G.R. No.
127105 June 25, 1999
COMMISSIONER OF INTERNAL REVENUE, petitioner,
vs.
S.C. JOHNSON AND SON, INC., and COURT OF APPEALS,
respondents.
NOTE: Full text is 11 pages long.
FACTS:  RP-US Tax Treaty in relation to the RP-West Germany Tax
 SC Johnson and Son (Respondent), a domestic
corporation, entered into a license agreement with SC
Johnson and Son, USA, a non-resident foreign
corporation based in the USA.
 The license agreement granted the respondent the
right to use the trademark, patents and technology.
 For the use of such, respondent was obliged to pay
royalties based on a percentage of net sales and
subjected the same to 25% withholding tax on royalty
payments which respondent paid P1,603,443.00, for
the period covering July 1992 to May 1993.
 Respondent (domestic corporation) filed with the
International Tax Affairs Division (ITAD) of the BIR a
claim for refund of overpaid withholding tax on
royalties arguing that since the agreement was
approved by the Technology Transfer Board, the
preferential tax rate of 10% should apply.  which is defined as the imposition of comparable taxes in 2 or
 Respondent’s complaint:  Royalties paid by the
respondent is only subject to 10% withholding tax
pursuant to Article 13 Paragraph 2 (b) (iii) of the RP-
US Tax Treaty, in relation to Article 12 (2) (b) of the
RP-West Germany Tax Treaty.
 Because the CIR did not act on said claim for refund,
respondent filed a petition for review before the CTA,
to claim a refund of the overpaid withholding tax on
royalty payments from July 1992 to May 1993.
 CTA - in favor of S.C. Johnson, ordered the CIR to
issue a tax credit certificate (P963,266.00)
representing overpaid withholding tax on royalty
payments (July, 1992 to May, 1993.)
 CIR - filed a petition for review with the CA. 
 CA - affirmed the CTA ruling.
 Hence, an appeal on certiorari was filed to the SC.
 Petitioner’s contention: Under Article 13(2) (b) (iii)
of the RP-US Tax Treaty, which is known as the
"most favored nation" clause, the lowest rate of the
Philippine tax at 10% may be imposed on royalties
derived by a resident of the US from sources within
the PH only if the circumstances of the resident of the
US are similar to those of the resident of West
Germany.
 Respondent’s comment: the "most favored nation"
clause under the RP-US Tax Treaty refers to royalties
paid under similar circumstances as those royalties
subject to tax in other treaties; the phrase "paid under
similar circumstances" does not refer to payment of
the tax but to the subject matter of the tax, that is,
royalties, because the "most favored nation" clause is
intended to allow the taxpayer in one state to avail of
more liberal provisions contained in another tax treaty
wherein the country of residence of such taxpayer is
also a party thereto, subject to the basic condition that
the subject matter of taxation in that other tax treaty is
the same as that in the original tax treaty under which
the taxpayer is liable;  from sources within the PH as those allowed to their German
 Petitioner’s Reply: even if the phrase "paid under
similar circumstances" embodied in the most favored
nation clause of the RP-US Tax Treaty refers to the
payment of royalties and not taxes, still the presence
or absence of a "matching credit" provision in the said
RP-US Tax Treaty would constitute a material
circumstance to such payment and would be
determinative of the said clause's application.
ISSUE: WON the CA erred in ruling that SC Johnson, USA, is
entitled to the tax rate of 10% on royalties, as provided in the
Treaty [YES]
RULING: The CONCESSIONAL TAX RATE (a reduction
made by the government in the amount of tax that a particular
group of people or type of organization has to pay or a change
in the tax system that benefits those people) of 10% provided
for in the RP-Germany Tax Treaty COULD NOT APPLY to
taxes imposed upon royalties in the RP-US Tax Treaty since
the 2 taxes imposed under the 2 tax treaties are NOT PAID
under similar circumstances, they are NOT CONTAINING
SIMILAR PROVISIONS on tax crediting.
This Court reverses the position of the CTA. The RP-US Tax
Treaty is just one of a number of bilateral treaties which the PH
has entered into for the avoidance of double  taxation. TAX
CONVENTIONS  ARE  DRAFTED  with a  view  towards the 
elimination  of international juridical DOUBLE TAXATION,
more states on the same taxpayer in respect of the same
subject matter and for identical periods.
DOUBLE TAXATION USUALLY TAKES PLACE when a
person is resident of a contracting state and derives income
from, or owns capital in, the other contracting state and both
states impose tax on that income or capital.
In the case at bar, the STATE OF SOURCE IS THE PH
because the royalties are paid for the right to use property or
rights, i.e. trademarks, patents and technology, located
within the Philippines. THE US IS THE STATE OF
RESIDENCE since the taxpayer is based there.
Furthermore, the method employed to give relief from double
taxation is the allowance of a tax credit to citizens or residents
of the US (in an appropriate amount based upon the taxes paid
or accrued to the PH)   against   the   US   tax,   but   such  
amount   shall   not   exceed   the limitations provided by
United States law for the taxable year.
Under Article 13 of the RP-US Tax Treaty, the PH may impose
1 of 3 rates — 25% of the gross amount of the royalties; 15%
when the royalties are paid by a corporation registered with the
PH Board of Investments and engaged in preferred areas of
activities; or the lowest rate of PH tax that may be imposed on
royalties of the same kind paid under similar circumstances to
a resident of a third state.
Given the PURPOSE UNDERLYING TAX TREATIES and the
RATIONALE FOR THE MOST FAVORED NATION CLAUSE,
the concessional tax rate of 10% provided for in the RP-
Germany Tax Treaty should apply only if the taxes imposed
upon royalties in the RP-US Tax Treaty and in the RP-
Germany Tax Treaty are paid under similar circumstances.
This would MEAN that private respondent must prove that the
RP-US Tax Treaty grants similar tax reliefs to residents of the
US in respect of the taxes imposable upon royalties earned
counterparts under the RP-Germany Tax Treaty.
The RP-US and the RP-West Germany Tax Treaties DO NOT
CONTAIN SIMILAR PROVISIONS ON TAX CREDITING.
Article 24 of the RP-Germany Tax Treaty, supra, expressly
allows crediting against German income and corporation tax of
20% of the gross amount of royalties paid under the law of the
Philippines. On the other hand, Article 23 of the RP-US Tax
Treaty, which is the counterpart provision with respect to relief
for double taxation, does not provide for similar crediting of
20% of the gross amount of royalties paid.  At the same time,
the intention behind the adoption of the provision on "relief
from double taxation" in the two tax treaties in question should
be considered in light of the purpose behind the most favored
nation clause.
Purpose of a most favored nation clause:
It is to grant to the contracting party treatment not less
favorable than that which has been or may be granted to the
"most favored" among other countries. The most favored
nation clause is intended to establish the principle of equality of
international treatment by providing that the citizens or subjects
of the contracting nations may enjoy the privileges accorded by
either party to those of the most favored nation. The essence
of the principle is to allow the taxpayer in one state to avail of
more liberal provisions granted in another tax treaty to which
the country of residence of such taxpayer is also a party
provided that the subject matter of taxation, in this case royalty
income, is the same as that in the tax treaty under which the
taxpayer is liable.  double taxation:
ON DOUBLE TAXATION
The RP-US Tax Treaty is just one of a number of bilateral
treaties which the Philippines has entered into for the
avoidance of double taxation.
Purpose of a tax treaty:
It is to reconcile the national fiscal legislations of the
contracting parties in order to help the taxpayer avoid
simultaneous taxation in two different jurisdictions. More
precisely, the tax conventions are drafted with a view towards
the elimination of international juridical double taxation.
The goal of double taxation conventions would be thwarted if
such treaties did not provide for effective measures to
minimize, if not completely eliminate, the tax burden laid upon
the income or capital of the investor. Thus, if the rates of tax
are lowered by the state of source, in this case, by the
Philippines, there should be a concomitant commitment on the
part of the state of residence to grant some form of tax relief,
whether this be in the form of a tax credit or exemption.
Otherwise, the tax which could have been collected by the
Philippine government will simply be collected by another
state, defeating the object of the tax treaty since the tax burden
imposed upon the investor would remain unrelieved. If the
state of residence does not grant some form of tax relief to the
investor, no benefit would redound to the Philippines, i.e.,
increased investment resulting from a favorable tax regime,
should it impose a lower tax rate on the royalty earnings of the
investor, and it would be better to impose the regular rate
rather than lose much-needed revenues to another country.
International Juridical DOUBLE TAXATION 
It is defined as the imposition of comparable taxes in two or
more states on the same taxpayer in respect of the same
subject matter and for identical periods.  his favor and he must be able to justify his claim by the
Rationale for doing away with double taxation: 
To encourage the free flow of goods and services and the
movement of capital, technology and persons between
countries, conditions deemed vital in creating robust and
dynamic economies. 
Double taxation
Double taxation usually takes place when a person is resident
of a contracting state and derives income from, or owns capital
in, the other contracting state and both states impose tax on
that income or capital.
Methods of eliminating double taxation: 
1. It sets out the respective rights to tax of the state of
source or situs and of the state of residence with
regard to certain classes of income or capital. In some
cases, an exclusive right to tax is conferred on one of
the contracting states; however, for other items of
income or capital, both states are given the right to
tax, although the amount of tax that may be imposed
by the state of source is limited. 
2. The second method for the elimination of double
taxation applies whenever the state of source is given
a full or limited right to tax together with the state of
residence. In this case, the treaties make it incumbent
upon the state of residence to allow relief in order to
avoid double taxation. 
Methods of relief under the second method of eliminating
1. EXEMPTION METHOD - focus is on the income or
capital itself; the income or capital which is taxable in
the state of source or situs is exempted in the state of
residence, although in some instances it may be
taken into account in determining the rate of tax
applicable to the taxpayer's remaining income or
capital
2. CREDIT METHOD - focus is upon the tax; although
the income or capital which is taxed in the state of
source is still taxable in the state of residence, the tax
paid in the former is credited against the tax levied in
the latter. 
Rationale for reducing the tax rate in negotiating tax
treaties:
So that the Philippines will give up a part of the tax in the
expectation that the tax given up for this particular investment
is not taxed by the other country. 
ON TAX REFUNDS
Private respondent is claiming for a refund of the alleged
overpayment of tax on royalties. But, the SC said there is
nothing on record to support a claim that the tax on royalties
under the RP-US Tax Treaty is paid under similar
circumstances as the tax on royalties under the RP-West
Germany Tax Treaty.
Tax refunds 
Tax refunds are in the nature of tax exemptions. As such they
are regarded as in derogation of sovereign authority and to be
construed strictissimi juris against the person or entity
claiming the exemption. 
Burden of proof in tax exemption:
The burden of proof is upon him who claims the exemption in
clearest grant of organic or statute law. 
DISPOSITIVE: WHEREFORE, for all the foregoing, the instant
petition is GRANTED. The decision dated May 7, 1996 of the
Court of Tax Appeals and the decision dated November 7,
1996 of the Court of Appeals are hereby SET ASIDE.