With the gradual easing of COVID-19 restrictions and the decline in cases, we see signs of a rebound for the Philippine economy. More businesses have reopened, and several others have recalibrated their operations to align with anticipated demand in the post-pandemic future.
One of the contributors to the country’s burgeoning economic activity is the surge in foreign direct investment (FDI), which amounted to P133.47 billion in the fourth quarter of 2021, much higher than the year-earlier P36.49 billion. The result was driven by equity investments or capital infusions in manufacturing, the financial and insurance sectors, and real estate. This year, the Bangko Sentral ng Pilipinas projects that FDI could reach P425 billion on the back of expected improvements in the domestic and global investment climate.
To this end, it is worth highlighting some key considerations for foreign investors seeking to start or expand their businesses in the Philippines.
REGULATORY ENVIRONMENT
Foreign investors setting up shop in the Philippines will generally be governed by the provisions of the Foreign Investments Act (FIA) of 1991. The FIA restricts foreign ownership in specified industries or sectors covered by existing laws or identified under the Foreign Investments Negative List. There is also a minimum capital requirement based on the type of entity or industry a foreign investor plans to enter. Thus, it is important to know if foreign participation restrictions apply and the required minimum capitalization, among other requirements, when entering the Philippine market, or any market for that matter.
BUSINESS STRUCTURES
Another important consideration for a foreign investor is the type of business structure that best serves its business needs. Most foreign investors that establish a presence here set up a domestic corporation or a branch office if they plan to undertake full business operations because the other types of business structures (i.e., representative office and ROHQ) have limitations on allowable activity.
Between establishing a domestic corporation and a branch, a branch is often regarded as more tax-efficient, as it is taxed on Philippine-sourced income only. It may also provide flexibility in operations and consistency in the legal processes and transactions with its parent or head office.
TAXATION
From business inception to closure, foreign investors have to deal with direct and indirect taxes. Currently, the Philippines’ regular corporate income tax (RCIT) rate is at 25% for large enterprises and 20% for small and medium enterprises. The rates were reduced after the signing of the Corporate Recovery and Tax Incentives for Enterprises (CREATE) Act last year to counter the effects of the pandemic on the economy. Aside from RCIT, there are temporary reductions in certain tax rates, which include, among others, the minimum corporate income tax (MCIT) rate from 2% to 1% and percentage tax from 3% to 1%, both running until June 30, 2023 only.
The Value-Added Tax (VAT) rate is 12% for the sale of goods, property, and services in the Philippines, except for certain transactions subject to zero percent VAT or VAT-exempt, as provided for in the Tax Code.
Withholding tax on certain domestic and foreign income payments is also imposed depending on the nature of the transaction and place of performance of the service.
INCENTIVES
The Philippines provides fiscal incentives, such as tax relief and preferential tax treatment, to companies whose activities fall within the government’s Investment Priorities Plan. If qualified, a foreign investor may register its business with an Investment Promotion Agency (IPA). Currently, the Philippines has about 19 IPAs tasked with positioning the country as a prime destination for investment. The Board of Investments and the Philippine Economic Zone Authority are the two IPAs that receive the most registration applications. Under the law, approval of incentives is within the authority of the IPAs, unless the proposed project or activity exceeds an investment capital threshold of P1 billion. In this case, the Fiscal Incentives Review Board (FIRB) will be the approving entity for the application.
With the enactment of CREATE, the fiscal incentives granted to IPA-registered enterprises have been rationalized. CREATE instituted an incentive system based on industry and location tiers. Essentially, longer incentives will be given to activities in more advanced sectors and less developed areas, with periods of up to 17 years. The first four to seven years could be granted an income tax holiday, while the remaining five to 10 years could see operations enjoying either an enhanced deduction or a 5% special corporate income tax (for export enterprises only) on gross income earned, depending on the option taken by the IPA-registered enterprise.
As of this writing, the FIRB has yet to release the latest Strategic Investment Priority Plan, which will determine the priority industries, projects, and activities to be granted fiscal incentives under CREATE.
EASE OF DOING BUSINESS LAW
In 2018, the Ease of Doing Business and Efficient Government Service Delivery Act (Republic Act 11032), was signed into law, with the intention of improving the country’s global competitiveness ranking.
Its key reforms include: (1) faster processing of business permits and licenses; (2) standard turnaround time for government transactions depending on the complexity of the task; (3) automated business registration processes to minimize graft and corruption; (4) establishment of a citizen’s charter detailing the requirements for each type of transaction, the person responsible, lead time, fees, and procedures for filing; and (5) accountability of agency heads and other officials.
In 2020, the Philippines moved 29 notches higher in rank from 2019 in the Global Competitiveness Index, with expected improvements in the following years as more initiatives are instituted by the Anti-Red Tape Authority (ARTA), the lead implementing agency. While there may still be a number of things to streamline in the current set-up, the improvement in the ease of doing business, so far, is evident especially during the pandemic. Sustaining this and introducing more efficiencies would accord the Philippines a competitive advantage and further transform it into a sweet spot for foreign investment.
As the country moves forward to economic recovery, nurturing a healthy business and regulatory environment sets the stage for enticing foreign investment, which is much needed to propel our economic growth after the pandemic.
The views or opinions expressed in this article are solely those of the author and do not necessarily represent those of Isla Lipana & Co. The content is for general information purposes only, and should not be used as a substitute for specific advice.
Nelson Soriano is a tax director at Isla Lipana & Co., the Philippine member firm of the PwC network.
