CIR v.

ISABELA CULTURAL CORP

Facts:
Isabela Cultural Corporation (ICC), a domestic corporation received
an assessment notice for deficiency income tax and expanded
withholding tax from BIR. It arose from the disallowance of ICCs
claimed expense for professional and security services paid by ICC; as
well as the alleged understatement of interest income on the three
promissory notes due from Realty Investment Inc. The deficiency
expanded withholding tax was allegedly due to the failure of ICC to
withhold 1% e-withholding tax on its claimed deduction for security
services.
ICC sought a reconsideration of the assessments. Having received a
final notice of assessment, it brought the case to CTA, which held that
it is unappealable, since the final notice is not a decision. CTAs ruling
was reversed by CA, which was sustained by SC, and case was
remanded to CTA. CTA rendered a decision in favor of ICC. It ruled
that the deductions for professional and security services were
properly claimed, it said that even if services were rendered in 1984 or
1985, the amount is not yet determined at that time. Hence it is a
proper deduction in 1986. It likewise found that it is the BIR which
overstate the interest income, when it applied compounding absent any
stipulation.
Petitioner appealed to CA, which affirmed CTA, hence the petition.
Issue:
Whether or not the expenses for professional and security services are
deductible.
Held:
No. One of the requisites for the deductibility of ordinary and
necessary expenses is that it must have been paid or incurred during

the taxable year. This requisite is dependent on the method of

accounting of the taxpayer. In the case at bar, ICC is using the accrual
method of accounting. Hence, under this method, an expense is
recognized when it is incurred. Under a Revenue Audit Memorandum,
when the method of accounting is accrual, expenses not being claimed
as deductions by a taxpayer in the current year when they are incurred
cannot be claimed in the succeeding year.
The accrual of income and expense is permitted when the all-events
test has been met. This test requires: 1) fixing of a right to income or
liability to pay; and 2) the availability of the reasonable accurate
determination of such income or liability. The test does not demand
that the amount of income or liability be known absolutely, only that a
taxpayer has at its disposal the information necessary to compute the
amount with reasonable accuracy.
From the nature of the claimed deductions and the span of time during
which the firm was retained, ICC can be expected to have reasonably
known the retainer fees charged by the firm. They cannot give as an
excuse the delayed billing, since it could have inquired into the amount
of their obligation and reasonably determine the amount.

CIR v. GENERAL FOODS

Facts:
Respondent Corporation General Foods (Phils), which is engaged in
the manufacture of Tang, Calumet and Kool-Aid, filed its
income tax return for the fiscal year ending February 1985 and
claimed as deduction, among other business expenses, P9, 461,246 for
media advertising for Tang.
The Commissioner disallowed 50% of the deduction claimed and
assessed deficiency income taxes of P2,635,141.42 against General
Foods, prompting the latter to file an MR which was denied.
General Foods later on filed a petition for review at CA, which
reversed and set aside an earlier decision by CTA dismissing the
companys appeal.

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

Held:
No. Tax exemptions must be construed in stricissimi juris against the
taxpayer and liberally in favor of the taxing authority, and he who

claims an exemption must be able to justify his claim by the clearest

grant of organic or statute law. Deductions for income taxes partake of
the nature of tax exemptions; hence, if tax exemptions are strictly
construed, then deductions must also be strictly construed.
To be deductible from gross income, the subject advertising expense
must comply with the following requisites: (a) the expense must be
ordinary and necessary; (b) it must have been paid or incurred during
the taxable year; (c) it must have been paid or incurred in carrying on
the trade or business of the taxpayer; and (d) it must be supported by
receipts, records or other pertinent papers.
While the subject advertising expense was paid or incurred within the
corresponding taxable year and was incurred in carrying on a trade or
business, hence necessary, the parties views conflict as to whether or
not it was ordinary. To be deductible, an advertising expense should
not only be necessary but also ordinary.
The Commissioner maintains that the subject advertising expense was
not ordinary on the ground that it failed the two conditions set by U.S.
jurisprudence: first, reasonableness of the amount incurred and
second, the amount incurred must not be a capital outlay to create
goodwill for the product and/or private respondents business.
Otherwise, the expense must be considered a capital expenditure to be
spread out over a reasonable time.

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

reasonableness of an advertising expense. There being no hard and fast
rule on the matter, the right to a deduction depends on a number of
factors such as but not limited to: the type and size of business in
which the taxpayer is engaged; the volume and amount of its net
earnings; the nature of the expenditure itself; the intention of the
taxpayer and the general economic conditions. It is the interplay of
these, among other factors and properly weighed, that will yield a
proper evaluation.
The Court finds the subject expense for the advertisement of a single
product to be inordinately large. Therefore, even if it is necessary, it
cannot be considered an ordinary expense deductible under then
Section 29 (a) (1) (A) of the NIRC.
Advertising is generally of two kinds: (1) advertising to stimulate
the current sale of merchandise or use of services and (2) advertising
designed to stimulate the future sale of merchandise or use of services.
The second type involves expenditures incurred, in whole or in part, to
create or maintain some form of goodwill for the taxpayers trade or
business or for the industry or profession of which the taxpayer is a
member. If the expenditures are for the advertising of the first kind,
then, except as to the question of the reasonableness of amount, there
is no doubt such expenditures are deductible as business expenses. If,
however, the expenditures are for advertising of the second kind, then
normally they should be spread out over a reasonable period of time.

The companys media advertising expense for the promotion of a

single product is doubtlessly unreasonable considering it comprises
almost one-half of the companys entire claim for marketing expenses
for that year under review.

Petition granted, judgment reversed and set aside.

Petitioner acquired a parcel of land in Muntinlupa Rizal as site for its

fishing net factory. The transaction was entered in the books of the
Fish Nets Division. The company then found another parcel of land in
Marikina Heights, which was more suitable. They then sold the
Muntinlupa property and the profit derived from the sale was entered
in the books of the Fish Nets Division as miscellaneous income to
separate it from its tax exempt income.
For 1957, petitioner filed 2 separate ITRs (one for Fish Nets and one
for Furniture). After investigation, BIR examiners found that the Fish
Nets Div deducted from its gross income PhP 61k as additional
remuneration paid to the companys officers. Such amount was taken
from the sale of the land and was reported as part of the selling
expenses. The examiners recommended that such deduction be
disallowed. Petitioner then asserted in its letter that it should be
allowed because it was paid as bonus to its officers pursuant to Sec.3
of its by-laws: From the net profits shall be deducted for allowance of
the Pres. - 3%, VP - 1%, members of the Board - 10%.

AGUINALDO INDUSTRIES CORP v. CIR

Facts:
Aguinaldo Industries is engaged in the manufacture of fishing nets (a
tax exempt industry), which is handled by its Fish Nets Division. It is
also engaged in the manufacture of furniture which is operated by its
Furniture Division. Each division is provided with separate books of
accounts. The income from the Fish Nets Division, miscellaneous
income of the Fish Nets Division, and and the income from the
Furniture Division are computed individually.

CTA imposed a 5% surcharge and 1% monthly interest for the

deficiency assessment. Petitioner then stressed that the profit derived
from the sale of the land is not taxable because the Fish Nets Div
enjoys tax exemption under RA 901.
Issues:
Whether the bonus given to the officers of the petitioner upon the sale
of its Muntinlupa land is an ordinary and necessary business expense
deductible for income tax purposes
Held:
YES. These extraordinary and unusual amounts paid by petitioner to
these directors in the guise and form of compensation for their
supposed services as such, without any relation to the measure of their
actual services, cannot be regarded as ordinary and necessary expenses
within the meaning of the law. This posture is in line with the doctrine

in the law of taxation that the taxpayer must show that its claimed
deductions clearly come within the language of the law since
allowances, like exemptions, are matters of legislative grace.
Moreover, petitioner cannot now claim that the profit from the sale is
tax exempt. At the administrative level, the petitioner implicitly
admitted that the profit it derived from the sale of its Muntinlupa land,
a capital asset, was a taxable gain which was precisely the reason
why for tax purposes the petitioner deducted therefrom the questioned
bonus to its corporate officers as a supposed item of expense incurred
for the sale of the said land, apart from the P51, 723.72 commission
paid by the petitioner to the real estate agent who indeed effected the
sale. The BIR therefore had no occasion to pass upon the issue.
To allow a litigant to assume a different posture when he comes before
the court and challenge the position he had accepted at the
administrative level, would be to sanction a procedure whereby the
court which is supposed to review administrative determinations
would not review, but determine and decide for the first time, a
question not raised at the administrative forum. The requirement of
prior exhaustion of administrative remedies gives administrative
authorities the prior opportunity to decide controversies within its
competence, and in much the same way that, on the judicial level,
issues not raised in the lower court cannot be raised for the first time
on appeal. Up to the time the questioned decision of the respondent
Court was rendered, the petitioner had always implicitly admitted that
the disputed capital gain was taxable, although subject to the deduction
of the bonus paid to its corporate officers. It was only after the said
decision had been rendered and on a motion for reconsideration
thereof, that the issue of tax exemption was raised by the petitioner for
the first time. It was thus not one of the issues raised by petitioner in
his petition and supporting memorandum in the CTA.

reconsideration and cancellation, thus the CIR conducted a

reinvestigation of the case.
On October 1962, the Secretary of Finance ruled that the exemption
provided in RA 909 embraces all new mines and old mines whether
gold or other minerals. Accordingly, the CIR recomputed Atlas
deficiency income tax liabilities in the light of said ruling. On June
1964, the CIR issued a revised assessment entirely eliminating the
assessment for the year 1957. The assessment for 1958 was reduced
from which Atlas appealed to the CTA, assailing the disallowance of
the following items claimed as deductible from its gross income for
1958: Transfer agent's fee, Stockholders relation service fee, U.S.
stock listing expenses, Suit expenses, and Provision for contingencies.
The CTA allowed said items as deduction except those denominated
by Atlas as stockholders relation service fee and suit expenses.
Both parties appealed the CTA decision to the SC by way of two (2)
separate petitions for review. Atlas appealed only the disallowance of
the deduction from gross income of the so-called stockholders relation
service fee.

ATLAS CONSOLIDATED MINING v. CIR

FACTS:
Atlas is a corporation engaged in the mining industry registered. On
August 1962, CIR assessed against Atlas for deficiency income taxes
for the years 1957 and 1958. For the year 1957, it was the opinion of
the CIR that Atlas is not entitled to exemption from the income tax
under RA 909 because same covers only gold mines. For the year
1958, the deficiency income tax covers the disallowance of items
claimed by Atlas as deductible from gross income. Atlas protested for

ISSUE: WON the annual public relations expense (aka stockholders

relation service fee) paid to a public relations consultant is a deductible
expense from gross income
RATIO:
Section 30 (a) (1) of the Tax Code allows a deduction of "all the
ordinary and necessary expenses paid or incurred during the taxable
year in carrying on any trade or business." An item of expenditure, in
order to be deductible under this section of the statute, must fall
squarely within its language. To be deductible as a business expense,
three conditions are imposed, namely: (1) the expense must be
ordinary and necessary, (2) it must be paid or incurred within the
taxable year, and (3) it must be paid or incurred in carrying in a trade

or business. In addition, not only must the taxpayer meet the business
test, he must substantially prove by evidence or records the deductions
claimed under the law, otherwise, the same will be disallowed. The
mere allegation of the taxpayer that an item of expense is ordinary and
necessary does not justify its deduction.
The SC has never attempted to define with precision the terms
"ordinary and necessary." As a guiding principle, ordinarily, an
expense will be considered "necessary" where the expenditure is
appropriate and helpful in the development of the taxpayer's business.
It is "ordinary" when it connotes a payment which is normal in relation
to the business of the taxpayer and the surrounding circumstances. The
term "ordinary" does not require that the payments be habitual or
normal in the sense that the same taxpayer will have to make them
often; the payment may be unique or non-recurring to the particular
taxpayer affected.
There is thus no hard and fast rule on the matter. The right to a
deduction depends in each case on the particular facts and the relation
of the payment to the type of business in which the taxpayer is
engaged. The intention of the taxpayer often may be the controlling
fact in making the determination. Assuming that the expenditure is
ordinary and necessary in the operation of the taxpayer's business, the
answer to the question as to whether the expenditure is an allowable
deduction as a business expense must be determined from the nature of
the expenditure itself, which in turn depends on the extent and
permanency of the work accomplished by the expenditure.
It appears that on December 1957, Atlas increased its capital stock. It
claimed that its shares of stock were sold in the United States because
of the services rendered by the public relations firm. The information
about Atlas given out and played up in the mass communication media
resulted in full subscription of the additional shares issued by Atlas;
consequently, the stockholders relation service fee, the compensation

for services carrying on the selling campaign, was in effect spent for
the acquisition of additional capital, ergo, a capital expenditure, and
not an ordinary expense. It is not deductible from Atlas gross income
in 1958 because expenses relating to recapitalization and
reorganization of the corporation, the cost of obtaining stock
subscription, promotion expenses, and commission or fees paid for the
sale of stock reorganization are capital expenditures. That the expense
in question was incurred to create a favorable image of the corporation
in order to gain or maintain the publics and its stockholders'
patronage, does not make it deductible as business expense. As held in
a US case, efforts to establish reputation are akin to acquisition of
capital assets and, therefore, expenses related thereto are not business
expense but capital expenditures.
Note: The burden of proof that the expenses incurred are ordinary and
necessary is on the taxpayer and does not rest upon the Government.
To avail of the claimed deduction, it is incumbent upon the taxpayer to
adduce substantial evidence to establish a reasonably proximate
relation petition between the expenses to the ordinary conduct of the
business of the taxpayer. A logical link or nexus between the expense
and the taxpayer's business must be established by the taxpayer.

Zamora appealed, alleging that the CTA erred in disallowing

P10,478.50, as promotion expenses incurred by his wife for the
promotion of the Bay View Hotel and Farmacia Zamora (which is of
P20,957.00, supposed business expenses).
Zamora alleged that the CTA erred in disallowing P10, 478.50 as
promotion expenses incurred by his wife for the promotion of the Bay
View Hotel and Farmacia Zamora. He contends that the whole amount
of P20, 957.00 as promotion expenses, should be allowed and not
merely one-half of it, on the ground that, while not all the itemized
expenses are supported by receipts, the absence of some supporting
receipts has been sufficiently and satisfactorily established.
ISSUE:
WON CTA erred in allowing only one half of the promotion expenses.
NO

ZAMORA v CIR
FACTS:
Mariano Zamora, owner of the Bay View Hotel and Farmacia Zamora,
filed his income tax returns. The CIR found that he failed to file his
return of the capital gains derived from the sale of certain real
properties and claimed deductions which were not allowable. The
collector required him to pay deficiency income tax. On appeal by
Zamora, the CTA reduced the amount of deficiency income tax.

HELD:
Section 30, of the Tax Code, provides that in computing net income,
and there shall be allowed as deductions all the ordinary and necessary
expenses paid or incurred during the taxable year, in carrying on any
trade or business. Since promotion expenses constitute one of the
deductions in conducting a business, same must satisfy these
requirements. Claim for the deduction of promotion expenses or
entertainment expenses must also be substantiated or supported by
record showing in detail the amount and nature of the expenses
incurred.
Considering, as heretofore stated, that the application of Mrs. Zamora
for dollar allocation shows that she went abroad on a combined
medical and business trip, not all of her expenses came under the
category of ordinary and necessary expenses; part thereof constituted
her personal expenses. There having been no means by which to

ascertain which expense was incurred by her in connection with the

business of Mariano Zamora and which was incurred for her personal
benefit, the Collector and the CTA in their decisions, considered 50%
of the said amount of P20,957.00 as business expenses and the other
50%, as her personal expenses. We hold that said allocation is very fair
to Mariano Zamora, there having been no receipt whatsoever,
submitted to explain the alleged business expenses, or proof of the
connection which said expenses had to the business or the
reasonableness of the said amount of P20,957.00.
In the case of Visayan Cebu Terminal Co., Inc. v. CIR., it was declared
that representation expenses fall under the category of business
expenses which are allowable deductions from gross income, if
they meet the conditions prescribed by law, particularly section 30
(a) [1], of the Tax Code; that to be deductible, said business
expenses must be ordinary and necessary expenses paid or
incurred in carrying on any trade or business; that those expenses
must also meet the further test of reasonableness in amount. They
should also be covered by supporting papers; in the absence
thereof the amount properly deductible as representation expenses
should be determined from available data.

C.M. HOSKINS&CO, INC. v CIR

Facts:
Petitioner, a domestic corporation engaged in the real estate business
as brokers, managing agents and administrators, filed its income tax
return for its fiscal year ending September 30, 1957 showing a net
income of P92,540.25 and a tax liability due thereon of P18,508.00,
which it paid in due course. Upon verification of its return, CIR,

disallowed four items of deduction in petitioner's tax returns and

assessed against it an income tax deficiency in the amount of
P28,054.00 plus interests. The Court of Tax Appeals upon reviewing
the assessment at the taxpayer's petition, upheld respondent's
disallowance of the principal item of petitioner's having paid to Mr. C.
M. Hoskins, its founder and controlling stockholder the amount of
P99,977.91 representing 50% of supervision fees earned by it and set
aside respondent's disallowance of three other minor items.
Petitioner questions in this appeal the Tax Court's findings that the
disallowed payment to Hoskins was an inordinately large one, which
bore a close relationship to the recipient's dominant stockholdings and
therefore amounted in law to a distribution of its earnings and profits.
Issue: Whether the 50% supervision fee paid to Hoskin may be
deductible for income tax purposes.
Ruling: NO. Hoskin owns 99.6% of the CM Hoskins & Co. He was
also the President and Chairman of the Board. That as chairman of the
Board of Directors, he received a salary of P3,750.00 a month, plus a
salary bonus of about P40,000.00 a year and an amounting to an
annual compensation of P45,000.00 and an annual salary bonus of
P40,000.00, plus free use of the company car and receipt of other
similar allowances and benefits, the Tax Court correctly ruled that the
payment by petitioner to Hoskins of the additional sum of P99,977.91
as his equal or 50% share of the 8% supervision fees received by
petitioner as managing agents of the real estate, subdivision projects of
Paradise Farms, Inc. and Realty Investments, Inc. was inordinately
large and could not be accorded the treatment of ordinary and
necessary expenses allowed as deductible items within the purview
of the Tax Code.
The fact that such payment was authorized by a standing resolution of
petitioner's board of directors, since "Hoskins had personally

conceived and planned the project" cannot change the picture. There
could be no question that as Chairman of the board and practically an
absolutely controlling stockholder of petitioner, Hoskins wielded
tremendous power and influence in the formulation and making of the
company's policies and decisions. Even just as board chairman, going
by petitioner's own enumeration of the powers of the office, Hoskins,
could exercise great power and influence within the corporation, such
as directing the policy of the corporation, delegating powers to the
president and advising the corporation in determining executive
salaries, bonus plans and pensions, dividend policies, etc.
It is a general rule that 'Bonuses to employees made in good faith and
as additional compensation for the services actually rendered by the
employees are deductible, provided such payments, when added to the
stipulated salaries, do not exceed a reasonable compensation for the
services rendered. The conditions precedent to the deduction of
bonuses to employees are: (1) the payment of the bonuses is in fact
compensation; (2) it must be for personal services actually rendered;
and (3) the bonuses, when added to the salaries, are reasonable when
measured by the amount and quality of the services performed with
relation to the business of the particular taxpayer.
There is no fixed test for determining the reasonableness of a given
bonus as compensation. This depends upon many factors, one of them
being the amount and quality of the services performed with relation to
the business.' Other tests suggested are: payment must be 'made in
good faith'; 'the character of the taxpayer's business, the volume and
amount of its net earnings, its locality, the type and extent of the
services rendered, the salary policy of the corporation'; 'the size of the
particular business'; 'the employees' qualifications and contributions to
the business venture'; and 'general economic conditions. However, 'in
determining whether the particular salary or compensation payment is
reasonable, the situation must be considered as whole. Ordinarily, no
single factor is decisive. . . . it is important to keep in mind that it

seldom happens that the application of one test can give satisfactory
answer, and that ordinarily it is the interplay of several factors,
properly weighted for the particular case, which must furnish the final
answer."
Petitioner's case fails to pass the test. On the right of the employer as
against respondent Commissioner to fix the compensation of its
officers and employees, we there held further that while the employer's
right may be conceded, the question of the allowance or disallowance
thereof as deductible expenses for income tax purposes is subject to
determination by CIR. As far as petitioner's contention that as
employer it has the right to fix the compensation of its officers and
employees and that it was in the exercise of such right that it deemed
proper to pay the bonuses in question, all that We need say is this: that
right may be conceded, but for income tax purposes the employer
cannot legally claim such bonuses as deductible expenses unless they
are shown to be reasonable. To hold otherwise would open the gate of
rampant tax evasion.
Lastly, we must not lose sight of the fact that the question of allowing
or disallowing as deductible expenses the amounts paid to corporate
officers by way of bonus is determined by respondent exclusively for
income tax purposes. Concededly, he has no authority to fix the
amounts to be paid to corporate officers by way of basic salary, bonus
or additional remuneration a matter that lies more or less
exclusively within the sound discretion of the corporation itself. But
this right of the corporation is, of course, not absolute. It cannot
exercise it for the purpose of evading payment of taxes legitimately
due to the State."

and wrestling exhibition held by petitioner Calanoc on 03 Dec 1949 at

the Rizal Memorial Stadium.
Social Welfare Commission (SCW) issued a solicitation permit,
authorizing Calanoc (petitioner) to solicit and receive contributions for
the orphans and destitute children of the Child Welfare Workers Club
of the SCW. Such solicitation will be done through a boxing and
wrestling exhibition at the Rizal Memorial Stadium. Calanoc
financed and promoted the exhibition.
BEFORE the exhibition took place, Calanoc applied with the Collector
of Internal Revenue (CIR) for exemption from the payment of the
amusement tax, based on Sec 260 of the NIRC. CIR says that such
exemption will only be granted if Calanoc complies with the
requirements of the law.
AFTER the exhibition, CIR investigated the tax case of Calanoc. It
was shown that the gross sales amounted to ~26K, expenditures was
~25K, and net profit was only ~ 1K. Other items of expenditure
included: Police protection, Gifts & Parties & Items for representation.
Only the said net profit was remitted to the SCW for the said
charitable purpose for which the permit was issued. CIR assessed
amount against Calanoc. (Around~7K)

CALANOC v. CIR
Kind of tax involved: AMUSEMENT TAX:
FACTS:
This case is a petition to review CTA decision which affirmed the
assessment of CIR of amusement tax and surcharge against a boxing

Sec of Finance authorized the denial of the application for exemption

from payment of amusement tax where a) the net proceeds are not
substantial OR b) where the expenses are exorbitant.
ISSUE:
WON THE ASSESSMENT OF CIR IS VALID.
Petitioners argument:
Denied having received 1K as stadium fee. Such amount was not
included in the receipts; says he cannot be made to pay almost 7 times
the amount as amusement tax

HELD:
AMUSEMENT TAX IS VALID. You cannot pay for services that are
required by law to be performed by government officers. Also, the
expenditures are excessive!
Evidence showed that while Calanoc did not pay for the stadium fee,
said amount was paid by the O-SO Beverages directly to the stadium
for advertisement privileges during the exhibition.
Since the stadium fee was paid by the concessionaire, Calanoc had no
right to include the stadium fee among the items of his expenses. Such
amount was unaccounted, and it went into the petitioners pocket.
Also, Calanoc cannot justify the other expenses, such as
police protection and gifts. SC HELD that most of the items of
expenditures are either EXORBITANT or were NOT SUPPORTED
by receipts.
Payment for police protection given by Calanoc to the police is
ILLEGAL since it is a consideration given by the petitioner to the
police for the performance by the latter of functions required of them
to be rendered by law. The expenditures were rather EXCESSIVE,
considering that the purpose of the law was for a charitable cause.

KUENZLE & STREIF, INC. v CIR

FACTS:
Petitioner is a domestic corporation engaged in the importation of
textiles, hardware, sundries, chemicals, pharmaceuticals, lumbers,
groceries, wines and liquor; in insurance and lumber; and in some

exports. When Petitioner filed its Income Tax Return, it deducted from
its gross income the following items:
1. salaries, directors' fees and bonuses of its non-resident
president and vice-president;
2. bonuses of its resident officers and employees; and
3. Interests on earned but unpaid salaries and bonuses of its
officers and employees.
The CIR disallowed the deductions and assessed Petitioner for
deficiency income taxes. Petitioner requested for re-examination of the
assessment. CIR modified the same by allowing as deductible all items
comprising directors' fees and salaries of the non-resident president
and vice-president, but disallowing the bonuses insofar as they exceed
the salaries of the recipients, as well as the interests on earned but
unpaid salaries and bonuses.
The CTA modified the assessment and ruled that while the bonuses
given to the non-resident officers are reasonable, bonuses given to the
resident officers and employees are quite excessive.
ISSUES:
W/N the CTA erred in allowing the deduction of the bonuses in excess
of the yearly salaries of the employees?
RULING: NO. The deductible amount of said bonuses cannot be only
equal to their respective yearly salaries considering the post-war
policy of the corporation in giving salaries at low levels because of the
unsettled conditions resulting from war and the imposition of
government controls on imports and exports and on the use of foreign
exchange which resulted in the diminution of the amount of business
and the consequent loss of profits on the part of the corporation. The
payment of bonuses in amounts a little more than the yearly salaries
received considering the prevailing circumstances is in our opinion
reasonable.

Under the law, in order that interest may be deductible, it must be paid
"on indebtedness." It is therefore imperative to show that there is
an existing indebtedness which may be subjected to the payment of
interest. Here the items involved are unclaimed salaries and bonus
participation which cannot constitute indebtedness within the meaning
of the law because while they constitute an obligation on the part of
the corporation, it is not the latter's fault if they remained unclaimed.
Whatever an employee may fail to collect cannot be considered an
indebtedness for it is the concern of the employee to collect it in due
time. The willingness of the corporation to pay interest thereon cannot
be considered a justification to warrant deduction.

Picop claimed interest payments made in 1977, amounting to P42,

840,131.00, on these loans as a deduction from its 1977 gross income.
The CIR disallowed this deduction upon the ground that, because the
loans had been incurred for the purchase of machinery and equipment,
the interest payments on those loans should have been capitalized
instead and claimed as a depreciation deduction taking into account the
adjusted basis of the machinery and equipment (original acquisition
cost plus interest charges) over the useful life of such assets.
Both the CTA and the Court of Appeals sustained the position
of Picop and held that the interest deduction claimed by Picop was
proper and allowable. In the instant Petition, the CIR insists on its
original position.
ISSUE:
Whether Picop is entitled to deductions against income of interest
payments on loans for the purchase of machinery and equipment.

PAPER INDUSTRIES v CA (Dec. 1, 1995)

Facts:
On various years (1969, 1972 and 1977), Picop obtained loans from
foreign creditors in order to finance the purchase of machinery and
equipment needed for its operations. In its 1977 Income Tax Return,

HELD:
YES. Interest payments on loans incurred by a taxpayer (whether BOIregistered or not) are allowed by the NIRC as deductions against the
taxpayer's gross income. The basis is 1977 Tax Code Sec. 30 (b). Thus,
the general rule is that interest expenses are deductible against gross
income and this certainly includes interest paid under loans incurred in
connection with the carrying on of the business of the taxpayer. In the
instant case, the CIR does not dispute that the interest payments were
made by Picop on loans incurred in connection with the carrying on of
the registered operations of Picop, i.e., the financing of the purchase
of machinery and equipment actually used in the registered operations
of Picop. Neither does the CIR deny that such interest payments
were legally due and demandable under the terms of such loans, and in
fact paid by Picop during the tax year 1977.

497.50. After the filing of the gift tax returns on or about February 1,
1954, the petitioner Commissioner of Internal Revenue appraised the
real property donated for gift tax purposes at P1, 231,268.00, and
assessed the total sum of P117, 706.50 as donor's gift tax, interest and
compromises due thereon. Of the total sum of P117, 706.50 paid by
respondent on April 29, 1954, the sum of P55, 978.65 represents the
total interest on account of delinquency. This sum of P55, 978.65 was
claimed as deduction, among others, by respondent in her 1954 income
tax return. Petitioner, however, disallowed the claim and as a
consequence of such disallowance assessed respondent for 1954 the
total sum of P21, 410.38 as deficiency income tax due on the aforesaid
P55, 978.65, including interest up to March 31, 1957, surcharge and
compromise for the late payment.
Under the law, for interest to be deductible, it must be shown that there
be an indebtedness, that there should be interest upon it, and that what
is claimed as an interest deduction should have been paid or accrued
within the year. It is here conceded that the interest paid by respondent
was in consequence of the late payment of her donor's tax, and the
same was paid within the year it is sought to be declared.

CIR v VDA DE PRIETO

FACTS:
On December 4, 1945, the respondent conveyed by way of gifts to her
four children, namely, Antonio, Benito, Carmen and Mauro, all
surnamed Prieto, real property with a total assessed value of P892,

To sustain the proposition that the interest payment in question is not

deductible for the purpose of computing respondent's net income,
petitioner relies heavily on section 80 of Revenue Regulation No. 2
(known as Income Tax Regulation) promulgated by the Department of
Finance, which provides that "the word `taxes' means taxes proper and
no deductions should be allowed for amounts representing interest,
surcharge, or penalties incident to delinquency." The court below,
however, held section 80 as inapplicable to the instant case because
while it implements sections 30(c) of the Tax Code governing
deduction of taxes, the respondent taxpayer seeks to come under
section 30(b) of the same Code providing for deduction of interest on
indebtedness.

ISSUE:
Whether or not such interest was paid upon an indebtedness within the
contemplation of section 30 (b) (1) of the Tax Code.
RULING:
Yes. According to the Supreme Court, although interest payment for
delinquent taxes is not deductible as tax under Section 30(c) of the Tax
Code and section 80 of the Income Tax Regulations, the taxpayer is
not precluded thereby from claiming said interest payment as
deduction under section 30(b) of the same Code.
SEC. 30 Deductions from gross income. In computing net income
there shall be allowed as deductions
(b) Interest:
(1) In general. The amount of interest paid within the taxable year
on indebtedness, except on indebtedness incurred or continued to
purchase or carry obligations the interest upon which is exempt from
taxation as income under this Title.
The term "indebtedness" as used in the Tax Code of the United States
containing similar provisions as in the above-quoted section has been
defined as an unconditional and legally enforceable obligation for the
payment of money.
To give to the quoted portion of section 80 of our Income Tax
Regulations the meaning that the petitioner gives it would run counter
to the provision of section 30(b) of the Tax Code and the construction
given to it by courts in the United States. Such effect would thus make
the regulation invalid for a "regulation which operates to create a rule
out of harmony with the statute, is a mere nullity." As already stated,
section 80 implements only section 30(c) of the Tax Code, or the
provision allowing deduction of taxes, while herein respondent seeks
to be allowed deduction under section 30(b), which provides for
deduction of interest on indebtedness.

and have derived all their income from Philippine sources for the
taxable years in question. In compliance with Phil tax law, they filed
their income tax return for 1955 and 1956. In 1956, they filed an
amended income tax return claiming a tax deduction for federal
income taxes which they paid to the United States in the year 1955. In
1959, they likewise claimed a similar tax deduction for the 1956
return. Comm of IR failed to answer the claim for refund, thus they
filed
a
petition
with
the
Tax
Court.
Issue:
whether a US citizen residing in the Philippines who derives income
wholly from sources within the Republic of the Philippines, may
deduct from his gross income the income taxes he has paid to the US
government for the taxable year on the strength of sec 30 (c-1) of the
Phil Internal Revenue Code?
Held:

CIR v. Lednicky,
Facts:
The respondents, V.E. Lednicky and Maria Valero Lednicky, are
husband and wife, both American citizens residing in the Philippines,

The wording of Sec 30 shows the code's intent that the right to deduct
income taxes paid to foreign government from the taxpayer's gross
income is given only as an ALTERNATIVE to his right to claim a tax
credit for such foreign income taxes under Sec 30 so that unless the
alien resident has a right to claim such tax credit if he so chooses, he is
precluded from deducting the foreign income taxes from his gross
income. The law provides that the deduction shall be allowed if the
taxpayer in his return does not signify his desire to have the benefits of
tax credits for taxes paid to foreign countries. Thus, the statutes
assumes that the taxpayer in question may also signify his desire to
claim
a
tax
credit
and
waive
the
deduction.
No double credit (i.e, for claiming twice the benefits of his payment of
foreign taxes, by deduction from gross income and by tax credit) exists
here. This danger cannot exist if the taxpayer cannot claim benefit
under either of these headings at his option, so that he must be entitled

to a tax credit (respondent here are NOT entitled to tax credit because
all their income is derived from Phil sources), or the option to deduct
from
gross
income
disappears
altogether.
No double taxation exists. Double taxation becomes obnoxious only
when the taxpayer is taxed twice for the benefit of the same
governmental entity. In the present case, although the taxpayer would
have to pay two taxes on the same income but the Philippine
government only receives the proceeds of one tax, there is no
obnoxious double taxation.

PICOP v. CA

were legally due and demandable under the terms of such loans, and in
fact paid by Picop during the tax year 1977.

Facts:

The contention of CIR does not spring of the 1977 Tax Code
but from Revenue Regulations 2 Sec. 79. However, the Court said that
the term interest here should be construed as the so-called
"theoretical interest," that is to say, interest "calculated" or
computed (and not incurred or paid) for the purpose of determining
the "opportunity cost" of investing funds in a given business. Such
"theoretical" or imputed interest does not arise from a legally
demandable interest-bearing obligation incurred by the taxpayer
who however wishes to find out, e.g., whether he would have been
better off by lending out his funds and earning interest rather than
investing such funds in his business. One thing that Section 79 quoted
above makes clear is that interest which does constitute a charge
arising under an interest-bearing obligation is an allowable deduction
from gross income.

On various years (1969, 1972 and 1977), Picop obtained loans from
foreign creditors in order to finance the purchase of machinery and
equipment needed for its operations. In its 1977 Income Tax Return,
Picop claimed interest payments made in 1977, amounting to P42,
840,131.00, on these loans as a deduction from its 1977 gross income.
The CIR disallowed this deduction upon the ground that, because the
loans had been incurred for the purchase of machinery and equipment,
the interest payments on those loans should have been capitalized
instead and claimed as a depreciation deduction taking into account the
adjusted basis of the machinery and equipment (original acquisition
cost plus interest charges) over the useful life of such assets.
Both the CTA and the Court of Appeals sustained the position of Picop
and held that the interest deduction claimed by Picop was proper and
allowable. In the instant Petition, the CIR insists on its original
position.
ISSUE: Whether Picop is entitled to deductions against income of
interest payments on loans for the purchase of machinery and
equipment.
HELD:
YES. Interest payments on loans incurred by a taxpayer (whether BOIregistered or not) are allowed by the NIRC as deductions against the
taxpayer's gross income. The basis is 1977 Tax Code Sec. 30 (b). Thus,
the general rule is that interest expenses are deductible against gross
income and this certainly includes interest paid under loans incurred in
connection with the carrying on of the business of the taxpayer. In the
instant case, the CIR does not dispute that the interest payments were
made by Picop on loans incurred in connection with the carrying on of
the registered operations of Picop, i.e., the financing of the purchase
of machinery and equipment actually used in the registered operations
of Picop. Neither does the CIR deny that such interest payments

It is claimed by the CIR that Section 79 of Revenue Regulations No. 2

was "patterned after" paragraph 1.266-1 (b), entitled "Taxes and
Carrying Charges Chargeable to Capital Account and Treated as
Capital Items" of the U.S. Income Tax Regulations, which paragraph
reads as follows:
(B) Taxes and Carrying Charges. The items thus chargeable
to capital accounts are
(11) In the case of real property, whether improved or
unimproved and whether productive or nonproductive.
(a) Interest on a loan (but not theoretical interest of a taxpayer
using his own funds).
The truncated excerpt of the U.S. Income Tax Regulations quoted by
the CIR needs to be related to the relevant provisions of the U.S.
Internal Revenue Code, which provisions deal with the general topic
of adjusted basis for determining allowable gain or loss on sales or

exchanges of property and allowable depreciation and depletion of

capital assets of the taxpayer:
Present Rule. The Internal Revenue Code, and the
Regulations promulgated thereunder provide that "No
deduction shall be allowed for amounts paid or
accrued for such taxes and carrying charges as, under
regulations prescribed by the Secretary or his delegate,
are chargeable to capital account with respect to
property, if the taxpayer elects, in accordance with such
regulations, to treat such taxes orcharges as so
chargeable."
At the same time, under the adjustment of basis
provisions which have just been discussed, it is
provided that adjustment shall be made for all
"expenditures, receipts, losses, or other items" properly
chargeable to a capital account, thus including taxes and
carrying charges; however, an exception exists, in
which event such adjustment to the capital account is
not made, with respect to taxes and carrying charges
which the taxpayer has not elected to capitalize but for
which a deduction instead has been taken. 22 (Emphasis
supplied)
The "carrying charges" which may be capitalized under the
above quoted provisions of the U.S. Internal Revenue Code include, as
the CIR has pointed out, interest on a loan "(but not theoretical interest
of a taxpayer using his own funds)." What the CIR failed to point out
is that such "carrying charges" may, at the election of the
taxpayer, either be (a) capitalized in which case the cost basis of the
capital assets, e.g., machinery and equipment, will be adjusted by
adding the amount of such interest payments or alternatively, be (b)
deducted from gross income of the taxpayer. Should the taxpayer elect
to deduct the interest payments against its gross income, the taxpayer
cannot at the same time capitalize the interest payments. In other

words, the taxpayer is not entitled to both the deduction from gross
income and the adjusted (increased) basis for determining gain or loss
and the allowable depreciation charge. The U.S. Internal Revenue
Code does not prohibit the deduction of interest on a loan obtained for
purchasing machinery and equipment against gross income, unless the
taxpayer has also or previously capitalized the same interest
payments and thereby adjusted the cost basis of such assets.

PHILEX MINING v CIR

Held:

Facts:

No. For a deduction for bad debts to be allowed, all requisites must be
satisfied, to wit: (a) there was a valid and existing debt; (b) the debt
was ascertained to be worthless; and (c) it was charged off within the
taxable year when it was determined to be worthless.
There was no valid and existing debt. The nature of agreement
between Philex Mining and Baguio Gold is that of a partnership or
joint venture. Under a contract of partnership, two or more persons
bind themselves to contribute money, property, or industry to a
common fund, with the intention of dividing the profits among
themselves.
Perusal of the agreement denominated as the "Power of
Attorney" indicates that the parties had intended to create a partnership
and establish a common fund for the purpose. They also had a joint
interest in the profits of the business as shown by a 50-50 sharing in
the income of the mine.
Viewed from this light, the advances can be characterized as
petitioners investment in a partnership with Baguio Gold for the
development and exploitation of the Sto. Nino mine. Since the
advanced amount partook of the nature of an investment, it could not
be deducted as a bad debt from petitioner's gross income.

Philex Mining entered into a management agreement with Baguio

Gold. The parties' agreement was denominated as "Power of Attorney"
which provided among others:
a. Funds available for Philex Mining during the management
agreement; and
b. Compensation to Philex Mining which shall be fifty per
cent (50%) of the net profit;
In the course of managing and operating the project, Philex Mining
made advances of cash and property in accordance with the agreement.
However, the mine suffered continuing losses over the years which
resulted to petitioner's withdrawal as manager and cessation of mine
operations.
The parties executed a "Compromise with Dation in Payment" wherein
Baguio Gold admitted an indebtedness to Philex Mining, which was
subsequently amended to include additional obligations.
Subsequently, Philex Mining wrote off in its 1982 books of account
the remaining outstanding indebtedness of Baguio Gold by charging
P112,136,000.00 to allowances and reserves that were set up in 1981
and P2,860,768.00 to the 1982 operations.
In its 1982 annual income tax return, Philex Mining deducted from its
gross income the amount of P112, 136,000.00 as "loss on settlement of
receivables from Baguio Gold against reserves and allowances."
However, BIR disallowed the amount as deduction for bad debt and
assessed petitioner a deficiency income tax of P62, 811,161.39.
Issue:
Whether the deduction for bad debts was valid?

PHILIPPINE REFINING CO v CA
FACTS:
Philippine Refining Corp (PRC) was assessed deficiency tax payments
for the year 1985 in the amount of around 1.8M. This figure was
computed based on the disallowance of the claim of bad debts by PRC.
PRC duly protested the assessment claiming that under the law, bad
debts and interest expense are allowable deductions.
When the BIR subsequently garnished some of PRCs properties, the
latter considered the protest as being denied and filed an appeal to the
CTA which set aside the disallowance of the interest expense and
modified the disallowance of the bad debts by allowing 3 accounts to
be claimed as deductions. However, 13 supposed bad debts were
disallowed as the CTA claimed that these were not substantiated and
did not satisfy the jurisprudential requirement of worthlessness of a
debt The CA denied the petition for review.

ISSUE: Whether or not the CA was correct in disallowing the 13

accounts as bad debts.

RULING:
YES. Both the CTA and CA relied on the case of Collector vs.
Goodrich International, which laid down the requisites for
worthlessness of a debt to wit:
In said case, we held that for debts to be considered as "worthless,"
and thereby qualify as "bad debts" making them deductible, the
taxpayer should show that (1) there is a valid and subsisting debt.

(2) The debt must be actually ascertained to be worthless and

uncollectible during the taxable year; (3) the debt must be charged
off during the taxable year; and (4) the debt must arise from the
business or trade of the taxpayer. Additionally, before a debt can
be considered worthless, the taxpayer must also show that it is
indeed uncollectible even in the future.
Furthermore, there are steps outlined to be undertaken by the taxpayer
to prove that he exerted diligent efforts to collect the debts, viz.: (1)
sending of statement of accounts; (2) sending of collection letters;
(3) giving the account to a lawyer for collection; and (4) filing a
collection case in court.
PRC only used the testimony of its accountant Ms. Masagana in order
to prove that these accounts were bad debts. This was considered by all
3 courts to be self-serving. The SC said that PRC failed to exercise due
diligence in order to ascertain that these debts were uncollectible. In
fact, PRC did not even show the demand letters they allegedly gave to
some of their debtors.

FERNANDEZ HERMANOS v CIR

BASILAN ESTATES, INC. v. CIR

Facts:

Facts:

Fernandez Hermanos is an investment company. The CIR assessed it

for alleged deficiency income taxes. It claimed as deduction, among
others, losses in or bad debts of Palawan Manganese Mines Inc. which
the CIR disallowed and was sustained by the CTA.

Basilan Estates, Inc. claimed deductions for the depreciation of its

assets on the basis of their acquisition cost. As of January 1, 1950 it
changed the depreciable value of said assets by increasing it to
conform to the increase in cost for their replacement. Accordingly,
from 1950 to 1953 it deducted from gross income the value of
depreciation computed on the reappraised value.
CIR disallowed the deductions claimed by petitioner, consequently
assessing the latter of deficiency income taxes.

Issue: W/N disallowance is correct

Held: YES
It was shown that Palawan Manganese Mines sought financial help
from Fernandez to resume its mining operations hence a Memorandum
of Agreement (MOA) was executed where Fernandez would give
yearly advances to Palawan. But it still continued to suffer loses and
Fernandez realized it could no longer recover the advances hence
claimed it as worthless. Looking at the MOA, Fernandez did not
expect to be repaid. The consideration for the advances was 15% of the
net profits. If there were no earnings or profits there was no obligation
to repay. Voluntary advances without expectation of repayment do not
result in deductible losses. Fernandez cannot even sue for recovery as
the obligation to repay will only arise if there was net profits. No bad
debt could arise where there is no valid and subsisting debt.
Even assuming that there was valid or subsisting debt, the debt was not
deductible in 1951 as a worthless debt as Palawan was still in
operation in 1951 and 1952 as Fernandez continued to give advances
in those years. It has been held that if the debtor corporation although
losing money or insolvent was still operating at the end of the taxable
year, the debt is not considered worthless and therefore not deductible.

Issue:
Whether or not the depreciation shall be determined on the acquisition
cost rather than the reappraised value of the assets
Held:
Yes. The following tax law provision allows a deduction from gross
income for depreciation but limits the recovery to the capital invested
in the asset being depreciated:
(1)In general. A reasonable allowance for deterioration of property
arising out of its use or employment in the business or trade, or out of
its not being used: Provided, that when the allowance authorized under
this subsection shall equal the capital invested by the taxpayer . . . no
further allowance shall be made. . . .
The income tax law does not authorize the depreciation of an asset
beyond its acquisition cost. Hence, a deduction over and above such
cost cannot be claimed and allowed. The reason is that deductions
from gross income are privileges, not matters of right. They are not
created by implication but upon clear expression in the law [Gutierrez
v. Collector of Internal Revenue, L-19537, May 20, 1965].

Depreciation is the gradual diminution in the useful value of tangible

property resulting from wear and tear and normal obsolescence. It
commences with the acquisition of the property and its owner is not
bound to see his property gradually waste, without making provision
out of earnings for its replacement.
The recovery, free of income tax, of an amount more than the invested
capital in an asset will transgress the underlying purpose of a
depreciation allowance. For then what the taxpayer would recover will
be, not only the acquisition cost, but also some profit. Recovery in due
time thru depreciation of investment made is the philosophy behind
depreciation allowance; the idea of profit on the investment made has
never been the underlying reason for the allowance of a deduction for
depreciation.

LIMPAN INVESTMENT v CIR

constructively received said rents. The non-collection was the

petitioners fault since it refused to accept the rent, and not due to nonpayment of lessees. Hence, although the corporation did not actually
receive the rent, it is deemed to have constructively received them

FACTS:
BIR assessed deficiency taxes on Limpan Corp, a company that leases
real property, for under declaring its rental income for years 1956-57
by around P20K and P81K respectively. Petitioner appeals on the
ground that portions of these under declared rents are yet to be
collected by the previous owners and turned over or received by the
corporation. Petitioner cited that some rents were deposited with the
court, such that the corporation does not have actual nor constructive
control over them. The sole witness for the petitioner, Solis (Corporate
Secretary-Treasurer) admitted to some undeclared rents in 1956
and1957, and that some balances were not collected by the corporation
in 1956 because the lessees refused to recognize and pay rent to the
new owners and that the corporations president Isabelo Lim collected
some rent and reported it in his personal income statement, but did not
turn over the rent to the corporation. He also cites lack of actual or
constructive control over rents deposited with the court.
ISSUE:
WON the BIR was correct in assessing deficiency
against Limpan Corp. for undeclared rental income

taxes

HELD:
Yes. Petitioner admitted that it indeed had undeclared income
(although only a part and not the full amount assessed by BIR). Thus,
it has become incumbent upon them to prove their excuses by clear
and convincing evidence, which it has failed to do.
With regard to 1957 rents deposited with the court, and withdrawn
only in 1958, the court viewed the corporation as having

CONSOLIDATED MINES v. CTA

Facts:
The Company, a domestic corporation engaged in mining, had filed its
income tax returns for 1951, 1952, 1953 and 1956. In 1957 examiners
of the BIR investigated the income tax returns filed by the Company
because its auditor, Felipe Ollada, claimed for a refund representing
alleged overpayments of income taxes for the year 1951. After the
investigation the examiners reported that (A) for the years 1951 to
1954 (1) the Company had not accrued as an expense the share in the
company profits of Benguet Consolidated Mines as operator of the
Company's mines, although for income tax purposes the Company had
reported income and expenses on the accrual basis; (2) depletion and
depreciation expenses had been overcharged; and (3) the claims for
audit and legal fees and miscellaneous expenses for 1953 and 1954
had not been properly substantiated; and that (B) for the year 1956 (1)
the Company had overstated its claim for depletion; and (2) certain
claims for miscellaneous expenses were not duly supported by
evidence.
In view of said reports the Commissioner of Internal Revenue sent the
Company a letter of demand requiring it to pay certain deficiency
income taxes for the years 1951 to 1954, inclusive, and for the year
1956. Deficiency income tax assessment notices for said years were
also sent to the Company. The Company requested a reconsideration of
the assessment, but the Commissioner refused to reconsider, hence the
Company appealed to the Court of Tax Appeals. CTA rendered
judgment ordering the Company to pay for the deficiency income
taxes for the years 1953, 1954 and 1956, respectively.
However, upon motion of the Company, the CTA reconsidered its
decision and further reduced the deficiency income tax liabilities of the
Company for the years 1953, 1954 and 1956, respectively.

Both the Company and the Commissioner appealed to this Court. The
Company questions the rate of mine depletion adopted by the Court of
Tax Appeals and the disallowance of depreciation charges and certain
miscellaneous.
Issue: Whether the Court of Tax Appeals erred with respect to the rate
of mine depletion.

Held:
The Tax Code provides that in computing net income there shall be
allowed as deduction, in the case of mines, a reasonable allowance for
depletion thereof not to exceed the market value in the mine of the
product thereof which has been mined and sold during the year for
which the return is made [Sec. 30(g) (1) (B)].
The formula for computing the rate of depletion is:
Cost
of
Mine
Property
---------------------- = Rate of Depletion per Unit Estimated ore Deposit
of Product Mined and sold.
The Commissioner and the Company do not agree as to the figures
corresponding to either factor that affects the rate of depletion per unit.
They agree, however, that the "cost of the mine property" consists of
(1) mine cost; and (2) expenses of development before production.
As an income tax concept, depletion is wholly a creation of the statute
"solely a matter of legislative grace."
Hence, the taxpayer has the burden of justifying the allowance of any
deduction claimed. As in connection with all other tax controversies,
the burden of proof to show that a disallowance of depletion by the
Commissioner is incorrect or that an allowance made is inadequate is
upon the taxpayer, and this is true with respect to the value of the

property constituting the basis of the deduction. This burden-of-proof

rule has been frequently applied and a value claimed has been
disallowed for lack of evidence.
The Company's balance sheet for lists the "mine cost" of P2,500,000
as "development cost" and the amount of P1,738,974.37 as "suspense
account (mining properties subject to war losses)." The Company
claims that its accountant, Mr. Calpo, made these errors, because he
was then new at the job. Granting that was what had happened, it does
not affect the fact that the, evidence on hand is insufficient to prove the
cost of development alleged by the Company. Nor can we rely on the
statements of Eligio S. Garcia, who was the Company's treasurer and
assistant secretary at the time he testified on August 14, 1959. He
admitted that he did not know how the figure P4,238,974.57 was
arrived at, explaining: "I only know that it is the figure appearing on
the balance sheet as of December 31, 1946 as certified by the
Company's auditors; and this we made as the basis of the valuation of
the depletable value of the mines."
We, therefore, have to rely on the Commissioner's assertion that the
"development cost" was P131, 878.44, broken down as follows:
assessment, P34, 092.12; development, P61, 484.63; exploration, P13,
966.62; and diamond drilling, P22, 335.07.
The question as to which figure should properly correspond to "mine
cost" is one of fact. The findings of fact of the Tax Court, where
reasonably supported by evidence, are conclusive upon the Supreme
Court.

3M PHILIPPINES v CIR
Facts:
3M Philippines, Inc. is a subsidiary of the Minnesota Mining and
Manufacturing Company (or "3M-St. Paul") a non-resident foreign
corporation with principal office in St. Paul, Minnesota, U.S.A. It is
the exclusive importer, manufacturer, wholesaler, and distributor in the
Philippines of all products of 3M-St. Paul. To enable it to manufacture,
package, promote, market, sell and install the highly specialized
products of its parent company, and render the necessary post-sales
service and maintenance to its customers, 3M Phil entered into a
"Service Information and Technical Assistance Agreement" and a
"Patent and Trademark License Agreement" with the latter under
which the 3m Phils agreed to pay to 3M-St. Paul a technical service
fee of 3% and a royalty of 2% of its net sales. Both agreements were
submitted to, and approved by, the Central Bank of the Philippines.
The petitioner claimed the following deductions as business expenses:
(a) Royalties and technical service fees of P 3,050,646.00; and
(b) Pre-operational cost of tape coater of P97, 485.08.
As to (a), the Commissioner of Internal Revenue allowed a deduction
of P797, 046.09 only as technical service fee and royalty for locally
manufactured products, but disallowed the sum of P2, 323,599.02
alleged to have been paid by the petitioner to 3M-St. Paul as technical
service fee and royalty on P46, 471,998.00 worth of finished products
imported by the petitioner from the parent company, on the ground that
the fee and royalty should be based only on locally manufactured
goods. While as to (b), the CIR only allowed P19,544.77 or one-fifth
(1/5) of 3M Phils. capital expenditure of P97,046.09 for its tape coater
which was installed in 1973 because such expenditure should be
amortized for a period of five (5) years, hence, payment of the
disallowed balance of P77,740.38 should be spread over the next four

(4) years. The CIR ordered 3M Phil. to pay P840, 540 as deficiency
income tax on its 1974 return, plus P353,026.80 as 14% interest per
annum from February 15, 1975 to February 15, 1976, or a total of
P1,193,566.80.
3M Phils protested the CIRs assessment but it did not answer the
protest, instead issuing a warrant of levy. The CTA affirmed the
assessment on appeal.
Issue:
Whether or not 3M Phils is entitled to the deductions due to royalties?
Ruling:
No. CB Circular No. 393 (Regulations Governing Royalties/Rentals)
dated December 7, 1973 was promulgated by the Central Bank as an
exchange control regulation to conserve foreign exchange and avoid
unnecessary drain on the country's international reserves (69 O.G. No.
51, pp. 11737-38). Section 3-C of the circular provides that royalties
shall be paid only on commodities manufactured by the licensee under
the royalty agreement:
Section 3. Requirements for Approval and Registration. The
requirements for approval and registration as provided for in Section 2
above include, but are not limited to the following:
c. The royalty/rental contracts involving manufacturing'
royalty, e.g., actual transfers of technological services such
as secret formula/processes, technical know-how and the
like shall not exceed five (5) per cent of the wholesale price
of the commodity/ties manufactured under the royalty
agreement. For contracts involving 'marketing' services
such as the use of foreign brands or trade names or
trademarks, the royalty/rental rate shall not exceed two (2)
per cent of the wholesale price of the commodity/ties

manufactured under the royalty agreement. The producer's

or foreign licensor's share in the proceeds from the
distribution/exhibition of the films shall not exceed sixty
(60) per cent of the net proceeds (gross proceeds less local
expenses) from the exhibition/distribution of the films. ...
Clearly, no royalty is payable on the wholesale price of finished
products imported by the licensee from the licensor. However,
petitioner argues that the law applicable to its case is only Section
29(a)(1) of the Tax Code which provides:
(a) Expenses. (1) Business expenses. (A) In general. All
ordinary and necessary expenses paid or incurred during the
taxable year in carrying on any trade or business, including a
reasonable allowance for salaries or other compensation for
personal services actually rendered; travelling expenses while
away from home in the pursuit of a trade, profession or
business, rentals or other payments required to be made as a
condition to the continued use or possession, for the purpose of
the trade, profession or business, for property to which the
taxpayer has not taken or is not taking title or in which he has
no equity.
Petitioner points out that the Central bank "has no say in the
assessment and collection of internal revenue taxes as such power is
lodged in the Bureau of Internal Revenue," that the Tax Code "never
mentions Circular 393 and there is no law or regulation governing
deduction of business expenses that refers to said circular."
The argument is specious, for, although the Tax Code allows payments
of royalty to be deducted from gross income as business expenses, it is
CB Circular No. 393 that defines what royalty payments are proper.
Hence, improper payments of royalty are not deductible as legitimate
business expenses.

ESSO STANDARD v CIR

FACTS:
ESSO deducted from its gross income, as part of its ordinary and
necessary business expenses, the amount it had spent for drilling and
exploration of its petroleum concessions. This claim was disallowed
by the CIR on the ground that the expenses should be capitalized and
might be written off as a loss only when a "dry hole" should result.
ESSO then filed an amended return and claimed as ordinary and
necessary expenses margin fees it had paid to the Central Bank on its
profit remittances to its New York head office. The CIR disallowed the
claimed deduction for the margin fees paid. CIR assessed ESSO a
deficiency income tax which arose from the disallowance of the
margin fees.
ESSO paid under protest and claimed for a refund. CIR denied the
claims for refund, holding that the margin fees paid to the Central
Bank could not be considered taxes or allowed as deductible business
expenses.
ISSUES:
1. WON margin fee is a tax and should be deductible from
ESSOs gross income. NO
2. If margin fees are not taxes, w/n they should nevertheless be
considered necessary and ordinary business expenses and
therefore still deductible from its gross income. NO.
HELD:
1. NO. A margin is not a tax but an exaction designed to curb the
excessive demands upon our international reserves. The margin fee
was imposed by the State in the exercise of its police power and
not the power of taxation.

2. NO.
To be deductible as a business expense, three conditions are imposed,
namely:
(1) The expense must be ordinary and necessary,
(2) It must be paid or incurred within the taxable year, and
(3) It must be paid or incurred in carrying on a trade or business.
In addition, not only must the taxpayer meet the business test, he must
substantially prove by evidence or records the deductions claimed
under the law, otherwise, the same will be disallowed. The mere
allegation of the taxpayer that an item of expense is ordinary and
necessary does not justify its deduction.
Ordinarily, an expense will be considered 'necessary' where the
expenditure is appropriate and helpful in the development of the
taxpayer's business. It is 'ordinary' when it connotes a payment which
is normal in relation to the business of the taxpayer and the
surrounding circumstances. The term 'ordinary' does not require that
the payments be habitual or normal in the sense that the same taxpayer
will have to make them often; the payment may be unique or nonrecurring to the particular taxpayer affected. There is thus no hard and
fast rule on the matter. The right to a deduction depends in each case
on the particular facts and the relation of the payment to the type of
business in which the taxpayer is engaged. The intention of the
taxpayer often may be the controlling fact in making the
determination. Assuming that the expenditure is ordinary and
necessary in the operation of the taxpayer's business, the answer to the
question as to whether the expenditure is an allowable deduction as a
business expense must be determined from the nature of the
expenditure itself, which in turn depends on the extent and
permanency of the work accomplished by the expenditure.

Since the margin fees in question were incurred for the remittance of
funds to petitioner's Head Office in New York, which is a separate and
distinct income taxpayer from the branch in the Philippines, for its
disposal abroad, it can never be said therefore that the margin fees
were appropriate and helpful in the development of petitioner's
business in the Philippines exclusively. ESSO has not shown that the
remittance to the head office of part of its profits was made in
furtherance of its own trade or business and therefore cannot be
claimed as an ordinary and necessary expense paid or incurred in
carrying on its own trade or business.