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INCOME TAXATION
A. Income taxation
1. Income tax systems
a) Global tax system

All income received by the taxpayer are grouped together, without any distinction as to the type
or nature of the income, and after deducting therefrom expenses and other allowable
deductions, are subjected to tax at a fixed rate.

-it is a tax system whereby gross compensation income is aggregated (globalized) with the net
income from business, trade or profession to arrive at the global taxable income ( after
allowable exemption) which taxable aggregate income is then subjected to a unitary
progressive graduated rates of 0% to 32%.

-corporate taxpayer adopts the global system of taxation. There is no classification of income
from different sources with certain exceptions. All income of corporate taxpayer are globalized
and tax at 32%.

Global treatment is a system where the tax treatment views indifferently the tax base
and generally treats in common all categories of taxable income of the taxpayer. (TAN v.
DEL ROSARIO, JR. 237 SCRA 324)

b) Schedular tax system


Schedular approach is a system employed where the income tax treatment varies
and made to depend on the kind or category of taxable income of the taxpayer. (TAN v.
DEL ROSARIO, JR. 237 SCRA 324)

The various types or items of income are classified accordingly and are accorded different tax
treatments, in accordance with schedules characterized by graduated tax rates. Since these
types of income are treated separately, the allowable deductions shall likewise vary for each
type of income.

- a system employed where the income tax treatment varies and is made to depend on the kind
or category of taxable income of the taxpayer.

-the system that itemizes the different oncom and provide for varied percentages of tax, to be
applied thereto. It has different rates.

* individual taxpayer fallows the scheduler tax system because their income from different
sources are classified into compensation income, business income, passive income, capital gain
derived from sale of shares of stock or sale of real property. These incomes are categorized and
treated differently.

Schedular system vs. Global system

There are different tax rates

There is a single tax rate


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There are different categories of taxable income

There is no need for classification as all taxpayers are subjected to a single tax rate.

Usually used in the income taxation of individuals

Usually applied to corporations.

c) Semi-schedular or semi-global tax system

A system where the compensation, business or professional income, capital gain and passive
income not subject to final tax, and other income are added together to arrive at the gross
income, and after deducting the sum of allowable deductions from business or professional
income, capital gain and passive income not subject to final tax, and other income, in the case
of corporations, as well as personal and additional exemptions, in the case of individual
taxpayers, the taxable income is subjected to one set of graduated tax rates; method of
taxation under the law.

2. Features of the Philippine income tax law


i. Direct tax
ii. Progressive
iii. Comprehensive

Direct tax One assessed upon the property, person, business income, etc. of those who pay
them.

Progressive The tax rates increase as the tax base increases. Tax laws provide for graduated
rates of income.In certain cases, however, final taxes are imposed on passive income.

Semi-schedular or semi-global tax system

The Philippine Income tax law adopted the so-called “comprehensive tax situs” –
Comprehensive comprehensive in the sense that it practically applies all possible rules of tax
situs. Philippines uses all possible legal criteria in the determination of the tax base.

3. Criteria in imposing Philippine income tax


a. Citizenship principle

A citizen of the Philippines is subject to Philippine income tax

(a) on his worldwide income, if he resides in the Philippines, or


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(b) only on his income from sources within the Philippines, if he qualifies as nonresident citizen.

b. Residence principle

Residence Principle A resident alien is liable to pay income tax on his income from sources
within the Philippines but exempt from tax on his income from sources outside the Philippines.

- maintenance of residence here in the Philippines.

-Actual physical presence in the Philippines

Though there is an intention to return, if the Taxpayer temporarily resides in the Philippines on
an extended stay.

c. Source principle

Source Principle An alien is subject to Philippine income tax because he derives income from
sources within the Philippines. Thus, a nonresident alien is liable to pay Philippine income tax
on his income from sources within the Philippines despite the fact that he has not set foot in the
Philippines.

income is taxable depending on the nature of taxpayer.

A non-resident German citizen, president of a domestic corporation, filed a claim for refund
with the BIR, contending that her sales commission income is not taxable in the Philippines
because the same was a compensation for her services rendered in Germany and therefore
considered as income from sources outside the Philippines. While it is the rule that “source of
income” relates to the property, activity or service that produced the income, the documents
presented by respondent did not constitute substantial evidence that it was in Germany where
she performed the income-producing service and thus the tax refund should be denied.
(Commissioner of Internal Revenue vs. Juliane Baier-Nickel, G.R. No. 153793, August 29,
2006)

For the source of income to be considered as coming from the Philippines, it is sufficient that
the income is derived from activities within this country regardless of the absence of flight
operations within Philippine territory. Indeed, the sale of tickets is the very lifeblood of the
airline business, the generation of sales being the paramount objective. ( CIR v. Japan Air
Lines., G.R. No. 60714, March 6, 1991)
4. Types of Philippine income tax
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Presumptive Income Tax A scale of income taxes is imposed in relation to a group of


person’s actual expenditure and the presumed income.

Composite Tax A tax consisting of a series of separate quasi-personal taxes, assessed on the
particular source of income with a superimposed personal tax on the income as a whole.

Unitary Income Tax Incomes are arranged according to source. The separate items are
added together and the rate applied to the resulting total income.

5. Taxable period
a. Calendar period A period of twelve (12) months commencing from January 1 and
ending December 31.
b. Fiscal period - An accounting period of 12 months ending on the last day of any
month other than December.

c. Short period A period of less than twelve (12) months.

6. Kinds of taxpayers

a. Individual taxpayers
i. Citizens
(a) Resident citizens

Citizens of the Philippines who are residing therein.

(b) Non-resident citizens

1. A citizen of the Philippines who establishes to the satisfaction of the Commissioner of Internal
Revenue (CIR) the fact of his physical presence abroad with a definite intention to reside
therein.

2. A citizen of the Phils. who leaves the country during the taxable year to reside abroad, either
as immigrant or for employment or on permanent basis.

3. A citizen of the Phils. who works and derives from abroad and whose employment thereat
requires him to be physically present abroad most of the time during the taxable year.

4. A citizen who has been previously considered as non-resident citizen and who arrives in the
Phils. at any time during the taxable year to reside permanently in the country.

5. A citizen who shall have stayed outside the Phils. for 183 days or more by the end of the
year.
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Rev. Regulations. No. 9-73, November 26, 1973 - The continuity of residence abroad is not
essential. If physical presence is established, such physical presence for the calendar year is
not interrupted by reasons of travels to the Phils.

ii. Aliens
(a) Resident aliens
Those whose residence are within the Philippines but who are not citizens thereof.
“Resident aliens” are those who are actually present in the Phils. and who are not mere
transients or sojourners. For tax purposes a resident alien is:

1. An alien who lives in the Phils. with no definite intention to stay as a resident.

2. One who comes in the Phils. for definite purposes which in its very nature would require on
extended stay and to that end, makes his home temporarily in the Phils.

3. An alien who stay within the Phils. for more than 12 months from the date of his arrival in
the Phils.

Residence does not mean mere physical presence. What makes an alien resident or a non-
resident alien is his intention with regard to the length and nature of his stay.

(b)Non-resident aliens
Those not residing in the Phils. and who are not citizens thereof.

(i) Engaged in trade or business

The term denotes habituality or sustained activity and he is deemd as so engaged if he stays in
the Philippines for more than 180 days. (stay is aggregate)

(ii) Not engaged in trade or business

An alien who stays in the Philippines for 180 days or less.

A “non-resident alien” individual who came to the Phils. and stayed therein for an aggregate
period of more than 180 days during any calendar year shall be deemed a NRA doing business
in the Phils.

The term “engaged in trade / business” denotes habitually or sustained activity.

(c)Special class of individual employees


(i)Minimum wage earner

A worker in the private sector paid the statutory minimum wage, or to an employee in the
public sector with compensation income of not more than the statutory minimum wage in the
non-agricultural sector where he/she is assigned.
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By virtue of the passage of R.A. 9504, minimum wage earners are exempted from the payment
of the net income tax.

b. Corporations
i. Domestic corporations Created or organized in the Phils. or under its laws.

Section 1 of R.A. No. 9337, amending Section 27(c) of R.A. No. 8424, by excluding petitioner
from the enumeration of GOCCs exempted from corporate income tax, is valid and
constitutional. In addition, we hold that: 1)Petitioner’s tax privilege of paying five percent (5%)
franchise tax in lieu of all other taxes with respect to its income from gaming operations,
pursuant to P.D. 1869, as amended, is not repealed or amended by Section 1(c) of R.A. No.
9337; 2)Petitioner’s income from gaming operations is subject to the five percent (5%)
franchise tax only; and 3)Petitioner’s income from other related services is subject to corporate
income tax only. (PHILIPPINE AMUSEMENT AND GAMING CORPORATION vs. THE BUREAU OF
INTERNAL REVENUE, G.R. No. 215427, December 10, 2014)

ii. Foreign corporations Created, organized or existing under any laws other than those of
the Phils.

Marubeni Japan claimed a refund for excess taxes it had paid, contending that since it had a
Philippine branch, it is a resident foreign corporation liable to pay only 10% intercorporate final
tax on dividends received from a domestic corporation (and not to the branch profit remittance
tax) following the principal-agent theory. Marubeni Japan is considered a non-resident foreign
corporation as to the dividends because when the foreign corporation transacts business in the
Philippines independently of its branch, the principal-agent relationship is set aside. ( Marubeni
Corp. vs. Commissioner of Internal Revenue, et al., G.R. No. 76573, September 14, 1989)

BOAC is a resident foreign corporation because it maintained a general sales agent in the
Philippines. There is no specific criterion
as to what constitutes “doing” or “engaging in” or "transacting” business. The term implies a
continuity of commercial dealings and arrangements, and contemplates, to that extent, the
performance of acts or works or the exercise of some of the functions normally incident to,
and in progressive prosecution of commercial gain or for the purpose and object of the
business organization. In order that a foreign corporation may be regarded as doing business
within a State, there must be continuity of conduct and intention to establish a continuous
business, such as the appointment of a local agent, and not one of a temporary character.
(CIR vs BOAC, G.R. No. L-65773-74 April 30, 1987)

(a) Resident foreign corporations Engaged in trade or business within the Phils.
(b)Non-resident foreign corporations
Not engaged in trade or business within the Phils.
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Resident foreign corporations engaged in trade or business in the Philippines are taxed at the
same rates as domestic corporations.

A foreign corporation, whether engaged or not in trade or business in the Philippines, is taxable
on Philippine-sourced income at the same rates as domestic corporations. Such foreign
corporation engaged in trade or business in the Philippines (also called resident foreign
corporation) is taxed based on net income with the same option to pay 15% tax on gross
income. On the other hand, a foreign corporation not engaged in business or trade in the
Philippines (also known as a nonresident foreign corporation) is taxed based on gross income
received.

The corporation income tax rate is currently 30%.

iii. Joint venture and consortium

c. Partnerships
Partnership is a contract whereby 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. (NCC definition)

But under NIRC, partnerships among the entities subject to the tax on corporation
alludes to organizations which are not necessarily partnerships in the technical sense of the
term. The qualifying words “ no matter how created or organized” indicate that a joint venture
need not be undertaken in any of the standard forms or in conformity with the usual
requirements of the law on partnerships in order that one could be deemed so constituted for
purposes of tax on corp.

Joint accounts and associations without legal personality also included.also included

Pursuant to “reinsurance treaties,” a number of local insurance firms formed themselves into a
“pool” in order to facilitate the handling of business contracted with a nonresident foreign
reinsurance company. The insurance pool is deemed a partnership or association taxable as a
corporation under the NIRC because Section 24 (on tax on corporations) [now Sec. 27 of the
1997 NIRC] covered these unregistered partnerships and even associations or joint accounts,
which had no legal personalities apart from their individual members; moreover, the insurance
pool, though unregistered, satisfies the requisites of a partnership: (1) mutual contribution to
a common stock, and (2) joint interest in the profits. ( Afisco Insurance Corp., et al. vs. Court
of Appeals, et al., G.R. No. 112675, January 25, 1999 )

The original purpose of the co-owners of the two lots was to divide the lots for residential
purposes. If later on they found it not feasible to build their residences on the lots because of
the high cost of construction, then they had no choice but to resell the same to dissolve the
co-ownership. The division of the profit was merely incidental to the dissolution of the co-
ownership which was in the nature of things a temporary state. The sharing of gross returns
does not of itself establish a partnership, whether or not the persons sharing them have a joint
or common right or interest in any property ( Obillos Jr. vs CIR, G.R. No. L- 68118, October
29, 1985)
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d.General professional partnerships


Formed by persons for the role purpose of exercising their common profession, no part of the
income of which is derived from engaging in any trade & business.

e. Estates and trusts


Estate The mass of property, rights and obligations left behind by the decedent upon his death.

Trust An arrangement created by will or co-agreement under which title to property is passed
to another for conservation or investment with the income therefrom and ultimately the corpus
to be distributed in accordance with the directions of the creator as expressed in the governing
instrument.

f. Co-ownerships
It is created whenever the ownership of an undivided thing or right belongs to different
persons.

7. Income taxation
a. Definition A tax on all yearly profits arising from property, profession, trade or
business, or a tax on person’s income, emoluments, profits and the like.
b. Nature It is generally regarded as an excise tax. It is not levied upon persons,
property, funds or profits but on the privilege of receiving said income or profit.
c. General principles

1. A citizen of the Philippines residing therein is taxable on all income derived from sources
within and without the Philippines.

2. A non-resident citizen is taxable only on income derived from sources within the Philippines.

3. An individual citizen of the Philippines, who is working and deriving income from abroad as
an overseas contract worker, is taxable only on income derived from sources within the
Philippines. Provided, that a seaman who is a citizen of the Philippines 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 overseas contract worker.

4. An alien individual, whether or not a resident of the Philippines, is taxable only on income
derived from sources within the Philippines.

5. A domestic corporation is taxable on all income derived from sources within and without the
Philippines.

6. A foreign corporation, whether engaged or not in trade or business in the Philippines, is


taxable only on income derived from sources within the Philippines.

8. Income
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a. Definition

It means cash or its equivalent coming to a person within a specified period, whether as
payment for services, interest or profit from investment. It covers gain derived from capital,
from labor, or from both combined, including gain from sale or conversion of capital assets.

Capital Accumulated goods, possessions and assets used for the production of profits and
wealth. Owner’s equity in the business

INCOME vs. CAPITAL

Income as contrasted with the capital

1.The essential difference between capital and income is that capital is a fund while, income is
a flow;

2. Capital is wealth while, income is the service of wealth;

3. The fact is that property is the tree, income is the fruit; labor is the tree, income is the fruit;
capital is the tree, income is the fruit. (Madrigal vs. Rafferty 38 Phil 414)

b. Nature

All wealth which flows to the taxpayer other than a mere return of capital.

It is an amount of money coming to a person/corporation within a specified time, whether as


payment for services, interest or profit from investment.

Unless otherwise specified, it means cash or its equivalent. Income can also be thought of as a
flow of the fruits of one's labor.

It includes all gains or profit as well as gains from sale or transfer of property whether real or
personal, ordinary or capital asset;

Income includes earnings, lawfully or unlawfully acquired, without consensual

recognition, express or implied, of an obligation to repay and without restriction as their


disposition.

c. When income is taxable


i. Existence of income

There must be gain – a value received in the form of cash or its equivalent as a result of
rendition of service or earnings in excess of capital invested.

Gain is a sine qua non or an indispensable requisite to the existence of taxable income. If a
taxpayer receives no profit from his labor or transaction, then such condition will not give rise to
taxability of income.
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There must be a value received in the form of cash or its equivalent as a result of rendition of
service or earnings in excess of capital invested.

A mere expectation of profits is not an income

A transaction where- by nothing of exchangeable value comes to or is received by the taxpayer


does not give rise to or create taxable income.

Items or amounts received which do not add to the taxpayer’s net worth or redound to his
benefits such as amounts merely deposited or entrusted to him are not considered as gains
(CIR vs. Tours specialist, 183 SCRA 402).

Gain need not be necessarily in cash. It may be in form of payment, reduction or cancellation of
T’s indebtedness, or gain from exchange of property.

ii. Realization of income

(a)Tests of realization

Unless income is deemed realized, then there is no taxable income.

Revenue is generally recognized when both conditions are met: a. The earning process is
complete or virtually complete; and

b. An exchange has taken place.

(b) Actual vis-à-vis constructive receipt

b) Actual vis-à-vis Constructive receipt

Income may be actual receipt or physical receipt.

When money consideration or its equivalent is placed at the control of the person who

rendered the service without restriction by the payor.

Actual gain – gain must be realized and receive.


Constructive receipt – profit is set aside, declared
When an income is credited to the account of or set aside for, a taxpayer and which may be
drawn by him at any time, without any substantial limitation or condition upon which payment
is to be made.

GENERAL RULE: A mere increase in the value of property without actual realization, either
through sale or other disposition, is not taxable. The increase in value is a mere unrealized
increase in capital.
EXCEPT: ECONOMIC BENEFIT PRINCIPLE (BIR RULING NO. 029 – 98, MARCH 19, 1998)
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That even without the sale or other disposition if by reason of appraisal, the cost basis is used
as the new tax base for purposes of computing the allowable depreciation expense, the net
difference between the original cost basis and new basis due to appraisal is taxable.

An income is constructively received by a person when - it is credited to the amount of or


segregated in his favor and which maybe drawn by him at any time without any limitations e.
g.:

Interest credited on savings bank deposits

Dividends applied by the corporation against the indebtedness of stockholder

Share in the profit of a partner in General Professional Partnership

iii. Recognition of income

a. There is income, gain or profit

b. The income, gain or profit is received or realized during the taxable year

c. The income gain or profit is not exempt from income tax

Gains must not be excluded (sec 32b)

- any amount receive by an officer or employee or by his heirs from the employer as a
consequence of separation from service because of death, sickness or other physical disability
or for any other cause beyond his control.

The gain must not be exempted.

Property or money received by a taxpayer in which he has “no business transaction right to
retain, but a duty to return “To the one person from whom it was received is not considered as
income (e. g. payment by mistake). Reason: The receipt is offset by a liability to the party
making the excess payment. However, where the duty to return is unclear, the recipient may
be required to pay the tax.

iv. Methods of accounting


(a) Cash method vis-à-vis accrual method

Cash method Recognition of income and expense dependent on inflow or outflow of cash.

Accrual method Gains and profits are included in gross income when earned whether received
or not, and expenses are allowed as deductions when incurred, although not yet paid. It is the
right to receive and not the actual receipt that determines the inclusion of the amount in gross
income

The accrual method relies upon the taxpayer’s right to receive amounts or its obligation to pay
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them, in opposition to actual receipt or payment, which characterizes the cash method of
accounting. Amounts of income accrue where the right to receive them become fixed, where
there is created an enforceable liability. Similarly, liabilities are accrued when fixed and
determinable in amount, without regard to indeterminacy merely of time of payment. For a
taxpayer using the accrual method, the determinative question is, when do the facts present
themselves in such a manner that the taxpayer must recognize income or expense? 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. ( CIR vs Isabela Cultural Corp.,
GR 172231, February 12, 2007)
(b) Installment payment vis-à-vis deferred payment vis-à- vis percentage
completion (in long-term contracts)
Installment payment Appropriate when collections extend over relatively long periods of

time and there is a strong possibility that full collection will not be made.

Deferred payment Initial payments exceed 25% of the gross selling price and such transaction
shall be treated as cash sale which makes the entire selling price

taxable in the month of sale.

Percentage completion Persons whose gross income is derived from long-term contracts shall
report such income upon the basis of percentage of completion.

d. Tests in determining whether income is earned for tax purposes


i. Realization test
No taxable income until there is a separation from capital of something of exchangeable value,
thereby supplying the realization or transmutation which would result in the receipt of income.

as a capital or investment is not income subject to tax, the gain or profit derived from the
exchange or transaction of said capital by the taxpayer for his separate used benefit and
disposal is income subject to tax.

Under this doctrine, in order that income may exist, it is necessary that there be a separation
from capital of something of exchangeable value.

ii. Claim of right doctrine or doctrine of ownership, command, or control


A taxable gain is conditioned upon the presence of a claim of right to the alleged gain and the
absence of a definite unconditional obligation to return or repay.

The power to dispose of income is the equivalent of ownership of it. The exercise of that power
to procure the payment of income to another is the enjoyment and hence, the realization of the
income by him who exercises it. The dominant purpose of the revenue laws is the taxation of
income to those who earn or otherwise create the right to receive it and enjoy the benefit of it
when paid.
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-applicable only in those instances where money is taken, it does not involve the money or
other proceeds from embezzled or stolen personal or other property. Thus, proceeds of stolen
or embezzled property are taxable income, because even income from illegal sources is taxable.
Ownership thereof is not in issue; the culprit has an obligation to return the same.

iii. Economic benefit test, doctrine of proprietary interest


Income realized is taxable only to the extent that the taxpayer is economically benefited.

Any economic benefit to the employee that increases his net worth is taxable.

Economic benefit rule -That even without the sale or other disposition if by reason of
appraisal, the cost basis is used as the new tax base for purposes of computing the allowable
depreciation expense, the net difference between the original cost basis and new basis due to
appraisal is taxable.

An income is constructively received by a person when - it is credited to the amount of or


segregated in his favor and which maybe drawn by him at any time without any limitations e.
g.:

Interest credited on savings bank deposits dividends applied by the corporation against the
indebtedness of stockholder

Share in the profit of a partner in General Professional Partnership

iv. Severance test


There is no taxable income until there is a separation from capital of something which is of
exchangeable value thereby supplying the realization or transmutation which would result in
the receipt of income. Thus, income is not taxable unless separated or severed from the capital
or labor that bore it.

v. All events test


** - requires: Fixing a right to income or liability to pay and availability of reasonably accurate
determination of such income and liability

-amount received in advance are not treated as revenue of the period in which received
but as revenue of future periods in which earned.

9. Gross income
a. Definition

All income derived during a taxable year by a taxpayer from whatever source, whether legal or
illegal, including the following items:
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1. Gross income derived from the conduct of trade or business or the exercise of a profession.

2. Rents

3. Interests

4. Prizes and winnings

5. Compensation for services in whatever form paid, including, but not limited to
fees, salaries, wages, commissions, and similar items

6. Annuities

7. Royalties

8. Dividends

9. Gains derived from dealings in property

10. Pensions

11. Partner's distributive share from the net income of the general professional partnership.
b. Concept of income from whatever source derived
Implies the inclusion of all income under the law not expressly excluded or exempted from the
class of taxable income, irrespective of the voluntary or involuntary action of the taxpayer in
producing the gains.

It includes illegal gains arising from – gambling, betting, lotteries extortion and fraud.

c. Gross income vis-à-vis net income vis-à-vis taxable income

Taxable net income means compensation as well as taxable non-compensation income derived
by self-employed and professionals, such as those arising from business, trade or profession
and other income, but excluding any income subject to final tax, less allowable deductions and
for personal and additional exemptions. Premium payments on health and hospitalization
insurance are deductible from gross income.

Gross Income Net Income or Taxable Income

As to deductions

Allows no deductions

Allows deductions

As to exemptions

Grants no exemptions

Grants exemptions
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As to tax base

Gross Income

Net Income

Advantages/Disadvantages

Simplifies the income tax system

Confusing and complex process of filing income tax return

Substantial reduction in corruption and tax

evasion as the exercise of discretion, to allow or disallow deductions, is dispensed with.

Vulnerable to corruption on account of margin of discretion in the grant of deductions

More administratively feasible

Provides equitable reliefs in the form of deductions, exemptions and tax credit

Does away with wastage of manpower and supplies

Tax audit minimizes fraud

d. Classification of income as to source


i. Gross income and taxable income from sources within the Philippines
1) Interests:

a) Interests derived from sources within the Phils.

b) Interests on bonds, notes or other interest-bearing obligations of residents, corporate


or otherwise.

2) Dividends:

a) From a domestic corporation, and

b) From a foreign corporation 50% or more of the gross income of which for the 3-year
period ending with the close of the taxable year preceding the declaration of such dividends, or
for such part of such period as the corporation within the Phils. has been in existence, was
derived from sources. It must be only in an amount which bears the same ratio to such
dividends as the gross income of the corporation for such period derived from sources within
the Philippines bears to its gross income from all sources.
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3) Compensation for labor or personal services performed in the Phils.

4) Rentals and Royalties from property located in the Phils. or from any interest in such
property, including rentals or royalties for –

a) The use of, or the right or privilege to use in the Phils. any copyright, patent, design or
model, plan, secret formula or process, goodwill, trademark, trade brand or other like property
or night;

b) The use of, or the right to use in the Phils. any industrial, commercial or scientific
equipment;

c) The supply of scientific, technical, industrial or commercial knowledge or information;

d) The supply of any assistance that is ancillary and subsidiary to, and is furnished as a means
of enabling the application or enjoyment of, any such property or right as is mentioned in
paragraph (a), any such equipment as is mentioned in paragraph (b) or any such knowledge or
information as is mentioned in paragraph (c);

e) The supply of services by a nonresident person or his employee in connection with the use
of property or rights belonging to, or the installation or operation of any brand, machinery or
other apparatus purchased from such nonresident person;

f) Technical advice, assistance or services rendered in connection with technical management or


administration of any scientific, industrial or commercial undertaking, venture, project or
scheme; and

g) The use of, or the right to use:

1. motion picture films;

2. films or video tapes for use in connection with television; and

3. tapes for use in connection with radio broadcasting

5) Gains, profits, and income from the sale of real property located in the Phils. and

6) Gains, profits, and income from sale of personal property, treated as derived entirely from
the country where it is sold.

ii. Gross income and taxable income from sources without the Philippines
1) Interest other than those derived from sources within the Phils.

2) Dividends other than those derived from sources within the Phils.

a. Dividends from foreign corporations in general; and

b. Dividends derived from foreign corporations, 50% or more of the gross income
of which for the 3-year period preceding the declaration of dividends.
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3) Compensation for labor or personal services performed outside the Phils.

4) Rentals or royalties from property located outside the Phils. or from any interest in such
property including rentals or royalties for the use of or for the privilege of using outside the
Phils., patents, etc.

5) Gains, profits and income from the sale of real property located outside the Phils.

6) Gains, profits and income from the sale of personal property located outside the Phils., and

7) Income derived from the purchase of personal property within and its sale outside the Phils.

iii. Income partly within or partly without the Philippines


1) Income from transportation such as foreign steamship companies whose vessel touch the
Phil. ports and other services rendered partly within and partly outside the Phils. such as foreign
corporations carrying on the business of transmission of telegraph and cable messages between
points outside the Phils.

2) Income from the sale of personal property produced in whole or in part by the taxpayer
within and sold outside the Phils. or produced by the taxpayer outside and sold within the Phils.

e. Sources of income subject to tax


i. Compensation income
All remuneration for services rendered/performed by an employee for his employer, including
the cash value of all remuneration paid in any medium other than cash unless specifically
excluded under the NIRC.

In order that income can be considered as compensation income:

a. it must arise from personal services under an employer-employee relationship and

b. it is in the nature of income to the recipient employee.

Compensation for services in whatever form paid, including but not limited to;

a. Salaries – refer to earnings received periodically for regular work other than manual labor.

b. Wages – are earnings received usually according to specified intervals of work, as by the
hour, day or week.

c. Fees - amount received by an employee for the services rendered to the employer.

d. Commission – refers to percentage of total or a certain quota of sales volume attained as


part of incentives, such a sales commission.

e. Similar items – like pension or retiring allowance.

Compensation Income, defined


18

- all kinds of compensation for services rendered as a result of an employer-employee


relationship. They include:

a. salaries, wages, fees, allowances;

b. commissions paid to salespersons or those paid on insurance premiums;

c. compensation for services on the basis of a percentage of profits;

d. honoraria, director’s fees;

e. bonuses, tips;

f. allowances for transportation, representation and entertainment;

g. pensions or retiring allowances paid by private persons or by the government (excepts


pensions exempt by law from tax)

h. amounts received for refraining from rendering services (also constitute taxable income)

i. Christmas gifts based upon fixed percentile of salaries given to employees during the
holidays;

j. amounts received as award for special services or for suggestions to employer or for the
prevention of theft/robbery

k. prizes won in competitive contests conducted for commercial or non-commercial purposes

l. proceeds from profit sharing and other benefits paid in cash or in kind.

Forms of Compensation

a. money
b. in kind
Compensation paid to an employee of a corporation in its stock is to be treated as if the
corporation sold the stock for its market value and paid to the employee in cash.

Living quarters furnished to the employee in addition to cash salary. The rental value should be
reported as income.

Meals given to employee, the value thereof substitutes income.

** equivalent of cash doctrine – any economic benefit to the employee whatever may have
been the mode by which it is effected is subject to tax.

- taxed on gross (deductions other than exemptions and premium payments on health xxx, not
being allowed) on the part of RC.

-NRC, RA NRAETB- sources within only


19

-NRANETB- flat rate of 25%

a. Employer’s Convenience Rule


EMPLOYER’S CONVENIENCE RULE

The allowances furnished to the employee which are for the convenience and advantage of the
employer or for proper performance of the employees’ duty, shall not be taxable on the part of
the employee receiving the same.

REQUISITES:
a. They must be furnished within the employer business permit.

b. The employee accepts the same as a condition of his employment

--- Promissory notes or other evidence of indebtedness received in payment of services are
considered as income to the extent of their fair market value.

--- An individual who performs services for a creditor, who in consideration thereof cancels his
debt, income to that amount is realized by the debtor as compensation for his services.
However, if the creditor condones /cancels the debt without any service rendered by the
debtor, the amount of such debt is a gift and need not be included in the gross income of the
debtor. The amount is subjects to donor’s tax.

c. Both in money and in kind.


SERVICES RENDERED ABROAD NOT SUBJECT TO PHILIPPINE TAX

Service fees derived by a non-resident foreign corporation for services rendered outside the
Philippines are exempt from Philippine income tax and VAT. Under Section 23(F) of the Tax
Code, a foreign corporation, whether or not engaged in trade or business in the Philippines, is
subject to tax only with respect to income derived from sources in the Philippines.

In case the income is for sale of services, Section 42(A)(3) of the Tax Code provides that such
income shall be considered derived from the Philippines only if the services are actually
performed in the Philippines. In the instant case, the services rendered by the non-resident
foreign corporation, i.e., coating of pipes, were rendered abroad. Hence, considering that the
services were performed entirely outside the Philippines, the service fees paid by the domestic
corporation to the non-resident foreign corporation are exempt from Philippine income tax. With
respect to VAT, payments for the sale or exchange of services are subject to VAT only if the
services are performed in the Philippines pursuant to Section 108(A) of the Tax Code.
Accordingly, since the services are performed by the non-resident foreign corporation outside
the Philippines, the service fees are likewise not subject to VAT. (BIR Ruling No. 458-2012, July
10, 2012)
20

Clarification on the tax treatment of compensation income of employees of UN and its


specialized agencies

A. Tax treatment of UN employees

Based on Sections 17 and 18 of the Article of the Convention on the Privileges and Immunities
of the UN, the officials of the UN shall be exempt from Philippine income tax, regardless of their
nationality or place of residence. However, only those officials whose names have been
communicated to the Philippine government (through the Department of Foreign Affairs) shall
be covered by the tax exemption.The provisions of the UN Privileges Convention shall apply to
the officials employed by the UN, its principal organs, and those employed by its agencies,
departments, offices, programs, and bodies, excluding specialized

agencies.

B. Tax treatment of employees of UN specialized agencies

Under Sections 18 and 19 of Article VI of the Convention on the Privileges and Immunities

of the Specialized Agencies (SA) of the UN, officials of SAs of the UN shall be exempt from
Philippines income tax regardless of their nationality or place of residence.

However, in order to properly invoke the tax immunities under the SA Convention, the
Philippine Government should have acceded to the terms of the SA Convention and indicated
inthe instrument of accession to the specialized agencies with respect to which it seeks to apply
the provisions of the Convention.

Specialized agencies with instruments of accession

The following SAs are covered by proper instruments of accession or written notifications by the
Philippines.

1) International Labour Organization (ILO)

2) The Food and Agriculture Organization of the United Nations (FAO)

3) The United Nations Educational, Scientific and Cultural Organization (UNESCO)

4) The International Civil Aviation Organization (ICAO)

5) The International Monetary Fund (IMF)

6) The International Bank for Reconstruction and Development (IBRD)

7) The World Health Organization (WHO)

8) The Universal Postal Union (UPU)

9) The International Telecommunication Union (ITU)

10) International Finance Corporation (IFC)


21

The exemption from Philippine income tax of the officials of the above SAs of the UN,
regardless of their nationality or place of residence, shall apply notwithstanding the disparities
in the immunities provided in the constitutional instruments of the SAs (e.g., articles of
agreement and charters). However, the names of the officials of the SAs covered by proper
instruments of accession or written notifications by the Philippines must be properly
communicated to the Philippine Government (through the Department of Foreign

Affairs) pursuant to Section 18 of the SA Convention.

Specialized agencies without instruments of accessions The tax immunities and privileges

of SAs not covered by proper instruments of accession or written notification shall be taken
from their respectiveconstitutional instruments as agreed to by the Philippine Government. The
specialized agencies cannot claim tax immunities and privileges beyond those provided in their
constitutional instruments notwithstanding the provision of more comprehensive benefits under
the SA Convention.

b. Leave Benefits
The terminal leave pay of government employees whose employment is co-terminus is exempt
since it falls within the meaning of the phrase “ for any cause beyond the control of the said
official or employees” (BIR Ruling 143-98)

c. 13th Month Pay and other bonuses


13th month pay equivalent to the mandatory one (1) month basic salary of officials and
employees (national or local), including GOCC, and of private offices received after the 12 th
month beginning 1994 and similar benefits, provided the total amount is P30k and below,
likewise exempt from withholding tax but any amount in excess thereto shall be taxable and
also subject to withholding tax

d. SSS/GSIS Benefits

e. SSS/GSIS/PhilHealth/Pag-ibig/Union Dues
SSS/GSIS/other contributions (Phil-Health/Pag-ibig) and Union Dues
REVENUE MEMORANDUM CIRCULAR No. 27-2011

SUBJECT : Revocation of BIR Ruling Nos. 002-99, DA-184-04, DA-569-04 and DA-087-
06
This Circular is being issued to revoke BIR Ruling Nos. 002-99 (dated January 12, 1999),
DA-184-04 (dated April 6, 2004), DA-569-04 (dated November 10, 2004) and DA-087-06
(dated March 6, 2006) which excludes from the gross income of the taxpayer and hence,
exempt from Income Tax, contributions to Pag-Ibig 2, GSIS, SSS, Life Insurance, Pre-Need Plan
in excess of the mandatory monthly contribution ; GSIS Optional Insurance Premium, GSIS
Educational Plan Premium, GSIS Memorial Plan Premium, and GSIS Unlimited Optional
22

Insurance Premium.
The abovementioned BIR Rulings rendered an opinion regarding Section 32(B)(7)(f) of the
NIRC of 1997, to wit:

"Since the law and implementing regulations do not categorically state that the exemption
covers only the regular GSIS and Pag-Ibig contributions, it is safe to conclude that GSIS
optional and Pag-Ibig 2 contributions are likewise excludible from the gross income of the
taxpayer and hence, exempt from income tax ."
It has been observed that the grant of Income Tax exemption to SSS, GSIS, PHIC and Pag-Ibig
contributions in excess of the mandatory contributions is being abused. As an example, aside
from the mandatory contribution of Php100.00/month to Pag-ibig Fund and 1% (for those with
monthly compensation of Php1,500.00 and below) or 2% (for those with monthly compensation
of over Php1,500.00) to PHIC, an employee may contribute additional Php1,000.00/month to
Pag-ibig 2 and Php1,000.00/month to PHIC as voluntary contributions which can be gleaned as
a form of investment. The money being invested by the employees in these programs are not
being taxed. Aside from that, employers which are mandated by the Bureau to correctly
withhold the tax due of their employees (i.e. tax due is equivalent to tax withheld), find it
difficult to comply since voluntary contributions by their employees may not always pass thru
them.
The term contribution is defined in Republic Act (RA) No. 8291, otherwise known as The
Government Service Insurance System Act of 1997, as follows:

"SECTION 2. Definition of Terms. -


xxx (j) Contribution - The amount payable to the GSIS by the member and the employer in
accordance with Section 5 of this Act;"
Moreover, Section 5 of RA No. 8291 provides:

"SECTION 5. Contributions. - (a) It shall be mandatory for the member and the employer to
pay the monthly contributions specified in the following schedule:
xxx xxx xxx" (Underscoring supplied)
Similarly, Section 8 of RA No. 8282, otherwise known as the Social Security Act of 1997, defined
the term contribution, viz:

"SECTION 8. Terms Defined. -


xxx xxx xxx
(i) Contribution - The amount paid to the SSS by and on behalf of the member in accordance
with Section Eighteen of this Act."

Subsequently, Section 18 of RA No. 8282 states:

"SECTION 18. Employee's Contribution. - (a) Beginning as of the last day of the calendar month
when an employee's compulsory coverage takes effect and every month thereafter during his
employment, the employer shall deduct and withhold from such employee's monthly salary,
wage, compensation or earnings, the employee's contribution in accordance with the following
schedule." (Emphasis provided)
23

Further, the term Medicare "contribution" is defined in Section 4 of RA No. 7875, otherwise
known as the National Health Insurance Act of 1995, as follows:

SECTION 4. Definition of Terms. - For the purpose of this Act, the following terms shall be
defined as follows:

xxx xxx xxx


d) Contribution - The amount paid by or in behalf of a member to the Program for coverage,
based on salaries or wages in the case of formal sector employees, and on household earnings
and assets, in the case of the self-employed, or on other criteria as may be defined by the
Corporation in accordance with the guiding principles set forth in Article I of this Act."

Furthermore, Sections 4 and 7 of RA 9697, otherwise known as the Home Development Mutual
Fund law of 2009 provided for the definition of Pag-ibig "contribution", to wit:

SEC. 4. Definition of Terms. - The following shall mean:


xxx xxx xxx

(c) "Contributions" - the amount payable to the Fund by the members and their employers, in
accordance with this Act."

"SEC. 7. Fund Generation and Contributions. - The money of the Fund shall be generated by
the provident savings that the covered employees shall contribute for the purpose every month,
and the equal amounts that their respective employers shall mandatorily contribute.

Covered employees and employers shall contribute to the Fund baed on the montly
compensation of covered employees as follows:

Employees earning not more than One thousand five hundred pesos (P1,500.000 per month -
one percent (1%).

Employees earning more than One thousand five hundred pesos (P1,500.000 per month - two
percent (2%).

All employers - two pecent (2%) of the monthly compensation of all covered employees .

The maximum monthly compensation to be used in computing employee and employer


contributions shall not be more than Five thousand pesos (P5,000.00); Provided, That this
maximum may be fixed from time to time by the Board of Trustees through rules and
regulations adopted by it, taking into consideration actuarial calculations and rates of benefits ."

Therefore, contributions referred to in Section 32(B)(7)(f) of the NIRC of 1997 cover only the
mandatory/compulsory contributions of the concerned employees to SSS, GSIS, PHIC and
HDMF. Thus, this Office holds that voluntary contributions in excess to what the law allows to
these institutions are not excludible from the gross income of the taxpayer and hence, not
exempt from Income Tax and Withhold Tax. Consequently, the exemption from withholding tax
24

on compensation referred to in Section 2.78.1(B)(12) of Revenue Regulations (RR) No. 2-98


shall apply only to mandatory/compulsory GSIS, SSS, Medicare and Pag-ibig contibutions.

In this regard, BIR Ruling Nos. 002-99, DA-184-04, DA-569-04 and DA-087-06 are
hereby revoked and invalidated, and all revenue issuance inconsistent with this Circular are
deemed repealed.

All revenue officers conducting audit investigation shall take the provisions of this Circular into
consideration. Accordingly, any claim for exemption for voluntary contributions shall be
disallowed, and, where applicable, the corresponding deficiency assessment shall be made.

All revenue officials and employees are enjoined to give this Circular the widest possible
publicity.

The GSIS mandatory/compulsory contribution of a government employee is 9% of the


employees’ total monthly basic salary while in the Pag-IBIG, the compulsory being referred to in
the Revenue Regulation Nos. 2-98 shall apply only to mandatory /compulsory GSIS, SSS,
Medicare and Pag-IBIG contributions.

“Thus, money being invested of the concerned employees in these institutions in excess of the
mandatory contribution will be taxed,” the BIR official said.

ii. Fringe benefits


(a) Special treatment of fringe benefits
Applied to fringe benefits given or furnished to managerial or supervising employees and not to
the rank and file.

(Final withholding tax imposed on the grossed up monetary value (GMV) of fringe benefit
furnished, granted or paid by the employer to the employee except rank and file employees,
whether such employer is an individual, professional partnership or corporation, regardless of
whether the corporation is taxable or not, or the government and its instrumentalities.

-paid by the employer but he is allowed by law to deduct FBT as a business expense in
determining his taxable income.

(b)Definition
Any good, service or other benefit furnished or granted in cash or in kind by an employer to an
individual employee, except rank and file employee.(Sec 33) such as but not limited to the
following:

1. housing;

2. expense account;

3. vehicle of any kind;

4. household personnel, such as maid, driver and others;


25

5. interest on loan at less than market rate to the extent of the difference between the market
rate and actual rate granted;

6. membership fees, dues and other expenses borne by the employer for the employee in social
and athletic clubs or other similar organizations;

7. expenses for foreign travel;

8. holiday and vacation expenses;

9. educational assistance to the employee or his dependents;

10. life or health insurance and other non-life insurance premiums or similar amounts in excess
of what the law allows.

Pursuant to Revenue Regulations No. 3 – 98 (dated May 21, 1998) implementing


section 33 of the Tax Code, the special treatment of fringe benefits shall be applied to fringe
benefits given or furnished to managerial or supervising employees and not to the rank and file.

Rank and file – means all employees who are holding neither managerial nor supervisory.

Managerial Employee – is one who is vested with powers or prerogatives to lay down and
execute management policies and/or to hire, transfer, lay – off, recall, discharge, assign, or
discipline employees.

Supervisory Employees – are those who, in the interest of the employer, effectively
recommend such managerial actions if the exercise of such authority is not merely routinely or
clerical in nature but requires the use of independent judgment.

The regulation does not cover those benefits properly forming part of compensation income
subject to withholding tax.

Fringe Benefit Tax (FBT) – refers to monetary burden imposed on fringe benefits.

(c)Taxable and non-taxable fringe benefits


1) Housing Privileges

(a) Lease of residential property for the use of the employee as his usual place of
residence.

(b) Residential Property owned by employer and assigned to employee as his usual
place of residence.

(c) Residential property purchased by employer on installment basis for the use of
employee as his usual place of residence.

(d) Residential property purchased by ER and ownership is transferred to EE as his


usual place of residence.
26

(e) Residential property transferred to employee at less than employer’s acquisition


cost.

--adjacent and at least 50m from perimeters of employer

G.R: the value to the employee of quarters and meals given by the employer shall be subject to
FBT

except: if living quarter/meals are furnished to an employee for the convenience of the
employer

**military housing units-traditionally exempt

**temporary housing units- 3 months or less-exempt

2) Household Expenses – refer to expenses of the employee paid by the employer for
household personnel or other personal expenses, which shall include:

(a) salaries of household helper

(b) personal driver of the employee

(c) payment for homeowner assoc., etc.

3) Interest on loan at less than market rate

if the employer lends money to his employee free of interest or a rate lower than 12%
such interest foregone by the employer or the difference of the interest assumed by the
employee and the rate of 12% shall be treated as taxable fringe benefit.

4) Expenses for Foreign Travel

General rule:

Expenses for foreign travel insured by the employee and/or family members of the
employee borne by the employer shall be treated as taxable fringe benefits of the employee.

Except:

Where the expenses for foreign travel paid by the employer for the employee are for the
purpose of attending business meeting or convention. The exemption covers only the following
expenses:

a) Inland travel expenses except lodging cost in hotel averaging US$ 300 or less per
day; and

b) Cost of economy or business class airline ticket.

**i. in connection with the Trade, business, profession of employer


27

ii. Business seminar

iii. there must be an invitation

iv. $300 daily allowance

v. economy class- exempt, first class- 30 taxable, 70% exempt

5) Membership fees, dues and other expenses borne by the employer for his employee, in social
or athletic clubs or other similar organizations.

6) Life or Health Insurance -

General rule:

The cost of life or health insurance and other non – life insurance premiums or similar
amounts in excess of what the law allows borne by the employer for his employees shall be
treated as taxable fringe benefits.

Except:

a) Contribution of the employer for the benefits of the employee pursuant to existing
laws. (SSS, GSIS etc)

b) The cost of premium borne by the employer for the group insurance of his employees.

7) Holidays and Vacation Expense

8) Motor Vehicle

a) Motor vehicle purchased by employer in name of employee.

b) “Cash for the purchase of MV provided by the employer, the ownership is placed in the
name of the employee

c) Purchase on “Installment” basis, the ownership is placed in the name of the employee

d) “Portion” of purchased price shouldered by employer

e) Fleet of motor vehicle “leased” by the employer

f) Fleet of Motor vehicles owned and maintained by employer.

9) Expense Account

a) Expenses incurred by the employee but paid by his employer.

b) Expenses paid by the employee but reimbursed by his employer.

GR. fixed and variable transportation, representation and other allowances are subject
to FBT

except: if incurred or reasonably expected to be incurred by employee in the


performance of his duties, subject to the following conditions:
28

a. ordinary and necessary in the pursuit of employer business and paid or incurred by
employee

b. liquidated or substantiated by receipts or other adequate documentation

10) Educational Assistance

General Rule: The cost of the educational assistance to the employee or his dependents
which are borne by the employer shall be treated as Taxable Fringe Benefits.

Exception:

a) Education granted to employee with a written contract that employee shall remain
employed with the employer for a period of time mutually agreed upon by the parties

b) Educational Assistance granted to the dependents of the employee in the nature of


educational assistance to the dependents of the employee through a competitive scheme under
a scholarship program of the company.

Tax Base: Grossed up monetary value (GMV) of the fringe benefit

GMV represents:

1. the whole amount of income realized by the employee which includes the net amount of
money or net monetary value of property which has been received; plus

2. the amount of fringe benefit tax thereon otherwise due from the employee but paid by the
employer for and in behalf of the employee

3. GMV of the fringe benefit shall be determined by dividing the monetary value of the fringe
benefit by the grossed up divisor. The grossed up divisor is the difference between 100% and
the applicable rates

The grossed-up monetary value consists of the net amount of money/monetary property value
received and the amount of fringe benefit tax due and paid by the employer on the employee's
behalf.

C, RA, NRA-ETB- 32% Grossed up divisor- 68%

NRA-NETB - 25% - 75%

Individuals in RHQ or RAHQ,OBU-15% -85%


29

Non Resident Alien not Engaged in Trade or Business


A fringe benefit tax of twenty-five percent (25%) shall be imposed on the grossed-up
monetary value of the fringe benefit. The said tax base shall be computed by dividing the
monetary value of the fringe benefit by seventy-five percent (75%).

Grossed-up Monetary Value = Monetary Value/68% so:

Fringe Benefit Tax = Grossed-up Monetary Value x 32%

Ex. 1. X-manager- received yacht valued P6.8M

Rate of FBT- 32%

Tax Base: GMV

= 6.8M = 68% of benefit (divide 6.8/6.8)

=P10M – GMV x 32%

= P3.2M – FBTx

**6.8M- no longer part of compensation income, amount received by X is presumed net


of tax

** e’r point of view- P10M- total fringe benefit expense – may be deducted as ordinary
business expense

** if rank and file employee- P6.8M will be part of the gross income

2. NRANETB- sent to Phil for 3 months

- while here in the Phil, given a car –P750K

- FBTx = GMV = 1M (750/.75)

- = 1M x 25%

= 250k

Non- Taxable

1) Fringe benefits which are authorized and exempted from tax under special laws;

2) Contributions of the employer for the benefit of the employee to retirement, insurance and
hospitalization benefit plans;

3) Benefits given to the rank and file employees, whether granted under a collective bargaining
agreement or not;
30

4) De minimis benefits;

5) When the fringe benefit is required by the nature of, or necessary to the trade, business or
profession of the employer

6) When the fringe benefit is for the convenience of the employer. This is known as Employer’s
Convenience Rule.

- Fringe benefit given to a rank and file employee (whether under CBA or Not ) is not subject to
FBT- treated as part of the compensation income subject to income tax

-FBT given to a supervisory employee or managerial is subject to FBT

**Deduction for the employer

a. If fringe benefit is given to rank and file employee or to a managerial/supervisory employee,


BUT is not subject to FBT, the deduction for the employer is the monetary value of the fringe
benefit

b. If fringe benefit is given to managerial or supervisory employee and is subject to FBT, the
deduction for the employer is the grossed up monetary value of the fringe benefit.

(d) De minimis benefits


-de minimis given to any employee is not subject to FBT

If you would recall, the BIR early on January 5, 2006 issued Revenue Regulations (RR) 01-
06 which exempts from withholding tax the minimum wage earners.
Is there any other tax measure outside of the proposed income tax exemption which could be
made available to workers to alleviate their plight?
One measure which that government could possibly look into is increasing the amount of the de
minimis benefits that are exempt from income tax.
De minimis benefits are benefits in the nature of facilities or privilege furnished or offered by an
employer to his employees that are of relatively small value, and are offered or furnished by the
merely as a means of promoting the health, goodwill, contentment, or efficiency of his
employees.
The BIR exempts de minimis benefits pursuant to Revenue Regulations (RR) No. 3-98, as
amended. Examples of de minimis benefits include contributions of the employer for the
benefit of the employee to retirement, insurance and hospitalization benefit plans; or certain
benefits given to rank and file, whether granted under a collective bargaining agreement or not;
or de minimis benefits; or fringe benefits to the employee which is granted is required by the
nature of or necessary to the trade, business or profession of the employer; or such grant of
the benefit or allowance is for the convenience of the employer.

The BIR sets a limit on the value of tax-exempt de minimis benefits. Under RR 8-00, as
amended by RR 10-00, the BIR considers the following as de minimis benefits:
31

1.) Monetized unused vacation leaves per year of PRIVATE employees (maximum of 10 days)

if government employee- monetized value of leave credits- VL and SL exempt

GR. paid VL and SL are subject to FBT

except: rule above on monetization

** if terminal leave pay – private or govt – exempt( received on account of cause


beyond control of the employee

2.) Medical cash allowance to dependents (maximum of P750/semester or Php125/month)

3.) Rice subsidy (maximum Php1,500/month) or 1 sack of 50 kg rice per month amounting to
not more than P1,500

4.) Laundry allowance (maximum of Php300/month)

5.) Actual yearly medical benefits (maximum of Php10,000/year)

6.) Uniform allowance (maximum of Php4,000/year)

5.) Gifts for Christmas and major celebrations (maximum of Php5,000/year)

-if Xmas gifts apply de minimis

- if xmas bonus apply lump sum limitation of 30K/annum-added to 13 th month pay and
other benefits

6.) Daily meal allowance (maximum of 25% of the basic minimum wage)

7.) Employees achievement awards in the form of tangible personal property other than cash or
gift certificates with an annual monetary value of Php10,000 maximum

8.) Flowers, fruits, books or similar items given on account of illness, marriage or other special
circumstances

9.) Facilities and privileges like entertainment, medical services and "courtesy" discounts on
purchases.

Considering that it is almost 9 years since they were last adjusted in 1998, 2008, the BIR may
consider increasing the amount of de minimis benefits specified under its regulations to make
them more realistic. Employees are completely captured by the tax net under the withholding
tax system and they do not enjoy any additional deductions in computing their taxable income.
The government should not deny salaried workers of the little privilege they will enjoy from
higher tax-exempt de minimis benefits.

If de minimis benefit exceeds the ceiling prescribed

1. If the excess is within the P30, 000 limit of the bonuses (13 th month pay and other benefits)
of the NIRC – excess is not taxable

2. if excess is beyond the P30,000 limit- taxable


32

If the employee is given benefits that exceed the maximum limits, the excess is added to the
13th month pay, productivity incentives and Christmas bonus. Here's where things get ugly: if
the total of the computation is greater than P30,000, it becomes taxable as part of the
employee's gross income. Very discouraging, isn't it?

iii. Professional income


The fees received by a professional from the practice of his profession, provided that

there is no employer-employee relationship between him and his clients.

Note: RATA and PERA are not subject to Income and Withholding tax. ACAP is part of other
benefits which are excluded from gross compensation income provided the total amount of
such benefits does not exceed P30,000. It is also not subject to withholding tax pending its
formal integration into basic pay.

iv. Income from business


The income derived from merchandising, mining, manufacturing and farming operations.

Determination of gross income in case of manufacturing, merchandising or mining business.

Formula: Gross Income = (Gross Sales – cost of goods sold) + other income

(b). Income from a long term contract – long term contract means building, installation and
construction contract covering a period in excess of one year.

NOTE: any income derived from these contracts shall be reported upon the basis of Percentage
of Completion.
(c). Income from farming may be reported in any of the following methods:

(1). Cash basis – no inventory is used in determining profits.

(2). Accrual basis – an inventory is used in determining profits.

(3). Crop basis – it is generally used when the farmer is engaged in producing crops which take
more than a year to gather and dispose of from the time of planting.

v. Income from dealings in property


Generally, a sale or exchange of assets will have an income tax incidence only when it is
consummated. Consider 2 things: 1 element of transfer and 2. element of consideration
transfer contemplates a consummated transaction and requires an effective actual transfer and
for a sufficient valuable consideration.

a. Types of properties
(1)Ordinary assets
33

Properties held by the taxpayer in the pursuit of his profession, trade or business:
i. Stock in Trade;
ii. Property of a kind which would properly be included in the inventory if on hand at the
close of the taxable year;
iii. Property held by the taxpayer primarily for sale to customers in the ordinary course of
trade or business;
iv. Property used in trade or business which is subject to the allowance for depreciation;
and
v. Real property used in trade or business.

(2)Capital assets

Properties not specifically included in the statutory definition constitutes capital assets the
profits or losses on the sale or the exchange of which are treated as capital gains or capital.
The statutory definition of "capital assets" practically excludes from its scope, all property held
by the taxpayer if used in connection with his trade or business.

Capital Asset means property held by the taxpayer (whether or not connected with his trade or
business) but does not include:
i. Stock in trade; ** in some cases, inventory or stock items may assume the character of
a capital asset ie. dealers in securities can set aside stocks for speculation, investment which
will be considered as capital asset, also, items which an estate takes over from a decedent. If
these items during the lifetime of the decedent are ordinary assets ie. stocks in trade, in passive
liquidation, if the estate will sell stocks after his death, stocks may assume the character of
capital assets, unless executor continues the operation of the business or conducts extensive
selling activities to make profit for the estate.

ii. Property of a kind which would properly be included in the inventory if on hand at the
close of the taxable year;
iii. Property held by the taxpayer primarily for sale to customers in the ordinary course of
trade or business; -sales which are effected by the taxpayer merely incidentally or accidentally
to his business are considered as capital transactions ie. sale of whiskey warehouse receipts of
a person engaged in buying and selling of whiskey
iv. Property used in trade or business which is subject to the allowance for depreciation;
and
v. Real property used in trade or business. (Sec. 39, [A], NIRC)-inherited property is capital
but when it is substantially improved or actively sold or both - ordinary

This is an enumeration by exclusion, all others not enumerated are capital assets.

G.R. No. 125508. July 19, 2000 CHINA BANK vs. CA


An equity investment is a capital, not ordinary, asset of the investor the sale or exchange of
which results in either a capital gain or a capital loss. The gain or the loss is ordinary when the
property sold or exchanged is not a capital asset.
34

Thus, shares of stock; like the other securities defined in Section 20(t) [4] of the NIRC, would
be ordinary assets only to a dealer in securities or a person engaged in the purchase and sale
of, or an active trader (for his own account) in, securities.

The proceeds from the inherited land of petitioners, which they subdivided into small lots and
in the process converted into a residential subdivision and given the name Don Mariano
Subdivision, is taxable as ordinary income. Property initially classified as a capital asset may
thereafter be treated as an ordinary asset if a combination of the factors indubitably tend to
show that the activity was in furtherance of or in the course of the taxpayer's trade or
business; thus, a sale of inherited real property usually gives capital gain or loss even though
the property has to be subdivided or improved or both to make it salable--however, if the
inherited property is substantially improved or very actively sold or both it may be treated as
held primarily for sale to customers in the ordinary course of the heir's business. ( Tomas
Calasanz, et al. vs. Commissioner of Internal Revenue, et al., G.R. No. L- 26284, October
9, 1986)

b. Types of gains from dealings in property


(1) Ordinary income vis-à-vis capital gain
Ordinary gain Capital gain
Any gain from the sale or exchange of property which is not a capital asset.
Any gain from the sale or exchange of property which is a capital asset.

(2)Actual gain vis-à-vis presumed gain


Actual gain Presumed gain
Excess of the cost from a sale of asset.
Presumption of law that the seller realized gains, which is taxed at 6% of the selling price or fair
market value, whichever is higher.

(3) Long term capital gain vis-à-vis short-term capital gain


Long term capital gain Short term capital gain
The profit realized from selling or exchanging a capital asset held for more than a specified
period, usu. one (1) year.
The profit realized from selling or exchanging a capital asset held for less than a specified
period, usu. one (1) year.

Rules on Ordinary Gains and Losses


Ordinary income (ordinary gain) – includes any gain from the sale or exchange of property
which is not a capital asset (Sec. 22, [Z], NIRC)

Ordinary Loss – includes any loss from the sale or exchange of property which is not a capital
asset. (Sec. 22, [Z], NIRC)

(4) Net capital gain, net capital loss


Net Capital gain Net capital Loss
35

The excess of the gains from sales or exchange of capital assets over the losses from such sales
or exchanges.
The excess of the losses from sales or exchanges of capital assets over the gains from such
sales or exchanges.

(5) Computation of the amount of gain or loss


The gain from the sale or other disposition of property shall be the excess of the amount
realized therefrom over the basis or adjusted basis for determining gain, and the loss shall be
the excess of the basis or adjusted basis for determining loss over the amount realized. The
amount realized from the sale or other disposition of property shall be the sum of money
received plus the fair market value of the property received.

Income Tax Treatment on the Sale or Exchange of Ordinary Assets


The general rule in income taxation apply both as to the gain and as to the loss, any gain shall
be reported as ordinary income and any loss may be allowed as a deduction in gross income.

Exemplification of Rules
If an individual taxpayer is engaged in real estate business or is a real estate dealer, the gains
he may derive from the said activity will be considered as ordinary income and the losses he
may incur is deductible from his gross income. The 6% tax imposed on the sale of real property
which is a capital asset is inapplicable to him.

If a domestic corporation is engaged in real estate business, the gains it may derive from said
activity is considered as ordinary income and any loss incurred is considered as an ordinary
loss. The loss is deductible from the corporation’s ordinary income and from its income from
any other source whether ordinary or capital.

Ordinary losses (whether the taxpayer is an individual or a corporation) are deductible either
from ordinary gains or capital gains.

(a) Cost or basis of the property sold


Acquired by purchase
The cost of the property

Acquired by inheritance
The fair market price or value as of the date of acquisition.

Acquired by gift
The same as if it would be in the hands of the donor or the last preceding owner by whom it
was not acquired by gift.

Acquired for less than an adequate consideration


The amount paid by the transferee for the property
(b) Cost or basis of the property exchanged in corporate
readjustment
36

(1) Merger- BIR Ruling No. 508-2012, August 3, 2012


(2) Consolidation
A merger or consolidation has income tax consequences to the corporation which is a party to
the merger or consolidation, to its stockholders, and to its security holders. To the corporation,
or to its stockholders, or to its security holders, loss is not recognized from the merger or
consolidation.

Gain will be recognized only if, on the exchange under the merger or consolidation, the
taxpayer received cash or property. The gain to be recognized should not exceed the sum of
money and the fair market value of the property received.

(3) Transfer to a controlled corporation (tax-free exchanges)


When a taxpayer transfers property to a corporation, in consideration of stock received for the
transfer, as a result of which transfer, the taxpayer gains control of the corporation, no loss is
recognized on the transfer of property.

(c) Recognition of gain or loss in exchange of property


(1) General rule
(1) General rule
Upon the sale or exchange or property, the entire amount of the gain or loss, as the case may
be, shall be recognized.

Conditional sale- subject to payment of CGTx from moment of execution – no refund- no error
or overpayment if condition not fulfilled
-if CGTx was not paid – no fulfillment – BIR may still assess – liability attaches from the
moment conditional sale is executed.

Pacto de retro Sale- from moment of execution- liability attaches


- from moment of repurchase – no more
-viewed by law as one transaction

Involuntary sales
a. execution- CGTx attaches from the moment of the failure to redeem – only when Final cert of
sale is issued that the ownership is transferred.
b. Foreclosure- extrajudicial – CGTx attaches from the moment of consolidation of ownership
( title vested upon failure to redeem)

Present banking laws- rt to redeem modified


Juridical person- no more right of redemption, mere equity of redemption – they can redeem as
long as there is no registration of certificate of sale
Individual – same- 1 year

c. Judicial foreclosure – no rt of redemption – mere equity of redemption


CGTx attaches from the moment of sale
37

Redemption period on foreclosure sales


For purposes of reckoning the one-year redemption period on the foreclosed asset of natural
persons and the period within which to pay the capital gains tax or creditable withholding tax
and documentary stamp tax on the foreclosure of real estate mortgage, the same shall be
reckoned from the date of registration of the sale in the office of the Register of
Deeds.
As regards the right of redemption of juridical persons in an extrajudicial foreclosure, the
right to redeem should be made before the registration of the Certificate of Foreclosure
Sale with the applicable Register of Deeds or within three months after foreclosure,
whichever is earlier. The three-month period shall be reckoned from the date of the
executive judge’s approval of the certificate of sale because it is only then that there is a
“sale” to speak of which can be taxed. (BIR Ruling No. 319-2013, August 16, 2013)

Instances When Gains are Taxable But Losses are Non-deductible


TRANSACTIONS RESULTING IN TAXABLE GAINS BUT NON-RECOGNITION OF LOSSES
intention of the law is to guard against fictitious losses but even if there is an allowable
deduction rules remain unchanged
a. Transactions between related taxpayers (Sec, 36, NIRC)
b. Illegal transactions
c. Wash sales (except those made by dealers in securities)
d. Exchanges not solely in kind in mergers and consolidations

1) If in connection with an exchange described earlier resulting in non-recognition of gains or


losses, an individual, a shareholder, a security holder or a corporation receives not only stock or
securities permitted to be received without the recognition of gain or loss, but also money
and/or property, the gain, if any, but not the loss, shall be recognized but in an amount not in
excess of the sum of the money and the fair market value of such other property received.
Provided, that as to the shareholder, if the money and/or property received has the effect of a
distribution of a taxable dividend, there shall be taxed as dividend to the shareholder an
amount of the gain recognized not in excess of his proportionate share of the undistributed
earnings and profits of the corporation, the remainder if any, of the gain recognized shall be
treated as a capital gain. (Sec. 40, [3, a])

2) If a corporation which is a party to the merger or consolidation receives not only stock
permitted to be received without the recognition of gain or loss, but also money and/or
property, and does not distribute it in pursuance of the plan of merger or consolidation, the
gain, if any, shall be recognized in an amount not in excess of the sum of such money and the
fair market value of such other property so received, which is not distributed. (Sec. 40, C,[3, b])

3) If a taxpayer receives stock or securities which would be permitted to be received without


the recognition of the gain if it were the sole consideration, and as part of consideration,
another party to the exchange assumes a liability of the taxpayer, or acquires from the taxpayer
property subject to a liability, then such assumption or acquisition shall not be treated as money
and/or other property, and, therefore any gain or loss would still not be recognized if no money
and/or property was involved in the exchange.
4) If the amount of the liabilities assumed plus the amount of the liabilities to which the
property is subject, exceed the total of the adjusted basis of the property transferred pursuant
38

to such exchange, then such shall be considered as a gain from the sale or exchange of a
capital asset or of property, which is not a capital asset, as the case may be. (Sec. 40, [C, 4],
NIRC)

e. Sales or exchanges which are not at arms length

TRANSFER PRICING REGULATIONS

The Bureau of Internal Revenue (BIR) has issued the following guidelines in applying
the arm’s length principle for cross-border and domestic transactions between associated
enterprises.

DEFINITION OF “ASSOCIATED ENTERPRISES”

For transfer pricing (TP) purposes, two or more enterprises are associated if one
participates directly or indirectly in the management, control, or capital of the other,
or if the same persons participate directly or indirectly in the management, control,
or capital of the enterprises. The term “control” is defined as any kind of control, direct or
indirect, whether or not legally enforceable, and however exercisable or exercised.
Moreover, control shall be deemed present if income or deductions have been arbitrarily shifted
between two or more enterprises.

DETERMINATION OF ARM’S LENGTH PRICE

The BIR adopts the use of arm’s length principle as the most appropriate standard in
determining the transfer prices of associated enterprises or related parties. The arm’s length
principle requires that the transaction with a related party be made under comparable
conditions and circumstances as a transaction with an independent party. In the
application of the arm’s length principle, the following three-step approach shall be observed:

1. Conduct of comparability analysis

2. Identification of tested party and the appropriate transfer pricing method

3. Determination of the arm’s length results

ARM’S LENGTH PRICING METHODOLOGIES

The TP guidelines prescribed five methods in determining the arm’s length price of a
transaction. These are comparable uncontrolled price (CUP), resale price method, cost plus
method (CPM), profit split method (PSM) and transaction net margin method (TNMM). There is
no single method that is applicable to all cases, and choice of appropriate transfer pricing
method must be made depending on the evaluation of the transaction.

Details of the TP methodologies are explained in the regulations. (Revenue Regulations No. 2-
2013, January 23, 2013)
39

(a) Where no gain or loss shall be recognized


Revenue Regulations No. 2-2013, January 23, 2013

a) Exchange solely in kind in legitimate mergers or consolidations.


1) A corporation which is a party to a merger or consolidation exchanges property solely for
stock in a corporation which is a party to the merger or consolidation;
2) A corporation which is a party to a merger or consolidation receives in exchange for property
not only stock of another corporation but also money and/or other property and distributes it in
pursuance of the plan of merger or consolidation.
3) A shareholder exchanges stock in a corporation which is a party to the merger or
consolidation solely for the stock of another corporation, also a party to the merger or
consolidation.
4) A security holder of a corporation which is a party to the merger or consolidation exchanges
his securities in such corporation solely for stock or securities in another corporation, a party to
the merger or consolidation.
b) Transfer or exchange of property for stock resulting in acquisition of corporate control.

TAX IMPLICATION OF UPSTREAM MERGER

An upstream merger that involves the merger of a subsidiary and a parent company,
where the parent company will not be issuing any shares to the subsidiary in
exchange for the assets to be transferred, does not qualify as a tax-free merger
under Section 40(C)(2) of the Tax Code. The BIR held that the transfer of assets is in the
nature of a donation made by a subsidiary to its parent company. It further held that
an upstream merger also has the effect of dissolving and liquidating the subsidiary
without payment of taxes. Hence, the BIR denied the request for tax exemption of the
merger considering that the upstream merger does not qualify as a tax-free merger. The ruling
further provides that all previously issued rulings under the same set of facts and circumstances
are revoked. (BIR Ruling No. 508-2012, August 3, 2012)

(2) Exceptions
(a) Meaning of merger, consolidation, control securities
"Merger" or "consolidation means:
1. the ordinary merger or consolidation, or
2. the acquisition by one corporation of all or substantially all the properties of another
corporation solely for stock.
"Control” means ownership of stocks in a corporation possessing at least fifty-one percent
(51%) of the total voting power of all classes of stocks entitled to vote.

(b) Transfer of a controlled corporation

(6) Income tax treatment of capital loss


40

Special Rules on Capital Transactions (Capital Gains and Losses)


a. Rules on Real Property Classified as Capital Asset
(1.) Definition of terms:
i. Capital gain is the gain from the sale or exchange of capital assets.
ii. Capital loss is the loss incurred from the sale or exchange of capital assets.
iii. Net Capital gain is the excess of the gains from sales or exchange of capital assets over
the losses from such sales or exchanges (Sec. 39, [A, 2], NIRC).
iv. Net capital Loss is the excess of the losses from sales or exchanges of capital assets
over the gains from such sales or exchanges. (Sec. 39, [A, 3], NIRC).

(2.) Tax Treatment of Capital gains and Capital losses


governed by special rules and concurrence of 2 conditions 1, there must be a sale or exchange
2. what is sold or exchanged is a capital asset.
-in one case, distribution in complete liquidation has been considered as an exchange to
determine whether or not gain or loss has been realized or sustained.
likewise, the conveyance of property in consideration of the transferee’s assumption of accrued
taxes for which the transferor was personally liable, as a compromise of the liability on other
realty has been held to be a sale or exchange
-forced sales included- foreclosure and tax sales

a.) As to Individual Taxpayers

a.1) On personal property classified as capital asset (other than shares of stock)

The following are the applicable rules:


a. The percentages of gain or loss to be taken into account shall be -
• 100% if the capital asset has been held for 12 months or less; and
• 50% if the capital asset has been held for more than 12 months (holding period rule)

(a) Capital loss limitation rule (applicable to both corporations and


individuals)
Capital losses are deductible only to the extent of capital gains.

(b) Net loss carry-over rule (applicable only to individuals)


If any taxpayer sustains in any taxable year a net capital loss
1. Such net capital loss cannot be deducted from ordinary income due to the loss limitation
rule;
2. Such loss could be carried over to the next taxable year as a deduction against net capital
gain in an amount not in excess of the taxable income in the year the loss was sustained; and
3. Such loss shall be treated as a loss from the sale or exchange of capital assets held for not
more than twelve (12) months.
Net Capital Loss Carry Over Rule is applicable.

a.2) On real property classified as capital assets


The following are the applicable rules;
41

1. A final capital gains tax is imposed on individuals including estates and trusts computed
as follows:
tax base: gross selling price or fair market value, whichever is higher
tax rate: 6%
The tax is imposed on capital gains presumed to have been realized from the sale, exchange or
disposition of real property located in the Phils. classified as capital assets including pacto de
retro sales and other forms of conditional sales (such as mortgage foreclosure sale)

c. The tax shall be in lieu of the income tax imposed on individuals under graduated rates
in Sec. 24, [A].Capital gains from sale of real property shall not be included in the gross income
of the individual taxpayer.

(7)Dealings in real property situatedin the Philippines


6% final tax - on the gross selling price, or the current fair market value at the time of the sale,
whichever is higher.
There are two situations wherein the 6% final tax rate may not be applied, to wit:
i. If the real property classified as capital asset is sold to the government or any of its
political subdivisions or to gov’t. owned or controlled corporations, the 6% final tax rate or the
graduated income tax rates may be used on the actual gain of the taxpayer, at the option of
the taxpayer; and
ii. If the principal residence of the individual taxpayer is sold and the proceeds of the sale
is used to acquire or construct a new residence within 18 months from the date of the sale, the
sale is exempt from income tax provided:
B.1) That the Commissioner is notified by the taxpayer within thirty (30) days from the date of
the sale or disposition through a prescribed return of his intention to avail of tax exemption;
B.2) The tax exemption can only be availed of once every ten (10) years; and
B.3) If there is no full utilization of the proceeds of the sale or disposition, the portion of the
gain presumed to have been realized from the sale or disposition shall be subject to capital
gains tax.
Requirements:
a. Residence Sold or disposed of by natural persons.
b. The proceeds of the sale are fully utilized in acquiring or constructing a new principal
residence within 18 calendar months from the date of sale or disposition.
c. The Commissioner is duly notified by the taxpayer within 30 days from the date of sale or
disposition through a prescribed return of his intention to avail of the tax exemption.
d. A deposit is made of the 6% capital gain tax otherwise due, in cash or manager’s check, in
an interest-bearing account with an Authorized Agent Bank (AAB), under an Escrow Agreement
between the taxpayer and the Bureau of Internal Revenue that the same shall be released to
the taxpayer when the proceeds of the sale shall have been utilized as intended.
e. The tax exemption can only be availed of once every 10 years.

e. The sale of rights over realty, although classified as real property under the Civil Code, is
not subject to capital gains tax because the situs of these rights follow their owner who may
42

not be located in the Phils. Only real property located in the Phils. is subject to capital gains tax.
(Sec. 24 [b, 1], NIRC; BIR Ruling No. 083-99, June 22, 1999).

(8) Dealings in shares of stock of Philippine corporations


(a) Shares listed and traded in the stock exchange
(b)Shares not listed and traded in the stock exchange
-determine if the stock or share is traded or not in the stock exchange
(a) Shares listed and traded in the stock exchange
Not subject to income tax but to percentage tax of ½ of 1% of the gross selling price.
(b) Shares not listed and traded in the stock exchange
A final tax at the rates as follows:
Not over P100,000……………………………........ 5%
On any amount in excess of P100,000……………. 10%

CAR REQUIRED ON TRANSFER OF SHARES OF STOCK NOT TRADED IN THE STOCK


EXCHANGE

A Certificate Authorizing Registration (CAR) is necessary before any transfer of ownership of


shares of stock not traded in the stock exchange may be transferred to the books of a
corporation. The receipt evidencing payment of the tax is also required to be filed with and
recorded by the secretary of the corporation pursuant to Section 11 of Revenue Regulations No.
(RR) 06-08. (Revenue Memorandum Circular No. 37-2012, August 6, 2012)

TAX TREATMENT OF SUBSEQUENT DISPOSITION OF SHARES OF STOCK

In the event that the employee subsequently sells, barters, exchanges or otherwise disposes of
shares of stock obtained from the exercise of the stock options, the tax treatment is as follows:

a. Shares of stock in a domestic corporation not traded in the local stock exchange - The gain is
subject to 5%/10% capital gains tax based on the difference between the selling price/book
value/fair market value of the shares, whichever is higher, at the date of sale and the price at
the time of exercise of the option. The sale or transfer of the shares is also subject to DST
under Section 175 of the National Internal Revenue Code (NIRC) upon execution of the deed
transferring ownership or rights thereto, or upon delivery, assignment or endorsement of such
shares in favor of another.

b. Shares of stock listed and traded through the local stock exchange – The transaction is
subject to stock transaction tax imposed under Section 127(A) of the NIRC.

c. Shares of stock in a foreign corporation – The gain is subject to ordinary income tax.

(Revenue Memorandum Circular No. 88-2012, December 28, 2012)


The net capital gains on stock transactions shall not be included in the gross income of the
seller or transferor in computing his income tax liability.
43

d. It is a final tax, which shall in no case, be allowed as a deduction against income or


credited against income tax or any other tax
e. Also subject to a stock transfer tax at a different rate are shares of stock sold or
exchanged through initial public offering.

The final capital gains tax is in lieu of the ordinary income tax on individuals, corporations and
other taxpayers (estates & trusts).

Rules Regarding Other Capital Assets


A. Loss Limitation Rule provides that Capital losses are deductible only to the extent of
capital gains.- applicable to all tp
Exception: Any loss sustained by a domestic bank or trust company from the sale of bonds,
debentures, notes or certificates or other evidences of indebtedness issued by any corporation
including those issued by the government is considered as an ordinary loss and deductible from
ordinary income.
Reason: Banks and trust companies are considered as dealers in securities,
hence, these securities are considered as property primarily held for sale to customers in the
ordinary course of business.

Application.
1. X sold to Y house and lot – P5M
lot 1000 sqm – ZV P2k/sqm = P2M , Tax Dec – FMV P1.5M
house – Tax dec = P3.5 M
tax base = P5.5 M

2. X is a resident citizen
-House and lot in LA worth P10M ( 2010) , sold in 2012 – P15M
-liable for CGTx? – NO. territoriality – property not located in the Philippines
- how do we treat the Income? – as part of GI
- SP- Cost = income – apply principle on holding period
= 15M – 10M = 5M = 2.5M (held for a long term holding period)
==if property used for business? – include in gross income the full amount of 5M – ordinary
gain
Holding period only for other capital transactions

1. 2013 GI 5M
AD 4M
OI 1M

Capital transactions
a. sale of jewelry (3mos) 500K
cost 300K
capital gain 200K

b. sale of car (2mos) 1M


cost 1.5M
Capital loss 500K
44

Cap gain – cap loss = net capital loss


200K – 500K = 300K (subject to loss limitation rule = we cannot deduct the capital loss from
ordinary gain
how much is taxable income? – P1M

2. jewelry 3M
cost 1M
cap gain 2M

GI 5M
AD 6M
OL 1M

How much is taxable income?= cap gain – Operating loss = TI


2M- 1M = 1M
B. Holding Period Rule refers to the percentages of the gain or loss taken into account in
computing the net capital gain net capital loss and net income. The percentages are:
100% - if the capital asset has been held for not more than twelve (12) months (short-term);
and
- 50% - if the capital asset has been held for more than twelve (12) months (long-term)
• The holding period of capital assets is only applicable to individual taxpayer and not to
corporations.
2010 GI 5M
AD 4M
OI 1M
capital transactions
a. 3 mos jewelry 1M
cost 500K
cap gain 500K

b. 3 years residential house 2M


cost 1M
(do not include bec it is subject to CGTx = 6% FMV or FMV)

c. 5 years house in LA 15M


cost 10M
capital gain 5M ( holding period ) 2.5M
how much is taxable income?
TCG= 3M
taxable income = 4M ( OI + TCG)

C. Net Capital Loss Carry Over (NCLCO) Rule means that:


i. If any taxpayer, other than a corporation, sustains in any taxable year a net capital loss;
ii. Such net capital loss cannot be deducted from ordinary income due to the loss limitation
rule;
45

iii. Such loss could be carried over to the next taxable year (not thereafter) as a deduction
against net capital gain in an amount not in excess of the taxable income (i.e. net income
before exemptions) in the year the loss was sustained; and
iv. Such loss shall be treated as a loss from the sale or exchange of capital assets held for not
more than twelve (12) months. (Sec. 39, [D], NIRC)
deduction from CG of the next succeeding taxable year in an amount not to exceed the taxable
income during the year the loss was sustained

2013 2012
GI 5M 6M
AD 4M 7M
OI IM OL 1M

2012 Capital transactions


a. jewelry 3 mos 1M
cost 500K
Cg 500K

b. 3 year car 1M
cost 7M
CL 6M – holding period- 3M

2012 Net capital loss = 2.5M

2013 capital transactions


a. jewelry 2mos 5M
cost 2M
CG 3M
NCLCO 1M (cannot exceed income for 2010)
NCG 2M
less OL 2012 1M
TI 2013 1M

Special Capital Transactions


The following are considered as sales or exchanges of capital assets:
1. Retirement of bonds with interest coupons or in registered form
Amounts received by the holder upon the retirement of bonds, debentures, notes or certificates
or other services of indebtedness issued by any corporation (including those issued by a gov’t.
or political subdivision thereof) with the interest coupons or in registered forms, shall be
considered as amounts received in exchange thereof. (Sec. 39, [E], NIRC)

2. Short sales of property


A short sale takes place when a seller first make a sale of stock or security which he does not
own (he merely borrows the stock certificate through or from his stock broker) and
subsequently buys or covers the stock to complete the transaction.
46

The seller sells the shares short in the expectation of a decrease in value thereof within a
reasonably short period of time. He covers his short sale when the expected decrease in the
value materializes or when the time for the return of the borrowed shares comes.

1.)Failure to exercise privilege or option to buy or sell property


Gains or losses attributable to the failure to exercise privileges or options to buy and sell
property shall be considered as capital gains or losses, such as the option given to a taxpayer to
buy an agricultural land is a capital asset and the gain or the loss that may be incurred by him
from the disposition of said option is either a capital gain or a capital loss.

2.)Securities becoming worthless


If any securities which are capital assets are ascertained to be worthless and written off during
the taxable year, the loss resulting therefrom in the case of a taxpayer other than a bank or a
trust company incorporated under the laws of the Phils. a substantial part of whose business is
the receipt of deposits, is considered a capital loss.

3.) Distribution in liquidation


If, in liquidation or dissolution, the corporation acquires its own stock and exchanges its assets
(land) for the shares, the shareholders who surrendered their shares for land shall likewise be
subject to the capital gains tax prescribed under Section 24 (C) of the Tax Code.
Gains or losses from liquidating dividends are considered as capital gains or losses inasmuch as
liquidating dividends are considered as full payment from the corporation in exchange for stocks
held by the stockholders.

Readjustment of interest in a general professional partnership


When a partner retires from a general professional partnership or the partnership is dissolved,
he realizes a gain or loss measured by the difference between the price he received for his
interest and cost to him of his interest in the partnership.

F. Wash Sale
- is a sale of securities where substantially identical securities are acquired or purchased within
a 61-day period beginning 30 days before the sale and ending 30 days after the sale. (Sec. 38,
[A], NIRC).
30 days before sale 30 days after
61 day period
-law treats losses as fraudulent therefore not deductible – if there is gain- taxable

Requisites for non-deductibility:


1) The sale or other disposition of stocks or securities resulted in a loss;
2) There was an acquisition, or contract or option for acquisition of stock or securities
within thirty (30) days before the sale or thirty (30) days after the sale; and
3) The stock or securities sold where substantially the same as those acquired within the
61-day period.
The word “acquired” means acquired by purchase or by an exchange, and comprehends cases
where the taxpayer has entered into a contract or option within the sixty-one-day period to
acquire by a purchase or by such an exchange (Sec. 131, [f], Regs.)
47

“Substantially identical” means that the stock must be of the same class, or in the case of
bonds, the terms thereof must be the same.

The following are not substantially identical:


i. The common stock and the preferred stock of the same corporation;
ii. A non-voting stock and a stock with voting power;
iii. The stock of the corporation and the stock of another corporation; and
iv. Two series of bonds where one is secured by a mortgage and the other is not; or which
differ as to interest rates.

1. March 1, 2012 – purchased shares of X corp – 1,000 shares at P100/share =100K


March 29, 2012 – sold the X Corp shares at P90/share= P90K
wash sale- loss is not deductible

2. 2001- corp purchased 1k shares P100/sh


March 1, 2012 – sold the shares – 90/sh
- no wash sale as of this point
March 25, 2012 – purchased 1000 shares at P90/sh
--at this point there is wash sale – loss is non-deductible

G. Installment Sales v. Deferred Sales


Installment Sale is a sale in which proceeds are received over a period of time. Gain on an
installment sale is recognized as the selling price received, not including interest. Proceeds are
received in more than one tax year.

1. X engaged in selling motor vehicles


sold – 1M payable in 5 years, 10K/mo
20% interest = income – 200K
initial payment- total payment made during the taxable year when the transaction took place
downpayment in June- P200K
July-Dec – 10k/month
Can X declare income on installment basis?
No. initial payment = 260K
25% - initial payment should not exceed 25% of the contract price
declaration of income should be made in full- deferred payment scheme- considered as cash
transaction
rationale: if person receives lower that 25% it will be undue burden for him to pay tax in full as
compared to what he received.
if more than 25% he has enough money to pay tax

2. If sale of RP classified as capital asset


sale of land 1M
terms of payment – 1st year 200K
succeeding years – 200k until fully paid
liable for capital gains tax even if consitional sale.
can seller pay the tax on installment basis? – Yes. there is no prohibition re payment of CGTx
on installment basis if there really is an installment transaction.- own- compute the cgtx payable
– divide by no. of years of installment payment.
48

3. If 1st payment = 200K


bal = 800K (promissory note)
-during the 1st year – after a few months, buyer discounted PN ( buyer to pay p700K)
-can seller declare income on installment?
-no. he has received more that 25% of the contract price.

if seller asked discounting of PN to a third person, can seller declare income on an installment
basis?
No. the intention behind the law is no ,onger present. seller has received sufficient amount –
was able to convert and receive more than 25%

(9) Sale of principal residence


If the principal residence of the individual taxpayer is sold and the proceeds of the sale is used
to acquire or construct a new residence within 18 months from the date of the sale, the sale is
exempt from income tax provided:
B.1) That the Commissioner is notified by the taxpayer within thirty (30) days from the date of
the sale or disposition through a prescribed return of his intention to avail of tax exemption;
B.2) The tax exemption can only be availed of once every ten (10) years; and
B.3) If there is no full utilization of the proceeds of the sale or disposition, the portion of the
gain presumed to have been realized from the sale or disposition shall be subject to capital
gains tax.
Requirements:
a. Residence Sold or disposed of by natural persons.
b. The proceeds of the sale are fully utilized in acquiring or constructing a new principal
residence within 18 calendar months from the date of sale or disposition.
c. The Commissioner is duly notified by the taxpayer within 30 days from the date of sale or
disposition through a prescribed return of his intention to avail of the tax exemption.
d. A deposit is made of the 6% capital gain tax otherwise due, in cash or manager’s check, in
an interest-bearing account with an Authorized Agent Bank (AAB), under an Escrow Agreement
between the taxpayer and the Bureau of Internal Revenue that the same shall be released to
the taxpayer when the proceeds of the sale shall have been utilized as intended.
e. The tax exemption can only be availed of once every 10 years.

INCOME TAX AND VAT ON MEMBERSHIP FEES OF HOMEOWNERS’ ASSOCIATIONS

The association dues, membership fees, and other assessments/charges collected by


homeowners’ associations from its homeowner-members and other entities form part of their
gross income, which is subject to income tax and Value-Added Tax (VAT). The amounts paid in
dues or fees by homeowner-members constitute income payments or compensation for
beneficial services homeowners’ associations provide to their members and tenants, which are
49

subject to income tax and VAT. Moreover, since homeowners’ associations are subject to
income tax, they are subject to applicable withholding taxes under existing regulations. This
notwithstanding, the association dues and income of the homeowners’ associations may be
exempted from income tax, VAT and percentage tax if it satisfies the following conditions:

1. It must be a duly constituted “Association” as defined under Sec. 3(b) of Republic Act No.
(RA) 9904.

2. The local government unit (LGU) must issue a certification identifying the basic community
services and facilities being rendered by the homeowners’ association and therein stating its
lack of resources to render such services.

3. The homeowners’ association must present proof (i.e., financial statements) that the income
and dues are used for the cleanliness, safety, security and other basic services needed by the
members, including the maintenance of the facilities of their respective subdivisions or villages.

(Revenue Memorandum Circular No. 9 2013, January 30, 2013)

vi. Passive investment income


subject to final tax-if income is already subjected to final tax, excluded from any further income
tax
a) Interest Income
An earning derived from depositing or lending of money, goods or credits.
considered as sourced from within if by reason of an obligation of a resident
Ex. X corp (DC) bought machines from HK Corp
made arrangements w/ HK Corp for repairs
repair fee – P500k down
500K equal yearly installments
+ interest 10% pa
downpayment – no withholding – income without (service rendered w/o)
remaining 500k – income w/o
interest payment on installment – subject to WTx- interest source from w/in
Interests derived from sources within the Philippines, and interests on bonds, notes or other
interest-bearing obligation of residents, corporate or otherwise.

NDC
The national Development Company entered into contracts in Tokyo with several Japanese
shipbuilding companies for the construction of twelve ocean-going vessels.
The purchase price was to come from the proceeds of bonds issued by the Central Bank. 2
Initial payments were made in cash and through irrevocable letters of credit.
Fourteen promissory notes were signed for the balance by the NDC and, as required by the
shipbuilders, guaranteed by the Republic of the Philippines.
Pursuant thereto, the remaining payments and the interests thereon were remitted in due time
by the NDC to Tokyo.
The NDC remitted to the shipbuilders in Tokyo the total amount of US$4,066,580.70 as interest
on the balance of the purchase price.
No tax was withheld.
The Commissioner then held the NDC liable on such tax in the total sum of P5,115,234.74.
50

Held:
The petitioner argues that the Japanese shipbuilders were not subject to tax under the law
because all the related activities — the signing of the contract, the construction of the vessels,
the payment of the stipulated price, and their delivery to the NDC — were done in Tokyo.
The law, however, does not speak of activity but of "source," which in this case is the NDC. This
is a domestic and resident corporation with principal offices in Manila.
Here in the case at bar, petitioner National Development Company, a corporation duly
organized and existing under the laws of the Republic of the Philippines, with address and
principal office at Calle Pureza, Sta. Mesa, Manila, Philippines unconditionally promised to pay
the Japanese shipbuilders, as obligor in fourteen (14) promissory notes for each vessel, the
balance of the contract price of the twelve (12) ocean-going vessels purchased and acquired
by it from the Japanese corporations, including the interest on the principal sum at the rate of
five per cent (5%) per annum.
The law is clear. Our plain duty is to apply it as written. The residence of the obligor which
paid the interest under consideration, petitioner herein, is Calle Pureza, Sta. Mesa,
Manila, Philippines; and as a corporation duly organized and existing under the
laws of the Philippines, it is a domestic corporation, resident of the Philippines.
(Sec. 84(c), National Internal Revenue Code.) The interest paid by petitioner, which is
admittedly a resident of the Philippines, is on the promissory notes issued by it.
Clearly, therefore, the interest remitted to the Japanese shipbuilders in Japan in 1960, 1961
and 1962 on the unpaid balance of the purchase price of the vessels acquired by petitioner is
interest derived from sources within the Philippines subject to income tax under the then
Section 24(b)(1) of the National Internal Revenue Code.
CLARIFICATION ON APPLICABLE WITHHOLDING TAX INTEREST INCOME ON LOANS

Interest income received by banks from payors belonging to the top 20,000 corporations arising
from individual loans obtained from banks that are not securitized, assigned or participated out
is subject to 2% creditable withholding tax. The 2% creditable withholding tax also applies to
interest income paid by banks, which are designated as top 20,000 corporations, arising from
loans made to such banks that are not securitized or participated out. The 20% final
withholding tax and creditable withholding tax cover interest arising from or paid out of debt
securities.

(Revenue Memorandum Circular No. 84-2012, December 26, 2012)

a. Interest income
Interest Income from Bank Deposits and Deposit Substitutes
Savings deposits – C, RA, NRAETB, DC, FC -20%
-NRANETB – GI – 25%
-rules not applicable to NRFCNETB – interest earnings form part of GI
- subject to 20% final withholding tax

Time deposits
- longer than 5 years exempt from final withholding tax
- if pre-terminate, subject to final withholding tax
51

4 years – less than 5 years 5%


3 years – less than 4 years 12%
Less than 3 years 20%

CLARIFICATION ON THE TAXATION OF LONG-TERM DEPOSITS

This Circular was issued to clarify the provisions of RR 14-2012 on the proper tax treatment of
interest income from long-term deposits. The highlights of some of the issues and/or
clarifications discussed in the Circular are as follows:

1. On investments of individuals in long-term trust invested by a bank’s trust


department in a five-year corporate bond - Even if the individual does not withdraw his
money from the trust agreement for at least five years, his interest income from the trust
agreement will not be exempt from the final withholding tax as the underlying instrument is a
corporate bond, even if such corporate bond has a maturity of five years. Corporate bonds or
any other debt instrument issued by a non-bank corporation as underlying instrument will not
meet the requirements of Section 22(FF) of the Tax Code since it is not issued by a bank.

2. On investments of individuals in long-term trust invested in long-term deposits


placed under name of a bank’s trust department - If a bank’s trust department invests a
fund in a long-term deposit or investment certificate in its own name without mentioning the
particular individual for whom the investment is being made, this long-term deposit and
investment are not exempt from the 20% final withholding tax. Only those made specifically in
trust for the name of specific qualified individual investors may be exempt from income tax
under the Tax Code.

3. On the tax treatment of investments of individuals in a long-term deposit or


investments with remaining maturity of less than five years - The individual depositor
or investor who acquired the instrument shall be subject to 20% final withholding tax on his
interest income because the remaining maturity period is less than five years.

4. On the applicable tax rate in case of long-term deposits that have original tenor
of more than five years but eventually held for less than five years upon exercise of
call option - The individual depositor or investor who acquired the instrument with a maturity
period of more than five years but eventually held the same for less than five years upon
exercising his call option shall be subject to the graduated income tax rates of final withholding
tax applicable to pre-terminated long-term deposits.

5. On the effectivity date of RR 14-2012 pertaining to the exemption of long-term


deposits - Since RR 14 2012 merely implements, among others, the existing provisions of the
Tax Code on long-term deposits, it shall apply to the following:

a. All pre-terminations/transfers, sale or acquisition of current outstanding long-term deposits


or investment certificates and new issues
52

b. All the interest coupon payments of current outstanding long-term deposits or investment
certificates, as may be applicable, and new issues

c. All current outstanding underlying investments of investment certificates in the form of


common or individual trust funds or investment management accounts and new issues upon
the effectivity of the RR 14- 2012 on November 23, 2012 (Revenue Memorandum Circular No.
81-2012, December 11, 2012)

FOREIGN CURRENCY DEPOSITS


-interest earned from deposit maintenance with a bank under the expanded foreign currency
deposit system
- subject to 7.5% final withholding tax of such interest income
- except: OCW/Seamen opening foreign currency deposits

TAX TREATMENT OF INTEREST INCOME ON FINANCIAL INSTRUMENTS

The BIR issued the following clarifications on the tax treatment of interest income on
financial instruments under Revenue Regulations No. (RR) 14-2012.

1. On the tax treatment of interest income from government securities (Section 2, RR 14-2012)

Mere issuance of government debt instruments and securities shall be deemed falling
within the coverage of “deposit substitutes,” regardless of the number of lenders at the time of
origination. Such interest income derived from government debt instruments or securities is
subject to 20% final withholding tax (FWT).

4 December 2012 BIR Issuances

2. On the imposition of 20% FWT on government securities (Section 2, RR 14- 2012)

In case of zero-coupon government debt instruments and securities, the FWT is payable
upon original issuance; in case of interest-bearing government debt instruments and securities,
the FWT shall be payable upon payment of the interest.

3. On the imposition of 20% CWT on interest income from other debt instruments not classified
as “deposit substitutes” (Section 7, RR 14-2012)
The 20% creditable withholding tax (CWT) under the subsection (Y) of Sec. 2.57.2 of
RR 2-98, as amended by RR 14-2012, shall be imposed on interest payment made beginning
November 23, 2012, irrespective of when the instruments or securities were issued. The 20%
CWT shall cover all interest income from current outstanding instruments, securities, or
accounts as of November 23, 2012.
53

4. On the tax treatment of interest income from long term deposits or investment certificates
(Section 3, RR 14 2012)
Interest income derived by domestic and resident foreign corporations from long-term deposits
not issued by banks or investment certificates that are not considered deposit substitutes shall
be subject to 20% CWT, and reported as part of taxable income of the domestic and resident
foreign corporations subject to 30% regular corporate income tax.

5. On DST on assignments or re-assignments of debt instruments (Section 8, RR 14-2012)

The documentary stamp tax (DST) on assignment or re-assignment of debt instruments


pursuant to Section 198 shall apply only to instances when the assignment or re-assignment of
the debt instrument entails changing the maturity date or remaining period of coverage from
the original instrument or carries with it a renewal or issuance of new instruments in the name
of the transferee to replace the old ones. Otherwise, the assignment or re-assignment without
any change in maturity date shall be exempt from DST as provided under Section 199(f) or (g)
of the Tax Code. (Revenue Memorandum Circular No. 77-2012, November 23, 2012)

Income of foreign government exempt from Philippine tax


Under Section 32(B)(7)(a) of the Tax Code, income derived from investments in the Philippines
in loans, stocks, bonds or other domestic securities, or from interest on deposits in banks in the
Philippines by (i) foreign governments, (ii) financial institutions owned, controlled, or enjoying
refinancing from foreign governments, and (iii) international or regional financial institutions
established by foreign governments shall not be included in gross income and shall be exempt
from taxation.
In the instant case, the income recipient is a body corporate that acts as the banker and
financial agent of the Government of Singapore. As a financial institution owned and controlled
by the Government of Singapore contemplated under Section 32(B)(7) (a)(ii) of the Tax Code,
any income received by the financial institution from its investment in the Philippines such as
interest on loans, interest on bonds, dividends, and capital gains on sale of shares of stock,
bonds and other domestic securities, are not subject to Philippine income tax, and therefore,
exempt from withholding tax. (BIR Ruling No. 405-2013, November 8, 2013)

b. Dividend income
(i) Cash dividend
(ii) Stock dividend
The amount received as dividends:
(a) from a domestic corporation; and
(b) from a foreign corporation, unless less than fifty percent (50%) of the gross income of such
foreign corporation for the three-year period ending with the close of its taxable year preceding
the declaration of such dividends or for such part of such period as the corporation has been in
existence was derived from sources within the Philippines as determined under the provisions of
this Section; but only in an amount which bears the same ration to such dividends as the gross
income of the corporation for such period derived from sources within the Philippines bears to
its gross income from all sources.
54

by. DC- w/in


NRFC – w/o
RFC – consider income during last 3 years immediately preceding declaration
2012 – dividend P10M
fm Phil out
2011 50M 30M
2010 30M 15M
2009 20M 5M
100M 50M
- if income is at least 50% sourced from Phil – within
-if no 50% threshold – pro rata
-10M – entirely within

Dividend- any distribution made by a corporation out of its earnings or profits and payable to its
shareholders in money or in property. if in property- tax base is the FMV of the property when
received by the tp
10% -C, RA,
20% -NRAETB
NRANETB – part of GI- 25%
(1) Cash dividend
A dividend paid in cash and is taxable to the extent of the cash received.
(2) Stock dividend
A transfer of a portion of retained earnings to capital stock by action of stockholders. It
simply means the capitalization of retained earnings.
(3) Property dividend
A dividend paid in property held by the corporation and to the extent of the FMV of the
property received at the time of the distribution.
(4) Liquidating dividend
A dividend distributed to the shareholders upon dissolution of the corporation.
c. Dividends
Cash dividends are subject to 10% final withholding tax
other kinds of dividends are not subject to final withholding tax

NON – TAXABLE INTER – CORPORATE PRINCIPLE


• Dividends from the domestic corporation and shares in profits of taxable partnerships
received by domestic corp. are exempt from income tax.
• Sources of dividends payment: Every dividend declared by a corporation is presumed to
come from the “most recently accumulated profit”.
DC-RC= 10%
-NRC- 10%
- RA – 10%
-NRAETB- 20%
-NRANETB – 25%
-DC- exempt
-RFC – exempt
-NRFC- 30% except tax sparing rule – 15%
55

tax sparing rule -UNDER Section 28(B)(5)(b) of the 1997 Tax Code, dividends received by a
non-resident foreign corporation from a domestic corporation shall be taxed at 15 percent,
subject to the condition that the country in which the nonresident foreign corporation is
domiciled shall allow a credit against the tax due from the nonresident foreign corporation taxes
deemed to have been paid in the Philippines equivalent to 20 percent (15 percent beginning
Jan. 1, 2009, as amended by RA 9337).
The Bureau of Internal Revenue (BIR) said in BIR Ruling No. 104-2012 last March 22 that
exemption of dividends from taxation in the country of residence of the non-resident foreign
corporation, which is the recipient of the dividend, is considered sufficient in lieu of the tax
credit as a satisfaction of the condition imposed under Section 25(B)(5)(b) of the Tax Code.
Hence, dividends received by a non-resident foreign corporation domiciled in a country that
imposes no tax on dividends from foreign sources are subject to the 15 percent preferential
withholding tax rate under said tax sparing credit provision of the Tax Code.
RFC – DC – GI
- RFC – GI w/in 30% - w/o – exempt
- NRFC – 30% no tax sparing only w/in)
NRFC – DC – GI
NRFC – RFC – exempt
NRFC- NRFC – exempt
15% FWT ON DIVIDENDS UNDER TAX SPARING RULE

Under Section 28(B)(5)(B) of the 1997 Tax Code, dividends received by a non-resident
foreign corporation from a domestic corporation shall be taxed at 15%, subject to the condition
that the country where the nonresident foreign corporation is domiciled shall allow a credit
against the tax due from the nonresident foreign corporation taxes deemed to have been paid
in the Philippines equivalent to 20%. Exemption of dividends from taxation in the country of
residence of the recipient of the dividend is considered sufficient basis in lieu of the tax credit
as a satisfaction of the condition imposed under Section 25(b)(5)(B) of the Tax Code. Hence,
dividends received by a non-resident foreign corporation domiciled in Bermuda, which imposes
no tax on dividends from foreign sources, are subject to the 15% preferential withholding tax
rate under said tax sparing provision of the Tax Code. (BIR Ruling Nos. 512-2012, August 3,
2012)

PRIOR ITAD RULING APPLICATION NOT REQUIRED FOR 15% TAX SPARING RATE

Under Section 28(B)(5)(b) of the Tax Code, intercorporate dividends received by a


nonresident foreign corporation from a domestic corporation are subject to 15% preferential tax
rate, subject to the condition that the country in which the non-resident foreign corporation is
domiciled allows a tax credit equivalent to 20% against the tax due from the non-resident
foreign corporation. There is no need for a taxpayer to apply for a tax relief from the
International Tax Affairs Division (ITAD) to avail of the 15% tax sparing rate under Section
28(B)(5)(b) of the Tax Code. It should, however, meet the tax sparing credit requirement, i.e.,
the country of domicile of the nonresident foreign corporation allows a credit against the tax
imposable by it at an amount equivalent to 20% (now 15%) of the dividends remitted from the
Philippine domestic corporation to corporations domiciled therein. In the instant case, a claim
56

for refund or issuance of tax credit was filed by a non-resident foreign corporation on the
alleged overpayment of final withholding tax (FWT) on the cash dividends it received from a
domestic corporation, i.e., the difference between the 35% (now 30%) FWT imposed by the
domestic corporation and 15% preferential FWT on dividends. The nonresident foreign
corporation claimed that as a US company, it is entitled to the 15% FWT rate on dividends
under Section 28(B) (5) (b) of the Tax Code. In an earlier decision, the CTA Third Division held
that the non-resident foreign corporation is entitled to 15% preferential tax rate without it
having to apply for BIR ITAD ruling since the US Internal Revenue Code meets the 20% (now
15%) requirement under Section 28(B) (5)(b) of the Tax Code as settled in the case of CIR v.
Procter & Gamble Philippine Manufacturing Corporation and CTA (GR No. 66838, December 2,
1991). In the said case, the SC ruled that Sections 901 and 902 of the US Internal Revenue
Code satisfies the deemed tax paid requirement provided under Section 28(B) (5) (b) of the Tax
Code. The CTA en banc upheld the findings and the conclusion of the CTA Third Division that
the US Internal Revenue Code satisfies the tax sparing credit requirement under Section 28(B)
(5)(b) of the Tax Code, as confirmed by the SC. As confirmed also by the CTA en banc,
Revenue Memorandum Order (RMO) No. 01-2000 (now superseded by RMO 72-2010), which
requires the filing of a tax treaty relief application with the BIR ITAD in availing of preferential
tax rate under existing tax treaties, is irrelevant since the basis of the claim for refund is Section
28(B) (5) (b) of the National Internal Revenue Code (NIRC). (Commissioner of Internal
Revenue v. Interpublic Group of Companies, CTA EB No. 791 re CTA Case No. 7796, October
23, 2012)

15% TAX SPARING CREDIT RATE FOR DIVIDENDS

Under Section 28(B)(5)(b) of the Tax Code, a nonresident foreign corporation may avail
of the 15% preferential tax rate on dividends received by it from a domestic corporation
without need for applying for a tax relief from the International Tax Affairs Division (ITAD) if it
meets the tax sparing credit requirement, i.e., the country of domicile of the nonresident
foreign corporation allows a credit against the tax imposable by it at an amount equivalent to
20% (now 15%) of the dividends remitted from the Philippine domestic corporation to
corporations domiciled therein. The BIR held that the exemption from taxes of the dividends
received by the country of domicile of the non-resident corporate stockholder is sufficient for
the applicability of the 15% tax rate under Section 25(b)(5)(B) of the Tax Code. Hence,
dividends received by a nonresident foreign corporation domiciled in a country that imposes no
tax on dividends from foreign sources are subject to the 15% preferential withholding tax rate
under said tax sparing credit provision of the Tax Code. (BIR Ruling Nos. 012-2013 and 014-
2013, January 3, 2013)

Application of the 15% tax sparing rate

Under Section 28(B)(5)(b) of the Tax Code, a nonresident foreign corporation may avail of the
15% preferential tax rate on dividends received by it from a domestic corporation under the
condition that the country of domicile of the nonresident foreign corporation allows a credit
57

against the tax imposable by it at an amount equivalent to 15% of the dividends remitted from
the Philippine domestic corporation to corporations domiciled therein. The BIR held that the
exemption from taxes by the country of domicile of the non-resident corporate stockholder
satisfies the condition for availment of the 15% tax sparing rate under Section 25(b)(5)(B) of
the Tax Code. Hence, dividends received by a nonresident foreign corporation domiciled in
Bermuda and British Virgin Islands, which impose no tax on dividends from foreign sources, are
subject to the 15% preferential withholding tax rate under the tax sparing credit provision of
the Tax Code. (BIR Ruling Nos. 27-2013 and 272-2013, July 17, 2013 and 283-2013 and 284-
2013, July 23, 2013)

Taxable dividends include the following:


Cash Dividend – a dividend paid in cash and is taxable to the extent of the cash received.
ii) Liquidating dividend – a dividend distributed to the SHs upon dissolution of the
corporation.
iii) Scrip Dividend – issued in a form of promissory note and it is taxable in its FMV
iv) Indirect dividend – when a corporation forgives the indebtedness of its stockholders, the
transaction has the effect of payment of dividend to the extent of the amount of the debt.
v) Property dividend—a dividend paid in property of a corporation such as stock
investment, bands or securities held by the corporation and to the extent of the FMV of the
property received at the time of the distribution.
vi) Stock Dividend -- Involves the transfer of a portion of retained earnings to capital stock
by action of stockholders. It simply means the capitalization of retained earnings.
- in a loose sense stock dividends are considered unrealized gain and cannot be subjected to
income tax until that gain has been realized. The determining factor for the imposition of
income tax is whether any gain or profit was derived from the transaction
GENRULE: A mere issuance of stock dividends is not subject to income tax, because it merely
represents capital and it does not constitute income to its recipient. Before disposition thereof,
stock dividends are nothing but a representation of interest in the corporate entity.
EXCEPTIONS: When stock dividends are subject to tax;
1.These shares are later redeemed for a consideration by the corporation or otherwise
conveyed by the stockholder to the extent of such contribution. Under the NIRC, if a
corporation, after the distribution of a non-taxable stock dividend, proceeds to cancel or redeem
its stock at such time and in such manner as to make the distribution and cancellation or
redemption essentially equivalent to the distribution of a cash of a taxable dividend, the amount
received in redemption or cancellation of the stock shall be treated as a taxable dividend to the
extent that it represents a distribution of earnings or profits. (Sec.73 (B), NIRC). Depending on
the circumstances, corporate earnings may be distributed under the guise of initial capitalization
by declaring the stock dividends previously issued and later redeem or cancel said dividends by
paying cash to the stockholder. This process amounts to distribution of taxable dividends which
is just delayed so as to escape the tax. (CIR vs. CA, 301 SCRA 152)
2. The recipient is other than the stockholder. (Bachrach vs. Seifert, 57 PHIL 483)
3. A change in the stockholder’s equity results by virtue of the stock dividend issuance.

Stock dividend is classified into;


58

(1). Non – taxable – is one where the new shares confer the same rights and interest as the old
share. There is no change in the corporate identity. After the distribution thereof, there is no
change in the proportionate interest of SHs.
(2). Taxable Stock dividend – is one where there either has been a change of corporate identity
or a change in the nature of the shares, where the proportionate interest of the SHs changes.

Under the corp. code, stock dividend being one payable in capital stock, cannot be declared out
of outstanding capital stock but from retained earnings of the corporation.
Where corporate earnings are used to purchase outstanding stocks treated as treasury stock
(stocks issued and fully paid for and subsequently reacquired by the corporation of purchase,
redemption or through same other means) as a technical but prohibited device, to avoid the
effects of income taxation, distribution of said corporate earnings in the form of stock dividend
will subject SHs receiving them to income tax. The corporation parting with a portion of its
earnings “to buy” the outstanding stock is in ultimate effect and result making a distribution of
such earnings to the stockholders. (Commissioner vs. Manning, 66 SCRA 14)
-- distribution of treasury stocks- taxable not sourced from unissued shares of the Corp and
there being no transfer from surplus to capital account
1. stock div not taxable because there is no increase in wealth only increase in stocks
X corp declared dividend 1:1
60% (before) A 6M+ 6M = 12M (after) 60%
40% B 4M + 4M = 8M 40%
10 10 20
Exceptions:
1. when there is an option to choose : either cash/prop or stocks and some choose stocks
A before) 60% 6M + 6M shs = 12M sh (after) 75%
B 40% 4M (P4M) = 4M 25%
10 6 16M
both taxable- B because it is a cash dividend, A because there is change in equity ownership –
became 75% owner

2. Redemption or cancellation= equivalent to a declaration of taxable dividend


a. X corp declared 1:1 dividend
60% (before) A 6M+ 6M = 12M (after) 60%
40% B 4M + 4M = 8M 40%
10 10 20
Subsequently, after a few months, X corp cancelled shares of stocks by payment of the value of
the shares = P1/sh
A was paid 6M = taxable
B was paid 4M = taxable
-because of Sec 73B – tp merely suspended receipt of money

CIR vs. CA
Specifically, the issue is whether ANSCOR's redemption of stocks from its stockholder as well as
the exchange of common with preferred shares can be considered as "essentially equivalent to
the distribution of taxable dividend" making the proceeds thereof taxable under the law.
59

Stock dividends, strictly speaking, represent capital and do not constitute income to its
recipient. So that the mere issuance thereof is not yet subject to income tax as they are nothing
but an "enrichment through increase in value of capital investment."
As capital, the stock dividends postpone the realization of profits because the "fund represented
by the new stock has been transferred from surplus to capital and no longer available for actual
distribution."
In a loose sense, stock dividends issued by the corporation, are considered unrealized gain, and
cannot be subjected to income tax until that gain has been realized. Before the realization,
stock dividends are nothing but a representation of an interest in the corporate properties. As
capital, it is not yet subject to income tax. It should be noted that capital and income are
different.
However, if a corporation cancels or redeems stock issued as a dividend at such time and in
such manner as to make the distribution and cancellation or redemption, in whole or in part,
essentially equivalent to the distribution of a taxable dividend, the amount so distributed in
redemption or cancellation of the stock shall be considered as taxable income to the extent it
represents a distribution of earnings or profits accumulated after March first, nineteen hundred
and thirteen. In a response to the ruling of the American Supreme Court in the case of Eisner v.
Macomber (that pro rata stock dividends are not taxable income), the exempting clause above
quoted was added because provision corporation found a loophole in the original provision.
They resorted to devious means to circumvent the law and evade the tax. Corporate earnings
would be distributed under the guise of its initial capitalization by declaring the stock dividends
previously issued and later redeem said dividends by paying cash to the stockholder. This
process of issuance-redemption amounts to a distribution of taxable cash dividends which was
just delayed so as to escape the tax. It becomes a convenient technical strategy to avoid
the effects of taxation.
Thus, to plug the loophole — the exempting clause was added. It provides that the redemption
or cancellation of stock dividends, depending on the "time" and "manner" it was made, is
essentially equivalent to a distribution of taxable dividends," making the proceeds thereof
"taxable income" "to the extent it represents profits". The exception was designed to prevent
the issuance and cancellation or redemption of stock dividends, which is fundamentally not
taxable, from being made use of as a device for the actual distribution of cash dividends, which
is taxable.
Thus, the provision had the obvious purpose of preventing a corporation from avoiding dividend
tax treatment by distributing earnings to its shareholders in two transactions — a pro rata stock
dividend followed by a pro rata redemption — that would have the same economic
consequences as a simple dividend.
Although redemption and cancellation are generally considered capital transactions, as such.
they are not subject to tax. However, it does not necessarily mean that a shareholder may not
realize a taxable gain from such transactions.
Simply put, depending on the circumstances, the proceeds of redemption of stock dividends are
essentially distribution of cash dividends, which when paid becomes the absolute property of
the stockholder. Thereafter, the latter becomes the exclusive owner thereof and can exercise
the freedom of choice. Having realized gain from that redemption, the income earner cannot
escape income tax.
60

As qualified by the phrase "such time and in such manner," the exception was not intended to
characterize as taxable dividend every distribution of earnings arising from the redemption of
stock dividend.
So that, whether the amount distributed in the redemption should be treated as the equivalent
of a "taxable dividend" is a question of fact, which is determinable on "the basis of the
particular facts of the transaction in question.

REDEMPTION AND CANCELLATION


For the exempting clause of Section, 83(b) to apply, it is indispensable that: (a) there is
redemption or cancellation; (b) the transaction involves stock dividends and (c) the "time and
manner" of the transaction makes it "essentially equivalent to a distribution of taxable
dividends." Of these, the most important is the third.

Stock dividends, strictly speaking, represent capital and do not constitute income to its
recipient. So that the mere issuance thereof is not yet subject to income tax as they are
nothing but an enrichment through increase in value of capital investment. However, the
redemption or cancellation of stock dividends, depending on the time and manner it was
made, is essentially equivalent to a distribution of taxable dividends, making the proceeds
thereof taxable income to the extent it represents profits. The exception was designed to
prevent the issuance and cancellation or redemption of stock dividends, which is
fundamentally not taxable, from being made use of as a device for the actual distribution of
cash dividends, which is taxable. (CIR vs CA, G.R. No. 108576 January 20, 1999)
(iii) Property dividend
(iv)Liquidating dividend

c. Royalty income

-RC, RA. NRAETB


-within if subject/exercise of royalty is made in the Phils.
-use of IPR or transfer of know how

Compensation or payment for the use of property and is paid to the owner of a right.
from sources within the phil- subject to 20% final withholding tax
Royalties on publication of books, literary works, musical composition are subject to 10% final
withholding tax
In the case of a NRANETB- amount received in royalties from sources within the Phil are include
in GI subject to a flat rate of 25% income tax.
Corporations- 20% FWTx applicable, 10% - not applicable – royalty is included in GR subject to
allowable deductions

d. Rental income
(i) Lease of personal property
(2) Lease of real property
61

Earnings derived from leasing of real estate as well as personal property. It includes all
other obligations assumed to be paid by the lessee to the third party in behalf of the lessor.
(3) Tax treatment of
(a) Leasehold improvements by lessee
Outright Method Spread Out Method
The fair market value of the building or improvement shall be reported as additional rent
income.
Allocate the depreciated value over the remaining term of the lease contract. Every year, an
aliquot part of the depreciated value
should be reported as additional rent in addition to the regular rent income.

(b) VAT added to rental/paid by the lessee


Any additional amount paid, directly or indirectly, by the lessee in consideration for the lease is
considered rental. Therefore, taxes paid by the lessee on leased property are part of rental
income of the landlord.

(c) Advance rental/long term lease


Advanced rental is a Security Deposit which restricts the lessor as to its use
Advance rental is prepaid rental received without restriction as to its use
The amount shall be “excluded” in the determination of rental income.
The entire amount is “taxable” in the year it is received.
** If AR is to be used only during the last month of 3 rd year (3yr lease) – recognize during the
1st year- control test
**deposit- depends on nature of deposit
-supposed to guaranty performance of obligation of income
*if condition is lessee will pay RPTx – part of lease income

a. Lease: X owner of land


Y constructed bldg on land
cost of bldg- 20M
useful life- 20 yrs
term of lease-10 years

Recognition of income
1. outright method
FMV of improvement at the time of completion- no more declaration of income in the future
2. spread out method- yearly recognition of income
-determine value of improvement at the end of the lease.
value at the end of the lease will be distributed as income for the lease term.
Depreciation: 20M/20yrs = 1M /yr
value at the end of lease- 10M
amount recognized – 1M/yr
**from point of view of lessee- upon completion of bldg- asset, recognize expense of 2M every
year – useful life as to him is limited only for 10 years – 20M/10 = 2M
Depreciation expense from the particular asset or property.
62

vii. Annuities, proceeds from life insurance or other types of insurance


Annuities
Amounts payable yearly or at other regular intervals for a certain or uncertain period. They also
represent as installment payments for life insurance sold by insurance companies.

Proceeds of life insurance


Paid by reason of the death of the insured to his estate or to any beneficiary, directly or in
trust.
Return of insurance premium

viii. Prizes and awards


-NRANETB-25% within the Phil
Contest prizes and awards received are generally taxable. Such payment constitutes gain
derived from labor.
Prizes and winnings
GEN RULE: Prizes and winnings whether in cash or in kind are taxable.
Prizes and winnings are subject to 20% final tax.
Provided; 1. more than P10k
2.won in the Philippines
Where the amount of prizes or winning is P10k or less – subject to schedular rate.
Prizes-require display of talent or exertion of efforts.Tax free if sanctioned by respective
national sports assn- Phil Olympic Committee
*certain forms of achievement, literary, scientific, etc- tax free if: a. no active action on the part
of tp to join the contest (nominated or elected w/o his active participation) and b. no
requirement of rendering substantial future service.
**winnings- won by reason of pure luck
-even if not exceeding 10K –subject to FTx
except PCSO sponsored winnings-exempt from tax

Winnings of Corp-part of GI (not Ftx)


-even if not subject to FTx of 20% re winnings- winnings are covered by Expanded withholding
tax system.
nature of WTx- is in the nature of creditable form
-giver of prize will require the tax to be paid (FTx), prize will be released- will form part of GI-
whatever is paid will be credited to the tax liability.

Tax treatment of prizes


Under Section 32(B)(7)(c) of the Tax Code, there are two requisites that must be met for
awards/prizes to qualify for exemption or exclusion from gross income: (a) the recipient was
selected without any action on his part to enter the contest or proceeding; and (b) the recipient
is not required to render substantial failure services as a condition to receiving the prize or
award.
If the winners in a contest do not meet the requirements as laid down under Section 32(B)(7)
(c) of the Tax Code, the cash awards/prizes given to individuals will be subject to tax and
consequently to withholding tax. Under Section 24(B) of the Tax Code, as implemented by
63

Section 2.57-1 of Revenue Regulations No. (RR) 2-98, a 20% final withholding tax is imposed
on prizes and winnings derived by individuals from sources within the Philippines, except prizes
amounting to P10,000 or less.
If the prize and/or winning is P10,000 or less, there is no requirement on the part of the payor
to withhold the 20% final tax, but the income recipient (winner) is required to file an income
tax return as prescribed under Sections 51 and 52 of the Tax Code and declare the amount of
his prize/winning in his income tax return; the amount shall be subject to tax under Section
24(A) of the Tax Code.
(BIR Ruling No. 316-2013, August 8, 2013)

ix. Pensions, retirement benefit, or separation pay


Pension refers to allowance paid regularly to a person on his retirement or to his dependents on
his death, in consideration of past services, meritorious work, age, loss or injury.
Retirement benefits received under RA 7641 and those received by officials and employees of
private firms in accordance with a reasonable private benefit plan maintained by the employer.
Rules:
1. Reasonable private benefit plan-pension-profit sharing plan between employer and
employee)
2. RA 7641 mandatory- private employers to give retirement benefits if:
a. ee reached age 60 but not more than 65
b. at least 5 years in service
3. RA 4917
a. at least 10 years
b. not more than 50 years of age.
c. not have previously availed of the privilege under a retirement benefit plan.
** 2 & 3 only in absence of retirement plan, cba or other applicable employment
contract
Any amount received by an employee or by his heirs from the employer as a consequence of
separation of such official or employee from the service of the employer because of death,
sickness, other physical disability or for any cause beyond the control of the employee.
The social security benefits, retirement gratuities, pensions and other similar benefits received
by resident or nonresident citizens of the Philippines or aliens who come to reside permanently
in the Philippines from foreign government agencies and other institutions.
Payments of benefits due or to become due to any person residing in the Philippines under the
laws of the United States administered by the United States Veterans Administration
Benefits received from or enjoyed under the Social Security System.
Benefits received from the GSIS, including retirement gratuity received by government officials
and employees.

Tax treatment of separation pay due to retrenchment Separation or termination from the
service as part of the company’s retrenchment program are considered separation that is
beyond the control of the separated official or employee. As such, any amount received by such
officials or employees as a consequence of their separation shall not be included in gross
income and shall be exempt from taxation pursuant to Section 32 (B) (6) (b) of the Tax Code,
as amended. However, the tax exemption does not cover the payment of the separated
employee’s salaries and the payment of 13th month pay and other benefits in excess of the
64

P30,000 threshold under Section 2.78.1(A)(3)(a) and (A)(7) of RR 2-98, as amended. As


regards monetization of sick and vacation leave credits, only the cash equivalent of vacation
leaves not exceeding 10 days shall be exempt from tax, while the monetized value of all sick
leave credits of separated employees shall be subject to income tax. (BIR Ruling No. 227-2013,
June 20, 2013)

Separation due to redundancy


Under Section 32(B)(6)(b) of the Tax Code, any amount received by an official or employee or
by his heirs from the employer as a consequence of separation of such official or employee
from the service of the employer because of death, sickness or other physical disability or for
any cause beyond the control of the official or employee is exempt from taxes.
In case an employer adopts a redundancy program that results in the merger of certain
positions and the retrenchment of some of its employees, the BIR held that such separation of
employees from service shall be considered beyond the control of the employee. Hence, any
and all amounts to be received by the employee affected by the retrenchment program are
exempt from income tax and consequently from withholding tax.

However, the cash equivalent of vacation leave exceeding 10 days and monetized sick leave
credits, regardless of number of days, shall be subject to tax. The exemption shall also not
include the payment of the separated employee’s salaries and the payment of the 13th month
pay and other benefits in excess of the P30,000 threshold under Section 2.78.1(A)(3)(a) and
(A)(7) of RR 2-98, as amended.
(BIR Ruling No. 405-2013, November 8, 2013)

x. Income from any source whatever


All income not expressly excluded or exempted from the class of taxable income, irrespective of
the voluntary or involuntary action of the taxpayer in producing the income.

a. Forgiveness of indebtedness
Dependent upon the circumstances, may amount to:
1. income;
2. a gift; or
3. a capital transaction.
a. DR – CR debt of 1M, Cr forgives the debt w/o any reason at all
-no income there is a gift, Cr liable for Donor’s tax
-if cancellation is predicated on service rendered – remuneratory – cancellation/forgiveness will
give rise to an income on the part of the donee
* if 3rd person rendered service to Cr- by reason of the service Cr forgave indebtedness of Dr
-3rd person – earned income and donor’s tax

*if DR sh of Cr corp- Cr forgave indebtedness of DR – 1M considered as dividends by the corp


to sh – income tax liability on Dividend
* if DR corp – Cr shareholder – forgave indebtedness – no income tax – considered as capital
-contribution to the capital of the corporation.
65

b. Recovery of accounts previously written-off – when taxable/when not


taxable
To be included as part of the taxpayer’s gross income in the year of such recovery to the extent
of the income tax benefit of said deduction. There is an income tax benefit when the deduction
of the bad debt in the prior year resulted in lesser income and hence, tax savings for the
company.

c. Receipt of tax refunds or credit


As a general rule, a refund of a tax related to the business or the practice of profession
is taxable income in the year of receipt to the extent of the income tax
benefit of said deduction.
d. Income from any source whatever
-bribes, kickbacks, hueteng.

e. Source rules in determining income from within and without


(i) Interests
(ii) Dividends
(iii) Services
Compensation for labor or personal services performed in the Philippines.
Marubeni
The division of the price into Japanese Yen Portions I and II and the Philippine Pesos Portion
under the two contracts corresponds to the two parts into which the contracts were classified
the Foreign Offshore Portion and the Philippine Onshore Portion. In both contracts, the
Japanese Yen Portion I corresponds to the Foreign Offshore Portion. 37 Japanese Yen Portion II
and the Philippine Pesos Portion correspond to the Philippine Onshore Portion.
Under the Philippine Onshore Portion, respondent does not deny its liability for the contractor's
tax on the income from the two projects. In fact respondent claims, which petitioner has not
denied, that the income it derived from the Onshore Portion of the two projects had been
declared for tax purposes and the taxes thereon already paid to the Philippine government.
It is with regard to the gross receipts from the Foreign Offshore Portion of the two contracts
that the liabilities involved in the assessments subject of this case arose. Petitioner argues that
since the two agreements are turn-key, they call for the supply of both materials and services to
the client, they are contracts for a piece of work and are indivisible.
The situs of the two projects is in the Philippines, and the materials provided and services
rendered were all done and completed within the territorial jurisdiction of the Philippines. 41
Accordingly, respondent's entire receipts from the contracts, including its receipts from the
Offshore Portion, constitute income from Philippine sources.

Baier
The Court reiterates the rule that "source of income" relates to the property, activity or service
that produced the income. With respect to rendition of labor or personal service, as in the
instant case, it is the place where the labor or service was performed that determines the
source of the income. There is therefore no merit in petitioner's interpretation which equates
66

source of income in labor or personal service with the residence of the payor or the place of
payment of the income.
The decisive factual consideration here is not the capacity in which respondent received the
income, but the sufficiency of evidence to prove that the services she rendered were performed
in Germany.

(iv) Rentals
Rentals and royalties from property located in the Philippines or from any interest in such
property, including rentals or royalties for -

(a) The use of or the right or privilege to use in the Philippines any copyright, patent, design or
model, plan, secret formula or process, goodwill, trademark, trade brand or other like property
or right;
(b) The use of, or the right to use in the Philippines any industrial, commercial or scientific
equipment;
(c) The supply of scientific, technical, industrial or commercial knowledge or information;
(d) The supply of any assistance that is ancillary and subsidiary to, and is furnished as a means
of enabling the application or enjoyment of, any such property or right as is mentioned in
paragraph (a), any such equipment as is mentioned in paragraph (b) or any such knowledge or
information as is mentioned in paragraph (c);
(e) The supply of services by a non-resident person or his employee in connection with the use
of property or rights belonging to, or the installation or operation of any brand, machinery or
other apparatus purchased from such non-resident person;
(f) Technical advice, assistance or services rendered in connection with technical management
or administration of any scientific, industrial or commercial undertaking, venture, project or
scheme; and
(g) The use of or the right to use:
(i) Motion picture films;
(ii) Films or video tapes for use in connection with television; and
(iii) Tapes for use in connection with radio broadcasting.

(v) Royalties
CIR VS. SMART
On May 25, 2001, respondent entered into three Agreements for Programming and Consultancy
Services with Prism Transactive (M) Sdn. Bhd. (Prism), a non-resident corporation duly
organized and existing under the laws of Malaysia. Under the agreements, Prism was to
provide programming and consultancy services for the installation of the Service Download
Manager (SDM) and the Channel Manager (CM), and for the installation and implementation of
Smart Money and Mobile Banking Service SIM Applications (SIM Applications) and Private Text
Platform (SIM Application).
Thinking that these payments constitute royalties, respondent withheld the amount of
US$136,955.61 or P7,008,840.43, representing the 25% royalty tax under the RP-Malaysia Tax
Treaty.[6]
67

***---Under the RP-Malaysia Tax Treaty, the term royalties is defined as payments of any kind
received as consideration for:
"(i) the use of, or the right to use, any patent, trade mark, design or model, plan, secret
formula or process, any copyright of literary, artistic or scientific work, or for the use of, or the
right to use, industrial, commercial, or scientific equipment, or for information concerning
industrial, commercial or scientific experience;
(ii) the use of, or the right to use, cinematograph films, or tapes for radio or television
broadcasting.”
Under the same Treaty, the "business profits" of an enterprise of a Contracting State is taxable
only in that State, unless the enterprise carries on business in the other Contracting State
through a permanent establishment. --fixed place of business where the enterprise is wholly or
partly carried on. However, even if there is no fixed place of business, an enterprise of a
Contracting State is deemed to have a permanent establishment in the other Contracting State
if it carries on supervisory activities in that other State for more than six months in connection
with a construction, installation or assembly project which is being undertaken in that other
State.
In the instant case, it was established during the trial that Prism does not have a permanent
establishment in the Philippines. Hence, "business profits" derived from Prism's dealings with
respondent are not taxable.
The question is whether the payments made to Prism under the SDM, CM, and SIM Application
agreements are "business profits" and not royalties.
---The provisions in the agreements are clear. Prism has intellectual property right over the
SDM program, but not over the CM and SIM Application programs as the proprietary rights of
these programs belong to respondent. In other words, out of the payments made to
Prism, only the payment for the SDM program is a royalty subject to a 25%
withholding tax. A refund of the erroneously withheld royalty taxes for the payments
pertaining to the CM and SIM Application Agreements is therefore in order.

BIR ITAD 14-68


General consultancy services without transfer of technology, equipment or other property where
the provider has proprietary interest or that would not impost special knowledge & interest or
that would not impost special knowledge & experience of provider are not royalties but profits.
if performed outside the country not taxable here.
Rule re: software-applies to operational & application of SW in any form-subject to copyright
for use-pay royalty
even if use is fraudulent-compensation for damages bec of fraudulent use-considered as royalty
Transactions:
1. transfer of all substantial rights – sale or exchange of prop
2. not all substantial rts- deemed license- royalty
3. only copyright transferred- royalty
4. copyright ownership is transferred- bus income
5. transfer of software only- bus income
6. if person other than transferee is considered owner- rental
7. after sales service- income from services & royalty
8. service for part for use of sw- royalty
9. service- income
68

(vi) Sale of real property


Gains, profits and income from the sale of real property located in the Philippines.

(vii) Sale of personal property


Gains, profits and income from the sale of personal property
Items of gross income treated as income from sources without the Philippines:
(1) Interests other than those derived from sources within the Philippines
(2) Dividends other than those derived from sources within the Philippines
(3) Compensation for labor or personal services performed without the Philippines;
(4) Rentals or royalties from property located without the Philippines or from any interest in
such property including rentals or royalties for the use of or for the privilege of using without
the Philippines, patents, copyrights, secret processes and formulas, goodwill, trademarks, trade
brands, franchises and other like properties; and
(5) Gains, profits and income from the sale of real property located without the Philippines.
*purchase and sale transaction
purchased abroad and sold within – source within
Purchased within sold abroad – source w/o
place of sale- determining factor
**passage of title test – if title is transferred abroad – place of sale is abroad – if title will pass
upon delivery – sale is made at the place of delivery

**manufacture and sale


man w/o and sold w/in – partially w/in & w/o
man w/in & sold w/o – partially w/in & w/o

(viii) Shares of stock of domestic corporation


Gain from the sale of shares of stock in a domestic corporation shall be treated as derived
entirely form sources within the Philippines regardless of where the said shares are sold.

f. Situs of income taxation (see page 2 under inherent limitations, territorial)


g. Exclusions from gross income
Income received or earned but is not taxable as income because it is exempted by law or by
treaty. Receipts which are not in fact income are also excluded from Gross Income.

(i) Rationale for the exclusions


They
a. Represent return of capital;
b. Are not income, gain or profit;
c. Are subject to another kind of internal revenue tax;
d. Are income, gain or profit that are expressly exempt from income tax.
69

(ii) Taxpayers who may avail of the exclusions


All kinds of taxpayers - individuals, estates, trusts and corporations, whether citizens, aliens,
whether residents or non-residents.

(iii) Exclusions distinguished from deductions and tax credit


Exclusions Deductions Tax credit
Income received or earned but is not taxable because by law or treaty. Such tax – free income
is not to be included in the income tax return unless information regarding it is specifically
called for.

The items or amounts authorized by law to be subtracted from the pertinent items of gross
income to arrive at taxable income.
An amount subtracted from an individual’s or entity’s tax liability to arrive at the total tax
liability.

(iv) Under the Constitution


(a) Income derived by the government or its political subdivisions
from the exercise of any essential governmental function
From:
1) any public utility; and
2) the exercise of any essential governmental function.

(v) Under the Tax Code


(a) Proceeds of life insurance policies
Paid to the heirs or beneficiaries upon the death of the insured, whether in a single sum or
otherwise.
The proceeds of life insurance policies paid to the heirs or beneficiaries upon the death of the
insured, whether in a single sum or otherwise.
•Reason for exclusion: The contract of insurance is a contract of indemnity hence, the proceeds
thereof are considered indemnity rather than a gain or profits.

• Instances when proceeds from insurance are taxable:


a.)Where proceeds are held by the insurer under an agreement to pay interest. The interest is
included in determination of gross income.
b.)Where the transfer is for valuable consideration.

(b) Return of premium paid


Paid by the insured under life insurance, endowment, or annuity contracts, either during the
term or at the maturity of the term of the contract or upon surrender.
The amount received by the insured as a return of premiums
•Reason for the exclusion: The return of premium is a mere return of capital. However, where
the amount received exceed the aggregate premiums paid, the excess shall be income.
70

(c)Amounts received under life insurance,


endowment or annuity contracts
If the insured dies, and the beneficiary receives the life insurance proceeds, these are not
taxable income because they are excluded from gross income.
If the insured does not die and survives the designated period, the amount pertaining to the
premiums he paid are excluded from gross income, but the excess shall be considered part of
his gross income.

(d) Value of property acquired by gift, bequest, devise or descent


The income from such property, as well as gift, bequest, devise, or descent of income from
property, in cases of transfers of divided interest, shall be included in gross income.
The estate of the testator or the decedent is subject to estate tax, while the heirs or
beneficiary/ies are not required to pay donee’s 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 included in
the computation of their gross income since gifts, bequest and devises are excluded from gross
income.
The value of the property acquired by gift, devise, or descent shall be excluded. However, the
income from such property, as well as gift, bequest, devise, or descent of income from
property, in cases of transfers of divided interest, shall be included in gross income.

(e) Amount received through accident or health insurance


As compensation for personal injuries or sickness, plus the amounts of any damages received,
whether by suit or agreement, on the account of such injuries or sickness.
Amounts received, through Accident or Health Insurance or under Workmen’s Compensation
Acts, as compensation for personal injuries or sickness, plus the amounts of any damages
received, whether by suit or agreement, on the account of such injuries or sickness.
•Example of damages recovered from personal injuries: Moral damages for personal injuries.
•If the award of damages is to compensate loss of property or an award of damages to
compensate loss of income / profits, such is subject to tax.

(f) Income exempt under tax treaty


Income of any kind, to the extent required by any treaty obligation binding upon the
Government of the Philippines.

(g) Retirement benefits, pensions, gratuities, etc.

a) Retirements benefits received under RA 7641 and those received by officials and employees
of private firms in accordance with reasonable private benefit plan.
b) Any amount received by an official or employees or by his heirs from the employer as a
“consequence of separation from service due to death, sickness or other physical disability
beyond the control of the said official or employer.
c) Terminal leave and other social security benefits.
71

d) Benefits received under the US veterans Administration.


e) Benefits received from SSS
f) Benefits received from GSIS.
Retirements benefits received under RA 7641 and those received by officials and employees of
private firms in accordance with reasonable PRIVATE BENEFIT PLAN.
Requisites:
(1.) The retiring official or employees has been in service of the same employer for at least
ten years.
(2.) Is not less than 50 yrs. of age at the time of his retirement.
(3.)And is available to official or employee only once.
•Private retirement benefit planA “reasonable private benefit plan” means a pension; gratuity,
stock bonus or profit sharing plan maintained by an employer for the benefit of some or all of
his employees –
a.) wherein contributions are made by such employer or employees, or both, for the
purpose of distributing to such employer the earnings and principal of the fund thus
accumulated; and
b.) wherein said plan provides that at no time shall any part of the principal or income of
the fund be used for, or be diverted to, any purpose other than for the exclusive benefit of said
employee
3) Separation Payments -Any amount received by an official or employees or by his heirs from
the employer as a “consequence of separation from service due to death, sickness or other
physical disability beyond the control of the said official or employer.
4) Leave Benefits-The terminal leave pay of government employees whose employment is co-
terminus is exempt since it falls within the meaning of the phrase “for any cause beyond the
control of the said official or employees” (BIR Ruling 143-98)
5) 13th Month Pay and other Bonuses-13th month pay equivalent to the mandatory one (1)
month basic salary of officials and employees (national or local), including GOCC, and of private
offices received after the 12th month ay beginning 1994 and similar benefits, provided the total
amount is P30k and below, likewise exempt from withholding tax but any amount in excess
thereto shall be taxable and also subject to withholding tax
6)SSS/GSIS/other contributions (Phil-Health/Pag-ibig) and Union Dues

Respondent terminated petitioner’s services due to her


illness, rendering her incapable of continuing to work, and gave her retirement benefits but
withheld the tax due thereon. The retirements benefits are taxable because the petitioner was
only 41 yrs old at the time of retirement and had rendered only 8 years of service; for these
benefits to be exempt from tax, the following requisites must concur: (1) a reasonable private
benefit plan is maintained by the employer; (2) the retiring official or employee has been in
the service of the same employer for at least ten (10) years; (3) the retiring official or
employee is not less than fifty (50) years of age at the time of his retirement; and (4) the
benefit had been availed of only once. ( Ma. Isabel T. Santos vs. Servier Phil., Inc., et al.,
G.R. No. 166377, November 28, 2008)

Respondents contend that petitioner did not withhold the taxes due on their retirement
72

benefits because it had obliged itself to pay the taxes due thereon. This was done to induce
respondents to agree to avail of the optional retirement scheme. It was only when
respondents demanded the payment of their salary differentials that petitioner alleged, for the
first time, that it had failed to present the 1993 CBA to the BIR for approval, rendering such
retirement benefits not exempt from taxes; consequently, they were obliged to refund to it the
amounts it had remitted to the BIR in payment of their taxes. Petitioner used this “failure” as
an afterthought, as an excuse for its refusal to remit to the respondents their salary
differentials. Patently, petitioner is estopped from doing so. It cannot renege on its
commitment to pay the taxes on respondents’ retirement benefits on the pretext that the “new
management” had found the policy disadvantageous. (Intercontinental Broadcasting
Corp. vs. Amarilla, et al., G.R. No. 162775, October 27, 2006)

Severance of employment is a condition sine qua non for the release of retirement benefits.
Retirement benefits are not meant to recompense employees who are still in the employ of the
government. (Dev’t. Bank of the Phil. vs. Commission on Audit,
G.R. No. 144516, February 11, 2004)
(h) Winnings, prizes, and awards, including those in sports competition
1)Prizes and Awards - to be excluded, the following conditions must concur:
a. Prizes and award made primarily in recognition of religious, charitable, scientific, educational,
artistic, literary, or civic achievement.
b. The recipient was selected without any action on his part to enter the contest or proceeding.
c. The recipient is not required to render substantial future services as a condition in receiving
the award.
2) Prizes and Awards in Sports Competition –
All prizes and award granted to athletes in local and international sports competitions and
tournaments whether held in the Phils. or abroad and sanctioned by sports associations.

Under a Tax Treaty To the extent required by any treaty obligation binding upon the
Philippine government.

Under special laws


a) Prizes received by winners in charity horse race sweepstakes from PCSO.
b) Back pay benefits
c) Income of cooperative marketing association
d) Salaries and stipends in dollars received by non - Filipino citizens on the technical staff of
International Rice Research Institutes (IRRI)
e) Supplemental allowances per diem, benefits received by officer or employees of the Foreign
Service.
f)Income from bonds and securities for sale in the international market.
.) Income derived by Foreign Government – Income derived from investments in the Philippines
in loans, stocks, bonds or other domestic securities or from interest on deposits in banks in the
Philippines by:
(i) Foreign governments,
(ii)Financing institutions owned, controlled or enjoying refinancing from foreign governments,
and
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(iii) International or regional financial institutions established by foreign governments.

Personal Equity and Retirement Account

h. Deductions from gross income


•These are items that are originally part and must be included in the taxpayer’s gross income
but are allowed to be subtracted therefrom to determine the net income.
DEDUCTIONS vs. EXCLUSIONS
DEDUCTIONS EXCLUSIONS (Non-taxable items)
1. Deductions are disbursements, expenses or losses that the law allows to reduce gross
income. They represent generally, though not exclusively expenditures, other than the capital
expenditures, connected with the production of income. 1. These are certain items which
could be properly taxed as income yet the law specifically exclude then from taxation either on
the basis of public consideration or from the fact that the transmutation of economic gain is not
essentially the result of labor and efforts of the taxpayer.
2. The allowable deductions from gross income are limited to those that are related to the
taxpayer’s business or profession; the only exceptions are a.) charitable contributions and
b.) some kinds of losses. 2. They are not included in the income tax return unless
information regarding them is specifically called for.
Taxpayers who are taxed only for net income within the Philippines (NRAEBI and RFC) can only
claim deductions incurred in carrying on such business in the Philippines. 3. It may be availed
of by all kinds of taxpayers.

All income
less exclusions
GROSS INCOME
less ALLOWABLE DEDUCTIONS
NET INCOME
less PERSONAL/ADDITIONAL EXMEMPTION
TAXABLE NET INCOME
X TAX RATE
INCOME TAX DUE
less CWT/TAX CREDIT
INCOME TAX PAYABLE

c. DEDUCTIONS WHEN ALLOWED


Deductions are matters of legislative grace. A taxpayer can only deduct an item or amount from
gross income if there is a law authorizing such a deduction. The taxpayer must be able to point
to the specific provision of the statute authorizing such deduction and that he must be able to
prove that he is entitled to it.
These allowable deductions can be availed of only if it is shown that the tax required to be
deducted and withheld therefrom has been paid to the BIR (Rev. Reg. No. 2, April 17, 1998)
burden of proof to establish the validity of claimed deductions rests on the tp

d.DEDUCTIONS vs. TAX CREDIT


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1.Tax credit – it is the right of an income taxpayer to deduct from income tax payable the
foreign income tax he has paid to his foreign country subject to limitations.
-Subtracted from the tax itself
-It reduces the taxpayer’s liability dollar for dollar.

•Deductions – subtracted from the gross income before the tax is computed
-It reduces the taxable income upon which the tax liability is calculated.

i. CIR vs. Central Luzon Drug Corp., April 15, 2005


A tax credit differs from a tax deduction. On the one hand, a tax credit reduces the tax due,
including – whenever applicable – the income tax that is determined after applying the
corresponding tax rates to taxable income. A tax deduction, on the other, reduces the income
that is subject to tax in order to arrive at taxable income. To think of the former as the latter is
to avoid, if not entirely confuse the use. A tax credit is used only after the tax has been
computed, a tax deduction, before.

ii. CIR vs. Central Luzon Drug Corp., June 26, 2006
The 20% discount required by RA 7432 to be given to senior citizens is a tax credit, not a
deduction from the gross sales of the establishment concerned. The definition of tax credit
found in Sec. 2(1) of Rev. Reg. No. 2-94 is erroneous as it refers to a tax credit as the amount
representing the 20% discount that “shall be deducted by the said establishment from their
gross sales for VAT and other percentage tax purposes.”

iii. Bicolandia Drug Corp. vs. CIR, June 22, 2006


The term “cost” in Sec. 4(a) of RA No. 7432 (Senior Citizens Act) refers to the amount of the
20% discount extended by a private establishment to senior citizens in their purchase of
medicines. This amount shall be applied as a tax credit and may be deducted from the tax
liability of the entity concerned, if there is no current tax due or the establishment reports a net
loss for the period, the period may be carried over to the succeeding taxable year.

June 12, 2008 CIR vs. Central Luzon Drug Corp.,


granted 20% sales discount to qualified senior citizens on their purchases of medicines covering
the calendar year 1997.
filed a claim for refund or credit of overpaid income tax for the taxable year 1997 in the amount
of P2,660,829.00. Alleged that the overpaid tax was the result of the wrongful implementation
of RA 7432. Respondent treated the 20% sales discount as a deduction from gross sales in
compliance with RR 2-94 instead of treating it as a tax credit as provided under Section 4(a) of
RA 7432.
--Court has squarely ruled that the 20% senior citizens' discount required by RA 7432 may be
claimed as a tax credit and not merely a tax deduction from gross sales or gross income. Under
RA 7432, Congress granted the tax credit benefit to all covered establishments without
conditions. The net loss incurred in a taxable year does not preclude the grant of tax credit
because by its nature, the tax credit may still be deducted from a future, not a present, tax
liability. However, the senior citizens' discount granted as a tax credit cannot be refunded.
In Commissioner of Internal Revenue v. Central Luzon Drug Corporation , the Court stressed
that prior payment of tax liability is not a pre-condition before a taxable entity can avail of the
75

tax credit. The Court declared, "Where there is no tax liability or where a private establishment
reports a net loss for the period, the tax credit can be availed of and carried over to the next
taxable year." It is irrefutable that under RA 7432, Congress has granted the tax credit benefit
to all covered establishments without conditions. Therefore, neither a tax liability nor a prior tax
payment is required for the existence or grant of a tax credit. Hence, respondent is entitled to
claim the amount of P2,376,805.63 as tax credit despite incurring net loss from business
operations for the taxable year 1997.

RA 9257 now specifically provides that all covered establishments


may claim the senior citizens' discount as tax deduction.
On 26 February 2004, RA 9257, otherwise known as the "Expanded Senior Citizens Act of
2003," was signed into law and became effective on 21 March 2004.
Contrary to the provision in RA 7432 where the senior citizens' discount granted by
all covered establishments can be claimed as tax credit, RA 9257 now specifically
provides that this discount should be treated as tax deduction.
With the effectivity of RA 9257 on 21 March 2004, there is now a new tax treatment
for senior citizens' discount granted by all covered establishments. This discount
should be considered as a deductible expense from gross income and no longer as
tax credit. The present case, however, covers the taxable year 1997 and is thus
governed by the old law, RA 7432.

CARLOS SUPERDRUG VS. (DSWD)


The establishment may claim the discounts granted under (a), (f), (g) and (h) as tax
deduction based on the net cost of the goods sold or services rendered: Provided, That the
cost of the discount shall be allowed as deduction from gross income for the same taxable year
that the discount is granted. Provided, further, That the total amount of the claimed tax
deduction net of value added tax if applicable, shall be included in their gross sales receipts for
tax purposes and shall be subject to proper documentation and to the provisions of the National
Internal Revenue Code, as amended.
Salaries, wages and other forms of compensation for 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 Payment by the taxpayer-
corporation to its controlling stockholder (Hoskins) of 50% of its supervision fees (paid by a
client of the corporation for the latter's services as managing agent of a subdivision project) or
the amount of P99,977.91 is not a deductible ordinary and necessary expense because it does
not pass the test of reasonable compensation. If independently, a one-time P100,000.00-fee
to plan and lay down the rules for supervision of a subdivision project were to be paid to an
experienced realtor such as Hoskins, its fairness and deductibility by the taxpayer could be
conceded; however, the fee paid to Hoskins continued every year since 1955 up to 1963 and
for as long as its contract with the subdivision owner subsisted, regardless of whether services
were actually rendered by Hoskins. (C. M. Hoskins & Co., Inc. vs. Commissioner of Internal
Revenue, G.R. No. L-24059, November 28, 1969)

General rules
Deductions must be paid or incurred in connection with the taxpayer’s trade,
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business or profession
- It must be directly connected with trade or business or profession of the taxpayer.

Deductions must be supported by adequate receipts or invoices (except


standard deduction)
The claimed deduction must be evidenced by official receipts or other adequate records.

Additional requirement relating to withholding (research)

Return of capital (cost of sales or services)


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

Sale of inventory of goods by manufacturers and dealers of properties


Sale of stock in trade by a real estate dealer and dealer in securities
Sale of services

KINDS OF ALLOWABLE DEDUCTIONS


1. Itemized or Actual Deductions – items or amounts, which the law allows to be deducted from
gross income in order to arrive at taxable income.
2. Optional Stand Deductions – These are deductions in lieu of the itemized deductions. It is
40% of the gross sale/receipt of the taxpayer from business or profession.
3. Special Deductions – these are deductions allowed to be deducted in addition to the itemized
deductions allowable to corporations which may be availed of by insurance companies, mutual
insurance companies, mutual marine insurance companies, assessment insurance companies,
estates and trusts and private educational institutions.

Itemized deductions
Who can claim the itemized deductions?
1. Corporations
2. General Professional Partnership
3. Individuals engaged in trade, business or profession
4.Estate and Trust engaged in trade or business

•If the taxpayer failed to elect the kind if deduction in his income tax, he shall be considered as
having availed himself of the itemized deduction.

Expenses -designed to increase profits or reduce further business expenses

Requisites for deductibility


1. It must be ordinary and necessary.
2. It must be paid or incurred during the taxable year.
77

3. It must be paid or incurred in carrying on or which are directly attributable to the


development, management, operation and/or conduct of the trade, business or exercise of a
profession.
4. The amount must be reasonable.
5. It must be substantiated with sufficient evidence, such as official receipts or other adequate
records, showing:
i. the amount of the expense being deducted, and
ii. the direct connection or relation of the expense being deducted to the development,
management, operation and/or conduct of the trade, business or profession of the taxpayer
6. It is not contrary to law, public policy or morals.
7. The tax required to be withheld on the amount paid or payable must have been paid to
the BIR by the taxpayer, who is constituted as a withholding agent of the government.

Nature: ordinary and necessary


Ordinary When it connotes a payment, which is normal in relation to the business of the
taxpayer and the surrounding circumstances.
Necessary Where the expenditure is appropriate or helpful in the development of taxpayer’s
business or that the same is proper for the purpose of realizing a profit or minimizing a loss.

February 12, 2007


CIR vs. Isabela Cultural
The requisites for the deductibility of ordinary and necessary trade, business, or professional
expenses, like expenses paid for legal and auditing services, are: (a) the expense must be
ordinary and necessary; (b) it must have been paid or incurred during the taxable year; (c) it
must have been paid or incurred in carrying on the trade or business of the taxpayer; and (d) it
must be supported by receipts, records or other pertinent papers.
The requisite that it must have been paid or incurred during the taxable year is further qualified
by Section 45 of the National Internal Revenue Code (NIRC) which states that: "[t]he deduction
provided for in this Title shall be taken for the taxable year in which 'paid or accrued' or 'paid or
incurred', dependent upon the method of accounting upon the basis of which the net income is
computed x x x".
Accounting methods for tax purposes comprise a set of rules for determining when and how to
report income and deductions. In the instant case, the accounting method used by ICC is the
accrual method.
Revenue Audit Memorandum Order No. 1-2000, provides that under the accrual method of
accounting, expenses not being claimed as deductions by a taxpayer in the current year when
they are incurred cannot be claimed as deduction from income for the succeeding year. Thus, a
taxpayer who is authorized to deduct certain expenses and other allowable deductions for the
current year but failed to do so cannot deduct the same for the next year.
The accrual method relies upon the taxpayer's right to receive amounts or its obligation to pay
them, in opposition to actual receipt or payment, which characterizes the cash method of
accounting. Amounts of income accrue where the right to receive them become fixed, where
there is created an enforceable liability. Similarly, liabilities are accrued when fixed and
determinable in amount, without regard to indeterminacy merely of time of payment.
78

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

In the instant case, the expenses for professional fees consist of expenses for legal and auditing
services.
The expenses for legal services pertain to the 1984 and 1985 legal and retainer fees of the law
firm Bengzon Zarraga Narciso Cudala Pecson Azcuna & Bengson, and for reimbursement of the
expenses of said firm in connection with ICC's tax problems for the year 1984. As testified by
the Treasurer of ICC, the firm has been its counsel since the 1960's.
From the nature of the claimed deductions and the span of time during which the firm was
retained, ICC can be expected to have reasonably known the retainer fees charged by the firm
as well as the compensation for its legal services.
The failure to determine the exact amount of the expense during the taxable year when they
could have been claimed as deductions cannot thus be attributed solely to the delayed billing of
these liabilities by the firm.
For one, ICC, in the exercise of due diligence could have inquired into the amount of their
obligation to the firm, especially so that it is using the accrual method of accounting. For
another, it could have reasonably determined the amount of legal and retainer fees owing to its
familiarity with the rates charged by their long time legal consultant.
--In the same vein, the professional fees of SGV & Co. for auditing the financial statements of
ICC for the year 1985 cannot be validly claimed as expense deductions in 1986. This is so
because ICC failed to present evidence showing that even with only "reasonable
accuracy," as the standard to ascertain its liability to SGV & Co. in the year 1985, it
cannot determine the professional fees which said company would charge for its
services.
-- As to the expenses for security services, the records show that these expenses were incurred
by ICC in 1986 and could therefore be properly claimed as deductions for the said year.

The expenses paid by Atlas for the services rendered by a public relations firm, aimed at
creating a favorable image for Atlas, is not an allowable deduction as business expense under
the NIRC. Efforts to establish reputation are akin to acquisition of capital assets and,
therefore, expenses related thereto are not business expense but capital expenditures. ( Atlas
Consolidated Mining & Devt. Corp. vs. Commissioner of Internal Revenue, G.R. No. L-
26911, January 27, 1981)

A stock listing fee paid annually to a stock exchange for the privilege of having a corporation’s
79

stock listed is an ordinary and business expense. This is distinguished from a single payment
made to the stock exchange, which is considered a capital expenditure. ( Atlas Consolidated
Mining & Devt. Corp. vs. Commissioner of Internal Revenue, G.R. No. L-26911, January
27, 1981)

The subject media advertising expense for “Tang” incurred by respondent corporation was not
an ordinary and necessary expense, but rather a capital expenditure because it failed the two
conditions set by U.S. jurisprudence in determining whether or not it is an “ordinary”
expense: first, reasonableness of the amount incurred and second, the amount incurred must
not be a capital outlay to create “goodwill” for the product and/or private respondent’s
business. The subject expense for the advertisement of a single product is inordinately large;
furthermore, the corporation’s venture to protect its brand franchise was tantamount to efforts
to establish a reputation and was akin to the acquisition of capital assets. ( Commissioner of
Internal Revenue vs. General Foods, Inc., G.R. No. 143672, April 24, 2003)

(i) The All-Events Test


(ii) Reasonableness Test
-Reasonableness Test
CIR vs. Gen. Foods, Inc. April 24, 2003
-There is yet to be 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 no. 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.

b.CM Hoskins vs. CIR, Nov. 28, 1969


1.Other tests suggested are: a.) payment must be made in good faith; b.) the character of the
taxpayer’s business; c.) the volume and amount of its net earnings; d.) the size of a particular
business; e.) the employees’ qualifications and contributions to the business venture; and f.)
general economic conditions.

(b) Paid and incurred during taxable year


Paid The payment is on cash receipt basis, expenses are deductible in the year they are
incurred.
Incurred. The payment thereof is on accrual basis, expenses are deductible in the year they are
incurred, whether paid or not.

(2) Salaries, wages and other forms of compensation for 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
80

(3) Traveling/transportation expenses


(4) Cost of materials
(5) Rentals and/or other payments for use or possession of property
(6) Repairs and maintenance
(7) Expenses under lease agreements
(8) Expenses for professionals
(9) Entertainment expenses
(10) Political campaign expenses
(11) Training expenses
(12) Representation Expenses, Rev. Regs. 10-2002 Substantiation Rule and the
Cohan Rule
-Representation Expense Requisites:
-It must be ordinary, reasonable and necessary;
-It must be directly connected or related to or in furtherance of the conduct of his trade,
business or exercise of a profession;
-It must not be contrary to law, morals, public policy or public order;
-It must not exceed the ceiling that may be prescribed by the Sec. of Finance; and
-It must be supported by official receipts or adequate records.
-Substantiation Rule and the Cohan Doctrine
•Substantiation Doctrine
1.All business expense deductions must be substantiated with:
a.Receipts or adequate records;
b.Amount of expense;
c.Date and place of expense;
d.Purpose of expense; and
e.Professional or business relationship of expense.
•COHAN Doctrine
Authority of the BIR to allow a taxpayer to deduct a certain percentage even without receipt
provided the surrounding circumstances will show that the expense is incurred.
-where it is certain from the evidence adduced that the tp did incur expenses but that the
actual amount thereof has not been established, the CIR should make a close approximate
thereof, and his determination thereof shall bear heavily on the tp for his own inexactitude.

Case:
a. Gancayco vs. Collector, 1 SCRA 980
-Representation expenses cannot be allowed as an income tax deduction in the absence of
receipts, invoices or vouchers supporting said expenses and in case the taxpayer cannot specify
the items constituting said expenses.

General Business Expenses

- Capital Expenditure vs. Ordinary Expenditure


• Property Acquired must have a useful life of not more than one year to qualify as an
ORDINARY EXPENDITURE.
oDeductible in full if many receipt
• If it has a useful life of more than one year, then the expenditure is CAPITAL EXPENDITURE.
81

o Gradual deduction only.

Rule Re: Proprietary Education Institutions


Expenses to Private Educational Institutions – those undertaken to achieve improvements in
education activities and expansion of school facilities.

-The taxpayer has the option:


i. To deduct expenditures otherwise considered as capital outlays of depreciable assets incurred
for the expansion of school facilities; or
ii. To deduct allowance for depreciation thereof.

- Where the expansion has been claimed as a deduction, no further claims for yearly
depreciation of the school facilities are allowed.

(b) Interest

(4) Reduction of interest expense/interest arbitrage


- loan the proceeds of which is used in the T,B, or P and interest is agreed upon in writing,
legally demandable, interest not usurious
(1) Requisites for deductibility
a. There must be a valid and existing indebtedness
b. The indebtedness must be that of the taxpayer;
c. The interest must be legally due and stipulated in writing;
d. The interest expense must be paid or incurred during the taxable year;
e. The indebtedness must be connected with the taxpayer's trade, business or exercise of
profession;
f. The interest payment arrangement must not be between related taxpayers;
g. The interest is not expressly disallowed by law to be deducted from the taxpayer’s gross
income; and
h. The amount of interest deducted from gross income does not exceed the limit set forth in the
law.
Gen Rule: actual interest expense
33% of interest income subject to final tax
Allowable deduction

i.Requisites for Deductibility


1.There is an indebtedness;
2.The indebtedness must be that of the taxpayer;
3.In connection with taxpayer’s profession, trade or business;
4.There is liability to pay interest on the debt;
5.The interest must have been paid or incurred within the year;
6.It must be legally due and stipulated in writing;
7.It must not be expressly disallowed by law to be deducted from taxpayer’s gross income;
8.It must be within the limit set by law; and
9.It must not be in favor of a relative.
82

(2) Non-deductible interest expense


a. Interest on preferred stock, which in reality is dividend
b. Interest on unpaid salaries and bonuses
c. Interest calculated for cost keeping
d. Interest paid where parties provide no stipulation in writing to pay interest
e. If the indebtedness is incurred to finance petroleum exploration
f. Interest paid on indebtedness between related taxpayers
g. Interest on indebtedness paid in advance through discount or otherwise and the taxpayer
reports income on cash basis.

(3) Interest subject to special rules


(a) Interest paid in advance
If the indebtedness is payable in periodic amortizations, the amount of interest which
corresponds to the amount of the principal amortized or paid during the year shall be allowed
as deduction in such taxable year.

(b) Interest periodically amortized


(c) Interest expense incurred to acquire property for use in
trade/business/profession
At the option of the taxpayer, may be allowed as a deduction or treated as a capital
expenditure.
Interests

ii.On Capital Expenditure


•Whenever a taxpayer opts to claim interest expense as a capital expenditure, he can validly
claim deduction out of the annual depreciation of the property and not the amount of interest
paid.
iii.Rules Re: Deductibility
•Interest payment to be deductible must be incurred within the taxable year on indebtedness
connected with the taxpayer’s profession, trade or business. However, if the interest was paid
on indebtedness incurred or continued to purchase or carry obligations the interest upon which
is exempt from taxation as income, then the interest payment shall be deductible.

iv.Tax Arbitrage Scheme (Rev. Regs. 13-2000)


tp will engage in back to back loans

Revenue Regulation No. 13-2000


Issued December 29, 2000 implements the provisions of Section 34(B) of the Tax Code of 1997
relative to the requirements for the deductibility of interest expense from the gross income of a
corporation or an individual engaged in trade, business or in the practice of profession.
In general, subject to certain limitations, the following are the requisites for the deductibility of
interest expense from gross income: a) there must be an indebtedness; b) there should be an
interest expense paid or incurred upon such indebtedness; c) the indebtedness must be that of
the taxpayer; d) the indebtedness must be connected with the taxpayer's trade, business or
exercise of profession; e) the interest expense must have been paid or incurred during the
83

taxable year; f) the interest must have been stipulated in writing; g) the interest must be legally
due; h) the interest payment arrangement must not be between related taxpayers; i) the
interest must not be incurred to finance petroleum operations; and j) in case of interest
incurred to acquire property used in trade, business or exercise of profession, the same was not
treated as a capital expenditure
Under Section 34 (B) of the 1997 Tax Code, as amended, the amount of interest paid or
incurred within a taxable year on indebtedness in connection with the taxpayer’s profession,
trade or business is allowed as deduction from gross income. However, the taxpayer’s
otherwise allowable deduction for interest expense should be reduced by 33% of the interest
income subjected to final tax. This is the rule on interest expense limitation.
Based on the above provision, the amount of interest expense equivalent to 33% of interest
income subjected to final tax will be non-deductible, and only the remaining portion of the
interest expense can be claimed as expense in the income tax computation.

This limitation on the deductibility of interest expense was legislated specifically to address the
tax arbitrage arising from the difference between the 20% final tax on interest income and the
regular corporate income tax rate (RCIT) under which interest expense can be claimed as a
deduction.
The rate of interest limitation is actually the difference between the RCIT and the 20% final tax
as a percentage of the RCIT rate, rounded off. That is, RCIT rate less 20%, divided by the
RCIT rate. Hence, under the then 32% RCIT, the limitation is equal to (32%-20%) / 32% =
37.5%; under the 35% RCIT, (35%-20%) / 35% = 42.86%; and under the 30% RCIT, (30%-
20%) / 30% = 33.33%.
Tax arbitrage could be explained by a simplified illustration, as follows: On January 1, 2009,
Corporation X borrowed from a local bank an amount of P500,000 at a 10% annual interest
(resulting to interest expense). Immediately thereafter, the proceeds of the loan were placed in
a local bank deposit account which earns a 10% annual interest rate (resulting to interest
income).
Assuming that the rule on interest expense limitation is not yet in place, the interest expense of
P50,000 (10% of P500,000) will result to a tax benefit of 30% or P15,000 in 2009; while the
interest income of P50,000 (10% of P500,000), being a passive income will only be subjected to
final tax of 20% or P10,000. The taxpayer would derive a net benefit of P5,000 from the
combined effect of a lower rate of final tax liability and a higher rate of tax deductibility.
Realizing the negative impact of tax arbitrage on revenue generation, the interest expense
limitation was legislated.
Revenue Regulations (RR) No. 13-00, the regulations issued to implement the interest expense
limitation, specifically provides that the limitation shall apply regardless of whether or not a tax
arbitrage scheme was entered into by the taxpayer for as long as, during the taxable year,
there is an interest expense incurred on one side and an interest income earned on the other
side, which interest income had been subjected to final withholding tax.
This rule has also been reiterated in various rulings issued by the BIR including BIR Ruling No.
006-2000. In this ruling, a bank-taxpayer sought for the exclusion of the interest income from
its treasury bonds received from the National Government in payment of the latter’s liability to
the bank-taxpayer from the application of the interest expense limitation. The bank-taxpayer
argued that it did not enter into a tax arbitrage scheme. The BIR held that the limitation shall
apply regardless of whether or not a tax arbitrage scheme was entered into by the taxpayer.
Subsequently, however, the BIR issued o ther rulings that are not consistent with the above
pronouncements. In BIR Ruling No. DA-083-06 and BIR Ruling No. DA-315-2004, the bank-
84

taxpayers sought exemption from the limitation citing that their interest income that were
subjected to the 20% final tax were derived from cash deposit that are required to be
maintained with the BSP and/or other financial institutions pursuant to Banking Regulations. In
these rulings, the BIR held that the absence of intent to undertake tax arbitrage scheme
negates the application of the interest limitation rule.
To address these conflicting rulings, the BIR issued Revenue Memorandum Circular (RMC) 31-
09 where it held that the law is very clear and leaves no room for interpretation. If a taxpayer
incurred indebtedness and interest expense connected with his trade or business during the
taxable year and also earned interest income which had been subjected to final withholding tax,
the amount of interest expense shall be subject to the limitation as provided for by law.
It was stressed that the law did not require that there be a tax arbitrage in order that the
limitation on the deduction of the interest expense can be applied. RR No. 13-00 itself
specifically provides that the limitation shall apply regardless of whether or not a tax arbitrage
scheme was entered into by the taxpayer.
The RMC further declares that the interpretation under BIR Ruling No. 006-2000 shall prevail
over all other rulings issued not in consonance therewith.

v. Interest on Tax Delinquencies


Case: CIR vs. Itogon Suyoc Mines, July 29, 1969
The NIRC provides that interest upon the amount determined as a deficiency shall be assessed
and shall be paid upon notice and demand from the CIR at the rate therein specified (Sec.
51(d), NIRC). The imposition of the monthly interest to the State for the delay in paying the tax
and for the concomitant use by the taxpayer of the funds that rightfully should be in the
government’s hands.

(c) Taxes
Margin fees paid by the petitioner to the Central Bank on its profit remittances to its New York
head office are not allowable deductions as taxes because it is not a tax but an exaction
designed to curb the excessive demands upon our international reserve. Margin fees are also
not ordinary and necessary business expenses because they are not expenses in connection
with the production or earning of petitioner's incomes in the Philippines; they were expenses
incurred in the disposition of said incomes. ( Esso Standard Eastern, Inc. vs. Commissioner
of Internal Revenue, G.R. Nos. 28508-9, July 7, 1989)
(1) Requisites for deductibility
1. It must be paid or incurred within the taxable year.
2. It must be paid or incurred in connection with the taxpayer’s trade, profession or
business.
3. It must be imposed directly on the taxpayer.
4. It must not be specifically excluded by law from being deducted from the taxpayer’s
gross income.

(2) Non-deductible taxes


Taxes not allowed as deduction from gross income to arrive at taxable income:
a. Income tax provided under the NIRC
b. Income taxes imposed by authority of any foreign country
85

(3)Treatments of surcharges/interests/fines for delinquency


(4) Treatment of special assessment
Deductible as taxes where these are made for the purpose of:
1. Maintenance or repair of local benefits, if the payment of such assessment is ordinary and
necessary in the conduct of trade, business or profession
2. Constructing local benefits tending to increase the value of the property assessed, the
payments are in the nature of capital expenditures.

(5) Tax credit vis-à-vis deduction


Tax Credit Tax deduction
Deducted from Phil. income tax
Deducted from the gross income
All taxes are allowed to be deducted with the exception of the taxes expressly excluded
Only foreign income taxes may be claimed as credits

ii. Deductible Taxes


• Import duties
• Business taxes – VAT, other percentage taxes and excise taxes
• Privilege or occupation taxes, licenses
• Documentary stamp taxes
• Income war-profits and excess-profits taxes imposed by the authority of any foreign
country only if the taxpayer does not signify in his return his desire to have any extent the
benefits of the provisions of law allowing credits against the tax for taxes of foreign countries
• Any other taxes of every amount and nature paid directly to the government or any
political subdivision.

iii. Non-deductible Taxes


• Income Tax
• Estate and gift taxes
• Special assessment or levies on properties
• Energy Tax
• Taxes not related with the trade, business or profession of the taxpayer
• Taxes which are final
• Income taxes imposed by authority of any foreign country if the taxpayer signifies in his
return, his intention to avail of tax credit for the said taxes.

(d) Losses Losses actually sustained during the taxable year and not compensated for by
insurance or other forms of indemnity.

(1) Requisites for deductibility


a) The loss must be that of the taxpayer.
b) There must be an actual loss suffered in a closed and completed transaction.
c) The loss must be connected with the taxpayer’s trade, business or profession.
86

d) The loss must not be compensated for by insurance or otherwise.


e) The loss must be actually sustained and charge – off during the taxable year.
f) In the case of casualty loss, declaration of loss must be filed within 45 days
from the occurrence of the casualty loss.
g) The loss must not be claimed as deduction for estate tax purposes in the estate tax return.

(2) Other types of losses


(i) Capital losses Losses from sale or exchange of capital assets. Deductible to the extent of
capital gains only.

(ii)Securities becoming worthless


The loss resulting therefrom to the taxpayer is not considered as a bad debt but as a capital
loss.

“Securities becoming worthless” resulting from China Bank’s equity investment in


the First CBC Capital (Asia) Ltd., a Hongkong subsidiary, is capital loss
and not an ordinary loss. An equity
investment is a capital, not ordinary, asset of the investor the sale or exchange of
which results in either a capital gain or a capital loss; shares of stock would be
ordinary assets only to a dealer in securities or a person engaged in the purchase
and sale of, or an active trader (for his own account) in, securities. ( China
Banking Corp. vs. Court of Appeals, et al., G.R. No. 125508, July 19, 2000)
(iii) Losses on wash sales of stocks or securities
Not deductible when:
1) A taxpayer who is not a dealer of stocks in trade has disposed shares and
2) Within the period of 60(sixty) days beginning 30 days before the date of such sale and
ending 30 days after such date, the taxpayer has acquired substantially identical stocks or
securities.

(iv) Wagering losses


Deductible only to the extent of the gains from such wagering transaction. If there is no gain
from the wagering transaction, the loss therefrom cannot be deducted from gross income.

(v) Net Operating Loss Carry-Over (NOLCO)


It is the excess of allowable deductions over gross income of business for any taxable year
which had not been previously offset as deduction from gross income.
It shall be carried over as deduction from gross income for the next 3 consecutive years
following the year of such loss. Provided that:
1. The taxpayer was not exempt from income tax in the year of such net operating loss; and
2. There has been no substantial change in the ownership of the business or enterprise.
Losses
• Requisites:
a. The loss must be that of the taxpayer;
b. Actually sustained during the taxable year;
87

c. Not compensated by insurance or other form of indemnity;


d. Evidenced by a closed and completed transaction;
e. Not claimed as a deduction for estate tax purposes; and
f. If it is a casualty loss, must be reported to the concerned authorities within prescribed
time (45 days).

**-tp can avail only if tp was not exempted from taxes during the year loss was incurred

2009
gi- 5M
AD 10M
OL 5M –NOLCO(2010-2012)

2010
GI 4M
AD 3M
OI 1M
NOLCO 1M (2009)

• Types of Losses:

ORDINARY LOSSES CAPITAL LOSSES SPECIAL LOSSES


• Occurs when the expenses are more than gross income or sale of ordinary asset •
Can be deductible only from capital gains •
Kinds:
g. Wagering losses – deductible only to the extent of gain or winnings.
h. Losses on wash sales of stocks – not deductible because these are considered as
artificial loss.
i. Abandonment losses in petroleum operation and producing well.
j. Losses due to voluntary removal of building incident to renewal or replacements –
deductible expense from gross income.
k. Loss of useful value of assets due to changes in business conditions.
l. Losses from sales or exchanges of property between related taxpayers.
m. Loss of farmers.
• To a domestic corporation – all losses actually sustained and charged off within the
taxable year and not compensated for by insurance or other form of indemnity. • Subject
to the Loss Limitation Rule
• To RC or a NRAETB – losses actually sustained during the year in trade, business or
profession conducted within the Phils. and not compensated by insurance or other form of
indemnity.
• Kinds of capital losses:
a. Losses from sale or exchange of capital assets
b. Losses resulting from securities becoming worthless and which are capital assets
c. Losses due to failure to exercise privilege or option to buy or sell property

•Net Operating Loss Carry Over (NOLCO)


oCase: PICOP vs. CIR, Dec. 01, 1995
88

It is thus clear that under our law, and outside the special realm of BOI-registered
enterprises, there is no such thing as a carry-over of net operating loss. To the contrary, losses
must be deducted against current income in the taxable year when such losses were incurred.
Moreover, such losses may be charged off only against income earned in the same taxable year
when the losses were incurred.

NOLCO – This refers to the excess of allowable deduction over gross income. It can be carried
over as a deduction from gross income for the next 3 consecutive years immediately following
the year of such loss.

75% Interest Retention Rule


NOLCO should be allowed only if there has been no substantial change in the ownership of the
business or enterprise in that
Not less than 75% in nominal value of outstanding issued shares if the business is in the name
of a corporation, is held by or on behalf of the same persons; or
Not less than 75% of the paid up capital of the corporation, if the business is in the name of a
corporation, is held by or on behalf of the same persons.
f. Casualty losses

(vi) Casualty Losses

(e) Bad debts


Debts due to the taxpayer when actually ascertained to be worthless and charged-off within the
taxable year.
They refer to those debts resulting from the worthlessness or uncollectibility, in whole or in
part, of amounts due to the taxpayer by others, arising from money lent or from uncollectible
amounts of income from goods sold or services rendered.

In claiming deductions for bad debts, the only evidentiary support given by PRC was the
explanation posited by its accountant, whose allegations were not supported by any
documentary evidence. One of the requisites to qualify as “bad debt” is that the debt must be
actually ascertained to be worthless and uncollectible during the taxable year, and the
taxpayer must prove that he exerted diligent efforts to collect the debts by (1) sending of
statement of accounts; sending of collection letters; (3) giving the account to a lawyer for
collection; and (4) filing a collection case in court. ( Philippine Refining Company vs. Court of
Appeals, et al., G.R. No. 118794, May 8, 1996)
(1) Requisites for deductibility
1) There must be a valid and subsisting debt.
2) The same must be connected with the taxpayer’s trade, business or practice of profession.
3) The same must not be sustained in a transaction entered into between related parties.
4) The same must be actually charged-off the books of accounts of the taxpayer as of the end
of the taxable year.
5) The same must be actually ascertained to be worthless and uncollectible as of the end of
the taxable year.
89

(2) Effect of recovery of bad debts


Tax Benefit Rule
• This doctrine holds that a recovery of bad debts previously deducted from gross income
constitutes taxable income if in the year the account was written off, the deduction resulted in a
tax benefit, e.g., in the reduction of taxable income of the taxpayer.
• This doctrine can only be availed of by a Creditor and never by a Debtor.
Ex. Debt of 1M – debtor became insolvent, CR- declared 1M as bad debt expense 2010. 2012-
DR recovered, paid CR 1M.
-gen rule.- no taxable income during the year of recovery because there is only a mere return
of capital. except tax benefit rule.

PHILEX MINING In sum, petitioner cannot claim the advances as a bad debt deduction from its
gross income. Deductions for income tax purposes partake of the nature of tax exemptions and
are strictly construed against the taxpayer, who must prove by convincing evidence that he is
entitled to the deduction claimed. In this case, petitioner failed to substantiate its assertion that
the advances were subsisting debts of Baguio Gold that could be deducted from its gross
income. Consequently, it could not claim the advances as a valid bad debt deduction.

(f) Depreciation
The gradual diminution in the useful value of tangible property used in trade or business
resulting from exhaustion, wear and tear, and normal obsolescence.
The term is also applied to amortization of value of intangible assets the use of which in trade
or business is definitely limited in duration.

Depreciation is the gradual diminution in the useful value of tangible property resulting from
wear and tear and normal obsolescense. The term is also applied to amortization of the value
of intangible assets, the use of which in the trade or business is definitely limited in duration.
Depreciation 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.
(Basilan Estates, Inc. vs. Commissioner of Internal Revenue, et al., G.R. No. L- 22492,
September 5, 1967)

Both depletion and depreciation are predicated on the same basic promise of avoiding a tax on
capital. The allowance for depletion is based on the theory that the extraction of minerals
gradually exhausts the capital investment in the mineral deposit. The purpose of the depiction
deduction is to permit the owner of a capital interest in mineral in place to make a tax-free
recovery of that depleting capital asset. A depletion is based upon the concept of the
exhaustion of a natural resource whereas depreciation is based upon the concept of the
exhaustion of the property, not otherwise a natural resource, used in a trade or business or
held for the production of income. Thus, depletion and depreciation are made applicable to
different types of assets. And a taxpayer may not deduct that which the Code allows as of
another. (Consolidated Mines, Inc. vs. Court of Tax Appeals, et al., G.R. Nos. L- 18843 &
18844, August 29, 1974)
90

(1) Requisites for deductibility


a)The allowance for depreciation must be reasonable
b)It must be for property arising out of its use or employment in the business or trade, or out
of its not being used temporarily during the year
c)It must be charged-off during the taxable year;
d) A statement on allowance must be attached to the return.
e) The property must have a limited useful life.

(2) Methods of computing depreciation allowance


(i) Straight-line method
Spreads the total depreciation over the useful life of the asset and generally results in an equal
depreciation per unit of time regardless of the use to which the properties are put.

(ii) Declining-balance method


Uses a rate to the declining book value of the asset. Depreciation is largest in amount the first
year and declines in the years thereafter.

(iii) Sum-of-the-years-digit method


Requires the application of a changing fraction to the cost basis of the property, reduced by the
estimated residual salvage value.
this is a method of depreciation where bigger depreciation expenses are provided during the
early years of the fixed assets which gradually diminish until the total depreciation is equal the
cost of the assets.
•Working-hours method – the total working hours of the machine until its retirement is
estimated and a charge per hour is determined.
•Unit of production method – the estimated service life is stated in units of products instead of
working hours.
Any other method which may be prescribed by the Dept. of Finance upon recommendation of
the CIR.
Depreciation
i. Properties subject to depreciation
• Tangible property susceptible to wear and tear, to decay or decline from natural causes, to
exhaustion and to obsolescence due to the normal process of the art or due to inadequacy of
the property to meet growing needs of the business. Ex. Machines and equipment that must be
replaced by new invention.

• Intangible property, the use of which in trade or business is of limited duration like patents,
copyrights, royalties and franchises.

CHANGE IN USEFUL LIFE OF PROPERTY USED IN BUSINESSThe estimated useful life of the
fixed assets used by an enterprise registered with the Philippine Economic Zone Authority
(PEZA) for its manufacturing activities may be changed for purposes of claiming depreciation
deduction, both for tax and financial accounting purposes, if the estimated useful life of the
asset previously adopted is no longer reasonable.
91

Under Section 34(F)(3) of the Tax Code, the taxpayer and Commissioner of Internal Revenue
may enter into an agreement in writing on the estimated useful life and rate of depreciation of
any property. The rate so agreed upon shall be binding on both the taxpayer and the BIR.
However, if it develops that the useful life of the property originally estimated under previous
factual conditions is no longer reasonable, the law allows the taxpayer to lengthen or shorten
the useful life of the property in light of prevailing factual considerations. (BIR Ruling No. 598-
2012, October 25, 2012)

CLARIFICATION DEPRECIATION AND OTHER EXPENSES ON MOTOR VEHICLES

The BIR issued the following clarification on the limit imposed under Revenue Regulations No.
(RR) 14-2012 on the deductibility of depreciation allowance, maintenance expenses and input
VAT on motor vehicles:

1. The limit on deductibility of depreciation allowance, maintenance expenses and input VAT on
motor vehicles shall apply to land vehicles purchased prior to October 17, 2012 (i.e., effectivity
of RR 14-2012) where the purchased amount exceeded the threshold of P2.4 million.

2. Non-deductible expenses for non-depreciable vehicles shall also cover all related expenses
and input tax including, but not limited to, repairs and maintenance, oil and lubricants, gasoline,
spare parts, tires and accessories, premiums paid for insurance, and registration fees.

3. In case the non-depreciable vehicles will be sold at a loss, any loss shall likewise not be
allowed as a deduction from gross income.

Note: Under RR 14-2012, a taxpayer may claim for depreciation allowance, maintenance
expense and input VAT only for one land vehicle for use of an official or employee with value
not exceeding P2.4 million. No depreciation shall be allowed for yachts, helicopters, airplanes,
and land vehicles over P2.4 million, unless the taxpayer’s main line of business is transport
operations or lease of transport equipment. (Revenue Memorandum Circular No. 02-2013,
January 7, 2013)

Depletion
i.This is the removal, extraction or exhaustion of a natural resource such as mines and gas wells
as a result of production or severance from such mines or walls.

DEDUCTIBILITY OF DEPRECIATION ALLOWANCE, MAINTENANCE EXPENSES, AND INPUT


TAXES ON MOTOR VEHICLES

conditions in claiming deduction for depreciation and other related expenses, as well as input
taxes on the purchase and maintenance of motor vehicles by taxpayers.

a. The motor vehicle purchased by the taxpayer must be substantiated with official receipts and
other records indicating the price, motor vehicle identification number, chassis number, etc.

b. The taxpayer has to prove the direct connection of the motor vehicle to the business.
92

c. Only one vehicle for land transport, with value not exceeding P2.4 million, is allowed for the
use of an official or employee.

d. No depreciation shall be allowed for yachts, helicopters, airplanes and/or aircrafts, and land
vehicles that exceed P2.4 million unless the taxpayer’s main line of business is transport
operations or lease of transport equipment and the vehicles purchased are used in said
operations. The depreciation allowance and maintenance expenses, and corresponding input
taxes on vehicles that do not meet the above conditions shall be disallowed for tax purposes.
(Revenue Regulations No. 12-2012, October 12, 2012)

(3) Tax Benefit Rule

(g) Charitable and other contributions


(1) Requisites for deductibility
a) Must actually be paid or made to the Phil. Government or any of its agencies or political
subdivision or to any domestic corporations or associations.
b) Must be made within the taxable year;
c) Must not exceed 10% of the individual’s taxable income and 5% of the corporation’s taxable
income before deducting the contribution; and
d)Must be evidenced by adequate records or receipts.

(2) Amount that may be deducted


i.With Limitation
1. Donations to the government of the Phils. or any of its agencies or political subdivisions for
exclusively public purposes.
2.Donations to accredited domestic corp. or associations organized and operated exclusively for
religious, charitable, scientific, youth and sports development, cultural, educational,
rehabilitation of veterans, social welfare institution and NGO.
ii. Deduction in full
1. Donations to the government or political subdivisions including fully owner GOCCs to be
used exclusively in undertaking priority activities in – educational, health, youth and sport devt.
provided however, that any donation to the government NOT in accordance with the priority
plan shall be the subject to the limitation of 5% or 10%.
2. Donations to foreign institutions or international organizations in compliance with
agreements, treaties or commitments.
3. Donations to accredited NGO’s.
4. Donations to traditional exemptees.

(h) Contributions to pension trusts


(1) Requisites for deductibility
a) The employer must have established a pension or retirement plan to provide for the
payment of reasonable pensions to its employees;
b) The pension plan is reasonable and actuarially sound.
c) It must be funded by the employer;
93

a)The amount contributed must no longer be subject to its control or disposition; and
b)The payment has not therefore been allowed as a deduction.

i)Pension Trusts
•An employer establishing or maintaining a pension trust to provide for the payment of
reasonable amount transferred or paid into such trust during the taxable year in excess of such
contributions, but only if such amount:
i.Has not theretofore been allowed as a deduction;
ii.Is apportioned in equal parts over a period of 10 consecutive years in which the transfer or
payment is made.
j)Research and Development Costs
for improvements of processes and formula as well as the development of improved or new
products
i.Amount Deductible – amount rateably distributed over a period of 60 months beginning the
month, taxpayer realized benefits from such expenditures.

k. Premium payment on health and/or hospitalization insurance


P200/mo, individual-deduction from GI – not exceeding P2,400 per family during the taxable
year, provided the GI of the family does not exceed P250,000 for the taxable year, only 1
spouse is claiming the additional exemption for dependents shall be entitled to deduction

Deductions under special laws


Other Forms of Deductions (Sec. 37 NIRC)
a.Special Deductions Allowed to Insurance Companies;b.mutual Insurance Companies;c. Mutual
arine Insurance Companies;d. Assessment Insurance Companies;e. Estates and Trusts;
and f. Private Educational Institutions

Insurance companies
 Whether domestic or foreign, doing business in the Phils., they are allowed to deduct, in
addition to the itemized deductions under Section 34 of the Tax Code, the following:
1.) Net additions, if any, required by law to be made within the year to reserve funds,
and2.) Sums other than dividends paid within the year on policy and annuity contracts. The
released reserve shall be treated as income for the year of release. (Sec. 37, [A], NIRC, Sec.
126, Regs.)

Mutual insurance companies


These companies (other than mutual life & mutual marine) are allowed to deduct from gross
income the following:
1.)Any portion of the premium deposits returned to the policy holders2.) Such portion of the
premium deposits as are retained for the payment of losses, expenses and reinsurance
reserves. (Sec. 37, B, NIRC; Sec. 127, Regs.)

Mutual marine insurance companies


 They are entitled to deduct from gross income the following:
Amounts repaid to policy holders on account of premium previously paid by them; and
94

2.) Interest paid upon those amounts between the ascertainment date and the date of its
payment. (Sec. 37, [C], NIRC, Sec. 128, Regs.)

Assessment insurance companies


 Whether domestic or foreign, they may deduct in a taxable year the sum actually
deposited with the officers of the govt. of the Phils., pursuant to law as additions to guarantee
or reserve funds. (Sec. 37 [D], NIRC).

4. Optional standard deduction


(a) Individuals, except non-resident aliens
A maximum of forty percent (40%) of gross sales or gross receipts during the taxable year.
The “cost of sales” or the “cost of services” is not allowed to be deducted for purposes of
determining the basis of the OSD inasmuch as the law is specific as to the basis thereof which
states that for individuals, the basis of the 40% OSD shall be the “gross sales” or “gross
receipts” and not “gross income.”

•These are deductions in lieu of the itemized deductions. It is 40% of the gross sale/receipt of
the taxpayer from business or profession.
o Only citizens and resident aliens in business, trade or profession may elect the OSD.
o Corporations are now allowed to choose OSD.(RA 9504)- 40% GI
o The choice must be signified in the income tax return of the taxpayer and once chosen, it is
irrevocable for the taxable year for which the return is made.
o No need to include financial statements in the return if OSD was claimed.
o It cannot be used as a deduction from compensation income.

(b) Corporations, except non-resident foreign corporations


Not exceeding forty percent (40%) of their gross income.

(c) Partnerships

5. Personal and additional exemption (R.A. No. 9504, Minimum Wage Earner Law)
The increased personal and additional exemptions under the NIRC cannot be availed of by the
petitioner for purposes of computing his income tax liability for the taxable year 1997. Since
the NIRC took effect on January 1, 1998, the increased amounts of personal and additional
exemptions under Section 35, can only be allowed as deductions from the individual taxpayer’s
gross or net income, as the case maybe, for the taxable year 1998 to be filed in 1999; the
NIRC made no reference that the personal and additional exemptions shall apply on income
earned before January 1, 1998, and it is a rule that tax laws are to be applied prospectively
unless its retroactive application is expressly provided. ( Carmelino F. Pansacola vs. CIR, G.R.
No. 159991, November 16, 2006)
(a) Basic personal exemptions
95

(b) Additional exemptions for taxpayer with dependents


(c) Status-at-the-end-of-the-year rule
(d) Exemptions claimed by non-resident aliens

6. Items not deductible


These items are not related to the trade, business or profession of the taxpayer.

(a) General rules


(b) Personal, living or family expenses These are personal expenses and not related to the
conduct of trade or business.

(c) Amount paid for new buildings or for permanent improvements (capital
expenditures) These are capital expenditures added to the cost of the property and the
periodic
depreciation is the amount that is considered as deductible expense.

(d) Amount expended in restoring property (major repairs) They are


capital expenditures or those expenditures that result in obtaining benefits of a permanent
nature.

(e) Premiums paid on life insurance policy covering life or any other officer or
employee financially interested When the taxpayer is directly or indirectly a beneficiary
under such policy.

(f) Interest expense, bad debts, and losses from sales of property between
related parties
In general, the amount of interest paid or incurred within a taxable year on indebtedness in
connection with the taxpayer's profession, trade or business.
In general, debts due to the taxpayer actually ascertained to be worthless and charged off
within the taxable year except those not connected with profession, trade or business and those
sustained in a transaction entered into between parties. Recovery of bad debts previously
allowed as deduction in the preceding years shall be included as part of the gross income in the
year of recovery to the extent of the income tax benefit of said deduction.
(1) Between members of a family; or
(2) Except in the case of distributions in liquidation, between an individual and corporation
more than fifty percent (50%) in value of the outstanding stock of which is owned, directly or
indirectly, by or for such individual; or
(3) Except in the case of distributions in liquidation, between two corporations more than fifty
percent (50%) in value of the outstanding stock of which is owned, directly or indirectly, by or
for the same individual if either one of such corporations, with respect to the taxable year of
the corporation preceding the date of the sale of exchange was under the law applicable to
such taxable year, a personal holding company or a foreign personal holding company;
(4) Between the grantor and a fiduciary of any trust; or
96

(5) Between the fiduciary of and the fiduciary of a trust and the fiduciary of another trust if the
same person is a grantor with respect to each trust; or
(6) Between a fiduciary of a trust and beneficiary of such trust.

(g) Losses from sales or exchange or property


In general, losses actually sustained during the taxable year and not compensated for by
insurance or other forms of indemnity:
1. If incurred in trade, profession or business;
2. Of property connected with the trade, business or profession, if the loss arises from fires,
storms, shipwreck, or other casualties, or from robbery, theft or embezzlement.

(h) Non-deductible interest


(i) Non–deductible taxes
(j) Non-deductible losses
1. Losses from illegal transactions
2. Losses from sales or exchanges of property between related taxpayers – but the gains are
taxable
k) Losses from wash sales of stock or securities

(k) Losses from wash sales of stock or securities


(l) Exempt corporations
1. General Professional Partnerships
2. Joint Venture under a service contract with the government
-a JV or consortium formed for the purpose of undertaking a construction project must meet
the following conditions:
a. the JV should be for the undertaking of a construction project
b. the parties in the JV must be licensed as general contractors by the Philippine
Contractors Accreditation Board (PCAB)
c. local contractors are engaged in construction business
d. the JV itself must be duly licensed by the PCAB.
3. Government-owned or controlled corporations:
i. Government Service Insurance System (GSIS),
ii. the Social Security System (SSS),
iii. the Philippine Health Insurance Corporation (PHIC), and
iv. the Philippine Charity Sweepstakes Office (PCSO).
Income and franchise tax due from PAGCOR and its contractees and licensees
The BIR has issued the following clarifications on the income tax and franchise tax liability of
the Philippine Amusement and Gaming Corporation (PAGCOR) and its contractees and
licensees in light of the enactment into law of Republic Act No. (RA) 9337, removing PAGCOR
from the list of exempt entities under Section 27(C) of the Tax Code, and RA 9487 amending
the provisions of Presidential Decree No. 1869, otherwise known as the PAGCOR
Charter, on the nature and terms of the franchise of PAGCOR.
On the income tax exemption of PAGCOR
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Pursuant to Section 1 of RA 9337, amending Section 27(C) of the Tax Code, as amended,
PAGCOR was removed from the list of government-owned or -controlled corporations (GOCCs)
that are exempt from income tax. Hence, it no longer enjoys exemption from corporate income
tax. Accordingly, PAGCOR’s income from its operations and licensing of gambling casinos,
gaming clubs and other similar recreation or amusement places, gaming
pools, and other related operations is subject to 30% regular corporate income tax under
Section 27(A) of the Tax Code, as amended.
On the franchise tax due from PAGCOR
Pursuant to Section 13(2)(a) of Presidential Decree No. 1869, PAGCOR is subject to 5%
franchise tax on its gross revenue or earnings from operations and licensing of gambling
casinos, gaming clubs and other similar recreation or amusement places, gaming pools, and
other related operations. (Revenue Memorandum Circular No. 33-2013, April 23, 2013)

Other exempt corporations: Sec 30NIRC


- they must file their respective Applications for Tax Exemption/Revalidation with
the Revenue District Office (RDO) where they are registered.
Must meet all of the following requirements:
1. It must be a non-stock corporation or association organized and operated exclusively for
religious, charitable, scientific, athletic, or cultural purposes, or for the rehabilitation of
veterans.
2. It should meet the following tests:
a. Organizational test – requires that the corporation or association’s constitutive documents
exclusively limit its purposes to one or more of those described in paragraph
(E) of Section 30 of the NIRC, as amended
b. Operational test – mandates that the regular activities of the corporation or association be
exclusively devoted to the accomplishment of the purposes specified in paragraph (E) of Section
30 of the NIRC, as amended.
- A corporation or association fails to meet this test if a substantial part of its operations may be
considered “activities conducted for profit”.
c. All the net income or assets of the corporation or association must be devoted to its
purpose/s and no part of its net income or asset accrues to or benefits any member or specific
person. Any profit must be plowed back and must be devoted or used altogether for the
furtherance of the purpose for which the corporation or association was organized.
d. It must not be a branch of a foreign non-stock, non-profit corporation.

Validity of tax exemption ruling


-three years from the date of effectivity of the ruling, unless sooner revoked or cancelled.
-deemed revoked if there are material changes in the character, purpose, or method of
operation of the corporation or association that are inconsistent with the basis for its income tax
exemption. The revocation takes effect as of the date of the material change.

Renewal of tax exemption rulings


-upon filing of a subsequent Application for Tax Exemption / Revalidation, under the same
requirements and procedures provided herein. Otherwise, the exemption shall be deemed
revoked upon the expiration of the tax exemption ruling. The new tax exemption ruling shall be
valid for another period of three years, unless sooner revoked or cancelled.
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(Revenue Memorandum Order No. 20- 2013, July 22, 2013)

As property of public dominion, the Lucena Fishing Port Complex is owned by the Republic
of the Philippines and thus exempt from real estate tax. ( PFDA v. CBAA, December 15,
2010)

Section 30(E) and (G) of the NIRC requires that an institution be "operated exclusively" for
charitable or social welfare purposes to be completely exempt from income tax. An
institution under Section 30(E) or (G) does not lose its tax exemption if it earns income from
its for-profit activities. Such income from for-profit activities, under the last paragraph of
Section 30, is merely subject to income tax, previously at the ordinary corporate rate but
now at the preferential 10% rate pursuant to Section 27(B).CIR v. ST. LUKE'S MEDICAL
CENTER, INC. G.R. No. 195909 September 26, 2012

(m) Propriety educational institutions and hospitals


(n) Government-owned or controlled corporations
(o) Others

10. Taxation of resident citizens, non-resident citizens, and resident aliens


a. General rule that resident citizens are taxable on income from all sources
within and without the Philippines
*Non-resident citizens
A citizen of the Philippines residing therein is taxable on all income derived from sources within
and without the Philippines.

Three types of Non resident Citizen


a. Immigrants
b. Employees of a foreign entity on a permanent basis
c. overseas contract workers

Immigrants and Employees of a foreign entity on a permanent basis are treated as NRC from
the time they depart from the Philippines. However, overseas contract workers must be
physically present abroad most of the time during the calendar year to qualify as NRC.

An overseas contract worker (OCW) is taxable only on income derived from sources
within the Philippines. Sec 23(b) (c)
A seaman is considered as an OCW provided the following requirements are present:
a. receives compensation for services rendered abroad as a member of the complement of a
vessel, and
b. such vessel is engaged exclusively in international trade.

• Aliens or foreigners
a.) Resident aliens (RA)
Those residing in the Philippines though not a citizen thereof.
RA is taxed only on income within the Philippines
RA is one who comes to the Philippines for a definite purpose which is in its nature would
require an extended stay, and makes his home temporarily in the country
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b.) Non resident aliens (NRA)


 Those not residing in the Philippines and not a citizen of the Philippines
Those engaged in trade or business in the Philippines (NRAETB)
 This includes the performance of the functions of a public office. It shall not include
performance off services as an employee
 An alien whose aggregate period of stay in the Philippines is more than 180 days during
any calendar year.
Those not engaged in trade / business in the Philippines (NRANETB).
 An alien whose aggregate period of stay in the Philippines does not exceed 180 days
during any calendar year regardless of whether he actually engages himself in trade or business
in the Philippines.

c.) Special Aliens


Individuals employed by:
-Regional or area headquarters and regional operating headquarters on multinational
companies (MNC) in the Philippines
-Offshore banking units (OBU) established in the Philippines
- Foreign Service contractors or sub contractors engaged in petroleum operations in the
Philippines.
-They are taxed only at 15% preferential income tax rate on their gross compensation income
from sources within the Philippines only on those:
--Salaries, wages, annuities, honoraria and the like as received from such RAHQs or ROHQs.
Provided that the same tax treatment is extended to Filipino employees having the same
position in such entities.

b. Taxation on compensation income


i. Inclusions
(a) Monetary compensation
(i) Regular salary/wage
(ii) Separation pay/retirement benefit not otherwise exempt
(iii) Bonuses, 13th month pay, and other benefits not exempt
(iv) Director’s fees
(b) Non-monetary compensation
(i) Fringe benefit not subject to tax
ii. Exclusions
(a) Fringe benefit subject to tax
(b) De minimis benefits
(c) 13th month pay and other benefits, and payments specifically excluded
from taxable compensation income
iii. Deductions
(a)Personal exemptions and additional exemptions
Nature & Purpose: Personal exemptions are fixed amounts which are in the nature of
deduction and are intended to substitute for the disallowance of personal or living expenses as
deductible items.

a) Personal exemptions and additional exemptions


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Basic personal exemption Additional exemption


Fifty thousand pesos (P50,000) for each individual taxpayer.
Twenty-five thousand pesos (25,000) for each dependent not exceeding four (4).
An additional exemption of P25, 000 is granted to Taxpayer for each, but not exceeding four (4)
of his:
(a) Legitimate, illegitimate and/or legally adopted children
(b) Living with the Taxpayer
(c) Chiefly dependent upon him for support
(d) Not more than 21 yrs. old
(e) Unmarried
(f) Not gainfully employed.

(1) One or both parents –


(a) Living with the taxpayer.
(b) Dependent upon the taxpayer for their chief support.

2) One or more brothers -


(a) Living with the taxpayer
(b) Dependent upon the taxpayer for chief support
(c) Not more than 21 yrs. of age
(d) Not married
(e) Not gainfully employed

(3) One or more legitimate recognized natural / legally adopted children.


(a) living with the Taxpayer
(b) dependent upon the Taxpayer for chief support
(c) not more than 21 yrs. of age
(d) not married
(e) not gainfully employed

• Regardless of age, such children, brothers or sisters qualify a Taxpayer as head of family
if they are incapable of self-support because of mental or physical defect.

• “CHIEF SUPPORT” - means principal or main support. More than fifty percent (50%)
being provided to certain dependents is enough. This phrase does not necessarily mean that
the dependent derives no income at all, he may still derive income but the same is insufficient
to support him.

RA 7432 in relation to exemptions


 RA 7432 (approved April 23, 1992) expressly allows a qualified senior citizen to be
claimed as dependents by those who care for them whether a relative or not.

Persons entitled to personal and additional exemption


Taxpayer PE AE
HHIP
1.Resident citizen √ √

2.Non- resident (NRC)√ (for income derived w/in) √ (income from w/in) X
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3. Resident alien (RA) √ (w/in) √ (income from w/in) √


4. NRAETB √ (by way of reciprocity) X
X
5. NRANEBT X X X
6. Estate √ (only up to P20k) X X
7. Trust √ (only up to P20k) X X

Reciprocity means that the foreign country where the nonresident alien is a citizen or subject
grants exemption to Filipinos not residing there but doing trade or business, or exercising
profession therein.
 The extent of personal exemptions allowed to such non-resident alien shall be in the
amount equal to the exemptions allowed in the income tax law in the country of which he is a
subject or citizen, to citizens of the Philippines not resident in such country not to exceed the
amount fixed under our laws. (Sec. 36 [D], NIRC).
c) Status-at-the-end-of-the-year rule

Rules on change of Status


These are:
1.) If the taxpayer marries or should have additional dependent(s) during the taxable year,
the taxpayer may claim the corresponding additional exemption, as the case may be, in full for
such year.
2.) If the taxpayer dies during the taxable year, his estate may still claim the personal and
additional exemption for himself and his dependents as if he died at the close of such year.
3.) If the spouse or any of the dependents dies or if any of such dependents marries,
becomes twenty-one (21) years old or becomes gainfully employed during the taxable year, the
taxpayer may still claim the same exemptions as if the spouse or any of the dependents died, or
as if such dependents married, became twenty-one (21) years old or become gainfully
employed at the close of such year.

2. For additional exemption


a. For married individuals can be claimed by only 1 of the spouses.
b. For legally separated spouses, it can be claimed only by the spouse who has custody of the
children; but the amount claimed by both shall not exceed the maximum allowed.
c. Additional exemption can be claimed only by the “husband” unless:
i. he waives his right in favor of his wife
ii. the husband is working abroad
iii. the wife is the one deriving income.
3. The law requires that married individuals, the husband and wife although required to file one
(1) income tax return, should nevertheless compute their individual income separately. If any
income of the spouses cannot be definitely attributable to or identifiable as income exclusively
earned as realized by either of the spouses, the same shall be divided equally between the
spouses.

Taxation of Minors
Income of unmarried minors derived from property received by the living parent shall be
included in the return of the parent except:
a. when donor’s tax has been paid on such property, or
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b. when transfer of such property is exempt from donor’s tax.

(b) Health and hospitalization insurance


The amount of premiums not to exceed Two thousand four hundred pesos (P2,400) per family
or Two hundred pesos (P200) a month paid during the taxable year taken by the taxpayer for
himself, including his family who has a gross income of not more than Two hundred fifty
thousand pesos (P250,000) for the taxable year.
In the case of married taxpayers, only the spouse claiming the additional exemption for
dependents shall be entitled to this deduction.

(c) Taxation of compensation income of a minimum wage earner


(1) Definition of Statutory Minimum Wage
The rate fixed by the Regional Tripartite Wage and Productivity Board, as defined by the Bureau
of Labor and Employment Statistics (BLES) of the Department of Labor and Employment
(DOLE).
(2) Definition of Minimum Wage Earner
(3) Income also subject to tax exemption: holiday pay, overtime pay, night shift
differential, and hazard pay

c. Taxation of business income/income from practice of profession


d. Taxation of passive income
Rates of Tax on Certain Passive Income of Individual Taxpayer
Any income or gain derived in which a final tax is imposed shall no longer be included in the
taxable net income of the taxpayer (applicable only to citizens and aliens)
-Final tax is imposed without deduction.
-Neither is the provision on personal additional applicable.

i. Passive income subject to final tax


(a) Interest income
Interest income derived by a resident individual from a depositary bank under the expanded
foreign service deposit system – 7.5%.
Interest income from long term deposit or investment evidenced by certificates prescribed by
BSP:
a) Exempt, if investment is held for more than 5 years
b) If investment is pre-terminated, interest income on such investment shall be subject to the
following rates:
20% - If pre-terminated in less than 3 years
12% - If pre-terminated after 3 years to less than 4 years
5% - If pre-terminated after 4 years to less than 5 years

(i) Treatment of income from long-term deposits


(ii) Royalties
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Royalties, except on books, as well as other literary works and musical compositions –20%
Royalties on books literary works and musical compositions – 10%

(iii) Dividends from domestic corporations


Cash and or property dividend actually or constructively received from a domestic corporation
or from a joint stock company, insurance or mutual fund companies and regional operating
headquarters of multinational companies. – 10%

(iv) Prizes and other winnings


Prizes over P10,000 – 20%
Prizes less than P10,000 are included in the income tax of the individual subject to the
schedular rate of 5% up to P125,000 + 32% of excess of P500,000.
Other winnings, except PCSO and Lotto, derived from sources within the Philippines – 20%

ii. Passive income not subject to final tax


Interest income from long-term deposit or investment in the form of savings, common or
individual trust funds, deposit substitutes, investment management accounts and other
investments evidenced by certificates - exempt from final tax.

e. Taxation of capital gains


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
The acquisition by the Government of private properties through the exercise of the power of
eminent domain, said properties being justly compensated, is embraced within the meaning of
the term “sale” or “disposition of property” and the definition of gross income. Profit from the
transaction constitutes capital gain. (Gonzales vs CTA, GR L-14532, May 26, 1965)

Capital gains is a tax on passive income, it is the seller, not the buyer, who generally would
shoulder the tax. As a general rule, therefore, any of the parties to a transaction shall be liable
for the full amount of the documentary stamp tax due, unless they agree among themselves
on who shall be liable for the same. Capital gains tax due on the sale of real property is a
liability for the account of the seller. It has been held that since capital gains is a tax on
passive income, it is the seller, not the buyer, who generally would shoulder the tax. Also,
there is no agreement as to the party liable for the documentary stamp tax due on the sale of
the land to be expropriated. But while DPWH rejects any liability for the same, this Court must
take note of petitioner’s Citizen’s Charter, which functions as a guide for the procedure to be
taken by the DPWH in acquiring real property through expropriation under RA 8974. The
Citizen’s Charter, issued by DPWH itself on December 4, 2013, explicitly provides that the
documentary stamp tax, transfer tax, and registration fee due on the transfer of the title of
land in the name of the Republic shall be shouldered by the implementing agency of the
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DPWH, while the capital gains tax shall be paid by the affected property owner. REPUBLIC
OF THE PHILIPPINES, REPRESENTED BY THE DEPARTMENT OF PUBLIC WORKS AND
HIGHWAYS vs. ARLENE R. SORIANO, G.R. No. 211666, February 25, 2015

HSBC issued SWIFT messages to its clients containing instructions about their accounts. HSBC
paid DST on the said messages. However, later on, HSBC filed for tax refund for the DST it
paid. CIR denied their claim. On review with the Supreme Court, it held that an electronic
message containing instructions to debit their respective local or foreign currency accounts in
the Philippines and pay a certain named recipient also residing in the Philippines is not
transaction contemplated under Section 181 of the Tax Code. They are also not bills of
exchange due to their non-negotiability. Hence, they are not subject to DST. THE
HONGKONG AND SHANGHAI BANKING CORPORATION LIMITED-PHILIPPINE BRANCHES
vs. COMMISSIONER OF INTERNAL REVENUE, G.R. No. 166018 & 167728, June 4, 2014

It should be noted that a DST is in the nature of an excise tax because it is imposed upon
the privilege opportunity or facility offered as exchanges for the transaction of the business.
DST is a tax on documents, instruments, loan agreements and papers evidencing the
acceptance, assignment, or transfer of an obligation, right or property incident thereto. DST
is thus imposed on the exercise of these privileges through the execution of specific
instruments, independently of the legal status of the transactions giving rise thereto.
The transfer of real properties from SPPC to PSPC is not subject to DST considering that the
same was not conveyed to or vested in PSPC by means of any specific deed, instrument or
writing. There was no deed of assignment and transfer separately executed by the parties
for the conveyance of the real properties. The conveyance of real properties not being
embodied in a separate instrument but is incorporated in the merger plan, thus PSPC is not
liable to pay DST.
Notably, RA No. 9243, entitled, "An Act Rationalizing the Provisions of the Documentary
Stamp Tax of the National Internal Revenue Code of 1997" was enacted and took effect on
April 27, 2004, which exempts the transfer of real property of a corporation, which is party
to the merger or consolidation, to another corporation, which is also a party to the merger
or consolidation, from the payment of DST. (Commissioner of Internal Revenue vs. Pilipinas
Shell Petroleum Corp, September 29, 2014)

A perusal of the subject provision would clearly show it pertains only to sale transactions
where real property is conveyed to a purchaser for a consideration. The phrase “granted,
assigned, transferred or otherwise conveyed” is qualified by the word “sold” which means
that documentary stamp tax under Section 196 is imposed on the transfer of realty by way
of sale and does not apply to all conveyances of real property. Indeed, as correctly noted
by the respondent, the fact that Section 196 refers to words “sold”, “purchaser” and
“consideration” undoubtedly leads to the conclusion that only sales of real property are
contemplated therein. (Commissioner of Internal Revenue vs. La Tondena Distillers, Inc.
(LTDI) [Now Ginebra San Miguel], G.R. No. 175188. July 15, 2015)

11. Taxation of non-resident aliens engaged in trade or business


a. General rules
Subject to income tax in the same manner as an individual citizen and a resident alien
individual, on taxable income received from all sources within the Philippines.
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b. Cash and/or property dividends


c. Capital gains

* non-resident aliens not engaged in trade or business


12. Individual taxpayers exempt from income tax
a. Senior citizens
b. Minimum wage earners
c. Exemptions granted under international agreements
a. Senior citizens
A senior Citizen is:
1. any resident citizen of the Philippines
2. at least sixty (60) years old, including those who have retired from both government offices
and private enterprises, and
3. has an income of not more than sixty thousand pesos (P60,000.00) per annum subject to the
review of the National Economic Development Authority(NEDA) every three (3) years.

b. Exemptions granted under international agreements


NRAETB may deduct personal exemption but only to the extent allowed by his country to
Filipinos not residing therein, and shall not exceed the aforementioned amounts. NRANETB
cannot claim any personal or additional exemption.
Taxation of employees of foreign governments, embassies, and international organizations
1. While the compensation income earned by Philippine national and alien individuals employed
by foreign governments/embassies/ diplomatic missions and international organizations situated
in the Philippines are exempt from withholding taxes by virtue of the
immunity enjoyed by the foreign governments and international organizations under
international agreements, this does not equate to exemption from payment of Philippine income
tax of such employees.
2. Only those individuals who are unequivocally identified and expressly exempt from tax in
international agreements or laws are exempt from paying Philippine income tax on their salaries
and other emoluments. Thus, those not exempted by the provisions of applicable international
agreements or laws, although exempt from withholding tax, are not relieved
of their duty to report their compensation income to the BIR, file income tax return, and pay
the taxes due thereon.

Only the following are exempt from Philippine income tax:


1. Diplomatic agents who are not nationals or permanent residents of the Philippines
2. Members of family of the diplomatic agent forming part of his/her household who are not
Philippine nationals
3. Members of the administrative and technical staff of the mission together with members of
their families forming part of their respective households who are not nationals or permanent
residents of the Philippines
4. Members of the service staff of the mission who are not nationals or permanent residents of
the Philippines
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5. Private servants of members of the mission who are not nationals or permanent residents of
the Philippines

A. Foreign embassies/diplomatic missions


B. International aid agencies of foreign governments
1. Japan International Cooperation Agency (JICA)
2. Deutsche Gessellschaft fur Internationale Zusammenarbeit (GIZ)
3. Australian Agency for International Development (AUSAID)
4. Canadian International Development Agency
5. Advisory Committee on Voluntary Foreign AID - USA
a. Cooperative For American Relief Everywhere (CARE)
b. Foster Parents Plan International, Inc. (FPPI or Plan)
Only JICA resident representatives and staff who are “dispatched from Japan” are exempt from
Philippine income tax. Only German specialists of German construction and consulting firms are
exempt from Philippine income tax. Salaries, wages and other similar remuneration paid by the
Government of Australia, or by Australian personnel, firms,
institutions and organizations to any person performing work under the Memorandum of
Subsidiary Agreement between the Philippines and Australia are exempt from Philippine income
tax. Only Canadian personnel who derive income from Canadian aid funds under a subsidiary
agreement are exempt from Philippine income tax. Only CARE employees who are not
Philippine nationals are exempt from Philippine income tax. Only non-Filipino staff members
who receive salaries and stipends in US dollars are exempt from Philippine income tax. The
income tax exemption does not apply to locally-hired Filipino nationals and resident aliens
working with Plan.

6. Aid agencies and other organizations exempt under Philippine laws


a. Ford Foundation, Rockefeller Foundation, Agricultural Development Council, Inc. and Asia
Foundation
b. International Institute for Rural Reconstruction (IIRR)
c. Catholic Relief Services – NCWC and Tools for Freedom Only non-Filipino staff members of
the organization receiving salaries and stipends in US dollars are exempt from Philippine
income tax. Only non-Filipino staff members receiving salaries and stipends in US dollars are
exempt from Philippine income tax. Only non-Filipino staff members receiving salaries and
stipends in US dollars are exempt from Philippine income tax.
C. United Nations and its specialized agencies
1. United Nations
2. Specialized agencies of the UN
3. Food and Agriculture Organization (FAO)
a. International Monetary Fund (IMF)
b. International Bank for Rural Reconstruction and Development (IBRD)
c. World Health Organization (WHO)
d. United Nations International Children Emergency Fund (UNICEF)
e. United Nations Development Programme (UNDP) Officials of the United Nations (UN),
regardless of their nationality or place of residence, are exempt from Philippine income tax.
However, only those officials whose names have been communicated to the Philippine
government through the Department of Foreign Affairs (DFA) are covered by the income tax
exemption. FAO representative and staff, regardless of nationality or place of residence, are
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exempt from Philippine income tax. Only executive directors, alternates, officers or employees
who are not local citizens, local subjects or local nationals are exempt from Philippine income
tax. Only executive directors, alternates, officials or employees who are not local citizens, local
subjects or local nationals are exempt from Philippine income tax.
Only officials, regardless of nationality or residence, are exempt from Philippine income tax.
Only officers, employees or other UNICEF personnel who are not nationals or permanent
residents of the Philippines are exempt from Philippine income tax. The following officials are
not subject to Philippine income tax:
1. Officials, including resident representatives and other member of the missions, of the UNDP
and UN subsidiary organs acting as UNDP executing agencies, regardless of nationality or
residence
2. Officials of the specialized agencies, acting as executing agency of the UNDP projects,
regardless of nationality or residence
f. United Nations Population Fund (UNFPA)
g. International Committee of the Red Cross (ICRC)
h. International Finance Corporation (IFC)
3. Officials and experts of the International Atomic Energy Agency (IAEA), acting as executing
agency of UNDP projects, regardless of nationality or residence
4. Other persons performing services on behalf of the UNDP and the specialized agency or
IAEA, acting as executing agencies, who are not Philippine nationals employed locally Officials
of the UNFPA or of any UN subsidiary organs/ specialized agencies acting as executing agencies
of the UNFPA are exempt from Philippine income tax. The exemption
covers other persons performing services on behalf of the UNFPA and its executing agencies
who are not Philippine nationals employed locally. Only Swiss nationals and alien employees,
including their spouses and dependent members of their families, are exempt
from Philippine income tax. Only directors, alternates, officials or employees who are not
local citizens, local subjects, or other local nationals are exempt from Philippine income tax.
D. International organizations covered by Separate International Agreements or Specific
Provisions of Law
1. Asian Development Bank (ADB)
2. ASEAN Centre for Biodiversity
3. International Rice Research Institute
4. Southeast Asian Regional Center for Graduate Study and Research in Agriculture (SEARCA)
5. Southeast Asian Ministers of Education Organization (SEAMEO)
6. Southeast Asian Fisheries Development Center Aquaculture Department (SEAFDEC)
7. International Organization for Migration (IOM)
Only officers and staff who are not Philippine nationals are exempt from Philippine income tax.
Only non-Filipino citizens serving as staff who receive salaries and stipends in foreign currency
are exempt from Philippine income tax. Only non-Filipino members of the staff who receive
salaries and stipends in US dollars or other foreign currency are exempt from
Philippine income tax. Only non-Filipino citizens or non-resident aliens serving as expert staff
members are exempt from Philippine income tax. Only officers who are not Philippine nationals
are exempt from Philippine income tax. As a condition for tax exemption, the
names of the officers must be communicated to the Philippine government through the DFA.
Only non-Filipino citizens who are employed as technical and scientific staff are exempt from
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Philippine income tax. The director-general, deputy-director general and staff are exempt from
Philippine income tax, regardless of nationality or place of residence.
Philippine nationals claiming exemption from income tax under the terms and provisions of
international agreements or under laws granting privileges to employees of international
organizations shall file an application for confirmation of tax exemption with the International
Tax Affairs Division (ITAD) of the BIR. (Revenue Memorandum Circular No. 31-2013, April 12,
2013)

13. Tax Returns and Other Administrative Requirements


Tax Return - this is a report made by the taxpayer to the BIR of all gross income received
during the taxable year, the allowable deductions including exemptions, the net taxable income,
the income tax rate, the income tax due, the income tax withheld, if any, and the income tax
still to be paid or refundable.

Individuals Required to File Income Tax Return


1. Resident Citizen
2. Non-Resident Citizen on income from within the Philippines
3. Resident alien on income from within the Philippines
4. NRAETB on income from within the Philippines
5. an individual (citizen/aliens) engaged in business or practice of a profession within the
Philippines regardless of the amount of gross income
6. Individual deriving compensation income concurrently from two or more employers at any
time during the taxable year and

Individuals Exempt from Filing Income Tax Return may nevertheless be required to file an
information return
1. individuals whose gross income does not exceed total personal and additional exemptions
2. individuals with respect to pure compensation income derived from sources within the
Philippines, the income tax on which has been correctly withheld
3. individuals whose sole income has been subjected to final withholding tax, and
4. individuals who are exempt from income tax

Where To File
1. legal residence- authorized agent bank; Revenue District Officer; Collection agent or duly
authorized treasurer
2. Principal Place of business
3. Office of the Commissioner

Time for Filing


April 15- for those earning sole compensation or solely business, practice of profession or
combination of business and compensation
Commissioner may on meritorious cases grant a reasonable extension of time for filing the
income tax return and may subject the imposition of 20% interest per annum from the original
due date.
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E-filing: by large tps(bus subject to VAT w/ VAT payable at least 100k for the preceding year,
Corp w/ annual income tax of 1M- pay taxes on or before the15th day of the 4 th month
following the close of the taxable year, tp must be enrolled in the EFPS
electronic signatures must be affixed in the return and enroll in an agent bank where he intends
to pay.
- all national government agencies (NGAs) whose main fund/ budget comes from the
Department of Budget (DBM)

pay as you file system


except: individuals may pay in 2 equal installments if the income tax due on the annual return
exceeds P2,000.00 (1st at time of filing, 2nd- on or before July 15 following the close of the
calendar year)
-if there will be creditable withholding tax-will be credited against the tax due or the first
installment.

AUTHORITY TO USE EBIR FORMS


The BIR has authorized the use of electronic BIR Forms (eBIR Forms) Package, which will allow
non eFPS (eFiling and Payment System) taxpayers to accomplish or fill up tax forms offline as
well as edit, save, delete, view and print their tax returns. As designed, the eBIR Forms shall
have capability to compute automatically and validate the information inputted by taxpayers.
There are 31 tax forms under the eBIR Forms Package that may be downloaded from the BIR
website at www.bir.gov.ph, or from BIR e-lounges.
eBIR Forms should be printed on folio size bond paper (8.5" x 13"), portrait orientation/layout,
and page setup margins shall be Left: 0.146, Right: 0.148, Top: 0.14, Bottom: 0.14 inches.
(Revenue Memorandum Circular No. 61-2012, October 24, 2012)

Extension of Time to File Return


The Commissioner may on meritorious cases grant a reasonable extension of time for filing
income tax return and may subject the imposition of twenty percent (20%) interest per annum
from the original due date.

Substituted Filing-when the employer’s annual return may be considered as the substitute
income tax return of employee inasmuch as the information provided in his income tax return
would exactly be the same information contained in the employer’s annual return.
1. purely compensation income
2. income from only one employer
3. amount of tax due from employee equals the amount of tax withheld by the employer
4.employee’s spouse also complied with all three conditions stated above.
5. employer files the annual information return (Form 1604-CF)
6. employer issues BIR Form 2316 version to each employee on or before January 31 of the
succeeding calendar year, or if employment is terminated before the close of such calendar
year, on the day on which last payment of compensation is made.
--Failure to furnish BIR Form 2316 shall be grounds for the mandatory audit of payor’s income
tax liabilities (including withholding tax) upon verified complaint of the payee.
- BIR now requires that all employers submit the duplicate copy of BIR Form 2316 to the BIR
not later than February 28 following the close of the calendar year.
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--Failure to submit/file BIR Form 2316 will merit a penalty of P1,000 for each failure, or a
maximum amount of P25,000 for all such failures during a calendar year.
--In case the employer fails to comply with the filing or submission of BIR Form 2316 for two
consecutive years, the employer shall be liable to a fine in the amount of P10,000 and suffer
imprisonment of not less than one year but not more than 10 years upon conviction, in
accordance with Section 255 of the Tax Code.
--This is in addition to other penalties provided by law. In settlement, a compromise fee of
P1,000 for each BIR Form 2316 not filed without any maximum threshold shall be collected by
the BIR. (Revenue Regulations No. 11-2013, June 6, 2013)

14. Taxation of domestic corporations


(1.) Normal Corporate Income Tax (NCIT) - the tax rate of 30% is imposed on any income
derived, within and without the Phils. Except on those passive income (Section 27 (A) NIRC)
Note: Taxes of Corporations are cumulative
Q1 Q2 Q3 FAR
GI 10 20 30 35
AD 8 15 23 33
TI 2 5 7 2
rate 30%
TAX 600k 1.5 2.1 600
less 600k 1.5 1.5

Next year (FAR)


Tax: 500k
-500k
due 0
1M overpayment, cannot be claimed as refund, once applied as credit-irrevocable, can be
applied as credit for the ff taxable years until overpayment is exhausted.
Corp exempt from income tax

As a rule, domestic corporations are subject to income tax in the Philippines at the rate of 30%
based on their taxable net income after allowable deductions from gross income. Income tax
liability is then determined after considering the effect of tax credits such as creditable
withholding taxes (BIR Form No. 2307), minimum corporate income taxes paid, and other
allowable tax credits.

Under Section 30 of the Tax Code of the Philippines, as amended, the following corporations or
organizations shall be exempt from income tax in the Philippines in respect to income received
by them as such:
a. Labor, agricultural or horticultural organization not organized principally for profit;
b. Mutual savings bank not having a capital stock represented by shares, and cooperative bank
without capital stock organized and operated for mutual purposes and without profit;
c. A beneficiary society, order or association, operating for the exclusive benefit of the members
such as a fraternal organization operating under the lodge system, or a mutual aid association
or a non-stock corporation organized by employees providing for the payment of life, sickness,
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accident, or other benefits exclusively to the members of such society, order, or association, or
non-stock corporation or their dependents;
d. Cemetery company owned and operated exclusively for the benefit of its members;
e. Non-stock corporation or association organized and operated exclusively for religious,
charitable, scientific, athletic, or cultural purposes, or for the rehabilitation of veterans, no part
of its net income or asset shall belong to or inure to the benefit of any member, organizer,
officer or any specific person;
f. Business league, chamber of commerce, or board of trade, not organized for profit and no
part of the net income of which inures to the benefit of any private stockholder or individual;
g. Civic league or organization not organized for profit but operated exclusively for the
promotion of social welfare;
h. A non-stock and nonprofit educational institution;
i. Government educational institution;
j. Farmers’ or other mutual typhoon or fire insurance company, mutual ditch or irrigation
company, mutual or cooperative telephone company, or like organization of a purely local
character, the income of which consists solely of assessments, dues, and fees collected from
members for the sole purpose of meeting its expenses; and
k. Farmers’, fruit growers’, or like association organized and operated as a sales agent for the
purpose of marketing the products of its members and turning back to them the proceeds of
sales, less the necessary selling expenses on the basis of the quantity of produce finished by
them;
However, the income of whatever kind and character of the above corporations or
organizations from any of their properties, real or personal, or from any of their activities
conducted for profit regardless of the disposition made of such income, shall be subject to tax
imposed under this Code.

The Bureau of Internal Revenue (BIR or Tax Authority) is now strict in seeing to it that only
corporations or organization listed above shall be entitled to the income tax exemptions in the
Philippines, and that, only their income as such corporations are covered by the income tax
exemption in the Philippines. Based on the latest issuance of the BIR, the following are not
covered by the above:
1. Revenue Memorandum Circular No. 35-2012 – Clubs organized and operated exclusively
for pleasure, recreation, and other non-profit purposes are subject to income tax in the
Philippines despite being a non-stock and non-profit because they do not fall under any of the
above exempt corporations.
2. Revenue Memorandum Circular No: 65-2012 – Condominium corporations under the
Condominium Act are subject to income tax with respect to their gross receipts from association
dues, membership fees, and other assessment or charges because they are the return of
tenants and members to the condominium corporation on the benefits, advantages, and
privileges.(Revenue Memorandum Circular No. 65-2012, October 31, 2012)

TAXATION OF CONSOLIDATED RURAL BANKS


A rural bank formed through the process of consolidation involving existing rural banks may not
avail of another five-year exemption from payment of internal revenue taxes granted under
Section 15 of Republic Act No. (RA) 7353 when the constituent banks previously availed of the
tax exemption. However, if any or both of the constituent rural banks were not able to enjoy
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the tax exemption for the entire five year period, the consolidated rural bank shall be entitled to
the exemption for the remaining period. (Revenue Memorandum Circular No. 66-2012, October
31, 2012)

Reckoning of the tax exemption privileges of Islamic banks


An Islamic bank that has been operating, but not fully, since 1991 can no longer avail of the tax
exemptions under RA 6848, otherwise known as the “Charter of Al-Amanah Islamic
Investment Bank of the Philippines.” Under Section 37 of RA 6848, an Islamic bank is exempt
from all taxes on its assets, profits, distributions and all contracts, deeds, documents and
transactions related to the conduct of its business to commence from the first taxable year, and
available 100% for the first five years and 75% for the sixth through the eight years from its
actual Islamic banking operations. The BIR held that for purposes of determining when the tax
exemption privileges under RA 6848 should commence, the reckoning date is the date of actual
banking operation of the bank, whether it is already a fully-operated Islamic bank or not.
Hence, considering that RA 6848 specifically limits the period of availment of the tax incentives
to an eight-year period, and the bank has actually performed banking operations since 1991,
the bank can no longer avail of the tax exemption privileges under RA 6848 since the eight-year
period for the tax exemption privileges has already lapsed. (BIR Ruling No. 177-2013, May 17,
2013)

(2.) Gross Income Tax Option - The President upon the recommendation of the Secretary of
Finance may, effective January 1, 2000, allow corporations the option to be taxed at fifteen
percent (15%) of gross income provided that the following conditions are met therein:
a. a tax effort ratio of 20% of GNP
b. a ratio of 40% of income tax collection to total tax revenues
c. a VAT effort of 4% of GNP and
d. a 0.9% ratio of the Consolidated Public Sector Final Position (CPSFP) to Gross National
Product (GNP)

Note:
1. The option to be taxed based on gross income shall be available only to firms whose
ratio of cost of sales to gross sales or receipts from all sources does not exceed fifty-five
percent (55%).
2. The election of the gross income tax option shall be irrevocable for three (3) consecutive
taxable years during which the corporation is qualified under the scheme.

a. Tax payable
i. Regular tax Thirty percent (30%) of taxable income.

The amendment of the 1997 NIRC, in connection with Section 22 of R.A. 9337 abolished
the franchise tax on domestic airlines and subjected PAL and similar entities to corporate
income tax and value-added tax (VAT). PAL nevertheless remains exempt from taxes, duties,
royalties, registrations, licenses, and other fees and charges, provided it pays corporate income
tax as granted in its franchise agreement. Accordingly, PAL is left with no other option but to
pay its basic corporate income tax, the payment of which shall be in lieu of all other taxes,
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except VAT, and subject to certain conditions provided in its charter. In this case, the CTA
found that PAL had paid basic corporate income tax for fiscal year ending 31 March 2006.
Consequently, PAL may now claim exemption from taxes, duties, charges, royalties, or fees due
on all importations of its commissary and catering supplies, provided it shows that 1) such
articles or supplies or materials are imported for use in its transport and non-transport
operations and other activities incidental thereto; and 2) they are not locally available in
reasonable quantity, quality, or price. ( Republic of the Philippines, rep. by the Commissioner of
Customs vs. Philippine Airlines, Inc. (PAL) / Commissioner of Internal Revenue vs. Philippine
Airlines, Inc. (PAL), G.R. No. 209353-54/G.R. Nos. 211733-34. July 6, 2015)

ii. Minimum Corporate Income Tax (MCIT)

For its fiscal year ending 31 March 2001 (FY 2000-2001), PAL incurred zero taxable income
and did not pay MCIT, for which BIR assessed PAL for deficiency MCIT. PAL is not liable to pay
MCIT because under its franchise, PAL has the option to pay basic corporate income tax or
franchise tax, whichever is lower; and the tax so paid shall be in lieu of all other taxes, except
real property tax. MCIT falls within the category of “all other taxes” from which PAL is
exempted because although both are income taxes, the MCIT is different from the basic
corporate income tax, not just in the rates, but also in the bases for their computation.
(Commissioner of Internal Revenue vs. PAL, Inc., G.R. No. 180066, July 7, 2009)

(a) Imposition of MCIT - if MCIT is higher than NCIT for the year imposed on the 4 th year
of existence of the corp.
Two percent (2%) on the gross income.

MBC being a new thrift bank is not yet liable to the MCIT since it will apply only beginning on
th
the 4 years from commencement of its operations. The date of commencement of operations
of a thrift bank is the date it was registered with the SEC or the date it was granted authority
by BSP to operate as such, whichever comes later. As newly operated thrift bank it is entitled
to a grace period of 4 years counted from the date when it was authorized by BSP to operate
as thrift bank. MBC is entitled to the refund of the taxes paid under the MCIT.

The intent of Congress relative to the MCIT is to grant a 4 year suspension of tax payment to
newly formed corporations. Corporations still starting have to stabilize their venture in order to
obtain stronghold in the industry. It is not a surprise when many corporations reported losses
in their initial years of operations. (Manila Banking Corp. v. CIR, 499 SCRA 782)

(b) Carry forward of excess minimum tax


Any excess of the minimum corporate income tax (MCIT) over the normal income tax shall be
carried forward on an annual basis and credited against the normal income tax for the three (3)
immediately succeeding taxable years.
09 10 11
GI 10M 10 15
AD 10M 10 13
NI 0 500k 2M
rate 30% 30 30
NCIT 0 150k 600k
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MCIT 200k 200k 300k


excess 200 50 350 (600k-200k-50k)

(c) Relief from the MCIT under certain conditions


The imposition of MCIT may be suspended, upon showing that the corporation suffers losses
due to any of the following causes:
a. Prolonged labor dispute
b. Legitimate business reverses
c. Force majeure

(d) Corporations exempt from the MCIT


1. Proprietary Educational Institution
2. Non-profit hospitals
3. Depository banks under expended FCDU
4. International carriers
5. Offshore Banking Units
6. ROHQs of resident foreign corp.

(e) Applicability of the MCIT where a corporation is governed both under the
regular tax system and a special income tax system
Only one may be imposed.
“A minimum corporate income tax of 2% of the gross income xxx is imposed xxx on a
corporation xxx when the minimum income tax is greater than the (net income tax)”

b. Allowable deductions
i. Itemized deductions Business expenses which are ordinary and necessary in the conduct
of business.

ii. Optional standard deduction May be taken by an individual, in lieu of itemized


deductions.

c. Taxation of passive income


*Tax Sparing Rule
i. Passive income subject to tax

(a) Interest from deposits and yield, or any other monetary benefit
from deposit substitutes and from trust funds and similar arrangements
and royalties Twenty percent (20%) final tax.
(b) Capital gains from the sale of shares of stock not traded in the stock
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exchange
(c) Income derived under the expanded foreign currency deposit system
Ten percent (10%) final tax.
Exempt - any income of nonresidents, whether individuals or corporations, from transactions
with depository banks.
FMV for unlisted shares of stocks
The value of shares of stock not listed and traded in the local stock exchanges at the
time of sale shall be the fair market value. In determining the value of the shares, the Adjusted
Net Asset Method shall be used whereby all assets and liabilities are adjusted to fair market
values. The net of adjusted asset minus the liability values is the indicated value of the equity.
Assets in the form of real property shall be valued at whichever is higher of: (a) fair market
value as determined by the Commissioner; (b) fair market value as shown in the schedule of
value fixed by the provincial and city assessors; or (c) fair market value as determined by an
independent appraiser.
(Revenue Regulations No. 16-2013, April 22, 2013)

(d) Inter-corporate dividends


(e)Capital gains realized from the sale, exchange, or disposition of lands
and/or buildings
ii. Passive income not subject to tax
d. Taxation of capital gains
i. Income from sale of shares of stock
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
e. Tax on proprietary educational institutions and hospitals 10 or 30%

St. Luke’s is a proprietary non-stock and non-profit hospital catering to non- paying patients
but also derives profit from paying patients. It is subject to the preferential tax rate of 10% for
its profit-generating activities under sec. 27(B) of NIRC; it cannot be exempt from income tax
under sec. 30(E) and (G) because it is not “organized and operated exclusively” for charitable
purposes, which is a requirement under the aforementioned provision. ( CIR vs. St. Luke's
Medical Center, Inc., G.R. Nos. 195909 & 195960, September 26, 2012 )
f. Tax on government-owned or controlled corporations, agencies or
instrumentalities

15. Taxation of resident foreign corporations


a. General rule
Resident foreign corporations are subject to any or some of the following:
1. Capital Gains Tax
2. Final Tax on Passive Income
3. Normal Tax [or] Minimum Corporate Income Tax (MCIT) [or] Gross Income Tax (GIT)
4. Branch Profit Remittance Tax
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b. With respect to their income from sources within the Philippines


- Foreign Corporations shall be taxed on income derived from sources “within” the Philippines.

Tax Imposed on Resident Foreign Corporation (RFC)


(1. NCIT - 32% effective Jan. 01, 2000 and thereafter, 30%, Jan 1, 2009-present
(2.)Gross Income Tax Option - 15% tax rate on gross income of RFC is also applicable.
(3.)Minimum Corporate Income Tax (MCIT) - 2% based on gross income is also applicable
(4.)Tax on Branch Profits Remittances - subject to 15% based on the “total profits” applied or
earmarked for remittance w/o any deduction for the tax component thereof:
Except: Those activities registered w/ the PEZA; interests dividends, rents and royalties;
remuneration for technical services, salaries, and wages; premiums, annuities, emoluments;
capital gains, profit and income.

-if branch remits to head office-taxable, apart from liability for income tax

RFC TI- 10M


rate 30%
3M
income after tax- 7M
to remit 5M

amount 5M
rate 15%
BPRTx 750k
amount to be actually remitted- 4.250M

X corp Usa subsidiary X corp Phil (100% owned by X USA)

- tax imposed: dividends tax in favor of NRFC declared by DC (15%) tax sparing rule

Single entity concept


GR- head office of a foreign corp is the same juridical entity as its branch in the Phil
except: if head office of a FC independently and directly invested in a DC w/o the funds passing
thru the Phil Branch, tp w/ respect to the tax on dividend income would be the NRFC itself &
dividend income shall be subject to the tax similarly imposed on the NRFC

c. Minimum Corporate Income Tax


d. Tax on certain income - the same tax rates as imposed to domestic corporation = is
also applicable to RFC except: the imposition of capital gain tax (6%) on sale of real property
(capital asset) located in the Phils.

Note: A different tax rate is imposed on the following RFCs

i. Interest from deposits and yield, or any other monetary benefit from
deposit substitutes, trust funds and similar arrangements and royalties
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ii. Income derived under the expanded foreign currency deposit system
iii. Capital gains from sale of shares of stock not traded in the stock exchange
iv. Inter-corporate dividends

Special Rules
a. International carrier
(a) Gross Philippine Billings
2 ½% on Gross Philippine Billing
**only applicable to NRFCs not DCs
Int’l air carrier = “Gross Philippine Billings” refer to the amount of gross revenue from (a)
carriage of persons, excess baggage cargo and mail originating from the Phils. in a (b)
continuous and uninterrupted flight, irrespective of the place of sale or issue and the place of
payment of the ticket or passage document.

Note: For a flight w/c originates from the Phils. but transhipment of passenger takes place at
any port outside the Phils., only the aliquot portion of the cost of the ticket corresponding to the
leg flown from the Phils. to the point of transhipment shall form part of the GPB.

In International shipping, “Gross Phil. Billing” means gross revenue whether for passenger,
cargo or mail originating from the Phils. up to the final destination, regardless of the place of
sale or payments of the passage or freight documents.

**airline no landing rts but selling tickets in Phils, is the sale of tickets Taxable?
-what is taxed is not the paper or service but the activity that produced the income which is the
sale of tickets. The sale is subject to Phil income taxes since the sale happened here.(BOAC)

British Overseas Airways Corp. vs. CIR (149 SCRA 395)


- an international airline with no landing rights is considered doing business in the Philippines
- Reasons:
a) Series of sale of transport documents (airline tickets)
b) Continuity of commercial transactions
c) Appointment of an agent is an indication that it is doing business in the Philippines
- Note: This BOAC doctrine is modified by RR 15-2002 insofar as the Tax Situs of transport
documents is concerned. RR 15-2002 provides that the sale of transport documents is the origin
of the passenger, cargo, or excess baggage, irrespective of place of sale and place of payment
thereof
**answer- RR 15-2002- which covers all foreign airlines- for foreign airline carriers, basis of tax
is GPB – w/o classifying whether w/ or w/o landing rights.
-no taxes to be imposed because airline has no landing rights.

*South African Airways v. CIR 2010


Gen rule S 28A1 exception S28A3
Apply 29A3 if airline has landing rights-intl carrier
-if no landing rights but derived income from sale of transport documents- GI-30%
**the general rule is that resident foreign corporations shall be liable for a 32% income tax on
their income from within the Philippines, except for resident foreign corporations that are
international carriers that derive income “from carriage of persons, excess baggage, cargo and
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mail originating from the Philippines” which shall be taxed at 2 1/2% of their Gross Philippine
Billings. Petitioner, being an international carrier with no flights originating from the Philippines,
does not fall under the exception. As such, petitioner must fall under the general rule.
** if an international air carrier maintains flights to and from the Philippines, it shall be taxed at
the rate of 2 1/2% of its Gross Philippine Billings, while international air carriers that do not
have flights to and from the Philippines but nonetheless earn income from other activities in the
country will be taxed at the rate of 32% of such income.

Implementing rules and regulations of RA 10378 (Tax Exemption of International


Carriers)
I. Income tax
An international carrier with flights or voyages originating from any port or point in the
Philippines, irrespective of the place where passage of documents are sold or issued, is subject
to the Gross Philippines Billings (GPB) tax of 2 ½% imposed under Section 28(A) (3)(a) and (b)
of the Tax Code, as amended, unless it is subject to a preferential rate or exemption on the
basis of an applicable tax treaty or international agreement to which the Philippines is a
signatory or on the basis of reciprocity.
On the other hand, an off-line international carrier having a branch/office or a sales agent in
the Philippines that sells passage documents for compensation or commission to cover off-line
flights or voyages of its principal or head office, or for other airlines/sea carriers covering
flights/voyages originating from Philippine ports or off-line flights/voyages, is not considered
engaged in business as an international carrier, and is, therefore, not subject to the 2 ½ %
GPB tax. As an international off-line carrier, it shall be subject to the regular income tax rate
under Section 28(A)(1) of the Tax Code.

Common Carriers Tax on international carriers

International air carriers and international shipping carriers doing business in the Philippines on
their gross receipts derived from the transport of cargo from the Philippines to another country
shall pay the 3% common carrier’s tax (CCT).
The CCT shall be imposed on the gross receipts of the international carrier, which shall include,
but shall not be limited to, the total amount of money or its equivalent representing the
contract, freight/ cargo fees, mail fees, deposits applied as payments, advance payments and
other service charges and fees actually or constructively received during the taxable quarter
from cargo and/or mail, originating from the Philippines in a continuous and uninterrupted
flight, irrespective of the place of sale or issue and place of payment of the passage documents.
(Revenue Regulations No. 15-2013, September 20, 2013)

RFC Airline carriers- doing business in the Phil


- w/ landing rights in the Phil
**take note GPB- sale of tickets where origin of flight is in the Phil

Japan Air -
Manila - Japan – sold in Manila (check)
Japan - Manila (x)
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Japan - USA (x) “


Japan - UK (x) “
Manila – Japan sold in Japan – (check)
Japan- Manila (x)
sold in Japan – Manila – Japan – USA
-Only leg flown from Man- Jap part of GPB

The general rule is that resident foreign corporations shall be liable for a 32% corporate
income tax (now 30%) on their income from within the Philippines, except for resident
foreign corporations that are international carriers that derive income from carriage of
persons, excess baggage, cargo and mail originating from the Philippines which shall be
taxed at 2 1/2% of their Gross Philippine Billings
if an international air carrier maintains flights to and from the Philippines, it shall be taxed
at the rate of 2 1/2% of its Gross Philippine Billings, while international air carriers that do
not have flights to and from the Philippines but nonetheless earn income from other
activities in the country will be taxed at the rate of 32% (30%) of such income.
Petitioner, being an international carrier with no flights originating from the Philippines,
does not fall under the exception. As such, petitioner must fall under the general rule. This
principle is embodied in the Latin maxim, exception firmat regulam in casibus non
exceptis, which means, a thing not being excepted must be regarded as coming within the
purview of the general rule.(SOUTH AFRICAN AIRWAYS v. COMMISSIONER OF INTERNAL
REVENUE
G.R. No. 180356, February 16, 2010)
b. Offshore banking units
c. Branch profits remittances
d. Regional or area headquarters and regional operating headquarters of
multinational companies
Regional / Area Headquarters (RAHQs) - tax exempt
- These are branches established in the Phils. by a multinational companies but they do not
earn or derive income here and their functions are limited to being a supervisory
communication and coordinating center for their affiliates.

(c.)Regional Operating Headquarters (ROHQs) - subject to 10% tax.


- These are branches established in the country by multinational companies which are engaged
in any of the following:
general administration & planning;
business planning
business development (and the like)

Taxation of representative offices


A representative office that undertakes promotion of the parent company is not liable as a
regional operating headquarter (ROHQ) subject to 10% tax under Section 34(A)(1)(b) of the
Tax Code.
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The CTA held that it is erroneous to tax a representative office as an ROHQ since the office is
only involved in information dissemination/product promotion, and unlike an ROHQ, it does not
conclude contracts on behalf of the parent company.
As defined, an ROHQ is a foreign business entity that is allowed to derive income in the
Philippines by performing qualifying services to its affiliates, subsidiaries or branches in the
Philippines, in the Asia-Pacific region, and in other foreign markets. In the instant case, the
representative office deals with clients of the parent company and does not deal with its
affiliates, subsidiaries or branches. It is fully subsidized by the head office and it basically
undertakes information dissemination and product promotion, and acts as a liaison/coordinating
office between the local clients and the head office. These are allowed activities of a
representative office. It does not conclude contracts of local clients on behalf of its parent
company.
The subsidy received by the representative office is in the form of foreign inward remittances
from its head office abroad, which is utilized to cover its expenses. The CTA held that the
foreign inward remittances received by a representative office could not be considered “income”
or “flow of wealth”, but a “subsidy”. A subsidy represents a capital or fund that is distinct from
income. It follows that the representative office’s unspent remittances, which must be
considered a mere subsidy, should not be considered income subject to Philippine income tax.
The CTA further held that the undeclared income arising from subsidy and disallowances of
expenses of the representative offices should not be subject to VAT under Sections 105 and 108
of the Tax Code. According to the CTA, the VAT was assessed by the BIR on the assumption
that the “undeclared income” under “adjustments/ disallowances” in its deficiency income tax
assessment was taxable income. The CTA held that the adjustments and disallowances were
not shown to be “flow of wealth” or taxable income. Hence, the same should not be subject to
VAT. (Shinko Electric Industries Co., Ltd., v. Commissioner of Internal Revenue, CTA Case No.
8213, February 10, 2014)

Tax incentives to RHQs


A regional or area headquarter (RHQ) in the Philippines that acts as a communication and
coordinating center for its affiliates and does not derive any income
from sources within the Philippines is not subject to income tax pursuant to Section28(6)(a) of
the Tax Code, and as such, is exempt from filing the corporate ITR. An RHQ that merely acts as
communications and coordinating center is also not subject to VAT since it is not considered as
rendering service “in the course of trade or business,” which is subject to
VAT under Section 105 of the Tax Code. Moreover, pursuant to paragraph (E), Section 14 of the
rules and regulations implementing RA 8756, it is entitled to 0% VAT on its purchase of goods
or services from VAT-registered taxpayers. However, an RHQ shall be constituted as
withholding agent of the government if it acts as an employer and its employees receive
compensation income subject to withholding, or if it makes income payments to individuals or
corporations subject to withholding tax.
(BIR Ruling No. 110-2013, March 21, 2013)

16. Taxation of non-resident foreign corporations


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- are subject 30% on all income derived from sources within the Phils. except on certain passive
income
Note: NRFCs are not entitled to deduction as well as exemption (personal and additional
exemption)

a. General rule
Non-resident foreign corporations are subject to any or some of the following:
1. Capital Gains Tax
2. Final Tax on Passive Income
3. FC Tax Sparing Rule
-provides that a final withholding tax at the rate of 15% shall be imposed for the amount of
cash and /or property dividends received from a domestic corporation by non-resident Foreign
corporation subject to the condition that the country in which the NRFC is domiciled shall allow
a credit against the tax due from NRFC taxes deemed to have been paid in the Phils. equivalent
to 17%(15% present) which represents the difference between the regular income tax rate of
32% and the usual corporate rate of 15%.

Note:
1.Tax sparing credit applies only when the conditions for its availment are clearly established by
the taxpayer. Since the concession is in the nature of a tax exemption.
2.The 15% reduced tax must actually be paid and the 17% must be deemed paid tax.
3.The 15% tax on dividends is applicable if the country where the recipient NREC is domiciled
does not imposed any tax on dividend received by said recipient foreign corporation (BIR
Ruling, March 30, 1977)

a.CIR vs. Procter and Gamble PMC (160 SCRA 560 and 204 SCRA 377)
Procter and Gamble (Phil.) is a domestic corporation and a wholly-owned subsidiary of Procter
and Gamble (USA), a non-resident foreign corporation. Over a number of years, PCMC-Phil. had
paid income tax on its net income, and from the remaining net profits, dividends were declared.
An income tax of 35% on the dividends were withheld by it and paid to the BIR.

It invoked the tax-sparing credit provision of the NIRC, filed a claim for refund of the 20% point
portion of the 35% point whole tax paid. The CTA ordered the refund. The SC ruled that the
preferential 15% tax is inapplicable to the case because of the failure of the claimant to :
(1)show the actual amount credited by the US Government;
(2)present the US income tax returns of PCMC-USA, the parent company;
(3)submit a duly authenticated document evidencing the tax credit of the 20% differential.

However, this case was reversed by the Supreme Court in an en banc resolution (204 SCRA
377; Dec. 2, 1991) and ruled on the applicability of the preferential 15% tax because it was
established that the NIRC does not require that the US tax law deems the parent company to
have paid the 20% of tax waived by the Philippines. The NIRC only requires that the US shall
allow PCMC-USA “deemed paid” tax credit equivalent to 20%.
nal Tax on [Other] Gross Income from sources within the Philippines
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b. Tax on certain income


(1) Interest on foreign loans-Twenty percent (20%) final withholding tax.
(2) Intercorporate dividends-Fifteen percent (15%) - as long as the country in which the
nonresident foreign corporation is domiciled allows a tax credit for taxes “deemed paid” in the
Philippines equivalent to 15%.
Thirty percent (30%) withholding tax - if the country within which the NRFC is domiciled does
not allow a tax credit.
(3) Capital gains from sale of shares of stock not traded in the stock exchange

i. Interest on foreign loans


ii. Inter-corporate dividends
iii. Capital gains from sale of shares of stock not traded in the stock
exchange
Special Rules
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

17. Improperly accumulated earnings of corporations


Every corporation formed or availed for the purpose of avoiding the income tax with respect to
its shareholders or the shareholders of any other corporation, by permitting earnings and profits
to accumulate instead of being divided or distributed.
Nature and Purpose: The improperly accumulated earning tax of 10% in addition to the regular
corporate income tax shall apply to every corporation formed or availed for the purpose of
avoiding of any other corporation by permitting earnings and profit to accumulate instead of
being divided or distributed.

•The term “Improperly accumulated taxable income” means taxable income adjusted by:
1) Income exempt from tax
2) Income excluded from gross income
3) Income subject to final tax
4) The amount of NOLCO deducted and reduced by the sum of:
a) Dividends actually or constructively paid and
b) Income tax paid for the Taxable year.

Formula: Taxable income


Add: Income exempt from tax
Income subject to final tax
Income excluded from gross income
Amount of NOLCO deducted
Less: Dividends actually or constructively paid
Income tax paid for the yr.
Improperly accumulated Taxable Income
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•Improperly Accumulated Earnings Tax does not apply to the following:


1)Banks and other non-banks financial intermediaries
2)Publicly held corporations
Determining a publicly-held corporation for IAET purposes Under Section 4 of RR 2-2001, for a
domestic corporation to be considered publicly-held, at least 50% in value of the outstanding
capital stock or of the total combined voting power of all classes of stock entitled to vote in a
corporation is owned directly or indirectly by more than 20 individuals.
Section 4 of RR 2-2001 further provides that for purposes of determining whether the
corporation is a closely held corporation, insofar as such determination is based on stock
ownership, stock owned directly or indirectly by or for a corporation, partnership, estate or trust
shall be considered as owned proportionately by its shareholders, partners or beneficiaries. The
BIR held that while the ultimate owners of a domestic company may be more than 20 individual
shareholders, it may still not be considered a publicly-held corporation that is exempt from
improperly accumulated earnings tax (IAET) as contemplated under Section 29(B) of the Tax
Code, as implemented by RR 2-2001.
To be considered a publicly-held corporation exempt from IAET, the actual number of majority
individual stockholders (who own at least 50% in value of outstanding capital stock or of the
total combined voting power of all classes of stock entitled to vote) should be more than 20
individual shareholders.(BIR Ruling No. 094-2013, March 18, 2013)

•Presumptions of Improper accumulations - There is a “prima facie” evidence of a purpose by a


corporation to avoid the tax upon its shareholders or members:
1)Where the corporation is a mere holding company.
2)Where the corporation is an investment company where more than 50% of its outstanding
stock is owned directly/ indirectly by one person during the taxable year.
3)Where the corporation permits its earnings or profits to be accumulated “beyond the
reasonable needs of the business”.

“Reasonable needs of the business” includes the reasonably anticipated needs of the business
e.g. investment of corporation’s profits in a business related to taxpayer’s business.
•Purpose: To compel the corporations to distribute dividends to the stockholders (subject to
dividend tax)

•Instances of Reasonable Accumulations:


1)It is retained for working capital needed by the business
2)It is invested in addition to plant property and equipment reasonably by the business
3)In accordance with contract obligations, it is placed to the credit of a sinking fund for the
purposes of retiring bonds issued by the corporation.

a.Cyanamid Phils. vs. CA (January 20, 2000)


If the CIR determined that the Corporation avoided the tax on shareholders by permitting
earnings or profits to accumulate, and the taxpayers contested such a determination, the
burden of proving the determination wrong, together with the corresponding burden of first
going forward with evidence, is on the taxpayer. This applies even if the corporation is not a
mere holding or investment company and does not have an unreasonable accumulation of
earnings or profits.
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In order to determine whether profits are accumulated for the reasonable needs of the business
to avoid the surtax upon shareholders, it must be shown that the controlling intention of the
taxpayer is manifested at the time of accumulation, not intentions declared subsequently, which
are mere afterthoughts. Also, the accumulated profits must be used within a reasonable time
after the close of the taxable year. Petitioner did not establish, by clear and convincing evidence
that such accumulation of profit was for the immediate needs of the business.
In 1981, the working capital of Cyanamid was more than twice its current liabilities, projecting
adequacy in working capital. Available income covered expenses or indebtedness for that year,
and there appeared no reason to expect an impending 'working capital deficit' which could have
necessitated an increase in working capital, as rationalized by petitioner.
Furthermore, Under Section 25 of the 1977 NIRC, as amended, the following corporations
exempt from the imposition of improperly accumulated tax: (a) banks; (b) non-bank financial
intermediaries; (c) insurance companies; and (d) corporations organized primarily and
authorized by the Central Bank of the Philippines to hold shares of stocks of banks. Petitioner
does not fall among those exempt classes.

Petitioner cannot avoid paying surtax on improperly accumulated earnings because the
purchase of the U.S.A. Treasury bonds were in no way related to petitioner’s business of
importing and selling wines liquors. The “immediacy test” determines the “reasonable needs”
of the business in order to justify an accumulation of earnings—that is, if the corporation did
not prove an immediate need for the accumulation of the earnings and profits, the
accumulation was not for the reasonable needs of the business, and the penalty tax would
apply; investment of the earnings and profits of the corporation in stock or securities of an
unrelated business usually indicates an accumulation beyond the reasonable needs of the
business (Manila Wine Merchants, Inc. vs. Commissioner of Internal Revenue, G.R. No. L-
26145, February 20, 1984)

BIR assessed petitioner for surtax on improperly accumulated profits, which petitioner
contested. In order to determine whether profits are accumulated for the reasonable needs of
the business, it must be shown that: (1) the controlling intention of the taxpayer is manifest at
the time of accumulation, not intentions declared subsequently, which are mere afterthoughts;
and (2) the accumulated profits must be used within a reasonable time after the close of the
taxable year. (Cyanamid Philippines, Inc. vs. Court of Appeals, et al., G.R. No. 108067,
January 20, 2000)
Previous accumulations should be considered in determining unreasonable accumulations for
the year concerned. In determining whether accumulations of earnings or profits in a
particular year are within the reasonable needs of a corporation, it is necessary to take into
account prior accumulations, since accumulations prior to the year involved may have been
sufficient to cover the business needs and additional accumulations during the year involved
would not reasonably be necessary. (Basilan Estates, Inc. vs. Commissioner of Internal
Revenue, et al., G.R. No. L-22492, September 5, 1967)

18. Exemption from tax on corporations


YMCA, a non-stock non-profit corporation with charitable objectives, claimed exemption from
payment of income tax by invoking the NIRC and the Constitution. While the income received
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by the organizations enumerated in Section 26 of the NIRC is, as a rule, exempted from the
payment of tax “in respect to income received by them as such,” the exemption does not
apply to income derived “from any of their properties, real or personal, or from any of their
activities conducted for profit, regardless of the disposition made of such income”; Moreover,
charitable institutions under Art. VI, sec. 28 of the Constitution are only exempted from
property taxes, and YMCA is not an educational institution under Article XIV, Section 4 of the
Constitution. (Commissioner of Internal Revenue vs. Court of Appeals, et al., G.R. No.
124043, October 14, 1998)
Lung Center, charitable institution, does not lose its character as such and its exemption from
taxes simply because it derives income from paying patients, whether out-patient, or confined
in the hospital, or receives subsidies from the government, so long as the money received is
devoted or used altogether to the charitable object which it is intended to achieve; and no
money inures to the private benefit of the persons managing or operating the institution.
However, it is not exempt from real property tax as to the portions of the land leased to
private entities as well as those parts of the hospital leased to private individuals because
under the Constitution, it is only exempt when its real properties are actually, directly, and
exclusively used for charitable purposes. (Lung Center of the Phil. vs. Quezon City, et al.,
G.R. No. 144104, June 29, 2004)

19. Taxation of partnerships


Rules:
1. Subject to the same rules on corporations, but is not subject to the improperly accumulated
earnings tax [IAET]. The partnership must file quarterly and year-end income tax returns.
2. The taxable income of the partnership, less the normal corporate income tax thereon, is the
distributable net income of the partnership.
3. Ten percent (10%) final tax - the share of a partner in the partnership’s distributable net
income of a year deemed to have been actually or constructively received by the partners in
the same taxable year taxed to them in their individual capacity, whether actually distributed or
not, withheld by the partnership.
-underlying reason for constructive realization of income- control test

a. Taxation of general professional partnerships


Rules:
1. Not subject to income tax.
2. The partners shall only be liable for income tax only in their separate and individual
capacities.
3. For purposes of computing the distributive share of the partners, the net income of
the GPP shall be computed in the same manner as a corporation.
4. Each partner shall report as gross income his distributive share, actually or constructively
received, in the net income of the partnership.

Ex. 1. XYZ partnership(Lawyers)- income P6M- decided only 3M will be distributed to partners-
partners will be taxed in their individual capacity
tax base- P2M- presumptive acquisition/receipt of income
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2. XYZ Pship (Business)- earned 6M decided to retain 3M and distribute 3M


-who are taxpayers?tax base? how taxed?
a. Pship taxed as corporate entity- 6M * 30%= 1.8M
-only 4.2M (6-1.8) subject to distribution – pship can only retain 1.2M(3-1.8 tax)
b. partners are taxed individually applying dividends tax of 10% because pship is treated as
corporation
tax base is P1.4M each ( 4.2/3) 4.2 represents earnings constructively received
basis sec 73d nirc- SEC. 73. Distribution of dividends or Assets by Corporations. -xxx
(D) Net Income of a Partnership Deemed Constructively Received by Partners. - The
taxable income declared by a partnership for a taxable year which is subject to tax under
Section 27 (A) of this Code, after deducting the corporate income tax imposed therein, shall be
deemed to have been actually or constructively received by the partners in the same taxable
year and shall be taxed to them in their individual capacity, whether actually distributed or not.

3. If XYZ is a corp
a. liability of corp same as 2a
b. as to partners different in tax treatment- whatever was actually received will be the basis
sec 73d not applicable to corp.

Tests Applied To Partnerships, Co-Ownerships, And Estates


1.Evangelista vs. CIR (102 Phil 140)
•The term “partnerships” does not only refer to partnerships in its technical meaning.
•The phrase “no matter how created or organized” includes that a joint venture need not be
undertaken in any of the standard forms or in conformity with the usual requirements of the
law on partnerships in order that one could be deemed to be so for tax purposes
•Also included are joint accounts and associations, none of which have a legal personality of its
own independent of that of its members

2.Ona vs. CIR (45 SCRA 74)


•co- ownerships become taxable in the event co-owners used the properties as a common fund
with intent to produce profits

3. Obillos vs. CIR (October 19, 1985)


•mere sharing of gross returns does not of itself establish or constitute a taxable partnership,
whether or not the persons sharing them have joint or common interest
•there is no taxable partnership where the children of Obillos had no intention to divide profits
among themselves
•there must be an unmistakable intention to form a partnership or joint venture
•a sale of co-ownership property does not necessarily establish that intention

4. Pascual and Dragon vs. CIR (October 18, 1988)


•mere sharing of gross returns does not of itself establish or constitute a taxable partnership
•where two persons purchased two parcels of land in 1965 and another three parcels in 1966,
which they later sold at a profit
•the character of habituality peculiar to business transactions for the purposes of gain must be
present
•the sharing of returns is but a consequence of a joint or common interest in the property
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•there must be a clear intention to form a partnership

5. Afisco Insurance Corp. vs. CIR ( January 25, 1999)


• a pool of machinery insurers is a taxable association or corporation as an unregistered
partnership
• Reasons:
(1) The pool has a common fund, consisting of money and other valuables that are
deposited in the name and credit of the pool. This common fund pays for the administration
and operation expenses of the pool.
(2) The pool functions through an executive board which resembles the board of directors
of a corporation, composed of one representative for each of the ceding companies.
(3) True, the pool itself is not a reinsurer and does not issue any insurance policy: however,
its work is indispensable, beneficial and economically useful to the business of the ceding
companies and Munich, because without it they would not have received their premiums. The
ceding companies share “in the business ceded to the pool” and in the “expenses” according to
a “Rules of Distribution” annexed to the Pool Agreement. Profit motive or business is,
therefore, the primordial reason for the pool’s formation.

Tax implications and recording of deposits/advances to GPPs This Circular is issued to provide
the following guidelines on the tax treatment and recording of deposits/advances made by
clients to general professional partnerships (GPPs).
Service income of GPPs
When the GPP receives cash deposits or advances from its client, the GPP shall issue a
corresponding official receipt. The amount received shall be booked as income of the GPP and
shall form part of its gross receipts subject to VAT, if applicable.

CLAIM FOR DEDUCTION OF EXPENSES


The GPP shall record the expenses it incurred and paid on behalf of its client as its own
expenses for income tax purposes if the official receipt/invoice issued by the third-party
establishment is in the name of the GPP. Accordingly, all expenses supported by official
receipts/invoices issued by third party establishments in the name of the GPP may be claimed
by the latter as deductions from its gross income. The same expenses may not be claimed as
deductions from gross income of its clients. On the other hand, all payments made by clients to
GPPs shall be allowed as deduction as professional fee provided that they are duly
substantiated by official receipts issued by the GPP. Both GPP and client are not precluded from
availing of the optional standard deduction provided under the Tax Code and existing rules and
regulations. Pro-forma entries of receipt, payment made to third-party establishments, and
liquidation of advance deposits made by clients to GPPs are provided in the Circular. (Revenue
Memorandum Circular No. 89-2012, December 28, 2012)

20. Tax Returns and Other Administrative Requirements


i. Who are required to file
a. Corporation subject to tax having existed during the taxable year, whether with income or
not
b. Corporation in the process of liquidation or receivership
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c. Insurance company doing business in the Philippines or deriving income therein


d. Foreign corporation having income from within the Philippines
e. Those exempt from income tax under Section 30 of the NIRC but has not shown proof of
exemption

ii. What and when to file


Quarterly returns on the first three quarters to be filed within 60 days after the close of the
quarter basis and the final or adjusted return on the 15th day of the fourth month following the
close of the fiscal or calendar year.

iii. When to pay


Pay as you file system. The tax subject of the return should be paid within same time the return
is filed.

Quarterly filing of returns


1.File a duplicate of quarterly summary declaration of its gross income and declare on a
cumulative basis.

Reasons:
1. ensure timeliness of corp income tax
2. improve govt liquidity or solvency
3. lessen burden on cor liability
4. increase govt cash flow consistent with the policy on fiscal adequacy
5. lifeblood theory.

taxes of corp are cumulative


Q1 Q2 Q3
Q4(FAR
GI 10M +10m 20M +10m 30m +5M 35M
AD 8M 7M15 +8M 23m +10m 33M
TI 2M 5M 7M 2M
30% 30% 30% 30%
Tax 600K 1.5M 2.1M (total tax 600K
- (600K-Q1 tax) (1.5M) paid for q3 ) (2.1M)
1.5M
1.5M-overpayment- may be refunded or credited against tax liabilities for taxable quarters of
succeeding taxable years.

21. Taxation on estates and trusts


a) Application
The tax imposed upon individuals shall apply to the income of estates or of any kind of property
held in trust, including:
1. Income accumulated in trust for the benefit of unborn or unascertained person or
persons with contingent interests, and income accumulated or held for future distribution under
the terms of the will or trust;
2. Income which is to be distributed currently by the fiduciary to the beneficiaries, and income
collected by a guardian of an infant which is to be held or distributed as the court may direct;
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3. Income received by estates of deceased persons during the period of administration or


settlement of the estate; and
4. Income which, in the discretion of the fiduciary, may be either distributed to the
beneficiaries or accumulated.

b) Exception
The tax shall not apply to employee's trust which forms part of a pension, stock bonus
or profit-sharing plan of an employer for the benefit of some or all of his employees:
1. If contributions are made to the trust by such employer, or employees, or both for the
purpose of distributing to such employees the earnings and principal of the fund
accumulated by the trust in accordance with such plan, and
2. If under the trust instrument it is impossible, at any time prior to the satisfaction of all
liabilities with respect to employees under the trust, for any part of the corpus or income to be
used for, or diverted to, purposes other than for the exclusive benefit of his employees.

c) Determination of tax
1) Consolidation of income of two or more trusts
Where the creator of the trust in each instance is the same person, and the beneficiary in
each instance is the same, the taxable income of all the trusts shall be consolidated and the
tax computed on such consolidated income, and such proportion of said tax shall be
assessed and collected from each trustee which the taxable income of the trust administered by
him bears to the consolidated income of the several trusts

2) Taxable income
General rule:
Any amount actually distributed to any employee or distributee shall be taxable to him in the
year in which so distributed to the extent that it exceeds the amount contributed by such
employee or distributee.

3) Revocable trusts
Where at any time the power to revest in the grantor title to any part of the corpus of the trust
is vested:
a. in the grantor either alone or in conjunction with any person not having a substantial
adverse interest in the disposition of such part of the corpus or the income therefrom, or
b. in any person not having a substantial adverse interest in the disposition of such part of the
corpus or the income therefrom, the income of such part of the trust shall be included in
computing the taxable income of the grantor.

4) Income for benefit of grantor


Where any part of the income of a trust
a. is, or in the discretion of the grantor or of any person not having a substantial
adverse interest in the disposition of such part of the income may be held or accumulated for
future distribution to the grantor, or
b. may, or in the discretion of the grantor or of any person not having a substantial
adverse interest in the disposition of such part of the income, be distributed to the grantor, or
c. is, or in the discretion of the grantor or of any person not having a substantial
adverse interest in the disposition of such part of the income may be applied to the payment of
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premiums upon policies of insurance on the life of the grantor, such part of the income of the
trust shall be included in computing the taxable income of the grantor.

5) Meaning of "in the discretion of the grantor"


Either alone or in conjunction with any person not having a substantial adverse interest in the
disposition of the part of the income in question.

22. Tax Returns and Other Administrative Requirements

23. Withholding tax


a. Concept
The requirement that taxes imposed or prescribed by the NIRC are to be deducted and withheld
by the payor-corporations and/or persons from payments made to payees-corporations and/or
persons for the former to pay the same directly to the BIR. Hence, the taxes are collected
practically at the same time the transaction is made or when the taxable transaction occurs. It
is taxation at source.

b. Kinds
As to income subject of the system

Withholding of final tax of certain income


1. Passive incomes
2. Fringe benefits

Withholding of creditable tax at source


1. Compensation Income
2. Professional/talent fees
3. Rentals
4. Cinematographic film rentals and other payments
5.Income payments to certain contractors

As to whether or not income should be reported as part of the gross income


The recipient may not report the said income in his gross income because the tax withheld
constitutes final and full settlement of the tax liability
The employee is required to include the income in his gross income

As to the effect of the tax withheld


The tax withheld cannot be claimed as tax credit
The tax withheld can be claimed as a tax credit or may be deducted from the tax due or
payable

As to filing of ITR
If the only source of income is subject to final tax, no need to file an ITR on the part of the
earner
There is a necessity to file on the earner
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i. Withholding of final tax on certain incomes


c. Withholding on wages
1) Requirement for withholding
No withholding of a tax where the total compensation income of an individual does not
exceed the statutory minimum wage, or five thousand pesos (P5,000.00) per
month, whichever is higher.

2) Tax paid by recipient


If the employer fails to deduct and withhold the tax as required, and thereafter the tax against
which such tax may be credited is paid, the tax so required to be deducted and withheld shall
not be collected from the employer; but in no case relieve the employer from liability for any
penalty or addition to the tax otherwise applicable in respect of such failure to deduct and
withhold.

3) Refunds or credits
(a) Employer
When there has been an overpayment of tax, refund or credit shall be made only to the extent
that the amount of such overpayment was not deducted and withheld by the employer.

(b) Employees
The amount deducted and withheld during any calendar year shall be allowed as a credit to
the recipient of such income against the tax imposed under Section 24(A).

Any excess of the taxes withheld over the tax due from the taxpayer shall be returned or
credited within three (3) months from the fifteenth (15th) day of April. Refunds or credits made
after such time shall earn interest at the rate of six percent (6%) per annum, starting after the
lapse of the three-month period to the date the refund of credit is made.

4) Year-end adjustment
On or before the end of the calendar year but prior to the payment of the compensation for the
last payroll period, the employer shall determine the tax due from each employee on taxable
compensation income for the entire taxable year. The difference between the tax due from the
employee for the entire year and the sum of taxes withheld from January to November shall
either be withheld from his salary in December of the current calendar year or refunded to the
employee not later than January 25 of the succeeding year.

5) Liability for tax


The employer shall be liable for the withholding and remittance of the correct amount of tax
required to be deducted and withheld.

The 20% final tax withheld on a bank’s passive income should be included in the computation
of the Gross Receipts Tax (GRT). Bureau of Internal Revenue (BIR) has consistently ruled that
the term gross receipts do not admit of any deduction. It emphasized that interest earned by
banks, even if subject to the final tax and excluded from taxable gross income, forms part of its
gross receipt for GRT purposes. The interest earned refers to the gross interest without
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deduction, since the regulations do not provide for any deduction. Absent a statutory definition
of the term, the BIR had consistently applied it in its ordinary meaning, i.e., without deduction.
(China Banking Corporation vs. CIR, G.R. No. 175108 ).

ii. Withholding of creditable tax at source


iii. Withholding of VAT
Indirect taxes, like VAT and excise tax, are different from withholding taxes: To
distinguish, in indirect taxes, the incidence of taxation falls on one person but the
burden thereof can be shifted or passed on to another person, such as when the
tax is imposed upon goods before reaching the consumer who ultimately pays 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. (Asia International Auctioneers, Inc. v. CIR G.R. No.
179115 September 26, 2012)

c. Filing of return and payment of taxes withheld


1) Return and payment in case of government employees
The return of the amount deducted and withheld upon any wage shall be made by the officer or
employee having control of the payment of such wage, or by any officer or employee duly
designated for the purpose.

Option to be constituted as withholding agent


Foreign governments/embassies/ diplomatic missions and international organizations acting as
employers of Philippine nationals and alien individuals who are not exempt from payment of
income tax under international agreements may, at its option, act as withholding agent for the
Philippine government and file income tax returns of their respective employees through
substituted filing. Those exercising this option shall register with the Revenue District Office
(RDO) having jurisdiction over the place where the principal office of the foreign government,
embassy, diplomatic mission and international organization is located.

2) Statements and returns


(A) Requirements
Every employer required to deduct and withhold a tax shall furnish to each such employee in
respect of his employment during the calendar year, on or before January thirty-first (31st) of
the succeeding year, or if his employment is terminated before the close of such calendar year,
on the same day of which the last payment of wages is made, a written statement confirming
the wages paid by the employer to such employee during the calendar year, and the amount of
tax deducted and withheld under this Chapter in respect of such wages. The statement required
to be furnished by this Section in respect of any wage shall contain such other information, and
shall be furnished at such other time and in such form as the Secretary of Finance, upon the
recommendation of the Commissioner, may, by rules and regulation, prescribe.

(B) Annual Information Returns.


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Every employer required to deduct and withhold the taxes in respect of the wages of his
employees shall, on or before January thirty-first (31st) of the succeeding year, submit to the
Commissioner an annual information return containing a list of employees, the total amount of
compensation income of each employee, the total amount of taxes withheld therefrom during
the year, accompanied by copies of the statement referred to in the preceding paragraph, and
such other information as may be deemed necessary.

i. Return and payment in case of government employees


ii. Statements and returns
d. Final withholding tax at source
Withholding tax on compensation
Every employer must withhold from compensation paid, an amount computed in accordance
with the regulations.
Exception:
Where such compensation income of an individual:
1. Does not exceed the statutory minimum wages; or
2. Five thousand pesos (P5,000) monthly - whichever is higher

WITHHOLDING OF TAX ON BACK WAGES


Back wages, allowances and benefits received by an employee from a labor dispute constitute
remunerations for services by the employee during the period of his dismissal from service;
these remunerations are subject to income tax, and consequently, to withholding tax. For
income tax and withholding purposes, the employee is required to report as income and pay the
corresponding income taxes by allocating or spreading the back wages, allowances and benefits
through the years from his separation up to the final decision of the court awarding the back
wages. However, in cases where the back wages, allowances and benefits awarded in the labor
dispute are enforced through garnishment of debts due to the employer, the person owing such
debts or having possession or control of such credits (e.g., banks, financial institutions or other
concerned institutions) who will release and pay the entire garnished amount to the employee
shall be constituted as withholding agent responsible for deducting and collecting the
withholding tax due on such wages. The prescribed withholding tax is 5% of the portion of the
judgment award representing the taxable back wages, allowances and other benefits received
by the employee. (Revenue Memorandum Circular No. 39, 2012, August 6, 2012)

Tax implications of integration of airport terminal fee in airline tickets The BIR issued the
following clarifications on the procedure for invoicing and tax treatment of the integration of the
Domestic Passenger Service Charge (DPSC) into the sale of airline tickets.
On the collection of DPSC from passengers
The airline company, which shall be responsible for collecting the DPSC, shall include the DPSC
in the official receipt it shall issue to its passengers. The VAT-able and VAT exempt components
of DPSC shall be separately reflected in the official receipts. This means that the share of the
airport authority in the DPSC shall be shown in the airline company’s official receipts as part of
receipts subject to VAT, while the Aviation Security Fee should be reflected as VAT exempt. The
VAT component shall be included in the total VAT.
On the payment of DPSC by airline companies to the airport authority
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The DPSC collected by the airline company shall be paid to the airport authority which, in turn,
shall issue an official receipt to the airline company. The official receipt shall indicate the full
amount of the DPSC. The DPSC shall not form part of the gross receipts of the airport authority
for purposes of computing creditable withholding taxes.
ON THE PAYMENT OF SERVICE FEES BY AIRPORT AUTHORITY TO THE AIRLINE
COMPANY
The airport authority shall pay service fees to airline companies for collecting the DPSC. This
shall be governed by the rules on government money payments, i.e., subject to withholding
VAT at the rate of 5% and expanded withholding tax of 2% of gross payments. The entries to
record payment/receipts/ remittance of the DPSC in the books of an airline company and the
airport authority are illustrated in the circular. (Revenue Memorandum Circular No. 34-2012,
August 1, 2012)

CWT ON INCOME PAYMENTS TO BOI ENTERPRISES


A Board of Investment (BOI) registered enterprise enjoying income tax holiday (ITH) is not
subject to creditable withholding tax (CWT) on its income derived in connection with its
registered activities.
Under Section 2.57.5(B)(2) of RR 2-98, the withholding tax shall not apply to income payments
to persons enjoying exemption from income tax provided by the Omnibus Investment Code of
1987, as amended.
In the instant case, the water company enjoys ITH for a period of four years for its water
system project. As such, revenues generated by the water company from its registered activity
are not subject to withholding tax imposed under RR 2-98. The BIR, however, clarified that its
exemption from withholding tax does not cover income payments or revenues other than those
specifically mentioned in the BOI’s Specific Terms and Conditions as limitation of its ITH
entitlement. (BIR Ruling No. 450-2012, July 10, 2012)

IRREVOCABILITY RULE ON EXCESS CREDITABLE WITHHOLDING TAX


Under Section 76 of the Tax Code, a corporation that has incurred excess income tax payments
is given the option to: (a) refund in the form of cash or tax credit certificate; or (b) carry over
the excess amount against the income tax liabilities for the taxable quarters of the succeeding
taxable years. Once the option to carry over and apply the excess quarterly income tax against
income tax due for the taxable quarters of the succeeding taxable years has been made, such
option shall be considered irrevocable for that taxable year and no application for cash refund
or issuance of tax credit certificate shall be allowed. Citing recent cases decided by the SC, the
Court of Tax Appeals (CTA) held that the irrevocability rule under Section 76 applies only to the
option to carry over excess income tax payments, and not the option of a refund. Thus, under
the irrevocability rule, only in the event that the corporate taxpayer elects the option to carry
over shall the option become irrevocable for that taxable period, and no application for refund
or tax credit certificate shall be allowed. In its annual income tax return, the taxpayer-refund
claimant chose the option to be issued a tax credit certificate for its excess creditable
withholding tax (CWT). The taxpayer’s annual income tax returns for the succeeding taxable
year reflected that the excess CWT, which the taxpayer sought to be refunded, was not carried
over to the succeeding taxable years. Although the taxpayer’s annual income tax returns for the
succeeding taxable years showed that it did not carry over its excess CWT, it nevertheless
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carried over the excess amount in its quarterly income tax returns for the first, second, and
third quarters of the said taxable year. According to the CTA, the option made by the taxpayer
in its annual income tax return to be refunded is defeated by its act of carrying over its excess
tax credits to the succeeding taxable quarters. Hence, having exercised the option to carry over
its claimed excess tax credits, the taxpayer is already barred from claiming refund for the
covered period. (Stablewood Philippines, Inc. v. Commissioner of Internal Revenue, CTA EB 751
re CTA Case No. 7705, September 17, 2012)

INVOICING AND RECORDING OF INCOME PAYMENTS FOR MEDIA ADVERTISING


The BIR issued the following clarifications on the procedure that should be observed by
advertising agencies, media suppliers and advertisers in the invoicing and recording of income
payments and gross receipts for media advertising placements.

1. On income payments by client/ advertiser to media suppliers


Media suppliers should bill their clients/advertisers for the total amount of media placement.
The clients/advertisers are required to withhold 2% on the entire cost of the media placement,
and correspondingly, issue BIR Form 2307 (Certificate of Creditable Withholding Tax Withheld
at Source) in the name of the media supplier. Upon receipt of income payment from the
advertiser, the media supplier should issue VAT invoice/official receipt to its client/advertiser,
and report the entire amount as its business income for income tax purposes.

2. On the commission/service fee of advertising agency


The advertising agency should bill the media supplier for its commission/ service fee. Upon
payment, the media supplier is required to withhold 2% on the commission/ service fee, and
issue BIR Form 2307 in the name of the advertising agency. For receipt of commission/service
fee, the advertising agency shall issue its VAT invoice/official receipt to the media supplier. The
amount of VAT to be reported should be based on the commission/ service fee of the
advertising agency. Illustrative accounting entries for recording income payments in the books
of accounts of the advertisers, media entity and advertising agency are provided in the Circular.
(Revenue Memorandum Circular No. 63-2012, October 29, 2012)

EXCEPTION TO THE IRREVOCABILITY RULE ON CLAIMS FOR EXCESS CWT


As an exception to the irrevocability rule, a corporation that permanently ceases its operations
may opt to claim for refund its remaining tax credits even if it previously chose the irrevocable
option to carry over its excess credits as there is no more opportunity for it to utilize its tax
credits. However, the taxpayer must prove that the termination of its business operation is
permanent in nature and not merely temporary. For this purpose, compliance with the
provisions of Sections 52(C) and 235 of the Tax Code is necessary before a taxpayer may be
entitled for the refund of the unutilized creditable withholding tax (CWT).
Under Sections 52(C) and 235 of the Tax Code, a corporation contemplating dissolution must
first secure a tax clearance certificate from the CIR. The certificate shall then be submitted to
the Securities and Exchange Commission (SEC) for the issuance of the Certificate of Dissolution.
In the instant case, in order to support its claim for refund, the taxpayer-refund claimant
presented the notice it submitted to the BIR informing the latter of the approval of the
dissolution of the company’s corporate existence by its shareholders and directors. According to
the CTA, such notice submitted by the taxpayer is not determinative of whether the taxpayer
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has been cleared from any taxes and other government liabilities. Hence, for failure to present
the tax clearance certificate and certificate of dissolution issued by the BIR and the SEC,
respectively, which would prove that it was already cleared of any tax liability as mandated
under Sections 52(C) and 235 of the Tax Code, the claim for refund of the taxpayer was denied.
(Stablewood Philippines, Inc. v. Commissioner of Internal Revenue, CTA EB Case No. 794 re
CTA Case No. 7704, October 8, 2012)

REMINDER ON ISSUANCE OF WITHHOLDING TAX STATEMENT


The BIR reminded all withholding agents on their obligation to issue withholding tax statement
on income payments subjected to final or creditable withholding taxes. Based on Section
2.58(B) of RR 2-98, as amended, the withholding tax statement (BIR Form 2307) is required to
be submitted within 20 days following the close of taxable quarter employed by the payee in
filing his/its quarterly income tax return. The payor is required to retain a copy of the duly
issued BIR Form2307. Failure to furnish the same shall be grounds for the mandatory audit of
payor’s income tax liabilities (including withholding tax) upon verified complaint of the payee.
For final withholding taxes, the withholding tax statement should be given to the payee on or
before January 31 of the succeeding year or upon request of the payee. (Revenue
Memorandum Circular No. 85-2012, December 26, 2012)

Tax Refund of excess CWT upon dissolution Under Section 76 of the Tax Code, a corporate
taxpayer whose total excess quarterly income tax payments in a given taxable year exceeds its
total income tax due is given two options: first, to carry over such excess credits, and second,
to claim for a refund of the same or issuance of a tax credit in the amount of the excess credit.
Once the option to carry over and apply the excess tax credit against income tax due for the
succeeding taxable years has been made, such option shall be considered irrevocable for that
taxable period and no application for cash refund or issuance of TCC shall be allowed. As an
exception to the irrevocability rule, a corporation that permanently ceases its operations may
opt to claim for refund its remaining tax credits even if it previously chose the irrevocable option
to carry over its excess credits as there is no more
opportunity for it to utilize its tax credits. However, in order to be excluded from the
irrevocability rule, the taxpayer must prove that it has been legally dissolved by complying with
the provisions of Sections 52(C) and 235(e) of the Tax Code. Under Sections 52(C) and 235(e)
of the Tax Code, a corporation contemplating dissolution must first secure a tax
clearance certificate from the Commissioner of Internal Revenue. The certificate shall then be
submitted to the Securities and Exchange Commission (SEC) for the issuance of the Certificate
of Dissolution. The CTA held that while the taxpayer was able to file with the BIR its application
for cancellation of its business registration due to cessation of commercial
operations, there was no indication that it had already been cleared of, and/or that it had
settled, any of its tax liabilities as it failed to present or offer a certificate of tax clearance.
Absent the tax clearance certificate issued by the BIR and certificate of dissolution issued by the
SEC, the CTA held that it cannot consider the taxpayer as already dissolved or that it had
permanently ceased its operations. Hence, for failure to present the tax
Clearance certificate from the BIR and the certificate of dissolution from the SEC, the claim for
refund of the taxpayer was denied.
(Sankyu Construction Philippines, Inc. v. Commissioner of Internal Revenue, CTA Case No.
8079, May 31, 2013)
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stock options
Any income or gain derived by managerial or supervisory employees is subject to fringe benefit
tax, while those derived by rank-and-file employees is subject to income tax and, consequently,
to withholding tax on compensation. The additional compensation or the taxable fringe benefit,
as the case may be, is the difference of the book value (BV)/ fair market value (FMV) of the
shares, whichever is higher, at the time of exercise of the stock option and the price fixed on
the grant date. The option shall have value only if at the time of the exercise, the stock is worth
more than the price fixed on the grant date. The additional compensation of taxable fringe
benefit arises whether the shares of stocks involved are that of a domestic or foreign
corporation. Shares of stocks issued at the exercise of the stock options, which shall come from
the unissued shares of stock of the issuing corporation, shall be subject to a DST of P1 on each
P200 under Section 174 of the Tax Code.

Classification of real estate service practitioners for withholding tax purposes


Income derived by a licensed real estate practitioner (real estate consultant, real estate
appraisers and real estate brokers) in his practice of profession shall be considered professional
fee subject to 15% creditable withholding tax (CWT) if his gross income for the current year
exceeds P720,000, and 10% if otherwise under Section 2.57.2(A)(1) of RR 2-98, as amended.
In the case of real estate service practitioners (RESPs) who failed or did not take up the
licensure examination given by the Real Estate Service and are not registered with the Real
Estate Service under the Professional Regulations Commission (PRC), their income shall be
subject to 10% CWT under Section 2.57.2(G) of RR 2-98, as amended.
The 10% or 10%/15% withholding tax rates shall apply to income payments paid or payable to
real estate practitioners starting June 1, 2013. (Revenue Regulations No. 10-2013, June 6,
2013)

Effect of filing of tentative tax returns


A tentative tax return shall be considered a final return unless a final amended return is filed by
the taxpayer. However, once an electronic Letter of Authority or any other notice of audit is
received, taxpayers are barred from making amendments to the tentative tax returns filed.
Income tax returns marked as tentative may be subject to examination pursuant to Section
6(A) of the Tax Code, as amended. (Revenue Memorandum Circular No. 50- 2013, July 18,
2013)

Citytrust and Asianbank are domestic corporations which paid gross receipts tax and claimed a
refund on the basis of a CTA ruling that the 20% FWT on a bank’s passive income does not
form part of the taxable gross receipts. The 20% FWT on a bank’s interest income forms part
of the taxable gross receipts because “gross receipts” means “the entire receipts without any
deduction”; moreover, the imposition of the 20% FWT and 5% GRT does not constitute
double taxation because GRT is a percentage tax while FWT is an income tax, and the two
concepts are different from each other. ( Commissioner of Internal Revenue vs. Citytrust
Investment Phils., Inc., G.R. Nos. 139786 & 140857, September 27, 2006 )

Should there have been a simultaneous sale to 20 or more lenders/investors, the Poverty
Eradication and Alleviation Certificates or the PEACe Bonds are deemed deposit substitutes
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within the meaning of Sec. 22(Y) of the 1997 NIRC and RCBC Capital would have been obliged
to pay the 20% FWT on the interest or discount from the PEACe Bonds. Further, the obligation
to withhold the 20% final tax on the corresponding interest from the PEACe Bonds would
likewise be required of any lender/investor had the latter turned around and sold said PEACe
Bonds, whether in whole or part, simultaneously to 20 or more lenders or investors.

The Court notes, however, that under Section 242 of the 1997 NIRC, interest income received
by individuals from longterm deposits or investments with a holding period of not less than
five (5) years is exempt from the final tax.

Thus, should the Peace Bonds be found to be within the coverage of deposit substitutes, the
proper procedure was for the Bureau of Treasury to pay the face value of the PEACe Bonds to
the bondholders and for the BIR to collect the unpaid FWT directly from RCBC Capital, or any
lender or investor if such be the case, as the withholding agents. BANCO DE ORO, et al. vs.
REPUBLIC OF THE PHILIPPINES, et al., G.R. No. 198756, January 13, 2015.

e. Creditable withholding tax


While perhaps it may be necessary to prove that the taxpayer did not use the claimed
creditable withholding tax to pay for his/its tax liabilities, there is no basis in law or
jurisprudence to say that BIR Form No. 2307 is the only evidence that may be adduced to
prove such non-use. PHILIPPINE NATIONAL BANK vs. COMMISSIONER OF INTERNAL
REVENUE, G.R. No. 206019, March 18, 2015

For a taxpayer to be entitled to a tax credit or refund of creditable withholding tax, the
following requisites must be complied with: First, The claim must be filed with the CIR
within the two- year period from the date of payment of the tax; Second, It must be shown
on the return of the recipient that the income received was declared as part of the gross
income; and Third, The fact of withholding is established by a copy of the statement duly
issued by the payor to the payee showing the amount paid and the amount of tax withheld.
(CIR vs. Team (Philippines) Operations Corporation, G.R. No. 185728, 2013 ).

i. Expanded withholding tax


ii. Withholding tax on compensation
f. Timing of withholding