MADRIGAL VS.

RAFFERTY- DIFFERENCE BETWEEN CAPITAL AND INCOME

The essential difference between capital and income 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 income. Capital is wealth, while income is the service of wealth.
FACTS:
• Vicente Madrigal and Susana Paterno were legally married prior to Januray 1, 1914. The marriage was
contracted under the provisions of law concerning conjugal partnership
• On 1915, Madrigal filed a declaration of his net income for year 1914, the sum of P296,302.73
• Vicente Madrigal was contending that the said declared income does not represent his income for the year
1914 as it was the income of his conjugal partnership with Paterno. He said that in computing for his additional
income tax, the amount declared should be divided by 2.
• The revenue officer was not satisfied with Madrigal’s explanation and ultimately, the United States
Commissioner of Internal Revenue decided against the claim of Madrigal.
• Madrigal paid under protest, and the couple decided to recover the sum of P3,786.08 alleged to have been
wrongfully and illegally assessed and collected by the CIR.

ISSUE: Whether or not the income reported by Madrigal on 1915 should be divided into 2 in computing for the
additional income tax.

HELD:
• No! The point of view of the CIR is that the Income Tax Law, as the name implies, taxes upon income and not
upon capital and property.
• The essential difference between capital and income 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 income. Capital is wealth, while income is the service of wealth.
• As Paterno has no estate and income, actually and legally vested in her and entirely distinct from her
husband’s property, the income cannot properly be considered the separate income of the wife for the
purposes of the additional tax.
• To recapitulate, Vicente wants to half his declared income in computing for his tax since he is arguing that he
has a conjugal partnership with his wife. However, the court ruled that the one that should be taxed is the
income which is the flow of the capital, thus it should not be divided into 2.

MADRIGAL vs. RAFFERTY (DIGEST)

September 22, 2019 by ATA

G.R. No. 12287 (1918)

Malcolm, J.
Philippine Income Tax
PARTIES:
Plaintiff-Appellants Vicente Madrigal and his wife Susana Paterno
Defendants-Appellees James J. Rafferty, (Collector of Internal Revenue),
Venancio Concepcion (Deputy CIR)

SUMMARY:
Madrigal & Paterno are spouses. In filing his 1914 return, Madrigal claims that his income should be divided
between him and his wife because they were married under the Civil Code provisions of conjugal partnership.
(Note that if the income is divided by two, the combined tax of husband and wife will be lower compared to the
tax if husband declares everything. This is because the income tax follows the progressive system, the higher
the income, the higher the tax). The Supreme Court disagreed with Madrigal. The income should be declared
by Madrigal alone as the Income Tax Law does not look on the spouses as individual partners in an ordinary
partnership.The higher schedules of the additional tax directed at the incomes of the wealthy may not be
partially defeated by reliance on provisions in our Civil Code dealing with the conjugal partnership and having
no application to the Income Tax Law

DOCTRINES:
The Income Tax Law of the United States in force in the Philippine Islands has selected income as the test of
faculty in taxation. The aim has been to mitigate the evils arising from the inequalities of wealth by a
progressive scheme of taxation, which places the burden on those best able to pay.
The Income Tax Law, being a law of American origin and being peculiarly intricate in its provisions, the
authoritative decision of the, official charged with enforcing it has peculiar force for the Philippines. Great
weight should be given to the construction placed upon a revenue law, whose meaning is doubtful, by the
department charged with its execution (i.e., the United States Collector of Internal Revenue).

FACTS:
Vicente Madrigal and Susana Paterno were legally married prior to January 1, 1914. The marriage was
contracted under the provisions of law concerning conjugal partnerships (sociedad de gananciales).

On February 25, 1915, Vicente Madrigal filed a sworn declaration on the prescribed form with the CIR,
showing, as his total net income for the year 1914, the sum of P 296,302.73.

Subsequently Madrigal submitted the claim (with the CIR) that the said 296,302.73 did not represent his
income for the year 1914, but was in fact the income of the conjugal partnership existing between himself and
his wife Susana Paterno, and that in computing and assessing the additional income tax provided by the Act of
Congress of October 3, 1913, the income declared by Vicente Madrigal should be divided into two equal parts,
one-half to be considered the income of Vicente Madrigal and the other half the income of Susana Paterno.

Attorney General of the Philippine Islands. The CIR wrote the Attorney General for his opinion on the matter.
The AG held with the petitioner Madrigal.
US Treasury Department / US CIR. The revenue officers being still unsatisfied, the correspondence together
with this opinion was forwarded to Washington for a decision by the United States Treasury Department. The
United States Commissioner of Internal Revenue reversed the opinion of the Attorney-General, and thus
decided against the claim of Madrigal.

CFI-Manila. After payment under protest, and after the protest of Madrigal had been decided adversely by the
CIR, action was begun by Vicente Madrigal and his wife Susana Paterno in the trial court for the recovery of
the sum of P3,786.08. The burden of the complaint was that if the income tax for the year 1914 had been
correctly and lawfully computed there would have been due and payable by each of the plaintiffs the sum of
P2,921.09, which taken together amounts to a total of P5,842.18 instead of P9,668.21, erroneously and
unlawfully collected. The CFI-Manila in an exhausted decision found in favor of defendants, without costs.

ISSUE:
WON the income of Madrigal should be divided into two equal parts, because of the conjugal partnership
existing between him and his wife Paterno? NO.

RATIO:
The Income Tax Law of the United States, extended to the Philippine Islands, is the result of an effect on the
part of legislators to put into statutory form this canon of taxation and of social reform. The aim has been to
mitigate the evils arising from inequalities of wealth by a progressive scheme of taxation, which places the
burden on those best able to pay. To carry out this idea, public considerations have demanded an exemption
roughly equivalent to the minimum of subsistence. With these exceptions, the income tax is supposed to reach
the earnings of the entire non governmental property of the country.

Income as contrasted with capital or property is to be the test. The essential difference between capital and
income is that capital is a fund; income is a flow. The Supreme Court of Georgia expresses the thought in the
following figurative language: “The fact is that property is a tree, income is the fruit; labor is a tree, income the
fruit; capital is a tree, income the fruit.” A tax on income is not a tax on property. “Income,” as here used, can
be defined as “profits or gains.” (Why is there a need to distinguish? The conjugal partnership of spouses
pertains to capital)

A regulation of the United States Treasury Department relative to returns by the husband and wife not living
apart provides for the complicated rules when does the husband declares the income of both husband and wife
and when may the wife file a return separately from his wife.

We turn for a moment to consider the provisions of the Civil Code dealing with the conjugal partnership.
Susana Paterno, has an inchoate right in the property of her husband Vicente Madrigal during the life of the
conjugal partnership. She has an interest in the ultimate property rights and in the ultimate ownership of
property acquired as income after such income has become capital. Susana Paterno has no absolute right to
one-half the income of the conjugal partnership.
The Income Tax Law does not look on the spouses as individual partners in an ordinary partnership. The
higher schedules of the additional tax directed at the incomes of the wealthy may not be partially defeated by
reliance on provisions in our Civil Code dealing with the conjugal partnership and having no application to the
Income Tax Law.

The aims and purposes of the Income Tax Law must be given effect. The Income Tax Law was drafted by the
Congress of the United States and has been by the Congress extended to the Philippine Islands. Being thus a
law of American origin and being peculiarly intricate in its provisions, the authoritative decision of the official
who is harged with enforcing it has peculiar force for the Philippines. It has come to be a well-settled rule that
great weight should be given to the construction placed upon a revenue law, whose meaning is doubtful, by the
department charged with its execution.

DISPOSITIVE:
We conclude that the judgment should be as it is hereby affirmed with costs against appellants. So ordered.

CIR vs. BAIER-NICKEL

11FEB
GR No. 153793 | August 29, 2006 | J. Ynares-Santiago

Facts:
CIR appeals the CA decision, which granted the tax refund of respondent and reversed that of the CTA.
Juliane Baier-Nickel, a non-resident German, is the president of Jubanitex, a domestic corporation engaged in
the manufacturing, marketing and selling of embroidered textile products. Through Jubanitex’s general
manager, Marina Guzman, the company appointed respondent as commission agent with 10% sales
commission on all sales actually concluded and collected through her efforts.
In 1995, respondent received P1, 707, 772. 64 as sales commission from w/c Jubanitex deducted the 10%
withholding tax of P170, 777.26 and remitted to BIR. Respondent filed her income tax return but then claimed a
refund from BIR for the P170K, alleging this was mistakenly withheld by Jubanitex and that her sales
commission income was compensation for services rendered in Germany not Philippines and thus not taxable
here.
She filed a petition for review with CTA for alleged non-action by BIR. CTA denied her claim but decision was
reversed by CA on appeal, holding that the commission was received as sales agent not as President and that
the “source” of income arose from marketing activities in Germany.

Issue: W/N respondent is entitled to refund

Held:
No. Pursuant to Sec 25 of NIRC, non-resident aliens, whether or not engaged in trade or business, are subject
to the Philippine income taxation on their income received from all sources in the Philippines. In determining
the meaning of “source”, the Court resorted to origin of Act 2833 (the first Philippine income tax law), the US
Revenue Law of 1916, as amended in 1917.
US SC has said that income may be derived from three possible sources only: (1) capital and/or (2) labor;
and/or (3) the sale of capital assets. If the income is from labor, the place where the labor is done should be
decisive; if it is done in this country, the income should be from “sources within the United States.” If the
income is from capital, the place where the capital is employed should be decisive; if it is employed in this
country, the income should be from “sources within the United States.” If the income is from the sale of capital
assets, the place where the sale is made should be likewise decisive. “Source” is not a place, it is an activity or
property. As such, it has a situs or location, and if that situs or location is within the United States the resulting
income is taxable to nonresident aliens and foreign corporations.
The source of an income is the property, activity or service that produced the income. For the source of income
to be considered as coming from the Philippines, it is sufficient that the income is derived from activity within
the Philippines.
The settled rule is that tax refunds are in the nature of tax exemptions and are to be construed strictissimi juris
against the taxpayer. To those therefore, who claim a refund rest the burden of proving that the transaction
subjected to tax is actually exempt from taxation.
In the instant case, respondent failed to give substantial evidence to prove that she performed the incoming
producing service in Germany, which would have entitled her to a tax exemption for income from sources
outside the Philippines. Petition granted

CIR vs. MARUBENI

11FEB
GR No. 137377| J. Puno

Facts:
CIR assails the CA decision which affirmed CTA, ordering CIR to desist from collecting the 1985 deficiency
income, branch profit remittance and contractor’s taxes from Marubeni Corp after finding the latter to have
properly availed of the tax amnesty under EO 41 & 64, as amended.
Marubeni, a Japanese corporation, engaged in general import and export trading, financing and construction,
is duly registered in the Philippines with Manila branch office. CIR examined the Manila branch’s books of
accounts for fiscal year ending March 1985, and found that respondent had undeclared income from contracts
with NDC and Philphos for construction of a wharf/port complex and ammonia storage complex respectively.
On August 27, 1986, Marubeni received a letter from CIR assessing it for several deficiency taxes. CIR claims
that the income respondent derived were income from Philippine sources, hence subject to internal revenue
taxes. On Sept 1986, respondent filed 2 petitions for review with CTA: the first, questioned the deficiency
income, branch profit remittance and contractor’s tax assessments and second questioned the deficiency
commercial broker’s assessment.
On Aug 2, 1986, EO 41 declared a tax amnesty for unpaid income taxes for 1981-85, and that taxpayers who
wished to avail this should on or before Oct 31, 1986. Marubeni filed its tax amnesty return on Oct 30, 1986.
On Nov 17, 1986, EO 64 expanded EO 41’s scope to include estate and donor’s taxes under Title 3 and
business tax under Chap 2, Title 5 of NIRC, extended the period of availment to Dec 15, 1986 and stated those
who already availed amnesty under EO 41 should file an amended return to avail of the new benefits.
Marubeni filed a supplemental tax amnesty return on Dec 15, 1986.
CTA found that Marubeni properly availed of the tax amnesty and deemed cancelled the deficiency taxes. CA
affirmed on appeal.

Issue:
W/N Marubeni is exempted from paying tax

Held:
Yes.
1. On date of effectivity
CIR claims Marubeni is disqualified from the tax amnesty because it falls under the exception in Sec 4b of EO
41:
“Sec. 4. Exceptions.—The following taxpayers may not avail themselves of the amnesty herein granted: xxx b)
Those with income tax cases already filed in Court as of the effectivity hereof;”
Petitioner argues that at the time respondent filed for income tax amnesty on Oct 30, 1986, a case had already
been filed and was pending before the CTA and Marubeni therefore fell under the exception. However, the
point of reference is the date of effectivity of EO 41 and that the filing of income tax cases must have been
made before and as of its effectivity.
EO 41 took effect on Aug 22, 1986. The case questioning the 1985 deficiency was filed with CTA on Sept 26,
1986. When EO 41 became effective, the case had not yet been filed. Marubeni does not fall in the exception
and is thus, not disqualified from availing of the amnesty under EO 41 for taxes on income and branch profit
remittance.
The difficulty herein is with respect to the contractor’s tax assessment (business tax) and respondent’s
availment of the amnesty under EO 64, which expanded EO 41’s coverage. When EO 64 took effect on Nov
17, 1986, it did not provide for exceptions to the coverage of the amnesty for business, estate and donor’s
taxes. Instead, Section 8 said EO provided that:
“Section 8. The provisions of Executive Orders Nos. 41 and 54 which are not contrary to or inconsistent with
this amendatory Executive Order shall remain in full force and effect.”
Due to the EO 64 amendment, Sec 4b cannot be construed to refer to EO 41 and its date of effectivity. The
general rule is that an amendatory act operates prospectively. It may not be given a retroactive effect unless it
is so provided expressly or by necessary implication and no vested right or obligations of contract are thereby
impaired.
2. On situs of taxation
Marubeni contends that assuming it did not validly avail of the amnesty, it is still not liable for the deficiency tax
because the income from the projects came from the “Offshore Portion” as opposed to “Onshore Portion”. It
claims all materials and equipment in the contract under the “Offshore Portion” were manufactured and
completed in Japan, not in the Philippines, and are therefore not subject to Philippine taxes.
(BG: Marubeni won in the public bidding for projects with government corporations NDC and Philphos. In the
contracts, the prices were broken down into a Japanese Yen Portion (I and II) and Philippine Pesos Portion
and financed either by OECF or by supplier’s credit. The Japanese Yen Portion I corresponds to the Foreign
Offshore Portion, while Japanese Yen Portion II and the Philippine Pesos Portion correspond to the Philippine
Onshore Portion. Marubeni has already paid the Onshore Portion, a fact that CIR does not deny.)
CIR argues that since the two agreements are turn-key, they call for the supply of both materials and services
to the client, they are contracts for a piece of work and are indivisible. The situs of the two projects is in the
Philippines, and the materials provided and services rendered were all done and completed within the territorial
jurisdiction of the Philippines. Accordingly, respondent’s entire receipts from the contracts, including its receipts
from the Offshore Portion, constitute income from Philippine sources. The total gross receipts covering both
labor and materials should be subjected to contractor’s tax (a tax on the exercise of a privilege of selling
services or labor rather than a sale on products).
Marubeni, however, was able to sufficiently prove in trial that not all its work was performed in the Philippines
because some of them were completed in Japan (and in fact subcontracted) in accordance with the provisions
of the contracts. All services for the design, fabrication, engineering and manufacture of the materials and
equipment under Japanese Yen Portion I were made and completed in Japan. These services were rendered
outside Philippines’ taxing jurisdiction and are therefore not subject to contractor’s tax.Petition denied

CIR v. BRITISH OVERSEAS AIRWAYS CORPORATION, GR Nos. 65773-

74, 1987-04-30
Facts:
Court of Tax Appeals (CTA)... set aside petitioner's assessment of deficiency income... taxes against
respondent British Overseas Airways Corporation (BOAC) for the fiscal years 1959 to 1967, 1968-69 to 1970-
71
BOAC is a 100% British Government-owned corporation organized and existing under the laws of the United
Kingdom... it operates air... transportation service and sells transportation tickets over the routes of the other
airline members.
BOAC had no landing rights for traffic purposes in the Philippines, and was not granted a
Certificate of public convenience and necessity to operate in the Philippines... it did not carry... passengers
and/or cargo to or from the Philippines, although during the period covered by the assessments, it maintained
a general sales agent in the Philippines Warner Barnes and Company, Ltd., and later Qantas Airways which
was responsible for selling BOAC tickets covering... passengers and cargoes.
new assessment, dated 16 January 1970 for the years 1959 to 1967 in the amount of P858,307.79.
BOAC paid this new assessment under protest.
BOAC filed a claim for refund of the amount of P858,307.79, which claim was denied by the CIR
BOAC was assessed deficiency income taxes, interests, and penalty for the fiscal years 1968-1969 to 1970-
1971 in the aggregate amount of P549,327.43, and the additional amounts of P1,000.00 and P1,800.00 as
compromise penalties
This prompted BOAC to file the Second Case before the Tax Court... praying that it be absolved of liability for
deficiency income tax for the years 1969 to 1971.
The Tax Court held that the proceeds of sales of BOAC passage tickets in the Philippines by Warner Barnes
and Company, Ltd., and later by Qantas Airways, during the period in... question, do not constitute BOAC
income from Philippine sources "since no service of carriage of passengers or freight was performed by BOAC
within the Philippines" and, therefore, said income is not subject to Philippine income tax.
Issues:
Whether or not the revenue derived by private respondent British Overseas Airways Corporation (BOAC) from
sales of tickets in the Philippines for air transportation, while having no landing rights here, constitute income of
BOAC from Philippine sources,... and, accordingly, taxable.
Whether or not during the fiscal years in question BOAC is a resident foreign corporation doing business in the
Philippines or has an office or place of business in the Philippines.
a non-resident foreign corporation, then it is liable to Philippine income tax at the rate of thirty-five per cent
(35%) of its gross income received from all sources... within the Philippines."
Ruling:
the term 'resident foreign corporation' applies to a foreign corporation engaged in trade or business within the
Philippines or having an office or place of business therein.
The term 'non-resident foreign corporation' applies to a foreign corporation not engaged in trade or business
within the Philippines and not having any office or place of business therein."
It is our considered opinion that BOAC is a resident foreign corporation.
There is no specific criterion as to what constitutes "doing" or "engaging in" or "transacting" business. Each
case must be judged in the light of its peculiar environmental... circumstances.
implies a continuity of commercial dealings and arrangements, and contemplates, to that extent, the
performance of acts or works or the exercise of some of the functions normally incident to, and in progressive
prosecution of commercial gain or for... the purpose and object of the business organization.
that a foreign corporation may be regarded as doing business within a State, there must be continuity of
conduct and intention to establish a continuous business, such as the appointment of a... local agent, and not
one of a temporary character'
BOAC, during the periods covered by the subject assessments, maintained a general sales agent in the
Philippines.
Those activities were in exercise of the functions which are normally incident to, and are in progressive pursuit
of, the purpose and object of its organization as an... international air carrier.
the regular sale of tickets, its main activity, is the very lifeblood of the airline business, the generation of sales
being the paramount objective... no doubt then that BOAC was "engaged in" business in the
Philippines through a local agent during the period covered by the assessments.
it is a resident foreign corporation subject to tax upon its total net income received in the preceding taxable
year from all sources within the Philippines.
"'Gross income' includes gains, profits, and income derived from salaries, wages or compensation for personal
service of whatever kind and in whatever form paid, or from profession, vocations, trades, business,
commerce, sales, or dealings in property, whether... real or personal, growing out of the ownership or use of or
interest in such property; also from interests, rents, dividends, securities, or the transactions of any business
carried on for gain or profit, or gains, profits, and income derived from any source whatever"... broad and
comprehensive to include proceeds from sales of transport documents.
'income from any source whatever'
Income means "cash received or its equivalent"; it is the amount of money coming to a person within a specific
time x x x; it means something distinct from principal or capital. For, while capital is a fund, income is a flow.
As used in our income tax... law, "income" refers to the flow of wealth.
The source of an income is the property, activity or service that produced the income.[8] For the source of
income to be considered as coming from the Philippines, it is sufficient that the income is derived from activity
within the Philippines.
In
BOAC's case, the sale of tickets in the Philippines is the activity that produces the income.
The tickets exchanged hands here and payments for fares were also made here in Philippine currency. The
situs of the source of payments is the Philippines.
The flow of... wealth proceeded from, and occurred within, Philippine territory, enjoying the protection accorded
by the Philippine government. In consideration of such protection, the flow of wealth should share the burden
of supporting the government.
A transportation ticket is not a mere piece of paper.
The ordinary ticket issued to members of the travelling public in general embraces within its terms all the
elements to constitute it a valid contract, binding upon the... parties entering into the relationship
Section 37(a) of the Tax Code, which enumerates items of gross income from sources within the Philippines,
namely: (1) interest, (2) dividends, (3) service, (4) rentals and royalties, (5) sale of real property, and (6) sale
of personal property... does not mention... income from the sale of tickets for international transportation.
However, that does not render it less an income from sources within the Philippines.
Section 37, by its language, does not intend the enumeration to be exclusive.
merely directs that the types... of income listed therein be treated as income from sources within the
Philippines... the section will show that it does not state that it is an all-inclusive enumeration, and that no other
kind of income maybe so considered
The absence of flight operations to and from the Philippines is not determinative of the source of income or the
situs of income taxation.
The test of taxability is the
"source", and the source of an income is that activity x x x which produced the income
The... word "source" conveys one essential idea, that of origin, and the origin of the income herein is the
Philippines... the assessments upheld herein apply only to the fiscal years covered by the questioned
deficiency income tax assessments in these cases, or, from 1959 to 1967, 1968-69 to 1970-71
Presidential Decree No. 69,... promulgated on 24 November, 1972, international carriers are now taxed as
follows:
"x x x Provided, however, That international carriers shall pay a tax of 2-1/2 percent on their gross Philippine
billings.
Gross Philippine billings' includes gross revenue realized from uplifts anywhere in the world by any
international carrier doing business in the Philippines of passage documents sold therein, whether for
passenger, excess baggage or mail, provided the cargo... or mail originates from the Philippines.
The 2 1/2% tax on gross Philippine billings is an income tax.
the common carrier's... tax is an excise tax, being a tax on the activity of transporting, conveying or removing
passengers and cargo from one place to another. It purports to tax the business of transportation.[14] Being
an excise tax, the same can be levied by the State... only when the acts, privileges or businesses are done or
performed within the jurisdiction of the Philippines. The subject matter of the case under consideration is
income tax, a direct tax on the income of persons and other entities "of whatever kind and in whatever form...
derived from any source."
Principles:
There is no specific criterion as to what constitutes "doing" or "engaging in" or "transacting" business. Each
case must be judged in the light of its peculiar environmental... circumstances. The term implies a continuity of
commercial dealings and arrangements, and contemplates, to that extent, the performance of acts or works or
the exercise of some of the functions normally incident to, and in progressive prosecution of commercial gain
or for... the purpose and object of the business organization.[2] "In order that a foreign corporation may be
regarded as doing business within a State, there must be continuity of conduct and intention to establish a
continuous business, such as the appointment of a... local agent, and not one of a temporary character'.
"'Gross income' includes gains, profits, and income derived from salaries, wages or compensation for personal
service of whatever kind and in whatever form paid, or from profession, vocations, trades, business,
commerce, sales, or dealings in property, whether... real or personal, growing out of the ownership or use of or
interest in such property; also from interests, rents, dividends, securities, or the transactions of any business
carried on for gain or profit, or gains, profits, and income derived from any source whatever"
"The words 'income from any source whatever' disclose a legislative policy to include all income not expressly
exempted within the class of taxable income under our... laws".
Income means "cash received or its equivalent"; it is the amount of money coming to a person within a specific
time x x x; it means something distinct from principal or capital. For, while capital is a fund, income is a flow.
As used in our income tax... law, "income" refers to the flow of wealth.
The source of an income is the property, activity or service that produced the income.[8] For the source of
income to be considered as coming from the Philippines, it is sufficient that the income is derived from activity
within the Philippines.
PROTECTION THEORY
The flow of... wealth proceeded from, and occurred within, Philippine territory, enjoying the protection accorded
by the Philippine government. In consideration of such protection, the flow of wealth should share the burden
of supporting the government.

BASILAN ESTATES, INC. v. CIR

G.R. No. L-22492 September 5, 1967
Bengzon, J.P., J.
Doctrine:
The income tax law does not authorize the depreciation of an asset beyond its acquisition cost. Hence, a
deduction over and above such cost cannot be claimed and allowed. The reason is that deductions from gross
income are privileges, not matters of right. They are not created by implication but upon clear expression in the
law.
Facts:
Basilan Estates, Inc. claimed deductions for the depreciation of its assets on the basis of their acquisition cost.
As of January 1, 1950 it changed the depreciable value of said assets by increasing it to conform with the
increase in cost for their replacement. Accordingly, from 1950 to 1953 it deducted from gross income the value
of depreciation computed on the reappraised value.
CIR disallowed the deductions claimed by petitioner, consequently assessing the latter of deficiency income
taxes.
Issue:
Whether or not the depreciation shall be determined on the acquisition cost rather than the reappraised value
of the assets
Held:
Yes. The following tax law provision allows a deduction from gross income for depreciation but limits the
recovery to the capital invested in the asset being depreciated:
(1)In general. — A reasonable allowance for deterioration of property arising out of its use or employment in
the business or trade, or out of its not being used: Provided, That when the allowance authorized under this
subsection shall equal the capital invested by the taxpayer . . . no further allowance shall be made. . . .
The income tax law does not authorize the depreciation of an asset beyond its acquisition cost. Hence, a
deduction over and above such cost cannot be claimed and allowed. The reason is that deductions from gross
income are privileges, not matters of right. They are not created by implication but upon clear expression in the
law [Gutierrez v. Collector of Internal Revenue, L-19537, May 20, 1965].
Depreciation is the gradual diminution in the useful value of tangible property resulting from wear and tear and
normal obsolescense. It commences with the acquisition of the property and its owner is not bound to see his
property gradually waste, without making provision out of earnings for its replacement.
The recovery, free of income tax, of an amount more than the invested capital in an asset will transgress the
underlying purpose of a depreciation allowance. For then what the taxpayer would recover will be, not only the
acquisition cost, but also some profit. Recovery in due time thru depreciation of investment made is the
philosophy behind depreciation allowance; the idea of profit on the investment made has never been the
underlying reason for the allowance of a deduction for depreciation