DIVIDEND INCOME Corporate profit set aside, declared, and ordered by the directors to be paid to the stockholders on demand or at a fixed time. Until the cash or property dividend is declared, the corporate profits belong to the corporation and not to the stockholders, and are liable for the payment of the debts of the corporation

Generally, it is included in the gross income of the stockholder, unless they are exempt from tax or subject to final tax at preferential rate under the 1997 Tax Code

Cash Dividend and Property dividend are subject to income tax, whereas stock dividend is generally exempt from income tax. However, any type of dividend must come from the unappropriated retained earnings of the corporation. Property dividend is a dividend payable in property which may be investments in shares of stocks of a corporation, or real property, or some other property owned by a corporation.

Stock Dividend is a dividend payable in the shares of stock of the corporation declaring such stock dividend. Being one payable in capital stock, cannot be declared out of outstanding corporate stock, but only from retained earnings. However, a liquidating dividend, is not truly dividend as contemplated under the income tax law.

RULES ON TAXATION OF DIVIDENDS1. Dividend is paid by a domestic corporation

Recipient is a citizen, resident alien, or non-resident alien engaged in trade or business in the Philippines

Up to Dec 31, 1997, cash dividend or property dividend paid by a domestic corporation was exempt from income tax pursuant to Tax Code, as amended. From January 1, 1998, it is generally subject to the following withholding tax rates:

6% - beginning January 1, 1998;

8% - beginning January 1, 1999; or

10% - beginning January 1, 2000

However, the tax dividend shall apply only on income earned on or after January 1, 1998. Income forming part of retained earnings as of December 31, 1997 shall not, even if declared or distributed on or after January 1, 1998, be subject of this tax. The appropriate tax to be deducted and withheld on the cash dividend by the paying corporation shall be the rate prescribed in the year of receipt of such dividend (not the rate in the year of declaration of such dividend).

Recipient is a non-resident alien not engaged in trade or business in the Philippines cash and property dividends subject to final withholding tax rate of 25%

Recipient is a domestic corporation or a resident foreign corporation

Dividends received by a domestic corporation shall not be subject to tax

Dividend exclusion is a device to reduce double taxation on the same income a device for reducing extra or double taxation. Since a corporation cannot deduct from its gross income the amount of dividends distributed to its corporation shareholders during the taxable year, any distributed earnings are necessarily taxed twice; initially at the corporate level when they are included in the corporations taxable income and again at the corporations shareholder level when they are received as dividend.

Recipient is a non-resident foreign corporation Dividends received by a non-resident foreign corporation from a domestic corporation is subject to the 15% final withholding tax, subject to the condition that the country in which the non-resident foreign corporation is a domicile, shall allow a credit against the tax due from a non-resident foreign corporation

RA 9337, corporate income tax rate was increased to 35%

Country Residence of foreign corporation does not impose income tax

While it is true that claims for refunds are construed strictly against the claimant, the fact that Switzerland does not impose any tax on the dividends received from a domestic corporation should be considered as full satisfaction of the condition that the 20% (now 15% = 30% -15%) differential is deemed credited by the Swiss government (as against the Commissioners contention that the tax-sparing credit should apply only if the foreign country allows foreign credit). The court observed that to deny private respondent the privilege to withhold only 15% provided for under Presidential Decree No. 69 would run counter to the very spirit and intent of said law and definitely will adversely affect foreign corporations interest and discourage them from investing capital in our country (Commissioner vs Wander Philippines, Inc). The same rule applies to Hongkong, which country does not impose income tax on dividends paid by Philippine companies.

-Tax-Sparing Credit - Tax reduced by the Philippines should be fully applied or credited to the tax on dividend

income received by the non-resident foreign

corporation imposed by the country of its domicile. This serves as an incentive by reducing their tax liability in the Philippines and in their residence countries.

Ex. Domestic corporation paid cash dividend to non-resident foreign corporation (NRFC) organized in Brazil. This shall form part of NRFCs income therefore taxable also in Brazil. The dividend received shall only be taxed at 15% in the Phils (instead of 35%) if Brazil will reduce/credit at least 20% of the tax imposed in the Phils. from its tax imposed in Brazil. [See Section 28(5)(b)]

If Brazil will credit/reduce less than 20% or will not credit any amount, then the Phils will tax the dividend at 35% (ordinary income tax).

Phils. cannot give more than 15% tax credit

because the law only allows such.Dividend paid to foreign head office of a Philippine branch The Supreme Court ruled that a single corporate entity cannot be both a resident and a non-resident corporation depending on the nature of the particular transaction involved. Accordingly, where the dividends are paid directly to the head office or coursed through its local branch is of no moment for after all, the head office and the office branch constitute but one corporate entity, the Marubeni Corporation, under both Philippine tax and corporate laws, is a resident foreign corporation because it is transacting business in the Philippines The Court explained that the 25% tax rate under the tax treaty with Japan could not be imposed, as the treaty provides that the rate of tax shall not exceed 25%. In other words, the 25% would apply only if the tax imposed under the tax codeexceeds 25% limitation. In this connection, Section 24 (b)(1)(iii) of the Tax Code provides that dividends received by a non-resident foreign corporation would be taxed at 15%if its state of domicile shall allow a credit against tax deemed paid in the Philippines equivalent to 10% thereof. (Marubeni Corporation vs Commissioner and CTA) 2. Dividend is paid by a foreign corporationRecipient is a resident citizen or domestic corporation The dividend income is subject to Philippine income tax, since a resident citizen and a domestic corporation are liable to income tax on its/his worldwide income. Generally, the tax rate applied is the graduated income tax rates (if the recipient is a domestic corporation) or 32% (if the recipient is a domestic corporation), unless a lower rate of tax is allowed under an effective tax treaty. Dividends being remitted to National Development Corporation (NDC) are taxable under the tax treaty. NDC, as government owned and controlled corporation, is subject to tax in the Philippines from worldwide income

Dividends received by resident individual stockholders from the Philam First Asia Equity Fund shall be subject to tax rates of 3% to 30% (now 5% to 32%), while dividends received by domestic corporate stockholders shall be subject to 35% (now 30%)

Recipient is a non-resident citizen or an alien, or a foreign corporation Dividend income received from a foreign corporation not doing business in the Philippines shall be treated as income from foreign sources; hence, exempt from Philippine income tax if received by a non-resident citizen, an alien, or a foreign corporation

Dividends of a domestic corporation which are delivered in cash to foreign corporations as stockholders are subject to the payment of income tax, the exemption clause in the charter of the paying corporation notwithstanding. What is being taxed here is the dividend income of the foreign corporate stockholder, the income tax of which is required to be withheld by the paying corporation and remitted to the BIR. The same rule applies to dividend income paid by a domestic corporation, registered with PEZA and enjoying income tax holiday, to its foreign parent company. Branch profits remitted by a Philippine branch of a foreign corporation registered with PEZA are exempt from the branch profit remittance tax by express provision of the law.

Cash Dividend vs Stock Dividend A stock dividend is a dividend payable in reserve or increase of additional stock of the corporation. A cash dividend is a disbursement to the stockholder of the accumulated earnings, and the corporation parts irrevocably with all interests therein. A stock dividend involves no disbursement, and the corporation parts with nothing to the stockholders who receive, not an actual dividend but a certificate of stock. When the cash dividend is declared and paid to the stockholders and such cash becomes the absolute property of the stockholders and cannot be reached by creditors of the corporation in the absence of fraud. A stock dividend, however, still being the property of the corporation and not of the stockholder, may be reached by an execution against the corporation and may be sold as a part of the corporate property

Dividends is distinguished from profits, for profits in the hands of a corporation do not become dividends until they have been set apart, or at least declared, as dividends and transferred to the separate property of the stockholder.

Stock Dividends are generally exempt from tax A stock dividend which represents the transfer of surplus to a capital account is not subject to income tax. However, a dividend in stock may constitute taxable income to the recipients thereof, notwithstanding the fact that the officers or directors of the corporation choose to call such distribution as a stock dividend

A stock dividend constitutes, if it gives the shareholder, an interest different from that which his former stockholdings represented. A stock dividend does not constitute income, if the new shares confer no different rights or interests than did the old the new certificates plus the old representing the same proportionate interest in the net assets of the corporation as the old. Stock dividends cannot be issued to a non-stockholder in payment of services rendered to the corporation for being violative of the provisions of Section 16 of the Corporation Code

If a corporation cancels or redeems stock issued as a dividend at such time and in such manner as to make the distribution or cancellation, in whole or in part, essentially equivalent to the distribution of taxable dividend.

TREASURY SHARES Stocks issued and fully paid for and re-acquired by the corporation either by purchase, donation, forfeiture or other means

May be re-issued and sold again as long as they are held by the corporation as such

Treasury stocks distributed as stock dividends by a corporation to its stockholders are not taxable to the recipients upon receipt thereof, because out income tax law adopted the change in the proportionate interests as the test in the taxability of stock dividends.

Stockholders may realize income only upon their subsequent sale

ROYALTY INCOME Software is a program or series of programs containing instructions for a computer required either for the operational processes of the computer itself (operational software) or the accomplishment of other tasks (application software). Royalties is a payment of any kind received as a consideration for the use of or the right to use, any copyright of literary, artistic or scientific work It covers both payments made under a license and compensation which a person would be obliged to pay for fraudulently copying or infringing the copyright over software. Transactions involving software:

a. A (full or partial) transfer of a copyright right in software

b. A transfer of copy of the software c. A provision of services for the development or modification of the software

d. The provision of know-how relating to software programming techniques.

* Any transaction involving software which consists of more than one of the transactions above shall be treated as a separate action.

Characterization of Transactionsa. Transfer of copyright rights

i. The right to make copies of the software for purposes of distribution to the public by sale or other transfer of ownership, or by rental, lease or lending

ii. The right to make derivative computer programs based upon the copyrighted software

iii. The right to make a public performance of the software

iv. The right to publicly display the computer program or

v. Any rights of the copyright owner, the exercise of which by another without his authority shall constitute infringement of said copyright.

- when only copyright rights are transferred, payments made in consideration therefore are royalties. On the other hand, when copyright ownership is transferred, payments made in consideration therefor are business income

b. Transfer of copyrighted articles

- a copyrighted article incorporating a software includes a copy of a software from which the work can be perceived, reproduced or otherwise communicated.

- If a person acquires a copy of the software but does not acquire any of the rights described above, and the transaction does not involve the provision of services or of know-how, the transfer of the copy of the software is classified solely as transfer of a copyrighted article and payments for which constitute business income.

c. After sales service

- contracts for the use of software are often accompanied with the provision of services by personnel of the relevant foreign licensor/owner or of the relevant local industry, reseller, and distributor.

- the parts of the payment representing the use of the software will be treated as royalties and taxable as such.

- if, however one part of what is being provided constitutes by far the principal purpose of the contract and the other parts stipulated therein are only ancillary and largely unimportant character, then the treatment applicable to the principal part should be applied to the whole amount of consideration

d. Site License/Enterprise License/Network License Arrangements

- software house or computer programmer agrees to supply information about the ideas and principles underlying the program such as logic, algorithms, or programming languages and techniques

- payments are considered as royalties

f. Transfer of Ownership

- where a consideration is paid for the transfer of full or partial ownership of the rights in the copyright, the payments made therefor are not royalties but business income or capital gains.