxpayer must prove in a very clear manner that it is entitled to such exemption, and must obtain a certification or ruling signed by the Commissioner of Internal Revenue on the availment of “tax-free” exchange. The rules provide for penalties in case of non-compliance with the guidelines.
B. Common Taxes imposed on mergers & consolidations not covered under the “tax- free” exchanges
Capital Gains Tax on the purchase of shares
The shares of a target Philippine company may be acquired through a direct purchase. Gains from the sale are considered Philippine-source income and are thus taxable in the Philippines regardless of the place of sale. A Capital gains tax (CGT) of 15% of the gain is imposed on both domestic and foreign sellers.
Value added tax
In asset acquisitions, a 12% Value Added Tax (VAT) is imposed on the gross selling price of the assets purchased in the ordinary course of business or of assets originally intended for use in the ordinary course of business.
Documentary Stamp Tax
In “tax-free” exchanges, no DST is due on the deed transferring the property. However, the shares of stock issued in exchange for the property is subject to DST if it is for the purpose of an original issuance of shares.