ESSO STANDARD EASTERN vs CIR ESSO appealed the CTA decision denying its claims for the refund
ESSO appealed the CTA decision denying its claims for the refund of the margin fees.
GR Nos. L-28508-9
July 7, 1989
CRUZ, J.
Facts:
ESSO deducted from its gross income for 1959, as part of its ordinary and necessary
business expenses, the amount it had spent for drilling and exploration of its petroleum
concessions. It was disallowed by the CIR on the ground that the expenses should be
capitalized and might be written off as a loss only when a "dry hole" should result. ESSO
filed an amended return where it asked for the refund of an amount by reason of its
abandonment as dry holes of several of its oil wells. It also claimed as ordinary and
necessary expenses an amount representing margin fees it had paid to the Central Bank on
its profit remittances to its New York head office. The CIR only partially granted the same by
disallowing the claimed deduction for the margin fees paid.
In another CTA case, the CIR assessed ESSO a deficiency income tax for the year
1960, with 18% interest, which arose from the disallowance of the margin fees paid by ESSO
to the Central Bank on its profit remittances to its New York head office.
ESSO settled this deficiency assessment by applying a tax credit representing its
overpayment on its income tax for 1959 and paying under protest the remaining balance.
Later, it claimed another refund as overpayment on the interest on its deficiency income
tax. It argued that the 18% interest should have been imposed not on the total deficiency,
but only on the difference between the total deficiency and its tax credit. It was denied. The
CIR insisted on charging the 18% interest on the entire amount of the deficiency tax. The CIR
also denied the claims of ESSO for refund of the overpayment of its 1959 and 1960 income
taxes, holding that the margin fees paid to the Central Bank could not be considered taxes
or allowed as deductible business expenses.
ESSO appealed to the CTA. It contended that the margin fees were deductible from
gross income either as a tax or as an ordinary and necessary business expense. It also
claimed an overpayment of its tax for the same reason. It also argued that even if the
amount paid as margin fees were not legally deductible, there was still an overpayment for
payment of excess interest. It was denied, but the CTA sustained ESSO’s claim for excess
interest.
MATIBAG | NAJARRO | TAXATION 2 | ATTY. DEBORAH ACOSTA-CAJUSTIN | 2017
It insists that margin fees are taxes; and if not, they should nevertheless be considered
necessary and ordinary business expenses and therefore still deductible from its gross
income.
Issues:
Whether or not the margin fees paid by ESSO to the Central Bank on its profit remittances to
its New York head office should be deductible from its gross income under Sec. 30(c) of the
NIRC
Held:
No, the SC held that the margin fees paid by ESSO to the Central Bank on its profit
remittances to its New York head office are not deductible from its gross income. In
reaching such decision, the SC made the following pronouncements:
First, it held that the margin fee was imposed by the State in the exercise of its police power
and not the power of taxation. In the case of Caltex vs Acting Commissioner of Customs, the
SC held that a margin levy on foreign exchange is a form of exchange control or restriction
designed to discourage imports and encourage exports, and ultimately, curtail any excessive
demand upon the international reserve in order to stabilize the currency. Also, a tax is levied
to provide revenue for government operations, while the proceeds of the margin fee are
applied to strengthen the country's international reserves.
Second, it held that ESSO has not shown that the remittance to the head office of part of its
profits was made in furtherance of its own trade or business. In the case of Atlas
Consolidated Mining vs CIR, it was held that when a taxpayer claims a deduction, he must
point to some specific provision of the statute in which that deduction is authorized and
must be able to prove that he is entitled to the deduction which the law allows.
It was also in that case where the SC stated the statutory test of deductibility where it is
axiomatic that to be deductible as a business expense, three conditions are imposed,
namely:
(1) the expense must be ordinary and necessary,
(2) it must be paid or incurred within the taxable year, and
(3) it must be paid or incurred in carrying on a trade or business.
In addition, not only must the taxpayer meet the business test, he must substantially prove
by evidence or records the deductions claimed under the law, otherwise, the same will be
disallowed. The mere allegation of the taxpayer that an item of expense is ordinary and
necessary does not justify its deduction.

Ordinarily, an expense will be considered “necessary”, where the expenditure is

appropriate and helpful in the development of the taxpayer's business. It is “ordinary” when
it connotes a payment which is normal in relation to the business of the taxpayer and the
surrounding circumstances. The term 'ordinary' does not require that the payments be
habitual or normal in the sense that the same taxpayer will have to make them often; the
payment may be unique or non-recurring to the particular taxpayer affected.

Here, the margin fees were incurred for purposes proper to the conduct of the
corporate affairs of ESSO (Now, Standard Vacuum Oil Company) in New York, but certainly
not in the Philippines. It is clear that ESSO, having assumed an expense properly attributable
to its head office, cannot now claim this as an ordinary and necessary expense paid or
incurred in carrying on its own trade or business.

MATIBAG | NAJARRO | TAXATION 2 | ATTY. DEBORAH ACOSTA-CAJUSTIN | 2017

ZAMORA vs COLLECTOR
G.R. No. L-15290, L-15280, L-15289, L-15281
May 31, 1963
PAREDES, J:
Facts:
This is a consolidated case involving practically the same issues.
Mariano Zamora is the owner of the Bay View Hotel and Farmacia Zamora. He filed
his income tax returns. The Collector found that he failed to file his return of the capital gains
derived from the sale of certain real properties. He also claimed deductions which were not
allowable. Thus, the Collector required him to pay deficiency income tax. Mariano appealed
and the CTA modified the decision ordering him to pay a reduced amount as deficiency
income tax plus surcharges and interest in case of delinquency. Mariano appealed, CIR also
appealed contesting the reduction of the amount.
Mariano Zamora and his sister Felicidad (deceased), bought a piece of land for 132K
partly in Philippine currency, partly in Japanese war notes. They sold it for 75K. They also
purchased another for 68K which they sold for 94K. The CTA ordered the estate of Felicidad
to pay deficiency income tax and surcharge due from said estate. Esperanza the administratrix
appealed. The CIR also appealed.
It is alleged by Mariano that the CTA erred in disallowing the amount of 10K as
promotion expenses incurred by his wife Esperanza in the promotion of the Bay View Hotel.
He contends that the whole amount of 20K, not just the half should be allowed on the ground
that the amount was spent by Esperanza during her travel to Japan and US to purchase
machinery for a new Tiki-Tiki plant, and to observe hotel management in modern hotels. The
CTA found that for said trip, Esperanza obtained only the sum of 5K from the Central Bank
and that in her application for dollar allocation, she stated that she was going abroad on a
combined medical and business trip. The alleged 20K expenses were not supported by
receipts.
The next item in dispute are the undeclared capital gains derived from the sales of
certain real properties acquired during the Japanese occupation. The CTA held in this case
that the basis of the cost of a property acquired in Japanese war notes is the equivalent of the
war notes in genuine Philippine currency in accordance with the Ballantyne Scale of values.
The determination of the gain derived or loss sustained in the sale is not affected by the
decline in the purchasing power of the Philippine currency. It was found by the CTA that the
MATIBAG | NAJARRO | TAXATION 2 | ATTY. DEBORAH ACOSTA-CAJUSTIN | 2017
purchase price of 132K was not entirely paid in Japanese War notes but 1/2 thereof or 66K
was in Philippine currency.
Issue:
Whether or not CTA erred in deducting only 50% as promotion expenses of the total expense
of 20K – NO
Whether or not there is deficiency in the declared income from the sale of the properties –
YES
Held:
Promotion Expense
Section 30 of the Tax Code provides that in computing net income, all the ordinary
and necessary expenses paid in carrying on any trade or business shall be allowed as
deductions. Promotion expenses constitute one of the deductions in conducting a business.
But claims for the deduction of promotion expenses must be substantiated or supported by
record showing in detail the amount and nature of the expense incurred.
In this case, since the application of Esperanza for dollar allocation shows that she
went abroad on a combined medical and business trip, not all of her expenses came under the
category of ordinary and necessary expenses. A part thereof constituted her personal
expenses. Since there is no means to ascertain which expense was incurred by her in
connection with the business and which was for her personal benefit, the Collector and the
CTA considered 50% of 20K as business expense and the other 50%, as her personal expenses.
This allocation is very fair to Mariano, there having been no receipt submitted to explain the
alleged business expenses.
Capital Gains tax for the sale of the real properties
The value of the Japanese war notes was 1/12 of the genuine Philippine Peso. Since
the gain derived or loss sustained in the sale of the properties is to be reckoned in terms of
Philippine Peso, the value of the Japanese war notes used must be reduced in terms of the
genuine Philippine Peso to determine the cost of acquisition.
Therefore, since the sum of 66K in Japanese war notes is equivalent to 5.5K in
Philippine currency, the acquisition cost of the property in question is 66 + 5.5K or 71.5K. And
since the property was sold for 75K, there was a capital gain of 3.5K or 1,750 each owner.
Consequently, the total undeclared income derived from the sales of the properties
is P17,111.75 (P1,750.00 plus P15,361.75), 50% of which is the sum of P8,555.88 is taxable,
the said properties being capital assets held for more than one year.
CM HOSKINS & CO. vs CIR
GR No. L-24059
November 28, 1969
TEEHANKEE, J.
Facts:
CM Hoskins & Co., Inc. is a domestic corporation engaged in the real estate
business. It was founded by Mr. C. M. Hoskins in 1937. The latter owns 996 shares (the other
4 shares being held by the other four officers of the corporation), which constitute exactly
99.6% of the total authorized capital stock. He was also a stockholder and officer of the
Paradise Farms, Inc. and Realty Investments, Inc., from which CM Hoskins & Co. derived a
large portion of its income in the form of supervision fees and commissions earned on sales
of lots.
CM Hoskins & Co. filed its income tax return and paid the same in due course. Upon
verification of its return, the CIR disallowed 4 items of deduction and assessed against it an
income tax deficiency, plus interests.
CM Hoskins & Co. appealed to the CTA. It allowed 3 of the items of deduction, but
upheld the disallowance of the payment to Mr. C. M. Hoskins, its founder and controlling
stockholder, of an amount representing 50% of supervision fees earned by it.
CM Hoskins & Co. appealed to the SC. It contended that the 50% supervision fees
paid to CM Hoskins are deductible ordinary and necessary expenses.
Issue:
Whether or not the payment of 50% supervision fees to a controlling stockholder is a
deductible ordinary and necessary expense
Held:
No, the SC held that payment by the taxpayer to its controlling stockholder of 50%
of its supervision fees is not a deductible ordinary and necessary expense and should be
treated as a distribution of earnings and profits of the taxpayer. It found that the payment
by the company to Hoskins of the additional sum representing his 50% share of the 8%
supervision fees received by the company as managing agents of real estate and subdivision
projects of Paradise Farms, Inc., was exceedingly large and could not be accorded the
treatment of ordinary and necessary expenses allowed as deductible items within the
purview of Section 30 (a) (i) of the Tax Code.
MATIBAG | NAJARRO | TAXATION 2 | ATTY. DEBORAH ACOSTA-CAJUSTIN | 2017
This case is similar to previous cases of disallowances as deductible items of officers'
extra fees, bonuses and commissions, upheld by the SC as not being within the purview of
ordinary and necessary expenses and not passing the test of reasonable compensation. For
example, in the case of Kuenzle & Streiff, Inc. vs CIR, it was held that as a general rule,
bonuses to employees made in good faith and as additional compensation for the services
actually rendered by the employees are deductible, provided such payments, when added
to the stipulated salaries, do not exceed a reasonable compensation for the services
rendered. The conditions precedent to the deduction of bonuses to employees are:
(1) the payment of the bonuses is in fact compensation;
(2) it must be for personal services actually rendered; and
(3) the bonuses, when added to the salaries, are reasonable when measured by the
amount and quality of the services performed with relation to the business of the
particular taxpayer.
There is no fixed test for determining the reasonableness of a given bonus as
compensation. This depends upon many factors, such as:
(a) the amount and quality of the services performed with relation to the business
(b) payment must be made in good faith
(c) the character of the taxpayer's business, the volume and amount of its net earnings,
its locality, the type and extent of the services rendered, the salary policy of the
corporation
(d) the size of the particular business
(e) the employees' qualifications and contributions to the business venture
(f) general economic conditions
However, in determining whether the particular salary or compensation payment is
reasonable, the situation must be considered as a whole.
Here, the CM Hoskins fails to pass the test. For income tax purposes, the employer
cannot legally claim such bonuses as deductible expenses unless they are shown to be
reasonable. The question of allowing or disallowing as deductible expenses the amounts
paid to corporate officers by way of bonus is determined by the CIR exclusively for income
tax purposes.
CIR vs CTA & SMITH KLINE & FRENCH OVERSEAS CO. category. These are items which cannot be definitely allocated or identified with the
G.R. No. L-54108 operations of the Philippine branch.
January 17, 1984
For 1971, the parent company of Smith Kline spent $1,077,739. Under the (old)
AQUINO, J: Revenue Code, Smith Kline can claim a ratable part of such expenses as its deductible share,
based upon the ratio of the local branch's gross income to the total gross income, worldwide,
Facts: of the multinational corporation.
Smith Kline and French Overseas Company is a multinational firm domiciled in
Philadelphia but is licensed to do business in the Philippines. Smith Kline has presented ample evidence to support its claim for refund. It has
presented the authenticated statement of Peat, Marwick, Mitchell and Company to show that
1971: In its original income tax return, Smith Kline declared a net taxable income of P1.489M since the gross income of the Philippine branch was P7,143,155 ($1,098,617), and the gross
and paid P511K as tax due. It claimed a deduction of 501K from gross income as its share of income of the corporation as a whole was $6,891,052, Smith Kline's share at 15.94% of the
the head office overhead expenses. home office overhead expenses was P1,427,484 ($219,547).

1972: Smith Kline received an authenticated certification from its international auditors (Peat, Clearly, the weight of evidence bolsters its position that the amount of P1,427,484
Marwick, Mitchell and Company) It stated that the Philippine share in the unallocated represents the correct ratable share. Thus, the SC held that Smith Kline's amended 1971
overhead expenses of the main office for the year 1971 was actually P1.472M. It further return is in conformity with the law and regulations. The Tax Court correctly held that the
stated that the allocation was made on the basis of the percentage of gross income in the refund or credit of the resulting overpayment is in order.
Philippines to gross income of the corporation as a whole. By reason of the new adjustment,
Smith Kline's tax liability was greatly reduced from P511K to P186K. Thus, in its amended
return, Smith Kline made a claim for refund because of the overpayment of P324K.

Without awaiting the action of the CIR, Smith Kline filed a petition for review with the
CTA. The CTA ordered the Commissioner to refund the overpayment or grant a tax credit to
Smith Kline. The Commissioner appealed to the SC.

Issue:
Whether or not Smith Kline may claim as its deductible share, the ratio of the local branch's
gross income to the total gross income, worldwide of its parent corporation - YES

Held:
Where an expense is clearly related to the production of Philippine-derived income
or to Philippine operations (such as salaries of Philippine personnel, rental of office building
in the Philippines), that expense can be deducted from the gross income acquired in the
Philippines without resorting to apportionment.

However, the overhead expenses incurred by the parent company which directly
benefit its branches all over the world, including the Philippines, fall under a different

MATIBAG | NAJARRO | TAXATION 2 | ATTY. DEBORAH ACOSTA-CAJUSTIN | 2017

GANCAYCO vs COLLECTOR
GR No. L-13325
April 20, 1961
CONCEPCION, J.
Facts:
Santiago Gancayco filed his income tax return for 1949. 2 days later, the Collector of
Internal Revenue issued an assessment, which he paid in due course. A year later, the
Collector notified Gancayco that upon investigation, there was still deficiency income tax for
1949. Gancayco sought reconsideration, which was partly granted since the Collector
decreased the deficiency income tax. Gancayco requested for another reconsideration, but
it was ignored.
The Collector issued a warrant of distraint and levy against the properties of
Gancayco for the satisfaction of his deficiency income tax liability, and, accordingly, a notice
of sale of said properties at public auction was sent to him.
Gancayco appealed to the CTA. He raised the issue on prescription and contended
that the entertainment, representation, and farming expenses should be allowed as
deductions as ordinary and necessary expenses. The CTA issued a resolution requiring him
to pay the deficiency income tax, plus surcharge and interest; and denying the deductions
claimed.
Gancayco filed a Petition for Review on Certiorari before the SC. It contended that
the right to collect the deficiency income tax in question is barred by the statute of
limitations; and that his claim for deduction of 2 items, namely: (a) for farming expenses;
and (b) for representation expenses.
Issues:
1) Whether or not farming expenses and representation expenses of Gancayco may be
deducted from his gross income as ordinary and necessary expenses in carrying on his
trade or business
2) Whether or not the Collector’s right to collect deficiency income tax is barred by the
statute of limitations
Held:
1. No, the SC held that the deductions claimed are not deductible from Gancayco’s
gross income.
MATIBAG | NAJARRO | TAXATION 2 | ATTY. DEBORAH ACOSTA-CAJUSTIN | 2017
First, as to the farming expenses, it was held that no evidence has been presented as to the
nature of the said expenses other than the bare statement of Gancayco that they were
spent for the development and cultivation of his property. No specification has been made
as to the actual amount spent for purchase of tools, equipment or materials, or the amount
spent for improvement.
The fact that the entire amount claimed was spent exclusively for clearing and
developing the farm which were necessary to place it in a productive state, is indicative that
it is not an ordinary expense but a capital expenditure. Section 31 of the Revenue Code
provides that in computing net income, no deduction shall in any case be allowed in respect
of any amount paid out for new buildings or for permanent improvements or
betterments made to increase the value of any property or estate.
Expenses incident to the acquisition of property follow the same rule as applied to
payments made as direct consideration for the property. For example, commission paid in
acquiring property are considered as representing part of the cost of the property acquired.
The cost of farm machinery, equipment and farm building represents a capital
investment and is not an allowable deduction as an item of expense. Amounts expended in
the development of farms, orchards, and ranches prior to the time when the productive state
is reached may be regarded as investments of capital.
Second, as to the claim for representation expenses, such disallowance is justified by the
record, for, apart from the absence of receipts, invoices or vouchers of the expenditures in
question, Gancayco could not specify the items constituting the same, or when or on whom
or on what they were incurred.
2. No, the SC held that the action had not yet prescribed. There are 2 civil remedies for
the collection of internal revenue taxes, namely:
(a) by distraint of personal property and levy upon real property; and
(b) by judicial action.
The first may not be availed of except within 3 years after the return is due or has been
made. After the expiration of said period, income taxes may not be legally and validly
collected by distraint and/or levy. Here, Gancayco's income tax return for 1949 was filed in
1950; so that the warrant of distraint and levy issued in 1956, long after the expiration of
said 3-year period, was illegal and void, and so was the attempt to sell his properties in
pursuance of said warrant.
 The "judicial action" mentioned in the Tax Code may be resorted to within 5 years
from the date the return has been filed, if there has been no assessment, or within 5 years
from the date of the assessment made within the statutory period, or within the period
agreed upon, in writing, by the Collector and the taxpayer, before the expiration of said 5-
year period, or within such extension of said stipulated period as may have been agreed
upon, in writing, made before the expiration of the period previously stipulated; except that
in the case of a false or fraudulent return with intent to evade tax or of a failure to file a
return, the judicial action may be begun at anytime within 10 years after the discovery of
the falsity, fraud or omission.

Here, the Collector made 3 assessments – the last of which was issued in 1953 for
the amended deficiency income tax assessment. The amount involved in such assessment is
what Gancayco contested in the amended petition filed by him with the CTA. The amount
involved in such assessment which Gancayco refused to pay and respondent tried to collect
by warrant of distraint and/or levy, is the one in issue between the parties. Hence, the 5-
year period should be counted from 1953, so that the statute of limitations does not bar the
present proceedings, instituted in 1956.

MATIBAG | NAJARRO | TAXATION 2 | ATTY. DEBORAH ACOSTA-CAJUSTIN | 2017

PALANCA vs CIR
G.R. No. L-16626
October 29, 1966
REGALA, J:
Facts:
Don Carlos Palanca Sr donated his shares of stock in La Tondeña, Inc. to his son Carlos
Palanca Jr. For failure to file a return on the donation, Carlos Jr. was assessed a gift tax, 25%
surcharge and interest, which he paid. Carlos Jr. filed his income tax return with the BIR. He
claimed a deduction for interest and reported a taxable income. On the basis of this return,
he was assessed an income tax, which he paid.
Carlos Jr filed an amended return claiming an additional deduction representing the
interest paid on the donee's gift tax. This claim for deduction was based on the provisions of
Section 30(b)(1) of the Tax Code, which authorizes the deduction of interest paid on
indebtedness from gross income. He filed a claim for the refund of alleged overpaid income
taxes but the BIR denied the claim for refund. He reiterated his claim for refund but all claims
were denied. He went to the CTA.
Meanwhile, the BIR considered the transfer of the shares of stock of La Tondeña to
be a transfer in contemplation of death. Thus, BIR assessed Carlos Jr estate and inheritance
taxes on the transfer of said shares of stock. Carlos paid the interest for delinquency.
Again, Carlos Jr. filed an amended income tax return claiming, in addition to the
interest deduction appearing in his original return, a deduction representing interest on the
estate and inheritance taxes on the shares of stock. Attached to this amended return was a
letter of Carlos Jr, wherein he requested the refund. Without waiting for CIR’s decision on this
claim for refund, he filed his petition for review before the CTA.
The CTA ordered BIR to refund to Carlos Jr., the amount representing overpayment
of income taxes.
Now, CIR argues that a tax is not an indebtedness. Thus, the deductibility of "interest
on indebtedness" from a person's income tax under section 30(b)(1) cannot extend to
"interest on taxes."
Issue:
MATIBAG | NAJARRO | TAXATION 2 | ATTY. DEBORAH ACOSTA-CAJUSTIN | 2017
Whether or not the amount paid by Carlos Palanca Jr. for interest on his delinquent estate
and inheritance tax is deductible from the gross income - YES
Held:
"Sec. 30 Deductions from gross income. — In computing net income there shall be
allowed as deductions —
xxx xxx xxx
"(b) Interest:
"(1) In general. — The amount of interest paid within the taxable year on
indebtedness, except on indebtedness incurred or continued to purchase or
carry obligations the interest upon which is exempt from taxation as income
under this Title."
While "taxes" and "debt" are distinguishable legal concepts, in certain cases as in the
suit at bar, on account of their nature, the distinction becomes inconsequential. Where
statutes impose a personal liability for a tax, the tax becomes at least in a broad sense, a debt.
In our jurisdiction, although taxes already due do not have the same concept as debts,
they are obligations that may be considered as such. In CIR vs. Prieto, the SC said that while
the distinction between "taxes" and "debts" was recognized in this jurisdiction, the variance
in their legal conception does not extend to the interests paid on them insofar as Section 30(b)
(1) of the NIRC is concerned.
The SC held that interests on taxes should be considered as interest on indebtedness
within the meaning of Section 30(b)(1) of the Tax Code. [Note: Now it is Section 34(b)]
PAPER INDUSTRIES CORP. vs CA, CIR & CTA
GR Nos. 106949-50
December 1, 1995
FELICIANO, J.
Facts:
Paper Industries Corporation of the Philippines ("Picop"), is a Philippine corporation
registered with the Board of Investments as a preferred pioneer enterprise with respect to
its integrated pulp and paper mill, and as a preferred non-pioneer enterprise with respect to
its integrated plywood and veneer mills.
It received from the CIR, 2 letters of assessment and demand: (a) one for deficiency
transaction tax and for documentary and science stamp tax; and (b) the other for deficiency
income tax for 1977. Picop protested the assessments. The CIR did not formally act upon the
protests, instead, it issued a warrant of distraint on personal property and a warrant of levy
on real property against Picop, to enforce collection of the contested assessments.
Picop appealed to the CTA. The CTA modified the findings of the CIR and reduced
the assessment from P88m to P20m. Picop and the CIR both went to the SC on separate
Petitions for Review. The Petitions were referred to the CA. The CA reduced the liability of
Picop to P6m. Picop and the CIR once more filed separate Petitions for Review before
the SC.
Picop contended that it is not liable at all to pay any of the assessments or any part
thereof. It assails the propriety of the 35% deficiency transaction tax which the CA held due
from it; and that it is exempt from the payment thereof by virtue of its tax exemption under
the Investment Incentives Act. It also questioned the imposition of the deficiency income
tax, resulting from disallowance of certain claimed financial guarantee expenses and
claimed year-end adjustments of sales and cost of sale figures by Picop's external auditors.
The CIR insists that Picop should be held liable for interest at 14% per annum from
1978 for 3 years, and interest at 20% per annum for a maximum of 3 years; and for a
surcharge of 10% on Picop's deficiency income tax. It also contended that Picop is liable for
the corporate development tax equivalent to 5% of its correct 1977 net income.
Issues:
1) Whether Picop is liable for 35% transaction tax, interest and surcharge on unpaid
transaction tax, and documentary and science stamp taxes
MATIBAG | NAJARRO | TAXATION 2 | ATTY. DEBORAH ACOSTA-CAJUSTIN | 2017
2) Whether or not Picop is entitled to deductions against income of interest payments of
loans for the purchase of machinery and equipment, net operating losses incurred by
the Rustan Pulp and Paper Mills, Inc., and certain claimed financial guarantee expenses
3) Whether or not Picop is liable for the corporate development tax of 5% of its net income
for 1977
Held:
Whether Picop is liable for the thirty-five percent (35%) transaction tax.
With the authorization of the Securities and Exchange Commission, Picop issued
commercial paper consisting of serially numbered promissory notes. These promissory
notes were purchased by various commercial banks and financial institutions. On these
promissory notes, Picop paid interest in the aggregate amount of P45m. In respect of these
interest payments, the CIR required Picop to pay the 35% transaction tax.
Picop's tax exemption under the Investment Incentives Act does not include
exemption from the 35% transaction tax. In the first place, the 35% transaction tax is an
income tax, that is, it is a tax on the interest income of the lenders or creditors. In the case
of Western Minolco Corp. vs CIR, it was held that the 35% transaction tax is an income tax on
interest earnings to the lenders or placers. The latter are actually the taxpayers. Therefore,
the tax cannot be a tax imposed upon the petitioner. In other words, the petitioner who
borrowed funds from several financial institutions by issuing commercial papers merely
withheld the 35% transaction tax before paying to the financial institutions the interest
earned by them and later remitted the same to the CIR.
In the case of Marinduque Mining vs CIR, the SC held that the transaction tax,
although nominally categorized as a business tax, is in reality a withholding tax. The
petitioner could have shifted the tax to the lenders or recipients of the interest. It did not
choose to do so. It cannot be heard now to complain about the tax.
Therefore, it is clear that the transaction tax is an income tax and as such, in any
event, falls outside the scope of the tax exemption granted to registered pioneer enterprises
by the Investment Incentives Act. Here, Picop was the withholding agent, obliged to
withhold 35% of the interest payable to its lenders and to remit the amounts so withheld to
the BIR. As a withholding, agent, Picop is made personally liable for the 35% transaction
tax and if it did not actually withhold 35% of the interest monies it had paid to its lenders,
Picop had only itself to blame.
Whether Picop is liable for interest and surcharge on unpaid transaction tax.
 With respect to the transaction tax due, the CIR prays that Picop be held liable for a
25% surcharge and for interest at the rate of 14% per annum from the date prescribed for
its payment. In so praying, the CIR relies upon Section 10 of Revenue Regulation 7-77 issued
by the Secretary of Finance. The CIR points to Section 51 (e) of the 1977 Tax Code as its
source of authority for assessing a surcharge and penalty interest in respect of the 35%
transaction tax due from Picop.
Section 51 (c)(1) and (e)(1) and (3), of the 1977 Tax Code, authorize the imposition
of surcharge and interest only in respect of a "tax imposed by this Title," that is to say, Title II
on "Income Tax.". The Tax Code did not itself impose, nor did it expressly authorize the
imposition of a surcharge and penalty interest in case of failure to pay the 35% transaction
tax when due. However, it is imposed in the 1977 Tax Code by Section 210 (b) thereof which
Section is embraced in Title V on "Taxes on Business" of that Code. Thus, while the 35%
transaction tax is in truth a tax imposed on interest income earned by lenders or creditors
purchasing commercial paper on the money market, the relevant provisions, i.e., Section
210 (b), were not inserted in Title II of the 1977 Tax Code.
In effect, the 35% transaction tax is not one of the taxes in respect of which Section
51 (e) authorized the imposition of surcharge and interest and Section 72 the imposition of a
fraud surcharge.
The corresponding provision in the current Tax Code very clearly embraces failure to
pay all taxes imposed in theTax Code, without any regard to the Title of the Code where
provisions imposing particular taxes are textually located. In other words, Section 247 (a) of
the current NIRC supplies what did not exist back in 1977 when Picop's liability for the 35%
transaction tax became fixed. There is nothing to suggest that Section 247 (a) of the present
Tax Code, which was inserted in 1985, was intended to have a retroactive effect.
Whether Picop is Liable for Documentary and Science Stamp Taxes.
As noted earlier, Picop issued sometime in 1977 long-term subordinated convertible
debenture bonds. Picop stated that the proceeds of the debenture bonds were in fact
utilized to finance the BOI-registered operations of Picop. The CIR assessed documentary
and science stamp taxes on the issuance of Picop's debenture bonds. It stressed that the tax
exemption under the Investment Incentives Act may be granted or recognized only to the
extent that the claimant Picop was engaged in registered operations, i.e., operations
forming part of its integrated pulp and paper project. It argued that the borrowing of funds
from the public was not an activity included in Picop's registered operations.
MATIBAG | NAJARRO | TAXATION 2 | ATTY. DEBORAH ACOSTA-CAJUSTIN | 2017
However, the SC held that Picop is not liable for documentary and science stamp
taxes. The actual dedication of the proceeds of the bonds to the carrying out of Picop's
registered operations constituted a sufficient nexus with such registered operations so as to
exempt Picop from taxes ordinarily imposed upon or in connection with issuance of such
bonds.
Whether Picop is entitled to deduct against current income interest payments on loans for
the purchase of machinery and equipment.
Picop obtained loans from foreign creditors in order to finance the purchase of
machinery and equipment needed for its operations. In its 1977 Income Tax Return, Picop
claimed interest payments on these loans as a deduction from its 1977 gross income. It was
disallowed by the CIR on the ground that the loans had been incurred for the purchase of
machinery and equipment; and that the interest payments on those loans should have been
capitalized instead and claimed as a depreciation deduction
The SC held that the interest deduction claimed by Picop was proper and
allowable. The NIRC allows interest payments on loans incurred by a taxpayer (whether BOI-
registered or not) as deductions against the taxpayer's gross income. This is provided for
under Section 30 of the 1977 Tax Code.
Thus, the general rule is that interest expenses are deductible against gross income
and this certainly includes interest paid under loans incurred in connection with the carrying
on of the business of the taxpayer.
Here, the CIR was not able to point to any provision of the 1977 Tax Code or any
other statute that requires the disallowance of the interest payments made by Picop.
Instead, cited Section 79 of RR No. 2 which refers to “theoretical interest”, that is, interest
"calculated" or computed (and not incurred or paid) for the purpose of determining the
"opportunity cost" of investing funds in a given business. Such "theoretical" or imputed
interest does not arise from a legally demandable interest-bearing obligation incurred by the
taxpayer who however wishes to find out, e.g., whether he would have been better off by
lending out his funds and earning interest rather than investing such funds in his business. It
can be inferred from such provision that interest which does constitute a charge arising
under an interest-bearing obligation is an allowable deduction from gross income.
Whether Picop is entitled to deduct against current income net operating losses incurred
by Rustan Pulp and Paper Mills, Inc.
 Picop entered into a merger agreement with the Rustan Pulp and Paper Mills, Inc.
("RPPM") and Rustan Manufacturing Corporation ("RMC"). Under this agreement, the rights,
properties, privileges, powers and franchises of RPPM and RMC were to be transferred,
assigned and conveyed to Picop as the surviving corporation. The merger agreement was
approved in 1977 by the creditors and stockholders of Picop, RPPM and RMC and by the
SEC.
The CIR disallowed all the deductions claimed on the basis of RPPM's losses,
apparently on 2 grounds. Firstly, the previous losses were incurred by "another taxpayer,"
RPPM, and not by Picop. The CIR took the view that Picop, RPPM and RMC were merged
into 1 corporate personality only in 1978, upon approval of the merger agreement by the
BOI. Thus, during the taxable year 1977, Picop on the one hand and RPPM and RMC on the
other, still had their separate juridical personalities. Secondly, the CIR alleged that these
losses had been incurred by RPPM "from the borrowing of funds" and not from carrying out
of RPPM's registered operations.
The SC held that the Net Operating Loss Carry-Over of RMC cannot be carried over
to Picop. Under the Tax Code, both in 1977 and at present, losses may be deducted from
gross income only if such losses were actually sustained in the same year that they are
deducted or charged off. Also, losses must be deducted against current income in the
taxable year when such losses were incurred. 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.
Here, to allow the deduction claimed by Picop would be to permit one corporation
or enterprise, Picop, to benefit from the operating losses accumulated by another
corporation or enterprise, RPPM. In effect, to grant Picop's claimed deduction would be to
permit Picop to purchase a tax deduction and RPPM to peddle its accumulated operating
losses.
Whether Picop is entitled to deduct against current income certain claimed financial
guarantee expenses.
Financial guarantee expenses as deductions is said to relate to chattel and real
estate mortgages required from Picop by the PNB and DBP as guarantors of loans incurred
by Picop from foreign creditors. According to Picop, the claimed deduction represents
registration fees and other expenses incidental to registration of mortgages in favor of DBP
and PNB.
MATIBAG | NAJARRO | TAXATION 2 | ATTY. DEBORAH ACOSTA-CAJUSTIN | 2017
The CIR, CTA, and the CA disallowed the claimed deduction on the ground that no
records are available to support the above mentioned expenses. Without the Supporting
papers such as the invoices or official receipts of the Register of Deeds, these vouchers
standing alone cannot prove that the payments made were for the accrued expenses in
question. The best evidence of payment is the official receipts issued by the Register of
Deeds.
A taxpayer has the burden of proving entitlement to a claimed deduction. Here,
even Picop 's own vouchers were not submitted in evidence and the BIR Examiners denied
that such vouchers and other documents had been exhibited to them.
Whether Picop is liable for the corporate development tax of five percent (5%) of its
income for 1977.
The 5% corporate development tax is an additional corporate income tax imposed
in Section 24 (e) of the 1977 Tax Code. It provides that this additional tax shall be imposed
only if the net income exceeds 10% of the net worth, in case of a domestic corporation, or
net assets in the Philippines, in case of a resident foreign corporation. Since this 5%
corporate development tax is an income tax, Picop is not exempted from it under the
Investment Incentives Act.
For purposes of determining whether the net income of a corporation exceeds 10%
of its net worth, the term "net worth" means the stockholders' equity represented by the
excess of the total assets over liabilities as reflected in the corporation's balance sheet.
Here, since the adjusted net income of Picopy for 1977 exceeded 10% of its net
worth, it must be held liable for the 5% corporate development tax.
SUMMARY:
(1) Picop is liable for the 35% transaction tax
(2) Picop is not liable for interest and surcharge on unpaid transaction tax
(3) Picop is exempt from payment of documentary and science stamp taxes and the
compromise penalty
(4) Picop is entitled to its claimed deduction for interest payments on loans for, among
other things, the purchase of machinery and equipment
(5) Picop's claimed deduction for the operating losses previously incurred by RPPM, is
disallowed for lack of merit
(6) Picop's claimed deduction for certain financial guarantee expenses is disallowed for
failure adequately to prove such expenses
(7) Picop has understated its sales and overstated its cost of sales by for 1977.
(8) Picop is liable for the corporate development tax of 5% of its adjusted net income for
1977

MATIBAG | NAJARRO | TAXATION 2 | ATTY. DEBORAH ACOSTA-CAJUSTIN | 2017

COLLECTOR vs PRIETO
G.R. No. L-13912
September 30, 1960
GUTIERREZ DAVID, J:
Facts:
Consuelo L. Vda. de Prieto conveyed a real property to her 4 children: Antonio, Benito,
Carmen and Mauro. After the filing of the gift tax returns, the CIR appraised the real property
donated for gift tax purposes and assessed donor's gift tax, interests and compromises due
thereon. The total sum paid by Consuelo was P117K+. and 55K+ represents the total interest
on account of delinquency. Consuelo claimed this 55K as deduction in her income tax return
that year. CIR disallowed the claim and as a consequence of such disallowance assessed her
for deficiency income tax due. Th CTA reversed the ruling of the CIR.
CTA held this Section 80 as inapplicable to the instant case because while it
implements sections 30(c) of the Tax Code governing deduction of taxes, the respondent
taxpayer seeks to come under section 30(b) of the same Code providing for deduction of
interest on indebtedness. The SC finds the CTA’s ruling to be correct.
Penalties are to be distinguished from taxes and they are not deductible under the
heading of taxes." . . . Interest on state taxes is not deductible as taxes. Interest on deficiency
taxes are deductible, not as taxes, but as interest. Although interest payment for delinquent
taxes is not deductible as tax under Section 30(c), it is a deduction as interest payment under
section 30(b) of the same Code.

Under the law, for interest to be deductible, it must be shown that there is an
indebtedness and interest upon it, and that what is claimed as an interest deduction should
have been paid or accrued within the year. In this case, the interest paid by Consuelo was in
consequence of the late payment of her donor's tax, and the same was paid within the year
it is sought to be deducted.

Issue:
Whether or not the interest paid is an indebtedness allowable as deduction under Section
30(b) of the Tax Code

Held:
YES – [Note: Now it is Section 34(b)]

The term "indebtedness" as used in the US Tax Code has been defined as an
unconditional and legally enforceable obligation for the payment of money. It follows that the
interest paid by herein respondent for the late payment of her donor's tax is deductible from
her gross income under section 30 (b) of the Tax Code. The above conclusion finds support in
the established jurisprudence in the US after whose laws our Income Tax Law has been
patterned.

CIR relies on Section 80 of RR-2 to sustain the proposition that the interest payment
in question is not deductible. RR2 provides that "the word 'taxes' means taxes proper and no
deductions should be allowed for amounts representing interest, surcharge, or penalties
incident to delinquency."
MATIBAG | NAJARRO | TAXATION 2 | ATTY. DEBORAH ACOSTA-CAJUSTIN | 2017
CIR vs SPOUSES LEDNICKY
GR Nos. L-18169, L-18286, & L-21434
July 31, 1964
REYES, J.B.L., J.
Facts:
This is a consolidated case. First, the Spouses Lednicky are both American citizens
residing in the Philippines, and have derived all their income from Philippine sources. In
compliance with local law, they filed their income tax return for 1956. After receiving an
assessment notice, they paid the tax indicated therein, inclusive of the withheld taxes.
Later, the Lednickys filed an amended income tax return for 1956. They claimed as a
deduction an amount paid in 1956 to the US government as federal income tax for
1956. Accordingly, they requested for a refund. The CIR failed to answer the claim. Hence,
the Lednickys filed a petition with the CTA.
Second case is about overpaid income tax for 1955. The Lednickys filed their
domestic income tax return for 1955. In 1956, they filed an amended income tax return, the
amendment upon the original being a lesser net income. On the basis of this amended
return, they paid the amount so assessed, inclusive of withholding taxes. After audit, the CIR
determined a deficiency, which amount the Lednickys paid.
However, back in 1955, the Lednickys filed with the U.S. Internal Revenue Agent in
Manila their Federal income tax return for the years 1947, 1951, 1952, 1953 and 1954 on
income from Philippine sources on a cash basis. Payment of these federal income taxes,
including penalties and delinquency interest were made in 1955 to the U. S. Director of
Internal Revenue, Baltimore, Maryland, through the National City Bank of New York, Manila
Branch.
In 1958, the Lednickys amended their Philippines income tax return for 1955 to
include the following deductions: (1) US Federal income taxes, (2) Interest accrued up to
1955, and (3) Exchange and bank Charges. Accordingly, they filed a claim for refund.
Third case is about overpaid income tax for 1957. The Lednickys filed an amended
return for 1957, claiming deduction representing taxes paid to the U.S. Government on
income derived wholly from Philippine sources. On the strength thereof, respondents seek
refund of the amount representing overpayment.
MATIBAG | NAJARRO | TAXATION 2 | ATTY. DEBORAH ACOSTA-CAJUSTIN | 2017
In these three cases, the CTA held that the deductions claimed may be allowed
because of the undenied fact that the respondent spouses did not "signify" in their income
tax returns a desire to avail themselves of the benefits of Section 30, par. (c) (3) (B), which
reads:
“In the case of an alien resident of the Philippines, the amount of any such taxes
paid or accrued during the taxable year to any foreign country, if the foreign
country of which such alien resident is a citizen or subject, in imposing such taxes,
allows a similar credit to citizens of the Philippines residing in such country.”
Issue:
Whether a citizen of the United States residing in the Philippines, who derives income
wholly from sources within the Republic of the Philippines, may deduct from his gross
income the income taxes he has paid to the United States government for the taxable year
on the strength of section 30 (c-1) of the Philippine Internal Revenue Code, to wit:
“Income, war-profits, and excess profits taxes imposed by the authority of any
foreign country; but this deduction shall be allowed in the case of a taxpayer who
does not signify in his return his desire to have to any extent the benefits of
paragraph (3) of this subsection (relating to credit for taxes of foreign countries).”
Held:
No, the SC held that the right to deduct income taxes paid to foreign government
from the taxpayer's gross income is given only as an alternative or substitute to his right to
claim a tax credit for such foreign income taxes; so, that unless the alien resident has a right
to claim such tax credit if he so chooses, he is precluded from deducting the foreign income
taxes from his gross income.
It is obvious that in prescribing that such deduction shall be allowed in the case of
a taxpayer who does not signify in his return his desire to have to any extent the benefits of
paragraph (3) (relating to credits for taxes paid to foreign countries), the statute assumes
that the taxpayer in question also may signify his desire, to claim a tax credit and waive the
deduction.
The Lednickys admit in their brief that the purpose of the law is to prevent the
taxpayer from claiming twice the benefits of his payment of foreign taxes, by deduction
from gross income (subs. c-1) and by tax credit (subs. c-3). This danger of double credit
certainly cannot exist if the taxpayer cannot claim benefit under either of these headings at
his option, so that he must be entitled to a tax credit (the Lednickys admittedly are not so
entitled because all their income is derived from Philippine sources), or the option to deduct
from gross income disappears altogether.

While the taxpayers would have to pay two taxes on the same income, the
Philippine government only receives the proceeds of one tax. As between the Philippines,
where the income was earned and where the taxpayer is domiciled, and the United States,
where that income was not earned and where the taxpayer did notreside, it is indisputable
that justice and equity demand that the tax on the income should accrue to the benefit of
the Philippines. Any relief from the alleged double taxation should come from the United
States, and not from the Philippines, since the former's right to burden the taxpayer is solely
predicated on his citizenship, without contributing to the production of the wealth that is
being taxed.

Finally, to allow an alien resident to deduct from his gross income whatever taxes he
pays to his own government amounts to conferring on the latter power to reduce the tax
income of the Philippine government simply by increasing the tax rates on the alien
resident. Such a result is incompatible with the status of the Philippines as an independent
and sovereign state.

MATIBAG | NAJARRO | TAXATION 2 | ATTY. DEBORAH ACOSTA-CAJUSTIN | 2017

GUTIERREZ vs COLLECTOR
G.R. No. L-19537 Expenses claimed by Lino:
May 20, 1965 • Transportation expenses incurred to attend the funeral of his friends hahaha
and the cost of tickets to operas – Not deductible because personal not
BENGZON, J.P. J: business expense
• Installation of an iron door to his residence – Not deductible because purely
Facts: a personal expense
Lino Gutierrez was primarily engaged in the business of leasing real property for
which he paid real estate broker's privilege tax. Personal, living, or family expenses are not deductible.
• Cost of furniture given by Lino as commission in furtherance of a business
Lino filed his income tax returns and paid the corresponding tax declared therein. CIR transaction - Deductible
assessed deficiency income tax against Lino. The deficiency tax came about because CIR did • Expenses incurred in attending the National Convention of Filipino
not allow, the depreciation of Lino’s residence and expenses incurred in business, to be Businessmen, luncheon meeting and cruise to Corregidor of the
deducted from Lino’s gross income. Homeowners' Association – Deductible because shown to have been made in
the pursuit of his business
CIR also ruled that there were incomes which Lino did not report in his income tax
returns: Lino purchased a land for 35K which he sold for 30K, thus he claimed a loss of 5K. But Commissions given in consideration for bringing about a profitable transaction are
CIR said that the property was sold in Japanese notes so by converting it to its equivalent in part of the cost of the business transaction and are deductible. Lino proved that his
Philippine Peso, the acquisition cost is 26K, therefore there is profit of 4K. In another membership in Corregidor Association, and activities in connection therewith were solely to
transaction, he sold a land for 1.2K alleging that it was purchased for 1.2k and therefore, there enhance his business, the expenses incurred thereunder are deductible as ordinary and
was no income. But the CIR discovered the purchase price to be 800 only, thus, there is income necessary business expenses.
of 400. • Car expenses, salary of his driver and car depreciation - Only 50% is
deductible since the car was utilized both for personal and business needs
Lino appealed to the CTA which upheld the decision of the CIR. Lino died and was • Expenses in watching over laborers in construction work – Not deductible
substituted by his heirs. • Real estate tax unpaid by the former owner of Lino’s property – Not
• Cost for iron bars, venetian blind and water pump augmented the value of
Issue: the apartments where they were installed – Not
1. Whether or not Lino’s claims for deductions are allowable • Expenses for the relocation, survey and registration of property – Not
2. Whether or not it was proper to use the Ballantyne Scale of Values in determining
• Depreciation of Lino’s residence – Not deductible because it was not used for
acquisition cost - YES
his trade or business
3. Whether or not Commissioner's right to collect deficiency tax has already prescribed -
• Deduction for fines and penalties paid for late payment of taxes – Not
NO
deductible because fines and penalties not specifically allowed to be
deducted
Held:
• Alms for indigent family and donations – Not deductible
Deductions
To be deductible, an expense must be:
Ballantyne Scale of Values
1. Ordinary and necessary
Lino sold the property in 1953 for only P30K at a time when the price of real estate in
2. Paid within the taxable year
the City of Manila was much greater than in 1943. Lino also contends that he sold the property
3. Incurred in carrying on a trade or business
MATIBAG | NAJARRO | TAXATION 2 | ATTY. DEBORAH ACOSTA-CAJUSTIN | 2017
after Manila was occupied by the Japanese military forces. This strengthens the conclusion
that the real estate in question was bought in Japanese military notes. For, at the time he sold
his merchandise, the prevailing currency in the City of Manila was the Japanese military
money. Consequently, the proceeds therefrom, which was used to buy the real estate in
question, were Japanese military notes.

In determining the gain or loss from the sale of property the purchase price and the
selling price ought to be in the same currency. Since in this case the purchase price was in
Japanese military notes and the selling price was in our present legal tender, the Japanese
military notes should be converted to the present currency. Since the only standard scale
recognized by courts for the purpose is the Ballantyne Scale of Values, the SC finds it
compelling to use such table of values rather than adopt an arbitrary scale.

Prescription
The period of limitation to collect income tax is counted from the assessment of the
tax. Inasmuch as the assessment for deficiency income tax was made on July 10, 1956 which
is 7 months and 25 days prior to the action for collection, the right of the Commissioner to
collect such tax has not prescribed.

MATIBAG | NAJARRO | TAXATION 2 | ATTY. DEBORAH ACOSTA-CAJUSTIN | 2017

PLARIDEL SURETY & INSURANCE CO. vs CIR
GR No. L-21520
December 11, 1967
BENGZON, J.P., J.
Facts:
Plaridel Surety & Insurance Co., is a domestic corporation engaged in the bonding
business. Plaridel Surety, as surety, and Constancio San Jose, as principal, solidarily executed
a performance bond in favor of the P.L. Galang Machinery Co., Inc., to secure the
performance of San Jose's contractual obligation to produce and supply logs to the latter.
Plaridel Surety required San Jose and one Ramon Cuervo to execute an indemnity
agreement obligating themselves, solidarily, to indemnify it for whatever liability it may
incur by reason of said performance bond. Accordingly, San Jose constituted a chattel
mortgage on logging machineries and other movables in Pladirel Surety’s favor while Ramon
Cuervo executed a REM.
San Jose failed to deliver the logs to Galang Machinery, and the latter sued on the
performance bond. The CFI held San Jose and Plaridel Surety liable; it also directed San Jose
and Cuervo to reimburse Plaridel Surety for whatever amount it would pay Galang
Machinery. Upon appeal, the CA affirmed the CFI ruling. When the case reached the SC, the
SC also affirmed such ruling.
Plaridel Surety effected payment in favor of Galang Machinery. In its income tax
return, it claimed the said amount paid as deductible loss from its gross income and,
accordingly, paid its income tax. The CIR disallowed the claimed deduction. Plaridel Surety
filed its protest which was denied. Then, it appealed to the CTA and insisted that the
amount paid to Galang Machinery was a deductible loss. It was dismissed. The CTa held that
Plaridel Surety was duly compensated for otherwise than by insurance — thru the mortgages
in its favor executed by San Jose and Cuervo — and it had not yet exhausted all its available
remedies, especially as against Cuervo, to minimize its loss.
Upon denial of its MR, Plaridel Surety filed a Petition for Review on Certiorari before
the SC. It contended that its case is an exception to the exception that there could be no
deduction if the loss is compensable by insurance or otherwise. It explained that even if
there is a right to compensation by insurance or otherwise, the deduction can be taken in
the year of actual loss where the possibility of recovery is remote, as in the case of Cu
Unjieng vs Board of Tax Appeals.
MATIBAG | NAJARRO | TAXATION 2 | ATTY. DEBORAH ACOSTA-CAJUSTIN | 2017
Issue:
Whether or not the amount paid by a surety, which was secured by mortgages in its favor,
to a judgment creditor is deductible from its gross income
Held:
No, the SC held that the amount so paid by Plaridel Surety is not deductible from its
gross income because it is compensable otherwise than by insurance, by virtue of the
mortgages executed in its favor by San Jose and Cuervo.
Loss is deductible only in the taxable year it actually happens or is sustained.
However, if it is compensable by insurance or otherwise, deduction for the loss suffered is
postponed to a subsequent year, which, to be precise, is that year in which it appears that
no compensation at all can be had, or that there is a remaining or net loss, i.e., no full
compensation.
Here, there is no question that the year in which the Plaridel Surety effected
payment to Galang Machinery pursuant to a final decision occurred in 1957. However,
under the same court decision, San Jose and Cuervo were obligated to reimburse Plaridel
Surety for whatever payments it would make to Galang Machinery. Clearly, petitioner's loss
is compensable otherwise (than by insurance). It should follow, then, that the loss deduction
cannot be claimed in 1957.
The SC ruled that the Cu Unjieng case is not applicable here because in the former
case, the court found that the taxpayer had no legal right to compensation either by
insurance or otherwise.
Here, Plaridel Surety obtained a final judgment against third persons for
reimbursement of payments made. Loss deduction will be denied if there is a measurable
right to compensation for the loss, with ultimate collection reasonably clear. So where there
is reasonable ground for reimbursement, the taxpayer must seek his redress and may not
secure a loss deduction until he establishes that no recovery may be had.
In other words, the taxpayer must exhaust his remedies first to recover or reduce
his loss. It is on record that Plaridel Surety had not exhausted its remedies, especially against
Ramon Cuervo who was solidarily liable with San Jose for reimbursement to it.
 Even assuming arguendo that there was no reasonable expectation of recovery, still
no loss deduction can be had. Sec. 30(d)(2) of the Tax Code requires a charge-off as one of
the conditions for loss deduction:
"In the case of a corporation, all losses actually sustained and charged-off within the
taxable year and not compensated for by insurance or otherwise."

Plaridel Surety failed to adduce evidence that there was a charge-off in connection
with the amount it paid to Galang Machinery.

MATIBAG | NAJARRO | TAXATION 2 | ATTY. DEBORAH ACOSTA-CAJUSTIN | 2017

FERNANDEZ HERMANOS, INC. vs CIR
G.R. No. L-21551, L-21557, L-24972, L-24978
September 30, 1969
TEEHANKEE, J:
Facts:
These are 4 appeals involving the decisions of the CTA.
First 2 cases: Fernandez Hermanos, Inc., is a domestic-corporation engaged in
business as an "investment company". Upon verification of the FHI ‘s income tax returns, the
CIR assessed deficiency income taxes against it. Said assessments were the result of alleged
discrepancies found upon the examination and verification of the FHI’s income tax returns for
the years 1950-1954.The CTA modified the deficiency assessments reducing it from 166K+ to
23K+. The FHI and CIR appealed contending the correctness of the CTA’s rulings with respect
to the disallowances.
Second 2 cases: This refers to FHI’s income tax liability for the year 1957. Upon
examination of its income tax return, the CIR assessed it for deficiency income tax. It did not
allow as deductions, FHI’s losses in the operation of its Hacienda Dalupiri. The CTA reversed
this. The CIR also disallowed the sum representing 1/5 of the cost of the "contractual right"
over the mines of its subsidiary, Palawan Manganese Mines, Inc. which FHI had acquired. The
CTA sustained this.
3. Disallowance of losses in Balamban Coal Mines – The SC agreed with the
disallowance of the amounts spent by FHI for the operation of its Balamban coal
mines in 1950 and 1951 because losses are deductible in 1952, when the mines
were abandoned, and not in 1950 and 1951, when they were still in operation.
Thus, the deduction from the FHI’s taxable income in 1952 would result in the
elimination of the deficiency tax liability for said year
4. Allowance of losses in Hacienda Dalupiri and Hacienda Samal – Allowance was
allowed as the Hacienda Dalupiri was operated by FHI for business and since it
sustained losses in its operation. The same with respect to losses sustained in the
operation of the Hacienda Samal.
Since the CTA was satisfied with the evidence presented and with the method
adopted by FHI, the SC finds no compelling reason to disturb its findings.
Second Case: Allowance of Losses in Hacienda Dalupiri
The CTA overruled the CIR’s disallowance of losses suffered by FHI in the operation of
its Hacienda Dalupiri, since it was convinced that the hacienda was operated for business and
not for pleasure. Since the CTA satisfied itself with the adequacy of FHI’s accounting method
and procedure, the SC finds no compelling reason to disturb its findings.

Issue:
Whether or not the disputed items should be allowed to be deducted

Held:
The SC discussed each item:
Losses and Bad Debts
1. Allowance of losses in Mati Lumber Company – The SC agreed in allowing the
deduction since the company already ceased operations, had no assets and
completely insolvent. There was adequate basis for the writing off of the stock as
worthless securities.
2. Disallowance of bad debts of Palawan Manganese Mines – The SC agreed in
disallowing the write off since the amounts involved were investments and not
loans. The board of directors of the 2 were identical. This explains the liberality
of FHI why it made such large advances to the subsidiary, despite the latter's
admittedly poor financial condition
MATIBAG | NAJARRO | TAXATION 2 | ATTY. DEBORAH ACOSTA-CAJUSTIN | 2017
CHINA BANKING CORP. vs CA, CIR, CTA
GR No. 125508
July 19, 2000
VITUG, J.
Facts:
China Banking Corporation made a 53% equity investment in the First CBC Capital
(Asia) Ltd., a Hongkong subsidiary engaged in financing and investment with "deposit-
taking" function.
In the course of the regular examination of the financial books and investment
portfolios of petitioner conducted by Bangko Sentral in 1986, it was shown that First CBC
Capital (Asia), Ltd., has become insolvent. With the approval of Bangko Sentral, CBC wrote-
off as being worthless its investment in First CBC Capital (Asia), Ltd., in its 1987 Income Tax
Return and treated it as a bad debt or as an ordinary loss deductible from its gross income.
The CIR disallowed the deduction and assessed CBC for income tax deficiency with
surcharge, interest and compromise penalty. The disallowance of the deduction was made
on the ground that the investment should not be classified as being "worthless" and that,
although the Hongkong Banking Commissioner had revoked the license of First CBC Capital
as a "deposit-taking" company, the latter could still exercise its financing and investment
activities. Assuming that the securities had indeed become worthless, the CIR held the view
that they should then be classified as "capital loss," and not as a bad debt expense there
being no indebtedness to speak of between CBC and its subsidiary.
CBC appealed to the CTA. The CTA ruled in favor of the CIR and held that the
securities had not indeed become worthless and ordered CBC to pay its deficiency income
tax for 1987. Upon appeal, the CA upheld the CTA ruling.
CBC filed a Petition for Review on Certiorari before the SC. It contended that the
shares of stock in question have become worthless based on a Profit and Loss Account for
the Year-End 1987, and also based on the recommendation of Bangko Sentral that the
equity investment be written-off due to the insolvency of the subsidiary.
Issue:
Whether or not CBC’s investment in First CBC Capital, written off by CBC as worthless, may
be deducted from its gross income
MATIBAG | NAJARRO | TAXATION 2 | ATTY. DEBORAH ACOSTA-CAJUSTIN | 2017
Held:
No, the SC held that CBC’s “worthless” investment in First CBC Capital may not be
deducted from its gross income because the same is a capital asset and not an ordinary
asset. The shares of stock held by another by way of an investment, are capital assets. When
the shares held by such investor become worthless, the loss is deemed to be a loss from the
sale or exchange of capital assets.
Subject to certain exceptions, such as the compensation income of individuals and passive
income subject to final tax, as well as income of non-resident aliens and foreign corporations not
engaged in trade or business in the Philippines, the tax on income is imposed on the net income
allowing certain specified deductions from gross income to be claimed by the taxpayer. Among the
deductible items allowed by the National Internal Revenue Code ("NIRC") are bad debts and losses.
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. A capital asset is
defined negatively as:
“property held by the taxpayer (whether or not connected with his trade or
business), but does not include stock in trade of the taxpayer or other property of a
kind which would properly be included in the inventory of the taxpayer if on hand
at the close of the taxable year, or property held by the taxpayer primarily for sale
to customers in the ordinary course of his trade or business, or property used in the
trade or business, of a character which is subject to the allowance for depreciation
provided in subsection (f) of section twenty-nine; or real property used in the trade
or business of the taxpayer.”
Thus, shares of stock, like the other securities defined in Section 20(t) 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. A dealer in securities is
defined as:
“a merchant of stocks or securities, whether an individual, partnership or
corporation, with an established place of business, regularly engaged in the
purchase of securities and their resale to customers; that is, one who as a merchant
buys securities and sells them to customers with a view to the gains and profits that
may be derived therefrom.”
However, the loss sustained by the holder of the securities, which are capital assets
(to him), is to be treated as a capital loss as if incurred from a sale or exchange transaction.
A capital gain or a capital loss normally requires the concurrence of two conditions for it to
result:
(1) There is a sale or exchange; and
(2) the thing sold or exchanged is a capital asset.
When securities become worthless, there is strictly no sale or exchange but the law deems
the loss anyway to be "a loss from the sale or exchange of capital assets.”

Capital losses are allowed to be deducted only to the extent of capital gains, i.e.,
gains derived from the sale or exchange of capital assets, and not from any other income of
the taxpayer.

Here, First CBC Capital, is a subsidiary corporation of CBC whose shares in the
former are not intended for purchase or sale but as an investment. Unquestionably then,
any loss therefrom would be a capital loss, not an ordinary loss, to the investor.

Furthermore, the loss of CBC in its equity investment in the Hongkong subsidiary
cannot also be deductible as a bad debt. The shares of stock in question do not constitute a
loan extended by it to its subsidiary (First CBC Capital) or a debt subject to obligatory
repayment by the latter, essential elements to constitute a bad debt, but a long-term
investment made by CBC.

In sum —
(a) The equity investment in shares of stock held by CBC of approximately 53% in its
Hongkong subsidiary, the First CBC Capital (Asia), Ltd., is not an indebtedness, and it is
a capital, not an ordinary, asset.
(b) Assuming that the equity investment of CBC has indeed become "worthless," the loss
sustained is a capital, not an ordinary, loss.
(c) The capital loss sustained by CBC can only be deducted from capital gains if any derived
by it during the same taxable year that the securities have become "worthless."

MATIBAG | NAJARRO | TAXATION 2 | ATTY. DEBORAH ACOSTA-CAJUSTIN | 2017

FERNANDEZ HERMANOS, INC. vs CIR
G.R. No. L-21551, L-21557, L-24972, L-24978
September 30, 1969
TEEHANKEE, J:
Facts:
These are 4 appeals involving the decisions of the CTA.
Fernandez Hermanos, Inc., is a domestic-corporation engaged in business as an
"investment company". Upon verification of the FHI ‘s income tax returns, the CIR assessed
deficiency income taxes against it. Said assessments were the result of alleged discrepancies
found upon the examination and verification of the FHI’s income tax returns for the years
1950-1954.The CTA modified the deficiency assessments reducing it from 166K+ to 23K+. The
FHI and CIR appealed contending the correctness of the CTA’s rulings with respect to the
disallowances.
During the years 1950 to 1954, FHI claimed a depreciation allowance for its buildings
at the annual rate of 10%. CIR claimed that the reasonable depreciation rate is only 3% per
annum, and, hence, disallowed the amount claimed as depreciation allowance in excess of
3% annually.
Issue:
Whether or not the excessive depreciation of buildings claimed by FHI should be allowed as
deduction – NO
Held:
Disallowance of excessive depreciation of buildings
The SC agreed with the CTA in ruling that FHI did not submit adequate proof of the
correctness of the claim that the depreciable assets or buildings in question had a useful life
only of 10 years so as to justify its 10% depreciation per annum claim. FHI’s contention that it
has many zero or one-peso assets, representing very old and fully depreciated assets serves
but to support the CIR’s position that a 10% annual depreciation rate was excessive.
Other issues tax issues:
Taxable increase in net worth
CIR determined that FHI had an increase in net worth in the sum of P30K for the year
1951, the sum of P1K. These amounts were treated by CIR as taxable income of FHI for said
years.
MATIBAG | NAJARRO | TAXATION 2 | ATTY. DEBORAH ACOSTA-CAJUSTIN | 2017
The SC held that these increases in the FHI’s net worth were not taxable increases as
they were not the result of the receipt by it of an unreported or unexplained taxable income.
These were shown to be merely the result of the correction of errors in its entries in its books
relating to its indebtednesses to certain creditors, which had been erroneously overstated or
listed as outstanding when they had in fact been duly paid.
Gain realized from sale of real property
The SC sustained the decision of the CTA on the reversal of the CIR’s assessment on
an alleged unreported gain in the in the sale of a certain real property of FHI. The evidence
shows that this property was acquired in 1926 for P11K and was sold in 1950 for P60K
apparently, resulting in a gain of P48K. FHI reported in its return a gain of P37K or a
discrepancy of P11K. However, it was sufficiently proved from the FHI’s books that it made
improvements totalling P11K after acquiring the property, accounting for the apparent
discrepancy in the reported gain. Thus, the gain derived from the sale of the property was
correctly reported by the taxpayer at P37K.
Prescription
Regardless of whether the assessments were made on February 24 and 27, 1956, as
claimed by the CIR, or on December 27, 1955 as claimed by FHI, the government's right to
collect the taxes due has clearly not prescribed, as the taxpayer's appeal or petition for review
was filed with the CTA on May 4, 1960, with the CIR filing on May 20, 1960 his Answer with a
prayer for payment of the taxes due, long before the expiration of the five-year period to
effect collection by judicial action counted from the date of assessment.
Disallowance of amortization of alleged "contractual rights."
The SC agreed in disallowing this because the alleged "capital investment" method
invoked by FHI is not a method of depletion. The Tax Code provision in effect expressly
provided that "when the allowances shall equal the capital invested . . . no further allowances
shall be made;" in other words, the "capital investment" was but the limitation of the amount
of depletion that could be claimed. The outright deduction by the taxpayer of 1/5 of the cost
of the mines, as if it were a "straight line" rate of depreciation, was correctly held by the CTA
not to be authorized by the Code.
COLLECTOR vs GOODRICH INTERNATIONAL RUBBER CO.
G.R. No. L-22265
December 22, 1967
CONCEPCION, C.J:
Facts:
CIR assessed Goodrich of deficiency income taxes based on disallowed deductions
claimed consisting of several alleged bad debts and representation expenses allegedly
incurred. Goodrich had appealed from said assessments to the CTA which rendered a decision
allowing the deduction for bad debts, but disallowing the alleged representation expenses.
On MR by Goodrich, CTA allowed said deductions for representation expenses. The
Government appealed from a decision of the CTA.
Issue:
Whether or not the deductions for bad debts is proper
Whether or not the deductions for representation expenses should be allowed - NO
However, the SC held that there were 8 accounts properly written off. For the 4
accounts, considering the small amounts involved in these accounts, CIR was justified in
feeling that the unsuccessful efforts therefore exerted to collect the same sufficed to warrant
their being written off. For the remaining accounts, Goodrich found that their debtors were
in strained financial condition and had no attachable or leviable property. Thus, they just
wrote off these accounts as bad debts without going to court, for it would be "foolish to spend
good money after bad."
Representation Expenses
The claim for deduction thereof is based upon receipts issued by the officers of
Goodrich who allegedly paid them and not by the entities in which the alleged expenses had
been incurred. The claim must be rejected. If the expenses had really been incurred, receipts
would have been issued by the entities to which the payments had been made, and it would
have been easy for Goodrich or its officers to produce such receipts. Those issued by said
officers merely attest to their claim that they had incurred and paid said expenses. They do
not establish payment of said alleged expenses to the entities in which the same are said to
have been incurred. The SC held that the CTA erred in allowing the deduction thereof.

Held:
Bad Debts
(Note: Goodrich alleged bad debts mostly for seat covers, auto supplies, and services)

The requirement of ascertainment of worthlessness requires proof of 2 facts:

1. That the taxpayer did in fact ascertain the debt to be worthless, in the year for which
the deduction is sought
2. That, in so doing, he acted in good faith

Good faith on the part of the taxpayer is not enough. He must show, also, that he had
reasonably investigated the relevant facts and had drawn a reasonable inference from the
information thus obtained by him. The SC held that Goodrich has not adequately made such
showing.

The payments made, some in full, after some of the foregoing accounts had been
characterized as bad debts, merely stresses the undue haste with which the same had been
written off. Goodrich has not proven that said debts were worthless. There is no evidence
that the debtors cannot pay them. It should be noted also that, in violation of Revenue
Regulations No. 2, Section 102, Goodrich had not attached to its income tax returns a
statement showing the propriety of the deductions therein made for alleged bad debts.
MATIBAG | NAJARRO | TAXATION 2 | ATTY. DEBORAH ACOSTA-CAJUSTIN | 2017
BASILAN ESTATE, INC. vs CIR
GR No. L-22492
September 5, 1967
BENGZON, J.P., J.
Facts:
Basilan Estate, Inc. is a Philippine corporation engaged in coconut industry. It filed
its income tax returns and paid the corresponding income tax thereon. However, the CIR
assessed the same for deficiency income tax and 25% surtax on unreasonably accumulated
profits.
Upon denial of its request for reinvestigation, Basilan Estate appealed to the CTA. It
alleged prescription of the period of assessment and collection, error in disallowing claimed
depreciations, travelling and miscellaneous expenses and error in finding the existence of
unreasonably accumulated profits and the imposition of 25% surtax thereon. The CTA
affirmed the deficiency assessment in toto. Basilan Estate filed a Petition for Review on
Certiorari before the SC.
Issues:
1) Whether or not the depreciations, travelling and miscellaneous expenses may be
allowed as deductions
2) Whether or not the imposition of the 25% surtax was proper
3) Whether or not the right to collect deficiency income tax had prescribed
Held:
Depreciation (Whether the depreciation should be determined on the acquisition cost or on
the reappraised value of the assets)
Basilan Estates, Inc. claimed deductions for the depreciation of its assets up to 1949
on the basis of their acquisition cost. As of January 1, 1950 it changed the depreciable value
of said assets by increasing it to conform with the increase in cost for their replacement.
Accordingly, from 1950 to 1953 it deducted from gross income the value of depreciation
computed on the reappraised value.
However, upon investigation and examination of taxpayer's books and papers, the
CIR found that the reappraised assets depreciated in 1953 were the same ones upon which
depreciation was claimed in 1952. And for the year 1952, the CIR had already determined,
with taxpayer's concurrence, the depreciation allowable on said assets are to be computed
MATIBAG | NAJARRO | TAXATION 2 | ATTY. DEBORAH ACOSTA-CAJUSTIN | 2017
on their acquisition cost at rates fixed by the taxpayer. Hence, the Commissioner pegged the
deductible depreciation for 1953 on the same old assets at their acquisition cost and
disallowed the excess thereof.
The SC ruled in favor of the CIR. It held that the claim for depreciation beyond its
acquisition value has no justification in law.
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. Accordingly, the law permits the taxpayer to recover
gradually his capital investment in wasting assets free from income tax. Section 30 (f) (1) of
the NIRC states:
“A reasonable allowance for deterioration of property arising out of its use or employment
in the business or trade, or out of its not being used: Provided, that when the allowance
authorized under this subsection shall equal the capital invested by the taxpayer... no
further allowance shall be made…”
Such provision allows a deduction from gross income for depreciation but limits the
recovery to the capital invested in the asset being depreciated.
The income tax law does not authorize the depreciation of an asset beyond its
acquisition cost. Hence, a deduction over and above such cost cannot be claimed and
allowed. The reason is that deductions from gross income are privileges, not matters of
right.
Expenses (Whether or not miscellaneous expenses and officer’s travelling expenses may be
allowed as deductions)
These were disallowed on the ground that the nature of these expenses could not
be satisfactorily explained nor could the same be supported by appropriate papers.
However, the SC found out that Basilan Estate had no more obligation to keep vouchers and
receipts of travelling expenses because 5 years had already elapsed from the time these
expenses were incurred. Section 337 of the Tax Code provides that receipts and papers
supporting such expenses need be kept by the taxpayer for a period of five years from the
last entry.
 taxpayer and it is not required that the notice be received by the taxpayer within the
2. Yes, the SC held that the imposition of the 25% surtax was proper. Section 25 of the aforementioned 5-year period.
Tax Code provides that:

“Additional tax on corporations improperly accumulating profits or suplus — (a) Imposition

of Tax. — If any corporation, except banks, insurance companies, or personal holding
companies, whether domestic or foreign, is formed or availed of for the purpose of
preventing the imposition of the tax upon its shareholders or members or the shareholders
or members of another corporation, through the medium of permitting its gains and profits
to accumulate instead of being divided or distributed, there is levied and assessed against
such corporation, for each taxable year, a tax equal to 25% of the undistributed portion of
its accumulated profits or surplus which shall be in addition to the tax imposed by section
24, and shall be computed, collected and paid in the same manner and subject to the same
provisions of law including penalties, as that tax.”

It is axiomatic that in order to determine whether profits were accumulated for the
reasonable needs of the business or to avoid the surtax upon shareholders, the controlling
intention of the taxpayer is that which is manifested at the time of the accumulation, not
subsequently declared intentions which are merely the products of afterthought.

Basilan Estate argues that since it has P560k as its expenses for the year 1953, a
surplus of P347k is not unreasonably accumulated. That contention is unmeritorious. There
is no need to have such a large amount at the beginning of the following year because
during the year, current assets are converted into cash and with the income realized from
the business as the year goes, these expenses may well be taken care of.

Furthermore, Basila Estate is not entitled to the exemption under Section 25,
whereby accumulated profits or surplus if invested in any dollar-producing or dollar-earning
industry or in the purchase of bonds issued by the Central Bank may not be subject to the
25% surtax. The unreasonable accumulation was in 1953, the exemption was by virtue of a
Republic Act which was enacted only in 1957, that is, more than 3 years after the period
covered by the assessment.

No, the SC held that the right to collect deficiency income tax had not yet
prescribed. It upheld the presumption of regularity in the performance of official functions.
Besides, even granting that notice was received late by Basilan Estate, under Section 331 of
the Tax Code requiring 5 years within which to assess deficiency taxes, the assessment is
deemed made when notice to this effect is released, mailed or sent by the Collector to the

MATIBAG | NAJARRO | TAXATION 2 | ATTY. DEBORAH ACOSTA-CAJUSTIN | 2017

ZAMORA vs COLLECTOR It is true that Bulletin F has no binding force, but it has a strong persuasive effect
G.R. No. L-15290, L-15280, L-15289, L-15281 considering that the same has been the result of scientific studies and observation for a long
May 31, 1963 period in the US after whose Income Tax Law ours is patterned. Courts are permitted to look
into and investigate the antecedents or the legislative history of the statutes involved.
PAREDES, J:
Mariano contends that his basis for applying the 3.5% rate is the testimony of its
Facts: witness Mariano Katipunan, who cited a book entitled "Hotel Management — Principles and
Mariano Zamora is the owner of the Bay View Hotel and Farmacia Zamora. He filed Practice" by Lucius Boomer, President, Hotel Waldorf Astoria Corporation. Sol Gen said that
his income tax returns. The Collector found that he failed to file his return of the capital gains while Mariano would deny us the right to use Bulletin F, he would insist on using as authority,
derived from the sale of certain real properties. He also claimed deductions which were not a book in Hotel management written by a man who knew more about hotels than about
allowable. Thus, the Collector required him to pay deficiency income tax. Mariano appealed taxation. Hahaha.
and the CTA modified the decision ordering him to pay a reduced amount as deficiency
income tax plus surcharges and interest in case of delinquency. The SC held that the 2-1/2% rate of depreciation of the Bay View Hotel building, is
approximately correct.
Mariano appealed alleging that the CTA erred in disallowing the 3.5% per annum as
the rate of depreciation of the Bay View Hotel Building. The CTA allowed only 2.5% rate. In
justifying depreciation deduction of 3.5%, Mariano contends that:
1. The Ermita Districts, where the Bay View Hotel is located, is now becoming a
commercial district;
2. The hotel has no room for improvement; and
3. The changing modes in architecture, styles of furniture and decorative designs, "must
meet the taste of a fickle public".

Issue:
Whether or not the CTA used the correct depreciation rate – YES

Held:
The CTA, in estimating the reasonable rate of depreciation allowance for hotels made
of concrete and steel at 2.5%, already took into account the 3 factors advanced by Mariano.
But CTA said that normally, an average hotel building is estimated to have a useful life of 50
years. However, the useful life of the building for business purposes depends to a large extent
on the suitability of the structure to its use and location, its architectural quality, the rate of
change in population, the shifting of land values, as well as the extent and maintenance and
rehabilitation. It is allowed a depreciation rate of 2.5% corresponding to a normal useful life
of only 40 years. Consequently, the stand of the petitioners cannot be sustained.

CTA based its findings on Bulletin F, a publication of the US Federal Internal Revenue
Service, which was made after a study of the lives of the properties. Mariano contends that it
should have been first proved as a law, to be subject to judicial notice.
MATIBAG | NAJARRO | TAXATION 2 | ATTY. DEBORAH ACOSTA-CAJUSTIN | 2017
ROXAS vs CTA
GR No. L-25043
April 26, 1968
BENGZON, J.P., J.
Facts:
Don Pedro Roxas and Doña Carmen Ayala, Spanish subjects, transmitted to their
grandchildren by hereditary succession the following properties: agricultural lands,
residential house and lot, shares of stocks. To manage the above-mentioned properties, said
children namely, Antonio, Eduardo and Jose, formed a partnership called Roxas y Compañia.
With respect to the agricultural lands, the Government, in consonance with the
constitutional mandate to acquire big landed estates and apportion them among landless
tenants-farmers, persuaded the Roxas brothers to part with their landholdings. However, it
turned out that the Government did not have funds to cover the purchase price, and so a
special arrangement was made for the Rehabilitation Finance Corporation to advance to
Roxas y Cia. the amount of P1.5m as loan. Collateral for such loan were the lands proposed
to be sold to the farmers.
Roxas y Cia. derived from said installment payments a net gain. 50% of said net gain
was reported for income tax purposes as gain on the sale of capital asset held for more than
one year pursuant to Section 34 of the Tax Code.
With respect to the residential house, when Antonio and Eduardo got married, they
left Jose in the old house. In fairness to his brothers, Jose paid to Roxas y Cia. rentals for the
house every year.
The CIR demanded from Roxas y Cia. the payment of real estate dealer's tax. It was
based on the fact that Roxas y Cia. received house rentals from Jose. Pursuant to Sec. 194 of
the Tax Code, an owner of a real estate who derives a yearly rental income therefrom in the
amount of P3k or more is considered a real estate dealer and is liable to pay the
corresponding fixed tax.
In the same assessment, the CIR assessed deficiency income taxes against the Roxas
brothers. It resulted from the inclusion as income of Roxas y Cia. of the unreported 50% of
the net profits derived from the sale of the farm lands to the tenants, and the disallowance
of deductions from gross income of various business expenses and contributions claimed by
Roxas y Cia. and the Roxas brothers. For the reason that Roxas y Cia. subdivided its farm
MATIBAG | NAJARRO | TAXATION 2 | ATTY. DEBORAH ACOSTA-CAJUSTIN | 2017
lands and sold them to the farmers on installment, the CIR considered the partnership as
engaged in the business of real estate, hence 100% of the profits derived therefrom was
taxed.
The deductions that were disallowed were composed of contributions to various
charitable and religious institutions, as well as for the Christmas Fund of the Firemen and
Police Department.
The Roxas brothers protested the assessment but inasmuch as said protest was
denied, they instituted an appeal in the CTA. It was denied. Roxas y Cia. and the Roxas
brothers appealed to the SC.
The CIR contended that Roxas y Cia. could be considered a real estate dealer
because it engaged in the business of selling real estate. The business activity alluded to was
the act of subdividing the farm lands and selling them to the farmers-occupants on
installment.
Issues:
1) Whether or not the gain derived from the sale of the farm lands are considered as
ordinary gain, hence 100% taxable
2) Whether or not the deductions for business expenses and contributions are deductible
3) Whether or not Roxas y Cia. Is liable for the payment of the fixed tax on real estate
dealers
Held:
1. No, the SC held that Roxas y. Cia. is not a real estate dealer. The sale of the farm
lands to the very farmers who tilled them for generations was in consonance with the policy
of the Government to allocate lands to the landless. However, the Government could not
comply with its duty for lack of funds. Obligingly, Roxas y Cia. shouldered the Government's
burden and sold the lands directly to the farmers in the same way and under the same
terms as would have been the case had the Government done it itself.
In fine, Roxas y Cia. cannot be considered a real estate dealer for the sale in
question. Hence, pursuant to Section 34 of the Tax Code the lands sold to the farmers are
capital assets, and the gain derived from the sale thereof is capital gain, taxable only to the
extent of 50%.
2. No, the SC held that the amounts claimed as deductions should not be allowed.
First, representation expenses (San Miguel beer given as gifts, amount of tickets given in
honor of Sergio Osmena) are deductible only if they are reasonable in amount, ordinary and
necessary, and incurred in connection with his business. Here there is no link between the
expenses and the business of Roxas y Cia.

Second, the contributions to the Christmas funds of the Police Department and the
Firemen are not deductible for the reason that the funds were not spent for public purposes
but as Christmas gifts to the families of the members of said entities. Under Section 39(h), a
contribution to a government entity is deductible when used exclusively for public purposes.

On the other hand, the contribution to the Manila Police trust fund is an allowable
deduction for said trust fund belongs to the Manila Police, a government entity, intended to
be used exclusively for its public functions.

Third, the contributions to the Philippines Herald's fund for Manila's neediest
families must be allowed. The contributions were not made to the Philippines Herald but to
a group of civic spirited citizens organized by the Philippines Herald solely for charitable
purposes. There is no question that the members of this group of citizens do not receive
profits, for all the funds they raised were for Manila's neediest families. Such a group of
citizens may be classified as an association organized exclusively for charitable purposes
mentioned in Section 30(h) of the Tax Code.

Fourth, the contribution to Our Lady of Fatima chapel at the FEU should be
disallowed. Located within the premises of the university, the chapel in question has not
been shown to belong to the Catholic Church or any religious organization. On the other
hand, the lower court found that it belongs to the FEU, contributions to which are not
deductible under Section 30(h) of the Tax Code for the reason that the net income of said
university inures to the benefit of its stockholders.

3. Yes, the SC held that the Roxas y Cia. is liable for the payment of the fixed tax on
real estate dealers because it annually receives rental income from Jose Roxas. “Real estate
dealer” includes any person engaged in the business of buying, selling, exchanging, leasing,
or renting property on his own account as principal and holding himself out as a full or part-
time dealer in real estate or as an owner of rental property or properties rented or offered to
rent for an aggregate amount of three thousand pesos or more a year...

MATIBAG | NAJARRO | TAXATION 2 | ATTY. DEBORAH ACOSTA-CAJUSTIN | 2017

MADRIGAL vs RAFFERTY
G.R. No. 12287
August 7, 1918
MALCOLM, J:
Facts:
Vicente Madrigal and Susana Paterno were legally married. Vicente filed a sworn
declaration showing his total net income for the year 1914 with the CIR. Subsequently,
Madrigal submitted the claim that the said amount did not represent his income for the year
1914, but was in fact the income of the conjugal partnership existing between himself and his
wife Susana. He submitted that in computing and assessing the additional income tax
provided by the Act of Congress of the income declared by Vicente should be divided into two
equal parts, one-half to be considered the income.
The claim was not granted. Thus, Vicente paid under protest. After the protest was
denied, he filed an action against the Collector.
himself and wife. If a wife has a separate estate managed by herself as her own separate
property, and receives an income of more than $3,000, she may make return of her own
income. The tax in such case, however, will be imposed only upon so much of the aggregate
income of both as shall exceed $4,000. They are jointly and separately liable for such return
and for the payment of the tax. The single or married status of the person claiming the specific
exemption shall be determined as of the time of claiming such exemption if such claim be
made within the year for which return is made, otherwise the status at the close of the year."
Susana, not having a separate estate, cannot make a separate return in order to
receive the benefit of the exemption which would arise by reason of the additional tax. As she
has no estate and income, actually and legally vested in her and entirely distinct from her
husband's property, the income cannot properly be considered the separate income of the
wife for the purposes of the additional tax.
The Income Tax Law does not look on the spouses as individual partners in an ordinary
partnership. The husband and wife are only entitled to the exemption of P8,000, specifically
granted by the law.

In the answer of the Commissioner, he contended that: The income of Vicente and
Susana for the year 1914 came from:
1. Profits of Vicente in his coal and shipping business
2. Profits of Susana in her embroidery business
3. Profits of Vicente in a pawnshop company

The sum of these 3 is P383,181.9, the gross income of Vicente and Susana for the year
1914. General deductions were claimed and allowed in the sum of P86,879.24. Specific
deductions were allowed as follows:
1. The tax which was to be paid at source = P16,687.80
2. Specific exemption granted to Vicente and Susana – P8,000

Issue:
Whether or not Susana is entitled to an additional exemption - NO

Held:
There is a US regulation relative to returns by the husband and wife not living apart.
It provides that:

"The husband, as the head and legal representative of the household and general
custodian of its income, should make and render the return of the aggregate income of
MATIBAG | NAJARRO | TAXATION 2 | ATTY. DEBORAH ACOSTA-CAJUSTIN | 2017