ASG Law

Tag: Cross-Border Transactions

  • Choice of Law Clauses: How Philippine Courts Interpret Cross-Border Contracts

    Navigating Conflicting Choice of Law Clauses in Cross-Border Loan Agreements

    G.R. Nos. 216608 & 216625, April 26, 2023

    Imagine a Philippine company securing a loan from a local branch of a foreign bank, with the loan agreement governed by Philippine law, but the security agreement backing it governed by New York law. If a dispute arises, which law prevails? The Supreme Court, in Standard Chartered Bank vs. Philippine Investment Two, clarifies how Philippine courts address these complex choice-of-law scenarios in cross-border transactions, providing crucial guidance for businesses operating internationally.

    Understanding Choice of Law in International Contracts

    When contracts involve parties from different countries, it’s crucial to determine which jurisdiction’s laws will govern the agreement. This is where “choice of law” clauses come in. These clauses explicitly state which country’s laws will be used to interpret and enforce the contract.

    The Philippines recognizes the principle of freedom of contract, allowing parties to choose the governing law, provided it’s not contrary to law, morals, good customs, public order, or public policy. However, complexities arise when a transaction involves multiple contracts, each potentially pointing to a different legal system.

    The Supreme Court often refers to the guidelines established in Saudi Arabian Airlines (Saudia) v. Rebesencio, which outlines key factors in choice-of-law problems, including:

    • Nationality of the parties
    • Place of business
    • Location where the contract was made
    • Most importantly, the lex loci intentionis, or the intention of the contracting parties regarding the governing law

    These factors help courts determine which legal system has the most significant connection to the transaction and should, therefore, govern its interpretation and enforcement.

    Article 1231 of the Civil Code lists the ways obligations are extinguished:

    • Payment or performance
    • Loss of the thing due
    • Condonation or remission of the debt
    • Confusion or merger of rights
    • Compensation
    • Novation

    The interplay between these principles and contractual stipulations is central to resolving disputes in international commercial transactions.

    The Standard Chartered Bank Case: A Tangled Web

    The case involves Standard Chartered Bank (SCB) and Philippine Investment Two (PI Two), an affiliate of Lehman Brothers. SCB extended loans to PI Two under a group financial package. Lehman Brothers guaranteed these loans, pledging collateral as security. When Lehman Brothers filed for bankruptcy in the US, a stay order prevented creditors from enforcing claims against it.

    Here’s a breakdown of the key events:

    • 2003-2007: SCB New York and LBHI (including PI Two) executed group facilities agreement.
    • 2008: LBHI filed for bankruptcy in the US.
    • 2008: PI Two initiated rehabilitation proceedings in the Philippines.
    • 2009: RTC approved PI Two’s rehabilitation plan.
    • 2013: SCB Philippines settled an adversary complaint with LBHI in the US bankruptcy court, leading to a dispute over whether PI Two’s debt to SCB was extinguished.

    The central legal question was whether the execution of a settlement agreement in the US bankruptcy court extinguished PI Two’s debt to SCB in the Philippines, considering the conflicting choice-of-law clauses in the loan agreement and security agreement.

    The Regional Trial Court (RTC) initially ruled that SCB’s claim against PI Two was excluded from the rehabilitation proceedings, ordering SCB to return amounts received. However, the Court of Appeals (CA) reversed this decision. The Supreme Court then took up the case to resolve the conflicting interpretations.

    The Supreme Court emphasized the importance of upholding contractual stipulations, stating, “Choice of law stipulations are clauses in contracts that specify which law will be used to interpret and enforce the contract. These stipulations are valid and enforceable because the parties to a contract have the freedom to establish their own terms and conditions for their agreement…”

    Ultimately, the Supreme Court ruled that while the loan agreement itself was governed by Philippine law, the settlement agreement in the US bankruptcy court, which affected the pledged collateral, was governed by New York law. Since, under New York law, the settlement didn’t constitute an appropriation of the collateral that would extinguish the debt, PI Two’s obligation to SCB remained.

    Practical Implications for Businesses

    This case underscores the critical importance of carefully drafting and reviewing choice-of-law clauses in international contracts. Businesses must understand the potential implications of these clauses and how they might interact in complex, multi-contract scenarios.

    For instance, imagine a Philippine company importing goods from the US, with the sales contract governed by US law but the financing agreement governed by Philippine law. If the goods are defective, the company’s remedies might be determined differently depending on which law applies to the specific issue at hand.

    Key Lessons

    • Clarity is Key: Ensure choice-of-law clauses are clear, unambiguous, and consistent across all related contracts.
    • Understand the Interplay: Consider how different choice-of-law clauses might interact in complex transactions.
    • Seek Expert Advice: Consult with legal professionals experienced in international law to navigate these complexities.

    Frequently Asked Questions

    What is a choice-of-law clause?

    A choice-of-law clause is a provision in a contract that specifies which jurisdiction’s laws will govern the interpretation and enforcement of the agreement.

    Why are choice-of-law clauses important?

    They provide certainty and predictability in cross-border transactions, helping to avoid disputes over which legal system applies.

    Can parties choose any law they want?

    Generally, yes, as long as the chosen law is not contrary to law, morals, good customs, public order, or public policy.

    What happens if there is no choice-of-law clause?

    Courts will apply conflict-of-laws principles to determine the governing law, considering factors like the parties’ nationalities, place of business, and where the contract was made.

    How does this case affect businesses in the Philippines?

    It highlights the importance of carefully considering choice-of-law clauses in international contracts and seeking expert legal advice to navigate potential conflicts.

    What is the principle of lex loci intentionis?

    It refers to the intention of the contracting parties as to the law that should govern their agreement.

    What happens if the principal contract and accessory contract have different choice-of-law stipulations?

    The extinguishment of a principal obligation is a matter incidental to that obligation, and not to the supporting accessory obligations. Thus, issues on extinguishment of the principal obligation should be governed by the law governing the principal obligation, and not the law governing the accessory obligations.

    ASG Law specializes in Corporate Rehabilitation and Cross Border Transactions. Contact us or email hello@asglawpartners.com to schedule a consultation.

  • Tax Amnesty and Contractor’s Tax: Marubeni Corporation’s Case in the Philippines

    The Supreme Court held that Marubeni Corporation, a Japanese firm, properly availed of tax amnesty for income and branch profit remittance taxes under Executive Orders Nos. 41 and 64, but was not covered for contractor’s tax. The Court clarified that while the company was initially eligible for amnesty on income-related taxes because the tax case was filed after E.O. No. 41 took effect, the subsequent amendment by E.O. No. 64, which included business taxes (like contractor’s tax), disqualified Marubeni from amnesty on those taxes since the case was already in court when E.O. No. 64 took effect. Moreover, the Court determined that contractor’s tax should only apply to work done within the Philippines, thus exempting the “Offshore Portion” of the contracts, where design and manufacturing occurred in Japan.

    Cross-Border Contracts and Tax Exemptions: Did Marubeni Owe Contractor’s Tax?

    This case revolves around deficiency tax assessments issued by the Commissioner of Internal Revenue (CIR) against Marubeni Corporation, a Japanese company with a branch in Manila. The assessments covered deficiency income tax, branch profit remittance tax, and contractor’s tax for the fiscal year ending March 31, 1985. The CIR argued that Marubeni had undeclared income from construction projects with the National Development Company (NDC) and the Philippine Phosphate Fertilizer Corporation (Philphos). These projects involved the construction of a wharf/port complex and an ammonia storage complex, respectively. The core issue was whether Marubeni could claim tax amnesty under Executive Orders (E.O.) Nos. 41 and 64, and whether the “Offshore Portion” of these contracts was subject to Philippine contractor’s tax.

    Marubeni contended that it had validly availed of the tax amnesty programs offered by the government, which should have extinguished its tax liabilities. The tax amnesty programs, established through E.O. Nos. 41 and 64, aimed to provide a one-time opportunity for taxpayers to settle unpaid taxes for the years 1981 to 1985. However, these amnesty programs had specific exceptions. The main point of contention was Section 4(b) of E.O. No. 41, which excluded those with income tax cases already filed in court as of the effectivity of the order.

    The court looked at the timeline. E.O. No. 41 took effect on August 22, 1986. Marubeni filed its petitions for review with the Court of Tax Appeals (CTA) on September 26, 1986. Since the petitions were filed after the effectivity of E.O. No. 41, the court initially found Marubeni eligible for amnesty on income and branch profit remittance taxes. However, E.O. No. 64 broadened the scope of the amnesty to include business taxes, such as the contractor’s tax. This expansion complicated matters because it took effect on November 17, 1986, after Marubeni had already filed its case with the CTA.

    A key aspect of the case hinged on interpreting Section 4(b) of E.O. No. 41 in light of the amendments introduced by E.O. No. 64. The Supreme Court underscored that an amendatory act generally operates prospectively, meaning it applies from the date of its effectivity forward, unless explicitly stated otherwise. The Court noted that E.O. No. 64 did not stipulate any retroactive application to the date of E.O. No. 41. It was determined that because E.O. No. 64 was a substantive amendment, supplementing the original act with taxes not initially covered, its provisions should be strictly construed against the taxpayer.

    “Section 8. The provisions of Executive Orders Nos. 41 and 54 which are not contrary to or inconsistent with this amendatory Executive Order shall remain in full force and effect.”

    The Court ruled that the vagueness introduced by E.O. No. 64 regarding the exception clause should be interpreted strictly against Marubeni. The term “income tax cases” was thus extended to include estate, donor’s, and business taxes, with the relevant date of effectivity being that of E.O. No. 64. Since Marubeni’s case was already pending in court when E.O. No. 64 took effect, it was deemed ineligible for amnesty on the contractor’s tax. The legal discussion then turned to whether the income from the projects’ “Offshore Portion” should be subject to Philippine contractor’s tax.

    Marubeni argued that the income from the “Offshore Portion” of the contracts, involving design, engineering, and manufacturing work performed in Japan, should not be taxed in the Philippines. The contracts with NDC and Philphos were divided into Foreign Offshore and Philippine Onshore portions. Japanese Yen Portion I corresponded to the Foreign Offshore Portion, while Japanese Yen Portion II and the Philippine Pesos Portion corresponded to the Philippine Onshore Portion. The company asserted that the services rendered for the design, fabrication, engineering, and manufacture of materials and equipment under Japanese Yen Portion I were performed outside Philippine jurisdiction.

    To understand the tax implications, the Court examined the nature of the contractor’s tax. The Court clarified that a contractor’s tax is an excise tax on the privilege of engaging in business, levied when the acts, privileges, or business are done within the taxing authority’s jurisdiction. It cited Section 205 of the National Internal Revenue Code (NIRC), which imposes a contractor’s tax on the gross receipts of independent contractors.

    “Sec. 205. Contractors, proprietors or operators of dockyards, and others.–A contractor’s tax of four percent of the gross receipts is hereby imposed on proprietors or operators of the following business establishments and/or persons engaged in the business of selling or rendering the following services for a fee or compensation:

    The Court determined that while Marubeni was an independent contractor, not all of its work was performed within the Philippines. The Court emphasized that services for the design, fabrication, engineering, and manufacture of the materials and equipment under Japanese Yen Portion I were made and completed in Japan. These services were rendered outside the taxing jurisdiction of the Philippines and were therefore not subject to contractor’s tax.

    This ruling hinged on the fact that some of the contracted work took place outside of the Philippines. Had all of the work been done within the Philippines, the entire contract would have been subject to contractor’s tax. The ruling established that services performed outside the Philippines’ taxing jurisdiction are not subject to its contractor’s tax, even if related to projects within the country. This means that businesses operating across borders must clearly delineate the portions of their contracts performed in different jurisdictions to accurately determine tax liabilities.

    FAQs

    What was the key issue in this case? The key issue was whether Marubeni Corporation validly availed of the tax amnesty under Executive Orders Nos. 41 and 64, and whether the “Offshore Portion” of their contracts was subject to Philippine contractor’s tax. The court examined the timeline of tax case filings relative to the effectivity of the executive orders.
    What is a tax amnesty? A tax amnesty is a general pardon or intentional overlooking by the State of its authority to impose penalties on persons otherwise guilty of tax evasion or violation of tax laws. It provides tax evaders a chance to start with a clean slate.
    When did E.O. No. 41 take effect, and what did it cover? E.O. No. 41 took effect on August 22, 1986, and it declared a one-time tax amnesty covering unpaid income taxes for the years 1981 to 1985. Taxpayers wishing to avail the income tax amnesty needed to meet certain requirements.
    How did E.O. No. 64 amend E.O. No. 41? E.O. No. 64 expanded the coverage of E.O. No. 41 by including estate and donor’s taxes, and the tax on business under Chapter II, Title V of the National Internal Revenue Code, also covering the years 1981 to 1985. The deadline to avail the amnesty was also extended.
    What is a contractor’s tax, and on what is it imposed? A contractor’s tax is an excise tax imposed on the privilege of engaging in business as a contractor. It is levied on the gross receipts of independent contractors for services rendered.
    What was the significance of the “Offshore Portion” of the contracts? The “Offshore Portion” referred to the design, engineering, and manufacturing work performed in Japan, outside the Philippines’ taxing jurisdiction. The Supreme Court held that these services were not subject to Philippine contractor’s tax.
    Why was Marubeni disqualified from tax amnesty for contractor’s tax? Marubeni was disqualified because its case was already pending in the Court of Tax Appeals when E.O. No. 64 took effect, which included business taxes like contractor’s tax in the amnesty program. Section 4 (b) of E.O. No. 41 disallows taxpayers with cases already filed in court as of the effectivity.
    What is the prospective application of laws? Prospective application means that a law applies from the date of its effectivity forward. It does not retroactively affect past transactions or events unless explicitly stated.

    The Supreme Court’s decision clarifies the scope and limitations of tax amnesty programs and the application of contractor’s tax in cross-border transactions. It highlights the importance of understanding the timing of tax case filings relative to the effectivity of amnesty orders and the need to delineate services performed within and outside the Philippines for tax purposes. Businesses engaged in international contracts should carefully structure their agreements and document the location where services are performed to ensure accurate tax compliance.

    For inquiries regarding the application of this ruling to specific circumstances, please contact ASG Law through contact or via email at frontdesk@asglawpartners.com.

    Disclaimer: This analysis is provided for informational purposes only and does not constitute legal advice. For specific legal guidance tailored to your situation, please consult with a qualified attorney.
    Source: COMMISSIONER OF INTERNAL REVENUE vs. MARUBENI CORPORATION, G.R. No. 137377, December 18, 2001