The Philippines: Movement towards sustainable energy

Author: | Published: 1 Oct 2009
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The clock is ticking. Excessive carbon dioxide emissions from conventional energy resources, including their adverse effects, have caused alarming consequences worldwide, such as disruption of ecosystems and increased risk of flooding, drought and other extreme weather conditions. On the other hand, the increase in the demand for conventional energy sources has unveiled the issue of security of supply, which has almost always been placed at the top of the energy policy agenda of many sovereign states. The world is left with the dilemma of whether to use fossil fuels, notwithstanding their lack of supply, to the detriment of the environment.

It is predicted that climate change, economic recovery and energy security will spur far greater investments in renewable energy in the coming years. With the rise of climate change concerns, coupled with increasing oil prices, renewable energy has become a worldwide trend through government legislation, incentives and commercialisation. The Philippines is certainly at the forefront of this trend with the enactment of Republic Act No 9513, otherwise known as the Renewable Energy Act of 2008 (RE Act) on December 16 2008, reportedly the first and most comprehensive legislation on renewable energy development in Asia. Through the RE Act, the Philippines has pioneered a new wave of energy development in Asia through alternative energy resources, such as geothermal, wind, biomass, solar, hydro and ocean energy resources. The RE Act took effect on January 30 2009, while its Implementing Rules and Regulations (IRR) embodied in Circular No DC2009-05-0008 of the Philippine Department of Energy (DOE) was promulgated on May 25 2009.

The RE Act was enacted to give life to the policy of the Philippines to promote the efficient and cost-effective commercial application of renewable energy by providing fiscal and non-fiscal incentives to various renewable energy sector participants. Prior to the passage of the RE Act, different laws granted different types of fiscal incentives for the exploration, development or utilisation of each kind of renewable energy resource. However, the promulgation of the RE Act paved the way for the consolidation, addition and improvement of all incentives relating to renewable energy activities, making them even more comprehensive and investor-friendly.

The RE Act grants several fiscal incentives to existing and new renewable energy developers of facilities, for both power and non-power applications.

Philippine corporations are generally subject to a 30% income tax of their net taxable income as defined in the Philippine National Internal Revenue Code of 1997 (Tax Code). Exemptions from income tax are, however, granted under several laws as an incentive to encourage investments in certain preferred or priority projects or areas of activity.

Renewable energy projects, in particular, are included, by express provision of the RE Act, in the 2009 Investments Priority Plan (IPP). Ordinarily, projects listed therein are entitled, pursuant to the Omnibus Investments Code of 1987 (OIC), to an income tax holiday (ITH) for a period of six years for pioneer firms, or four years for non-pioneer firms, from the start of commercial operations. The RE Act, however, specifically provides that the renewable energy sector, as a priority investment sector regularly forming part of the IPP, may avail of the incentives provided in the law itself, in lieu of similar incentives granted under the OIC. Under the RE Act, renewable energy developer shall be fully exempt from income taxes levied by the National Government for seven years from the start of its commercial operations. Existing renewable energy developers that make new investments in renewable energy resources are also entitled to ITH for seven years from the start of commercial operations resulting from the new investments.

Notably, the periods for the availment of the tax holiday granted under the RE Act are generally more favourable than those provided under the OIC. However, under the IRR, the tax holiday is not made available to renewable energy developers that acquire, operate or administer renewable energy facilities that were, or have been, in commercial operations for more than seven years upon the effectivity of the RE Act, except with respect to additional investments made after the effectivity of the RE Act. Instead, such renewable energy developers will be entitled to a special corporate income tax rate of 10% on their taxable income. This limitation is specific to the IRR and does not exist in the OIC.

After the lapse of the period for the availment of, or entitlement to, the ITH, all registered renewable energy developers shall be required to pay a corporate income tax of 10% on their net taxable income, instead of the usual corporate income tax rate of 30% prescribed in the Tax Code. As earlier discussed, renewable energy developers that acquire, operate or administer existing renewable energy facilities that were, or have been, in commercial operations for more than seven years, upon the effectivity of the RE Act, shall also be entitled to this special corporate income tax rate.

Under the Tax Code, corporations are subject to a minimum corporate income tax (MCIT) of 2% of a corporation's gross income beginning on the fourth taxable year of its business operations. In the case of corporations whose operations or activities are partly covered by the regular income tax system and partly covered by a special income tax system, the MCIT shall apply only on operations covered by the regular income tax system. As an example, if a Philippine Board of Investments (BOI) enterprise has a registered and an unregistered activity, the MCIT shall apply only to the unregistered activity. Since corporations belonging to the renewable energy sector are governed by a special income tax system in accordance with the RE Act, their income from such operations is not subject to the MCIT.

Under the Tariff and Customs Code, all importations are generally subject to duties and other taxes. Consequently, such duties are expected to be added to the cost of engaging in renewable energy projects. The RE Act alleviates this burden by eliminating these taxes and duties and making the importation of machinery, equipment, materials and parts thereof, directly and actually used exclusively in renewable energy facilities for the transformation of energy and delivery of energy to the point of use, exempt from customs duties within the first ten years from certification of the importer as a renewable energy developer.

The law, however, imposes restrictions on the transfer or disposition of machinery, equipment and materials so imported. Any transfer or disposition within ten years from date of the importation shall be allowed by the DOE only if it is: (i) made to another renewable energy developer enjoying the same duty and tax exemption; (ii) made to a non- renewable energy developer, upon payment of duties and taxes due on the net book value of the equipment; (iii) an exportation of the used capital equipment; and (iv) made for reasons of proven technical obsolescence as may be determined by the DOE. When the transfer or disposition is made after ten years from the date of importation, the transfer or disposition shall still require prior endorsement by the DOE, but shall no longer be subject to the payment of taxes and duties when such transfer or disposition is made to a non- renewable energy developer.

The RE Act also provides tax credits to registered renewable energy developers who purchase machinery, equipment, materials and parts from a domestic manufacturer, fabricator or supplier at the full value of the Value Added Tax (VAT) and customs duties that would have been paid on the renewable energy machinery, equipment, materials and parts had these items been imported.

The clear implication of this tax credit provision is that the RE Act is intended to entice renewable energy developers to procure machinery, equipment, materials and parts from a domestic manufacturer, fabricator or supplier. Compared to merely importing the same duty-free, a renewable energy developer that purchases machinery, equipment, materials or parts from a domestic manufacturer, fabricator or supplier, can reap the additional benefit of applying the VAT and customs duties that would have been paid on the renewable energy machinery, equipment, materials and parts had these items been imported, to other taxes through tax credits. Moreover, there is no time limit for the availment of tax credits, unlike in the case of a duty-free importation, which is subject to a time limit of only ten years from certification of the importer as a renewable energy developer.

The net operating loss of the renewable energy developer during the first three years from the start of commercial operations may be carried over as a deduction from gross income for the next seven taxable years immediately following the year of such loss, provided that the net operating loss had not been previously offset as a deduction from gross income. It would appear that a renewable energy developer may not be able to avail of the benefit of this incentive since it is entitled to an ITH for the period covered by the net operating loss carryover (NOLCO) incentive. However, as previously mentioned, a situation may arise when a renewable energy developer is not entitled to an ITH, such as when it acquires, operates or administers existing renewable energy facilities that were, or have been, in commercial operation for more than seven years, upon the effectivity of the RE Act. In such a case, the renewable energy developer would be subject to the 10% corporate income tax rate and may avail of the full benefit of NOLCO, if any.

The Tax Code itself allows the carry-over of the net operating loss of a business or enterprise for any taxable year for the next three taxable years, subject to the same condition above. After the seven-year ITH, therefore, when the renewable energy developer would already normally be subject to the 10% income tax, it may be allowed a NOLCO under the Tax Code, provided the conditions are present, subject to the limitations.

As a general rule, the sales of goods, properties or services in the course of trade or business in the Philippines are subject to VAT at the rate of 12%. However, an amendment to the Tax Code has allowed sales of power or fuel generated through renewable sources of energy to be subject to VAT at zero percent.

With the enactment of the RE Act, the transactions subject to the zero percent VAT were expanded to include the purchase of local goods, properties and services needed for the development, construction and installation of the plant facilities of renewable energy developers; and purchase of local goods, properties and services needed for the whole process of exploration and development of renewable energy sources up to its conversion into power, including but not limited to, the services performed by subcontractors or contractors.

The VAT is an indirect tax payable by the seller and not by the purchaser of goods or services. Being an indirect tax, the amount of tax may be shifted or passed on to the buyer of the goods, properties or services. Once shifted, it is no longer a tax but an additional cost which the purchaser has to pay to obtain the goods or services. Subjecting the transactions described above to zero percent VAT will help bring down the price of power generated through renewable energy sources, since there will not be any VAT shifted or passed on to the renewable energy developer, as buyer of goods, properties or services.

Furthermore, a renewable energy developer whose transactions are zero-rated may, within two years after the close of the taxable quarter when the transactions were made, apply for the issuance of a tax credit certificate; or refund of creditable input tax due or paid attributable to such zero-rated transactions. Input tax refers to the VAT due from or paid by a renewable energy developer in the course of trade or business. The tax credit may be used to offset other taxes due or to be paid.

The RE Act also grants a different set of fiscal incentives to manufacturers, fabricators and suppliers of locally-produced renewable energy equipment and components, such as: (i) tax and duty-free importation of components, parts and materials, including VAT, subject to certain conditions under the RE Act; (ii) tax credit on the purchase of domestic capital components, parts and materials; (iii) ITH for seven years starting from the date of recognition or accreditation; and (iv) zero-percent VAT on transactions with local suppliers of goods, properties and services.

Aside from the other fiscal incentives, the RE Act also grants incentives and privileges designed to provide financial aid to investors and benefits to consumers, including the following:

(i) Financial assistance programme: government financial institutions are now mandated to provide preferential financial packages for the development, utilisation and commercialisation of renewable energy projects that are duly recommended and endorsed by the DOE.

(ii) Exemption from universal charge: all consumers shall be exempted from paying the universal charge described under the Electric Power Industry Reform Act (Republic Act No 9136) if the power or electricity generated through the renewable energy system is consumed by the generators themselves or is distributed free of charge in off-grid areas.

(iii) Cash incentive for renewable energy developers engaged in missionary electrification: A duly registered renewable energy developer, established after the RE Act becomes effective, shall be entitled to a cash generation incentive per kilowatt-hour rate generated, equivalent to 50% of the universal charge for the power needed to service missionary areas where it operates the same, to be chargeable against the universal charge for missionary electrification.

Prior to the enactment of the RE Act, the share of the government under a geothermal service contract was at least 60% of the balance of the gross value of the geothermal operations after deducting the necessary expenses incurred in the operations. Similarly, a special privilege tax was imposed on all grantees for the right to develop potential sites for hydroelectric power and to generate, transmit and sell electric power at the rate of two percent (2%) of their gross receipts.

By express declaration, the RE Act repealed the above rates, and thereby fixed the share of the government from renewable energy development projects at 1% of the gross income of renewable energy developers in the preceding fiscal year, except for indigenous geothermal energy projects (which shall entitle the government of a share equivalent to 1.5% of the gross income of the preceding fiscal year). Gross income shall include proceeds resulting from the sale of renewable energy produced and other income incidental to and arising from the generation, transmission and sale of electric power.

In order to avail of the foregoing incentives under the RE Act, a renewable energy developer is required to register with the DOE, through the Renewable Energy Management Board (REMB), upon which a Certificate of Registration shall be issued. In addition, a Certificate of Endorsement (COE) must be secured by the renewable energy developer from the REMB, on a per-transaction basis. For instance, if a renewable energy developer desires to avail of the incentive of duty-free importation, it must obtain a COE for each importation.

A renewable energy developer is also required to register with the BOI before it may avail of the incentives under the RE Act. The application for registration will be favourably acted upon immediately by the BOI, on the basis of a supporting certification issued by the DOE.

Notwithstanding the grant of fiscal and non-fiscal incentives in the RE Act to promote foreign and local investments in renewable energy, the exploration, development and utilisation of renewable energy resources remain to be partly-nationalised activities. The exploration, development and utilisation of renewable energy resources are limited to Filipino citizens or domestic corporations at least 60% of the capital of which is owned by Filipinos. As an exception, foreign-owned corporations duly authorised to operate in the Philippines may be allowed to engage in large-scale exploration, development and utilisation of geothermal resources through a financial and technical assistance agreement approved and executed by the President of the Philippines, upon the recommendation of the DOE Secretary.

Qualified persons interested in engaging in the exploration, development and utilisation of renewable energy resources are required to apply for the issuance of a renewable energy contract, which shall be awarded through an open and competitive selection process or by direct negotiation. A renewable energy contract is a service agreement between the government, through the President of the Philippines or the DOE, and renewable energy developer over an appropriate period (as determined by the DOE) in which the renewable energy developer shall have the exclusive right to explore, develop or utilise a particular renewable energy area. A renewable energy contract shall have a term not more than 25 years and may be renewed for not more than 25 years, but the total period of the renewable energy contract shall not exceed 50 years.

To further boost investments on renewable energy, the DOE will set up a PHP 2 billion trust fund to be administered by it, deposited in a government financial institution, to support the development of renewable energy in the country. Through its creation, the fund is envisioned to help the Philippines become one of the world's leading hubs in renewable energy technology. Furthermore, due to increase in energy demand, the Asian Development Bank (ADB) and its development partners will be setting up a Seed Capital Assistance Facility that would provide seed capital for renewable energy and energy efficiency projects in the Asia-Pacific region. This facility would be initially funded by a $4.2-million grant from the Global Environment Facility, a global partnership established in 1991 to help developing countries fund projects that protect the global environment. Jointly managed by ADB and the UN Environment Programme, the Facility would provide technical assistance to private equity fund managers and entrepreneurs to develop sustainable clean energy funds and financing for the early stages of such projects, share in the costs of development, and encourage taking riskier portfolios through a seed capital return enhancement offered on a per-project basis.

The future is bright for investors in renewable energy. Among the companies that have reportedly expressed interest in investing in Philippines' renewable energy are Aboitiz Power, First Gen, Energy Development, Constellation Energy Group, Oriental Energy, Trans-Asia Oil and Energy Development (which is reverting to the development of renewable energy), Green Power Philippines (through biomass), Global Green Power, Amihan Energy, Deep Ocean Power Philippines and Agus.

About the author

Eusebio V Tan, the firm’s managing partner, focuses his practice on the areas of investments; business law; mergers, acquisitions and divestitures; franchises and franchising; construction law; leases and leasing; banks and banking; and privatisation. He has advised senior managements, boards of directors, independent committees of boards, and major stockholders of both public and private corporations on strategies to be applied in major transactions and projects and in the implementation thereof. He has represented international and domestic banks (lenders) and various corporations (as borrowers) in major loan transactions. He acts as Corporate Secretary and, in certain cases, also as a member of the board of directors, of several large corporations. He has advised clients in connection with large construction projects and build-operate-transfer undertakings. He led teams that obtained full banking licences for major foreign banks, under the Foreign Banks Liberalisation Law of the Philippines (RA No 7721). He has advised on numerous joint venture projects involving foreign investors and Philippine joint venture partners. He has been invited as a speaker in numerous international fora and has published papers, dissertations and articles.

Tan obtained his Bachelor of Arts degree, major in Economics, summa cum laude, through the Liberal Arts in Accelerated Honors Programme from the De La Salle University in 1971 and was awarded the General Excellence Gold Medal and the Dr Jose Rizal Honors Society ring. He obtained his Bachelor of Laws degree from the Ateneo de Manila University School of Law in 1975 and was awarded the Second Honors Silver Medal. He obtained his Master of Laws degree from the Columbia University School of Law in 1979. He is an active member of the Integrated Bar of the Philippines, the Philippine Bar Association, the International Bar Association, the Inter-Pacific Bar Association, the ASEAN Law Association, LAWASIA, the Management Association of the Philippines, the Makati Business Club, and the Financial Executives Institute of the Philippines. He represents ACCRALAW in various professional and trade associations and chambers of commerce, both locally and abroad.

Contact information

Eusebio V Tan
Angara Abello Concepcion Regala & Cruz

ACCRA Building,
122 Gamboa Street, Legaspi Village, 0770, Makati City
Metro Manila, Philippines
Tel: +632 830 8000
Fax: +632 816 0119
Email: accra@accralaw.com
Web: www.accralaw.com


About the author

Eric R Recalde is a senior associate of the Angara Abello Concepcion Regala & Cruz Law Offices.  The principal focus of his practice is corporate law, taxation, mergers and acquisitions, foreign investments, project finance and joint ventures. He likewise handles several tax cases representing taxpayers before the Regional Trial Courts, Bureau of Internal Revenue, the Court of Tax Appeals and the Supreme Court. Recalde was admitted to the bar in March 2003 after placing third in the September 2002 Bar Examination. He was the class salutatorian of San Beda College-College of Law Batch 2002. In March 2009, he was conferred a degree of Master of Laws with honors from the San Beda Graduate School of Law. He is also a Certified Public Accountant and placed eleventh in the October 1996 CPA Board Examination. Since 2003, Recalde has been active in the academe and has taught corporate law and taxation in various law schools. He recently published A Treatise on Tax Principles and Remedies, which provides a comprehensive discussion of the remedies available to the taxpayer and the government under the National Internal Revenue Code and its implementing rules and regulations.

Contact information

Eric R Recalde
Angara Abello Concepcion Regala & Cruz

ACCRA Building,
122 Gamboa Street, Legaspi Village, 0770, Makati City
Metro Manila, Philippines
Tel: +632 830 8000
Fax: +632 816 0119
Email: accra@accralaw.com
Web: www.accralaw.com