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PM REYES TAX 1: INCOME TAX // MONTERO Edited by: Napa - So

Q3.When is income taxable? (or what are the


PM REYES (TRAIN UPDATED) elements of a taxable income?)
2018
Income, gain or profit is subject to income tax when
In General the following conditions are present:

Q1.What is an income? Gross Income (less) Deductions = Taxable Income


1. There is income, gain or profit 1 (e.g. no
Income means the gain derived from capital, from labor, reimbursement — medrep)
or from both combined, including profits gained from 2. The income, gain or profit is received or realized
dealings in property or as well as any asset clearly during the taxable year 2 ; (known as the
realized whether earned or not. realization concept) and
3. The income, gain or profit is not exempt from
It refers to all wealth which flows into the taxpayer other income tax.3
than as a mere return on capital. (RR No.2) 4. Complete Dominion

Three Sources of Income: Under realization concept there must be:


1. Invest/Capital 1. Change in substance
2. Work/Labor 2. Transaction with a third party
3. Windfall
Calamansi Example:
Ballpen example: Let’s say I used to buy Calamansi but now I used the
w/ name — income to finder seeds to plant in backyard. Will it be taxable?
w/o name — no income to finder No, there is an unrealized gain.
*Treasure Trove Test
Foreign Exchange Example:
Q2.What is an income tax? What if I exchanged dollars in 2010 and then in 2018 the
exchange rate increased. Can the gain on the exchange
Income Tax is a tax on the net income or the entire income rate be taxable?
received or realized in one taxable year. It is levied upon No, if you don’t exchange foreign money then not taxable.
corporate and individual incomes in excess of specified There has be realized gain. Which is a closed and
amounts, less certain deductions and/or specified completed transaction.
exemptions permitted by law. It’s a way for the officers to check those that are taxable.

The final tax on certain passive incomes and withholding Q3.1. What is the difference between income and
tax on income are embraced within the term. capital?

In CONWI V. CTA [AUGUST 31, 1992], the Supreme Court Income is distinct from capital. Income means all the
defined income tax as an amount of money coming to a wealth which flows into the taxpayer other than a mere
person or corporation within a specified time, whether as return on capital while capital is a fund or property existing
payment for services, interest, or profit from investment. at one distinct point in time while income denotes a flow
of wealth during a definite period of time. Income is gain
As stated by the Supreme Court in REPUBLIC OF THE derived and severed from capital. (see CHAMBER OF REAL
PHILIPPINES VS. MANILA ELECTRIC COMPANY [NOVEMBER ESTATE AND BUILDER’S ASSOCIATION, INC. V. ROMULO
15, 2002], income tax is imposed on an individual or entity [MARCH 9, 2010]).
as a form of excise tax or a tax on the privilege of earning
income. In exchange for the protection extended by the Income as contrasted with capital or property is to be the
State to the taxpayer, the government collects taxes as a test. The essential difference between capital and income
source of revenue to finance its activities. is that capital is a fund; income is a flow. A fund of property
existing at an instant of time is called capital. A flow of
services rendered by that capital by the payment of
money from it or any other benefit rendered by a fund of
capital in relation to such fund through a period of time is
called an income. Capital is wealth, while income is the

1
As opposed to mere reimbursements or return on capital.
2
As opposed to the common examples of unrealized forex gains or mere revaluation increments.
3
Examples of those exempt from income tax: de minimis benefits and professional fees of GPPs
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PM REYES TAX 1: INCOME TAX // MONTERO Edited by: Napa - So

service of wealth. A tax on income is not a tax on property. modified by Helvering v. Bruun.
"Income," as here used, can be defined as "profits or
gains." (see MADRIGAL VS. RAFFERTY [AUGUST 7, 1918]). Stock dividends cannot comply with the requirement of
“wherewithal” (i.e. the capacity to pay.) — By taxing stock
Income from capital and labor? Is it a requisite for what dividends, it is like asking the stockholder to sell his stock
constitutes income? dividends to the BIR.
You have to be liquid to be taxed. You can’t pay
NO. Because it can also arise from WINDFALL. [See CIR v. stocks/chickens to the BIR. This is why realization is a
Glenshaw & Murphy v. IRS]. requisite for income. WHEN YOU REALIZE it is a different
question.
Does it have to be severed from the capital before it is
considered as income? Q3.2. Are money received as damages income?
NO. Tax is subjected on the return of property/cancellation
of lease. The improvements by lessee in this case is a gain Yes. In COMMISSIONER V. GLENSHAW GLASS CO. [348 U.S.
on lessor. According to sir, you really have to look at the 426], Glenshaw Co was engaged in a protracted litigation with
convergence of all 4 elements. [Hevering v. Bruun] Hartford-Empire Co where the former demanded exemplary
damages for fraud and treble damages for injury to its business
Q3.1.1 Are stock dividends income or capital? by reason of the latter’s violation of federal antitrust laws. The
parties settled. Glenshaw did not report the money received as
Generally, stock dividends represent capital and do not damages from the settlement in its income tax return. The
constitute as income to its recipient. Mere issuance Commissioner assessed Glenshaw for the deficiency.
thereof is not yet subject to income tax as they are nothing Glenshaw contended that punitive damages, as windfalls
but an enrichment through increase in value of capital flowing from culpable conduct of third parties are not taxable
investment. Such are considered unrealized gain and income. The US Supreme Court held that money received as
cannot be subjected to income tax until that gain has been damages must be reported as they constitute income. The mere
realized. fact that such payments were extracted from wrongdoers cannot
detract from their character as taxable income. The Court also
stated that punitive damages cannot be classified as gifts.
As explained by the Supreme Court in FISHER V. TRINIDAD
[OCTOBER 30, 1922], when a corporation issues stock Segues into the 3rd requisite. There may be an instance
dividends, it shows that the corporation’s accumulated whereby those not considered as income will be such because
profits have been capitalized, instead of distributed to the
the law says they are.
stockholders or retained as surplus available for
distribution. The stockholder receives nothing out of the Tax Benefit Rule - if unable to collect, you may report it as loss.
corporate assets for his separate use and benefit but a But if after such report, you receive payment for the debt, it
representation of his increased interest in the capital of becomes income in your hands. In contrast, if you receive it
the corporation. The capital still belongs to the corporation before loss report, its neutral.
as there is no separation of interest.
It need not arise from capital (unlike madrigal/fisher case) or
Once “actually paid” in money, then does it become an labor, since gross income is defined as any source whatever.
income and thus taxable.
In MURPHY V. IRS [493 F.3d 170], the US Court of Appeals
However, stock dividends constitute as income if a (District of Columbia), held that the amount received as
corporation redeems stock issued so as to make a compensatory damages for emotional distress and loss of
distribution. 4 This is essentially equivalent to the reputation constitutes taxable income.
distribution of a taxable dividend the amount so
distributed in the redemption considered as taxable In CESARINI V US, the court held that even “found money” cannot
income. (see COMMISSIONER VS. MANNING [AUGUST 7, be exempt from tax. Treasure trove under the law is not the
1975]) same as gifts. The computation of income tax should be done
from the day of discovery.
*Inter-corporate dividends are subject to 0% tax.
In HORNUNG V CIR, the court explained that for gifts to be
The holder of stock dividend was not any poorer or richer exempted, the only requisite is that the gift should be given with
when he received stock dividends (realization). There is a motive beyond a “detached and disinterested generosity.
also the idea of severance from capital which has been

4
The exception to the rule that stock dividends do not constitute income shall be discussed more extensively later. Knowing that there is an exception
exists will suffice for now.
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3. Semi-Schedular or Semi Global Tax System –


Q3.3. What is the constructive receipt doctrine? where the tax system is either (a) global (e.g.
taxpayer with compensation income not subject
The constructive receipt doctrine provides than an item to final withholding tax or business or professional
is treated as income when it is credited to the account of income or mixed income – compensation and
the, or made unconditionally available to the, taxpayer; no business or professional income) or (b) schedular
physical possession is required. (e.g. taxpayer with compensation, capital gains,
passive income, or other income subject to final
Income is received not only when it is actually handed to withholding tax) or (c) both global and schedular
a taxpayer but also when it is merely constructively may be applied depending on the nature of the
received by him. In LIMPAN INVESTMENT V. CIR [JULY income realized by the taxpayer during the year.
26, 1966], the lessees opted to deposit their payments
when the lessor refused to accept the same in 1957. The Q4.2. How do you distinguish “schedular treatment”
lessor did not report these payments in his 1957 income from “global treatment” as used in income taxation?
tax return. The Supreme Court held that the failure to
report the said rental income is unjustified as, when the Under the schedular tax system, the various types of
payments were deposited, the lessor was deemed to income (i.e. compensation; business/professional
have constructive received such rentals. income) are classified accordingly and are accorded
different tax treatments, in accordance with schedules
Conversely, constructive receipt does not apply if there characterized by graduated tax rates. Since these types
are substantial limitations or restrictions present. of income are treated separately, the allowable
(HORNUNG V CIR) deductions shall likewise vary for each type of income.

Overview of the Philippine Income Tax On the other hand, under the global tax system, all
System income received by the taxpayer are grouped together,
without any distinction as to type or nature of the income,
Q4.What are the features of the Philippine tax and after deducting therefrom expenses and other
system? allowable deductions, are subjected to tax at a graduated
or fixed rate (see TAN VS. DEL ROSARIO [OCTOBER 3,
The Philippine tax system is: 1994]).
1. Direct-Direct taxes are those taxes wherein both
the tax liability as well as the impact or burden of Q4.3. What are the types of Philippine Income Tax
the tax falls on the same person (under Title II of the NIRC)?
2. Progressive- Progressive taxes are those taxes
imposed where the tax rate increases as the tax The types of Income tax under Title II of the NIRC are:
base increase 1. Graduated income tax on individuals
1. Semi-schedular, semi-global 2. Normal corporate income tax on corporations
3. Minimum corporate income tax on corporations
Q4.1. What are the kinds of income tax systems? 4. Special income tax on certain corporations (e.g.
private educational institutions, FCDUs, and
The types of income tax systems adopted are as follows: international carriers)
1. Global Tax System – where the taxpayer is 5. Capital gains tax on sale or exchange of unlisted
required to lump up all items of income earned shares of stock of a domestic corporation
during a taxable period and pay under a single classified as a capital asset
set of income tax rates on these different items of 6. Capital gains tax on sale or exchange of real
income. (Simply put, varying taxes are imposed property located in the Philippines and classified
on passive income) as a capital asset.
7. Final withholding tax on certain passive
2. Schedular Tax System – where there are investment incomes
different tax treatments of different types of 8. Fringe benefit tax
income so that a separate tax return is required 9. Branch profit remittance tax; and
to be filed for each type of income and the tax is 10. Tax on improperly accumulated earnings.
computed on a per return or per schedule basis.
(Simply put, one rate for all types of gross
income).

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PM REYES TAX 1: INCOME TAX // MONTERO Edited by: Napa - So

Definition of Terms Commissioner the fact of


his physical presence
Q5. Define the following terms: abroad with intention to
reside therein
3. Works and derives
In Section 22(A) to (I), (Z), (GG), and (HH), Tax Code:
income from abroad and
whose employment
Person An individual, a trust,
thereat requires him to be
estate or corporation
physically present abroad
Corporation Includes partnerships, no
most of the time during
matter how created or
the taxable year.
organized, joint-stock
4. Who has been previously
companies, joint accounts,
considered a non-
associations, or insurance
resident citizen and who
companies but does not
arrives in the Philippines
include general professional
at any time during the
partnerships and a joint
taxable year to reside
venture or consortium formed
permanently in the
for the purpose of undertaking
Philippines with respect
construction projects or
to his income derived
engaging in petroleum and
from sources abroad until
other energy operations
date of his arrival in the
pursuant to an operating
Philippines
agreement under a service
Ordinary Income Includes any gain from the sale
contract with the Government
or exchange of property which is
General Partnerships formed by
not a capital asset or property
Professional persons for the sole purpose of
described in Section 39(A)(1)5
Partnerships (GPP) exercising their common
profession, no part of the Resident An individual whose residence
income of which is derived alien is within the Philippines and who
from engaging in any trade or is not a citizen thereof
business Non- An individual whose residence is
Domestic When applied to a corporation, resident not within the Philippines and
Corporation means created or organized in Alien who is not a citizen thereof
the Philippines or under its
laws The 180 days is How to Determine if NRA
Foreign When applied to a corporation, counted on or RA:
Corporation means a corporation which is aggregated/ Relevant factors are: (1)
not domestic accumulated Duration and (2)
Non-resident The term means a citizen of basis Certainty/Definite Period
Citizen the Philippines: NRA Short and Definite
The difference 1. Who establishes to the RA Short and Indefinite
between RC and satisfaction of the RA Long and Definite
NRC is based on Commissioner the fact of RA Long and Indefinite
physical presence his physical presence Foreign Resident A foreign corporation engaged
and on the nature abroad with intention to Corporation in trade or business within the
of stay. reside therein Philippines
2. Who leaves the
Philippines during the
taxable year to reside
abroad either as an
immigrant or for Branch Not a separate
employment on a entity from the
permanent basis who head office. It is
establishes to the a mere
satisfaction of the

5
Which defines what capital assets are and those which are not
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PM REYES TAX 1: INCOME TAX // MONTERO Edited by: Napa - So

extension, you his trade or business) EXCEPT:


secure a 1. Stock in trade of the
registration taxpayer or other property
establishing the of a kind which would
branch. It is a properly be included in the
resident alien inventory of the taxpayer if
corporation on hand at the close of the
Subsidiary Organized as a taxable year
separate entity 2. Property held by the
from its parent taxpayer primarily for sale
corporation. The to customers in the
relationship is ordinary course of his trade
based on equity or business
or shareholding. 3. Property used in trade or
It is considered business of a character
as a domestic that is subject to allowance
corporation for depreciation
even if it is 4. Real property used in trade
100% owned by or business of the taxpayer
foreign Net Capital Gain The excess of the gains from
corporation sales or exchanges of capital
Statutory Refers to the rate fixed by the assets over the losses from such
Minimum Wage Regional Tripartite Wage and sales or exchanges
Productivity Boar, as defined Net Capital loss the excess of the losses from
by the Bureau of Labor and sales or exchanges of capital
Employment Statistics (BLES) assets over the gains from such
of DOLE. sales or exchanges
Minimum Wage A worker in the private sector
earner paid the statutory minimum Q6.What are the kinds of income taxpayers?6
wage or to an employee in the
public sector with The kinds of income taxpayers under Title II of the NIRC
compensation income of not are:
more than the statutory
minimum wage in the non- A. Individuals
agricultural sector where 1. Citizens (Section 24, NIRC)
a. Resident Citizens
he/she is assigned
b. Nonresident Citizens
In Section 31, 35(B), and 39(A), Tax Code: 2. Aliens
a. Resident Aliens (Section 24, NIRC)
Taxable Income The pertinent items of gross b. Nonresident Aliens (Section 25, NIRC)
Income less income specified in the NIRC
Exclusions =
i. Engaged in trade or business in
less the deductions and/or the Philippines
GROSS personal and additional
INCOME ii. Not engaged in trade or
exemptions, if any, authorized business in the Philippines
Gross Income less
Deductions less
for such types of income by 3. Estates and Trusts (Section 60, NIRC)
Exemptions = the NIRC or other special laws. a. Revocable trust
TAXABLE INCOME b. Irrevocable trust
B. Corporations
1. Domestic Corporations (Section 27, NIRC)
2. Foreign Corporations (Section 28, NIRC)
Capital Assets Property held by the taxpayer a. Resident foreign corporations
(whether or not connected with b. Nonresident foreign corporations

6
Before proceeding to income proper, it is important to know the transaction tax or 5%/10% capital gains tax on net capital gain whether
different kinds of taxpayers first. This is because in analyzing any the seller is an individual, citizen or alien or a corporation, domestic or
problem involving income taxation, the first thing to do is to determine foreign and (2) where the real property sold is a capital asset located in
who the taxpayer is. The only two exceptions where knowing the the Philippines which is subject to 6% capital gains tax.
taxpayer is immaterial are where the transaction involves sales of shares
of stock of a domestic corporation because it is subject to 1% of stock
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3. Partnerships No. 2, whether an alien is a transient or not is determined


a. Taxable partnership (Section 73(D), by his intentions with regard to the length and nature of
NIRC) his stay. A mere floating intention indefinite as to time, to
b. Exempt partnership return to another country is not sufficient to constitute him
i. General Professional as a transient. If he lives in the Philippines and has no
Partnership (Section 26, NIRC) definite intention as to his stay, he is a resident.8 One who
ii. Joint venture or consortium comes to the Philippines for a definite purpose, which in
undertaking construction activity its nature may be promptly accomplished, is a transient9
or engaged in petroleum But if his purpose is of such a nature that an extended
operations with operating stay may be necessary for its accomplishment, and to that
contract with the government end the alien makes the Philippines his temporary home,
he becomes a resident, although he intends to return to
Resident citizens and resident aliens his domicile abroad. 10
What are the factors to determine?
Q7.Who are citizens of the Philippines?7
1. Length
The following are considered citizens of the Philippines: 2. Intention
1. Those who are citizens of the Philippines at the 3. Nature of Stay
time of the adoption of the Consitution
2. Those whose fathers or mothers are citizens of Q8.2. When is the residence of an alien considered
lost?
the Philippines
3. Those born before January 17, 1973 of Filipino
RR 2 provides that an alien who has acquired residence
mothers, who elect Philippine Citizenship upon
in the Philippines retains his status as a resident until he
reaching the age of majority; and
abandons the same and actually departs from the
4. Those who are naturalized in accordance with Philippines. An intention to change his residence does
law not change his status as a resident alien to that of a
nonresident alien.
Q8.Who is a non-resident alien?

A non-resident alien is an individual whose residence is Non-resident citizens


within the Philippines and who is not a citizen thereof.
Q9.Who is a non-resident citizen?
Q8.1. How is the residency of an alien determined? The term “non-resident citizen” means a citizen of the
Philippines:
An alien is considered a non-resident if he stays here for 1. who establishes to the satisfaction of the
a definite short period of time. Commissioner the fact of his physical presence
abroad with intention to reside therein
An alien will be considered a resident if the stay here is 2. who is an one who leaves the Philippines during
either: the taxable year to reside abroad either as an
1. definite and extended; immigrant or for employment on a permanent
2. indefinite basis
3. who is one who works and derives income from
abroad and whose employment thereat requires
In GARRISON V. CA [JULY 19, 1990], in resolving the him to be physically present abroad most of
contention of US nationals that they cannot be considered the time11 during the taxable year.
resident aliens as they intend to go back to the US on 4. who has been previously considered a non-
termination of their employment in the Philippines, the resident citizen and who arrives in the Philippines
Supreme Court held that what the law requires is merely at any time during the taxable year to reside
physical or bodily presence in a given place for a period permanently in the Philippines with respect to
of time, not the intention to make it a permanent place of his income derived from sources abroad until
abode. date of his arrival in the Philippines
The Supreme Court further held that, as laid clearly in RR

7 9
To determine if the taxpayer is a resident citizen, just refer to the In other words, the stay is for a definite short period of time.
10
enumeration of what constitutes a non-resident citizen. In other words, the stay is definite but extended.
11
“most of the time” qualified in RR No. 01-79 to be 183 days in abroad
8
In other words, stay is indefinite
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(See Section 22E, NIRC and Section 2, RR No. 01- 79 Non-resident aliens engaged in business in
[January 8, 1979]) the Philippines
Q9.1. Should a non-resident citizen file an income tax
return or information return covering his income Q10. Who is a non-resident alien?
earned abroad? A non-resident alien is an individual:
No. Previously, under RR No. 01-79, non-resident citizens 1. whose residence is not within the Philippines;
were required to do so. In RR No. 9-99, non- resident and
citizens were required to file an information return. 2. who is not a citizen thereof
However, under RR 05-01 [July 31, 2001], non-resident
citizens are no longer required to file the same on Q10.1. How do you determine if a non-resident alien
their income derived from sources outside the is engaged in trade or business?
Philippines.
Once a taxpayer is determined to be a non-resident alien,
Q9.2. What is meant by the phrase “most of the time” the test to determine whether the alien is a non-resident
as used in determining whether a citizen who derives alien engaged in trade or business is whether his total
income from abroad and is physically present abroad aggregate stay for a taxable year exceeds 180 days.
is a non-resident?

RR No. 01-79 states that to be physically present abroad Corporations


most of the time during the taxable year, a contract worker Q11. Differentiate the kinds of corporate taxpayers.
must have been outside the Philippines for not less than A corporation is itself a taxpaying entity and speaking
183 days during such taxable year. (aggregate # days) generally, for purposes of income tax, corporations are
classified into (a) domestic corporations and (b) foreign
The 183 day qualification is only to qualify the “most of the corporations. Foreign corporations are further classified
time” requirement BUT this is not solely controlling. into (1) resident foreign corporations and (2) non-
RATHER Section 22. This applies to a citizen who needs resident foreign corporations.
to be abroad for the most time but not a contract worker.
If you show intent that you want to leave the country (i.e. A domestic corporation is one created or organized in
being registered as an immigrant) the moment you leave the Philippines or under its laws. A foreign corporation
the Philippines, you are considered an NRC whether or is one created or organized under the laws of a foreign
not you prove the requisites. country.
Note: As can be seen from the wording of RR No. 01-79, A resident foreign corporation is a foreign corporation
“most of the time” applies to a contract worker. In BIR engaged in trade or business within the Philippines or
Ruling 33-00 [September 5, 2000], however, the CIR having an office or place of business therein. A non-
held that for overseas contract workers, the time spent resident foreign corporation is a foreign corporation not
abroad is not material as all that is required is for the engaged in trade or business within the Philippines and
worker’s employment contract to pass through and be not having any office or place of business therein.
registered with the POEA.
A domestic corporation is taxed on its income from
Q.9.3. If a natural-born Philippine citizen who became sources within and without the Philippines, but a foreign
a citizen of the United States is later on granted corporation is taxed only on its income from sources
Philippine dual citizenship under RA 9225, is he within the Philippines. However, while a foreign
required to pay taxes for income earned in the United corporation doing business in the Philippines is
States? taxable on income solely from sources within the
Philippines, it is permitted to deductions from gross
No. In BIR Ruling DA-095-05 [March 29, 2005], the CIR income but only to the extent connected with income
held that such a person would be a non-resident citizen, earned in the Philippines. On the other hand, foreign
and hence, will not be required to pay Philippine tax for corporations not doing business in the Philippines
income earned in the United States. are taxable on income from all sources within the
Philippines, as interest, dividends, rents, salaries, wages,
Dual citizens are treated as non-resident citizens of the premiums, annuities Compensations, remunerations,
Philippines emoluments, or other fixed or determinable annual or
periodical or casual gains, profits and income and capital
gains.” (see N.V. REEDERIJ “AMSTERDAM” VS. CIR [JUNE 23, 1988])
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Q12. Is a partnership liable for income tax? To simply put it, the difference between co-ownership and
unregistered partnership: (1) Common Fund, (2) Intent to
Yes. The term “corporations” includes partnerships, no divide profits, and (3) Habituality.
matter how created or organized.

Q12.1. Is a GPP liable for income tax? Q.12.2.2. A group of insurance companies in the
Philippines decided to form a pool and entered into a
No. A GPP is not considered a taxable entity for income reinsurance treaty with a non-resident reinsurance
tax purposes. Section 26 of the NIRC provides that company. Is such a pool subject to corporate taxes
persons engaging in business as partners in a GPP shall and withholding taxes on dividends paid to the non-
be liable for income tax only in their separate and resident reinsurance company?
individual capacities computed on their respective
distributive shares of the partnership profit. Yes. Where several local insurance ceding companies
enter into a Pool Agreement or an association that would
Q12.2. Distinguish between a GPP and an ordinary handle all the insurance businesses covered under their
business partnership. quota-share reinsurance treaty and surplus reinsurance
treaty with a non-resident foreign reinsurance company,
A general professional partnership, unlike an ordinary the resulting pool having a common fund, and functions
business partnership (which is treated as a corporation for through an executive board and its work is indispensable,
income tax purposes and so subject to the corporate beneficial and economically useful to the business of the
income tax), is not itself an income taxpayer. The income ceding companies and the foreign firm, such
tax is imposed not on the professional partnership, which circumstances indicate a partnership or an association
is tax exempt, but on the partners themselves in their taxable as a corporation (see AFISCO INSURANCE
individual capacity computed on their distributive shares CORPORATION VS. CIR [JANUARY 25, 1999])
of partnership profits (see CARAG, CABALLES,
JAMORA AND SOMERA LAW OFFICES VS. DEL Q12.2.3. A and B inherited properties. They did not
ROSARIO [OCTOBER 3, 1994]) partition the same and instead invested them to a
common fund and divide the profits therefrom.
Q12.2.1. A and B, co-owners, bought 3 parcels of land Should they be classified as an unregistered
in one transaction and bought 2 more parcels of land partnership subject to corporate income tax?
in another. They decided to sell the 3 parcels to C and Yes. The income from inherited properties may be
the 2 parcels to D. They realized a net profit gain and considered as individual income of the respective heirs
paid CGT. CIR assessed them for deficiency only as long as the inheritance or estate is no distributed,
corporate income tax. Is the co-ownership taxable as or, at least, partitioned. But the moment their respective
a corporation? known shares are used as part of the common assets of
No. A Co-Ownership who own properties which produce heirs to be used in making profits, it is but proper that the
income should not automatically be considered partners income from such shares should be considered as part of
of an unregistered partnership, or a corporation, within the the taxable income of an unregistered partnership. (see
purview of the income tax law. The essential elements of ONA V. CIR [MAY 25, 1972]).
a partnership are two, namely: Q12.3. Are joint ventures taxable?

(a) an agreement to contribute money, property or Generally, Yes. However, a joint venture or consortium
industry to a common fund; and undertaking construction projects or engaged in
(b) intent to divide the profits among the contracting petroleum operations with an operating contract with
parties. Here, there is no evidence that petitioners entered the government are not liable for income tax.
into an agreement to contribute money, property or
industry to a common fund, and that they intended to
divide the profits among themselves. The sharing of
returns does not in itself establish a partnership whether
or not the persons sharing therein have a joint or common
right or interest in the property.
There must be a clear intent to form a partnership, the existence
of a juridical personality different from the individual partners,
and the freedom of each party to transfer or assign the whole
property. (see OBILLOS v. CIR [OCTOBER 29, 1985] and
PASCUAL V. CIR [OCTOBER 18, 1988]).

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Q12.3.1. What are the requirements in order for a joint Income13


venture formed for construction purposes be not
liable for income tax?
Statutory Inclusions
In RR No. 010-12 [JUNE 1, 2012], a joint venture or
consortium formed for the purpose of undertaking Q13.What are deemed included in (gross) income?
construction projects which is not considered as a taxable All income derived from whatever source, including,
corporation should be: but not limited to, the following items:
1. Compensation for services in whatever form paid,
1. For the undertaking of a construction project; including, but not limited to fees, salaries, wages,
2. Should involve joining or pooling of resources
commissions and similar items;
by licensed local contractors, licensed by the 2. Gross income derived from the conduct of trade
Philippine Contractors Accreditation Board
or business or the exercise of a profession;
(PCAB) of the DTI; 3. Gains derived from dealings in property
3. The local contractors are engaged in 4. Interests
construction business; 5. Rents
4. The joint venture itself must likewise be duly 6. Royalties
licensed as such by the PCAB
7. Dividends
8. Annuities
Absent one of the requirements, the joint venture formed 9. Prizes and winnings
for construction purposes shall be considered a taxable
10. Pensions; and
corporation.
11. Partner’s distributive share from the net
income of the GPP
Q12.3.2. May joint ventures involving foreign
contractors be treated as a non-taxable corporation?
Note: Section 78 states that specific types of payment are
not considered as taxable income (i.e. domestic labor)
Yes, provided that the member foreign contractor is:
(see Section 32(A), NIRC)14
1. covered by a special license as contractor by
the PCAB; and
Q13.1. Is the enumeration provided in Section
2. construction project is certified by the
32(A) exclusive?
appropriate government office as a foreign
financed/internationally-funded project and that No. Section 32(A) does not intend the enumeration to be
international bidding is allowed under the bilateral exclusive. It merely directs that the types of income listed
agreement between the Philippine government; therein be treated as income from sources within the
and foreign/international financing institution Philippines (see CIR VS. AMERICAN AIRLINES [DECEMBER
19, 1989])
Q12.3.3. Two local contractors entered into a joint
development agreement to construct a residential
subdivision. One local contractor shall contribute the Compensation for services
parcel of land while the other shall contribute the Q13.2. If an employer pays the income taxes
construction and development of the parcel of land assessable against an employee, is the payment by
into a subdivision. Each shall receive an allocation of the employer taxable income on the part of the
saleable house and lot units from the project. Is the employee? What is being taxed is the employee-
joint venture liable for income tax? employer relationship.
No. In BIR Ruling No. 108-2010 [October 19, 2010],12
Yes. In OLD COLONY TRUST CO. V. COMMISSIONER [279 U.S.
involving a joint venture between Avida and Aurora, the 716], the US Supreme Court held that the payment of the tax by
CIR held that the joint development agreement between the employer was in consideration of services rendered by the
the two is not subject to income tax because joint ventures employee. The payment constituted income to the employee.
formed by local contractors for construction purposes are The Court also added that it cannot be argued that the payment
deemed as not falling under the definition of a taxable was a gift. The payment for services, even though voluntary, was
corporation. nevertheless compensation for services rendered.

12
It is also important to note in this BIR Ruling that the CIR held that the into what is included in the term “income” and what is excluded therefrom.
14
allocation of saleable units does not constitute as a taxable event as no The above answer is the definition of gross income. This will be
income is actually realized by Avida or Aurora. discussed in greater detail later. For now, we focus on determining
13
Previously, we looked into the types of taxpayers. Now, before what is considered income and what is not considered income or
proceeding to general principles and source of income rules, let us look excluded therefrom.
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Rents Q13.6.1. What is the exception to the rule


that stock dividends are not subject to
Q13.3. Are improvements made by lessees income tax?
taxable as income on the part of the lessor?
Stock dividends constitute as income if a corporation
Yes, provided the such buildings or improvements are not redeems stock issued so as to make a distribution. This
subject to the removal by the lessee. The lessor may is essentially equivalent to the distribution of a taxable
either: dividend the amount so distributed in the redemption
(1) report the improvements as income at the time when considered as taxable income. (see COMMISSIONER VS.
such improvements are completed based on its fair market MANNING [AUGUST 7, 1975])
value; or
(2) spread the life of the lease the estimated depreciate The redemption converts into money the stock dividends
value of the improvements at termination of the lease and which become a realized profit or gain and consequently,
report as income for each year of the lease an aliquot part the stockholder's separate property. Profits derived
thereof (Section 49, RR No. 2) from the capital invested cannot escape income tax. As
realized income, the proceeds of the redeemed stock
Q13.3.1. Should the improvement be dividends can be reached by income taxation regardless
capable of being separated from the land in of the existence of any business purpose for the
order to be considered a taxable gain? redemption. (see CIR VS. CA [JANUARY 20, 1999])

No. The US Supreme Court in HELVERING V. BRUUN [309 As provided in Section 252, RR No. 2: A stock dividend
US 461] stated that it is not necessary to recognition of constitutes income if its gives the shareholder an interest
taxable gain that the lessor be able to sever the different from that which is former stock holdings
improvement begetting the gain from his original capital. represented. A stock dividend does not constitute income
if the new shares confer no different rights or interests that
Dividends did the old.

Q13.4. What are dividends? Q13.7. Are liquidating dividends subject to income
tax?
The term “dividends” means any distribution made by a
corporation to its shareholders out of its earnings or Yes. Where a corporation distributes all of its property or
profits and payable to its shareholders, whether in money assets in complete liquidation or dissolution, 16 the gain
or in other property.15 Mere issuance/declaration of stock realized from the transaction by the stockholder, whether
dividends doesn’t result to an income. individual or corporate, is taxable income or a deductible
loss,17 as the case may be.20
Q13.5. Are property dividends taxable?
Previously, the CIR has ruled in BIR RULING 039-02
Yes. As provided in Section 251, RR No. 2, dividends [NOVEMBER 11, 2002] and other previous rulings that
paid in securities or other property (other than its own the transfer by a liquidating corporation of its remaining
stock), in which the earnings of a corporation have been assets to its stockholders and the receipt of the shares
invested, are income to the recipients to the amount of surrendered by the shareholder are not subject to income
the full market value of such property when receivable by tax. However, in BIR RULING 479-11 [DECEMBER 5,
individual stockholders. 2011], the CIR reversed and set aside the above- cited
Q13.6. Are stock dividends subject to ruling and all previous rulings to that effect. The rule now
income tax? is that they are subject to income tax.

No. As discussed earlier, a stock dividend only Basically, all liquidation whether inter-corporate or extra-
represents the transfer of surplus to capital account and, corporate then taxable.
as such, is not subject to income tax.

15 17
If in money, it is called a cash dividend. If it is in property, it is called If the amount received by the stockholder in liquidation is less than
a property dividend. the cost or other basis of the stock, the loss in the transaction is
16
There must be a bona fide plan of liquidation involving the transfer of deductable.
all assets.
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“From whatever source” 1. Liability


2. Debtors holds property. (e.g. the chips don’t
Q13.8. What is meant by the phrase “all income represent property. It is only an accounting
derived from whatever source" mechanism)
The phrase “all income derived from whatever source”
encompasses all accessions to wealth, clearly realized, Inventories
and over which the taxpayers have complete dominion. A
gain constitutes taxable income when its recipient has Q13.9. Explain the use of inventories to determine the
such control over it that as a practical matter, he derives income of a taxpayer.
readily realizable economic value from it.
For certain businesses, the use of inventories may be
Q13.8.1. Is an unlawful gain subject to income tax? deemed necessary in order to determine clearly the
Yes. In JAMES V. US [366 US 213], the Supreme Court income of a taxpayer. If such is the determination, the
ruled that embezzled money constitutes gross income. It taxpayer shall take inventories upon such basis as the
opined that unlawful, as well, as lawful gain are Secretary of Finance, upon recommendation of the CIR,
comprehended within the term “gross income.” The Court may prescribe as conforming as nearly as may be to the
has given a liberal construction to “gross income” in best accounting practice in the trade or business and as
recognition of the intent of Congress to tax all gains most clearly reflecting the income.
except those specifically exempted.
Q13.9.1. Is there a particular method of valuing
This case shows the validity of the element of complete inventory that a taxpayer should follow?
dominion.
The Tax you paid for embezzled income is non- No. The taxpayer may choose the method of valuing its
refundable. inventory for any taxable year, and such method should
be used in all subsequent years unless:
What prevails is actual benefit and actual command
1. With the approval of the CIR, a change to a
Q13.8.2. May cancellation or forgiveness of different method is authorized; or
indebtedness amount to a gain subject to income 2. The CIR finds that the nature of the stock on
tax? hand is such that inventory ains should be
considered realized for tax purposes and therefore it
Yes. If, for example, an individual performs services for a is necessary to modify the valuation method.18
creditor, who, in consideration thereof cancels the debt,
income to that amount is realized by the debtor as Thus, in BIR RULING DA-128-08 [AUGUST 11, 2008],
compensation for his services. (see Section 50, RR No. Pilipinas Shell requested to change its valuation method
2).21 from the Weighted Average Method (WAVE) to the First-
In-First-Out (FIFO) to conform with the adoption by a new
Q13.8.3. Should taxes previously claimed and computerized accounting system based on the Global
allowed as deductions but subsequently refunded or Systems Application and Product Data Processing
granted as tax credit be considered part of gross (GSAP) by its parent company and its affiliates, including
income? Pilipinas Shell. They system uses FIFO. The CIR
Yes. RMC No. 13-80 [April 10, 1980] provides that taxes approved the shift to FIFO noting that the WAVE method
previously claimed and allowed as deductions but is no longer compatible with the new accounting system
subsequently refunded or granted as tax credit should be to be introduced and to be consistent with the inventory
declared as part of the gross income of the taxpayer in method used by its parents company and affiliates all over
the year of receipt of the refund or tax credit. However, the world.
taxes which are not allowable as deductions, when
refunded or credited, are not declarable for income tax
purposes.22

Gambler lost 3.4M but was only required to pay 0.5M. Is


there taxable income in his hands? No. The US-SC is not
income.

For discharge of debt to be applicable:

18
The CIR shall not exercise this authority more often than every 3 years
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Exclusions RA 7641 and those received by


officials and employees of private
Q14. What are “exclusions?” firms, whether individual or corporate, in
accordance with a reasonable private
The term “exclusions” refers to items that are not included benefit plan 21 maintained by the
in the determination of gross income because: employer provided
1. They represent return of capital or are not i. that the retiring official or
income, gain or profit (e.g. life insurance) employee has been in the
2. They are subject to another kind of internal service of the same employer for
revenue tax (e.g. gifts, bequests, devices) at least ten (10) years and is not
3. They are income, gain or profits that are less than fifty (50) years of age at
expressly exempt from income tax under the the time of his retiremen
Constitution, tax treaty, Tax Code, or general or ii. That the benefits granted shall
special law. (e.g. PEZA) be availed by an official
employee only once.
Q15. What are deemed excluded from (gross) b. Any amount received by an official or
income? employee or by his heirs from the
employer as a consequence of
As provided in Section 32(B), NIRC, the following items separation of such official or employee
shall not be included in gross income and shall be exempt from the service of the employer because
from income tax of death sickness or other physical
disability or for any cause beyond the
1. Proceeds of life insurance, 19 payable upon control of the said official or employee.
the death of the insured to the heirs or c. The provisions of any existing law to the
beneficiaries, but not the interest payments contrary notwithstanding, social
thereon if such amounts are held by the insurer security benefits, retirement
under an agreement to pay interest. gratuities, pensions and other similar
2. Amounts received by the insured as return benefits received by resident or non-
of premiums paid under life insurance, resident citizens of the Philippines or
endowment or annuity contracts, either during aliens who come to reside permanently
the term or at the maturity of the contract or in the Philippines from foreign
upon the surrender thereof. government agencies and other
3. Gifts, bequests, and devises 20 but not the institutions, private or public.
income from such property; if the amount d. Payments of benefits due or to
received is on account of services rendered become due to any person (residing in
whether constituting a demandable debt or not the Philippines) under the laws of the
such as remuneratory donations or the use or United States administered by the
opportunity or use of capital, the receipt is United States Veterans Administration.
income. e. Benefits received from or enjoyed
4. Compensation for injuries or sickness under the Social Security System in
whether by suit or agreement including accordance with the provisions of
amounts received through accident or health Republic Act No. 8282.
insurance or under the Workmen’s f. Benefits received from the GSIS under
compensation Act, but not damages or Republic Act No. 8291, including
compensation recovered for loss of profit in loss retirement gratuity received by
or damage to property which would be taxable government officials and employees.
5. Income exempt under treaty binding upon the 7. Miscellaneous items, likewise exempt,
Government of the Philippines. including:
6. Certain retirement benefits, pensions, a. Income of foreign governments or
gratuities, more particularly: financing institutions owned, controlled
a. Retirement benefits received under or enjoying refinancing from such foreign

19
It is considered as indemnity rather than income made by such employer for the officials or employees, or both, for the
20
They are instead subject to estate or gift taxes (see PIROVANO VS. purpose of distributing to such officials and employees the earnings
COMMISSIONER [JULY 31, 1965]) and principal of the fund thus accumulated, and wherein its is provided
21
Reasonable private benefit plan means a pension, gratuity, stock in said plan that at no time shall any part of the corpus or income of the
bonus or profit-sharing plan maintained by an employer for the benefit fund be used for, or be diverted to, any purpose other than for the
of some or all of his officials or employees, wherein contributions are exclusive benefit of the said officials and employees.
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governments and of international or contributions and union dues of


regional financial institutions established individuals
by foreign governments from their g. Gains from the sale of bonds, debentures
passive investments in the Philippines or other certificate of stock in a mutual
b. Income of the Philippine government company.
and its political subdivisions derived
from public utilities or in the exercise of Also, under Section 33(C), NIRC, the following fringe
essential governmental functions benefits22 are not taxable:
c. Prizes and awards made primarily in 1. Fringe benefits authorized and exempted
recognition of religious, charitable, from tax under special laws;
scientific, educational, artistic, literary or 2. Contributions of the employer for the benefit of
civic achievement but only if: the employee to retirement, insurance and
• The recipient was selected hospitalization plans;
without any action on his part 3. Benefits given to rank and file employees,
to enter the contest or whether granted under a CBA or not;
proceedings; and 4. De minimis benefits.
• The recipient is not required
to render substantial future Retirement benefits
services as a condition to
receiving the prize or award Q15.1. What are the requirements to exempt
d. All prizes and wards granted to retirement benefits from income tax?
athletes in local and international sports
competitions whether held in the For the retirement benefits to be exempt from income tax,
Philippines or abroad. Manny pacquiao is the taxpayer is burdened to prove the concurrence of the
not exempt under his “prizes” are following elements:
contractual 1. a reasonable private benefit plan is maintained
e. Gross benefits received by officials by the employer;
and employees of public and private 2. the retiring official or employee has been in the
entities provided, however, that the total service of the same employer for at least ten
exclusion shall not exceed P30,000 (10) years;
which shall cover: 3. the retiring official or employee is not less than
• Benefits received by officials and fifty (50) years of age at the time of his
employees of the national and retirement; and
local government pursuant to RA 4. the benefit had been availed of only once
6686 5. The retirement plan must be submitted to and
• Benefits received by employees approved
pursuant to PD 851 INTERCONTINENTAL BROADCASTING
CORPORATION V AMARILLA [OCTOBER 29,
• Benefits received by officials and
2006])
employees not covered by PD
851
Q15.2. An employer maintains an employees’ trust to
• Other benefits such as provide retirement, pension, disability benefits to its
productivity incentives and employees. The trust made investments and earned
Christmas bonus provided that therefrom interest income. Is it proper to subject the
the ceiling of P30,000 may be interest income to withholding tax?
increased through the rules and
regulations issued by the No. As held by the Supreme Court in CIR V. CA & GCL
Secretary of Finance, upon RETIREMENT PLAN [MARCH 23, 1992], said retirement
recommendation of the benefits received by officials and employees of private
Commissioner, after firms in accordance with a reasonable private benefit
considering, among others, the maintained by the employer shall be exempt from all
effect on the same of the inflation taxes.
rate at the end of the taxable
year.
f. GSIS, SSS, Medicare and Pag-ibig

22
Fringe benefits means any goods, service or other benefit furnished (except rank and file employees). This will discussed more later.
or granted in cash or in kind by an employer to an individual employee
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Q15.3. A government employee, retired from service. for the loan from one of its government financing
Upon retirement, he received, among other benefits, institutions. Is the interest income from the loans
terminal leave pay which the CIR withheld a portion automatically exempt from withholding tax?
allegedly representing income tax thereon. Is
terminal leave pay considered part of gross income No. As held in CIR V. MITSUBISHI METAL CORPORATION
of the recipient? [JANUARY 22, 1990], the burden of proof rests upon the
party claiming an exemption to prove that it is in fact
No. In COMMISSIONER OF INTERNAL REVENUE VS. CA & covered by the exemption. In the said case, the Supreme
EFREN CASTANEDA [OCTOBER 17, 1991], the Supreme Court found that the foreign government financing
Court held that terminal leave pay received by a institution had nothing to do with the sales and loans
government official or employee is not subject to agreement. It is the foreign corporation, not the foreign
withholding (income) tax. The rationale behind the government financing institution that is the sole creditor of
employee’s entitlement to an exemption from withholding the domestic corporation.
tax on his terminal leave is that commutation of leave
credits, more commonly known as terminal leave, is De Minimis/PERA
applied for by an officer or employee who retires, resigns
or is separated from the service through no fault of his Q15.6. What are de minimis benefits?
own. In the exercise of sound personnel policy, the
Government encourages unused leaves to be As defined by RR 3-98 [MAY 21, 1998], de minimis
accumulated. Terminal leave payments are given not benefits are benefits of relatively small value offered or
only at the same time but also for the same policy furnished by the employer to his/her employees as a
considerations governing retirement benefits. In fine, not means of promoting the health, goodwill, contentment,
being part of the gross salary or income of a government efficiency of his/her employees. These benefits are
official or employee but a retirement benefit, terminal exempt from the withholding tax on compensation
leave pay is not subject to income tax. (see RE: income, and consequently from income tax, regardless of
REQUEST OF ATTY. BERNANDINO ZIALCITA [OCTOBER 18, whether or not the recipients of the benefits are
1990]).]) managerial or rank-and- file employees.

Q15.4. Are contributions to SSS, GSIS, PHIC and Q15.6.1. What are deemed de minimis benefits?
Pag-Ibig in excess of the mandatory
contributions subject to income tax? As provided in RR No. 005-11 [March 16, 2011], as
amended recently by RR No. 008-12 [MAY 11, 2012], the
Yes. Previously, SSS, GSIS, PHIC and Pag-Ibig following shall be considered de minimis benefits not
contributions in excess of the mandatory contributions subject to income tax as well as withholding tax on
were considered exempt from income tax. However, compensation income of both managerial and rank and
because it was deemed to have been abused and the file employees:
excess contributions are being made as a form of
investment, RMC No. 027-11 [JULY 1, 2011] now 1. Monetized unused vacation leave credits of
considers the excess contributions as not excludible private employees not exceeding ten (10) days
from gross income and not exempt from income and during the year;23
withholding tax. 2. Monetized value of vacation and sick leave
credits paid to government officials and
Income derived by foreign government employees;24
3. Medical cash allowance to dependents of
Q15.5. A domestic corporation entered into a loan and employees, not exceeding P750 per employee
sales contract with a foreign corporation where the per semester or P125 per month; 25
latter shall extend a loan to the former and the former 4. Rice subsidy of P1,500 or one (1) sack of 50 kg.
shall sell to the latter all copper concentrates to be rice per month amounting to not more than
produced from the machine to be purchased using P1,500;26
the loaned amount. The foreign corporation applied 5. Uniform and clothing allowance not exceeding
P5,000 per annum;27

23
This was included in RR 3-98 and in RR 8-00 [August 21, 2000] but 50kg of rice. This was increased by RR 5-2008 [APRIL 17, 2008] to
referred to employees in general. RR No. 005-11 [March 16, 2011] P1,500.
27
specifically provided “private” employees. RR 3-98 did not provide for an amount. RR 8-00 [August 21,
24
Introduced by RR 10-00 [December 14, 2000] 2000] provided for an amount of P3,000. RR No. 005-11 [March 16,
25
Provided under RR 3-98 and RR 8-00 [August 21, 2000] 2011] provided for an amount of P4,000. This was again increased by
26
Under RR 3-98, the amount was P350. RR 8-00 [August 21, 2000] RR No. 008-12 [MAY 11, 2012] to P5,000.
increased this to P1,000 and added the alternative 1 sack of
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6. Actual medical assistance, e.g. medical Equity and Retirement Act (PERA) assets subject to
allowance to cover medical and healthcare income tax?
needs, annual medical check-up, maternity
assistance, and routine consultations, not No. As provided in RR No 017-11 [OCTOBER 27, 2011],
exceeding P10,000 per annum;28 implementing the tax provisions of RA 9505, otherwise
7. Laundry allowance not exceeding P300 per known as the Personal Equity and Retirement Account
month;29 (PERA) Act of 2008, investment income of a contributor
8. Employees achievement awards, e.g. for length consisting of all income earned from the investments and
of service or safety achievement, with an reinvestments of his PERA assets in the maximum
annual monetary value not exceeding amount allowed shall be exempt from the following taxes
P10,000;30 as may be applicable:
9. Gifts given during Christmas and major
anniversary celebrations not exceeding P5,000 1. Final withholding tax on interest from any
per employee per annum;31 currency bank deposit, yield or any other
10. Daily meal allowance for overtime work and monetary benefit from deposit substitutes and
night/graveyard shift not exceeding 25% of the from trust funds and similar arrangements,
basic minimum wage per region basis.32 including a depository bank under the EFCDS;
2. Capital gains tax on the sale, exchange,
Alternative Memory Aid for De Minimis Enumeration: retirement or maturity of bonds, debentures or
(RUMMMCOLA-CBA) other certificates of indebtedness;
1. Rice Subsidy 3. 10% tax on cash and/or property dividends
2. Uniform and clothing allowance actually or constructively received from a
3. Medical cash allowance domestic corporation, including a mutual fund
4. Monetized unused vacation leave for company;
private employees 4. Capital gains tax on the sale, barter, exchange,
5. Monetized unused value of vacation and or other disposition of shares of stock in a
sick leave credits paid to government domestic corporation;
officials and employyes
6. Christmas Gifts
7. Overtime work pay for daily meal
allowance
8. Laundry allowance
9. Awards/Achievements to employments
10. Collect Bargaining Agreement benefits

Train Law Amendment: Amount of exempt 13th


month pay and other bene ts is increased to
PHP90,000.

Q15.6.2.Is the enumeration of de minimis benefits


exclusive?
Yes. As provided in RR No. 005-11 [March 16, 2011], all
other benefits given by employers which are not included
in the enumeration shall not be considered de minimis
benefits, and, hence, shall be subject to income tax as
well as withholding tax on compensation income.

Q15.7. Is income earned by a contributor from the


investments and reinvestments of his Personal

28
RR 3-98 simply said “medical benefits” with no corresponding P10,000
31
amount. RR 8-00 [August 21, 2000] provided the amount of P10,000 RR 3-98 did not provide for a ceiling amount. RR 8-00 [August 21,
as the ceiling. 2000] introduced the P5,000 ceiling.
29 32
RR 3-98 provided for an amount of P150. RR 8-00 [August 21, 2000] Introduced by RR 8-00 [August 21, 2000].
increased it to P300.
30
RR 3-98 provided for a ceiling of ½ month of the basic salary of the
employee. RR 8-00 [August 21, 2000] changed the ceiling amount to
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General Principles Source of Income Rules33


Q16. What are the general principles of income
taxation in the Philippines (Section 23, Title II, NIRC)? Q17. What is meant by “source of income”?

Except as otherwise provided in this Code, the general The source of an income is the property, activity or service
principles are: that produced the income. It is the physical source where
the income came from. (see CIR VS. BAIER-NICKEL
Resident Citizen taxable on all income derived [AUGUST 29, 2006]).
from sources within and outside
the Philippines You need to know first know what type of income you
Non-Resident taxable only on income derived have then the source and whether it would be taxable in
from sources within the the Philippines or not.
Citizen
Philippines [By definition of a
non-resident citizen, this Q18. What are the source of income rules in the
applies to an overseas contract Philippines? (Section 42, Title II, NIRC)
worker (a citizen working and
deriving income from abroad)] Interests The source of an interest
Alien (whether taxable only on income derived payment is the place of
resident or from sources within the residence of the person
Philippines. Whether or not obligated to make that
non-resident)
engaged in trade and business payment (residence-of-the-
in the Philippines. (Always obligor rule).
withint_
It is income within the
Domestic taxable on all income derived Philippines if the residence of
corporation from sources within and outside the obligor is in the
the Philippines Philippines.
Foreign taxable only on income derived
corporation from sources within the It is income without the
Philippines Philippines if the residence
(This applies whether the of the obligor is abroad.
foreign corporation is engaged
or not in trade or business in the Dividends Generally, a dividend has its
Philippines) source in the country where
• Simply put, only resident citizens and domestic the corporation paying the
corporations are taxable on their worldwide dividend is incorporated.
income
Thus, if the dividend is
o while the other types of individual and received from a domestic
corporate taxpayers are taxable only on corporation, it is income
income derived from sources within the within the Philippines. If the
Philippines. dividend is from the foreign
• Additionally, it must be noted that only a non- corporation, it is income
resident alien not engaged in trade or without the Philippines.
business in the Philippines and non-resident
foreign corporations are taxed on gross The exception to the
income general rule that dividends
paid by a foreign
o while all other types of taxpayers are corporation are from
subject to tax on net income (i.e. may sources without the
claim deductions). Philippines is when a
foreign corporation derives

33
For the source of income rules, my reference IS MICHAEL J. is warranted. The rules are applicable as they are based on the US Tax
MCINTYRE, INTERNATIONAL TAX: TEXT, CASES, PROBLEMS, AND Code, of which our own tax laws are modeled after.
QUESTIONS (2013). Most, if not all, of our tax books fail to sufficiently
explain source of income rules and, thus, recourse to a foreign material
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50 percent of its gross Thus, it is income within the


income from sources within Philippines if the real
the Philippines for a three- property is located in the
year period ending with the Philippines. It is income
close of its taxable year without if the real property is
preceding the declaration of located abroad.
its dividends
Sale Sale of Personal The income from the sale of
Services Income from services is Property personal property has its
sourced in the country where source in the country where
the services are performed. the personal property is
sold.35
Thus, it is income within the
Philippines if the service is Thus, if the personal
performed in the property is sold in the
Philippines. It is income Philippines, it is income
without the Philippines if it within the Philippines. If
is performed abroad. sold abroad, it is income
without the Philippines.
Rents¬ and The rental income and
Royalties royalty income derived from Note that gains from sale of
the use of property has its shares of stock of a
Royalties – source in the country where domestic corporation are
You pay the tax the property is used. treated as derived entirely
depending where the from sources within the
capital in usedl For tangible property, the Philippines regardless of
So if you use the place of use is the place where the said shares are
intellectual property where the tangible property sold.
here – construct the is actually located.
design here then Summary:
you have to pay Thus, it is income within the 1. Interest – where the obligor is
taxes here. Philippines if rents and 2. Dividends – only when domestic corporation
royalties are derived from declares it
property located in the • Exception: When a foreign corporation
Philippines derives 50% of its gross income from
sources within the Philippines for a 3-
For intangible property, the year period.
country of use is the country 3. Services – where the services are performed
that protects the owner of 4. Rents and Royalties – where it is used
that property against its 5. Real Property Sale – where the property is located
unauthorized use by other 6. Personal Property sale – where it is sold, unless
persons.34 shares of stock of domestic treated as within PH
Q18.1. In CIR v. MARUBENI [DECEMBER 18, 2001],
Thus, it is income within the
Philippines if it is used in the assuming that Marubeni was disqualified from
Philippines and the availing of the income tax amnesty, would the income
unauthorized use of such from the services rendered in connection with the
intangible property is turn-key projects constitute as income from
protected by Philippine law. Philippine sources?
Sale Sale of Real Income from the sale of real The answer is both yes and no. The answer is yes with
Property property is sourced in the regard to those services performed in the Philippines. The
country where the real answer is, however, no with regard to those services
property is located. rendered in Japan. Such services were rendered outside
the taxing jurisdiction and thus constitute as income

34
This is the generally accepted rule. sourced in the country where the seller is resident (residence- of-the-
35
In the US, the rule is that income from sale of personal property is seller rule)
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without the Philippines. Marubeni, being a foreign “Management Service Agreement” with XYZ, a non-
corporation, is taxable only on income within the resident foreign corporation under which the latter
Philippines and, hence, income from services rendered in shall provide services for ABC’s US branch and
the Philippines. advice on ABC’s corporate structure, all performed
abroad. Is the compensation for services taxable as
income from sources within the Philippines?
Q18.2. ABC Airways is a foreign airline.36 While it did
not carry passengers and/or cargo to or from the Yes. The services covered by the management service
Philippines, ABC maintains a general sales agent of agreement fall under the meaning of royalties. It is
its tickets in the Philippines. Is the sale of the tickets immaterial if the non-resident foreign corporation has no
taxable as income from sources within the properties in the Philippines. The test of taxability is the
Philippines? source and the source of an income is that activity which
produced the income. It is not the presence of any
Yes. For the source of income to be considered as coming property from which one derives rentals and royalties that
from the Philippines, it is sufficient that the income is is controlling, 37 but rather as expressed under the
derived from activity within the Philippines. In ABC’s case, expanded meaning of royalties, it includes “royalties for
the sale of tickets in the Philippines is the activity that the supply of scientific, technical, industrial, or
produces the income. The tickets exchanged hands here commercial, knowledge or information; and the technical
in the country and the payments for fares were also made advice, assistance or services rendered in connection
with Philippine currency. The site of the source of with the technical management and administration of any
payments is the Philippines. The absence of flight scientific, industrial or commercial undertaking, venture,
operations to and from the Philippines is not determinative project or scheme. (see PHILAMLIFE V. CTA [CA-GR SP.
of the source of income/site of income taxation for the test NO. 31283, APRIL 25, 1995]).
of taxability is the “source.” (see CIR VS. JAPAN
AIRLINES [MARCH 6, 1991]; CIR VS. BOAC [APRIL 30, Q18.5. A, a non-resident citizen, was engaged by a
1987]) domestic corporation as a commission agent. A will
receive a sales commission on all sales actually
concluded. A argues that the income is not taxable as
Q18.3. XYZ entered into reinsurance contracts with A does not reside in the Philippines and that the place
foreign insurance companies not doing business in of payment of the income is outside the Philippines.
the Philippines. XYZ was to cede portions of Is A’s contention correct?
premiums underwritten in the Philippines to the
foreign corporations in consideration for the No. The source of an income is the property, activity
assumption of risk. Is the cession of the premiums or service that produced the income. With respect of
taxable as income from sources within the rendition of labor or personal service, as in the
Philippines? instant case, it is the place where the labor or service
is performed that determines the source of income.
Yes. “Sources” means the activity, property, or service There is therefore no merit in A’s interpretation which
giving rise to the income. The original insurance equates source of income in labor or personal service with
undertakings took place in the Philippines. It is not the residence of the payor or the place of payment of the
required that the foreign corporation be engaged in income. (see CIR VS. BAIER-NICKEL [AUGUST 29, 2006])38
business in the Philippines. What is controlling is no the 43

place of business, but the place of activity that created the What she failed to do was prove that the sale was
income. Thus, the income is subject to income tax. (see
consummate in Germany.
PHILIPPINE GUARANTY V. CIR [APRIL 30, 1965] and
HOWDEN & CO. V. CIR [APRIL 14, 1965]).
Q18.6. Quill Corp is an office supply retailer with no
physical presence in North Dakota but it has a
Q18.4. ABC, a domestic corporation, entered into a
licensed computer software program that its

36
It is a resident foreign corporation. In order that a foreign corporation that protects the owner of that property against its unauthorized use by
may be regarded as doing business within a State, there must be other persons.
continuity of conduct and intention to establish a continuous business, 38
Note that in this case, Baier-Nickel argued that the services were
such as the appointment of a local agent, and not one of a temporary done in Germany. However, she failed to prove that such was the fact.
character. ABC maintained a general sales agent and it was engaged in Thus, the services were deemed performed in the Philippines, and, as
selling or issuing tickets, which is considered the main lifeblood of an such, is subject to income tax.
airline.

37
This confirms the acceptance of the Philippine taxing jurisdiction of
the rule that as to intangible property, the country of use is the country
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customers in North Dakota use for checking Quill’s 2012, JANUARY 20, 2012), 42 the Indian Supreme Court
current inventories and for placing orders directly. ruled that VIH had no liability to withhold tax as the
North Dakota attempted to impose a “use tax”39 on transaction was between two non- residents with no
Quill. Is Quill liable for the tax? taxable presence in India. Under Section 9(1) of the
Income Tax Act of India, all income accruing or arising,
Even in Philippines tax treaties, the corporation has to whether directly orindirectly through transfer of capital
have physical presence be taxable to the locality. assets situated in India shall be deemed to accrue or arise
in India. 43 The Supreme Court stated that the section
Yes. In QUILL CORP V. NORTH DAKOTA [504 US 298, MAY clearly applied to a transfer of capital asset situated in
26, 1992], the US Supreme Court ruled that there must
India and could not be expanded to cover indirect
be physical presence in a state for the corporation to be transfers of capital assets or property situated in India.
liable for sales and use taxes. It applied its ruling in
The words “directly or indirectly” go with the income and
NATIONAL BELLAS HESS V. DEPARTMENT OF REVENUE OF
not with the transfer of a capital asset.44
ILLINOIS [386 US 753] where it held that a seller whose
only connection with customers in the State is by common
Q18.8. Is the gross income of branches of foreign
carrier or the mail lacked the requisite minimum contacts
corporations generated from solicitation of orders
with the
from local importers where the branches merely relay
State. Thus, such vendors are free from state- imposed to its head office abroad said purchase orders and
duties to collect sales and use taxes. Nevertheless, the where the head office is the entity which actually
US Supreme Court opined that if interstate commerce consummates the sale liable for income tax?
would be subject to intolerable or undesirable burdens
because of this, Congress has the power to legislate Yes. By virtue of RAMO No. 1-86 [April 25, 1986], an
make such vendors liable for sales and use taxes.40 income tax is imposed on the gross income generated
from “constructive” trading and commission income
What has to be the subject is the stocks of the company derived from brokering activities of Philippine branches of
and not the company itself. foreign corporations engaged in trading activities. RAMO
No. 01-95 [March 21, 1995] expanded RAMO No. 1-86
Q18.7. Vodafone International Holdings (VIH), a to cover taxation of Philippine branches of foreign
corporation in the Netherlands, acquired a controlling corporations engaged in soliciting orders, purchases,
interest of CGP holdings, a company in the Cayman service contracts, trading, construction and other
Islands. By virtue of this controlling interest, VIH activities.
acquired a 52% stake in Hutchinson Essar Limited
(HEL) 41 in India from Hutchinson Telecom Q18.9. ABC, a multinational company, claimed as
International Limited (HTIL). Simply stated, VIH deduction from gross income its share of the
acquired control over CGP and its subsidiaries, overhead expenses of its foreign head office. Can
including HEL. The Indian tax authorities contended these overhead expenses of the foreign head office
that the transfer of shares was subject to income tax. be deducted from the gross income of the Philippine
VIH argues that the transfer of shares took place branch?
outside the Indian taxing jurisdiction, and, hence, is
not taxable. Which contention is correct? It depends. Either it can be deducted in full or partly.
Where an expense is clearly related to the production of
The contention of VIH was held to be correct. In Philippine-derived income or to Philippine operations (e.g.
VODAFONE INTERNATIONAL HOLDINGS B.V. V. UNION OF salaries of Philippine personnel, rental or office binding
INDIA (SUPREME COURT OF INDIA, CIVIL APPEAL NO. 733 OF in the Phulippines), expense can be deducted from the

39
A use tax is a type of excised tax levied in the United States upon shares of CGP were transferred only for a commercial benefit and not
otherwise "tax free" tangible personal property purchased by with the object of tax evasion. The structure was in existence over a
decade, it was not created or used as an instrument for tax avoidance,
a resident of the assessing state for use, storage or consumption of VIH was not a short-time investor and it did not introduce any new
goods in that state (not for resale), regardless of where the purchase practice to grant itself a “controlling interest.”
took place. 43
40
The Indian taxing authorities argued that this was a “look- through
Note that, as of this updated version, the BIR plans to impose a provision” a “look through” provision so that if there was a transfer, of a
sales tax on online retailers in the opinion that such sellers are no capital asset, situated in India, it meant income from capital gains
different from merchants who sell their goods in physical stores. A RR accruing or arising outside India would be fictionally deemed to accrue
on the matter is forthcoming. or arise in India.
41
HEL was an Indian joint venture between HTIL, a corporation in 44
The Indian Supreme Court also noted that the existence of the Direct
Hong Kong, and Essar, an Indian corporation. Tax Code Bill of 2010 which expressly stated that income
42
It is also important to note, that in this case, the Indian Supreme accuring even from indirect transfer of capital assets situated in India
Court stated that, on the context of taxation of a holding company would be deemed to accrue in India but this is not yet in force.
structure, the corporate veil may be lifted only if it is established that
the transaction was a sham or there was abuse. In this case, the
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gross income acquired in the Philippines without resorting 4. Resident citizen who opted for OSD (Sec 34, par
to apportionment. However, where there are items 1)
included in the overhead expenses incurred by the parent
company, all of which cannot be definitely allocated or Sections 34 and 35, Tax Code
identified with the operations of the Philippine branch, the
company may claim as its deductible share a ratable part Q20. What are the allowable and itemized deductions
of such expenses based upon the ratio of the local under the Tax Code?
branch's gross income to the total gross income,
worldwide, of the multinational corporation. (see The allowable and itemized deductions include:
COMMISSIONER VS. CTA & SMITH KLINE [JANUARY 17,
1984]; see also RAMO 4-86 [April 5, 1986]) 1. Business Expenses (Expenses in connection
with taxpayer’s trade, business or profession)
Deductions 2. Interest on Indebtedness
3. Taxes in connection with taxpayer’s business,
Q19. What are the kinds of deductions? trade or profession [except income taxes, estate
and donor’s taxes, special assessments, and
1. Deductions from compensation income – foreign income taxes (unless the taxpayer does
refers to the personal and additional exemptions not make use of the tax credit privilege)]
in Section 35, NIRC and premium payments on 4. Losses
health and/or hospitalization insurance which are 5. Bad debts
allowed to be deducted by an individual taxpayer 6. Depreciation
who receives income for personal services 7. Depletion
rendered under an employer-employee 8. Charitable and other contributions
relationship (Train law repealed Sec 35) 9. Research and development expenditures
2. Deductions from business and/or 10. Contributions to pension trusts
professional income – refers to the itemized
deductions in Section 34 (A) to (M) including Business expenses
those deductible from compensation income,
which a self-employed individual or professional Q21. What are the requisites for deductibility of
engaged in the practice of a profession may business expenses?45
deduct.
3. Deductions from corporate income – refers to The requisites are:
the itemized deductions in Section 34 (A) to (J) 1. The expense must be ordinary and necessary
which corporations (including partnerships other 2. Paid or incurred during the taxable year
than GPPs) engaged in trade or business are 3. In carrying on the trade or business of the
authorized to claim taxpayer
4. Special deductions – refers to the deductions 4. Reasonable in amount
allowed in addition to the itemized deductions 5. Substantiated by sufficient evidence
allowable to corporations which may be availed 6. Must not be against law, morals, public policy,
of by insurance companies and proprietary or public order
educational institutions and non-profit hospitals 7. Must be paid to the BIR
as well as estates and trusts.
“Substantiated” à What if the income to be taxed comes
Q19.1. Who can avail of the deductions provided for from a drug cartel?
under the law? “Reasonable” (Kuezle & Aguinaldo) — if the amount was
indicative of being a dividend, then it is not deductible.
All taxpayers except: Another form (deductible) is if the amount was
1. Nonresident aliens not engaged in trade or compensation, but this is hard to defend if the amount
business is too huge or bloated. This veil of reasonableness is
2. Nonresident foreign corporations or those to protect the government from tax evasion by the
corporations not engaged in trade or business in taxpayer who may shift all income to the income tax-
the Philippines exempt entity. (p.24)Must be paid to the BIR or the
3. Citizens and resident aliens earning purely withholding tax should have been paid.
compensation income • As to withholding tax, the tax must be

45
This is the general rule which is to be followed for all business provide for additional requisites.
expenses. The enumeration provided in certain business expenses
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withheld first before it can be expenses is that it must have been paid or incurred during
deducted because there is a the taxable year. Hence, the professional fees should
presumption that if such was not have been claimed as deductions during the years where
withheld, another taxing jurisdiction is they were paid or incurred.
claiming it.
Q21.3. What are the types of business expenses
• Expenses: Not necessary — would never be specifically included in the Tax Code as deductions?
deductible.
• Extraordinary — may be capitalized (deductible As provided in Section 34(A)(1)(a), these are:
but spread through a period of time) from a case
to case basis. Usually these are necessary on top 1. Reasonable allowance for salaries or other
of being extraordinary. compensation for personal services actually
Ex: VP of the corp borrowed money from the rendered to the taxpayer
employees. The VP died, so the P took 2. Reasonable allowance for travel expenses in
company funds to repay the debts. This is an the pursuit of trade, business or profession
extra-ordinary expense, but not deductible. 3. Reasonable allowance for rentals and or other
Rather, it was capitalized. payments required for the continued use or
premium of the property for the purpose of the
Q21.1. What is meant by ordinary and necessary trade or business and to which property the
expenses? taxpayer has not taken or is not taking title or in
which he has no equity.46
An expense is 'ordinary' when it connotes a payment 4. Reasonable allowance for entertainment,
which is normal in relation to the business of the taxpayer amusement and recreation expenses
and the surrounding circumstances. provided that they are connected to the
development and operation of the trade, business
An expense will be considered 'necessary' where the or profession and that it is not contrary to law,
expenditure is appropriate and helpful in the development morals, public policy or public order.
of the taxpayer's business
Q21.4. Is the enumeration of business expenses
Example of necessary: Pet shop incident where the provided in the Tax Code exclusive?
snake bit the client and you need to pay for medical
expenses of client No. A taxpayer is entitled to deduct the ordinary and
Example of NOT necessary: Insuring the president is necessary expenses paid in carrying on his business from
not related to the business his gross income from whatever source.

Q21.2. What is meant by “paid or incurred during the Q21.4.1. Name some special laws which provide for
taxable year?” deductible business expenses.

Paid or incurred during the taxable year means that the 1. Republic Act 10028 (Expanded
deduction shall be taken for the taxable year in which paid Breastfeeding Promotion Act)
or accrued or paid or incurred dependent on the
accounting method in which net income is computed The law provides that the expenses incurred by a private
health and non-health facility, establishment or institution,
Q21.2.1. ABC Corp failed to claim expenses for in complying with the provisions of this Act, shall be
professional services that accrued in past years. May deductible expenses for income tax purposes up to twice
ABC Corp still claim these expenses as deductions? the actual amount incurred provided:

No. In COMMISSIONER OF INTERNAL REVENUE VS. ISABELA 1. That the deduction shall apply for the taxable
CULTURAL CORPORATION (FEBRUARY 12, 2007), Isabela period when the expenses were incurred
Corp failed to claim the expenses for professional 2. That all health and non-health facilities,
services that accrued in 1984 and 1985 during the said establishments and institutions shall comply with
years. Instead, it sought to claim them as deductions the provisions of this Act within six (6) months
during the taxable year of 1986. The Supreme Court held after its approval
that one of the requisites for the deductibility of a business 3. That such facilities, establishments or institutions

46
In the latter case, he may claim depreciation allowance

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shall secure a "Working Mother- Baby-Friendly (PHILS.) INC. [APRIL 24, 2003], General Foods claimed as
Certificate" from the Department of Health to be deductions its advertising expenses for its product “Tang.”
filed with the Bureau of Internal Revenue, before The CIR disallowed the deduction arguing that the
they can avail of the incentive. advertising expenses are not business expenses but
capital expenditures.
2. Republic Act 8502 (Jewelry Industry
Development Act) The Supreme Court ruled in favor of the CIR. Advertising
is generally of two kinds: (1) advertising to stimulate the
current sale of merchandise or use of services and (2)
The law provides for a deduction from taxable income of advertising designed to stimulate the future sale of
fifty percent (50%) of expenses incurred in training merchandise or use of services. The second type involves
schemes in connection with the Act and which shall be expenditures incurred, in whole or in part, to create or
deductible during the financial year the expenses were maintain some form of goodwill for the taxpayer’s trade or
incurred. business or for the industry or profession of which the
taxpayer is a member. If the expenditures are for the
3. Republic Act 8525 (Adopt a school act) advertising of the first kind, then, except as to the question
of the reasonableness of amount, there is no doubt such
The law provides for a deduction from the gross income expenditures are deductible as business expenses. If,
equivalent to fifty percent (50%) of expenses incurred in however, the expenditures are for advertising of the
connection with the said act. second kind, then normally they should be spread out
over a reasonable period of time. The protection of brand
4. Republic Act 9999 (Free Legal Assistance franchise is analogous to the maintenance of goodwill or
Act) title to one’s property. This is a capital expenditure which
should be spread out over a reasonable period of time.
The law provides that a lawyer or professional This was akin to the acquisition of capital assets and
partnerships rendering actual free legal services, as therefore expenses related thereto were not to be
defined by the Supreme Court, shall be entitled to an considered as business expenses but as capital
allowable deduction from the gross income, the amount expenditures. The advertising expense incurred by
that could have been collected for the actual free legal General Foods fall under the second type.
services rendered or up to ten percent (10%) of the gross
income derived from the actual performance of the legal Advertising expense to be considered as ordinary:
profession, whichever is lower 1. Reasonabless of the amount incurred
2. Amount incurred must not be capital outlay to create
Q21.4.2. Name some revenue regulations “goodwill”
implementing special laws which provide for
deductible business expenses. Ex of ordinary expense: advertisement to stimulate the
current sale or use of service or merchandise
1. RR 1-2009 [December 9, 2008]
Q21.4.4. ABC Corporation paid a PR firm to campaign
The RR provides that sales discounts given to persons for the sale of ABC’s additional capital stock. Is the
with disabilities shall be deductible from gross income
compensation paid to the PR firm deductible as a
subject to certain conditions. business expense?
2. RR 7-2010 [July 20, 2010]
No. In ATLAS CONSOLIDATED MINING & DEVELOPMENT
CORPORATION VS. COMMISSIONER OF INTERNAL REVENUE
The RR provides that discounts given to senior citizens
on certain goods and services shall be deductible from (JANUARY 27, 1981), the Supreme Court held that this is
not deductible because it is a capital expenditure.
gross income. Also, private establishments employing
Expenses relating to the recapitalization and
senior citizens shall be entitled to additional deductions
reorganization of the corporation, promotion expenses
from gross income equivalent to fifteen (15%) of the total
and commission or fees for the sale of stock
amount paid as salaries and wages to senior citizens.
reorganization are capital expenditures.
Q21.4.3. Are “advertising expenses” deductible from
Q21.4.5. Are litigation expenses deductible as a
gross income?
business expense?
It depends on the nature of the advertising expense. In No. As held in ATLAS CONSOLIDATED MINING &
COMMISSIONER OF INTERNAL REVENUE VS. GENERAL FOODS DEVELOPMENT CORPORATION VS. COMMISSIONER OF
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INTERNAL REVENUE (JANUARY 27, 1981), litigation wrestling exhibition that Calanoc financed and promoted
expenses incurred in defense or protection of title are whose proceeds would be given to the orphans and
capital in nature and not deductible. destitute children of the Child Welfare Workers Club of the
Social WelfareCommission. The Supreme Court held that
the police protection fees were not deductible as they are
Q21.4.6. A, a hotel owner, claimed as deduction illegal since it was consideration for the performance of
promotion expenses incurred by his wife for the functions required of policemen by law. As to the gifts and
promotion of the hotel. Half of the said expenses were parties, they were deemed excessive considering that the
disallowed as deductions because on the finding that purpose of the exhibition was for a charitable cause.
his wife went abroad on a combined business and
medical trip. Is the disallowance proper?
Q21.5. What is the rule on the deductibility of
compensation payments?
Yes. In ZAMORA VS. COLLECTOR OF INTERNAL
REVENUE [MAY 31, 1963], Zamora, a hotel owner, The test of deductibility in the case of compensation
claimed as deduction promotion expenses incurred by payments is whether they are reasonable and payments
his wife for the promotion of the hotel. On appeal, the purely for the personal services actually rendered.
CTA only allowed 50% of the promotional expenses as
deductions because it was found in the Central Bank Q21.5.1. A, an experience realtor, was paid
dollar allocation that his wife went abroad on a combined supervision fees in the amount of P100,000 annually
business and medical trip. by XYZ Corporation for a three-year project, an
amount when combined with his salary and bonuses
The Supreme Court stated that promotional expenses are is double the XYZ’s income. Are the supervision fees
deductible but must be substantiated. When some of the deductible?
representation expenses claimed by the taxpayer were
evidenced by vouchers or chits, but others were without No. In C.M. HOSKINS & CO., INC. VS. COMMISSIONER OF
vouchers or chits, documents or supporting papers; that INTERNAL REVENUE [NOVEMBER 28, 1969], Hoskins & Co.
there is no more than oral proof to the effect that claimed as deductions the payment of P100,000 to its
payments have been made for representation expenses founder and controlling stockholder, Hoskins representing
allegedly made by the taxpayer and about the general 50% of the 8% supervision fees the company received as
nature of such alleged expenses; that accordingly, it is not managing agent for Paradise Farms. In this case, the
possible to determine the actual amount covered by Supreme Court held that such was not deductible for
supporting papers and the amount without supporting failing to pass the reasonableness test. If allowed, Hoskin
papers, the court should determine from all available data, would be receiving on his salary, bonus, and supervision
the amount properly deductible as representation fees at total of P185,000 which is double the company’s
expenses. In view of this, the Supreme Court held CTA reported net income. The Supreme Court stated that if it
did not commit error in allowing as promotion expenses in was a one-time payment, it could have been deducted
A’s income tax returns at merely one-half. since Hoskin was an experienced realtor. However, the
P100,000 supervision fee was being paid every year (for
REPRESENTATION EXPENSE: three years) for the entire duration of the company’s
• A deductible expense on the part of the employer. project with Paradise Farms.
But it is not considered as income on the part of
the employee. Q21.6. Are salaries deductible?
• In representation expense, there must be some
benefit to the business of the taxpayer (e.g. dining Yes, provided that they comply with the following
out of office guests/clients). requisites:
As compared to Fringe Benefits — deductible expense 1. The expense must be both ordinary and
and income. necessary
2. The salaries must be paid or incurred within
Q21.4.7. Are police protection fees and gifts for an the taxable year
exhibition for charitable 3. The salaries must be incurred in carrying on a
purp trade or business
oses deductible as a business expense? 4. The salaries must be for personal services
actually rendered
No. In CALANOC VS. COLLECTOR OF INTERNALREVENUE
[NOVEMBER 29, 1961], at issue in this case is the 5. The salaries must be reasonable in amount.
deductibility of the expenses incurred for police protection
and for gifts and parties in connection with the boxing and
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Q21.7. Are bonuses to employees allowable Q21.8. What are some factors that may be considered
deductions from gross income? in determining the reasonableness of the
compensation paid for services?
Yes provided that:
1. They are made in good faith They are:
2. They are given for personal services actually 1. The payment must be made in good faith
rendered 2. The character of the taxpayer’s business
3. They do not exceed a reasonable 3. The volume and amount of its net earnings
compensation for the services rendered when 4. The locality in which the business is in
added to the stipulated salaries. 5. The type and extent of the services rendered
6. The salary policy of the corporation
Q21.7.1. Can a bonus given to corporate officers be 7. The size of the particular business
deducted from gross income from the sale of one of 8. The employee’s qualifications and business
its properties on the representation that corporate venture
officers, by virtue of their positions, contributed to 9. The general economic conditions
the consummation of the sale?
There is no fixed test in determining the reasonableness
No. In AGUINALDO INDUSTRIES CORPORATION VS. of a given bonus as compensation. This depends on
COMMISSIONER OF INTERNAL REVENUE [FEBRUARY 25, many factors and the situation must be considered as a
1982], Aguinaldo Industries sought to claim as deductions whole.
the bonuses given to its corporate officers from the sale
of one of its properties. The Supreme Court held that the Q21.9. What is the rule on the deductibility of
said bonuses cannot be deducted because there is no representation or entertainment, amusement and
evidence that the said officers did any work which would recreation expenses?
be the basis of the grant of the bonuses. One of the
requisites for the deductibility of bonuses is that they are
Such expenses must:
given for personal services actually rendered.
1. be directly related to or in furtherance of the
This case is an example of disguised dividends. It is when a conduct of the trade, business or exercise of the
corporation is making payments, to a person actually entitled to profession
receive dividends but did not claim them as dividends. 2. not be contrary to law, morals, public policy or
public order
OLIVEN’S TEST (to determine if ordinary): 3. not exceed such ceilings prescribed by the
1. Fixing of a right of income or liability to pay Secretary of Finance.
2. Availability of the reasonable accurate determination of
(1). Q21.9.1. Is there a ceiling on entertainment,
àrather if payment has been made amusement and recreational expenses?
Q21.7.2. ABC Corporation claimed as deductions Yes. RR 10-2002 [JULY 10, 2002] provides that sellers
bonuses it gave to its non-resident president and of goods or properties are allowed to deduct 0.5% of their
vice-president and the bonuses it gave to its resident net sales as representation expenses while sellers of
officers and employees. The company gave its services are granted 1% of their net revenues as
resident officers and employees much more. The representation expenses. However, when supporting
deductions for bonuses given to resident officers and documents reflect a lower amount, then such lower
employees were disallowed for being excessive and amount shall be used.
for no special reason. Is the disallowance proper?
It would depend on the nature, extent, and quality of the Interest (as amended by Republic Act 9337)
services actually rendered by the resident officers and
employees. In KUENZLE & STREIFF, INC. VS. COLLECTOR Q22. How is interest defined under the Tax
OF INTERNAL REVENUE [OCTOBER 20, 1959], the Supreme Code?
Court held that the bonuses to its resident officers and
employees were reasonable taking into account the Interest shall refer to the payment for the use or
situation at the time when the services were rendered: forbearance or detention of money, regardless of the
unsettling conditions after the war, the imposition of name it is called or denominated. It includes the amount
controls on exports and imports, and he use of foreign paid for the borrower’s use of money during the term of
exchange which resulted in diminution of the amount of the loan, as well as for his detention of money after the
business. due date for its repayment.

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Q23. What is indebtedness? The RR also provides for a limitation in that the amount of
interest expense paid or incurred by a taxpayer in
Indebtedness is something owned by one who is connection with his trade, business, or exercise of a
unconditionally obligated or bound to pay profession from an existing indebtedness shall be
reduced by an amount equal to 38% of the interest
Q24. What are the requisites for the deductibility of income earned which had been subject to final
interest expenses from gross income? withholding taxes.52

The requisites are: Q24.3. What are the rules on the deductibility of
1. There must be indebtedness Interest expenses?
2. The indebtedness must be connected with the
taxpayer’s trade, business or exercise of The general rule is that the amount of interest expense
profession paid or incurred within a taxable year on indebtedness in
3. The interest must be legally due connection with the taxpayer’s trade, business or exercise
4. The interest expense must have been paid or of profession shall be allowed as a deduction from the
incurred during the taxable year. taxpayer’s gross income provided that the taxpayer’s
5. The interest must have been stipulated in writing otherwise allowable deduction for interest expense shall
6. Not related parties be reduced by 38% of the interest income subject to final
7. Interest Arbitrage tax.

Q24.1. Do tax obligations constitute indebtedness? The exceptions (where interest expense is not deductible
from gross income) are:
Yes. In COMMISSIONER OF INTERNAL REVENUE VS. VDA. DE
PRIETO [SEPTEMBER 30, 1960], Vda. de Prieto conveyed 1. If within the taxable year an individual reporting
real property by way of gifts to her four children. She was income on the cash basis incurs an indebtedness
assessed for donor’s gift taxes including interests due on which an interest is paid in advance
thereon. She claimed as deduction the total interest on through discount or otherwise. Such interest
account of the delinquency. She contends that the shall be allowed as a deduction in the year the
interests due from her tax obligations are deductible from indebtedness is paid. If the indebtedness is
gross income. The Supreme Court held that although payable in periodic amortization, the amount of
interest payment for delinquent taxes is not deductible as interest which corresponds to the amount of the
tax under Section 34(C) of the Tax Code, the taxpayer is principal amortized or paid during the year shall
not precluded thereby from claiming said interest payment be allowed as deduction in such taxable year.
as deduction under Section 34(B) of the same Code. It is 2. If both the taxpayer and the person to whom the
a well-settled rule that tax obligations constitute payment has been made or is to be made are
indebtedness for purposes of deduction from gross “related” persons specified under Section
income of the amount of interest paid on indebtedness. 36(B).
Q24.2. Are there any additional requisites provided 3. If the indebtedness is used to finance petroleum
for revenue regulations for the deductibility of exploration.
interest expenses?
Q24.4.1. Enumerate the cases when no deduction is
Yes. RR 13-2000 [NOVEMBER 20, 2000] provides three allowed because the loan is between related
more, namely: taxpayers.
1. the interest payment arrangement must not be
between related taxpayers 1. Between members of the family
2. the interest must not be incurred to finance 2. Between an individual and a corporation – where
petroleum operations the individual paid interest on a loan granted by
3. in case of interest incurred to acquire property the corporation more than 50% of the capital
used in trade, business, or exercise of profession, stock of which is owned by the individual
the same was not treated as a capital expenditure 3. Between two corporations – where one
corporation owns more than 50% of the other47

47
The case of a parent company-subsidiary loan will not be disallowed much can you deduct? Get the depreciated cost which is now 100,000
because it does not refer to a case of a commonly- owned entity and deduct the insurance received. The amount that can be deducted is
(commonly owned at 50%) but one where one entity owns the other. of then 50,000.
200,000 to be depreciated for 20 years. On the 10th year, it was lost due
to fire and for the loss, you received P50,000 from your insurance. How
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4. Between a grantor and fiduciary of a trust to point to any provision of the Tax Code or any other
5. Between the fiduciary of a trust and the fiduciary Statute that requires the disallowance of the interest
of another trust with the same grantor payments made by Paper Industries. The general rule
6. Between a fiduciary of a trust and a beneficiary of that interest payments on a legally demandable loan are
such trust deductible from gross income must be applied.

Q24.4.2 Loan agreement provides an interest Interest arbitrage


between X and Y (corps). Is the interest deductible?
Q26. What is interest arbitrage?
Depends. If X and Y are individuals, it is deductible.
Lender has to be an individual and must own less than Interest arbitrage results in the reduction of the interest
50% of the entities. expense by a percentage of the interest income subject
to final tax. It is also defined as a circumstance which is
Q25. May the taxpayer choose to treat interest presumed to exist because by putting excess funds in
expense as capital expenditure? deposits/securities subject to 20% withholding, taxpayers
are able to avoid the 32% tax which will happen if the
Yes. Section 34(B)(3) provides that at the option of the same funds are invested in revenue-generating activities.
taxpayer, interest incurred to acquire property used in
trade, business or exercise of a profession may be
allowed as a deduction or treated as a capital Another illustration of this is when a taxpayer borrows
expenditure. money from the bank (interest payments on which can
then be claimed as expense and thus a 32% benefit) then
However, should the taxpayer elect to deduct the interest deposits it in a bank (and subsequently suffers only a 20%
payments against its gross income, the taxpayer cannot final withholding tax) thus benefiting by 12% representing
at the same time capitalize the interest payments because the difference the 32% deduction and the 20%
that would constitute double tax benefits which is not withholding tax. It does not matter if the taxpayer actually
authorized by law. intended to save taxes.

In PAPER INDUSTRIES CORPORATION OF THE In BIR RULING NO. 006-00 [JANUARY 5, 2000],
PHILIPPINES VS. COURT OF APPEALS [DECEMBER PNB requested the BIR to exclude the interest income
1, 1995], Paper Industries claimed as deductions derived by it from treasury bonds in the determination of
against gross income interest payments on loans for the the interest expense not allowable as deduction as gross
purchase of machinery and equipment. The CIR income. PNB argues that the said bonds were given by
disallowed the deduction on the ground that because the the Government for payment for its liabilities to PNB and
loans had been incurred for the purchase of machinery hence, it has not engaged in a tax arbitrage scheme.
and equipment, the interest payments on the said loans Although as a general rule, the amount of interest
should have been capitalized instead and claimed as a expense paid or incurred by a taxpayer within a taxable
depreciation deduction taking into account the adjusted year on indebtedness in connection with his trade,
basis of the machinery and equipment (original business or exercise of profession shall be allowed as a
acquisition cost plus interest charges) over the useful life deduction from his gross income, the said interest
of such assets. expense, however, shall be reduced if the taxpayer has
derived certain interest income which had been subject to
The Supreme Court ruled that Paper Industries is entitled final withholding tax. The CIR ruled that this limitation on
to its claimed deduction for interest payments on loans the deductibility of interest expenses applies whether or
for, among other things, the purchase of machinery and not a tax arbitrage scheme was entered into by the
equipment. The general rule is that interest expenses are taxpayer.
deductible against gross income and this certainly
includes interest paid under loans incurred in connection Elements of Interest Arbitrage:
with the carrying on of the business of the taxpayer. In this 1. Interest income subject to deduction
case, the CIR does not dispute that the interest payments 2. Interest expense subject to final tax
were made on loans incurred in connection with the
carrying on of the registered operations of Paper
Industries, i.e., the financing of the purchase of machinery
and equipment actually used in the registered operations
of Paper Industries. Neither does the CIR deny that such
interest payments were legally due and demandable
under the terms of such loans, and in fact paid by Paper
Indusries during the tax year. The CIR has been unable
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Taxes country when such taxpayer is entitled to a foreign tax


credit and he does not choose to exercise such right. The
Q27. Are all taxes deductible from gross income? right to deduct foreign tax paid is only an alternative to the
taxpayer’s right to the foreign tax credit.
No. Section 34(C)(1) provides that all taxes, national or
local, paid or accrued during the taxable year in Q28. What is the rule on credit for taxes?
connection with the trade or business or profession
of the taxpayer are deductible from gross income If the taxpayer signifies in his return his desire to claim a
except: credit for taxes, the basis of such credit, in the case of a
resident citizen of the Philippines, and in the case of a
1. Philippine income tax domestic corporation is as follows:
2. Foreign income taxes unless the taxpayer does
not make use of the tax credit privilege under a. The amount of income taxes paid or
Section 34(C)(3) incurred during the taxable year to
3. Estate and donor’s taxes any foreign country
4. Taxes assessed against local benefits of a kind b. An individual’s proportionate share of
tending to increase the value of the property any such taxes of which he is a
assessed (special assessments) partner or of an estate or trust of
5. VAT which he is a beneficiary paid or
accrued during the taxable year to a
foreign country if his distributive
In case of nonresident alien individual or a foreign share of the income of such
corporation, deduction is only allowed if and to the partnership or trust is reported for
extent that the taxes for which deduction is claimed are taxation under Title II.
connected with income from sources within the
Philippines. Only those subject to tax on worldwide income (resident
citizen and domestic corporations) may avail of tax
Also, to be deductible, the taxes must be imposed by law credits because they pay taxes for foreign sources
on, and payable by the taxpayer. Thus, a VAT is not income twice (in the Philippines and abroad) and the tax
deductible by the customer upon whom the burden of credit is meant to lessen the impact of double taxation,
the tax is shifted by the seller (on whom the tax is
imposed by law). Q28.1. What are the limitations on credit for foreign
taxes?
Q27.1. May a resident alien deduct from their gross
income income taxes they paid to their government? The amount of the credit shall be subject to the following
limitations:
Generally, the answer is no. In COMMISSIONER OF
INTERNAL REVENUE VS. LEDNICKY [JULY 31, 1964],48 1. The amount of the credit in respect to the tax paid
US citizens residing in the Philippines who derives income or incurred to any country shall not exceed the
wholly from sources within the Philippines, sought to same proportion of the tax against which such
deduct from their gross income the income taxes they credit is taken, which the taxpayer’s taxable
have paid to the US government. income from sources within such country under
this Title bears to his entire taxable income for the
The Supreme Court held that to allow an alien resident to same taxable year.
deduct from his gross income whatever taxes he pays to 2. The total amount of the credit shall not exceed the
his own government is incompatible with the status of the same proportion of the tax against which such
Philippines as a sovereign state. This is because the credit is taken, which the taxpayer’s taxable
foreign government will have the power to reduce the tax income from sources without the Philippines
income of the Philippine government simply by increasing taxable under this Title bears to his entire taxable
their tax rates. income for the same taxable year.

Also important is this case is the statement made by the In mathematical terms, this can be expressed as:
court on the exception: a taxpayer may only be allowed to
deduct from his gross income, taxes paid to a foreign

48
Note that at the time this case was decided, resident aliens were still case, their net income for foreign sources was zero and, thus, there was
allowed to claim a tax credit. The present rule is that only resident no need to apply the tax credit.
citizens and domestic corporations can claim a tax credit. Also, in this
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exceed an amount equal of the cost or other adjusted


basis of the property, or depreciated cost reduced by any
insurance or other compensation received.49

Thus, the tax payable is whichever comes out from this Example: you purchased a piece of machinery for the
formula or the actual foreign taxes paid, whichever is value of 200,000 to be depreciated for 20 years. On the
th
lower. 10 year, it was lost due to fire and for the loss, you
received P50,000 from your insurance. How much can
Rationale for allowing foreign income taxes to be you deduct? Get the depreciated cost which is now
deductible: To prevent double taxation. HOWEVER, only 100,000 and deduct the insurance received. The amount
citizens and domestic corporations are allowed to claim that can be deducted is then 50,000
to tax deductions because they are the only ones taxed
globally (e.g. Pacquiao)
Q30.2. What are the special rules on losses?
Losses Certain special rules on losses are:
1. Losses are deductible only by the person
Q29. How are losses classified under the Tax Code? sustaining them. They are purely personal and
Losses are generally classified into: cannot be used as deductions by another

1. Those incurred in a trade or business for 2. Net Operating Loss Carry Over (NOLCO) can
profit be availed of by any taxpayer engaged in trade,
2. Those incurred in any transaction entered into business, or practice of profession. Net
for profit, although not connected with the Operating loss of business for any taxable year,
trade or business which refers to the excess of allowable deduction
3. Casualty losses that arise from fire, storm, over gross income, can be carried over as
shipwreck, or other casualty, or from theft or deduction for the next three consecutive taxable
robbery, even though not connected with the years immediately following the year of such loss.
trade or business of the taxpayer.
Q30. What are the conditions for deductibility of NOLCO shall be allowed only if there has been
losses? no substantial change in the ownership of the
business or enterprise.
In order that losses may be allowed as deductions, the
following conditions must concur: 3. Capital losses may not be deducted from ordinary
a. The losses must actually be sustained and gains; such capital losses may only be deducted
charged off within the taxable year from capital gains unless a final tax on the capital
b. Evidenced by a closed and completed transaction transaction is imposed.
c. Loss is not compensated by insurance or
otherwise 4. Losses from wagering transaction shall be
d. In the case of an individual, the loss must have allowed only to the extent of the gains from such
been incurred in the business, trade or profession transactions.
of the taxpayer or incurred in any transaction
entered into for profit though not connected with In the case of petroleum operations which are
his trade or business abandoned, wholly or partially, accumulated exploration
e. In the case of casualty loss, declaration of loss is and development expenditures to a certain extent may
filed within 45 days from the occurrence of the be allowed as deduction as abandonment losses
casualty loss
5. In the case of petroleum operations which are
Q30.1. How shall the amount of the loss deductible abandoned, wholly or partially, accumulated
be determined? exploration and development expenditures to a
certain extent may be allowed as deduction as
The amount of loss deductible is limited to the difference abandonment losses.
between the value of the property immediately preceding 6. Losses on account of the shrinkage in value of
the loss and its value immediately thereafter but shall not securities or shares of stock are not deductible
until after the loss would have been actually
49
For example, you purchased a piece of machinery for the value of How much can you deduct? Get the depreciated cost which is now
200,000 to be depreciated for 20 years. On the 10th year, it was lost 100,000 and deduct the insurance received. The amount that can be
due to fire and for the loss, you received P50,000 from your insurance. deducted is then 50,000.
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sustained by the disposition of the said securities. Section 38, Tax Code
When, however, such securities become
worthless during the taxable year and are capital Q31. Define Wash sale.
assets the loss thereform shall be considered as
a loss from the sale or exchange on the last day Wash sale is a sale or other disposition of stock or
of such taxable year, of capital assets. securities where substantially identical securities are
acquired or purchased within a 61-day period, beginning
7. Voluntary advances to a corporation made 30 days before the sale and ending 30 days after the sale.
without expectation of repayment do no warrant,
upon on-payment, a deduction for losses
Q31.1. Are losses from wash sales deductible?
8. Losses from investments are not deductible as
ordinary losses or as bad debts from other No. This is an exception to the general rule that losses
income. Shares of stock becoming worthless in from sales or exchanges of stock or securities are
the hands of an investor are capital assets, as deductible as losses from sales or exchange of property.
such capital losses are allowed to be deducted
only to the extent of capital gains. This will not apply to a loss incurred by a dealer in
securities.
Q30.3. What is the rule with respect to loss resulting
Ingles Notes on Wash Sales (2018 Ingles)
from shrinkage in the value of the stock
A person cannot deduct from gross income any amount • Losses are not allowed to be claimed in sales of
claimed as a loss merely on account of shrinkage in stock or securities if:
value of such stock through fluctuations of the market or o Within a period of 30 days before the sale,
otherwise. and 30 days after the sale (61 days total)
o The taxpayer acquires or enters into an
Q30.4. What is the rule with respect to loss resulting open option to purchase substantially the
same/identical stocks or securities.
from stocks becoming worthless?
• Losses are allowed only if the taxpayer is a
If the securities become worthless during the taxable year
stockbroker and the sale/purchase was made in
and are capital assets, the loss resulting therefrom shall
the regular course of business.
be considered as a loss from the sale or exchange, on the
last day of such taxable year, of capital assets.
o Example: Rupert buys Epic Inc shares. He
sells the shares at a loss. 20 days from
Q30.5. What are the substantiation requirements for the sale, he buys it again. The loss will not
losses arising from casualty, robbery, theft, or be allowed as a deduction
embezzlement?
Q101.14. What is a Wash sale?
Generally, under RR 12-77 [OCTOBER 6, 1977], the
substantiation requirements are: Wash sale is a sale or other disposition of stock or
securities where substantially identical securities are
1. A declaration of loss filed with the CIR or his acquired or purchased within a 61-day period, beginning
deputies within a certain period as prescribed in 30 days before the sale and ending 30 days after the sale.
the RR after the occurrence of the casualty,
robbery, theft, or embezzlement
Q101.15. Are losses from wash sales deductible?
2. Proof of the elements of the loss claimed
No. This is an exception to the general rule that losses
RMO 31-2009 [OCTOBER 16, 2009] provides for from sales or exchanges of stock or securities are
policies and guidelines for the reporting of casualty deductible as losses from sales or exchange of property.
losses.
This will not apply to a loss incurred by a dealer in
securities. A loss incurred by a dealer in securities with
respect to a transaction made in the ordinary course of
the business of such dealer is deductible.

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Example: taxpayer’s
3. trade, business or practice of profession
A, whose taxable year is the calendar year, on December 4. The same must not be sustained in a transaction
1, 2012, purchased 100 shares of common stock in the entered into between related parties
ABC Company for P100,000 and on December 15, 2012, 5. The same must actually be charged-off within the
purchased 100 additional shares for P80,000. On January taxable year
2, 2012, he sold the 100 shares purchased on December 6. The same must be actually ascertained to be
1, 2012, for P80,000. Because of the provisions of Section worthless and uncollectible as of the end of the
38, no loss from the sale is allowable as a deduction. taxable year.

(see Section 38, Tax Code and Section 131, RR 2) RR 5-99 [March 10, 1999] provides for two exceptions
to requisite no. 5, namely:
Forex losses 1. The BSP, through the Monetary Board, shall
ascertain the worthlessness and uncollectibility of
Q33. Are foreign exchange losses deductible? the bad debts and it shall approve the
writing off of the said indebtedness from
No. In BIR RULING 206-90 [OCTOBER 30, 1990] and BIR
RULING NO. 144-85 [AUGUST 26, 1985], the CIR held that, the banks; books of accounts at the end
with regard to foreign exchange losses, the annual of the taxable year.
increase in value of an asset is not taxable income 2. In no case may a receivable from an insurance or
because such increase has not yet been realized, The surety company be written-off from the taxpayer's
increase in value could only be taxed when a disposition books and claimed as bad debts deduction
of the property occurred which was of such a nature as to unless such company has been declared closed
constitute a realization of such gain. The same conclusion due to insolvency or for any such similar reason
obtains to losses. The annual decline in the value of by the Insurance Commissioner
property is not normally allowable as a deduction. Hence,
to be allowable the loss must be realized. In both cases, requisites nos. 1-4 should still be complied
with,
Bad Debts
Q34.3. What is meant by “actually ascertained to be
Q34. What are bad debts? worthless?”

Bad debts shall refer to those debts resulting from the The phrase means that a debt is not worthless simply
worthlessness or uncollectibility, in whole or in part, of because it is of doubtful value or difficult to collect.
amounts due the taxpayer by others, arising from money Conclusive evidence must be presented to show that the
lent or form uncollectable amounts of income from goods taxpayer’s receivable from a debtor has definitely become
sold or services rendered. worthless.

Q34.1. How do you distinguish bad debts from loss? Q34.4. What is meant by “actually charged off?”

Voluntary cancellation or forgiveness of a debt does not The phrase means that the amount of money lent by the
give rise to a deductible loss. However, if the debt is taxpayer to his debtor has been recorded in his books of
actually worthless, there may be a bad debt deduction. account as a receivable that has actually become
That deduction would be allowed because the debt was worthless of as of the end of the taxable year, that the said
worthless, not because it was forgiven. receivable has been cancelled and written-off from the
said taxpayers books of account.
Q34.2. What are the conditions for bad debts to be
deductible? Q34.5. ABC mining entered into a management
contract with XYZ mining. ABC made advances of
As provided in RR 5-99 [March 10, 1999], the cash and property. However, XYZ’s mine suffered
requisites for deductibility of bad debts are: continuing losses which led to ABC;s withdrawal as
manager and cessation of mine operations. ABC and
1. There must be an existing indebtedness due to XYZ entered into two compromises: the first involved
the taxpayer which must be valid and legally alleged indebtedness by XYZ from the advances of
demandable ABC and the second involved long-term loans
2. The same must be connected with the guaranteed by ABC. ABC deducted the amounts as
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bad debt. Is the deduction proper? write-off of the losses and deducted the amount in its
return. Is the deduction proper?
No. In PHILEX MINING CORPORATION VS. COMMISSIONER OF No. In FERNANDEZ HERMANOS, INC. VS. COMMISSIONER OF
INTERNAL REVENUE [APRIL 16, 2008], the Supreme Court INTERNAL REVENUE [SEPTEMBER 30, 1969], the
held that Philex cannot deduct the amounts as bad debt. Supreme Court held that the deduction was improper. The
The agreement provided for a distribution of assets of the Court opined that assuming that in this case there was a
mine upon termination, a provision that is more consistent valid and subsisting debt and that the debtor was
with a partnership than a creditor-debtor relationship. In incapable of paying the debt, the debt is still not
this connection, there is no contractual basis for the deductible as a worthless debt because the debtor was
execution of the two compromise agreements in which still in operation. It has been held that if the debtor
Baguio Gold recognized a debt in favor of Philex. Philex’s corporation, although losing money or insolvent, was still
advances should be treated as investments in a operating at the end of the taxable year, the debt is not
partnership. The advances were not "debts" of Baguio considered worthless and therefore not deductible.
Gold to Philex inasmuch as the latter was under no
unconditional obligation to return the same to the former. Q34.8. What is the Tax Benefit Rule?

As for the amounts that Philex paid as guarantor to Under the Tax Benefit Rule or Equitable Doctrine of
Baguio Gold’s creditors, the debts were not yet due and Tax Benefit, the recovery of amounts deducted in
demandable at the time that Philex paid the same. Philex previous years shall be included as part of the gross
cannot claim the advances as a bad debt deduction from income in the year of recovery to the extent of the income
its gross income. Deductions for income tax purposes tax benefit of said deduction.
partake of the nature of tax exemptions and are strictly
construed against the taxpayer, who must prove by If in the year the taxpayer claimed deduction of bad debts
convincing evidence that he is entitled to the deduction written-off, he realized a reduction of the income tax due
claimed. In this case, Philex failed to substantiate its from him on account of said deduction, his subsequent
assertion that the advances were subsisting debts of recovery thereof from his debtor shall be treated as a
Baguio Gold that could be deducted from its gross receipt of realized taxable income. Conversely, if the said
income. Consequently, it could not claim the advances as taxpayer did not benefit from the deduction if the said bad
a valid bad debt deduction. debt written-off, then his subsequent recovery shall be
treated as a mere recovery or a return of capital, hence,
When incurring debts you have to follow the ratio of 1:4. not treated as receipt of realized taxable income.
For every debt you have to have an equity of 4x the debt.
Depreciation
Q34.6. Is the declaration by the taxpayer that a debt is
worthless sufficient for it to claim a bad debt Q35. What is depreciation?
deduction?
Depreciation is the gradual diminution in the useful value
No. In PHILIPPINE REFINING COMPANY VS. COURT OF of tangible property50 resulting from wear and tear and
APPEALS [MAY 8, 1996], at issue was PRC’s (now normal obsolescense.
Unilever) claimed of bad debt deduction. On appeal, the
CTA disallowed the same as there was no iota of The term is also applied to amortization of the value of
documentary evidence to prove the worthlessness of the intangible assets, 51 the use of which in the trade or
debts sought to be deducted. The Supreme Court stated business is definitely limited in duration.
that before a debt can be considered worthless, the
taxpayer must also show that it is indeed uncollectible Q35.1. What is the rationale behind depreciation?
even in the future. PRC here failed to prove the
worthlessness of the amounts receivable. Depreciation commences with the acquisition of the
property and its owner is not bound to see his property
There should have been diligent efforts from the taxpayer gradually waste, without making provision out of earnings
in trying to collect the debt.
for its replacement. It is entitled to see to it that from
earnings the value of the property invested is kept
Q34.7. ABC, an investment company made advances unimpaired so that at the end of any given term of years,
to XYZ under an agreement that a portion of its net the original investment remains as it was in the beginning
profits would go to ABC. XYZ suffered substantial
losses but continued to operate. ABC made a partial
50 51
Not all tangible property can be depreciated. Land, for example, Like those with limited duration
cannot be depreciated because its value continues to increase
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Q35.2. What are the requisites for the deductibility of rates of depreciation than those adopted by the BIR
a depreciation expense? in its assessment. On appeal, the CTA found that the
depreciation was excessive. Should the findings of
1. The allowance for depreciation must be the CTA be affirmed?
reasonable
2. It must be for property used in the trade, Yes provided there no arbitrariness and abuse of
business, or profession discretion on the part of the CTA. In LIMPAN INVESTMENT
3. It must be charged off during the taxable year; CORPORATION VS. COMMISSIONER OF INTERNAL REVENUE
and [JULY 26, 1966], the Supreme Court opined that
4. A statement on the allowance must be attached depreciation is a question of fact and is not measured by
to the return theoretical yardstick, but should be determined by a
5. Used for a finite period consideration of actual facts. The findings of the tax court
in this respect should not be disturbed when not shown to
Capital Recovery Concept — you should be able to be arbitrary or in abuse of discretion. Limpan has not
recover your capital during the time that you’re using shown any arbitrariness or abuse of discretion on the part
your asset. Such asset can either be tangible or of the CTA. In fact, the CTA applied rates of depreciation
intangible (e.g. patents). in accordance with Bulletin F of the US Federal Internal
Revenue Service, which the Supreme Court, has
Q35.3. Can an asset be depreciated beyond its pronounced as having strong persuasive effect.
acquisition cost?
Q35.5. What are the special rules on deductibility of
depreciation on vehicle expenses?
No. In BASILAN ESTATES, INC. VS. COMMISSIONER OF
INTERNAL REVENUE [SEPTEMBER 5, 1967], Basilan
Estates claimed deductions for the depreciation of its RR 12-2012 [OCTOBER 12, 2012] provides for the
following rules:
assets up to 1949 on the basis of their acquisition cost.
In 1950, however, it changed the depreciable value of
1. Only one vehicle for land transport is allowed for
the assets by increasing it to conform with the increase
the use of an official or employee
in cost of their replacement. Accordingly, in 1950 to
1953, the company deducted from gross income the 2. The value of which should not exceed
value of the depreciation based on this reappraised P2,400,000
value. 3. It must be substantiated with sufficient evidence,
such as official receipts or other adequate
records; and
The Supreme Court held that such value cannot be
4. There is a direct connection or relation of the
deducted from gross income as it was beyond the
vehicle to the development, management,
acquisition cost. Depreciation as a deduction is allowed
operation, and/or conduct of the trade or business
so that the owner of the assets can set aside some money
or profession of the taxpayer
to buy a replacement or, in other words, to gradually
recover the acquisition cost. The income tax law does not
Generally, no deduction in the gross income shall be
authorize the depreciation of an asset beyond its
allowed for depreciation of the following:
acquisition cost. The reason is that deductions from gross
income are privileges, not matters of right. More 1. Yachts, helicopters, airplanes, and/or aircrafts;
importantly, the recovery, free of income tax, of an and
amount more than the invested capital in an asset will run 2. Land vehicles with a value of more than
counter to the purpose of a depreciation allowance. For P2,400,000
then, the taxpayer can not only recover the acquisition
cost, but also make some profit. Recovery in due time Exception: the taxpayer is in the business of transport
through depreciation of investment made is the operations or lease of transportation equipment and the
philosophy behind depreciation allowance; the idea of vehicles purchased are used in such operations.
profit on the investment made has never been the
underlying reason for the allowance of a deduction for In addition, the following shall be disallowed as
depreciation. deductions in the gross income:

1. All maintenance expenses on account of non-


Q35.4. The BIR found that ABC claimed excessive
depreciable vehicles;
depreciation of its buildings. In its defense, ABC
2. Input taxes on the purchase of non-depreciable
Limpan argued that that some of its buildings are old
vehicles and all input taxes on maintenance
and out of style; hence, they are entitled to higher
expenses.
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Depletion In depletion, evidence must be shown to show the


produce mined and for how much they were sold during
Q36. What is depletion? the year for which the return or computation were made.
This is necessary in order to determine the amount of
Depletion is the exhaustion of natural resources like depletion that can be legally deducted from gross income.
mines and opil and gas wells as a result of production or Given the evidence presented, the Supreme Court held
severance from such mines or wells. that the CIR was correct as to the cost of the mining
property but both the CIR and Consolidated were wrong
Q36.1. Who may avail of the cost of depletion? as to estimated ore deposit.

Annual depletion deductions are allowed only to persons Charitable and other contributions
who own an economic interest in the property that are
entitled to depletion allowance. Q37. What are the conditions for deductibility of
charitable contributions?
Q36.2. What is the difference between depletion and
depreciation? The requisites are:
1. Actually paid or made to the Philippine
Both depletion and depreciation are predicated on the Government or any political subdivision thereof,
same basic premise of avoiding a tax on capital. The or any of the domestic corporation or association
allowance for depletion is based on the theory that the specified in the Tax Code
extraction of minerals gradually exhausts the capital 2. Made within the taxable year
investment in the mineral deposit. The purpose of the 3. Not exceeding 10% (individuals) or 5%
depletion deduction is to permit the owner of a capital (corporations) of the taxpayer’s taxable income
interest in mineral in place to make a tax-free recovery of before charitable contributions
that depleting capital asset. A depletion is based upon the 4. Evidenced by adequate receipts or records
concept of the exhaustionof a natural resource whereas
depreciation is based upon the concept of the exhaustion Q37.1. What contributions are deductible in full?
of the property, not otherwise a natural resource, used in
a trade or business or held for the production of income. Donations to the following institutions are deductible in
Thus, depletion and depreciation are made applicable to full:
different types of assets. And a taxpayer may not deduct 1. Donations to the Government, its entities,
that which the Code allows as a deduction of another. political subdivisions or fully owned corporations
exclusively for undertaking priority activities in
Q36.3. What is the rule on depletion? accordance with the national priority plan to
be determined by NEDA
A reasonable allowance for depletion or amortization, 2. Donations to foreign institutions or international
under a cost depletion method, shall be allowed for oil and organizations pursuant to agreements, treaties
gas wells and mines. The allowance is deductible from the entered into by Government or special laws
net taxable income. However, when the allowance for 3. Donations to accredited Non-Government
depletion has equal the capital invested, no further Organizations (non-profit domestic
allowance shall be granted corporation)52

In CONSOLIDATED MINES, INC. VS. COURT OF TAX Q37.2. When are donations subject to limitations?
APPEALS [AUGUST 29, 1974], the BIR among other
disallowances claimed that the depletion expense When the donation is made to:
deductions of Consolidated Mines have been 1. The government for public purposes
overcharged. Thus, Consolidated was assessed for 2. Accredited domestic corporations for religious,
income tax deficiency. The CIR and Consolidated charitable, scientific, etc. purposes
differed with regard to the cost of the mining property as 3. Social welfare institutions
well as the estimated ore deposit. On appeal to the CTA, 4. NGOs (not accredited)
the CTA ruled in favor of the CIR on the issue of
depletion deductions. Consolidated contested the rate of The limitations are 10% of net income for individual
mine depletion adopted by the CTA in arriving at its taxpayers and 5% of net income for corporate taxpayers.
conclusion.

52
NGOs are accredited by the PCNC (Philippine Council for NGO Certification)
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Q37.3. What is a non-government organization? is not deductible. Improper payments of royalty are not
deductible as legitimate business expenses. Proper
A non-government organization shall refer to a non- reference must be given to CB Circular 393 which
stock, non-profit domestic corporation organized and provides that royalties shall be paid only on commodities
operated exclusively for scientific, research, manufactured by the licensee under the royalty
educational, character-building and youth and sports agreement. In this case, there were some finished
development, health, social welfare, cultural or products imported by the licensee from the licensor. No
charitable purposes or a combination thereof, no part royalty is payable on the wholesale price of such imported
of the net income of which inures to the benefit of any finished products.
private individual.
CB Circular is no longer present, so the standard is
Q37.3.1. Is an international NGO qualified to be “reasonableness”
granted accreditation?
No. In BIR RULING 19-01 [MAY 10, 2001], at issue was Q38.2. May the taxpayer elect to amortize/capitalize
whether or not international organizations with home its research and development expenses?54
offices based abroad are qualified to be granted done
institution status (accreditations as NGO), the CIR ruled Yes. The taxpayer may elect to amortize the following
that a non-stock, non-profit corporation or organization research and development expenditures:
must be created or organized under Philippine laws and 1. Paid or incurred by the taxpayer in connection
that an NGO must be a non-profit domestic corporation, a with his trade, business, or profession
foreign corporation whether resident or non-resident 2. Not treated as research and development
cannot be accredited as a done institution. expenses (not capitalized)
3. Chargeable to capital account but not chargeable
Research and Development to property of a character which is subject to
depreciation or depletion.
Q38. What is the rule on the deductibility of
expenses for research and development? Additional requirements for deductibility

A taxpayer may treat research or development Q39. What are the additional requirements for
expenditures which are paid or incurred by him during the deductibility of deductions?
taxable year in connection with his trade, business, or
profession as ordinary and necessary expenses which Any amount paid or payable which is otherwise deductible
are not chargeable to capital account. The expenditures from or taken into account in computing gross income or
so treated shall be allowed as deduction during the for which depreciation or amortization may be allowed
taxable year when paid or incurred. shall be allowed as a deduction ONLY if it is shown that
the tax required to be deducted and withheld therefrom
Q38.1. When is the above rule inapplicable? has been paid to the BIR in accordance with:

The rule does not apply to: 1. Section 34, Section 58 (on returns and payment
1. Any expenditure for the acquisition or of taxes withheld at source); and
improvement of land, or for the improvement of 2. Section 81 (on filing of return and payment of
property to be used in connection with research taxes withheld) .
and development of a character which is subject
to depreciation and depletion RMO 38-83 [NOVEMBER 14, 1983] provides for the
2. Any expenditure paid or incurred for the purpose guidelines for allowance of deductions for certain income
of ascertaining the existence, location, extent, payments.
quality of any deposit of ore or other mineral,
including oil or gas.

In 3M PHILIPPINES, INC. VS. COMMISSIONER OF INTERNAL


REVENUE [SEPTEMBER 26, 1988], 53 3M Philippines, a
subsidiary of 3M (nonresident foreign corporation based
in the US), claimed as deductions the entire amount paid
by 3M Philippines to 3M for royalties and technical
services. The Supreme Court ruled that the entire amount
53 54
Note, however, that during this time, there was a 5% threshold for This is similar to interest expense where you can capitalized.
royalty payments.
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Optional Standard Deduction itemized deductions or in lieu thereof may opt to avail of
the OSD allowed to corporations. The net income
Section 34 (L), Tax Code as amended by Republic Act determined by either claiming the itemized deductions or
9504 OSD from the GPP’s gross income is the distributable net
income from which the share of each partner is
Q40. What is meant by “Optional Standard determined.
deduction?”
If the GPP availed of the itemized deductions in
Section 34(L) provides that in lieu of the itemized computing its net income, a partner may still claim
deductions, an individual subject to tax excluding a itemized deductions from his share in the net income of
nonresident alien may elect a standard deduction of the partnership.
not exceeding 40% of his gross sales or gross receipts,
as the case may be. In the case of a domestic However, if the GPP availed of the OSD in computing its
corporation and a resident foreign corporation, it may net income, the partner can no longer claim further
elect a standard deduction in an amount not exceeding deduction from his share in the said net income.
40% of its gross income.
TRAIN Law Amendment: [R.A. 10693, 2018]
A non-resident alien (whether engaged or not) and a non- In case of a general professional partnership, the
resident foreign corporation cannot claim OSD. OSD may be availed only once by either the general
professional partnership or the partners comprising
The election to use OSD when made in the return shall be
irrevocable for the taxable year for which the return is such partnership.
made.

Q40.1. What are the rules in the determination of the NOLCO


amount of OSD?
Q32. What is a net operating loss?
RR 16-2008 [NOVEMBER 26, 2008] provides for the
following rules: Net Operating loss refers to the excess of allowable
deduction over gross income of a business for any taxable
For individuals year.
1. If on accrual basis of accounting, the OSD shall
be based on gross sales Q32.1. What are the rules on the carry-over of net
2. If on cash basis of accounting, the OSD shall be operation loss by a taxpayer?
based on gross receipts
3. Cost of sales and cost of services are not allowed 1. The net operating loss of the business or
to be deducted for purposes of determining the enterprise for any taxable year immediately
basis of the OSD preceding the current taxable year, which had not
been previously offset as deduction from gross
For corporations income shall be carried over as a deduction from
1. It shall be based on gross income gross income for the next 3 consecutive taxable
years immediately following the year of such loss
Q40.2. What are the rules in the determination of the 2. Any net loss incurred in a taxable year during
amount of OSD of GPPs? which the taxpayer was exempt from income tax
shall not be allowed as a deduction
RR 2-2010 [FEBRUARY 18, 2010] amended Sections 6 to 3. A net operating loss carry-over shall be allowed
7 of RR 16-2008 with respect to the determination of the only if there has been no substantial change in
OSD of GPPs. the ownership of the business or enterprise in that

A GPP is not subject to income tax but the partners shall (a) not less than 75% in nominal value of
be liable to pay income tax on their separate and outstanding issued shares, if the business is
individual capabilities for their respective distributive in the name of a corporation is held by or on
share in the net income of the GPP. behalf of the same persons; or
(b) Not less than 75% of the paid-up capital of
For purposes of computing the distributive share of the the corporation. If the business is in the name
partners, the net income of the GPP shall be computed in of a corporation is held by or on behalf of the
the same manner as a corporation. The GPP may claim same persons.
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Q41. May a taxpayer deduct from his gross income


Q32.2. XYZ entered into a merger agreement with premium payments for health and hospitalization
ABC. Under this agreement, the rights, properties, insurance?
privileges, powers and franchises of the said ABC
were to be transferred, assigned and conveyed to Yes. An individual taxpayer can claim as deduction from
XYZ as the surviving corporation. Before merger, the his gross income the premium payment for health and/or
company had over preceding years accumulated hospitalization insurance for an amount not exceeding
losses. XYZ claimed these losses as a deduction P2,400 per family during the taxable year provided the
against its gross income. Should the deduction be gross family income does not exceed P250,000 for the
allowed? taxable year. Only one spouse claiming the additional
exemption for dependents shall be entitled to this
No. In PAPER INDUSTRIES CORPORATION OF THE
deduction.
PHILIPPINES VS. COURT OF APPEALS [DECEMBER 1,
1995], the Supreme Court ruled that the deduction was
improper. NOLCO of the taxpayer shall not be Non-deductible expenses
transferred or assigned to another person, whether
directly or indirectly, such as, but not limited to, the Section 36, Tax Code
transfer or assignment thereof through merger,
consolidation or any form of business combination of Q42. What items are not deductible from gross
such taxpayer with another person. To allow the income?
deduction claimed by the surviving corporation would be
to permit one corporation or enterprise to benefit from No deduction shall in any case be allowed in respect to:
the operating losses accumulated by another corporation
or enterprise.
1. Any amount paid out for new buildings or for
Q32.3. If a corporation has paid its MCIT, will the permanent improvements or betterments made
three-year reglementary period on the carry-over of to increase the value of any property or estate.
NOLCO continue to run? (Capital expenditures)
2. Any amount expended in restoring property or in
Yes. RR 14-01 [AUGUST 27, 2001] provides that that the making good the exhaustion thereof for which an
three-year reglementary period on the carry-over of allowance is or has been made (capitalized
NOLCO shall continue to run notwithstanding the fact that interest)
the corporation paid its income tax under the MCIT 3. Premiums paid on any life insurance policy
computation covering the life of any officer or employee or of any
person financially interested in any trade or
Q32.4. If several corporations enter an agreement to business carried on by the taxpayer, individual, or
integrate their respective businesses, can each of the corporate when the taxpayer is directly or indirectly
corporations continue to carry-over their respective a beneficiary under such policy
net operating losses?
Losses from sales or exchanges of property directly or
It depends on the nature of the integration plan. In BIR indirectly between related persons
RULING 30-00 [AUGUST 10, 2000], three cement
companies (Republic, Fortune and Blue Circle) sought the a. Between members of a family
opinion of the CIR on the tax implications of their b. Between an individual and a corporation more
integration plan. With regard to NOLCO, the CIR held that than 50% in value of the outstanding stock of
since, under the plan, the corporation are not dissolved which is owned by such individual (except in the
but merely integrated for a specific bona fide purpose, the case of distributions in liquidation)
net operation losses of each of the cement corporations c. Between two corporations more than 50% in
are preserved after the proposed share swap and may be value of the outstanding stock of each of which is
carried over and claimed as a deduction from their owned by the same individual if either one of the
respective gross income because there is no substantial companies is a holding company
change in the ownership of either of the three cement d. Between the grantor and a fiduciary of any
companies. trust
e. Between the fiduciary of a trust and the
Premium payments on health and/or fiduciary of another trust if the same person is
hospitalization insurance a grantor with respect to each trust
f. Between a fiduciary of a trust and a
beneficiary of such trust.
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Section 119-122, RR 2 reiterates the enumeration it can never be said therefore that the margin fees were
provided above. appropriate and helpful in the development of petitioner's
Personal Expense that are NOT deductible: business in the Philippines exclusively or were incurred
1. Insurance paid on a dwelling owned & for purposes proper to the conduct of the affairs of
occupied by the taxpayer petitioner's branch in the Philippines exclusively or for the
2. Premiums paid for life insurance purpose of realizing a profit or of minimizing a loss in the
3. When a professional man rents a Philippines exclusively
property for residential purposes but
receives clients in connection with his Determining Net Income Tax Payable55
work, no part of the rent is allowable as
business expense. (But if he uses part of Section 31, 32(A), NIRC
his house as an office, that portion is
considered business expense, thus Q43. What is taxable income?
deductible)
4. Allowance given by daddy to kids As defined in Section 31, the term “taxable income”
5. Alimony or allowance paid under a means the pertinent items of gross income specified in
separation agreement this Code, less the deductions and/or personal and
additional exemptions, if any, authorized for such types of
The following Capital expenses are NOT deductible: income by this Code or other special laws.
1. New buildings, permanent
improvements, or any amount spent in Q44. What is gross income?
restoring property
2. Cost of defending or perfecting title to As provided in Section 32(A), gross income means all
property
income derived from whatever source, including, but not
3. Architect’s services
limited to, the following items:
4. Expense for administration of estate,
1. Compensation for services in whatever form paid,
court costs, attorney’s fees and
including, but not limited to fees, salaries, wages,
executor’s commissions
commissions and similar items;
5. Amount assess & paid under an
2. Gross income derived from the conduct of trade
agreement between bondholders &
or business or the exercise of a profession;
shareholders of a corporation, to be
3. Gains derived from dealings in property
used in the reorganization of the
4. Interests
corporation
5. Rents
6. Royalties
Q42.1. Are margin fees deductible business 7. Dividends
expenses? 8. Annuities
9. Prizes and winnings
No. In ESSO STANDARD EASTERN, INC. VS. COMMISSIONER 10. Pensions; and
OF INTERNAL REVENUE [JULY 7, 1989], Esso made profit 11. Partner’s distributive share from the net income
remittances to its New York Head Office. Esso claims that of the GPP
the margin fees it paid to the Central Bank on the
remittances are ordinary and necessary expenses and Q45. Is income subject to final tax included in the
should be deducted from its gross income. taxpayer’s taxable income?

The Supreme Court held that margin fees are not No. Under the Tax Code, "taxable income" does not
necessary and ordinary expenses. The margin fees are include passive income subjected to final withholding
not expenses in connection with the production or earning taxes. The definition of gross income is broad enough to
of petitioner's incomes in the Philippines. include all passive incomes subject to specific rates or
final taxes. However, since these passive incomes are
Since the margin fees in question were incurred for the already subject to different rates and taxed finally at
remittance of funds to petitioner's Head Office in New source, they are no longer included in the computation of
York, which is a separate and distinct income taxpayer gross income, which determines taxable income (see CIR
from the branch in the Philippines, for its disposal abroad, VS. PHILIPPINE AIRLINES [OCTOBER 9, 2006]).

55
The next three parts will be on Individuals, Corporations, and determined.
Withholding Tax. This part provides the key terms and an overview of
how net income tax payable for individuals and corporations are
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2. From all sources within the Philippines only by a


Such income is no longer “returnable,” meaning it will no non-resident citizen including overseas contract
longer be declared as income in the income tax return workers;
and, hence, will not be subject to the schedular income 3. From all sources within the Philippines only, by a
tax rates on individuals or the corporate income tax rate. resident alien or a non-resident alien engaged in
trade or business in the Philippines; 58
Q46. How is net income tax payable determined?
shall be subject to the graduated income tax in
In all cases, other than when a final tax is imposed or accordance with the following schedule provided under
when the gross compensation income tax system applies, Section 24, TRAIN LAW.
the income tax is imposed on the net taxable income
computed as follows: Not over PHP250,000 0%
Over 250,000 but not over 20% of the excess over
1. All income minus exclusions equals gross 400,000 250,000
income; Over 400,000 but not over 30,000 + 25% of the
2. Gross income less allowable deductions 800,000 excess over 400,000
equals net income (in case of corporations, this Over 800,000 but not over 130,000 + 30% of the
is already the taxable net income)56 2,000,000 excess over 800,000
3. Taxable net income times income tax rates (on Over 2,000,000 but not 490,000 + 32% of the
the graduated basis) equals net income tax due over 5,000,000 excess over 2,000,000
4. Income tax less creditable withholding tax and/or Over 5,000,000 1,450,000 + 35% of the
tax credit equals net income tax payable. excess over 5,000,000

Individuals Q47.1.a. How are Purely self-employed or


professionals taxed?
Ordinary and Passive Income
They have two options, either:
Q47. Differentiate ordinary income from passive 1. 8% of gross sales/receipts and other non-
income. operating income in excess of PHP250,000 in
lieu of graduated rates and percentage tax; or
Ordinary income is income other than capital gain and 2. Graduated rates in (A) above.
those incomes which fall under the category of passive
income. Provided, the gross sales/receipts and other non-
operating income must not exceed the PHP3M VAT
On the other hand, if the income is generated in the active threshold.
pursuit and performance of the corporation’s primary
purposes, the same is not passive income. Generally, Q47.1.b. What if the individual is both self-employed
passive income is income generated by the taxpayer’s or professional and compensation earner?
assets. These assets can be in the form of real properties
that return rental income, shares of stock in a corporation 1. If the PSE chooses graduated then he must first
that earn dividends or interest income received from deduct his deductibles and then aggregate with
savings. the income from the compensation earnings
before applying the graduated income rate
Q47.1. What is the income tax rate imposed on 2. If the PSE chooses the 8% you cannot
ordinary income? aggregate but apply the tax rate separately.

It shall be subject to the graduated income tax with rates Q47.1.c. Is the option available to all PSE?
from 0% to 35%.57
No, regardless if within the 3M threshold the ff can’t avail
In relation to Section 23 of the NIRC, the taxable income of 8%:
derived for each taxable year: 1. GPP
1. From all sources within and without the 2. VAT exempt
Philippines by resident citizens; 3. Subject to other percentage tax

56
Simply multiply it with the corporate income tax rate to the graduated income tax rate.
57 58
For ordinary income over P400,000 but not over P800,000 and Only difference really is the source of income
upper brackets, a fixed amount is added to the taxable amount subject
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Q47.1.1. Is the income of minimum wage earners Q47.3.1. What is the proper tax treatment on
subject to the graduated income tax rates? individual taxpayers of income derived from
royalties, prizes and other winnings?
No. Minimum wage earners shall be exempt from the
payment of income tax on their taxable income. • Royalties (except books, literary works, musical
compositions), prizes amount to more than
Further, their holiday pay, overtime pay, night shift P10,000 and other winnings (except PCSO and
differential pay, and hazard pay received by them shall Lotto)
likewise be exempt from income tax.
• Final tax in case of citizens (whether resident or
nonresident), resident aliens and non-resident
Q47.2. What is the income tax rate imposed on
aliens engaged in trade or business is 20%.
passive income?
• In case of non-resident aliens not engaged in
Passive incomes are subject to different final taxes. trade or business, the amount received shall form
part of their gross income subject to a flat 25%.
(see Section 25(B))
As stated earlier, since they are already subject to
different rates and taxed finally at source, they are no
Exceptions:
longer included in the computation of gross income, which
1. For royalties from books, literary works, musical
determines taxable income.
compositions, the final tax is 10%.
2. Prizes amounting to P10,000 or less shall form
Q47.3. What are the incomes subject to final tax
part of ordinary taxable income and, subject, to
rates?
the graduated income tax rates.
As a general rule, income, gain or profit derived by an 3. Interests from Deposits and Yield or any other
individual during the taxable year shall be subject to the Monetary Benefit from Deposit Substitutes and
graduated income tax rates. from Trust Funds and Similar Arrangements and
Royalties
As exceptions, certain incomes subject to tax are not a. Income derived under the Expanded
subject to the graduated tax rates and are instead subject Foreign Currency Deposit System
to final tax rates. They are: b. Intercorporate Dividends
c. Capital gains from sale of shares of
1. Tax on certain passive income stock not traded in the Stock exchange
under Section 24(B) under
a) Interests, royalties, prizes and d. Capital gains from sale of real property85
other winnings under Section
24(B)(1) 4. PCSO and Lotto Winnings are tax-exempt.
b) Cash and/or property dividends
under Section 24(B)(2) TRAIN Law Amendment PCSO and lotto winnings
2. Capital gains from sale of shares of stock exceeding PHP10,000 would be subject to the 20% final tax.
not traded in the Stock exchange under Interest income from a depository bank under the expanded
Section 24(C) foreign currency deposit system is subject to an increased
3. Capital gains from sale of real property final tax of 15%
under Section 24(D)
4. Compensation income of alien and Filipino Q47.3.2. What is the proper tax treatment on
employees of individual taxpayers of income derived from
o Regional or area headquarters and dividends?
regional operating headquarters of MNCs
under Section 25(C) • Dividends from domestic corporations and
o Offshore Banking Units under Section shares in net profits of taxable partnerships
25(D) received by citizens (whether resident or
Foreign petroleum service contractors and nonresident) or resident aliens are subject to
sub-contractors under Section 25(E) 10%.
• In the case of non-resident aliens engaged in
trade or business, it is 20%.
• As for non-resident aliens not engaged in trade or
business, it shall form part of their taxable gross
income subject to flat rate of 25%.
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Q47.3.3. What are deposit substitutes? substitutes, etc evidences by certificates


in the BSP- prescribed form
Deposit An alternative form of obtaining funds d. The long-term deposits or investments
substitutes from the public (the term public means must be issued by banks only;
borrowing from 20 or more individual or e. The long-term deposits or investments
corporate lenders at any one time), must have a maturity period of not less
other than deposits, through the than 5 years
issuance, endorsement, or acceptance f. The long-term deposits or investments
of debt instruments for the borrower’s must be in the denominations of P10,000
own account for purposes of re-lending and other BSP-prescribed denomination
or purchasing receivables and other g. The long-term deposits or investments
similar obligations, or financing their should not be pre-terminated.
own needs or the needs of their agent h. Except those specifically exempted by
or dealer law, any other income such as gains from
trading, foreign exchange gain shall not
Q47.3.4. What is the proper tax treatment on be covered by income tax exemption.
individual taxpayers of income derived from interests
If the deposit or investment is pre-terminated, a final tax
As provided in RR 14-2012 [NOVEMBER 7, 2012]: shall be imposed on the entire income.

1. Interest from Philippine currency bank • Four years to less than five year – 5%.
deposits and yield from deposit substitute • Three years to less than four years – 12%
and from trust funds or similar arrangements • If less than three years – 20%.

Final tax in case of citizens, resident aliens and 4. Interest income derived from a depository
non- resident aliens engaged in trade or business bank under the expanded foreign currency
is 20%. deposit system (EFCDS)

In case of non-resident aliens not engaged in Derived from FCDUs:


trade or business, the amount received shall form
part of their gross income subject to flat 25% a) The interest income must be derived by
income tax.59 residents. If the interest income is derived by a
resident individual taxpayer, it shall be subject to
2. Interest income derived from government a final tax of 15%.61
debt instruments and securities b) Any income of non-residents, whether individuals
or corporations, shall be tax-exempt.
They are considered “deposit substitutes.”60 The c) If the bank account is jointly in the name of a non-
same tax treatment as above is applied. resident and a resident, 50% shall be treated as
exempt and the remaining 50% shall be subject
3. Interest derived from long long-term deposits to the final tax of 15%
or investments
Derived by FCDUs:
They are exempt from tax, provided the following
requisites are met: a) The interest income must be derived by
a. Depositor is an individual citizen residents. Interest income from foreign currency
(resident or non-resident), a resident loans granted by such depository banks under
alien or a nonresident alien engaged in the EFCDS other than OBUs shall be subject to a
trade or business in the Philippines; final tax of 10%.
b. The long-term deposit or investment b) Any income of non-residents, whether individuals
certificates under name of the individual; or corporations, shall be tax-exempt.
c. The long-term deposits or investments
must be in the form of savings, common 1- 4 are derived from dealings with banks not interest
or individual trust funds, deposit income derived by banks.
59 61
A non-resident foreign corporation is subject to a FWT of 30%. Domestic and resident foreign corporations are also subject to the
60
Irrespective of the number of lenders at the time of origination if final tax of 15%. Nonresident foreign corporations are exempt
such debt instrument and securities are to be traded or exchanged in [Amended by TRAIN Law]
the secondary market.
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Section 22(T) to (X), Tax Code


5. Interest income derived from offshore Securities Means share of stock in a
banking units of OBUs corporation and rights to subscribe
for or to receive such shares
a) Income derived by OBUs from foreign currency A merchant of stocks or securities,
transactions with nonresidents, other OBUs, and Dealer in
securities whether an individual, partnership
local commercial banks are tax-exempt. or corporation, with an established
b) If the foreign currency transactions are with place of business, regularly
residents other than OBUs and local commercial engaged in the purchase of
banks, the interest income shall be subject to securities and the resale thereof to
10% customers
Bank Every banking institution
6. Interest income derived all other instruments as defined in RA 337 as
amended by RA 8791 (General
Any other debt instrument not within the coverage of Banking Act of 2000)
deposit substitutes shall be subjected to a creditable
Non-bank A financial intermediary as defined
withholding tax of 20%.
financial in RA 337 as amended by RA 8791
institution (General Banking Act of 2000)
Capital Gains Tax 62 authorized by the BSP to perform
quasi-banking activities
Q48. Define the following terms. Means borrowing funds from 20 or
Quasi-
banking more personal or corporate lenders
Section 22(Z) and 39(A) Tax Code at any one time, through the
activities
issuance, endorsement, or
Ordinary Any gain from the sale or exchange of acceptance of debt instruments of
Income property which is not a capital asset or any kind other than deposits for the
property described in Section 39(A)(1) borrower’s own account or through
(which defines what capital assets the issuance of certificates of
are and those which are not) assignments or similar
Ordinary Includes any loss from the sale or instruments, with recourse, or of
loss exchange of property which is not a purchase agreements for purposes
capital asset of re-lending or purchasing
Capital Means property held by the taxpayer receivables and other similar
Assets (whether or not connected with his trade obligations
or business) but does not include:
Q49. What is a capital gains tax?
1. Stock in trade of the taxpayer or
other property of a kind which would A capital gains tax is a tax on capital gains, the profit
properly be include in the inventory realized from the sale of capital assets.
of the taxpayer if on hand at the
close of the taxable year Q49.1. If the asset sold is not a capital asset, what
2. Property held by the taxpayer tax will be imposed?
primarily for sale to customers in the
ordinary course of his trade or If the asset is an ordinary asset, any gain from the sale
business thereof shall form part of the ordinary income which shall
3. Property used in the trade or be subject either to graduated income tax rates (if
business of a character which is individual) or corporate income tax (if corporation).
subject to the allowance for
depreciation Q49.2. What capital gains are subject to capital gains
4. Real property used in trade or tax?
business of the taxpayer assets over 1. Capital gains from the sale of shares of stock no
the gains from such sales or trade in the stock exchange
exchanges 2. Capital gains from the sale of real property

62
This will be discussed in greater detail in the section on Capital
Gains and Losses.
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As far as the taxing authority is concerned, the seller is sale will always be subject to capital gains tax without any
liable for the tax. EXCEPT for mortgage where the exemption.
mortgagee will now be the statutory seller, even if it’s
really the mortgagor who’s the seller. The capital gains tax must be paid within 30 days
following each sale or disposition. In case of installment
Q49.3. From the above transactions, who are the sale, the return shall be filed within 30 days following the
individual taxpayers whose transactions would be receipt of the first down payment and within 30 days
subject to capital gains tax? following the subsequent installment payments.

The capital gains tax shall be imposed on such (See RR 06-2008 [APRIL 22, 2008])
transactions by any individual taxpayer, whether citizen or
alien. 63 Q51.1. If the share of stock is traded through the stock
exchange, what tax is applicable?
Q49.4. Is the capital gain from the sale or exchange of
a capital asset always taxable in full? A percentage tax of ½ of 1% is imposed on the gross
selling price of shares of stock if they are listed and sold,
No. In the case of a taxpayer other than a corporation, the exchanged or transferred through the facilities of the local
following percentages of the gain upon the sale or stock exchange. (see Section 127(A) and RR 06-2008
exchange of a capital asset shall be taken into account in [APRIL 22, 2008])
computing net capital gain:
1. 100% if the capital asset has been held for not However, even if trade through the stock exchange, a sale
more than 12 months of shares by companies not complying with the 10%
2. 50% if the capital asset has been held for more minimum public float shall be subject to capital gain tax
than 12 months (see RR 16-2012 [November 7, 2012])

Capital Gains Tax with respect to shares of Q51.2. What are exempted from capital gains tax on
stock stock transactions?

1. Gains derived by dealers in securities


3 Types of Stocks:
2. Gains from sales of stock to the extent invested
1. not listed but traded
in new shares of stocks in banks, financial
2. listed but traded
intermediaries, and corporations organized
3. listed but not traded
primarily to hold equities in banks
4. given at the initial offering
3. All other gains which hare specifically exempt
Q50. What are stocks classified as capital assets? from income tax under existing investment
incentives and other special laws.
Stocks classified as capital assets mean all stocks and
securities held by taxpayers other than dealers in Q51.3. Is an assignment of deposits on stock
securities. subscriptions subject to capital gains tax?

Q51. What is the rule on capital gains from sales of YES. The assignment of the deposits on stock
shares of stock? subscriptions results in a net gain. A tax on the profit of
sale on net capital gain is the very essence of the net
Capital gains tax shall be imposed upon the net capital capital gains tax law. To hold otherwise will ineluctably
gains realized during the taxable year from the sale, deprive the government of its due and unduly set free
barter, exchange or other disposition of shares of stock in from tax liability persons who profited from said
a domestic corporation except shares, sold or disposed transactions (see COMPAGNIE FINANCIERE SUCRESET
through the stock exchange. DENREES VS. CIR [AUGUST 28, 2006])

The final tax imposed shall be:


• Capital gains not over P100,000 – 5%
• Capital gains over P100,000 – 10%

The tax base shall only be the gain on the sale and such

63
Note that any corporate taxpayer, domestic or foreign as well as all real property transactions
other taxpayers may be subjected to pay capital gains tax on stock or
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Q51.4. What is the effect of non-payment of capital government-owned or controlled corporations, the seller
gains tax on stock transactions? may elect to:
1. compute the tax on the gain derived from such
As provided in Section 11 of RR 06-2008, no sale, sale under the normal income tax rates; or
exchange, transfer or similar transaction intended to 2. under a final capital gains tax of 6%.
convey ownership of, or title to any share of stock shall be
registered in the books of the corporation unless the When included as income, there may be deductions you
receipts of payment of the tax herein imposed is filed with can avail of.
and recorded by the stock transfer agent or secretary of
the corporation. Q52.2. What are the conditions for the exemption of
capital gains tax on the sale by a natural person of his
RMC 37-2012 [AUGUST 3, 2012] clarified RR 06-2008 in principal residence?
stating that a Certificate Authorizing Registration [CAR]
is still necessary before any transfer of shares of stock As provided in RR 13-99 [JULY 26, 1999], as amended
not traded in the Stock Exchange may be transferred in by RR 14-2000 [NOVEMBER 20, 2000]:64
the books of a corporation.
1. The 6% capital gains tax otherwise due shall be
Capital Gains Tax with respect to disposition deposited in cash or manager’s check in an
of real property interest-bearing account with an authorized agent
bank under an Escrow Agreement.
2. He shall file his Capital Gains Tax Return
Q52. What is the rule on capital gains from
3. The proceeds from the sale, exchange or
dispositions of real property?
disposition must be fully utilized in acquiring or
constructing his new principal residence within 18
The rate of 6% shall be imposed on capital gains calendar months from date of its sale. To ensure
presumed to have been realized by the seller from the compliance, he must within 30 days from the
sale, exchange, or other disposition of real properties lapse of the said period the required documents
located in the Philippines classified as capital assets, to prove full utilization.
including pacto de retro sales and other forms of 4. Upon a showing that the proceeds of the sale,
conditional sales based on the gross selling price or fair exchange or disposition have been fully utilized,
market value as determined by the CIR, whichever is the escrow on the bank deposit shall be released.
higher. 5. The tax exemption may be availed of only once
every 10 years
The tax base shall be the entire selling price. 6. The historical cost or adjusted basis of his old
principal residence sold, exchanged disposed
The capital gains tax must be paid within 30 days shall be carried over to the cost basis of his new
following each sale or disposition. In case of installment principal residence
sale, the return shall be filed within 30 days following the 7. If he fails to submit the required documents within
receipt of the first down payment and within 30 days 30 days after the lapse of the 18-month period, it
following the subsequent installment payments. shall be presumed that he did not fully utilize the
proceeds of the sale, exchange or disposition of
Why? Because of the “PRESUMED GAIN” — you his old principal residence, and shall be assessed
always assume they sell for gain deficiency capital gains tax. The escrow shall be
applied in payment of this.65
For there to be capital gains tax, the property should be 8. If there is no full utilization of the proceeds of sale,
a capital asset (property not used in the business & not exchange or disposition of his old principal
principal residence) residence, he shall be liable for deficiency capital
gains tax, inclusive of 20% interest per annum,
Q52.1. What is the special rule for disposition of real 9. Computed from the 31st day after the date of
property made by an individual to the government? sale or disposition of the said old principal
residence.
As provided in RR 8-98, in case of disposition of real
property made by an individual to the government or to
any of its political subdivisions or agencies or to

64
RR 14-2000 added the escrow agreement requirement and shall remain liable for the remaining balance of the assessment.
conditions relating thereto. The excess of the deposit in escrow, if any, shall be returned to him.
65
If the same is insufficient to cover the entire amount assessed, he
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Q52.3. Who is liable to pay the capital gains tax? because before the period expires there is yet no transfer
of title and no profit or gain is realized by the mortgagor.
The seller is liable to pay the capital gains tax. As provided
in RR NO. 8-98 [AUGUST 25, 1998], the capital gains tax Q52.6. If title to property is transferred to one spouse
return will be filed by the seller within 30 days following as a result of a court decision in an annulment case,
each sale or disposition of real property. is the transfer subject to capital gains tax?

Q52.3.1. Can the buyer pay the capital gains tax? No. In BIR Ruling DA-029-08 [JANUARY 23, 2008], title to
a house and lot was transferred to the husband by virtue
Yes. The buyer can retain the amount for the capital gains of a decision of the court declaring his marriage with his
tax and pay it upon authority of the seller,66 or the seller wife null and void. In BIR Ruling DA 287-07 [MAY 8,
can pay the tax, depending on the agreement of the 2007], title to a condominium unit was transferred to the
parties. wife as a result of an agreement to distribute communal
property executed in the course of annulment
Q52.4. Is the payment of the capital gains tax a pre- proceedings. In both BIR Rulings, the CIR held that the
requisite to the transfer of ownership to the buyer? transfer of the title of the subject properties are not subject
to capital gains tax, as such transfers are equivalent to a
No. Payment of the capital gains tax, however, is not a conveyance but without monetary consideration, made in
pre-requisite to the transfer of ownership to the buyer. The accordance with the Court's Decision granting parties
transfer of ownership takes effect upon the signing and agreement for the distribution of communal property.
notarization of the deed of absolute sale. (see Chua v.
CA [APRIL 9, 2003]) Q. What will you prefer for tax purposes, SHARES
OF STOCK or REAL PROPERTY? Which is more
Q52.5. If a mortgagee foreclosed the mortgaged beneficial?
property but the mortgagor exercises his right of
redemption within the applicable period, will capital
gains tax still be imposed on the foreclosure sale?

RR 4-99 [MARCH 9, 1999] provides that in case the


mortgagor exercises his right of redemption within one
year from the issuance of the certificate of sale, 67 no
capital gains tax shall be imposed because no capital
gains has been derived by the mortgagor and no sale or
transfer of real property was realized. If the mortgagor
does not exercise his right of redemption, capital gains
tax on the foreclosure sale shall become due.
Factors to consider:
Q52.5.1. ABC Company took out a loan from XYZ • Shares of stock is listed or not
bank and mortgaged one of its properties as • Selling price of the real property
collateral. ABC was unable to pay so XYZ • Fair Market Value of the real property
extrajudicially foreclosed the property and bought it. • Selling price of the shares
Before the expiration of the one-year redemption • Net Capital Gains of shares
period, 68 the mortgagor notified the bank of its
• Whether the corporation is Domestic or Foreign
intention to redeem the property. Is XYZ liable to pay
• Is it a real property in the Philippines
the capital gains tax as a result of the foreclosure
sale?

No. In foreclosure sale, there is no actual transfer of the


mortgaged real property until after the expiration of the
one-year period and title is consolidated in the name of
the mortgagee in case of non-redemption. This is
66
The buyer has more interest in having the capital gains tax paid registration of the certificate of foreclosure sale with the Register of
immediately since this is a pre-requisite to the issuance of a new Torrens Deeds which in no case shall be more than 3 months after foreclosure
title in his name.
68
67
Note Section 47 of the General Banking Act, judicial persons The foreclosure sale in the case on which the question is based took
whose property is being sold pursuant to an extrajudicial foreclosure place prior to the effectivity of the Act.
shall have the right to redeem the property until, but not after, the
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OCWs/Senior Citizens/Disabled
Note that the exemption of senior citizens from income tax
does not extend to all types of income earned during the
Q53. What are the requirements for OCWs and taxable year such as those subject to final taxes. (see RR
seafarers or seamen to be considered OCWs for No. 007-10 [JULY 20, 2010].)
taxation purposes?
Q54.1. Is the 20% sales discount granted by
To be considered as an OCW, they must be duly establishments to qualified senior citizens
registered as such with the POEA with a valid Overseas
considered a tax credit or a tax deduction?
Employment Certificate (OEC). In the case of seafarers or
seamen, they must be duly registered with the POEA with
In M.E. HOLDING CORPORATION V. COURT OF APPEALS
a valid OEC and with a valid Seafarers Identification
[MARCH 3, 2008], the Supreme Court noted that under RA
Record Book or Seaman’s book issued by the MARINA.
9257 or the Expanded Senior Citizens Act of 2003,
(see RR NO. 001-11 [FEBRUARY 24, 2011]).
starting taxable year 2004, the 20% sales discount shall
be treated as a tax deduction and no longer as a tax
Q53.1. What is the tax treatment of OCWs for credit.
purposes of income tax?
Q54.1.1. What is the difference between a tax credit
An OCW’s income arising out of his overseas and tax deduction?
employment is exempt from income tax. If he has income
earnings from business activities or properties within the A tax credit is a peso-for-peso deduction from the
Philippines, such income earnings are subject to taxpayer’s tax liability or a full recovery while a tax
Philippine income tax. deduction only benefits the taxpayer to the extent of a
percentage of the amount granted as a discount. (See
Q53.2. Are OCWs and seafarers exempt from the 7.5% CARLOS SUPERDRUG CORP. V. DSQS [JUNE 29, 2007] and
final tax on interest income from a depository bank M.E. HOLDING CORPORATION V. COURT OF APPEALS
under the EFCDS? [MARCH 3, 2008])
No, because OCW and seamen are non-residents. As Q55. Can a benefactor77 of a PWD whose civil status
such, they are exempt from the final tax. To avail of the is single avail of the “head of family” status to be
tax exemption, they must present proof of non- residency entitled to personal exemption?
such as their OEC or Seaman’s book. However, if the
account is jointly in the name of the OCW and an It is no longer necessary. RA 9442, which amends RA
individual living in the Philippines, half of the interest 7277 or the Magna Carta for Persons with Disability,
income will be treated as tax-exempt and the remaining provides that a benefactor of a PWD whose civil status is
half shall be subject to the final tax. (see RR NO. 001-11 single shall be considered as “head of family” and, as
[FEBRUARY 24, 2011]). such, shall be entitled to personal exemption. However,
the terms “head of
Q54. What is the tax treatment of senior citizens for
purposes of income tax? Partnerships (GPPs)69
Generally, qualified senior citizens deriving returnable
income during the taxable year, whether from Q61. What is the tax treatment of a GPP?
compensation or otherwise, are required to file their
The GPP as an entity is not liable for income tax.
income tax return and pay the tax. However, the persons engaging in business as partners
in a GPP shall be liable for income tax only in their
However, he shall be exempt under the following cases:
separate and individual capacities for their respective
distributive share in the net income of the GPP.
1. The returnable income is in the nature of
compensation income but he qualifies as a
minimum wage earner; and
2. If the aggregate amount of gross income earned
by the Senior Citizen during the taxable year
does not exceed the amount of his personal
exemptions (basic and additional)
69
Previously, we have said that a partnership is liable for income tax or organized except GPPs. In this, GPPs will be discussed instead.
as the term “corporations” includes partnerships no matter how created
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Q61.1. How is the distributive share of the partners Q63.1. Why is the distinction of the two relevant for
computed? purposes of corporate income tax?

The net income of the GPP shall be computed in the same 1. For domestic corporations and resident foreign
manner as a corporation. Each partner shall report as corporations, Regular Corporate Income Tax
gross income his distributive share, actually or (RCIT) is imposed on taxable income. For non-
constructively received, in the net income of the resident foreign corporations, RCIT is imposed on
partnership. its gross income.
2. When applicable, MCIT is imposed on the gross
Q61.2. When is the net income of a partnership income of domestic and resident foreign
deemed constructively received by partners? corporations.
The taxable income declared by a partnership which is
subject to corporate income tax, after deducting the said Domestic Corporations Ordinary Income
corporate income tax, shall be deemed to have been
actually or constructively received by the partners in the Q64. What is the regular corporate income tax
same taxable year and shall be taxed to them in their imposed on corporations?
individual capacity, whether actually distributed or not.
The rate of RCIT imposed on corporations is 30%.
Q62. May GPPs claim OSD?
For domestic corporations:
Yes. Train Law states In case of a general professional
partnership, the OSD may be availed only once by either 1. The rate is imposed on taxable income from
the general professional partnership or the partners sources within and without the Philippines.
comprising such partnership. 2. Different rates of tax apply on certain passive
incomes.
Corporations
For resident foreign corporations:
Q63. Define taxable income and gross income for
purposes of corporate income taxes. 1. The rate is imposed on taxable income from
sources within the Philippines.
Taxable means the pertinent items of gross 2. Different rates of tax apply on certain passive
Income income specified in the Code, less the incomes.
deductions and/or personal and
additional exemptions, if any authorized For nonresident foreign corporations:
for such types of income by the Code or
other special laws. For corporations, 1. The rate is imposed on gross income from all
taxable income would mean net income. sources within the Philippines.
Net income and taxable 2. The gross income includes those income sourced
income is used interchangeably when from certain passive incomes including capital
it comes to corporations. gains.
3. However, capital gains from sales of shares of
stock not traded in the stock exchange are, not
included in the gross income as well as interest
from foreign loans and intercorporate dividends
which are subject to final tax rates.
Gross Shall mean gross sales less sales
Income returns, discounts, allowances and Q65. May the President allow domestic and resident
cost of goods sold. foreign corporations the option to be taxed on their
gross income?

Yes. As provided under Section 27(A)(1) and Section


28(A)(1), the President upon recommendation of the
Secretary of Finance may allow domestic and resident
foreign corporations the option to be taxed at 15% of
gross income after the following conditions have been
satisfied:

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1. a tax effort ratio of 20% of the GNP Q68.1. What is the tax treatment on corporations of
2. a ratio of 40% of income tax collection to total income derived from dividends?
tax revenues
3. a VAT tax effort of 4% of GNP 1. If the dividends are from a domestic corporation:
4. a 0.9% ratio of Consolidated Public Sector
Financial Position (CPSFP) to GNP Domestic and resident foreign corporations are tax-
exempt as they are treated as inter-corporate dividends.
This option is available to firms whose ratio of cost of However, for resident foreign corporations, they are
sales to gross sales or receipts from all sources does not subject to the 15% branch profit remittance tax.
exceed 55%. Upon election of the gross income tax
option, it shall be irrevocable for 3 consecutive taxable For non-resident foreign corporations, the dividend is
years during which the corporation is qualified. subject to:
1. Tax treaty rate, if applicable
Q66. What domestic corporations are subject to 2. 15% if no tax treaty but satisfies the tax-sparing
preferential tax rates? provision (20% à 15%)
3. 30% if no tax treaty and does not comply with the
As a general rule, all domestic corporations are subject to
tax-sparing provision
the RCIT. As exceptions, certain domestic corporations
are subject to final tax rates. They are:
2. If the dividends are from a foreign corporation:
1. Proprietary education institutions and hospitals
The income shall form part of the gross income of the
2. Foreign currency deposit unit of a local universal
corporation but the situs of the income becomes material
or commercial bank
except for a domestic corporation which is taxed on
3. Firms that are taxed under a special income tax
worldwide income.
regime
4. Private educational institutions
Q68.2. What is the tax treatment on corporations of
5. Hospitals
interest income from Deposits and Yield or any other
Monetary Benefit from Deposit Substitutes and from
Q67. Are GOCCs subject to corporate income tax?
Trust Funds and Similar Arrangements and
As a general rule, yes. As provided under Section 27(C), Royalties?
the provisions of special or general laws to the contrary
notwithstanding, all corporations, agencies or 1. Domestic and resident foreign corporations are
instrumentalities owned or controlled by the Government, subject to a final tax of 20%.
except the GSIS, SSS, Philhealth, and the PCSO, shall 2. Subject to a final withholding tax of 30% if
pay such rate of tax upon their taxable income as imposed received by a foreign nonresident corporation,
by this section upon corporations or associations unless the interest income is from foreign loans
engaged in a similar business, industry or activity. contracted on or before August 1, 1986, in which
case it is subject to a FWT of 20%
Passive Income
If the tax rate for something is not specifically stated, it does
not mean it is exempt. Rather, it will form part of your
Q68. What are some of the certain passive incomes regular income subject to 30% tax.
received by corporations?
1. Interests from Deposits and Yield or any other Q68.3. What is the tax treatment on corporations of
Monetary Benefit from Deposit Substitutes and income derived under the EFCDS?
from Trust Funds and Similar Arrangements and
Royalties 1. Domestic and resident foreign corporations are
2. Income derived under the Expanded Foreign subject to a final tax of 15%. Any income of non-
Currency Deposit System residents, whether individuals or corporations,
3. Intercorporate Dividends shall be tax-exempt.
4. Capital gains from sale of shares of stock not 2. Income derived by a depository bank under the
traded in the Stock exchange under EFCDS from foreign currency transactions with
5. Capital gains from sale of real property70 non-residents, OBUs in the Philippines, local
commercial banks, including branches of foreign

70
Note that this is not considered a passive income for foreign ownership of lands.
corporations, whether resident or nonresident. The simple reason is
because of the prohibition imposed by the Constitution on foreign
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banks and other depository banks under the domestic corporation while a branch is a resident foreign
EFCDS shall be exempt from ll taxes. corporation.
3. Interest income from foreign currency loans
granted by such depository banks under the Domestic v. Resident Foreign Corp.
EFCDS other than OBUs shall be subject to a Q: Sells at a price lower than acquisition
final tax of 10%. A: D would be taxed under presumed gain. RFC would
not be taxed since “no gain” would reflect in their taxable
income.
Capital Gains Tax71
Q71. What resident foreign corporations are subject
Q69. Is the assignment and delivery of the developed to preferential tax rates?
units to joint owners in a Build-To-Own (BTO) scheme
subject to capital gains tax? As a general rule, all resident foreign corporations are
subject to the RCIT. As exceptions, certain resident
In a BTO, the developer makes it appear that it merely foreign corporations are subject to final rates. They are:
manages the construction of the condominium project,
and that the funds as contributed by the individual 1. Regional or area headquarters (RHQ) (a branch
investors are pooled in a bank with the developer, as established in the Philippines by MNCs and which
project manager, receiving a project management fee, In does not earn or derive income from the
that scheme, it is claimed that the assignment and Philippines and whose role is supervisory)72
delivery to the individual investors of the developed units 2. Representative office (a branch in the Philippines
is not taxable as it is merely a transfer of property held in of a MNC whose activities are limited to
trust by the Trustee for the individual trustors. Previous information dissemination, product promotion)
BIR rulings have exempted the assignment from capital 3. International carriers by air or water73
gains tax. In In BIR RULING DA-455-07 [AUGUST 17, 4. Offshore Banking Units74
2007], the conveyance of the condominium units by the 5. Foreign Currency deposit Unit (FCDU) in the
trustee to the individual trustors pursuant to the terms of Philippines of a foreign bank75
the BTO contract and without consideration was held not 6. Regional Operating Headquarters (ROHQ)76
subject to capital gains tax. However, in RMC NO. 055- 7. Branch of foreign corporation with respect to
10 [JUNE 28, 2010], the CIR nullified all BIR Rulings profit remittances to head office.
exempting the scheme from capital gains tax. Thus, the 8. Branch of foreign corporations registered with
present rule is that the assignment and delivery in BTO PEZA, SBMA, CDA, CDJHA.
schemes are subject to capital gains tax. 9. Qualified service contractor or subcontractor
engaged in petroleum operations in the
Resident Foreign Corporations Philippines

Semi-global aspect of taxation — Section 24(A) — International Carrier


because it just states all the income that are taxable and
provides a fixed tax rate. Q72. For purposes of income taxation, what is an
international carrier?
In general
An International carrier shall refer to a foreign airline
*You dont need to be registered as long as you are corporation doing business in the Philippines having been
“engaged in business”. But if you are registered then it’s granted landing rights in any Philippine port to perform
automatic international air transportation services/activities or flight
operations anywhere in the world (see RR NO. 15-2002)

Q70. What is the difference between a branch Just because you have landing rights does not mean you
are “engaged in business”. If you sell tickets in the PH, it
and a subsidiary?
automatically makes you engaged in business.
For purposes of taxation, a subsidiary is considered a
Q73. What is Gross Philippine Billings?

71
Same rates and rules as in the case of individual taxpayers. Refer to nonresidents, other OBUs, and local commercial banks are tax-
that discussion in the reviewer. exempt. If the foreign currency transactions are with residents other
72
They are tax-exempt. than OBUs and local commercial banks, the interest income shall be
73
An international carrier doing business in the Philippines shall pay a subject to 10%
75
tax of 2.5% on its Gross Philippine Billings See Q68.3.
74 76
Income derived by OBUs from foreign currency transactions with They shall pay a tax of 10% of their taxable income
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Q73.3. What is the tax treatment of foreign airline


The 2.5% tax on gross Philippine billings is an income companies who do not have flights from or passing
tax levied on the presumed gain of the airline and shipping through any point in the Philippines but have a
companies. It ensures that they aretaxed on the income branch office or a sales agent in the Philippines
they derive from Philippine sources. which sells tickets?
R.A. No. 10378 — the airline would be exempt from tax if RR No. 15-2002 provides that such off-line airline is not
the PH has a counterpart in their jurisdiction which enjoys considered engaged in business as an international air
similar exemption. — This affects the UA v. CIR decision, carrier and is, therefore, not subject to the Gross
although not the focus. Philippine billings tax.
For an international air carrier, Gross Philippine Billings However, the sale of tickets is taxable as income from
refers to the amount of gross revenue derived from sources within the Philippines.
carriage of persons, excess baggage, cargo and mail
originating from the Philippines in a continuous and Q73.4. ABC Airlines is an off-line international carrier
uninterrupted flight, irrespective of the place of sale or selling passage documents through an independent
issue and the place of payment of the ticket or passage sales agent in the Philippines. Is ABC engaged in
document. trade or business in the Philippines and, as such,
subject to the corporate income tax on resident
For International Shipping, Gross Philippine Billings foreign corporations?
means gross revenue whether for passenger, cargo or
mail originating from the Philippines up to final In order that a foreign corporation may be regarded as
destination, regardless of the place of sale or payments doing business within a State, there must be continuity of
of the passage or freight documents conduct and intention to establish a continuous business,
such as the appointment of a local agent, and not one of
Q73.1. ABC Shipping is a foreign corporation. XYZ a temporary character. Here, ABC maintained a general
chartered one of ABC’s ships to load raw sugar in the sales agent and it was engaged in selling or issuing
Philippines. Upon arriving at the port, the vessel tickets, which is considered the main lifeblood of an
found no sugar for loading. The ship sailed back airline.
without carrying any sugar. Is ABC Shipping liable for
gross Philippine billings tax? The absence of flight operations to and from the
Philippines is not determinative of the source of income
No. A resident foreign corporation engaged in the for purposes of ascertaining income tax liability. It is
transport of cargo is liable for taxes depending on the sufficient that the income is derived from activity within the
amount of income it derives from sources within the Philippine territory. For the source of income to be
Philippines. ABC derived no receipt from its charter considered as coming from the Philippines, it is sufficient
agreement with XYZ. The vessel arrived in the port on but that the income is derived from activity within the
found no raw sugar to load and returned without any Philippines. In ABC’s case, the sale of tickets in the
cargo laden on board (see CIR vs. Tokyo Shipping [MAY Philippines is the activity that produces the income. The
26, 1995]) tickets exchanged hands here in the country and the
payments for fares were also made with Philippine
Q73.2. What is the tax treatment of an international air currency. The site of the source of payments is the
carrier with flights originating from Philippine ports? Philippines.
RR No. 15-2002 provides that such an international air If an international air carrier maintains flights to and from
carrier, irrespective of the place where passage the Philippines, it shall be taxed at the rate of 2.5% of its
documents are sold or issued, is subject to the Gross Gross Philippine billings, while international air carriers
Philippine Billings tax unless subject to a different tax rate that do not have flights to and from the Philippines but
under the applicable tax treaty to which the Philippines is nonetheless earn income from other activities in the
a signatory. country will be taxed at the corporate income tax rate.
Here, ABC earns income from the sale of tickets. (see CIR
V. BOAC [APRIL 30, 1987], AIR NEW ZEALAND V. CIR [CTA
CASE, JANUARY 30, 2008] and UNITED AIRLINES V. CIR
[SEPTEMBER 29, 2010])

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OBUs/FCDUs77 for the branch profit remittance tax specifies the tax base
to be on the profit remitted abroad.
Branch Profit Remittance Tax
In COMPANIA GENERAL V. CIR [CTA CASE NO. 4141
If Philippine peso not taxable because it’s an incentive of AUGUST 23, 1993], Compania General contended that
the State. the correct tax base for computing the branch profit
remittance tax is the profit actually remitted abroad given
You tax first the net income of the resident foreign its reliance on previous BIR rulings and the case of CIR
corporation at 30%, and then you withhold 15% on the v. Burroughs. On the other hand, the CIR contends that,
part of the parent corporation. This is not a case of double because of RMC Circular No. 8-82 [March 17, 1982], the
taxation because income recipients are different tax base should be the amount actually applied for by
the branch with the Central Bank of the Philippines as
Q74. What is a branch profit remittance tax? profit to be remitted abroad. The CTA ruled in favour of
the CIR as the branch profit remittance taxes were paid
Any profit remitted by a branch to its head office shall be after the effectivity of RMC No. 8-82.
subject to a tax of 15% which shall be based on the total
profits applied or earmarked for remittance without any As stated in Compania General, the 15% withholding
deduction for the tax component thereof except those tax should be the amount actually applied for in the
activities which are registered with the PEZA. Central Bank.
Q74.1. What is the purpose of the branch profit NOTE: If PEZA is the one remitting, they are not subject
remittance tax? to BPRT
The purpose of a branch profit remittance tax is to
equalize the tax burden on foreign corporations
maintaining on one hand, local branch offices, and
organizing, on the other hand, a subsidiary domestic Q74.3. Norway and the Philippines entered into a tax
corporation where at least majority of all the latter’s stocks treaty. Article 25 of the Convention provides for equal
are owned by such foreign corporations. treatment between nationals of the two countries and
as between a Norwegian enterprise in the Philippines
As explained in the case of BANK OF AMERICA VS. COURT and a domestic enterprise. Det Norske Philippines, a
OF APPEALS [JULY 21, 1994], prior to
local branch of De Norske, a Norwegian enterprise,
amendment, local branches were made to pay only the invokes Article 25 for the non-imposition of the
usual corporate income tax of 25% to 35% then on net branch profits remittance tax. Is its contention valid?
income applicable to resident foreign corporations while
Philippine subsidiary corporations were subject to the No. In ITAD BIR RULING NO. 018-09 [JUNE 23, 2009], the
same rate on their net income but their dividend payments CIR ruled that the principle of equal treatment in Article 25
were additionally subjected to a 15% withholding tax. does not prevent the imposition of the branch profit
Thus to eliminate this unequal tax treatment, a branch remittance tax. First, the principle of equal treatment is
limited to nationals of the Philippines and of Norway who
profit remittance tax was imposed on local branches on
are both residents of the Philippines. While indeed Det
their remittance of profits abroad.
Norske is a national of Norway, it is not a resident of the
Q74.2. What is the correct tax base for computing the Philippines. Second, while the treaty lays down a principle
branch profit remittance tax? Is it the “profit actually of equal treatment between a Norwegian enterprise in the
remitted” or “the amount actually applied for”? Philippines and a domestic enterprise, as long as the
The correct tax base is the amount actually applied for by aggregate taxes imposed by the Philippines on such
the branch with the Central Bank as profit to be remitted Norwegian enterprise is not greater than the taxes
abroad. imposed by the Philippines on a domestic enterprise, it
cannot be considered that such Norwegian enterprise is
treated less favourably in the Philippines than the
In BANK OF AMERICA VS. COURT OF APPEALS [JULY 21,
domestic enterprise.
1994], the Supreme Court held that the the tax baseupon
which the 15% which the 15% branch profits remittance
tax shall be imposed is the profit actually remitted abroad
and not the total branch profits out of which the remittance
is to be made. We note, however, that the applicable law

77
Refer to questions on the tax treatment of interest income derived
from transactions with OBUs and FCDUs as provided in RR 14-2012.
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Regional or Area Headquarters and ROHQs employed by RHQs and ROHQs of multinational
companies, regardless of whether or not there is an alien
Q75. Define regional or area headquarters and a executive occupying the same position. (see RR 11-2010
regional operating headquarters. [October 26, 2010])

Q75.2.1. Can the Filipino employee opt to be taxed


Regional Shall mean a branch established in
at the regular income tax rate?
or the Philippines by MNCs and which
area headquarters do not earn or derive
headquarters income from the Philippines and Yes, such Filipinos employed by RHQs and ROHQs in a
(RHQs) which act as supervisory, managerial or technical position shall have the option to
communications and coordinating be taxed at either 15% of gross income or at the regular
center for their affiliates, subsidiaries, rate on their taxable income in accordance with the Tax
or branches in the Code if the RHQ or ROHQ is governed by Book III of E.O.
226,78 as amended by R.A. No. 8756. (see RR 11-2010
Asia-Pacific Region and other
foreign markets [October 26, 2010])
Regional Shall mean a branch established in
Operating the Philippines by multinational Q75.2.2. If the Filipino is not a managerial or technical
Headquarters companies which are engaged in any employee, can he avail of the 15% final income tax
(ROHQs) of the following services: general rate?
administration; business planning
and coordination; sourcing and No. As clarified by RR 11-2010 [October 26, 2010], all
procurement of raw materials and other employees other than those in managerial or
components; corporate finance technical positions are considered as regular employees
advisory services; marketing control who are subject to the regular income tax rate on their
and sales promotion; training and taxable compensation income.
personal management; logistic
services; research and
development services and product
development; technical support and
maintenance; data processing
and communications; and
business development

Q75.1. What is the tax treatment of RHQs and


ROHQs?

RHQs are not subject to income tax while ROHQs shall


pay a tax of 10% of their taxable income

Q75.2. What is the tax treatment of the income derived


by alien individuals and qualified Filipino personnel
employed by RHQs and ROHQs?
A FWT of 15% shall be withheld from the gross income
derived by every alien individual occupying managerial
and technical positions in RHQs and ROHQs and
representative offices established in the Philippines
multinational companies as salaries, wages, annuities,
compensation, remuneration, and other emoluments,
such as honoraria and allowances, except income which
is subject to fringe benefits tax, from such regional or area
headquarters and regional operating headquarters.

The same tax treatment shall apply to Filipinos employed


and occupying the same positions as those aliens
78
Book III of EO 226 (or the Omnibus Investments Code) refers to Incentives to MNCs establishing RHQs and ROHQs in the Philippines
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Q75.2.3. What are the requirements in order for a


Filipino to be deemed occupying a managerial or
technical position the same as that of an alien
employed in an ROHQs or RHQ?

• Position and Function Test — The employee


must occupy a managerial position or technical
position AND must actually be exercising such
managerial or technical functions pertaining to
said position;
• Compensation Threshold Test — In order to be
considered a managerial or technical employee
for income tax purposes, the employee must
have received, or is due to receive under a
contract of employment, a gross annual taxable
compensation of at least PhP975,000.00
(whether or not this is actually received);79
• Exclusivity Test — The Filipino managerial or
technical employee must be exclusively working
for the RHQ or ROHQ as a regular employee and
not just a consultant or contractual personnel.
Exclusivity means having just one employer at a
time.

THREE-FOLD TEST applicable to FIlipinos


1. Function
2. Compensation
3. Exclusivity

79
If there is a change in compensation as a consequence of which, Beginning December 31, 2013 and on December 31 every three years
such employee subsequently receiving less than the compensation thereafter, the compensation threshold shall be adjusted to its present
threshold, the employee shall be subject to the regular income tax rate value using the Philippine Consumer Price Index (CPI), as published
for the calendar year when the change becomes effective. by the National Statistics Office.
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Nonresident Foreign Corporations Q77. ABC Corporation, a foreign corporation in Japan


and licensed to do engage in business in the
Tax base is gross because of administrative feasibility Philippines (hence, a resident foreign corporation)
à Hard to determine has equity investments in XYZ Company, a domestic
à Practically no expense in the Philippines corporation. XYZ declared and paid cash dividends to
ABC. XYZ directly remitted the cash dividends to
In general ABC’s head office in Japan (hence, a non-resident
foreign corporation) net not only of the 10% final
dividend tax but also of the withheld 15% profit
Q76. XYZ Corporation is a domestic corporation remittance tax based on the remittable amount after
which entered into a license agreement with ABC deducting the final withholding tax of 10%. ABC
Corporation, a non-resident foreign corporation argues that following the principal-agent relationship
based in the US pursuant to which the former was theory, ABC is a resident foreign corporation subject
granted the right to use trademark, patents and only to the 10% intercorporate final tax on dividends
technology owned by the latter. For such use, XYZ received from a domestic corporation. Is ABC
paid royalties to ABC and subjected the same to the correct?
25% withholding tax on royalty payments. XYZ
claimed for a refund and argues that the withholding No. The general rule that a foreign corporation is the
tax should only be 10% pursuant to the most- same juridical entity as its branch office in the Philippines
favoured nation clause of the RP-US Tax Treaty in cannot apply here. This rule is based on the premise that
relation to the RP-West Germany Tax Treaty. Is the business of the foreign corporation is conducted
XYZ’s contention correct? through its branch office, following the principal agent
relationship theory. It is understood that the branch
No. In CIR V. S.C. JOHNSON AND SONS, INC. [JUNE 25, becomes its agent here. So that when the foreign
1999], the Supreme Court held that the concessional tax corporation transacts business in the Philippines
rate of 10% provided for in the RP-Germany Tax Treaty independently of its branch, the principal-agent
could not apply to taxes imposed upon royalties in the RP- relationship is set aside. The transaction becomes one of
US Tax Treaty since the two taxes imposed under the two the foreign corporation, not of the branch. Consequently,
tax treaties are not paid under similar circumstances and the taxpayer is the foreign corporation, not the branch or
do not contain similar provisions on tax crediting. It is not the resident foreign corporation. Corollary, if the business
proved that the RP-US Tax Treaty grants similar tax transaction is conducted through the branch office, the
reliefs to residents of the US in respect of the taxes latter becomes the taxpayer, and not the foreign
imposable upon royalties earned from sources within the corporation. (see MARUBENI CORPORATION VS. CIR
Philippines as those allowed to their German [SEPTEMBER 14, 1989]).
counterparts. Further, the RP-Germany Tax Treaty allows
for crediting against German income and corporate tax of Marubeni wanted to be an RFC because the tax was
20% of the gross amount of royalties paid under the law lower than if it was classified as an NRFC, in which case
of the Philippines. On the other hand, the RP-US Tax the dividends are taxes at 15%.
Treaty does not provide for the similar crediting of 20% of
the gross amount of royalties paid. The similarity in the GR: Foreign corporation is the same juridical entity as its
circumstances of payment of taxes is a condition for the branch office in the Philippines
enjoyment of most favored nation treatment precisely to ER: When the foreign transacts business in the
underscore the need for equality of treatment. since the Philippines directly and independently of its branch;
RP-US Tax Treaty does not give a matching tax credit of taxpayer is the foreign corporation.
20 percent for the taxes paid to the Philippines on
royalties as allowed under the RP-West Germany Tax Q78. XYZ is a foreign shipping company. It does not
Treaty, XYZ cannot be deemed entitled to the 10 percent have a branch office in the Philippines and it made
rate granted under the latter treaty for the reason that only two calls in Philippine ports. What kind of foreign
there is no payment of taxes on royalties under similar corporation is XYZ?
circumstances.
XYZ is a foreign corporation not authorized or licensed to
Most favored nation clause: It is the similarity in the do business in the Philippines. In order that a foreign
circumstances of payment of taxes, not the subject corporation may be considered engaged in trade or
matter, is a condition for the application of this clause. business, its business transactions must be
continuous. A casual business activity in the
Philippines by a foreign corporation does not amount
to engaging in trade or business in the Philippines for
income tax purposes. Accordingly, its taxable income
for purposes of our income tax law consists of its gross
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income from all sources within the Philippines. (see N.V.


REEDERIJ “AMSTERDAM” VS. CIR [JUNE 23, 1988]) Q80.2.1. What is a tax-sparing provision?

Special nonresident foreign corporations As explained in the case of CIR V. PROCTER & GAMBLE
PHILIPPINES [DECEMBER 2, 1999]: A more general way of
Q79. Enumerate the non-resident foreign mitigating the impact of double taxation is to recognize the
corporations whose income is subject to preferential foreign tax as a tax credit. However, the principal defect
tax rates. of the tax credit system is when low tax rates or special
tax concessions are granted in a country for the obvious
As a general rule, the gross income of a non-resident reason of encouraging foreign investments. For instance,
foreign corporation is subject to the flat rate tax of 30%. if the usual tax rate is 35 percent but a concession rate
As exceptions, the following are subject to final tax rates accrues to the country of the investor rather than to the
and final withholding taxes: investor himself.80 To obviate this, a tax sparing provision
1. Income of a non-resident cinematographic film may be stipulated. With tax sparing, taxes exempted or
owner, lessor or distributor – 25% on gross reduced are considered as having been fully paid.
2. Income of a non-resident owner or lessor of
vessels chartered by Philippine nationals – In the Philippines, the 15% tax on dividends received by
4.5% on gross a non-resident foreign corporation from a domestic
3. Income of a non-resident owner of aircraft, corporation is imposed subject to the condition that the
machineries and other equipment – 7.5% on country in which the nonresident foreign corporation is
gross domiciled shall allow a credit against the tax due from the
nonresident foreign corporation taxes deemed to have
been paid in the Philippines equivalent to 15%, which
Tax on Certain Incomes of Non-resident represents the different between the regular income tax
Foreign Corporations of 30% and the 15% tax on dividends.100

Q80. Enumerate the incomes of non-resident foreign Q80.2.2. Illustrate the application of the tax-sparing
provision by providing an example. 101
corporations subject to preferential tax rates
1. "X" Foreign Corp. (FC) Tax Liability with no
1. Interest income on foreign loans contract on or preferential rates
after August 1, 1986.
Philippines Foreign Country
2. Intercorporate dividends received from a
domestic corporation FC income. 400 FC income. 400
3. Income covered by Tax Treaties Phil Tax Rate 30% F Tax Rate 50%
FC paid. 120 F Tax due 200
Q80.1. What is the tax treatment on interest income TaxCredit (120)
on foreign loans from a non-resident foreign Payable in Foreign. 80
corporation?
Here, the total tax payable of the foreign corporation is
If the foreign loan is contracted on or after August 1, 1986, 200.
it shall be subject to a FWT at the rate of 20%.
"X" Foreign Corporation income 400
Q80.2. What is the tax treatment on dividends Foreign Tax rate (50%)102 200
received from a domestic corporation by a non- RP Tax Rate (30%)103 120
resident foreign corporation? Foreign Tax Credit 120
"X" tax payable to Foreign104 80
For non-resident foreign corporations, the dividend is "X" tax payable to RP 120
subject to:
• Tax treaty rate, if applicable
• 15% if no tax treaty but satisfies the tax-sparing
provision
• 30% if no tax treaty and does not comply with
the tax-sparing provision

80
This means that, at the end of the day, the foreign investor would be
paying the same total amount of taxes due to the foreign country and
the Philippines.
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2. "X" Foreign Corp. Tax Liability with Preferential corporation to have paid the dividend tax waived by the
Rate and without Tax Sparing Philippines. The Code only requires that the foreign
country shall allow the corporation a “deemed paid” tax
credit in an amount equivalent to the percentage points
Philippines Foreign Country waived by the Philippines.
FC income. 400 FC income. 400
PH Pref Tax Rate 30% F Tax Rate 50% Q80.2.4. When does a non-resident foreign
corporation become entitled to the 15% FWT?
FC paid. 60 F Tax due 200
TaxCredit (60)
In INTERPUBLIC GROUP OF COMPANIES, INC. VS.
Payable in Foreign. 140 COMMISSIONER OF INTERNAL REVENUE [CTA CASE NO.
7796 DATED FEBRUARY 21, 2011], a US Corporation, who
Here, the total tax payable of the foreign corporation is owns 30% of the total and outstanding voting capital stock
still the same at 200. of a Philippine advertising company filed a claim for the
refund or issuance of a TCC for overpaid FWT on
"X" Foreign Corporation income 400 dividends withheld and remitted by the Philippine
Foreign Tax rate (50%) 200 company. In the administrative claim, the US corporation
RP Tax Rate (15%) 60 alleged that, as a non-resident foreign corporation, it may
Foreign Tax Credit 60 avail of the preferential FWT rate of 15% on cash
"X" tax payable to Foreign 140 dividends received from a domestic corporation during the
"X" tax payable to RP 60 taxable year 2006. The CIR, in response, raised the
question of whether the US corporation is entitled to the
3. "X" Foreign Corp. Tax Liability with FWT at the rate of 15% or the rate of 20% in accordance
Preferential Rate and with Tax Sparing with the RP- US Tax Treaty.
Philippines Foreign Country The CTA, applying the ruling in CIR V. PROCTER &
FC income. 400 FC income. 400 GAMBLE PHILIPPINES [DECEMBER 2, 1999], concluded that
Phil Tax Rate 15% F Tax Rate 50% if the country of domicile of the recipient corporation
FC paid. 60 F Tax due 200 allows a credit against the tax imposable by it an amount
TaxCredit (60) equivalent to 20% of the dividends remitted from a
Phantom Tax. (60) Philippine domestic corporation to corporations domiciled
Payable in Foreign. 80 therein, the dividends remitted are subject to FWT at the
preferential rate of 15% in accordance with Section 28
(b)(5)(b) of the Tax Code of 1997, as amended.

"X"Foreign Corporation income 400 Q80.2.5. Is there a need for a prior ruling from the
Foreign Tax rate (50%) 200 BIR in order to avail of the benefit?
RP Tax Rate (15%) 60
Foreign Tax Credit 120 In INTERPUBLIC GROUP OF COMPANIES, INC. VS.
"X" tax payable to Foreign 80 COMMISSIONER OF INTERNAL REVENUE [CTA CASE NO.
"X" tax payable to RP 60 7796 DATED FEBRUARY 21, 2011], the CIR also contended
that the US company’s transactions were bereft of any tax
Total tax payable of the foreign corporation is now 140. treaty relief application with the International Tax Affairs
Division (ITAD). On this point, the CTA ruled that the
The additional 60 will be considered as tax deemed paid same is not necessary.81
or also known as the phantom tax. It is the foreign
jurisdiction that will allow the deemed paid tax credit. Q80.2.6. If the foreign country does not impose a tax
on the dividend, is the dividend received by the non-
Q80.2.3. Is it required that the foreign country must residentforeign corporation subject to the 15% FWT?
give a “deemed paid” tax credit for the dividend tax
waived by the Philippines making applicable the Yes. In BIR RULING DA-145-07 [MARCH 8, 2007], SM
preferred dividend tax rate of 15%? Investments asked for the BIR’s opinion on whether the
cash dividends declared by them to Asia Opportunities
As ruled in CIR V. PROCTER & GAMBLE PHILIPPINES Limited, a corporation organized and existing under the
[DECEMBER 2, 1999], the Tax Code does not require that laws of the British Virgin Islands are subject to 15% FWT.
the foreign country’s tax laws deemed the parent- The CIR noted that the International Business Companies

81
This is subject to debate. This case implies that the benefit is automatic without need for a TTRA.
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Ordinance of the Territory of the British Virgin Islands Note, however, that in INTERPUBLIC GROUP OF
does not impose any tax on dividends from foreign COMPANIES, INC. VS. COMMISSIONER OF
INTERNAL REVENUE [CTA CASE NO. 7796 DATED
sources, which logically would include those received FEBRUARY 21, 2011], the CTA, by way of obiter, stated
from Philippine corporations. As such, the dividend is that, even with respect to the applicability of the 20%
subject only to the FWT of 15%. FWT under the RP-US Tax Treaty, a tax treaty relief
application “is not made a condition precedent by law.”
Q80.3. To avail the benefits of a tax treaty provision,
must it be preceded by an application for a tax treaty
relief with the International Tax Affairs Division
(ITAD)? Q80.4. What is the meaning of most- favoured nation
(MFN) and how is it applied to applications for tax
Yes. As provided in RMO 072-10 [AUGUST 25, 2010], the treaty reliefs?
ITAD is the sole office charged with the receiving of tax
treaty relief applications (TTRA). All tax treaty relief The most-favoured nation simply means that a country
applications relative to the implementation and which is the recipient of this treatment must, receive equal
interpretation of the provisions of Philippine tax treaties advantages as the "most favoured nation" by the country
shall only be submitted to and received by the granting such treatment. Most tax treaties would have a
International Tax Affairs Division (ITAD). All rulings MFN clause making a benefit which is more
relative to the application, implementation and advantageous accorded to one country demandable.
interpretation of the provisions of Philippine tax treaties
shall emanate from ITAD. In ITAD RULING 102-02 [MAY 28, 2002], Energizer
Philippines claims that its royalty payments to Eveready
If the payor is liable on the Tax Treaty, he won’t be liable Battery are subject to the preferential tax rate of 15%
in the Tax Code provisions. pursuant to the MFN clause of the RP- US Tax Treaty in
• You will make a decisions based on whether or relation to the RP-Netherlands Tax Treaty. The CIR
not the other country has a tax credit provision. applied the ruling in CIR V. S.C. JOHNSON AND SONS, INC.
[JUNE 25, 1999], where the Supreme Court interpreted
In MIRANT V. CIR [CTA CASE NO. 7796, FEBRUARY 21, the MFN clause, or the phrase “paid under similar
2011], Mirant made income payments to VHL circumstances” as referring to the manner of payment of
enterprises, a US nonresident foreign corporation and to taxes and not the subject matter of the tax which is
WES World, a UK nonresident foreign corporation. It royalties. The CIR found that the RP-US and RP-
accordingly withheld the tax due on these interest Netherland tax treaties show a similarity on the manner of
payments. Thereafter, Mirant filed for a refund payment of taxes, that is, the allowable foreign tax credit
contending that the two foreign corporations have on both treaties is the amount actually paid in the
created “permanent establishments” in the Philippines Philippines. Thus, the royalty payments by Energizer to
and thus making applicable the lower withholding tax Eveready are subject to the preferential tax rate of 15% of
rate under the RP-UK and RP-US tax treaties. The CTA the gross amount of royalties pursuant to the "most-
noted that under those treaties, VHL and WES World, favored-nation" provision of the RP-US tax treaty in
while not having a fixed place of business have relation to the RP-Netherlands tax.
established “permanent establishments” in the
Philippines because they have “furnished services Deutsche Bank AG Manila Branch v. CIR (G.R. No.
through their employees or other personnel for a period 188550)
or periods the aggregate of which is more than 183 days • you can take the benefit of the 20% even without
in a twelve-month period." a tax ruling if the other country does not have a
tax credit system and you are left with a 30%
However, under RMO 01-2000, it is provided that the (NIRC provision for NRFC) or 20% (treaty
availment of a tax treaty provision must be preceded by provision).
an application for a tax treaty relief with its International
Tax Affairs Division (ITAD). A foreign corporation wishing
to avail of the benefits of the tax treaty should invoke the Withholding Tax
provisions of the tax treaty and prove that indeed the Withholding tax is a direct tax. However, if the agent is the one
provisions of the tax treaty applies to it, before the benefits who shoulders the penalties in case of non-payment, isn’t it an
may be extended to such corporation.The CTA noted that indirect tax?
Mirant did not make such application. Thus, the CTA
finally held that the income payments of Mirant to VHL In general
and WES, which are both non-resident foreign
corporations, are subject to the final tax of 30%. Q81. What is the withholding tax system?
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The withholding tax system is a procedure through which when all the events have occurred that fix the taxpayer’s
taxes (including income taxes) are collected. right to receive the income and the amount can be
determined with reasonable accuracy. Such method is
Q81.1. Who is the withholding agent? allowed by law in reporting incomes.

The withholding agent is the one who has control, Q81.4. May a withholding agent file a claim for tax
custody, or receipt of the funds that is subject to income refund?
tax and to be withheld and remitted to the BIR. The
withholding agent holds the amount withheld from the Generally, the person entitled to claim a tax refund is the
income of another person in trust for the government until taxpayer. However, if the taxpayer does not file the claim,
paid. the withholding agent may file the same. In CIR V. SMART
COMMUNICATIONS [AUGUST 25, 2010], it was submitted
The duty to withhold is different from the duty to pay that rule allowing the withholding agent to file the claim is
income tax. The obligation to withhold is imposed upon applicable only when the withholding agent and the
the buyer-payor of income but the burden of tax is really taxpayer are related parties. The Supreme Court
upon the seller-income earner. disagreed and stated that such relationship is not
required. A withholding agent has a legal right to file a
The obligation to withhold is compulsory as it makes such claim for refund. First, he is considered a taxpayer under
withholding agent personally liable for payment of the tax. the Tax Code as he is personally liable for the withholding
Such liability of the withholding agent is direct and tax as well as for deficiency assessments, surcharges,
independent from the liability of the income recipient. and penalties, should the amount withheld be finally found
to be less than the amount that should have been
Q81.2. Who are required by law to withhold on withheld. Second, as an agent of the taxpayer, his
income payments? authority to file the income tax return and remit the tax
withheld to the government includes the authority to file a
1. Agents or employees of withholding agents claim for refund and to bring an action for recovery of such
2. Persons having control of the payment and claim.
claiming the expense
3. Payor having control of the payment where Q81.5. Is the withholding agent who filed the claim for
payment is made thru brokers tax refund obliged to remit the same to the taxpayer?

Q81.3. When does the obligation to withhold arise? Yes. In CIR V. SMART COMMUNICATIONS
[AUGUST 25, 2010], the Supreme Court ruled that while
Either when: the withholding agent has the right to recover the taxes
1. It is paid erroneously or illegally collected, he nevertheless has the
2. It becomes payable (i.e. it is legally due, obligation to remit the same to the principal taxpayer
demandable, or enforceable) under the principle of unjust enrichment.
3. It is accrued as an asset or expense
Q81.6. What are the three categories of income
• If you’re already recognizing the paid amount as
subject to withholding tax?
a deduction in your books, you will have to
withhold such at the end of the quarter.
Under Section 57 of the Tax Code, the types of income
o Ex: debt was due on Feb. 17, but was
subject to withholding tax are divided into three
paid 15th. When is the tax due? 15th
categories:
since it was paid then, but if it wasn’t
paid on the 15th nor 17th, then tax is
1. withholding of final tax on certain incomes;
due by the 17th.
2. withholding of creditable tax at source and
3. tax-free covenant bonds.
In FILIPINAS SYNTHETIC FIBER CORPORATION V. CA
[OCTOBER 12, 1999], the Supreme Court stated that the
Q81.7. What are the three types of withholding tax?
Tax Code is silent as to when the duty to withhold taxes
arises. In this case, to determine when the duty to
1. Final withholding tax (FWT)
withhold the taxes arose, the Court inquired into the
2. Creditable Withholding Tax (WT)
nature of accrual method of accounting, the procedure
3. Withholding Tax on Wages
used by the taxpayer, and to the modus vivendi of
withholding tax at source come. It noted that under the
accrual basis method of accounting, income is reportable Q82. Differentiate final withholding tax (FWT) from

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creditable withholding tax (CWT).


Creditable Withholding Tax
The differences are as follows:
Q84. What is meant by creditable withholding tax?
FWT CWT
The amount of income Taxes withheld on certain Under the CWT tax system, taxes withheld on certain
tax withholding agent is income payments are payments are but intended to approximate the tax due
constituted as a full and income payments are from the payee. The withheld taxes remitted to the BIR
final payment of the income payments are are treated as deposits or advances on the actual tax
income tax due from the least approximate the tax liability of the taxpayer, subject to adjustment at the
payee on the said due of the payee on said proper time when the actual tax liability can be fully and
income. income. finally determined.
The liability for payment The liability for payment
of the tax rests primarily required to report the Q84.1. What are the three general types of creditable
on the payor as a income and/or pay the withholding taxes?
withholding agent. difference between the
tax withheld and the tax The three types of creditable withholding taxes are:
due on the income. The 1. Expanded withholding tax on certain income
payee also has the right payments made by private persons to resident
to ask for a refund if the taxpayers (e.g. professional fees, income
tax withheld is more than payments to brokers, income payments to
the tax due. partners of GPPs, etc)
The payee is not required The income recipient is still 2. Withholding tax on compensation income for
to file an income tax required to file an income services done in the Philippines
return for the particular tax return, as prescribed in 3. Withholding tax on money payments made by
income. Sec. 51 the government

(see Section 2.57(A) and (B), RR 2-98 [April 17, 1998] Q84.2. What is the rule on creditable withholding of
and CHAMBER OF REAL ESTATE AND BUILDER’S income payments to medical petitioners as laid down
ASSOCIATION, INC. V. ROMULO [MARCH 9, 2010]) in RR 13-98 [August 14, 1998]?

Final Withholding Tax at Source It shall be presumed that the hospital or clinic has
collected the professional fee of the said medical
Q83. What is meant by withholding tax at source? practitioner and shall, accordingly, be liable for the
withholding of the tax vis-a-vis each and every patient
Since the withholding taxes are deducted by the admitted into the hospital or clinic under the care of the
withholding agent when the income payments are paid or said medical practitioner.
payable, they are described as “withholding taxes-at-
source.” This means that the income tax of the recipient However, the withholding tax shall not apply whenever
of income is withheld and deducted at the source and at there is proof that no professional fee has in fact been
the time of accrual or payment of the expense by the charged by the medical practitioner and paid by his
withholding agent-payer of income. patient.

Q83.1. What are the four general types of income Q84.3. When is the liability to withhold tax at source
payments subject to FWT? on income payments to foreign corporation
supposed to arise? Upon remittance of the amounts
1. Passive Incomes due to the foreign corporation, or upon accrual?
2. Income payments to entities where their gross
income is subject to tax (i.e. non-resident aliens According to the case of FILIPINAS SYNTHETIC FIBER
not engaged in trade or business, non-resident CORPORATION V CA, if the parties are under the accrual
foreign corporations, special aliens) basis, income is reportable when all the events have
3. Fringe Benefits occurred to fix taxpayer’s right to receive the income and
4. Informer’s Reward to Persons Instrumental in the amounts can be determined with reasonable
the Discovery of the Violations of the Tax accuracy, hence, it is the right to receive income, and not
Code. the actual receipt thereof, that determines when the
(see Section 2.57.1, RR 2-98 [April 17, amount is includible in gross income. Thus, the duty of the
1998]) withholding agent to withhold the corresponding tax arises
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at the time of such accrual. shall be effected by the Register of Deeds unless the CIR
or his duly authorized representative has certified that
Q84.4. Is the BIR Form the only way of proving that such transfer has been reported and the capital gains or
there the creditable withholding tax was used? CWT, if any, has been paid. (see Section 58(E), Tax
Code)
No. In PNB V CIR, although it may be necessary to prove
that the taxpayer did not use the claimed creditable Withholding on Wages
withholding tax to pay for his/its tax liabilities, there is no
basis in law or jurisprudence to say that BIR Form No.
2307 is the only evidence that may be adduced to prove Q86. What income payments are exempted from the
such non-use. requirement of withholding tax on compensation?

Return and Payment of Tax Withheld at As provided in SECTION 2.78, RR 2-98 [APRIL 17,
1998], as amended by RR 1-2006 [DECEMBER 29,
Source 2005]:
1. Compensation income of individuals that do
Q85. Who is obliged to file the return and pay the tax not exceed the statutory minimum wage or
withheld? P5,000 pesos per month whichever is higher.
2. Compensation income of government
The withholding agent shall file the return and pay the tax: employees with salary grades 1 to 3.
1. FWT - within 25 days from the close of each
calendar quarter for FWT Withholding tax on compensation income whether alien or
2. CWT - not later than the last day of the month citizen provided its service is rendered in the Philippines.
following the close of the quarter during which
withholding was made. (see Section 58(A), Q87. Who is obliged to deduct, withhold, file the
Tax Code) return and pay the tax upon wages?
Q85.1. What are the other obligations of the Every employer making payment of wages shall deduct
withholding agent with respect to the return and and withhold upon such wages the applicable tax except
payment of the tax withheld? in the case of minimum wage earners. 82 (see Section
79(A), Tax Code)
1. He shall furnish the recipient of the income a
written statement showing the income or other The return shall be filed and the payment made within 25
payments made by him during such quarter or days from the close of each calendar quarter (see
year, and the amount of the tax deducted and Section 81, Tax Code)
withheld therefrom.
2. He shall submit an annual information return However, if the employer is the Government or any
containing the list of payees and income political subdivision, agency, or instrumentality, the return
payments, amount of taxes withheld for each of the amount deducted and withheld upon any wage shall
payee and other pertinent information. (see be made:
Section 58(B) and (C), Tax Code)
1. by the officer or employee having control over
Q85.2. Since CWT is but an approximation, what the payment of such wage, or
happens if there is excess payment or deficiency in 2. by any officer duly designated for the purpose
payment? (see Section 82, Tax Code)
The excess of the amount of tax so withheld over the tax
Q87.1. What are the other obligations of the employer
due on his return shall be refunded.
with respect to the withholding of tax on wages?
If the income tax collected at source is less than the tax
1. Every employer shall furnish to each such
due on his return, the difference shall be paid. (see
Section 58(D), Tax Code) employee a written statement confirming
wages paid by the employer during the
Q85.3. What is the effect of non-payment of CWT to calendar year and the amount of tax deducted
the transfer of real property? and withheld

No registration of any document transferring real property 2. Every employer shall submit to the CIR an

82
Minimum wage earners are exempt from income tax.
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annual information return containing a list of wife with the schedule for zero exemption
employees, the total amount of compensation
income of each employee, the total amount of Q88. Are backwages, allowances and benefits
taxes, accompanied by copies of the written awarded in a labor dispute subject to withholding
statements, and other information as may be tax?
deemed necessary.
Yes. Backwages, allowances, and benefits awarded in a
Q87.2. Who is liable if there is a failure to withhold and labor dispute constitute remunerations for services that
remit the correct amount of tax? would have been performed by the employee in the year
when actually received, or during the period of his
The employer shall be liable. If he fails to withhold and dismissal from the service which was subsequently ruled
remit the correct amount, such tax shall be collected from to be illegal. The said back wages, allowances and
him together with penalties or additions to the tax benefits are subject to withholding tax on wages. (see
otherwise applicable (see Section 80(A), Tax Code) RMC 39-2012 [August 3, 2012])

Q88.1. Who should withhold the tax due thereon?


Q87.3. What is the consequence if the employer fails
to deduct and withhold the tax but the tax against The employers are mandated to withhold taxes on wages
which such tax may be credited is paid (the tax is paid and this includes those backwages, allowances, and
by the recipient)/employee)? benefits awarded in a labor dispute.

If the employer fails to deduct and withhold the tax and Q88.2. If the backwages, allowances, disputes are
thereafter the tax against which such tax may be credited received by virtue of a labor dispute award through
is paid, the tax so required to be deducted and withheld garnishment of debts due to the employer and other
shall not be collected from the employer. The employer credits to which the employer is entitled to subject to
shall not be relieved of liability for any penalty for non- withholding tax?
compliance (see Section 79(A), Tax Code)
In RMC 39-2012 [August 3, 2012], the CIR answered this
Q87.4. What is the rule when there is an overpayment question in the affirmative. Persons having control of the
of tax withheld on wages by the employer? payment of wages or salaries are authorized to deduct
and withhold upon such wages or salaries the withholding
If the overpayment was not deduced and withheld by the tax due thereon. In this case, the garnishees are the
employer, he shall be given a refund or credit. persons owning debts due to the employer or in
possession or control of credits to which the employer are
If the overpayment was deducted and withheld by the entitled. Accordingly, they are in control of the payment of
employer, the employee shall be allowed a credit. backwages, allowances and benefits. Thus, in order to
ensure the collection of the appropriate withholding taxes
Q87.6. What is the consequence if an employee fails on wages, garnishees of a judgment award in a labor
or refuses to file an exemption certificate or wilfully dispute are constituted as withholding agents with the
supplies false or inaccurate information? duty of deducting the corresponding withholding tax on
wages due thereon in an amount equivalent to five
The tax shall be collected from the employee including percent (5%) of the portion of the judgment award
penalties or additions to the tax. Further, excess taxes representing the taxable backwages, allowances and
withheld by the employer shall not be refunded to the benefits.
employee but shall be forfeited to the government
Withholding Tax by Government Agencies
Q87.7. What is the withholding treatment when the
husband and the wife each are recipients of wages? Q89. What income payments made by the
government are subject to withholding?
1. The husband shall be deemed the head of the
Income payments, except any single purchase which is
family and proper claimant of the additional
P10,000 and below, which are made by a government
exemption unless he explicitly waives this right
office, national or local, including GOCCs83 ,111 on their
in favor of his wife
purchases of goods from local suppliers shall be subject
2. Taxes shall be withheld from the wages of the
to a withholding tax of 1%. (see Section 2.57.2(N), RR 2-

83
A GOCC which is listed as one of the top 5,000 corporations shall top 5,000 corporations.
withhold the tax in its capacity as a GOCC rather than as one of the
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98 [April 17, 1998]) MCIT?

Special Rules The tax base of RCIT is taxable income while the tax base
of MCIT is gross income.
Minimum Corporate Income Tax In COMMISSIONER VS. PAL [JULY 7, 2009], PAL under PD
1590 (its franchise) was liable only for basic corporate
Q90. What is the minimum corporate income tax income tax or franchise tax, whichever is lower and this is
(MCIT?) in lieu of all other taxes, except real property. The CIR
contends that PAL is subject to MCIT while it was the
A minimum corporate income tax of 2% of gross income contention of PAL that the MCIT was included in the “in
shall be imposed on a domestic corporation and lieu of all other taxes” provision. The Supreme Court
resident foreign corporation beginning on the fourth noted there is a distinction between taxable income,
taxable year immediately following the year in which such which is the basis for basic corporate income tax; and
corporation commenced its business operations when: gross income, which is the basis for the MCIT under
1. the MCIT is greater than the RCIT for the Section 27(E). The two terms have their respective
taxable year. technical meanings, and cannot be used interchangeably.
2. such operation has zero or negative taxable Hence, the basic corporate income tax cannot cover
income MCIT since the basis for the first is the annual net taxable
income; while the basis for the second is gross. Thus,
(see Section 27(E), Section 28(A)(2), Tax Code and RR MCIT is included in “all other taxes” from which PAL is
9-98 [August 5, 1998], as amended by RR 12- 2007 exempted.
[October 10, 2007])
Q90.4. For purposes of MCIT, what is gross income?
Q90.1. What is the purpose of MCIT?
As provided in RR 9-98 [August 5, 1998], as amended
As held in the case of CHAMBER OF REAL ESTATE AND by RR 12-2007 [October 10, 2007]:
BUILDER’S ASSOCIATION, INC. V. ROMULO [MARCH 9,
2010]), the primary purpose of any legitimate business is For purposes of MCIT, the term "gross income" means:
to earn a profit. Continued and repeated losses after • For Sales of Goods: GROSS SALES less sales
operations of a corporation or consistent reports of returns, discounts, and allowances and cost of
minimal net income render its financial statements and its goods sold
tax payments suspect. For sure, certain tax avoidance
• For Sale of Services: GROSS REVENUE less
schemes resorted to by corporations are allowed in our
sales returns, discounts, allowances and cost of
jurisdiction. The MCIT serves to put a cap on such tax
services/direct cost.
shelters. As a tax on gross income, it prevents tax evasion
and minimizes tax avoidance schemes achieved through Note that “cost of goods sold” shall include all business
sophisticated and artful manipulations of deductions and expenses directly incurred to produce the merchandise to
other stratagems. Since the tax base was broader, the tax bring them to their present location and use while “cost of
rate was lowered. services” shall mean all direct costs and expenses
necessarily incurred to provide the services required by
Q90.2. Is MCIT a tax on capital and an additional tax the customs and clients84
imposition?
As noted by the Supreme Court in COMMISSIONER VS. PAL
The Supreme Court in CHAMBER OF REAL ESTATE AND [JULY 7, 2009], inclusions and exclusions/deductions
BUILDER’S ASSOCIATION, INC. V. ROMULO [MARCH 9, 2010] from gross income for MCIT purposes are limited to those
answered this in the negative. The MCIT is imposed on directly arising from the conduct of the taxpayer’s
gross income which is arrived at by deducting the capital business. It is thus more limited than the gross income
spent by the corporation in the sale of its goods, i.e. the used in the computation of basic corporate income tax.
cost of goods and other direct expenses from gross sales.
Thus, the capital is not being taxed. Furthermore, the Q90.4.1. What if apart from the income from core
MCIT is not an additional tax imposition. It is imposed in business activities, other items of gross income are
lieu of the RCIT. realized or earned by the corporation, are these items
included as part of gross income?
Q90.3. What is the difference between RCIT and

84
This only shows that deductions are not taken into account in MCIT.

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Yes. If apart from deriving income from these core Q91. What is an improperly accumulated earnings
business activities there are other items of gross income tax?
realized or earned by the taxpayer during the taxable
period which are subject to the normal corporate income This is the income tax imposed on a corporation if its
tax, the same items must be included as part of the earnings and profits are accumulated (undistributed)
taxpayer's gross income for computing MCIT85. instead of being divided and distributed to its
stockholders.
Q90.5. Explain the carrying forward of excess MCIT
against normal income tax. The improperly accumulated earnings tax (IAET) equal to
10% is imposed for each taxable year on the improperly
Any excess MCIT against the normal income tax is accumulated taxable income of each corporation. It is
creditable within the next three (3) years from payment imposed on domestic corporations which are classified as
thereof. To illustrate: closely-held corporations.91

YEAR RCIT MCIT Excess MCIT against RCIT


1998 50,000 75,000 (tax to be paid)86 25,000
1999 60,000 100,000 (tax to be paid) 40,000
2000 100,000 (tax to be paid) 87 60,000

Always remember that MCIT begins only on the fourth Q91.1. Define “improperly accumulated taxable
year of the corporate life. You pay whichever is higher. income.”
In the year 2000, since the RCIT is greater than MCIT, the The term “improperly accumulated taxable income”
firm will have to pay the RCIT of P100,000. To this means taxable income adjusted by:
amount, the corporation can credit the excess MCIT is
has so far which totals 65,000. The amount of income tax Includes
payable now becomes 35,000. Note that with respect to 1. Exempt from Income Tax
the excess MCIT of 25,000, that can be claimed as tax 2. Excluded from Gross income these are those
credit against the normal income tax up to the year 2001 you add back
or three years from payment of the MCIT in 1998 and only 3. Subject to Final tax
when the RCIT is greater than MCIT. You cannot credit Deducts
the MCIT against the MCIT or other losses. 4. Amount of NOLCO
5. Reduced by the sum of:
Q90.6. Can the imposition of MCIT be suspended? a. Dividends actually or constructive paid
b. Income tax paid for the taxable year
Yes, the Secretary of Finance can suspend its imposition c. Amount reserved for the reasonable
on any corporation which: needs of the business92
1.
suffers losses on account of prolonged labor
dispute,88 or In relation to 5(c), RMC 35-2011 [March 14, 2011] states
2.
because of force majeure,89 or that the amount that may be retained, taking into
3.
because of legitimate business reverses.90 consideration the reasonable needs of the business shall
be 100% of the paid-up capital or the amount contributed
Improperly Accumulated Earnings Tax to the corporation representing the par value of the shares
(IAET) of stock. Any excess capital over and above the par shall
be excluded.93

85
This means that the term "gross income" will also include all items of theft or embezzlement, or for other economic reason as determined by
gross income enumerated under Section 32(A) of the Tax the Secretary of Finance.
91
Code, as amended, except income exempt from income tax and income Closely-held corporations are those corporations at least fifty percent
subject to final withholding tax (50%) in value of the outstanding capital stock or at least fifty percent
(50%) of the total combined voting power of all classes of stock entitled
86
This is the tax to be paid because MCIT > RCIT to vote is owned directly or indirectly by or for not more than twenty (20)
87
This Is the tax to be paid because MICT < RCIT individuals. Domestic corporations not falling under the aforesaid
88
Defined as losses arising from a strike staged by the employees which definition are, therefore, publicly-held corporations.
92
lasted for more than six (6) months within a taxable period Added by RR 2-01.
93
and which has caused the temporary shutdown of business operations. For example, if only Dec 31, 2010, you have a paid-up capital of
89
It means a cause due to an irresistible force as by "Act of God" 100,000. You can only retain up to 100,000. A subsequent infusion of
like lightning, earthquake, storm, flood and the like. This term shall also capital of 500,000 a week later cannot be considered.
include armed conflicts like war or insurgency.
90
It shall include substantial losses sustained due to fire, robbery,
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Q91.2. What is the purpose and nature of IAET? purpose to avoid the income tax with respect to
shareholders?
The imposition of IAET discouraged tax avoidance
through corporate surplus accumulation. When The fact that any corporation is a mere holding company
corporations do not declare dividends, income taxes are or investment company shall be prima facie evidence of
not paid on the undeclared dividends received by the a purpose to avoid the tax upon its shareholders or
shareholders. The tax on improper accumulation of members. (see Section 29(C)(1), Tax Code)
surplus is essentially a penalty tax designed to compel Moreover, the fact that the earnings or profits of a
corporations to distribute earnings so that the said corporation are permitted to accumulate beyond the
earnings by shareholders could, in turn, be taxed (see reasonable needs (including reasonably anticipated
CYNAMID PHILIPPINES INC VS. CA [JANUARY 20, 2000]) needs) of the business shall be determinative of the
There was no reason for Cynamid to increase its working purpose to avoid the tax upon its shareholders or
capital when there was no reason to expect an impending members unless the corporation, by the clear
working capital. preponderance of evidence shall prove the contrary (see
The IAET is being imposed in the nature of a penalty to Section 29(C)(2), Tax Code)
the corporation for the improper accumulation of its
earnings, and as a form of deterrent to the avoidance of In CIR v. TUASON [MAY 15, 1989], the CIR assessed
tax upon shareholders who are supposed to pay Tuason, Inc. for IAET. The CIR presumed that when
dividends tax on the earnings distributed to them by the Tuason, Inc. accumulated profits, the purpose was to
corporation (see RR 2-01 [FEBRUARY 12, 2001]). avoid the income tax on its shareholders on the finding
that it was a mere holding or investment company.
Q91.3. What corporations are subject to IAET? Tuason contended it was for the purpose of expanding
their business as a real estate broker. The Supreme
As a general rule, the IAET shall apply to every Court ruled that Tuason was liable for IAET. Tuason was
corporation formed or availed for the purpose of avoiding a mere holding company as it was not involved itself in
the income tax with respect to its shareholders or the the development of the subdivisions but merely
shareholders of any other corporation, by permitting subdivided its own lots and sold them for bigger profits. It
earnings and profits accumulate instead of being divided derived its income from interest, dividends, and rental
or distributed. from the sale of realty. The touchstone of liability is the
purpose behind the accumulation of the income and not
As exceptions, the IAET shall not apply to: the consequences of the accumulation. The company's
1. Publicly-held corporations failure to distribute dividends to its stockholders was
2. Banks and other non-bank financial clearly for reasons other than the reasonable needs of
intermediaries; and the business.
3. Insurance companies
4. GPPs Q91.6. What is the “Immediacy Test?”
5. Non-taxable joint ventures
6. Enterprises registered under SEZs (see RR 2-01 The Immediacy Test is used to determine the “reasonable
[FEBRUARY 12, 2001]). needs of business” in order to justify an accumulation of
earnings. Under this test, the term "reasonable needs of
Q91.4. What is the main factor to consider in holding the business" are hereby construed to mean the
a corporation liable for IAET? immediate needs of the business, including reasonably
anticipated needs. The corporation should be able to
The touchstone of the liability is the purpose behind the prove an immediate need for the accumulation of the
accumulation of the income and not the consequences of earnings and profits, or the direct correlation of
the accumulation. Thus, if the failure to pay dividends is anticipated needs to such accumulation of profits.
due to some other causes, such as the use of Otherwise, such accumulation would be deemed to be not
undistributed earnings and profits for the reasonable for the reasonable needs of the business, and the penalty
needs of the business, such purpose would not generally tax would apply.
make the accumulated or undistributed earnings subject
to the tax. However, if there is a determination that a In order to escape IAET, dividends must be declared
corporation has accumulated income beyond the within 1yr from the close of the fiscal year. Otherwise, you
reasonable needs of the business, the 10% improperly will have to justify the accumulation
accumulated earnings tax shall be imposed. [see RR 2-
01 [FEBRUARY 12, 2001]). In MANILA WINE MERCHANTS V. CIR [FEBRUARY 20, 1984],
Manila Wine Merchants (MWM) invested in several
Q91.5. What circumstances are indicative of a companies and bought shares in Wack Wack Golf and
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Country Club and likewise acquired US Treasury Bills.


CIR found that MWM had unreasonably accumulated a Q91.8. Are there ways by which to avoid liability from
surplus. On appeal, the CTA ruled that the purchase of IAET?
shares were harmless. However, the CTA also ruled that
the purchase of US Treasury Bills was in no way related Yes, when the accumulation is justified by reasonable
to the business of importing and selling wines and needs of the business such as:
ordered MWM to pay IAET on the said treasury bills. One 1. Accumulation up to 100% of the paid-up capital
of the contentions of MWM was that it will be used to aid 2. For definite corporate expansion projects or
its importations The Supreme Court ruled against MWM. programs
It noted that the bonds were bought in 1951 and until 3. For buildings, plants or equipment acquisitions
1961; it was never used to aid MWM’s importations. To 4. For compliance with a loan covenant or pre-
justify an accumulation of earnings and profits for the existing obligation under a legitimate business
reasonably anticipated future needs, such accumulation agreement
must be used within a reasonable time after the close of 5. When there is a legal prohibition for its
the taxable year. distribution
6. In the case of Philippine subsidiaries of foreign
In determining reasonable needs of the business you look corporations, undistributed earnings intended or
as well into accounts to prior accumulations, since reserved for investments within the Philippines
subsequent accumulation may not now be necessary
unlike before. Q91.9. Abbot-Phils, domestic corporation, is a wholly
owned subsidiary of Abbot-US, a non- resident
In CYNAMID V. CA [JANUARY 20, 2000], Cynamid argued foreign corporation. Abbot-Phils claims that by virtue
that the increase of working capital by a corporation of this, it is exempt from the IAET. Is this contention
justifies accumulating income. It invoked the Bardahl correct?
Formula which allowed retention, as working capital
reserve, sufficient amounts of liquid assets to carry the Yes. In BIR RULING 25-02 [JUNE 25, 2002], the CIR ruled
company though one operating cycle and pay all of its that Abbot-Phils was exempt from IAET. Since Abbott-
current liabilities and any extraordinary expenses Phils. is a wholly-owned subsidiary of Abbott- US, such
reasonably anticipated. The Supreme Court ruled that, as shares will be considered as being owned proportionately
stressed by American authorities, the formula is used only by the Abbott-US shareholders. The ownership of a
for administrative convenience and not a precise rule. The domestic corporation for purposes of determining whether
Court found that in companies where the formula was it is a closely held corporation or a publicly held
applied, they had operating cycles shorten than that of corporation is ultimately traced to the individual
Cynamid. The ratio of current assets to current liabilities shareholders of the parent company. Thus, where at least
should be used to determine the sufficiency of working 50% of the outstanding capital stock or at least 50% of the
capital which ideally should be 2:1. Cyanamid’s ratio is total combined voting power of all classes of stock entitled
2.21:1 and, thus, there was no need to infuse working to vote in a corporation is owned directly or indirectly by
capital. at least 21 or more individuals, the corporation is
considered publicly- held corporation. As of the year-end
One operating cycle means it’s from production until 2000, Abbott-US had 101,272 shareholders holding a
distribution. combined 1,545,934,133 shares of common stock and
the twenty largest shareholders of Abbott-US as of
Q91.7. In determining if profits are reasonably September 30, 2001 own an aggregate of 30.1 percent of
accumulated for business needs, the intention of the Abbott-US' issued and outstanding shares. Thus, Abbot-
taxpayer is reckoned at what time? Phils is a publicly-held corporation exempt from IAET.

It is reckoned at the time of accumulation. In MANILA WINE • The subsidiaries of foreign corporations are
MERCHANTS V. CIR [FEBRUARY 20, 1984], one of exempt from IAET provided that after applying
the contentions of MWM was that it held on to said bonds the grandfather rule, they are not closely-held
for several years to wait for 60% of its stock to be owned corporations.
by Filipinos so it can purchase its own lot and building. • Basically, it says that being 100% owned by
The Supreme Court stated that to determine if profits are corporation A then corporation B owned it 100%
reasonably accumulated for business needs, the until it reaches the parent corporation that is
controlling intention is that manifested at the time of publicly held (publicly held is more than 20
accumulation and not later ones. The second reason shareholders) therefore, being publicly held does
given by MWM was too indefinite and was a mere not make the corporation liable to IAET.
afterthought.
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Fringe Benefit Tax Benefit if such scholarship was given by virtue of a


screening and because of the employee
Q92. What is a fringe benefit tax?
Q92.2. What is the rationale behind the Fringe
Benefits Tax?
The State imposes a final tax of 35% under the Train Law
on the grossed-up monetary value of fringe benefit As a general rule, the income recipient is the person liable
furnished or granted to the employee except rank and file to pay the income tax. In order to improve collection of
employees by the employer, whether an individual, income on the compensation income of employees, the
professional partnership or a corporation regardless of State requires the employer to withhold the tax upon
whether the corporation is taxable or not, or the payment of the compensation income. However, it has
government and its instrumentalities except when: been observed that many of the fringe benefits paid by the
employer to his employees are not subjected to income
1. The fringe benefit is required by the nature of or tax and withholding tax on compensation. To plug this
necessary to the trade, business or profession of loophole, RA 8424 was passed. It imposed a fringe
the employer; or benefits tax on the fringe benefits received by supervisory
2. When the fringe benefit is for the convenience or and managerial employees. The law mandates that the
advantage of the employer employer shall assume the fringe benefits tax imposed on
the taxable fringe benefits of the managerial 94 or
(see Section 33, Tax Code and RR 3-98 [JANUARY 1, supervisory employees, 95 but allows the employer to
1998]) deduct such fringe benefit tax as a business expense from
its gross income. However, the fringe benefits of rank-
Q92.1. What is a fringe benefit? and-file employees 96 are treated as part of his
compensation income, which must be withheld and
As defined by Section 33(B), the term “fringe benefit” deducted by his employer from the compensation income
means any good, service or other benefit furnished or of the employee.
granted in cash or in kind by an employer to an individual
employee (except rank and file employees as defined • FB no longer form part of the income of the
herein) such as, but not limited to, the following: employee since FBT is a final tax for which the
1. Housing; for short-term only employer is paying already.
2. Expense account;
3. Vehicle of any kind; Q92.3. What is meant by “grossed-up monetary value
4. Household personnel, such as maid, driver and of the fringe benefit?”
others;
5. Interest on loan at less than market rate to the As defined in RR 3-98 [JANUARY 1, 1998], the grossed-
extent of the difference between the market rate up monetary value of the fringe benefit represents the
and actual rate granted; whole amount of income received by the employee which
6. Membership fees, dues and other expenses includes the net amount of money or net monetary value
borne by the employer for the employee in social of property which has been received plus the amount of
and athletic clubs or other similar organizations; the fringe benefit tax thereon otherwise due from the
7. Expenses for foreign travel; employee, but paid by the employer for and in behalf of
8. Holiday and vacation expenses; his employee.97
9. Educational assistance to the employee or his
dependents; and connected to trade + service Q92.3.1. How is the grossed-up monetary value of
contract the fringe benefit determined?
10. Life or health insurance and other non-life
insurance premiums or similar amounts in excess It is determined by dividing the actual monetary value of
of what the law allows. the fringe benefit by 68% (effective January 1, 2000.)

• For education discounts given to teachers for their The tax paid is the difference between the monetary value
children, the general rule is that it is not Fringe and the gross monetary value. The formula is applied in

94
A managerial employee refers to one who is vested with powers or requires the use of independent judgment.
96
prerogatives to lay down and execute management policies and/or to A rank-and-file employee means all employees who are holding
hire, transfer, suspend, lay-off, recall, discharge, assign or discipline neither managerial or supervisory position
97
employees The purpose of getting the grossed-up monetary value is to preserve
95
A supervisory employee is one who, in the interest of the employer, the benefit to the employer as a whole.
effectively recommends such managerial actions if the
exercise of such authority is not merely routinary or clerical in nature but
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order to preserve the full value of the fringe benefits and at prevent tax ordinance
the same time satisfy the tax liability (e.g. you cannot give a
car and tell the employee to leave behind three wheels to Q93.1. GSK purchase a pharmaceutical ingredient
pay for the tax.) from Adechsa, a related non-residency company for
between $1,512 and $1,651 per kg. During the same
period, two Canadian pharmaceutical companies
Q92.3.2. Is the above formula absolute? purchase the same ingredient for between $194 and
$304 per kg from arm’s length suppliers. Canada’s
No. In the case of non-resident aliens not engaged in minister for internal revenue reassessed GSK
trade or business and alien and Filipino individuals because the prices it paid for the ingredient were
employed in RHQs, ROHQs of MNCs, OBUs and greater than an amount that would have been
petroleum subcontractors, the grossed-up value of the reasonable in the circumstances had they been
fringe benefit shall be determined by dividing the actual dealing at arm’s length. GSK argues the License and
monetary value of the fringe benefit by the difference Supply Agreement it entered with Adechsa should be
between one hundred percent (100%) and under their considered in determining if it is an arm’s length
respective rates of income tax. transaction. Is GSK’s contention correct?
Yes. As held by the Supreme Court of Canada in HM vs,
Q92.4. Are all fringe benefits subject to FBT? GLAXOSMITHKLINE [2012 SCC 52, OCTOBER 18, 2012], a
proper application of the arm’s length principle requires
No. The following fringe benefits are not taxable: that regard be had for the “economically relevant
characteristics” of the arm’s length and non-arm’s length
1. Fringe benefits exempted by law circumstances to ensure they are “sufficiently
2. Benefits required by the business or for the comparable.” The “economically relevant characteristics
convenience of the employer of the situations being compared” may make it necessary
3. Benefits given to the rank and file employees; to consider other transactions that impact the transfer
and price under consideration. Such circumstances will
4. De minimis benefits 98 include agreements that may confer rights and benefits in
addition to the purchase of property where those
Transfer Pricing agreements are linked to the purchasing agreement. The
objective is to determine what an arm’s length purchaser
Q93. What is transfer pricing? would pay for the property and the rights and benefits
together where the rights and benefits are linked to the
It is the power of the CIR to distribute, apportion, allocate, price paid for the property. In this case, GSK was paying
and shift income and expenses between related for at least some of the rights and benefits under the
taxpayers to reflect their true taxable income or to prevent Licence Agreement as part of the purchase prices for
evasion of taxes. ranitidine from Adechsa. As such, the Licence Agreement
could not be ignored in determining the reasonable
At present, the Philippines does not have any guidelines amount paid to Adechsa which applies not only to
on transfer pricing unlike in other jurisdictions. RMC 026- payment for goods but also to payment for services.
08 [March 24, 2008] states that while the BIR is still
revising the final draft of the RR on transfer pricing, the
From RR: Advance Pricing Agreement — get someone
BIR as a matter of policy subscribes to the OECD
to say that the amount (though seemingly overpriced) is
Transfer Pricing Guidelines in the interim. acceptable because of certain circumstances; Doctrine of
HM v. GlaxoSmithKline
This holds true only when both are related parties.
However, where A is not subject to income (e.g. tax
holiday), then overpricing becomes an issue. The
principle behind TP is that you want what is an acceptable Q93.2. What is the “arm’s length bargaining
tax between the parties. standard” with respect to the determination of the
taxable income on inter-company loans or advances
The elements of transfer pricing are: in relation to transfer pricing?
1. They must be related parties
2. You have to have the commissioner to RMC 026-08 [MARCH 24, 2008] adopts the arm’s length
distribute, apportion or allocate standard as the ultimate test for determining the fairness
3. Such act is being done to truly reflect income or of related party transactions. The standard to be applied
in every case is that of an uncontrolled taxpayer dealing
98
For the discussion of this, see Q15.6
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at arm’s length with another uncontrolled taxpayer.


No. Section 50 does not apply only to taxable entities.
• Basically two unrelated parties selling similar Reallocation may also apply to tax-exempt organizations.
(see RMC 026-08 [MARCH 24, 2008])
Thus, where a member of a group of controlled entities
makes a loan or advances directly or indirectly or Special Entities
becomes a creditor of another member of such group and
charges no interest, or charges interest at a rate which is
not equal to an arm’s-length rate,99 the CIR may make • Reconcile Sec.30 (activity for profit) & Article XIV
appropriate allocations to reflect an arm’s length interest of the Constitution (utilization) — harmonized in
rate for use of such loan or advance. the sense that your activity is for the benefit of
profit-making and not exclusively for
Q93.1.1.Filinvest Development Corporation (FDC) educational/charitable purposes. However, if it
extended advances in favour of its affiliate. The BIR was income from profit, then there would be
assesses FDC for deficiency income by unilaterally contradiction with C.
imputing an “arm’s length” interest rate on its • 100M derived from the education business. 60%
advances. FDC disputes this by saying the CIR lacks is dedicated for non-educational purposes.
authority to impute theoretical interest and the rule is • Under Sec.27, the 50% rule applies to (1) non-
that interests cannot be demanded in the absence of stock, proprietary schools and (2) non-stock, non-
a stipulation to that effect. Is FDC’s contention proprietary hospitals. — The source has to arise
correct? from the primary purpose. Income should be
generated by the educational purpose.
Yes. According to the case of CIR V. FILINVEST Otherwise, it is not shielded by the 10% benefit.
DEVELOPMENT CORPORATION [JULY 19, 2011], Despite the
seemingly broad power of the CIR to distribute, apportion
and allocate gross income under Section 50, the same Proprietary Educational Institutions and
does not include the power to impute theoretical interest Hospitals
even with regard to controlled taxpayers’ transactions.
This is true even if the CIR is able to prove that the interest • General Rule: non-stock, proprietary hospital,
expense was in fact claimed by FDC. The term in the exempt from tax.
definition of gross income that even those income “from • Exception: You will be subject to 10% if you do
whatever source derived” is covered still requires that things outside of your essential function
there must be actual or at least probable receipt or (educ/charity). — 30% imposed on the full if
realization of the time of gross income sought to be more than 50% of your income arises from
apportioned, distributed or reallocated. Finally, under the unrelated business.
Civil Code, no interest shall be due unless expressly
stipulated in writing.100 Q94. What is the tax treatment of proprietary
education institutions and hospitals which are non-
Q93.3. Is transfer pricing applicable only to taxable profit?
entities
Q94.1. What is meant by the terms “proprietary” and
Section 27(B) of the Tax Code provides that they shall pay
“non-profit?”
a tax of 10% on their taxable income except:
1. Certain passive incomes subject to final tax
2. If the gross income from unrelated trade, Proprietary means private while non-profit means no net
business, or other activity101 exceeds 50% of the income or asset accrues to or benefits any member or
total gross income derived by such proprietary specific person, with all the net income or asset devoted
educational institution 102 and hospital which are to the institution’s purposes and all its activities.
non-profit from all sources, the tax shall be
imposed on the entire taxable income. As noted by the Supreme Court IN CIR V. ST. LUKES
MEDICAL CENTER [SEPTEMBER 26, 2012], “non-profit”
does not necessarily mean “charitable.”

99 101
The arm's length interest rate shall be the rate of interest which was Means any trade, business, or other activity, the conduct of which is
charged or would have been charged at the time the indebtedness arose not substantially related to the exercise or performance by such
in independent transaction with or between unrelated parties under educational institution or hospital of its primary purpose or function.
102
similar circumstances. Is any private schoolm maintained and administered by private
100
The case would have been decided differently if we had an RR on individuals or groups with an issued permit to operation from the
Transfer Pricing. Department of Education or CHED, or TESDA, as the case may be

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30(E) as it was not operated exclusively for charitable


Q94.2. St. Lukes Medical Center is a hospital purposes, it remains to be a proprietary non-profit
organized as a non-stock and non-profit corporation. hospital under Section 27(E) as long as it does not
It admits both paying and non- paying patients. The distribute any of its profits to its members and such
CIR claimed that St. Lukes was liable for income tax profits are reinvested pursuant to its corporate purposes.
at 10% as provided under Section 27(B)131 of the St. Lukes, as a proprietary non-profit hospital, is entitled
NIRC. St. Lukes argues that it is a non- stock, non- to the preferential tax rate of 10% on its net income from
profit institution for charitable and social welfare its for-profit activities.
purposes exempt from income tax under Section
30(E) and (G) of the NIRC.132 Decide. GOCCs
In CIR V. ST. LUKES MEDICAL CENTER [SEPTEMBER 26,
2012], the Supreme Court ruled that St. Lukes cannot Q95. Are GOCCs, agencies and instrumentalities
claim full tax exemption under Section 30 because it has owned and control by the government liable to pay
paying patients and this is notwithstanding the fact that it income tax?
is a non-profit hospital. For Section 27(B) to apply, the
hospital must be non- profit which means that no net All corporations, agencies, or instrumentalities owned or
income or asset accrues to or benefits any member or controlled by the government shall pay such rate of tax
specific person and all the activities of the hospital are upon their taxable income except:
non-profit. On the other hand, Section 30(E) and (G),
while providing for an exemption is qualified by the last 1) GSIS
paragraph which, in turn, provides that activities 2) SSS
conducted for profit shall be taxable. Section 30(E) and 3) Phil Health
(G) requires that an institution be operated exclusively for 4) Local Water Districts103
charitable purposes to be completely exempt from income 5) PCSO
tax. In this case, however, St. Lukes is not operated
exclusively for charitable purposes insofar as its revenues (see Section 27(C), Tax Code)
from paying patients are concerned. Such revenue is
subject to income tax at 10% under Section 27(B). Q95.1. Is RA 9337 constitutional insofar as it excluded
PAGCOR from the enumeration of GOCCs exempt
Q94.3. Reconcile the tax treatment of proprietary from the payment of corporate income tax?
educational institutions and hospitals which are non-
profit under Section 27(B) and non-stock, non-profit Yes. In PAGCOR V. BIR [MARCH 15, 2011], the Supreme
charitable institutions under Section 30(E) and (G). Court held that the original exemption of PAGCOR from
corporate income tax was not made pursuant to a valid
To be exempt from income taxes, Section 30(E) requires classification based on substantial distinction so that the
that the charitable institution must be organized and law may operate only on some and not on all. Instead, the
operated exclusively for charitable purpose. It is same was merely granted to the acquiescence of the
nevertheless allowed to engage in “activities conducted House Committee on Ways and Means to the request of
for profit” without losing its tax- exempt status for its not- PAGCOR. The argument that the withdrawal of the
for-profit activities. The consequence, however, is that exemption violates the non-impairment clause will not
such income from activities conducted for profit, hold since any franchise is subject to amendment,
regardless of the disposition made of such income, shall alteration or repeal by Congress.104
be subject to tax.
For proprietary educational institutions and hospitals Q96. What are the exempt corporations enumerated
which are non-profit, to avail of the preferential tax rate, in Section 30 of the Tax Code?
no net income or asset accrues to or benefits any member
or specific person, with all the net income or asset 1. Labor, agricultural or horticultural organization
devoted to the institution’s purposes and all its activities. not organized principally for profit
2. Mutual savings bank not having a capital stock
Thus, in CIR V. ST. LUKES MEDICAL CENTER [SEPTEMBER represented by shares and cooperative bank
26, 2012], while the St. Lukes did not qualify as a non- without capital stock organized and operated
profit, non-stock charitable institution under Section for mutual purposes and without profit

103
Inserted by RA 10026.
104
The Court, however, made clear that PAGCOR remains to be exempt
from indirect taxes.
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3. A beneficiary society, order or association,


operating for the exclusive benefit of the Q96.2. A credit cooperative was assessed deficiency
members such as a fraternal organization withholding tax on interest from savings and time
operating under the lodge system, or a mutual deposits of its members. The CTA ruled against the
aid association or a non-stock corporation credit cooperative stating that
organized by employees providing for the withholding tax on income payments subject to FWT
payment of life, sickness, accident, or other includes said interests as “interests from similar
benefits exclusively to the members of such arrangements.” Is CTA’s ratio correct?
society, order, or association, or non-stock
corporation or their dependents No. Since interest from any Philippine currency bank
4. Cemetery company owned and operated deposit yield or any other monetary benefit from deposit
exclusively for the benefit of its members substitutes are paid by banks, other entities such as
5. Non-stock corporation or association organized cooperative are not required to withhold the
and operated exclusively for religious, corresponding tax on the interest from savings and time
charitable, scientific, athletic, or cultural deposits of its members. The fact that “similar
purposes, or for the rehabilitation of veterans, arrangements” is preceded by banking terms means that
no part of its net income or asset shall belong those subject to withholding must have deposit
to or inure to the benefit of any member, peculiarities. This is also consistent with the preferential
organizer, officer or any specific person treatment accorded to members of cooperatives who are
6. Business league, chamber of commerce, or exempt in the same way as the cooperative themselves.
board of trade, not organized for profit and no (see DUMAGUETE CREDIT COOPERATIVE V. CIR [JANUARY
part of the net income of which inures to the 22, 2010]).
benefit of any private stockholder or individual
7. Civil league or organization not organized for Q96.3. Are all the activities of corporations
profit but operated exclusively for the promotion enumerated in Q90 exempt from tax?
of social welfare
8. A non-stock and non-profit educational No. Notwithstanding that they are exempt corporations,
institution the income of whatever kind and character of the
9. Government educational institution organizations mentioned above from any of their
10. Farmers or mutual typhoon or fire insurance properties, real or personal, or form any of their activities
company, mutual ditch or irrigation company, conducted for profit regardless of the disposition made of
mutual or cooperative telephone company or such income shall be subject to tax imposed under the
like organization of a purely local character, the Code.
income of which consists solely of
assessments, dues, and fees collected from Q96.1.1. If a non-stock, non-profit educational
members for the sole purpose of meeting its institution charges tuition and other fees for the
expenses; and different services it renders, does the institution lose
11. Farmers, fruit growers, or like association its tax-exempt status?
organized and operated as a sales agent for the
purpose of marketing the products of its No. In CIR V. G. SINCO EDUCATIONAL CORP [OCTOBER
members and turning back to them the 23, 1956], the Supreme Court held that the amount of
proceeds of sales, less the necessary selling fees charged by the school depends upon the policy and
expenses on the basis of the quantity of a given administration at a given time and is not
produce finished by them. conclusive of the purposes of the institution. It does not
in itself make a school a profit-making enterprise.
Q96.1. Are recreational clubs exempt from income
tax? Q96.1.2. What is the difference in tax treatment on
interest income from currency bank deposits and
No. As clarified by RMC 35-2012 [AUGUST 3, 2012], clubs yield, etc and on interest income from a depository
which are organized and operated exclusively for bank under the EFCDS of non- stock, non-profit
pleasure, recreation, and other non-profit purposes corporations and non-stock, non-profit educational
(hereinafter referred to as "recreational clubs") are not institutions?
exempt from income tax. The provision in the National
Internal Revenue Code of 1977 which granted income tax As provided in RMC 76-03 [November 14, 2003]:
exemption to such recreational clubs was omitted in the
current list of tax exempt corporations under National For non-stock non profit corporation, their interest
Internal Revenue Code of 1997, as amended. income from currency bank deposits and yield or any
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other monetary benefit from deposit substitute ration of capital equipment to


instruments and from trust funds and similar arrangement, number of workers set by the
and royalties derived from sources within the Philippines BOI
are subject to the 20% final withholding tax and interest ii. utilization of indigenous raw
income derived by them from a depository bank under the materials at rates set by the BOI
expanded foreign currency deposit system shall be iii. the net foreign exchange savings
subject to 71/2% final withholding tax. or earnings amount105

Unlike non-stock, non-profit corporations, their b. For a period of three (3) years from commercial
interest income from currency bank deposits and yield operation, registered expanding firms shall be
from deposit substitute instruments used actually, directly entitled to an exemption from income taxes levied
and exclusively in pursuance of their purposes as an by the National Government.106
educational institution, are exempt from the 20% final tax
and 7 ½% tax on interest income under the expanded 2.) RA 7916 (Sections 23 to 25) or the Special
foreign currency deposit system imposed provided they Economic Zone Act
submit on an annual basis submit to the Revenue District
Office concerned an annual information return and duly • Except for real property taxes on land owned by
audited financial statement together with the following: developers, no taxes, local and national, shall be
imposed on business establishments operating
1) Certification from their depository banks as to the within the ECOZONE. In lieu thereof, 5% of the
amount of interest income earned from passive gross income earned by all business enterprises
investment not subject to the 20% final withholding within the ECOZON shall be paid and remitted as
tax and 7 ½% tax on interest income under the follows:
expanded foreign currency deposit system.
2) Certification of actual utilization of the said income; a. 3% to the National Government
and b. 2% to the Treasurer’s office of the municipality of
3) Board Resolution by the school administration on city where the enterprise is located.
proposed projects to be funded out of the money
deposited in banks or placed in money markets, on or 3. RA 9178 or the Barangay Micro Business
before the 14th day of the fourth month following the Enterprises Act
end of its taxable year.
All BMBEs shall be exempt from tax for income arising
Q96.4. Enumerate some special laws granting exempt from the operations of the enterprise.
status to certain types of corporations
4. RA 9593 (Section 4 & 86, 88) or Tourism Act
1.) Executive Order 226 (Article 39) or the
Omnibus Investment Code 1. New enterprises in Greenfield and
Brownfield Tourism Zones107shall, from the
Registered Enterprises are granted an Income Tax start of business operations, be exempt
Holiday as follows: from tax on income for a period of six (6)
years. This income tax holiday may be
a. For six (6) years from commercial operation for extended if the enterprise undertakes a
pioneer firms and four (4) years for non- pioneer substantial expansion or upgrade of its
firms, new registered firms shall be fully exempt from facilities prior to the expiration of the first
income taxes levied by the National Government. six (6) years.108
This tax exemption will be extended for another year 2. These enterprises shall likewise be allowed
in each of the following cases: to carry over as deduction from the gross
income for the next six (6) consecutive
i. the project meets the prescribed years immediately following the year of the

105
No registered pioneer firm may avail of this incentive for a period Zone Authority) while a “Brownfield Tourism Zone” refers to an area with
exceeding eight (8) years. existing infrastructure or development as determined by the TIEZA.
106
During the period within which this incentive is availed of by the 108
This extension shall consider the cost of such expansion or upgrade
expanding firm it shall not be entitled to additional deduction for in relation to the original investment, but shall in no case exceed an
incremental labor expense. additional six (6) years.
107
A “Greenfield Tourism Zone” refers to a new or pioneer development,
as determined by the TIEZA (Tourism Infrastructure and Enterprise
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loss, their net operating losses for any from the sale thereof shall form part of the ordinary
taxable year immediately preceding the income which shall be subject either to graduated income
current taxable year which had not been tax rates (if an individual) or corporate income tax (if a
previously offset as deduction from gross corporation).
income.
3. An existing enterprise in a Brownfield Capital assets/income v. Ordinary
Tourism Zone shall be entitled to avail of a Assets/income
non-extendible income tax holiday if it
undertakes an extensive expansion or Q97.1. What are capital assets?
upgrade of facilities.109
4. In lieu of all other national and local taxes, The term capital assets means property held by the
license fees, imposts and assessments, taxpayer (whether or not connected with his trade or
except real estate taxes and such fees as business, except:
may be imposed by the TIEZA, a new
enterprise shall pay a tax of five percent 1. Stock of trade if the taxpayer or other property of a
(5%) on its gross income earned, which kind which would properly be included in the
shall be distributed as follows: inventory of the taxpayer if on hand at the close of
the taxable year
a. 1/3 to be proportionally allocated 2. Property held by the taxpayer primarily for sale to
among affected LGUs customers in the ordinary course of his trade or
b. 1/3 to the National Government; business;
and 3. Property used in trade or business of a character
c. 1/3 to the TIEZA that is subject to allowance for depreciation
4. Real property used in trade or business of the
5. RA 9856 or the Real Estate Investment Trust taxpayer
(REIT) Act

A REIT110 shall be subject to income tax on its taxable net (see Section 39 Tax Code, and Section 132, RR 2)
income defined in the Act as the pertinent items of gross
income less all allowable deductions, less the dividends Q97.1.1. A inherited from his father an agricultural
distributed by the REIT out of its distributable income.111 land. He had the land surveyed and subdivided into
In no case, shall the REIT be subject to MCIT. lots. Improvements, such as good roads, concrete
gutters, drainage and lighting system, were
Note, however, that if the REIT (1) fails to maintain its introduced to make the lots saleable. Soon after, the
status as a public company as defined in the Act; (2) fails lots were sold to the public at a profit. The Revenue
to maintain the listed status of the investor securities on examiner adjudged A as engaged in business as real
the Exchange; and (3) fails to distribute at least 90% of its estate dealers and required him to pay the real estate
distributable income, the income tax shall be imposed on dealer’s tax and assessed a deficiency income tax on
taxable net income not as defined in the Act but as defined profits derived from the sale of the lots based on the
in the Tax Code. rates for ordinary income and not as capital gains at
capital gain rates. Is the Revenue Examiner correct?
(see RR 13-2011 [JULY 25, 2011])
Yes. The statutory definition of capital assets is negative
in nature. If the asset is not among the exceptions, it is a
Capital Gains and Losses capital asset; conversely, assets falling within the
exceptions are ordinary assets. And necessarily, any gain
Q97. What is the importance of knowing if an resulting from the sale or exchange of an asset is a capital
asset/income is capital or ordinary gain or an ordinary gain depending on the kind of asset
involved in the transaction. In this case, the activities of A
The tax treatment will vary depend on the nature of the are indistinguishable from those invariably employed by
asset. For example, if real property is a capital asset, the one engaged in the business of selling real estate. One
gain from the sale thereof shall be subject to the final strong factor is the business element of development
capital gains tax of 6%. If it is an ordinary asset, any gain which is very much in evidence. A did not sell the land in

109 110
Such an income tax holiday shall consider the cost of such expansion A REIT is a stock corporation established principally for the purpose
or upgrade in relation to the original investment, but shall in no case of owning income - generating real estate assets.
111
exceed six (6) years to be counted from the time of completion of the Dividends are allowed deductions.
expansion or upgrade.
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the condition in which he acquired it. In the course of (6%) shall be imposed on the gain presumed to have
selling the subdivided lots, A engaged in the real estate been realized on its sale, exchange or disposition of such
business and accordingly, the gains from the sale of the land or building based on the gross selling price or fair
lots are ordinary income taxable in full (see CALASANZ VS. market value, whichever is higher of such land and/or
COMMISSIONER [OCTOBER 9, 1986]) building. This rule applies, whether or not the seller-
corporation is engaged in real estate business.
Q97.2. What are ordinary assets?
If the real property being sold is an ordinary asset,
The statutory definition of capital assets is negative in withholding tax rates shall apply. The rate of withholding
nature. If the asset is not among the exceptions, it is a tax will depend on whether, first, the seller is exempt or
capital asset; conversely, assets falling within the taxable; second, whether the seller is habitually engaged
exceptions are ordinary assets in real estate business or not; and third, if the seller is
habitually engaged in real estate business, the gross
Q97.2.1. Y inherited from his mother several tracts of selling price.
land. When his mother was still alive, these lands
were subdivided into lots and leased. Y sold the Q97.4. Is an equity investment a capital asset?
leased lots to the occupants except for one lot which
needed filling because of low elevation. Said lot was Yes. As ruled by the Supreme Court in CHINABANK V. CA
filled and subdivided into smaller lots and sold to the [JULY 19, 2000], an equity investment is a capital, not
public. Y reported his income from the sales as long- ordinary, asset of the investor the sale or exchange of
term capital gains. The CIR denied this and ruled that which results in either a capital gain or a capital loss.
Y was engaged in the business of leasing the lots and which the decedent had established and maintained.
the subsequent sale are sales of real property used in Under the circumstances, Y’s sales of the several lots
trade or business of the taxpayer. Is the CIR correct? forming part of his rental business cannot be
characterized as other than sales of ordinary assets. The
Yes. In this case, the properties should be regarded as sales concluded on installment basis of the subdivided
ordinary assets. When Y obtained by inheritance the lots comprising the last lot do not deserve112
parcels in question, transferred to him was not merely the
duty to respect the terms of any contract thereon, but as Net capital gain, net capital loss
well the correlative right to receive and enjoy the fruits of
the business and propertya different characterization for Q97.5. Define net capital gain and net capital loss.
tax purposes. The following circumstances in combination
show unequivocally that the petitioner was, at the time Net Capital excess of the gains from sales or
material to this case, engaged in the real estate business Gain exchanges of capital assets over the
(see TUASON VS. LINGAD [JULY 31, 1974]) losses from such sales or exchanges
Net Capital the excess of the losses from sales or
Q97.3. What is the tax consequence if the property is Loss exchanges of capital assets over the
sold by a seller- corporation engaged in real estate gains from such sales or exchanges
business?

It depends. In BIR RULING 27-02 [JULY 15, 2002],142 the


CIR was asked to rule on the tax consequences of certain
transactions involving a seller that is engaged n real Percentage taken into account
estate business but without any specification as to
whether the property is capital or ordinary. The CIR stated Q97.6. Is the capital gain from the sale or
that it is necessary to first determine the character of the exchange of a capital asset always taxable in
real property being sold. full?
If the real property is a land or building which is not No. In the case of a taxpayer other than a corporation,11314
actually used in the business of the seller-corporation and the following percentages of the gain upon the sale or
is treated as a capital asset, then a final tax of six percent exchange of a capital asset shall be taken into account in
113
112
This ruling also stated that registration with the HLURB or HUDCC The holding period is material only if the capital asset is sold by an
shall be sufficient for a seller/transferor to be considered as habitually individual. This does not apply to corporations.
engaged in the real estate business. If the seller/transferor is not
registered with HLURB or HUDCC, he/it may prove that he/it is engaged
in the real estate business by offering other satisfactory evidence
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computing net capital gain: the basis or adjusted basis for determining gain.

1. 100% if the capital asset has been held for not The loss shall be the excess of the basis or adjusted
more than 12 months basis for determining loss over the amount realized.
2. 50% if the capital asset has been held for more
than 12 months Q98.1. Define “amount realized”
Amount The sum of the money received plus
Limitations on capital loss realized the fair market value of the property
(other than money).
Q97.7. What is the allowable extent of losses from
sales or exchanges of capitals assets? Q98.2. When is gain or loss realized?

Losses from sales of exchanges of capital assets shall be Gain or loss arising from the acquisition and subsequent
allowed to be deducted only to the extent of the gains from disposition of property is realized only when as the result
such sales or exchanges. of a transaction between the owner and another person
the property is converted into other property that:
In CHINABANK V. CA [JULY 19, 2000], Chinabank 1. is essentially different from the property
made a 53% equity investment in the First CBC Capital disposed of, and
(Asia) Ltd, a Hong Kong subsidiary. First CBC became 2. has a market value.
insolvent. With BSP approval, Chinabank wrote-off the
The requirement that the property received in exchange
investment in its ITR as a bad debt or as an ordinary
must be "essentially different from the property disposed
loss deductible from its gross income. The BIR
of" implies that there must be a change in substance and
disallowed the deduction on the basis that the debt was
not merely a change in form.114
not worthless. The Supreme Court ruled that the equity
investment is not indebtedness in the first place but
The term "market value" means the fair value of the
rather capital, not an ordinary, asset. Shares of stock
property in money as between one who wishes to
would be ordinary assets only to a dealer in securities
purchase and one who wishes to sell.
or a person engaged in the purchase and sale of, or an
active trader (for his own account) in, securities. In the
hands, however, of another who holds the shares of Cost or basis for determining gain or loss
stock by way of an investment, the shares to him would
be capital assets. When the shares held by such Q99. Define “basis”
investor become worthless, the loss is deemed to be a
loss from the sale or exchange of capital assets. Basis 1. The cost thereof in the case of property ac
acquired by purchase;
The Court further stated that assuming that the equity 2. The FMV as of the date of acquisition if the s
investment of CBC has indeed become "worthless," the 3. If the property was acquired by gift, the basi
loss sustained is a capital, not an ordinary, loss. The rule donor or the last preceding owner by whom
thus is that capital loss can be deducted only from capital than FMV of the property at the time of the g
gains. The capital loss sustained by CBC can only be be such FMV;
deducted from capital gains if any derived by it during the 4. If the property was acquired for less than an
same taxable year that the securities have become basis of such property is the amount paid by
"worthless. 5. The basis as defined in paragraph (C)(5) of
where the gain or loss is not recognized und
Determination of Gains or Loss from Sale or
[see Section 40 (B) Tax Code and RR-2]
Transfer of Property
Basis of The basis of the substantially identical stock so s
Computation of Gain or Loss Stocks and may be, by the difference, if any, between the p
Securities the price at which such substantially identical sto
Q98. How is gain or loss from the sale or other acquired in Section 143, RR 2]
Wash Sales
disposition of property computed?

The gain from the sale or other disposition of property


shall be the excess of the amount realized therefrom over
114
By way of illustration, if a taxpayer owning ten shares of stock realized.
115
exchanges his stock certificate for a voting trust certificate, no income This refers to the basis used in tax-free exchanges
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merger or consolidation exchanges


property solely for stock in a
corporation, which is a party to the
Exchange of Property (Tax-Free merger or consolidation
Exchanges) b. A shareholder exchanges stock in a
corporation, which is a party to a
Definitions merger or consolidation solely for
the stock of another corporation also
Q100. For purposes of Section 40, define the a party to a merger or consolidation
following terms: c. A security holder of a corporation,
which is a party to a merger or
Securities Means bonds and debentures but consolidation, exchanges his
not notes of whatever class or securities in such corporation, solely
duration for stock or securities in another
Merger or Shall be understood to mean (i) the corporation, a party to the merger or
Consolidation ordinary merger or consolidation or consolidation
(ii) the acquisition by one
corporation of all or substantially 2. No gain or loss shall be recognized if
all the properties of another property is transferred to a corporation by
corporation solely for stock. a person in exchange for stock or unit of
participation in such a corporation of
For a transaction to be regarded as which as a result of such exchange, said
a merger or consolidation under person, alone or together with others, not
Section 40: exceeding four (4) persons gains control of
It must be undertaken for a bona said corporation provided that stocks issued
fide business purpose and not for services shall not be considered as
solely for escaping the burden of issued in return for property.
taxation. In determining if a bona
fide transaction exists, the whole Merger or Consolidation
transaction or series of
transactions shall be treated as a Q101.1. A, B, C were majority stockholders of ABC
single unit and every step of the Theatrical Co. They were also majority stockholders
transaction shall be considered In of XYZ Theatrical Co which was engaged in the same
determine if the property business. ABC and XYZ agreed to merge. Under the
transferred constitutes a agreement, all business, property, assets and
substantial portion of the property goodwill of ABC will be transferred to XYZ in
of the transferor, property shall be exchange for XYZ stocks for each stock held in ABC.
taken to include cash assets Is the exchange subject to capital gains tax?
Control Means ownership or stocks in a
corporation possessing at least 51% No. As held in CIR v. RUFINO [FEBRUARY 27, 1987], It is
of the total voting power of all well established that where stocks for stocks were
classes of stock entitled to vote exchanged, and distributed to the stockholders of the
corporations, parties to the merger or consolidation,
pursuant to a plan of reorganization, such exchange is
exempt from capital gains tax. The basic consideration, of
Q101. What are considered as tax-free course, is the purpose of the merger, as this would
exchanges? determine whether the exchange of properties involved
therein shall be subject or not to the capital gains tax. The
As a general rule, the entire amount of the gain or loss criterion laid down by the law is that the merger" must be
shall be recognized upon the sale or exchange of property undertaken for a bona fide business purpose and not
solely for the purpose of escaping the burden of taxation."
The exceptions (tax free exchanges) are: It is clear, in fact, that the purpose of the merger was to
1. No gain or loss shall be recognized if in continue the business of the Old Corporation, whose
pursuance of a plan of merger or corporate life was about to expire, through the New
consolidation: Corporation to which all the assets and obligations of the
former had been transferred. The exemption from the tax
a. A corporation which is a party to a of the gain derived from exchanges of stock solely for
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stock of another corporation was intended to encourage transferred to a corporation by a person in exchange for
corporations in pooling, combining or expanding their stock in such a corporation of which as a result of such
resources conducive to the economic development of the exchange, said person alone or together with others, not
country. The merger in question involved a pooling of exceeding four persons, gains control of said corporation.
resources aimed at the continuation and expansion of The term "control" shall mean ownership of stocks in a
business and so came under the letter and intendment of corporation possessing at least 51% of the total voting
the NIRC exempting from the capital gains tax exchanges power of all classes of stocks entitled to vote. In
of property. determining the 51% stock ownership, only those persons
who transferred property for stock in the same transaction
Transfer of property for shares of stock may be counted up to a maximum of five.

Q101.2. Filinvest Development Corporation (FDC), a Transfer of “substantially all” the assets
holding company, is the owner of 80% of the
outstanding shares of Filinvest Alabang, Inc. (FAI) Q101.4. What is a de facto merger?
and 67.42% of the outstanding shares of Filinvest
Land, Inc. (FLI). FDC and FAI entered into a Deed of To constitute a de facto merger, the following elements
Exchange with FLI whereby the former both transfer must concur:
in favor of the latter parcels of land in exchange for 1. There must be a transfer of all or substantially all
shares of stock of FLI. The CIR argues that the taxable of the properties of the transferor corporation
gain should be recognized for the exchange as FDC’s solely for stock, and
controlling interest in FLI was decreased as a result 2. It must be undertaken for a bona fide business
of the exchange. Is the CIR’s contention correct? purpose and not solely for the purpose of
escaping the burden of taxation. (see RMC 1-02
No. The Supreme Court in CIR V. FILINVEST DEVELOPMENT [April 25, 2002])
CORPORATION (JULY 19, 2011] stated that the requisites
for the non-recognition of gain or loss of a transfer of Q101.5. What is meant by “substantially all”?
property for shares of stock are as follows:
(a) the transferee is a corporation; As provided by RR 2, "substantially all" means the
(b) the transferee exchanges its shares of stock acquisition by one corporation of at least 80% of the
for property/ies of the transferor; assets, including cash, of another corporation, which has
(c) the transfer is made by a person, acting alone the element of permanence and not merely momentary
or together with others, not exceeding four persons; and, holding
(d) as a result of the exchange the transferor,
alone or together with others, not exceeding four, Q101.6. What are the differences between a de facto
gains control of the transferee. Rather than merger and a statutory (ordinary) merger?
isolating FDC, the shares issued to FDC should
be appreciated in combination with the new In a de facto merger, the Transferor is not automatically
shares issued to FAI. Together, FDC and FAI’s dissolved unlike in the case of a statutory merger.
shares add to 70.99% of FLI’s shares. Since the Likewise, there is no automatic transfer to the Transferee
term "control" is clearly defined as "ownership of of all the rights, privileges, and liabilities of the Transferor
stocks in a corporation possessing at least fifty- in the case of de facto merger.
one percent of the total voting power of classes
of stocks entitled to one vote, “ the exchange of Q101.7. What are the similarities and differences
property for stocks between FDC-FAI and FLI between a de facto merger and a transfer of property
clearly qualify as a tax-free transaction. for shares under Section 40(C)(2) of the Tax Code?

De facto merger is in procedure similar to a transfer to a


Q101.3. ABC is a domestic corporation. Shareholders controlled corporation under the same Section 40(C)(2) of
transferred their real property in exchange for more the Tax Code of 1997, except that at least 80% of the
shares in the corporation. In effect, they gained Transferor's assets, including cash, are transferred to the
control of more than 51% of the shares of the Transferee, with the element of permanence and not
corporation entitled to vote. Is the exchange tax- merely momentary holding.
exempt?
However, a de facto merger and a transfer to a controlled
116
It depends. In BIR Ruling 274-87, the CIR ruled that corporation are different in that, (1) the Transferor in a de
no gain or loss would be recognized if property is facto merger is a corporation, while in a transfer to a

116
Note that in this BIR Ruling, there were 6 transferors
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controlled corporation, the Transferors may either be a


corporation or an individual, and (2) in a de facto merger, Exchange not solely in kind
there is no requirement that the transferor gains control
(that is, 51% of the total voting powers of all classes of
Q101.9. What is the effect if the tax-free exchange is
stocks of the Transferee entitled to vote) of the Transferee
not solely in kind?
as a prerequisite to enjoying the benefit of non-recognition
of gain or loss. What is essential in a de facto merger is
that the Transferee acquires all or substantially all of the 1. If an individual, shareholder, security holder or
properties of the Transferor. (see RMC 1-02 [April 25, corporation receives money and/or property in
2002]) addition to the stock, the gain, but not the loss,
shall be recognized but in amount not in excess
of the sum of the money and the fair market
Administrative Requirements in case of tax- value of such other property received.
free exchanges 2. As to the shareholder, if the money and/or
property has the effect of a distribution of a
Q101.8. What are the administrative requirements in taxable dividend, there shall be taxed an
case of tax-free exchanges? amount of the gain recognized not in excess of
his proportionate share of the undistributed
1. The parties who are applying for confirmation that earnings and profits of the corporation; the
the transaction is indeed a tax-free exchange remainder, if any, shall be treated as capital
shall submit the following: gain.
a. A sworn certification on the basis of the 3. If the transferor corporation receives money
property to be transferred and/or property in addition to the stock, then:
b. Certified true copies of the TCT and/or a. If the corporation distributes it in
CCT of real properties transferred pursuance of the plan of merger or
c. Certified true copies of the corresponding consolidation, no gain shall be
latest Tax Declaration of the real recognized
properties to be transferred b. If the corporation does not distribute it,
d. Certified true copies of the certificates of the gain, if any, but not the loss shall be
stocks evidencing shares of stocks to be recognized but not in an amount not in
transferred excess of the sum of such money and
e. Certified true copy of the inventory of the fair market value of the property so
other property/ies to be transferred/ received.
2. The BIR shall issue a certification or ruling
confirming that an exchange of property for Assumption of Liability in Tax-Free
shares complies with the requisites for it to be tax-
free. The certification or ruling shall contain the
Exchanges
substituted basis of the properties.
3. The Certificate Authorizing Registration (CAR) or Q101.10. What is the effect of the assumption of the
Tax Clearance (TCL) shall be issued by the transferee of the liabilities of the transferor in addition
RDO/Authorized Internal Revenue Officer on the to the transfer of property?
basis of the BIR certification or ruling
4. The information that the transaction is a tax-free Section 40(C)(4) provides that if the taxpayer receives
exchange and the substituted basis of the the stock as if it were the sole consideration, and, as part
properties shall be annotated in the TCT and/or of the consideration, another party to the exchange
CCT. assumes a liability of the taxpayer or acquires property
5. The applicant/taxpayer shall pay the processing subject to a liability, such shares and paid the
and certification fee of P5,000 for each corresponding CGT based on a lower cost basis. Is the
application not involving more than 10 real transfer valid? assumption or acquisition shall not be
properties and/or certificates of stock. An treated as money and/or property and shall not prevent
additional P100 shall be paid for every TCT/CCT the exchange from being tax-free.
and/or certificate of stock in excess of 10.
6. Every official, agent, or employee of the Registry However, if the amount of liabilities assumed plus the
of Deeds and corporate secretary or the duly amount of liabilities to which the property is subjected to
authorized officer of the corporation who fails to exceed the total adjusted basis of the property, then such
annotate the information shall be subject to a excess shall be considered either a capital gain or
penalty. ordinary gain, as the case may be.

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Q101.11. What is the cost or basis in tax- free Administrative Provisions


exchanges?
Accounting Methods
The basis of the stock or securities shall be the same as
the basis of the property, stock, or securities exchanged: Q102. What are accounting methods that may
1. minus the money received be used by taxpayers?
2. minus the fair market value of the property
received The methods are:
3. plus the amount treated as dividend of the 1. Cash Method – a method of accounting whereby
shareholder all items of gross income received during the year
4. plus the amount of any gain that was recognized shall be accounted for in such taxable year and
on the exchange. that only expenses actually paid shall be claimed
as deductions during the year
Note that the assumption or acquisition of liability shall be 2. Accrual Method – method of accounting for
treated as money and/or property received if as part of the income in the period it is earned, regardless of
consideration to the transferor, the transferee of the whether it has been received or not. Expenses
property assumes a liability of the transferor or acquires are accounted for in the period they are incurred
from the latter property subject to a liability. and not in the period they are paid.
3. Installment Method – method of accounting
The basis of the property transferred in the hands of the considered appropriate when collections of the
transferee shall be the same as it would be in the hands proceeds of sales and incomes extend over
of the transferor increased by the amount of the gain relatively long periods of time and there is strong
recognized to the transferor on the transfer. possibility that full collection will not be paid. As
customers make installment payments, the seller
Business Purpose recognizes the gross profit on sale in proportion
to the cash collected during the year. (see
Q101.12. A owns all the stock of ABC Corp. ABC Corp. Section 49, Tax Code)
had 1,000 shares of XYZ Corp. A formed a new 4. Percentage of Completion Method – method of
corporation called DEF Corp. A had ABC transfer all accounting applicable in the case of a building,
1,000 XYZ shares to DEF. She then dissolved DEF and installation or construction contract covering a
liquidated the assets (the XYZ shares). A then sold period in excess of one year, whereby gross
the XYZ income derived from such contract may be
No. As held in GREGORY V. HELVERING [293 US 465, reported upon the basis of percentage of
JANUARY 7, 1935], a transfer of assets by one corporation completion. (see Section 48, Tax Code)
to another must have a business purpose. Here, it was a 5. Crop Year Basis – method of accounting
mere device which followed the form of a corporate applicable only for farmers engaged in the
reorganization to conceal its real character which was a production of crops which take more than a year
transfer of stock of XYZ shares to A. from the time of planting to the process of
gathering and disposal of the harvest. Expenses
paid or incurred are deductible in the year the
Rulings gross income from the sale of the crops is
realized.
Q101.13. Is there a prescriptive period for rulings
issued in connection to tax-free exchanges?
Hybrid Method
Yes. RMC 40-2012 [August 3, 2012] provides that
Q102.1. Can a taxpayer use a combination of two
rulings issued under Section 40 (C) (2) of the NIRC, as
amended, shall be valid only for ninety (90) days counted or more methods of accounting?
from the date of receipt of the ruling by any of the parties
to the exchange transaction. The properties and shares No. The rule is that a taxpayer may use any one method
of stocks involved in the transfer should be conveyed to of accounting but not a combination of two or more
the transferee/s and transferor/s, respectively, within this methods of accounting for each type of business during
period. the taxable year. The use of a hybrid method of
accounting is not allowed (see CONSOLIDATED MINES VS.
CTA [AUGUST 29, 1974])
Losses from Wash Sales of Stocks or
Securities Percentage of Completion Method
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and calendar year?


Q102.2. Can gross income be instead reported
when the long term contract is finally Calendar year is an accounting period which starts from
completed? January 1 and ends on December 31 while Fiscal year is
an accounting period of 12 months ending on the last day
Yes. Section, 44, RR 2 provides that gross income may of any month other than December 31.
be reported in the taxable year in which the contract is
finally completed and accepted if the taxpayer elects as a Income tax returns, whether individuals or for
consistent practice to so treat such income, provided such corporations, are required to be made and their income
method clearly reflects the net income. If this method is computed for each calendar year. However, corporations
adopted there should be deducted from gross income all may with the approval of the CIR, file their returns and
expenditures during the life of the contract which are compute their income on the basis of a fiscal year. (see
properly allocated thereto, taking into consideration any Section 43, Tax Code)
material and supplies charged to the work under the
contract but remaining on hand at the time of the Change of Accounting Period
completion.
Q103.2. Can a taxpayer change his accounting
Installment Basis period?

Q102.3. A sold lots to ABC Corp and was paid less Yes, but this applies only to corporate taxpayers. If the
than 25%, the balance was covered by 4 checks. On corporate taxpayer wishes to change his accounting
the same day, the checks were discounted (exchange period from fiscal to calendar year, from calendar year to
for cash at an amount lower than face value) also ABC fiscal year, or from one fiscal year to another, the net
Corp. A reported as income for the year of the sale for income shall, with the approval of the CIR, be computed
the year of the sale only the cash amount received on the basis of such new accounting period. (see
from sale and excluded the amount received from the Section 46, Tax Code)
discounted checks. The balance was reported as
income only in the next four years. A argues that The corporation must file the corresponding final or
initial payment excludes evidence of indebtedness. Is adjustment return (see Section 47, Tax Code)
A’s contention correct?
Allocation of Income and Deductions
Yes. As held in BANAS V. CA [FEBRUARY 10, 2000], the
transaction remains to be an instalment (not cash) sale Q103.3. When are items of gross income included?
as the law expressly excludes evidence of indebtedness
in the determination of how much was paid for the year. The amount of all items of gross income shall be included
However, even if the proceeds of discounted note is not in the gross income for the taxable year in which received
considered as part of the initial payment, the income by the taxpayer unless under the accounting method such
realized from the discounting itself is still a separate amounts are to be properly accounted for as for a different
taxable income in the year it was converted into cash period. (see Section 44, Tax Code)
because it was at this year that there was actual gain on
the discounted notes. Q103.4. When is the period for which deductions and
credits are taken?
Even if the proceeds of a discount promissory note is not
considered initial payment, it must still be included as The deductions shall be taken for the taxable year in
taxable income on the year it was converted to cash. which paid or accrued or paid or incurred dependent
upon the accounting method used unless in order to
Accounting Period clearly reflect the income the deductions should be taken
as of a different period. (see Section 45, Tax Code)
Q103. What is the general rule for computing
Q103.5. When is the CIR authorized to allocate
the taxpayer’s taxable income?
income and deductions? (Transfer pricing)
The taxable income shall be computed upon the basis of CIR to authorized to distribute, apportion, allocate, and
the taxpayer’s annual accounting period – fiscal year or shift income and expenses between related taxpayers to
calendar year as the case may be. reflect their true taxable income or to prevent evasion of
taxes.
Q103.1. What is the difference between fiscal year
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Returns and Payments of Taxes subjected to final withholding tax


5. An individual who is exempt from income tax
Q104. Enumerate the BIR forms used in income tax
filing. Always required to file, will be those earning:
1. Self-employed income
1. BIR Form 1700: Annual ITR for Individuals 2. Business Income
Earning Purely Compensation Income
2. BIR Form 1702: Annual ITR for Self- Employed Where to file
Individuals, Estates and Trusts;
3. BIR Form 1702: Annual ITR for Corporation, Q107. Where will the income tax return be filed?
Partnership and Other Non-Individual
Taxpayer. (see RR 019-11 [DECEMBER 9, The return shall be filed with the
2011]) 1. Authorized agent bank
2. Revenue District Officer
Individual Return 3. Collection Agent
4. Duly authorized Treasurer of the city or
Who are required to pay municipality in which such person has his legal
residence or principal place of business in the
Q105. Who are required to file an income tax Philippines
return? 5. if there be no legal residence or place of business
in the Philippines, with the Office of the
The following individuals are required to file an income Commissioner. (see Section 51, Tax Code).
tax return:
When to file
1. Resident citizen
2. Nonresident citizen, on his income from sources Q108. When is the income tax return filed?
within the Philippines
3. Resident alien, on income derived from sources The following rules shall govern the time of filing of
within the Philippines income tax returns:
4. Nonresident alien engaged in trade or business
or in the exercise of profession in the Philippines 1. The return of any individual shall be filed on or
(see Section 51, Tax Code) before April 15 of each year covering income for
the preceding taxable year.
Those not required to pay 2. Individuals subject to tax on capital gains
a. From the sale or exchange of shares of
Q106. Who are not required to file an income tax stock not traded thru a local stock
return? exchange shall file a return within thirty
(30) days after each transaction and a
A: The following individuals are not required to file an final consolidated return on or before
income tax return: April 15 of year covering all stock
1. However, a citizen of the Philippines and any transactions of the preceding taxable
alien individual engaged in business or practice year; and
of profession within the Philippines shall file an b. From the sale or disposition of real
income tax return, regardless of the amount of property shall file a return within thirty
gross income. (30) days following each sale or other
2. An individual with respect to pure compensation disposition.
income derived from sources within the 3. Married individuals who do not derive income
Philippines (substituted filing) purely from compensation, shall file a return for
3. However, (1) an individual deriving compensation the taxable year to include the income of both
concurrently from two or more employers at any spouses, but where it is impracticable for the
time during the taxable year shall file an income spouses to file one return, each spouse may file
tax return and (2) an individual whose a separate return of income.
compensation income derived from sources 4. The income of unmarried minors derived from
within the Philippines exceeds P60,000 shall also property received from a living parent shall be
file an income tax return included in the return of the parent, except:
4. An individual whose sole income has been a. when the donor's tax has been paid on
such property, or
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b. when the transfer of such property is render, in duplicate, a true and accurate quarterly income
exempt from donor’s tax. tax return and final or adjustment return.
5. If the taxpayer is unable to make his own return,
the return may be made by his duly authorized The return shall be filed by the president, vice-president
agent or representative or by the guardian or or other principal officer, and shall be sworn to by such
other person charged with the care of his person officer and by the treasurer or assistant treasurer.
or property.
Quarterly Income Tax
Where to pay
Q112. When should corporate income tax be
Q109. Where is the income tax paid? declared and paid?

1. At the nearest Authorized Agent Bank (AAB) of Every corporation shall file a quarterly summary
the Revenue District Office where the taxpayer is declaration of its gross income and deductions on a
registered. cumulative basis for the preceding quarter or quarters,
2. In places where there are no AABs, to the upon which the income tax shall be levied, collected and
Revenue Collection Officer or duly Authorized paid.
City or Municipal Treasurer located within the
Revenue District Office where the taxpayer is The tax so computed shall be decreased by the amount
registered. of tax previously paid or assessed during the preceding
quarters and shall be paid not later than 60 days from the
close of each of each of the first three quarters of the
Quarterly Income Tax taxable year, whether calendar or fiscal year (see Section
75, Tax Code)
Q110. When should income tax be declared for
individuals?
Final Adjustment Return
Individuals117 subject to income tax, who is receiving self-
employment income, 118 whether it constitutes the sole
Q113. What are the options available to the
source of his income or in combination with salaries,
wages, and other fixed or determinable income, shall corporation when the sum of the quarterly tax
make and file a declaration of his estimated income for payments made during the taxable year is not equal
the current taxable year on or before April 15 of the same to the total tax due on the entire taxable income of
taxable year. (see that year?
Section 74(A), Tax Code) The corporation shall either
Q110.1. When should the estimated tax be 1. Pay the balance of tax still due
paid? 2. Carry-over the excess credit
3. Be credited or refunded with the excess amount
The estimated tax due with respect to his declared income paid
shall be paid in four (4) instalments. The first shall be paid
at the time of the declaration and the second and third Q113.1. Differentiate a tax credit from a tax refund
shall be paid on August 15 and November 15 of the
current year, respectively. The fourth instalment shall be In a tax refund, any tax on income that is paid in excess
paid on or before April 15 of the following calendar year of the amount due the government is refunded. In a tax
when the final adjusted income tax return is to be filed. credit, the refundable amount is applied against the
(see Section 74(B), Tax Code) estimated quarterly income tax liabilities of the
succeeding taxable year
Corporation Returns
Q113.2. Are the options to file a tax refund and to avail
Q111. Who are required to file a corporate return? of tax credit alternative remedies?

Yes. As held in PHILAM ASSET MANAGEMENT V. CIR


Every corporation, except foreign corporations not
[DECEMBER 14, 2005], these two options are alternative.
engaged in trade or business in the Philippines, shall

117 118
Nonresident citizens, with respect to income without the Philippines Consists of earnings derived by the individual from the practice of
and nonresident aliens not engaged in trade or business, are not profession or conduct of trade or business carried on by him as a sole
required to make a declaration. proprietor or by a partnership of which he is a member.
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The choice of one precludes the other. One cannot get a due to the pending application for refund, it would be more
tax refund and a tax credit at the same time for the same complicated and circuitous if the government were to
excess income taxes paid. grant first the refund claim and then later assess the
taxpayer for the claim of automatic tax credit that was
Q113.2.1. If the corporate taxpayer fails to signify his previously disallowed. Such procedure is highly inefficient
intention in the Final Adjustment Return, is it barred and expensive on the part of the government due to the
from making a valid request for refund should it costs entailed by an assessment. It unduly hampers,
choose this option later on? instead of eases, tax administration and unnecessarily
exhausts the government’s time and resources. It defeats,
No. As held in PHILAM ASSET MANAGEMENT V. CIR rather than promotes, administrative feasibility Such
[DECEMBER 14, 2005], failure to indicate a choice will not could not have been intended by our lawmakers.
bar a valid request for a refund, should this option be Congress is deemed to have enacted a valid, sensible,
chosen by the taxpayer later on. and just law.
Q113.3. What is the irrevocability rule?
Where to file
No. Once the option to carry-over the excess and apply
the excess quarterly income tax against income tax due Q114. Where should the quarterly income tax
for the taxable quarters of the succeeding taxable years declaration and final adjustment return be filed?
has been made, such option shall be considered
They shall be filed with the
irrevocable for that taxable period and no application for
1. Authorized agent bank
cash refund or issuance of a tax credit certificate shall be
2. Revenue District Officer
allowed. (see Section 76, Tax Code and SYSTRA
3. Collection Agent
PHILIPPINES V. CIR [SEPTEMBER 21, 2007])
4. Duly authorized Treasurer of the city or
municipality having jurisdiction over the location
Q113.4. What is the implication when a corporation
of the principal office of the corporation filing the
fills out the portion “Prior Year’s Excess Credits” in
return or place where its main books of accounts
the Final Adjustment Return?
and other data from which the return is prepared
(see Section 77, Tax Code)
As held in PHILAM ASSET MANAGEMENT V. CIR
[DECEMBER 14, 2005], the fact that the corporation filled
out the portion “prior year’s excess credits” in the Final When to file
Adjustment Return means that it categorically availed
itself of the carry-over option. If an application for tax Q115. When should the quarterly income tax
refund has been or will be filed, that portion should declaration and final adjustment return be filed?
necessarily be blank.
The corporate quarterly declaration shall be filed within 60
Q113.5. What is the implication when the initial days following the close of each of the first here quarters
option is to refund the excess creditable tax when of the taxable year.
there is a subsequent carry over?
The final adjustment return shall be filed on or before May
As held in UNIVERSITY PHYSICIANS SERVICES, INC. V. CIR 15, or on or before the 15th day of the 4th month following
[MARCH 27, 2018], only the option of carry-over is the close of the fiscal year, as the case may be.
irrevocable. The phrasing of the law, under Sec 228,
states that “the options are alternative, the choice of one When to pay
precludes the other”. However, in order to place a
sensible meaning to the whole paragraph of the law, it Q116. When should the income tax due be paid?
should be interpreted as contemplating only that situation
when an application for refund or tax credit certificate had The income due on the corporate quarterly returns and
already been previously granted. Issuing an assessment final adjustment income tax returns shall be paid at the
against the taxpayer who benefited twice because of the time the declaration or return is filed.
application of automatic tax credit is a wholly acceptable
remedy for the government. Corporation
Individual Returns
Returns
Q113.5 Does a pending administrative case in the 1. Resident citizens 1. Domestic
BIR bar the subsequent selection of excess carry- Who are 2. Non-resident Corporation
over? required citizens 2. Resident
No. On the premise that the carry-over is to be disallowed to file? 3. Residents aliens Foreign
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4. Non-residents Corporation treaded Corporate


aliens à by the through Quarterly
President, local Declaration:
VP or other stock 1. Filed
principal exchange within 60
officer • Sale/ days
1. An individual disposition of following
Who’s whose taxable Foreign Corps real property the close
not income does not not engaged in within 30 days of each of
required exceed trade or of each sale or the 3
to file? PHP250,000 business in the other quarters of
based on the tax Philippines disposition the taxable
schedule for 1. Authorized Agent
compensation Where Bank
income earners to file? 2. Revenue. District
shall not be Where Officer
required to le an to pass? 3. Collection Agent
ITR. 119 or duly
2. Pure authorized
compensation treasurer of the
income Municipality
Substituted filing 4. Office of the
provided: Commissioner
a. Must derive
income from Capital gains on shares of stock
only 1
employee or Q117. When should the return for capital gains on
none shares of stock be filed?
b. Income
correctly Every corporation deriving capital gains from the sale or
withheld exchange of shares of stock not traded thru a local stock
(tax due exchange shall file a return within 30 days after each
equals tax transaction and a final consolidated return of all
withheld)120 transactions during the taxable year on or before the 15th
3. Individuals day of the 4th month following the close of the taxable
subjected to final year.
withholding tax
4. Individuals also Return of corporations contemplating
are exempt dissolution/reorganization
1. On or before May Final
When to 15121of each year Adjustment Q118. If a corporation plans to dissolve or reorganize,
file? 2. Individuals subject Return: what are its obligations with respect to returns and
tax on Capital 1. Calendar payments of taxes?
Gains year – on
• Sale/exchange or before Yes. RR 2 provides that all corporations, contemplating
of stock within April 15 dissolution or retiring from business without formal
30 days after 2. Fiscal year dissolution shall, within 30 days after the approval of such
each – 15th of resolution authorizing their dissolution, and within the
transaction and the 4th same period after their retirement from business, file their
a final return month income tax returns covering the profit earned or business
on or before following done by them from the beginning of the year up to the
May 15 the close date of such dissolution or retirement and pay the
o Except of the corresponding income tax due thereon upon demand by
those fiscal year the CIR.

119 121
TRAIN law amendment, Sec. 51 (A)(2)(a) TRAIN law amendment
120
TRAIN law amendment, Sec. 51-A
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that all gains, profits, and income of a taxable class, shall


In BPI V. CIR [CA-G.R. SP. NO. 38304, APRIL 14, 2000], be charged and assessed with the corresponding tax and
by virtue of a merger, BPI became the successor-in- the said tax shall be paid by the owners of such gain,
interest of FEBTC on July 1, 1985. On April 10, 1986, profits or income or the proper person having receipt,
FEBTC filed its final income tax return with the BIR custody, or control or disposal of the same
showing, among others, a refundable amount of
P174,065.77. BPI filed a claim for refund of this amount. Other income tax requirements
The BIR and CTA stated that the claim for refund has
already prescribed because the return should have been Q122. Enumerate the other income tax requirements
filed by FEBTC within 30 days from SEC's approval of the under Section 67-72 of the Tax Code
Articles of Merger. BPI contended that the said return
1. All persons, corporations, duly registered general
should have been filed on the 15th day of the 4th month
co-partnerships undertaking for profit or
following the close of FBTC's taxable year. The CA
otherwise the collection of foreign payments of
agreed with the BIR and CTA. Section 78 of the Tax Code
interests or dividends shall obtain a license from
and Section 224 of RR 2 required FEBTC as a dissolving
the CIR. (see Section 67, Tax Code)
corporation to file its income tax return within 30 days after
2. All persons, corporations, duly registered general
the cessation of its business or 30 days after the approval
co-partnerships making income payments to
of the merger on July 1, 1985 or up to July 31, 1985. Thus,
another are required to render a true and
the claim for refund has already prescribed.
accurate return to the CIR setting forth the
amount of such gains, profits and income and the
Return of GPPs name and address of the recipient of such
payments. (see Section 68, Tax Code)
Q119. Is a GPP required to file a return? 3. All persons, corporations, duly registered general
co-partnerships, doing business as a broker, shall
Yes. Although a GPP is not a taxable entity, it is required
render a correct return showing the names of
to file a return of its income setting forth the items of
customers for whom such persons, corporations,
gross income and deductions, and the names, taxpayer
duly registered general co- partnerships
identification numbers (TIN), addresses and shares of
transacted business with. (see Section 69, Tax
each of the partners. (see SECTION 55, Tax Code).
Code)
4. Any attorney, accountant fiduciary, bank, trust
Return of Receivers, Trustees in company, financial institution or other person,
Bankruptcy or Assignees who aids, assists, counsels or advises in, or with
respect, to the formation, organization or
Q120. Who shall make the return if the property or reorganization of any foreign corporation shall
business of a corporation is being operated by within 30 days thereafter file a return with the CIR.
receivers, trustees or assignees? (see Section 70, Tax Code)
5. After the assessment shall have been made,
If receivers, trustees in bankruptcy or assignees are returns, including corrections thereto made by the
operating the corporation, such receivers, trustees or CIR, shall be filed in the Office of the CIR and
assignees shall make the returns of net income as and shall constitute public records and be open to
for such corporation and the tax due shall be assessed inspection upon order of the President 122 (see
and collected in the same manner as if assessed directly Section 71, Tax Code)
against the corporation. 6. When an assessment is made in case of any list,
statement or return, which in the opinion of the
Others not captured CIR was false or fraudulent or contained any
understatement or undervaluation, no tax
Q121. How shall the tax upon gains, profits, and collected under such assessment shall be
income not falling and not returned and paid under recovered by any suit unless the said list,
the provisions on returns and payment of tax be statement or return was not false nor fraudulent
assessed? and did not contain any understatement or
undervaluation. 123(see Section 72, Tax Code)
They shall be assessed by personal return. The rule is

122
RA 10021 or the Exchange of Information on Tax Matters Act of 2009 order of the President
123
provides that income tax returns of specific taxpayers subject of a This provision does not apply to statement or returns made or to be
request for exchange of information by a foreign tax authority pursuant made in good faith regarding annual depreciation of oil or gas wells
to an international convention or agreement on tax matters to which the and mines
Philippines is a signatory or a party of, shall be open to inspection upon
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In UNITED AIRLINES V. CIR [SEPTEMBER 29, 2010], the CTA


found that United Airlines underpaid its Gross Philippine
Billings because United made erroneous deductions from
its gross cargo revenues in the ITR. United questioned the
proprietary of the CTA’s determination. The Supreme
Court held that under Section 72 of the Tax Code, the
CTA can make a valid finding that the taxpayer made
erroneous deductions on its gross cargo revenue, that
because of such erroneous deductions, it reported a lower
cargo revenue and paid a lower income tax thereon, and
that its underpayment of the income tax on cargo revenue
is even higher than the income tax it paid on passenger
revenue subject of the refund, such that refund cannot be
granted.

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