1.

FISHER VS. TRINIDAD G.R. NO. L-21186, FEBRUARY 27, 1924

Facts:

Frederick C. Fisher, was a stockholder in the Philippine American Drug Company. Said corporation declared a
stock dividend and that a proportionate share of stock dividend was issued to the plaintiff-appellant. Trinidad, being
the then Commissioner of Internal Revenue, demanded payment of income tax on the aforesaid dividends. Fisher
protested the assessment made against him and claimed that the stock dividends in question are not income but are
capital and are, therefore, not subject to tax.

Issue: Are stock dividends income?

Ruling:

No, stock dividends are not income and are therefore not taxable as such. A stock dividend, when declared,
is merely a certificate of stock which evidences the interest of the stockholder in the increased capital of the
corporation. A declaration of stock dividend by a corporation involves no disbursement to the stockholder of
accumulated earnings, and the corporation parts with nothing to its stockholder. The property represented by a
stock dividend is still that of the corporation and not of the stockholder. The stockholder has received nothing but a
representation of an interest in the property of the corporation and, as a matter of fact, he may never receive
anything, depending upon the final outcome of the business of the corporation.

While income is the gain derived from capital, from labor, from both capital and labor, including the gain derived
from the sale or exchange of capital assets.

2. EISNER VS. MACOMBER, 252 U.S. 189 (1920)

Facts:
On January 1, 1916, the Standard Oil Company of California, a corporation of that state, out of an authorized
capital stock of $100,000,000, had shares of stock outstanding, par value $100 each, amounting in round figures to
$50,000,000. In addition, it had surplus and undivided profits invested in plant, property, and business and required
for the purposes of the corporation, amounting to about $45,000,000, of which about $20,000,000 had been earned
prior to March 1, 1913, the balance thereafter. In January 1916, in order to readjust the capitalization, the board of
directors decided to issue additional shares sufficient to constitute a stock dividend of 50 percent of the outstanding
stock, and to transfer from surplus account to capital stock account an amount equivalent to such issue. Appropriate
resolutions were adopted, an amount equivalent to the par value of the proposed new stock was transferred
accordingly, and the new stock duly issued against it and divided among the stockholders.

Defendant in error, being the owner of 2,200 shares of the old stock, received certificates for 1, 100
additional shares, of which 18.07 percent, or 198.77 shares, par value $19,877, were treated as representing surplus
earned between March 1, 1913, and January 1, 1916. She was called upon to pay, and did pay under protest, a tax
imposed under the Revenue Act of 1916, based upon a supposed income of $19,877 because of the new shares, and,
an appeal to the Commissioner of Internal Revenue having been disallowed, she brought action against the Collector
to recover the tax. In her complaint, she alleged the above facts and contended that, in imposing such a tax the
Revenue Act of 1916 violated article 1, 2, cl. 3, and Article I, 9, cl. 4, of the Constitution of the United States
requiring direct taxes to be apportioned according to population, and that the stock dividend was not income within
the meaning of the Sixteenth Amendment. A general demurrer to the complaint was overruled upon the authority
of Towne v. Eisner,245 U. S. 418, and, defendant having failed to plead further, final judgment went against him. To
review it, the present writ of error is prosecuted.

Issue: Whether stock dividend could be taxed as income?

Ruling:

No. In Towne v. Eisner, the question was whether a stock dividend made in 1914 against surplus earned
prior to January 1, 1913, was taxable against the stockholder under the Act of October 3, 1913, c. 16, 38 Stat. 114,
166, which provided ( B, p. 167) that net income should include "dividends," and also "gains or profits and income
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derived from any source whatever." In that case, the US Supreme Court ruled that, "It is manifest that the stock
dividend in question cannot be reached by the Income Tax Act and could not, even though Congress expressly
declared it to be taxable as income, unless it is in fact income."

"A stock dividend really takes nothing from the property of the corporation, and adds nothing to the
interests of the shareholders. Its property is not diminished, and their interests are not increased. The proportional
interest of each shareholder remains the same. The only change is in the evidence which represents that interest,
the new shares and the original shares together representing the same proportional interest that the original shares
represented before the issue of the new ones."

A "stock dividend" shows that the company's accumulated profits have been capitalized, instead of
distributed to the stockholders or retained as surplus available for distribution in money or in kind should
opportunity offer. Far from being a realization of profits of the stockholder, it tends rather to postpone such
realization, in that the fund represented by the new stock has been transferred from surplus to capital, and no
longer is available for actual distribution.

The essential and controlling fact is that the stockholder has received nothing out of the company's assets
for his separate use and benefit; on the contrary, every dollar of his original investment, together with whatever
accretions and accumulations have resulted from employment of his money and that of the other stockholders in
the business of the company, still remains the property of the company, and subject to business risks which may
result in wiping out the entire investment. Having regard to the very truth of the matter, to substance and not to
form, he has received nothing that answers the definition of income within the meaning of the Sixteenth
Amendment. It is said that a stockholder may sell the new shares acquired in the stock dividend, and so he may, if he
can find a buyer. It is equally true that, if he does sell, and in doing so realizes a profit, such profit, like any other, is
income, and, so far as it may have arisen since the Sixteenth Amendment, is taxable by Congress without
apportionment. Thus, from every point of view, we are brought irresistibly to the conclusion that neither under the
Sixteenth Amendment nor otherwise has Congress power to tax without apportionment a true stock dividend made
lawfully and in good faith, or the accumulated profits behind it, as income of the stockholder. The Revenue Act of
1916, insofar as it imposes a tax upon the stockholder because of such dividend, contravenes the provisions of
Article I, 2, cl. 3, and Article I, 9, cl. 4, of the Constitution, and to this extent is invalid notwithstanding the
Sixteenth Amendment

3. CONWI VS. COURT OF TAX APPEALS G.R. NO. 48532 AND 48533 AUGUST 31, 1992

Facts:

Petitioners are Filipino citizens and employees of Procter and Gamble, Philippine Manufacturing
Corporation, with offices at Sarmiento Building, Ayala Avenue, Makati, Rizal. Said corporation is a subsidiary of
Procter & Gamble, a foreign corporation based in Cincinnati, Ohio, U.S.A. During the years 1970 and 1971 petitioners
were assigned, for certain periods, to other subsidiaries of Procter & Gamble, outside of the Philippines, during
which petitioners were paid U.S. dollars as compensation for services in their foreign assignments. (Paragraphs III,
Petitions for Review, C.T.A. Cases Nos. 2511 and 2594, Exhs. D, D-1 to D-19). When petitioners in C.T.A. Case No.
2511 filed their income tax returns for the year 1970, they computed the tax due by applying the dollar-to-peso
conversion on the basis of the floating rate ordained under B.I.R. Ruling No. 70-027 dated May 14, 1970, as follows:

From January 1 to February 20, 1970 at the conversion rate of P3.90 to U.S. $1.00;

From February 21 to December 31, 1970 at the conversion rate of P6.25 to U.S. $1.00

Petitioners claim that since the dollar earnings do not fall within the classification of foreign exchange
transactions, there occurred no actual inward remittances, and, therefore, they are not included in the coverage of
Central Bank Circular No. 289 which provides for the specific instances when the par value of the peso shall not be
the conversion rate used. They conclude that their earnings should be converted for income tax purposes using the
par value of the Philippine peso.

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 Respondent Commissioner argues that CB Circular No. 289 speaks of receipts for export products, receipts of
sale of foreign exchange or foreign borrowings and investments but not income tax. He also claims that he had to
use the prevailing free market rate of exchange in these cases because of the need to ascertain the true and correct
amount of income in Philippine peso of dollar earners for Philippine income tax purposes.

Issue: Whether the Commissioner of Internal Revenue was correct in using CB Circular No. 289 to determine the
peso equivalent of the foreign earnings of petitioners for income tax purposes?

Ruling:

Yes. Petitioners argue that since there were no remittances and acceptances of their salaries and wages in
US dollars into the Philippines, they are exempt from the coverage of such circulars. Petitioners forget that they are
citizens of the Philippines, and their income, within or without, and in these cases wholly without, are subject to
income tax. Sec. 21, NIRC, as amended, does not brook any exemption.

Since petitioners have already paid their 1970 and 1971 income taxes under the uniform rate of exchange
prescribed under the aforestated Revenue Memorandum Circulars, there is no reason for respondent Commissioner
to refund any taxes to petitioner as said Revenue Memorandum Circulars, being of long standing and not contrary to
law, are valid.

4. CIR VS. BRITISH OVERSEAS AIRWAYS CORPORATION (BOAC) 149 SCRA 395

Facts:

BOAC is engaged in the international airline business. It had no landing rights in the Philippines, and was not
granted a Certificate of public convenience and necessity to operate in the Philippines by the Civil Aeronautics Board
(CAB), except for a nine-month temporary landing permit. It did not carry passengers or cargo to or from the
Philippines, although it maintained a general sales agent the Philippines-Warner Barnes and Company, Ltd. (Qantas
Airways), which was responsible for selling BOAC tickets covering passengers and cargoes. The CIR issued an
assessment against BOAC for deficiency income taxes, interests, and compromise penalties because the sale of the
ticket does not constitute income in the Philippines because no carriage of person or cargo was made by BOAC
therein.

Issue: Is the selling of tickets by BOAC without landing rights in the Philippines constitutes income derived therein
and therefore subject to income tax?

Ruling:

Yes, for the source of income to be derived in the Philippines, it is sufficient that the income is derived from
the activity in the Philippines. The source of an income is the property, activity or service that produced the income.
The sale of the tickets is the activity that produces the income. The situs or the source of the payment is in the
Philippines. The flow of wealth proceeded form and occurred within the Philippine territory enjoying the protection
accorded by the Philippine Government.

The absence of flight operations is not determinative of the source of income or the situs of income taxation.
The test of taxability is the source. Hence, the absence of flight operations cannot alter the fact that tickets were
sold in the Philippines and the revenue derived therefrom were derived from a business activity regularly pursued in
the Philippines.

5. MADRIGAL VS. RAFFERTY G.R. NO. L 12287 AUGUST 7, 1918

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

3
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 Madrigals 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.

Ruling:

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
husbands 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.

6. CIR VS. JAVIER G.R. NO. 78953 JULY 31, 1991

Facts:

That on or about June 3, 1977, Victoria L. Javier, the wife of the petitioner (private respondent herein),
received from the Prudential Bank and Trust Company in Pasay City the amount of US$999,973.70 remitted by her
sister, Mrs. Dolores Ventosa, through some banks in the United States, among which is Mellon Bank, N.A.

That on or about June 29, 1977, Mellon Bank, N.A. filed a complaint with the Court of First Instance of Rizal
(now Regional Trial Court), (docketed as Civil Case No. 26899), against the petitioner (private respondent herein), his
wife and other defendants, claiming that its remittance of US$1,000,000.00 was a clerical error and should have
been US$1,000.00 only, and praying that the excess amount of US$999,000.00 be returned on the ground that the
defendants are trustees of an implied trust for the benefit of Mellon Bank with the clear, immediate, and continuing
duty to return the said amount from the moment it was received.

That on or about November 5, 1977, the City Fiscal of Pasay City filed an Information with the then Circuit
Criminal Court (docketed as CCC-VII-3369-P.C.) charging the petitioner (private respondent herein) and his wife with
the crime of estafa, alleging that they misappropriated, misapplied, and converted to their own personal use and
benefit the amount of US$999,000.00 which they received under an implied trust for the benefit of Mellon Bank and
as a result of the mistake in the remittance by the latter.

That on March 15, 1978, the petitioner (private respondent herein) filed his Income Tax Return for the
taxable year 1977 showing a gross income of P53,053.38 and a net income of P48,053.88 and stating in the footnote
of the return that "Taxpayer was recipient of some money received from abroad which he presumed to be a gift but
turned out to be an error and is now subject of litigation."

That on or before December 15, 1980, the petitioner (private respondent herein) received a letter from the
acting Commissioner of Internal Revenue dated November 14, 1980, together with income assessment notices for

4
the years 1976 and 1977, demanding that petitioner (private respondent herein) pay on or before December 15,
1980 the amount of P1,615.96 and P9,287,297.51 as deficiency assessments for the years 1976 and 1977
respectively.

The Commissioner (of BIR) also imposed a 50% fraud penalty against Javier. But the CTA (Court of Tax
Appeals) reversed the BIR, holding that, it can hardly be said that there was actual and intentional fraud, consisting
of deception willfully and deliberately done or resorted to by petitioner (private respondent) in order to induce the
Government to give up some legal right, or the latter, due to a false return, was placed at a disadvantage so as to
prevent its lawful agents from proper assessment of tax liabilities. (Aznar vs. Court of Tax Appeals, L-20569, August
23, 1974, 56 (sic) SCRA 519), because petitioner literally "laid his cards on the table" for respondent to examine.

The Commissioner of Internal Revenue, not satisfied with the respondent CTA's ruling, elevated the matter.

Issue: Whether or not a taxpayer who merely states as a footnote in his income tax return that a sum of money that
he erroneously received and already spent is the subject of a pending litigation and there did not declare it as
income is liable to pay the 50% penalty for filing a fraudulent return?

Ruling:

No. The rule in fraud cases is that the proof "must be clear and convincing", that is, it must be stronger than
the "mere preponderance of evidence" which would be sufficient to sustain a judgment on the issue of correctness
of the deficiency itself apart from the fraud penalty. The following circumstances attendant to the case at bar show
that in filing the questioned return, the private respondent was guided, not by that "willful and deliberate intent to
prevent the Government from making a proper assessment" which constitute fraud, but by an honest doubt as to
whether or not the "mistaken remittance" was subject to tax.

In the case at bar, there was no actual and intentional fraud through willful and deliberate misleading of the
government agency concerned, the Bureau of Internal Revenue, headed by the herein petitioner. The government
was not induced to give up some legal right and place itself at a disadvantage so as to prevent its lawful agents from
proper assessment of tax liabilities because Javier did not conceal anything. Error or mistake of law is not fraud. The
petitioner's zealousness to collect taxes from the unearned windfall to Javier is highly commendable. Unfortunately,
the imposition of the fraud penalty in this case is not justified by the extant facts. Javier may be guilty of swindling
charges, perhaps even for greed by spending most of the money he received, but the records lack a clear showing of
fraud committed because he did not conceal the fact that he had received an amount of money although it was a
"subject of litigation." As ruled by respondent Court of Tax Appeals, the 50% surcharge imposed as fraud penalty by
the petitioner against the private respondent in the deficiency assessment should be deleted.

7. FILIPINAS SYNTHETIC CORPORATION VS. COURT OF APPEALS G.R. NOS. 118498 AND 124377 OCTOBER 12, 1999

Facts:

Filipinas Synthetic Fiber Corp., a domestic corporation received on December 27, 1979 a letter of demand
from the Commissioner of Internal Revenue assessing it for deficiency withholding tax at source in the total amount
of P829,748.77 inclusive of interest and compromise penalties, for the period from the fourth quarter of 1974 to the
fourth quarter of 1975. The assessment was seasonably protested by petitioner through its auditor, SGV and
Company. Respondent denied the protest on May 14, 1985 on the following ground: For Philippine internal revenue
tax purposes, the liability to withhold and pay income tax withheld at source from certain payments due to a foreign
corporation is at the time of accrual and not at the time of actual payment or remittance thereof.

June 28, 1985, petitioner brought a petition for review before the Court of Tax Appeals, the said court came out with
its decision on June 15, 1993, which is against the petitioner.

With the denial of its motion for reconsideration, petitioner appealed the CTA disposition to the Count of Appeals,
which affirmed in toto the appealed decision. So, petitioner found its way to this count via petition for review on
certiorari.

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Issue: Whether the liability to withhold tax at source on income payments to non-resident foreign corporations
arises upon remittance of the amounts due to the foreign creditors or upon accrual thereof?

Ruling:

The Supreme Court held that since Sec. 53, NIRC (now, Sec. 57 of 1997 NIRC) in relation to Sec. 54 (now Sec.
58) is silent as to when the duty to withhold arises, it is necessary to look into the nature of the accrual method of
accounting, which was used by therein petitioner corporation. Inasmuch as under the accrual basis, income is
reportable when all the events have occurred to fix taxpayers right to receive the income and the amounts can be
determined with reasonable accuracy, hence, it is the right to receive income, and not the actual receipt thereof,
that determines when the amount is includible in gross income. Thus, the duty of the withholding agent to withhold
the corresponding tax arises at the time of such accrual. The withholding agent/corporation is then obliged to remit
the tax to the Government since it already and properly belongs to the Government. If a withholding agent who is
personally liable for income tax withheld at source fails to pay said withholding tax, an assessment for said deficiency
withholding tax would, therefore, be legal and proper.

8. CIR VS. ISABELA CULTURAL CORPORATION G.R. NO. 172231 FEBRUARY 12, 2007

Facts:

ICC was assessed for deficiency income tax BIR disallowed expense deductions for professional and security
services by 1) auditing services by SGV & Co. 2) legal services Bengzon law office 3) El Tigre Security services] and
deficiency expanded withholding tax, when it failed to withhold 1% expanded withholding tax. The CTA cancelled
and set aside the assessment notices holding that the claimed deductions for professional and security services were
properly claimed in 1986 since it was only in that year when the bills demanding payment were sent to ICC. It also
found that the ICC withheld 1% expanded withholding tax for security services. The CA affirmed hence the case at
bar.

Issues: Whether the Court of Appeals correctly:
1. Sustained the deduction of the expenses for professional and security services from ICCs gross income;
and
2. Held that ICC did not understate its interest income from the promissory notes of Realty Investment, Inc;
and that ICC withheld the required 1% withholding tax from the deductions for security services.

Ruling:

1. No, partially; only as to the expenses for the professional fees of SGV & Co. and of the law firm, Bengzon
Zarraga Narciso Cudala Pecson Azcuna & Bengson, are concerned.

2. Yes.T he requisites for the deductibility of ordinary and necessary trade, business, or professional expenses,
like expenses paid for legal and auditing services, are: (a) the expense must be ordinary and necessary; (b) it
must have been paid or incurred during the taxable year; (c) it must have been paid or incurred in carrying
on the trade or business of the taxpayer; and (d) it must be supported by receipts, records or other pertinent
papers.

The requisite that it must have been paid or incurred during the taxable year is further qualified by Section
45 of the National Internal Revenue Code (NIRC) which states that: the deduction provided for in this Title shall
be taken for the taxable year in which paid or accrued or paid or incurred, dependent upon the method of
accounting upon the basis of which the net income is computed.

Accounting methods for tax purposes comprise a set of rules for determining when and how to report
income and deductions. In the instant case, the accounting method used by ICC is the accrual method.

Revenue Audit Memorandum Order No. 1-2000, provides that under the accrual method of accounting,
expenses not being claimed as deductions by a taxpayer in the current year when they are incurred cannot be
claimed as deduction from income for the succeeding year. Thus, a taxpayer who is authorized to deduct certain
6
 expenses and other allowable deductions for the current year but failed to do so cannot deduct the same for the
next year.

For a taxpayer using the accrual method, the determinative question is, when do the facts present
themselves in such a manner that the taxpayer must recognize income or expense? The accrual of income and
expense is permitted when the all-events test has been met. This test requires: (1) fixing of a right to income or
liability to pay; and (2) the availability of the reasonable accurate determination of such income or liability.

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

The propriety of an accrual must be judged by the facts that a taxpayer knew, or could reasonably be
expected to have known, at the closing of its books for the taxable year. Accrual method of accounting presents
largely a question of fact; such that the taxpayer bears the burden of proof of establishing the accrual of an item
of income or deduction.

In the instant case, the expenses for professional fees consist of expenses for legal and auditing services. The
expenses for legal services pertain to the 1984 and 1985 legal and retainer fees of the law firm Bengzon Zarraga
Narciso Cudala Pecson Azcuna & Bengson, and for reimbursement of the expenses of said firm in connection
with ICCs tax problems for the year 1984. As testified by the Treasurer of ICC, the firm has been its counsel since
the 1960s.[19] From the nature of the claimed deductions and the span of time during which the firm was
retained, ICC can be expected to have reasonably known the retainer fees charged by the firm as well as the
compensation for its legal services. The failure to determine the exact amount of the expense during the taxable
year when they could have been claimed as deductions cannot thus be attributed solely to the delayed billing of
these liabilities by the firm. For one, ICC, in the exercise of due diligence could have inquired into the amount of
their obligation to the firm, especially so that it is using the accrual method of accounting. For another, it could
have reasonably determined the amount of legal and retainer fees owing to its familiarity with the rates charged
by their long time legal consultant.

Whether it does or does not possess the information necessary to compute the amount of said liability
with reasonable accuracy, are questions of fact which ICC never established. It simply relied on the defense of
delayed billing by the firm and the company.

ICC thus failed to discharge the burden of proving that the claimed expense deductions for the professional
services were allowable deductions for the taxable year 1986. Hence, per Revenue Audit Memorandum Order
No. 1-2000, they cannot be validly deducted from its gross income for the said year and were therefore properly
disallowed by the BIR.

As to the expenses for security services, the records show that these expenses were incurred by ICC in 1986
and could therefore be properly claimed as deductions for the said year.

Anent the purported understatement of interest income from the promissory notes of Realty Investment,
Inc., we sustain the findings of the CTA and the Court of Appeals that no such understatement exists and that
only simple interest computation and not a compounded one should have been applied by the BIR. There is
indeed no stipulation between the latter and ICC on the application of compounded interest. Under Article 1959
of the Civil Code, unless there is a stipulation to the contrary, interest due should not further earn interest.

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9. EL ORIENTE FABRICA DE TABACOS VS. JUAN POSADAS G.R. NO. 34774 SEPTEMBER 21, 1931

Facts:

The plaintiff is a domestic corporation duly organized and existing under and by virtue of the laws of the
Philippine Islands, having its principal office at No. 732 Calle Evangelista, Manila, P.I.; and that the defendant is the
duly appointed, qualified and acting Collector of Internal Revenue of the Philippine Islands.

On March 18, 1925, plaintiff, in order to protect itself against the loss that it might suffer by reason of the
death of its manager, A. Velhagen, who had had more than thirty-five (35) years of experience in the manufacture of
cigars in the Philippine Islands, and whose death would be a serious loss to the plaintiff, procured from the
Manufacturers Life Insurance Co., of Toronto, Canada, thru its local agent E.E. Elser, an insurance policy on the life of
the said A. Velhagen for the sum of $50,000, United States currency.

The plaintiff, El Oriente, Fabrica de Tabacos, Inc., designated itself as the sole beneficiary of said policy on
the life of its said manager.

During the time the life insurance policy hereinbefore referred to was in force and effect plaintiff paid from
its funds all the insurance premiums due thereon.

The plaintiff charged as expenses of its business all the said premiums and deducted the same from its gross
incomes as reported in its annual income tax returns, which deductions were allowed by the defendant upon a
showing made by the plaintiff that such premiums were legitimate expenses of its (plaintiff's) business. A. Velhagen,
the insured, had no interest or participation in the proceeds of said life insurance policy.

Upon the death of A. Velhagen in the year 1929, the plaintiff received all the proceeds of the said life
insurance policy, together with the interests and the dividends accruing thereon, aggregating P104,957.88.

That over the protest of the plaintiff, which claimed exemption under section 4 of the Income Tax Law, the
defendant Collector of Internal Revenue assessed and levied the sum of P3,148.74 as income tax on the proceeds of
the insurance policy mentioned in the preceding paragraph, which tax the plaintiff paid under instant protest on July
2, 1930; and that defendant overruled said protest on July 9, 1930. Thereupon, a decision was handed down which
absolved the defendant from the complaint, with costs against the plaintiff. From this judgment, the plaintiff
appealed.

Issue: Whether the proceeds from an insurance, which El Oriente Fabrica de Tabacos took out on the life of its
manager, is subject to income tax?

Ruling:

No. It will be recalled that El Oriente, Fabrica de Tabacos, Inc., took out the insurance on the life of its
manager, who had had more than thirty-five years' experience in the manufacture of cigars in the Philippines, to
protect itself against the loss it might suffer by reason of the death of its manager. We do not believe that this fact
signifies that when the plaintiff received P104,957.88 from the insurance on the life of its manager, it thereby
realized a net profit in this amount. It is true that the Income Tax Law, in exempting individual beneficiaries, speaks
of the proceeds of life insurance policies as income, but this is a very slight indication of legislative intention. In
reality, what the plaintiff received was in the nature of an indemnity for the loss which it actually suffered because of
the death of its manager.

Considering, therefore, the purport of the stipulated facts, considering the uncertainty of Philippine law, and
considering the lack of express legislative intention to tax the proceeds of life insurance policies paid to corporate
beneficiaries, particularly when in the exemption in favor of individual beneficiaries in the chapter on this subject,
the clause is inserted "exempt from the provisions of this law," we deem it reasonable to hold the proceeds of the
life insurance policy in question as representing an indemnity and not taxable income.

8
 The foregoing pronouncement will result in the judgment being reversed and in another judgment being
rendered in favor of the plaintiff and against the defendant for the sum of P3,148.74. So ordered, without costs in
either instance.

10. SANTOS VS. SERVIER PHILIPPINES INC. G.R. NO. 166377 NOVEMBER 28, 2008

Facts:

Petitioner Ma. Isabel T. Santos was the Human Resource Manager of respondent Servier Philippines, Inc.
since 1991 until her termination from service in 1999. On March 26 and 27, 1998, petitioner attended a meeting of
all human resource managers of respondent, held in Paris, France. Since the last day of the meeting coincided with
the graduation of petitioners only child, she arranged for a European vacation with her family right after the
meeting. She, thus, filed a vacation leave effective March 30, 1998.

On March 29, 1998, petitioner, together with her husband Antonio P. Santos, her son, and some friends, had
dinner at Leon des Bruxelles, a Paris restaurant known for mussels[5] as their specialty. While having dinner,
petitioner complained of stomach pain, then vomited. Eventually, she was brought to the hospital known as Centre
Chirurgical de LQuest where she fell into coma for 21 days; and later stayed at the Intensive Care Unit (ICU) for 52
days. The hospital found that the probable cause of her sudden attack was alimentary allergy, as she had recently
ingested a meal of mussels which resulted in a concomitant uticarial eruption.

During the time that petitioner was confined at the hospital, her husband and son stayed with her
in Paris. Petitioners hospitalization expenses, as well as those of her husband and son, were paid by respondent.

In June 1998, petitioners attending physicians gave a prognosis of the formers condition; and, with the
consent of her family, allowed her to go back to the Philippines for the continuation of her medical treatment. She
was then confined at the St. Lukes Medical Center for rehabilitation. During the period of petitioners rehabilitation,
respondent continued to pay the formers salaries; and to assist her in paying her hospital bills.

Of the promised retirement benefits amounting to P1,063,841.76, only P701,454.89 was released to
petitioners husband, the balance[11] thereof was withheld allegedly for taxation purposes. Respondent also failed to
give the other benefits listed above.
Petitioner, represented by her husband, instituted the instant case for unpaid salaries; unpaid separation
pay; unpaid balance of retirement package plus interest; insurance pension for permanent disability; educational
assistance for her son; medical assistance; reimbursement of medical and rehabilitation expenses; moral, exemplary,
and actual damages, plus attorneys fees. The case was docketed as NLRC-NCR (SOUTH) Case No. 30-06-02520-01.

On September 28, 2001, Labor Arbiter Aliman D. Mangandog rendered a Decision dismissing petitioners
complaint. The Labor Arbiter stressed that respondent had been generous in giving financial assistance to the
petitioner. He likewise noted that there was a retirement plan for the benefit of the employees. In denying
petitioners claim for separation pay, the Labor Arbiter ratiocinated that the same had already been integrated in the
retirement plan established by respondent. Thus, petitioner could no longer collect separation pay over and above
her retirement benefits.

Lastly, as to petitioners claim for damages and attorneys fees, the Labor Arbiter denied the same as the
formers dismissal was not tainted with bad faith.

On appeal to the National Labor Relations Commission (NLRC), the tribunal set aside the Labor Arbiters
decision. Unsatisfied, petitioner elevated the matter to the Court of Appeals which affirmed the NLRC decision.

Issue: Whether the petitioners retirement benefits are taxable?

Ruling:

Yes. Section 32 (B) (6) (a) of the New National Internal Revenue Code (NIRC) provides for the exclusion of
retirement benefits from gross income, thus:
9

(6) Retirement Benefits, Pensions, Gratuities, etc.

a) Retirement benefits received under Republic Act 7641 and those received by officials and
employees of private firms, whether individual or corporate, in accordance with a reasonable private
benefit plan maintained by the employer: Provided, That the retiring official or employee has been
in the service of the same employer for at least ten (10) years and is not less than fifty (50) years of
age at the time of his retirement: Provided further, That the benefits granted under this
subparagraph shall be availed of by an official or employee only once.

As discussed above, petitioner was qualified for disability retirement. At the time of such retirement,
petitioner was only 41 years of age; and had been in the service for more or less eight (8) years. As such, the above
provision is not applicable for failure to comply with the age and length of service requirements. Therefore,
respondent cannot be faulted for deducting from petitioners total retirement benefits the amount of P362,386.87,
for taxation purposes.

11. Intercontinental Broadcasting Corp. vs. Amarilla G.R. No. 162775 October 27, 2006

Facts:

On various dates, petitioner employed the following persons at its Cebu station: Candido C. Quiones, Jr.; on
February 1, 1975; Corsini R. Lagahit, as Studio Technician, also on February 1, 1975; Anatolio G. Otadoy, as Collector,
on April 1, 1975; and Noemi Amarilla, as Traffic Clerk, on July 1, 1975. On March 1, 1986, the government
sequestered the station, including its properties, funds and other assets, and took over its management and
operations from its owner, Roberto Benedicto. However, in December 1986, the government and Benedicto entered
into a temporary agreement under which the latter would retain its management and operation. On November 3,
1990, the Presidential Commission on Good Government (PCGG) and Benedicto executed a Compromise Agreement,
where Benedicto transferred and assigned all his rights, shares and interests in petitioner station to the government.
The PCGG submitted the Agreement to the Sandiganbayan in Civil Case No. 0034 entitled "Republic of the
Philippines v. Roberto S. Benedicto, et al."

In the meantime, the four (4) employees retired from the company and received, on staggered basis, their
retirement benefits under the 1993 Collective Bargaining Agreement (CBA) between petitioner and the bargaining
unit of its employees.

In the meantime, a P1,500.00 salary increase was given to all employees of the company, current and
retired, effective July 1994. However, when the four retirees demanded theirs, petitioner refused and instead
informed them via a letter that their differentials would be used to offset the tax due on their retirement benefits in
accordance with the National Internal Revenue Code (NIRC).

The four (4) retirees filed separate complaints against IBC TV-13 Cebu and Station Manager Louella F.
Cabaero for unfair labor practice and non-payment of backwages before the NLRC, Regional Arbitration Branch VII.
As all of the complainants had the same causes of action, their complaints were docketed as NLRC RAB-VII Case No.
10-1625-99.

The complainants averred that their retirement benefits are exempt from income tax under Article 32 of the
NIRC. Sections 28 and 72 of the NIRC, which petitioner relied upon in withholding their differentials, do not apply to
them since these provisions deal with the applicable income tax rates on foreign corporations and suits to recover
taxes based on false or fraudulent returns.

On February 14, 2000, the Labor Arbiter rendered judgment in favor of the retirees. On May 21, 2002, the
NLRC rendered its decision dismissing the appeal and affirming that of the Labor Arbiter. The NLRC held that the
benefits of the retirement plan under the CBAs between petitioner and its union members were subject to tax as the
scheme was not approved by the BIR. However, it had also been the practice of petitioner to give retiring employees
their retirement pay without tax deductions and there was no justifiable reason for the respondent to deviate from

10
such practice. The NLRC concluded that petitioner was deemed to have assumed the tax liabilities of the
complainants on their retirement benefits, hence, had no right to deduct taxes from their salary differentials.

On December 3, 2003, the CA rendered judgment dismissing the petition for lack of merit.

The appellate court declared that the salary differentials of the respondents are part of their taxable gross
income, considering that the CBA was not approved, much less submitted to the BIR. However, petitioner could not
withhold the corresponding tax liabilities of respondents due to the then existing CBA, providing that such
retirement benefits would not be subjected to any tax deduction, and that any such taxes would be for its account.
The appellate court relied on the allegations of respondents in their Position Paper before the Labor Arbiter which
petitioner failed to refute.

Issues: 1. Whether the retirement benefits of respondents are part of their gross income. 2. Whether petitioner is
estopped from reneging on its agreement with respondent to pay for the taxes on said retirement benefits.

Ruling:

The SC ruled in the affirmative in both of the issues. Revenue Regulation No. 12-86, the implementing rules of the
foregoing provisions, provides:

(b) Pensions, retirements and separation pay. Pensions, retirement and separation pay constitute compensation
subject to withholding tax, except the following:

(1) Retirement benefit received by official and employees of private firms under a reasonable private benefit
plan maintained by the employer, if the following requirements are met:

(i) The retirement plan must be approved by the Bureau of Internal Revenue;

(ii) The retiring official or employees must have been in the service of the same employer for
at least ten (10) years and is not less than fifty (50) years of age at the time of retirement;
and

(iii) The retiring official or employee shall not have previously availed of the privilege under
the retirement benefit plan of the same or another employer.

However, we agree with respondents contention that petitioner did not withhold the taxes due on their
retirement benefits because it had obliged itself to pay the taxes due thereon. This was done to induce respondents
to agree to avail of the optional retirement scheme.

It must be stressed that the parties are free to enter into any contract stipulation provided it is not illegal or
contrary to public morals. An agreement to pay the taxes on the retirement benefits as an incentive to prospective
retirees and for them to avail of the optional retirement scheme is not contrary to law or to public morals. Petitioner
had agreed to shoulder such taxes to entice them to voluntarily retire early, on its belief that this would prove
advantageous to it. Respondents agreed and relied on the commitment of petitioner. For petitioner to renege on its
contract with respondents simply because its new management had found the same disadvantageous would amount
to a breach of contract. There is even no evidence that any "new management" was ever installed by petitioner after
respondents retirement; nor is there evidence that the Board of Directors of petitioner resolved to renege on its
contract with respondents and demand the reimbursement for the amounts remitted by it to the BIR.

The well-entrenched rule is that estoppel may arise from a making of a promise if it was intended that the
promise should be relied upon and, in fact, was relied upon, and if a refusal to sanction the perpetration of fraud
would result to injustice. The mere omission by the promisor to do whatever he promises to do is sufficient
forbearance to give rise to a promissory estoppel.

11
12. CIR VS. MITSUBUSHI METAL CORPORATION, 181 SCRA 214

Facts:

Atlas Consolidated Mining and Development Corporation (Atlas) entered into a Loan and Sales Contract with
Mitsubishi Metal Corporation (Mitsubishi), a Japanese corporation licensed to engage in business in the Phil., for
purposes of the projected expansion of the productive capacity of the former's mines in Toledo, Cebu. Under said
contract, Mitsubishi agreed to extend a loan to Atlas 'in the amount of $20,000,000.00, US currency, for the
installation of a new concentrator for copper production. Atlas, in turn undertook to sell to Mitsubishi all the copper
concentrates produced from said machine for a period of fifteen (15) years. It was contemplated that $9,000,000.00
of said loan was to be used for the purchase of the concentrator machinery from Japan.

Mitsubishi thereafter applied for a loan with the Export-Import Bank of Japan (Eximbank for short) obviously
for purposes of its obligation under said contract. Pursuant to the contract between Atlas and Mitsubishi, interest
payments were made by the former to the latter. A claim for tax credit was filed by Atlas.

Issue: Is the loan tax exempt?

Ruling:

No. Under Section 29 (b) (7) (A), excludes from gross income: "(A) Income received from their investments in
the Philippines in loans, stocks, bonds or other domestic securities, or from interest on their deposits in banks in the
Philippines by (1) foreign governments, (2) financing institutions owned, controlled, or enjoying refinancing from
them, and (3) international or regional financing institutions established by governments."

The loan and sales contract between Mitsubishi and Atlas does not contain any direct or inferential
reference to Eximbank whatsoever. The agreement is strictly between Mitsubishi as creditor in the contract of loan
and Atlas as the seller of the copper concentrates. Meanwhile, the contract between Eximbank and Mitsubishi is
entirely different. It is too settled a rule in this jurisdiction, as to dispense with the need for citations, that laws
granting exemption from tax are construed strictissimi juris against the taxpayer and liberally in favor of the taxing
power. Taxation is the rule and exemption is the exception. The burden of proof rests upon the party claiming
exemption to prove that it is in fact covered by the exemption so claimed, which onus petitioners have failed to
discharge. Significantly, private respondents are not even among the entities which, under Section 29 (b) (7) (A) of
the Tax code, are entitled to exemption and which should indispensably be the party in interest in this case.

13. C.M. HOSKINS VS. CIR G.R. NO. L 24059 NOVEMBER 28, 1969

Facts:

Petitioner, a domestic corporation engaged in the real estate business as broker managing agents and
administrators, filed its income tax return for its fiscal yea ending September 30, 1957 showing a net income of
P92,540.25 and a tax liability due thereon of P18,508.00, which it paid in due course. Upon verification of it return,
CIR, disallowed four items of deduction in petitioner's tax returns an assessed against it an income tax deficiency in
the amount of P28,054.00 plus interests. The Court of Tax Appeals upon reviewing the assessment at the taxpayer's
petition, upheld respondent's disallowance of the principal item o petitioner's having paid to Mr. C. M. Hoskins, its
founder and controlling stockholder the amount of P99,977.91 representing 50% of supervision fees earned by it and
set aside respondent's disallowance of three other minor items.

Petitioner questions in this appeal the Tax Court's findings that the disallowed payment to Hoskins was an
inordinately large one, which bore a close relationship to the recipient's dominant stockholdings and therefore
amounted in law to distribution of its earnings and profits.

Issue: Whether the 50% supervision fee paid to Hoskins may be deductible for income tax purposes.

Ruling:

No. Hoskins owns 99.6% of the CM Hoskins & Co. He was also the President an Chairman of the Board. That

12
as chairman of the Board of Directors, he received salary of P3,750.00 a month, plus a salary bonus of about
P40,000.00 a year and a amounting to an annual compensation of P45,000.00 and an annual salary bonus o
P40,000.00, plus free use of the company car and receipt of other similar allowances and benefits, the Tax Court
correctly ruled that the payment by petitioner to Hoskins of the additional sum of P99,977.91 as his equal or 50%
share of the 8% supervision fees received by petitioner as managing agents of the real estate, subdivision projects of
Paradise Farms, Inc. and Realty Investments, Inc. was inordinately large and could not be accorded the treatment of
ordinary and necessary expenses allowed as deductible items within the purview of the Tax Code.

The fact that such payment was authorized by a standing resolution of petitioner's board of directors, since
"Hoskins had personally conceived and planned the project" cannot change the picture. There could be no question
that as Chairman of the board and practically an absolutely controlling stockholder of petitioner, Hoskins wielded
tremendous power and influence in the formulation and making of the company's policies and decisions. Even just
as board chairman, going by petitioner's own enumeration of the powers of the office, Hoskins, could exercise great
power and influence within the corporation, such as directing the policy of the corporation, delegating powers to the
president and advising the corporation in determining executive salaries, bonus plans and pensions, dividend
policies, etc.

It is a general rule that 'Bonuses to employees made in good faith and as additional compensation for the
services actually rendered by the employees are deductible, provided such payments, when added to the stipulated
salaries, do not exceed a reasonable compensation for the services rendered. The conditions precedent to the
deduction of bonuses to employees are: (1) the payment of the bonuses is in fact compensation; (2) it must be for
personal services actually rendered; and (3) the bonuses, when added to the salaries, are 'reasonable when
measured by the amount and quality of the services performed with relation to the business of the particular
taxpayer.

There is no fixed test for determining the reasonableness of a given bonus as compensation. This depends
upon many factors, one of them being the amount and quality of the services performed with relation to the
business.' Other tests suggested are: payment must be 'made in good faith'; 'the character of the taxpayer's
business, the volume and amount of its net earnings, its locality, the type and extent of the services rendered, the
salary policy of the corporation'; 'the size of the particular business'; 'the employees' qualifications and contributions
to the business venture'; and 'general economic conditions. However, 'in determining whether the particular salary
or compensation payment is reasonable, the situation must be considered as whole. Ordinarily, no single factor is
decisive. It is important to keep in mind that it seldom happens that the application of one test can give satisfactory
answer, and that ordinarily it is the interplay of several factor properly weighted for the particular case, which must
furnish the final answer."

Petitioner's case fails to pass the test. On the right of the employer as against respondent Commissioner to
fix the compensation of its officers and employees, w there held further that while the employer's right may be
conceded, the question o the allowance or disallowance thereof as deductible expenses for income ta purposes is
subject to determination by CIR. As far as petitioner's contention that a employer it has the right to fix the
compensation of its officers and employees an that it was in the exercise of such right that it deemed proper to pay
the bonuses i question, all that We need say is this: that right may be conceded, but for income tax purposes the
employer cannot legally claim such bonuses as deductible expenses unless they are shown to be reasonable. To hold
otherwise would open the gate of rampant tax evasion.

Lastly, We must not lose sight of the fact that the question of allowing o disallowing as deductible expenses
the amounts paid to corporate officers by way of bonus is determined by respondent exclusively for income tax
purpose Concededly, he has no authority to fix the amounts to be paid to corporate officer by way of basic salary,
bonus or additional remuneration a matter that lies more or less exclusively within the sound discretion of the
corporation itself. But this right of the corporation is, of course, not absolute. It cannot exercise it for the purpose o
evading payment of taxes legitimately due to the State."

13
14. CIR VS. GENERAL FOODS INC. G.R. NO. 143672. APRIL 24, 2003

Facts:

Petitioner Commissioner of Internal Revenue (Commissioner) assails the resolution of the Court of Appeals
reversing the decision of the Court of Tax Appeals which in turn denied the protest filed by respondent General
Foods (Phils.), Inc., regarding the assessment made against the latter for deficiency taxes.
The records reveal that, on June 14, 1985, respondent corporation, which is engaged in the manufacture of
beverages such as Tang, Calumet and Kool-Aid, filed its income tax return for the fiscal year ending February 28,
1985. In said tax return, respondent corporation claimed as deduction, among other business expenses, the amount
of P9,461,246 for media advertising for Tang.
On May 31, 1988, the Commissioner disallowed 50% or P4,730,623 of the deduction claimed by respondent
corporation. Consequently, respondent corporation was assessed deficiency income taxes in the amount of P2,635,
141.42. The latter filed a motion for reconsideration but the same was denied.
On September 29, 1989, respondent corporation appealed to the Court of Tax Appeals but the appeal was
dismissed:
With such a gargantuan expense for the advertisement of a singular product, which even excludes other
advertising and promotions expenses, we are not prepared to accept that such amount is reasonable to
stimulate the current sale of merchandise regardless of Petitioners explanation that such expense does not
connote unreasonableness considering the grave economic situation taking place after the Aquino
assassination characterized by capital fight, strong deterioration of the purchasing power of the Philippine
peso and the slacking demand for consumer products (Petitioners Memorandum, CTA Records, p. 273). We
are not convinced with such an explanation. The staggering expense led us to believe that such expenditure
was incurred to create or maintain some form of good will for the taxpayers trade or business or for the
industry or profession of which the taxpayer is a member. The term good will can hardly be said to have any
precise signification; it is generally used to denote the benefit arising from connection and
reputation (Words and Phrases, Vol. 18, p. 556 citing Douhart vs. Loagan, 86 III. App. 294). As held in the
case of Welch vs. Helvering, efforts to establish reputation are akin to acquisition of capital assets and,
therefore, expenses related thereto are not business expenses but capital expenditures. (Atlas Mining and
Development Corp. vs. Commissioner of Internal Revenue, supra). For sure such expenditure was meant not
only to generate present sales but more for future and prospective benefits. Hence, abnormally large
expenditures for advertising are usually to be spread over the period of years during which the benefits of
the expenditures are received (Mertens, supra, citing Colonial Ice Cream Co., 7 BTA 154)
Aggrieved, respondent corporation filed a petition for review at the Court
of Appeals which rendered a decision reversing and setting aside the
decision of the Court of Tax Appeals.
Issue: Whether or not the subject media advertising expense for Tang incurred by respondent corporation was an
ordinary and necessary expense fully deductible under the National Internal Revenue Code?
Ruling:
No. It is a governing principle in taxation that tax exemptions must be construed in strictissimi juris against the
taxpayer and liberally in favor of the taxing authority;[5] and he who claims an exemption must be able to justify his
claim by the clearest grant of organic or statute law. An exemption from the common burden cannot be permitted
to exist upon vague implications.[6]
Deductions for income tax purposes partake of the nature of tax exemptions; hence, if tax exemptions are
strictly construed, then deductions must also be strictly construed.
Section 34 (A) (1), formerly Section 29 (a) (1) (A), of the NIRC provides:

(A) Expenses.-

(1) Ordinary and necessary trade, business or professional expenses.-

14
 (a) In general.- There shall be allowed as deduction from gross income all ordinary and necessary
expenses paid or incurred during the taxable year in carrying on, or which are directly
attributable to, the development, management, operation and/or conduct of the trade,
business or exercise of a profession.

Simply put, to be deductible from gross income, the subject advertising expense must comply with the
following requisites: (a) the expense must be ordinary and necessary; (b) it must have been paid or incurred during
the taxable year; (c) it must have been paid or incurred in carrying on the trade or business of the taxpayer; and (d) it
must be supported by receipts, records or other pertinent papers. The parties are in agreement that the subject
advertising expense was paid or incurred within the corresponding taxable year and was incurred in carrying on a
trade or business. Hence, it was necessary. However, their views conflict as to whether or not it was ordinary. To be
deductible, an advertising expense should not only be necessary but also ordinary. These two requirements must be
met. The Commissioner maintains that the subject advertising expense was not ordinary on the ground that it failed
the two conditions set by U.S. jurisprudence: first, reasonableness of the amount incurred and second, the amount
incurred must not be a capital outlay to create goodwill for the product and/or private respondents
business. Otherwise, the expense must be considered a capital expenditure to be spread out over a reasonable time
There is yet to be a clear-cut criteria or fixed test for determining the reasonableness of an advertising expense.
There being no hard and fast rule on the matter, the right to a deduction depends on a number of factors such as
but not limited to: the type and size of business in which the taxpayer is engaged; the volume and amount of its net
earnings; the nature of the expenditure itself; the intention of the taxpayer and the general economic conditions. It
is the interplay of these, among other factors and properly weighed, that will yield a proper evaluation
In the case at bar, the P9,461,246 claimed as media advertising expense for Tang alone was almost one-half of
its total claim for marketing expenses. Aside from that, respondent-corporation also claimed P2,678,328 as other
advertising and promotions expense and another P1,548,614, for consumer promotion.
Furthermore, the subject P9,461,246 media advertising expense for Tang was almost double the amount of
respondent corporations P4,640,636 general and administrative expenses.
We find the subject expense for the advertisement of a single product to be inordinately large. Therefore, even
if it is necessary, it cannot be considered an ordinary expense deductible under then Section 29 (a) (1) (A) of the
NIRC.
Advertising is generally of two kinds: (1) advertising to stimulate the current sale of merchandise or use of
services and (2) advertising designed to stimulate the future sale of merchandise or use of services. The second type
involves expenditures incurred, in whole or in part, to create or maintain some form of goodwill for the taxpayers
trade or business or for the industry or profession of which the taxpayer is a member. If the expenditures are for the
advertising of the first kind, then, except as to the question of the reasonableness of amount, there is no doubt such
expenditures are deductible as business expenses. If, however, the expenditures are for advertising of the second
kind, then normally they should be spread out over a reasonable period of time.
We agree with the Court of Tax Appeals that the subject advertising expense was of the second kind. Not only
was the amount staggering; the respondent corporation itself also admitted, in its letter protest[8] to the
Commissioner of Internal Revenues assessment, that the subject media expense was incurred in order to protect
respondent corporations brand franchise, a critical point during the period under review.
15. MANILA WINES MERCHANTS INC. VS. CIR G.R. NO L 26145 FEBRUARY 20, 1984

Facts:

The Manila Wine Merchants, Inc., disputes the decision of the Court of Tax Appeals ordering it (petitioner) to
pay respondent, the Commissioner of Internal Revenue, the amount of P86,804.38 as 25% surtax plus interest which
represents the additional tax due petitioner for improperly accumulating profits or surplus in the taxable year 1957
under Sec. 25 of the National Internal Revenue Code.

The Court of Tax Appeals made the following finding of facts, to
"Petitioner, a domestic corporation organized in 1937, is principally engaged in the importation and sale of whisky,
wines, liquors and distilled spirits. Its original subscribed and paid capital was P500,000.00. Its capital of P500,000.00
15
was reduced to P250,000.00 in 1950 with the approval of the Securities and Exchange Commission but the reduction
of the capital was never implemented. On June 21, 1958, petitioners capital was increased to P1,000,000.00 with
the approval of the said Commission.

On December 31, 1957, herein respondent caused the examination of herein petitioners book of account and found
the latter of having unreasonably accumulated surplus of P428,934.32 for the calendar year 1947 to 1957, in excess
of the reasonable needs of the business subject to the 25% surtax imposed by Section 25 of the Tax Code.

On February 26, 1963, the Commissioner of Internal Revenue demanded upon the Manila Wine Merchants, Inc.
payment of P126,536.12 as 25% surtax and interest on the latters unreasonable accumulation of profits and surplus
for the year 1957. Respondent contends that petitioner has accumulated earnings beyond the reasonable needs of
its business because the average ratio of the cash dividends declared and paid by petitioner from 1947 to 1957 was
40.33% of the total surplus available for distribution at the end of each calendar year. On the other hand, petitioner
contends that in 1957, it distributed 100% of its net earnings after income tax and part of the surplus for prior years.
Respondent further submits that the accumulated earnings tax should be based on 25% of the total surplus available
at the end of each calendar year while petitioner maintains that the 25% surtax is imposed on the total surplus or
net income for the year after deducting therefrom the income tax due.
Respondent found that the accumulated surplus in question were invested to unrelated business which were not
considered in the immediate needs of the Company such that the 25% surtax be imposed therefrom."
On the basis of the tabulated figures, supra, the Court of Tax Appeals found that the average percentage of cash
dividends distributed was 85.77% for a period of 11 years from 1946 to 1957 and not only 40.33% of the total
surplus available for distribution at the end of each calendar year actually distributed by the petitioner to its
stockholders, which is indicative of the view that the Manila Wine Merchants, Inc. was not formed for the purpose of
preventing the imposition of income tax upon its shareholders.

With regards to the alleged substantial investment of surplus or profits in unrelated business, the Court of Tax
Appeals held that the investment of petitioner with Acme Commercial Co., Inc., Union Insurance Society of Canton
and with the Wack Wack Golf and Country Club are harmless accumulation of surplus and, therefore, not subject to
the 25% surtax provided in Section 25 of the Tax Code.

As to the U.S.A. Treasury Bonds amounting to P347,217.50, the Court of Tax Appeals ruled that its purchase was in
no way related to petitioners business of importing and selling wines, whisky, liquors and distilled spirits.
Respondent Court was convinced that the surplus of P347,217.50 which was invested in the U.S.A. Treasury Bonds
was availed of by petitioner for the purpose of preventing the imposition of the surtax upon petitioners
shareholders by permitting its earnings and profits to accumulate beyond the reasonable needs of business. Hence,
the Court of Tax Appeals modified respondents decision by imposing upon petitioner the 25% surtax for 1957 only
in the amount of P86,804.38

Issues: The issues in this case can be summarized as follows: (1) whether the purchase of the U.S.A. Treasury bonds
by petitioner in 1951 can be construed as an investment to an unrelated business and hence, such was availed of by
petitioner for the purpose of preventing the imposition of the surtax upon petitioners shareholders by permitting its
earnings and profits to accumulate beyond the reasonable needs of the business, and if so, (2) whether the penalty
tax of twenty-five percent (25%) can be imposed on such improper accumulation in 1957 despite the fact that the
accumulation occurred in 1951.

Ruling:

The Supreme Court ruled affirmative on both issues. The pertinent provision of the National Internal Revenue Code
reads as follows:

"Sec. 25. Additional tax on corporations improperly accumulating profits or surplus. (a) Imposition of Tax.
If any corporation, except banks, insurance companies, or personal holding companies whether domestic
or foreign, is formed or availed of for the purpose of preventing the imposition of the tax upon its
shareholders or members or the shareholders or members of another corporation, through the medium of
permitting its gains and profits to accumulate instead of being divided or distributed, there is levied and
assessed against such corporation, for each taxable year, a tax equal to twenty-five per centum of the
16
 undistributed portion of its accumulated profits or surplus which shall be in addition to the tax imposed by
section twenty-four and shall be computed, collected and paid in the same manner and subject to the same
provisions of law, including penalties, as that tax: Provided, that no such tax shall be levied upon any
accumulated profits or surplus, if they are invested in any dollar-producing or dollar-saving industry or in the
purchase of bonds issued by the Central Bank of the Philippines.

(c) Evidence determinative of purpose. The fact that the earnings of profits of a corporation are permitted
to accumulate beyond the reasonable needs of the business shall be determinative of the purpose to avoid
the tax upon its shareholders or members unless the corporation, by clear preponderance of evidence, shall
prove the contrary." (As amended by Republic Act No. 1823).

An accumulation of earnings or profits (including undistributed earnings or profits of prior years) is unreasonable if it
is not required for the purpose of the business, considering all the circumstances of the case.

To avoid the twenty-five percent (25%) surtax, petitioner has to prove that the purchase of the U.S.A. Treasury
Bonds in 1951 with a face value of $175,000.00 was an investment within the reasonable needs of the Corporation.
To determine the "reasonable needs" of the business in order to justify an accumulation of earnings, the Courts of
the United States have invented the so-called "Immediacy Test" which construed the words "reasonable needs of
the business" to mean the immediate needs of the business, and it was generally held that if the corporation did not
prove an immediate need for the accumulation of the earnings and profits, the accumulation was not for the
reasonable needs of the business, and the penalty tax would apply. 12 American cases likewise hold that investment
of the earnings and profits of the corporation in stock or securities of an unrelated business usually indicates an
accumulation beyond the reasonable needs of the business.

Finally, petitioner asserts that the surplus profits allegedly accumulated in the form of U.S.A. Treasury shares in 1951
by it (petitioner) should not be subject to the surtax in 1957. In other words, petitioner claims that the surtax of 25%
should be based on the surplus accumulated in 1951 and not in 1957.

This is devoid of merit.

The rule is now settled in our jurisprudence that undistributed earnings or profits of prior years are taken into
consideration in determining unreasonable accumulation for purposes of the 25% surtax. 22 The case of Basilan
Estates, Inc. v. Commissioner of Internal Revenue 23 further strengthen this rule, and we quote:

"Petitioner questions why the examiner covered the period from 1948-1953 when the taxable year on
review was 1953. The surplus of P347,507.01 was taken by the examiner from the balance sheet of the
petitioner for 1953. To check the figure arrived at, the examiner traced the accumulation process from 1947
until 1953, and petitioners figure stood out to be correct. There was no error in the process applied, for
previous accumulations should be considered in determining unreasonable accumulation for the year
concerned.In determining whether accumulations of earnings or profits in a particular year are within the
reasonable needs of a corporation, it is necessary to take into account prior accumulations, since
accumulations prior to the year involved may have been sufficient to cover the business needs and
additional accumulations during the year involved would not reasonably be necessary."

16. CIR VS. LEDNICKY, JULY 31, 1964 11 SCRA 603

Facts:

The above-captioned cases were elevated to this Court under separate petitions by the Commissioner for
review of the corresponding decisions of the Court of Tax Appeals. Since these cases involve the same parties and
issues akin to each case presented, they are herein decided jointly.

The respondents, V. E. Lednicky and Maria Valero Lednicky, are husband and wife, respectively, both
American citizens residing in the Philippines, and have derived all their income from Philippine sources for the
taxable years in question.

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 In compliance with local law, the aforesaid respondents, on 27 March 1957, filed their income tax return for
1956, reporting therein a gross income of P1,017,287. 65 and a net income of P733,809.44 on which the amount of
P317,395.4 was assessed after deducting P4,805.59 as withholding tax. Pursuant to the petitioner's assessment
notice, the respondents paid the total amount of P326,247.41, inclusive of the withheld taxes, on 15 April 1957.

On 17 March 1959, the respondents Lednicky filed an amended income tax return for 1956. The amendment
consists in a claimed deduction of P205,939.24 paid in 1956 to the United States government as federal income tax
for 1956. Simultaneously with the filing of the amended return, the respondents requested the refund of
P112,437.90.

When the petitioner Commissioner of Internal Revenue failed to answer the claim for refund, the
respondents filed their petition with the Tax Court on 11 April 1959 as CTA Case No. 646, which is now G. R. No. L-
18286 in the Supreme Court.

On 28 February 1956, the same respondents-spouses filed their domestic income tax return for 1955,
reporting a gross income of P1,771,124.63 and a net income of P1,052,550.67. On 19 April 1956, they filed an
amended income tax return, the amendment upon the original being a lesser net income of P1,012,554.51, and, on
the basis of this amended return, they paid P570,252.00, inclusive of withholding taxes. After audit, the petitioner
determined a deficiency of P16,116.00, which amount, the respondents paid on 5 December 1956.

Issue:

The common issue in all three cases, and one that is of first impression in this jurisdiction, is whether a
citizen of the United States residing in the Philippines, who derives income wholly from sources within the Republic
of the Philippines, may deduct from his gross income the income taxes he has paid to the United States government
for the taxable year on the strength of section 30 (C-1) of the Philippine Internal Revenue Code?

Ruling:

No. SEC. 30 of National Internal Revenue Code. Deduction from gross income. In computing net income there
shall be allowed as deductions

(c) Taxes: (1) In general. Taxes paid or accrued within the taxable year, except

(A) The income tax provided for under this Title;

(B) Income, war-profits, and excess profits taxes imposed by the authority of any foreign country; but this
deduction shall be allowed in the case of a taxpayer who does not signify in his return his desire to have to
any extent the benefits of paragraph (3) of this subsection (relating to credit for foreign countries);

(C) Estate, inheritance and gift taxes; and

(D) Taxes assessed against local benefits of a kind tending to increase the value of the property assessed.
(Emphasis supplied)

The Tax Court held that they may be deducted because of the undenied fact that the respondent spouses
did not "signify" in their income tax return a desire to avail themselves of the benefits of paragraph 3 (B) of the
subsection, which reads:

Par. (c) (3) Credits against tax for taxes of foreign countries. If the taxpayer signifies in his return his desire
to have the benefits of this paragraph, the tax imposed by this Title shall be credited with (B) Alien
resident of the Philippines. In the case of an alien resident of the Philippines, the amount of any such
taxes paid or accrued during the taxable year to any foreign country, if the foreign country of which such
alien resident is a citizen or subject, in imposing such taxes, allows a similar credit to citizens of the
Philippines residing in such country;

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It is well to note that the tax credit so authorized is limited under paragraph 4 (A and B) of the same subsection, in
the following terms:

Par. (c) (4) Limitation on credit. The amount of the credit taken under this section shall be subject to each
of the following limitations:

(A) The amount of the credit in respect to the tax paid or accrued to any country shall not exceed the same
proportion of the tax against which such credit is taken, which the taxpayer's net income from sources
within such country taxable under this Title bears to his entire net income for the same taxable year; and

(B) The total amount of the credit shall not exceed the same proportion of the tax against which such credit
is taken, which the taxpayer's net income from sources without the Philippines taxable under this Title bears
to his entire net income for the same taxable year.

We agree with appellant Commissioner that the Construction and wording of Section 30 (c) (1) (B) of the
Internal Revenue Act shows the law's intent that the right to deduct income taxes paid to foreign government from
the taxpayer's gross income is given only as an alternative or substitute to his right to claim a tax credit for such
foreign income taxes under section 30 (c) (3) and (4); so that unless the alien resident has a right to claim such tax
credit if he so chooses, he is precluded from deducting the foreign income taxes from his gross income.

Had the law intended that foreign income taxes could be deducted from gross income in any event,
regardless of the taxpayer's right to claim a tax credit, it is the latter right that should be conditioned upon the
taxpayer's waiving the deduction; in which Case the right to reduction under subsection (c-1-B) would have been
made absolute or unconditional (by omitting foreign taxes from the enumeration of non-deductions), while the right
to a tax credit under subsection (c-3) would have been expressly conditioned upon the taxpayer's not claiming any
deduction under subsection (c-1).

Much stress is laid on the thesis that if the respondent taxpayers are not allowed to deduct the income taxes
they are required to pay to the government of the United States in their return for Philippine income tax, they would
be subjected to double taxation. What respondents fail to observe is that double taxation becomes obnoxious only
where the taxpayer is taxed twice for the benefit of the same governmental entity (cf. Manila vs. Interisland Gas
Service, 52 Off. Gaz. 6579; Manuf. Life Ins. Co. vs. Meer, 89 Phil. 357). In the present case, while the taxpayers would
have to pay two taxes on the same income, the Philippine government only receives the proceeds of one tax.

As between the Philippines, where the income was earned and where the taxpayer is domiciled, and the
United States, where that income was not earned and where the taxpayer did not reside, it is indisputable that
justice and equity demand that the tax on the income should accrue to the benefit of the Philippines.

Any relief from the alleged double taxation should come from the United States, and not from the
Philippines, since the former's right to burden the taxpayer is solely predicated on his citizenship, without
contributing to the production of the wealth that is being taxed.

Aside from not conforming to the fundamental doctrine of income taxation that the right of a government to
tax income emanates from its partnership in the production of income, by providing the protection, resources,
incentive, and proper climate for such production, the interpretation given by the respondents to the revenue law
provision in question operates, in its application, to place a resident alien with only domestic sources of income in an
equal, if not in a better, position than one who has both domestic and foreign sources of income, a situation which is
manifestly unfair and short of logic.

Finally, to allow an alien resident to deduct from his gross income whatever taxes he pays to his own
government amounts to conferring on the latter the power to reduce the tax income of the Philippine government
simply by increasing the tax rates on the alien resident. Every time the rate of taxation imposed upon an alien
resident is increased by his own government, his deduction from Philippine taxes would correspondingly increase,
and the proceeds for the Philippines diminished, thereby subordinating our own taxes to those levied by a foreign
government. Such a result is incompatible with the status of the Philippines as an independent and sovereign state.

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