The study looks into the income tax treatment of subsidiaries and branch offices in the Philippines as well as the issues arising therefrom as a basis for prospective tax policy reforms on the matter.
A subsidiary is a company controlled by another, usually by a large corporation. It is a distinct legal entity for purposes of taxation and regulation. On the other hand, a branch office is an extension of a foreign enterprise and has no separate and independent legal personality. It can carry out the business activities of its parent company and may derive income from the host country.
For purposes of taxation and regulation, subsidiaries and branches are treated differently. A subsidiary, being a company controlled by another corporation, requires incorporation under Philippine laws and is considered a domestic corporation. A branch office, on the other hand, being an extension of a foreign enterprise, is deemed a resident foreign corporation with respect to transactions that are effectively connected with its business in the country. Otherwise, it is treated as a nonresident foreign corporation with respect to transactions that are not effectively connected with its business in the country.
From a tax perspective, a branch office is in a more advantaged position than a subsidiary with respect to taxable income source, treatment of branch profits or dividends and allowable deductions. Other advantages of a branch office over a subsidiary pertain to organization and staffing. However, a subsidiary is better than a branch office in terms of legal liability.
The study points out that the issues affecting the taxation of subsidiaries and branches relate to the effect of tax treaties and strategies employed by MNCs such as transfer pricing and thin capitalization.
The study recommends reform of the Philippine income tax law to internalize the basic structure of the Organization for Economic Cooperation and Development (OECD) Model necessary to level the playing field between the Philippines and the other Contracting State during tax treaty negotiations. Also, there is a need for further legal reforms to prevent taxpayers (particularly MNCs) from taking advantage of the difference in the tax rates between and among countries and their tax treatment of subsidiaries and branches.
