Redemption of shares of stock by: Tata

PanlilioOng
INthepastfewyears,notonlyhastheBureauof
Internal Revenue (BIR) issued rulings that
effectivelyrevokelongstandingprecedents,ithas
also issued several revenue memorandum
circulars (RMCs) circularizing to the revenue
districtofficescertaininternalmemosthatmodify
previousrulingsissuedtospecifictaxpayers.
Needlesstosay,thishascausedagreatdegreeof
uncertaintyamongtaxpayersindividualsaswell
ascorporationsleadingthemtoreexaminethe
tax impact of these developments on their
transactionsandbusinesses.
In RMC No. 32014, dated Jan. 6, the BIR
circularized the text of a memo to a certain
regionaldirectormodifyinga2008rulingonthe
taximplicationsofredemptionofsharespaidby
wayofconveyanceofparcelsofland.
UndertheCorporationCodeofthePhilippines,a
corporationhasthepowertoreacquireorredeem
its own shares for certain legitimate purposes.
This reacquisition of shares of stock that a
corporation previously issued is what is
commonlyreferredtoasasharebuyback.Onthe
otherhand,whenacorporationpurchasesortakes
upredeemableshares,thisisknownasredemption
ofshares.
A corporation is allowed to issue redeemable
shareswhenexpresslyprovidedinitsarticlesof
incorporation, that is to say, shares that can be
redeemed by the issuing corporation upon
expirationofacertainperiodorupontheoptionof
eitherthestockholderorthecorporation.
Themostnotabledifferencebetweenanordinary
sharebuybackandredemptionofsharesisthata
sharebuybackcanbeundertakenonlywhenthe
corporation has sufficient unrestricted retained
earningstocoverthecostofthebuyback,while
redemption can be done regardless of the
existenceofunrestrictedretainedearnings(URE).
UndertheSecuritiesand ExchangeCommission
(SEC)RulesGoverningRedeemableandTreasury
Shares, "[N]o corporation shall redeem,

repurchase or reacquire its own shares, of

whateverclass,unlessithasanadequateamount
of unrestricted retained earnings to support the
costofthesaidshares,exceptwhenthesharesare
reacquiredintheredemptionofredeemableshares
orpursuanttotheconversionrightofconvertible
shares,inaccordancewiththeprovisionexpressly
providedforinitsarticlesofincorporation."
Someofthereasonsacorporationmayundertake
asharebuybackinclude:a)eliminatingfractional
sharesarisingoutofstockdividends;b)collecting
unpaid subscription in a delinquency sale or
purchasingdelinquentsharesinsaidsale;andc)
payingdissentingorwithdrawingstockholders.In
addition to having adequate URE, a share buy
backmustnotimpairthecorporationscapitalas
wellasprejudicecreditors.
Redemption of shares is an exit mechanism for
investorstockholderstounloadtheirsharesafter
an agreedperiod and/or at acertainredemption
pricethatallowsthemtorealizeagreedreturnson
investment.Eventhoughredemptioncanbedone
withoutsufficientURE,thecorporationmustnot
be rendered insolvent as a result thereof.
Redeemablesharesmayberedeemed,regardless
of the existence of URE, provided that the
corporationhas,aftersuchredemption,sufficient
assetstocoveritsliabilities,inclusiveofcapital
stock.
Asharebuybackorredemptionisalsoresortedto
when the other stockholders are not willing to
purchase the shares of the withdrawing
shareholderorwhensuchpurchasebytheother
stockholders would change agreed share
ownershipstructuresorviolateforeignownership
restrictions.
When the issuing corporation subsequently re
acquiresshareswhichhavebeenpreviouslyissued
andfullypaidforbypurchaseorredemption,the
samebecometreasuryshares.Treasurysharesdo
notreverttounissuedsharesandarenotentitled
tovotingrightsnordividends.But,treasuryshares
areregardedaspropertyofthecorporationwhich
maybereissuedaspropertydividendordisposed
ofatareasonablepricetobefixedbytheboardof
directorsprovided,however,thatinthecaseof
redeemable shares that are reacquired, the same

are considered retired and no longer issuable,

unless otherwise provided in the articles of
incorporation.
Thereisalsoanotabledifferenceinthetaxation
of an ordinary share buyback visvis
redemption of shares. Under BIR Revenue
RegulationsNo.(RR)62008,whereacorporation
voluntarilybuysbackitsownsharesinwhichit
becomestreasuryshares,thestocktransactiontax
of1/2of1%ofthegrosssellingpriceshallapply
ifthesharesarelistedandexecutedthroughthe
tradingsystemoftheLocalStockExchange.
Ifthesharesarenotlistedandtraded,anygain
realizedbytheholderofthereacquiredsharesis
subjecttothe5%(onthefirstP100,000gain)and
10%(onthegainafterthe1stP100,000)capital
gainstax."
On the other hand, when preferred shares are
redeemedatatimewhentheissuingcorporationis
still in its "goingconcern" and is not
contemplating dissolving or liquidating, capital
gainorlossuponredemptionshallberecognized
basedonthedifferencebetweentheamount/value
receivedatthetimeofredemptionandthecostof
thepreferredshares.Thecapitalgainorlosson
thepartoftheholderoftheredeemedsharesshall
be subject to the30% regular corporate income
tax(RCIT)forcorporationsortothe5%to32%
regularincometaxforindividuals.
On the part of the corporation reacquiring or
redeemingtheshares,thetransactionisnotsubject
toincometaxconsideringthatitdoesnotrealize
any gain or loss as the share buyback or
redemptionisnotasaleorexchangebutrather,
akintoapartialliquidationofthecorporation.
Inthe2008BIRRuling,theredemptionpricewas
paid bytransferring parcels of land. In the said
ruling,theBIRheldthatthedifferencebetween
thevalueofthelandreceivedinredemption(i.e.,
higherofthezonalvalueandthevaluefixedby
theCityAssessorsOfficeintherealpropertytax
(RPT) declaration) and the cost basis of the
redeemedshareswassubjecttoRCITonthepart
oftheholderofsaidshares.

The transfer of the real estate properties by the

redeemingcorporationwasnotmadeinthecourse
oftradeorbusinessandthus,notsubjecttovalue
added tax (VAT). Likewise, the transfer of the
parcels of land was not subject to documentary
stamp tax (DST) as the conveyance was a
distribution in liquidation of real estate without
valuableconsideration.
RMC No. 32014 upheld the income tax
implicationsofthetransferoflandinpaymentof
theredemptionpricebutmodifiedthe2008BIR
RulinginthatthetransferwassubjecttoVATand
DST.
In the RMC, the BIR explained that since the
redeemingcorporationisarealestatedeveloper,
all real properties acquired by it whether
developedorundevelopedasofthetime ofthe
acquisitionaswellasallrealpropertiesitholds
primarily for sale or lease to customers in the
ordinarycourseoftradeorbusiness,andallreal
properties used in its trade or business are
consideredordinaryassets.
Eventhoughthetransferoftherealpropertiesby
the redeeming corporation in redemption of the
sharesheldbythestockholderisnotoccurringin
theregularcourseofbusinessandisatransaction
notdonewithregularity,thetransferissubjectto
VAT,thesamebeingconsidereda"deemedsale"
transaction,i.e.,transfer,useorconsumptionnot
inthecourseofbusiness,ofgoodsorproperties
originallyintendedforsaleorforuseinthecourse
ofbusiness.
The VAT was based on the gross selling price
definedasthehigheroftheconsiderationreceived
(i.e., redemption price for the redeemed shares)
and the fair market value (FMV) of the real
property transferred (i.e., FMV in the RPT
declaration issued by the Assessors Office or
zonalvalue,whicheverishigher).
The transfer was likewise deemed a sale or
conveyanceofrealpropertysubjecttoDST.
Given the current predilections of the BIR,
taxpayersmustbevigilantinkeepingabreastof
the latest issuances of the taxauthorities before
theyundertakecertaintransactions.