BIR RULING NO.

098-97
Facts:
This refers a letter requesting for an opinion on the tax consequences of the pre-termination of
the lease and cancellation of option to purchase affecting Read Rite Philippines, Inc. (Read Rite).
Read Rite is a domestic corporation engaged in the manufacturing and export business. It has
existing long term Lease Contracts with Option to Purchase over two contiguous parcels of land
with improvements (Leased Properties) with Philippine American Life Insurance Company
(Philamlife), engaged in the insurance business, and with PERF Realty Corporation (PERF),
engaged in the real estate business. Philamlife and PERF have a prospective buyer who is willing
to buy the Leased Properties free for all liens and encumbrances including Read Rite's existing
leasehold rights and option to purchase. Philamlife and PERF, and Read Rite are prepared to
enter into an agreement wherein Read Rite will consent and agree to the pre-termination of the
Lease Contracts and cancel the options to purchase stipulated therein for a certain consideration.
The amount of the consideration to be mutually agreed upon by Read Rite and Philamlife and
PERF represents the pre-termination penalty, price for the cancellation of the options to purchase
and indemnity for the resulting disturbance or damage arising from the lease pre-termination.
The amount of such consideration will be higher than the original cost basis of the Leased
Properties. When the Leased Properties are released from Read Rite's leasehold rights and
options to purchase, Philamlife and PERF will sell the Leased Properties to the buyer.
Issue: Whether or not said consideration is subject to the 10% value added tax (VAT) since there
is no sale, barter or exchange of goods or and properties in the ordinary course of trade or
business.
Ruling:
No. Section 99 of the Tax Code provides:
"Sec. 99.
Persons Liable. Any person who, in the ordinary course of trade or business,
sells, barters, exchanges, leases goods or properties, renders services, and any person who
imports goods shall be liable to the value-added tax (VAT) imposed in Sections 100 to 102 of this
Code.
In BIR Ruling No. 31-83, it has ruled that an option to buy, in the hands of a taxpayer who does
not deal in options, is a capital asset and the sale thereof gives rise to a capital gain.
Since Read Rite does not deal in leasehold rights and options in its ordinary course of trade or
business, the pre-termination of the leases and cancellation of the options to purchase will not be
made in the ordinary course of trade or business of Read Rite. Hence the pre-termination of the
lease and the cancellation of the options to purchase is not subject to VAT.