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LAW ON TAXATION

2014 GOLDEN NOTES


UNIVERSITY OF SANTO TOMAS
FACULTY OF CIVIL LAW
MANILA
Academics Committee Faculty
of Civil Law University of Santo
Tomas España, Manila 1008

All Rights Reserved by the Academics Committee of the Faculty of Civil Law of the Pontifical
and Royal University of Santo Tomas, the Catholic University of the Philippines.

2014 Edition

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No.

Printed in the Philippines, June 2014.


ACADEMIC YEAR 2014-­‐2015

CIVIL LAW STUDENT COUNCIL


VICTOR LORENZO L. VILLANUEVA PRESIDENT
GLORIA ANASTASHA T. LASAM VICE PRESIDENT INTERNAL
JOHN ROBIN G. RAMOS TREASURER
RAE GENEVIEVE L. ACOSTA AUDITOR
RAFAEL LORENZ S. SANTOS CHIEF-­‐OF-­‐STAFF

TEAM: BAR-­‐OPS
VANESSA ANNE VIRAY CHAIRPERSON
ERIKA PINEDA HEAD, DOCUMENTATIONS & BAR REQUIREMENTS
JOHN LESTER TAN ASST. HEAD, DOCUMENTATIONS & BAR REQUIREMENTS
HAZEL NAVAREZ HEAD, HOTEL ACCOMODATIONS COMMITTEE
HANNAH QUIAMBAO ASST. HEAD, HOTEL ACCOMMODATIONS COMMITTEE
JULIA THERESE MAGARRO ASST. HEAD, HOTEL ACCOMMODATIONS COMMITTEE
RAFAEL LORENZ SANTOS HEAD, FINANCE COMMITTEE
DEXTER SUYAT ASST. HEAD, FINANCE COMMMITTEE
AL MAYO PAGLINAWAN HEAD, LOGISTICS COMMITTEE
ALBERTO VERNON VELASCO ASST. HEAD, LOGISTICS COMMITTEE
KEVIN TIMOTHY PILE ASST. HEAD, LOGISTICS COMMITTEE
JEAN PEROLA HEAD, PUBLIC RELATIONS
PATRICIA LACUESTA ASST. HEAD, PUBLIC RELATIONS
REINALD VILLARAZA ASST. HEAD, PUBLIC RELATIONS

ATTY. AL CONRAD B. ESPALDON


ADVISER
ACADEMICS COMMITTEE
MARY GRACE L. JAVIER
JAMES BRYAN V. ESTELEYDES EXECUTIVE COMMITTEE
MA. SALVE AURE M. CARILLO

WILLIAM RUSSEL S. MALANG SECRETARY GENERAL

KAREN T. ELNAS ADMINISTRATION AND FINANCE


RAFAEL LORENZ SANTOS LAYOUT AND DESIGN
VICTOR LORENZO L. VILLANUEVA

TAXATION LAW COMMITTEE


RONN ROBBY D. ROSALES TAXATION LAW COMMITTEE HEAD
JOANNA CHRISTINE C. ABAÑO TAXATION LAW, ASST. HEAD
KARLA MAE V. TUMARU MEMBER
JEREMIAH A. VITO MEMBER
MARIANE B. TINGCHUY MEMBER
KARL T. CABILI MEMBER
ALEJANDRO R. DE LEON MEMBER
MARIA CECILIA LOURDES R. PILOTIN MEMBER
DARDECS N. VILLANUEVA MEMBER
CAROLINE ONG MEMBER

ATTY. NOEL M. ORTEGA


ADVISER
FACULTY OF CIVIL LAW
UNIVERSITY OF SANTO TOMAS

ACADEMIC OFFICIALS

ATTY. NILO T. DIVINA REV. FR. ISIDRO C. ABAÑO, O.P.


DEAN REGENT

ATTY. ARTHUR B. CAPILI


FACULTY SECRETARY

ATTY. ELGIN MICHAEL C. PEREZ


LEGAL COUNSEL
UST CHIEF JUSTICE ROBERTO CONCEPCION LEGAL AID CLINIC

JUDGE PHILIP A. AGUINALDO


SWDB COORDINATOR

LENY G. GADANIA, R.G.C.


GUIDANCE COUNSELOR
COVERAGE
LAW ON TAXATION
2014 BAR EXAMINATIONS

I. General Principles of Taxation 1

A. Definition and concept of taxation 1

B. Nature of taxation 1

C. Characteristics of taxation 2

D. Power of taxation compared with other powers 3


1. Police power 3
2. Power of eminent domain 3

E. Purpose of taxation 3
1. Revenue--‐ raising 3
2. Non--‐ revenue/special or regulatory 3

F. Principles of sound tax system 4


1. Fiscal adequacy 4
2. Administrative feasibility 4
3. Theoretical justice 4

G. Theory and basis of taxation 4


1. Lifeblood theory 4
2. Necessity theory 5
3. Benefits--‐ protection theory (Symbiotic relationship) 5
4. Jurisdiction over subject and objects

H. Doctrines in taxation 5
1. Prospectivity of tax laws 5
2. Imprescriptibility 5
3. Double taxation 6
a. Strict sense 6
b. Broad sense 6
c. Constitutionality of double taxation 6
d. Modes of eliminating double taxation 6
4. Escape from taxation 7
a. Shifting of tax burden 8
i. Ways of shifting the tax burden 8
ii. Taxes that can be shifted 8
iii. Meaning of impact and incidence of taxation 8
b. Tax avoidance 8
c. Tax evasion 8
5. Exemption from taxation 9
a. Meaning of exemption from taxation 9
b. Nature of tax exemption 9
c. Kinds of tax exemption 9
i. Express
ii. Implied
iii. Contractual
d. Rationale/grounds for exemption 9
e. Revocation of tax exemption 10
6. Compensation and set--‐ off 10
7. Compromise 10
8. Tax amnesty 11
a. Definition 11
b. Distinguished from tax exemption 11
9. Construction and interpretation of: 11

a. Tax laws 11
i. General rule
ii. Exception
b. Tax exemption and exclusion 12
i. General rule
ii. Exception
c. Tax rules and regulations 12
i. General rule only
d. Penal provisions of tax laws 12
e. Non--‐ retroactive application to taxpayers 12
i. Exceptions
I. Scope and Limitation of Taxation 12
1. Inherent Limitations 13
a. Public purpose 13
b. Inherently legislative 14
i. General rule 14
ii. Exceptions 14
a) Delegation to local governments 14
b) Delegation to the President 14
c) Delegation to administrative agencies 14
c. Territorial 15
i. Situs of Taxation 15
a) Meaning 15
b) Situs of Income Tax 15
(1) From sources within the Philippines
(2) From sources without the Philippines
(3) Income partly within and partly without the Philippines
c) Situs of Property Taxes 15
(1) Taxes on Real Property
(2) Taxes on Personal Property
d) Situs of Excise Tax 16
(1) Excise Tax
(2) Donor’s Tax
e) Situs of Business Tax 16
(1) Sale of Real Property
(2) Sale of Personal Property
(3) Value--‐ Added Tax (VAT)
d. International Comity 17
e. Exemption of government entities, agencies and instrumentalities 17
2. Constitutional Limitations 18
a. Provisions directly affecting taxation 18
i. Prohibition against imprisonment for non--‐ payment of poll tax 18
ii. Uniformity and equality of taxation 18
iii. Grant by Congress of authority to the president to impose tariff rates 19
iv. Prohibition against taxation of religious, charitable entities, and educational entities 19
v. Prohibition against taxation of non--‐ stock, non--‐ profit institutions 21
vi. Majority vote of Congress for grant of tax exemption 21
vii. Prohibition on use of tax levied for special purpose 22
viii. President’s veto power on appropriation, revenue, tariff bills 22
ix. Non--‐ impairment of jurisdiction of the Supreme Court 22
x. Grant of power to the local government units to create its own sources of revenue 22
xi. Flexible tariff clause 22
xii. Exemption from real property taxes 22
xiii. No appropriation or use of public money for religious purposes 22
b. Provisions indirectly affecting taxation 23
i. Due process 23
ii. Equal protection 24
iii. Religious freedom 25
iv. Non--‐ impairment of obligations of contracts 25

J. Stages of taxation 26
1. Levy 26
2. Assessment and collection 26
3. Payment 27
4. Refund 27

K. Definition, nature, and characteristics of taxes 27

L. Requisites of a valid tax 27

M. Tax as distinguished from other forms of exactions 27


1. Tariff 27
2. Toll 28
3. License fee 28
4. Special assessment 28
5. Debt 28

N. Kinds of taxes 29
1. As to object 29
a. Personal, capitation, or poll tax
b. Property tax
c. Privilege tax
2. As to burden or incidence 29
a. Direct
b. Indirect
3. As to tax rates 29
a. Specific
b. Ad valorem
c. Mixed
4. As to purposes 29
a. General or fiscal
b. Special, regulatory, or sumptuary
5. As to scope or authority to impose 29
a. National – internal revenue taxes
b. Local – real property tax, municipal tax
6. As to graduation 29
a. Progressive
b. Regressive
c. Proportionate
II. National Internal Revenue Code (NIRC) of 1997, as amended 30

A. Income Taxation 30
1. Income Tax systems 30
a. Global tax system 30
b. Schedular tax system 30
c. Semi--‐ schedular or semi--‐ global tax system 30
2. Features of the Philippine income tax law 30
a. Direct tax 30
b. Progressive 30
c. Comprehensive 30
d. Semi--‐ schedular or semi--‐ global tax system 30
3. Criteria in imposing Philippine income tax 30
a. Citizenship principle 30
b. Residence principle 30
c. Source principle 30
4. Types of Philippine income tax 30
5. Taxable period 30
a. Calendar period 31
b. Fiscal period 31
c. Short period 31
6. Kinds of taxpayers 31
a. Individual taxpayers 31
i. Citizens 31
a) Resident citizens
b) Non--‐ resident citizens
ii. Aliens 32
a) Resident aliens 32
b) Non--‐ resident aliens 32
(1) Engaged in trade or business
(2) Not engaged in trade or business
iii. Special class of individual employees 32
a) Minimum wage earner
b. Corporations 32
i. Domestic corporations 32
ii. Foreign corporations 32
a) Resident foreign corporations
b) Non--‐ resident foreign corporations
iii. Joint venture and consortium 32
c. Partnerships 33
d. General professional partnerships 33
e. Estates and trusts 34
f. Co--‐ ownerships 35
7. Income taxation 36
a. Definition 36
b. Nature 36
c. General principles 36
8. Income 36
a. Definition
b. Nature
c. When income is taxable 37
i. Existence of income 37
ii. Realization of income 37
a) Tests of realization
b) Actual vis--‐ à--‐ vis constructive receipt 38
iii. Recognition of income 38
iv. Methods of accounting 38
a) Cash method vis--‐ à--‐ vis accrual method 38
b) Installment payment vis--‐ à--‐ vis deferred payment vis--‐ à--‐ vis percentage 38
Completion (in long term contracts
d. Tests in determining whether income is earned for tax purposes 39
i. Realization test 39
ii. Claim of right doctrine or doctrine of ownership, comman, or control 39
iii. Economic benefit test, doctrine of proprietary interest 39
iv. Severance test 39
v. All events test 39
9. Gross Income 39
a. Definition 39
b. Concept of income from whatever source derived 39
c. Gross income vis--‐ à--‐ vis net income vis--‐ à--‐ vis taxable income 40
d. Classification of income as to source 42
i. Gross income and taxable income from sources within the Philippines
ii. Gross income and taxable income from sources without the Philippines
iii. Income partly within or partly without the Philippines
e. Sources of income subject to tax 42
f. Compensation income 42
g. Fringe benefits 42
h. Special treatment of fringe benefits 42
a) Definition
b) Taxable and non--‐ taxable fringe benefits 43

i. Professional income 43
ii. Income from business 43
iii. Income from dealings in property 43
iv. Types of properties 43
(1) Ordinary assets 44
(2) Capital assets 44
a) Types of gains from dealings in property 45
(1) Ordinary income vis--‐ à--‐ vis capital gain 45
(2) Actual gain vis--‐ à--‐ vis presumed gain 45
(3) Long term capital gain vis--‐ à--‐ vis short--‐ term capital gain 45
(4) Net capital gain, net capital loss 45
(5) Computation of the amount of gain or loss 46
(6) Income tax treatment of capital loss 47
(a) Capital loss limitation rule (applicable to both
corporations and individuals 47
(b) Net loss carry--‐ over rule (applicable only to
Individuals 47
(7) Dealings in real property situated in the Philippines 48
(8) Dealings in shares of stock of Philippine corporations 49
(a) Shares traded in the stock exchange 49
(b) Shares not listed and traded in the stock exchange 49
(9) Sale of principal residence 50
v. Passive income 51
a) Interest income 52
b) Dividend income 53
(1) Cash dividend 53
(2) Stock dividend 53
(3) Property dividend 54
(4) Liquidating dividend 54
c) Royalty income 54
d) Rental income 55
(1) Lease of personal property 55
(2) Lease of real property 55
(3) Tax treatment of 55
(a) Leasehold improvements by lessee 56
(b) VAT added to rental/paid by the lessee 56
(c) Advance rental/long term lease 56
vi. Annuities, proceeds from life insurance or other types of insurance 57
vii. Prizes and awards 58
viii. Pensions, retirement benefit, or separation pay 58
ix. Income from any source whatever 58
a) Forgiveness of indebtedness 58
b) Recovery of accounts previously written--‐ off – when taxable 59
/ when not taxable 59
c) Receipt of tax refunds or credit 59
d) Income from any source whatever 59
e) Source rules in determining income from within and without 60
(1) Interests 60
(2) Dividends 60
(3) Services 60
(4) Rentals 60
(5) Royalties 60
(6) Sale of real property 60
(7) Sale of personal property 60
(8) Shares of stock of domestic corporation 60
f) Situs of income taxation 60
g) Exclusions from gross income 60
(1) Rationale for the exclusions 60
(2) Taxpayers who may avail of the exclusions 60
(3) Exclusions distinguished from deductions and tax credit 61
(4) Under the Constitution 61
(a) Income derived by the government or its political 61
subdivisions from the exercise of any essential governmental function
(5) Under the Tax Code 61
(a) Proceeds of life insurance policies 61
(b) Return of premium paid 62
(c) Amounts received under life insurance, endowment or annuity contracts 63
(d) Value of property acquired by gift, bequest, devise or descent 63
(e) Amount received through accident or health insurance 64
(f) Income exempt under tax treaty 65
(g) Retirement benefits, pensions, gratuities, etc. 65
(h) Winnings, prizes, and awards, including those in sports competition 68
(6) Under special laws 68
(a) Personal Equity and Retirement Account 69
h) Deductions from gross income 69
(1) General rules 70
(a) Deductions must be paid or incurred in connection 71
with the taxpayer’s trade, business or profession
(b) Deductions must be supported by adequate receipts
or invoices (except standard deduction)
(c) Additional requirement relating to withholding
(2) Return of capital (cost of sales or services) 71
(a) Sale of inventory of goods by manufacturers and dealers of properties
(b) Sale of stock in trade by a real estate dealer and dealer in securities
(c) Sale of services
(3) Itemized deductions 72
(a) Expenses
1. Requisites for deductibility 72
a. Nature: ordinary and necessary
b. Paid and incurred during taxable year
2. Salaries, wages and other forms of compensation for 73
personal services actually rendered, including the
grossed--‐ up monetary value of the fringe benefit subjected
to fringe benefit tax which tax should have been paid
3. Travelling / transportation expenses 74
4. Cost of materials 74
5. Rentals and/or other payments for use or possession of property 75
6. Repairs and maintenance 75
7. Expenses under lease agreements 75
8. Expenses for professionals 75
9. Entertainment / representation expenses 75
10. Political campaign expenses 76
11. Training expenses 76
(b) Interest 77
1. Requisites for deductibility 77
2. Non--‐ deductible interest expense 77
3. Interest subject to special rules 77
a. Interest paid in advance 77
b. Interest periodically amortized 78
c. Interest expense incurred to acquire property for use in 78
trade / business / profession
d. Reduction of interest expense / interest arbitrage 78
(c) Taxes 78
(d) Requisites for deductibility 78
1. Non--‐ deductible taxes 78
2. Treatments of surcharges / interest / fines for delinquency 78
3. Treatment of special assessment 78
4. Tax credit vis--‐ à--‐ vis deduction 78
(e) Losses 79
1. Requisites for deductibility 79
2. Other types of losses
a. Capital losses 80
b. Securities becoming worthless 80
c. Losses on wash sales of stocks or securities 80
d. Wagering losses 80
e. Net Operating Loss Carry--‐ Over (NOLCO) 80
(f) Bad debts 80
1. Requisites for deductibility 81
2. Effect of recovery of bad debts 81
(g) Depreciation 81
1. Requisites for deductibility 82
2. Methods of computing depreciation allowance 82
a. Straight--‐ line method
b. Declining--‐ balance method
c. Sum--‐ of--‐ the--‐ years method
(h) Charitable and other contributions 83
1. Requisites for deductibility 83
2. Amount that may be deducted 83
(i) Contributions to pension trusts 85
1. Requisites for deductibility
(4) Optional standard deduction 85
(a) Individuals, except non--‐ resident aliens
(b) Corporations, except non--‐ resident foreign corporations
(c) Partnerships
(5) Personal and additional exemption (R.A. No. 9504, Minimum Wage Earner Law) 87
(a) Basic personal exemptions 87
(b) Additional exemptions for taxpayer with dependents 87
(c) Status--‐ at--‐ the--‐ end--‐ of--‐ the--‐ year rule 88
(d) Exemptions claimed by non--‐ resident aliens 89
(6) Items not deductible 90
(a) General rules 90
(b) Personal, living or family expenses 90
(c) Amount paid for new buildings or for permanent improvements 90
(capital expenditures)
(d) Amount expended in restoring property (major repairs) 90
(e) Premiums paid on life insurance policy covering life or any 90
other officer or employee financially interested
(f) Interest expense, bad debts, and losses from sales of property
between related parties 90
(g) Losses from sales or exchange or property 90
(h) Non--‐ deductible interest 90
(i) Non–deductible taxes 90
(j) Non--‐ deductible losses 90
(k) Losses from wash sales of stock or securities 90
(7) Exempt corporations 90
(a) Propriety educational institutions and hospitals 90
(b) Government--‐ owned or controlled corporations 90
(c) Others 90
10. Taxation of resident citizens, non-­‐resident citizens, and resident aliens 90
a. General rule that resident citizens are taxable on income from all sources within
and withoutthe Philippines
i. Non--‐ resident citizens
b. Taxation on compensation income 91
i. Inclusions 91
a) Monetary compensation 91
(1) Regular salary / wage
(2) Separation pay / retirement benefit not otherwise exempt
(3) Bonuses, 13th month pay, and other benefits not exempt
(4) Director’s fees
b) Non--‐ monetary compensation 91
(1) Fringe benefit not subject to tax
ii. Exclusions 92
a) Fringe benefit subject to tax
b) De minimis benefits
c) 13th month pay and other benefits, and payments specifically exclusded from taxable
compensation income
iii. Deductions 100
a) Personal exemptions and additional exemptions 100
b) Health and hospitalization insurance 100
c) Taxation of compensation income of a minimum wage earner 100
(1) Definition of statutory minimum wage 100
(2) Definition of minimum wage earner 100
(3) Income also subject to tax exemption: holiday pay, overtime 100
pay, night--‐ shift differential, and hazard pay 100
c. Taxation of business income/income from practice of profession 101
d. Taxation of passive income 101
i. Passive income subject to final tax
a) Interest income
1. Treatment of income from long--‐ term deposits
b) Royalties
c) Dividends from domestic corporations
d) Prizes and other winnings
ii. Passive income not subject to final tax
e. Taxation of capital gains 101
i. Income from sale of shares of stock of a Philippine corporation
a) Shares traded and listed in the stock exchange
b) Shares not listed and traded in the stock exchange
ii. Income from the sale of real property situated in the Philippines
iii. Income from the sale, exchange, or other disposition of other capital assets
11. Taxation of non-­‐resident aliens engaged in trade or business 101
a. General rules 101
b. Cash and/or property dividends 101
c. Capital gains 101
Exclude: non-­‐resident aliens not engaged in trade or business
12. Individual taxpayers exempt from income tax 101
a. Senior citizens 101
b. Minimum wage earners 101
c. Exemptions granted under international agreements
13. Taxation of domestic corporations 103
a. Tax payable 104
i. Regular tax 104
ii. Minimum Corporate Income Tax (MCIT) 105
a) Imposition of MCIT 106
b) Carry forward of excess minimum tax 106
c) Relief from the MCIT under certain conditions 107
d) Corporations exempt from the MCIT 107
e) Applicability of the MCIT where a corporation is governed both 107
under the regular tax system and a special income tax system
b. Allowable deductions 107
i. Itemized deductions 107
ii. Optional standard deduction 108
c. Taxation of passive income 109
i. Passive income subject to tax 109
a) Interest from deposits and yield, or any other monetary benefit from
deposit substitutes and from trust funds and similar arrangements and royalties 109
b) Capital gains from the sale of shares of stock not traded in the stockexchange 111
c) Income derived under the expanded foreign currency deposit system 111
d) Inter--‐ corporate dividends 111
e) Capital gains realized from the sale, exchange, or disposition of lands and/or buildings 112
ii.Passive income not subject to tax 112
d. Taxation of capital gains 112
i. Income from sale of shares of stock 112
ii. Income from the sale of real property situated in the Philippines 112
iii. Income from the sale, exchange, or other disposition of other capital assets 112
e. Tax on proprietary educational institutions and hospitals 112
f. Tax on government-­‐owned or controlled corporations, agencies or instrumentalities 114
14. Taxation of resident foreign corporations 114
a. General rule 114
b. With respect to their income from sources within the Philippines 114
c. Minimum Corporate Income Tax 114
d. Tax on certain income 115
i. Interest from deposits and yield, or any other monetary benefit from deposit 115
substitutes, trust funds and similar arrangements and royalties 115
ii. Income derived under the expanded foreign currency deposit system 115
iii. Capital gains from sale of shares of stock not traded in the stock exchange 115
iv. Inter--‐ corporate dividends 115
Exclude
i. International carrier
ii. Offshore banking units
iii. Branch profits remittances
iv. Regional or area headquarters and regional operating headquarters of multinational companies
15. Taxation of non-­‐resident foreign corporations 115
a. General rule 116
b. Tax on certain income 116
i. Interest on foreign loans 116
ii. Inter--‐ corporate dividends 116
iii. Capital gains from sale of shares of stock not traded in the stock exchange 116
Exclude
i. Non-­‐resident cinematographic film-­‐owner, lessor or distributor
ii. Non-­‐resident owner or lessor of vessels chartered by Philippine nationals
iii. Non-­‐resident owner or lessor of aircraft machineries and other equipment
16. Improperly accumulated earnings of corporations 118
17. Exemption from tax on corporations 118
18. Taxation of partnerships 119
19. Taxation of general professional partnerships 122
20. Withholding tax 122
a. Concept 122
b. Kinds 122
i. Withholding of final tax on certain incomes
ii. Withholding of creditable tax at source
c. Withholding of VAT 123
d. Filing of return and payment of taxes withheld 124
i. Return and payment in case of government employees
ii. Statements and returns
e. Final withholding tax at source 125
f. Creditable withholding tax 127
i. Expanded withholding tax
ii. Withholding tax on compensation
g. Timing of withholding 130

B. Estate tax 130


1. Basic principles 132
2. Definition 133
3. Nature 133
4. Purpose or object 134
5. Time and transfer of properties 134
6. Classification of decedent 134
7. Gross estate vis-­‐à-­‐vis net estate 134
8. Determination of gross estate and net estate 135
9. Composition of gross estate 135
10. Items to be included in gross estate 136
11. Deductions from estate 141
12. Exclusions from estate 146
13. Tax credit for estate taxes paid in a foreign country 146
14. Exemption of certain acquisitions and transmissions 146
15. Filing of notice of death 147
16. Estate tax return 147

C. Donor’s tax 149


1. Basic principles 151
2. Definition 151
3. Nature 152
4. Purpose or object 152
5. Requisites of valid donation 152
6. Transfers which may be constituted as donation 153
a. Sale/exchange/transfer of property for insufficient consideration
b. Condonation/remission of debt
7. Transfer for less than adequate and full consideration
8. Classification of donor 153
9. Determination of gross gift 153
10. Composition of gross gift 154
11. Valuation of gifts made in property 154
12. Tax credit for donor’s taxes paid in a foreign country 154
13. Exemptions of gifts from donor’s tax 154
14. Person liable 156
15. Tax basis 157

D. Value-­‐Added Tax (VAT) 156


1. Concept 156
2. Characteristics/Elements of a VAT-­‐Taxable transaction 157
3. Impact of tax 158
4. Incidence of tax 158
5. Tax credit method 158
6. Destination principle 158
7. Persons liable 158
8. VAT on sale of goods or properties 159
a. Requisites of taxability of sale of goods or properties 159
9. Zero-­‐rated sales of goods or properties, and effectively zero-­‐rated sales of 161
goods or properties
10. Transactions deemed sale 164
a. Transfer, use or consumption not in the course of business of 164
goods/properties originallyintended for sale or use in the course of business 164
b. Distribution or transfer to shareholders, investors or creditors 164
c. Consignment of goods if actual sale not made within 60 days from date of consignment
d. Retirement from or cessation of business with respect to inventories on hand 164
11. Change or cessation of status as VAT-­‐registered person 164
a. Subject to VAT 164
i. Change of business activity from VAT taxable status to VAT--‐ exempt status
ii. Approval of request for cancellation of a registration due to reversion to exempt status
iii. Approval of request for cancellation of registration due to desire to revert to exempt
status after lapse of 3 consecutive years
b. Not subject to VAT 165
i. Change of control of a corporation
ii. Change in the trade or corporate name
iii. Merger or consolidation of corporations
12. VAT on importation of goods 167
a. Transfer of goods by tax exempt persons 165
13. VAT on sale of service and use or lease of properties 165
a. Requisites for taxability 167
14. Zero-­‐rated sale of services 167
15. VAT exempt transactions 167
a. VAT exempt transactions, in general 167
b. Exempt transaction, enumerated 169
16. Input tax and output tax, defined 172
17. Sources of input tax 173
a. Purchase or importation of goods 173
b. Purchase of real properties for which a VAT has actually been paid 173
c. Purchase of services in which VAT has actually been paid 173
d. Transactions deemed sale 173
e. Presumptive input 173
f. Transitional input 173
18. Persons who can avail of input tax credit 174
19. Determination of output/input tax; VAT payable; excess input tax credits 174
a. Determination of output tax 174
b. Determination of input tax creditable 174
c. Allocation of input tax on mixed transactions 174
d. Determination of the output tax and VAT payable and computation of VAT
payable or excess tax credits 175
20. Substantiation of input tax credits 175
21. Refund or tax credit of excess input tax 175
a. Who may claim for refund/apply for issuance of tax credit certificate 175
b. Period to file claim/apply for issuance of tax credit certificate 176
c. Manner of giving refund 176
d. Destination principle or cross-­‐border doctrine 177
22. Invoicing requirements 177
a. Invoicing requirements in general 177
b. Invoicing and recording deemed sale transactions 178
c. Consequences of issuing erroneous VAT invoice or VAT official receipt 178
23. Filing of return and payment 178
24. Withholding of final VAT on sales to government 178

E. Tax remedies under the NIRC 180


1. Taxpayer’s remedies 180
a. Assessment 180
i. Concept of assessment 180
a) Requisites for valid assessment 181
b) Constructive methods of income determination 181
c) Inventory method for income determination 182
d) Jeopardy assessment 182
e) Tax delinquency and tax deficiency 183
ii. Power of the Commissioner to make assessments and prescribe additional 183
requirements for tax administration and enforcement
a) Power of the Commissioner to obtain information, and tosummon/
examine, and take testimony of persons 185
iii. When assessment is made 185
a) Prescriptive period for assessment 185
1. False, fraudulent, and non--‐ filing of returns
b) Suspension of running of statute of limitations 188
iv. General provisions on additions to the tax 189
a) Civil penalties 189
b) Interest 189
c) Compromise penalties 190
v. Assessment process 190
a) Tax audit 190
b) Notice of informal conference 190
c) Issuance of preliminary assessment notice 191
d) Notice of informal conference 191
e) Issuance of preliminary assessment notice 191
f) Exceptions to issuance of preliminary assessment notice 191
g) Reply to preliminary assessment notice 192
h) Issuance of formal letter of demand and assessment notice/final assessment notice
i) Disputed assessment 192
j) Administrative decision on a disputed assessment 193
vi. Protesting assessment 193
a) Protest of assessment by taxpayer 193
(1) Protested assessment 194
(2) When to file a protest 194
(3) Forms of protest 194
(1) Content and validity of protest 194
b) Submission of documents within 60 days from filing of protest 194
c) Effect of failure to protest 194
d) Period provided for the protest to be acted upon
vii. Rendition of decision by Commissioner 195
a) Denial of protest 195
(1) Commissioner’s actions equivalent to denial of protest
(a) Filing of criminal action against taxpayer
(b) Issuing a warrant of distraint and levy
(2) Inaction by Commissioner
viii. Remedies of taxpayer to action by Commissioner 195
a) In case of denial of protest 195
b) In case of inaction by Commissioner within 180 days from submission of documents 195
c) Effect of failure to appeal 195
b. Collection 195
i. Requisites 196
ii. Prescriptive periods 196
iii. Distraint of personal property including garnishment 196
a) Summary remedy of distraint of personal property 197
(1) Purchase by the government at sale upon distraint 198
(2) Report of sale to the Bureau of Internal Revenue (BIR) 198
(3) Constructive distraint to protect the interest of the government 198
iv. Summary remedy of levy on real property 198
a) Advertisement and sale 199
b) Redemption of property sold 199
c) Final deed of purchaser 199
v. Forfeiture to government for want of bidder 199
a) Remedy of enforcement of forfeitures 200
(1) Action to contest forfeiture of chattel 200
b) Resale of real estate taken for taxes 200
c) When property to be sold or destroyed 200
d) Disposition of funds recovered in legal proceedings or obtained fromforfeiture 201
vi. Further distraint or levy 201
vii. Tax lien 201
viii. Compromise 201
a) Authority of the Commissioner to compromise and abate taxes 201
ix. Civil and criminal actions 203
a) Suit to recover tax based on false or fraudulent returns 204
c. Refund 204
i. Grounds and requisites for refund 204
ii. Requirements for refund as laid down by cases 205
a) Necessity of written claim for refund
b) Claim containing a categorical demand for reimbursement
c) Filing of administrative claim for refund and the suit/proceeding before the CTA
within 2 years from date of payment regardless of any supervening
cause
iii. Legal basis of tax refunds 205
iv. Statutory basis for tax refund under the tax code 205
a) Scope of claims for refund 206
b) Necessity of proof for claim or refund 207
c) Burden of proof for claim of refund 207
d) Nature of erroneously--‐ paid tax/illegally assessed collected 207
e) Tax refund vis--‐ à--‐ vis tax credit 207
f) Essential requisites for claim of refund
v. Who may claim/apply for tax refund/tax credit 208
a) Taxpayer/withholding agents of non--‐ resident foreign corporation
vi. Prescriptive period for recovery of tax erroneously or illegally collected 209
vii. Other consideration affecting tax refunds 210
2. Taxpayer’s remedies
a. Administrative remedies 211
i. Tax lien
ii. Levy and sale of real property 212
iii. Forfeiture of real property to the government for want of bidder 213
iv. Further distraint and levy 213
v. Suspension of business operation 213
vi. Non--‐ availability of injunction to restrain collection of tax 213
b. Judicial remedies 214
3. Statutory offenses and penalties 216
a. Civil penalties 216
i. Surcharge 216
ii. Interest 217
a) In general 217
b) Deficiency interest 217
c) Delinquency interest 217
d) Interest on extended payment 218
4. Compromise and abatement of taxes 218
a. Compromise 218
b. Abatement 220

F. Organization and Function of the Bureau of Internal Revenue 222


1. Rule-­‐making authority of the Secretary of Finance 223
a. Authority of Secretary of Finance to promulgate rules and regulations 223
b. Specific provisions to be contained in rules and regulations 223
c. Non-­‐retroactivity of rulings 224
2. Power of the Commissioner to suspend the business operation of a taxpayer 224

III. Local Government Code of 1991, as amended 225

A. Local government taxation 225


1. Fundamental principles 225
2. Nature and source of taxing power 225
a. Grant of local taxing power under the local government code 225
b. Authority to prescribe penalties for tax violations 226
c. Authority to grant local tax exemptions 226
d. Withdrawal of exemptions 227
e. Authority to adjust local tax rates 228
f. Residual taxing power of local governments 228
g. Authority to issue local tax ordinances 228
3. Local taxing authority 231
a. Power to create revenues exercised through Local Government Units 228
b. Procedure for approval and effectivity of tax ordinances 229
4. Scope of taxing power 229
5. Specific taxing power of Local Government Units 229
a. Taxing powers of provinces 229
i. Tax on transfer of real property ownership
ii. Tax on business of printing and publication
iii. Franchise tax
iv. Tax on sand, gravel and other quarry services
v. Professional tax
vi. Amusement tax
vii. Tax on delivery truck/van
b. Taxing powers of cities 233
c. Taxing powers of municipalities 234
i. Tax on various types of businesses
ii. Ceiling on business tax impossible on municipalities within Metro Manila
iii. Tax on retirement on business
iv. Rules on payment of business tax
v. Fees and charges for regulation & licensing
vi. Situs of tax collected
d. Taxing powers of barangays 238
e. Common revenue raising powers 238
i. Service fees and charges
ii. Public utility charges
iii. Toll fees or charges
f. Community tax 239
6. Common limitations on the taxing powers of LGUs 240
7. Collection of business tax 241
a. Tax period and manner of payment 241
b. Accrual of tax 242
c. Time of payment 242
d. Penalties on unpaid taxes, fees or charges 242
e. Authority of treasurer in collection and inspection of books 242
8. Taxpayer’s remedies 242
a. Periods of assessment and collection of local taxes, fees or charges 243
b. Protest of assessment 244
c. Claim for refund of tax credit for erroneously or illegally collected tax, fee or charge 244
9. Civil remedies by the LGU for collection of revenues 245
a. Local government’s lien for delinquent taxes, fees or charges 245
b. Civil remedies, in general 246
i. Administrative action
ii. Judicial action 248

B. Real property taxation 250


1. Fundamental principles 250
2. Nature of real property tax 250
3. Imposition of real property tax 250
a. Power to levy real property tax 250
b. Exemption from real property tax 252
4. Appraisal and assessment of real property tax 253
a. Rule on appraisal of real property at fair market value 254
b. Declaration of real property 255
c. Listing of real property in assessment rolls 255
d. Preparation of schedules of fair market value 255
i. Authority of assessor to take evidence 256
ii. Amendment of schedule of fair market value 256
e. Classes of real property 256
f. Actual use of property as basis of assessment 256
g. Assessment of real property 257
i. Assessment levels 257
ii. General revisions of assessments and property classification 257
iii. Date of effectivity of assessment or reassessment 257
iv. Assessment of property subject to back taxes 257
v. Notification of new or revised assessment 258
h. Appraisal and assessment of machinery 258
5. Collection of real property tax 258
a. Date of accrual of real property tax and special levies 258
b. Collection of tax 258
i. Collecting authority 258
ii. Duty of assessor to furnish local treasurer with assessment rolls 258
iii. Notice of time for collection of tax 258
c. Periods within which to collect real property tax 259
d. Special rules on payment 259
i. Payment of real property tax in installments 259
ii. Interests on unpaid real property tax 259
iii. Condonation of real property tax 259
e. Remedies of LGUs for collection of real property tax 260
i. Issuance of notice of delinquency for real property tax payment 260
ii. Local government’s lien 260
iii. Remedies in general 260
iv. Resale of real estate taken for taxes, fees or charges 261
v. Further levy until full payment of amount due 261
6. Refund or credit of real property tax 261
a. Payment under protest 262
b. Repayment of excessive collections
7. Taxpayer’s remedies 264
a. Contesting an assessment of value of real property 264
i. Appeal to the Local Board of Assessment Appeals 264
ii. Appeal to the Central Board of Assessment Appeals 264
iii. Effect of payment of tax 265
b. Payment of real property tax under protest 265
i. File protest with local treasurer
ii. Appeal to the Local Board of Assessment Appeals
iii. Appeal to the Central Board of Assessment Appeals
iv. Appeal to the CTA
v. Appeal to the Supreme Court

IV. Tariff and Customs Code of 1978, as amended 268

A. Tariff and duties, defined 268

B. General rule: all imported articles are subject to duty 268


1. Importation by the government taxable 268

C. Purpose for imposition

D. Flexible tariff clause 269

E. Requirements of importation 269


1. Beginning and ending of importation 269
2. Obligations of importer 269
a. Cargo manifest 269
b. Import entry 270
c. Declaration of correct weight or value 270
d. Liability for payment of duties 270
e. Liquidation of duties 270
f. Keeping of records 271

F. Importation in violation of tax credit certificate 271


1. Smuggling 271
2. Other fraudulent practices 272

G. Classification of goods 272


1. Taxable importation 273
2. Prohibited importation 273
3. Conditionally-­‐free importation 273

H. Classification of duties 277


1. Ordinary/regular duties 277
a. Ad valorem; methods of valuation
i. Transaction value 277
ii. Transaction value of identical goods 277
iii. Transaction value of similar goods 277
iv. Deductive value 277
v. Computed value 278
vi. Fallback value 278
b. Specific 278
2. Special duties 278
a. Dumping duties 279
b. Countervailing duties 279
c. Marking duties 279
d. Retaliatory/discriminatory duties 280
e. Safeguard 280

I. Remedies 281
1. Government 281
a. Administrative/extrajudicial 281
i. Search, seizure, forfeiture, arrest 281
b. Judicial 286
i. Rules on appeal including jurisdiction 286
2. Taxpayer 287
a. Protest 287
b. Abandonment 288
c. Abatement and refund 289

V. Judicial Remedies (R.A. No. 1125, as amended, and the Revised


Rules of the Court of Tax Appeals) 293

A. Jurisdiction of the Court of Tax Appeals 293


1. Exclusive appellate jurisdiction over civil tax cases
a. Cases within the jurisdiction of the court en banc 293
b. Cases within the jurisdiction of the court in divisions 294
2. Criminal cases 294
a. Exclusive original jurisdiction
b. Exclusive appellate jurisdiction in criminal cases

B. Judicial procedures 298


1. Judicial action for collection of taxes 295
a. Internal revenue taxes 295
b. Local taxes 295
i. Prescriptive period 296
2. Civil cases 296
a. Who may appeal, mode of appeal, effect of appeal 296
i. Suspension of collection of tax
a) Injunction not available to restrain collection 297
ii. Taking of evidence 298
iii. Motion for reconsideration or new trial 298
b. Appeal to the CTA, en banc 298
c. Petition for review on certiorari to the Supreme Court 298
3. Criminal cases 301
a. Institution and prosecution of criminal actions 301
i. Institution of civil action in criminal action
b. Appeal and period to appeal 302
i. Solicitor General as counsel for the people and government officials
sued in their official capacity
c. Petition for review on certiorari to the Supreme Court 302

C. Taxpayer’s suit impugning the validity of tax measures or acts of taxing authorities 302
1. Taxpayer’s suit, defined 302
2. Distinguished from citizen’s suit 302
3. Requisites for challenging the constitutionality of a tax measure or act of taxing authority 303
a. Concept of locus standi as applied in taxation
b. Doctrine of transcendental importance
c. Ripeness for judicial determination

IMPORTANT NOTES:

1. This listing of covered topics is not intended and should not be used by the law schools as a course outline. This was drawn up
for the limited purpose of ensuring that Bar candidates are guided on the coverage of the 2014 Bar Examinations.

2. All Supreme Court decisions --‐ pertinent to a given Bar subject and its listed topics, and promulgated up to March 31, 2014 -­‐
are examinable materials within the coverage of the 2014 Bar Examinations.
DISCLAIMER
GENERAL PRINCIPLES OF TAXATION
GENERAL PRINCIPLES merely constitute a limitation upon a power which would
otherwise be practically without limit. Moreover, it is inherent
DEFINTION AND CONCEPT OF TAXATION in nature being an attribute of sovereignty. There is thus, no need
for a constitutional grant for the State to exercise this power.
It is an inherent power by which the sovereign
1. Through its law--‐ making body Distinguish National Government from Local Government
2. Raises income to defray the necessary expenses of Unit as regards the exercise of power of taxation
government
3. By apportioning the cost among those who, in some 1. National Government – inherent
measure are privileged to enjoy its benefits and, 2. Local Government Unit – not inherent since it is merely
therefore, must bear its burdens. (51 Am.Jur. 34) an agency instituted by the State for the purpose of
carrying out in detail the objects of the government; can
NOTE: Simply stated, the power of taxation is the power to impose burdens only impose taxes when there is:
on subject and objects within its jurisdiction. a. Constitutionally mandated grant
b. Legislative grant, derived from the 1987
NATURE OF TAXATION Constitution, Section 5, Article X.

Nature of taxation (1996 Bar Question) Q: May the power of taxation be delegated?

The nature of the State’s power to tax is two--‐ fold. It is both A: GR: No, since it is essentially a legislative function.
an inherent and a legislative power.
This is based upon the principle that “taxes are a grant of the
It is inherent in character because its exercise is guaranteed by the people who are taxed, and the grant must be made by the
mere existence of the State. It could be exercised even in the immediate representatives of the people. And where the people
absence of a constitutional grant. The power to tax proceeds have laid the power, there it must be exercised.” (Cooley)
upon the theory that the existence of a government is a
necessity and this power is an essential and inherent attribute of XPNs:
sovereignty, belonging as a matter of right to every independent 1. To local governments in respect of matters of local
State or government (Pepsi-­‐ Cola Bottling Co. of the concern to be exercised by the local legislative bodies
Philippines V. Municipality of Tanauan, Leyte, G.R. No. L-­‐ thereof. (Sec. 5, Art. X, 1987 Constitution)
31156, February 27, 1976).
2. When allowed by the Constitution.
It is legislative in nature since it involves the promulgation of laws.
It is the Legislature which determines the coverage, object, nature, NOTE: The Congress may, by law, authorize the President to fix
extent and situs of the tax to be imposed. within specified limits, subject to such limitations and restrictions
as it may impose, tariff rates, import and export quotas, tonnage
Basis of the inherent nature of taxation and wharfage dues and other duties or imposts within the
framework of the national development program of the
government. (Sec. 28 [2], Art. VI, 1987 Constitution)
The Life--‐ blood Doctrine. “Without taxes, the government would
be paralyzed for lack of motive power to activate and operate it.
3. When the delegation relates merely to administrative
Hence, despite the natural reluctance to surrender part of
implementation that may call for some degree of
one’s earned income to the taxing authorities, every person
discretionary powers under a set of sufficient standard
who is able must contribute his share in the running of the
expressed by law (Cervantes v. Auditor General, G.R.
government.” (CIR v. Algue, G.R. No. L-­‐28896, February 17,
No. L-­‐4043, May 26, 1952) or implied from the policy and
1988).
purpose of the act (Maceda v. Macaraig, G.R. No. 88291,
June 8, 1993).
Manifestations:
1. Imposition even in the absence of constitutional grant
NOTE: Technically, this does not amount to a delegation of the
2. State’s right to select objects and subjects of taxation power to tax because the questions which should be determined
3. No injunction to enjoin collection of taxes except for a period by Congress are already answered by Congress before the tax law
of 60 days upon application to the CTA as an incident of its leaves Congress.
appellate jurisdiction.
4. Taxes could not be the subject of compensation and set--‐ off Scope of legislative power in taxation
subject to certain exceptions.
5. A valid tax may result in destruction of property. The following are the scope of legislative power in taxation:
1. The determination of: (SAP-­‐MAKS)
Q: May legislative bodies enact laws to raise revenues in a. Subjects of taxation (persons, property, occupation,
the absence of constitutional provisions granting said excises or privileges to be taxed, provided they are
body the power of tax? Explain. (2005 Bar Question) within the taxing jurisdiction)
b. Amount or Rate of tax
A: Yes. It must be noted that Constitutional provision relating
to the power of taxation do not operate as grants of the power of
taxation to the government, but instead

UNIVERSITY OFSANTOTOMA S
1 F A C U L TY O F C I V I L L A W
Law on Taxation
c. Purposes for which taxes shall be levied provided they Reconciliation of the two dicta
are public purposes
d. Method of collection The power to tax involves the power to destroy since the power
to tax includes the power to regulate even to the extent of
NOTE: This is not exclusive to Congress. prohibition or destruction, as when the power to tax is used
validly as an implement of police power in discouraging and
e. Apportionment of the tax (whether the tax shall be of prohibiting certain things or enterprises inimical to the public
general application or limited to a particular locality, or welfare.While the power to tax is so unlimited in force and so
partly general and partly local) searching in extent that the courts scarcely venture to declare
f. Kind of tax to be collected that it is subject to any restrictions whatever, it is subject to the
g. Situs of taxation inherent and constitutional limitations which are intended to
prevent abuse on the exercise of the otherwise plenary and
2. The grant tax exemptions and condonations. unlimited powers. It is the court’s role to see to it that the exercise
3. The power to specify or provide for administrative as well as of the power does not transgress these limitations.The power
judicial remedies (Philippines Petroleum Corporation v. to tax therefore, must not be exercised in an arbitrary manner.
Municipality of Pililla, G.R. No.85318, June 3, 1991). It should be exercised with caution to minimize injury to
proprietary rights of a taxpayer. It must be exercised fairly, equally
Q: In order to raise revenue for the repair and and uniformly, lest the tax collector kill the hen that lays the golden
maintenance of the newly constructed City Hall of Makati, egg. (Roxas et. al vs. CTA et. al, L-­‐25043, April 26, 1968)
the City Mayor ordered the collection of P1.00, called
“elevator tax”, every time a person rides any of the high-­‐ Taxpayers may seek redress before the courts in case of illegal
tech elevators in the City Hall during the hours of 8am to imposition of taxes and irregularities. The Constitution, as
10am and 4pm to 6pm. Is the elevator tax a valid the fundamental law, overrides any legislative or executive act
imposition? (2003 Bar Question) that runs counter to it. In any case, therefore, where it can be
demonstrated that the challenged statutory provision fails to
A: No. The imposition of a tax, fee or charge or the abide by its command, then the court must declare and adjudge it
generation of revenue under the Local Government Code, shall null. (Sison Jr. v. Ancheta, G.R. No. L-­‐59431, July 25, 1984)
be exercised by the Sanggunian of the local government unit
concerned through an appropriate ordinance (Sec. 132, LGC). NOTE: Marshall’s view refers to a valid tax while Holmes’ view refers
The city mayor alone could not order the collection of the tax; as to an invalid tax.
such, the “elevator tax” is an invalid imposition.
CHARACTERISTICS OF TAXATION
Q: Discuss the Marshall dictum “The power to tax is the
power to destroy” in the Philippine setting. Characteristics of the power to tax
(CUPS)
A: Taxation is a destructive power which interferes with the 1. Comprehensive --‐ It covers persons, businesses,
personal and property rights of the people and takes from them activities, professions, rights and privileges.
a portion of their property for the support of the government 2. Unlimited --‐ It is so unlimited in force and searching in
(McCulloch vs. Maryland, 4 Wheat, 316 4 L ed. 579, 607). extent that courts scarcely venture to declare that it is subject
to any restrictions, except those that such rests in the
NOTE: It is more reasonable to say that the maxim “the power to tax is the discretion of the authority which exercises it(Tio
power to destroy” is to describe not the purposes for which the taxing v. Videogram Regulatory Board, G.R. No. 75697, June
power may be used but the degree of vigor with which the taxing power 18, 1987).
may be employed in order to raise revenue(Cooley). 3. Plenary -­‐ It is complete. Under the NIRC, the BIR may avail
of certain remedies to ensure the collection of taxes.
Q: Justice Holmes once said: “The power to Tax is not the 4. Supreme -­‐ It is supreme insofar as the selection of the
power to destroy while this court (Supreme Court) sits”. subject of taxation is concerned.
Explain.
Meaning of the “wide spectrum of taxation”
A: While taxation is said to be the power to destroy, it is by no
means unlimited. When a legislative body having the power to It means that taxation is one that extends to every business,
tax a certain subject matter actually imposes such a burdensome trade or occupation; to every object of industry; use or
tax as effectually to destroy the right to perform the act or to use enjoyment; to every specie of possession.
the property subject to the tax, the validity of the enactment
depends upon the nature and character of the right destroyed. If It imposes a burden which in case of failure to discharge the same
so great an abuse is manifested as to destroy natural and may be followed by the seizure and confiscation of property after
fundamental rights which no free government consistently the observance of due process.
violate, it is the duty of the judiciary to hold such an act
unconstitutional.

UNIVERSITYOFSANTOTOMAS 2
2014GOLDENNOTES
GENERAL PRINCIPLES OF TAXATION
POWER OF TAXATION COMPARED WITH OTHER POWERS OF THE STATE

Distinctions of the three inherent powers of the State

TAXATION POLICE POWER EMINENT DOMAIN


Authority who Government or its political Government or its political Government or public service
exercises the subdivision subdivision companies and public utilities
power
Purpose To raise revenue in order to Promotion of general welfare To facilitate the taking of private
support of the Government through regulations property for public purpose
Persons affected Upon the community or class of Upon community or class of On an individual as the owner of
individuals individuals a particular property
Amount of No ceiling except inherent Limited to the cost of regulation, No imposition, the owner is paid the
monetary limitations issuance of license or surveillance fair market value of his property
imposition

Benefits received Protection of a secured organized Maintenance of healthy economic The person receives the fair
society, benefits received from standard of society/ No direct benefit market value of the property taken
government/ No direct benefit from him/ direct benefit
results
Non-­‐Impairment Tax laws generally do not impair Contracts may be impaired Contracts may be impaired
of contracts contracts, unless: government is
party to contract granting
exemption for a consideration

Similarities between taxation, eminent domain and police A: Yes. Tax measures are but “enforced contributions
power exacted on pain of penal sanctions” and “clearly imposed for a
public purpose.” The 20% discount given to senior citizens on
1. They are inherent powers of the State. pharmacy products was considered a property, in the form of a
2. All are necessary attributes of the sovereign. supposed profit, taken from the drugstore and used for public
3. They exist independently of the Constitution. use, by means of giving it directly to individual senior citizen. Be
4. They constitute the 3 methods by which the State it stressed that the privilege enjoyed by senior citizens does not
interferes with private rights and property. come directly from the State,but rather from the private
5. They presuppose equivalent compensation. establishments concerned. Accordingly, the tax credit benefit
6. The Legislature can exercise all 3 powers. granted to these establishments can be deemed as their just
compensation for private property taken by the State for public
Q: Can police power and taxation co-­‐exist in one act of the use (CIR v. Central Luzon Drug, G.R. No. 159647, Apr. 15,
government? 2005).

A: Yes. Taxation is no longer envisioned as a measure PURPOSE OF TAXATION


merely to raise revenue to support the existence of the
government. Taxers may be levied with a regulatory purpose 1. Revenue – to raise funds or property to enable the State
to provide a means for the rehabilitation and stabilization of a to promote the general welfare and protection of the
threatened industry which is affected with public interest as to be people.
within the police power of the state. (Caltex Philippines, Inc. v.
Commission on Audit, 208 SCRA 726) Thus, the power of 2. Non-­‐revenue (PR2EP)
taxation may be exercised to implement police power(Tiu v. a. Promotion of general welfare – taxation may be used
Videogram Regulatory Board, 151 SCRA 208). as an implement of police power to promote the general
welfare of the people.
Q: Central Luzon Drug (CLD) operated 6 drugstores under b. Regulation of activities/industries
the name and style “Mercury Drug”. CLD granted 20% c. Reduction of Social inequality – a progressive
sales discount to senior citizens pursuant to R.A. 7432 and system of taxation prevents the undue
its Implementing Rules. CLD filed with petitioner a claim concentration of wealth in the hands of few
for tax refund/credit in the amount allegedly arising from individuals. Progressivity is based on the principle that
the 20% sales discount. CIR was ordered to issue a tax those who are able to pay more should shoulder
credit certificate in favor of CLD. Can taxation be used as the bigger portion of the tax burden.
an implement for the exercise of the power of eminent d. Encourage economic growth – the grant of
domain? incentives or exemptions encourage investment
thereby stimulating economic activity.

UNIVERSITY OFSANTOTOMA S
3 F A C U L TY O F C I V I L L A W
Law on Taxation
e. Protectionism – In case of foreign importations, Q: Will violation of these principles invalidate a tax law?
protective tariffs and customs are imposed to
protect local industries. A: It depends. A tax law will retain its validity even if it is not in
consonance with the principles of fiscal adequacy and
PRINCIPLES OF SOUND TAX SYSTEM administrative feasibility because the Constitution does not
expressly require so. These principles are only designated to
Basic principles of a sound tax system (Canons of make our tax system sound. However, if a tax law runs contrary
Taxation) to the principle of theoretical justice, such violation will render
the law unconstitutional considering that under the Constitution,
FAT the rule of taxation should be uniform and equitable(Tax
1. Fiscal adequacy Principles and Remedies 2011, Justice Dimaampao).
a. Revenue raised must be sufficient to meet
government/public expenditures and other public needs. Q: Frank Chavez, as taxpayer, and Realty Owners
(Chavez v. Ongpin, G.R. No. 76778, June 6, 1990) Association of the Philippines, Inc. (ROAP), alleged that
Neither an excess nor a deficiency of revenue vis--‐ à--‐ vis E.O.73 providing for the collection of real property taxes
the needs of government would be in keeping with the as provided for under Section 21 of P.D.464 (Real Property
principle (Vitug, Acosta, Tax Law and Jurisprudence, Tax Code) is unconstitutional because it accelerated the
Second Edition). application of the general revision of assessments to
January 1, 1987 thereby increasing real property taxes by
2. Administrative feasibility 100% to 400% on improvements, and up to 100% on land
a. The tax system should be capable of being which would necessarily lead to confiscation of property.
effectively administered and enforced with the least Is the contention of the Chavez and ROAP correct?
inconvenience to the taxpayer (Diaz v. Secretary
of Finance, G.R. No. 193007, July 19, 2011). A: No. To continue collecting real property taxes based on
valuations arrived at several years ago, in disregard of the
NOTE: Non--‐ observance of this canon, however, will not render increases in the value of real properties that have occurred since
a tax imposition invalid “except to the extent that specific then, is not in consonance with a sound tax system. Fiscal
constitutional or statutory limitations are impaired” (Ibid.).
adequacy, which is one of the characteristics of a sound tax
system, requires that sources of revenues must be adequate to
3. Theoretical justice meet government expenditures and their variations (Chavez v.
a. Must take into consideration the taxpayer’s ability Ongpin, G.R. No. 76778, June 6, 1990).
to pay (Ability to Pay Theory).
b. Art. VI, Sec. 28(1), 1987 Constitution mandates Q: Is the VAT law violative of the administrative feasibility
that the rule on taxation must be uniform and principle?
equitable and that the State must evolve a
progressive system of taxation.
A: No. The VAT law is principally aimed to rationalize the
system of taxes on goods and services. Thus, simplifying tax
Distinctions of the basic principles of a sound tax system
administration and making the system more equitable to enable
the country to attain economic recovery (Kapatiran ng Mga
FISCAL ADMINISTRATIVE THEORETICAL
Naglilingkod sa Pamahalaan v. Tan, G.R.No.81311, June 30,
ADEQUACY FEASIBILITY JUSTICE
1988).
Meaning Sources of The enforcement Imposition must
revenues should be be based on the
must be effective and taxpayer’s NOTE: Even if the imposition of VAT on toll way operations may seem
adequate to efficient ability to pay burdensome to implement, it is not necessarily invalid unless some aspect
meet of it is shown to violate any law or the Constitution (Diaz v. Secretary of
government Finance, G.R. No. 193007, July 19, 2011).
expenditures
and their THEORY AND BASIS OF TAXATION
variations
The theories underlying the power of taxation are the
following:
Constituti --‐ --‐ Art. VI, Sec. 1. Lifeblood theory (Necessity theory)
onal Basis 28[1] 2. Necessity Theory
Benefits No need to Conducive to Proportionate 3. Benefits--‐ protection theory (Doctrine of Symbiotic
incur loans; no economic growth share in the Relationship)
more and development; a burden of
4. Jurisdiction over subject and objects
budgetary simplified tax paying taxes
deficit system
Meaning and the implications of the statement: “Taxes
are the lifeblood of the government and their prompt and
certain availability is an imperious need.” (1991 Bar
Question)

UNIVERSITYOFSANTOTOMAS 4
2014GOLDENNOTES
GENERAL PRINCIPLES OF TAXATION
The phrase expresses the underlying basis of taxation which is Ex post facto law as applied in taxation
governmental necessity, for indeed, without taxation, a
government can neither exist nor endure. The prohibition against ex post facto laws applies only to
criminal matters and not to laws which are civil in nature.
Taxation is a principal attribute of sovereignty. The exercise of the
taxing power derives its source from the very existence of the NOTE: When it comes to civil penalties like fines and forfeiture (except
State whose social contract with its citizens obliges it to promote interest), tax laws may be applied retroactively unless it produces harsh
public interest and the public good. and oppressive consequences which violate the taxpayer’s constitutional
rights regarding equity and due process. But criminal penalties arising from
tax violations may not be given retroactive effect.
In the case of Valley Trading Co. v. CFI G.R. No. 495529,
March 31, 1989, the Supreme Court ruled that the damages that
Q: Due to an uncertainty whether or not a new tax law is
may be caused a taxpayer by being made to pay the taxes cannot
applicable to printing companies, DEF Printers submitted a
be said to be as irreparable as it would negate the Government
legal query to the BIR on that issue. The BIR issued a ruling
ability to collect taxes.
that printing companies are not covered by the new law.
Relying on this ruling, DEF Printers did not pay said tax.
NOTE: Stipulations cannot defeat the right of the state to collect the
correct taxes due on an individual or juridical person because taxes are Subsequently, however, the BIR reversed the ruling and
the lifeblood of our nation so its collection should be actively pursued issued a new one stating that the tax covers printing
without unnecessary impediment (First Lepanto Tisho Insurance companies. Could the BIR now assess DEF Printers for back
Corporation v. CIR, G.R. No. 197117, April 10, 2013). taxes corresponding to the years before the new ruling?
Reason briefly. (2004 Bar Question)
Benefits-­‐Protection Theory (Symbiotic Relationship
Doctrine) in taxation A: No. The reversal of the ruling shall not be given a
retroactive application, if said reversal will be prejudicial to the
It involves the power of the State to demand and receive taxes taxpayer. Therefore, the BIR cannot assess DEF Printers for back
based on the reciprocal duties of support and protection taxes because it would be violative of the principle of non--‐
between the State and its citizen. retroactivity of rulings and doing so would result to grave injustice
to the taxpayer who relied on the first ruling in good faith (Sec.
Every person who is able must contribute his share in the burden 246, NIRC; Commissioner v. Burroughs, Ltd., G.R. No. L-­‐
of running the government. The government for its part is 66653, June 19, 1986).
expected to respond in the form of tangible and intangible
benefits intended to improve the lives of the people and NOTE: SEC. 246. Non--‐ Retroactivity of Rulings. – Any revocation,
enhance their material and moral values(CIR v. Algue, G.R. No. L- modification, or reversal of any of the rules and regulations
­‐28896, February 17, 1988). promulgated by the Commissioner or any of the rulings or circulars
promulgated by him shall not be given retroactive application if the
revocation, modification, or reversal will be prejudicial to the
Special benefits to taxpayers are not required. A person cannot
taxpayers, except in the following cases:
object to or resist the payment of taxes solely because no
personal benefit to him can be pointed out arising from the tax 1. Where the taxpayer deliberately misstates or omits material facts
(Lorenzo v. Posadas, 64 Phil. 353). from his return or in any document required of him by the Bureau of
Internal Revenue;
Necessity theory 2. Where the facts subsequently gathered by the Bureau of Internal
Revenue are materially different from the facts on which the ruling
Taxation is predicated upon necessity (Phil. Guaranty Co., Inc. is based; or
3. Where the taxpayer acted in bad faith.
v. Commissioner, 13 SCRA 775). It is a necessary burden to
preserve the State’s sovereignty and a means to give the citizenry
IMPRESCRIPTIBILITY
an army to resist aggression, a navy to defend its shores from
invasion, a corps of civil servants to serve, public
Doctrine of Imprescriptibility
improvements for the enjoyment of the citizenry, and those
which come within the State’s territory and facilities and
Taxes are imprescriptible as they are the lifeblood of the
protection which a government is supposed to provide(Tax
government. However, tax statutes may provide for statute of
Principles and Remedies, Justice Dimaampao, 2011).
limitations.
DOCTRINES IN TAXATION NOTE: Although the NIRC provides for the limitation in the
assessment and collection of taxes imposed, such prescriptive period will
PROSPECTIVITY OF TAX LAWS only be applicable to those taxes that were returnable. The prescriptive
period shall start from the time the taxpayer files the tax return and
Doctrine of Prospectivity of tax laws declares his liability(Collector v. Bisaya Land Transportaion Co.,
1958).
GR: Taxes must only be imposed prospectively.
XPN: If the law expressly provides for retroactive imposition.
Retroactive application of revenue laws may be allowed if it will not
amount to denial of due process.

UNIVERSITY OFSANTOTOMA S
5 F A C U L TY O F C I V I L L A W
Law on Taxation

DOUBLE TAXATION ii. Generally, it extends to all cases when one or


more elements of direct taxation are not present.
Double taxation in its strict sense
2. As to scope -­‐
a. Domestic Double Taxation --‐ When the taxes are
Otherwise described as “direct duplicate taxation”, the two
taxes must be imposed on the same subject matter, for the same imposed by the local and national government within
purpose, by the same taxing authority, within the same the same State.
jurisdiction, during the same taxing period; and the taxes must be b. International Double Taxation --‐ occurs when
of the same kind or character (City of Manila there is an imposition of comparable taxes in two or
v. Coca Cola Bottlers Philippines, G.R. No. 181845, Aug. 4, more States on the same taxpayer in respect of the
2009). same subject matter and for identical periods.

Q: X, a lessor of a property, pays real estate tax on the


Elements of direct double taxation(OAPT)
premises, a real estate dealer’s tax based on rental
receipts and income tax on the rentals. He claims that this
a. The same object or property is taxed twice
is double taxation. Decide (1996 Bar Question).
b. by the same taxing authority
c. for the same taxing purpose
A: There is no double taxation. The real estate tax is a tax on
d. within the same tax period (Taxation Vol. I,
Domondon) property; the real estate dealer’s tax is a tax on the privilege to
engage in business; while the income tax is a tax on the
Double taxation in its broad sense privilege to earn an income. These taxes are imposed by
different taxing authorities and are essentially of different kind and
character (Villanueva v. Iloilo, GR L-­‐ 26521, Dec. 28, 1968).
This is allowed if the taxes are of different nature or
character, imposed by different taxing authorities. It has been
Q: BB Municipality has an ordinance which requires that
held that a real estate tax and the tenement tax
all stores, restaurants, and other establishments selling
imposed by local ordinance although imposed by the same
liquor should pay an annual fee of P20,000.00.
taxing authority are not of the same kind or
Subsequently, the municipal board proposed an ordinance
character(Villanueva vs. Iloilo City, 26 SCRA 578).
imposing a sales tax equivalent to 5% of the amount paid
for the purchase or consumption of liquor in stores,
Constitutionality of double taxation
restaurants and other establishments. The municipal
mayor, CC, refused to sign the ordinance on the ground
There is no Constitutional prohibition against double
that it would constitute double taxation. Is the refusal of
taxation. However, direct double taxation is unconstitutional
the mayor justified? Reason briefly (2004 Bar Question)
as it results in violation of substantive due process and equal
protection clause.
A: No. The impositions are of different nature and character.
NOTE: All the elements must be present in order to apply double taxation The fixed annual fee is in the nature of a license fee imposed
in its strict sense. through the exercise of police power, while the 5% tax on
purchase or consumption is a local tax imposed through the
Modes of eliminating double taxation (in its strict sense) exercise of taxing powers. Both license fee and tax may be
imposed on the same business or occupation, or for selling the
Local legislation and tax treaties may provide for: same article and this is not in violation of the rule against double
1. Tax credit – an amount subtracted from taxpayer’s tax taxation (Compania General de Tabacos de Filipinas v. City of
liability in order to arrive at the net tax due. Manila, G.R. No. L-­‐ 16619, June 29, 1963).
2. Tax deduction – an amount subtracted from the gross
amount on which a tax is calculated. Q: SC Johnson and Son, Inc., is a domestic corporation
3. Tax exemption – a grant of immunity to particular entered into an agreement with SC Johnson and Son-­‐USA,
persons or entities from the obligation to pay taxes. a non-­‐resident foreign corporation, pursuant to which SC
4. Imposition of a rate lower than the normal domestic Johnson Philippines was granted the right to use the
rate trademark, patents and technology owned by the SC
Johnson and Son-­‐USA for the use of trademark and
Kinds of double taxation technology. SC Johnson and Son, Inc. was obliged to pay
SC Johnson and Son-­‐USA royalties and subjected the same
1. As to validity – to 25% withholding tax on royalty payments. Will the
a. Direct Double Taxation (Obnoxious) --‐ Double royalty payments be subject to 10% withholding tax
taxation in the objectionable or prohibited sense since pursuant to the most favored nation clause as claimed by
it violates the equal protection clause of the SC Johnson Philippines?
Constitution.
b. Indirect Double Taxation --‐ Not repugnant to the
Constitution.
i. This is allowed if the taxes are of different
nature or character imposed by different
taxing authorities.

UNIVERSITYOFSANTOTOMAS 6
2014GOLDENNOTES
GENERAL PRINCIPLES OF TAXATION
A: No, since the RP--‐ US Tax Treaty does not give a matching credit property used in a calling, and at the same time impose a license
of 20% for the taxes paid to the Philippines on royalties as tax on that calling, the imposition of the latter kind of tax being in no
allowed under the RP--‐ West Germany Tax Treaty, respondent sense a double tax. The two taxes are not the same kind or
cannot be deemed entitled to the 10% rate granted under the character(Villanueva v. Iloilo, GR L-­‐26521, Dec. 28,1968).
latter treaty for the reason that there is no payment of taxes on
royalties under similar circumstances. ESCAPE FROM TAXATION

Both Art. 13 of the RP--‐ US Tax Treaty and Art. 12(2) of the RP--‐ Basic forms of escape from taxation (SCATE2)
West Germany Tax Treaty speak of tax on royalties for the use of
trademark, patents, and technology. The entitlement of the 1. Shifting
10% rate by US firms despite the absence of matching credit 2. Capitalization
(20% for royalties) would derogate from the design behind the 3. Avoidance
most favored nation clause to grant equality of international 4. Transformation
treatment since the tax burden laid upon the income of the 5. Exemption
investor is not the same in the two countries. The similarity in 6. Evasion
the circumstances of payment of taxes is a condition for the
enjoyment of the most favored nation treatment precisely to Capitalization
underscore the need for equality of treatment.
It is the reduction in the price of the taxed object equal to the
The RP--‐ US Tax Treaty is just one of a number of bilateral capitalized value of future taxes which the purchaser expects to
treaties which the Philippines have entered into for the be called upon to pay.
avoidance of double taxation. The purpose of these
international agreements is to reconcile the national fiscal Transformation
legislation of the contracting parties in order to help the
taxpayer avoid international juridical double taxation It is the scheme where the manufacturer or producer upon whom
(Commissioner v. SC Johnson and Son, Inc., G.R. No. 127105, the tax has been imposed, fearing the loss of his market if he
June 25, 1999). should add the tax to the price, pays the tax and endeavors to
recoup himself by improving his process of production, thereby
Most-­‐favored nation clause turning out his units of products at a lower cost.

The most favored nation clause in a bilateral tax treaty is meant Q: Mr. Pascual’s income from leasing his property reaches
to ensure that the treaty partner will always enjoy the same the maximum rate of tax under the law. He donated ½ of
privileges as that another party which is granted more favorable his said property to a non-­‐stock, non-­‐profit educational
treatment. This is an important clause in treaties, especially with institution whose income and assets are actually, directly,
the passage of time. It is to grant to the contracting parties and exclusively used for educational purposes, and
treatment not less favorable than that which has been or may be therefore qualified for tax exemption under Art.XIV, Sec.
granted to the “most favored” among other countries. It is 4 (3) of the Constitution and Sec. 3 (h) of the Tax Code.
intended to establish the principle of equality of international Having thus transferred a portion of his said asset, Mr.
treatment by providing that the citizens or subjects of the Pascual succeeded in paying a lesser tax on the rental
contracting nations to enjoy the privileges accorded by either income derived from his property. Is there tax avoidance
party to those of the most favored nation. The essence of the or tax evasion? Explain. (2000 Bar Question)
principle is to allow the taxpayer in one State to avail of more
liberal provisions granted in another tax treaty to which the A: Yes. Mr. Pascual has exploited a legally permissive
country of residence of such taxpayer is also a party provided alternative method to reduce his income by transferring part of
that the subject matter of taxation is the same as that in the tax his rental income to a tax exempt entity through a donation of ½
treaty under which the taxpayer is liable. of the income producing property. The donation is likewise
exempt from donor’s tax. The donation is the legal means
Q: Upon the passage of the Local Autonomy Act (RA 2264), employed to transfer the incidence of income tax on the rental
the City of Iloilo Board passed an ordinance imposing income.
municipal license tax on persons engaged in the business
of operating tenement houses. Is the ordinance SHIFTING OF TAX BURDEN
unconstitutional on the ground of double taxation since
there is payment of both real estate tax and the tenement Shifting
tax?
The transfer of the burden of tax by the original payer or the one
A: No. It is a well--‐ settled rule that a license tax may be levied on whom the tax was assessed or imposed to another or
upon a business or occupation although the land or property someone else without violating the law.
used in connection therewith is subject to property tax. The
State may collect an ad valorem tax on

UNIVERSITY OFSANTOTOMA S
7 F A C U L TY O F C I V I L L A W
Law on Taxation
Ways of shifting the tax burden NOTE: Tax evasion is a scheme used outside of those lawful means and
when availed of, it usually subjects the taxpayer to further or additional
1. Forward shifting – When the burden of tax is civil or criminal liabilities (Commissioner v. Estate of Benigno Toda
Jr. G.R. No. 30554, Feb. 28, 1983). Tax evasion is sometimes
transferred from a factor of production through the factors
referred to as Tax Dodging.
of distribution until it finally settles on the ultimate
purchaser or consumer. Elements to be considered in determining that there is tax
2. Backward shifting – When the burden is transferred
evasion (ESC)
from the consumer through the factors of distribution to the
factors of production.
1. End to be achieved, i.e., payment of less than that known
3. Onward shifting – When the tax is shifted two or more
by the taxpayer to be legally due, or non--‐ payment of tax
times either forward or backward.
when it is shown that the tax is due;
2. Accompanying State of mind which is described as being
Taxes that can be shifted
evil, in bad faith, willful or deliberate and not accidental;
and
It applies to indirect taxes since the law allows the burden of the
3. Course of action which is unlawful.
tax to be transferred. In case of direct tax, the shifting of
burden can only be via a contractual provision.
Tax avoidance v. Tax evasion
NOTE: Examples of taxes when shifting may apply are VAT,
TAX
percentage tax, excise tax on excisable articles, ad valorem tax that oil TAX EVASION
companies pays to BIR upon removal of petroleum products from its AVOIDANCE
refinery. Validity Legal and not Illegal and subject to
subject to criminal
Meaning of impact and incidence of taxation criminal penalty penalty
Effect Minimization of Almost always
Incidence of Taxation taxes results in absence
Otherwise known as the burden of taxation, it is the of tax payment.
economic cost of the tax.
Evidence that may be used to prove tax evasion
Impact of Taxation
The impact of taxation refers to the statutory liability to pay the 1. Failure of taxpayer to declare for taxation purposes his true
tax. It falls on the person originally assessed with a particular tax and actual income derived from business for two (2)
consecutive years; (Republic v. Gonzales, G.R. No. L-­‐
The impact of taxation is on the seller upon whom the tax has 17744, April 30, 1965)
been imposed, while the incidence of tax is on the final 2. Substantial under declaration of income in the income tax
consumer, the place at which the tax comes to rest. return for four (4) consecutive years coupled by intentional
overstatement of deductions (Perez v. CTA, G.R. No. L-­‐
NOTE: Where the burden of the tax is shifted to the purchaser, the amount 10507, May 30, 1958).
passed on to it is no longer a tax but becomes an added cost on the
goods purchased, which constitutes a part of the purchase price.
Q: CIC entered into an alleged simulated sale of a 16-­‐
storey commercial building. CIC authorized Benigno Toda,
TAX AVOIDANCE
Jr., its President to sell the Cibeles Building and the two
parcels of land on which the building stands. Toda
Tax avoidance
purportedly sold the property for P100 million to
Altonaga, who, in turn, sold the same property on the
It is the scheme where the taxpayer uses legally permissible
same day to Royal Match Inc. (RMI) for P200 million
alternative method of assessing taxable property or income, in
evidenced by Deeds of Absolute Sale notarized on the
order to avoid or reduce tax liability.
same day by the same notary public. For the sale of the
NOTE: Also known as Tax Minimization, tax avoidance is the tax property to RMI, Altonaga paid capital gains tax in the
saving device within the means sanctioned by law. This method should amount of P10 million.
be used by the taxpayer in good faith and at arm’s --‐ length (Commissioner
v. Estate of Benigno Toda Jr., G.R. No. 30554, Feb 28, 1983). The BIR sent an assessed deficiency income tax arising
from the sale alleging that CIC evaded the payment of
TAX EVASION higher corporate income tax of 35% with regard to the
resulting gain. Is the scheme perpetuated by Toda a case
Tax evasion of tax evasion or tax avoidance?

It is the scheme where the taxpayer uses illegal or fraudulent A: It is a tax evasion scheme. The scheme resorted to by CIC in
means to defeat or lessen payment of a tax. making it appear that there were two sales of the subject
properties, i.e., from CIC to Altonaga, and then from
gAltonaga to RMI cannot be considered a legitimate tax
planning (one way of tax avoidance). Such scheme is tainted
with fraud.

UNIVERSITYOFSANTOTOMAS 8
2014GOLDENNOTES
GENERAL PRINCIPLES OF TAXATION
In the case, it is obvious that the objective of the sale to 3. Contractual–those agreed by the taxing authority in
Altonaga was to reduce the amount of tax to be paid contracts lawfully entered into by them under
especially that the transfer from him to RMI would then subject enabling laws.
the income to only 5% individual capital gains tax and not the
35% corporate income tax(Commissioner v. Benigno Toda As to basis
Jr., GR No. 147188, Sept. 14, 2004). 1. Constitutional – Immunities from taxation which
originate from the Constitution.
EXEMPTION FROM TAXATION 2. Statutory – Those which emanate from legislation.
3. Contractual – Agreed to by the taxing authority in
MEANING OF EXEMPTION FROM TAXATION contracts lawfully entered into by them under
enabling laws.
It is the grant of immunity, express or implied, to particular persons 4. Treaty
or corporations, from a tax upon property or an excise tax which 5. Licensing ordinance
persons or corporations generally within the same taxing As to extent
districts are obliged to pay. 1. Total – Connotes absolute immunity.
2. Partial – One where a collection of a part of the tax is
NATURE OF TAX EXEMPTION dispensed with.
As to object
1. Personal in nature and covers only taxes for which the 1. Personal – Granted directly in favor of certain persons.
grantee is directly liable. 2. Impersonal – Granted directly in favor of a certain
class of property.
NOTE: It cannot be transferred or assigned by the person to whom
it is given without the consent of the State.
NOTE: These exemptions must not be confused with tax
exemptions granted under franchises which are not contracts within
2. Strictly construed against the taxpayer. the purview of the non--‐ impairment clause of the constitution.
3. Exemptions are not presumed. Butthe strict (Cagayan Electric Co. v. Commissioner, G.R. No. L-­‐ 601026, Sept.
interpretation does not apply in the case of exemptions 25, 1985)
running to the benefit of the government itself or its
agencies. NOTE: Contractual tax exemptions may not be unilaterally so
revoked by the taxing authority without thereby violating the non--‐
Principles governing tax exemptions impairment clause of the Constitution(Tax law and
Jurisprudence, Vitug, 2000)
1. Tax exemptions are highly disfavored in law.
RATIONALE/GROUNDS FOR EXEMPTION
2. Tax exemptions are personal and non--‐ transferable.
3. He who claims an exemption must justify that the
Legal basis for the grant of tax exemptions
legislature intended to exempt him by words too plain to be
mistaken. He must convincingly prove that he is exempted.
Art. VI, Section 28(4) of the Constitution provides that: “No law
4. It must be strictly construed against the taxpayer.
5. Constitutional grants of tax exemptions are self--‐ granting any tax exemption shall be passed without the
concurrence of a majority of all the members of
executing.
Congress.”
NOTE: Deductions for income tax purposes partake of the nature
of tax exemptions, hence, they are also be strictly construed NOTE: Tax amnesties, tax condonations, and tax refunds are in the nature
against the taxpayer. of tax exemptions. Such being the case, a law granting tax amnesties, tax
condonations, and tax refunds requires the vote of an absolute majority of
the Members of Congress.
6. Tax exemption is generally revocable.
7. In order to be irrevocable, the tax exemption must be Not all refunds are in the nature of a tax exemption. A tax refund may only
founded on a contract or granted by the Constitution. be considered as a tax exemption when it is based either on a tax--‐
8. The congressional power to grant an exemption exemption statute or a tax--‐ refund statute. Tax refunds or tax credits are not
necessarily carries with it the consequent power to revoke founded principally on legislative grace, but on the legal principle of quasi-
the same. -‐ contracts against a person’s unjust enrichment at the expense of
9. Revocations are constitutional even though the another.
corporate do not have to perform a reciprocal duty for them to
NOTE: The erroneous payment of tax as a basis for a claim of refund
avail of tax exemptions.
may be considered as a case of solutio indebiti, which the government
KINDS OF TAX EXEMPTION is not exempt from its application and has the duty to refund without any
unreasonable delay what it has erroneously collected.

1. Express –Expressly granted by organic or statute law


2. Implied–When particular persons, properties or excises
are deemed exempt as they fall outside the scope of the
taxing provision.

UNIVERSITY OFSANTOTOMA S
9 F A C U L TY O F C I V I L L A W
Law on Taxation

REVOCATION OF TAX EXEMPTION the taxpayer’s claim against the government, the
government must have appropriated the amount thereto
Rule on revocation of tax exemption (Domingo v. Garlitos, G.R. No. L-­‐18994, June 29, 1963).

Q: Can an assessment for a local tax be the subject of set-­‐


Since taxation is the rule and exemption therefrom the
off or compensation against a final judgment for a sum of
exception, the exemption may thus be withdrawn at the
pleasure of the taxing authority. (Mactan Cebu money obtained by a taxpayer against the local
International Airport Authority v. Marcos et al, 261 SCRA government that made the assessment? (2005 Bar
667) Question)

Restrictions on revocation of tax exemptions A: No. Taxes and debts are of different nature and character.
Hence, no set--‐ off or compensation between the two different
1. Non--‐ impairment clause. classes of obligations is allowed. The taxes assessed or the
obligation of the taxpayer arising from law, while the money
2. A municipal francise once granted as a contract cannot
be altered or amended except by actual consent of the judgment against the government is an obligation, arising from
parties concerned. contract, whether express or implied. Inasmuch as taxes are not
3. Adherance to form. If the exemption is granted by the debts, it follows that the two obligations are not susceptible to
set--‐ off or legal compensation (Francia v. Intermediate
Constitution, its revocation may be affected through
Appelate Court, 162 SCRA 753, 1988).
constitutional amendment only.
4. Where the tax exemption grant is in the form of a special
NOTE: It is only when the local tax assessment and the final
law and not by a general law even if the terms of the general judgment are both overdue, demandable, as well fully liquidated may set--‐
act are broad enough to include the codes in the general off or compensation be allowed (Domingo v. Garlitos, 8 SCRA 443,
law unless there is manifest intent to repeal or alter the 1963).
special law(Commissioner of Internal Revenue v.
Court of Appeals, 207 SCRA 487). Doctrine of Equitable Recoupment

NOTE: Withdrawal of tax exemption is not to be construed as It is a principle which allows a taxpayer, whose claim for refund
prohibiting future grants of tax exemptions(Taxation Vol. I, has been barred due to prescription, to recover said tax by setting
Domondon). off the prescribed refund against a tax that may be due and
collectible from him. Under this doctrine, the taxpayer is allowed to
COMPENSATION AND SET-­‐OFF credit such refund to his existing tax liability.

Compensation or set-­‐off NOTE: The Supreme Court, rejected this doctrine in Collector v. UST
(G.R. No. L-­‐11274, Nov. 28, 1958), since it may work to tempt both
Compensation or set--‐ off take place when two persons, in their parties to delay and neglect their respective pursuits of legal action within
own right, are creditors and debtors of each other (Article the period set by law.
1278, Civil Code).
COMPROMISE
Rules governing compensation or set-­‐off as applied in
taxation It is a contract whereby the parties, by reciprocal
concessionsavoid litigation or put an end to one already
GR: No set--‐ off is admissible against the demands for taxes levied commenced. It implies the mutual agreement by the parties in
for general or local governmental purposes. regard to the thing or subject matter which is to be compromised.

NOTE: The prevalent rule in our jurisdiction disfavors set--‐ off or legal Compromises are generally allowed and enforceable when the
compensation of tax obligations for the following reasons: (1) taxes are of a subject matter thereof is not prohibited from being
distinct kind, essence and nature, and these impositions cannot be so compromised and the person entering such compromise is duly
classed in merely the same category as ordinary obligations; (2) the authorized to do so.
applicable laws and principles governing each are peculiar, not
necessarily common to each and Persons allowed to enter into compromise of tax
(3) public policy is better subserved if the integrity and independence
obligations
of taxes be maintained (lifeblood doctrine). The collection of a tax cannot
await the results of a lawsuit against the government. (Francia v. IAC,
A.M. No. 3180,Francia v. Intermediate Appellate Court and The law allows the following persons to do compromise in behalf
Fernandez, G.R. No. L--‐ 67649, 28 June 1988 June 29, 1988, Caltex of the government:
Philippines, Inc. v. Commission on Audit, et al., G.R. No. 92585, 8
May 1992) 1. BIR Commissioner, as expressly authorized by the NIRC, and
subject to the following conditions:
XPN: Where both the claims of the government and the a. When a reasonable doubt as to validity of the claim
taxpayer against each other have already become due, against the taxpayer exists; or
demandable, and fully liquidated, compensation takes place by
operation of law and both obligations are extinguished to their
concurrent amounts. In the case of

UNIVERSITYOFSANTOTOMAS 10
2014GOLDENNOTES
GENERAL PRINCIPLES OF TAXATION
b. The financial position of the taxpayer demonstrates a clear absolute waiver by the government of its right to collect what is due it and
inability to pay the assessed tax (Sec.204[A], NIRC). to give tax evader who wish to relent a chance to start with a clean slate
(Asia International Auctioneers, Inc. vs. CIR, G.R.179115,
September 26, 2012).
2. Collector of Customs, with respect to customs duties limited
to cases where the legitimate authority is specifically
granted such as in the remission of duties (Sec. 709, TCC) CONSTRUCTION AND INTERPRETATION

3. Customs Commissioner, subject to the approval of the GR: In every case of doubt, tax statutes are construed strictly
Secretary of Finance, in cases involving the imposition of against the government and liberally in favor of the taxpayer
fines, surcharges, and forfeitures. (Sec.2316, TCC) (Manila Railroad Co. v. Coll. of Customs, 52 Phil. 950).

TAX AMNESTY XPN: The rule of strict construction as against the government
is not applicable where the language of the tax statute is plain and
A tax amnesty, being a general pardon or intentional there is no doubt as to the legislative intent (Fundamentals of
overlooking by the State of its authority to impose penalties Taxation, De Leon 2012).
on persons otherwise guilty of evasion or violation of a
revenue or tax law, partakes of an absolute forgiveness or TAX LAWS
waiver by the government of its right to collect what otherwise
would be due to it, and in this sense, prejudicial thereto, Nature of Tax Laws
particularly to give tax evaders, who wish to relent or are willing to
reform a chance to do so and become a part of the new Tax Laws are:
society with a clean slate. (Republic v. IAC, 1991) 1. Not political
2. Civil in nature
Tax amnesty v. Tax exemption 3. Not penal in character

TAX AMNESTY TAX EXEMPTION Construction of tax laws


Scope of Immunity from all Immunity from civil
immunity criminal, civil and liability only 1. Generally, no person or property is subject to tax unless
administrative within the terms or plain import of a taxing statute.
obligations 2. Tax laws are generally prospective in nature.
arising from non--‐ 3. Where the language is clear and categorical, the words
payment employed are to be given their ordinary meaning.
of taxes 4. When there is doubt, tax laws are strictly construed
against the Government and liberally in favor of the
Grantee taxpayer.
General pardon A freedom from a
given to all charge or burden to
NOTE: Taxes, being burdens, are not to be presumed beyond what
erring which others are the statute expressly and clearly provides.
taxpayers subjected
How Applied Applied prospectively 5. Provisions of the taxing act are not to be extended by
applied retroactively implication.
Presence There is revenue None, because there 6. Tax laws are special laws and prevail over general laws.
of actual loss since there was no actual taxes due as
revenue was actually the person or transaction Strict construction rule in taxation
loss taxes due but is protected by tax
collection was exemption. When it is said that exemptions must be strictly construed in favor
waived by the of the taxing power, this does not mean that if there is a
government possibility of a doubt it is to be at once resolved against the
exemption. It simply means that if, after the application of all the
rules of interpretation for the purpose of ascertaining the intention
Q: Does the mere filing of tax amnesty return shield the of the legislature, a well--‐ founded doubt exists, then the ambiguity
taxpayer from immunity against prosecution? occurs which may be settled by the rule of strict construction.

A: No. The taxpayer must have voluntarily disclosed his


previously untaxed income and must have paid the
corresponding tax on such previously untaxed income.
(People v. Judge Castañeda, 165 SCRA 327[1988])

NOTE: A tax amnesty is a general pardon or the intentional


overlooking the State of its authority to impose penalties on persons
otherwise guilty violating a tax law. It partakes of an

UNIVERSITY OFSANTOTOMA S
11 F A C U L TY O F C I V I L L A W
Law on Taxation

TAX EXEMPTION AND EXCLUSION by mere implication not so intended by the legislative body
(RP v. Martin, G.R. No. L-­‐38019, May 16, 1980).
GR: Tax Exemptions are strictly construed against grantee
NON-­‐RETROACTIVE APPLICATION TO TAXPAYERS
XPNs:
1. If the statute granting exemption expressly provides for Tax laws, including rules and regulations operate
liberal interpretation prospectively unless otherwise legislatively intended by express
2. In case of exemptions of public property terms or by necessary implication (Gulf Air Company,
3. Those granted to traditional exemptees Philippine Branch v. Commissioner of Internal Revenue,
4. Exemptions in favor of the government. This is G.R. No. 182045, September 19, 2012).
premised on the concept that with respect to the
government, exemption is the rule and taxation is the Revenue Regulations that revoke modify or reverse a ruling or
exception in order to reduce administrative costs circular shall have no retroactive application if it will be prejudicial
(Maceda vs. Macaraig, 197 SCRA 771). to the taxpayer (Sec. 246, NIRC).
5. Exemption by clear legislative intent
6. In case of special taxes (relating to special cases EXCEPTIONS
affecting special persons)
Tax laws may only be given retroactive application if the
NOTE: The intent of the legislature to grant tax exemption must be in clear legislature, expressly or impliedly provides that it shall be given
and unmistakable terms. Exemptions are never presumed. The burden of retroactive application.
establishing right to an exemption is upon the claimant.
In case of BIR Rules and Regulations that revoke modify or
However, it is well settled that where the language of the law is clear and reverse a ruling or circular:
unequivocal, it must be given its literal application and applied without
interpretation. The general rule of requiring adherence to the letter in
1. It shall be given retroactive application if it will not be
construing statues applies with particular strictness to tax laws and
provisions of a taxing act are not to be extended by implication (CIR vs. prejudicial to the taxpayer and
Julieta Ariete, G.R. No. 164152, January 21, 2010). a. Where the taxpayer deliberately misstates or omits
material facts from his return or in any document
The rule on strict interpretation is not applicable in the required of him by the Bureau of Internal Revenue;
case of tax exemptions in favor of a government political b. Where the facts subsequently gathered by the
subdivision or instrumentality Bureau of Internal Revenue are materially different
from the facts on which the ruling is based; or
It is a recognized principle that the rule on strict interpretation c. Where the taxpayer acted in bad faith.
does not apply in the case of exemptions in favor of a
government political subdivision or instrumentality. The 2. If the revocation is due to the fact that the regulation is
reason for the strict interpretation does not apply in the case of erroneous or contrary to law, such revocation shall have
exemptions running to the benefit of the government itself or its retroactive operation as to affect past transactions,
agencies. In such a case, the practical effect of an exemption because a wrong construction of the law cannot give rise to a
is merely to reduce the amount that has to be handled by vested right that can be invoked by a taxpayer (Supreme
government in the course of its operations. For these Transliner Inc., v. BPI Family Savings Bank, G.R. No.
reasons, provisions granting exemptions to government 165617, February 25, 2011).
agencies may be construed liberally, in favor of non--‐ taxability
of such agencies (Maceda vs. Macaraig, 197 SCRA 771). NOTE: Retroactive application of revenue laws may be allowed if it will not
amount to denial of due process. There is violation of due process when
the tax law imposes harsh and oppressive tax (Tax Principles and
TAX RULES AND REGULATIONS
Remedies, Justice Dimaampao, 2011).

Construction of rules and regulations It has been held that the retroactive application of War Profits Tax Law may
not be considered harsh and oppressive because the force of its
The construction placed by the office charged with impact fell on those who had amassed wealth or increased their
implementing and enforcing the provisions of a Code should wealth during the war, but did not touch the less fortunate(Republic v.
be given controlling weight unless such interpretation is Oasan, Vda De Fernandez, 99 Phil. 394).
clearly erroneous.
SCOPE AND LIMITATION OF TAXATION
PENAL PROVISIONS OF TAX LAWS
Limitations of taxation
Construction of penal provisions of tax laws
1. Inherent limitations
Penal provisions are given strict construction so as not to extend a. Public Purpose
the plain terms thereof that might create offenses b. Inherently Legislative
c. Territorial
d. International Comity

UNIVERSITYOFSANTOTOMAS 12
2014GOLDENNOTES
GENERAL PRINCIPLES OF TAXATION
e. Exemption of government entities, agencies and urban agrarian reform (Planters Products, Inc. v. Fertiphil
instrumentalities Corporation, G.R. No. 166006, Mar. 14, 2008).

2. Constitutional Limitations 2. Promotion of general welfare test -­‐ Whether the


a. Provisions directly affecting taxation proceeds of the tax will directly promote the welfare of the
i. Prohibition against imprisonment for non--‐ community in equal measure.
payment of poll tax
ii. Uniformity and equality of taxation The congress determines whether the tax law is enacted
iii. Grant by Congress of authority to the for a public purpose
president to impose tariff rates
iv. Prohibition against taxation of religious, Determination whether the tax law is enacted for a public purpose
charitable entities, and educational entities lies in the congress. However, this will not prevent the court from
v. Prohibition against taxation of non--‐ stock, non--‐ questioning the propriety of such statute on the ground that the law
profit institutions enacted is not for a public purpose; but once it is settled that the
vi. Majority vote of Congress for grant of tax law is for a public purpose, the court may no longer inquire
exemption into the wisdom, expediency or necessity of such tax measure.
vii. Prohibition on use of tax levied for special
purpose NOTE: If the tax measure is not for public purpose, the act amounts to
confiscation of property.
viii. President’s veto power on appropriation,
revenue, tariff bills
Principles relative to public purpose
ix. Non--‐ impairment of jurisdiction of the
Supreme Court
x. Grant of power to the local government units 1. Tax revenue must not be used for purely private
purposes or for the exclusive benefit of private persons.
to create its own sources of revenue
2. Inequalities resulting from the singling out of one
xi. Flexible tariff clause
xii. Exemption from real property taxes particular class for taxation or exemption infringe no
xiii. No appropriation or use of public money for constitutional limitation because the legislature is free to
religious purposes select the subjects of taxation.

NOTE: Legislature is not required to adopt a policy of “all or none”


b. Provisions indirectly affecting taxation
for the Congress has the power to select the object of taxation (Lutz
i. Due process v. Araneta, G.R. No. L-­‐7859, 22 December 1955).
ii. Equal protection
iii. Religious freedom 3. An individual taxpayer need not derive direct benefits from
iv. Non--‐ impairment of obligations of contracts the tax.
4. Public purpose is continually expanding. Areas formerly
INHERENT LIMITATIONS left to private initiative now lose their boundaries and
may be undertaken by the government if it is to meet the
PUBLIC PURPOSE increasing social challenges of the times.
5. The public purpose of the tax law must exist at the time of
When is tax considered for a public purpose its enactment. (Pascual vs. Secretary of Public Works,
G.R. No. L-­‐10405. 29 December 1960)
1. For the welfare of the nation and/or for greater
portion of the population; Q: Lutz assailed the constitutionality of Section 2 and 3,
2. Affects the area as a community rather than as C.A. 567, which provided for an increase of the existing tax
individuals; on the manufacture of sugar, alleging such tax as
3. Designed to support the services of the government for unconstitutional and void for not being levied for a public
some of its recognized objects. purpose but for the aid and support of the sugar industry
exclusively. Is the tax law increasing the existing tax on
Tests in determining public purpose the manufacture of sugar valid?

1. Duty test -­‐ Whether the thing to be furthered by the A: Yes. The protection and promotion of the sugar industry is a
appropriation of public revenue is something which is the matter of public concern. The legislature may determine within
duty of the State as a government to provide.
reasonable bounds what is necessary for its protection and
expedient for its promotion. Legislative discretion must be allowed
NOTE: The term “public purpose” is not defined. It is an elastic
full play, subject only to the test of reasonableness. If objective
concept that can be hammered to fit modern standards.
Jurisprudence states that “public purpose” should be given a broad and methods alike are constitutionally valid, there is no reason
interpretation. It does not only pertain to those purposes which are why the State may not levy taxes to raise funds for their
traditionally viewed as essentially government functions, such as prosecution and attainment. Taxation may be made to
building roads and delivery of basic services, but also includes those implement the
purposes designed to promote social justice. Thus, public money
may now be used for the relocation of illegal settlers, low--‐ cost
housing and

UNIVERSITY OFSANTOTOMA S
13 F A C U L TY O F C I V I L L A W
Law on Taxation
State’s police power (Lutz v. Araneta, G.R. No. l-­‐7859, filed appropriate case asking that the ordinance be
December 22, 1955). declared null and void since such a tax can only be
collected by the national government, as in fact he has
Q: Is the tax imposed on the sale, lease or disposition of paid the BIR the required capital gains tax.
videograms for a public purpose?
The Municipality countered that under the Constitution,
A: Yes. Such tax is imposed primarily for answering the need each local government is vested with the power to create
for regulating the video industry, particularly because of the its own sources of revenue and to levy taxes, and it
rampant film piracy, the flagrant violation of intellectual imposed the subject tax in the exercise of said
property rights, and the proliferation of pornographic Constitution authority. Resolve the controversy. (1991 Bar
videotapes. While the direct beneficiary of said imposition is the Question)
movie industry, the citizens are held to be its indirect beneficiaries
(Tio v. Videogram Regulatory Board, G.R. No. 75697, June A: The ordinance passed by the Municipality of Malolos
18, 1987). imposing a tax on the sale or transfer of real property is void.
The Local Government Code only allows provinces and cities to
INHERENTLY LEGISLATIVE impose a tax on the transfer of ownership of real property (Secs.
135 and 151, Local Government Code). Municipalities are
GENERAL RULE prohibited from imposing said tax that provinces are specifically
authorized to levy.
The power to tax is exclusively vested in the legislative body,
being inherent in nature; hence, it may not be delegated. While it is true that the Constitution has given broad powers
(Delegata potestas non potest delegari) of taxation to LGUs, this delegation, however, is subject to such
limitations as may be provided by law (Sec. 5, Art. X, 1987
Non-­‐delegable legislative powers Constitution).

1. Selection of Subject to be taxed Q: R.A. 9337 (The Value Added Tax Reform Act) provides
2. Determination of Purposes for which taxes shall be levied that, the President, upon the recommendation of the
3. Fixing of the Rate/amount of taxation Secretary of Finance, shall, effective January 1, 2006, raise
4. Situs of tax the rate of value-­‐added tax to twelve percent (12%) after
5. Kind of Tax any of the following conditions have been satisfied. “(i)
value-­‐added tax collection as a percentage of Gross
EXCEPTIONS Domestic Product (GDP) of the previous year exceeds two
and four-­‐fifth percent (2 4/5%) or (ii) national government
1. Delegation to Local Government – Refers to the power of deficit as a percentage of GDP of the previous year
local government units to create its own sources of revenue exceeds one and one-­‐half percent (1 ½%).” Was there an
and to levy taxes, fees and charges (Art. X, Sec. 5, 1987 invalid delegation of legislative power?
Constitution).
2. Delegation to the President – Theauthority of the A: No. There is no undue delegation of legislative power but
President to fix tariff rates, import or export quotas, only of the discretion as to the execution of the law. This is
tonnage and wharfage dues or other duties and constitutionally permissible.
imposts(Art. VI, Sec. 28(2), 1987 Constitution).
3. Delegation to administrative agencies – When the Congress did not abdicate its functions or unduly delegate power
delegation relates merely to administrative when it describes what job must be done, who must do it, and what
implementation that calls for some degree of is the scope of his authority. The Secretary of Finance, in this
discretionary powers under sufficient standards case, becomes merely the agent of the legislative department, to
expressed by law or implied from the policy and determine and declare the even upon which its expressed will
purposes of the Act. takes place. The President cannot set aside the findings of the
a. Authority of the Secretary of Finance to promulgate Secretary of Finance, who is not under the conditions acting as
the necessary rules and regulations for the effective her alter ego or subordinate (Abakada Guro Party List v.
enforcement of the provisions of the law. (Sec. 244, Ermita, etc., et al., G. R. No. 168056, September 1, 2005).
R.A.8424)
b. The Secretary of Finance may, upon the TERRITORIAL
recommendation of the Commissioner, require the
withholding of a tax on the items of income payable. Limitation on the power to tax
(Sec. 57, R.A. 8424)
GR: The taxing power of a country is limited to persons and
Q: The Municipality of Malolos passed an ordinance property within and subject to its jurisdiction.
imposing a tax on any sale or transfer of real property
located within the municipality at a rate of ¼ of 1% of the Reasons:
total consideration of the transaction. “X” sold a parcel of 1. Taxation is an act of sovereignty which could only be
land in Malolos which he inherited from his deceased exercised within a country’s territorial limits.
parents and refused to pay the aforesaid tax. He instead

UNIVERSITYOFSANTOTOMAS 14
2014GOLDENNOTES
GENERAL PRINCIPLES OF TAXATION
2. This is based on the theory that taxes are paid for the SITUS OF TAXATION
protection and services provided by the taxing authority
which could not be provided outside the territorial Meaning of situs of taxation
boundaries of the taxing State.
It is the place or authority that has the right to impose and collect
XPNs: taxes. (Commissioner v. Marubeni, G.R. No. 137377, Dec.18,
1. Where tax laws operate outside territorial jurisdiction 2001)
– i.e. Taxation of resident citizens on their incomes
derived abroad. Factors that determine the situs of taxation (ReCiNS2)
2. Where tax laws do not operate within the territorial
jurisdiction of the State. 1. Residence of the taxpayer
a. When exempted by treaty obligations; or 2. Citizenship of the taxpayer
b. When exempted by international comity. 3. Nature of the tax
4. Subject matter of the tax
5. Source of income.

SITUS OF INCOME TAX, PROPERTY TAXES, EXCISE TAX, BUSINESS TAX

OBJECT SITUS
INCOME TAX
Nationality – applied to RC, DC Upon sources of income derived within and without the Philippines
Place – applied to NRC, NRA, NRFC Upon sources of income derived within the Philippines
Residence – applied to RA, RFC Upon sources of income derived within the Philippines
PROPERTY TAX
Real Property Location of the property (lex rei sitae / lex situs)

Rationale:
1. The taxing authority has control because of the stationary and fixed
character of the property.
2. The place where the real property is situated gives protection to the real
property; hence the property or its owner should support
the government of that place.
Personal Property Domicile of the owner (mobilia sequuntur personam)

Rationale: The place where the tangible personal property is found gives
its protection.

Where the property is physically located although the owner resides in another
jurisdiction (51 Am Jur. 467)

GR: Situs of intangible personal property is the domicile of the owner pursuant
to the principle of the mobilia sequntur personam.

XPN:
1. When the property has acquired a business situs in another
jurisdiction;
2. When an express provision of the statute provide for another rule,
i.e. Sec. 104 of the NIRC in case of donor’s and estate tax

EXCISE TAX / DONOR’S TAX / ESTATE TAX


Nationality– applied to RC, NRC Taxed upon their properties wherever situated
Place – applied to NRA Taxed on properties situated within the Philippines
Residence – applied to RA Taxed upon their properties wherever situated
BUSINESS TAX
Place where the act/ business is performed or occupation is engaged in
Sale of real property Place where the property is located

UNIVERSITY OFSANTOTOMA S
15 F A C U L TY O F C I V I L L A W
Law on Taxation
Sale of personal property 1. Personal property produced within the Philippines and sold
without, or produced without and sold within – any gain or profit or
income shall be treated as derived partly from sources within and partly
from sources without.
2. Purchase of personal property within and its sale without, or
purchase of personal property without and its sale within – any gain or
profit or income shall be treated as derived entirely from sources within
the country in which it is sold.
3. Shares of stock in a domestic corporation – Gain, profit or income is
treated as derived entirely from sources within the Philippines, regardless
of where the said shares are sold (Reviewer in Taxation, p. 109 ,
Mamalateo 2008)

VAT Where the goods, property or services are destined, used or


consumed

Doctrine of mobilia sequuntur personam document is deemed to be dispatched at the place where the
originator has its place of business and received at the place
Literally, it means “Movable follows the person/owner”. where the addressee has its place of business. This rule shall
However, a tangible property may acquire situs elsewhere also apply to determine the tax situs of such transaction.
provided it has a definite location there with some degree of
permanency. Unless otherwise agreed upon by the parties, the following
rules shall apply in determining the place of dispatch or receipt
Intangible properties with situs in the Philippines for of electronic data message or document.
purposes of estate and donor’s taxes:
FACTUAL SITUATION: PLACE OF DISPATCH
Fran-­‐Sha4 (Organized-­‐Established-­‐85-­‐Foreign Situs) ORIGINATOR OR (ORIGINATOR) OR RECEIPT
1. Franchise which must be exercised in the Philippines; ADDRESSEE HAS: (ADDRESSEE)
2. Shares, obligations or bonds issued by any corporation or Only one place of business Place of business
sociedad anonima Organized or constituted in the
Philippines in accordance with its laws; More than one place of Place which has closest
3. Shares, obligations or bonds by any foreign corporation business, with underlying relationship to the
85% of its business is located in the Philippines; transaction underlying transaction
4. Shares, obligations or bonds issued by any Foreign More than one place of Principal place of business
corporation if such shares, obligations or bonds have business, without underlying
acquired a business Situs in the Philippines; transaction
5. Shares or rights in any partnership, business or industry No place of business If originator or addressee is
Established in the Philippines (Sec. 104, NIRC) a natural person – Habitual
residence.
NOTE: These are considered located in the Philippines, regardless of the
residence of the donor or decedent.EXCEPT where the foreign If body corporate – usual
country grants exemption or does not impose taxes on intangible place of residence (place
properties to Filipino citizens. where it is incorporated or
otherwise legally
Application of the doctrine of mobilia sequuntur
constituted).
personam not mandatory in all cases
NOTE: Section 23 only creates a rebuttable presumption and applies
Such doctrine has been decreed as a mere "fiction of law having even if the originator or addressee has used a laptop or other portable
its origin in considerations of general convenience and public device to transmit or receive his electronic data message or electronic
policy, and cannot be applied to limit or control the right of the document.
State to tax property within its jurisdiction," and must "yield to
established fact of legal ownership, actual presence and If the income or property has acquired multiple situs, it is possible that
control elsewhere, and cannot be applied if to do so would certain properties be subject to tax in several taxing jurisdictions.
result in inescapable and patent injustice." (Wells Fargo Bank
and Union Trust v. Collector, G.R. No. L-­‐46720, June 28, Remedies available against multiplicity of situs
1940).
Tax laws and treaties with other States may:
Situs of taxation in electronic transactions 1. Exempt foreign nationals from local taxation and local
nationals from foreign taxation under the principle of
As provided for under Section 23 of the E--‐ Commerce Act reciprocity;
(R.A. 8792), an electronic data message or electronic

UNIVERSITYOFSANTOTOMAS 16
2014GOLDENNOTES
GENERAL PRINCIPLES OF TAXATION
2. Credit foreign taxes paid from local taxes due; National Government, its agencies and instrumentalities and other LGUs.
3. Allow foreign taxes as deduction from gross income; or
4. Reduce the Philippine income tax rate. Rationale for the government to tax itself notwithstanding
that it only incurs administrative cost in the process
INTERNATIONAL COMITY
Taxes, even those coming from the government, are shared with
International comity refers to the respect accorded by nations the local government units through the internal revenue
to each other because they are sovereign equals. Thus, the allocation. On the other hand, the increased income arising
property or income of a foreign state may not be the subject of from the tax exemption translates to more revenues or dividends
taxation by another State. to the national government. However, in case of dividends,
GOCCs are only required to remit 50% of their profits. These
International comity as a limitation on the power to tax revenues need not be shared with the local government units.

The Philippine Constitution expressly adopted the generally Q: Will the mere fact that an entity is an agency or
accepted principles of international law as part of the law of the instrumentality of the national government make it
land. (Sec. 2, Art. II, 1987 Constitution) exempt from local or national tax?

Thus, a State must recognize such generally accepted tenets A: It depends:


of International Law that limit the authority of the government to 1. Agencies performing governmental functions are tax
effectively impose taxes upon a sovereign State and its exempt unless expressly taxed.
instrumentalities. 2. Agencies performing proprietary functions are subject to
tax unless expressly ex
Reasons: 3. empted.
1. In par in parem non habet imperium. As between
equals there is no sovereign. (Doctrine of Sovereign Q: The City of Iloilo filed an action for recovery of sum of
Equality) money against Philippine Ports Authority (PPA), seeking to
2. The concept that when a foreign sovereign enters the collect real property taxes as well as business taxes,
territorial jurisdiction of another, it does not subject itself to computed from the last quarter of 1984 to the fourth
the jurisdiction of the other. quarter of 1988. It was alleged that the PPA is engaged in
3. The rule of international law that a foreign government the business of arrastre services, stevedoring services,
may not be sued without its consent so that it is useless to leasing of real estate, and a registered owner of a
impose a tax which could not be collected. warehouse which is used in the operation of its business.
From these, PPA was alleged to be obligated to pay
EXEMPTION FROM TAXATION OF GOVERNMENT ENTITIES business taxes and real property taxes.

Government may tax itself The RTC of Iloilo held PPA liable for the payment of real
property taxes and for business taxes. However, it held
Since sovereignty is absolute and taxation is an act of high that the City of Iloilo may not collect business taxes on
sovereignty, the State if so minded could tax itself, PPA’s arrastre and stevedoring services, as these form
including its political subdivisions(Maceda v. Macaraeg, G.R. part of PPA’s governmental functions.
No. 88291, June 8, 1993). 1. Is the warehouse subject to local taxes?
2. Is the income from the lease of PPA’s property
Rules on tax exemptions of government agencies or subject to tax?
instrumentalities
A:
GR:The government is exempt from tax. 1. Yes. PPA’s warehouse, which, although located within the
port is distinct from the port itself. Considering the
Rationale: Otherwise, we would be “taking money from warehouse’s separable nature as an improvement upon
one pocket and putting it in another.” (Board of the port, and the fact that it is not open for use by everyone
Assessment Appeals of Laguna v. CTA, G.R. No. L-­‐ and freely accessible to the public, it is not part of the port as
18125, May 31, 1963) stated in Article 420 of the Civil Code. The exemption of
public property from taxation does not extend to
XPN: When it chooses to tax itself. Nothing prevents improvements made thereon by homesteaders or
Congress from decreeing that even instrumentalities or occupants at their own expense.
agencies of the government performing government functions
may be subject to tax. Where it is done precisely to fulfill a 2. The admission that PPA leases out to private persons for
constitutional mandate and national policy, no one can doubt convenience and not necessarily as part of its
its wisdom(MCIAA v. Marcos, G.R. No. 120082, Sept. 11, governmental function of administering port operations
1996) . is an admission that the act was a corporate power. Any
income or profit generated by a corporation, even if organized
NOTE: If the taxing authority is the local government unit, RA 7160 without any intention of
expressly prohibits local government units from levying tax on the

UNIVERSITY OFSANTOTOMA S
17 F A C U L TY O F C I V I L L A W
Law on Taxation
realizing profit in the conduct of its activities, is subject to tax. imposed on a per head basis. The present poll tax is the
community tax.
What matters is the established fact that PPA leased out
it’s building to private entities from which it regularly Rule on non-­‐payment of TAX
earned substantial income. Thus, in the absence of any
proof of exemption therefrom, PPA is declared liable for GR: A person may be imprisoned for non--‐ payment of
the assessed business taxes (Philippine Ports internal revenue taxes, such as income tax as well as other taxes
Authority v. City of Iloilo, G.R. No. 109791, July 14, that are not poll taxes if expressly provided bylaw.
2003).
XPN: A person cannot be sent to prison for failure to pay the
Rule on government educational institutions exempt community tax.
from taxes
UNIFORMITY AND EQUALITY OF TAXATION
GR: They shall not be taxed with respect to their income.
“The rule of taxation shall be uniform and equitable. The
XPN: The income of whatever kind and character: Congress shall evolve a progressive system of taxation (Sec. 28[1],
1. From any of their properties, real or personal, or Art. VI, 1987 Constitution).
2. From any of their activities conducted for profit,
regardless of the disposition made of such income, shall Discussion of uniformity, equitability and equality with
be subject to tax imposed (Sec. 30 [1], NIRC) regard to taxation

Q: What about the constitutional tax exemption for non-­‐ 1. Uniformity – It means all taxable articles or kinds of
stock non-­‐profit educational institutions? property of the same class shall be taxed at the same rate.

A: All revenues and assets of non--‐ stock, non--‐ profit NOTE: Tax is uniform when it operates with the same force and
educational institutions used actually, directly, and effect in every place where the subject is found. Different
exclusively for educational purposes shall be exempt from articles may be taxed at different amounts provided that the
rate is uniform on the same class everywhere, with all people at
taxes and duties. Upon the dissolution or cessation of the
all times.
corporate existence of such institutions, their assets shall be
disposed of in the manner provided by law (Art. XIV, Sec. 4, 1987 The Constitution requires that taxes should be uniform and
Constitution). equitable. Uniformity in taxation requires that all subjects or objects
of taxation, similarly situated, are to be treated alike both in privileges
NOTE: Income derived from any public utility or from the exercise of any and liabilities. This requirement, however, is unwittingly violated
essential governmental function accruing to the government or to any when brands all belong to the same category and a revenue
political subdivision thereof is exempt from income tax(Sec. regulation imposed different (and grossly disproportionate) tax
32[B][7][b], NIRC). rates (CIR vs. Fortune Tobacco Corporation, G.R. No. 180006,
September 28, 2011).
NOTE: The constitutional exemption covers income, property and donor’s
taxes, and customs duties, provided that the revenue, asset, property 2. Equitability – When its burden falls on those better able
or donations is used actually, directly and exclusively for educational to pay.
purposes.
3. Equality – When the burden of the tax falls equally and
NOTE: Under Sec. 101[A] [3], of the 1997 NIRC gifts made in favor of
religious, charitable or educational organizations would nevertheless impartially upon all the persons and property subject to
qualify for donor’s tax exemption provided that not more 30% of said it.
gifts shall be used by such donee for administration purposes.
NOTE: In Tolentino v. Sec. of Finance, 249 SCRA 628, it was
CONSTITUTIONAL LIMITATIONS held that Equality and uniformity of taxation means all taxable
articles or kinds of property of the same class be taxed at the
same rate. The taxing power has the authority to make reasonable
PROVISIONS DIRECTLY AFFECTING TAXATION
and natural classifications for purposes of taxation. To satisfy this
requirement, it is enough that the statute or ordinance applies
PROHIBITION AGAINST IMPRISONMENT FOR NON-­‐ equally to all persons, frims and corporations placed in a similar
PAYMENT OF POLL TAX situation.

Basis: “No person shall be imprisoned for debt or non--‐ NOTE: Universal application of laws on all persons or things
payment of a poll tax.” (Sec.20, Art.III, 1987 Constitution) without distinction is not required. What the Constitution requires
is equality among equals as determined according to a valid
classification.(Abakada Guro PartyList v. Ermita, 469 SCRA
Define a poll tax
1).

It is a fixed amount upon all persons, or upon all persons of a


certain class, residents within a specified territory, without
regard to their property or occupation. It is a tax

UNIVERSITYOFSANTOTOMAS 18
2014GOLDENNOTES
GENERAL PRINCIPLES OF TAXATION
The requirement of uniformity as a limitation in the GRANT BY CONGRESS OF AUTHORITY TO THE PRESIDENT
imposition and/or collection of taxes (1998 Bar Question) TO IMPOSE TARIFF RATES

The criterion is met when the tax laws operate equally and Authority of the President in imposing tax
uniformly on all persons under similar circumstances. All
persons are treated in the same manner, the conditions not The Congress may, by law, authorize the President to fix within
being different, both in privileges conferred and liabilities specified limits and subject to such limitations and restrictions at it
imposed. Uniformity in taxation also refers to geographical may impose, (1) tariff rates, (2) import and export quotas, (3)
uniformity. Favoritism and preference is not allowed. tonnage and wharfage dues and (4) other duties or imposts
within the framework of the national development program of the
NOTE: Singling out one particular class for taxation purposes does not Government. (Sec. 28 [2], Art. VI, 1987 Constitution)
infringe the requirements of uniformity.
Requisites in order for the President to validly impose
Progressive taxation tariff rates, import and export quotas, tonnage and
wharfage dues
Taxation is progressive when tax rate increases as the
income of the taxpayer increases. 1. Delegated by Congress through a law
2. Subject to Congressional limits and restrictions
Rationale:It is built on the principle of the taxpayer’s ability 3. Within the framework of national development program.
to pay and in implementation of the social justice
principle that the more affluent should contribute more PROHIBITION AGAINST TAXATION OF RELIGIOUS,
to the community’s benefit. To whom much is given, CHARITABLE ENTITIES AND EDUCATIONAL PURPOSES
much is required.
Properties exempt under the Constitution from the
Q: Is VAT regressive? payment of property taxes

A: Yes. The principle of progressive taxation has no relation with 1. Charitable institutions
the VAT system inasmuch as the VAT paid by the consumer or 2. Churches and parsonages or convents appurtenant
business for every goods bought or services enjoyed is the same thereto,
regardless of income. In other words, the VAT paid eats the same 3. Mosques
portion of an income, whether big or small. The disparity lies in 4. Non--‐ profit cemeteries and
the income earned by a person or profit margin marked by a 5. All lands, buildings and improvements actually, directly
business, such that the higher the income or profit margin, the and exclusively used for religious, charitable or educational
smaller the portion of the income or profit that is eaten by VAT. purposes shall be exempt from taxation(Sec. 28(3), Art.
A converso, the lower the income or profit margin, the bigger the VI, 1987 Constitution).
part that the VAT eats away. At the end of the day, it is really the
lower income group or businesses with low--‐ profit margins that Q: To what exemption does the constitutional exemption
is always hardest hit (ABAKADA Guro v. Ermita, G.R. No. of all lands, buildings and improvements actually, directly
168056, September1, 2005). and exclusively used for religious, charitable and
educational purposes refer to?
NOTE: Not regressive as defined in such a manner that the tax rate
decreases as the amount subject to taxation increases.
A: It pertains to exemption from real property taxes only.
Q: Does the Constitution prohibit regressive taxes?
Meaning of the term “exclusive”
A: No, what the Constitution simply provides is that
Congress shall evolve a progressive system of taxation. It is defined as possessed and enjoyed to the exclusion of others;
debarred from participation or enjoyment; and “exclusively” is
Meaning of “evolve” as used in the Constitution defined, "in a manner to exclude; as enjoying a privilege
exclusively.”
The constitutional provision has been interpreted to mean simply
NOTE: If real property is used for one or more commercial purposes,
that "direct taxes are to be preferred and as much as possible,
it is not exclusively used for the exempted purposes but is subject to
indirect taxes should be minimized. The mandate of
taxation.
Congress is not to prescribe but to evolve a progressive tax
system. This is a mere directive upon Congress, not a Exclusivity is NOT synonymous with dominant use
justiciable right or a legally enforceable one. We cannot avoid
regressive taxes but only minimize them (Tolentino et.al. v.
The words "dominant use" or "principal use" cannot be
Secretary of Finance, G.R. No. 115455, Oct. 30, 1995).
substituted by the words "used exclusively" without doing
violence to the Constitution and the law. Solely is
synonymous with exclusively.

UNIVERSITY OFSANTOTOMA S
19 F A C U L TY O F C I V I L L A W
Law on Taxation
Meaning of “actual, direct and exclusive use of the
property for religious, charitable and educational b. Donations received by religious, charitable, and
purposes” educational institutions are considered as income but
not taxable income as they are items of exclusion.
It is the direct and immediate and actual application of the
property itself to the purposes for which the charitable On the part of the donor, such donations are
institution is organized. It is not the use of the income from the real deductible expense provided that no part of the
property that is determinative of whether the property is used income of which inures to the benefit of any private
for tax--‐ exempt purposes. stockholder or individual in an amount not exceeding
10% in case of individual, and 5% in case of a
NOTE: In the recent case of Lung Center of the Philippines v. City corporation, of the taxpayer’s taxable income derived
Assessor of Quezon City, the issue on whether or not the portions of the from trade or business or profession. (Sec.34 [H],
real property of Lung Center is exempt from real property taxes, was NIRC).
resolved by the Court by reexamining the intent of the constitutional
provision granting tax exemptions and made the following ruling:
2. For purposes of donor’s and estate taxation -­‐
The tax exemption under this constitutional provision covers donations in favor of religious and charitable
property taxes only.As Chief Justice Hilario G. Davide, Jr., then a institutions are generally not subject to tax provided,
member of the 1986 Constitutional Commission, explained: ". . . what is however, that not more than 30% of the said bequest,
exempted is not the institution itself . . .; those exempted from real devise, or legacy or transfer shall be used for
estate taxes are lands, buildings and improvements actually, directly administration purposes(Secs. 87[D] and 101, NIRC).
and exclusively used for religious, charitable or educational purposes."
Q: In 1991, Imelda gave her parents a Christmas gift of
Under the 1935 Constitution, "all lands, buildings, and improvements
used “exclusively” for religious and charitable purposes shall be P100, 000.00 and a donation of P80,000 to the parish
exempt from taxation." However, under the 1973 and the 1987 church. She also donated a parcel of land for the
Constitutions, for "lands, buildings, and improvements" of the construction of a building to the PUP Alumni Association a
charitable institution to be considered exempt, the same should not non-­‐stock, non-­‐profit organization. Portions of the
only be "exclusively" used for charitable purposes; it is required that Building shall be leased to generate income for the
such property be used "actually" and "directly" for such purposes. association.
1. Is the Christmas gift of P100, 000.00 to Imelda’s
Under the 1973 and 1987 Constitutions and Rep. Act No. 7160 in order to
Parents subject to tax?
be entitled to the exemption, the petitioner is burdened to prove, by clear
and unequivocal proof, that (a) it is a charitable institution; and 2. How about the donation to the parish church?
(b) its real properties are ACTUALLY, DIRECTLY and 3. How about the donation to the PUP alumni
EXCLUSIVELY used for charitable purposes. "Exclusive" is defined as association? (1994 Bar Question)
possessed and enjoyed to the exclusion of others; debarred from
participation or enjoyment; and "exclusively" is defined, "in a manner to A:
exclude; as enjoying a privilege exclusively." If real property is used
1. The Christmas gift of P100,000 given by Imelda to her
for one or more commercial purposes, it is not exclusively used for the
parents is not taxable because under the law (Section
exempted purposes but is subject to taxation. The words "dominant use"
or "principal use" cannot be substituted for the words "used 99[A], NIRC), net gifts not exceeding P100,000 are
exclusively" without doing violence to the Constitutions and the law. exempt.
Moreover, it is not the use of the income from the real property that is
determinative of whether the property is used for tax--‐ exempt purposes but 2. The donation of P80,000.00 to the parish church even is tax
the use of the property itself. exempt provided that not more than 30% of the said bequest
shall be used by such institutions for administration
Rules on taxation of non-­‐stock corporations for charitable purposes(Section 101[A][3], NIRC).
and religious purposes
3. The donation to the PUP alumni association does not also
1. For purposes of income taxation qualify for exemption both under the Constitution and the
a. The income of non--‐ stock corporations operating aforecited law because it is not an educational or research
exclusively for charitable and religious purposes, no organization, corporation, institution, foundation or trust.
part of which inures to the benefit of any member,
organizer or officer or any specific person, shall be Q: The Constitution exempts from taxation charitable
exempt from tax. institutions, churches, parsonages, or convents
appurtenant thereto, mosques, and non-­‐profit cemeteries
However, the income of whatever kind and nature and lands, buildings and improvements actually, directly,
from any of their properties, real or personal or from and exclusively used for religious, charitable or
any of their activities for profit regardless of the educational purposes.
disposition made of such income shall be subject
to tax.(Sec. 30 [E] and last par., NIRC). Mercy hospital is a 100 bed hospital organized for charity
patients. Can said hospital claim exemption from taxation
under the provision? (1996 Bar Question)

UNIVERSITYOFSANTOTOMAS 20
2014GOLDENNOTES
GENERAL PRINCIPLES OF TAXATION
A: Yes. Mercy hospital can claim exemption from taxation under NOTE: Under the present Constitution, the doctirine of exemption by
the provision of the Constitution, but only with respect to real incidental purpose is no longer applicable. Such doctrine is only applicable
property taxes provided that such real properties are used to cases where the cause of action arose under the 1935 Constitution.
Under the present Constitution, it must be prove that the properties
actually, directly, and exclusively for charitable purposes.
are ACTUALLY, DIRECTLY and EXCLUSIVELY used for the purpose of
institution for the exemption to be granted (Taxation Law Review,
Q: Article VI, Section 28(3) of the 1987 Philippine Sababan 2008).
Constitution provides that charitable institutions,
churches and parsonages or covenants appurtenant PROHIBITION AGAINST TAXATIONOF NON-­‐STOCK,
thereto, mosques, non-­‐profit cemeteries and all lands, NON-­‐PROFIT INSTITUTIONS
buildings and improvements actually, directly, and
exclusively used for religious, charitable or educational All revenues and assets of non--‐ stock, non--‐ profit
purposes shall be exempt from taxation. To what kind of educational institutions used actually, directly, and
taxes does this exemption apply? (2000 Bar Question) exclusively for educational purposes shall be exempt from taxes
and duties(Sec. 4[3], Article XIV, 1987 Constitution).
A: This exemption applies only to property taxes. What is
exempted is not the institution itself but the lands, buildings, NOTE: Incomes which are unrelated to school operations are
and improvements actually, directly and exclusively used for taxable.
religious, charitable, and educational purposes. (Commissioner
of Internal Revenue v. Court of Appeals, et al. G.R. No. Q: Under Article XIV, Section 4(3) of the 1987
124043, Oct. 14, 1998) Constitution, all revenues and assets of non-­‐stock, non-­‐
profit educational institutions, used actually, directly and
Q: The Roman Catholic Church owns a 2 hectare lot in a exclusively for educational purposes, are exempt from
town in Tarlac province. The southern side and middle taxes and duties. Are income derived from dormitories,
part are occupied by the church and a convent, the canteens and bookstores as well as interest income on
eastern side by the school run by the church itself. The bank deposits and yields from deposit substitutes
south eastern side by some commercial establishments, automatically exempt from taxation? (2000 Bar Question)
while the rest of the property, in particular, the
northwestern side, is idle or unoccupied. May the church A: No. The interest income on bank deposits and yields from
claim tax exemption on the entire land? (2005 Bar deposit substitutes are not automatically exempt from taxation.
Question) There must be a showing that the incomes are used actually,
directly, and exclusively for educational purposes.
A: No. The portion of the land occupied and used by the
church, convent and school run by the church are exempt from The income derived from dormitories, canteens and
real property taxes while the portion of the land occupied by bookstores are not also automatically exempt from taxation.
commercial establishments and the portion, which is idle, are There is still a requirement for evidence to show actual, direct and
subject to real property taxes. The “usage” of the property and not exclusive use for educational purposes.
the “ownership” is the determining factor whether or not the
property is taxable. (Lung Center of the Philippines v. Quezon NOTE: It is to be noted that the 1987 Constitution does not
City, G.R. No. 144104, June 29, 2004) distinguish with respect to the source or origin of the income. The
distinction is with respect to the use which should be actual, direct and
exclusive for educational purposes. Consequently, the provision of
SUMMARY RULES ON EXEMPTION OF PROPERTIES Section 30 of the NIRC of 1997, that a non--‐ stock and non--‐ profit
ACTUALLY, EXCLUSIVELY AND DIRECTLY USED FOR educational institution is exempt from taxation only “in respect to income
RELIGIOUS, EDUCATIONAL AND CHARITABLE PURPOSES received by them as such” could not affect the constitutional tax
exemption. Where the Constitution does not distinguish with respect to
Coverage of this Covers Real Property tax only. source or origin, the Tax Code should not make distinctions (Reviewer
Constitutional on Taxation, p. 59, Mamalateo 2008).
Provision The income of whatever kind and
nature from any of their properties, real MAJORITY VOTE OF CONGRESS FOR GRANT OF TAX
or personal or from any of their activities EXEMPTION
for profit regardless of the disposition
made of such income No law granting tax exemption shall be passed without the
shall be subject to tax. concurrence of a majority vote of all the Members of the
Congress (Sec.28[4], Art. VI, 1987 Constitution).
Requisite to avail of Property must be “actually, directly and
this exemption exclusively used” by religious,
Basis:The inherent power of the State to impose taxes
charitable and educational
institutions. carries with it the power to grant tax exemptions.
Test for the grant of Use of the property for such
Exemptions may be created:
this Exemption purposes, not the ownership
1. By the Constitution or
thereof
2. By statute, subject to limitations as the Constitution may
provide.

UNIVERSITY OFSANTOTOMA S
21 F A C U L TY O F C I V I L L A W
Law on Taxation
Required vote for grant of tax exemption b. The legality of any penalty imposed in relation thereto (Sec.
5[2][b], Art. VIII, 1987 Constitution)
In granting tax exemptions, the absolute majority vote of all the
members of Congress is required. It means at least 50% plus 1 of NOTE: These jurisdictions are concurrent with the Regional Trial
all the members voting separately(Sec.28[4], Art. VI, 1987 Courts; thus, the petition should generally be filed with the RTC following
Constitution). the hierarchy of courts. However, questions on tax laws are usually filed
direct with the Supreme Court as these are impressed with
paramount public interest. It is also provided under Sec. 30, Art VI of
Reason for the separate vote for senate and congress the Constitution that “no law shall be passed increasing the appellate
jurisdiction of the Supreme Court without its advice and concurrence.”
Because the sheer number of Congressmen would dilute the
vote of the Senators. GR: The courts cannot inquire into the wisdom of a taxing act.

Required vote for withdrawal of such grant of tax XPN: There is an allegation of violation of constitutional
exemption limitations or restrictions.

A relative majority or plurality of votes is sufficient, that is, majority


of a quorum.
GRANT OF POWER TO THE LOCAL GOVERNMENT UNITS
PROHIBITION ON USE OF TAX LEVIED FOR SPECIAL TO CREATE ITS OWN SOURCES OF REVENUE
PURPOSE
Justification for the delegation of legislative taxing power
Treatment of all money collected on any tax levied for a to local governments
special purpose
Each local government unit shall have the power to create its own
It is treated as a special fund and paid out for such purpose only. If sources of revenues and to levy taxes, fees and charges
the purpose for which a special fund was created has been subject to such guidelines and limitations as the Congress may
fulfilled or abandoned, the balance, if any, shall be transferred to provide, consistent with the basic policy of local autonomy. Such
the general funds of the government (Sec. 29[3], Art. VI, taxes, fees, and charges shall accrue exclusively to the local
1987 Constitution). governments(Article X, Section 5, 1987 Constitution).

NOTE: In Gaston v. Republic Planters Bank, 158 SCRA 626, the FLEXIBLE TARIFF CLAUSE
Court ruled that the “stabilization fees” collected by the State
(PHILSUCOM) for the promotion of the sugar industry were in the nature
This clause provides the authority given to the President to adjust
of taxes and no implied trust was created for the benefit of sugar industries.
Thus, the revenues derived therefrom are to be treated as a special fund tariff rates under Section 401 of the Tariff and Customs
to be administered for the purpose intended. No part thereof may be Code. (Garcia v. Executive Secretary, G.R. No. 101273,
used for the exclusive benefit of any private person or entitiy but fot the July 3, 1992)
benefit of the entire sugar industry. Once the purpose is achieved, the
balance, if any remaining, is to be transferred to the general funds of NOTE: This authority, however, is subject to limitations and
the government (Tax Law and Jurisprudence p.20, Vitug and restrictions indicated within the law itself.
Acosta, 2000). The Congress may, by law, authorize the President to fix within
specified limits and subject to such limitations and restrictions at it may
PRESIDENT’S VETO POWER ON APPROPRIATION, REVENUE impose, (1) tariff rates, (2) import and export quotas, (3)tonnage and
AND TARIFF BILLS wharfage dues and (4) other duties or imposts within the framework of
the national development program of the Government. (Sec. 28 [2], Art.
VI, 1987 Constitution)
GR: The President may not veto a bill in part and approve it in part.
EXEMPTION FROM REAL PROPERTY TAXES
XPN: The President shall have the power to veto any
particular item or items (item veto) in an (1) Appropriation,
Please refer to Prohibition against taxation of religious,
(2) Revenue or (3) Tariff bill but the veto shall not affect the item or
charitable entities, and educational entities.
items which he does not object(Sec. 27(2), Art. VI, 1987
Constitution)
NO APPROPRIATION OR USE OF PUBLIC MONEY FOR
RELIGIOUS PURPOSES
NON-­‐IMPAIRMENT OF JURISDICTION OF
THE SUPREME COURT
GR: No public money or property cannot be used for a
religious purpose (Sec. 28[3], Art VI, 1987 Constitution).
Jurisdiction of the Supreme Court as provided by the
Constitution
XPN: If a priest is assigned to the armed forces, penal
institutions, government orphanages or leprosarium
The Supreme Court can review judgments or orders of lower
(Sec.29[2], Art.VI, 1987 Constitution)
courts in all cases involving:
a. The legality of any tax, impost, assessment, or toll;

UNIVERSITYOFSANTOTOMAS 22
2014GOLDENNOTES
GENERAL PRINCIPLES OF TAXATION
ORIGIN OF REVENUE AND TARIFF BILLS house bills which is to raise revenues for the
government. The sections introduced by the Senate are
What is required to originate in the House of germane to the subject matter and purposes of the house bills,
Representativesis not the law but the revenue bill which must which is to supplement our country’s fiscal deficit, among
“originate exclusively” in the lower house. The bill may undergo others. Thus, the Senate acted within its power to propose
such extensive changes that the result may be a rewriting of the those amendments.
whole. The Senate may not only concur with amendments but
also propose amendments. To deny the Senate's power not 2. No. The “no--‐ amendment rule” refers only to the
only to "concur with amendments" but also to "propose procedure to be followed by each house of Congress with
amendments" would be to violate the coequality of legislative regard to bills initiated in each of said respective houses,
power of the two houses of Congress and in fact make the House before said bill is transmitted to the other house for its
superior to the Senate (Tolentino v. Secretary of Finance, concurrence or amendment. Verily, to construe said
G.R. No. 115873, Aug. 25, 1994). provision in a way as to proscribe any further changes to a
bill after one house has voted on it would lead to absurdity as
Q: Why must appropriation, revenue or tariff bills this would mean that the other house of Congress would
originate from the Congress? be deprived of its Constitutional power to amend or
introduce changes to said bill. Thus, Art. VI, Sec. 26 (2) of the
A: On the theory that, elected as they are from the districts, Constitution cannot be taken to mean that the introduction
the members of the House of Representatives can be expected to by the Bicameral Conference Committee of amendments and
be more sensitive to the local needs and problems. modifications to disagreeing provisions in bills that have
been acted upon by both houses of Congress is
Q: Mounting budget deficit, revenue generation, prohibited(Abakada Guro v. Executive Secretary, G.R.
inadequate fiscal allocation for education, increased No. 168056, 168207, 168461, 168463 and 168730,
emoluments for health workers, and wider coverage for Sept. 1, 2005).
full VAT benefits are the reasons why R.A No. 9337 was
enacted. R.A. No. 9337 is a consolidation of three PROVISIONS INDIRECTLY AFFECTING TAXATION
legislative bills namely, HB Nos. 3555 and 3705, and SB
No. 1950. Because of the conflicting provisions of the DUE PROCESS
proposed bills, the Senate agreed to the request of the
House of Representatives for a committee conference. Requirements of due process in taxation
The Conference Committee on the Disagreeing Provisions
of House Bill recommended the approval of its report, Substantive Due Process
which the Senate and the House of the Representatives 1. Tax must be for public purpose;
did. 2. It must be imposed within territorial jurisdiction;
1. Does R.A. No. 9337 violate Article VI, Section 24 of
the Constitution on exclusive origination of revenue Procedural Due Process
bills? 1. No arbitrariness or oppression either in the assessment
2. Does R.A. No. 9337 violate Article VI, Section 26(2) of or collection.
the Constitution on the “No-­‐Amendment Rule”?
Q: When is deprivation of life, liberty and property by the
A: government done in compliance with due process?
1. No. It was HB Nos. 3555 and 3705 that initiated the move
for amending provisions of the NIRC dealing mainly with A: If the act is done:
the VAT. Upon transmittal of said House bills to the Senate, 1. Under authority of a law that is valid or the Constitution
the Senate came out with SB No. 1950 proposing itself (substantive due process); and
amendments not only to NIRC provisions on the VAT but 2. After compliance with fair and reasonable methods of
also amendments to NIRC provisions on other kinds of procedure prescribed by law (procedural due process).
taxes.
Instance where the violation of due process may be
Since there is no question that the revenue bill invoked by the taxpayer
exclusively originated in the House of Representatives, the
Senate was acting within its Constitutional power to The due process clause may be invoked where a taxing statute
introduce amendments to the House bill when it included is so arbitrary that it finds no support in the Constitution, as
provisions in Senate Bill No. 1950 amending corporate where it can be shown to amount to a confiscation of
income taxes, percentage, excise and franchise taxes. property(Reyes v. Almanzor, G.R. Nos. L-­‐ 49839-­‐46 April
Verily, Article VI, Section 24 of the Constitution does not 26, 1991).
contain any prohibition or limitation on the extent of the
amendments that may be introduced by the Senate to the While it is true that the Philippines as a State is not obliged to
House revenue bill. The Senate can propose amendments admit aliens within its territory, once an alien is admitted, he
and in fact, the amendments made are germane to the cannot be deprived of life without due process of law. This
purpose of the guarantee includes the means of livelihood. The shelter of
protection under the due process

UNIVERSITY OFSANTOTOMA S
23 F A C U L TY O F C I V I L L A W
Law on Taxation
and equal protection clause is given to all persons, both aliens persons, property, or privileges and those not taxed must bear
and citizens. (Villegas v. Hiu Chiong Tsai Pao Ho, G.R. No. L-­‐ some reasonable relation to the object or purpose of legislation
29646, Nov. 10, 1978) or to some permissible government policy or legitimate end of
the government.
Illustrative cases of violations of the due process clause
Q: RC is a law abiding citizen who pays his real estate
1. Tax amounting to confiscation of property taxes promptly. Due to a series of typhoons and adverse
2. Subject of confiscation is outside the jurisdiction of the economic conditions, an ordinance is passed by MM City
taxing authority granting a 50% discount for payment of unpaid real estate
3. Law is imposed for a purpose other than a public taxes for the preceding year and the condonation of all
purpose penalties on fines resulting from the late payment.
4. Law which is applied retroactively imposes unjust and Arguing that the ordinance rewards delinquent taxpayers
oppressive taxes and discriminates against prompt ones, RC demands that
5. The law is in violation of inherent limitations. he be refunded an amount equivalent to ½ of the real
taxes he paid. The municipal attorney rendered an
EQUAL PROTECTION opinion that RC cannot be reimbursed because the
ordinance did not provide for such reimbursements. RC
No person shall be deprived of life, liberty, or property without files suit to declare the ordinance void on the ground that
due process of law, nor shall any person be denied the equal it is a class legislation. Will a suit prosper? (2004 Bar
protection of the laws (Sec. 1, Art. III, 1987 Question)
Constitution).
A: No. The remission or condonation of taxes due and
Equal protection of the law payable to the exclusion of taxes already collected does not
constitute unfair discrimination. Each set of taxes is a class by
It means that all persons subjected to such legislation shall be itself and the law would be open to attack as class legislation only if
treated alike, under like circumstances and conditions, both in all taxpayers belonging to one class were not treated alike(Juan
the privileges conferred and in the liabilities imposed(1 Luna Subdivision, Inc., v. Sarmiento, G.R. L-­‐3538, May 28,
Cooley 824-­‐825; Sison Jr. v. Ancheta, G.R. No. 59431, July 1952).
25, 1984).
Q: An E.O. was issued pursuant to law, granting tax and
The power to select subjects of taxation and apportion the public duty incentives only to businesses and residents within
burden among them includes the power to make classifications. the “secured area” of the Subic Economic Special Zone,
The inequalities which result in the singling out of one particular and denying said incentives to those who live within the
class for taxation or exemption infringe no Constitutional zone but outside such “secured area:” Is the
limitation (Lutz v. Araneta, G.R. No. L-­‐7859, Dec. 22, 1955). Constitutional right to equal protection of the law
violated by the Executive Order? (2000 Bar Question)
Requisites for a valid classification (PEGS)
A: No. There are substantial differences between big
1. Apply both to Present and future conditions; investors being enticed to the “secured area” and the
2. Apply Equally to all members of the same class. business operators outside that are in accord with the equal
3. Must be Germane to the purposes of the law; protection clause that does not require territorial uniformity of
4. Must be based on Substantial distinction. laws. The classification applies equally to all the resident
individuals and businesses within the secured area the
Q: Is Revenue Memorandum Circular No. 47-­‐91 classifying residents, being in like circumstances to contributing directly
copra as an agricultural non-­‐food product discriminatory to the achievement of the end purpose of the law are not
and violative of the equal protection clause? categorized further. Instead, they are similarly treated both in
privileges granted and obligation required. (Tiu, et al. v. Court
A: No. It is not violative and not discriminatory because there of Appeals, G.R. No. 127410, Jan. 20, 1999)
is a material or substantial difference between coconut
farmers and copra producers, on one hand, and copra traders Q: The City Council of Ormoc enacted Ordinance No. 4,
and dealers, on the other. The former produce and sell copra, Series of 1964 taxing the production and exportation of
the latter merely sells copra. The Constitution does not forbid the only centrifugal sugar. At the time of the enactment,
differential treatment of persons, so long as there is reasonable plaintiff Ormoc Sugar Co., was the only sugar central in
basis for classifying them differently (Misamis Oriental Ormoc. Petitioner alleged that said Ordinance is
Association of Coco Traders Inc. v. Secretary of Finance, unconstitutional for being violative of the equal
G.R. No. 108524, Nov. 10, 1994). protection clause. Is the Ordinance valid?

Principle of Equality A: No, equal protection clause applies only to persons or things
identically situated and does not bar a reasonable classification
It admits of classification or distinctions as long as they are based of the subject of legislation. The classification, to be reasonable,
upon real and substantial differences between the should be in terms applicable to future conditions as well. The
taxing ordinance should not be

UNIVERSITYOFSANTOTOMAS 24
2014GOLDENNOTES
GENERAL PRINCIPLES OF TAXATION
singular and exclusive as to exclude any substantially Rules regarding non-­‐impairment of obligation and
established sugar central, of the same class as Ormoc Sugar Co., contract with respect to the grant of tax exemptions
from the coverage of the tax (Ormoc Sugar Industry v. City
Treasurer of Ormoc City, G.R. No. L-­‐23794, Feb. 17, 1. If the grant of the exemption is merely a spontaneous
1968). concession by the legislature, such exemption may be
revoked. (unilaterally granted by law)
RELIGIOUS FREEDOM 2. If it is without payment of any consideration or the
assumption of any new burden by the grantee, it is a mere
Q: Is the real property tax exemption of religious gratuity. (franchise)
organizations violative of the non-­‐establishment clause? 3. However, if the tax exemption constitutes a binding
contract and for valuable consideration, the government
A: No. Neither the purpose nor the effect of the exemption is the cannot unilaterally revoke the tax exemption.
advancement or the inhibition of religion; and it constitutes (bilaterally agreed upon)
neither personal sponsorship of, nor hostility to religion (Walz v.
Tax Commission, 397 US 664). RA 7716 (E--‐ VAT Law) does not violate the non--‐ impairment
clause. Even if such taxation may affect particular contracts, as it
NOTE: Public money or property cannot be used for a religious may increase the debt of one person and lessen the security of
purpose (Sec. 28[3], Art VI, 1987 Constitution). Except,if a priest is another, or may impose additional burdens upon one class and
assigned to the armed forces, penal institutions, government release the burdens of another, still the tax must be paid unless
orphanages or leprosarium (Sec.29[2], Art.VI, 1987 Constitution).
prohibited by the Constitution, nor can it be said that it impairs the
obligations of any existing contract in its true and legal sense.
Q: Is the imposition of fixed license fee a prior restraint
on the freedom of the press and religious freedom? Contracts must be understood as having been made in
reference to the possible exercise of the rightful authority of the
A: Yes. As a license fee is fixed in the amount and unrelated government and no obligation of contract can extend to defeat the
to the receipts of the taxpayer, the license fee, when applied to a authority (Tolentino v. Secretary of Finance, ibid.).
religious sect, is actually being imposed as a condition for the
exercise of the sect’s right under the Constitution (Tolentino v. Q: X Corporation was the recipient in 1990 of two tax
Secretary of Finance, G.R. No. 115873, Aug. 25, 1994). exemptions both from Congress, one law exempting the
company’s bond issues from taxes and the other
Q: Is VAT registration restrictive of religious and press exempting the company from taxes in the operation of its
freedom? public utilities. The two laws extending the tax
exemptions were revoked by Congress before their expiry
A: No. The VAT registration fee although fixed in amount is not dates. Were the revocations Constitutional? (1997 Bar
imposed for the exercise of a privilege but only for the purpose of Question)
defraying part of the cost of registration (Ibid.).
A: Yes. The exempting statutes are both granted unilaterally
NON-­‐IMPAIRMENT CLAUSE
by Congress in the exercise of taxing powers. Since taxation is the
rule and tax exemption, the exception, any tax exemptions
Instances when there is impairment of the obligations of unilaterally granted can be withdrawn at the pleasure of the taxing
contract authority without violating the Constitution (Mactan Cebu
International Airport Authority v. Marcos, G.R. No. 120082,
When the law changes the terms of the contract by: Sept. 11, 1996).
1. Making new conditions; or
2. Changing conditions in the contract; or Q: A law was passed granting tax exemptions to certain
3. Dispenses with the conditions expressed therein. industries and investments for a period of 5 years but 3
years later, the law was repealed. With the repeal, the
Rationale for the non-­‐impairment clause in relation to exemptions were considered revoked by the BIR, which
contractual tax exemption assessed the investing companies for unpaid taxes
effective on the date of the repeal of the law.
When the State grants an exemption on the basis of a
contract, consideration is presumed to be paid to the State and the NPC and KTR companies questioned the assessments on
public is supposed to receive the whole equivalent therefore. the ground that, having made their investments in full
reliance with the period of exemption granted by the law,
NOTE: This applies only where one party is the government and the other
its repeal violated their Constitutional right against the
party, a private person.
impairment of the obligations and contracts. Is the
contention of the company tenable or not? (2004 Bar
Question)

A: The contention is not tenable. The exemption granted is in the


nature of a unilateral exemption. Since the

UNIVERSITY OFSANTOTOMA S
25 F A C U L TY O F C I V I L L A W
Law on Taxation
exemption given is spontaneous on the part of the 4. Refund – The recovery of any tax alleged to have been
legislature and no service or duty or other remunerative erroneously or illegally assessed or collected, or of any
conditions have been imposed on the taxpayer receiving the penalty claimed to have been collected without
exemption, it may be revoked by will by the legislature (Christ authority, or of any sum alleged to have been
Church v. Philadelphia, 24 How 300 [1860]). What excessively, or in any manner wrongfully collected.
constitutes an impairment of the obligation of contracts is the
revocation of an exemption which is founded on a valuable NOTE: If what is delegated is tax legislation, the delegation is invalid.
consideration because it takes the form and essence of a If what is delegated is tax administration, the delegation is valid. (Then
contract(Casanovas v. Hord, 8 Phil. 12 ,[1907]; Manila there is no delegation to speak of, because tax administration
pertains to the executive or administrative agencies)
Railroad Co. v. Insular Collector of Customs [1915]).
LEVY
FREEDOM OF THE PRESS
Kinds of rules relative to the imposition of tax
Q: RA 7716 was enacted to widen the tax base of the
existing VAT system and enhance its administration by
1. Legislative rule – subordinate legislation by the
amending the NIRC. The PPI questions the law insofar as it
Secretary of Finance.
has withdrawn the exemption previously granted to the
2. Interpretative rule – issuance of guidelines and
press under Section 103 (f) the NIRC. Although the
procedures to enhance the administration of tax laws by the
exemption was subsequently restored by administrative
Secretary of Finance.
regulation with respect to the circulation of income of
newspapers, PPI presses its claim because of the
Q: Taxes are assessed for the purpose of generating
possibility that the exemption may still be removed by
revenue to be used for public needs. Taxation itself is the
mere revocation of the regulation of the Secretary of
power by which the State raises revenue to defray the
Finance. Is RA 7716 unconstitutional for it violates the
expenses of government. A jurist said that a tax is what
freedom of the press under Sec.4, Art.III, 1987
we pay for civilization, in our jurisdiction, which of the
Constitution?
following statements may be erroneous:
1. Taxes are pecuniary in nature.
A: No. Even with due recognition of its high estate and its
2. Taxes are enforced charges and contributions.
importance in a democratic society, however the press is not
3. Taxes are imposed on persons and property within
immune from general regulation by the State. It has been held
the territorial jurisdiction of a State.
that the publisher of a newspaper has no immunity from the
4. Taxes are levied by the executive branch of the
application of general laws. He has no special privilege to invade
government.
the rights and liberty of others. He must answer for libel. He may be
5. Taxes are assessed according to a reasonable rule of
punished for contempt of court. Like others, he must pay
apportionment. (2004 Bar Question)
equitable and nondiscriminatory taxes on his business.
(Tolentino v. Secretary of Finance, G.R. No. 115873, Aug.
A: (4) Taxes are levied by the executive branch of
25, 1994)
government. This statement is erroneous because levy refers
to the act of imposition by the legislature which is done through
STAGES OF TAXATION
the enactment of a tax law. Levy is an exercise of the power to
tax which is exclusively legislative in nature and character. Clearly,
Stages/aspects of the system of taxation(LAcPR)
taxes are not levied by the executive branch of government.
(NPC v. Albay, G.R. No. 87479, June 4, 1990)
1. Tax Legislation (Levy or Imposition) – This refers to
the enactment of a law by Congress authorizing the
ASSESSMENT AND COLLECTION
imposition of tax. It further contemplates the
determination of the subject of taxation, purpose for which
Assessment and collection can be delegated, provided that:
the tax shall be levied, fixing the rate of taxation and the rules
1. The tax law must designate which agency will collect; and
of taxation in general.
2. The circulars or regulations must be in accordance with
the tax measures imposed by Congress.
2. Tax Administration (Assessment and Collection) –
This is the act of administration and implementation of the tax NOTE: Assessment and collection may be delegated but not levy since it
law by executive through its administrative agencies. is exclusively conferred with the Congress.

The act of assessing and collecting taxes is Tax administration


administrative in character, and therefore can be
delegated. (Dimaampao, Tax Principles and Remedies
It refers to the manner and procedure of assessing and
3rd Ed. 2008, p.21)
collecting or enforcing tax liabilities by the BIR.
3. Payment – The act of compliance by the taxpayer,
including such options, schemes or remedies as may be
legally available.

UNIVERSITYOFSANTOTOMAS 26
2014GOLDENNOTES
GENERAL PRINCIPLES OF TAXATION
Q: Is the approval of the court, sitting as probate or estate NOTE: Thus, when a zero--‐ rated VAT taxpayer pays input VAT a year after
settlement court, required in the enforcement of the the pertinent transaction, said taxpayer only has a year to file a claim for
estate tax? (2005 Bar Question) refund or tax credit of the unutilized creditable input VAT. (Tax
Principles and Remedies, Justice Dimaampao 2011)
A: No. The approval of the court, sitting in probate, is not a
DEFINITION, NATURE AND CHARACTERISTICS OF TAXES
mandatory requirement in the collection of estate tax. On the
contrary, under Section 94 of the NIRC, it is the probate or
Taxes are enforced proportional contributions from persons
settlement court which is forbidden to authorize the executor or
and properties, levied by the State by virtue of its sovereignty for
judicial administrator of the decedent’s estate, to deliver any
the support of the government and for all its public needs
distributive share to any party interested in the estate, unless a
(1Cooley 62).
certification from the Commissioner of the Internal Revenue that
the estate tax has been paid is shown. (Marcos II v. Court of
Characteristics of taxes (SLEP4)
Appeals, G.R. No.120880, June 5, 1997)

1. It is levied by the State which has jurisdiction over the person


(See Remedies for discussion on Assessment and Collection)
or property
2. It is levied by the State through its Law--‐ making body
PAYMENT
3. It is an Enforced contribution not dependent on the will of
the person taxed
It is the act of compliance by the taxpayer including such options,
4. It is generally Payable in money
schemes or remedies as may be legally available to him.
5. It is Proportionate in character
6. It is levied on Persons and property
GR: Tax shall be paid by the person subject thereto at the time
7. It is levied for a Public purpose
the return is filed (Sec. 56[A][1], NIRC).
REQUISITES OF A VALID TAX
XPN: When the tax due is in excess of P2,000, the taxpayer other
than a corporation may elect to pay the tax in 2 equal installments in
1. It should be for a public purpose
which case, the first installment shall be paid at the time the return is
2. It should be uniform
filed and the second installment, on or before July 15 following the
3. That either the person or property being taxed be within
close of the calendar year (Sec. 56[A][2], NIRC).
the jurisdiction of the taxing authority
NOTE:If any installment is not paid on or before the date fixed for its 4. The tax must not impinge on the inherent and
payment, the whole amount of the tax unpaid becomes due and payable, constitutional limitations on the power of taxation.
together with delinquency penalties.
TAX AS DISTINGUISHED FROM OTHER FORMS OF
REFUND EXACTIONS

A claim for tax refund may be based on the following: TARIFF/CUSTOMS


TAX
1. Erroneously or illegally assessed or collected internal DUTIES
revenue taxes Coverage An all embracing term Only a kind of tax
2. Penalties imposed without authority to include various therefore limited
3. Any sum alleged to have been excessive or in any kinds of enforced coverage
manner wrongfully collected. contributions impose
upon persons for the
The claim for refund must be filed within 2 years from the date of attainment of public
payment of the tax or penalty regardless of any supervening purpose.
cause that may arise after payment (Sec. 229, NIRC).

NOTE: In case of corporate dissolution, the 2 year prescriptive period


should be counted from the thirty (30) days from the approval of the Object Persons, property, Goods imported or
SEC of its plan for dissolution (BPI v. CIR, G.R. No. 144653, Aug. 28,
etc. exported
2001).

Unutilized input VAT payments not otherwise used for any


internal revenue tax due the taxpayer must be claimed within
two years reckoned from the close of the taxable quarter when
the relevant sales were made pertaining to the input VAT
regardless of whether said tax was paid or not.

UNIVERSITY OFSANTOTOMA S
27 F A C U L TY O F C I V I L L A W
Law on Taxation

TAX TOLL TAX SPECIAL ASSESSMENT


Definition An enforced A consideration paid Nature An enforced
An enforced proportional
proportional for the use of a road, proportional
contribution from owners of
contribution from bridge or the like, of a contribution
lands especially those who
persons and public nature. from persons
are peculiarly benefited by
property for public and property for
public improvements
purpose/s. public
Basis Demand of Demand of purpose/s.
sovereignty proprietorship Subject Imposed on Levied only on land
Amount Generally the amount persons,
Amount is limited to
is unlimited the cost and property rights
or transactions
maintenance of
public improvement Person A personal Not a personal liability of the
Liable liability of the person assessed
Purpose For the support of For the use of
taxpayer
the government another’s property
Purpose For the Contribution to the cost of
Authority May be imposed by May be imposed by
support of the public improvement
the State only private individuals or government
entities
Scope Regular Exceptional as to time and
NOTE: Taxes may be imposed only by the exaction locality
government under its sovereign authority; toll fees
may be demanded by either the government or
private individuals or entities, as an attribute of TAX DEBT
ownership. Basis Obligation Obligation based on
created by law contract, express or
VAT on tollway operations cannot be deemed a tax on implied
tax due to the nature of VAT as an indirect tax. The Assignability Not assignable Assignable
seller remains directly and legally liable for the
Mode of Payable in Payable in kind or in
payment of VAT, but the buyer bears its burden
since the amount of VAT paid by the former is
Payment money or in kind money
added to the selling price. Once shifted, the VAT
ceases to be a tax and simply becomes part of the Set-­‐off Not subject to Subject to set--‐ off
cost that the buyer must pay in order to purchase the set--‐ off
good, property or service (Renato V. Diaz and Effect of non-­‐ May result to No imprisonment
Aurora Ma. F. Timbol, vs. Secretary of Finance payment imprisonment (except when debt
and CIR, G.R. No. 193007,
arises from crime)
July 19, 2011).
Interest Bears interest Interest depends
only if upon the written
TAX LICENSE FEE delinquent stipulation of the
Purpose Imposed to raise For regulation and parties
revenue control
Prescription Governed by Governed by the
Basis Collected under the Collected under the special ordinary periods of
power of taxation police power prescriptive prescription
Amount Generally, amount is Limited to the periods
unlimited necessary expenses of provided for
regulation and in the NIRC
control
Subject Imposed on Imposed on the TAX PENALTY
persons, property, exercise of a right Definition An enforced Sanction imposed
rights or transaction or privilege
proportional as a punishment
Effect of Non--‐ payment does Non--‐ payment makes contribution from for a violation of
Non-­‐ not make the the business persons and the law or acts
Payment business illegal illegal property for public deemed injurious;
Time of Normally paid after Normally paid before purpose/s. violation of tax
Payment the start of business the commencement of laws may give rise to
the business imposition of
penalty.
Purpose To raise revenue To regulate
conduct
Authority Maybe imposed Maybe imposed
by the State only by private entities

UNIVERSITYOFSANTOTOMAS 28
2014GOLDENNOTES
GENERAL PRINCIPLES OF TAXATION

KINDS OF TAXES be determined. E.g. Real Estate Tax, Income tax,


Donor’s tax and Estate tax
AS TO OBJECT
3. Mixed – a choice between ad valorem and/or specific
1. Personal/Poll or Capitation tax – A fixed amount depending on the condition attached.
imposed upon all persons, or upon all persons of a
AS TO PURPOSES
certain class, residents within a specified territory, without
regard to their property or occupation. E.g. Community
1. General/Fiscal or Revenue – tax imposed solely for the
tax
general purpose of the government. E.g. Income tax and
2. Property tax – Tax imposed on property, whether real or Donor’s tax
personal, in proportion either to its value, or in
accordance with some other reasonable method of 2. Special / Regulatory or Sumptuary – tax levied for
apportionment. E.g. Real Property tax specific purpose, i.e. to achieve some social or
economic ends E.g. Tariff and certain duties on
3. Privilege/Excise tax – a charge upon the performance of imports
an act, the enjoyment of a privilege, or the engaging in an
AS TO SCOPE/ OR AUTHORITY TO IMPOSE
occupation. An excise tax is a tax that does not fall as
personal or property.E.g. Income tax, Estate tax, Donor’s
tax, VAT 1. National tax – Tax levied by the National Government.
E.g. Income tax, Estate tax, Donor’s tax, Value added tax,
NOTE: This is different from the excise tax under the NIRC which is a Other Percentage taxes and Documentary Stamp taxes
business tax imposed on items such as cigars, cigarettes, wines, liquors,
frameworks, mineral products, etc. 2. Local or Municipal – A tax levied by a local
government.E.g. Real Estate tax and Community tax
AS TO BURDEN OR INCIDENCE
AS TO GRADUATION
1. Direct – one that is demanded from the person who also
shoulders the burden of tax. E.g. Income tax, Estate tax 1. Progressive – A tax rate which increases as the tax base
and Donor’s tax or bracket increases. E.g. Income tax, Estate tax and
Donor’s tax
2. Indirect – one which is shifted by the taxpayer to
someone else. E.g. VAT and Other percentage taxes 2. Regressive – The tax rate decreases as the tax base or
bracket increases.
Indirect taxes, like VAT and excise tax, are different from
withholding taxes (direct taxes). To distinguish, indirect taxes, the 3. Proportionate – A tax of a fixed percentage of amounts of
incidence of taxation falls on one person but the burden thereof the base (value of the property, or amount of gross receipts
can be shifted or passed on to another person, such as when etc.) E.g. VAT and Other Percentage taxes.
the tax is imposed upon goods before reaching the consumer who
ultimately plays for it. On the other hand, in case of withholding
taxes, the incidence and burden of taxation fall on the same
entity, the statutory taxpayer. The burden of taxation is not
shifted to the withholding agent who merely collects, by
withholding, the tax due from income payments to entities
arising from certain transactions and remits the same to the
government. Due to this difference, the deficiency VAT and excise
tax cannot be “deemed” as withholding taxes merely because they
constitute indirect taxes (Asia International Auctioneers, Inc.
vs. CIR, G.R. No. 179115, September 26, 2012).

AS TO TAX RATES

1. Specific –tax of a fixed amount imposed by the head or


number, or by some standard of weight or measurement.
E.g. Excise tax on cigar, cigarettes and liquors

2. Ad valorem – tax based on the value of the property with


respect to which the tax is assessed. It requires the
intervention of assessors or appraisers to estimate the value
of such property before the amount due can

UNIVERSITY OFSANTOTOMA S
29 F A C U L TY O F C I V I L L A W
Law on Taxation
NATIONAL INTERNAL REVENUE CODE 4. Semi-­‐schedular or semi-­‐ global tax system (Philippine
Income Tax, Mamalateo, 2010 ed.)
INCOME TAX SYSTEM
CRITERIA IN IMPOSING PHILIPPINE INCOME TAX
Three (3) Income Tax Systems
1. Citizenship or nationality principle --‐ a citizen of the
1. Global Tax System -­‐ System employed where the tax Philippines is subject to Philippine income tax
system views indifferently the tax base and generally treats a. on his worldwide income, if he resides in the
in common all categories of taxable income of the Philippines,
individual(Tan v. Del Rosario, Jr. 237 SCRA 324, 331). b. only on his Philippine source income, if he qualifies
as a non--‐ resident citizen.
2. Schedular Tax System -­‐ System employed where the
income tax treatment varies and is made to depend on the kind 2. Residence or domicile principle - ‐ a resident alien is
or category of taxable income of the taxpayer (Tan v. Del liable to pay Philippine income tax on his income from
Rosario, Jr. 237 SCRA 324, 331). sources within the Philippines but is exempt from tax on his
income from sources outside the Philippines.
3. Semi-­‐schedular or semi-­‐global tax system -­‐ All
compensation income, business or professional income, 3. Source principle --‐ an alien is subject to Philippine
capital gain, passive income, and other income not income tax because he derives income from sources within
subject to final tax are added together to arrive at the gross the Philippines. A non--‐ resident alien or non--‐ resident
income. After deducting the allowable deductions and foreign corporation is liable to pay Philippine Income tax on
exemptions from the gross income, the taxable income is income from sources within the Philippines, despite the
subjected to one set of graduated tax rate (individual) or fact that he has not set foot in the Philippines. (Philippine
normal corporate income tax rate Income Tax, Mamalateo, 2010 ed.)
(corporation)(Philippine Income Tax, Mamalateo, 2010
ed.). TYPES OF PHILIPPINE INCOME TAX

Schedular treatment v. Global treatment (1994 Bar Types of Philippine Income Tax under Title II of Tax Code
Question) (MC2F3 -­‐ BINGS)

SCHEDULAR TREATMENT GLOBAL TREATMENT 1. Minimum corporate income tax on corporations;


Different tax rates Unitary or single tax rate 2. Capital gains tax on sale or exchange of unlisted shares of
Different categories of No need for classification as all stock of a domestic corporation classified as a capital
taxable income taxpayers are subjected asset;
to a single rate 3. Capital gains tax on sale or exchange of real property
located in the Philippines classified as capital asset;
Usually used in the income Applied to corporations
4. Final Withholding tax on certain passive investment
taxation of individuals
incomes;
(Business income, (Business income,
5. Final Withholding tax on income payments made to non--‐
professional income, professional income,
residents (individual or corporation);
passive income, illegal passive income, illegal
6. Fringe benefit tax;
income) income)
7. Branch profit remittance tax;
You cannot add all of them All of them will be added
8. Tax on Improperly accumulated earnings;
together. together subject it to one tax
9. Normal corporate income tax on corporations;
rate.
10. Graduated income tax on individuals; and
11. Special income tax on certain corporations.
FEATURES OF PHILIPPINE INCOME TAX LAW
TAXABLE PERIOD
1. Direct tax --‐ tax burden is borne by the income
recipient upon whom the tax is imposed. It is a tax Taxable period is the calendar year or the fiscal year ending during
demanded from the very person who, it is intended or such calendar year, upon the basis of which the net income is
desired, should pay it, while indirect tax is a tax computed for income tax purposes.
demanded in the first instance from one person in the
expectation and intention that he can shift the burden to Kinds of taxable periods
someone else.
1. Calendar period
2. Progressive Tax --‐ tax base increases as the tax rate
2. Fiscal period
increases. It is founded on the “ability to pay” principle. 3. Short period

3. Comprehensive - ‐ it adopted the citizenship principle, the


residence principle and the source principle.

UNIVERSITYOFSANTOTOMAS 30
2014GOLDENNOTES
INCOME TAXATION

CALENDAR PERIOD i) Resident foreign corporation (RFC)


ii) Non--‐ resident foreign corporation (NRFC)
The twelve (12) consecutive months starting on January 1 and c) Joint venture and consortium
ending on December 31. 3. Partnerships
4. General Professional Partnerships
Instances when calendar year shall be the basis for 5. Estates and Trust
computing net income 6. Co--‐ ownerships

Q: What is the importance of knowing the classification of


1. When the taxpayer is an individual
taxpayers?
2. When the taxpayer does not keep books of account
3. When the taxpayer has no annual accounting period
4. When the taxpayer is an estate or a trust A: In order to determine the applicable: GREED
1. Gross income
NOTE: Taxpayers other than a corporation are required to use only the 2. Income tax Rates
calendar year. 3. Exclusions from gross income
4. Exemptions; and
FISCAL PERIOD 5. Deductions.

It is a period of twelve (12) months ending on the last day of any


month other than December (Sec. 22 (Q), NIRC of 1997).
INDIVIDUAL TAXPAYERS
NOTE: The final adjustment return shall be filed on or before the fifteenth
(15th) day of April, or on or before the fifteenth (15th) day of the fourth (4th) CITIZENS
month following the close of the fiscal year, as the case may be.
RESIDENT CITIZEN (RC) NON-­‐RESIDENT CITIZEN (NRC)
SHORT PERIOD A citizen of the A citizen of the Philippines
Philippines who stays in who:
GR: The taxable period, whether it is a calendar year or fiscal the Philippines without the
intention of transferring a) Establishes the satisfaction of
year always consists of twelve (12) months.
his physical presence the Commissioner of Internal
XPNs: Instances when the taxpayer may have a taxable period abroad Revenue the fact of his physical
whether to stay presence abroad with a definite
of less than twelve (12) months:
permanently or intention to reside therein.
1. When the corporation is newly organized and
temporarily as an
commenced operations on any day within the year;
overseas contract b) Leaves the Philippines
2. When the corporation changes its accounting period;
worker. during the taxable year to
3. When a corporation is dissolved;
4. When a Commissioner of Internal Revenue, by authority, reside abroad, either as an
terminates the taxable period of a taxpayer; immigrant or for employment on
a permanent basis.
5. In case of final return of the decedent and such period ends
at the time of his death.

KINDS OF TAXPAYER c) Works and derives income


from abroad and whose
Classes of Taxpayers: employment thereat requires him
to be physically present abroad
1. Individuals most of the time during the
a) Citizen taxable year.
i) Resident Citizen (RC)
ii) Non--‐ Resident Citizen (NRC) d) Has been previously
b) Aliens considered as a nonresident
i) Resident Alien (RA) citizen and who arrives in the
ii) Non--‐ Resident Alien (NRA) Philippines at any time during the
(1) - ‐ Engaged in Trade or Business (NRA--‐ taxable year to reside
ETB) permanently in the Philippines.
(2) - ‐ Not Engaged in Trade or Business
(NRA--‐ NETB)
c) Special class of individual employees NOTE: Taxpayer shall submit proof
i) Minimum wage earner to the Commissioner of Internal
Revenue to show his intention of
2. Corporations
leaving the Philippines to reside
a) Domestic permanently abroad or to return to
b) Foreign and reside in the Philippines. (Sec.
22(E),
NIRC)

UNIVERSITY OFSANTOTOMA S
31 F A C U L TY O F C I V I L L A W
Law on Taxation
ALIENS Engaged in Trade or Business) is taxed using the final tax rate of
RESIDENT ALIEN (RA) NON-­‐RESIDENT ALIEN (NRA) 25% on its gross income within the Philippines.
An individual whose An individual whose residence
Special classes of individuals under NIRC
residence is within the is not within the Philippines
Philippines but who is and who is not a citizen
These are employed by:(ROP)
not a citizen thereof (Sec. 22 (G), NIRC).
1. Regional or area headquarters and regional operating
thereof(Sec.22(F),NIRC).
headquarters of multinational entities in the
Engaged in NOT engaged
Philippines.
trade or in trade or
2. Offshore banking units established in the Philippines
business business 3. Petroleum contractors and sub--‐ contractors in the
An alien who An alien who Philippines
stays in the stays in the
Philippines Philippines for CORPORATIONS
for more 180 days or
than 180 less A corporation for tax purposes shall:
days(Sec. 25 (Sec. 25 (B),
(A), NIRC). NIRC).
1. Include:
a. Partnerships, no matter how created,
NOTE: the 180
b. Joint stock companies
day period
c. Joint accounts (cuentas en participacion)
should be
computed on d. Associations, or
an aggregate e. Insurance companies
basis for the
whole year. 2. Not include:
SPECIAL CLASS OF INDIVIDUAL EMPLOYEES: MINIMUM a. General Professional Partnerships (GPP)
WAGE EARNER b. A joint venture or consortium formed for purposes
Refersto a worker in the private sector paid the statutory of undertaking construction projects engaging in
minimum wage or to an employee in the public sector with petroleum, coal, geothermal and other energy
compensation income of not more than the statutory operations pursuant to an operating or consortium
minimum wage in the non--‐ agricultural sector agreement under a service contract with the
where he/she is assigned. Government(Sec. 22 (B), NIRC).

The test to determine whether a citizen is a resident of the Kinds of corporation under the NIRC
Philippines or not
1. Domestic Corporation (DC) – A corporation created or
There is no BIR regulation that fixes or provides criterion that organized in the Philippines or under its laws and is liable
may determine whether a citizen is considered a resident for income from sources within and without (Sec. 22
citizen for purposes of income taxation. However, under prevailing (C), NIRC).
jurisprudence, residence is a permanent place to which a person
whenever absent for business or pleasure has the intention to 2. Resident Foreign Corporation (RFC) –A corporation
return, he can be considered a resident citizen. which is not domestic and engaged in trade or business
in the Philippines is liable for income from sources within
Significance of classifying an alien as alien resident or a the Philippines.
non-­‐resident
NOTE: In order that a foreign corporation may be regarded as doing
business within a State there must be continuity of conduct and
NRA intention to establish a continuous business, such as the
RA ETB NETB appointment of a local agent and not one of a temporary character
Tax 5--‐ 32% 5--‐ 32% 25% final (CIR v. BOAC, G.R. No. l-­‐65773-­‐74, April 30, 1987).
treatment schedular schedular tax
rate rate 3. Non-­‐resident Foreign Corporation (NRFC) -­‐ a
Personal and Entitled corporation which is not domestic and not engaged in trade
additional Entitled subject to Not or business or business in the Philippines is liable for income
exemption from sources within(Sec. 22(I), NIRC).
the rule on Entitled
reciprocity
4. Special Types of Corporation-­‐those corporations
subject to different tax rates.
Significance of classifying a NRA as engaged on trade or
business
1. Special RFC
a. Domestic depositary banks (foreign currency
A NRA engaged on trade or business is taxed using the
deposit units);
schedular rate, while a NRA--‐ NETB (Non--‐ Resident Alien--‐ Not
b. International carriers;

UNIVERSITYOFSANTOTOMAS 32
2014GOLDENNOTES
INCOME TAXATION
c. Offshore banking units; income tax return but an return
d. Regional or Area Headquarters and Regional information return.
operating Headquarters of multinational NOT subject to double Taxed once on its income
companies; taxation being taxed only and again when the share in
once. the profits of the partners is
2. Special NRFC distributed; then taxed as
a. Non--‐ resident cinematographic film owners, dividends.
lessors or distributors;
b. Non--‐ resident owners or lessors of vessels Registration of a partnership is immaterial for income tax
chartered by Philippine nationals purposes
c. Non--‐ resident lessors of aircraft, machinery and
other equipments. It is taxable as long as the following requisites concur:
1. There is an Agreement, oral or writing, to contribute money,
Q: Weber Realty Company which owns 3-­‐ hectare land in property, or industry to a common fund; and
Antipolo entered into a JOINT VENTURE AGREEMENT 2. There is an Intention to divide the profits.
(JVA) with Prime Development Company for the
development of said parcel of land. Weber Realty as the Treatment of loss in case the partnership resulted in a
owner of the land contributed the land to the Joint loss
Venture and Development agreed to develop the same
into a residential subdivision and construct residential If the partnership operation resulted to a loss, the partners shall be
houses thereon. They agreed that they would divide the entitled to deduct their respective shares in the net operating
lots between them. Does the JVA entered into by and loss from their individual gross income.
between Weber and Prime create a separate taxable
entity? (2007 Bar Question) Distributive share of a partner in the net income of a
business partnership
A: No. A joint venture such as the one entered into between
Weber and Prime is not a taxable entity because it is a joint It is equal to each partner’s distributive share of the net income
venture for the purpose of undertaking construction projects. declared by the partnership for a taxable year after deducting the
corresponding corporate income tax.
PARTNERSHIPS
NOTE: In a business partnership, there is no constructive receipt of
Classifications of partnerships for tax purposes distributive share in the net income.

1.General professional partnerships GENERAL PROFESSIONAL PARTNERSHIPS


2.Business partnership
General professional partnerships (GPP) are not subject to
Q: Distinguish between the income tax liability of “X”, a income tax but are required to file information returns for its
general professional partnership engaged in the practice income for the purpose of furnishing information as to the share
of law and “Y”, as a general partnership engaged in a of net income of the partnership which each partner should
logging concession. (1981 Bar Question) include in his individual return. Partners shall be liable for
income tax in their separate and individual capacities.

GENERAL PROFESSIONAL BUSINESS PARTNERSHIP/ Computation of net income of a GPP


PARTNERSHIP (GPP) GENERAL PARTNERSHIP
Formed by persons for Formed by persons for the For purposes of computing the distributive share of each
the sole purpose of sole purpose of engaging in partner, the net income of the partnership shall be computed
exercising their common any trade or business. in the same manner as a corporation. Each partner shall
profession, no part of report as gross income in his return, his distributive share in
income of which is derived the net income of the partnership, whether actually or
from engaging in constructively received.
any trade or business.
Treatment in case the GPP incurred loss
NOT ataxable entity Considered as a corporation
hence a taxable entity and its
income is taxable as such. Results of operation of a partnership shall be treated in any way as
a corporation. In case of loss, it will be divided as agreed upon
The distributive share of The share of an individual in the
by the partners and shall be taken by the individual partners in
the partners in the net distributable net income after
their respective returns.
income is reportable and tax of a general partnership is
taxable as part of the subject to a final tax.
partner’s gross income
subject to the scheduled
rates.
NOT needed to file an Must file an income tax

UNIVERSITY OFSANTOTOMA S
33 F A C U L TY O F C I V I L L A W
Law on Taxation

ESTATES AND TRUSTS the NIRC of 1997, upon individuals shall also apply to
income of estates and trusts. (Sec. 60 [A], NIRC)
Estates
XPNs:
Anestate refers to the mass of properties left by a deceased person. 1. Personal exemption is limited to only P20,000. (Sec. 62,
NIRC).
NOTE: The income that is subject to income taxation is the, “Income 2. No additional exemption is allowed.
received by estates of the deceased persons during the period of 3. Distribution to the beneficiaries during the taxable year of
administration or settlement of the estate.” [Sec. 60(A)(3), NIRC of trust income is deductible from the taxable income of the
1997]. trust. Deduction is allowed only when the distribution is
made during the taxable year when the income is earned
Income taxation for estates (Sec. 61 [A], NIRC).

GR: Subject to income tax in the same manner as individuals. NOTE: However, such deduction shall be included in computing
The tax imposed by Title II, Tax on Income, of the NIRC of 1997, the gross estate, whether distributed to them or not.
upon individuals shall also apply to income of estates and
trusts (Sec. 60 [A], NIRC). Person required to file and to pay the income tax

XPNs: GR: If the income:


1. Personal exemption is limited only to P20,000 1. Is distributed to beneficiaries, the beneficiaries shall
2. No additional exemption is allowed file and pay the tax.
3. Distribution to the heirs during the taxable year of estate 2. Is to be accumulated or held for future distribution, the
income is deductible from the taxable income of the trustee or beneficiary shall file and pay the tax.
estate(BIR Ruling 233-­‐86).
XPNs:
NOTE: The distributed income shall form part of the respective heir’s 1. In a revocable trust, the income of the trust will be
taxable income. Deduction is allowed only when the distribution is returned to the grantor. (Sec. 63, NIRC)
made during the taxable year when the income is earned. 2. In a trust where the income is held for the benefit of the
grantor, the income of the trust becomes income of the
Taxes payable under the income tax law when a person grantor. (Sec. 64, NIRC)
dies 3. In a trust administered in a foreign country, the income
of the trust, administered by any amount distributed to
1. Income Tax for individuals from January to the time of death the beneficiaries shall be taxed to the trustee. (Sec. 61 [C],
(Secs. 24, and 25, NIRC.). NIRC)
2. Income Tax of the estate, if the estate is under
administration or judicial settlement(Sec. 60, NIRC). Employee’s trust

Trusts Employee’s trusts are tax exempt, provided:


1. Employee’s trust must be part of a pension, stock bonus
A trust is a right to the property, whether real or personal, held by or profit sharing plan of the employer for the benefit of
one person for the benefit of another. some or all of his employees;
1. A confidence given by a person, the grantor (creator); 2. Contributions are made to the trust by such
2. Reposed in one person who is called fiduciary (trustee); employer, or such employees or both;
3. For the benefit of another who is called the cestui que trust 3. Such contributions are made for the purpose of
(beneficiary); distributing to such employees both the earnings and
4. Regarding property given by the grantor (creator) to the principal of the fund accumulated by the trust; and
fiduciary (beneficiary) for the benefit of the cestui que trust 4. The trust instrument makes it impossible of any part of
(beneficiary). the trust corpus or income to be used for or diverted to,
purposes other than the exclusive benefit of such
Classifications of trust for tax purposes (TIP) employees(See 60[B], NIRC).

1. Taxable and tax--‐ exempt trust Pension trust


2. Irrevocable trust and revocable trust
3. Trust administered in the Philippines and trust Tax exemption is likewise to be enjoyed by the income of the
administered in a foreign country. pension trust; otherwise, taxation of those earnings would
result in a diminution of accumulated income and reduce
Income taxation for trusts whatever the trust beneficiaries would receive out of the trust
fund (CIR v. CA, GR 95022, Mar. 23, 1992).
GR: Subject to income tax in the same manner as individuals.
The tax imposed by Title II, Tax on Income, of

UNIVERSITYOFSANTOTOMAS 34
2014GOLDENNOTES
INCOME TAXATION
Any amount received by an employee as retirement benefits be taxed individually on their distributive share in the income
shall be excluded from gross income subject to conditions of the co--‐ ownership.
setforth under Sec. 32 [B] of the NIRC.
If the co--‐ owners invest the income in a business for profit they
Tax treatment in case of consolidation of income of two or would constitute themselves into a partnership and such shall
more trusts be taxable as a corporation.

The tax computed on consolidated income, and such Q: Brothers A, B, and C borrowed a sum of money from
proportion of said tax shall be assessed and collected from each their father which amount together with their personal
trustee which the taxable income of the trust administered by monies was used by them for the purpose of buying real
him bears to the consolidated income of the several trusts. properties. The real properties they bought were leased to
various tenants. The BIR demanded the payment of
Income of trust not subject to tax but considered as income tax on corporations, real estate dealer’s tax, and
income of grantor subject to tax corporation residence tax. However, A, B. and C seek to
reverse the letter of demand and be absolved from the
Any part of the income of a trust which in the discretion of the payment of taxes in question. Are they subject to tax on
grantor or of any person not having a substantial adverse corporations?
interest in the disposition of such part of the income may be:
1. Held or accumulated for future distribution to the grantor A: Yes. “Corporations” as strictly speaking are distinct and
2. Distributed to the grantor different from “partnership”. When our Internal Revenue Code
3. Applied to the payment of premium upon policies of includes “partnership” among the entities subject to the tax on
insurance on the life of the grantor “corporations”, it must allude to organizations which are not
necessarily “partnership” in the technical sense of the term. As
CO-­‐OWNERSHIPS defined in the Tax Code the term “corporation includes
partnership, no matter how created or organized”.This qualifying
Examples of co-­‐ownership expression clearly indicates that a joint venture need not be
taken in any of the standard form, or conformity with the usual
1. A joint purchase of land, by two, does not constitute a co--‐ requirements of the law on partnerships, in order that one
partnership in respect thereto, nor does an could be deemed constituted for the purposes of the tax on
agreement to share the profits and losses on the sale of corporations. (Evangelista v. Collector of Internal Revenue,
land create a partnership; the parties are only tenants in G.R. No. L-­‐9996, October 15, 1957)
common ( Clark v. Sideway, 142 U.S. 682, 12
S. Ct. 327, 35 L. Ed., 1157 cited in Pascual v. Q: Pascual and Dragon bought 2 parcels of land from
Commissioner of Internal Revenue, 166 SCRA 560). Bernardino and 3 from Roque. Thereafter, the first two
2. Where plaintiff, his brother, and another agreed to were sold to Meirenir Development Corporation and the
become owners of a single tract of realty holding as remaining were sold to Reyes and Samson. They divided
tenants in common, and to divide the profits of disposing the profits between the two (2) of them. The
it, the brother and the other not being entitled to share in Commissioner contended that they formed an
plaintiff’s commissions, no partnership existed as unregistered partnership or joint venture taxable as a
between the three parties, whatever relation they may have corporation under the Code and its income is subject to
been to third parties (Magee v. Magee, 123 N.E. 673,233 the NIRC. Is there an unregistered partnership formed?
Mass. 341, Ibid.)
3. Co--‐ heirs who own inherited properties which produce A: None. The sharing of returns does not in itself establish a
income should not automatically be considered as partnership whether or not the sharing therein has a joint or
partners of an unregistered partnership or corporation subject common right or interest in the property. (Art. 1769, NCC).
to income tax. REASONS: Sharing of gross returns does There is no adequate basis to support the proposition that they
not by itself establish a partnership; there must be an thereby formed an unregistered partnership. The two isolated
unmistakable intention to form a partnership or joint transactions whereby they purchased properties and sold the
venture. There is no contribution or investment of same few years thereafter did not make them partners. The
additional capital to increase or expand the inherited transactions were isolated. The character of habituality peculiar to
properties, merely continuing the dedication of the property business transactions for the purpose of gain was not present
to the use to which it had not been put by their forbears. ( (Pascual and Dragon v. Commissioner, G.R. No. 78133,
Obillo, Jr., v. Commissioner of Internal Revenue, 139 October 18, 1988).
SCRA 436)
Q: On March 2, 1973, Joe Obillos Sr. transferred his rights
Co-­‐ownership and their treatment with regard to taxation under contract with Ortigas Co. to his 4 children to enable
them to build residences on the lots. TCTs were issued.
Co--‐ ownership is not taxable if the activities of the co--‐ owners Instead of building houses, after a year, Obillos children
are limited to the preservation of the property and the collection of sold them to Walled City Securities Corporation and Olga
income. In such case, the co--‐ owners shall Cruz Canda. The BIR required the children to pay
corporate income tax under the theory that they formed

UNIVERSITY OFSANTOTOMA S
35 F A C U L TY O F C I V I L L A W
Law on Taxation
an unregistered partnership or joint venture. Are they Income tax v. property tax
liable for corporate income tax?
INCOME TAX PROPERTY TAX
A: No.The Obillos children are co--‐ owners. It is an isolated act Incidence The incidence of The incidence of a
which shows no intention to form a partnership. To regard an income tax falls property tax is on
them as having formed a taxable unregistered partnership on the the property itself.
would result in oppressive taxation and confirm the dictum that the earner.
power to tax involves the power to destroy. It appears that they Who pays the Income tax is paid Property tax is
decided to sell it after they found it expensive to build houses. tax by the earner. paid by the owner
The division of profits was merely incidental to the of the property.
dissolution of the co--‐ ownership which was in the nature of How measured Income tax is Property tax is
things a temporary state (Obillos, Jr. v. Commissioner, measured by the measured by the
G.R. No. L-­‐68118, October 29, 1985). amount of income value of the
received over a property at a
INCOME TAXATION period of time particular date
Frequency of Income is taxed Property may be
Income tax is a tax on all yearly profits arising from property, taxation only once taxed on a
profession, trade or business, or a tax on person’s income, recurrent basis
emoluments, profits and the like (Fisher v. Trinidad, GR L-­‐
19030. Oct. 20, 1922)
INCOME

Nature of income tax


Income refers to all wealth which flows into the taxpayer other
than as mere return of capital. It includes the forms of income
It is generally regarded as an excise tax. It is not levied upon
specifically described as gains and profits, including gains
persons, property, funds or profits but on the privilege of
derived from the sale or other disposition of capital assets (Sec.
receiving said income or profit. 36, RR No.2).

GENERAL PRINCIPLES
An income is an amount of money coming to a person or
corporation within a specified time, whether as payment for
Except when otherwise provided in the Tax Code:
services, interest or profit from investment. Unless otherwise
1. A RC is taxable on all income derived from sources within specified, income means cash or its equivalent (Conwi v. CIR,
and without; GR 48532, Aug. 31, 1992).
2. A NRC is taxable only on income derived from sources
within;
Income is a flow of service rendered by capital by payment of
3. An individual citizen who is working and deriving income money from it or any benefit rendered by a fund of capital in
from abroad as an overseas contract worker (OCW) is relation to such fund through a period of time (Madrigal v.
taxable only on income from sources within; Rafferty, GR 12287, Aug. 8, 1918).
4. An alien, (RA or NRA), is taxable only on income within;
5. A domestic corporation (DC) is taxable on all income Income v. capital (1995 Bar Question)
derived within and without;
6. A foreign corporation, (engaged or not in trade or
CAPITAL INCOME
business in the Philippines), is taxable only on income
Constitutes the
Any wealth which flows
derived from sources within.
investment which is the into the taxpayer other
source of income than a mere return of
Purposes of income tax
capital
Is the wealth Is the service of wealth
1. Provide large amounts of revenue
2. Offset regresssive sales and consumption taxes Is the tree Is the fruit
3. Mitigate the evils arising from the inequality in the Fund Flow
distribution of income and wealth which are considered (Madrigal v. Rafferty, 38 Phil. 414)
deterrents to social progress, by a progressive scheme of
taxation (Madrigal v. Rafferty, GR 12287, Aug. 8, 1918). Objects being taxed in income taxation

State Partnership Theory 1. Fruit of Capital


2. Fruit of Labor
It is the basis of the government in taxing income. It 3. Fruit of Labor and Capital combined
emanates from its partnership in the production of income by
providing the protection, resources, incentive and proper Types of taxable income
climate for such productio(CIR v. Lednicky, G.R. Nos. L-­‐18169, L-
­‐18262 & L-­‐21434, July 31, 1964). 1. Compensation Income – income derived from
rendering of services under an employer--‐ employee
relationship.

UNIVERSITYOFSANTOTOMAS 36
2014GOLDENNOTES
INCOME TAXATION
2. Professional Income – fees derived from engaging in an A: No, Mr. X did not derive any income from the cancellation
endeavor requiring special training as professional as a means or condonation of his indebtedness. Since it is obvious that the
of livelihood, which includes, but not limited to, the fees of creditor merely desired to benefit the debtor in view of the
CPAs, lawyers, engineers and the like. absence of consideration for the cancellation, the amount of the
3. Business Income – gains or profits derived from debt is considered as a gift from the creditor to the debtor and need
rendering services, selling merchandise, manufacturing not be included in the latter’s gross income.
products, farming and long--‐ term contracts.
4. Passive Income – income in which the taxpayer merely waits Security advances and security deposits paid by a lessee to
for the amount to come in, which includes, but not limited to a lessor
interest income, royalty income, dividend income,
winnings prizes. The amount received by the lessor as security advances or
5. Capital Gain – gain from dealings in capital assets. deposits is not considered income because it will eventually be
returned to the lessee; hence the lessor did not earn gain or
Q: Assuming Mr. R withdraws money from his bank profit therefrom (Tourist Trade and Travel v. CIR, CTA Case
account, is it income? No. 4806, Jan. 19, 1996).

A: No, because income is other than a mere return of capital. Form of gain or profit

Q: Is payment by mistake considered income for tax Under Sec. 32 A [1] compensation for services can be in
purposes? whatever form paid. Therefore whether paid in cash, kind,
property, stock and other form, such is taxable.
A: As a general rule, payment by mistake is not taxable except
if the recipient received material benefit out of the erroneous Taxable income when gain or profit is not in cash
payment (CIR v. Javier, GR 78953, July 31, 1991).
The taxable income is the value of the property in cash under
NOTE: In CIR v. Javier the issue raised was the imposition of the 50% the doctrine of cash equivalent in taxation.
fraud penalty and not the income taxation of money received through
mistake. REALIZATION OF INCOME

Q: Is income held in trust for another taxable? Conditions in the realization of income

A: GR: It is not taxable since the trustee has no free disposal of the
Under the realization principle, revenue is generally
amount thereof
recognized when both of the following conditions are met:
1. The earning process is complete or virtually
XPN: If the income under trust may be disposed of by the trustee
complete;
without limitation or restriction such amount is taxable (North
2. An exchange has taken place (Manila Mandarin
American Consolidated v. Burnet, 286 U.S. 417, 1932).
Hotels, Inc. v. CIR).
WHEN INCOME IS TAXABLE
Q: In 2000, ABC Corporation had a capital stock of 1,000
shares without par value. At the time of its incorporation,
Requisites for income to be taxable(REG)
the value of each no-­‐par value share was P10. In 2011, due
to its profitable operations, the corporation earned a
1. The gain must be Realized or received;
surplus of P200,000. The Corporation’s board of directors
2. The gain must not be Excluded by law or treaty from
increased the stated value of each share by P190 making
taxation; and
each share worth P200. The BIR, for income tax purposes
3. There must be Gain or profit, whether in cash or its
assessed each stockholder for the P190 increase. Is the
equivalent (CIR v. Manning, GR L-­‐28398, Aug. 6, 1975).
BIR correct? Explain. (1989 Bar Question)
EXISTENCE OF INCOME
A: No. The stockholders have not physically or constructively
received any income subject to tax. There was no change in the
Q: Mr. X borrowed P10,000 from his friend Mr. Y payable
proportion of their ownership in the corporation considering that
in one year without interest. When the loan became due,
the shares of stock are without par value. Furthermore, there
Mr. X told Mr. Y that he (Mr.X) was unable to pay because
was no realization of the income through the chage in the stated
of business reverses. Mr. Y took pity on Mr. X and
value. When the stockholder disposes of the shares, then the
condoned the loan. Mr. X was solvent at the time he
same would be subject to capital gains taxes.
borrowed the P10,000 and at the time the loan was
condoned. Did Mr. X derive any income from the
Q: Is the mere increase in the value of property considered
cancellation or condonation of his indebtedness? Explain
income?
(Bar Question 1995).
A: No, since it is an unrealized increase in capital.

UNIVERSITY OFSANTOTOMA S
37 F A C U L TY O F C I V I L L A W
Law on Taxation
Increase in the net worth of a taxpayer receive and not the actual receipt that determines the
inclusion of the amount in the gross income.
The increase in the net worth of tax payers is taxable if they are the
result of the receipt by it of unreported or unexplainable tax Recognition of income and expenses under the accrual
income. The correction therefore is taxable. However, if they method of accounting
are merely shown as correction of errors in its entries in its books
relating to its indebtedness to certain creditor which had been Amounts of income accrue where the right to receive them
erroneously overstated or listed as outstanding when they had in becomes fixed, where there is created an enforceable
fact be duly paid, they are not taxable. liability. Liabilities are incurred when fixed and
determinable in nature without regard to the indeterminacy
NOTE: If and when there are substantial limitations or conditions under merely of time of payment(Commissioner of Internal Revenue
which payment is to be made, such does not constitute constructively v. Isabela Cultural Corporation, G.R. No. 172231,
realized. February 12, 2007).

ACTUAL VIS A VIS CONSTRUCTIVE RECEIPT Computation of income of a taxpayer

Actual and Constructive Receipt GR:Net income shall be computed in accordance with the
method of accounting regularly employed in the books of the
1. Actual receipt – income may be actual receipt or taxpayer.
physical receipt.
XPN: Computation shall be made in such method as in the
2. Constructive receipt – occurs when money opinion of CIR clearly reflects the income:
consideration or its equivalent is placed at the control of the 1. If no such method has been so employed by the
person who rendered the service without restriction by the taxpayer;
payor (Sec. 4.108-­‐A, RR 16-­‐2005). 2. If the method of accounting employed does not
clearly reflect the income (Sec. 43, NIRC).
Examples of income constructively received:
a. Deposit in banks which are made available to the seller INSTALLMENT PAYMENT VIS A VIS DEFERRED PAYMENT
of services without restrictions. VIS A VIS PERCENTAGE COMPLETION
b. Issuance by the debtor of a notice to offset any debt (IN LONG TERM CONTRACTS)
or obligation and acceptance thereof by the seller as
payment for services rendered. Long-­‐term contracts
c. Transfer of the amounts retained by the payor to the
account of the contractor. Long--‐ term contract means building, installation or
d. Interest coupons that have matured and are construction contracts covering a period in excess of one year.
payable but have not been encashed.
e. Undistributed share of a partner in the profits of a Use of installment payment in long-­‐term contracts
general partnership.
. Installment method is appropriate when collections extend over
The principle of constructive receipt for tax purposes relatively long periods of time and there is a strong possibility
that full collection will not be made.
Income which is credited to the account of or set apart for a
taxpayer and which may be drawn upon by him at any time is Use of deferred payment in long-­‐term contracts
subject to tax for the year during which so credited or set apart,
although not then actually reduced to possession. Initial payments exceed 25% of the gross selling price and such
transaction shall be treated as cash sale which makes the entire
RECOGNITION OF INCOME selling price taxable in the month of sale.

Recognition of Income is dependent upon the Accounting Method Use of percentage of completion in long-­‐term contracts
used by the taxpayer.
Persons whose gross income is derived from long--‐ term
METHODS OF ACCOUNTING contracts may report such income upon the basis of
percentage of completion.
Methods of accounting for computing net income
Methods for determining the percentage for completion
1. Cash Method – recognition of income and expense of a contract
dependent on inflow or outflow of cash.
2. Accrual Method – gains and profits are included in 1. The costs incurred under the contract as of the end of the tax
gross income when earned whether received or not, and year are compared with the estimated total contract
expenses are allowed as deductions when incurred, costs; or
although not yet paid. It is the right to

UNIVERSITYOFSANTOTOMAS 38
2014GOLDENNOTES
INCOME TAXATION
2. The work performed on the contract as of the end of the 5. Rents
year is compared with the estimated work to be 6. Royalties
performed. 7. Dividends
8. Annuities
TESTS IN DETERMINING WHETHER INCOME IS EARNED 9. Prizes and winnings
FOR TAX PURPOSES 10. Pensions and
11. Partner’s distributive share from the net income of the
Tests used to determine whether income is earned for tax general professional partnership (Sec. 32 [A], NIRC).
purposes
NOTE: Gross income under Sec. 32 is different from the limited
1. Realization Test – Unless income is deemed realized, meaning of Gross Income for purpose of Minimum Corporate Income
then there is no taxable income. Tax (MCIT), which means Gross Sales less Sales Returns, Discounts,
and Allowances and Cost of Goods Sold.
Revenue is generally recognized when both conditions are
The above enumeration can be simplified into 5 categories:
met:
1. Compensation Income -­‐ income derived from rendering of
a. The earning process is complete or virtually
complete; and services under an employer--‐ employee relationship.
b. An exchange has taken place. (Manila Mandarin 2. Professional Income --‐ fees derived from engaging in an
Hotels, Inc. v. CIR) endeavor requiring special training as professional as a means
of livelihood, which includes, but not limited to, the fees of
2. Claim of Right Doctrine – A taxable gain is conditioned CPAs, lawyers, engineers and the like.
upon the presence of a claim of right to the alleged gain 3. Business Income -­‐ gains or profits derived from
and the absence of a definite unconditional obligation to rendering services, selling merchandise, manufacturing
return or repay. products, farming and long--‐ term contracts.
4. Passive Income -­‐ income in which the taxpayer merely
3. Economic-­‐benefit test, doctrine of proprietary interest waits for the amount to come in, which includes, but not
– Taking into consideration the pertinent provisions of law, limited to interest income, royalty income, dividend
income realized is taxable only to the extent that the income, prizes and winnings.
5. Gains from Dealings in Property – It includes all income
taxpayer is economically benefited.
derived from the disposition of property whether real,
4. Severance Test – Income is recognized when there is personal or mixed.
separation of something which is of exchangeable value
Enumeration of gross income under NIRC, not exclusive
(Eisner v. Macomber, 252 US 189, 1920)

5. All events Test – This test requires fixing of a right to Under Sec. 32 (A) of the NIRC, gross income means all
income derived from whatever source.
income or liability to pay and the availability of the
reasonable accurate determination of such income or
Therefore the source is immaterial – whether derived from illegal,
liability.
legal, or immoral sources, it is taxable. As such, income
includes the following among others:
The all--‐ events test is satisfied where computation
1. Treasure fund;
remains uncertain, if its basis is unchangeable; the test is
satisfied where a computation may be unknown, but is 2. Punitive damages representing profit lost;
not as much as unknowable, within the taxable year. The 3. Amount received by mistake;
amount of liability does not have to be determined exactly; it 4. Cancellation of the taxpayer’s indebtedness;
must be determined with ‘reasonable accuracy’. The term 5. Receipt of usurious interest;
‘reasonable accuracy’ implies something less than an exact 6. Illegal gains;
or completely accurate amount(Commissioner of Internal 7. Taxes paid and claimed as deduction
Revenue v. Isabela Cultural Corporation, G.R. No. subsequently refunded;
172231, February 12, 2007). 8. Bad debt recovery.

CONCEPT OF INCOME FROM WHATEVER SOURCE DERIVED


GROSS INCOME

Income from whatever source


Except when otherwise provided, gross income means all
income derived from whatever source, including but not limited
to the following items: [CG2I-­‐ R2DAP3] All income not expressly excluded or exempted from the class of
1. Compensation for services in whatever form paid, taxable income, irrespective of the voluntary or involuntary
action of the taxpayer in producing the income (Gutierrez v. CIR,
including, but not limited to fees, salaries, wages,
CTA case).
commissions and similar items
2. Gross income derived from the conduct of trade or
business or the exercise of a profession
3. Gains derived from dealings in property
4. Interests

UNIVERSITY OFSANTOTOMA S
39 F A C U L TY O F C I V I L L A W
Law on Taxation
Cost of goods sold A:
1. Taxable, for gross income includes "all income derived from
It includes all business expenses directly incurred to produce whatever source," (Sec. 32 [A], NIRC) interpreted as all
the merchandise and bring them to their present location such income not expressly excluded or exempted from the class of
as direct labor, materials and overhead expenses(Sec. 27 taxable income, irrespective of the voluntary or
[A], NIRC). involuntary action of the taxpayer in producing the
income. Thus, the income may proceed from a legal or
Cost of services illegal source such as from jueteng. Unlawful gains,
gambling winnings, etc. are subject to income tax. The NIRC
All direct costs and expenses necessarily incurred to provide stands as an indifferent neutral party on the matter of where
the service required by the customers and clients including: the income comes from (CIR v. Manning, GR L-­‐28398,
1. Salaries and employee benefits of personnel, Aug. 6, 1975).
consultants, and specialists directly rendering the
service 2. Taxable, for sale, exchange or other disposition of
2. Cost of facilities directly utilized in providing the service property to the government of real property is taxable. It
(Sec. 27 E [4], NIRC). includes taking by the government through condemnation
proceedings (Gonzales v. CTA, GR L-­‐ 14532, May 26,
Q: Is money received under payment by mistake, income 1965).
subject to income tax?
3. Taxable, if the taxes were paid and subsequently
A: Income paid or received through mistake may be claimed as deduction and which are subsequently
considered as “income from whatever source derived” refunded or credited. It shall be included as part of gross
irrespective of the voluntary or involuntary action of the taxpayer income in the year of the receipt to the extent of the income
in producing income. Moreover, under the “claim of right tax benefit of said deduction (Sec. 34 C [1], NIRC).
doctrine,” the recipient even if he has the obligation to return
the same has a voidable title to the money received through Not taxable if the taxes refunded were not originally
mistake(Guttierez v. CIR, CTA Case No. 65, Aug. 31, 1965). claimed as deductions.

Q: Congress enacted a law imposing a 5% tax on the gross 4. Taxable under the tax benefit rule. Recovery of bad
receipts of common carriers. The law does not define the debts previously allowed as deduction in the preceding years
term “gross receipts.” Express Transport a bus company shall be included as part of the gross income in the year of
has time deposits with ABC Bank. In 2007, Express recovery to the extent of the income tax benefit of said
Transport earned P1 Million interest, after deducting the deduction. (Sec. 34 E [1], NIRC) This is sometimes
20% final withholding tax from its time deposits with the referred as the Recapture Rules.
bank. The BIR wants to collect a 5% gross receipts tax on
the interest income of Express Transport without 5. Taxable, since the car is used for personal purposes, it is
deducting the 20% final withholding tax. Is the BIR considered as a capital asset hence the gain is
correct? (2006 Bar Question) considered income (Sec. 32 A [3] and Sec. 39 A [1],
NIRC).
A: Yes. The term “gross receipts” is broad enough to include
income not physically rendered but constructively received by the GROSS INCOME VIS A VIS NET INCOME VIS A VIS
taxpayer. After all, the amount withheld is paid to the government TAXABLE INCOME
on its behalf, in satisfaction of its withholding taxes. The fact that
it did not actually receive the amount does not alter the fact that it Net income taxation
is remitted for its benefit in satisfaction of its tax obligations.
Since the income is withheld is an income owned by Express Net income taxatition is a system of taxation where the income
Transport, the same forms part of its gross receipts (CIR v. Bank subject to tax may be reduced by allowable deductions.
of Commerce, GR 149636, June 8, 2005).
Taxable income or net income
Q: Explain briefly whether the following items are taxable
or non-­‐taxable: All pertinent items of gross income specified in the NIRC, less
1. Income from jueteng; the deductions and/or personal and additional exemptions, if
2. Gain arising from expropriation of property; any, authorized for such types of income by the NIRC or other
3. Taxes paid and subsequently refunded special laws.
4. Recovery of bad debts previously charged off;
5. Gain on the sale of a car used for personal purposes.
(2005 Bar Question)

UNIVERSITYOFSANTOTOMAS 40
2014GOLDENNOTES
INCOME TAXATION
Gross income v. Net income claimed that he is not entitled to retain the money, and
even though he may still be adjudged to restore its
GROSS INCOME NET INCOME equivalent. To treat the embezzled funds as not taxable
As to deductions Allows no Allows income would perpetuate injustice by relieving embezzlers of
deductions deductions the duty of paying income taxes on the money they enrich
As to Grants no Grants themselves with, by embezzlement, while honest people
exemptions exemptions exemptions pay their taxes on every conceivable type of income. (James
As to tax base Gross Income Net Income v. U.S., 202 US 401 [1906])
Advantages/Dis Simplifies the Confusing and
advantages income tax complex process 3. The deficiency income tax assessment is a direct tax
system of filing income imposed on the owner which is an excise on the
tax return privilege to earn an income. It will not necessarily be paid
out of the same income that was subjected to the tax. Lao’s
Substantial Vulnerable to
liability to pay the tax is based on his having realized a taxable
reduction in corruption on
account of income from his swindling activities and will not affect his
corruption and
obligation to make restitution. Payment of the tax is a civil
tax evasion as margin of
obligation imposed by law while restitution is a civil liability
the exercise of discretion in the
arising from a crime.
discretion, to grant of
allow or disallow deductions
Taxation of money found
deductions, is
dispensed with
If the founder knows the owner, it is not taxable because there is
More Provides
obligation to return. If founder do not know the owner, it is
administratively equitable reliefs in
taxable to you subject to special discount or deduction when it
feasible the form of
is subsequently returned the money because the owner is
deductions,
known already.
exemptions and
tax credit
Taxation of post-­‐dated checks
Does away with Tax audit
wastage of minimizes fraud Post dated checks are not taxable except when it is subject to
manpower and discounting.
supplies
Tax implication when there is exchange of services
Q: Lao is a big-­‐time swindler. In one year he was able to without compensation
earn P1 Million from his swindling activities. When the CIR
discovered his income from swindling, the CIR assessed When there is exchange of services without compensation, both
him a deficiency income tax for such income. The lawyer parties are taxable as if both each sold their services.
of Lao protested the assessment on the following grounds:
1. The income tax applies only to legal income, not to Self-­‐help income
illegal income;
2. Lao's receipts from his swindling did not constitute Self--‐ help income is the amount saved for doing a work by himself
income because he was under obligation to return instead of hiring someone to do the work. Self--‐ help income is
the amount he had swindled, hence, his receipt from exempt from tax. E.g.A person wants to repaint his house.
swindling was similar to a loan, which is not income, Instead of hiring a painter, that person did the painting job
because for every peso borrowed he has a himself to save money.
corresponding liability to pay one peso; and
3. If he has to pay the deficiency income tax assessment CLASSIFICATION OF INCOME
there will be hardly anything left to return to the
victims of the swindling. How will you rule on each of 1. Gross income and taxable income from sources within the
the three grounds for the protest? (1995 Bar Philippines
Question) 2. Gross income and taxable income from sources without
the Philippines
A: 3. Income partly within or partly without the Philippines
1. Sec. 32 of the NIRC includes within the purview of gross
income all Income from whatever source derived. (See also Sources of Income for further discussion)
Hence, the illegality of the income will not preclude the
imposition of the income tax thereon. Different rules with regard to source for different types of
income
2. When a taxpayer acquires earnings, lawfully or
unlawfully, without the consensual recognition, express The following are considered as income from sources within
or implied, of an obligation to repay and without the Philippines:
restriction as to their disposition, he has received taxable
income, even though it may still be

UNIVERSITY OFSANTOTOMA S
41 F A C U L TY O F C I V I L L A W
Law on Taxation
1. Interest: Residence of the debtor. – If the obligor or trade or business which is considered as business income and
debtor is a resident of the Philippines, the interest not compensation income.
income is treated as income from within the Philippines.
It does not matter whether the loan agreement is signed in The share of a partner in a general professional
the Philippines or abroad or the loan proceeds will be used partnership
in a project inside or outside the country.
The general partner rendered services and the payment is in the
2. Dividends: Residence of the corporation paying the form of a share in the profits is not within the meaning of
dividends. – dividends received from a domestic compensation income because it is derived from the exercise
corporation or from a foreign corporation are treated as of profession classified as professional income.
income from sources within the Philippines, unless less than
50% of the gross income of the foreign corporation for FRINGE BENEFITS
the three--‐ year period preceding the declaration of such
dividends was derived from sources within the Philippines, SPECIAL TREATMENT OF FRINGE BENEFITS
in which case only the amount which bears the same ratio to
such dividends as the gross income of the corporation for Fringe benefit
such period derived from sources within the Philippines bears
to its gross income from all sources shall be treated as Fringe benefit is any good, service or other benefit furnished
income from sources within the Philippines. or granted by an employer in cash or in kind in addition to basic
salaries, to an individual employee, except a rank and file
3. Services: Place of performance of the service. – If the employee, such as but not limited to: (HEV-­‐ HIM-­‐HEEL)
service is performed in the Philippines, the income is
treated as from sources within the Philippines. 1. Housing
(Mamalateo, Reviewer on Taxation) 2. Expense account
3. Vehicle of any kind
SOURCES OF INCOME SUBJECT TO TAX 4. Household personnel such as maid, driver and others
5. Interest on loans at less than market rate to the extent of the
COMPENSATION INCOME difference between the market rate and the actual rate
granted
Compensation income includes all remuneration for services 6. Membership fees, dues and other expenses athletic clubs
rendered by an employee for his employer unless specifically or other similar organizations
excluded under the NIRC (Sec. 2.78.1, RR 2-­‐98). 7. Expenses for foreign travel
8. Holiday and vacation expenses;
The name by which the remuneration for services is 9. Educational assistance to the employee or his
designated is immaterial. Thus, salaries, wages, emoluments, dependents
honoraria, allowances, commissions (i.e. transportation, 10. Life or health insurance and other non--‐ life insurance
representation, entertainment and the like); fees including premiums or similar amounts in excess of what the law allows
director’s fees, if the director is, at the same time, an employee (Sec. 33 [B], NIRC; Sec. 2.33 [B], RR 3-­‐98)
of the employer/ corporation; taxable bonuses and fringe benefits
except those which are subject to the fringe benefits tax; taxable Treatment of fringe benefit
pensions and retirement pay; and other income of a similar
nature constitute compensation income(Sec. 2.78.1, RR 2-­‐98). GR: Subject to final tax on the grossed--‐ up monetary value of
fringe benefits furnished or granted to the employee to be paid by
The test is whether such income is received by virtue of an the employer.
employer--‐ employee relationship.
XPN: When given to rank and file employees, it becomes part of
Requisites for the taxability of compensation income (PSR) their compensation income (Sec. 33, NIRC).

1. Personal services actually rendered NOTE: If the recipient of the fringe benefit is a rank and file
2. Payment is for such Services rendered employee, and the said benefit is not tax exempt, then the value of such
3. Payment is Reasonable fringe benefit shall be considered as part of the compensation income
of such employee subject to tax payable by the employee.
Payment for the services rendered by an independent
Where the recipient of the fringe benefit is not a rank and file
contractor employee, and the said benefit is not tax--‐ exempt, then the same shall not
be included in the compensation income of such employee subject to
Payment for the servisec of an independent contractor is not tax. The fringe benefit is instead levied upon the employer, who is
classified as compensation income since there is no employer--‐ required to pay.
employee relationship. The income of the independent
contractor is derived from the conduct of his

UNIVERSITYOFSANTOTOMAS 42
2014GOLDENNOTES
INCOME TAXATION
Compensation income v. fringe benefit Requirements for the application of the “convenience of
the employer rule” where the employer furnished living
COMPENSATION quarters
FRINGE BENEFIT
INCOME
As part of Part of the gross GR: Not reported Such shall not be considered as part of the employee’s gross
gross income income of an as part of the gross compensation income if:
of an employee income of an a) It is furnished in the employer’s business
employee employee premises, and
XPN: Fringe b) Employee is required to accept such lodging as a
benefits given to condition of his employment (No. 2.2, RAMO No. 1-­‐
rank and file 87).
employees are
included in his Requirements for the application of the “convenience of
gross income the employer rule” in case of free meals
As to who is Employee liable to Employer liable to
liable to pay pay the tax on his pay the fringe Such shall not be considered as part of the employee’s gross
the tax income earned benefits tax and income if:
can be deducted as a) Furnished to the employee during his work day or
business expense b) To have the the employee available for work during
As to Subject to Subject to Final Tax his meal period(No.2.3, RAMO, 1-­‐87).
treatment creditable
withholding tax – PROFESSIONAL INCOME
the employer
withholds the tax Professional income refers to the fees received by a
upon the payment professional from the practice of his profession, provided that
of the there is no employer--‐ employee relationship between him and his
compensation clients.
income
INCOME FROM BUSINESS
TAXABLE AND NON-­‐TAXABLE FRINGE BENEFITS
Business income refers to income derived from
merchandising, mining, manufacturing and farming
The rule on taxation of fringe benefits
operations.
A Fringe Benefit Tax (FBT) is imposed on the grossed--‐ up NOTE: Business is any activity that entails time and effort of an
monetary value of the fringe benefit furnished, granted or paid by individual or group of individuals for purposes of livelihood or profit.
the employer to managerial and supervisory employees (Sec.
33 [A], NIRC). INCOME FROM DEALINGS IN PROPERTY

Kinds of fringe benefits that are NOT subject to the FBT TYPES OF PROPERTIES

1. Fringe benefits which are authorized and exempted from Types of properties from which income may be derived
tax under special laws
2. Contributions of the employer for the benefit of the 1. Ordinary assets
employee to retirement, insurance and hospitalization benefit 2. Capital assets
plans;
3. Benefits given to rank and file employees, whether Capital asset v. Ordinary asset (2003 Bar Question)
granted under a collective bargaining agreement or not;
4. De minimis benefits as defined in the rules and The term capital asset is defined by an exclusion of all
regulations to be promulgated by the Secretary of ordinary assets. Thus, those properties not specifically
Finance, upon recommendation of the CIR included in the statutory definition constitutes capital assets,
5. When the fringe benefit is required by the nature of, or the profits or losses on the sale or the exchange of which are
necessary to the trade, business or profession of the treated as capital gains or capital losses. Conversely, all those
employer properties specifically included are considered as ordinary
6. Employer’s Convenience Rule --‐ when the fringe benefit is assets and the profits or losses realized must have to be
for the convenience of the employer (Sec. 32, NIRC; Sec. treated as ordinary gains or ordinary losses.
2.33 [C], RR 3-­‐98).
Q: State with reason the tax treatment of the following in
the preparation of annual income tax returns: Income
realized from sale of:

UNIVERSITY OFSANTOTOMA S
43 F A C U L TY O F C I V I L L A W
Law on Taxation
3. The motor vehicles of a person engaged in
1. Capital assets; and transportation business.
2. Ordinary assets. (2005 Bar Question)
CAPITAL ASSETS
A:
1. Generally, income realized from the sale of capital assets Accordingly, "Capital assets" includes property held by the
are not reported in the income tax return as they are taxpayer (whether or not connected with his trade or
already subject to final taxes (capital gains tax on real property business), but the term does not include SOUR which are
and shares of stocks not traded in the stock exchange). consequently considered as "ordinary assets"
What are to be reported in the annual income tax return
are the capital gains derived from the disposition of capital Examples of capital assets:
assets other than real property or shares of stocks in 1. Jewelries not used for trade or business.
domestic corporations, which are not subject to final tax. 2. Residential houses and lands owned and used as such.
3. Automobiles not used in trade or business.
2. Income realized from sale of ordinary assets is part of Gross 4. Stock and securities held by taxpayers other than
Income, included in the Income Tax Return(Sec. 32 A [3], dealers in securities.
NIRC).
Reclassification of capital asset into ordinary asset
Significance in determining whether the capital asset is
ordinary asset or capital asset Property initially classified as capital asset may thereafter be
treated as an ordinary asset if a combination of the factors
They are subject to different rules. There are special rules that indubitably tends to show that the activity was in furtherance of
apply only to capital transactions, to wit: or in the course of the taxpayer’s trade or business.
1. Holding period rule
2. Capital loss limitation NOTE: Properties classified as capital assets for being used in
business other than real estate business are automatically converted
3. Net capital loss carry over (NELCO)
into ordinary assets upon showing that the same have been used in
business for more than two years prior to the consummation of the
Capital loss limitation rule taxable transactions involving said properties(Rev. 7-­‐2003).

Under this rule, capital loss is deductible only to the extent of Q: In Jan. 1970, Juan bought 1 hectare of agricultural land
capital gain but not to an ordinary gain. in Laguna for P100,000. This property has a current fair
market value of P10 million in view of the construction of
Net capital loss carry over a concrete road traversing the property. Juan agreed to
exchange his agricultural lot in Laguna for a one-­‐half
If any taxpayer, other than a corporation, sustains in any taxable hectare residential property located in Batangas, with a
year a net capital loss, such loss (in an amount not in excess of the fair market value of P10 million, owned by Alpha
net income for such year) shall be treated in the succeeding Corporation, a domestic corporation engaged in the
taxable year as a loss from the sale or exchange of a capital purchase and sale of real property. Alpha Corporation
asset held for not more than 12 months (Sec. 39 (D), NIRC). acquired the property in 2007 for P9 million. What is the
nature of the real properties exchanged for tax purposes -­‐
ORDINARY ASSETS capital or ordinary asset? (2008 Bar Question)

Ordinary assets are property held by the taxpayer used in A: The one hectare agricultural land owned by Juan is a capital
connection with his trade or business which includes the asset because it is not a real property used in trade or business.
following: (SOUR) The one--‐ half hectare residential property owned by Alpha
1. Stock in trade of the taxpayer or other property of a kind Corporation is an ordinary asset because the owner is engaged
which would properly be included in the inventory of the in the purchase and sale of real property(Sec. 39, NIRC; RR 7-­‐
taxpayer if on hand at the close of the taxable year 03).
2. Property held by the taxpayer primarily for sale to
customers in the Ordinary course of trade or business TYPES OF GAINS FROM DEALINGS IN PROPERTY
3. Property Used in the trade or business of a character which
is subject to the allowance for depreciation provided in Gains derived from dealings in property means all income
the NIRC derived from the disposition of property whether real,
4. Real property used in trade or business of the taxpayer personal or mixed for:
1. Money, in case of sale
Examples of ordinary assets: 2. Property, in case of exchange
1. The condominium building owned by a realty company, 3. Combination of both sales and exchange, which results
the units of which are for rent or for sale. in gain
2. Machinery and equipment of a manufacturing concern
subject to depreciation.

UNIVERSITYOFSANTOTOMAS 44
2014GOLDENNOTES
INCOME TAXATION
NOTE: Gain is the difference between the proceeds of the sale or Holding period rule (Long term capital gain vis-­‐à-­‐vis short
exchange and the acquisition value of the property disposed by the term capital gain)
taxpayer.
Where the capital asset sold has been held by the taxpayer for
Ordinary gain v. Capital gain more than 12 months, the gain derived therefrom is taxable
only to the extent of 50%. Consequently, if the taxpayer held
Ordinary gain is a gain derived from the sale or exchange of the capital asset sold for a year or less, the whole gain shall be
ordinary assets such as SOUR while Capital gain is a gain taxable. It is a form of tax avoidance since the taxpayer can
derived from the sale or exchange of capital assets or exploit it in order to reduce his tax due (Sec. 39 [B], NIRC).
property not connected with the trade or business of the
taxpayer other than SOUR. NOTE: Holding period does not find application in the case of
Kinds of capital gain under the provisions of the NIRC disposition of:
1. Shares of stock traded through the stock market by one who is not a
1. Capital Gains Subject to Final Tax -­‐ usually imposed dealer in securities; and
upon the sale, exchange or other disposition of: 2. Real property considered as capital asset, whether the seller is an
a. Real property individual, trust, estate or a private corporation.
b. Shares of stock that are not traded through the stock
Only individual taxpayers can avail of the holding period. It is not
exchange
allowed to corporations.
2. Capital Gains Included in Gross Income for Income Tax
Purposes -­‐ includes sale and other disposition of capital
NET CAPITAL GAIN AND NET CAPITAL LOSS
assets other than those enumerated above. The gain is
included in the gross income of the taxpayer.
Net capital loss and net capital gain
Distinctions between capital gains subject to final tax and
capital gains reported in the income tax return Net capital loss is the excess of capital losses from capital gains.
Net capital gain is the excess of capital gain over the capital loss.
SUBJECT TO REPORTED IN
Applicability of the rule “gain recognized, loss not
FINAL TAX THE ITR
recognized”
As to There is a fixed The capital gains
deductions rate for the tax are aggregated
1. When the transaction is not solely in kind that if aside from
with other
the property, cash is also given in the transfer.
income to
2. Illegal transactions – illegal gain is taxable but illegal loss is
constitute gross
not deductible.
income subject to
3. Transactions between related taxpayer – if there is a gain
deductions
such is taxable while the loss is not deductible.
As to actual GR: It does not There must be
4. Wash sale --‐ one of the illegal trading services.
gains matter whether actual capital
or not capital gains earned Wash sale
gains are actually
earned (presumed It is a sale or other disposition of stock or securities where
gains) substantially identical securities are acquired or purchased within
61--‐ day period, beginning 30 days before the sale and ending
XPN: Disposition 30 days after the sale.
of shares not
traded in the stock The subject of wash sales may be shares of stocks,
exchange or thru securities, including stock options.
initial public
offering Significance in determining whether a transaction is a
As to GR: Holding Holding period is wash sale or not
holding period is considered.
period immaterial If the transaction is a wash sale, the gain is taxable and the loss is
not deductible.
XPN: Disposition
of shares not NOTE: Loss from wash sales is merely an artificial loss and not
traded in the stock actually sustained. The seller can recover this loss through the
exchange or thru subsequent sale of the same. In effect, the loss can be recovered. So
initial public there is really no loss incurred or sustained as it is a mere artificial
offering loss.
As to Net Not allowed. Could be availed.
Loss Carry
Over

UNIVERSITY OFSANTOTOMA S
45 F A C U L TY O F C I V I L L A W
Law on Taxation
Instances where no gain or loss is recognized COMPUTATION OF THE AMOUNT OF GAIN OR LOSS

1. A corporation which is a party to a merger or Capital gain v. Capital loss


consolidation exchanges property solely for stock in a
corporation which is a party to the merger or Capital Gain includes the gain derived from the sale or
consolidation. exchange of an asset not connected with the trade or
2. A shareholder exchanges stock in a corporation which is a business. Capital Loss is the loss that may be sustained from
party to the merger or consolidation solely for the stock of a the sale or exchange of an asset not connected with the trade or
nother corporation, also a party to the merger or business. Capital loss may not exceed capital gains when used
consolidation. as a deduction to income.
3. A security holder of a corporation which is party to the
merger or consolidation exchanges his securities in such Ordinary income v. Ordinary loss
corporation solely for stock securities in another
corporation, a party to the merger or consolidation. Ordinary Income includes the gain derived from the sale or
4. If property is transferred to a corporation by a person in exchange of ordinary asset while Ordinary Loss is the loss that
exchange for stock or unit of participation in such a may be sustained from the sale or exchange of ordinary
corporation, as a result of such exchange said person gains asset.
control of said corporation, provided that stocks issued for
services shall not be considered as issued in return for Treatment of capital gains and losses
property.
1. From Sale of Stocks of Corporations –
Treatment of losses from wash sales
a. Stocks Traded in the Stock Exchange – subject to
stock transaction tax of ½ of 1% on its gross
GR: Losses from wash sales are not deductible.
selling price
b. Stocks Not Traded in the Stock Exchange –
XPN: When the sale was made by a dealer in stock or
subject to capital gains tax
securities and with respect to a transaction made in the ordinary
course of the business of such dealer, losses from such sale is
2. From Sale of Real Properties in the Philippines – capital
deductible(Sec. 38, NIRC).
gain derived is subject to capital gains tax but no loss is
recognized because gain is presumed.
Recognition of gain or loss in exchange of property
3. From Sale of Other Capital Assets --‐ the rules on capital
GR: Upon the sale or exchange of property, the entire amount
gains and losses apply in the determination of the
of the gain or loss shall be recognized. amount to be included in gross income and not subject
to capital gains tax.
XPN: “No gain, no loss shall be recognized” means that if there
is a gain it shall not be subject to tax and if there is a loss it shall Rule regarding expenses that may include losses
not be allowed as a deduction.
A: GR: Expenses that may include losses must be paid and
Merger or consolidation for purposes of taxation
claimed in the year the same is paid or incurred.

1. Ordinary merger or consolidation, or XPN: In NELCO wherein such loss can be carried over in the next
2. The acquisition by one corporation of all or substantially succeeding taxable year.
all the properties of another corporation solely for stock
provided that: INCOME TAX TREATMENT OF CAPITAL GAINS AND LOSSES
a. A merger or consolidation must be undertaken for a
bona fide business purpose and not solely for the Distinctions between treatment of capital gains and
purpose of escaping the burden of taxation. losses between individuals and corporations
b. In determining whether a bona fide business INDIVIDUAL CORPORATION
purpose exists each and every step of the
Availability Holding No holding
transaction shall be considered and the whole
of holding period available period
transaction or series of transactions shall be
period
treated as a single unit
Extent of The percentages Capital gains and
c. In determining whether the property transferred
recognition of gain or loss to losses are
constitutes a substantial portion of the property of the
be taken into recognized to the
transferor, the term “property” shall be taken to
account shall be extent of 100%
include the cash assets of the transferor.
the ff.:
1. 100% --‐ if the
capital assets
have been
held for 12

UNIVERSITYOFSANTOTOMAS 46
2014GOLDENNOTES
INCOME TAXATION
mos. or less; NET LOSS CARRY OVER RULE
and
2. 50% --‐ if the Treatment of net capital loss carry-­‐over (NELCO)
capital asset
has been held If any taxpayer, other than a corporation, sustains in any taxable
for more than year a net capital loss, such loss (in an amount not in excess of the
12 months net income for such year) shall be treated in the succeeding
Deductibility of Non--‐ Non--‐ taxable year as a loss from the sale or exchange of a capital
capital losses deductibility of deductibility of asset held for not more than 12 months (Sec. 39 (D), NIRC).
Net Capital Net Capital
losses losses NOTE: Rules with regard to NELCO.
1. NELCO is allowed only to individuals, including estates and trusts.
Capital losses are XPN: If any 2. The net loss carry--‐ over shall not exceed the net income for the year
allowed only to domestic bank or sustained and is deductible only for the succeeding year.
the extent of the trust company, a 3. The capital assets must not be real property or stocks listed
and traded in the stock exchange.
capital gains; substantial part of
4. Capital asset must be held for not more than 12 months.
hence, the net whose business
capital loss is not is the receipt of
deductible. deposits, sells
NELCO v. NOLCO
any bond,
debenture, note or
NET CAPITAL NET OPERATING
certificate or
LOSS CARRY LOSS CARRY
other evidence of
OVER OVER
indebtedness
(NELCO) (NOLCO)
issued by any
As to source Arises from Arises from
corporation
(including one capital ordinary
issued by a transactions transactions
government or meaning involving meaning involving
political capital asset ordinary asset
subdivision) As to who can Can be availed of Can be availed of
avail by individual by individual and
taxpayer only corporate
taxpayer
Availability of
CAPITAL LOSS LIMITATION
NELCO allowed RULE
NELCO Not As to period May be carried Allows carry over
NELCO
(Applicable to both Corporations and Individuals)
allowed of carry-­‐over over only in the of operating loss
next succeeding in 3 succeeding
Under the capital loss limitation rule, capital loss is deductible taxable year taxable years or in
only to the extent of capital gain. The taxpayer can only deduct case of mining
capital loss from capital gain. If there’s no capital gain, no companies 5
deduction is allowed because you cannot deduct capital loss years
from ordinary gain.
Rule on Matching Cost DEALINGS IN REAL PROPERTY SITUATED IN THE
PHILIPPINES
Under this rule only ordinary and necessary expense are
deductible from gross income or ordinary Income. Capital loss is Treatment of sale or disposition of real property treated
a non--‐ business connected expense as it can be sustained as capital asset
only from capital transactions. To allow that capital loss as a
deduction from ordinary income would run counter to the rule on A final tax of 6% shall be imposed based on the higher
matching cost against revenue.
amount between:
1. The gross selling price; or
Q: Can you deduct ordinary loss from ordinary gain and
2. Whichever is higher between the current fair market value
from capital gain?
as determined by:
a. Zonal Value – prescribed zonal value of real
A: Yes you can deduct ordinary loss from both ordinary gain
properties as determined by the CIR; or
and from capital gain. b. Assessed Value – the fair market value as shown in
the schedule of values of the Provincial and City
assessors (Sec. 24 D [1], NIRC)

NOTE: Actual gain or loss is immaterial since there is a conclusive


presumption of gain.

UNIVERSITY OFSANTOTOMA S
47 F A C U L TY O F C I V I L L A W
Law on Taxation
This rule shall not apply to a real estate dealer, developer or lessor, paid being allowed as tax credit. Manalo consulted a real
or one engaged in the real estate business. In such cases, real properties estate broker who said that the P1.2 million capital gains
are considered as ordinary assets. tax should be credited from the P1.5 million deficiency
income tax. Is the BIR officer’s tax assessment correct?
Actual gain v. Presumed gain
A: No, first, the rate of income tax used by the BIR is the
Actual gain is the excess of the cost from a sale of asset while
corporate income tax although the taxpayer is an individual.
presumed gain is the presumption of law that the seller realized
Second, the house and lot is a real property treated as capital
gains, which is taxed at 6% of the selling price or fair market value,
asset; that being the case, it is subject to a final tax of 6% based on
whichever is higher.
the selling price, zonal value or assessed value whichever is
higher.
Coverage of capital gains and losses in real estate
property
Q: A corporation, engaged in real estate development,
executed deeds of sale on various subdivided lots. One
It involves the sale or other disposition of real property
buyer, after going around the subdivision, bought a
classified as capital asset located in the Philippines by a non--‐
corner lot with a good view of the surrounding terrain. He
dealer in real estate.
paid P1.2 million, and the title to the property was issued.
A year later, the value of the lot appreciated to a market
Tax treatment of disposition of real property deemed
value of P1.6 million, and the buyer decided to build his
capital asset as to taxpayers liable therefrom
house thereon. Upon inspection, however, he discovered
that a huge tower antenna had been erected on the lot
As regards transactions affected by the 6% capital gain tax, the
frontage totally blocking his view. When he complained,
NIRC speaks of real property with respect to individual taxpayers,
the realty company exchanged his lot with another corner
estate and trust but only speaks of land and building with
lot with an equal area but affording a better view. Is the
respect to domestic and resident foreign corporation.
buyer liable for capital gains tax on the exchange of the
lots? (1997 Bar Question)
Tax treatment if property is not located in the Philippines

A: Yes, the buyer is subject to capital gains tax on the


Gains realized from the sale, exchange or other disposition of real
exchange of lots on the basis of prevailing fair market value of the
property, not located in the Philippines by resident citizens or
property transferred at the time of the exchange or the fair market
domestic corporations shall be subject to ordinary income
value of the property received, whichever is higher (Sec. 21 [e],
taxation (Sec. 4.f, RR 7-­‐2003) but subject to foreign tax credits.
NIRC). Real property transactions subject to capital gains tax
are not limited to sales but also exchanges of property unless
Such income may be exempt in case of non--‐ resident
citizens, alien individuals and foreign corporations(Sec. 4.f, RR 7-­‐ exempted by a specific provision of law.
2003).
Q: A, a doctor by profession, sold in the year 2000 a parcel
of land which he bought as a form of investment in 1990
Transactions covered by the “presumed” capital gains tax
for P1 million. The land was sold to B, his colleague and at
on real property
a time when the real estate prices had gone down, for
only P800,000 which was then the fair market value of
It covers:
the land. He used the proceeds to finance his trip to the
1. Sale;
United States. He claims that he should not be made to
2. Exchange; or
pay the 6% final tax because he did not have any actual
3. Other disposition, including pacto de retro and other
gain on the sale. Is his contention correct? (2001 Bar
forms of conditional sales (Sec. 24 D [1], NIRC).
Question)
NOTE: “Sale, exchange or other disposition” includes taking by the
government through expropriation proceedings. A: No, the 6% capital gains tax on sale of a real property held as
capital asset is imposed on the income presumed to have been
Q: Manalo, Filipino citizen residing in Makati City, owns a realized from the sale which is the fair market value or selling price
vacation house and lot in Tagaytay, which he acquired in thereof, whichever is higher. (Sec. 24 [D], NIRC) Actual gain is
2000 for P15 million. On Jan. 10, 2013, he sold said real not required for the imposition of the tax but it is the gain by fiction
property to Mayaman, another Filipino residing in Quezon of law which is taxable.
City for P20 million. On Feb. 9, 2013, Manalo filed the
capital gains return and paid P1.2 million representing 6% Q: In Jan. 1970, Juan bought 1 hectare of agricultural land
capital gains tax. Since Manalo did not derive any in Laguna for P100,000. This property has a current fair
ordinary income, no income tax return was filed by him market value of P10 million in view of the construction of
for 2013. After the tax audit conducted in 2014, the BIR a concrete road traversing the property. Juan agreed to
officer assessed Manalo for deficiency income tax exchange his agricultural lot in Laguna for a one-­‐half
computed as follows: P5 million (P20million less P15 hectare residential property located in Batangas, with a
million) x 30%= P1.5 million, without the capital gains tax fair market value of P10 million, owned by Alpha
Corporation, a domestic corporation engaged in the

UNIVERSITYOFSANTOTOMAS 48
2014GOLDENNOTES
INCOME TAXATION
purchase and sale of real property. Alpha Corporation Q: What is the effect if the sale is made by a dealer in
acquired the property in 2007 for P9 million. securities?
1. Is Juan subject to income tax on the exchange of
property? If so what is the tax base and what is the A: The resulting gain or loss is considered as ordinary gain subject
tax rate? to graduated rates (5--‐ 32%) for individual and normal
2. Is Alpha Corporation subject to income tax on the corporate income tax (30%) for corporations.
exchange of property? If so what is the tax base and
rate? (2008 Bar Question) SHARES LISTED AND TRADED IN THE
STOCK EXCHANGE
A:
1. Yes, in a taxable disposition of a real property classified If the stock is traded in the stock exchange, it is not subject to
as capital asset the tax base is the higher between: the capital gains tax but to stock transaction tax of ½ of 1% on its
fair market value of the property received in exchange gross selling price.
and the fair market value of the property exchanged. Since
the fair market values of the two properties are the same, SHARES NOT LISTED AND TRADED IN THE STOCK
the said market value should be taken as the tax base EXCHANGE
which is P10million and the income tax rate is 6% (Sec. 24
[D], NIRC). Persons liable to pay capital gains tax on the sale of
shares of stock not traded in the stock exchange
2. Yes, the gain from the exchange constitutes an item of gross
income, and being a business income, it must be reported in 1. Individuals – both citizens and aliens
the annual ITR of Alpha Corporation. From the pertinent 2. Corporations – both domestic and foreign
items of gross income, deductions allowed by law from 3. Estates and Trusts
gross income can be claimed to arrive at the net income
which is the tax base for the corporate income tax rate of Tax treatment of sale of shares of stock (not listed or
35%(Sec. 27 [A] and Sec 31, NIRC). traded in the stock exchange) considered as capital assets

NOTE:The applicable tax rate to the case at bar is still 35% since it The holding period notwithstanding, a final tax at the rates
was taxed on 2007. Effective Januray 1, 2009, the corporate prescribed below is hereby imposed upon the net capital gains
income tax rate is 30%. realized during the taxable year from the sale, barter or
exchange or other disposition of shares of stock in a domestic
Gains from sale to the government of real property corporation which are not traded in the stock exchange. (Sec.
classified as capital asset 24 [C], NIRC)

The taxpayer has the option to either: Not over P100,000 …………………………………….5%
1. Include as part of gross income subject allowable On any amount in excess of P100,000 ………10%
deductions and personal exemptions, then subject to the
schedular tax;or Determination of selling price

NOTE: This is not available for a corporate taxpayer.


The following rules shall apply in determining the selling price:
1. In the case of cash sale -­‐ The selling price shall be the
2. Subject to final tax of 6% on capital gains. (Sec. 24 [D], NIRC)
total consideration per deed of sale.
2. If the total consideration is partly in money and in kind
DEALINGS IN SHARES OF STOCK OF
-­‐ The selling price shall be the sum of money and the fair
PHILIPPINE CORPORATIONS
market value of the property received.
3. In the case of exchange -­‐ The selling price shall be the fair
Stocks subject to capital gains tax
market value of the property received.
4. In case the fair market value of the shares of stock
Only those sales of shares of stock of a domestic corporation
sold, bartered or exchanged is greater than the
which arenot listed or not traded in the stock exchange by a
amount of money and/or fair market value -­‐ The
non--‐ dealer in securities.
excess of the fair market value of the shares of stock SBE
over the amount of money and the fair market value of the
NOTE: What is controlling is whether or not the shares of stock are traded
in the local stock exchange and not where the actual sale happened (Del property, if any, received as consideration shall be deemed
Rosario v. CIR, CTA Case No. 4796, Dec. 1, 1994). a gift subject to the donor’s tax under the NIRC(RR 6-­‐
2008).

Important features as regards to capital gains from sale of


shares of stock

1. No capital loss carry--‐ over for capital losses sustained during


the year (not listed and traded in a local stock

UNIVERSITY OFSANTOTOMA S
49 F A C U L TY O F C I V I L L A W
Law on Taxation
exchange) shall be allowed but capital losses may be the local stock exchange, is subject to capital gains tax based
deducted on the same taxable year only. on the net capital gain during the taxable year. The tax rate is
2. The entire amount of capital gains and capital loss (not 5% for a net capital gain not exceeding P100,000 and 10%
listed and traded in a local stock exchange) shall be for any excess. The tax due would be P15,000.
considered without taking into account the holding period
irrespective of the type/kind of taxpayer. SALE OF PRINCIPAL RESIDENCE
3. Non--‐ deductibility of losses on wash sales and short sales.
4. Gain from sale of shares of stock in a foreign Principal residence
corporation are not subject to capital gains tax but to
graduated rates either as capital gain or ordinary It refers to the dwelling house, including the land on which it is
income depending on the nature of the trade of situated, where the individual and members of his family
business of the taxpayer. reside, and whenever absent, the said individual intends to
return. Actual occupancy is not considered interrupted or
Short sale abandoned by reason of temporary absence due to travel or
studies or work abroad or such other similar circumstances(RR
A short sale is any sale of a security which the seller does not own No. 14-­‐00).
or any sale which is consummated by the delivery of a security
borrowed by, or for the account of the seller. NOTE: The address shown in the ITR is conclusively presumed as the
principal residence. If the taxpayer is not required to file a return,
Ownership of a security certification from Barangay Chairman or Building Administrator (for
Condominium units) shall suffice.
A person shall be deemed the owner of a security if he:
Sale of principal residence by an individual
1. or his agent has title to it.
2. Has purchased or entered into an unconditional
contract binding on both parties thereto, to Asale of principal residence by an individual is exempt from capital
purchase it and has not yet received it. gains tax provided the following requisites are present:
3. Owns a security convertible into or exchangeable for it 1. Sale or disposition of the old actual principal residence;
and has tendered such security for conversion or 2. By a citizen or resident alien;
exchange. 3. Proceeds from which is utilized in acquiring or
4. Has an option to purchase or acquire it and has constructing a new principal residence within 18
exercised such option. calendar months from the date of sale or disposition;
5. Has rights or warrant to subscribe to it and has 4. Notify the CIR within 30 days from the date of sale or
exercised such rights or warrants provided disposition through a prescribed return of his intention
however, that a person shall be deemed to own to avail the tax exemption;
securities only to the extent he has a net long 5. Can be availed of once every 10 years;
position in such securities. 6. The historical cost or adjusted basis of his old principal
residence shall be carried over to the cost basis of his new
Q: John, US citizen residing in Makati City, bought shares principal residence;
of stock in a domestic corporation whose shares are listed 7. If there is no full utilization, the portion of the gains
and traded in the Philippine Stock Exchange at the price presumed to have been realized shall be subject to capital
of P2 Million. A day after, he sold the shares of stock gains tax;and
through his favorite Makati stockbroker at a gain of 8. The 6% capital gains tax due shall be deposited with an
P200,000. authorized agent bank subject to release upon
1. Is John subject to Philippine income tax on the sale certification by the RDO that the proceeds of the sale have
been utilized(RR No. 14-­‐00).
of his shares through his stockbroker? Is he liable for
any other tax?
Q: If the taxpayer constructed a new residence and then
2. If John directly sold the shares to his best friend, a US
sold his old house, is the transaction subject to capital
citizen residing in Makati, at a gain of 200,000, is he
gains tax?
liable for Philippine income tax? If so what is the tax
base and rate?
A: Yes, exemption from capital gains tax does not find
application since the law is clear that the proceeds should be
A:
used in acquiring or constructing a new principal residence.
1. No, the gain on the sale or disposition of shares of stock
Thus, the old residence should first be sold before acquiring
of a domestic corporation held as capital assets will not be
or constructing the new residence.
subjected to income tax if these shares sold are listed and
traded in the stock exchange (Sec. 24 [C], NIRC).
However, the seller is subject to the percentage tax of ½
of 1% of the gross selling price. (Sec. 127 [A], NIRC).

2. Yes, the sale of shares of stocks of a domestic


corporation held as capital, not through a trading in

UNIVERSITYOFSANTOTOMAS 50
2014GOLDENNOTES
INCOME TAXATION

OTHER CAPITAL ASSETS PASSIVE INVESTMENT INCOME

These include capital assets other than those: Passive income refers to income derived from any activity on
1. Real property located in the Philippines; and which the taxpayer has no active participation or involvement.
2. Shares of stock of a domestic corporation which is not listed
and not traded in the stock exchange. Classifications of passive income

Treatment of sale or exchange of other capital assets Passive income may either be:
1. Subject to scheduler rates, or
The gains or losses shall be subject to the holding period, after 2. Subject to final tax.
which the net capital gain is determined. The net capital gain
(excess of the gains from sales or exchanges of capital assets over Q: What is meant by “income subject to final tax?” Give at
the loss from such sales/exchanges) are included in the gross least two examples of income of resident individuals that
income of the taxpayer subject to the graduated rates of 5 --‐ 32% is subject to the final tax. (2001 Bar Question)
for individuals and the normal corporate income tax of 30% for
corporations(Sec. 24 [D], NIRC). A: Income subject to final tax refers to an income wherein the tax
due is fully collected through the withholding tax system. Under
this procedure, the payor of the income withholds the tax and
remits it to the government as a final settlement of the income
tax due on said income. The recipient is no longer required to
include the item of income subjected to "final tax" as part of his
gross income in his income tax returns.

Passive incomes that are subject to final tax under the


NIRC

1. Interests, royalties, prizes and other winnings


2. Cash and/or property dividends
3. Capital gains from sale of shares of stock not traded in the
stock exchange
4. Capital gains from sales of real property (Sec. 24, NIRC)

Summary rules on the tax treatment of certain passive income as applied to individuals

NRA-­‐ NRA -­‐


RC NRC RA
ETB NETB
Within
Sources Of Income and without Within Within Within Within

NATURE OF INCOME TAX RATE


INTEREST
On interest on currency bank deposits, yield or other monetary benefits from
deposit substitutes, trust funds & similar arrangements. 20% 20% 20% 20% 25%

XPN:
If the depositor has an employee trust fund or accredited retirement plan, such
interest income, yield or other monetary benefit is exempt
from final withholding tax.
Interest income under the Expanded Foreign Currency Deposit System. 7.5% Exempt 7.5% Exempt Exempt

NOTE: If the loan is granted by a foreign government, or an International or regional


financing institution established by governments, the interest income of
the lender shall not be subject to the final withholding tax.
Interest Income from long--‐ term deposit or investment in the form of savings, Held for:
common or individual trust funds, deposit substitutes, investment 5 years or more – exempt 25%
management accounts and other investments evidenced by certificates in such 4 years to less than 5 years – 5%
form prescribed by the BSP 3 years to less than 4 years – 12%
Less than 3 years – 20%

UNIVERSITY OFSANTOTOMA S
51 F A C U L TY O F C I V I L L A W
Law on Taxation
DIVIDEND
Dividend from a DC or from a joint stock company, insurance or mutual fund
company and regional operating headquarters of a multinational company; or on
the share of an individual in the distributable net income after tax of partnership
(except that of a GPP) of which he is a partner, or on the share of an individual
in the net income after tax of an association, a joint account or joint venture or 10% 10% 10% 20% 25%
consortium taxable as a
corporation of which he is a member of co--‐ venturer.
ROYALTY INCOME
Royalties on books, literary works and musical composition. 10% 10% 10% 10% 25%
Other royalties (e.g. patents and franchises) 20% 20% 20% 20% 25%
PRIZES AND WINNINGS
Prizes exceeding P10,000 20% 20% 20% 20% 25%
Winnings 20% 20% 20% 20% 25%
Winnings from Philippines Charity sweepstakes and lotto winnings Exempt Exempt Exempt Exempt Exempt

NOTE: For corporations, the tax rate is also 20% without any distinction as to royalties. Thus, even books and other literary works and musical compositions shall be
subject to 20% tax.

Moreover, prizes and other winnings (except Philippine Charity Sweepstakes and Lotto winnings) of corporations are not subject to final tax but included as part of their
gross income.

INTEREST INCOME Otherwise, it is subject to final tax of 7 ½ %. Item no. 5 applies only to
individual taxpayers.
It is the amount of compensation paid for the use of money
or forbearance from such use. Long-­‐term deposits or investments

Interest income is considered as passive income subject to final Certificate of time deposit or investment in the form of
tax. savings, common or individual trust funds, deposit
substitutes, investment management accounts or other
Q: Maribel, a retired public school teacher, relies on her investments, with maturity of not less than 5 years, the form of
pension from the GSIS and the Interest Income from a which shall be prescribed by the Bangko Sentral ng Pilipinas
time deposit of P500,000 with ABC Bank. Is Maribel liable (BSP) and issued by banks(not by nonbank financial
to pay any tax on her income? intermediaries and finance companies) to individuals in
denominations of Php10,000 and other denominations as
A: Maribel is exempt from tax on the pension from the GSIS (Sec. may be prescribed by the BSP.(Sec. 22[FF], NIRC)
28 b [7] F, NRC). However, with her time deposit, the interest
she receives thereon is subject to 20% final withholding tax. Foreign Currency Deposit System

Tax-­‐exempt interest income(DL-­‐IFL) This “shall refer to the conduct of banking transactions
whereby any person whether natural or judicial may deposit
1. From bank Deposits. The recipient must be any foreign currencies forming part of the Philippine international
following tax exempts recipients: reserves, in accordance with the provisions of RA 6426, An Act
a. Foreign government; Instituting a Foreign Currency Deposit System in the
b. Financing institutions owned, controlled or financed Philippines, and for other purposes.”
by foreign government; or
c. Regional or international financing institutions Interest income under the Foreign Currency Deposit
established by foreign government(Sec. 25 A [2], System
NIRC).
2. On Loans extended by any of the above mentioned If the interest is received by an individual taxpayer (except
entities. nonresident individual) from a depository bank under the
3. On bonds, debentures, and other certificate of expanded foreign currency deposit sytem shall be subject to a
Indebtedness received by any of the above mentioned final tax at the rate of 7½% of such income. (Sec. 24 [B][1],
entities. NIRC)
4. On bank deposit maintained under the expanded
Foreign currency deposit. Nonresident citizen and Nonresident alien are exempt from
5. From Long term investment or deposit with a maturity period payment of the 7½% final tax on interest income under the
of 5 years or more. expanded foreign currency deposit system.

NOTE:In order to avail exemption under item no. 4, the recipient must be
a non--‐ resident alien or non--‐ resident foreign corporation.

UNIVERSITYOFSANTOTOMAS 52
2014GOLDENNOTES
INCOME TAXATION
Q: What is the tax treatment of the following interest on NOTE: Where a corporation distributes all of its assets in complete
deposits with: liquidation or dissolution, the gain realized or loss sustained by the
1. BPI Family Bank? stockholders whether individual or corporate, is a taxable income or
deductible loss, as the case may be (Sec. 73 [A], NIRC).
2. A local offshore banking unit of a foreign bank? (2005
Bar Question)
Disguised dividends (1994 Bar Question)
A:
These are the income payments made by a domestic
1. It is a passive income subject to a withholding tax rate of
corporation, which is a subsidiary of a non--‐ resident foreign
20%.
corporation, to the latter ostensibly for services rendered by the
2. It is a passive income subject to final withholding tax rate of
latter to the former, but which payments are
7.5%. (Sec. 24 B [1], NIRC) Both interests are not to be
disproportionately larger than the actual value of the services
decalred as part of gross income in the income tax
rendered. In such case, the amount over and above the true value of
return.
the service rendered shall be treated as a dividend, and shall be
subjected to the corresponding tax on Philippine sourced gross
Distinctions between 20% final withholding tax on interest
income,. E.g., Royalty payments under a corresponding
income from the 5% gross receipts tax on banks
licensing agreement.
20% FWT ON 5% GROSS RECEIPTS
Q: Suppose the creditor is a corporation and the debtor is
INTEREST INCOME TAX ON BANKS
its stockholder, what is the tax implication in case the
It is an income tax It is a percentage tax under debt is condoned by the corporation?
under Title II of the Title V (Other Percentage
NIRC (Tax on Income) Taxes) A: This may take the form of indirect distribution of dividends
FWT is imposed on the GRT is measured by a certain by a corporation. On the part of the stockholder whose
net income or gross percentage of the gross selling indebtedness has been condoned he is subject to 10% final tax,
income realized in a price or gross value of money of on the masked dividend payment. On the part of the corporation,
taxable year goods sold, bartered or said amount cannot be claimed as deduction. When the
imported; or the gross receipts corporation declares dividends, it can be considered as interest
or earnings derived by any on capital therefore not deductible.
person engaged in the sale of
services Tax-­‐exempt dividends

FWT is subject to GRT is not subject to 1. Those earned before Jan. 1, 1998.
withholding withholding 2. Dividends received by a DC from another DC.
3. Dividends received by a RFC from a DC.
DIVIDEND INCOME 4. A stock dividend representing the transfer of surplus to
capital account.
Dividend is any distribution made by a corporation to its 5. Dividends received by a NRFC from a DC, although
shareholders out of its earnings or profits and payable to its subject to withholding tax because foreign taxes paid on
shareholders, whether in money or in other property. such dividends are allowed as a tax credit.

Dividend income is considered as passive income subject to final CASH DIVIDEND


tax.
The cash or property dividend received by an individual from a
NOTE: If dividends (whether cash or stock) are given to DC is subject to a final tax of 10%.
shareholders not as a return on investment but in payment of services
rendered, then they are taxable as part of compensation income, or NOTE: Share of an individual in the distributable net income after tax of a
income derived from self--‐ employment or exercise of profession NOT as partnership (except a general professional partnership) of which he is a
passive income (Taxation Volume II, Domondon, 2009 ed.).
partner and the share in the net income after tax of a joint or co--‐ venturer
Reckoning point in taxing the dividend shall be tax as dividends, thus it is subject to 10% final tax.

The reckoning point is the time of declaration and not the time of STOCK DIVIDEND
payment of dividends as it is taxable whether actually or
constructively received. Taxability of stock dividend

Q: Does tax on income and dividends amount to double GR: Stock dividends, strictly speaking, represent capital and do not
taxation? constitute income to its recipient. So that the mere issuance
thereof is not subject to income tax as they are nothing but
A: No, tax on income is different from tax on dividend enrichment through increase in value of capital investment.
because they have different tax basis. (Afisco Insurance
Companies v. CA, GR 1123675, Jan. 25, 1999)

UNIVERSITY OFSANTOTOMA S
53 F A C U L TY O F C I V I L L A W
Law on Taxation
XPNs: preferred shares considered as “essentially equivalent to
1. These shares are later redeemed for consideration by the the distribution of taxable dividend" making the proceeds
corporation or otherwise conveyed by the stockholder to thereof taxable?
the extent of such corporation.
2. The recipient is other than the shareholder. A: Yes, the general rule states that a stock dividend
3. If the stock dividend issuance resulted in a change in the representing the transfer of surplus to capital account shall not be
shareholders’ equity. subject to tax. However, if a corporation cancels or redeems stock
issued as a dividend at such time and in such manner as to make
NOTE: A stock dividend does not constitute taxable income if the the distribution and cancellation or redemption, in whole or in
new shares did not confer new rights nor interests than those part, essentially equivalent to the distribution of a taxable
previously existing, and that the recipient owns the same dividend, the amount so distributed in redemption or
proportionate interest in the net assets of the corporation
cancellation of the stock shall be considered as taxable income to
(Sec. 252, RR No. 2)
the extent it represents a distribution of earnings or profits
accumulated.
4. Stock dividends equivalent to cash or property resulting
in a change of ownership and interest of the shareholders.
The redemption converts into money the stock dividends which
(Sec. 24 B [2]; 25 A, B; 28 B [5] b, NIRC)
becomes a realized profit or gain and consequently, the
stockholder's separate property. Profits derived from the capital
Q: Fred, was a stockholder in the Philippine American
invested cannot escape income tax. As realized income, the
Drug Company. Said corporation declared a stock dividend
proceeds of the redeemed stock dividends can be reached by
and that a proportionate share of stock dividend was
income taxation regardless of the existence of any business
issued to the Fred. The CIR, demanded payment of income
purpose for the redemption (CIR v. CA, GR 108576, Jan. 20,
tax on the aforesaid dividends. Fred protested the
1999).
assessment made against him and claimed that the stock
dividends in question are not income but are capital and
PROPERTY DIVIDEND
are, therefore, not subject to tax. Are stock dividends
income?
Property dividends are those paid in corporate property such as
bonds, securities or stock investments held by the corporation.
A: No, stock dividends are not income and are therefore not
They are taxable to the extent of the fair market value of the
taxable as such. A stock dividend, when declared, is merely a
property received at the time of distribution.
certificate of stock which evidences the interest of the stockholder
in the increased capital of the corporation. A declaration of stock
LIQUIDATING DIVIDEND
dividend by a corporation involves no disbursement to the
stockholder of accumulated earnings and the corporation parts
A liquidating dividend is a dividend which results from the
with nothing to its stockholder. The property represented by a
distribution by a corporation of all its property or assets upon its
stock dividend is still that of the corporation and not of the
complete liquidation or distribution. It is a return of investment to
stockholder. The stockholder has received nothing but a
the stockholders by a dissolving corporation upon its asset
representation of an interest in the property of the corporation and
distribution. Hence, any gain or loss sustained therefrom by the
as a matter of fact, he may never receive anything, depending upon
stockholder, whether individual or corporate, is a taxable income
the final outcome of the business of the corporation(Fisher v.
or a deductible loss.
Trinidad, GR L-­‐21186, Feb. 27, 1924).
NOTE: Capital gains from the sale, exchange, or other disposition by
Q: The JV was tasked to develop and manage FDC’s 50% individuals, including estates and trusts, of capital assets other than real
ownership of its PBCom Office Tower Project “the property located in the Philippines or shares of stocks of domestic
Project”. FDC paid its subscription by executing a Deed of corporations are subject to Income Tax under Sec. 24, NIRC. The gains
Assignment of its rights and interests in the Project worth or losses shall be subject to the holding period, after which the net gain is
PhP500.7M in favor of the JV. The BIR assessed deficiency to be included as part of the ordinary income to be reported in the income
tax return and subjected to the schedular tax rate. Thus, where the capital
income tax on the gain on the supposed dilution and/or
assets distributed as liquidating dividends such as jewelry, motor vehicles,
increase in the value of FDC's shareholdings in FAC. Did
objects of art, shares of stocks in foreign corporations, or real
the BIR properly imputed deficiency income taxes to FDC properties located outside the Philippines, are sold, bartered or
which was supposedly incurred by it as a consequence of otherwise disposed of, 100% of the capital gain shall be reported for
the dilution of its shares in FAC? income tax purposes if the capital asset has been held for not more 12
months, and 50% if it has been held for more than 12 months.
A: No.The mere appreciation of capital is not taxable. Gain is Otherwise, the individual shall be subject to capital gains tax.
realized upon disposition. No deficiency income tax can be
ROYALTY INCOME
assessed on the gain on the supposed dilution and/or increase
in the value of FDC's shareholdings in FAC (CIR vs. Filinvest
Development Corporation, G.R. Nos. 163653 & 167689, July Royalties are sums of money paid to a creator or a participant
19, 2011). in an artistic work, based on individual sales of the work. In order
to receive royalties, the work must generally have a copyright
Q: Is the redemption of stocks of a corporation from its or patent.
stockholders as well as the exchange of common with

UNIVERSITYOFSANTOTOMAS 54
2014GOLDENNOTES
INCOME TAXATION
RENTAL INCOME LEASE OF PERSONAL PROPERTY

Rental income is a fixed sum, either in cash or in property Rental income on the lease of personal property located in the
equivalent, to be paid at a definite period for the use or Philippines and paid to a non--‐ resident taxpayer shall be taxed as
enjoyment of a thing or right. All rentals derived from lease of real follows:
estate or personal property, of copyrights, trademarks, patents
and natural resources under lease. NON-­‐
NON-­‐RESIDENT
RESIDENT
CORPORATION
Prepaid rent ALIEN
Vessel 4.5% 25%
Prepaid or advance rental is taxable income to the lessor in the Aircraft, machineries 7.5% 25%
year received, if received under a claim of right and without and other equipment
restriction as to its use, regardless of method of accounting Other assets 32% 25%
employed.
LEASE OF REAL PROPERTY
NOTE: Security deposit applied to the rental of terminal month or period of
contract must be recognized as income at the time it is applied. Security APPLICABLE TAX
deposit is to ensure contract compliance, it is not income to the lessor until LESSORS BASIS
RATES
the lessee violates any provision of the contract.
Citizen, resident alien or Graduated income Net taxable
non--‐ resident alien tax rates provided income
Rent is subject to special rate
engaged in trade or for in Sec. 24 of
business in the the NIRC
1. Those paid to non--‐ resident owner or lessor of vessels
Philippines
chartered by Philippine national – 4.5% of gross rentals (Sec.
28 B [3], NIRC)
NOTE: Special rule on
2. Those paid to non--‐ resident owner or lessor of aircraft,
husband and wife:
machineries and other equipment – 7.5% of gross rental If the lessors are
or fees. (Sec. 28 B [4], NIRC) husband and wife, they
shall compute
Items considered as additional rent income separately their
individual income tax
Additional rent income may be grouped into 2: based on their
1. Obligations of Lessors to 3rd parties assumed by the respective taxable
income. However, if any
lessee: income cannot be
a. Real estate taxes on leased premises definitely attributed to or
b. Insurance premiums paid by lessee on property identified as income
c. Dividends paid by lessee to stock--‐ holders of exclusively earned or
lessor--‐ corporation realized by either of the
d. Interest paid by lessee to holder of bonds issued by spouses, the same shall
lessor--‐ corporation be divided equally
between the spouses for
the purpose of
2. Value of permanent improvement made by lessee on
determining their
leased property of the lessor upon expiration of the lease. respective taxable
income.
Rent v. Royalty
Non--‐ resident alien 25% final Rental
not engaged in trade withholding tax income
RENT ROYALTY or business in the unless a lower
As to Must be reported as Need not be Philippines rate is imposed
reporting part of gross reported since pursuant to an
income subject to final tax. effective tax
As to tax Regular progressive Final tax treaty
rate tax if individual Domestic corporation 30% corporate Net taxable
or a resident foreign income tax rate income if
corporation or 2% MCIT, NCIT or gross
whichever is income MCIT
higher
Non--‐ resident foreign 30% corporate Gross rental
corporation income tax income

UNIVERSITY OFSANTOTOMA S
55 F A C U L TY O F C I V I L L A W
Law on Taxation

TAX TREATMENT OF LEASEHOLD TAX TREATMENT OF VAT ADDED TO


IMPROVEMENTS BY LESSEE RENTAL/PAID BY THE LESSEE

Recognized methods in reporting the value of permanent Leases of property and VAT
improvement
All forms of property for lease, whether real or personal, are
Where the lease contract provides that the lessee will erect a liable to VAT. Leases or property shall be subject to VAT
permanent improvement on the rented property and after the regardless of the place where the contract of lease or
term of the lease, the improvement shall become the property of licensing agreement was executed if the property leased or used is
the lessor, the lessor may, at his option, report the income located in the Philippines.
therefrom upon either of the following methods:
1. Outright Method --‐ the fair market value of the building or XPNs:
improvement shall be reported as additional rent income a. Lease of a residential unit with a monthly rental not
at the time when such building or improvements are exceeding twelve thousand eight hundred pesos
completed; (P12,800);
2. Spread Out Method – allocate over the life of the lease the b. Lease of passenger or cargo vessels and aircraft,
estimated book value of such buildings or improvements including engine, equipment and spare parts thereof for
at the termination of the lease and report as additional domestic or international transport operations (Sec.
rent for each year of the lease an aliquot part thereof in 109[S], NIRC);
addition to the regular rent income. c. Lease of goods or properties or the performance of
services other than the transactions mentioned in the
NOTE: With the outright method it would only be counted for 1 rental preceding paragraphs, the gross annual sales and/or
payment unlike with the spread out method it would be distributed to receipts do not exceed the amount of One million five
the remaining term of the lease contract. hundred thousand pesos (P1,919,500).

Q: X leased his vacant lot in Binondo to Y for a term of 10 Persons liable for VAT in leases of property
years at an annual rental of P600,000. The contract
provides that Y will put up a building on the lot and after Generally, lessors of property, whether real or personal, are liable
10 years, the building will belong to X. The building was to VAT.
erected at a cost of P6,000,000 and has an estimated
useful life of 30 years. Assuming the fair value of the XPN: Where the lessors are non--‐ resident foreign
completed building is the same as the construction cost, corporations or owners, the licensee shall be responsible for the
what is the total income of X if he opts to report his payment of VAT on rentals in behalf of the former. (RR 16-­‐2005,
income on the leasehold improvements using: Sec 4.108-­‐3)
a. Outright method
b. Spread out method Treatment of VAT added to rental/paid by the lessee

A: Taxes paid by a tenant (lessee) to or for a landlord (lessor) for a


a. If X reports his income on the improvements in the year it business property are additional rent and constitute income
was completed, his total rental income shall be: taxable to lessor. Since the lessors are generally the ones
responsible for VAT, any payments made in their behalf by the
FMV of the building in the year of completion lessees on leased property shall form part of the rental income of
P6,000,000
the former.
Add: Annual rental 600,000
Total rental income P6,000,000
TAX TREATMENT OF ADVANCE
RENTAL/LONG TERM LEASE
b. If X reports his income on the imporvements using the spread
out method, his total rental income shall be:
If the advance payment by the lessee is really a loan to the lessor,
or an option money for the property or a security deposit for the
Cost of the building P6,000,000
faithful performance of certain obligations of the lessee, the lessor
Less: Accumulated depreciation at the end realizes no taxable income in the year the advance payment is
of lease term (₱6,000,000/30 years x 10 years) 2,000,000 received. If the advance payment is, in fact, a prepaid rental, there
is taxable income to the lessor whether the latter is using the cash
Book value of the building at the expiration of lease P4,000,000 Divide by: or accrual method of accounting.
Lease term 10

Annual income of X on the improvement P400,000


Regular rental income 600,000
Total annual rental income P1,000,000

UNIVERSITYOFSANTOTOMAS 56
2014GOLDENNOTES
INCOME TAXATION

FORMS OF TAX TREATMENT WHEN TAXABLE A: The P100,000 is excluded from the gross income of X since
ADVANCE it represents a return of premiums which is not income but a
PAYMENT return of capital.
A loan to the G.R. Non--‐ taxable
Proceeds of life insurance
lessor from
the lessee XPN: If the lessee
GR: Amounts received under a life insurance, endowment, or
violates the terms of
annuity contact, whether in a single sum or in installments,
the contract
paid to the beneficiaries upon the death of the insured are
An option G.R. Non--‐ taxable
excluded from the gross income of the beneficiary.
money for
the property XPN: If the lessee
XPNs:
violates the terms of
a. If such amounts, when added to amounts already
the contract
received before the taxable year under such contract, exceed
A security G.R. Non--‐ taxable
the aggregate premiums or considerations paid, the excess
deposit to
shall be inculed in the gross income.
insure the XPN: If the lessee
faithful violates the terms of NOTE: However, in the case of a transfer for a valuable
performance the contract consideration by assignment or otherwise, of a life insurance,
of the lease endowment or annuity contract or any interest therein, only the
A security G.R. Non--‐ taxable Taxable at the actual value of such consideration and the amount of the premiums
deposit which time it is applied and other sums subsequently paid by the transferee are
restricts the XPN: Security exempt from taxation.
lessor as to its deposit applied to
use rental shall be b. Interest payments thereon if such amounts are held by the
subject tom VAT at insurer under an agreement to pay interest shall be
the time of its taxable. If paid to a transferee for a valuable
application consideration, the proceeds are not exempt.
Prepaid Taxable In the year it is Notes: The life insurance proceeds must be paid by reason of the death
rental received of the insured. Payments for reasons other than death are subject to tax
without irrespective of the up to the excess of the premiums paid.
restriction as accounting method
to its use employed Any policy loans or borrowings made on the policy shall be deducted
by the lessor as advances from the life insurance proceeds received upon death.

ANNUITIES, PROCEEDS FROM LIFE INSURANCE AND Q: Who may be the recipients of non-­‐taxable life
OTHER TYPES OF INSURANCE insurance proceeds?

Annuity A: Proceeds of life insurance policies paid to individual


beneficiaries upon the death of the insured are exempt. Also, it
It refers to the periodic installment payments of income or pension has also been held that proceeds of life insurance policies taken
by insurance companies during the life of a person or for a by a corporation on the life of an executive to indemnify it against
guaranteed fixed period of time, whichever is longer, in loss in case of his death do no constitute taxabe income (El
consideration of capital paid by him. Oriente Fabrica de Tabacos vs. Posadas, G.R. No. 34774,
Sept. 21, 1931, 56 Phil. 147).
The portion representing return of premium is not taxable while
that portion that represents interest is taxable. Distinctions between the tax treatment of life insurance
proceeds under income and estate taxation
NOTE: The portion of annuity net of premiums is taxable being interest
or earnings of the premium and not return of capital. In estate taxation, the concept of revocability or irrevocability
in the designation of the beneficiary is necessary to
Returns of premiums determine whether the life insurance proceeds are included in
the gross estate or not. However, if the appointed beneficiary is
The premiums returned are not income but return of capital the estate, executor or administrator, the proceeds shall be
and therefore not taxable. They represent earnings which were always be included from the gross estate.
previously taxed.
NOTE: Under the Insurance Code, the insured shall have the right to
Q: X purchased a life annuity for P100,000 which will pay change the beneficiary he designated in the policy, unless he has expressly
him P10,000 a year. The life expectancy of X is 12 years. waived this right in said policy. Notwithstanding the foregoing, in the
How much is excluded from the gross income of X? event the insured does not change the beneficiary

UNIVERSITY OFSANTOTOMA S
57 F A C U L TY O F C I V I L L A W
Law on Taxation
during his lifetime, the designation shall be deemed irrevocable corporation’s operating income and the net income is subject
(Sec. 11, R.A. 10607). to 30% corporate income tax.

On the other hand, in income taxation, there is no need for the RECIPIENTS TAX RATES
determination of revocability or irrevocability of the beneficiary
Citizen, resident alien or Subject to 20% final
for purposes of exclusion of such proceeds from the gross income.
non--‐ resident engaged in withholding tax
They are non--‐ taxable regardless of who the recipient is.
trade or business in the
Philippines.
Q: ABC Corp. took two insurances covering the life of its
Non--‐ resident alien not Subject to 25% final
employee, Y. The first insurance designated W, wife of Y
engaged in trade or withholding tax
as the beneficiary; while in the second insurance, it was
business in the Philippines
ABC Corp. which was the designated as the irrevocable
Corporation (domestic or foreign Subject to 30% corporate
beneficiary. In both insurances, it was ABC Corp. paying
income tax.
the premiums. Y died.
a. Do the proceeds form part of the taxable income of
the recipients?
Prizes and winning subject to income tax
b. Are the proceeds forming part of the taxable estate
of the deceased?
1. Prizes derived from sources within the Philippines not
A: exceeding P10,000 is included in the gross income;
2. Winning derived from sources within the Philippines is
a. The proceeds are not part of the taxable income of the
subject to final tax on passive income except PCSO and lotto
recipients. Section 32(B)(1) expressly excludes from
winnings which are tax exempt;
income taxation proceeds of life insurance. This is based
3. Prizes and winnings from sources outside the
on the theory that such proceeds, for income tax purposes,
Philippines.
are considered as forms of indemnity. Thus, they are non--‐
taxable regardless of who the recipient is.
Prizes and awards exempt from income tax

b. The proceeds of the two insurance will now be excluded


a. Prizes and awards made primarily in recognition of
as part of the gross estate. For estate tax purposes, the religious, charitable , scientific, educational, artistic, literary,
determining factor of whether the proceeds of insurance or civic achievement provided, the following conditions are
shall be excluded in the gross estate is when the met:
designation of the beneficiary is made irrevocable. i. The recipient was selected without any action on his
Pusuant to the amendment introduced by R.A. 10607 part to enter the contest or proceeding; and
approved on August 15, 2013, the second paragraph of Sec.
ii. The recipient is not required to render substantial future
11 of the Insurance Code now reads “Notwithstanding the
services as a condition to receiving the prize or
foregoing, in the event the insured does not change the award.
beneficiary during his lifetime, the designation shall be
deemed irrevocable”. Thus, since the Y did not exercise his
b. All prizes and awards granted to athletes in local and
right to change W as his beneficiary, the designation is
international sport competitions and tournaments
deemed irrevocable and hence, the proceeds of the
whether held in the Philippines or abroad and
insurance not taxable.
sanctioned by their national sports associations.
PRIZES AND AWARDS NOTE: The national sports association referred to by law that should
sanction said sport activity is the Philippine Olympic Committee.
It refers to amount of money in cash or in kind received by chance
or through luck and are generally taxable except if specifically c. Prizes that winning inventors receive from the nationwide
mentioned under the exclusion from computation of gross contest for the most innovative New and Renewable
income under Sec. 32[B] of NIRC. Energy Systems jointly sponsored by the PNOC and other
organizations for during the first ten years reckoned from
Tax treatment for prizes and winnings the date of the first sale of the invented products, provided
that such sale does not exceed P200,000 during any
Generally, prizes exceeding ₱10,000 and other winnings from twelve--‐ month period(Secs. 5 and 6, R.A. No. 7459; BIR
sources within the Philippines shall be subject to 20% final Ruling 069-­‐ 2000).
withholding tax, if received by a citizen, resident alien or non--‐
resident engaged in trade or business in the Philippines. If PENSIONS, RETIREMENT BENEFIT OR SEPARATION PAY
the recipient is a non--‐ resident alien not engaged in trade or
business in the Philippines, the prizes and other winnings shall It refers to amount of money received in lump sum or on
be subject to 25% final withholding tax. If the recipient is a staggered basis in consideration of services rendered given after
corporation (domestic or foreign), the prizes and other winnings an individual reaches the age of retirement.
are added to the

UNIVERSITYOFSANTOTOMAS 58
2014GOLDENNOTES
INCOME TAXATION
Pension being part of gross income is taxable to the extent of the that must be included in his income tax return in the year of
amount received except if there is a BIR approved pension receipt.
plan(Sec. 32 B [6], NIRC).
XPN: The foregoing principle does not apply to tax credits or
FORGIVENESS OF INDEBTEDNESS refunds of the following taxes since these are not deductible
from gross income:
Tax treatment for forgiveness of indebtedness a. Income tax;
b. Estate tax;
1. When cancellation of debt is income. If an individual c. Donor’s tax; and
performs services for a creditor, who in consideration d. Special assessments.
thereof, cancels the debt, it is income to the extent of the
amount realized by the debtor as compensation for his INCOME FROM ANY SOURCE WHATEVER
services.
2. When cancellation of debt is a gift. If a creditor merely Meaning of the phrase “income from whatever source
desires to benefit a debtor and without any derived”
consideration therefore cancels the amount of the debt, it
is a gift from the creditor to the debtor and need not be This phrase implies that all income not expressly exempted from the
included in the latter’s income. class of taxable income under our laws form part of the taxable
3. When cancellation of debt is a capital transaction. If a income, irrespective of the voluntary or involuntary action of the
corporation to which a stockholder is indebted forgives taxpayer in producing the income. The source of the income may
the debt, the transaction has the effect of payment of a be legal or illegal.
dividend(Sec. 50, RR No. 2).
4. An insolvent debtor does not realize taxable income from Examples of “income from whatever source derived”
the cancellation or forgiveness(CIR v. Gin Co.). which form part of the taxable income of the taxpayer
5. The insolvent debtor realizes income resulting from the
cancellation or forgiveness of indebtedness when he 1. Gains arising from expropriation of property which would
becomes solvent(Lakeland Grocery Co. v. CIR 36 BTA be considered as income from dealings in property;
289 [1937]). 2. Gains from gambling;
3. Gains from embezzlement or stealing money;
RECOVERY OF ACCOUNTS PREVIOUSLY WRITTEN OFF-­‐ 4. Gains, money or otherwise derived from extortion, illegal
WHEN TAXABLE/WHEN NOT TAXABLE gambling, bribery, graft and corruption, kidnapping,
racketeering, etc.
Tax Benefit Rule or Equitable Doctrine of Tax Benefit
Rationale: These are taxable because title is merely
This rule states that the recovery of bad debts previously allowed voidable.
as deduction in the preceding year or years shall be included as
part of the taxpayer’s gross income in the year of such recovery 5. In stock options, the difference between the fair market
to the extent of the income tax benefit of said deduction. value of the shares at the time the option is exercised and
the option price constitutes additional compensation
The recovery of amounts deducted in previous years from gross income to the employee. ( Commissioner vs Smith, 324
income become taxable income unless to the extent thereof, the U.S. 177)
deduction did not result in any tax benefit to the taxpayer or in a 6. Money received under solution indebiti
reduction of income tax liability.
Rationale: Under the claim of right doctrine, the
Recovery of bad debts recipient, even if he has the obligation to return the same,
has a voidable title to the money received through
If the taxpayer did not benefit from deduction of the bad debt mistake.
written--‐ off because it did not result in any reduction of his income
tax in the year of such deduction as in the case where the result 7. Condonation of indebtedness for a consideration.
of the taxpayer’s business operation was a net loss even without
deduction of the bad debts written--‐ off, his subsequent Rationale: This is because when a creditor cancels a debt
recovery thereof shall be treated as a mere recovery or a as part of a business transaction, the debtor is enriched or
return of capital, hence, not treated as receipt of realized receives financial advantages thereby increasing its net
taxable income. assets, and thus realizes taxable income.

RECEIPT OF TAX REFUNDS OR CREDIT General rule on taxation of debts

If a taxpayer receives tax credit certificate or refund for Borrowed money is not part of taxable income because it has to
erroneously paid tax which was claimed as a deduction from be repaid by the debtor. On the other hand, the creditor does
his gross income that resulted in a lower net taxable income or a not receive any income upon payment because it is merely a
higher net operating loss that was carried over to the succeeding return of the investment.
taxable year, he realizes taxable income

UNIVERSITY OFSANTOTOMA S
59 F A C U L TY O F C I V I L L A W
Law on Taxation
James Doctrine 5. Gains on sale of real property located in the Philippines
6. Gains on sale of personal property other than shares of
This doctrine provides that even though the law imposes a legal stock within the Philippines
obligation upon an embezzler or thief to repay the funds, the 7. Gains on sale of shares of stock in a domestic
embezzled or stolen money still forms part of the gross income corporation
since the embezzler or thief has no intention of repaying the
money. Income from sources without the Philippines

NOTE: The money or other proceeds of the sale or other disposition 1. Interest and dividends derived from sources other than
of stolen property is subject to income tax because the proceeds are those within the Philippines
received under a “claim of right.” 2. Compensation for services performed outside the
Philippines
SOURCE RULES IN DETERMINING INCOME
3. Rentals and royalties from properties located outside the
FROM WITHIN AND WITHOUT
Philippines or any interest in such property including
rentals or royalties for the use of or for the privilege of using
KINDS OF INCOME SOURCE OF INCOME
outside the Philippines intellectual property rights such as
Interests Residence of debtor trademarks, copyrights, patents, etc.
Dividends Domestic corporation – income
within Income derived partly within and partly without the
Philippines
Foreign corporation – income within if
more than 50% of its gross income for Gains, profits, or incomes other than those enumerated above
the three--‐ year period ending with the shall be allocated or apportioned to sources within or without the
close of the taxable year prior to the Philippines
declaration of dividends was derived
from sources within the Philippines EXCLUSIONS FROM GROSS INCOME

Income = Phil. Gross Income x Exclusions from gross income refer to the removal of
Dividend otherwise taxable items from the reach of taxation
within Total Gross Income
Exemption

Services Place of performance of service It refers to an immunity or privilege, freedom from charge or
Rentals Location of the property/interest in burden to which other persons are subject to tax.
such property
Royalties Place of use or location of Construction of exclusions and exemptions
intangibles (trademarks, copyright,
patents, etc) Exclusions are in the nature of tax exemptions, thus they must
Sale of real Location of property be strictly construed against the taxpayer and liberally in favor
property of the Government. It behooves upon the taxpayer to establish
Sale of personal Place of sale them convincingly.
property
Shares of stock of Income within regardless of the place RATIONALE FOR THE EXCLUSIONS
domestic of sale
corporation There are exclusions from the gross income either because they:
1. Represent return of capital;
SITUS OF INCOME TAXATION 2. Are not income, gain or profit;
3. Are subject to another kind of internal revenue tax;
Income from sources within the Philippines 4. Are income, gain or profit that are expressly exempt from
income tax under the Constitution, Tax treaty, Tax Code,
1. Interests derived from sources within the Philippines or general or a special law.
2. Dividends from domestic and foreign corporations, if more
TAXPAYERS WHO MAY AVAIL OF EXCLUSIONS
than 50% of its gross income for the three--‐ year period
ending with the close of the taxable year prior to the
declaration of dividends was derived from sources All kinds of taxpayers may avail of exclusions – individuals,
within the Philippines estates, trusts and corporations, whether citizens, aliens,
3. Compensation for services performed within the whether residents or non--‐ residents may avail of the
Philippines exclusions.
4. Rentals and royalties from properties located in the
Philippines or any interest in such property including rentals
or royalties for the use of or for the privilege of using within
the Philippines intellectual property rights such as
trademarks, copyrights, patents, etc.

UNIVERSITYOFSANTOTOMAS 60
2014GOLDENNOTES
INCOME TAXATION
Rationale: The excluded receipts are not considered as income for the computation due and payable
tax purposes. of
gross income.
EXCLUSIONS DISTINGUISHED FROM DEDUCTIONS AND
TAX CREDIT UNDER THE CONSTITUTION

Exclusion from gross income v. Deductions from gross INCOME DERIVED BY THE GOVERNMENT
income OR ITS POLITICAL SUBDIVISIONS FROM THE EXERCISE OF
ANY ESSENTIAL GOVERNMENT FUNCTION
EXCLUSION FROM DEDUCTION FROM
GROSS INCOME GROSS INCOME Income derived by the Government or its political subdivision
Refer to a flow of wealth to the The amounts, which the is exempt from gross income, if the source of the income is from
taxpayer which are not treated law allows to be any public utility or from the exercise of any essential
as part of gross income, for deducted from gross governmental functions.
purposes of computing the income in order to arrive
taxpayer’s taxable income, at net income Government owned and controlled corporations
due to the following reasons:
1. It is expressly exempted GOCCs performing:
from income tax by the 1. Governmental Function:
fundamental law or GR: Government agencies performing governmental functions are
statute; tax exempt.
2. It is subject to another
kind of internal revenue XPN: Unless expressly taxed
tax;
3. It does not come within XPN to XPN: Unless expressly exempted.
the definition of income
as when the amount 2. Proprietary Functions: subject to taxation.
received represents
return of NOTE: Under Sec. 27 (c) of RA 8424 the following corporations have
capital been granted exemptions:
1. Government Service Insurance System
2. Social Security System
Pertains to the computation of Pertains to the 3. Philippine Health Insurance Corporation
gross income computation of net 4. Philippines Charity Sweepstakes Office
income
Something received or Something spent or paid UNDER THE TAX CODE
earned by the taxpayer in earning gross income
which do not form part of Items that are excluded in gross income and exempt from
gross income gross income taxation
Example of an exclusion Example of a deduction is
from gross income is business rental These are:(GLARICM)
proceeds of life insurance 1. Gifts, bequests and devises
received by the beneficiary 2. Life insurance proceeds
upon the death of the 3. Amount received by insured as return of premium
insured which is not an 4. Retirement benefits, pensions, gratuities, etc.
income or 13th month pay of 5. Income exempt under treaty
an employee not exceeding 6. Compensation for injuries or sickness
P30,000 which is an income 7. Miscellaneous items. (13P2I2G3)
not recognized a. 13thmonth pay and other Benefits;
for tax purposes b. Prizes and awards
c. Prizes and awards in sports competitions
Exclusions, Deductions and Tax credit, distinguished d. Income derived by foreign government
e. Income derived by the government or its political
EXCLUSIONS DEDUCTIONS TAX CREDIT subdivisions
Incomes These are It refers to f. GSIS, SSS, Medicare and other contributions
received or included in the foreign taxes g. Gains from the sale of bonds, debentures or other
earned but are gross income paid beforehand certificate of indebtedness
not taxable but are later but are claimed h. Gains from redemption of shares in mutual fund
because of deducted to as credits (Sec. 32 [B],NIRC)
exemption by arrive at net against
virtue of a law income Philippine
or treaty; hence, income tax to
not included in arrive at the tax

UNIVERSITY OFSANTOTOMA S
61 F A C U L TY O F C I V I L L A W
Law on Taxation

PROCEEDS OF LIFE INSURANCE POLICIES Designation of the beneficiary

Life insurance is insurance on human life and insurance In determining income tax, life insurance proceeds are always
appertaining thereto or connected therewith (Sec. 179, considered as exclusions regardless of whether the beneficiary is
Insurance Code). designated as revocable or irrevocable. The designation is
material only in determining the gross estate of the decedent to
Conditions for the exclusion of life insurance proceeds determine his gross estate.
from gross income(ProHeDS)
Q: Suppose the employer insures the life of his employee
1. Proceeds of life insurance policies; and the one paying the premiums on that life insurance
2. Paid to the Heirs or beneficiaries; policy is the employer. If the employee dies:
3. Upon the Death of the insured; 1. Are the proceeds of the life insurance policy excluded
4. Whether in a single Sum or otherwise. from the gross income?
2. Will the proceeds form part of the estate of the
Rationale for the exclusion of the proceeds from life decedent and therefore subject to estate tax?
insurance 3. Assuming the designation of the 3rd person in the
policy is silent whether his designation is revocable or
They are not considered as income because they partake the irrevocable, what is the rule?
nature of an indemnity or compensation rather than gain to the
recipient. Life insurance proceeds also serve the same purpose as A:
nontaxable inheritance. 1. Yes, the manner of designation or the name of the
beneficiary is immaterial. The amount of the proceeds is
Exceptions to the rule that the amount of the proceeds of excluded from the gross income.
life insurance should be excluded from the gross income
2. It depends. If the heirs, estate, administrator or executor
(ASV-­‐PPC) is designated as beneficiary, the proceeds form part of the
1. If there is an Agreement between the insured and the insurer estate whether the designation is revocable or
to the effect that the amount shall be withheld by the insurer irrevocable.
under an agreement to pay interest thereon, the interest
held by the insurer pursuant to that agreement is the one If the person designated is a 3rd person (which includes the
taxable but not the principal amount (Sec. 32 B [1], NIRC). employer,) the proceeds form part of the estate if the
2. Where the life insurance policy is used to Secure a designation is revocable. If the designation is
money obligation. irrevocable, the proceeds will not be included in the gross
3. Where the life insurance policy was transferred for a estate.
Valuable consideration.
4. The recipient of the insurance proceeds is a business 3. It shall be considered as revocably designated.
However, if the insured fail to exercise his right to
Partner of the deceased and the insurance was taken to
change the beneficiary during his lifetime, then the
compensate the partner--‐ beneficiary for any loss in income designation shall be deemed irrevocable. Under Sec.
that may result as the death of the insured partner. 11 of the Insurance Code of the Philippines, as
5. The recipient of the insurance proceeds is a Partnership amended by R.A. 10607, the insured has the right to
in which the insured is a partner and the insurance was change the beneficiary he designated in the policy, unless
taken to compensate the partnership for any loss in he has expressly waived this right in said policy.
Notwithstanding the foregoing, in the event the insured
income that may result from the dissolution of the
does not change the beneficiary during his lifetime, the
partnership caused by the death of the insured partner.
designation shall be deemed irrevocable.
6. The recipient of the life insurance proceeds is a
Corporation in which the insured was an employee or officer Q: Noel is a bright computer science graduate. He was
(Sec. 62, RR No. 2). hired by HP. To entice him to accept the job, he was
offered the arrangement that part of his compensation
Interest earned on the proceeds from life package would be an insurance policy with a face value of
P20 million. The parents of Noel are made the
If such amounts of the life insurance proceeds are held by the beneficiaries of the insurance policy. Will the proceeds of
insurer under an agreement to pay interest thereon, the the insurance form part of the income of the parents of
interest payments shall be included in the gross Noel and be subject to income tax? (2007 Bar Question)
income(Sec.32 [B][1], NIRC of 1997).
A: No, the proceeds of life insurance policies are paid to the heirs
or beneficiaries upon the death of the insured are not included as
part of the gross income of the recipient. There is no income
realized because nothing flows to Noel’s parents other than a
mere return of capital, the capital being the life of the insured.

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RETURN OF PREMIUM PAID endowment insurance policy, for which he was paying an
annual premium of P1,520 since 1965, also matured. He
Conditions for the exclusion of the return of premium paid was then paid the face value of his insurance policy in the
from gross income amount of P50,000. Is his P50,000 insurance proceeds
exempt from income taxation?
1. Amount received by insured;
2. As a return of premium paid by him; A: The P50,000 insurance proceeds is not totally exempt from
3. Under a life insurance, endowment or annuity contract; income tax. The excluded amount is that portion which
4. Either : corresponds to the premiums that he had paid since 1965. At the
a. During the term; or rate of P1,520 per year multiplied by twenty
b. At the maturity of the term mentioned in the (20) years which was the period of the policy, he must have paid a
contract; or total of P30,400. (P1,520 x 20 years). Accordingly, he wil be subject
c. Upon surrender of the contract. to report as taxable income the amount of P19,600(Sec. 28,
NIRC).
NOTE: The amount returned is not income but mere return of capital.
VALUE OF PROPERTY ACQUIRED BY GIFT, BEQUEST,
Return of premium v. life insurance proceeds DEVISE OR DESCENT

The difference lies in cases where the insured in a life The value of property acquired by gift, bequest or devise is
insurance contract survives. In order that life insurance excluded from gross income. The income from said property,
proceeds may be totally exempt from income taxation, the insured however, is included as part of gross income and is subject to tax.
must die. If he survives, there is only a partial exemption ,
i.e., only the portion of the proceeds representing return of NOTE: The consideration is based on pure liberality and is already subject
to donor’s or estate tax as the case may be. Moreover, there is no
premiums previously paid is excluded, being a mere return of
income.
capital.
Gift
AMOUNTS RECEIVED UNDER LIFE INSURANCE
ENDOWMENT OR ANNUITY CONTRACTS
A gift is any transfer not in the ordinary course of business which
is not made for full and adequate consideration in money or
Endowment
money’s worth. The giver is called the donor and the recipient is
called the donee.
The insurer agrees to pay a sum certain to the insured if he outlives
a designated period. If he dies before that date, the proceeds are to
Q: If Mr. Generous gave a gift to Ms. Gorgeous what are
be paid to the designated beneficiary.
the tax implications?
Treatment of proceeds received under endowment
A: Mr. Generous, the donor is subject to donor’s tax while Ms.
policies
Gorgeous the donee is not subject to donee’s tax. Donee’s tax
has been abolished by PD 69. The value of the gift received by
If the insured dies and the beneficiary receives the life
Ms. Gorgeous is not included in the computation of gross
insurance proceeds, these are not taxable income because they
income pursuant to Sec. 32 B (3), NIRC, gifts, bequest and
are excluded from gross income as proceeds from life insurance.
devises are excluded from gross income.
If the insured does not die and survives the designated period,
Bequest and Devise
the amount pertaining to the premiums he paid are excluded from
gross income, but the excess shall be considered part of his
Bequest is a gift of personal property and devise is a gift of real
gross income.
property. Both are donations mortis causa. The giver is either
known as the testator or decedent while the recipient may be
Q: Suppose A obtained an endowment policy valued at P1
the heirs or beneficiaries.
million. He paid premiums amounting to P800,000. Upon
maturity, he received P1 million, what amount is taxable?
Tax implications of a Bequest and Device

A: The amount of P200,000 is taxable. The difference


The estate of the testator or the decedent is subject to estate
between the value of the insurance and the actual premiums
tax, while the heirs or beneficiaries are not required to pay donee’s
paid forms part of A’s gross income.
tax as the same was already abolished. The value of the bequest
and/or the devise received by the heirs or beneficiary/ies is not
Q: Mario worked his way through college. After working
included in the computation of their gross income since gifts,
for more than 2 years in X Corporation, Mario decided to
bequest and devises are excluded from gross income(Sec. 32
retire and avail of the benefits under the very reasonable
[B], NIRC).
retirement plan maintained by his employer. On the day
of his retirement on April 30, 1985, he received his

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Donation inter vivos and mortis causa Q: C lends D P250,000.00 but D failed to pay the debt. D is
a government employee. C told D that D’s wife and
Whether the donation is inter vivos or mortis causa, it is daughter should work in C’s Restaurant and part of their
excluded from gross income for it is not product of capital or salary will be applied to the obligation. What is the tax
industry. Furthermore, the property is already subject to donor’s or implication?
estate taxes as the case may be.
A: The wife and daughter should pay income tax because it is fruit
The “Gift Tax Test” of labor. They should also pay donor’s tax because they gave D
P250,000.00. For C, since he pays the salary of D, it is not subject
When a person gives a thing or right to another and it is not a “legally to tax; it is a deductable item. It is a business expense and
demandable obligation” then it is treated as a gift and excluded therefore it is an allowable deduction. For D, there is no tax
from gross income. However, if there is a legally demandable because payment of obligation is not taxable.
obligation to give such as for services rendered by one to the
donor or due to his merits, the amount received is taxable AMOUNT RECEIVED THROUGH
income to the recipient. ACCIDENT OR HEALTH INSURANCE

Q: Quiroz worked as chief accountant of a hospital for 45 Kinds of compensation for injuries or sickness that may be
years. When he retired at 65 he received retirement pay excluded from gross income
equivalent to 2 months' salary for every year of service as
provided in the hospital BIR approved retirement plan. 1. Amounts received through Accident or Health Insurance
The Board of Directors of the hospital felt that the hospital or Workmen’s Compensation Act as compensation for
should give Quiroz more than what was provided for in personal injuries or sickness
the hospital's retirement plan in view of his loyalty and 2. Amounts of any damages received whether by suit or
invaluable services for 45 years. Hence, it resolved to pay agreement on account of such injuries or sickness(Sec. 32 B
him a gratuity of P1 million over and above his retirement [4], NIRC).
pay. The CIR taxed the P1 million as part of the gross
compensation income of Quiroz who protested that it was NOTE: They are mere compensation for injuries or sickness suffered
excluded from income because (a) it was a retirement pay, and not income. It is intended to make the injured party whole as before
and (b) it was a gift. the injury.

Profit Actualized
Is Quiroz correct in claiming that the additional P1 Million
was gift and therefore excluded from income?
Profit actualized is always taxable as compared to salary
actualized wherein we need to qualify who paid the salary.
A: No, the amount received was in consideration of his loyalty
and invaluable services to the company which is clearly a
Q: JR was a passenger of an airline that crashed. He
compensation income received on account of employment.
survived the accident but sustained serious physical
Under the employer's 'motivation test,' emphasis should be
injuries which required hospitalization for 3 months.
placed on the value of Quiroz services to the company as the
Following negotiations with the airline and its insurer, an
compelling reason for giving him the gratuity; hence it should
agreement was reached under the terms of which JR was
constitute a taxable income. The payment would only qualify as a
paid the following amounts: P500,000 for his
gift if there is nothing but 'good will, esteem and kindness'
hospitalization; P250,000 as moral damages; P300,000 for
which motivated the employer to give the gratuity (Stonton v.
loss of income during the period of his treatment and
U.S., 186 F. Supp. 393).
recuperation. In addition, JR received from his employer
the amount of P200,000 representing the cash equivalent
Q: C is a creditor of D. The debt is condoned by C. What is
of his earned vacation and sick leaves. Which if any, of the
the tax implication of the condonaton of debt?
amounts are subject to income tax? (2005 Bar Question)
A: For D, that amount is a Remuneratory Donation and
A: The amount of P200,000 that JR received from his
subject to income tax. It is not a gift because it started from an
employer is subject to income tax, except the money
obligation and not from pure liberality of the donor. C should pay
equivalent of 10 days unutilized vacation leave credits which
donor’s tax if the amount condoned is more than PHP
is not taxable. Amounts of vacation allowances or sick leave
100,000.00.
credits which are paid to an employee constitute
compensation(Sec. 2.78 A [7], RR 2-­‐98, as amended by RR
Q: C lends D PHP 150,000.00 but D failed to pay the debt.
10-­‐2000).
C told D that D should work in C’s Restaurant and part of
D’s salary will be applied to the obligation. What is the tax
The amounts that JR received from the airline are excluded from
implication there?
gross income and not subject to income tax because they are
compensation for personal injuries suffered from an accident as
A: For D, it is fruit of labor and it is subject to income tax. For C,
well as damages received as a result of an agreement on
since he pays the salary of D, it is not subject to tax; it is a
account of such injuries(Sec. 32 B [4], NIRC).
deductable item. It is a business expense and therefore it is an
allowable deduction.

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Q: A was hospitalized for two months because of car Statutory income tax exemptions
accident. B, the person who hit him gave P22,000.00, A’s
two months salary. Is that P22,000.00 taxable? 1. PD 87, Oil Exploration and Development Act, as
amended by PD 1354
A: No. It is not part of gross income. It is salary actualized given 2. EO 226, The Omnibus Investment Code of 1987, as
not by the employer and it is compensation for injuries amended
sustained. 3. RA 3538, the exemption of salaries paid in dollars to non--‐
Filipino citizens for services rendered to the Ford
Q: In the problem above, If the salary actualized is given Foundation
by the employer, is it taxable? 4. RA 6938, Cooperative Code of the Philippines, as
A: If it is given by the employer as backwages, it is taxable. amended by RA 1176, 8241 and 8424
5. RA 7482, Senior Citizens Act as amended by RA 9257
Q: What is the income tax implication in the following 6. RA 7929, Urban Development and Housing Act of 1992
insurances? 7. RA 8502, Jewelry Industry Development Act of 1998
1. Life Insurance 8. RA 8282, which exempts income of the SSS form
2. Fire Insurance income taxation
3. Accident Insurance 9. RA 8479, An Act Deregulating the Downstrean Oil
Industry and For Other Purposes
A: 10. RA 9182, The Special Purpose Vehicle Act
1. Life Insurance – beneficiaries are not liable for income tax.
2. Fire insurance is not taxable because it is Mere Return of RETIREMENT BENEFITS, PENSIONS, GRATUITIES, ETC.
Capital.
3. Accident insurance is not taxable because it is Retirement benefits, pensions, gratuities, etc. that are
considered Compensation for Injuries Sustained. excluded from gross income (7FRUGS2)

INCOME EXEMPT UNDER TAX TREATY 1. Retirement benefits under R.A. 7641
2. Social security benefits, retirement gratuities, pensions and
Income exempt under treaty other similar benefits received by resident or non--‐ resident
citizens or resident alien from Foreign government agencies
Incomes of any kind, to the extent required by any treaty and other institutions, private or public
obligation binding upon the Government of the Philippines are 3. Retirement received by officials and employees of
exempt from tax(Sec. 32 B [5], NIRC). private firms, whether individual or corporate, in
accordance with a Reasonable private benefit plan
NOTE: Public policy recognizes the principles of reciprocity and comity maintained by the employer
among nations. 4. Benefits from the US Veterans Administration
5. GSIS benefits
Reasons for granting tax exemption through a treaty 6. SSS
7. Separation pay
1. Reciprocity
2. To lessen the rigors of international juridical double Salient features of R.A. 7641, amending the Labor Code
taxation with regard to the retirement pay of qualified employees
in the absence of any retirement plan
Examples of tax treaties entered into by the Philippines
1. Where the retirement plan is established in the CBA or
1. RP--‐ Japan Tax Treaty other applicable employment contract -­‐ Any employee
2. RP--‐ US Tax Treaty may be retired upon reaching the retirement age
3. RP--‐ France Tax Treaty established in the CBA or other applicable employment
4. RP--‐ Switzerland Tax Treaty contract.
5. RP--‐ Netherlands Tax Treaty
In case of retirement, the employee shall be entitled to receive
Most Favored Nation Clause such retirement benefits as he may have earned under
existing laws and any CBA and other agreements:
This grants to the contracting party treatment not less Provided, however, that an employee's retirement benefits
favorable than which has been or may be granted to the most under any collective bargaining and other agreements
favored among other countries. It allows the taxpayer in one state shall not be less than those provided by the law.
to avail of more liberal provisions granted in another tax treaty to
which the country ofresidence ofsuch taxpayer is also a party; 2. In the absence of a reasonable private benefit plan or
provided that the subject matter of taxation is the same as that in agreement providing for retirement benefits of
the tax treaty under which the taxpayer is liable (CIR v. SC employees in the establishment
Johnson and Son Inc., GR 127105, June 25, 1999). a. Optional – the conditions are:

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i. An employee upon reaching the age of 60 CBA providing for retirement benefits of employees
years or more; excluded from income tax?
ii. Who has served at least 5 years in the said
establishment; A: Yes, provided that the minimum age requirement and the
iii. May retire and shall be entitled to retirement length of service are met. Under RA 7641, the actual retirement
pay equivalent to ½ month salary for every year of age may even be lower than 60 years of age, pursuant to the
service, a fraction of at least CBA or other applicable employment contract which is
6 months being considered as one whole year. deemed the law between the parties Thus, for purposes of
b. Mandatory – the conditions are: determining the taxability of retirement benefits received by
i. An employee upon reaching the age of retiring employees, the retirement age is that age established in
beyond 65 years which is the compulsory the CBA or other applicable employment contract. However, if
retirement age; the CBA or other applicable employment contract does not provide
ii. Who has served at least 5 years in the said for a retirement age, the minimum requirement of 50 years
establishment; provided for under Section 32 (B)(6)(a), of the 1997 NIRC, as
iii. May retire and shall be entitled to retirement amended, shall apply in order to qualify for the exemption
pay equivalent to ½ month salary for every year of granted therein (BIR Ruling No. SB [041] 603-­‐ 2009, Sept.
service, a fraction of at least 22, 2009).
6 months being considered as one whole year
(RA 7641, Retirement Pay Law). Q: Mel received from his first employer, P20,000 as
retirement benefit and was subsequently employed by
Reasonable Private Benefit Plan (RPBP) another employer. After rendering 10 years, Mel retired
from his second employer and received P50,000. Payment
Pension, gratuity, stock bonus or profit--‐ sharing plan was made under a BIR approved retirement plan. Is the
maintained by an employer for the benefit of some or all his said amount taxable or not?
officials or employees, wherein contributions are made by such
employer for the officials or employees, or both, for the purpose A: Yes, it is taxable because the benefit of exemption can only
of distributing the earnings and principal of the fund thus be availed of once.
accumulated, any part of which shall not be used or diverted to
any purpose other than for the exclusive benefit of the said Q: If the second employer is a Government entity
officials and employees(Sec. 32 B [6] a, NIRC). (assuming Mel was employed by the DPWH,) would your
answer be the same?
Requisites for the exemption under a RPBP (Approved-­‐10-­‐
50-­‐once) A: No, according to RA 8291 (The GSIS Act of 1997) all
benefits he received are tax exempt, including retirement gratuity.
1. The RPBP must be approved by the BIR;
2. The retiree must have been in the service of same Q: Mario worked his way through college. After working
employer for at least 10 years at the time of retirement; for more than 2 years in X Corporation, Mario decided to
and retire and avail of the benefits under the very reasonable
3. The private employee or official must be at least 50 retirement plan maintained by his employer. On his
years old at the time of his retirement; retirement, he received P400,000 as retirement benefit. Is
4. The benefits under the RPBP must have been availed of Mario’s P400,000 retirement benefit subject to income
only once. tax?

NOTE: Once the benefits under the RPBP have been availed of, the retiree A: Mario’s 400,000 retirement benefit is subject to income tax. To
can no longer avail of the same exemption for the second time under be exempt, the retirement pay must have been extended to an
another RPBP but can avail exemption under another ground such as
employee who is at least 10 years with the employer. The amount
SSS or GSIS benefits.
cannot be considered as separation pay that would have
Q: What does the phrase “shall not have availed of the exempted benefits from income tax since it was Mario who had
privilege under a retirement benefit plan of the same or decided to retire instead of being required to do so.
another employer” under Sec. 32(B)(6)(a) of the NIRC
Requisites in order that separation pay may be excluded
mean?
from gross income
A: It means that the retiring official must not have previously
1. Amount received by an official, employee or by his heirs;
received retirement benefits from the same or another employer
who has a qualified retirement benefit plan(BIR Ruling No. 125-­‐ 2. From the employer; and
3. As a consequence of separation of such official or
98).
employee from the service of the employer:
a. Because of death, sickness or other physical
Q: Are retirement benefits paid by an employer which
disability; or
does not have a private benefit plan but has an existing

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b. For any cause beyond the control of the official or 1. For private employees – vacation leaves are exempt
employee(Sec 32 B [6] b, NIRC). from tax up to 10 days while sick leaves are always
taxable.
NOTE: Causes beyond the control of the employee: 2. For government employees – both vacation and sick
1. Retrenchment leaves are tax exempt irrespective of the number of days.
2. Cessation of business
3. Redundancy (Sec. 2 b [2], RR 2-­‐98)
Q: Jacobo worked for a manufacturing firm. Due to
business reverses the firm offered voluntary redundancy
Q: Who will be the recipient of separation pay if the cause
program to reduce overhead expenses. Under the
of separation is death, physical disability or sickness?
program an employee who offered to resign would be
(2007 Bar Question)
given separation pay equivalent to his 3 month's basic
salary for every year of service. Jacobo accepted the offer
A:
and received P400.000 as separation pay under the
1. In case of death, the estate unless there is a designated
program
beneficiary.
2. In case of physical disability or sickness, the employee is the
After all the employees who accepted the offer were paid,
recipient of the separation pay.
the firm found its overhead is still excessive. Hence it
adopted another redundancy program. Various
Tax treatment of separation pay
unprofitable departments were closed. As a result,
Kintanar was separated from the service. He also received
Separation pay is not taxable irrespective of the age of the
P400,000 as separation pay.
employee, length of service, number of benefits received or the
1. Did Jacobo derive income when he received his
recipient thereof. (Sec. 32 B [6] b, NIRC)
separation pay?
Terminal leave pay 2. Did Kintanar derive income when he received his
separation pay? (1995 Bar Question)
Terminal leave pay is the amount received arising from the
A:
accumulation of sick leave or vacation leave credits.
1. Yes, because his separation from employment was
(Commutation of leave credits)
voluntary on his part in view of his offer to resign. What
Tax treatment of sick leave credits is excluded from gross income is any amount received by
an official or employee as a consequence of separation of
They are taxable irrespective of the number of days. This applies such official or employee from the service of the
employer for any cause beyond the control of the said
if the sick or vacation leave credits do not form part of the
official or employee. (Sec 28, NIRC)
compulsory retirement benefit.
2. No, because his separation from employment is due to
Q: Bernardo, a retired employee of the SC filed a request causes beyond his control. The separation was
with the SC for the refund of the amount of P59,502 which involuntary as it was a consequence of the closure of
were deducted from his terminal leave pay as withholding various unprofitable departments pursuant to the
redundancy program.
tax. The Court said that the terminal leave pay of
Bernardo, which he received by virtue of his compulsory
Q: Z, a Filipino immigrant living in the United States for
retirement, can never be considered as part of his salary
more than 10 years. He is retired and came back to the
subject to income tax. Hence, Bernardo’s request was
Philippines a balikbayan. Every time he comes to the
granted. Is terminal leave pay subject to income tax?
Philippines, he stays here for about a month. He regularly
receives a pension from his former employer in the United
A: No, since terminal leave pay is applied for by an officer or
States, amounting US$1,000 a month. Does the US$1,000
employee who has already severed his connection with his
pension become taxable because he is now residing in the
employer and who is no longer working, it necessarily follows that
Philippines?
the terminal leave pay or its cash equivalent is no longer
compensation for services rendered. Therefore, it cannot be
A: No, the law provides that pensions received by resident or
received by the said employee as salary. It is one of those
non--‐ resident citizens of the Philippines from foreign
excluded from gross income and is therefore not subject to tax
government agencies and other institutions, private or public,
(Re: Request of Atty. Bernardo Zialcita, AM 90-­‐6-­‐015-­‐SC, Oct.
are excluded from gross income(Sec. 32 B [6] c, NIRC) .
18, 1990).

Q: Assuming it does not form part of the terminal leave


pay, as when it is given annually to the employee, wherein
the vacation or sick leave may be converted into cash.
What is the tax treatment of the cash equivalent of such
vacation leave credits?

A: It depends.

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MISCELLANEOUS ITEMS for her outstanding performance in the field of sports.


However, the recognition in the field of sports is not among those
Miscellaneous items excluded from gross income stated under Sec. 28 B [8] e, to wit: “Prizes and awards made
(13P2I2G3) primarily in recognition of religious charitable, scientific,
educational, artistic, literary, or civic achievement”.
1. 13th month pay and other Benefits
2. Prizes and awards The fellowship award of $10,000 is however, excluded from her
3. Prizes and awards in sports competitions; income as she was selected therefore without any action on
4. Income derived by foreign government her part and the same was given to her in recognition of
5. Income derived by the government or its political literary and educational achievement, presumably without her
being required to render future services for the grantor.
subdivisions
Requisites for the exclusion of prizes and awards in sports
6. GSIS, SSS, Medicare and other contributions
competition from gross income(PATS)
7. Gains from the sale of bonds, debentures or other
certificate of indebtedness
1. All Prizes and awards;
8. Gains from redemption of shares in mutual fund (Sec 32
[B], NIRC) 2. Granted to Athletes;
3. In local and international sports Tournaments and
WINNINGS, PRIZES AND AWARDS INCLUDING THOSE IN competitions; and
4. Sanctioned by their national sports associations(Sec. 32 B
SPORTS COMPETITION
[7] d, NIRC).
Requisites in order for prizes and awards be exempted
NOTE: National sports associations are those duly accredited by the
from tax
Philippine Olympic Committee.

1. Primarily in recognition of Scientific, Civic, Artistic, Q: A won P100,000 in a competition sanctioned by the
Religious, Educational, Literary, or Charitable
national sports association. Give the tax implication/s as
achievement(SCAR-­‐CEL)
to the recipient as well as to the donor/contributor.
2. The recipient was selected without any action on his part to
join; and
A: As to the recipient of the award, it is exempt from income
3. He is not required to render substantial future services as
tax. As to the contributor/donor of the award, it is exempt from
condition to receiving the prize or award.
donor’s tax not based on the NIRC but on RA 7549.
Contributor/Donor is allowed to claim it as a deduction
Q: JM, received a prize of P100,000 for winning the on-­‐
from gross income based on RA 7549.
the-­‐spot peace poster contest sponsored by the Lions
Club. Is the award included in the gross income of JM for
Q: Onyoc, an amateur boxer, won in a boxing competition
tax purposes?(2000 Bar Question)
sponsored by the Gold Cup Boxing Council, a sports
association duly accredited by the Philippine Boxing
A: No, it is not included. It is subject to a final tax of 20% for the
Association. Onyoc received the amount of P500,000 as
amount is in excess of P10,000, otherwise it would be included in his prize which was donated by Ayala Land Corporation.
his gross income and subjected to a scheduler rate (Sec. 24 B
The BIR tried to collect income tax on the amount received
[1], NIRC)
by Onyoc who refuses to pay. Decide. (1996 Bar Question)
NOTE: The prize constitutes a taxable income for it was made
primarily in recognition of his artistic achievement which he won due to
A: The prize will not constitute a taxable income to Onyoc, hence
an action on his part to enter the contest(Sec. 32 B [7] c, NIRC). the BIR is not correct in imposing the income tax. RA 7549 explicitly
provides that “All prizes and awards granted to athletes in local and
Q: Q won P2,500 as part of the Palanca Award for an international sports tournaments and competitions in the
outstanding short story. She was also named MVP of the Philippines or abroad and sanctioned by their respective
Varsity volleyball team and was given a trophy and national sports association shall be exempt from income tax.”
P10,000. Finally, she received a Fellowship Award from
the University of California to pursue a master's degree in Neither is the BIR correct in collecting the donor’s tax from Ayala
American literature. The fellowship is for $10,000 plus free Land corporation. The law is clear when it categorically stated
board and lodging. Should Q include these awards and “That the donors of said prizes and awards shall be exempt
fellowship in her gross income? (1993 Bar Question) from the payment of the donor’s tax.”

A: The first award granted to Q, a Palanca award, requires


submission of literary works. Hence, this is included in the gross
income because it fails to meet the legal requirement that the
recipient was selected without any action on his part to enter the
contest or proceeding.

In the second award, Q did not file any application to enter into any
contest. The award was given to her in recognition

UNIVERSITYOFSANTOTOMAS 68
2014GOLDENNOTES
INCOME TAXATION

INCOME DERIVED BY FOREIGN GOVERNMENT The Contributor establishes and makes contributions to a PERA.

PERA Investment Products


For an income derived by foreign government from
investments in the Philippines be exempted from tax:
It may be a unit investment bust fund, mutual fund, annuity contract,
1. It must be an income derived from investments in the insurance pension products, pre--‐ need pension plan, shares of
Philippines; stock and other securities listed and traded in a local exchange,
2. It must be derived from BOnds, Loans or other Domestic exchange--‐ traded bonds or any other investment product or
securities, Stocks or Interests on deposits in outlet which the concerned Regulatory Authority may allow for
banks;(BOLDSI)and PERA purposes.
3. The recipient of such income from investment in the
Philippines must be a: Regulatory Authority
a. Foreign government;
b. Financing institutions owned, controlled or financed It refers to the Bangko Sentral ng Pilipinas (BSP) as regards
by foreign government; or banks, other supervised financial institutions and trust entities,
c. Regional or international financing institutions the Securities and Exchange Commission (SEC) for investment
established by foreign government(Sec. 32 B [7], companies, investment houses stockbrokerages and pre--‐ need
NIRC.) plan companies, and the Office of the Insurance
Commission (OIC) for insurance companies.
NOTE: The exclusion may be premised either on the principle of comity
or upon the principle of reciprocity. Requirement in order to qualify as PERA investment
product
13TH MONTH PAY AND OTHER BENEFITS
To qualify as a PERA investment product, the product must be non-
Gross benefits received by officials and employees of public and -‐ speculative, readily marketable, and with a track record of
private entities may be excluded from gross income provided regular income payments to investors.
that the total exclusion shall not exceed P30,000. The excess
would be considered as part of the compensation income of Requirement for tax-­‐exemption
the employee where it is subject on a scheduler rate(Sec. 32 B
[7] e, NIRC). The concerned Regulatory Authority must first approve the product
before being granted tax--‐ exempt privileges by the BIR.
GAINS FROM THE SALE OF BONDS, DEBENTURES OR
OTHER CERTIFICATE OF INDEBTEDNESS Income earned from investments and reinvestments of
the PERA
NOTE: The bonds, debentures or other certificate of indebtedness sold,
exchanged or retired must be with a maturity of more than five years. All income earned from the investments and reinvestments of the
maximum amount allowed herein are tax exempt.
GAINS FROM REDEMPTION OF SHARES IN A
MUTUAL FUND COMPANY Maximum annual PERA contribution allowed by this Act

The term “mutual fund company” shall mean an open--‐ end and
MAXIMUM ANNUAL PERA
close--‐ end investment company as defined under the Investment CONTRIBUTORS
CONTRIBUTIONS
Company Act (Sec.22 [BB], NIRC).
If the contributor P100,000 or its equivalent in any
is single convertible foreign currency at the
UNDER SPECIAL LAWS
prevailing rate at the time of the
actual contribution
PERSONAL EQUITY AND RETIREMENT ACCOUNT
If the contributor Each of the spouses shall be entitled
is married to make a maximum contribution of
Personal Equity and Retirement Account (PERA)
One hundred thousand pesos (P
l00,000.00) or its equivalent in any
It refers to the voluntary retirement account established by and for
convertible
the exclusive use and benefit of the Contributor for the purpose of
foreign currency
being invested solely in PERA investment products in the
Philippines(Sec. 3, RA 9505 otherwise known as the OFW Double the allowable maximum
Personal Equity and Retirement Account (PERA) Act of amount.
2008).
DEDUCTIONS FROM GROSS INCOME
Contributor
Deductions from gross income refer to items or amounts
A contributor may be any person with the capacity to contract authorized by law to be subtracted from pertinent items of gross
and who possesses a tax identification number. income to arrive at the taxable income.

UNIVERSITY OFSANTOTOMA S
69 F A C U L TY O F C I V I L L A W
Law on Taxation
Nature of deductions Exclusion from gross income v. allowable deductions from
gross income
The items of amounts allowed as deductions represent the
expenses (reduction of wealth) of the taxpayer (other ALLOWABLE
EXCLUSION
personal expenses and capital expenditures) in earning the income DEDUCTIONS
(increase of wealth) subject to tax as well as reasonable Refers to a flow of wealth which Refer to amounts
living expenses. does not form part of the gross which the law allows
income because: as
Deduction partakes the nature of exemption, then it must also be 1. It is exempted by the deductions from
strictly be construed against the taxpayer(CIR v. Isabela fundamental law; gross income order to
Cultural Corporation, G.R. 172231). 2. It is exempted by the arrive at net income
statute; or taxable income
Basic principles in claiming deductions 3. It does not come within the
definition of income
1. The taxpayer must point to some specific provisions of the Material to arrive at gross Necessary to arrive at
statute authorizing the deduction; income net or taxable
2. And he must able to prove that he is entitled to the income
deduction authorized or allowed. Something earned or received Something paid or
3. Any amount paid or payable which is otherwise which do not form part of the gross incurred in earning
deductible from, or taken into account in computing gross income gross income
income or for which depreciation/amortization may be
allowed, shall be allowed as deduction only if it is shown that
Exemption v. allowable deduction
the tax required to be deducted and withheld therefrom
has been paid to the BIR; (Sec. 34, NIRC) and
ALLOWABLE
4. Deductions for income tax purposes partake of the nature EXEMPTION
DEDUCTION
of tax exemptions hence, if tax exemptions are to be strictly
An immunity or privilege, a A subtraction from gross
construed, then it follows that deductions must also be
freedom from a charge or income
strictly construed.
burden to which others
are subjected.
Generally receipts which are Not receipts, but are,
excluded from taxable expenditures which are
income. permitted to be subtracted
from income to determine
the amount subject to tax.
The theoretical personal, Reduction of wealth
family and living which helped earn the
expenses of an individual. income subject to tax.

Allowable deductions from gross income vis-­‐a-­‐vis personal exemptions.

ALLOWABLE DEDUCTIONS PERSONAL EXEMPTIONS


As to nature In the nature of business expenses In the nature of personal, living or family expenses
As to purpose To recover or recoup the cost of doing business To recover the personal, living and family expenses
paid or incurred during the taxable year
As to claimant May be claimed by individual and corporate Are granted only to individual taxpayer
taxpayer’s
XPN: 1. NRA--‐ NETB XPN: NRA--‐ NETB
2. NRFC
As to amount The actual expenses paid or incurred in the conduct of Arbitrary amounts granted to approximate be the
trade, business or profession personal expenses that may incurred by
individual taxpayer
As to kinds of Classified into: Exemption may be classified into:
deductions or 1. Itemized deductions; 1. Basic personal exemption;
exemptions 2. Optional Standard Deductions: 2. Additional personal exemption of P25k for every
a. Individual --‐ 40% of gross sales or receipts qualified dependent, legitimate, recognized
b. Corporation --‐ 40% of gross income illegitimate child or children not
more than 4

UNIVERSITYOFSANTOTOMAS 70
2014GOLDENNOTES
INCOME TAXATION
Kinds of allowable deductions from gross income Taxation is the rule and exemption is the exception. The burden
of proof rests upon the party claiming exemption to prove that it is, in
1. Itemized Deductions:(CRED3IT-­‐LP) fact, covered by the exemption so claimed. As a rule, tax exemptions
are construed strongly against the claimant. Exemptions must be
a. Charitable and other contributions
shown to exist clearly and categorically, and supported by clear
b. Research and Development legal provision (PAGCOR vs BIR, represented by Hon. Mario
c. Expenses (Ordinary and Necessary) Buñag, in his official capacity as CIR, etc., G.R. No. 172087,
d. Depreciation March 15, 2011).
e. Depletion of Oil and gas wells and mines
f. Bad Debts Items not deductible in computing net income
g. Interest expense
h. Taxes 1. Personal, living or family expenses;
i. Losses 2. Capital Expenditures;
j. Pension trust contributions 3. Premiums paid on life insurance policy by an employer under
2. Optional Standard Deduction (OSD) certain conditions;
3. Special Deductions 4. Bribes, kickbacks and other similar payments.

Deductions that can be claimed by an individual Tax Benefit Rule

1. With gross compensation income from employer Taxes allowed as deductions, when refunded or credited shall
employee relationship ONLY: be included as part of gross income in the year of receipt to
a. Personal and additional exemptions; the extent of the income tax benefit of said deduction (Sec.
b. Premium payments on health and/or 34 C [1], NIRC).
hospitalization insurance
2. With gross income from business or practice of Q: In 2006, Sally, a fruit market operator received an
profession: assessment for customs duties for her imported market
a. Optional standard deduction (OSD) or itemized equipment in the amount of P75,000. Believing that the
deductions amount is excessive, she paid the same under protest.
b. Premium payments on health and/or Because of the assurances from her retained CPA that she
hospitalization insurance stands a good chance of being able to secure a refund of
c. Personal and additional exemptions P50,000 she did not deduct the same anymore from her
income tax return. She deducted only the P25,000 which
Deductions that can be claimed by a corporation she believed was due from her. She received the refund
amounting to P50,000 in 2008. What should have been
Domestic Corporations and Resident Foreign Corporation may the proper tax treatment of the payment of P75,000 in
opt between the OSD or the Itemized Deductions, except Non--‐ 2006?
Resident Foreign Corporation which is subject to final tax on its
gross income from sources within the Philippines. A: Sally should have deducted the total P75,000 customs duties
in 2006. When she received the refund of P50,000 in 2008, she
Limitation on the deduction should have included the amount as part of her income. Under
the tax benefit rule, taxes allowed as deductions, when
In the case of non--‐ resident alien individual engaged in trade or refunded or credited shall be included as part of gross income in
business in the Philippines and a resident foreign corporation, the the year of receipt to the extent of the income tax benefit of said
deductions for taxes shall be allowed only if and to the extent that deduction.
they are connected with income from sources within the
Philippines. (Sec. 34 C [2], NIRC) GENERAL RULES

Requisites before deductions may be allowed Matching concept of deductibility


(WaR-­‐With-­‐Pro2)
The matching concept for deductibility posits that the
1. The deductions must not have been Waived; deductions must, as a general rule, “match” the income, i.e. helped
2. The Requirements for deductibility must be met; earn the income(Domondon, Income Taxation Vol. 2, 2009).
3. The Withholding and payment of the tax required must
be shown; General rules in claiming deductions
4. There must be Proof of entitlement to the deductions; ("No
deduction without documentation.") and 1. Deductions must be paid or incurred in connection with
5. There must be a specific Provision of law allowing the the taxpayer’s trade, business or profession
deductions, since deductions do not exist by implication. 2. Deductions must be supported by adequate receipts or
invoices (except standard deduction)
NOTE: The burden of proof is with the taxpayer for it to be
deductible. Reason: Lifeblood doctrine of taxation 3. The withholding and payment of tax required must be shown.

UNIVERSITY OFSANTOTOMA S
71 F A C U L TY O F C I V I L L A W
Law on Taxation
Q: Who are NOT ALLOWED to claim deductions from gross 3. The expense must be incurred in Trade or business
income? carried on by the taxpayer;
4. The expense must be Reasonable;
A: NRA--‐ NETB and NRFC are subject to final tax on their gross 5. The expense must be Ordinary and necessary;
income derived from sources within the Philippines, hence, no 6. If subject to Withholding taxes, proof of payment to BIR;
deductions allowed to them. and
7. Expenses must Not be against public policy, public moral
NOTE: A RC, NRC, and RA whose income is purely compensation or law such as bribes, kickbacks, for immoral purposes.
income are also not entitled to such deductions except for 1.) personal
exemption and 2.) premium payments on health and/or hospitalization Ordinary expenses
insurance.
It is any expense that is normal or usual in relation to the
RETURN OF CAPITAL (COST OF SALES OR SERVICES)
taxpayer’s business and the surrounding circumstances
(General Electric [P.I.] Inc. v. Collector, CTA Case 1117, July
The amount representing return of capital should be 14, 1963).
deducted from the proceeds from the sales of assets and should
not be subject to income tax. Cost of goods purchased for
Necessary expenses
resale, with proper adjustment for opening and closing
inventories are deducted from gross sales in computing gross
Necessary expense is one which is appropriate and helpful in the
income (Sec. 65, Rev. Regs. 2).
development of taxpayer’s business and is intended to minimize
losses or to increase profits (Ibid.)
SALE OF INVENTORY OF GOODS BY MANUFACTURERS
AND DEALERS OF PROPERTIES
Test to determine whether or not an expense is ordinary
and necessary
The cost of goods manufactured and sold (in case of dealers)
is deducted from gross sales and is reflected above the gross
If they are directly attributable to the development,
income.
management, operation, and or conduct of trade or business
of the taxpayer, or in the exercise of the taxpayer’s
SALE OF STOCK IN TRADE BY A REAL ESTATE DEALER AND
profession, including:
DEALER IN SECURITIES
1. Reasonable allowances for salaries, wages and other
compensation for personal services actually rendered,
They are required to deduct the total cost specifically
including gross monetary value of fringe benefits
identifiable to the real property or shares of stock sold or
2. Travel expenses in pursuit of trade or business
exchanged. However, computation of the cost of building projects
3. Rental and other payments for the continued use or
on pre--‐ sale can be based on the estimated construction
possession of property, for the purpose of trade,
cost of the project.
business or profession
4. Entertainment, amusement and recreation expenses during
SALE OF SERVICES
the taxable year.
Their entire gross receipts are treated as part of income.
Included as ordinary and necessary expenses
ITEMIZED DEDUCTION
1. Salaries, wages and other forms of compensation for
personal services actually rendered
Itemized deductions allowed by the NIRC
2. Travelling expenses
3. Rental expenses
1. Expenses
4. Entertainment, amusement and recreation
2. Interest
5. Advertising and promotional expenses
3. Taxes
6. Cost of materials and supplies
4. Losses
7. Repairs
5. Bad debts
6. Depreciation
Ordinary expensesv. Capital expenditures
7. Charitable and other Contributions
8. Contributions to Pension Trusts
Ordinary expenses are those which are common to incur in trade
9. Deductions under Special Laws
or business. On the other hand, capital expenditures are those
incurred to improve assets and benefits for more than 1 taxable
EXPENSES
year. Ordinary expenses are usually incurred during a taxable year
and benefits such taxable year.
Requisites for deductibility of expenses (in general)
(D-­‐STROWN)

1. Paid or incurred During the taxable year;


2. The expense must be Substantiated by proof;
(substantation rule)

UNIVERSITYOFSANTOTOMAS 72
2014GOLDENNOTES
INCOME TAXATION
Substantiation Rule purchased the policy anyway. Its annual premium
amounted to P100,000. Is said premium deductible by
The taxpayer shall substantiate the expense being deducted ADD Computers, Inc.? (2004 Bar Question)
with sufficient evidence such as official receipts or other
adequate records showing: A: No, the premium is not deductible because it is not an
1. The amount of the expense being deducted; and ordinary business expense. The term "ordinary" is used in the
2. The direct connection or relation of the expense being income tax law in its common significance and it has the
deducted to the development, management, operation connotation of being normal, usual or customary(Deputy
and/or conduct of the trade, business or profession of the v. Du Pont, 308 US 488 [1940]). Paying premiums for the
taxpayer. insurance of a person not connected to the company is not
normal, usual or customary.
Another reason for its non--‐ deductibility is the fact that it can be
Q: When there are no receipts to prove a deduction, can considered as an illegal compensation made to a government
the taxpayer still claim it as a deduction? employee. This is so because if the insured, his estate or heirs were
made as the beneficiary (because of the requirement of
A: Yes, the lack of supporting vouchers, receipts, and other insurable interest), the payment of premium will constitute
documentary proof however may be excused under Sec. bribes which are not allowed as deduction from gross
235 of the NIRC, the provision which requires the income(Sec. 34 A [l] c, NIRC).
preservation of the books of accounts and other
accounting records for a period of 3 years from the date of last On the other hand, if the company was made the beneficiary,
entry(Basilan Estates v. CIR, GR L022492, Sept. 5, 1967) whether directly or indirectly, the premium is not allowed as a
deduction from gross income
Cohan Rule Principle Q: How can the taxpayer prove that the expense has
been paid or incurred during the taxable year?
Under this principle, taxpayers may use estimates when they
can show that there is some factual foundation on which to A: It is a basic requirement that all expenses must be
base a reasonable approximation of the expense, they can prove substantiated by original copy of receipts or in the absence thereof,
that they had made a deductible expenditure but just cannot a taxpayer can still prove that the claimed deduction was
prove how much that expenditure was (Cohan v. really paid or incurred by providing other evidence such as
Commissioner, 39 F (2d) 540). certified true copies of the official receipts in case of loss, payment
vouchers and checks.
It is the use of estimates or approximations of the amount of cash
and other assets where the taxpayer lacks adequate records. All-­‐events tests

NOTE: If there is showing that expenses have been incurred but the exact 1. Fixing of a right to income or liability to pay
amount thereof cannot be ascertained due to the absence of receipts and 2. The availability of the reasonable accurate
vouchers of the expenditures involved, the BIR will make an estimate of determination of such income or liability.
deduction that may be allowable in computing the taxpayer's taxable
income bearing heavily against the taxpayer whose inexactitude is of
NOTE: The all--‐ events test requires the right to income or liability be fixed,
his own making. That disallowance of 50% of the taxpayer’s claimed
and the amount of such income or liability be determined with reasonable
deduction is valid (RMC 23-­‐2000).
accuracy. However, the test does not demand that the amount of
income or liability be known absolutely, only that a taxpayer has at his
Q: MC, a contractor who won the bid for the construction disposal the information necessary to compute the amount with
of a public highway, claims as expense, facilities fees reasonable accuracy. The all--‐ events test is satisfied where computation
which according to them is standard operating procedure remains uncertain, if its basis is unchangeable; the test is satisfied where
in transactions with the government. Are these expenses a computation may be unknown, but is not as much as unknowable,
allowable as deduction from gross income? 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
A: No, the alleged facilitation fees which they claims as
something less than an exact or completely accurate amount(CIR vs.
standard operating procedure in transactions with the Isabela Cultural Corporation GR No. 172231, February 12, 2007).
government comes in the form of bribes or “kickback” which
are not allowed as deductions from gross income as they are Q: If a businessman hired a lawyer but the lawyer did not
illegal(Sec. 34 A [1] c, NIRC). bill the services and did not give receipts, can the
businessman claim it as an allowable deduction on that
Q: OXY is the president and CEO of ADD Computers, Inc. year?
When OXY was asked to join the government service as
director of a bureau under the Department of Trade and A: Yes. All--‐ events test will apply.
Industry, he took a leave of absence from ADD. Believing
that its business outlook, goodwill and opportunities NOTE: If the lawyer billed the services and issued the receipt on the
improved with OXY in the government, ADD proposed to succeeding year and the businessman failed to claim the deduction on
obtain a policy of insurance on his life. On ethical the year the service was rendered, the businessman is not allowed to
grounds, OXY objected to the insurance purchase but ADD claim the allowable deduction anymore.

UNIVERSITY OFSANTOTOMA S
73 F A C U L TY O F C I V I L L A W
Law on Taxation
SALARIES, WAGES AND OTHER FORMS OF should be allowed. If you were the CIR, how will you
COMPENSATION FOR PERSONAL SERVICES ACTUALLY resolve the issue? (2006 Bar Question)
RENDERED, INCLUDING THE GROSSED-­‐UP MONETARY
VALUE OF THE FRINGE BENEFIT A: I will rule against the deductibility of the bonus. The extra
SUBJECTED TO FRINGE BENEFIT TAX WHICH TAX SHOULD bonus is not normal to the business and unreasonable.
HAVE BEEN PAID Giving an extra bonus at a time that the company suffers
operating losses is not a payment done in good faith and is not
Requisites before an employer can deduct compensation normal to the business, hence unreasonable and would not
payments to employees qualify as ordinary and necessary expense.

1. The payments must be reasonable; Q: Noel is a bright computer science graduate. He was
2. They are, in fact, payments for personal services hired by Hewlett Packard. To entice him to accept the job,
rendered(Sec. 70, Rev. Regs. 2). he was offered the arrangement that part of is
compensation would be an insurance policy with a face
NOTE: Reasonable and true compensation is only such amount as would value of P20 million. The parents of Noel are made the
ordinarily be paid for services like enterprises in like circumstances. beneficiaries of the insurance policy. Can the company
deduct from its gross income the amount of the premium?
Inclusions in compensation for services which are allowed
as deductions from gross income A: Yes, the premiums paid are ordinary and necessary
business expenses of the company. They are allowed as a
1. Wages, salaries, commissions, professional fees, deduction from gross income so long as the employer is not a
vacation--‐ leave pay, retirement pay, and other direct or indirect beneficiary under the policy of insurance.
compensation Since the parents of the employee were made the beneficiaries,
2. Bonuses in good faith the prohibition for their deduction does not exist (Sec. 36 A [4],
3. Pensions and compensation for injuries if not NIRC).
compensated for by insurance or otherwise
4. Grossed--‐ up monetary value of fringe benefit provided for, as TRAVEL EXPENSE
long as the final tax imposed has been paid. The fringe
benefit must have been granted to managerial and Requisites for its deductibility
supervisory employees, otherwise it cannot be availed as
deduction. 1. Reasonable and necessary expenses;P
2. Incurred or paid while away from home; and
Requisites for deductibility of bonus (2006 Bar Question) 3. In pursuit of trade, business or profession.

1. The payment of the bonus is made in good faith for NOTE: Travelling expense includes transportation, meals and
additional compensation. lodging (RR No. 2).
2. It must be for personal services actually rendered; and
3. The bonus when added to salaries is “reasonable when The phrase “away from home” as used in the law
measured by the amount and quality of the services
performed with relation to the business of the particular The term “away from home” means away from the location of
taxpayer. the employee’s principal place of employment regardless of
where the family residence is maintained.
NOTE: The following conditions may be taken into consideration:
1. The payment made in good faith Rules in deducting travel expenses
2. The character of the taxpayer’s business; e.g. the volume and amount
of its net earnings; its locality; the type and extent of the services
rendered; the salary policy of the corporation 1. The employer cannot claim as a deduction the excess over
3. The size of the particular business the cost of a business plane ticket or its equivalent,
4. The employees’ qualification and contributions to the business whether paid directly by the employer to the airline company
venture or reimbursed to the employee.
5. General economic conditions (C.M. Hoskins & Co., Inc. v. CIR, GR 2. Deductions to be claimed by the employer for the
L-­‐24059, Nov. 28, 1969) allowance which are pre--‐ computed by the employer on a
daily basis, or reimbursement for the cost of meals and
Q: Gold and Silver Corporation gave extra 14th month lodging in foreign trips by the employee for the pursuit of
bonus to all its officials and employees in the total employer’s trade or business may not exceed;
amount of P75 million. When it filed its corporate income a. $150 per day for trips to US, Australia, Canada,
tax return the following year, the corporation declared a Europe, Middle East and Japan;
net operating loss. When the income tax return of the b. $100 per day for other places.
corporation was reviewed by the BIR the following year, it
disallowed as item of deduction the P75 million bonus the 3. Reimbursement for travel taxes, airport fees and other
corporation gave its officials and employees on the charges, if duly receipted or substantiated, may be deducted
ground of unreasonableness. The corporation claimed by the employer as business expenses.
that the bonus is an ordinary and necessary expense that

UNIVERSITYOFSANTOTOMAS 74
2014GOLDENNOTES
INCOME TAXATION
4. Subject to the above rules, expenses incurred in EXPENSES UNDER LEASE AGREEMENTS
attending two foreign professional conventions a year shall
constitute a deductible expense. Since the rentals are considered as income of the lessor (owner
of the property), such lessor may deduct all ordinary and
NOTE: These maybe considered as fringe benefit subject to fringe
necessary expenses paid or incurred during the taxable year to
benefits tax. In such cases, it is deductible from the employer’s gross
income (Domondon, Income Taxation Vol. 2, 2009). the earning of the income (Sec. 2.01, RR No. 19-­‐86).

COSTS OF MATERIALS Among such deductions may be cost of repairs and


maintenance, salaries and wages of employees attendant to such
Materials and supplies are deductible only to the amount lease, interest payment, property taxes, etc.
actually consumed or used in the operation during the taxable
year. EXPENSES FOR PROFESSIONALS

Methods utilized to determine materials used Examples of expenses for professionals

1. Actual consumption method or inventory method 1. Supplies expense;


2. Direct purchase method 2. Expenses paid in the operation and repair of
transportation equipment used in making professional calls;
Q: Assuming the taxpayer purchases materials but has no 3. Membership dues to professional associations or
record of consumption, is it deductible? societies and subscriptions to journals;
4. Office rentals
A: Yes, provided the net income is clearly reflected by direct 5. Utilities expense for water and electricity consumed in
purchase method. connection with the exercise of the profession
6. Communication expense
RENTALS AND/OR OTHER PAYMENTS FOR USE OR 7. Expenses for hiring employees or office assistants
POSSESSION OF PROPERTY 8. Expenses incurred for books, furniture and professional
instruments and equipment with short useful life
Requisites for its deductibility
NOTE: Those of a permanent character are not allowable as deductions.
1. Payment was made as a condition to the continuous use of
or possession of the property; ENTERTAINMENT/REPRESENTATION EXPENSES
2. Taxpayer has not taken or is not taking title to the
property or has no equity other than that of a lessee, user or Requisites for its deductibility
possessor;
3. Property must be used in the trade or business; and 1. Paid or incurred during the taxable year
4. Subject to withholding tax. 2. Directly connected to the development, management, and
operation of the business, trade or profession of the
Inclusions in rental expense taxpayer; or directly related to or in furtherance of the
conduct of its trade, business or exercise of a
1. Aliquot part of the amount used to acquire leasehold over profession.
the number of years the lease will run 3. Not contrary to law, morals, good customs, public policy
2. Taxes and other obligations of the lessor paid by the lessee or public order.
3. Annual depreciation of the cost of the leasehold 4. Must not constitute as a bribe, kickback, or other similar
improvements introduced by the lessee over the payment;
remaining period of the lease, or over the life of the 5. Duly substantiated by adequate proof or receipt.
improvements, whichever period is shorter. 6. Withholding tax, if any, should have withheld therefrom
and paid.
NOTE: It is not the cost of the leasehold improvements but only its
annual depreciation that is considered as rental expense. Q: What are the ceiling on the amount allowed as
entertainment, amusement and recreation expense?
REPAIRS AND MAINTENANCE
A: Entertainment, amusement and recreation expense shall
Repairs are allowed as deduction when it is minor and be allowed as a deduction from gross income but in no case
ordinary, and keeps the asset in its ordinary working shall exceed:
condition. Major and extraordinary repairs are capitalized and 1. For taxpayers engaged in sale of goods or properties –
included in determining depreciation expense because they tend to 0.50% of net sales (i.e., gross sales less sales returns or
prolong the life of the asset. allowances and sales discounts)

UNIVERSITY OFSANTOTOMA S
75 F A C U L TY O F C I V I L L A W
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2. For taxpayers engaged in sale of services, including 2. All payments for the purchase of promotional give--‐
exercise of profession and use or lease of properties – aways, contest prizes or similar material must be properly
1.00% of net revenue (i.e., gross revenue less receipted; and
discounts). 3. All payments for services such as radio and TV time, print
3. For taxpayers deriving income from both sale of goods ads, talent fees, advertising expense or know--‐ how must
and services – the allowable deduction shall in all cases be subjected to withholding tax.
be determined based on an apportionment formula
taking into consideration the percentage of the net (3) kinds of advertising and their deductibility
sales/net revenue to the total net sales/net revenue, but
which in no case shall exceed the maximum percentage 1. Advertising to stimulate the CURRENT sale of
ceiling provided (Sec. 5, RR 10-­‐ 2002). merchandise or use of services are deductible as
business expenses, provided the amount incurred is
Apportionment Formula: reasonable.
2. Advertising designed to stimulate the FUTURE sale of
Net sales/net revenue x Actual Expense merchandise or use of services must be spread over a
Total Net sales and revenue reasonable period of time that it help earn the income.
Ratio: matching concept of deductibility
Expenses which are considered entertainment, 3. Advertising to promote the sales of SHARES OF STOCK or to
amusement and recreation expenses create a corporate image IS not deductible as an
advertisement (Domondon, Income Taxation Vol. 2,
They include representation expenses and/or depreciation or 2009).
rental or public order; expense relating to entertainment
facilities. Q: Algue, Inc. is a domestic corporation engaged in
engineering, construction and other allied activities.
NOTE: “Representation expenses” shall refer to expenses incurred by a Philippine Sugar Estate Development Company (PSEDC)
taxpayer in connection with the conduct of his trade, business or exercise of appointed Algue as its agent, authorizing it to sell its land,
profession, in entertaining, providing amusement and recreation to, or factories and oil manufacturing processes. Pursuant to
meeting with, a guest or guests at a dining place, place of amusement, said authority and through the joint efforts of the officers
country club, theater, concert, play, sporting event and similar events or
of Algue, they formed the Vegetable Oil Investment
places.
Corporation, inducing other persons to invest in it. This
“Entertainment facilities” shall refer to a yacht, vacation home or new corporation later purchased the PSEDC properties.
condominium; and any other similar item of real or personal property For this sale, Algue received as an agent a commission of
used by the taxpayer primarily for the entertainment, amusement, or P125,000 and from this commission the P75,000
recreation of guests or employees(Sec. 2, RR 10-­‐ 2002). promotional fees were paid to the officers of Algue. Is the
promotional expense deductible?
Expenses that are not considered as entertainment,
amusement and recreation expenses
A: Yes, the promotional expense paid by PSEDC to Algue
amounting to P75,000 is deductible for it was reasonable and not
1. Expenses which are treated as compensation or fringe excessive. Algue proved that the payment of the fees was
benefits for services rendered under an employer--‐ necessary and reasonable in the light of the efforts exerted by the
employee relationship payees in inducing investors and prominent businessmen to
2. Expenses for charitable or fund--‐ raising events venture in an experimental enterprise (Vegetable Oil
3. Expenses for bona fide business meeting of
Investment Corporation) and involve themselves in a new
stockholders, partners or directors business requiring millions of pesos. (CIR v. Algue, GR L-­‐28896
4. Expenses for attending or sponsoring an employee to a Feb. 17, 1988).
business league or professional organization meeting
5. Expenses for events organized for promotion, POLITICAL CAMPAIGN EXPENSES
marketing and advertising including concerts,
conferences, seminars, workshops, conventions, and other Rule on deduction and withholding of campaign
similar events expenditures
6. Other expenses of similar nature(Sec. 3, RR 10-­‐2002).
All individuals, juridical persons and political parties, with respect
ADVERTISING AND PROMOTIONAL EXPENSES
to their income payments made as campaign expenditures
and/or purchase of goods and services intended as
Requisites for the deductibility of advertising and
campaign contributions are constituted as withholding agents
promotional expenses(Sub-­‐pro-­‐ser)
for purposes of the creditable tax withheld on income payments
(R.R. No. 8-­‐2009).
1. Substantiated with sufficient evidence;
NOTE: A creditable income tax at the rate of 5% shall be withheld on
income payments made by political parties and candidates of local and
national elections of all their campaign expenditures, and income payments
made by individuals or juridical persons for their

UNIVERSITYOFSANTOTOMAS 76
2014GOLDENNOTES
INCOME TAXATION
purchases of goods and services intended to be given as campaign NON-­‐DEDUCTIBLE INTEREST EXPENSE
contribution to political parties and candidates (R.R. No. 8-­‐2009).
1. Interest on preferred stock, which in reality is dividend
TRAINING EXPENSES 2. Interest on unpaid salaries and bonuses
3. Interest calculated for cost keeping
Grants for manpower training and special studies given to rank--‐ 4. Interest paid where parties provide no stipulation in writing
and--‐ file employees pursuant to a program prepared by the to pay interest
labor--‐ management committee for development skills identified 5. If the indebtedness is incurred to finance petroleum
as necessary by the appropriate government agencies shall exploration
entitle the business enterprise to a special deduction from gross 6. Interest paid on indebtedness between related
income equivalent to fifty percent (50%) of the total grants over taxpayers
and above the allowable ordinary and necessary business 7. Interest on indebtedness paid in advance through
deductions for said grants under the NIRC(Sec. 7[2], R.A No. discount or otherwise and the taxpayer reports income
6071, Productivity Incentives act of 1990, Sec. 1, RMC on cash basis
No. 102-­‐ 90).
NOTE: Interest is allowed as a deduction in the year the indebtedness
INTEREST is paid, not when the interest was paid in advance. Related taxpayers

Interest shall refer to the payment for the use or forbearance 1. Members of the same family, brothers and sisters,
or detention of money, regardless of the name it is called or whether in full or half blood, spouse, ancestors and lineal
denominated. It includes the amount paid for the borrower’s use descendants
of money during the term of the loan, as well as for his detention of 2. Stockholders and a corporation, when he holds more than
money after the due date for its repayment (Sec. 2 [a], RR 13-­‐ 50% in value of its outstanding capital stock, except in
2000). case of distribution in liquidation
3. Corporation and another corporation, with
REQUISITES FOR DEDUCTIBILITY interlocking stockholders
4. Grantor and fiduciary in a trust
Requirements under the NIRC for interest to be deductible 5. Fiduciary of a trust and fiduciary in another trust, if the
same person is a grantor with respect to each trust
1. There must be an indebtedness; 6. Fiduciary of a trust and beneficiary of such trust
2. The indebtedness must be that of the taxpayer;
3. The interest must be legally due and stipulated in Arm’s Length Interest Rate
writing;
4. The interest must be paid or incurred during the taxable It is the rate of interest which was charged or would have been
year; charged at the time the indebtedness arose in independent
5. The indebtedness must be connected with the transaction with or between unrelated parties under similar
taxpayer’s trade, business, or exercise of profession; circumstances.
6. The interest arrangement must not be between related
taxpayers. Theoretical interest
7. The allowable deduction have been reduced by an
amount equal to 33% of the interest income subject to tax Theoretical interest is not deductible because:
(Sec. 34[B][1], NIRC as amended by Rep. 6337). 1. It is not paid or incurred for it is merely computed
or calculated.
Interest that are deductible 2. It does not arise from interest bearing obligation.

Interest: Q: Does the CIR have the power to impute theoretical


1. On taxes, such as those paid for deficiency or interest?
delinquency, since taxes are considered indebtedness
(provided that the tax is a deductible tax.) However, fines, A: None.CIR's powers of distribution, apportionment or allocation of
penalties, and surcharges on account of taxes are not gross income and deductions under Section
deductible. The interest on unpaid business tax shall not 43 of the 1993 NIRC and Section 179 of Revenue
be subjected to the limitation on deduction. Regulation No. 2 does not include the power to impute
2. Paid by a corporation on scrip dividends. "theoretical interests" to the controlled taxpayer's
3. On deposits paid by authorized banks of the BSP to transactions. There must be proof of actual receipt or
depositors, if shown that the tax on such interest was realization of income (CIR vs. Filinvest Development
withheld. Corporation, G.R. Nos. 163653 & 167689, July 19, 2011).
4. Paid by a corporate taxpayer, liable on a mortgage upon
real property of which the said corporation is the legal or
equitable owner, even though it is not directly liable for
the indebtedness.

UNIVERSITY OFSANTOTOMA S
77 F A C U L TY O F C I V I L L A W
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INTEREST SUBJECT TO SPECIAL RULES TAXES

INTEREST PAID IN ADVANCE Examples of taxes which are deductible

Interest paid in advance through discount or otherwise in case of 1. Import duties


cash basis taxpayer is allowed as deduction in the year the debt 2. Business licenses, excise and stamp taxes
is paid. 3. Local government taxes such as real property taxes,
license taxes, professional taxes, amusement taxes,
Optional treatment of interest expense on capital franchise taxes and other similar impositions.
expenditure
REQUISITES FOR DEDUCTIBILITY
Interest incurred to acquire property used in trade, business
or profession may be allowed either: 1. Payments must be for taxes;
1. Treated as capital expenditure, i.e., it forms part of the 2. Tax must be imposed by law on, and payable by the
cost of the asset; or taxpayer;
2. As a deduction(Sec. 34 B [2], NIRC). 3. Paid or incurred during the taxable year in connection with
taxpayer’s trade, business or profession; and
NOTE: Interest paid in advance, interest periodically amortized and 4. Taxes are not specifically excluded by law from being
interest incurred to acquire property used in trade or business is also treated deducted from the taxpayer’s gross income.
the same, the taxpayer can deduct it as an outright deduction or capital
expenditure. Time when deductions may be claimed

INTEREST PERIODICALLY AMORTIZED A: GR: Taxes may be deducted only on the year it was paid or
incurred.
If indebtedness is payable in periodic amortizations, interest
is deducted in proportion to the amount of the principal paid. XPN: In the case of contingent tax liability, the obligation to deduct
arises only when the liability is finally determined.
INTEREST EXPENSE INCURRED TO ACQUIRE PROPERTY
FOR USE IN TRADE/BUSINESS/PROFESSON NON-­‐DEDUCTIBLE TAXES

Interest on loans used to acquire capital equipment or Taxes not allowed as deduction from gross income to arrive
machinery (1999 Bar Question) at taxable income:
1. Income tax provided under the NIRC
The law gives the taxpayer the option to claim it as a 2. Income taxes imposed by authority of any foreign
deduction or treat it as capital expenditure interest incurred country
to acquire property used in trade, business or exercise of a 3. Estate tax and donor’s taxes
profession. 4. Taxes assessed against local benefits of a kind tending to
increase the value of property assessed.
REDUCTION OF INTEREST EXPENSE/INTEREST ARBITRAGE 5. Taxes on sale, barter, exchange of shares of stock listed
and traded through the local stock exchange or through
Limitation on the amount of deductible interest expense initial public offering.
6. Final taxes
The taxpayer’s otherwise allowable deduction for interest 7. Presumed capital gains tax
expense shall be reduced by an amount equal to 33% of the
interest income subject to final tax(Sec. 34 B [1], NIRC). TREATMENT OF SPECIAL ASSESSMENT

NOTE: This is to safeguard from tax arbitrage schemes. This Special assessments are deductible as taxes where these are
limitation on the deductibility of interest expense was legislated to
made for the purpose of maintenance or repair of local benefits, if
specifically address the tax arbitrage arising from the difference
between the 20% final tax on interest income and the normal
the payment of such assessment is ordinary and necessary in the
corporate income tax rate under which interest expense can be claimed conduct of trade, business or profession.
as a deduction.
Where the assessments are made for the purpose of
The rate of interest limitation is actually the difference between the constructing local benefits tending to increase the value of the
normal corporate income tax and the 20% final tax as a percentage of property assessed, the payments are in the nature of capital
the NCIT rate, rounded off. Thus under the 30% NCIT, (30%--‐ 20%) / 30% = expenditures that are not deductible.
33.33%.
TREATMENTS OF SURCHARGES/INTERESTS/FINES FOR
Tax arbitrage
DELINQUENCY

It is a strategy which takes advantage of the difference in tax These are not considered as taxes, hence they are not
rates or tax systems as the basis for profit. allowed as deductions. However, interest on delinquent taxes
are deductible as they considered as interest on

UNIVERSITYOFSANTOTOMAS 78
2014GOLDENNOTES
INCOME TAXATION
indebtedness and not as taxes(CIR v. Palanca, Jr. 18 SCRA LOSSES
496).
“Losses” for purposes of deductions from gross income
TAX CREDIT VIS A VIS DEDUCTION
Losses actually sustained during the taxable year and not
Treatment of income taxes paid in foreign countries compensated for by insurance or other forms of indemnity. (Sec.
34 D [1], NIRC)
The taxpayer may either claim it as:
1. Foreign tax credits against Philippine income tax due of REQUISITES FOR DEDUCTIBILITY
citizens and domestic corporations; or
2. A deduction from gross income of citizens and domestic The requisites for deductibility of a loss are:(TAE-­‐TIE-­‐C45)
corporations. 1. Loss belongs to the Taxpayer;
2. Actually sustained and charged off during the taxable year;
Foreign tax credit 3. Evidenced by a closed and completed transaction;
4. Not compensated by Insurance or other forms of
It is the right of an income taxpayer to deduct from income tax indemnity;
payable the foreign income tax he has paid to a foreign country 5. Not claimed as a deduction for Estate tax purposes in case
subject to certain limitations. This is to avoid the rigors of indirect of individual taxpayers; and
double taxation, although not prohibited by the Constitution for 6. Must be connected with taxpayer’s Trade, business or
being violative of the due process, results to a tax being paid twice profession or incurred in any transaction or incurred by an
on the same subject matter or transaction. individual in any transaction entered into for profit though
not connected with his trade, business or profession
Tax credit v.Tax deduction
7. If it is Casualty loss, it is evidenced by a declaration of loss
file within 45 days with the BIR.
TAX CREDIT TAX DEDUCTION
Subtracted Tax due Income before tax Types of Losses
from
Reduces The taxpayer’s tax Income upon which 1. Ordinary Losses:
liability peso for tax liability is a. Incurred in trade or business, or practice of
peso computed profession;
b. Of property connected with trade, business or
Taxpayers who are entitled to claim tax credit profession, if the loss arises from storms,
shipwreck, fires or other casualties, or from
1. Resident citizens robbery, theft or embezzlement. (Casualty loss)
2. Domestic corporations (Sec. 34 C [3] a, NIRC) i. Total Destruction – the basis of the loss is
3. Members of a GPP the net book value immediately preceding the
4. Beneficiary of an estate or trust (Sec. 34 C [3] b, NIRC) casualty to be reduced by the amount of
insurance or compensation received;
Taxpayers who are NOT entitled to claim tax credit ii. Partial Destruction –the replacement cost to
restore the property to its normal operating
1. Alien individuals, whether resident or non--‐ residents condition, but in no case shall the deductible loss
2. Foreign corporation, whether resident or non--‐ be more than the net book value of the property
residents as a whole, immediately before casualty. The
3. Non--‐ resident citizen including overseas contracted excess over the net book value immediately
workers and seamen before the casualty should be capitalized,
subject to depreciation over the remaining useful
Limitations in when claiming tax credit life of the property.
2. Net Operating Loss Carry-­‐over (NOLCO)
1. The amount of the credit in respect to the tax paid or 3. Capital Losses – losses from sale or exchange of
incurred to any country shall not exceed the same capital assets. Deductible to the extent of capital gains
proportion of the tax against which such credit is taken, only.
which the taxpayer’s taxable income from sources within 4. Securities becoming worthless
such country bears to his entire taxable income 5. Special Losses:
2. The total amount of the credit shall not exceed the same a. Wagering losses – deductible only to the extent of
proportion of the tax against which such credit is taken, gain or winnings deemed to only apply to
which the taxpayer’s income from sources without the individuals (Sec. 34 D [6], NIRC).
Philippines taxable under Title II of the NIRC (Tax on b. Losses on wash sales of stocks – not deductible
Income) bears to his entire taxable income for the same since these are considered as artificial loss
taxable year (Sec. 34 C [4], NIRC).

UNIVERSITY OFSANTOTOMA S
79 F A C U L TY O F C I V I L L A W
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Non-­‐deductible losses NOTE: Losses from wash sale are not deductible except
whentaxpayer is a dealer in securities, and the transaction from which
Losses: the loss resulted was made in the ordinary course of business of
such dealer, the loss is deductible in full
1. In dealings between related taxpayers.
2. From wash sales of stocks. WAGERING LOSSES
3. Due to removal of buildings purchased (not existing and
not incident to renewal)
Wagering losses are deductible only to the extent of the gains
derived from such transactions, i.e., wagering gains.
Q: X, a travelling salesman in Sulu. In the course of his
travel, a band of MNLF seized his car by force and used it
NET OPERATING LOSS CARRY OVER (NOLCO)
to kidnap a foreign missionary. The next day, the military
and the MNLF band had a chance encounter which caused
It isthe excess of allowable deductions over gross income of
X’s car to be a total wreck. Can X deduct the value of his
business for any taxable year which had not been previously
car from his income as casualty loss? (1993 Bar Question)
offset as deduction from gross income.

A: It depends. If X is an employee of a company, he cannot deduct NOTE: It shall be carried over as deduction from gross income for the
the losses incurred since an individual taxpayer who derives income next 3 consecutive years following the year of such loss. Provided
from compensation is allowed only personal and additional that:
deductions and the reasonable premiums for health and 1. The taxpayer was not exempt from income tax in the year of such net
hospitalization insurance. operating loss; and
2. There has been no substantial change in the ownership of the
If X is engaged in trade or business, he can deduct the value of the business or enterprise.
car from his gross income provided he can recover only up to the
NOLCO is on a first--‐ in first--‐ out basis.
amount of the casualty loss that does not exceed its book Meaning of “substantial change in ownership of the
value, and that it is not compensated by insurance or otherwise. business or enterprise”

CAPITAL LOSSES
The 75% equity rule (or ownership or interest rule) shall only
apply to transfer or assignment of the taxpayer’s net operating
Losses from sale or exchange of capital assets. Deductible to the
losses as a result of or arising from the said taxpayer’s merger
extent of capital gains only. or consolidation or business combination with another person.

Marcelo Doctrine
The transferee or assignee shall not be entitled to claim the same
as a deduction from gross income except when as a result of the
A loss in one line of business is not permitted as a said merger, consolidation or combination, the shareholders of the
deduction from gain in another line of business (Marcelo Steel
transferor/assignor, or the transferor gains control of:
Corporation vs. Collector of Internal Revenue G.R. No. L-­‐
1. At least 75% or more in nominal value of the
12401 October 31, 1960).
outstanding issued shares or paid up capital of the
transferee/assignee, if a corporation
SECURITIES BECOMING WORTHLESS 2. At least 75% or more interest in the business of the
transferee/assignee, if not a corporation (75% equity rule)
Deductible of worthless securities from gross income for (Sec. 2.4, RR 14-­‐2001).
income tax purposes (1999 Bar Question)
Determination whether or not substantial change in
Worthless securities, which are ordinary assets, are not ownership occurred
allowed as deduction from gross income because the loss is not
realized. However, if these worthless securities are capital Substantial change in ownership shall be determined on the basis of
assets, the owner is considered to have incurred a capital loss any change in the ownership in said business or enterprise
as of the last day of the taxable year and therefore, arising from or incident to its merger, consolidation, or
deductible to the extent of capital gains. This deduction, combination with another person. It tshall be determined as of
however, is not allowed to a bank or trust company(Sec. 34 D the end of the taxable year when NOLCO is to be claimed as
[4], 34 E [2], NIRC). deduction (Sec. 5.1, RR 14-­‐2001).

LOSSES ON WASH SALES OF STOCKS OR SECURITIES Taxapayers who are allowed to deduct NOLCO from Gross
Income
Wash sale
1. Individuals engaged in trade or business or in the
A sale of stock or securities where substantially identical exercise of his profession
securities are acquired or purchased within 61--‐ day period, 2. Domestic and Resident foreign corporation subject to the
beginning 30 days before the sale and ending 30 days after the normal income tax or preferential tax rates
sale. 3. Estates and trusts

UNIVERSITYOFSANTOTOMAS 80
2014GOLDENNOTES
INCOME TAXATION
NOLCO in case of mines other than oil and gas wells claimed as bad debts deduction unless such company has been
declared closed due to insolvency or for any such similar
reason by the Insurance Commissioner.
A net operating loss during the first ten years of operation shall be
allowed as NOLCO for the next 5 years.
6. Must not be sustained in a transaction entered into
Effect of NOLCO when the corporate taxpayer is subject to between Related parties.
MCIT
NOTE: The following are considered as related parties:
1. Members of the same family. (brothers and sisters,
The running of the three--‐ year period for the expiry of NOLCO whether whole or half--‐ blood; spouse, ancestors, and lineal
is not interrupted by the fact that such corporation is subject to descendants)
MCIT in any taxable year during such three year period. 2. An individual and a corporation more than fifty percent (50%)
However, such corporation cannot enjoy the benefit of NOLCO in value of the outstanding stock of which is owned,
for as long as it is subject to MCIT in any taxable period. directly or indirectly, by or for such individual
3. Two corporations more than fifty percent (50%) in value
BAD DEBTS of the outstanding stock of each of which is owned,
directly or indirectly, by or for the same individual
4. The grantor and a fiduciary of any trust
Bad debts refer to debts resulting from the worthlessness or 5. The fiduciary of a trust and the fiduciary of another trust of
uncollectibility, in whole or in part, of amount due to the taxpayer the same person is a grantor with respect to each trust
by others, arising from money lent or from uncollectible 6. A fiduciary of a trust and a beneficiary of such trust
amounts of income from goods sold or services rendered (Sec.
2, RR 5-­‐99). Relatives by affinity and collateral relatives other than brothers
and sisters are not considered related parties.
These are debts due to the taxpayer actually ascertained to be
worthless and charged off in the books of the taxpayer within the Factors that will determine whether or not the debts are
taxable year except those: bad debts (2004 Bar Question)
1. Not connected with trade, business or profession; and
2. Between related taxpayers The factors to be considered include, but are not limited to, the
following:
NOTE: A mere recording in the taxpayer’s books of account 1. The debtor has no property or visible income;
estimated uncollectible accounts does not constitute a write--‐ off of the said 2. The debtor has been adjudged bankrupt or insolvent;
receivable, hence, it shall not be a valid basis for its deduction as a 3. There are numerous debtors with small amounts of debts
bad debt expense. and further action on the accounts would entail expenses
exceeding the amounts sought to be collected;
Absence of creditor is not bad debt.
4. The debt can no longer be collected even in the future; and
5. Collateral shares have become worthless.
REQUISITES FOR DEDUCTIBILITY
NOTE: "Worthless" is not determined by an inflexible formula or slide
(UST-­‐CAR) rule calculation, but upon the exercise of sound business judgment. In
1. The debts are Uncollectible despite diligent effort order that debts be considered as bad debts because they have become
exerted by the taxpayer; worthless, the taxpayer should:
i. Ascertain the debt to be worthless in the year for which the
NOTE: To prove that the taxpayer exerted diligent efforts to collect deduction is sought.
the debts: ii. Act in good faith in ascertaining the debt to be worthless (CIR
1. Sending of statement of accounts; v. Goodrich International Rubber Co., GR L-­‐22265, Dec. 22,
2. Sending of collection letters; 1967).
3. Giving the account to a lawyer for collection; and
4. Filing a collection case in court. Q: Is the testimony of a CPA sufficient as substantial
evidence for the deductibility of a claimed worthless
2. Existing indebtedness Subsisting due to the taxpayer which debt?
must be valid and legally demandable;
3. Connected with the taxpayer’s Trade, business or A: No, mere testimony of a CPA explaining the worthlessness
practice of profession; of said debts is seen as nothing more than as a self--‐ serving exercise
4. Actually Charged off in the books of accounts of the which lacks probative value. Mere allegations cannot prove the
taxpayer as of the end of the taxable year; worthlessness of such debts. (Philippine Refining Co. v. CA,
5. Actually Ascertained to be worthless and uncollectible as of GR 118794, May 8, 1996)
the end of the taxable year; and

NOTE: In lieu of requisite No. 5, the BSP, thru its Monetary


Board, shall approve the writing off of said indebtedness from the
banks’ books of accounts at the end of the taxable year.

In no case may a receivable from an insurance or surety


company be written off from the taxpayer’s books and

UNIVERSITY OFSANTOTOMA S
81 F A C U L TY O F C I V I L L A W
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Q: Are “reserves for bad debts” deductible from gross METHODS FOR COMPUTING DEPRECIATION ALLOWANCE
income for income tax purposes?
Methods of depreciation under the NIRC
A: No, bad debts must be charged off during the taxable year to
be allowed as deduction from gross income. The mere setting 1. Straight line method – The annual depreciation charge is
up of reserves will not give rise to any deduction(Sec. 34 [E],
calculated by allocating the amount to be depreciated
NIRC). equally over the number of years of the estimated useful
life of the tangible. It results in a constant charge over
EFFECT OF RECOVERY OF BAD DEBTS the useful life.
2. Declining balance method – accelerated method of
Recapture Rule depreciation which writes off a relatively larger amount
of the asset’s cost nearer the start of its useful life than
The taxpayer is obliged to declare as taxable income that of the straight line.
subsequent recovery of bad debts in the year they were 3. Sum of the years digit method – accelerated method of
collected to the extent of the tax benefit enjoyed by the taxpayer depreciation expense in the earlier years and lower charges
when the bad debts were written off and claimed as deduction from in the later years.
gross income. This is the tax benefit rule as applied to recovery of 4. Any other method which may be prescribed by
bad debts. Department of Finance upon recommendation of the CIR.

DEPRECIATION Q: How is the useful life determined on which


depreciation rate is based?
Depreciation is the gradual diminution in the useful (service)
value of tangible property used in trade, profession or business A: The BIR and the taxpayer may agree in writing on the useful
resulting from exhaustion, wear and tear and obsolescence. life of the property to be depreciated subject to modification if
justified by facts or circumstances. The change shall not be
REQUISITES FOR DEDUCTIBILITY effective before the taxable year on which notice in writing by
certified mail or registered mail is served by the party initiating.
1. The property subject to depreciation must be property However, if there is no agreement and the BIR does not
with life of more than one year; object to the rate and useful life being used by the taxpayer, the
2. The property depreciated must be used in trade, same shall be binding.
business, or exercise of a profession;
3. The depreciation must have been charged off during the Q: What is the annual depreciation of a depreciable fixed
taxable year. asset with a cost of P100,000 having a salvage value of
4. The depreciation method used must be reasonable and P10,000 and an estimated useful life of 20 years under the
consistent. straight line method?
5. A depreciation schedule should be attached to the
income tax return. A: The annual depreciation is P4,500 computed as follows:
Acquisition cost less salvage value, then divide the difference
Persons entitled to claim depreciation expense by its useful life. [100,000 – 10,000 = 90,000] then [90,000 / 20
= 4,500]
The person who sustains an economic loss from the
decrease in property value due to depreciation which is usually Method use in depreciation of properties used in
the owner. Non--‐ resident aliens and foreign corporations are petroleum operations
allowed to deduct only when the property is located within the
Philippines(Sec. 34 [F], NIRC). It may either be straight line or declining balance method with a
useful life of 10 years or shorter, as allowed by the CIR.
Q: What are depreciable assets and non-­‐depreciable
assets for tax purposes? NOTE: If the property is not directly related to production,
depreciation is for 5 years using straight line method (Sec. 34 F [4],
A: NIRC).
1. Depreciable Assets:
a. Tangible property used in trade or business Method use in depreciation of properties used in mining
b. Intangible property like patent copyrights and operations other than petroleum operations
franchises
2. Non-­‐depreciable Assets: 1. At the normal rate of depreciation if the expected life is less
a. Inventories or stock 10 years or less; or
b. Land 2. Depreciated over any number of years between 5 years
c. Bodies of minerals subject to depletion and the expected life if the latter is more than 10 years and
d. Personal effects and clothing the depreciation thereon is allowed as deduction from
taxable income.

UNIVERSITYOFSANTOTOMAS 82
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INCOME TAXATION
Provided, that the contractor notifies the CIR at the beginning 5. The amount of charitable contribution of property other
of the depreciation period which depreciation rate allowed will than money shall be based on the Acquisition cost of said
be used. property.

Q: Z purchased fully depreciated machineries and entered AMOUNT THAT MAY BE DEDUCTED
the machineries in his books at P120,000. Based on the
independent appraisal and engineering report, Z assigned Contributions that are deductible in full
to the machineries an economic life of 5 years. Adopting
the straight-­‐line method, Z claimed a depreciation These are: (GAFA)
deduction of P24,000 in his income tax return. Is the 1. Donations to the Government of the Philippines, or
deduction proper, considering that in the hands of the political subdivisions including fully--‐ owned
original owner, the said machineries were already fully government corporation to be used exclusively in
depreciated? (1983 Bar Question) undertaking priority activities in: (CHEESHY)
a. Culture
A: Yes, the starting point for the computation of the b. Health
deductions for depreciation is the reasonable cost of c. Economic Development
acquiring the asset and its economic life. The fact that the d. Education
machineries were already depreciated by its original owner does e. Science
not matter. Z is allowed a depreciation allowance for the f. Human Settlement
exhaustion, wear and tear (including reasonable allowance for g. Youth and Sports development
obsolescence) of the machineries which he is using in his trade or
business(Sec. 34 [F], NIRC). 2. Donations to Foreign institutions and international
organizations in compliance with treaties and
Q: Is depreciation of goodwill deductible from gross agreements with the Government.
income? (1999 Bar Question)
3. Donations to Accredited NGO’s
A: GR: No, while intangibles may be allowed to be a. Exclusively for: (C2HES2Y-­‐RC)
depreciated or amortized, it is only allowed to those i. Cultural
intangibles whose use in the business or trade is definitely limited ii. Charitable
in duration. Such is not the case in goodwill. iii. Health
iv. Educational
XPN: If the goodwill is acquired through capital outlay and is v. Scientific
known from experience to be of value to the business for only a vi. Social welfare
limited period. (Sec. 107, RR No. 2) In such case, the goodwill vii. Character building &Youth and Sports
is allowed to be amortized over its useful life. Development
viii. Research
Depletion ix. Any Combination of the above
b. Donation must be utilized not later than the 15th day of
It is the exhaustion of natural resources like mines and oil and gas the 3rd month following the close of taxable year;
wells as a result of production or severance from such mines or c. Administrative expense must not exceed 30% of the
wells. total expenses;
d. Upon dissolution, assets shall be transferred to
Annual depletion deductions are allowed only to mining entities another non--‐ profit domestic corporation or to the
which own an economic interest in mineral deposits(Sec. 3, RR State.
5-­‐76).
4. Donations of prizes and awards to Athletes (Sec. 1, RA
NOTE: Economic interest means interest in minerals in the place of 7549)
investment therein or secured by operating or contract agreement for which
income is derived, and return of capital expected, from the extraction of Donations that are subject to limitation
mineral.
1. Donations that are not in accordance with the priority plan.
CHARITABLE AND OTHER CONTRIBUTIONS
2. Donations whose conditions are not complied with.
3. Donations to the Government of the Philippines or
REQUISITES FOR DEDUCTIBILITY
political subdivision exclusive for public purposes.
4. Donations to domestic corporations organized
(AW-­‐SEA)
exclusively for:
1. The contribution or gift must be Actually paid;
a. Scientific
2. It must be paid Within the taxable year; b. Educational
3. It must be given to the organization Specified by law; c. Cultural
4. It must be Evidenced by adequate receipts or records; and d. Charitable
e. Religious

UNIVERSITY OFSANTOTOMA S
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f. Rehabilitation of veteran whom he particularly pitied. A crippled son of X is in the
g. Social Welfare hospital as one of its patients. X wants to exclude both
the P100,000 and the 5,000 from his gross income.
Q: What are the limitations? Discuss. (1993 Bar Question)

A: A: If X is earning from compensation income, he could not deduct


1. Amount deductible shall not exceed: either the P100,000 and the P5,000. If he is earning from trade or
a. For individuals --‐ 10% of taxable income before business, he could deduct the P100,000 if the hospital is
contributions; accredited as a donee institution. If not, then no deduction is
b. For corporations --‐ 5% of taxable income before allowed.
contributions. (Sec. 34 H [1], NIRC)
2. No part of net income of donee inures to the benefit of any However, he could not deduct the P5,000 because to qualify
private stockholders or individual. for exemption, the charitable contribution must be given to
accredited organizations or associations(Sec. 34 H [1], NIRC).
Q: Are the following expenses deductible from gross
income: Q: On the part of the contributor, are contributions to a
1) Employer’s contribution to the Christmas fund of his candidate in an election allowable as a deduction from
employees gross income? (1998 Bar Question)
2) Contribution to the construction of a chapel of a
university that declares dividends to its stockholders A: The contributor is not allowed to deduct the contributions
3) Premiums paid by the employer for the life insurance because the said expense is not directly attributable to the
of his employees development, management and/or operation and/or conduct
4) Contribution to a newspaper fund for needy families of trade or business or profession.
when such newspaper organizes a group of civic
spirited citizens solely for charitable purposes. (1968 DEDUCTIONS UNDER SPECIAL LAWS
Bar Question)
A:
1. Yes, under No. 27 RAMO 1-­‐87 subject to the condition that Donations that are deductible in FULL under special laws
the contribution does not exceed ½ month’s basic
salary of all the employees. It is part of the ordinary and Donations to:
necessary expenses. 1. The Integrated Bar of the Philippines (IBP) (PD 81)
2. No, part of the net income of the university inures to the 2. Development Academy of the Philippines (PD 205)
benefit of its private stockholders. (Sec. 34 [H], NIRC) 3. Aquaculture Department of the Southeast Asian
3. No, for the beneficiary is the employer (Sec. 36 A [4], Fisheries and Development Center (SEAFDEC) (PD 292)
NIRC) 4. National Social Action Council (PD 294)
4. No, contributions to a newspaper fund for needy 5. National Museum, Library and Archives (PD 373)
families are not deductible for the reason that the income 6. University of the Philippines and other state colleges and
inures to the benefit of the private stockholder of the universities
printing company. 7. Philippine Rural Reconstruction Movement
8. The Cultural Center of the Philippines (CCP)
Q: On Dec. 06, 2001, LVN Corp. donated a piece of vacant 9. Trustees of the Press Foundation of Asia
lot situated in Mandaluyong City to an accredited and 10. Humanitarian Science Foundation
duly registered non-­‐stock, non-­‐profit educational 11. Artesian Well Fund (RA 1977)
institution to be used by the latter in building a sports 12. International Rice Research Institute
complex for students. 13. National Science Development Board (now the DOST) and
its agencies and to public or recognized non--‐ profit, non--‐ stock
May the donor claim in full as deduction from its gross educational institutions. (RA 3589)
income for the taxable year 2001 the amount of the 14. Ministry of Youth & Sports Development (PD 604)
donated lot equivalent to its fair market value/zonal 15. Social Welfare, Cultural & Charitable Institution (PD 507)
value at the time of the donation? (2002 Bar Question) 16. Museum of Philippine Costumes (PD 1388)
17. Intramuros Administration (PD 1616)
A: No, donations and/or contributions made to qualified donee 18. Lungod ng Kabataan (PD 1631)
institutions consisting of property other than money shall be based
on the acquisition cost of the property. The donor is not entitled RESEARCH AND DEVELOPMENT EXPENDITURE
to claim as full deduction the fair market value/zonal value of
the lot donated(Sec. 34 [H], NIRC). Tax treatment for research and development costs

Q: The Filipinas Hospital for Crippled Children is a Taxpayer may either treat it as:
charitable organization. X visited the hospital and gave 1. Revenue Expenditure – it will be wholly deducted as
P100,000 to the hospital and P5,000 to a crippled girl ordinary and necessary expense in the year it is paid or
incurred

UNIVERSITYOFSANTOTOMAS 84
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INCOME TAXATION
2. Deferred Expense – allowed as deduction ratably allowable deduction is a percentage not exceeding 40% of gross
distributed over a period of at least 60 months sales or receipts or gross income as the case may be.
starting from the month benefits are received from such
expenditure. (Sec. 34 I [1 and 2], NIRC) NOTE: The election to claim either the OSD or itemized deductions must be
signified in the income tax return filed for the first quarter of the taxable
year; once the election is made, the same type of deduction must be
Research and development expenditures that are NOT
consistently applied for all succeeding quarters and in the annual income
deductible tax return; and

Any expenditure: A taxpayer who is required but fails to file the quarterly income tax return for
1. For the acquisition or improvement of land or for the the first quarter shall be deemed to have elected to avail of itemized
improvement of property to be used in connection with deductions for the taxable year.
research and development subject to depreciation and
depletion; and Taxpayers who may avail of the OSD under the NIRC
2. Paid or incurred for the purpose of ascertaining the
existence, location, extent or quality of any deposit of ore or 1. Individuals
other mineral including oil or gas(Sec. 34 I [3], NIRC). a. Resident citizens (RC)
b. Non--‐ resident citizens (NRC)
PENSION TRUST CONTRIBUTIONS c. Resident aliens (RA)
2. Corporations
Requisites for its deductibility(P-­‐FRANC) a. Domestic (DC)
b. Resident foreign corporations (RFC)
1. The employer must have established a Pension or 3. Partnerships
retirement plan to provide for the payment of 4. Estates and trusts
reasonable pensions to his employees
NOTE: The taxpayer must signify his intention in his income tax return
2. It must be Funded by the employer
which shall be irrevocable for the taxable year for which the return is made.
3. The pension plan is Reasonable and actuarially sound
4. The deduction is Apportioned in equal parts over a period An individual who avails of the OSD is not required to submit final
of 10 consecutive years beginning with the year in which statements provided that said individual shall keep such records
the transfer or payment is made pertaining to his gross sales or gross receipts.
5. The payment has Not yet been allowed as a deduction
6. The amount contributed must no longer be subject to the A corporation is still required to submit its financial statements when it
files its annual income tax return and keep such records pertaining to its
Control and disposition of the employer
gross income.

Q: When can an employer claim as deduction the payment Taxpayers who mayNOT avail of the OSD
of reasonable pension?
1. Non--‐ resident aliens, (NRA) whether or not engaged in trade
A: If the employer contributes to a private pension plan for the or business in the Philippines; and
benefit of its employee. 2. Non--‐ resident foreign corporations. (NRFC)

OPTIONAL STANDARD DEDUCTION (OSD) OSD of an Individual

OSD is a fixed percentage deduction which is allowed to certain The accounting method used by the taxpayer in recognizing income
taxpayers without regard to any expenditure.This is in lieu of the and deductions shall be considered in determining the allowable
itemized deduction. OSD:
a.) Accrual basis – the OSD shall be based on the gross sales
The optional standard deduction is an amount not exceeding: during taxable year.
1. 40% of the gross sales or gross receipts of a qualified b.) Cash Basis – the OSD shall be based on the gross receipts
individual taxpayer; or during the taxable year.
2. 40% of the gross income of a qualified corporation.
(Sec. 34 [L], NIRC) NOTE: Cost of sales or cost of services are not allowed to be
deducted for purposes of determining the basis of the OSD in case of an
NOTE: It should be emphasized that the “cost of sales” in case of individualtaxpayer
individual seller of goods, or the “cost of service” in case of
individual seller of services, is not allowed to be deducted for OSD of a Corporation
purposes of determining the basis of the OSD pursuant to RA 9504 (RR No.
16-­‐2008).
In case of a corporation, the basis of the OSD is the gross
income. Sales returns, discounts and allowances and cost of goods
Itemized deduction v. OSD
(or cost of services) are deducted from the gross receipts to
arrive at gross income. The method of accounting is not taken
Itemized Deduction must be substantiated by receipts while OSD into consideration unlike in the case of an individual.
requires no proof of expenses incurred because the

UNIVERSITY OFSANTOTOMA S
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Determination of OSD with respect to GPP and the premiums previously paid by
partners thereof them;
2. Interest paid upon those
1. For purposes of computing the distributive share of the amounts between the date of
partners, the net income of the GPP shall be computed ascertainment and the date of
in the same manner as a corporation. As such, a GPP may its payment(Sec. 37 [B], NIRC).
claim either the itemized deductions allowed under Sec. 34 Mutual insurance – 1. Portion of the premium deposits
or in lieu thereof, it can opt to avail of the OSD allowed to a mutual fire and returned to the policy holders;
corporation. mutual employer’s 2. Portion of the premium deposits
2. If the GPP avails of itemized deductions under Sec. 34 liability and mutual retained for the payment of
of the NIRC in computing net income, the partners may workmen’s losses, expenses and
still claim itemized deductions on their net distributive share compensation and reinsurance reserve(Sec.
that have not been claimed by the GPP; mutual casualty 37[C], NIRC).
3. The partners, however, are not allowed to claim OSD on insurance
their share of net income because the OSD is a proxy for Assessment Amount actually deposited with
all items of deductions allowed in arriving at taxable income. Insurance officers of the Government of the
4. If the GPP avails of OSD in computing net income, the Philippines pursuant to law as
partners may no longer claim further deductions from their addition to guarantee or reserve
net distributive share, whether itemized or OSD (RR No. 2-­‐ funds (Sec. 37[D], NIRC).
2010).
Q: Can private establishments avail of deductions from
SPECIAL DEDUCTIONS gross income under R.A. 9994 or the “Expanded Senior
Citizens Act of 2010?”
These are deductions usually allowed only for particular
business or enterprises and not to others, or may be allowed A: Yes.
for all but are not provided for under the provisions of the 1. Deductions from gross income of private establishments
NIRC but under special laws. for the 20% sales discounts granted to senior citizens on the
sale of goods and/or services
Special deductions allowable under the NIRC
2. Additional deduction from gross income of private
establishments for compensation paid to senior citizens
1. Private Proprietary Educational Institutions –In
addition to the expenses allowed as deduction, it has the Persons who could avail of the deduction for the 20%
option to treat the amount utilized for the acquisition of senior citizens’ discount
depreciable assets for expansion of school facilities as:
a. Outright expense (the entire amount is deducted from
1. Resident citizens and domestic corporations; and
gross income);or
2. Non--‐ resident citizens, aliens (whether residents or not) and
b. Capital asset and deduct only from the gross
foreign corporations, from their income arising from their
income an amount equivalent to its depreciation every
profession, trade or business, derived from sources within
year. (Sec. 34 A [2], NIRC)
the Philippines.
2. Estates and Trusts can deduct the:
What are the establishments that can claim the discounts
a. Amount of income paid, credited or distributed to the
granted as deduction
heirs/ beneficiaries; and
b. Amount applied for the benefit of the
1. Hotels and similar lodging establishments
grantor(Sec. 61, NIRC).
2. Restaurants
3. Recreation centers
3. Insurance Companies can Deduct:
4. Theaters, cinema houses, concert halls, circuses,
carnivals and other similar places of culture, leisure and
TYPE OF INSURANCE SPECIAL DEDUCTIONS amusement
5. Drug stores, hospitals, pharmacies, medical ad optical clinics
Non-­‐Life 1. Net additions, if any, required by
and similar establishments dispensing medicines
law to be made within the year to
6. Medical and dental services in private facilities
reserve funds;
7. Domestic air and sea transportation companies
2. Sum paid on the policy within the
8. Public land transportation utilities
year and annuity contracts other
9. Funeral parlors and similar establishments
than dividends provided that the
released reserve be treated as
Conditions in order for establishments to avail the 20%
income for the year
sales discounts as deduction from gross income
of release(Sec. 3[A], NIRC).
Mutual marine 1. Amounts repaid to policy 1. Only that portion of the gross sales exclusively used,
insurance holders on account of consumed or enjoyed by the senior citizen shall be
eligible for the deductible sales discount;

UNIVERSITYOFSANTOTOMAS 86
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INCOME TAXATION
2. The gross selling price and the sales discount must be litigants as required under the Rule on Mandatory Legal Aid
separately indicated in the official receipt or sales Services for Practicing Lawyers, under BAR Matter No. 2012,
invoice issued by the establishment from the sale of issued by the SC.
goods or services to the senior citizen;
3. Only the actual amount of the discount on a sales PERSONAL AND ADDITIONAL EXEMPTIONS (R.A. 9504,
discount not exceeding 20% of the gross selling price can be MINIMUM WAGE EARNER LAW)
deducted from the gross income, net of value--‐ added tax, if
applicable, for income tax purposes, and from gross sales Personal exemptions
or gross receipts of the business enterprise concerned, for
VAT or other percentage tax purposes; These are arbitrary amounts allowed as deductions from gross
4. The discount can only be allowed as deduction from gross income of an individual representing personal, living and family
income for the same taxable year that the discount is expenses of the taxpayer.
granted; and
5. The business establishment giving sale discounts to Kinds of personal exemptions
qualified senior citizens is required to keep separate and
accurate record of sales, which shall include the name of 1. Basic Personal Exemption – The amount subtracted
the senior citizen, OSCA ID, gross sales/receipts, sales from gross income which is allowed for the theoretical
discounts granted, dates of transaction and invoice personal, family, and living expenses of an individual
number for every sale transaction to senior citizen. taxpayer regardless of status, whether single or married
6. Only those establishments selling any of the qualified goods individual judicially decreed as legally separated with no
and services to a Senior Citizen where an actual discount qualified dependents or head of the family.
was granted can claim the deductions. 2. Additional Exemptions – These are exemptions in
7. The seller must not claim the optional standard deduction addition to the basic personal exemptions that are
during the taxable year(Sec. 7, RR 7-­‐2010). granted to certain individual who have dependents that
qualify them for this exemption.
Q: When may the additional deduction from gross income
of private establishments for compensation paid to senior Individual taxpayers who are entitled to personal and
citizens be availed? additional exemptions

A: Private establishments employing senior citizens shall be 1. Resident citizen


entitled to additional deduction from their gross income 2. Non--‐ resident citizen
equivalent to 15% of the total amount paid as salaries and wages 3. Resident alien
to senior citizens provided the following are present:
1. Employment shall have to continue for a period of at least 6 BASIC PERSONAL EXEMPTIONS
months;
2. Annual taxable income of the senior citizen does not exceed Basic Personal Exemptionis subtracted from gross income which
the poverty level as may be determined by the NEDA thru the is allowed for the theoretical personal, family, and living
National Statistical Coordination Board (NSCB). For this expenses of an individual taxpayer in the amount of P50,000
purpose, the senior citizen shall submit to his employer a irrespective of whether the individual is single, head of the
sworn certification that his annual taxable income does not family, or married.
exceed the poverty level. (Sec. 12, RR 7-­‐2010).
Wisconsin Plan
Deduction may be availed of under RA 9999, otherwise
known “Free Legal Assistance Act of 2010” It is a system which allows the deduction from gross income
of arbitrary amounts for personal, living or family expenses of
A lawyer or professional partnerships rendering actual free legal the taxpayer.
services, as defined by the SC, shall be entitled to an allowable
deduction from the gross income. ADDITIONAL EXEMPTIONS FOR TAXPAYER WITH
DEPENDENTS
NOTE: Deduction would be the amount that could have been
collected for the actual free legal services rendered or up to 10% of the gross Conditions for an individual to be entitled to additional
income derived from the actual performance of the legal profession, exemptions
whichever is lower.

Condition for it to be availed of as a deduction from gross An individual:


income 1. Whether single or married;
2. Shall be allowed an additional exemption of P 25,000;
It shall be deductible provided that the actual free legal services 3. For each qualified dependent child;
contemplated shall be exclusive of the minimum 60--‐ hour 4. Provided, that the total number of dependents for which
mandatory legal aid services rendered to indigent additional exemptions may be claimed as long as it shall not
exceed 4 dependents(Sec. 35 [B], NIRC).

UNIVERSITY OFSANTOTOMA S
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Qualified dependents for purposes of additional and the child living separately, the court ordered H to
exemption shoulder the 60% of the financial support for Shirley, and
W, to shoulder 60% of the financial support for Rolly.
1. A dependent means
a. Legitimate, illegitimate or legally adopted child; In their respective tax returns for their 2012 income, how
b. Chiefly dependent upon and living with the much personal and additional exemptions would H and W
taxpayer; be separately entitled to, assuming that each of them
c. If such dependentis: earned P600,000 in 2012?
i. Not more than 21 years old;
ii. Unmarried; A: H and W shall be entitled to only P50,000 each, the basic
iii. Not gainfully employed or personal exemption granted to individual taxpayers
d. If such dependent: regardless of their marital status. Neither H nor W is entitled
i. Regardless of age; to any additional exemption because neither Rolly nor Shirley are
ii. Is incapable of self--‐ support; because of qualified dependent children. Rolly while living with H is not
mental or physical defect(Sec. 2.79 I [1] b, RR dependent upon W for his chief support. The same holds true for
2-­‐98 as amended by RR 10-­‐2008; Sec. 35 W with respect to Shirley(Income Taxation Vol.II,
[b], NIRC). Domondon).

NOTE: Parents, as well as brothers or sisters and other collateral Q: Charlie, a widower, has two sons by his previous
relatives are not qualified dependents to be claimed as additional marriage. Charlie lives with Jane who is legally married to
exemptions under RA 9504.
Mario. They have a child named Jill. The children are all
Meaning of “living with the taxpayer” minors and not gainfully employed.
1. How much personal exemption can Charlie claim?
2. How much additional exemption can Charlie claim?
Living with the person, giving support does not necessarily mean
(2006 Bar Question)
actual and physical dwelling together at all times and under all
circumstances. Thus, the additional exemption applies even if a
child or other dependent is away at school or on a visit. A:
1. Charlie may claim the basic personal exemption (BPE) of
Additional exemptions of married individuals who are P50,000. Under RA 9504, an individual taxpayer may claim
both working the BPE irrespective of status.

Additional exemption for dependents shall only be allowed to one 2. His children from his previous marriage who are
of the spouses. The husband shall be the proper claimant legitimate children and his illegitimate child with Jane will all
unless he explicitly waives his right in favor of the wife in the entitle him to additional personal exemption of P25,000 for
Application for Registration (Sec. 35 [B], NIRC). each dependent, if apart from being minor and not gainfully
employed, they are unmarried, living with and dependent
NOTE: Where the spouse is unemployed or is a non--‐ resident citizen deriving upon Charlie for their chief support.
income from foreign sources, the employed spouse within the Philippines
shall be automatically entitled to claim the additional exemptions for STATUS AT THE END OF THE YEAR RULE
their children.
Rules in case of change of status during the taxable year
Additional exemptions of legally separated spouses
If the taxpayer marries or should have additional dependent
Additional exemptions may be claimed only by the spouse who during the the taxable year, he may claim the corresponding
has custody of the child or children(Sec. 35 [B], NIRC).The additional exemptions, as the case may be, in full for such year.
dependents must also be chiefly dependent upon the claimant.
If the spouse or any of the dependents dies of if any of such
Q: May a Senior Citizen still qualify as a dependent by a dependents marries, becomes 21 years old, or becomes
taxpayer/benefactor? gainfully employed during the taxable year, the taxpayer may
still claim the same exemptions as if the dependend died,
A: No. A senior citizen even if not gainfully employed, living with married, became 21 years old or became gainfully employed at
and dependent upon his benefactor for his chief support, the clos of such year.
although treated as a dependent under the Act, will NOT entitle
the benefactor to claim additional personal exemption of If the taxpayer dies during the taxable year, his estate may claim
P25,000(Sec. 11, RR 7-­‐2010, implementing the personal and additional exemptions for himself and his
R.A. 9994 or the Expanded Senior Citizen’s Act of 2010). dependents, as if he died at the close of such year.

Q: In January 2012, H and W were legally separated by


court order. H was awarded the custody of their minor
son, Rolly, and W, the custody of their minor daughter,
Shirley. To preserve somehow the ties between the parent

UNIVERSITYOFSANTOTOMAS 88
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INCOME TAXATION
Summary of Rules In case of married individuals who are still required to file returns or in
those instances not covered by the substituted filing of returns, only
CHANGE OF STATUS TREATMENT one return for the taxable year shall be filed by either spouse to cover the
income of the spouses, which return shall be signed by the husband and
Death of the Estate may claim the personal wife, unless it is physically impossible to do so, in which case signature of
taxpayer exemption of P50,000. Under R.A. one of the spouses would suffice
9504, the Basic Personal
Exemption is fixed at P50,000 For individuals receiving purely compensation income from a single
irrespective of status of the employer, although the income of which has been correctly withheld,
taxpayer but whose spouse is not entitled to substituted filing, the spouses are
required to file income tax returns.
Death of the Taxpayer is still entitled to
dependent additional exemption Substituted filing applies only if all of the following requirements are
Additional Taxpayer is still entitled to present :
dependent additional exemption 1. the employee received purely compensation income
Dependent Taxpayer can still claim him or her as (regardless of amount) during the taxable year
becoming more dependent during the year the 2. the employee received the income from only one employer in the
than 21 years of dependent reach the age of 21. Philippines during the taxable year
3. the amount of tax due from the employee at the end of the year
age
equals the amount of tax withheld by the employer
Marriage of the Taxpayer entitled to full 4. the employee’s spouse also complies with all 3 conditions stated
taxpayer exemption for the particular above
taxable year 5. the employer files the annual information return (BIR Form No.
Death of spouse Surviving spouse may still claim 1604--‐ CF)
the full amount of P50,000 6. the employer issues BIR Form No. 2316 (Oct 2002 ENCS
version ) to each employee.
Marriage of Taxpayer can still claim him or her
Dependent as dependent for the particular
EXEMPTIONS CLAIMED BY NON-­‐RESIDENT ALIENS
taxable year
Gainful Taxpayer can still claim him or her as GR:Non--‐ resident alien engaged in trade, business, or in the
employment of dependent for the particular
exercise of a profession in the Philippines (NRA--‐ ETB) is NOT
dependent taxable year
entitled to personal and additional exemptions.

Q: Mar and Joy got married in 1990. A week before their XPN: Can be entitled to personal and additional exemption
marriage, Joy received, by way of donation, a subject to the rule on reciprocity:
condominium unit worth P750,000 from her parents. After 1. His foreign country allows personal exemptions to
the marriage, some renovations were made at a cost of citizens of the Philippines not residing therein;
P150,000. The spouses were both employed in 1991 by 2. File an accurate return of his income from all sources within
the same company. On 30 Dec. 1992, their first child was the Philippines. on time; and
born, and a second child was born on 07 Nov. 1993. In 3. Amount allowable is not to exceed our maximum
1994, they sold the condominium unit and bought a new allowable personal exemption.
unit.
Individual taxpayers who are NOT entitled to personal
Under the foregoing facts, what were the events in the life and additional exemptions
of the spouses that had income tax incidence?(1997 Bar
Question) 1. Non--‐ resident alien not engaged in business
2. Residents aliens and Filipinos employed by and who
A: The events in the life of spouses, Mar and Joy, which have receive compensation from:
income tax incidence are: a. Regional or area headquarter or regional operating
1. Their marriage in 1990 had no effect on their entitlement headquarters of multinational corporation
to the basic personal exemption of P50,000 which may established in the Philippines;
be enjoyed irrespective of the individual taxpayer’s b. Offshore banking units established in the
status; Philippines.
2. Their employment in 1991 by the same company will make c. Petroleum service contractors and subcontractors
them liable to the income tax imposed on gross in the Philippines.
compensation income;
3. Birth of their first child in 1992 would give rise to an NOTE: The above individual taxpayers are not allowed to enjoy
additional exemption of P25,000 for taxable year 1992; personal exemptions since they are taxed based on gross incomes. Only
4. Birth of their second child in 1993 would likewise entitle individual taxpayers are entitled to personal and additional exemptions.
them to claim additional exemption of P25,000 for 1993. Corporations are not entitled to such exemptions.

NOTE: If the spouses are qualified under “substituted filing,” they need not
file Income Tax Returns.

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89 F A C U L TY O F C I V I L L A W
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NOTE: Section 27(B) of the NIRC does not remove the income tax
ITEMS NOT DEDUCTIBLE
exemption of proprietary non--‐ profit hospitals under Section 30(E) and (G).
The effect of the introduction of Section 27(B) is to subject the taxable
In computing net income, no deduction shall in any case be income of two specific institutions, namely, proprietary non--‐ profit
allowed in respect to: educational institutions and proprietary non--‐ profit hospitals, among
1. Personal, living or family expenses – these are personal institutions covered by Section 30, to the 10% preferential rate under
expenses and not related to the conduct of trade or Section 27(B) instead of the ordinary 30% corporate rate under the last
business paragraph of Section 30 in relation to Section 27(A)(1) (CIR vs. St. Luke’s
2. Any amount paid out for new buildings of for permanent Medical Center, Inc., G.R. No. 195909/G.R. No. 195960, September
26, 2012).
improvements, or betterments made to increase the value
of any property or estate – these are Capital Expenditures
Predominance test
added to the cost of the property and the periodic
depreciation is the amount that is considered as deductible
This test means that if the gross income from unrelated
expense
trade/business/other activity exceeds 50% of the total gross
NOTE: Shall not apply to intangible drilling and development costs income from all sources, the entire taxable income of the
incurred in petroleum operations which are deductible under proprietary educational institution shall be subject to the regular
Subsection (G) (1) of Sec. 34 of the NIRC. corporate tax rate of 30%.

3. Any amount expended in restoring property or in making Q: When is trade/business/activity of a proprietary


good the exhaustion thereof for which an allowance is or educational institution considered unrelated?
has been made (Major Repairs)
4. Premiums paid on any life insurance policy covering the life A: The trade, business or other activity of a proprietary
of any officer or employee, or of any person financially educational institution is unrelated when the conduct of which is
interested in any trade or business carried on by the not substantially related to the exercise or performance by
taxpayer, individual or corporate, when the taxpayer is such educational institution of its primary purpose or function.
directly or indirectly a beneficiary under such policy (Sec.
36 [A], NIRC) Q: Distinguish the tax treatment between a proprietary
5. Interest expense, bad debts, and losses from sales of educational institution and a non-­‐stock non-­‐profit
property between related parties educational institution.
6. Losses from sales or exchanges of property (Sec. 36 [B],
NIRC) A: A non--‐ stock non--‐ profit educational institution is exempt from
7. Non--‐ deductible interest tax on its revenues and assets actually, directly and exclusively
8. Non--‐ deductible taxes used for educational purposes (Sec. 30, NIRC).
9. Non--‐ deductible losses
10. Losses from wash sales of stock or securities GOVERNMENT OWNED OR CONTROLLED CORPORATIONS

Q: When is a person financially interested in the Generally, all corporations owned or controlled by the
taxpayer’s business? government are taxed in the same manner that domestic private
corporations are taxed.
A: If he is a stockholder thereof or he receives as
compensation his share of the profits of the business XPNs:
a. Government Service Insurance System (GSIS);
EXEMPT CORPORATIONS b. Social Security System (SSS);
c. Philippine Health Insurance Corporation (PHIC);
PROPRIETARY EDUCATIONAL INSTITUTIONS AND d. Philippine Charity Sweepstakes Office (PCSO)
HOSPITALS

A proprietary educational institution is any private school TAXATION OF RESIDENT CITIZENS, NON-­‐RESIDENT
maintained and administered by private individuals or groups CITIZENS AND RESIDENT ALIENS
with an issued permit to operate from the Department of
Education, Culture and Sports (DECS), or the Commission on 1. A citizen of the Philippines residing therein is taxable on all
Higher Education (CHED), or the Technical Education and Skills income derived from sources within and without the
Development Authority (TESDA), as the case may be, in Philippines;
accordance with existing laws and regulations. 2. A nonresident citizen is taxable only on income derived
from sources within the Philippines
Tax treatment of proprietary educational institutions 3. An individual citizen of the Philippines who is working and
deriving income from abroad as an OFW is taxable only on
They are not tax--‐ exempt but are rather taxed at a income derived from sources within the Philippines:
preferential rate of 10% on their taxable income, except on certain Provided, that a seaman who is a citizen of the Philippines
passive income which are subject to final tax. and who receives compensation for services rendered
abroad as a member of the complement of a vessel
engaged exclusively in international trade shall be treated
as an OFW

UNIVERSITYOFSANTOTOMAS 90
2014GOLDENNOTES
INCOME TAXATION
NOTE: Seamen contemplated as in the law -­‐Theyshould be The general rule is that resident citizens are taxable on income
working in a ship engaged exclusively in international from all sources within and without the Philippines. Whereas,
trade/commerce. If local, he is just considered as a normal nonresident citizens, overseas contract workers, seamen who are
employee.
members of the complement of a vessel engaged exclusively in
international trade, resident aliens, and nonresident aliens are
4. An alien individual, whether a resident or not of the
taxable only on income from sources within the Philippines.
Philippines, is taxable only on income derived from
sources within the Philippines (Sec. 23, NIRC)

INCOME DERIVED FROM SOURCES GROSS OR NET RATE


INDIVIDUAL TAXPAYER IS A: Within the Outside the GROSS INCOME TAXATION (GIT)
Philippines Philippines NET INCOME TAXATION (NIT)
Resident Citizen √ √ Employee: GIT ; Businessman: 5--‐ 32%
NIT/GIT, if he availed of the OSD
Non-­‐resident Citizen √ X NIT 5--‐ 32%
OCW/Seaman √ X NIT 5--‐ 32%
Resident Alien √ X Employee: GIT ; Businessman: GIT 5--‐ 32%
Non Resident Alien Engaged √ X NIT 5--‐ 32%
in Business and Trade (NRA-­‐
EBT)
Non Resident Alien Not √ X GIT 25%
Engaged in Business and
Trade (NRA-­‐NEBT)
Special Alien √ X GIT 15%
Estate Under Judicial √ √ NIT 5--‐ 32%
Settlement
Irrevocable Trust √ √ NIT 5--‐ 32%
Co-­‐ownership √ √ NIT 5--‐ 32%

Taxable Income 4. Passive Income not subject to final tax


5. Other Income
The term taxable income means the pertinent items of gross
income specified in the NIRC, less the deductions and/or Nonresident Alien Engaged in Trade or Business within the
personal and additional exemptions, if any, authorized for Philippines (NRA-­‐ETB)
such types of income by the NIRC or other special laws.
A nonresident alien individual who shall come to the
Tax rates applicable to individuals Philippines and stay therein for an aggregate period of more
than one hundred eighty (180) days during any calendar year
1. Graduated Rates (5-­‐32%) -­‐ applies to: shall be deemed a 'nonresident alien doing business in the
a. Resident citizens (RC); Philippines.'
b. Non--‐ resident citizens (NRC) including OCW
c. Resident alien (RA) Consequently, he shall be subject to income tax on his income
d. Non--‐ resident alien engaged in trade or business (NRA- derived from sources from within the Philippines. [Sec. 25 (A)
-‐ EBT) (1), NIRC]. He is allowed to avail of the itemized deductions
2. Gross income Subject to final tax rate of 25% -­‐ applies including the personal and additional exemptions subject to
only to non--‐ resident alien engaged in trade or business (NRA--‐ the rule on reciprocity.
NETB)
3. Gross income Subject to final tax rate of 15% -­‐ applies COMPENSATION INCOME
to special alien individuals.
Included in compensation income:
Incomes subject to graduated rates:
1. Monetary compensation
1. Compensation Income: a. Regular salary/wage
a. Monetary Compensation: regular salary or wage, b. Separation pay/retirement benefit not otherwise
separation pay or retirement benefit not otherwise exempt
exempt, bonuses, 13th month pay and other benefits c. Bonuses, 13th month pay, and other benefits not
not exempt, director’s fees; exempt
b. Non--‐ monetary Compensation: fringe benefit not d. Director’s fees
subject to tax 2. Non--‐ monetary compensation
2. Business and Professional Income a. Fringe benefit not subject to tax
3. Capital Gains not subject to capital gains tax

UNIVERSITY OFSANTOTOMA S
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Law on Taxation
Excluded from compensation income Less: Basic Personal exemption (50,000)
Additional Exemption (25K x 4) (100,000)
1. Fringe benefit subject to tax
Premium payment on health
2. De minimis benefit
and/or Hospitalization insurance -‐ -‐ -‐ -‐ -‐ -‐ -‐ -‐ -‐ -‐ -‐
3. 13th month pay and other benefits and payments
- ‐ Net Compensation Income 150,000
specifically excluded from taxable compensation income
Add: Net business income 150,000
Taxable income subject to graduated rates P 300,000
Q: When are 13th month pay and other benefits taxable?
NOTE: Premium payment on health and/or hospitalization insurance
A: Under Sec. 32 B [7] e of the NIRC, 13th month pay and other cannot be availed of since the family gross income is more than
benefits are excluded from gross income provided that they do P250,000 for the taxable year.
not exceed P30,000. Any excess thereof is considered part of
the compensation income of an individual, hence, subject to Q: How much is his income tax payable?
income tax.
A: From the taxable income of P300,000, the applicable rate is:
Q: When are fringe benefits considered part of the
compensation income? Over P250,000 but not over P50,000+30% of the excess
P500,000 over P250,000
A: When fringe benefits are given to rank and file employees,
the value of such fringe benefits shall be considered as part of Thus, the income tax payable is:
the compensation income of such employees subject to tax. 250,000 P50,000
Excess over 250, 000 (50,000 x 30%) 15,000
Formula in determining taxable income INCOME TAX PAYABLE P65,000

Gross Compensation Income xxx Q: Assume that X is a non-­‐resident alien not engaged in
Less: Personal exemptions (xxx)
trade or business. He earned gross income in the amount
Premium payment on health
of P1.5 million from his one-­‐night concert in the
and/or Hospitalization insurance (xxx)
Net Compensation Income xxx Philippines. How much will he pay for his income tax?
Add: Net business income or xxx
Net professional income xxx A: X must pay P375,000 as income tax (1,500,000 x 25%). Since
Other income xxx X is a non--‐ resident alien not engaged in trade or business, his
Taxable income subject to graduated rates xxx gross income within the Philippines is subject to 25% final tax and
is not allowed any deductions.
Graduated rates applicable to the income of individuals
Special Aliens
INCOME BRACKET APPLICABLE TAX RATE
Not over P10,000 5% + --‐ Special aliens are individuals with Managerial/Highly
Over but not over 10% of the excess Technical Positions working in:
P500 +
P10,000 P30,000 over P10,000
Over but not over 15% of the excess 1. Offshore Banking Unit – Foreign Banks allowed to
P2,500 +
P30,000 P70,000 over P30,000 operate in the Philippines and conduct foreign currency
Over but not over 20% of the excess transactions.
P8,500 +
P70,000 P140,000 over P70,000 2. Multinational Corporation
Over but not over 25% of the excess 3. Contractor or Semi--‐ contractor where the Philippines is a
P22,500 +
P140,000 P250,000 over P140,000 signatory on
Over but not over 30% of the excess a) Oil
P50,000 +
P250,000 P500,000 over P250,000 b) Gas
Over P500,000 P125,000 + 32% c) Energy
(Sec. 24 A [2], NIRC)
NOTE: When a special alien leases a property, he shall be taxed under
Q: Assuming X, a resident citizen, married and has 4 NRAEBT and NRANEBT depending on the number of stay because the
15% applies only to his compensation income.
qualified dependents. In 2009, he earned a monthly
compensation income of P25,000. In addition to his Special aliens are not required to submit ITR because the obligation to file
compensation income, he earned P150, 000 as net income income ITR rests upon his employer.
from his retail business. How much is his taxable income
for the year 2009? Two instances where alternative taxation may be applied

A: X’s taxable income for the year 2009 is P300,000 1. Filipino considered as special alien
computed as follows: 2. When a taxpayer’s capital asset is sold to the
Government (Involuntary Sale or Expropriation).
Gross Income (P25,000 x 12) P 300,000

UNIVERSITYOFSANTOTOMAS 92
2014GOLDENNOTES
INCOME TAXATION
Alternative taxation for Filipino considered as special alien Definition of managerial employees, supervisory
employees and rank-­‐and-­‐file employees
When a Filipino is considered as a special alien because he is
employed and occupying the same position as those of aliens Managerial employees refer to those who are given powers or
employed by multinational companies, he may: prerogatives to lay down and execute management policies
1. Avail of the 15% tax rate without deduction (GIT), or; and/or to hire, transfer, suspend, lay--‐ off, recall, discharge, assign
2. Apply the 5--‐ 32% tax rate with deduction (NIT) or discipline employees.

Fringe benefit Supervisory employees are those who effectively recommend


such managerial actions if the exercise of such authority is not
Fringe benefit is any good, service or other benefit furnished merely routinary or clerical in nature but requires the use of
or granted by an employer in cash or in kind in addition to basic independent judgment.
salaries, to an individual employee, excepta rank and file
employee, such as but not limited to: (HEV-­‐HIM-­‐HEEL) Rank--‐ and--‐ file employees are employees who are holding neither
1. Housing managerial nor supervisory position.
2. Expense account
3. Vehicle of any kind Q: Are salaries and wages of managerial or supervisory
4. Household personnel such as maid, driver and others employee subject to FBT?
5. Interest on loans at less than market rate to the extent of the
difference between the market rate and the actual rate A: No, basic salary is excluded because it is part of the
granted compensation income.
6. Membership fees, dues and other expenses borne by the
employer for the employee in social and athletic clubs or NOTE: Under Sec. 32 B [7] e of the NIRC, 13thmonth pay and other benefits
other similar organizations are excluded from gross income provided that they do not exceed P30,000.
7. Holiday and vacation expenses Any excess thereof is considered part of the compensation income of
8. Expenses for foreign travel an individual.
9. Educational assistance to the employee or his
The purpose behind FBT
dependents
10. Life or health insurance and other non--‐ life insurance
premiums or similar amounts in excess of what the law The FBT is a measure to ensure that an income tax is paid on
allows(Sec. 33 [B], NIRC; Sec. 2.33 [B], RR 3-­‐98). fringe benefits (FBs). If they were given in cash, an income is
automatically withheld and collected by the government. An
Nature of a fringe benefit tax (FBT) additional compensaton which is given in non--‐ cash form is
virtually untaxed. This situation has caused inequity in the
distribution of the tax burden. The FBT can enhance the
Fringe benefit tax is a final withholding tax imposed on the grossed--‐
progressiveness and fairness of the tax system (Dimaampao,
up monetary value (GMV) of fringe benefit furnished,
Basic Approach to Income Taxation).
granted or paid by the employer to the employee, except rank
and file employees (Sec. 2.33 [A], RR 3-­‐98).
Person required to pay the FBT(2003 Bar Question)
It is a tax imposed on fringe benefits which are granted or are
It is the employer who is legally required to pay an income tax on
paid by an employer to an employee occupying a managerial
the fringe benefit. The fringe benefit tax is imposed as a final
or supervisory position(Dimaampao, Basic Approach to
withholding tax placingthe legal obligation to remit the tax on the
Income Taxation).
employer, such that, if the tax is not paid the legal recourse of
the BIR is to go after the employer. Any amount or value received
Tax treatment for fringe benefits
by the employee as a fringe benefit is considered tax paid hence,
net of the income tax due thereon. The person who is legally
If the benefit is not tax--‐ exempt and the recipient is:
required to pay (same as statutory incidence as distinguished
from economic incidence) is that person who, in case of non--‐
1. A rank and file employee – the value of such fringe
payment, can be legally demanded to pay the tax.
benefit shall be considered as part of the compensation
income of such employee subject to tax payable by the
Q: Why is the FBT collected from the employer?
employee.
2. A managerial or supervisory employee– the value shall
A: Valuation of benefits is easier at the level of the firm. The
not be included in the compensation income of such
problem of allocating the benefits among individual employees is
employee subject to tax. The fringe benefit tax is
avoided. Collection of the FBT is also ensured because the FBT is
payable by the employer on behalf of the
withheld at the source and does not depend on the self--‐
employee(Sec. 33, NIRC).
declaration of the individual (Dimaampao, Basic Approach
to Income Taxation).

UNIVERSITY OFSANTOTOMA S
93 F A C U L TY O F C I V I L L A W
Law on Taxation
FBT as a deductible expense 4. De minimis benefits, whether given to rank and file
employees or to supervisory or managerial employees
FBT is not an additional tax on the employer. Rather, the 5. Fringe benefits granted to employee as required by the
employer can claim the fringe benefit and the FBT as a nature of, or necessary to the trade, business or
deductible expense from his gross income. profession of the employer.
6. Fringe benefits granted for the convenience of the
Notable distinctions between compensation income and employer (Employer’s Convenience Rule) (Sec. 32,
fringe benefit NIRC; Sec. 2.33 [C], RR 3-­‐98)

COMPENSATION NOTE: Although a fringe benefit may be exempted from the FBT, it may still
FRINGE BENEFIT fall under a different tax under another law, such as the compensation
INCOME
income tax or the like.
As part of gross Part of the gross GR: Not reported as
income of an income of an part of the gross
De minimis benefits
employee employee income of an
employee.
Theseare facilities or privileges furnished or offered by an
employer to his employees that are of relatively small value
XPN:Fringe benefits
and are offered or furnished by the employer merely as a means of
given to a rank--‐
promoting the health, goodwill, contentment and efficiency of his
and--‐ file employee
employees.
are included in his
gross income
De minimis fringe benefits and their respective ceiling
As to who is Employee liable The employer is amounts
liable to pay the to pay the tax on liable to pay the
tax his income fringe benefits tax As per RR 5-­‐2011, as amended by RR 8-­‐2012, de minimis
earned. which, in turn, can
benefits include:
NOTE: The person be deducted as
who is legally business expense.
required to pay Monetized unused Qualify:
(same as statutory vacation leave credits of 1. Private employees:
NOTE: The FBT shall
incidence as be treated as a final employees a. Vacation leave -
distinguished from tax on the employee -‐ exempt up to 10 days
economic which shall be b. Sick leave – always
incidence) is that withheld and paid by taxable
person who, in the employer on a 2. Government employees:
case of non-­‐ calendar quarterly Vacation and sick leave
payment, can be basis. (Sec. 2.33 [A],
legally demanded are always tax exempt
RR 3-­‐98) Fringe
to pay the tax. regardless of the number
benefits tax is
deductible from the of days.
gross income of the Medical cash allowance Not exceeding P750 per
employer. to dependents of semester or P125 per month
As to treatment Subject to Subject to final employees
creditable withholding tax Rice subsidy P1,500 or one sack of 50--‐ kg
withholding tax rice per month amounting to not
– the employer more than P1,500
withholds the Uniforms and clothing Not exceeding P5,000 per
tax upon the allowances annum (RR 8-­‐2012)
payment of the Actual medical Not exceeding P10,000 per
compensation assistance, e.g. medical annum
income. allowance to cover
medical and heathcare
Fringe benefits that are exempt from fringe benefits tax needs, annual
medical/executive check
1. Fringe benefits which are authorized and exempted from up, maternity assistance,
tax under the NIRC or special laws. (E.g. Separation and routine
benefits which are given to employees who are consultations
involuntarily separated from work) Laundry allowance Not exceeding P300 per
2. Contributions of the employer for the benefit of the month
employee to retirement, insurance and hospitalization benefit Employee achievement In the form of tangible personal
plans. awards under an property other than cash or gift
3. Benefits given to the rank and file employees, whether established written plan certificate with an annual
granted under a collective bargaining agreement or not. which does not monetary value not exceeding
discriminate in favor of P10,000
highly paid employees

UNIVERSITYOFSANTOTOMAS 94
2014GOLDENNOTES
INCOME TAXATION
(e.g. for length of service Q: X was hired by Y to watch over Y’s fishponds with a
or safety achievement) salary of P10,000. To enable him to perform his duties
Gifts given during Not exceeding P5,000 per well, he was also provided a small hut, which he could use
Christmas and major employee per annum as his residence in the fishponds. Is the fair market value
anniversary celebrations of the use of the small hut by X a “fringe benefit” that is
Daily meal allowance for Not exceeding 25% of the subject to the 32% tax imposed by Sec. 33 of the NIRC?
overtime work basic minimum wage on a per (2001 Bar Question)
region basis
A: No, X is neither a managerial nor a supervisory employee.
NOTE: All other benefits given by employers, which are not included Only managerial or supervisory employees are entitled to a
in the above enumeration shall NOT be considered as de minimis benefits, fringe benefit subject to the FBT. Even assuming that he is a
and hence, shall be subject to Income Tax as well as to withholding tax on managerial or supervisory employee, the small hut is provided
compensation income. The benefits provided in the Regulations shall for the convenience of the employer, hence does not
apply to income earned starting the year 2011 (R.R. No. 5-­‐2011
constitute a taxable fringe benefit (Sec. 33, NIRC).
issued March 16, 2011).

Housing privilege subject to FBT


De minimis benefits in excess of respective ceilings

1. Employer leases residential property for use of the


The amount of benefits exceeding their respective ceilings shall be
employee;
considered as part of “other benefits” under Sec. 32 B [7] e of the
2. Employer owns a residential property and assigns the same
NIRC.
for the use by the employee;
3. Employer purchases a residential property on
Convenience of the Employer Rule
installment basis and allows use by the employee;
4. Employee purchases a residential property and
An exemption from taxation is granted to benefits which are
transfers ownership to the employee;
given to the employee for the exclusive benefit or
5. The employee provides a monthly fixed amount for the
convenience of the employer.
employee to pay his landlord.
Benefits which are considered necessary to the business
Housing privileges exempted from FBT
of the employer or are granted for the convenience of the
employer
1. Housing privilege of military officials of the Armed Forces
of the Philippines consisting of officials of the Philippine
1. Housing privilege of military officials of the Armed Forces
Army, Philippine Navy, and Philippine Air Force(Sec. 2.33
of the Philippines consisting of officials of the Philippine
D [1] f, NIRC).
Army, Philippine Navy, and Philippine Air Force.
2. A housing unit which is situated inside or adjacent to the
NOTE: Benefit to said officials shall not be treated as taxable fringe
premises of a business of factory. A housing unit is benefit in accordance with the existing doctrine that the State shall
considered adjacent to the premises if it is located within provide its soldier with necessary quarters which are within or
the maximum 50 meters from the perimeter of the business accessible from the military camp so that they can readily be on call
premises. to meet the exigencies of their military service.
3. Temporary housing for an employee who stays in a
housing unit for 3 months or less. 2. A housing unit which is situated inside or adjacent to the
4. The use of aircraft (including helicopters) owned and premises of a business or factory.
maintained by the employer.
5. Reasonable business expenses which are paid for by the NOTE: A housing unit is considered adjacent to the premises if it is
employer for the foreign travel of his employee for the located within the maximum 50 meters from the perimeter of
the business premises.
purpose of attending business or conventions.
6. A scholarship grant to the employee by the employer if the
3. Temporary housing for an employee who stays in a
education or study involved is directly connected with
housing unit for three (3) months or less (Sec. 2.33 D [1] g,
the employer’s trade, business or profession, and there RR 3-­‐98).
is a written contract between them that the employee is
under obligation to remain in the employ of the employer for
Expenses treated as taxable fringe benefits
period of time that they have mutually agreed upon.
7. Cost of premiums borne by the employer for the group
1. Expenses incurred by the employee but which are paid
insurance of his employees.
by hisemployer;
8. Expenses of the employee which are reimbursed if they
2. Expenses paid for by the employee but reimbursed by his
are supported by receipts in the name of the employer
employer
and do not partake the nature of a personal expense of the
3. Personal expenses of the employee (like purchases of
employee
groceries for the personal consumption of the employee
9. Motor vehicles used for sales, freight, delivery service and
and his family members, salaries of household
other non--‐ personal uses. (RR 3-­‐98)
personnel, etc.) paid for or reimbursed by

UNIVERSITY OFSANTOTOMA S
95 F A C U L TY O F C I V I L L A W
Law on Taxation
the employer to the employee, whether or not the same 2. Liquidated or substantiated by receipts or other
are duly receipted for in the name of the employer. adequate documentation(Sec. 2.33 D [7] c, RR 3-­‐98).
4. Membership fees, dues, and other expenses borne by the
employer for his employee, in social and athletic clubs or Educational assistance to the employee or dependents
other similar organizations shall be treated as taxable fringe
benefits of the employee in full. GR: The cost of the educational assistance to the employee which
is borne by the employer shall be treated as taxable fringe benefit.
Expenses NOT treated as taxable fringe benefits
XPN: A scholarship grant shall not be treated as taxable fringe
1. Expendituresincurred by the employee and paid by his benefit if:
employer but are duly receipted for and in the name of the 1. Education/study is directly connected with employer’s trade,
employer and the such do not partake the nature of a business or profession; and
personal expense attributable to the said employee. 2. There is written contract that the employee shall remain
2. Expenditurespaid for by the employee and reimbursed by his employed with the employer for a period of time mutually
employer but are duly receipted for and in the name of the agreed upon by the parties.
employer and such do not partake the nature of a personal 3. The educational assistance extended to the dependents
expense attributable to the said employee. of the employee was provided through a competitive scheme.
3. Representation and transportation allowances which are (Sec. 2.33 D [9] b, RR 3-­‐98)
fixed in amounts and are regularly received by the
employees as part of their monthly compensation Life or health insurance
income .
GR: The cost of life or health Insurance and other non--‐ life
Motor vehicle subject to FBT insurance premiums borne by the employer are taxable fringe
benefits.
A motor vehicle shall be subjected to fringe benefits tax
whenever theemployer: XPNs:
1. Purchases vehicle in employee’s name 1. Contributions of the employer for the benefit of
2. Provides employee cash for vehicle purchase employee to the SSS, GSIS, or similar contributions
3. Purchases car on installment in name of employee arising from provisions of any existing law.
4. Shoulders a portion of purchase price 2. The cost of premiums borne by the employer for the group
5. Owns and maintains a fleet of motor vehicle for use of of insurance of employees. (Sec 2.33 [D] 10, RR 3-­‐98)
business and employees
6. Leases and maintains a fleet of motor vehicles for the use of Stock Options
the business and employees
The difference between the fair market value and the
XPN: The use of aircraft (including helicopters) owned and exercise price at the time of exercise of stock options are subject
maintained by the employer shall be treated as business use to FBT.
and not be subject to the fringe benefits tax.
NOTE: Employees receive stock options as part of their payment for the
Interest on loan at less than market rate services they rendered to their employer, which entitles them to buy their
employer’s shares of stock at an agreed price.
If the employer lends money to his employees free of interest
or at a rate lower than 12%, such interest foregone by the employer Grossed-­‐up Monetary Value (GMV)
or the difference of the interest assumed by the employee and
the rate of 12% shall be treated as fringe benefit. Grossed--‐ up monetary value represents the whole amount of
income realized by the employee which includes the net amount of
The rule shall apply to installment payments or loans with interest money or net monetary value of property which has been
rate lower than 12%. (Sec. 2.33 D [5], RR 3-­‐98) received plus the amount of fringe benefit tax thereon otherwise
due from the employee but paid by the employer for and in behalf
Expenses for foreign travel of his employee (Sec. 2.33, RR 3-­‐98).

GR: Fixed and variable transportation, representation and other Computing for the GMV
allowances are subject to FBT.
It shall be determined by dividing the monetary value of the
XPN: If incurred or reasonably expected to be incurred by fringe benefit by the grossed--‐ up divisor. The grossed--‐ up divisor
employee in the performance of his duties subject to the is the difference between 100% and the applicable individual
following conditions: tax rates. Thus:
1. Ordinary and necessary in the pursuit of employer’s
business and paid or incurred by employee; and

UNIVERSITYOFSANTOTOMAS 96
2014GOLDENNOTES
INCOME TAXATION

GROSSED Computing for the amount subject to fringe benefit tax


FBT
EMPLOYEE -­ ‐U P
RATE
DIVISOR In general, the computation of the fringe benefits tax would entail:
1. Valuation of the benefit granted; and
Citizen, RA, NRA-­‐EBT 68% 32%
2. Determination of the proportion or percentage of the benefit
NRA-­‐NEBT 75% 25% which is subject to the FBT.
Alien individual employed by:
a. Regional or area head Valuation of fringe benefits
quarters of a multinational
company or by regional A: If the fringe benefit is granted or furnished in:
operating headquarters of a 1. Money, or is directly paid for by the employer – the
multinational company; value is the amount granted or paid.
b. Offshore Banking Unit of a 2. Property other than money and ownership is
foreign bank established in the transferred to the employee – the value of the fringe
Philippines; benefit shall be equal to the fair market value of the
c. Foreign service contractor or 85% 15% property as determined in accordance with the
foreign service sub--‐ authority of the Commissioner to prescribe real
contractor engaged in property values (zonal valuation.)
petroleum operations in the 3. Property other than money BUT ownership is NOT
Philippines; transferred to the employee – the value of the fringe
Any of their Filipino individual benefit is equal to the depreciation value of the property. (Sec
employees who are employed and 2