Tax Deductibility of Foreign Expenses for Philippine Businesses: A Question-and-Answer Guide

Question: As a small local business operating in a Philippine province, can we claim tax deductions for foreign expenses, such as payments to foreign consultants and other foreign companies? What are the requirements and ways to ensure these expenses are tax-deductible?

Answer:

In the Philippines, the general rule is that all ordinary and necessary expenses paid or incurred during the taxable year in carrying on any trade or business are deductible from the gross income. This includes foreign expenses, provided they meet certain criteria. Here are the key points regarding the tax deductibility of foreign expenses:

1. Ordinary and Necessary Expenses:

Under Section 34(A) of the National Internal Revenue Code (NIRC), for an expense to be deductible, it must be both ordinary and necessary in the business trade or profession of the taxpayer.

2. Foreign Expenses:

Payments to foreign consultants and other foreign entities can be considered as deductible expenses if they are directly related to the business and are essential to its operations.

3. Withholding Tax on Foreign Payments:

One significant requirement for the deductibility of payments made to non-residents (foreign consultants or companies) is the withholding of tax at source. The Bureau of Internal Revenue (BIR) mandates withholding tax rates on certain income payments to non-residents, and remitting this tax is essential for the corresponding expense to be deductible.
Ensure that you comply with the required withholding tax rates and remit them properly to the BIR.

4. Official Receipts and Supporting Documents:

Proper documentation is vital. Always secure official receipts or equivalent documents for every transaction, even with foreign entities. These documents are necessary to substantiate the claim for deductions.
For payments to foreign consultants, it might be beneficial to have contracts or agreements in place that detail the nature of the consultancy, the compensation, and other relevant terms.

5. Arm's Length Transaction:

Ensure that the transactions are conducted at arm's length, especially if dealing with related foreign entities. This means that the transaction is undertaken under usual market conditions and that the terms are not influenced by any relationship between the parties.

6. Allocation of Expenses:

If the foreign expense is partly for business and partly for personal purposes, only the business portion can be deducted. Proper allocation and documentation are crucial.

Conclusion:

Foreign expenses incurred by a Philippine business can be tax-deductible, provided they are ordinary, necessary, and supported by proper documentation. It is also vital to comply with the withholding tax requirements set by the BIR for payments to non-residents. To ensure full compliance and to understand the intricacies of claiming such deductions, consulting with a tax expert or accountant familiar with Philippine tax laws is recommended.

Disclaimer: This article is intended for informational purposes only and should not be construed as legal or tax advice. Consult a tax expert or accountant for advice specific to your situation.