Understanding the Anti-Dummy Law

Understanding the Anti-Dummy Law

In accordance with the Philippine Constitution and other laws, businesses engaged in activities that have significant interest to Filipinos must be nationalized, that is, they must be majority-owned by Filipino citizens. These businesses include those in the media, law, public utilities, and the exploration of natural resources. The Anti-Dummy Law, also known as Commonwealth Act No. 108, is meant to prevent the circumvention of the laws on the nationalization of these industries.

Amended by P.D. No. 715, the Anti-Dummy Law allows foreigners to be members of the board of directors in partially nationalized industries. The number of foreign directors must be proportional to the foreign-owned shares in the capital of the enterprise.

The Anti-Dummy Law states that violations of the nationalization laws will be subject to penalties that include:

  • Imprisonment of between five and fifteen years for Filipino citizens who allow their names and citizenship to be used in violating the law, as well as for foreigners who benefit from the violation

  • A fine that’s at least equivalent to the value of the franchise or privilege gained in the course of the violation, or P5,000, whichever is greater

Violations of nationalization laws include:

  1. Simulation of minimum capital stock – This refers to falsifying the capital stock ownership of a corporation to circumvent the citizenship requirements for a nationalized industry or activity.

  2. Unlawful use, exploitation, or enjoyment –This refers to the acts of a foreign entity exercised through a simulation of minimum capital stock (see #1 above) or other forms of control. These are acts that the foreign entity cannot otherwise perform given the provisions of the nationalization law.

For example, under nationalization laws, a foreign entity cannot own land in the Philippines. If a company that falsely represents itself as being majority-owned by Filipinos buys land, the purchase is considered a violation of nationalization laws.

In the Department of Justice (DOJ) Opinion No. 165, series of 1984, the DOJ identified three significant indicators of “dummy status”, as follows:

  1. The foreign investor provides practically all the funds for any investment by the corporation.

  2. The foreign investors provide practically all the technological support for the joint venture.

  3. The foreign investors, despite being minority stockholders, manage the company and prepare all economic viability studies.

The Control Test and the Grandfather Rule

The Control Test, also known as the Liberal Test, states that in a corporation where Filipinos own at least 60% of the shares, all shares of the corporation, including those owned by foreigners are considered of Filipino nationality. If the corporation does not meet the 60% criterion, only the percentage owned by Filipinos is considered of Filipino nationality.

Using the Control Test, if a corporation can prove without any doubt that 60% of its shares are Filipino-owned, then it can engage in activities limited to Filipino nationals.

While the Control Test is the prevailing standard in determining a corporation’s nationality, the Grandfather Rule exists to complement it. The Grandfather Rule is a stricter test that looks deeper into the nationality of a corporation’s ownership. This is applied especially in cases where there is corporate “layering”, that is, one corporation acquires shares in another corporation, which then acquires shares in another corporation, and so on.

In the landmark case, Narra Nickel Mining and Development Corp. vs. Redmont Consolidated Mines Corp. (G.R. No. 195580), the Supreme Court acknowledged that Narra Nickel Mining met the standards of the Control Test. However, certain circumstances raised doubt as to the true nationality of the corporation and indicated that corporate layering may have been misused to circumvent nationalization laws.  When the shareholdings of Narra Nickel Mining were “grandfathered” – that is, their actual ownership were traced – the SC deemed that 60% or more of the equity shares of Narra Nickel Mining was owned by a 100% Canadian-owned corporation.
When are the Control Test and the Grandfather Rule applied?

The Supreme Court stated that the Control Test is the “prevailing mode” in determining whether a corporation is majority-owned by Filipinos. The Grandfather Rule is applied only when the Filipino-foreign equity ownership is in doubt, often in cases where corporate layering is involved. It has to be noted, however, that corporate layering by itself is not illegal.
If you need clarifications or have questions about the Anti-Dummy Law and other legal questions pertaining to Philippine investments, call FilePino at +1.806.553.6552 in the US and +63.917.8922337 in the Philippines. We will help ensure you and your Philippine business venture remain on the right side of the law.