TAXATION

FAR EASTERN UNIVERSITY – MANILA

RECONCILIATION OF FINANCIAL INCOME TO TAXABLE INCOME AND NET WORTH
METHOD (2301)

Revenue Memorandum Circular (RMC) No. 22-2004

• All returns required to be filed by the Tax Code shall be prepared always in conformity with the provisions of the tax
Code, and the rules and regulations issued implementing said Tax Code.
• Taxability of income and deductibility of expenses shall be determined strictly in accordance with the provisions of
the Tax Code and the rules and regulations issued implementing the said Tax Code.
• In case of difference between the provisions of the Tax Code and the rules and regulations implementing the Tax
Code, on one hand, and the generally accepted accounting principles (GAAP) and the generally accepted auditing
standards (GAAS) , on the other hand, the provisions of the tax code and the rules and regulations issued impending
the said Tax Code shall prevail.

A. HOW DO RECONCILING ITEMS ARISE?

Reconciling items arise from the differences between the basis of determining income for tax and for financial reporting
purposes.

Reconciliation of Financial Income to Taxable Income

Financial income
Add:
• Provisions (e.g., Provision for Bad Debts, Provision for Retirement etc.)
• Amortization of capitalized customs duties per books but expensed outright tax
• Amortization of Capitalized interest cost per books but expensed outright for tax
• Unrealized forex loss
• Unrealized forex gain booked in prior year/s realized this year.
• Deficiency income tax
• Surcharge and compromise penalties
• Non-deductible interest expense
• Capital losses arising from capital transactions (i.e., amount exceeding the capital gains realized during the taxable
year.)
• Marked-to-market Losses
Deduct:
• Interest income already subjected to Final Tax
• Dividends from Domestic Corporation
• Gain on Sale of Fixed Assets Subject to Capital Gains Tax (CGT)
• Gain on Sale of Investments Subject to CGT
• Amortization of Past Service Cost.
• Unrealized Forex Gain
• Unrealized Forex Loss in prior year/s realized this year.
• Marked-to-Market Gains
• Accrued Rent Expense (PAS 17 Adjustment) (Levelized rent Expense for accounting purposes is lower than the
actual rent expense for the year per lease agreement)

Equal:

TAXABLE INCOME

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Problem 1: GAAP to Tax Code Reporting

The following 20X9 data pertains to ABC Company, a domestic corporation:

Net sales P 1,850,000

Cost of goods sold (1,025,000)
Gross profit P825,000
Sundry income 70,250
Gross income P895,250
Operating expenses and other charges (260,000)
Net income per books P635,250

Additional information:

1. Included in the sundry income are the following:

a. Dividends from domestic corporations P 42,500
b. Dividends received from resident foreign corp. 15,000
c. Proceeds from sale of company assets 4,750

2. Included under operating and other charges:

a. Donation to typhoon victims P 12,000
b. Provision for doubtful accounts 17,500
c. Local taxes and licenses 8,620
d. Premiums paid on insurance of buildings 4,500

3. The company wrote off in 20X8 against allowance for bad debts uncollectible receivables amounting to P15,000
which was allowed as deduction from gross income. This amount was recovered in 20X9.

4. In October, 20X8 one of the company’s building was totally destroyed by fire when the book value was
P 260,000. The liability of the insurance was settled in 20X9 and ABC Company was paid P 150,000.

Required: Compute the correct taxable income in 20X9.

B. NET WORTH METHOD OF DETERMINING TAXABLE INCOME

• Net Worth Method or Inventory Method or Net Worth & Expenditures Method — This is a method of
reconstructing income based on the theory that if the taxpayers net worth has increased in a given year in an amount
larger than his reported income, he had understated his income for that year.

• The net income shall be computed upon the basis of the taxpayer annual accounting period (fiscal or calendar year) in
accordance with the method of accounting regularly employed in keeping the books of accounts of the taxpayer, but –
• If no such method of accounting has been employed.
• If the method employed does not clearly reflect the income.

The computation shall be made in accordance with such method as in the opinion of the Commissioner of Internal
Revenue does clearly reflect the income (Section 43, NIRC)

When a report required by law as basis of an assessment shall not be forthcoming within the time fixed by law or
regulations, or when there is reason to believe that any such report is false, incomplete or erroneous, the
commissioner of internal revenue shall assess the proper tax on the best evidence obtainable. (Section 6, NIRC).

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Asset, Ending xxx
Less: Liabilities, Ending (xxx)
Net worth, Ending xxx
Less: Net worth, Beginning (xxx)
Increase/(Decrease) in net worth xxx
Add: Non deductible expense items xxx
Less: Non taxable revenue items (xxx)
Total xxx
Less : Personal exemption-(for Individual taxpayer ) (xxx)
Taxable income per investigation xxx

Taxable income per investigation xxx

Less: Taxable income declared (xxx)
under/(over) reported taxable income xxx(xxx)
Income tax due per investigation xxx
Less: amount already paid (xxx)
Unpaid deficiency income tax xxx

Problem 2: Net Assets Approach

The X Corporation reported the following changes during the year:
Increase in total assets P1,520,000
Decrease in total liabilities 330,000
Additional paid-in capital from stockholders 800,000
Non deductible expenses 100,000
Non taxable revenue (unrealized gain) 50,000

How much is the net taxable income of X Corporation for the year 200x?

C. OTHERS
I. TAX DISCLOSURE IN THE FINANCIAL STATEMENTS PER RR NO. 19-2011
- Additional disclosure requirements are required from taxpayers in drafting their Notes to Financial Statements per RR No.
19-2011.
- This additional disclosure pertains to the details of the following items presented in the taxpayer’s annual ITR:

Sales/Receipts/Fees;

Cost of Sales/services;

Non-operating and Taxable other income;

Itemized Deductions (if taxpayer did not avail of Optional Standard Deduction);

Taxes and Licenses; and

Other information prescribed to be disclosed in the notes to financial statements.

II. FORMS, STATEMENTS AND INFORMATION TO ACCOMPANY THE INCOME TAX

RETURN

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SEC. 232. Keeping of Books of Accounts. – “(A) Corporations, Companies, Partnerships or Persons Required to Keep Books of
Accounts. – All corporations, companies, partnerships or persons required by law to pay internal revenue taxes shall
keep and use relevant and appropriate set of bookkeeping records duly authorized by the Secretary of Finance wherein all
transactions and results of operations are shown and from which all taxes due the Government may readily and accurately be
ascertained and determined any time of the year: Provided, That corporations, companies, partnerships or persons whose gross
annual sales, earnings, receipts or output exceed Three million pesos (P3,000,000), shall have their books of accounts
audited and examined yearly by independent Certified Public Accountants and their income tax returns accompanied with a duly
accomplished Account Information Form (AIF) which shall contain, among others, information lifted from certified balance sheets,
profit and loss statements, schedules listing income-producing properties and the corresponding income therefrom and other
relevant statements.

RETENTION PERIODS. – (Revenue Regulation No. 5-2014)

All taxpayers are required to preserve their books of accounts, including subsidiary books and other accounting records, for
a period of ten (10) years reckoned from the day following the deadline in filing a return, or if filed after the deadline, from
the date of the filing of the return, for the taxable year when the last entry was made in the books of accounts: Provided
that, within the first five (5) years reckoned from the day following the deadline in filing a return, or if filed after the
deadline, from the date of the filing of the return, for the taxable year when the last entry was made in the books of
accounts, the taxpayer shall retain hardcopies of the books of accounts, including subsidiary books and other
accounting records. Thereafter, the taxpayer may retain only an electronic copy of the hardcopy (paper) of the books
of accounts, subsidiary books and other accounting records in an electronic storage system which complies with the
requirements set forth under Section 2-A hereof. (Revenue Regulations No. 5 – 2014)
• The term “other accounting records” includes the corresponding invoices, receipts, vouchers and returns, and
other source documents supporting the entries in the book of accounts.
• 5 years hard copy + after 5 years may retain only electronic copy (10 years from the day following the deadline in filing a
return or if filed after the deadline, from the date of the filing of the return).

The term “last entry” refers to a particular business transaction or an item thereof that is entered or posted last or latest in
the books of accounts when the same was closed.

The foregoing notwithstanding, if the taxpayer has any pending protest or claim for tax credit/refund of taxes, and the
books and records concerned are material to the case, the taxpayer is required to preserve his/her/its books of
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 accounts and other accounting records until the case is finally resolved.

Independent CPA

The independent Certified Public Accountant (CPA) who audited the records and certified the financial statements of
the taxpayer, equally as the taxpayer, has the responsibility to maintain and preserve electronic copies of the audited and
certified financial statements including the audit working papers for a period of ten (10) years from the due date of filing the
annual income tax return or the actual date of filing thereof, whichever comes later.

III. eComplaint System

The eComplaint System is an electronic system by which taxpayers can report the following complaint/s to BIR via email, the
BIR website or portal and/or through Short Messaging System (SMS) or text message. It is divided into four (4) categories:

1. Non-issuance of Official Receipts (NO OR)

The NO OR PROGRAM is an initiative to raise the level of awareness of taxpayers on the issuance of Official
Receipts/Sales Invoices (ORs/SIs). It aims to make the demand and issuance of ORs/SIs as a matter of habit. Thus, it
provides a facility for purchasers of goods and services to report instances of non-issuance of the corresponding receipts or
invoices. Complaint should pertain to NON ISSUANCE of Official Receipts (NO ORs), and other Sales Invoices (SI)
NOT DULY REGISTERED with the BIR, including but not limited to Fake or Spurious Receipts/ Invoices.
2. Run After Tax Evaders (RATE)

The RUN AFTER TAX EVADERS (RATE) Program investigates and prosecutes individuals and/or entities engaged in
tax evasion and other criminal violations of the Republic Act 8424, otherwise known as the National Internal Revenue Code
of 1997, as amended.

It is a program initiated by the DOF & BIR to investigate and prosecute individuals and/or entities engaged in tax evasion
and other criminal violations of the National Internal Revenue Code (NIRC) of 1997.

Aims RATE Program - To investigate, prosecute and convict tax evaders and other violators of NIRC
3. Disiplina

DISIPLINA is a BIR program for receiving complaints/denunciations against erring revenue officials and employees. The
complaint must contain verifiable leads/ information that could be the legal basis to start the investigation.
4. Other Complaints

Other Complaints are complaints not classified as NO OR, RATE and Disiplina but related to BIR transaction or services.

Oplan Kandado
“Oplan Kandado” Under the program, business operations of non-compliant taxpayers will be
Program suspended and their establishments will be temporarily closed if they will be
found to have violated certain tax laws.
Aims “Oplan Kandado” aims to intensify the Bureau’s enforcement operations through strict
imposition of prescribed administrative sanctions for noncompliance with the basic tax
requirements.
Business operations can 1. Failure to issue receipts or invoices by a VAT-registered or registrable taxpayer;
be suspended or 2. Failure to file a VAT return;
temporarily closed for the 3. Understatement of taxable sales or receipts by 30% or more of the correct amount thereof
following grounds: in the case of a VAT-registered or registrable taxpayer; or failure to register.
• The closure of a business establishment shall last for a period of not less than five (5)
days, and shall be in force until the violation is rectified by the concerned taxpayer.
• The suspension and temporary closure of business shall not preclude the BIR from
filing the appropriate charges under the Run After Tax Evaders (RATE) Program of
the Bureau, if evidence so warrants, against the taxpayer concerned or responsible
officers of the corporations (in case of corporate taxpayers).
The Closure Order shall 1. Subsequent filing or amendment of returns with the payment of the tax inclusive of
only be lifted by the BIR statutory penalties;

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when there has been: 2. Subsequent registration with the payment of the corresponding compromise penalties;
3. Payment of deficiency taxes inclusive of penalties corresponding to the sales where no
invoices/receipts have been issued; and
4. Payment of deficiency taxes inclusive of penalties corresponding to the understatement of
taxable sales or receipts.

• The lifting of the Closure Order shall not release the taxpayer from the compliance
requirements and from the penalties prescribed by the Tax Code for the violation,
which shall be dealt with by criminal prosecution or by compromise settlement.
Credits against 30% RCIT due

1. Credible Withholding Tax

Section 57(B) of the Tax Code provides:

• The Secretary of Finance may, upon the recommendation of the Commissioner, require the withholding of a tax on the items of income
payable to natural or juridical persons, residing in the Philippines, by payor-corporations/persons as provided for by law, at the rate of not
less than one percent (1%) but not more than thirty-five percent (35%) [Note: this percentage has not been changed by R.A 9337] thereof,
which shall be credited against the income tax liability of the taxpayer for the taxable year.

2. Quarterly income tax payment

• Credited against the income tax due of the taxpayer for the year

Claiming or applying EWT against income tax liability

• Attach the certificates (BIR Form NO. 2307) to the Quarterly Corporate Income tax Return (BIR Form No. 1702Q)and the Annual
Corporate Income Tax Return (BIR Form No. 1702)

• However, taxpayers who avail of the EFPS shall be required to submit the certificates of withholding tax (BIR Form NO. 2307) to the
RDO or LTS (LTAD)or LTDO where they are registered within 15days from the date of filing the applicable return. –RR No. 9-01 and
RMO No. 05-02

• Summarize the above in the Summary Alphalist of withholding agents of income payments Subjected to Creditable Withholding Taxes
(SAWT) –consolidated alphalist of withholding agents from whom income was arned or received and subjected to withholding tax to be
submitted by the payee-recipient of income as attachment to its duly filed return for a given period (RR No. 2-06)

Remedies for Excess CWT/Overpayment

1. Allowed as automatic credit against the income tax due for the taxable quarters/years in which the excess credit arose.

2. In lieu of the automatic application:

• Cash refund
• Tax credit certificate

Once the option to carry-over and apply the excess credits against the tax due of succeeding taxable quarters/years has been made, such option
shall be considered irrevocable for that taxable period and no application for cash refund or issuance of a tax credit certificate shall be allowed
therefor.

PRE-AUDIT OF ANNUAL ITR

RMO No. 25-2012 dated October 3, 2012

Pre-Audit of Annual ITR

Prescribes the guidelines and procedures in the pre-audit of Annual income tax returns of individuals engaged in business/practice of
profession and corporate taxpayers filed at Revenue District Offices.

 Annual income tax returns filed for the current year shall be subject to pre-audit by the Revenue District Offices.

 The pre-audit of annual ITRs shall be conducted without filed investigation and shall not be converted by electronic Letter of Authority (eLAs)
and Tax Verification Notice (TVN).

 In the conduct of the pre-audit, the Revenue Officer shall verify:

Mathematical computation of income tax due and payment

Correctness and validity of deductions/expenses subject to ceiling/limitations

Validity of claims for ITH, tax exemption and other claimed tax incentives

Correctness of the application of MCIT.

Claimed creditable withholdings taxes against tax due and substantiation of claims through the certificates.

Correct utilization of tax credit certificates

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Correctness of deductions claimed by taxpayers who opted for OSD

Accuracy and applicability of the computation of the NOLCO

Completeness of the required attachments to annual ITRs

 In case the pre-audit will result in deficiency tax, the Revenue officer shall perform:

send a letter through registered mail signed by the revenue district officer stating the computed assessment as a result of the pre-audit
and requiring the settlement of the deficiency tax within 15 days from the receipt thereof. The letter shall state that the pre-audit will not
preclude the issuance of an eLA subsequently.

In case the taxpayer agrees to pay the deficiency tax, BIR Form No. 0605 (Payment Form) shall be utilized for this purpose and a
copy of the proof of payment shall be attached to the report.

If the taxpayer fails to respond or does not pay the deficiency tax, prepare a report recommending the issuance of a Preliminary
Assessment Notice (PAN) or a Final Assessment Notice (FAN), if warranted.

 Pre-audited annual ITRs may also be selected for regular audit if they qualify under the selection criteria prescribed in the annual Audit Program.

 All pre-audited annual ITRs with ‘no discrepancy’ and ITRs where the taxpayer had settled the deficiency tax shall no longer be transmitted to
the Assessment Division. The said return shall be retained in the RDO for possible audit/investigation as may be prescribed in the Audit Program.

RR No. 19-2011 (LATEST ANNUAL ITR)

New income tax Forms

The following revised forms should be used:

BIR Form 1700 version November 2011 (Annual income tax return for individuals Earning Purely Compensation
Income):

BIR Form 1701 version November 2011 (Annual income tax return for Self-Employed individuals, Estates and Trusts);
and

BIR Form 1702 version November 2011 (Annual Income Tax Return for Corporation, Partnership and Other Non-
individual Taxpayer)
IV. REGISTRATION OF BOOK OF ACCOUNTS

• All corporations, companies, partnerships or persons required by law to pay internal revenue taxes shall keep a journal and a ledger or their
equivalents such as subsidiary ledgers, simplified books of accounts.

• Keep the books of accounts or records in a Native Language, English or Spanish.

INDIVIDUALS ENGAGED IN BUSINESS CORPORATIONS/PARTNERSHIPS

Newly-Registered (In General) Newly-Registered (In General)

Tax Form Tax Form

BIR Form 1901 - Application for Registration for Self-Employed and Mixed BIR Form 1903 - Application for Registration for
Income Individuals, Estates and Trusts Corporations/Partnerships (Taxable/Non-Taxable) Including GAIs And
LGUs

Documentary Requirements Documentary Requirements

a) Permanently bound books of accounts for registration/stamping or the a) Permanently bound books of accounts for registration/stamping or the
bound journals and/or ledgers; bound journals and/or ledgers;
b) Proof of Payment of Annual Registration Fee (BIR Form 0605) – current b) Proof of Payment of Annual Registration Fee (BIR Form 0605) –
year. current year.

Procedures
a) Submit duly accomplished BIR Form 1901 at the RDO or concerned
office under the Large Taxpayer Service having jurisdiction over the place
where the head office and branch is located, respectively; and
b) Present the manual books of accounts for Stamping and registration
purposes.
Procedures
a) Submit duly accomplished BIR Form 1903 at the RDO or concerned
office under the Large Taxpayer Service having jurisdiction over the place
where the head office and branch is located, respectively; and
b) Present the manual books of accounts at the RDO or concerned office
under the Large Taxpayer Service where the place of business is located
for Stamping and registration purposes.

Deadline
Newly registered taxpayers shall present the manual books of accounts
before use to the RDO or concerned office under the Large Taxpayer Service
where the place of business is located for approval and registration.
As a general rule, registration of books of accounts shall be simultaneous
with the issuance of Certificate of Registration and approved Authority to
Deadline
Newly registered taxpayers shall present the manual books of accounts
before use to the RDO or concerned office under the Large Taxpayer
Service where the place of business is located for approval and
registration.
As a general rule, registration of books of accounts shall be simultaneous

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Print.
Subsequent Registration of Books/Renewal (In General)
Tax Form
BIR Form 1905 - Application For Registration Information Update
Documentary Requirements
a) Photocopy of the first page of the previously registered books;
b) New bound journals and/or ledgers;
c) Proof of Payment Annual Registration Fee (BIR Form 0605) – current
year .
Procedures
a) Accomplish BIR Form 1905 at the RDO or concerned office under the
Large Taxpayer Service having jurisdiction over the place where the head
office and branch is located, respectively;
b) Present the manual books of accounts at the RDO or
concerned office under the Large Taxpayer Service where the
place of business is located for Stamping and registration
purposes.
Deadline
The registration of a new set of manual books of accounts shall only be at the
time when the pages of the previously registered books have all been already
exhausted, provided, that the portions pertaining to a particular year should
be properly labeled or marked by taxpayer. This means that it is not necessary
for a taxpayer to register/stamp a new set of manual books of accounts each
and every year.
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with the issuance of Certificate of Registration and approved Authority to
Print.
Subsequent Registration of Books/Renewal (In General)
Tax Form
BIR Form 1905 - Application For Registration Information Update
Documentary Requirements
a) Photocopy of the first page of the previously registered books;
b) Bound journals and/or ledgers;
c) Proof of Payment Annual Registration Fee (BIR Form 0605) – current
year.
Procedures
a) Submit duly accomplished BIR Form 1905 at the RDO or concerned
office under the Large Taxpayer Service having jurisdiction over the place
where the head office and branch is located, respectively; and
b) Present the manual books of accounts at the RDO or concerned office
under the Large Taxpayer Service where the place of business is located
for Stamping and registration purposes.
Deadline
The registration of a new set of manual books of accounts shall only be at
the time when the pages of the previously registered books have all been
already exhausted, provided, that the portions pertaining to a particular
year should be properly labeled or marked by taxpayer. This means that it
is not necessary for a taxpayer to register/stamp a new set of manual
books of accounts each and every year.
Note: With the implementation of the E-Commerce Law, the
requirement of binding and stamping of computerized books of accounts
and/or receipts and invoices generated by a duly approved CAS shall no
longer be necessary, provided that:
— Soft copy of the computerized books of accounts and other accounting
records/documents in Text File format shall be made available in:
- CD ROM (Read Only)
- Electronically archived information
— A duly notarized certification in the form of an affidavit
ascertaining/attesting the accuracy of the number of receipts and invoices
used during the year and soft copy of books of accounts and other
accounting records/documents in Text File Format stamped received
within thirty days (30) from the close of taxable year.
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