AIZA M.

ESPOSA JD-2B

AIR CANADA v. CIR, 778 SCRA 131

ISSUES:

1. Whether Air Canada is a resident foreign corporation within the meaning

of Section 28(A)(1) of the 1997 National Internal Revenue Code;

2. Whether petitioner Air Canada is subject to the 2½% tax on Gross

Philippine Billings;

3. Whether Republic of the Philippines-Canada Tax Treaty is enforceable;

4. Whether petitioner Air Canada is entitled to the refund of ₱5,185,676.77

pertaining allegedly to erroneously paid tax on Gross Philippine Billings
from the third quarter of 2000 to the second quarter of 2002.

RULES:

 SEC. 28. Rates of Income Tax on Foreign Corporations. -

(A) Tax on Resident Foreign Corporations. -

(1) In General. - Except as otherwise provided in this Code, a

corporation organized, authorized, or existing under the laws of any
foreign country, engaged in trade or business within the Philippines,
shall be subject to an income tax equivalent to thirty-five percent
(35%) of the taxable income derived in the preceding taxable year
from all sources within the Philippines: Provided, That effective
January 1, 1998, the rate of income tax shall be thirty-four percent
(34%); effective January 1, 1999, the rate shall be thirty-three
percent (33%); and effective January 1, 2000 and thereafter, the
rate shall be thirty-two percent (32%)

(3) International Carrier. - An international carrier doing business

in the Philippines shall pay a tax of two and onehalf percent (2
1/2%) on its ‘Gross Philippine Billings’ as defined hereunder:

(a) International Air Carrier. - ‘Gross Philippine Billings’ refers to

the amount of gross revenue derived from carriage of persons,
excess baggage, cargo and mail originating from the
Philippines in a continuous and uninterrupted
flight, irrespective of the place of sale or issue and the place
of payment of the ticket or passage document: Provided, That
tickets revalidated, exchanged and/or indorsed to another
international airline form part of the Gross Philippine Billings if the
passenger boards a plane in a port or point in the Philippines:
Provided, further, That for a flight which originates from the
Philippines, but transshipment of passenger takes place at any
port outside the Philippines on another airline, only the aliquot
portion of the cost of the ticket corresponding to the leg flown from
the Philippines to the point of transshipment shall form part of
Gross Philippine Billings
AIZA M. ESPOSA JD-2B

 Commonwealth Act No. 466, known as the National Internal Revenue

Code and approved on June 15, 1939, defined "resident foreign
corporation" as applying to "a foreign corporation engaged in trade or
business within the Philippines or having an office or place of business
therein.

 Section 24(b)(2) of the National Internal Revenue Code, as amended by

Republic Act No. 6110, approved on August 4, 1969, reads:

Sec. 24. Rates of tax on corporations.

(b) Tax on foreign corporations.

(2) Resident corporations. — A corporation organized,

authorized, or existing under the laws of any foreign
country, except a foreign life insurance
company, engaged in trade or business within the
Philippines, shall be taxable as provided in subsection
(a) of this section upon the total net income received in
the preceding taxable year from all sources within the
Philippines.

 Presidential Decree No. 1158-A took effect on June 3, 1977 amending

certain sections of the 1939 National Internal Revenue Code. Section
24(b)(2) on foreign resident corporations was amended, but it still
provides that "[a] corporation organized, authorized, or existing under the
laws of any foreign country, engaged in trade or business within the
Philippines, shall be taxable as provided in subsection (a) of this section
upon the total net income received in the preceding taxable year from all
sources within the Philippines[.]

 Republic Act No. 7042 or the Foreign Investments Act of 1991 also
provides guidance with its definition of "doing business" with regard to
foreign corporations. Section 3(d) of the law enumerates the activities
that constitute doing business:

d. the phrase "doing business" shall include soliciting orders,

service contracts, opening offices, whether called "liaison" offices or
branches; appointing representatives or distributors domiciled in the
Philippines or who in any calendar year stay in the country for a
period or periods totalling one hundred eighty (180) days or more;
participating in the management, supervision or control of any
domestic business, firm, entity or corporation in the Philippines;
and any other act or acts that imply a continuity of commercial
dealings or arrangements, and contemplate to that extent the
performance of acts or works, or the exercise of some of the
functions normally incident to, and in progressive prosecution
of, commercial gain or of the purpose and object of the business
organization: Provided, however, That the phrase "doing business"
shall not be deemed to include mere investment as a shareholder by a
foreign entity in domestic corporations duly registered to do business,
and/or the exercise of rights as such investor; nor having a nominee
director or officer to represent its interests in such corporation; nor
appointing a representative or distributor domiciled in the Philippines
which transacts business in its own name and for its own account.
AIZA M. ESPOSA JD-2B

 Section 3 of Republic Act No. 776, as amended, also known as The Civil
Aeronautics Act of the Philippines, defines a general sales agent as "a
person, not a bonafide employee of an air carrier, who pursuant to an
authority from an airline, by itself or through an agent, sells or offers for
sale any air transportation, or negotiates for, or holds himself out by
solicitation, advertisement or otherwise as one who sells, provides,
furnishes, contracts or arranges for, such air transportation."General
sales agents and their property, property rights, equipment, facilities,
and franchise are subject to the regulation and control of the Civil
Aeronautics Board.A permit or authorization issued by the Civil
Aeronautics Board is required before a general sales agent may engage in
such an activity.

 Revenue Regulations No. 6-78 dated April 25, 1978, which defined the
phrase "doing business in the Philippines" as including "regular sale of
tickets in the Philippines by offline international airlines either by
themselves or through their agents."

 Article V(4) of the Republic of the Philippines-Canada Tax Treaty states

that "[a] person acting in a Contracting State on behalf of an enterprise of
the other Contracting State (other than an agent of independent status to
whom paragraph 6 applies) shall be deemed to be a permanent
establishment in the first-mentioned State if he has and habitually
exercises in that State an authority to conclude contracts on behalf of
the enterprise, unless his activities are limited to the purchase of goods
or merchandise for that enterprise[.]" The provision seems to refer to one
who would be considered an agent under Article 1868 of the Civil Code of
the Philippines

 Article V(6) provides that "[a]n enterprise of a Contracting State shall not
be deemed to have a permanent establishment in the other Contracting
State merely because it carries on business in that other State through a
broker, general commission agent or any other agent of an
independent status, where such persons are acting in the ordinary
course of their business."

 Article XV[86] of the same Treaty, which covers dependent personal

services, the term "dependent" would imply a relationship between the
principal and the agent that is akin to an employer-employee
relationship.

 Section 3 of Republic Act No. 776, as amended, also known as The Civil
Aeronautics Act of the Philippines, defines a general sales agent as "a
person, not a bonafide employee of an air carrier, who pursuant to an
authority from an airline, by itself or through an agent, sells or offers for
sale any air transportation, or negotiates for, or holds himself out by
solicitation, advertisement or otherwise as one who sells, provides,
furnishes, contracts or arranges for, such air transportation. General
sales agents and their property, property rights, equipment, facilities,
and franchise are subject to the regulation and control of the Civil
Aeronautics Board.[89] A permit or authorization issued by the Civil
Aeronautics Board is required before a general sales agent may engage in
such an activity.
AIZA M. ESPOSA JD-2B

ANALYSIS OF FACTS:

1. On March 11, 1976, the 2. Petitioner (Air Canada),

Republic of the Philippines a foreign corporation,
and the Government of organized under the
Canada signed a treaty laws of Canada was
known as the Republic of granted by the Civil
the Philippines-Canada Tax Aeronautics Board to
Treaty for the avoidance of operate as an offline
Double Taxation and the international air carrier
prevention of Fiscal for a period of 5 years.
Evasion with Respect to It does not have flights
Taxes on Income. This from or coming to the
treaty entered into force on Philippines and does
December 21, 1977. not operate any
airplane in the
Philippines.

4. Aerotel performed works

incidental to Air
Canada’s business 3. Petitioner entered into a
Passenger General Sales
including payment of
Agency Agreement with
quarterly and annual
Aerotel Ltd. Corp. (Aerotel)
income tax on Gross to perform the sale of
Philippine Billings. The transportation and handle
Petitioner was able to reservations, appointment,
pay P5,185,676.77 and supervision of
starting from the third International Air Transport
quarter of 2000 until the Association approved and
second quarter of 2002. approved sales agents.

5. Petitioner found basis 6. Respondent (CIR)

on the alleged contended that the
erroneously paid petitioner was still
income taxes from the short of 32% income
revised definition of tax due for the period
Gross Philippine and thus is not
Billings under Section entitled to claim for
28(A)(3)(a) of the Tax the refund.
Code and filed a
written claim for
refund.
AIZA M. ESPOSA JD-2B

8. CTA denied claim

for refund due to
the petitioner’s 7. The petitioner filed a
business in the petition for review
Philippines through before the CTA to
its agent and has prevent the running
deemed established of the prescriptive
a permanent period.
establishment in the
Philippines. As
such, petitioner
should be taxed as a
resident foreign
corporation at the
regular rate of 32%.

9. The Petitioner filed a motion 10.The Petitioner filed a Petition

for reconsideration but was for review before the
denied in the CTA first Supreme Court but the
Division. They then petition was denied and
affirmed the Decision dated
appealed to the CTA En
August 26, 2005 and
Banc, but the CTA En Banc
Resolution dated April 8,
affirmed the findings of the
ANALYSIS OF ARGUMENTS: 2005 of the CTA En Banc.
First Division.

ANALYSIS OF ARGUMENTS:

Regular corporate income tax on The petitioner is subject to 32%

resident foreign corporations does not corporate income tax as a resident
apply to international carriers. It doing business in the Philippines.
adds that the fact that it is no longer Petitioner’s total payment of
subject to Gross Philippine Billings ₱5,185,676.77 shows that petitioner
tax as ruled in the assailed Court of was earning a sizable income from
Tax Appeals Decision "does not the sale of its plane tickets within the
render it ipso facto subject to 32% Philippines during the relevant
income tax on taxable income as a period. cites
resident foreign corporation

The 32% regular corporate income Petitioner could only be taxed at a

tax on its income would violate the maximum of 1 1/2% of gross
Philippine government’s covenant revenues, pursuant to Article VIII of
under Article VIII of the Republic of the Republic of the Philippines-
the Philippines-Canada Tax Treaty Canada Tax Treaty that applies to
AIZA M. ESPOSA JD-2B

not to impose a tax higher than 1½% petitioner as a "foreign corporation

of the carrier’s gross revenue derived organized and existing under the laws
from sources within the Philippines. of Canada.
It would also allegedly result in
"inequitable tax treatment of on-line
and off-line international air carriers

The appointment of Aerotel as its Article V of the Republic of the

general sales agent, petitioner cannot Philippines-Canada Tax Treaty
be considered to have a "permanent defines "permanent establishment" as
establishment in the Philippines a "fixed place of business in which
pursuant to Article V(6) of the the business of the enterprise is
Republic of the Philippines-Canada wholly or partly carried on. There is a
Tax Treaty permanent establishment if under
certain conditions there is a person
acting it.

Aerotel sells passage tickets on behalf The activity of Aerotel bring direct
of petitioner and receives a receipts and income to the petitioner
commission for its services. Offline by selling airline tickets. The
international air carrier having no petitioner has the direct supervision
flight operations to and from the of the business related activity of
Philippines, is not deemed engaged in Aerotel and has the authority to
business in the Philippines by merely decide whether or not Aerotel can
appointing a general sales agent. accept additional appointment as
general sales agent. Aerotel was the
extension of the petitioner’s business
in the Philippines.

The claim for refund of erroneously Petitioner is not entitled to its claim
paid Gross Philippine Billings cannot for refund because the amount of
be denied on the ground that it is ₱5,185,676.77 it paid as tax was still
subject to income tax under Section short of the 32% income tax due for
28 (A) (1) since it has not been the period.
assessed at all by the Bureau of
Internal Revenue for any income tax
liability.

CONCLUSIONS:

1. Petitioner is a resident foreign corporation undoubtedly engaged in

business in the Philippines through the appointment of Aerotel as its
local sales agent. Petitioner’s income is taxable to a regular 32% tax rate
under the foregoing provision of National Internal Revenue Code Section
28(A)(1).

2. Petitioner is clearly not liable for the Gross Philippine Billings tax
pursuant to Section 28(A)(3). Under the foregoing provision, the tax
attaches only when the carriage of persons, excess baggage, cargo, and
mail originated from the Philippines in a continuous and uninterrupted
flight, regardless of where the passage documents were sold. Not having
AIZA M. ESPOSA JD-2B

flights to and from the Philippines, petitioner is clearly not liable for the
Gross Philippine Billing System.

3. Although the petitioner is taxable under Section 28(A)(1) from the sale of
tickets in the Philippines through its agent, the existence of tax treaty
between the Philippines and the home country of the foreign carrier shall
be considered. Pursuant to Article VIII of the Republic of the Philippines
– Canada Tax Treaty, a maximum of 1 ½% of gross revenue shall be
taxed which applies to the petitioner as a foreign corporation organized
and existing under the laws of Canada.

4. Tax deficiencies should be subject to assessment procedures and the

rules of prescription. The deficiency of tax assessment cannot be the
basis of tax refund. In this case, the P5,185,676.77 Gross Philippine
Billings tax paid by petitioner was computed at the rate of 1 ½% of its
gross revenues amounting to P345,711,806.08 from the third quarter of
2000 to the second quarter of 2002. The tax imposable under section
28(A)(1) will exceed the maximum ceiling of I 1/2 % of gross revenue as
declared in the Philippines-Canada Tax Treaty. Hence, no refund is
needed.