DIGESTS
Income Tax
Tax Free Exchange
Requirements for a tax-free exchange.
Pursuant to Section 40, paragraphs (C)(2) and (6)(c) of the 1997 NIRC, as amended, no gain or loss shall be recognized both to the transferor and transferee corporation on the transfer or exchange of property provided the following requirements are present: (1) the transferee is a corporation; (2) the transferee exchanges its shares of stock for property/ies of the transferor; (3) the transfer is made by a person, acting alone or together with others, not exceeding four persons; and, (4) as a result of the exchange the transferor, alone or together with others, not exceeding four, gains control of the transferee.
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Recognition of gain or loss is merely deferred.
It should be emphasized, however, that when the property or shares of stock acquired through a tax-free exchange is subsequently sold, the said subsequent sale shall not be subject to income tax. This is because, in a tax-free exchange, the recognition of gain or loss arising from the exchange is merely deferred.
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No confirmatory ruling is required before transaction under Section 40(C)(2) may be considered as a tax-free exchange.
Moreover, as correctly pointed out by the CTA EB, there is nothing in Section 40(C)(2) of the NIRC of 1997, as amended, which requires the taxpayer to first secure a prior confirmatory ruling before the transaction may be considered as a tax-free exchange. The BIR should not impose additional requirements not provided by law, which would negate the availment of the tax exemption. Instead of resorting of formalities and technicalities, the BIR should have made its own determination of the merits of respondents’ claim for exemption in respondents administrative application for refund. However, the Court notes that, in this case, the CIR not only failed to act on respondents administrative claim for refund, it also failed to present any evidence during trial before the CTA to prove that the subject transaction is not covered by the tax exemption.
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