CTA Case No. 5654 (Decision)

REPUBLIC OF THE PHILIPPINES COURT OF TAX APPEALS QUEZON CITY SOUTHERN ENERGY PANGASINAN, INC. [Formerly: PANGASINAN ELECTRIC CORPORATION, Petitioner, - versus - C.T.A. CASE NO. 5654 COMMISSIONER OF INTERNAL Promulgated: REVENUE, .JUL 1~. 200�1 t/ Respondent. b /J1Y1J(}~r>f-:/;':;:~A--:.-1A.. ) X - - - - - - - - - - - - - - - - - - - - - - - - - - - - - - - - - - - - - - - - - - - - - - - - - - - - - - - - - - - -X DECISION Thi s case involves a claim for refund or issuance of a tax credit certificate in the amount of P286,592, 786_25 allegedly representin g unutili zed input value-added tax (VAT, for brevity) on domestic purchases of capital goods and services for the period April I, 1996 to March 31, 1998, Petitioner is a domestic corporation duly organized and existing under and by virtue of the laws of the Philippines wi.th principal office 1t Barangay Pangascasan, Sual, Pangasinan_ It is originally registered with the Securities and Exchange Commission (SEC) under the name " Pangasinan Electric Corporation" (Exhibit A)_ It is licensed principally to engage in the business of power generation and subseq uent sale thereof It is registered with the Bureau of Internal Revenue as a VAT entity with Certificate of Registration bearing RDO Control No. 05-03219, dated January 22, 1996 (Exhibit B). 880 L j

r DECISION- CTA CASE NO. 5654 PAGE2 For the period April .1, 1996 to March 31, 1998, Petitioner seasonably filed its original Quarterly Value-Added Tax Returns reflecting a nil sale but with accumulated input VAT arising from its domestic purchases of goods and services (Exhibits. D-2, E-2, F-2,G-2, H-2, 1-2, J-2, and K-2). The quarterly VAT returns for the second calendar quarter of 1996 to the second calendar quarter of 1997 were simultaneously amended on April 13, 1998 (Exhibits . D, E, F, and G) while the quarterly VAT returns for the third calendar quarter of 1997 to the first calendar quarter of 1998 were simultaneously amended on June 25, 1998 (Exhibits. J-1, I, J, and K). As of March 31, 1998 , Petitioner had accumulated input taxes in the s um of P316,356,744.95. Out of the afore-said amount, Petitioner alleged that the input taxes of P286 ,592, 786.25 perta in to purchases of capital goods and services needed for the construction and development of its power generating plant and its related facilities in Sua!, Pangas inan (TSN, December 3, 1998 , p. 9) . Pursuant to the procedures prescribed under Reve nue Regulations No. 7-95, as amended, Petitioner tiled on June 25, 1998 , an application for tax credit or refund of the aforementioned unutilized VAT paid on capital goods with the Bureau of Internal Revenue, Revenue Region No .5, Ai aminos, Pangasinan (Exhibit C). On July I , 1998, Petitioner instituted the instant P ~tition for Review in order to toll the running of the two-year prescriptive period under Section 230 of the Tax Code, as amended. On August 14, 1998, Respondent filed hi s Answer and raised the following Special and Affirmative Defenses, thus: 861

DEC ISION- CTA CASE NO. 5654 PA GE 3 I. That Petitioner' s .claim for input tax refund/credit is still undergo ing admini strative routinary inves ti gati on/examination by Respondent's bureau ; 2. Petitioner failed to demonstrate th at taxes s u 1~ec t o f the instant petiti on we re erroneously or illegally collected on acco un t of its derelic ti on to present proofs showing th at, indeed, its alleged purchases of ca pital goods are covered by Section I 06(B) [now Secti on 11 2(B) of the Tax Reform Act of 1997] ; 3. The total amount o f P286,592, 78 6.25 being claimed by Petitioner as alleged unutili zed input tax credits for the peri od April I , 1996 to March 3 1, 1998 was not substanti ated by doc uments pursua nt to Secti on 4.104.5 of Revenue Regulations No. 7-95; 4. In an acti on for tax refund/credit, the burden of proof is on the taxpayer to establish its ri ght to refund and failure to sustain th e burden is fatal to such cl aim for refund/credit ; 5. C laims for re fund/credit arc 111 th e nature of tax exem ption, hence, construed in strictissimi j uris against the taxpa; cr. Meanwhile, on A ugust 17, 1999, the SEC approved th e A mended A rticl es of Incorporation of Petiti oner w hich changed, among oth ers, its corporate name from Pangasinan E lectri c Corporati on to So uthern Ene rgy Pangasinan, Inc. (CTA records, pp. 166 to 180) . Petitioner, due to the vo luminous nature o f the ev idence to be presented, availed o f the services of Mr. Ruben R . Rubio, a Partner in the acco unt ing firm of SGV & Company who was commi ssioned by thi s Court to verify th e aCC l} r<tcy o f Pe titi oner's summary of input taxes (CTA records, p. 50) pursuant to CTA Circu lar No . 1-95 as amended by CTA C ircular No . I0-97 . In a report dated February 9, I999, Mr. Rubi o described the audit procedures performed and repo rted hi s find ings that o ut of the total claimed input taxes of 8 6 ..

DECISION- CTA CASE NO. 5654 PAGE4 P286,592, 786.25, a minimal amount of P872. 73 is excepted because the corresponding official receipt bears only a stamped VAT number (Exhi'�>it S). On the other hand, Respondent presented as evidence the Memorandum Report of its Revenue Enforcement Officers, Mr. Zaldy I. Dy and Ms. Bernadette B. Mangaoang, recommending the complete denial of the present claim for refund/credit despite their verification that input taxes in the amount of P75,333 ,540.54 pertain to capital goods. Pertinent portions of the memorandum report submitted by the revenue examiners arc quoted as follows: Photocopies of the Amended VAT returns and Invoices/Official receipts were presented for verilication . These w~rc authenticated from the original Documents, and the supposed Input Tax were accounted as follows: Period covered as claimed Non Capital goods Capital goods 1996-211d QTR 29,002,328.59 26,115,489.44 2,886,839.15 30,945,209.03 30,939,486.74 -3rd QTR 14,433,285.82 14,401,3 70.3 8 5,722.29 -4th QTR 74.3 80.823.44 71,456.346.56 31 915.44 2.924,476.88 Total 1997-1 st QTR 27,888,318.87 20, 188.090.69 7,700,228.18 -2nd QTR 43,397,047.50 43 ,381 ,904.71 15,142.77 -3rd QTR 71,276,296.59 48,729,202.50 -4th QTR 48,559,077.78 22,54 7,094.09 191.120.740.60 6,412,479.16 42,146,598.62 Total 118,711.676.90 72,409.063.66 GRAND TOTAL 265.50 I.564.00 190. 168.0~3.40 75,333.540.54 The non Capital goods as shown above includes payments made to contractors and suppliers whose invoice do not show the breakdown or description of the items paid, amounting to 65,088,493.3 7 in 1996 and 110,644,597.80 in 1997. RECOMMENDATION : The undersigned examiners, after an evaluation of the facts and circumstances surrounding the case hereby recommend that the refund be denied on the following grounds: 863

DECIS ION- CTA CASE NO. 5654 PAGE 5 I. PEC as engaged in Electri c power generation is no t considered an ordinary VAT taxpaye r. They should have app lied as VAT zero rated pursuant to Revenue Regulation 7-95 and as contained in a memorandum from the Department of Finance dated Oct. 21, 1997 and January 26, 1998 (see attached copy) 2. In a VAT review committee ruling dated March II, 1999, it was clearly defined that, without an approved app lication for zero rating, the transaction otherwise entitl ed to VAT zero rating shall be considered exempt - as such input tax cred its will be treated as part of proj ect cost and expenses. From the facts thus presented, ihc issues rai sed arc as foll ows: I. What does the term "capital goods" comprise? 2. Is an approved app li cation for ze ro-ratin g necessary before the instant claim for refund may prosper? 3. Whether or not the sa id input taxes have not been app li ed against its output tax liability. 4. Whether or not the claimable amount is fully substantiated by evidence. The first aforementioned question was cl early answered in the cases of Hopewell Power (Philippines) Corp. vs. Commissione1� of Internal Revenue, CTA Case No. 5321, dated October 7, 1 9 9 8 1 and Hopewell Power (Phi lippines) Corp. vs. ; Commissioner of Internal Revenue, CTA Case No. 5389, dated Janua��y 4, 1999 2 , where this Court rul ed, thus: 1With Court of Appeals ' Entry of Judgment, dated March 25, I999. 2With Supreme Court Reso luti on, dated February 2 I, 200 I, denying the petition for rev iew for fai lure of petitioner to show that a reversible error had been com mitted by th e appe ll ate co urt. Our deci sion was affirmed by the Court of Appeals in its Dec ision, dated March 17, 2000.

DECISION- CTA CASE NO. 5654 PAGE6 Section 2(o) of Revenue Regulati ons No. 5-87 of the Value-Added Tax Regul ations defi nes capital goods as - (o) "Cap ital goods" refer to goods with estimated useful life greater than one year and whi ch are treated as depreciable assets under Section 29(f), used directly or indirectly in the production or sale of taxable goods or services. Generally, a capital expenditure in vo lves a payment which creates or enhances w hat is essentiall y a separate a nd distinct asset. Statutoril y, capital expenditures are specifi ed as amo unts paid out for new buildings or for permanent improvements or betterments made to increase the value of any property or estate or amounts expended in restorin g property or in making good Ex hibitaustion thereof for whi ch an all owance is or has been made (6 MERTENS Law of Federal Income Ta; ati on, S25.37, pp. 114 to 115). Jn determining what constitutes cap ital goods, courts will look to th e origin and character of the ex penditure to determine whether it is a capital asset (6 MERTENS Law of Federal Income Taxation , S25.37, p. 11 5, supra) . For example, it was held that " the cost of a topo graphical survey made for the purpose of establishing boundary lines of the property, of ascertaining the topo graph y of the land , and of recording the locati on on the property of valuable shrubs and shade trees is a capital ex penditure" (Johnson vs. Comm., TC Memo 195 5-247, cited in 6 MERTENS Law of Federal Income Taxation S25.63, p. 179). The same treatment is acco rd ed to amounts expended for maps, abstracts, legal titl e op inion s, reco rdin g fees and surveys (6 MERTENS Law o f Federal Income Taxation, S25.63 , p. 179, supra). The records show that petitioner expended for e ngineeri ng and structural services for the purpose of constructi ng power plant facilities needed in the production of electricity, which is petitioner's main product. We arc there fore co nvi nced th at sa id expenses are necessary and shou ld form part of the cost of the power plant faci li ties. (Underlining supp lied) . The above pronouncement is on all fours with the case at bar hence, We need not depart from such a conclusion. The records convi ncingly show that Petitioner expended for the construction of its power generating plant as evide nced by various VAT invoices and official receipts showi ng payments for the erecti on of the coal-fired thermal power 86 5

r D EC ISION- CT A CA SE NO. 5654 PAG E 7 pl ant in Sua!, Pangasinan. The power pl ant and its re l a�;� ~d facilities are within the scope and meaning of capital goods (Co mmissionu of Internal Revenue vs. Hopewell Powu (Phils.) Cu q w rati un, CA-G.R. SP No. 5 1617, dated Man:h 17, 2000) . We now di scuss the second issue. Respondent, in hi s memorandum , averred that the entitl ement of Petitioner to the refund depends on its compliance with Secti on 4. 107-1 (d) in relation to Section 4.102- 2(b)(3) and (c) of both Revenue Regulations No. 7-95 which requires a prior application with the Revenue District Office for effe cti ve zero-rating. And without an approved application for effecti ve zero-rating, the Respondent op ines that the transaction otherwi se entitled to zero-rating shall be considered exempt. We agree that an approved application fo r effecti ve zero-rating is mandatory insofar as the claim for refund of creditabl e input taxes on goods and servi ces attributabl e to such effectively zero-rated sales, is co ncerned. However, Petitioner is not claiming a refund/credit of input taxes paid on goods and services attrib utable to its "effectively zero-rated sal es" but on input taxes paid on capital goods purchased in connecti on with the construction of its power generating plant. There is a distinct difference between these two types of refund . In fact, the quarterl y VAT returns of Petitioner do not show that it had generated effecti ve ly zero-rated sales durin g the period April 1. 1996 to March 3 1, 1998 for it to claim the input taxes attributable to such sale. We wo uld like to emphasize that Section I 06(a) [now 11 2(a) of the Tax Reform Act of 1997] of the Tax Code does not appl y in thi s case but Secti on 106(b) [now 11 2(b)] of the same Code, to quote: 8 6 '>

DECISION- CTA CASE NO. 5654 PAG E 8 SEC. 106. Refunds or tax credits ofcreditable input tax.- (a) Zero-rated or Effectively Zero-rated Sales. - x x x. (b) Capital Goods. - A VAT-registered person may apply for the issuance of a tax credit certificate or refund of input taxes paid on capital goods imported or locally purchased, to the ext.~nt that such input taxes have not been applied against output taxes. The application may be made only within two (2) years after the close of the taxable quarter when the importation or purchase was made. Unlike Section 106(a), Section 106(b) of the Tax Code does not require that a VAT registered person 's sale must be zero-rated or effectively zero rated before it can apply for refund of input taxes paid on capital goods. As expressly stated in the law, the Petitioner must only prove that: (1) it is a VAT registered person; (2) the input taxes claimed were paid on capital goods; (3) the input taxes have not been applied against its output tax liabi lity; and (4) the administrative claim for : efu nd was seasonably filed (Air Liquide Philippines, Inc. vs. Commissioner of Internal Revenue and Commissioner of Customs, CTA Case No. 5652, promulgated on .July 6, 2000). Records show that Petitioner satisfactorily complied with the above requisites. Petitioner is registered with the Bureau of Internal Revenue as a VAT-taxpayer (Exhibit B). The input taxes claimed, as discussed earlier, pertain to capital goods. The input taxes sought to be refunded/credited were not utilized by Petitioner because it had no output tax liabi lity during the subject period against which the said taxes could be app lied (TSN, February 11 , 1999, p. 8). Furthermore, the claimed input taxes in the amount of P286,592,786.25 (included in the amount of P316,356,744.96 for the period January l , 1995 to March 31, 1998) were already deducted from the accumulated input taxes as of December 31, 1998, as shown in the 1998 fourth quarterly VAT (Exhibits. L, L-1, and

DECISION- CTA CASE NO. 5654 PAGE 9 M) . Thi s means that Petitio ner can no lon ger utili ze th e claimed input VAT for its future output tax liabilities. Lastly, the administrative c laim for refund was seaso nab ly fil ed . What is now left for the Court to determine is t!Je correct amou nt of input taxes that may be granted to Petitioner on the bas is of th e evidence presented. As mentioned earlier, the independent CPA and the revenu e exammers have reached different conclusions, therefore th e Co urt deemed it proper to conduct its ovvn verification on the VAT in vo ices and official rece ipts that have been submitted in evidence by Petitioner. As a res ult of thi s Co urt 's verification and co mputati on, the input taxes in the total amount. of P60,347 ,523.45 were disallowed due to the following reaso ns: Supplier Exhib it Input VAT REMARKS Flower Company, Inc. T-5 p 863.64 No n-capi tal goods (fl owers) Sua) Constructi on Corp. T-14 19,095,852.27 In vo ice specified zero VAT GEC Alsthom Power Ge neration T-20 6,365 ,284.09 In vo ice spec ifi ed nil VAT Activewhee ls Transport Service T-29 340.00 No n-cap ital goods (car rent al) Roberto Q. Dimaca li T-31 872.00 No n-capita l goods (c lothes) Exclusively Hi s Tailoring T-35 492.73 Non-capital goods (uniform s) GEC Alsthom Power Generation T-45 6.370. 147.73 Invoice spec ifi ed ze ro VAT Triple K Printing Services T-10 9 345.6l) Non-capital goods (office sup pli es) Amstar Company, Inc. T-Ill 3,509. 10 Non-capi tal goods (o ffi ce suppli es) Columbia Technol og ies In c. T-113 3,200.00 No n-cap ital goods (office suppli es) Vaecare Enterpri ses T-137 425.39 Non -cap ital goods (janitoria l services) Vaecare Enterpri ses T-139 443.45 Non -cap ital goods (janitorial services) Sua) Constructi on Corporation 27,958,035.47 No t documented Angel Za mora & So ns T-167 I,404.55 Non-capital goods (company logo) E. Arnaldo Li ghting Systems T-173 8,227.27 Non-cap ital goods (rental of li ghts) E. Arnaldo Li ghtin g Systems T-17S 8,227.27 Non-capital goods (rental of so und s) Floro Blue Printing Inc. T-176 390.00 N0n-capital goods (supplies) Floro Blue Printing Inc. T-178 335.45 Non-capital goods (supplies) Floro Blue Printing Inc. T-180 528.00 Non-capital goods (suppli es) Vaecare Enterprises T-184 400.06 Non-capital goods (ja nitorial servi ces) Vaecare Enterprises T-1 86 392 .10 Non-ca pit al goods (janitorial services) Vaecare Enterpri ses T-205 638.03 Non-capital goods (janitorial serv ices) Vaecare Enterpri ses T-207 304.93 Non-cap ital goods (janitorial services) Vaecare Enterpri ses T-209 375.65 Non-cap ital goods (janitori al services) CEPA Operations (Phil s) Corp. 526, 186.3 1 Not docu mented Gerp Rent A Car T-2 11 302.27 Non-capital goods (car rental) T 0 TAL P60 ,.34 7,52_3 .45 86G

r DECISION- CTA CASE NO. 5654 PAGE 10 In sum, Petitioner is entitled to the refund/credit of input taxes in the amount of P226,245,205.85 , computed as follows: Amount sought to be refunded/credited P286,592,72 9.30 Less: Court's disallowed input taxes 60,34 7,523.45 Amount refundable P226,245.205 .85 WHEREFORE, in view of the foregoing, Petitioner' s claim for refund is hereby PARTIALLY GRANTED. Respondent is ORDERED to REFUND o r ISSUE A TAX CREDIT CERTI FICATE in the amount of P226 ,245,205 .85 in favo r of the Petitioner representing input taxes paid on capital goods for the period April I, 1996 to March 31, 1998. SO ORDERED. ~LJ-C~ ERNESTO D. ACOSTA Presiding Judge I CONCUR: .~~od.~& Associate Judge CERTIFICATION I hereby certify that the above decision was reached after due consultation with the members of the Court of Tax Appeals in accordance with Section 13 , Article VIII of the Constitution. ~~-O~ ERNESTO D. ACOSTA Presiding Judge 8G .