Tuesday, April 29, 2008 Tax notes: Interest payment on inter-company loans
A parent company borrows money from the bank and relends it, through an affiliate (Affiliate A), to another affiliate (Affiliate B) who is the final user of the funds, at an interest equal to that which the bank charged on the parent’s loan.
Affiliate B pays the interest to Affiliate A, who in turn remits the interest to the parent company. Affiliate A does not report such interest received from Affiliate B either for income tax or for value-added tax (VAT) purposes.
Affiliate A cannot be assessed for deficiency income tax and VAT. No interest income actually redounded to Affiliate A as the interest it received was merely deposited or entrusted to it for payment to the parent company.
Furthermore, by definition of “interest,” the actual lender of the funds or credit is not really Affiliate A, as it is merely a conduit in the transaction. (Orion Land, Inc. v. Commissioner of Internal Revenue, CTA Case No. 7086, Jan. 10, 2008)
Taxable income does not include items received that do not add to the taxpayer’s net worth or redound to his benefit, such as amounts merely deposited or entrusted to him.
Interest for use of money is defined as “the compensation allowed by law or fixed by the parties for the use or forbearance of borrowed money.” It represents payments a borrower pays a lender for the use of money. (Source: Punongbayan & Araullo)
