REPUBLIC OF THE PHILIPPINES DEPARTMENT OF FINANCE

BUREAU OF INTERNAL REVENUEQuezon City

Bureau of Internal Revenue Ruling

012-2003 Person to Contact: Chief, Law DivisionTel. Nos. 926-55-36 / 927-09-63

October 13, 2003Date: ___________________

UPS INTERNATIONAL, INC.UPS Inter-Asia HubCivil Aviation ComplexDiosdado Macapagal International AirportClark Special Economic ZonePampanga

Attention: MR. NICK KYRZAKOS Director

Gentlemen:

This refers to your letter dated May 2, 2002 stating that UPS International, Inc.Company (UIIC) is a wholly owned subsidiary of a US Incorporated entity, UPSInternational Inc.; that the ultimate parent company of UIIC is United Parcel Service, Inc.(UPS); that UPS is a leading global package distribution group with subsidiaries, jointventures or agents operating throughout most countries in Asia Pacific; that UIIC hasbeen incorporated to operate as the intra-Asia air hub for the UPS package and cargobusiness within the Clark Special Economic Zone (CSEZ); that the air hub activities to beperformed by UIIC in respect of packages and cargo include loading and unloading,transferring between aircraft, temporary holding, and facilitating the groundtransportation of air cargo and on-board-courier materials; ground handling services;customs brokerage; warehousing services; sorting of air cargo and on-board-couriermaterials; package pickup and delivery; and performance of related administrative andoperational services; that for outbound packages from the CSEZ, UIIC will deriverevenue from shippers within the CSEZ; that UIIC will pay UPS Worldwide ForwardingInc. (WWF), a company organized and existing under U.S. laws, for the supply ofinternational transportation services outside of the Philippines; that for inbound packagesto the CSEZ, WWF will pay delivery compensation to UIIC for the provision ofbrokerage, sorting and delivery services; that for packages transiting through the air hub,WWF will pay a service fee to UIIC; that WWF is responsible for coordinating theinternational transportation network of UPS; that in respect of the package business, thecontractual arrangements will be as follows: (1) in respect of outbound packages, UIICwill contract with Philippine shippers inside and outside the Clark zone to ship theirpackages or documents out of the Philippines; (2) where the Philippine shipper is inside

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the Customs territory, UIIC will subcontract the pick up activities to a local transportationservice provider; (3) UIIC will perform the sorting and handling activities within theCSEZ. Alternatively, UIIC will subcontract certain ramp activities to other Clark entities;(4) UIIC will contract with WWF for the supply of international transportation services.That is, WWF will be responsible for transportation of packages from the Philippines tothe destination country; (5) UIIC will invoice the Philippine shipper for the totaltransportation charge from pick up to delivery, including all service components relatingto activities in the customs territory, CSEZ and outside the Philippines; and (6) in respectof inbound packages, UIIC will be contracted by WWF for the delivery of packages.Where the delivery destination is inside the customs territory then UIIC will subcontractthe activity to a local transporter.

In connection therewith, you now request for confirmation of your opinion that –

“1. For purposes of Section 4(A)(f.1)(3) of Revenue Regulations No. 16-99, amending Revenue Regulations No. 1-95, the revenue of UIICsourced from within the Customs Territory will be determined byreference to the services actually rendered inside the Customs Territory;

“2. The pick-up and delivery services provided by the transportationsubcontractors between the CSEZ and locations within the CustomsTerritory would be considered to be rendered within the CustomsTerritory; and

“3. The services performed by UIIC within the CSEZ and provided byWWF outside of the Philippines are considered to be rendered outsideof the Customs Territory.”

In reply thereto, please be informed as follows:

1. Executive Order No. 62 dated February 27, 1993 was promulgated prescribingthe policies and guidelines to implement Republic Act No. 7227, otherwise known as theBases Conversion and Development Authority (BCDA). Section 2.1.2 of the saidExecutive Order provides that the Clark Air Base shall “ be developed as a specialeconomic zone with such incentives and privileges granted to Special Economic andFreeport Zone and Export Processing Zones”. Executive Order No. 80 dated 03 April1993 was subsequently issued authorizing the establishment of the Clark DevelopmentCorporation (CDC) as the implementing arm of the BCDA for the Clark SpecialEconomic Zone (CSEZ). Section 5 of the said Executive Order provides that:

“xxx the CSEZ shall have all the applicable incentives in the SubicSpecial Economic and Freeport Zone under RA 7227 and thoseapplicable incentives granted in the Export Processing Zones, theOmnibus Investments Code of 1987, the Foreign Investments Act of1991 and the new investment laws which may hereinafter beenacted.”

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On 24 January 1995, Revenue Regulations No. 1-95 implemented the incentiveprovisions of Section 12(b) and (c) of RA 7227 as they are applicable to the SubicSpecial Economic Zone. On 27 September 1999, Revenue Regulations No. 16-99amended Revenue Regulations No. 1-95 which created the Subic Bay RegionalEnterprise (SBRE) and entitled to certain incentives, among which is the 5% preferentialtax rate on gross income. Section 4(A)(f.1)(3) of Revenue Regulations No. 1-95 asamended by Revenue Regulations No. 16-99, provides in part as follows:

“Section 4(A)(f.1)(3) of the Revenue Regulations No. 16-99, amending RevenueRegulations No. 1-95, provides that Subic Bay Regional Enterprise may generaterevenues from sources within the Customs Territory up to 50% of its total revenues.The income generated from the customs territory will be subject to the tax of 5% ongross income earned as defined under Section 3(o)(4) of these Regulations; Provided,that, if the revenues derived from the customs territory exceed 50% of its totalrevenues, the excess of the income generated by the Regional Enterprise will besubject to the regular income tax rates in the customs territory.”

Considering that the incentives and privileges granted to Subic Special Economicand Freeport Zone (SSEFZ) are made applicable to CSEZ, then the incentives andprivileges applicable to SBRE shall likewise apply to a Clark Regional Enterprise dulyregistered with the CDC. The Subic Bay Regional Enterprise may generate revenuesfrom sources within the Customs Territory up to 50% of its total revenues. The incomegenerated from the customs territory will be subject to the tax of 5% on gross incomeearned as defined under Sec. 3(o)(4) of these Regulations; Provided, That, if the revenuesderived from the customs territory exceed 50% of its total revenues, the excess of theincome generated by the Regional Enterprise will be subject to the regular income taxrates in the customs territory.

It is submitted that the phrase ‘revenues from sources within the customsterritory’ refers to the portion of revenue relating to the transportation services physicallyperformed inside the Customs Territory (i.e., pick-up and delivery) through localsubcontractors. Thus, the portion of the revenue derived by UIIC from servicesperformed inside the CSEZ or outside the Philippines is not revenue from sources insidethe customs territory for purposes of measuring the 50% threshold. Section 42(A)(3) ofthe Tax Code of 1997 provides that compensation for labor or personal servicesperformed in the Philippines shall be treated as gross income from sources within thePhilippines. In interpreting the said section, this Office in BIR Ruling No. 138-84 datedAugust 10, 1984 ruled that the important factor which determines the source of income, iffrom services, for purposes of income taxation, is the place where services are actuallyrendered. (Mertens, Law of Federal Taxation, Vol. 8, Chap. 45 p. 141; cited in CTA CaseNo. 2373 and 2561, British Overseas Airways Corp. vs. Commissioner, January 26,1983).

2. The pick-up and delivery services provided by the transportation subcontractorsbetween the CSEZ and locations within the customs territory would be considered asrendered within the customs territory. The revenue of UIIC relating to services renderedin the customs territory can be determined based on the charges billed by thetransportation subcontractors. Thus, if UIIC performs transportation activities within thecustoms territory, then the revenue derived by UIIC should equal the charges of the

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independent contractors. However, regulatory restrictions necessitate that UIICsubcontracts these transportation activities to local contractors.

3. The services performed by UIIC within the CSEZ and those provided byWWF outside the Philippines are considered as rendered outside of the CustomsTerritory. Accordingly, the portion of revenue for services rendered within the CSEZshall be treated as derived within the CSEZ and the revenue derived for servicesperformed outside the Philippines by WWF as revenue derived from sources outside thePhilippines.

This ruling is being issued on the basis of the foregoing facts as represented.However, if upon investigation, it will be disclosed that the facts are different, then thisruling shall be considered null and void.

Very truly yours,

(Original Signed) GUILLERMO L. PARAYNO, JR. Commissioner of Internal Revenue

K-1-DJL (gre4en)(uiic2)