Expanded withholding tax on advertising

Expanded withholding tax on advertising by: Jean Ross Abenasa - Miso

Oftentimes, companies engage the services of advertising agencies to market their product and/or service. These advertising agencies serve as a “middle man” for the company (advertiser) and broadcast and print media, with respect to the endorsements. For their services, the advertising agencies charge their clients the stipulated agency fee, plus the cost of TV and/or radio commercial spots or print ads, which are billed by the broadcast network/stations and publishers. This otherwise common transaction usually presents a tax issues with the Bureau of Internal Revenue (BIR), especially when the taxpayer spends a large amount on advertising and then claims the amount as deductible from gross income for income tax purposes.

A taxpayer may claim a business expense as a deduction from his gross income if he has shown that the tax required to be deducted and withheld from such expense (which is an income payment to his supplier of goods or services) has been paid to the BIR (Section 34(K) of the Tax Code of 1997).  In relation to this, the BIR requires taxpayers to withhold the tax on the income payments made to advertising agencies, exclusive of gross payments to media, at the rate of 2% Section 2.57.2(E)(4)(h) of Revenue Regulations (RR) 2-98, as amended.

Revenue officers are oftentimes quick to disallow the advertising expense claimed by the taxpayer when it is shown that the entire amount thereof has not been subjected to the 2% creditable withholding tax. In the past, revenue officers maintained that it is the duty of the payor of the income (i.e., the advertiser) to withhold the creditable withholding tax on income payments to the advertising agency, which may include the amount billed by and paid to media because (a) the advertiser is the party that controls the income payment and (b) it is the advertiser that claims the same as a deduction from the gross income for income tax purposes.

In one ruling, the BIR plainly stated the withholding tax treatment of income payments to advertising agencies. The taxpayer in the said ruling was a car dealer that promoted cars and commercial vehicles with the aid of advertising agencies. The advertising agencies issued the invoice to the taxpayer for the cost of airtime as billed by the radio and TV station plus agency commission.  The invoice was accompanied by a copy of the bill issued by the radio and TV station in the name of both the advertising agency and the advertiser. The advertiser paid the agency for the total invoice amount and in turn, the agency paid the radio and TV station for the airtime cost.

The BIR ruled that the advertising agency is the withholding agent required to deduct and withhold the 1% (now 2%) creditable tax on income payments from the sale of TV and radio airtime and TV and radio commercial spots by TV and radio stations; the tax shall be based on the cost of airtime billed by the radio and TV station. On the other hand, the taxpayer-advertiser, as the withholding agent for the government, is required to deduct and withhold the 1% (now 2%) creditable tax on its income payments to advertising agencies, exclusive of gross payments to media (BIR Ruling DA-405-03, November 10, 2003).

In a more recent ruling, the BIR confirmed that the commission income derived by an advertising agency from its advertisers is the only amount subject to income tax and value-added tax; the amounts for advertising costs and expenses paid to media and production suppliers do not form part of its gross receipts. The gross receipts of the advertising agency refers to the commission or fee for services rendered, which does not include money received from the advertisers, as such amounts are earmarked for payment for media and production suppliers, amounts of which are subsequently liquidated and accounted for. The advertising agency only represents its clients (the advertisers) with respect to the billings by media and production suppliers for the cost of airtime and/or print ad. As the billings are issued in the name of the advertisers, the said billings are merely held by the advertising agency in trust for its principal—the advertisers (BIR Ruling No. DA-473-07, August 31, 2007).

Thus, although the advertiser of the product or service may claim the entire amount of advertising expense as a deduction from his gross income (as when it is in fact a legitimate business expense), only the portion of the advertising fees that properly pertains to the commission or service fee is subject to the 2% creditable withholding tax.

What about direct payments to media for product and/or service endorsements?  Are these subject to the creditable withholding tax?  The regulations state that payments made to TV and radio station operators on sale of TV and radio airtime and to TV and radio block timers on sale of TV and radio commercial spots are subject to the 2% creditable withholding tax Section 2.57.2(E)(4)(p) and (q) of RR 2-98, as amended. Prior to the amendment of the withholding tax regulations, direct payments to media were not subject to expanded withholding tax pursuant to Section 1(e)(2)(h) of RR 6-85 (Bank of America N.A. vs. Commissioner of Internal Revenue, CTA Case No. 6144, March 14, 2005).

Although RR 2-98 and the earlier interpretations of the BIR are clear on the proper withholding tax treatment of income payments to advertising agencies (which may include gross payments to media), at times, the same becomes an issue in tax investigations. The issuance of a BIR regulation or circular that would specially address this concern would certainly help in the tax collection efforts of the government since it fosters a judicious tax audit. This would especially benefit the taxpayer in a tax assessment case, considering that tax assessments by revenue examiners are presumed correct and made in good faith, and that it is the burden of the taxpayer to prove otherwise. Until an authoritative interpretation on this matter is issued, taxpayers can protect themselves from tax risks by securing a BIR ruling confirming the withholding tax treatment of their advertising expense.