Western Minolco Corporation vs Commisioner

Facts: Western Minolco is a domestic corporation engaged in mining. It

borrowed funds from several financial institutions from June to October 1977
and paid the corresponding 35% transactions tax due thereon in the amount
of P 1, 317, 801.03. The tax was paid pursuant to Section 210 (b) of the
National Internal Revenue Code of 1977. On Febraaury 16, 1978, the
petitioner applied for the refund of the P 1, 317, 801. 03 alleging that it was
not liable to pay the 35% tansaction tax under its Certificate of Qualifications
for Tax Exemption No. 34 issued by the Secretary of Agriculture and Natural
Resources, and pursuant to The Mining Act(CA 137) and the Mineral
Resources Development Decree of 1974 (PD 463), as implemented by
consolidated Mines Administrative Order of the Secretary of Natural
Resources dated May 17, 1974.
Issue: Whether or not Minolco is exempt from transaction tax
Held: No. The statutory provisions on tax exemptions clearly exclude the
35%tarnsaction tax. Presidential Decree No. 237 on the Compensating tax.
Section I of P.D. No. 238 on Conditionally Free Importations, and Section 53
of P.D. No. 463 all refer to tax exemptions for importations of machineries,
tools for production, plants to convert mineral ores into saleable form, spare
parts, supplies, materials, accessories, explosives chemicals and
transportation and communication facilities, to be used in mining operations.
Section 53 of P.D. No 463 likewise refers to tax exemptions for mining
claims and improvement thereon, and mineral products, except income tax.
The petitioner’s of Qualifications for Tax Exemption No. 34 exempts “... from
payment of all taxes except income tax, payable by him in the court of his
business ad in the importation of machineries, spare parts and or equipment
listed in the stamped “Annex I” which are considered to be indispensable in
the operation and will be used by said operator lessee exclusively in the
mineral land mentioned above. Petitioner’s submit that in as much as taxes
in general constitute allowable deductions from gross income in the
determination of taxable net income. The 35% transaction tax is a business
tax and not income tax because the Revenue Code itself classifies it as
“Business Tax” under Title V, and that P.D. No. 1154 expressly states that
the transaction tax shall be allowed as a deductictible item for purposes of
determining the borrower’s taxable income. The petitioner’s contentions
deserve scant consideration. The 35% tax imposed on interest income from
commercial papers issued primary money market. Being a tax on interest, it
is a tax on income. The 35% transaction tax is an income tax on interest
earnings to the lenders or placers. The latter are actually the tax payers.
Therefore, the tax cannot be a tax imposed upon petitioner. In other words,
the petitioner who borrowed funds from several financial institutions by
issuing a commercial papers merely withheld the 35% transaction tax before
paying to the financial institutions the interests earned by them and later
remitted the same to respondent Commissioner of Internal Revenue. The tax
could have been collected by a different procedure but the statue chose this
method. Whatever collecting procedure is adopted does not change the
nature of the tax. The petitioner also submits that the 35% transaction tax is
a business tax imposed under Title V, entitled -, Taxes on Business” and
classified specially under Chapter II, entitled “Tax on Business.” The location
of the 35%, tax in the Tax Code does not necessarily determine its nature,
Again, we agree with the Solicitor General that the legislative body must
have realized later that the subject tax was inappropriately included among
taxes on business because Section 210 of the Tax Code has been repealed
by P.D. No. 1739, which now imposes a tax of 20% on interests from
deposits and yields from deposit substitute such as commercial papers
issued in the primary market as principal instrument and provides for them
in Section 24(cc) under Chapter III, Tax on Corporations, Title II – Income
Tax.

COMMISSIONER OF INTERNAL REVENUE vs. ARNOLDUS CARPENTRY SHOP,

INC. and COURT OF TAX APPEALS
Facts: In March 1979, the examiners of the petitioner Commissioner of
Internal Revenue conducted an investigation of the business tax liabilities of
private respondent pursuant to Letter of Authority No. 08307 NA dated
November 23, 1978. As a result thereof, the examiners assessed private
respondent for deficiency tax. This tax deficiency was a consequence of the
3% tax imposed on private respondent's gross export sales which, in turn,
resulted from the examiners' finding that categorized private respondent as
a contractor. Against this assessment, private respondent protested that the
carpentry shop is a manufacturer and therefor entitled to tax exemption on
its gross export sales under Section 202 (e) of the National Internal Revenue
Code. He explained that it was the 7% tax exemption on export sales which
prompted private respondent to exploit the foreign market which resulted in
the increase of its foreign sales to at least 52% of its total gross sales in
1977.
Issue: Whether or not the Court of Tax Appeals erred in holding that private
respondent is a manufacturer and not a contractor and therefore not liable
for the amount of P108,720.92, as deficiency contractor's tax, inclusive of
surcharge and interest, for the year 1977.
Held: Private respondent is a "manufacturer" as defined in the Tax Code and
not a "contractor", under Section 205(e) of the Tax Code as petitioner would
have this Court decide. A contract for the delivery at a certain price of an
article Which the vendor in the ordinary course of his business manufactures
or procures for the - general market, whether the same is on hand at the
time or not, is a contract of sale, but if the goods are to be manufactured
specially for the customer and upon his special order, and not for the
general market, it is a contract for a piece of work. As the Court of Tax
Appeals did not err in holding that private respondent is a "manufacturer,"
then private respondent is entitled to the tax exemption of the Tax Code.
Disposition: WHEREFORE, the Court hereby DENIES the Petition for lack of
merit and AFFIRMS the Court of Tax Appeals decision.

BPI V. Trinidad, Collector of Internal Revenue

FACTS:
1. The property in question formerly belonged to the Taba Saw Mill Co., a
copartnership formed by Pujalte and Co. and one Ramon Murga. In April,
1914, Ramon Murga sold all his rights, title, and interest in and to the said
copartnership to Pujalte and Co., which thereby became the sole owner of
the concern.
2. That on the 26th day of September, 1912, the said Taba Saw Mill Co.
conveyed to the plaintiff bank (BPI), by way of chattel mortgage, the
property here in question together with other personalities, as security for
the payment to said bank of two certain promissory notes for the sum of
P180,000. Said chattel mortgage was duly registered in the office of the
register of deeds of Zamboanga on the 26th day of December, 1912.

3. On that date the property in question was free from all tax liens; at least,
the plaintiff mortgagee had no notice thereof. On the 13th day of July, 1916,
when the amount here in question was found to be due to the Government
from Pujalte and Co. as forestry charges, and when the property in question
was seized by the defendant, the said chattel mortgage was still subsisting.

4. On the 13th day of July, 1916, the defendant Collector of Internal

Revenue (Trinidad) hrough his duly authorized agent at Zamboanga, seized
and distrained certain personal property, consisting of machinery for sawing
lumber which is particularly enumerated and described in paragraph 3 of the
complaint, and advertised the same for sale, to realize the sum of
P2,159.79, alleged to be due to the Government of the Philippine Islands
from Pujalte and Co., as forestry charges.
5. The defendant (Trinidad) claimed that said personality that belonged to
the said company (Pujalte and Company) was used in the business on which
the taxes were due, and was liable to seizure to cover said taxes. On the
other hand, the plaintiff (BPI) claimed to be the owner of said property, and
demanded its release. The demand being denied, the plaintiff (BPI) paid to
the defendant (Trinidad) the said sum of P2,159.79 under protest to prevent
the sale of said property, and immediately brought the present action in the
Court of First Instance of Zamboanga to recover the said sum of P2,159.78
together with interest and costs. The lower court, after due trial, dismissed
the plaintiff's complaint and absolved the defendant from all liability
thereunder. From that judgment the plaintiff appealed to this court
ISSUES:
A. Whether or not BPI voluntary and spontaneously paid the debt of Pujalte
Comapny
B. Whether or not BPI should have proceeded under section 141 of Act No.
2339 (now sec. 1580 of Act No. 2711), and not under section 140 of the said
Act
RULING:
A. There is absolutely no basis for the finding of the trial court that "the
plaintiff bank had voluntarily and spontaneously paid the debt of a third
party, that is, that of the firm of Pujalte and Co.” Paragraph 7 of the
plaintiff's complaint alleges: "That thereupon, involuntarily and under due
protest in writing, the plaintiff bank made payment of the required sum of
P2,159.79 in order to secure the release of its seized property." These
allegations were specially admitted by the defendant.
B. Section 140 of the Internal Revenue Law (Act No. 2339 provides as
follows:
SEC. 140. Recovery of tax paid under protest. — When the validity of any
tax in questioned, or amount disputed, or other question raised as to
liability therefor, the person against whom or against whose
property the same is sought to be enforced shall pay the tax under
instant protest, or upon protest within ten days, and shall thereupon
request the decision of the Collector of Internal Revenue. If the decision of
the Collector of Internal Revenue is adverse, or if no decision is made by him
within six months from the date when his decision was requested, the
taxpayer may proceed, at any time within two years after the payment of
the tax, to bring an action against the Collector of Internal Revenue for the
recovery of the sum alleged to have been illegally collected, the process to
be served upon him, upon the provincial treasurer, or upon the officer
collecting the tax.
Section 141 of the same Act provides:
SEC. 141. Action to contest forfeiture of chattels. — In case of the seizure
of personal property under claim of forfeiture, the owner, desiring to
contest the validity of the forfeiture, may at any time before sale or
destruction of the property bring an action against the person
seizing the property or having possession thereof to recover the
same, and upon giving proper bond may enjoin the sale; or after the sale
and within six months he may bring an action to recover the net proceeds
realized at the sale.

It can be said that the personal property in question was seized not because
of forfeiture but a seizure to enforce a tax lien. Forfeiture is "the divestiture
of property without compensation, in consequence of an offense. The effect
of such forfeiture is to transfer the title to the specific thing from the owner
to the sovereign power." (12 R. C. L., 124.) There is a great difference
between a seizure under forfeiture and a seizure to enforce a tax
lien. In the former all the proceeds derived from the sale of the thing
forfeited are turned over to the Collector of Internal Revenue (sec. 148, Act
No. 2339) in the latter the residue of such proceeds over and above what is
required to pay the tax sought to be realized, including expenses, is
returned to the owner of the property (second aragraph, sec. 152, Act No.
2339). Clearly, the remedy applicable to the present case is that provided
for in section 140, above quoted, and which the plaintiff invoked.

CIR v Isabela Cultural Corporation (ICC)

DOCTRINE: The requisites for the deductibility of ordinary and necessary

trade, business, or professional expenses, like expenses paid for legal and
auditing services, are: (a) the expense must be ordinary and necessary; (b)
it must have been paid or incurred during the taxable year; (c) it must have
been paid or incurred in carrying on the trade or business of the taxpayer;
and (d) it must be supported by receipts, records or other pertinent papers.
The requisite that it must have been paid or incurred during the taxable year
is further qualified by Section 45 of the NIRC which states that: "[t]he
deduction provided for in this Title shall be taken for the taxable year in
which ‘paid or accrued’ or ‘paid or incurred’, dependent upon the method of
accounting upon the basis of which the net income is computed x x x".

QUICK FACTS: BIR disallowed the following ICC expenses for years
1984-1986 to be included in ICC’s 1986 tax expense deductions: (1)
Expenses for auditing services for year ending 31 December 1985;
(2) Expenses for legal services for years 1984 and 1985; and (3)
Expense for security services for months of April and May 1986. BIR
thus charged ICC for deficiency income taxes. ICC contested the
assessment.

FACTS:
1. On Feb 23, 1990, ICC received from BIR Assessment Notice No. FAS-1-
86-90-000680 for deficiency income tax in the amount of P333,196.86, and
Assessment Notice No. FAS-1-86-90-000681 for deficiency expanded
withholding tax in the amount of P4,897.79, inclusive of surcharges and
interest, both for the taxable year 1986.

The deficiency income tax of P333,196.86, arose from:

(1) BIR disallowance of ICC’s claimed expense deductions for professional
and security services billed to and paid by ICC in 1986, to wit:
(a) Expenses for auditing services of SGV & Co., for the year ending Dec
31, 1985
(b) Expenses for legal services [incl of retainer fees] of law firm Bengzon
for 1984 and 1985
(c) Expense for security services of El Tigre Security for months of April
and May 1986
(2) Understatement of ICC interest income on 3 promissory notes due from
Realty Investment

The deficiency expanded withholding tax of P4,897.79 (inclusive of interest

and surcharge) was allegedly due to the failure of ICC to withhold 1%
expanded withholding tax on its claimed P244,890.00 deduction for security
services.
2. On March 23, 1990, ICC sought for a reconsideration, but on Feb 9, 1995,
it received a final notice before seizure demanding payment of amounts
stated in the said notices.

3. CTA held that petition is premature because final notice of assessment

cannot be considered as a final decision appealable to the tax court. CA
reversed the holding that a demand letter of the BIR reiterating the payment
of deficiency tax, amounts to a final decision on the protested assessment
and may therefore be questioned before the CTA. This conclusion was
sustained by this Court on July 1, 2001, G.R. No. 135210. Case was
remanded to CTA for further proceedings.

4. CTA rendered a decision canceling and setting aside the assessment

notices issued against ICC. It held that the claimed deductions for
professional and security services were properly claimed by ICC in 1986
because it was only in the said year when the bills demanding payment were
sent to ICC. Hence, even if some of these professional services were
rendered to ICC in 1984 or 1985, it could not declare the same as deduction
for the said years as the amount could not be determined at that time. ICC
did not understate its interest income on the subject promissory notes. It
was the BIR which made an overstatement of said income when it
compounded the interest income receivable by ICC from the promissory
notes of Realty Investment, Inc., despite the absence of a stipulation in the
contract. CTA also found that ICC in fact withheld 1% expanded withholding
tax on its claimed deduction for security services as shown by the various
confirmation receipts it presented as evidence.

5. CA affirmed CTA decision, holding that although the professional services

(legal and auditing) were rendered to ICC in 1984 and 1985, the cost of the
services was not yet determinable at that time, hence, it could be considered
as deductible expenses only in 1986 when ICC received the billing
statements for said services. It further ruled that ICC did not understate its
interest income from the promissory notes of Realty Investment, Inc., and
that ICC properly withheld and remitted taxes on the payments for security
services for the taxable year 1986.

6. BIR contention: Since ICC is using the accrual method of accounting, the
expenses for the professional services that accrued in 1984 and 1985,
should have been declared as deductions from income during the said years
and the failure of ICC to do so bars it from claiming said expenses as
deduction for the taxable year 1986.

ISSUE: Whether the deduction of the expenses for professional and security
services of 1984-1986 are valid deductions from ICC’s gross income for
1986

DECISION: NO for audit services from SGV and legal services from
Bengzon; YES for security services.

HELD:
The requisites for the deductibility of ordinary and necessary trade,
business, or professional expenses, like expenses paid for legal and auditing
services, are: (a) the expense must be ordinary and necessary; (b) it must
have been paid or incurred during the taxable year; (c) it must have been
paid or incurred in carrying on the trade or business of the taxpayer; and (d)
it must be supported by receipts, records or other pertinent papers.
The requisite that it must have been paid or incurred during the taxable year
is further qualified by Sec 45 of the NIRC which states that: "[t]he deduction
provided for in this Title shall be taken for the taxable year in which ‘paid or
accrued’ or ‘paid or incurred’, dependent upon the method of accounting
upon the basis of which the net income is computed x x x".

Accounting methods for tax purposes comprise a set of rules for determining
when and how to report income and deductions. The accounting method
used by ICC is the accrual method.
Revenue Audit Memorandum Order No. 1-2000, provides that under the
accrual method of accounting, expenses not being claimed as deductions by
a taxpayer in the current year when they are incurred cannot be claimed as
deduction from income for the succeeding year. Thus, a taxpayer who is
authorized to deduct certain expenses and other allowable deductions for the
current year but failed to do so cannot deduct the same for the next year.

The accrual method relies upon the taxpayer’s right to receive amounts or
its obligation to pay them, in opposition to actual receipt or payment, which
characterizes the cash method of accounting. Amounts of income accrue
where the right to receive them become fixed, where there is created an
enforceable liability. Similarly, liabilities are accrued when fixed and
determinable in amount, without regard to indeterminacy merely of time of
payment.

For a taxpayer using the accrual method, the determinative question is,
when do facts present themselves in such a manner that the taxpayer must
recognize an income or expense? The accrual of income and expense is
permitted when the all-events test has been met. It requires: (1) the fixing
of a right to income or liability to pay; and (2) the availability of the
reasonable accurate determination of such income or liability.

The all-events test requires the right to income or liability be fixed, and the
amount of such income or liability be determined with reasonable accuracy.
However, the test does not demand that the amount of income or liability be
known absolutely, only that a taxpayer has at his disposal the information
necessary to compute the amount with reasonable accuracy. The all-events
test is satisfied where computation remains uncertain, if its basis is
unchangeable; the test is satisfied where a computation may be unknown,
but is not as much as unknowable, within the taxable year. The amount of
liability does not have to be determined exactly; it must be determined with
"reasonable accuracy." Accordingly, the term "reasonable accuracy" implies
something less than an exact or completely accurate amount.

The propriety of an accrual must be judged by the facts that a taxpayer

knew, or could reasonably be expected to have known, at the closing of its
books for the taxable year. Accrual method of accounting presents largely a
question of fact; such that the taxpayer bears the burden of proof of
establishing the accrual of an item of income or deduction.

The expenses for professional fees for legal and auditing services pertain to
1984 and 1985 legal and retainer fees of the law firm Bengzon. As testified
by the ICC Treasurer, the firm has been its counsel since the 1960’s. From
the nature of the claimed deductions and the span of time during which the
firm was retained, ICC can be expected to have reasonably known the
retainer fees charged by the firm as well as the compensation for its legal
services. The failure to determine the exact amount of the expense cannot
be attributed solely to the delayed billing of these liabilities by the firm. ICC
could have inquired into the amount of their obligation to the firm, especially
since it is using the accrual method of accounting. It could also have
reasonably determined the amount of legal and retainer fees owing to its
familiarity with the rates charged by their long time legal consultant.

SGV & Co. professional fees for auditing financial statements of ICC for 1985
cannot be validly claimed as expense deductions in 1986. ICC failed to
present evidence showing that even with only "reasonable accuracy" as the
standard to ascertain its liability to SGV & Co. in year 1985, it cannot
determine the professional fees which said company would charge for its
services.

ICC thus failed to discharge the burden of proving that the claimed expense
deductions for the professional services were allowable deductions for the
taxable year 1986. Hence, per Revenue Audit Memorandum Order No. 1-
2000, they cannot be validly deducted from its gross income for the said
year and were therefore properly disallowed by the BIR.

As to the expenses for security services, the records show that these
expenses were incurred by ICC in 1986 and could therefore be properly
claimed as deductions for 1986.

5. KUENZLE & STREIFF, INC. VS. CIR

G.R. No. 143672

It is a general rule that `Bonuses to employees made in good faith and as

additional compensation for the services actually rendered by the employees
are deductible, provided such payments, when added to the stipulated
salaries, do not exceed a reasonable compensation for the services
rendered.
The condition precedents to the deduction of bonuses to employees are: (1)
the payment of the bonuses is in fact compensation; (2) it must be for
personal services actually rendered; and (3) bonuses, when added to the
salaries, are `reasonable ... when measured by the amount and quality of
the services performed with relation to the business of the particular
taxpayer. Here it is admitted that the bonuses are in fact compensation and
were paid for services actually rendered.

FACTS:

Kuenzle & Streiff for the years 1953, 1954 and 1955 filed its income tax
return, declaring losses. CIR filed for deficiency of income taxes against
Kuenzle & Streiff Inc. for the said years in the amounts of P40,455.00,
P11,248.00 and P16,228.00, respectively, arising from the disallowance, as
deductible expenses, of the bonuses paid by the corporation to its officers,
upon the ground that they were not ordinary, nor necessary, nor reasonable
expenses within the purview of Section 30(a) (1) of the National Internal
Revenue Code.The corporation filed with the Court of Tax Appeals a petition
for review contesting the assessments. CTA favored the CIR, however
lowered the tax due on 1954. The corporation moved for reconsideration,
but still lost. The Corporation contends that the tax court, in arriving at its
conclusion, acted "in a purely arbitrary manner", and erred in not
considering individually the total compensation paid to each of petitioner's
officers and staff members in determining the reasonableness of the bonuses
in question, and that it erred likewise in holding that there was nothing in
the record indicating that the actuation of the respondent was unreasonable
or unjust.

ISSUE: Whether or not the bonuses in question was reasonable and just to
be allowed as a deduction?

HELD: No.

RATIO: It is a general rule that `Bonuses to employees made in good faith

and as additional compensation for the services actually rendered by the
employees are deductible, provided such payments, when added to the
stipulated salaries, do not exceed a reasonable compensation for the
services rendered. The condition precedents to the deduction of bonuses to
employees are: (1) the payment of the bonuses is in fact compensation; (2)
it must be for personal services actually rendered; and (3) bonuses, when
added to the salaries, are `reasonable ... when measured by the amount
and quality of the services performed with relation to the business of the
particular taxpayer. Here it is admitted that the bonuses are in fact
compensation and were paid for services actually rendered. The only
question is whether the payment of said bonuses is reasonable.

There is no fixed test for determining the reasonableness of a given bonus

as compensation. This depends upon many factors, one of them being the
amount and quality of the services performed with relation to the business.
Other tests suggested are: payment must be 'made in good faith'; the
character of the taxpayer's business, the volume and amount of its net
earnings, its locality, the type and extent of the services rendered, the
salary policy of the corporation'; 'the size of the particular business'; 'the
employees' qualifications and contributions to the business venture'; and
'general economic conditions. However, 'in determining whether the
particular salary or compensation payment is reasonable, the situation must
be considered as a whole.

It seems clear from the record that, in arriving at its main

conclusion, the tax court considered, inter alia, the following factors:

1) The paid officers, in the absence of evidence to the contrary, that they
were competent, on the other the record discloses no evidence nor has
petitioner ever made the claim that all or some of them were gifted with
some special talent, or had undergone some extraordinary training, or had
accomplished any particular task, that contributed materially to the success
of petitioner's business during the taxable years in question.

2) All the other employees received no pay increase in the said years.

3) The bonuses were paid despite the fact that it had suffered net losses for
3 years. Furthermore the corporation cannot use the excuse that it is 'salary
paid' to an employee because the CIR does not question the basic salaries
paid by petitioner to the officers and employees, but disallowed only the
bonuses paid to petitioner's top officers at the end of the taxable years in
question.

6. CIR V.S. GENERAL FOODS (PHILS), INC.

GR No. 143672

Facts:

Respondent corporation :led its income tax return for the :scal year ending
February 28, 1985. In said tax return, respondent claimed as deduction,
among other business expenses, the amount of P9,461,246 for media
advertising for "Tang" one of its products. The Commissioner disallowed
50% or P4,730,623 of the deduction claimed by respondent. The latter :led
a motion for reconsideration, but the same was denied. Respondent
appealed to the Court of Tax Appeals, but the appeal was dismissed.
Aggrieved, respondent :led a petition for review at the Court of Appeals
which rendered a decision reversing and setting aside the decision of the
Court of Tax Appeals. Hence, the present petition for review. The
Commissioner of Internal Revenue presented to the Court the lone issue of
whether or not the subject media advertising expense for "Tang" incurred by
respondent was an ordinary and necessary expense fully deductible under
the National Internal Revenue Code (NIRC). The Supreme Court reversed
and set aside the decision of the Court of Appeals and ordered private
respondent General Foods (Phils); Inc., to pay its de:ciency income tax in
the amount of P2,635,141.42, plus 25% surcharge for late payment and
20% annual interest computed from August 25, 1989, the date of the denial
of its protest, until the same is fully paid. The Court found the subject
expense for the advertisement of a single product to be inordinately large,
and even if indeed it is necessary, it cannot be considered an ordinary
expense deductible under Section 29 (a) (1) (A) of the NIRC. According to
the Court, the subject advertisement is one designed to stimulate the future
sale of merchandise or use of services. Said venture of respondent to protect
its brand franchise was tantamount to efforts to establish a reputation and is
akin to the acquisition of capital assets, and should not, therefore, be
considered as business expenses but as capital expenditures which normally
should be spread out over a reasonable period of time.

Issue:

W/N the subject media advertising expense for “Tang” was ordinary and
necessary expense fully deductible under the NIRC

Held:
No. Tax exemptions must be construed in stricissimi juris against the
taxpayer and liberally in favor of the taxing authority, and he who claims an
exemption must be able to justify his claim by the clearest grant of organic
or statute law. Deductions for income taxes partake of the nature of tax
exemptions; hence, if tax exemptions are strictly construed, then deductions
must also be strictly construed.
To be deductible from gross income, the subject advertising expense must
comply with the following requisites: (a) the expense must be ordinary and
necessary; (b) it must have been paid or incurred during the taxable year;
(c) it must have been paid or incurred in carrying on the trade or business of
the taxpayer; and (d) it must be supported by receipts, records or other
pertinent papers.

While the subject advertising expense was paid or incurred within the
corresponding taxable year and was incurred in carrying on a trade or
business, hence necessary, the parties’ views conflict as to whether or not it
was ordinary. To be deductible, an advertising expense should not only be
necessary but also ordinary.

The Commissioner maintains that the subject advertising expense was not
ordinary on the ground that it failed the two conditions set by U.S.
jurisprudence: first, “reasonableness” of the amount incurred and second,
the amount incurred must not be a capital outlay to create “goodwill” for the
product and/or private respondent’s business. Otherwise, the expense must
be considered a capital expenditure to be spread out over a reasonable time.

There is yet to be a clear-cut criteria or fixed test for determining the

reasonableness of an advertising expense. There being no hard and fast rule
on the matter, the right to a deduction depends on a number of factors such
as but not limited to: the type and size of business in which the taxpayer is
engaged; the volume and amount of its net earnings; the nature of the
expenditure itself; the intention of the taxpayer and the general economic
conditions. It is the interplay of these, among other factors and properly
weighed, that will yield a proper evaluation.

The Court finds the subject expense for the advertisement of a single
product to be inordinately large. Therefore, even if it is necessary, it cannot
be considered an ordinary expense deductible under then Section 29 (a) (1)
(A) of the NIRC.

Advertising is generally of two kinds: (1) advertising to stimulate

the current sale of merchandise or use of services and (2) advertising
designed to stimulate the future sale of merchandise or use of services. The
second type involves expenditures incurred, in whole or in part, to create or
maintain some form of goodwill for the taxpayer’s trade or business or for
the industry or profession of which the taxpayer is a member. If the
expenditures are for the advertising of the first kind, then, except as to the
question of the reasonableness of amount, there is no doubt such
expenditures are deductible as business expenses. If, however, the
expenditures are for advertising of the second kind, then normally they
should be spread out over a reasonable period of time.
The company’s media advertising expense for the promotion of a single
product is doubtlessly unreasonable considering it comprises almost one-half
of the company’s entire claim for marketing expenses for that year under
review. Petition granted, judgment reversed and set aside.

THIRD DIVISION

[G.R. No. 143672. April 24, 2003]

COMMISSIONER OF INTERNAL REVENUE, petitioner, vs. GENERAL

FOODS (PHILS.), INC., respondent.

DECISION

CORONA, J.:

Section 34 (A) (1), formerly Section 29 (a) (1) (A), of the NIRC provides:

(A) Expenses.-

(1) Ordinary and necessary trade, business or professional expenses.-

(a) In general.- There shall be allowed as deduction from gross income all ordinary and necessary expenses paid or incurred during the
taxable year in carrying on, or which are directly attributable to, the development, management, operation and/or conduct of the trade,
business or exercise of a profession.

 It is a governing principle in taxation that tax exemptions must be

construed in strictissimi juris against the taxpayer and liberally in favor of
the taxing authority; and he who claims an exemption must be able to
justify his claim by the clearest grant of organic or statute law. An
exemption from the common burden cannot be permitted to exist upon
vague implications.
 Deductions for income tax purposes partake of the nature of tax
exemptions; hence, if tax exemptions are strictly construed, then
deductions must also be strictly construed.

FACTS:
 General Foods Inc. is engaged in the manufacture of beverages such
as Tang, Calumet and Kool-Aid. For the fiscal year ending February 28,
1985, it filed its income tax return and included as deduction, among other
business expenses, the amount of P9,461,246 for media advertising for
Tang.

The CIR disallowed 50% or P4,730,623 of the deduction claimed and

assessed a deficiency income tax in the amount of P2,635, 141.42 against
General Foods Inc.

General Foods Inc. contends that the subject media advertising for
Tang was an ordinary and necessary expense fully deductible under the
National Internal Revenue Code (NIRC).

CTA dismissed the appeal. CA reversed the decision of the CTA and
ruled in favor of General Foods Inc. Hence, CIR filed this petition for review.

ISSUE:

WON the subject media advertising expense for Tang incurred by

respondent corporation was an ordinary and necessary expense fully
deductible under the National Internal Revenue Code (NIRC)?

RULING:

No.

The court ruled that to be deductible from gross income, the subject
advertising expense must comply with the following requisites: (a) the
expense must be ordinary and necessary; (b) it must have been paid or
incurred during the taxable year; (c) it must have been paid or incurred in
carrying on the trade or business of the taxpayer; and (d) it must be
supported by receipts, records or other pertinent papers.

The parties agree that the subject advertising expense was paid or
incurred within the corresponding taxable year and was incurred in carrying
on a trade or business. It was a necessary expense but it cannot be
considered an ordinary expense because it failed the two conditions set by
U.S. jurisprudence: first, reasonableness of the amount incurred and second,
the amount incurred must not be a capital outlay to create goodwill for the
product and/or private respondent’s business.

There is yet to be a clear-cut criteria or fixed test for determining the

reasonableness of an advertising expense. There being no hard and fast rule
on the matter, the right to a deduction depends on a number of factors such
as but not limited to: the type and size of business in which the taxpayer is
engaged; the volume and amount of its net earnings; the nature of the
expenditure itself; the intention of the taxpayer and the general economic
conditions. It is the interplay of these, among other factors and properly
weighed, that will yield a proper evaluation.

The court finds the subject expense for the advertisement of a single
product to be inordinately large. Therefore, even if it is necessary, it cannot
be considered an ordinary expense deductible under then Section 29 (a) (1)
(A) of the NIRC.

******

Advertising is generally of two kinds: (1) advertising to stimulate

the current sale of merchandise or use of services and (2) advertising
designed to stimulate the future sale of merchandise or use of services. The
second type involves expenditures incurred, in whole or in part, to create or
maintain some form of goodwill for the taxpayers trade or business or for
the industry or profession of which the taxpayer is a member. If the
expenditures are for the advertising of the first kind, then, except as to the
question of the reasonableness of amount, there is no doubt such
expenditures are deductible as business expenses. If, however, the
expenditures are for advertising of the second kind, then normally they
should be spread out over a reasonable period of time.

The court said that the subject advertising expense was of the second
kind. Not only was the amount staggering; the respondent corporation itself
also admitted that the subject media expense was incurred in order to
protect its brand franchise. The protection of brand franchise is analogous to
the maintenance of goodwill or title to one’s property. This is a capital
expenditure which should be spread out over a reasonable period of time. It
is tantamount to efforts to establish a reputation and is akin to the
acquisition of capital assets and therefore expenses related thereto were not
to be considered as business expenses but as capital expenditures.

BUT, although it is the taxpayer’s prerogative to determine the amount

of advertising expenses it will incur and where to apply them, said
prerogative, is subject to certain considerations. The first relates to the
extent to which the expenditures are actually capital outlays; this
necessitates an inquiry into the nature or purpose of such expenditures. The
second, which must be applied in harmony with the first, relates to whether
the expenditures are ordinary and necessary. Concomitantly, for an expense
to be considered ordinary, it must be reasonable in amount. The Court of
Tax Appeals ruled that respondent corporation failed to meet the two
foregoing limitations.
CONCLUSION:

General Foods Inc. incurred the subject advertising expense in order to

protect its brand franchise. It is considered as a capital outlay since it
created goodwill for its business and/or product. But, the P9,461,246 media
advertising expense for the promotion of a single product, almost one-half of
petitioner corporations entire claim for marketing expenses for that year
under review, inclusive of other advertising and promotion expenses
of P2,678,328 and P1,548,614 for consumer promotion, is doubtlessly
unreasonable.

WHEREFORE, premises considered, the instant petition is GRANTED. The

assailed decision of the Court of Appeals is hereby REVERSED and SET
ASIDE.

Pursuant to Sections 248 and 249 of the Tax Code, respondent General
Foods (Phils.), Inc. is hereby ordered to pay its deficiency income tax in the
amount of P2,635,141.42, plus 25% surcharge for late payment and 20%
annual interest computed from August 25, 1989, the date of the denial of its
protest, until the same is fully paid.

Republic of the Philippines

SUPREME COURT
Manila

EN BANC

G.R. No. L-15290 May 31, 1963

MARIANO ZAMORA, petitioner,

vs.
COLLECTOR OF INTERNAL REVENUE and COURT OF TAX
APPEALS, respondents.

*consolidated cases

PAREDES, J.:

FACTS:

Cases Nos. L-15290 and L-15280

Mariano Zamora, owner of the Bay View Hotel and Farmacia Zamora, Manila,
filed his income tax returns the years 1951 and 1952. The CIR found that he
failed to file his return of the capital gains derived from the sale of certain
real properties and claimed deductions which were not allowable. He was
assessed to pay the sums of P43,758.50 and P7,625.00, as deficiency
income tax for the years 1951 and 1952.

On appeal by Zamora, the CTA, modified the decision appealed from and
ordered him to pay a reduced amount instead.

Zamora alleged that the CTA erred in:

(1) In dissallowing P10,478.50, as promotion expenses incurred by his

wife for the promotion of the Bay View Hotel and Farmacia Zamora
(which is ½ of P20,957.00, supposed business expenses):

(2) In disallowing 3-½% per annum as the rate of depreciation of the

Bay View Hotel Building;

(3) In disregarding the price stated in the deed of sale, as the costs of
a Manila property, for the purpose of determining alleged capital
gains; and

(4) In applying the Ballantyne scale of values in determining the cost

of said property.

.ñët

Cases Nos. L-15289 and L-15281

Mariano Zamora and his deceased sister Felicidad Zamora, bought a piece of
land located in Manila on May 16, 1944, for P132,000.00 and sold it for
P75,000.00 on March 5, 1951. They also purchased a lot located in Quezon
City for P68,959.00 on January 19, 1944, which they sold for P94,000 on
February 9, 1951. The CTA ordered the payment of deficiency income tax
and surcharge due from the estate of Felicidad.

ISSUES-RULING

a) WON the CTA erred in allowing as promotion expenses of Mrs. Zamora

claimed in Mariano Zamora's 1951 income tax returns, merely one-half or
P10,478.50
ZAMORA: He contends that the whole amount of P20,957.00 as promotion
expenses in his 1951 income tax returns, should be allowed and not merely
one-half of it or P10,478.50, on the ground that, while not all the itemized
expenses are supported by receipts, the absence of some supporting
receipts has been sufficiently and satisfactorily established. For, as alleged,
the said amount of P20,957.00 was spent by Mrs. Esperanza A. Zamora
(wife of Mariano), during her travel to Japan and the United States to
purchase machinery for a new Tiki-Tiki plant, and to observe hotel
management in modern hotels.

SC: CTA did not commit any reversible error.

Section 30, of the Tax Code, provides that in computing net income, there
shall be allowed as deductions all the ordinary and necessary expenses paid
or incurred during the taxable year, in carrying on any trade or business.
Since promotion expenses constitute one of the deductions in conducting a
business, claim for the deduction of promotion expenses or entertainment
expenses must be substantiated or supported by record showing in detail the
amount and nature of the expenses incurred.

In the case, the application of Mrs. Zamora for dollar allocation shows that
she went abroad on a combined medical and business trip, not all of her
expenses came under the category of ordinary and necessary expenses; part
thereof constituted her personal expenses. There having been no means by
which to ascertain which expense was incurred by her in connection with the
business of Mariano Zamora and which was incurred for her personal benefit,
the Collector and the CTA in their decisions, considered 50% of the said
amount of P20,957.00 as business expenses and the other 50%, as her
personal expenses. Said allocation is very fair to Mariano Zamora, there
having been no receipt whatsoever, submitted to explain the alleged
business expenses, or proof of the connection which said expenses had to
the business or the reasonableness of the said amount of P20,957.00.

While in situations like the present, absolute certainty is usually no possible,

the CTA should make as close an approximation as it can, bearing heavily, if
it chooses, upon the taxpayer whose inexactness is of his own making.

 representation expenses fall under the category of business expenses

which are allowable deductions from gross income, if they meet the
conditions prescribed by law, particularly section 30 (a) [1], of the Tax
Code; that to be deductible, said business expenses must be ordinary
and necessary expenses paid or incurred in carrying on any trade or
business; that those expenses must also meet the further test of
reasonableness in amount; that when some of the representation
 expenses claimed by the taxpayer were evidenced by vouchers or
chits, but others were without vouchers or chits, documents or
supporting papers; that there is no more than oral proof to the effect
that payments have been made for representation expenses allegedly
made by the taxpayer and about the general nature of such alleged
expenses; that accordingly, it is not possible to determine the actual
amount covered by supporting papers and the amount without
supporting papers, the court should determine from all available data,
the amount properly deductible as representation expenses.

b) WON the CTA erred in disallowing 3-½% per annum as the rate of
depreciation of the Bay View Hotel Building and instead used only 2-½%?

ZAMORA: He contends that (1) the Ermita District, where the Bay View Hotel
is located, is now becoming a commercial district; (2) the hotel has no room
for improvement; and (3) the changing modes in architecture, styles of
furniture and decorative designs, "must meet the taste of a fickle public,"
hence, the depreciation rate should be 3-½% per annum. His basis is the
testimony of its witness Mariano Katipunan, who cited a book entitled "Hotel
Management — Principles and Practice" by Lucius Boomer, President, Hotel
Waldorf Astoria Corporation

COURT: The 2-½% rate of depreciation of the Bay View Hotel building, is
approximately correct, based on Bulletin F which states that:

Normally, an average hotel building is estimated to have a useful life

of 50 years, but inasmuch as the useful life of the building for business
purposes depends to a large extent on the suitability of the structure
to its use and location, its architectural quality, the rate of change in
population, the shifting of land values, as well as the extent and
maintenance and rehabilitation. It is allowed a depreciation rate of 2-
½% corresponding to a normal useful life of only 40 years (1955 PH
Federal Taxes, Par 14 160-K).

Although Bulletin F has no binding force, it has a strong persuasive effect

considering that the same has been the result of scientific studies and
observation for a long period in the United States after whose Income Tax
Law ours is patterned.

c) WON Zamora is liable for the undeclared capital gains derived from the
sales in 1951 of certain real properties in Malate, Manila and in Quezon City,
acquired during the Japanese occupation?
COURT: Yes. The cost basis of property acquired in Japanese war notes is
the equivalent of the war notes in genuine Philippine currency in accordance
with the Ballantyne Scale of values, and that the determination of the gain
derived or loss sustained in the sale of such property is not affected by the
decline at the time of sale, in the purchasing power of the Philippine
currency.

Simply put: the court is not convinced with the contention of Zamora
because if the amounts in the deeds of sale will be followed, it will appear
that a particular real property (P132,000.00) was sold to an amount that is
very much below than its fair market value (P68,959.00). Hence, the court is
inclined to believe, based on admissions and careful study of the evidences,
that in the subject sales, the basis for the capital gains computation should
not the costs appearing in the deed of sale.

IN VIEW HEREOF, the petition in each of the above-entitled cases is

dismissed, and the decision appealed from is affirmed, without special
pronouncement as to costs.

(read the full text for a detailed explanation on issue #3)

Republic of the Philippines

SUPREME COURT
Manila

EN BANC

G.R. No. L-25043 April 26, 1968

ANTONIO ROXAS, EDUARDO ROXAS and ROXAS Y CIA., in their own

respective behalf and as judicial co-guardians of JOSE
ROXAS, petitioners,
vs.
COURT OF TAX APPEALS and COMMISSIONER OF INTERNAL
REVENUE, respondents.

BENGZON, J.P., J.:

FACTS:
 Antonio Roxas, Eduardo Roxas and Jose Roxas, formed a partnership
called Roxas y Compania to properly administer the properties they inherited
from their grandparents.

Subject transactions:

a) on the agricultural lands

The Government, by virtue of its constitutional mandate subjected the

Nasugbu lands of the petitioners to the coverage of agrarian reform. But
since the Government did not have funds to cover the purchase price, a
special arrangement was made for the Rehabilitation Finance Corporation
to advance to Roxas y Cia. the amount of P1,500,000.00 as loan.
Collateral for such loan were the lands proposed to be sold to the farmers.
Under the arrangement, Roxas y Cia. allowed the farmers to buy the lands
for the same price but by installment, and contracted with the
Rehabilitation Finance Corporation to pay its loan from the proceeds of the
yearly amortizations paid by the farmers.

In 1953 and 1955 Roxas y Cia. derived from said installment payments a
net gain of P42,480.83 and P29,500.71. Fifty percent of said net gain was
reported for income tax purposes as gain on the sale of capital asset held
for more than one year pursuant to Section 34 of the Tax Code.

b) on the residential house

During their bachelor days the Roxas brothers lived in the residential
house at Wright St., Malate, Manila, which they inherited from their
grandparents. After Antonio and Eduardo got married, they resided
somewhere else leaving only Jose in the old house. Jose paid to Roxas y
Cia. rentals for the house in the sum of P8,000.00 a year.

c) donations made by the partnership

On June 17, 1958, the CIR demanded from Roxas y Cia the following:

a) deficiency income taxes against the Roxas Brothers for the years 1953
and 1955. The deficiency income taxes resulted from the inclusion as
income of Roxas y Cia of the unreported 50% of the net profits for 1953
and 1955 derived from the sale of the Nasugbu farm lands to the tenants,
and the disallowance of deductions from gross income of various business
expenses and contributions claimed by Roxas y Cia. and the Roxas
brothers.
 For the reason that Roxas y Cia. subdivided its Nasugbu farm lands and
sold them to the farmers on installment, the Commissioner considered the
partnership as engaged in the business of real estate, hence, 100% of the
profits derived therefrom was taxed.

b) payment of real estate dealer's tax based on the fact that Roxas y Cia.
received house rentals from Jose Roxas in the amount of P8,000.00. It
contends that pursuant to Sec. 194 of the Tax Code, an owner of a real
estate who derives a yearly rental income therefrom in the amount of
P3,000.00 or more is considered a real estate dealer and is liable to pay
the corresponding fixed tax. It justified its demand by arguing that said
partnership made profits from the purchase and sale of securities.

c) disallowed deductions (entities are specified in the ruling)

CTA: sustained the assessment of CIR except the demand for the payment
of the fixed tax on dealer of securities and the disallowance of the
deductions for contributions to the Philippine Air Force Chapel and Hijas de
Jesus' Retiro de Manresa.

Hence, this petition.

ISSUES:

1. Is the gain derived from the sale of the Nasugbu farm lands an
ordinary gain, hence 100% taxable?
2. Are the deductions for business expenses and contributions
deductible?
3. Is Roxas y Cia liable for the payment of the fixed tax on real estate
dealers?

RULING:

1. The court ruled that it was only an isolated transaction. (based on the
agricultural land transaction)
The sale of the Nasugbu farm lands to the very farmers who tilled them
for generations was not only in consonance with, but more in obedience to
the request and pursuant to the policy of our Government to allocate
lands to the landless. It was the bounden duty of the Government to pay
 the agreed compensation after it had persuaded Roxas y Cia to sell its
haciendas, and to subsequently subdivide them among the farmers at
very reasonable terms and prices. However, the Government could not
comply with its duty for lack of funds. Obligingly, Roxas y Cia. shouldered
the Government's burden, went out of its way and sold lands directly to
the farmers in the same way and under the same terms as would have
been the case had the Government done it itself.

In fine, Roxas y Cia. cannot be considered a real estate dealer for the
sale in question. Hence, pursuant to Section 34 of the Tax Code the
lands sold to the farmers are capital assets, and the gain derived from the
sale thereof is capital gain, taxable only to the extent of 50%.

2. It depends.

Under Section 39(h), a contribution to a government entity is

deductible when used exclusively for public purposes. Hence,

Allowed deductions:

a. the contribution to the Manila Police trust fund because said trust
fund belongs to the Manila Police, a government entity, intended to
be used exclusively for its public functions.
Disallowed deductions:

a. the contributions to the Christmas funds of the Pasay City Police,

Pasay City Firemen and Baguio City Police because the Christmas
funds were not spent for public purposes but as Christmas gifts to
the families of the members of said entities.
b. the contributions to the Philippines Herald's fund for Manila's
neediest families because the Philippines Herald is not a corporation
or an association contemplated in Section 30 (h) of the Tax Code
(It should be noted however that the contributions were not made to
the Philippines Herald but to a group of civic spirited citizens
organized by the Philippines Herald solely for charitable purposes.
There is no question that the members of this group of citizens do
not receive profits, for all the funds they raised were for Manila's
neediest families. Such a group of citizens may be classified as an
association organized exclusively for charitable purposes mentioned
in Section 30(h) of the Tax Code.)
c. the contribution to Our Lady of Fatima chapel at the Far Eastern
University because the said university gives dividends to its
stockholders. Located within the premises of the university, the
chapel in question has not been shown to belong to the Catholic
 Church or any religious organization. Also, the lower court found that
it belongs to the Far Eastern University, contributions to which are
not deductible under Section 30(h) of the Tax Code for the reason
that the net income of said university inures to the benefit of its
stockholders.

3. Yes. (based on the house rentals received from Jose, pursuant to Art. 194
of the Tax Code stating that an owner of a real estate who derives a yearly
rental income therefrom in the amount of P3,000.00 or more is considered a
real estate dealer and is liable to pay the corresponding fixed tax)

Because Section 194 of the Tax Code, in considering as real estate

dealers owners of real estate receiving rentals of at least P3,000.00 a year,
does not provide any qualification as to the persons paying the rentals.

Section 194 of the Tax Code

. . . "Real estate dealer" includes any person engaged in the

business of buying, selling, exchanging, leasing or renting property on
his own account as principal and holding himself out as a full or part-
time dealer in real estate or as an owner of rental property or
properties rented or offered to rent for an aggregate amount of three
thousand pesos or more a year: . . .

WHEREFORE, the decision appealed from is modified. Roxas y Cia. is

hereby ordered to pay the sum of P150.00 as real estate dealer's fixed tax
for 1952, and Antonio Roxas, Eduardo Roxas and Jose Roxas are ordered to
pay the respective sums of P109.00, P91.00 and P49.00 as their individual
deficiency income tax all corresponding for the year 1955. No costs. So
ordered.

 The power of taxation is sometimes called also the power to destroy.

Therefore it should be exercised with caution to minimize injury to the
proprietary rights of a taxpayer. It must be exercised fairly, equally
and uniformly, lest the tax collector kill the "hen that lays the golden
egg". And, in order to maintain the general public's trust and
confidence in the Government this power must be used justly and not
treacherously. It does not conform with Our sense of justice in the
instant case for the Government to persuade the taxpayer to lend it a
 helping hand and later on to penalize him for duly answering the
urgent call.

 Representation expenses are deductible from gross income as

expenditures incurred in carrying on a trade or business under
Section 30(a) of the Tax Code provided the taxpayer proves that
they are reasonable in amount, ordinary and necessary, and incurred
in connection with his business.
 10. Gancayco v. CIR

 FACTS:
 Petitioner Santiago Gancayco seeks the review of a decision of the
Court of Tax Appeals, requiring him to pay P16,860.31, plus surcharge
and interest, by way of deficiency income tax for the year 1949.
 On May 10, 1950, Gancayco filed his income tax return for the year
1949. Two (2) days later, respondent Collector of Internal Revenue
issued the corresponding notice advising him that his income tax
liability for that year amounted P9,793.62, which he paid on May 15,
1950. A year later, on May 14, 1951, respondent wrote the
communication Exhibit C, notifying Gancayco, inter alia , that, upon
investigation, there was still due from him, a efficiency income tax for
the year 1949, the sum of P29,554.05. Gancayco sought a
reconsideration, which was part granted by respondent, who in a letter
dated April 8, 1953 (Exhibit D), informed petitioner that his income tax
defendant efficiency for 1949 amounted to P16,860.31. Gancayco
urged another reconsideration (Exhibit O), but no action taken on this
request, although he had sent several communications calling
respondent's attention thereto.
 On April 15, 1956, respondent issued a warrant of distraint and levy
against the properties of Gancayco for the satisfaction of his deficiency
income tax liability.

 ISSUE: The question whether the sum of P16,860.31 is due from
Gancayco as deficiency income tax for 1949 hinges on the validity of
his claim for deduction of two (2) items, namely: (a) for farming
expenses, P27,459.00; and (b) for representation expenses,
P8,933.45.
 Held:
 Section 30 of the Tax Code partly reads:
 (a) Expenses:
 (1) In General — All the ordinary and necessary expenses paid or
incurred during the taxable year in carrying on any trade or business,
including a reasonable allowance for salaries or other compensation for
personal services actually rendered; traveling expenses while away
from home in the pursuit of a trade or business; and rentals or other
payments required to be made as a condition to the continued use or
possession, for the purposes of the trade or business, of property to
which the taxpayer has not taken or is not taking title or in which he
has no equity. (Emphasis supplied.)
 Referring to the item of P27,459, for farming expenses allegedly
incurred by Gancayco, the decision appealed from has the following to
say:
 No evidence has been presented as to the nature of the said "farming
expenses" other than the bare statement of petitioner that they were
spent for the "development and cultivation of (his) property". No
specification has been made as to the actual amount spent for
purchase of tools, equipment or materials, or the amount spent for
improvement. Respondent claims that the entire amount was spent
exclusively for clearing and developing the farm which were necessary
to place it in a productive state. It is not, therefore, an ordinary
expense but a capitol expenditure. Accordingly, it is not deductible but
it may be amortized, in accordance with section 75 of Revenue
Regulations No. 2, cited above. See also, section 31 of the Revenue
Code which provides that in computing net income, no deduction shall
in any case be allowed in respect of any amount paid out for new
buildings or for permanent improvements, or betterments made
to increase the value of any property or estate. (Emphasis supplied.)
 We concur in this view, which is a necessary consequence of section
31 of the Tax Code, pursuant to which:
 (a) General Rule — In computing net income no deduction shall
in any case be allowed in respect of —
 (1) Personal, living, or family expenses;
 (2) Any amount paid out for new buildings or for permanent
improvements, or betterments made to increase the value of any
property or estate;
 (3) Any amount expended in restoring property or in making good the
exhaustion thereof for which an allowance is or has been made; or
 (4) Premiums paid on any life insurance policy covering the life of any
officer or employee, or any person financially interested in any trade
or business carried on by the taxpayer, individual or corporate, when
 the taxpayer is directly or indirectly a beneficiary under such policy.
(Emphasis supplied.)
 Said view is, likewise, in accord with the consensus of the authorities
on the subject.
 Expenses incident to the acquisition of property follow the same rule
as applied to payments made as direct consideration for the property.
For example, commission paid in acquiring property are considered as
representing part of the cost of the property acquired. The same
treatment is to be accorded to amounts expended for maps, abstracts,
legal opinions on titles, recording fees and surveys. Other non-
deductible expenses include amounts paid in connection with
geological explorations, development and subdividing of real
estate; clearing and grading; restoration of soil, drilling wells,
architects's fees and similar types of expenditures. (4 Merten's Law of
Federal Income Taxation, Sec. 25.20, pp. 348-349; see also sec. 75 of
the income Regulation of the B.I.R.; Emphasis supplied.)
 The cost of farm machinery, equipment and farm building represents a
capital investment and is not an allowable deduction as an item of
expense. Amounts expended in the development of farms, orchards,
and ranches prior to the time when the productive state is
reached may be regarded as investments of capital. (Merten's Law of
Federal Income Taxation, supra, sec. 25.108, p. 525.)
 Expenses for clearing off and grading lots acquired is
a capital expenditure, representing part of the cost of the land and was
not deductible as an expense. (Liberty Banking Co. v. Heiner 37 F [2d]
703 [8AFTR 100111] [CCA 3rd]; The B.L. Marble Chair Company v.
U.S., 15 AFTR 746).
 An item of expenditure, in order to be deductible under this section of
the statute providing for the deduction
of ordinary and necessary business expenses, must fall squarely within
the language of the statutory provision. This section is intended
primarily, although not always necessarily, to cover expenditures of
a recurring nature where the benefit derived from the payment
is realized and exhausted within the taxable year. Accordingly, if the
result of the expenditure is the acquisition of an asset which has an
economically useful life beyond the taxable year, no deduction of such
payment may be obtained under the provisions of the statute. In such
cases, to the extent that a deduction is allowable, it must be obtained
under the provisions of the statute which permit deductions for
amortization, depreciation, depletion or loss. (W.B. Harbeson Co. 24
BTA, 542; Clark Thread Co., 28 BTA 1128 aff'd 100 F [2d] 257 [CCA
 3rd, 1938]; 4 Merten's Law of Federal Income Taxation, Sec. 25.17,
pp. 337-338.)
 Gancayco's claim for representation expenses aggregated P31,753.97,
of which P22,820.52 was allowed, and P8,933.45 disallowed. Such
disallowance is justified by the record, for, apart from the absence of
receipts, invoices or vouchers of the expenditures in question,
petitioner could not specify the items constituting the same, or when
or on whom or on what they were incurred. The case of Cohan v.
Commissioner, 39 F (2d) 540, cited by petitioner is not in point,
because in that case there was evidence on the amounts spent and the
persons entertained and the necessity of entertaining them, although
there were no receipts an vouchers of the expenditures involved
therein. Such is not the case of petitioner herein.
 Being in accordance with the facts and law, the decision of the Court of
Tax Appeals is hereby affirmed therefore, with costs against petitioner
Santiago Cancayco. It is so ordered.

11. CIR V. AMERICAN RUBBER

The factual background is the same in all four cases, and is not in
controversy, having been stipulated between the parties.

Petitioner, American Rubber Company, a domestic corporation, from January

1, 1955 to December 1, 1958, was engaged in producing rubber from its
approximately 900 hectare rubber tree plantation, which it owned and
operated in Latuan, Isabela, City of Basilan. Its products, known in the
market as Preserved Latex, Pale Crepe No. 1, Pale Crepe No. 2, Ribbed
Smoked Sheets Nos. 1 and 2, Flat Bark Rubber, 2X Brown Crepe and 3X
Brown Crepe.

The following sales taxes on the aforementioned rubber products were paid
under protest —
From Jan. 1, 1955 to Dec. P83,193.48
31, 1956
From Jan. 1, 1957 to June P20,504.99
30, 1957
From July 1, 1957 to Dec. P52,378.90
31, 1958
It is further stipulated that the sales tax collected from petitioner American
Rubber Company on the local sales of its rubber products, following Internal
Revenue General Circulars Nos. 431 and 440, had been separately itemized
and billed by petitioner Company in the invoices issued to the customers,
that paid both the value of the rubber articles and the separately itemized
sales tax, from January 1, 1955 to August 2, 1957.

After paying under protest, the petitioner claimed refund of the sales taxes
paid by it on the ground that under section 188, paragraph b, of the Internal
Revenue Code, as amended,1 its rubber products were agricultural products
exempt from sales tax, and upon refusal of the Commissioner of Internal
Revenue, brought the case on appeal to the Court of Tax Appeals (C.T.A.
Nos. 356, 440,, 632). The respondent Commissioner interposed defenses,
denying that petitioner's products were agricultural ones within the
exemption; claiming that there had been no exhaustion of administrative
remedies; and argued that the sales tax having been passed to the buyers
during the period that elapsed from January 1, 1955 to August 2, 1957, the
petitioner did not have personality to demand, sue for and recover the
aforesaid sales taxes, plus interest.

In its decision, now under appeal, the Tax Court held Preserved Latex, Flat
Bark Rubber, and 3X Brown Crepe to be agricultural products, "because the
labor employed in the processing thereof is agricultural labor", and hence,
the sales of such products were exempt from sales tax, but declared Pale
Crepe No. 1, Ribbed Smoked Sheets Nos. 1 and 3, as well as 2X Brown
Crepe (which is obtained from rolling excess pieces of Smoked Sheets) to be
manufactured products, sales of which were subject to the tax. It overruled
the defense of non-exhaustion of administrative remedies and upheld the
Revenue Commissioner's stand that petitioner Company was not entitled to
recover the sales tax that had been separately billed to its customers, and
paid by the latter. Hence, it dismissed the appeal in C.T.A. Nos. 356 and 440
and ordered respondent Commissioner to refund only P3,916.49 without
interest, or costs.
ISSUES:

(1) Whether the plaintiff's rubber products above described should be

considered agricultural or manufactured for purposes of their subjection to
the sales tax;

(2) Whether plaintiff is or is not entitled to recover the sales tax paid by it,
but passed on to and paid by the buyers of its products; and

(3) Whether plaintiff is or is not entitled to interest on the sales tax paid by
it under protest, in case recovery thereof is allowed.
HELD:

The first issue, in our opinion, is governed by the principles laid down by this
Court in Philippine Packing Corporation vs. Collector of Internal Revenue,
100 Phil. 545 et seq. We there ruled that the exemption from sales tax
established in section 188 (b) of the Internal Revenue Tax Code in favor of
sales of agricultural products, whether in their original form or not, made by
the producer or owner of the land where produced is not taken away merely
because the produce undergoes processing at the hand of said producer or
owner for the purpose of working his product into a more convenient and
valuable form suited to meet the demand of an expanded market; that the
exemption was not designed in favor of the small agricultural producer,
already exempted by the subsequent paragraphs of the same section 188,
but that said exemption is not incompatible with large scale agricultural
production that incidentally required resort to preservative processes
designed to increase or prolong marketability of the product.

In the case before us, the parties have stipulated that fresh latex directly
obtained from the rubber tree, which is clearly an agricultural product,
becomes spoiled after only two hours. It has, therefore, a severely limited
marketability. The addition of ammonia prevents its deterioration for about a
month, and we see no reason why this preservative process should wrest
away from the preserved latex the protective mantle of the tax exemption.

Taking also into account the great distance that separates the plaintiff's
plantation from the main rubber processing centers in Japan, the United
States and Europe, and the difficulty in handling products in liquid form, it
can be discerned without difficulty that preserved, latex, with its 30-day
spoilage limit, is still severely handicapped for export and dollar earning
purposes.

To overcome these shortcomings, and extend its useful life almost

indefinitely, it becomes necessary to separate and solidify the rubber
granules diffused in the latex, and hence, according to the stipulation of
facts and the evidence, acetic acid is added to hasten coagulation. There is
nothing on record to show that the acetic acid in way produces anything that
was not originally in the source, the liquid latex. The coagulum is then rolled
and compacted and afterwards air dried to make Pale Crepe(1 and 2), or
else cured and smoked to produce rubber sheets. Once again we see nothing
in this processing to alter the agricultural nature of the result; what takes
place is merely an accelerated coagulation and dessication that would
naturally occur anyway, only within a longer period of time, coupled with
greater spoilage of the product.

Thus the operations carried out by plaintiff appear to be purely preservative

in nature, made necessary, by its production of fresh rubber latex in a large
scale. they are purely incidental to the latter, just as the canning of skinned
and cored pineapples in syrup was held to be incidental to the large-scale
cultivation of the fruit in the Philippine Packing Corporation case (ante).
Being necessary to suit the product to the demands of the market, the
operations in both cases should lead to the same result, non-taxability of the
sales of the respective agricultural products. In not so holding, the Tax Court
was in error.

Even less justifiable is the position taken by the Revenue Commissioner in

his appeal against the finding of the Tax Court that Flat Bark 3X Brown
Crepe rubber are agricultural products. According to the record, these sheets
result from the drippings and waste rubber that have dried naturally, that
are rolled and compacted into the desired thickness, without any other
processing.

As to 2X Brown Crepe which is compacted out of the trimmings and waste

left over from the production of ribbed smoked sheets, no reason is seen
why it should be treated differently from the ribbed smoked sheets
themselves.

In his appeal, the Revenue Commissioner contends that all of plaintiff's

products should be deemed manufactured articles, on the strength of section
194 (n) of the Revenue Code defining a "manufacturer" as

every person who by physical or chemical process alters the exterior

texture or form or inner substances of any raw material or
manufactured or partially manufactured product in such manner as to
prepare it for a special use or uses to which it could not have been put
to in its original condition, or who . . . alters the quality of any such
raw material . . . as to reduce it to marketable shape . . . .

But, as pointed out in the Philippine Packing Corporation case, this definition
is not applicable to the exemption of agricultural products, "whether in their
original form or not". The use of this last phrase in the statute clearly
indicates that the agricultural product may be altered in texture or form
without being divested of the exemption (cas cit. 100 Phil., p. 548). The
exception would be sales of agricultural products while Republic Act No.
1612 was in effect because under this Act the freedom from sales tax
became restricted to agricultural products "in their original form" only. So
that plaintiff's sales from August 24, 1956 (approval of Republic Act 1612) to
June 22, 1957 (when Republic Act 1856 became effective and restored the
exemption to agricultural products "whether in their original form or not")
became properly taxable. Under paragraphs (A)2 and B(4) of the additional
stipulation of facts (CTA Rec. pp. 261-262, G.R. L-19801), the sales tax
properly collected during this period of plaintiff's transactions amounted to
P18,187.19 from August 24 to December 31, 1956; and P18,888.28 from
January 1 to June 21, 1957, or a total of P37,075.47. This last amount is,
therefore non-recoverable.2

The second issue in this appeal concerns the holding of the Court of Tax
Appeals that the plaintiff Company is not entitled to recover the sales tax
paid by it from January, 1955 to August 2, 1957, because during that period
the plaintiff had separately invoiced and billed the corresponding sales tax to
the buyers of its products. In so holding, the Tax Court relied on our
decisions in Medina vs. City of Baguio, 91 Phil. 854; Mendoza, Santos & Co.
vs. Municipality of Meycawayan, L-6069-6070, April 30, 1954 (94 Phil.
1047); and Zosimo Rojas & Bros. vs. City of Cavite, L-10730, May 27, 1958.

The basic ruling is that of Medina vs. City of Baguio, supra, where this Court
affirmed the ruling of the court of First Instance to the effect that —

"The amount collected from the theatergoers as additional price of

admission tickets is not the property of plaintiffs or any of them. It is
paid by the public. If anybody has the right to claim it, it is those who
paid it. Only owners of property has the right to claim said property.
The cine owner acted as mere agents of the city in collecting additional
price charged in the sale of admission tickets." (Medina vs. City of
Baguio, 91 Phil. 854) (Emphasis supplied)

We agree with the plaintiff-appellant that the Medina ruling is not applicable
to the present case, since the municipal taxes therein imposed were taxes
on the admission tickets sold, so that, in effect, they were levies upon the
theatergoers who bought them; so much so that (as the decision expressly
ruled) the tax was collected by the theater owners as agents of the
respective municipal treasurers. This does not obtain in the case at bar. The
Medina ruling was merely followed in Rojas & Bros. vs. Cavite, supra; and
in Mendoza, Santos & Co. vs. Municipality of Meycawayan, 94 Phil. 1047.

By contrast with the municipal taxes involved in the preceding cases, the
sales tax is by law imposed directly, not on the thing sold, but on the act
(sale) of the manufacturer, producer or importer (Op. of the Secretary of
Justice, June 15, 1946; 47 C.J.S., p. 1141), who is exclusively made liable
for its timely payment. There is no proof that the tax paid by plaintiff is the
very money paid by its customers. Where the tax money paid by the plaintiff
came from is really no concern of the Government, but solely a matter
between the plaintiff and its customers. Anyway, once recovered, the
plaintiff must hold the refund taxes in trust for the individual purchasers who
advanced payment thereof, and whose names must appear in plaintiff's
records.

Moreover, the separate billing of the sales tax in appellant's invoices was a
direct result of the respondent Commissioner's General Circular No. 440,
providing that —

if a manufacturer, producer, or importer, in fixing the gross selling

price of an article sold by him, has included an amount intended to
cover the sales tax in the gross selling price of the article, the sales
tax shall be based on the gross selling price less the amount intended
to cover the tax, if the same is billed to the purchaser as a separate
item in the invoice. . . . (Emphasis supplied)

In other words, the separate itemization of the sales tax in the invoices was
permitted to avoid the taxpayer being compelled to pay a sales tax on the
tax itself. It does not seem either just or proper that a step suggested by the
Internal Revenue authorities themselves to protect the taxpayer from paying
a double tax should now be used to block his action to recover taxes
collected without legal sanction.

Finally, a more important reason that militates against extensive and

indiscriminate application of the Medina vs. City of Baguio ruling is that it
would tend to perpetuate illegal taxation; for the individual customers to
whom the tax is ultimately shifted will ordinarily not care to sue for its
recovery, in view of the small amount paid by each and the high cost of
litigation for the reclaiming of an illegal tax. In so far, therefore, as it favors
the imposition, collection and retention of illegal taxes, and encourages a
multiplicity of suits, the Tax Court's ruling under appeal violates morals and
public policy.

The plaintiff Company also urges that the refund of the taxes should include
interest thereon. While this Court has allowed recovery of interest in some
cases, it has done so only in cases of patent arbitrariness on the part of the
Revenue authorities; and in this instance we agree with the Tax Court that
no such patent arbitrariness has been shown.

IN VIEW OF THE FOREGOING, the decision of the Court of Tax Appeals is

affirmed
No. L-20563. October 29, 1968.
CEBU PORTLAND CEMENT COMPANY, petitioner, vs.COLLECTOR (NOW
COMMISSIONER) OF INTERNAL REVENUE, respondent.

Facts: This case involves petitioner's claim for refund of P458,241.45 sales
tax paid from November 1, 1954 to March, 1955, and P427,552.95 ad
valorem tax paid from April, 1955 to September 30, 1956 from the sale of
APO Portland cement produced by the petitioner.

Prior to the effectivity of Republic Act No. 1299 on June 16, 1955, 1 the
petitioner had been paying the sales tax (known also as percentage tax) of
APO portland cement produced by it,2 computed at 7% of the gross selling
price inclusive of the cost of the bag containers of cement and the
gypsum3 used in the manufacture of said product. Af ter the approval of the
amendment of the law petitioner stopped paying sales tax on its gross sales
and instead paid the ad valorem tax4 on the selling price of the product after
deducting therefrom the corresponding cost of the containers thereof.

It appears, however, that since 1952, petitioner had been protesting the
imposition of the sales tax on its APO portland cement, and on January 16,
1953, it also protested the payment of ad valorem taxes. A written claim for
refund of sales and ad valorem taxes paid by petitioner was filed two years
later (September 1955) which was reiterated on July 26, 1956.

Without awaiting respondent's ruling on said claims for refund, petitioner, on

January 24, 1957, filed with the Court of Tax Appeals a petition for review
"of the action of the Collector of Internal Revenue in refusing to entertain
petitioner's claim for refund of the percentage tax on sales of its APO
cement." It was alleged in the petition that the percentage taxes collected by
respondent are refundable since under Republic Act 1299, producers of
cement are exempt from the payment of said tax. The petition was amended
on October 24, 1959, and again amended on June 23, 1961, to include a
claim for refund of ad valorem taxes alleged to have been overpaid through
double payments.
Issue: Whether of not Cebu Portland entitled to the refund of sales and ad
valorem taxes?

Held: NO, due to prescription, and the taxable character of cement.

However, deductions may be had from the gross selling price representing
Gypsum and the Bag Containers of cement.

The gypsum and bag containers used in the production and sale of
cement are deductible from the gross selling price in computing the 7%
compensating tax levied on the sale of cement before Republic Act 1299. In
the absence of any showing that the petitioner itself manufactured the bag
containers, the inference is that these bags were bought from others from
whom taxes had been levied for the original sale thereof. The same holds
true with the gypsum used in the process of the manufacture of cement.

Pursuant to section 186 of the Tax Code and in consonance with the case
of Philippine Acetylene Co., Inc. vs. Commissioner of Internal Revenue &
Court of Tax Appeals, it is the petitioner, and not its customers that may ask
for a refund of whatever amounts it is entitled for the percentage or sales
tax it paid before the amendment of section 246 of the Tax Code.

** Constitutional law; Statutory construction; Statute operates

prospectively unless the contrary is made manifest; Tax laws operate
prospectively unless retrospective effect is expressly declared or clearly
implied.— It is a settled rule in statutory construction that a statute operates
prospectively only and never retroactively, unless the legislative intent to the
contrary is made manifest either by the express terms of the statute or by
necessary implication. In every case of doubt, the doubt must be resolved
against the retrospective effect. There is nothing in the context of the
provision in question that would manifest the Legislature 's intention to have
the provision apply to taxes due in the past. On the other hand, the use of
the word "shall" gives the unmistakable impression that the lawmakers
intended this enactment to be effective only in future. Furthermore, careful
perusal of the explanatory note to House Bill No. 3251, later approved as
Republic Act 1299, and the portions of the record of the discussions in
Congress, reveals nothing that would suggest that the amendment was
enacted to operate retrospectively. Indeed, like other statutes, tax laws
operate prospectively, whether they enact, amend or repeal, unless as
aforesaid, the purpose of the Legislature to give retrospective effect is
expressly declared or may clearly be implied from the language used.
No. L-21520. December 11, 1967.

PLARIDEL SURETY & INSURANCE COMPANY, petitioner, vs. COMMISSIONER

OF INTERNAL REVENUE, respondent.

Facts: Petitioner Plaridel Surety & Insurance Co., is a domestic corporation

engaged in the bonding business. On November 9, 1950, petitioner, as
surety, and Constancio San Jose, as principal, solidarity executed a
performance bond in the penal sum of P30,600.00 in favor of the P. L.
Galang Machinery Co., Inc., to secure the performance of San Jose’s
contractual obligation to produce and supply logs to the latter.

To afford itself adequate protection against loss or damage on the

performance bond, petitioner required San Jose and one Ramon Cuervo to
execute an indemnity agreement obligating themselves, solidarity, to
indemnify petitioner for whatever liability it may incur by reason of said
performance bond. Accordingly, San Jose constituted a chattel mortgage on
logging machineries and other movables in petitioner’s favor1 while Ramon
Cuervo executed a real estate mortgage.2

San Jose later failed to deliver the logs to Galang Machinery 3 and the
latter sued on the performance bond. On October 1, 1952, the Court of First
Instance adjudged San Jose and petitioner liable; it also directed San Jose
and Cuervo to reimburse petitioner for whatever amount it would pay Galang
Machinery.

In its income tax return for the year 1957, petitioner claimed the said
amount of P44,490.00 as deductible loss from its gross income and,
accordingly, paid the amount of P136.00 as its income tax for 1957.

The Commissioner of Internal Revenue disallowed the claimed

deduction of P44,490.00 and assessed against petitioner the sum of
P8,898.00, plus interest, as deficiency income tax for the year 1957.
Issue: Whether or not petitioner can claim P44,490 as a deductible loss from
its gross income.

Held: No. Petitioner was duly compensated for otherwise than by insurance-
thru the mortgage in its favor executed by San Jose and Cuervo and it had
not yet exhausted all its available remedies, especially as against Cuervo to
minimize its loss.

Loss is deductible only in the taxable year it actually happens or is

sustained. However, if the loss is compensable otherwise than by
insurance—thru the mortgages in petitioner’s favor executed by San Jose
and Cuervo—though it had not exhausted all its available remedies,
especially as against Cuervo, to minimize its loss, then deduction for the loss
suffered is postponed to a subsequent year, which, to be precise, is that
year in which it appears that no compensation at all can be had, or that
there is a remaining or net loss, i.e., no full compensation.

Assuming that there was no reasonable expectation of recovery of the

loss sustained by petitioner, still no loss deduction can be had. Sec. 30(d)
(2) of the Tax Code requires a charge-off as one of the conditions for loss
deduction. However, petitioner, who had the burden of proof, failed to
adduce evidence that there was a charge-off in connection with the
P44,490.00—or P30,600.00—which it paid to Galang Machinery.

14. Collector vs. Goodrich International Rubber Co.

No. L-22265; dated 22 December 1967; 21 SCRA 1336

FACTS: Assessments was made by the Commissioner of Internal Revenue,

in the sums of P14,128.00 and P8,439.00, as deficiency income taxes
allegedly due from respondent Goodrich—for the years 1951 and 1952.
These assessments were based on disallowed deductions, claimed by
Goodrich, consisting of several alleged bad debts, in the aggregate sum of
P50,455.41, for the year 1951, and the sum of P30,138.88, as
representation expenses allegedly incurred in the year 1952. Goodrich had
appealed from said assessments to the CA. A decision allowing the deduction
for bad debts, but disallowing the alleged representation expenses was
made. On motion for reconsideration and new trial, filed by Goodrich, on
November 19, 1963, the Court of Tax Appeals amended its aforementioned
decision and allowed said deductions for representation expenses.

A reading of the case shows that Portillo Auto Seat Cover, Visayan Rapid
Transit, Bataan Auto Seat Cover, Tres Amigos Supply and 6 more debtors
were given a demand letter and after a while was written off as bad debt.

ISSUE: Should deductions to the respondent’s tax be allowed for the bad
debts incurred by the debtors?

HELD: The claim for deduction of the said ten (10) debts should be rejected.
Goodrich has not established either that the debts are actually worthless or
that it had reasonable grounds to believe them to be so in 1951. Our statute
permits the deduction of debts “actually ascertained to be worthless within
the taxable year,” obviously to prevent arbitrary action by the taxpayer, to
unduly avoid tax liability.

The requirement of ascertainment of worthlessness requires proof of

two facts: (1) that the taxpayer did in fact ascertain the debt to be
worthless, in the year for which the deduction is sought; and (2) that, in so
doing, he acted in good faith.

Good faith on the part of the taxpayer is not enough. He must show, also,
that he had reasonably investigated the relevant facts and had drawn a
reasonable inference from the information thus obtained by him.
Respondent herein has not adequately made such showing. The payments
made, some in full, after some of the foregoing accounts had been
characterized as bad debts, merely stresses the undue haste with which the
same had been written off. At any rate, respondent has not proven that said
debts were worthless. There is no evidence that the debtors can not pay
them. It should be noted also that, in violation of Revenue Regulations No.
2, Section 102, respondent had not attached to its income tax returns a
statement showing the propriety of the deductions therein made for alleged
bad debts.
15. Phil. Refining Co. vs. CA et al

G.R. No. 118794; dated 8 May 1996; 256 SCRA 667

FACTS: Petitioner Philippine Refining Company (PRC) was assessed by

respondent (Commissioner) to pay a deficiency tax for the year 1985 in the
amount of P1,892,584.00. The assessment was timely protested by
petitioner on April 26, 1989, on the ground that it was based on the
erroneous disallowances of “bad debts” and “interest expense” although the
same are both allowable and legal deductions. Respondent Commissioner,
however, issued a warrant of garnishment against the deposits of petitioner
(implied action of denial of protest).

Out of the sixteen (16) accounts alleged as bad debts, the CA found out that
only three (3) accounts have met the requirements of the worthlessness of
the accounts, hence were properly written off as bad debts. Further, that
said accounts have not satisfied the requirements of the ‘worthlessness of a
debt.’ Mere testimony of the Financial Accountant of the Petitioner explaining
the worthlessness of said debts is seen by this Court as nothing more than a
self-serving exercise which lacks probative value. There was no iota of
documentary evidence.

ISSUE: Is nobody in a better position to determine when an obligation

becomes a bad debt than the creditor itself, and that its judgment should
not be substituted by that of respondent court as it is PRC which has the
facilities in ascertaining the collectability or uncollectibility of the debts?

HELD: No. Court of Appeals relied on the ruling of this Court in Collector vs.
Goodrich International Rubber Co., which established the rule in determining
the “worthlessness of a debt.” In said case, we held that for debts to be
considered as “worthless,” and thereby qualify as “bad debts” making them
deductible, the taxpayer should show that: (1) there is a valid and subsisting
debt; (2) the debt must be actually ascertained to be worthless and
uncollectible during the taxable year; (3) the debt must be charged off
during the taxable year; and (4) the debt must arise from the business or
trade of the taxpayer.

Additionally, before a debt can be considered worthless, the taxpayer must

also show that it is indeed uncollectible even in the future. Furthermore,
there are steps outlined to be undertaken by the taxpayer to prove that he
exerted diligent efforts to collect the debts, viz.: (1) sending of statement of
accounts; (2) sending of collection letters; (3) giving the account to a lawyer
for collection; and (4) filing a collection case in court.

On the foregoing considerations, respondent Court of Appeals held that

petitioner did not satisfy the requirements of “worthlessness of a debt” as to
the thirteen (13) accounts disallowed as deductions.
16. Atlas Consolidated Mining vs. Commissioner

L-26911; dated 27January 1981; 102 SCRA 246

FACTS: This tax case (CTA No. 1312) arose from the 1957 and 1958
deficiency income tax assessments made by to Atlas. It is a corporation
engaged in the mining industry registered under the laws of the Philippines.

For the year 1957, it was the opinion of the Commissioner that Atlas is not
entitled to exemption from the income tax under Section 4 of Republic Act
909 because same covers only gold mines.

For the year 1958, the assessment of deficiency income tax of P761,789.12
covers the disallowance of items claimed by Atlas as deductible from gross
income. On October 9, 1962, Atlas protested the assessment asking for its
reconsideration.

The Secretary of Finance ruled that the exemption provided in Republic Act
909 embraces all new mines and old mines whether gold or other minerals.
Accordingly, the Commissioner recomputed Atlas deficiency income tax
liabilities. Thus, eliminating the assessment of P546,295.16 for the year
1957. The Commissioner’s assessment for 1958 was reduced from
P215,493.96 to P39,646.82 from which Atlas appealed to the Court of Tax
Appeals, assailing the disallowance of the following items claimed as
deductible from its gross income: Transfer agent’s fee, Stockholders relation
service fee, U.S. stock listing expenses, Suit expenses, Provision for
contingencies.

Atlas appealed only that portion of the Court of Tax Appeals’ decision
disallowing the deduction from gross income of the so-called stockholders
relation service fee. Atlas claimed that it was paid for services of a public
relations firm, P.K. Macker & Co., a reputable public relations consultant in
New York City, U.S.A., hence, an ordinary and necessary business expense
in order “to compete with other corporations also interested in the
investment market in the United States.”

ISSUE: Are expenses paid for the services rendered by a public relations
firm P.K. Macker & Co. labelled as stockholders relation service fee an
allowable deduction as business expense under Section 30 (a) (1) of the
National Internal Revenue Code?

HELD: The statutory test of deductibility where it is axiomatic that to be

deductible as a business expense, three conditions are imposed, namely: (1)
the expense must be ordinary and necessary, (2) it must be paid or incurred
within the taxable year, and (3) it must be paid or incurred in carrying in a
trade or business. In addition, not only must the taxpayer meet the business
test, he must substantially prove by evidence or records the deductions
claimed under the law, otherwise, the same will
be disallowed.

The mere allegation of the taxpayer that an item of expense is ordinary and
necessary does not justify its deduction. The Court has never attempted to
define with precision the terms “ordinary and necessary.” There are
however, certain guiding principles worthy of serious consideration in the
proper adjudication of conflicting claims. Ordinarily, an expense will be
considered “necessary” where the expenditure is appropriate and helpful in
the development of the taxpayer’s business.

It is “ordinary” when it connotes a payment which is normal in relation to

the business of the taxpayer and the surrounding circumstances. The term
“ordinary” does not require that the payments be habitual or normal in the
sense that the same taxpayer will have to make them often; the payment
may be unique or nonrecurring to the particular taxpayer affected.
There is thus no hard and fast rule on the matter. The right to a deduction
depends in each case on the particular facts and the relation of the payment
to the type of business in which the taxpayer is engaged. The intention of
the taxpayer often may be the controlling fact in making the determination.

Assuming that the expenditure is ordinary and necessary in the operation of

the taxpayer’s business, the answer to the question as to whether the
expenditure is an allowable deduction as a business expense must be
determined from the nature of the expenditure itself, which in turn depends
on the extent and permanency of the work accomplished by the expenditure.

It appears that on December 27, 1957, Atlas increased its capital stock from
P15,000,000 to P18,325,000. It was claimed by Atlas that its shares of stock
worth P3,325,000 were sold in the United States because of the services
rendered by the public relations firm, P. K. Macker & Company. The Court of
Tax Appeals ruled that the information about Atlas given out and played up
in the mass communication media resulted in full subscription of the
additional shares issued by Atlas; consequently, the questioned item,
stockholders relation service fee, was in effect spent for the
acquisition of additional capital, ergo, a capital expenditure. We
sustain the ruling of the tax court that the expenditure of P25,523.14 paid to
P.K. Macker & Co. as compensation for services carrying on the selling
campaign in an effort to sell Atlas’ additional capital stock of P3,325,000 is
not an ordinary expense.

That the expense in question was incurred to create a favorable image of the
corporation in order to gain or maintain the public’s and its stockholders’
patronage, does not make it deductible as business expense. As held in the
case of Welch vs. Helvering, efforts to establish reputation are akin to
acquisition of capital assets and, therefore, expenses related thereto are not
business expense but capital expenditures.