Consequences of Exceeding the Local Sales Threshold for PEZA Export Companies (Philippine Context)

Executive summary

Philippine Economic Zone Authority (PEZA)–registered export enterprises operate inside special customs territories and enjoy a suite of fiscal and non-fiscal incentives in exchange for meeting an export commitment. Domestic (local) sales are permitted only up to a capped proportion of total sales and must satisfy specific permitting and tax/customs conditions. If a locator exceeds the allowable domestic-market threshold—especially without prior PEZA approval—the overflow is treated as an irregular entry into the Philippine customs territory and can trigger: (1) payment of duties, VAT, and any excise on the excess volume; (2) surcharges, interest, and penalties under customs and tax rules; (3) suspension or loss of incentives (for the excess and, in serious cases, for the registration); and (4) administrative sanctions from PEZA (fines, suspension, or cancellation). Good compliance hygiene—real-time monitoring of the “30% cap” (or the cap on your specific registration), prior letters of authority, and clean documentation—can prevent most issues. When breaches happen, prompt voluntary regularization greatly mitigates exposure.

Note: The precise numeric cap and mechanics are set by your PEZA Registration Agreement, PEZA issuances, and the current incentives regime (e.g., CREATE). Always confirm your project’s specific conditions.

Legal and regulatory frame (what governs the cap)

PEZA law & charter. PEZA administers ecozones as separate customs territories. Export enterprises commit to an export ratio in exchange for incentives and zone privileges.
Registration Agreement (RAg) & Board Resolution. Your enterprise’s RAg and Board approval define (a) the nature of the registered activity and (b) the allowable domestic sales (often capped at up to 30% of total sales, computed by value or volume, with nuances per activity).
Customs treatment. Goods in ecozones that move into the Philippine customs territory (i.e., local sales) are treated as imports by the domestic market and normally require payment of customs duties, VAT, and excise (if any), unless a specific legal relief applies.
Tax incentives regime (e.g., CREATE). Incentives attach only to registered activities and qualified transactions. Income from non-registered or non-qualified sales is subject to regular tax rules. Domestic sales are generally not incentive-qualified unless expressly allowed and properly permitted.

Definitions and counting: export vs. local, and what “counts” toward the cap

Export sales. Direct exports abroad; deemed exports (e.g., sales to other PEZA ecozone RBEs, certain international carriers, or other qualified export RBEs) if recognized by the current rules; and some forms of indirect export (e.g., sales to a local supplier that itself exports the finished goods), but only if the rules in force credit them toward your export commitment.
Domestic (local) sales. Deliveries to buyers in the customs territory (non-RBEs), retail or wholesale, including intercompany transfers to non-registered affiliates in the Philippines.
The ratio. Typically:

$$ \text{Local Sales Ratio} = \frac{\text{Net local sales (value)}}{\text{Total sales (export + local)}} \times 100% $$

Depending on your approvals, the numerator or denominator may be measured at transfer price, at landed cost, or at another approved valuation. Your Registration Agreement controls.

Key practical point: Sales to other RBEs are often not “local” for cap purposes, but you must have the right buyer profile, proof of RBE status, proper zone-to-zone transfer papers, and (where required) a PEZA Letter of Authority (LOA).

The cap: prior approval vs. after-the-fact breach

Within the cap, with approvals. Local sales up to the cap, made under an approved LOA or equivalent permit, are generally allowed. Duties/VAT/excise (if applicable) must still be settled before exit from the zone, and documents must align (invoice, packing list, entry/exit passes, proof of tax payment).
Exceeding the cap, or selling without approvals. Any of the following can constitute a breach:
- Local sales beyond the approved percentage;
- Local sales without an LOA/permit that otherwise required one;
- Misclassification of local deliveries as “deemed exports”;
- Under-valuation or under-declaration on entries supporting local withdrawals.

Immediate consequences of a breach

1) Customs and VAT/excise exposure on the excess

The excess (or the entire non-compliant batch) is treated as a release into customs territory without regularization.
Expect assessment for:
- Customs duties on the imported content (and, in some cases, on full value if so required by the applicable valuation rule);
- 12% VAT on the local sale;
- Excise tax if the goods are excisable (e.g., alcohol, tobacco, petroleum, certain automobiles); and
- Surcharges and interest for late payment or irregular entry.
Releases may be seized or placed on hold at the ecozone gate pending settlement.

2) Income tax and incentives leakage

Registered vs. non-registered split. Income attributable to non-qualified local sales can be treated as non-registered activity, taxed under regular corporate income tax (RCIT) and without the registered-activity incentives (e.g., ITH, special rates, enhanced deductions).
Clawback/forfeiture risk. Material or repeated breaches may lead to suspension or forfeiture of incentives, prospectively (and, if misrepresentation is found, potentially retroactively for the affected period).
Withholding/VAT implications for buyers. Domestic buyers typically have no zero-rating entitlement for purchases that are not qualified export sales; they may have to self-assess where rules require, and they risk input VAT disallowance if paperwork is defective.

3) PEZA administrative sanctions

Show-cause and fines. PEZA may issue a show-cause order and impose administrative fines calibrated to the breach (per offense schedule).
Suspension of permits. Temporary suspension of LOAs, gate passes, or other zone privileges.
Registration jeopardy. For serious or repeated violations: suspension or cancellation of PEZA registration.

4) Licensing and LGU exposure

Habitual local selling beyond approvals can trigger questions on local business permits and local taxes (notwithstanding the usual ecozone–in-lieu regime), particularly where a pattern suggests a de facto domestic enterprise.

How the numbers are computed in practice (hot spots)

What value is used? Confirm whether the cap looks at gross selling price, transfer value, or another base. A mismatch between what Finance tracks and what Logistics/Trade Compliance files at the gate is a classic failure point.
Timing and period. Caps are often monitored per fiscal year but may be tested quarterly for early warning.
Content tracking. Mixed-origin goods (imported components + locally procured inputs) require bill-of-materials (BOM) fidelity to compute dutiable content for local withdrawals.
Deemed export proof. Keep updated RBE certificates of buyers and zone-to-zone transfer documents; otherwise the sale may be re-cast as domestic.

Typical enforcement pathway when a breach is detected

Exception flag (internal audit, PEZA examiner, gate check, or buyer VAT claim denial).
Show-cause from PEZA; possible hold at gate.
Reconciliation of quantities and values; submission of production/sales reports, invoices, LOAs, and import/entry papers.
Assessment for duties, VAT, excise, plus surcharges/interest.
Administrative penalty (fine; suspension of permits).
Tax treatment of the income portion as non-registered (with potential deficiency assessments).
Corrective plan (monitoring controls, segregation of registered vs. non-registered revenue streams, training, and future LOA discipline).

Mitigation, defenses, and regularization

Voluntary disclosure & settlement. If you detect an overage, prepare a self-report with computations, payables, and a remediation plan. Early, transparent engagement substantially reduces sanctions.
Re-characterization as deemed export. If the buyer qualifies (and you can still marshal complete documentation), request recognition of the sale as a deemed export to bring the ratio back within limits.
Re-export, destruction, or donation. For physical overages discovered pre-delivery, explore re-exportation, supervised destruction, or qualified donation under applicable rules (each with distinct paperwork) to avoid domestic entry.
Prospective variation of approvals. Where market realities persist, apply for revision of project parameters (e.g., temporary higher local cap) with supporting business case; approval is discretionary and not guaranteed.
Segregated accounting. Maintain separate books and cost centers for registered vs. non-registered activities; this both limits incentive leakage and eases audits.

Documentation you must get right (and keep)

PEZA LOAs/permits authorizing local withdrawals and any special conditions.
Commercial documents: VAT-compliant invoices, packing lists, and delivery receipts that match quantities and descriptions.
Gate/BOC papers: zone exit passes, import entry declarations (where required for local entry), proof of duty/VAT/excise payment.
RBE evidence for buyers in ecozones (if relying on deemed export treatment).
Production and sales reports: the versions submitted to PEZA must reconcile to internal ledgers.
Transfer pricing and valuation memos supporting the pricing used for local sales and for computing the cap.
Management approvals and Board/PEZA correspondence for any deviations.

Special issues by activity type

Manufacturing. Overage often arises from rejects/seconds sold locally. Even rejects require permits and tax regularization; “scrap” rules are specific.
IT-BPM/Services. Services “rendered to Philippine clients” typically fall outside export parameters unless specifically qualified; exceeding the export commitment can reclassify revenue as non-registered (regular VAT/CIT apply).
Traders/Logistics RBEs. Documentation must prove that local deliveries are within allowed caps and that origin and ownership chains are clean to avoid smuggling inferences.
Excise goods. Expect enhanced supervision and often higher penalties for irregular domestic entries.

Penalties at a glance (typical outcomes)

Customs: Duties + 12% VAT + excise (if any) + surcharge/interest; possible seizure/forfeiture on egregious cases.
BIR: Reclassification of revenue as non-registered, with deficiency income tax (RCIT), deficiency VAT, and penalties for invoicing lapses.
PEZA: Fines, suspension of incentives/permits, or cancellation of registration for repeated or willful breaches.
Civil/contractual: Buyer claims where deliveries are delayed or held due to regulatory issues.

Governance: how to stay compliant (and audit-ready)

Hard guardrails. Configure ERP to block local sales postings once a rolling cap (e.g., 25%) is reached, forcing compliance review before any sale pushes you near 30%.
Monthly reconciliation pack. Tie PEZA production reports to GL, VAT returns, and gate documents; review exceptions in an internal Trade Compliance Committee.
Dynamic LOA planning. Seek umbrella LOAs for recurring domestic withdrawals with volume ceilings; renew early.
Buyer vetting. Maintain a white list of counterparties with current RBE proofs for deemed-export treatment.
People and training. Train Sales (pricing/eligibility), Logistics (gate papers), Finance (VAT/invoices), and Compliance (PEZA/BOC rules) together—breaches are cross-functional failures.
Incident playbook. Pre-bake templates for voluntary disclosure, duty/VAT computation, and management approvals to accelerate regularization.

Frequently asked practical questions

1) If we briefly exceed the cap late in the year but re-export early next year, are we safe? No. The breach is measured within the relevant period set by your approvals (typically your fiscal year). Ex post actions rarely erase a completed domestic entry, though they may reduce penalties on a netting theory if properly approved.

2) Can we keep incentives on the export portion while paying full taxes only on the excess local sales? Often yes—if you maintain segregated accounting and PEZA accepts that only the excess is non-compliant. Repeated or material breaches can lead to broader suspension or cancellation risks.

3) Are sales to another ecozone company counted against our local cap? Generally no, provided the buyer is a qualified RBE, the transaction is approved (LOA where needed), and zone-to-zone transfer rules are followed. Missing any of these can flip it to a domestic sale.

4) What if our local buyer insists on a VAT-zero purchase because we’re in PEZA? PEZA status alone does not guarantee zero-rating for the buyer. Zero-rating depends on who the buyer is and what the rules allow for that transaction type. Non-qualified domestic sales are typically 12% VAT-able.

5) Can we get a higher domestic cap? Sometimes, temporarily, with a strong business case and prior approval. Treat this as discretionary and plan lead times; never assume tacit approval.

Action checklist if you suspect a breach

Freeze further local deliveries; run a rapid ratio check with reconciled numbers.
Pull all paperwork: LOAs, invoices, gate passes, import entries, and proof of taxes paid.
Quantify duty/VAT/excise for the excess; prepare voluntary disclosure.
Seek PEZA consultation; propose concrete controls to prevent recurrence.
Align tax and customs positions; ensure registered vs. non-registered income is cleanly segmented.

Bottom line

PEZA’s export commitment is the price of admission to the ecozone incentive regime. Local sales are not prohibited—but they are tightly managed. Crossing the cap (especially without permits) converts a tax-advantaged, duty-free posture into a customs/tax exposure with potential incentive loss and administrative sanctions. Treat the cap as a hard compliance limit, invest in early-warning controls, and regularize quickly if you slip.