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PM REYES BAR REVIEWER ON TAXATION I

(Based on the 2013 Bar Syllabus and Updated with Recent BIR Issuances and the
Latest Supreme Court and CTA Jurisprudence as of January 31, 2013)

This is the first installment of my two-part reviewer on


taxation. This covers two topics: (1) General It is the power by which the sovereign raises
Principles of Taxation; and (2) Income Tax. It is a revenue to defray the expenses of government. It is
consolidated and updated version of my reviewers in
a way of apportioning the cost of government among
Tax 1 and Taxation Law Review. This reviewer is
based on notes from Atty. Montero and Assoc. Dean
those who in some measure are privileged to enjoy
Gruba and the books and reviewers of Atty. its benefits and must bear its burden.
Mamalateo and Atty. Domondon. I also added some
stuff from Atty. Mickey Ingles’ reviewer and Justice ---------------------------------------------------------------
Dimaampao. References have also been made to the B. Nature of Taxation
2013 Bedan Red Book and the 2012 UP Tax Reviewer.
---------------------------------------------------------------
Further, I added the recent and relevant revenue
regulations and other BIR issuances (especially those Q: What is the nature of the power of
issued in 2012) and the latest SC and CTA taxation?
jurisprudence (as of January 31, 2013). Most of the
digests were sourced from Du Baladad and The nature of the power of taxation is two-fold. It is
Associates (BDB Law) and from Baniqued & both an inherent power and a legislative power.
Baniqued. The reviewer will make reference to codal
provisions. Thus, I recommend that you read this with
a copy of the NIRC and other Laws Codal (2012 1. An inherent power
edition) by Atty. Sacadalan-Casasola
The power of taxation is inherent in the State,
Possessors may reproduce and distribute my being an attribute of sovereignty. The power to
reviewer provided my name remains clearly tax is an incident of sovereignty and is unlimited in
associated with my work and no alterations in the its range, acknowledging in its very nature no limits,
form and content of my reviewer are made. If you find so that security against abuse is to be found only in
this reviewer useful, please share it to others.
the responsibility of the legislature which imposes
May this reviewer prove useful to you. If it does,
the tax on the constituency who are to pay it
please share it to others. Happy studying! M ACTAN CEBU INTERNATIONAL AIRPORT AUTHORITY
VS. M ARCOS [261 SCRA 667]. This is so because the
--------------------------------------------------------------------------- very existence of the State is dependent on taxes.
TABLE OF CONTENTS
--------------------------------------------------------------------------- 2. Legislative in character

I. General Principles of Taxation .................... 1 The power of taxation is essentially a legislative


II. NIRC function. Taxation is an attribute of sovereignty. It is
A. Income Tax .............................................. 45 the strongest of all powers of the government. There
is a presumption in favor of legislative determination.
---------------------------------------------------------- Public policy decrees that since upon the prompt
I. GENERAL PRINCIPLES OF TAXATION collection of revenue depends the very existence of
government itself, whatever determination shall be
---------------------------------------------------------- arrived at by the legislature should not be interfered
with, unless there be a clear violation of some
--------------------------------------------------------------- constitutional inhibition. [SARASOLA VS. TRINIDAD [40
A. Definition and Concept of Taxation PHIL. 252]
---------------------------------------------------------------
It is a legislative power because it involves the
Q: Define taxation promulgation of rules. The Constitution has
allocated to the legislative department the
Taxation is the inherent power of the sovereign enactment of law
exercised through the legislature to impose burdens
upon subjects and objects within its jurisdiction for
the purpose of raising revenues to carry out the
legitimate objects of government.
It is the mode of raising revenue for public purposes.

PIERRE MARTIN DE LEON REYES Page 1 of 158


Ateneo Law Batch 2013 Last Updated: 30 July 2013(v3)
PM REYES BAR REVIEWER ON TAXATION I
(Based on the 2013 Bar Syllabus and Updated with Recent BIR Issuances and the
Latest Supreme Court and CTA Jurisprudence as of January 31, 2013)

Q: May the legislature enact a law to raise ---------------------------------------------------------------


revenues even in the absence of a D. Power of Taxation compared with other
constitutional provision granting the said powers
body the power to tax? ---------------------------------------------------------------

Yes. The power to tax can be exercised by the Q: Differentiate the power of taxation from
government even if the Constitution is entirely silent police power and the power of eminent
on the subject. There is no need for a constitutional domain.
grant for the State to exercise this power. The power
to tax is inherent in the State, being an attribute of
See table below.
sovereignty. This is so because the State can
neither exist nor endure without taxes.
TAXATION EMINENT POLICE
It must be noted that Constitutional provisions
DOMAIN POWER
relating to the power of taxation do not operate as
grants of power to the Government, but instead
Authorit Only by the May be Only by
merely constitute as limitations upon a power which
y who government exercised by government
would otherwise be practically without limit
exercise or its (1) or its political
s the political government subdivisions
Q: Why is the power to tax considered inherent
power subdivisions or political
in sovereignty?
subdivisions
OR (2)
It is considered inherent in a sovereign State
granted to
because it is a necessary attribute of sovereignty.
public utilities
Without this power, no sovereign State can exist nor
endure. The power to tax proceeds upon the theory
that the existence of a government is a necessity. Purpose The property The property The use of
No sovereign State can continue to exist without the is taken for is taken for the property
means to pay its expenses, and, for those means, it the support public use is regulated
has the right to compel all citizens and properly of the and must be for promoting
within its limits to contribute; hence, the emergence government compensated the general
of the power to tax. welfare and
is not
compensable
---------------------------------------------------------------
C. Characteristics of Taxation Persons Operates on Operates on Operates on
--------------------------------------------------------------- affected a community an individual a community
or class of as owner of a or class of
Note: This should properly refer to Characteristics or individuals particular individuals
Elements of a Tax, not Characteristics of Taxation. In the
property
event the question is asked, answer as if the question
refers to characteristics of a tax. See Chapter 1, K.
Characteristic of Tax. With reservations, however, as to Effect The money There is a There is no
the source, the 2013 Beda tax reviewer enumerates as contributed transfer of transfer of
characteristic of taxation the following: (1) Comprehensive becomes the right to title. At most,
(2) Unlimited (3) Plenary and (4) Supreme. It is submitted part of the property there is
that the proper answer would make reference to the public funds restraint on
inherent limitations to the power of taxation. Atty. the injurious
Domondon states that the inherent limitations on the use of
power of taxation is also known as the elements, tenets or
property
characteristics of taxation.

Benefits It is He receives The person


received assumed the market affected
that the value of the receives

PIERRE MARTIN DE LEON REYES Page 2 of 158


Ateneo Law Batch 2013 Last Updated: 30 July 2013(v3)
PM REYES BAR REVIEWER ON TAXATION I
(Based on the 2013 Bar Syllabus and Updated with Recent BIR Issuances and the
Latest Supreme Court and CTA Jurisprudence as of January 31, 2013)

individual property indirect


receives the taken from benefits as 1. Revenue purposes: The basic purpose of
equivalent him may arise taxation is to raise revenues.
of the tax in from the 2. Sumptuary or regulatory purpose: The
the form of maintenance secondary purpose of taxation is to promote
protection of a healthy the general welfare and to protect the
and benefits economic health, safety or morals of inhabitants
he receives standard of
from the society Q: What are non-revenue (or sumptuary)
government objectives of taxation?
Amount Generally, No amount Amount 1. Taxation can strengthen anemic enterprises;
of there is no imposed but imposed 2. Taxes may be increased in period of
impositi limit on the rather the should not be prosperity to curb spending power and halt
on amount of owner is paid more than inflation and lowered in periods of slump to
tax that may the market sufficient to expand business and ward off depression
be imposed value of cover license 3. Taxes on imports may be increased to
property and protect local industries
taken necessary 4. Taxes on imported goods may be used as a
expenses bargaining tool by a country by setting trarrif
rates first at a relatively high level before
Relation Subject to Inferior to the Relatively trade negotiations
ship to certain impairment of free from 5. Taxes can discourage certain business (e.g.
Constitu constitutiona obligations of constitutional tobacco and alcohol)
tion l limitations; contracts limitations; it 6. Taxes can also minimize inequity
including the prohibition; is superior to
impairment government the Some cases illustrating the non-revenue or
of obligation cannot impairment of sumptuary objectives of taxation:
of contracts expropriate contract
property provision In PHILIPPINE COCONUT PRODUCERS FEDERATION VS.
which under PCGG [178 SCRA 236], the Supreme Court held
a contract it that the coconut industry is one of the major
had industries supporting the national economy. It is
previously therefore, the State’s concern to make it a strong
bound itself and secure source not only of the livelihood of a
to purchase significant segment of the population but also of
export earnings the sustained growth of which is one
of the imperatives of economic stability.
---------------------------------------------------------------
D. Purposes of taxation In PHILIPPINE HEALTH CARE PROVIDERS VS. CIR
1. Revenue-raising [554 SCRA 411], the Supreme Court, on the issue
2. Non-revenue/special or regulatory of whether Health maintenance organizations
--------------------------------------------------------------- (HMOs) were exempt from Documentary Stamp Tax
(DST), held that it is not the purpose of the
government to throttle private business. On the
Q: What are the purposes of taxation?1 contrary, the government ought to encourage private
_________________________________________ enterprise. HMOs, just like any concern organized
1
Atty. Mamalateo enumerated six purposes or objectives of
taxation, namely: (1) Revenue; (2) Regulatory; (3) Promotion of
General Welfare; (4) Reduction of social inequity; (5) Encourage protectionism. Note: It is submitted that items (3) to (6) can be
economic growth by granting incentives and exemptions; and (6) considered subsumed under the regulatory purpose.

PIERRE MARTIN DE LEON REYES Page 3 of 158


Ateneo Law Batch 2013 Last Updated: 30 July 2013(v3)
PM REYES BAR REVIEWER ON TAXATION I
(Based on the 2013 Bar Syllabus and Updated with Recent BIR Issuances and the
Latest Supreme Court and CTA Jurisprudence as of January 31, 2013)

for a lawful economic activity have a right to maintain The distinction made by the Supreme Court in
a legitimate business. Hence, HMOs should not be PROGRESSIVE DEVELOPMENT CORPORATION V.
arbitrarily and unjustly included in the DST QUEZON CITY [172 SCRA 629] is particularly
coverage. instructive. The Court stated that: If the generating of
revenue is the primary purpose and regulation is
In TIO VS. VIDEOGRAM REGULATORY BOARD [151 merely incidental, the imposition is a tax; but if the
SCRA 208], the Supreme Court held that the levy of regulation is the primary purpose, the fact that
30% tax on videogram operators was imposed incidentally revenue is also obtained does not make
primarily to answer the need for regulating the video the imposition a tax
industry, particularly rampant film piracy and flagrant
violation of intellectual property rights. Thus, a (regulatory) fee is imposed for purposes of
regulation (in exercise of police power) while a tax is
Q: May a tax be validly imposed in the imposed for revenue generation purpose (the power
exercise of police power and not of the of taxation).
power to tax?
Q: When an exaction is imposed to
Yes. The power of taxation may be used as an discourage certain businesses, is the
implement of police power of the State with the end exaction a tax?
in view of regulating a particular activity.
No, it is a regulatory fee. In COMPANIA GENERAL DE
Note: Some authors and jurisprudence still refer to the TABACOS DE FILIPINAS V. CITY OF M ANILA [8 SCRA
imposition levied for the purpose of regulation as a tax. 367], the Supreme Court held that the municipal
This is inaccurate and adds to confusion. The proper term, license fees for the privilege to engage in the
as used by the Supreme Court in numerous decisions business of selling liquor or alcoholic beverages
should be “regulatory fee” or “fee”. In earlier cases, they were imposed for regulatory purposes as such
were referred to as “license fees.” It is submitted that the
use of the term “tax” should only be used to refer to an
products are potentially harmful to public health and
imposition for the purposes of revenue while the term “fee” morals.
is used for an imposition for purposes of regulation. As
you will see later, the distinction between a “tax” and a Q: When an exaction is imposed to provide
“fee” is relevant as certain inherent and constitutional means for the rehabilitation and stabilization
limitations apply only to one and no to the other. It is also of a threatened industry, is the exaction a
important for purposes of tax exemptions.
tax?
Q: How do you determine if an imposition is No. Jurisprudence provides that such exactions are
a tax or a (regulatory) fee? considered regulatory fees in light of their purpose.

In determining whether an imposition is a tax or a Some cases:


regulatory fee, one must inquire into the following:
In OSMENA V. ORBOS [220 SCRA 703], in
1. The purpose of the imposition determining whether the taxes collected for the Oil
2. The amount of the exaction Price Stabilization Fund are taxes or regulatory fees,
3. The designation the Supreme Court stated that while the funds were
referred to as taxes, they were exacted not under
Note: The criteria is based on Atty. Montero’s lecture. This the power of taxation, but in the exercise of the
is particularly useful in analyzing whether an imposition is police power of the State. The main objective was
a tax or a fee.
not revenue but to stabilize the price of oil and
petroleum products.
The purpose of the imposition .
In REPUBLIC V. BACOLOD-MURCIA MILLING [17 SCRA
Q: How do you distinguish a tax from a 632], in determining whether the levy for the
regulatory fee in terms of its purpose? Philippine Sugar Institute Fund is a fee or a tax, the
Supreme Court held that such levy was not so much

PIERRE MARTIN DE LEON REYES Page 4 of 158


Ateneo Law Batch 2013 Last Updated: 30 July 2013(v3)
PM REYES BAR REVIEWER ON TAXATION I
(Based on the 2013 Bar Syllabus and Updated with Recent BIR Issuances and the
Latest Supreme Court and CTA Jurisprudence as of January 31, 2013)

an exercise of the power of taxation but an exercise Q: Should universal charges (for electricity
of the police power to aid and support the sugar end-users) be considered a tax or a fee?
industry.
Universal charges are regulatory fees. In GEROCHI V.
Q: When the exaction is imposed to make a DOE [G.R. NO. 159796, JULY 17, 2007], in
private company viable, is it a fee or a tax? determining whether the Universal Charge imposed
on electricity end-users by distributors is a tax, the
The exaction should be considered a tax. In Supreme Court held in the negative and stated that
PLANTERS PRODUCT V. FERTIPHIL CORPORATION [548 the universal charge is a regulatory fee levied to
SCRA 485], an Letter of Instruction was issue ensure the viability of the country’s electric power
imposing a capital recovery component on the industry
domestic sales of all fertilizer grades and such
exaction shall be collected until adequate capital The amount of the exaction
was raised to make Planters Product, a private
company, viable. The Supreme Court held that the Q: How do you distinguish a tax from a
levy was invalid for not serving a public purpose as regulatory fee in terms of the amount of the
the ultimate beneficiary was a private company. exaction?
Hence, the primary purpose was for revenue
generation. If the amount levied is too high and/or if the amount
levied is not related to costs of regulation, the
Q: Are royalty fees (on a per liter basis) exaction should be considered a tax as it is levied
imposed on the movement of petroleum fuel for revenue purposes.
to and from special economic zones a tax or Some cases:
a fee?
In VILLEGAS V. HIU CHIONG TSAI PAO HO [86 SCRA
The royalty fees imposed on the movement of 270], in determining whether the exaction of P50.00
petroleum fuel are regulatory fees. As held in from aliens securing an employment permit (from the
CHEVRON PHILIPPINES V. BCDA [SEPTEMBER 15, Mayor of Manila) is a fee or a tax, the Supreme
2010], the royalty fees were exacted on a per liter Court held that the amount was too excessive and
basis because the higher the volume of fuel entering that there was no logic or justification in the exaction
the special economic zone, the greater the extent from aliens who have been cleared for employment.
and frequency of supervision and inspection The Court opined that it was obvious that the
required to ensure safety, security and order within purpose of the exaction is to raise money under the
the zone. guise of regulation.

Q: Should margin fees be considered a tax In PLANTERS PRODUCT V. FERTIPHIL CORPORATION


or a fee? [548 SCRA 485], the Supreme Court held that the
amount collected from the imposition on the
Margin fees are regulatory fees. In ESSO STANDARD domestic sales of fertilizer grades was too excessive
EASTERN V. CIR [175 SCRA 149], the company to serve a mere regulatory purpose.
sought to deduct the margin fees it paid from its
gross income. The Supreme Court held that the In AMERICAN M AIL LINE V. CITY OF BASILAN [2 SCRA
margin fees cannot be deducted as they are not 309], the Supreme Court stated that for fees to be
taxes. Margin fees are imposed to curb excessive regulatory in nature, the same must be no more than
demand upon the international reserves in order to sufficient to cover the actual cost of inspection or
stabilize the currency. It is applied to strengthen the examination.
country’s international reserves and is not imposed
for revenue purposes. Hence, as they are not taxes,
they cannot be considered as a deductible business
expense.

PIERRE MARTIN DE LEON REYES Page 5 of 158


Ateneo Law Batch 2013 Last Updated: 30 July 2013(v3)
PM REYES BAR REVIEWER ON TAXATION I
(Based on the 2013 Bar Syllabus and Updated with Recent BIR Issuances and the
Latest Supreme Court and CTA Jurisprudence as of January 31, 2013)

the effect that motor vehicle registrations fees are


ANGELES UNIVERSITY V. CITY OF ANGELES [G.R. regulatory fees.
189999, JUNE 27, 2012],
The Designation
DOCTRINE: (1) A charge which bears no relation at all to
the cost of inspection and regulation may be held to be a Q: Does designation matter in determining
tax rather than an exercise of the police power. whether an exaction is a fee or a tax?
(2) The fact that revenue is incidentally raised does not No. In Victorias Milling Co. vs. CIR [22 SCRA 13],
make the imposition a tax.
the Supreme Court stated that the designation given
FACTS: Angeles University Foundation (AUF), a non- by the authorities does not decide whether the
stock, non-profit educational institution, filed with the City imposition is properly a tax or a fee.
of Angeles a building permit for the construction of the
building of the AUF Medical Center. The City Treasurer Note: It is submitted that the purpose of the exaction is the
assessed AUF a Building Permit Assessment. AUF argues primary factor to consider. In GEROCHI V. DOE [527 SCRA
that it is exempt from the payment of the building permit 696], the Supreme Court stated the conservative and
fees (because it is a tax). The City argues that they are not pivotal distinction between the power of taxation and
exempt (because it is a regulatory fee). police power rests in the purpose for which the charge is
made.
HELD: The building permit fees are regulatory fees. A
charge of a fixed sum which bears no relation at all to the Q: Can an exaction be considered both a tax
cost of inspection and regulation may be held to be a tax and a regulatory fee?
rather than an exercise of the police power. In this case,
AUF failed to demonstrate that the building fees were
There two views.
arbitrarily determined or unrelated to the activity being
regulated. Neither has AUF adduced evidence to show
that the rates of building permit fees imposed and FIRST VIEW: No, simply because they are levied for
collected by the respondents were unreasonable or in different purposes. The power to regulate as an
excess of the cost of regulation and inspection. While it is exercise of police power does not include the power
conceded that the revenue from the building fees is to impose fees for revenue purposes (G.A.
generated for the benefit of LGUs, the fact that the CUUNJIENG V. PATSTONE [42 PHIL 818]; AMERICAN
revenue is incidentally raised does not make the M AIL LINE V. CITY OF BASILAN [2 SCRA 309])
imposition a tax.
SECOND VIEW: Yes. An exaction can be
considered both a tax and a regulatory fee through a
Q: Can an imposition which, at first, was combined exercise of police power and the power of
regulatory in nature be considered a “tax” taxation. This view finds support in the case of
because of the substantial increase in the PCGG V. COJUANGCO [G.R. NO. 147062-64,
amount collected? DECEMBER 14, 2001] where the Supreme Court held
that the coco levy funds were raised through the
Yes. In PAL V. EDU [164 SCRA 320], in determining State’s police and taxing powers.
whether the motor vehicle registration fees (MVRF) Note: It is submitted that the first view is the more
were taxes or fees, the Supreme Court held that acceptable view as it is consistent with the distinctions
while the MVRFs were originally intended for made between a “tax” and a “fee.” Thus, the rule should
regulation, as motor vehicles became absolute be plain and simple: If the imposition is for revenue
necessities and vehicular traffic exploded in number, purposes, it is a tax and it is in the exercise of the power to
tax; if it is for regulatory purposes, it is a fee and it is in the
the registration of vehicles because a convenient exercise of police power.
way of raising revenues. Thus, their nature has
become that of taxes notwithstanding the fact one- Q: May the power of taxation be used as an
fifth or less of the amount collected is set aside for
implement of the power of eminent domain?
operating expenses of the agency administering the
program.
Yes. In CIR VS. CENTRAL LUZON DRUG CORPORATION
Note: This case reversed the doctrine previously held in [456 SCRA 413], the Supreme Court stated that the
REPUBLIC V. PHILIPPINE RABBIT BUS LINES [32 SCRA 211] to taxation power can be used as an implement for the

PIERRE MARTIN DE LEON REYES Page 6 of 158


Ateneo Law Batch 2013 Last Updated: 30 July 2013(v3)
PM REYES BAR REVIEWER ON TAXATION I
(Based on the 2013 Bar Syllabus and Updated with Recent BIR Issuances and the
Latest Supreme Court and CTA Jurisprudence as of January 31, 2013)

exercise of the power of eminent domain. It noted asserted that the substantiation requirements for
that the tax credit granted to private establishments claiming the input VAT were impractical and
giving senior citizen discounts can be deemed as incapable of implementation as in order to claim
their just compensation for private property taken by input VAT, the name, address and TIN of the toll
the State for public use. way user must be indicated in the VAT receipt or
invoice. In addition, the rounding off of the toll rate
--------------------------------------------------------------- and putting the excess collection in an escrow is
F. Principles of a sound tax system illegal while the giving of the change to meet the
1. Fiscal Adequacy exact toll rate would be a logistical nightmare. The
2. Administrative Feasibility Supreme Court held that while administrative
3. Theoretical Justice feasibility is a canon of a sound tax system, the
non-observance thereof will not render a tax
---------------------------------------------------------------
imposition invalid except to the extent that
specific constitutional or statutory limitations
Q: What the basic principles of a sound tax are impaired.
system?
Note: J. Dimaampao is of the view that if the tax law runs
The basic principles are the following: contrary to the principle of theoretical justice, such
violation will render the law unconstitutional considering
1. Fiscal Adequacy – The source of government that under the Constitution, the rule of taxation should be
revenue must be sufficient to meet uniform and equitable. It is submitted that this should be
qualified. As to a violation of the principle of theoretical
governmental expenditures and other public justice on the basis of uniformity, I submit that it would
needs amount to a violation of the Constitution, specifically the
2. Theoretical Justice – a good tax system must equal protection clause. However, as to a violation of the
be based on the taxpayer’s ability to pay principle of theoretical justice on the basis of equity, it is
3. Administrative feasibility – taxes should be submitted that such would not be constitutionally infirm.
capable of being effectively enforced. The basis of this view can be found in the case of
TOLENTINO VS. SECRETARY OF FINANCE [249 SCRA 628]
In CHAVEZ V. ONGPIN [186 SCRA 331] , at issue was which held that the system of taxation need not be always
the validity of the increase, via an Executive Order, progressive.
of the property values for purposes of real property
taxes. The Supreme Court held that such was valid. ---------------------------------------------------------------
One of the justifications was based on fiscal G. Theory and Basis of Taxation
adequacy. The Court stated that fiscal adequacy 1. Lifeblood Theory
requires that the sources of revenue must be 2. Necessity Theory
adequate to meet government expenditures. To 3. Benefits-Protection Theory (Symbiotic
continue collecting at valuations arrived at several relationship)
years ago is not in consonance with a sound tax 4. Jurisdiction over subject and objects
system. ---------------------------------------------------------------
Note: The basic principles of a sound tax system are also
known as the Canons of Taxation.
Note: As explained by Atty. Domondon, the theory of
taxation and the basis or rationale for taxation are two
different concepts. The theory of taxation explains why
there is a need to impose taxes while the basis or
Q: Will a violation of the abovementioned rationale for taxation explains the reason why a State may
principles render a tax law unconstitutional? impose taxes. The theory of taxation refers to the lifeblood
theory (and the necessity theory which is but an extension
of the lifeblood theory). The basis or rationale of taxation
It depends. This was settled in the case of DIAZ V. refers to (1) the symbiotic relationship and (2) jurisdiction
SEC. OF FINANCE [JULY 19, 2011]. One of the by the state over persons and property within its territory.
grounds raised in assailing the validity of the
imposition of VAT on the collection of toll way
operators was that it violated the principle of
administrative feasibility. Particularly, the petitioner

PIERRE MARTIN DE LEON REYES Page 7 of 158


Ateneo Law Batch 2013 Last Updated: 30 July 2013(v3)
PM REYES BAR REVIEWER ON TAXATION I
(Based on the 2013 Bar Syllabus and Updated with Recent BIR Issuances and the
Latest Supreme Court and CTA Jurisprudence as of January 31, 2013)

--------------------------------------------------------------- In PHILIPPINE GUARANTY V. CIR [13 SCRA 775], the


1. Lifeblood Theory Supreme Court stated that the requirement that the
--------------------------------------------------------------- withholding agent should withhold the
tax before addressing a query to the Commissioner
Q: What is the lifeblood theory? of Internal Revenue is not without meaning for it is in
keeping with the general operation of our tax laws:
As stated in the case of CIR vs. Algue [158 SCRA payment precedes defense. Likewise, validity of a
9], the existence of government is a necessity; it tax cannot be assailed until after the taxpayer has
cannot exist nor endure without the means to pay its paid the tax under protest. By questioning a tax’s
expenses; and for those means, the government has legality without first paying it, a taxpayer, in collusion
the right to compel all its citizens and property within with BIR officials, can unduly delay, if not totally
its limits to contribute in the form of taxes. evade, the payment of such tax.

Taxes are the lifeblood of the government and so In CIR v. CTA [234 SCRA 348], the Supreme Court
should be collected without unnecessary hindrance. held that government cannot and must not be
On the other hand, such collection should be made stopped in matters involving taxes as “they are the
in accordance with law as any arbitrariness will lifeblood of the nation through which the government
negate the very reason for government itself. It is agencies continue to operate and with which the
therefore necessary to reconcile the apparently State effects its functions for the welfare of its
conflicting interests of the authorities and the constituents.
taxpayers so that the real purpose of taxation, which
is the promotion of the common good, may be In PHILIPPINE NATIONAL OIL COMPANY VS. CA [457
achieved. CIR vs. Algue [158 SCRA 9] SCRA 32], the Supreme Court held that the
Government cannot be estopped from collecting
The lifeblood theory states that an assessment of a taxes by the mistake, negligence, or omission of its
tax is enforceable despite it being contested agents. Upon taxation depends the Government’s
because of the urgency to collect taxes, this being ability to serve the people for whose benefit the
the government’s primary source of revenue. CIR v. taxes are collected. Neglect or omission of
Cebu Portland [156 SCRA 535] government officials entrusted to collect taxes
should not be allowed to bring harm or detriment to
the people.
The lifeblood theory can be manifested in
the following cases: In SEC. OF FINANCE VS. ORO M AURA SHIPPING LINES
[593 SCRA 14], the Supreme Court opined that
1. The prohibition against set-off of taxes [see assuming further that MARINA merely committed a
Section 204(C), NIRC] mistake in approving the vessel’s proposed cost and
2. The prohibition against the issuance of an that the Collector of the Port of Manila similarly
injunction to restrain the collection of taxes erred, we reiterate the legal principle that estoppel
3. Presumption of correctness of assessments generally finds no application against the State when
it acts to rectify mistakes, errors, irregularities, or
Illustrative cases: illegal acts of its officials and agents irrespective of
rank. The rule holds true even if the rectification
In CIR v. Cebu Portland [156 SCRA 535], the prejudices parties who had meanwhile received
taxpayer argued that that the deficiency assessment benefits.
cannot be enforced because it is still being
contested. The Supreme Court held that this
argument loses sight of the urgency of the need to Q: What is the exception to the prohibition
collect taxes as the lifeblood of the government. If on the issuance of an injunction to restrain
the payment of taxes could be postponed by simply the collection of taxes?
questioning heir validity, the machinery of the state
would grind to a halt and all government functions An injunction may be issued to restrain the collection
would be paralyzed. of taxes “when in the opinion of the Court the
collection may jeopardize the interest of the

PIERRE MARTIN DE LEON REYES Page 8 of 158


Ateneo Law Batch 2013 Last Updated: 30 July 2013(v3)
PM REYES BAR REVIEWER ON TAXATION I
(Based on the 2013 Bar Syllabus and Updated with Recent BIR Issuances and the
Latest Supreme Court and CTA Jurisprudence as of January 31, 2013)

Government and/or the taxpayer, the Court at any support between the State and its inhabitants. In
stage of the proceeding may suspend the said return for his contribution, the taxpayer receives the
collection and require the taxpayer either to deposit general advantages and protection which the
the amount claimed or to file a surety bond for not government affords the taxpayer and his property.
more than double the amount with the Court.” (See In CIR VS. ALGUE [158 SCRA 9], the Supreme Court
Section 11, RA 1125, as amended by RA 9282). stated that taxes are what we pay for civilized
society. Hence, despite the natural reluctance to
Note: It must be noted, however, that the CTA cannot surrender part of one’s hard-earned income, every
issue a writ of injunction to restrain the collection of taxes person who is able must contribute his share in the
in the exercise of its original jurisdiction. It can only issue running of the government and the latter, for its part,
such a writ of injunction in its appellate jurisdiction. The is expected to respond in the form of tangible and
Supreme Court held in CIR vs. J.C. Yuseco [G.R. No. L-
12518, October 28, 1961] that nowhere does the law vest
intangible benefits intended to improve the lives of
in the CTA original jurisdiction to issue writs of prohibition the people and enhance their moral and material
or injunction independently of, and apart from, an values. This symbiotic relationship is the rationale of
appealed case. The writ of prohibition or injunction that it taxation and should dispel the erroneous notion that
may issue to suspend the collection of taxes, is merely it is an arbitrary method of exaction by those in the
ancillary to and in furtherance of its appellate jurisdiction. seat of power
Taxes being the chief source of revenue for the ---------------------------------------------------------------
government to keep it running, must be paid immediately
and without delay. A taxpayer who feels aggrieved by a
4. Jurisdiction over subjects and objects
decision of a revenue officer and appeals to the CTA must ---------------------------------------------------------------
pay the tax assessed, except if the CTA opines that
collection would jeopardize the interest of the Government Q: Explain the jurisdiction of the State over
and/or taxpayer, it could suspend the collection and persons and property within its territory as a
require the taxpayer to deposit the amount claimed or to
file a bond. basis or rationale of taxation.

--------------------------------------------------------------- Jurisdiction is a reason why citizens must provide


2. Necessity Theory support to the state so the latter could continue to
give protection. It is the country, state or sovereign
---------------------------------------------------------------
that gives protection that has the right to demand the
payment of taxes with which to finance activities so it
Q: What is the necessity theory? could continue to give protection. The basis or
rationale of taxation is also used to explain why
As stated in the case of PHILIPPINE GUARANTY V. CIR taxation is basically territorial in character because it
[13 SCRA 775], taxation is a necessary burden to is only within the territorial boundaries of the taxing
preserve the States sovereignty and a means to give authority where tax laws may be enforced. This is so
the citizenry an army to resist aggression, a navy to because it is only within the confines of its territory
defend its shores from invasion, a corps of civil that a country, state or sovereign may give
servants to serve, public improvements for the protection.
enjoyment of the citizenry, and those which come
within the State’s territory and facilities and
protection which a government is supposed to Q: Discuss the meaning and implications of
provide the following statement: the power to tax
involves the power to destroy.
--------------------------------------------------------------- Taxation is a destructive power which interferes with
3. Benefits-Protection theory (Symbiotic the personal and property rights of the people and
relationship) takes from them a portion of their property for
--------------------------------------------------------------- support of the government. Therefore it should be
exercised with caution to minimize injury to the
Q: What is the benefits-protection theory? proprietary rights of a taxpayer. It must be exercised
fairly, equally and uniformly, lest the tax collector kill
According to this principle, the basis of taxation is the "hen that lays the golden egg". And, in order to
found in the reciprocal duties of protection and maintain the general public's trust and confidence in

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the Government this power must be used justly and be imposed retroactively if the law expressly
not treacherously. ROXAS VS. CTA [23 SCRA 276]; provides and if it will not amount to a denial of due
REYES V. ALMANZOR [196 SCRA 322]; CIR V. TOKYO process.
SHIPPING [244 SCRA 332]
Hence, in resolving the issue of whether a statute
Q: Justice Marshall said that “the power to favorable to a taxpayer-heir can be given retroactive
tax involves the power to destroy.” On the effect, the Supreme Court held in LORENZO VS.
other hand, Justice Holmes stated later that POSADAS [64 PHIL. 353] that inheritance taxation is
“the power to tax is not the power to destroy governed by the statute in force at the time of the
death of the decedent, unless the language of the
while the court sits.” Reconcile the
statute clearly demands or expresses that it shall
apparently inconsistent statements. have a retroactive effect which is not the case. And
such Revenue laws are not to be classed penal
The two statements can be reconciled on three laws, so even if favorable, should not be given
levels. First, the imposition of a valid tax could not retroactive effect.
be judicially restrained merely because it would
prejudice the taxpayer’s property. Second, an illegal ---------------------------------------------------------------
tax could be judicially declared invalid and should
2. Imprescriptibility
not work to prejudice a taxpayer’s property. Third, J.
Marshall’s view refers to a valid tax while J. Holmes ---------------------------------------------------------------
view refers to an invalid tax.
Q: Are taxes imprescriptible?
---------------------------------------------------------------
As a general rule, taxes are imprescriptible.
H. Doctrines in Taxation
However, as an exception, the tax law may provide
1. Prospectivity of tax laws otherwise. In particular, the NIRC and LGC provides
2. Imprescriptibility for prescriptive periods for assessment and
3. Double Taxation collection of taxes.
4. Escape from Taxation
5. Exemption from Taxation Q: What is the rationale behind providing for
6. Compensation and Set-off a statute of limitations in the collection of
7. Compromise taxes?
8. Tax Amnesty
9. Construction and Interpretation As held in the case of REPUBLIC VS. ABLAZA [108
--------------------------------------------------------------- PHIL 1105, the law prescribing a limitation of actions
for the collection of the income tax is beneficial both
--------------------------------------------------------------- to the Government and to its citizens; to the
1. Prospectivity of tax laws Government because tax officers would be obliged
to act promptly in the making of assessment, and to
---------------------------------------------------------------
citizens because after the lapse of the period of
prescription citizens would have a feeling of security
Q: Are tax statutes prospective in its against unscrupulous tax agents who will always find
application? an excuse to inspect the books of taxpayers, not to
determine the latter's real liability, but to take
Yes. As held in CEBU PORTLAND V. COLLECTOR [G.R. advantage of every opportunity to molest peaceful,
NO. 18649, FEBRUARY 27, 1965], the general rule law-abiding citizens.
under the Civil Code that laws shall have
prospective application applies to tax laws. In CIR V. B.F. GOODRICH PHILS [FEBRUARY 24, 1999],
the Supreme Court noted that our tax laws provides
Q: Can tax statutes be applied retroactively? for a statute of limitations in the collection of taxes
for the purpose of safeguarding taxpayers from any
Yes. While, as a general rule, taxes must only be unreasonable examination, investigation or
imposed prospectively, taxes, as an exception, may assessment.

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Q: Is double taxation prohibited under the


Q: How should said statute of limitations in Constitution?
taxation be construed?
It depends. The Constitution does not prohibit the
The law on prescription being a remedial measure imposition of double taxation in the broad sense.
should be liberally construed in order to afford However, if double taxation amounts to a direct
protection. On the other hand, the exceptions to the double taxation, then it becomes legally
law on prescription should be strictly construed. objectionable for being oppressive and inequitable. It
Thus, in the case of CIR VS. PHILIPPINE NATIONAL violates the equal protection and uniformity clauses
BANK [G.R. No. 161997, October 25, 2005], the of the Constitution.
Court held that even if the 2-year prescriptive period
for a claim for tax refund has already lapsed, the Q: What are the elements of (direct) double
same may be suspended for equity and special taxation?
circumstances.
There is direct double taxation if the two taxes are
--------------------------------------------------------------- imposed:
3. Double Taxation
a) Strict sense 1. On the same subject matter
b) Broad sense 2. For the same purpose
c) Constitutionality of double taxation 3. By the same taxing authority
d) Modes of eliminating double taxation 4. Within the same jurisdiction
5. During the same taxing period
---------------------------------------------------------------
6. The taxes must be of the same kind or character
PEPSI-COLA BOTTLING COMPANY V. MUN. OF
Q: What is double taxation? TANAUAN [69 SCRA 460]
Double taxation is defined as taxing the same
Q: Bank A’s gross receipts from passive
property twice when it should be taxed but once. It
has also been defined as taxing the same person income is subject to 20% final withholding
twice by the same jurisdiction over the same thing. It tax. At the same time, the total gross receipt
is sometimes known as “duplicate taxation.” of Bank A is subject to 5% gross receipts
tax (GRT). Is the imposition of the FWT and
Q: What are the two types of double GRT a form of double taxation?
taxation?
No. First, the taxes herein are imposed on two
Double taxation may be direct (strict sense) or different subject matters. The subject matter of the
indirect (broad sense). FWT is the passive income generated in the form of
interest on deposits and yield on deposit substitutes,
In the strict sense, double taxation means direct while the subject matter of the GRT is the privilege
double taxation. This means that the same property of engaging in the business of banking. Second,
is taxed twice when it should be taxed only once and although both taxes are national in scope because
that both taxes are imposed on the same subject they are imposed by the same taxing authority -- the
matter for the same purpose, by the same taxing national government under the Tax Code -- and
authority within the same jurisdiction during the operate within the same Philippine jurisdiction for the
same taxing period and covering the same kind of same purpose of raising revenues, the taxing
tax. periods they affect are different. The FWT is
deducted and withheld as soon as the income is
In the broad sense, double taxation means indirect earned, and is paid after every calendar quarter in
double taxation. Double taxation is indirect where which it is earned. On the other hand, the GRT is
some elements of direct double taxation are absent. neither deducted nor withheld, but is paid only after
It applies to all cases in which there are two or more every taxable quarter in which it is earned. Third,
pecuniary impositions. these two taxes are of different kinds or
characters. The FWT is an income tax subject to

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withholding, while the GRT is a percentage tax not


subject to withholding. Hence, there is no double Q: A municipality imposed a storage fee for
taxation. (see CIR VS. SOLIDBANK CORP [416 SCRA the storage of copra within its jurisdiction. A
436]; CHINA BANKING CORP VS. CA [403 SCRA 634]) multinational company doing business in
the Philippines stored copra in its
Q: Under the Tax Code, Bank A is subject to warehouse located in the municipality and
1% reserve deficiency tax if it incurs reserve was thus assessed the storage fee. The
deficiencies. Under the General Banking MNC argues that it was already being taxed
Law, Bank A must 1/10 of 1% for incurring for the manufacture of copra so there was
reserve deficiencies. Is there double double taxation. Decide.
taxation?
There is no double taxation. In PROCTER & GAMBLE
No. One is a penalty; the other is a tax. The V. MUNICIPALITY OF JAGNA [94 SCRA 894], the
payment of 1/10 of 1% for incurring reserve Supreme Court stated that there is double taxation
deficiencies is clearly a penalty as the primary when the same person is taxed twice by the same
purpose is regulation; while the payment of 1% for jurisdiction for the same thing. A tax on products is
the same violation is a tax for the generation of different from a tax on the privilege of storing copra
income which is the primary purpose for this in a bodega situated within the territorial jurisdiction
instance. (REPUBLIC BANK VS. CTA [213 SCRA 266]) of the municipality. Furthermore, in the former, the
taxing authority is the national government while in
Q: A City passed an ordinance imposing the latter; the taxing authority is the local
license tax on persons engaged in the government.
business of operating tenement houses. Is
there double taxation given that buildings Q: A municipality enacted two ordinances.
pay real estate taxes and also income taxes The first levies and collects from soft drinks
besides the tenement tax imposed by the producers a tax for every bottle corked
ordinance? while the second levies and collects on soft
drinks produced and manufactured within
No. In order to constitute double taxation in the its territorial jurisdiction. Is there double
objectionable or prohibited sense the same property taxation?
must be taxed twice when it should be taxed but
once; both taxes must be imposed on the same Yes. All the elements of double taxation are present.
property or subject-matter, for the same purpose, by However, it must be noted, that while the factual
the same State, Government, or taxing authority, milieu provided is similar to the case of PEPSI COLA
within the same jurisdiction or taxing district, during V. MUNICIPALITY OF T ANUAN [69 SCRA 460],
the same taxing period, and they must be the same Supreme Court ruled that there was no double
kind or character of tax.” It has been shown that a taxation in the said case because the second
real estate tax and the tenement tax imposed by the ordinance repealed the first ordinance. Otherwise,
ordinance, although imposed by the same taxing there would have been double taxation.
authority, are not of the same kind or character.
Furthermore, while it is true that they are taxable as Q: A city passed two ordinances. The first
real estate dealers (income tax) and still taxable
ordinance imposed a tax on the privilege of
under the ordinance, the argument against double
taxation may not be invoked. The same tax may be selling liquor while the second ordinance
imposed by the national government as well as by imposed a tax on the sales of liquor. Is there
the local government. There is nothing inherently double taxation?
obnoxious in the exaction of license fees or taxes
with respect to the same occupation, calling or No. In COMPANIA GENERAL DE TABACOS V. CITY OF
activity by both the State and a political subdivision M ANILA [8 SCRA 367], the Supreme Court held that
thereof. (VILLANUEVA V. CITY OF ILOILO [26 SCRA both a license fee and a tax may be imposed on the
578]) same business and occupation and such as not a
violation of the rule against double taxation. The

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impositions are of a different character. The first is a SCRA 442], the Supreme Court stated that the NIRC
license fee for the privilege of engaging in the sale of levies a tax on all quarry resources whether
liquor in the exercise of police power while the other extracted from public or private land. Thus, the local
is imposed for revenue purposes based on the sales government unit cannot impose taxes on quarry
made. resources as they are already taxed under the
NIRC. However, by express provision in the Local
Q: Company A, engaged in the manufacture Government Code, the LGU may levy on quarry
of tobacco, is subject to the payment of resources extracted from public land.
tobacco inspection fees aside from other
taxes it pays to the national government. Is Q: What are the modes of elimination double
there double taxation? taxation?

No. Tobacco Inspection fees are undoubtedly The usual methods of avoiding the occurrence of
National Internal Revenue taxes, they being one of double taxation are:
the miscellaneous taxes provided for under the Tax
Code. The Code specifically provides for the 1. Allowing reciprocal exemption either by law
collection and manner of payment of the said or by treaty
inspection fees. Tobacco inspection fees are levied 2. Allowance of tax credit for foreign taxes paid
and collected for purposes of regulation and control. 3. Allowance of deduction for foreign taxes
Tobacco inspection fees are of a different kind and paid; and
character from other taxes imposed. (LA SUERTE VS. 4. Reduction of the Philippine tax rate
CTA [134 SCRA 36])
---------------------------------------------------------------
Q: A city ordinance imposed a license fee 4. Escape from Taxation
on any person, firm, entity or corporation a) Shifting of tax burden
doing business in the City. A contends that b) Tax Avoidance
the ordinance constitutes double taxation as c) Tax Evasion
he already pays taxes imposed by the ---------------------------------------------------------------
national government. Is A correct?
---------------------------------------------------------------
No. It has been expressly affirmed by the Supreme a) Shifting of tax burden
Court that such an argument against double taxation ---------------------------------------------------------------
may not be invoked where one tax is imposed by the
state and the other is imposed by the city, it being Q: What is meant by “shifting the tax
widely recognized that there is nothing inherently burden”?
obnoxious in the requirement that license fees or
taxes be exacted with respect to the same Shifting of tax burden is the process by which the
occupation, calling or activity by both the state and burden of a tax is transferred from the statutory
the political subdivisions thereof. (CITY OF BAGUIO taxpayer or the one whom the tax was assessed or
VS. DE LEON [25 SCRA 938]) imposed to another without violating the law.

Q: A local government unit wishes to levy Q: What is the meaning of impact and
excise taxes on quarry resources found incidence of taxation?
within its jurisdiction. The national
government argues that it may not do so as Impact of taxation and incidence of taxation are two
such articles are already taxed by the NIRC. different concepts.
Decide.
Impact of taxation (liability) is the point on which a
The local government unit may levy a tax on quarry tax is originally imposed while incidence of taxation
resources extracted from public lands but not from (burden) is that point on which the tax burden finally
private lands. In PROVINCE OF BULACAN V. CA [299 rests or settles down.

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In the refund of indirect taxes, the statutory taxpayer


Q: Enumerate the ways of shifting the tax is the proper party who can claim the refund (SILKAIR
burden and define each. VS. CIR [FEBRUARY 25, 2010])

1. Forward shifting - When the burden of the As held in the case of EXXONMOBIL V. CIR [G.R. NO.
tax is transferred from a factor of production 180909, JANUARY 19, 2011], in the case of indirect
through the factors of distribution until it taxes, it is the manufacturer of the goods who is
finally settles on the ultimate purchaser or entitled to claim any refund thereof. Indirect taxes
consumer. paid by the manufacturers or producers of the goods
2. Backward shifting – When the burden of cannot be refunded to the purchasers of the goods
the tax is transferred from the consumer or because the purchasers are not the taxpayers.
purchaser through the factors of distribution CONTEX CORPORATION VS. CIR [433 SCRA 577]
2
to the factors of production.
3. Onward shifting – When the tax is shifted The liability for the payment of the indirect tax lies
two or more times either forward only with the seller of the goods or services, not in
3 the buyer thereof. In indirect taxes, when the seller
or backward.
passes on the tax to his buyer, he, in effect, shifts
Q: What taxes can be shifted? the burden, not the liability to pay it, to the purchaser
as part of the price of goods sold or rendered. CIR v.
Only indirect taxes may be shifted. PLDT [478 SCRA 61]

Q: How do you determine if a tax is direct or


DIAGEO PHILIPPINES V. CIR [G.R. NO. 183553,
indirect?
NOVEMBER 12, 2012]
Direct taxes are taxes wherein the impact or liability DOCTRINE: The claimant for the refund of excise taxes
for the payment of the tax as well as the incidence or related to exported products shall be the same person
burden of the tax falls on the same person. On the who paid the taxes.
other hand, indirect tax are taxes wherein the
impact or the tax liability for the payment of the tax FACTS: Diageo Philippines, Inc. purchased raw alcohol
falls on one person but the incidence or burden from its supplier for use in the manufacture of its beverage
thereof can be shifted or passed to another. and liquor products. The supplier imported the raw alcohol
and paid the related excise taxes thereon before the same
were sold to the petitioner. The purchase price for the raw
In CIR v. PLDT [478 SCRA 61]), the Supreme Court
alcohol included, among others, the excise taxes paid by
distinguished direct taxes from indirect taxes by the supplier. Subsequently, petitioner exported its locally
stating that direct taxes are those that are extracted manufactured liquor products and received the
from the very person who, it is intended or desired, corresponding foreign currency proceeds of such export
should pay them while indirect taxes are those that sales. Petitioner then filed applications for tax refund/
are demanded, in the first instance, from, or are paid issuance of tax credit certificates corresponding to the
by, one person in the expectation and intention that excise taxes which its supplier paid but passed on to it as
he can shift the burden to someone else. part of the purchase price of the subject raw alcohol
invoking Section130(D) of the Tax Code.
Q: In the refund of indirect taxes, who is the HELD: The Court ruled that “the right to claim a refund or
proper party to claim the said refund? be credited with the excise taxes belongs to its supplier.”
Any excise tax paid thereon shall be credited or refunded”
requires that the claimant be the same person who paid
_________________________________________ the excise tax.
2
As an example, the purchaser may shift the tax to the producer
by purchasing only when the price is reduced.
3
As an example, the producer/manufacturer may pass the tax
burden to the retailer/seller of the goods who in turn will pass the
tax burden to the purchaser.

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exempted from absorbing the burden of indirect


SILKAIR V. CIR [G.R. NO. 166482, JANUARY 25, taxation and it is the seller then that shall shoulder
2012] this burden. The tax exemption of the buyer cannot
be the basis of a claim for tax exemption of the
DOCTRINE: The proper party to question or seek a manufacturer (PHILIPPINE ACETYLENE V. CIR [20
refund of an indirect tax is the statutory taxpayer, the SCRA 1056])
person on whom the tax is imposed by law and who paid
the same even if he shifts the burden thereof to another. In PHILIPPINE ACETYLENE V. CIR [20 SCRA 1056],
Philippine Acetylene claimed an exception on the
FACTS: Petitioner filed an administrative claim for refund indirect taxes it paid for the oxygen and acetylene
on the excise taxes paid on the purchase of jet fuel from gases it sold to NPC. The Supreme Court ruled that
its supplier oil company for the period of July 1, 1998 to NPC is a tax-exempt entity and the said tax is due
December 31, 1998, which it alleged to have been from the manufacturer.
erroneously paid based on Section 135(a) and (b) of the
Tax Code of 1997. Due to inaction by respondent In CIR V. GOTAMCO [148 SCRA 36], at issue was
Commissioner, petitioner filed a Petition for Review with whether Gotamco & Sons should pay the
the Court of Tax Appeals. The CTA denied the petition contractor’s tax (an indirect tax) on gross receipts it
and ruled that while petitioner’s country indeed exempts
realized from the construction of the WHO building in
from excise taxes petroleum products sold to international
carriers, petitioner nevertheless failed to comply with the Manila. The Supreme Court ruled in the affirmative.
second requirement under Section 135 (a) of the 1997 Tax The Court opined that WHO, as a tax-exempt entity,
Code as it failed to prove that the jet fuel delivered by cannot be made liable for the indirect taxes.
Petron came from the latter’s bonded storage tank. Upon
the denial of the motion of reconsideration, petitioner In M ACEDA V. M ACARAIG [197 SCRA 771], the
elevated the case to the CA. The CA affirmed the denial Supreme Court ruled that the tax burden may not be
and ruled that petitioner is not the proper party to seek for shifted to the NPC, a tax-exempt entity, by the oil
the refund of the excise taxes paid. companies. As NPC is exempt from direct and
indirect taxation, it must be held exempted from
HELD: The Supreme Court held that excise taxes, which
apply to articles manufactured or produced in the absorbing the economic burden of taxation. Thus,
Philippines for domestic sale or consumption or for any the oil companies must absorb all or part of the
other disposition and to things imported into the economic burden of the taxes. Had not NPC been
Philippines, is basically an indirect tax. While the tax is exempt from indirect taxes, the oil companies could
directly levied upon the manufacturer/importer upon have shift the burden to NPC.
removal of the taxable goods from its place of production
or from the customs custody, the tax, in reality, is actually
passed on to the end consumer as part of the transfer CIR v. PILIPINAS SHELL [G.R. 188497, APRIL
value or selling price of the goods, sold, bartered or
exchanged. The proper party to question, or seek a refund 25, 2012]
of an indirect tax is the statutory taxpayer, the person on
whom the tax is imposed by law and who paid the same DOCTRINE: Oil companies are not exempt from the
even if he shifts the burden thereof to another. Petitioner, payment of excise tax on petroleum products
as the purchaser and end-consumer, ultimately bears the manufactured and sold by them to international carriers.
tax burden, but this does not transform its status into a
statutory taxpayer. FACTS: The taxpayer filed with the Large Taxpayers Audit
& Investigation Division II of the (BIR) the several formal
claims for refund or tax credit for various years. It filed
petitions for review since no action was taken by the BIR
on its claims. The CTA’s First Division ruled that the
Q: Can the seller claim an exemption on taxpayer is entitled to the refund of excise taxes in the
indirect taxes if it sold products to buyers reduced amount. It relied on a previous ruling rendered by
who, under the law, are tax-exempt entities? the CTA En Banc in a previous case involving the same
taxpayer, where the CTA also granted the taxpayer’s claim
No. The seller cannot claim an exemption or a for refund on the basis of excise tax exemption for
refund on the indirect taxes it paid for those goods petroleum products sold to international carriers of foreign
registry for their use or consumption outside the
sold or services rendered to an entity exempt from
Philippines. On appeal, the CTA En Banc upheld the ruling
indirect taxes. As a tax-exempt entity, the buyer is

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of the First Division.


Citing its ruling in Philippine Acetylene, it held that a tax
HELD: The Supreme Court held that both the earlier exemption being enjoyed by the buyer cannot be the basis
amendment in the 1977 Tax Code and the present Sec. of a claim for tax exemption by the manufacturer or seller
135 of the 1997 NIRC did not exempt the oil companies of the goods for any tax due to it as the manufacturer or
from the payment of excise tax on petroleum products seller. The excise tax imposed on petroleum products
manufactured and sold by them to international carriers. under Sec. 148 is the direct liability of the manufacturer
who cannot thus invoke the excise tax exemption granted
Because an excise tax is a tax on the manufacturer and to its buyers who are international carriers.
not on the purchaser, and there being no express grant
under the NIRC of exemption from payment of excise tax
to local manufacturers of petroleum products sold to
Q: Distinguish indirect taxes from
international carriers, and absent any provision in the
Code authorizing the refund or crediting of such excise withholding taxes.
taxes paid, the Court holds that Sec. 135 (a) should be
construed as prohibiting the shifting of the burden of the See case digest below.
excise tax to the international carriers who buys petroleum
products from the local manufacturers. Said provision thus
merely allows the international carriers to purchase ASIA INTERNATIONAL AUCTIONEERS V. CIR [G.R.
petroleum products without the excise tax component as
an added cost in the price fixed by the manufacturers or
179115, SEPT. 26, 2012]
distributors/sellers. Consequently, the oil companies which
DOCTRINE: See held.
sold such petroleum products to international carriers are
not entitled to a refund of excise taxes previously paid on
FACTS: Asia International Auctioneers (AIA) received an
the goods.
assessment from the BIR for deficiency VAT. AIA availed
of the tax amnesty program under RA 9480. The BIR
The Supreme Court pointed out that the taxpayer’s failure
contends that AIA is disqualified under RA 9480 which,
to make a distinction on the exemption under Sections 134
among others, enumerates withholding agents as persons
and 135 of the Tax Code, apparently led it to mistakenly
to whom the tax amnesty shall not extend to. The BIR
assume that the tax exemption under Sec. 135 (a)
argues that AIA is a withholding agent.
“attaches to the goods themselves” such that the excise
tax should not have been paid in the first place. The
HELD: AIA is not a withholding agent. Indirect taxes, like
exemption found in Sec. 134 makes reference to the
VAT and excise tax, are different from withholding taxes.
nature and quality of the goods manufactured (domestic
To distinguish, in indirect taxes, the incidence of taxation
denatured alcohol) without regard to the tax status of the
falls on one person but the burden thereof can be shifted
buyer of the said goods while Sec. 135 deals with the tax
or passed on to another person, such as when the tax is
treatment of a specified article (petroleum products) in
imposed upon goods before reaching the consumer who
relation to its buyer or consumer.
ultimately pays for it. On the other hand, in case of
withholding taxes, the incidence and burden of taxation fall
Further, it held that Sec. 135 (a) in relation to the other
on the same entity, the statutory taxpayer. The burden of
provisions on excise tax and from the nature of indirect
taxation is not shifted to the withholding agent who merely
taxation, may only be construed as prohibiting the
collects, by withholding, the tax due from income
manufacturers-sellers of petroleum products from passing
payments to entities arising from certain transactions and
on the tax to international carriers by incorporating
remits the same to the government. Due to this
previously paid excise taxes into the selling price. In other
difference, the deficiency VAT cannot be “deemed” as
words, the taxpayer cannot shift the tax burden to
withholding taxes merely because they constitute indirect
international carriers who are allowed to purchase its
taxes. Moreover, records in this case support the
petroleum products without having to pay the added cost
conclusion that AIA was assessed not as a withholding
of the excise tax.
agent but, as the one directly liable for the said deficiency
taxes.
Furthermore, considering that the excise taxes attaches to
petroleum products “as soon as they are in existence as
such,” there can be no outright exemption from the
payment of excise tax on petroleum products sold to
international carriers. The sole basis then of the taxpayer’s
claim for refund is the express grant of excise tax
exemption in favor of international carriers under Sec.
135(a) for their purchases of locally manufactured
petroleum products.

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--------------------------------------------------------------- This is only a case of tax avoidance. In DELPHER


b) Tax Avoidance TRADES CORPORATION V. INTERMEDIATE APPELLATE
c) Tax Evasion COURT [157 SCRA 349], the Supreme Court opined
--------------------------------------------------------------- that there was nothing wrong or objectionable about
the "estate planning" scheme resorted to by the
taxpayers. The legal right of a taxpayer to decrease
Q: What is the difference between tax
the amount of what otherwise could be his taxes or
avoidance and tax evasion? altogether avoid them, by means which the law
permits, cannot be doubted. In the said case, the
Tax avoidance and tax evasion are the two most taxpayers acquired 2,500 original unissued no par
common ways used by taxpayers in escaping from value shares of stocks of the corporation in
taxation. Tax avoidance is the tax saving device exchange for their properties. By virtue of this
within the means sanctioned by law. This method exchange, the taxpayers became stockholders of
should be used by the taxpayer in good faith and at the corporation by subscription. In effect, they
arms length. Tax evasion, on the other hand, is a changed the nature of their ownership from
scheme used outside of those lawful means and unincorporated to incorporated form by organizing
when availed of, it usually subjects the taxpayer to the corporation to take control of properties and at
further or additional civil or criminal liabilities. the same save on inheritance taxes.
4

Note: An example of tax avoidance is when a taxpayer


avails of deductions allowed by law. Q: ABC corporation sold its building to A,
who in turn, sold during the same day the
Q: What is the “substance over form” same property to XYZ Corporation. Is the
doctrine? scheme designed to avoid taxes or evade
taxes?
The doctrine provides that taxability is determined by
the reality of the transaction rather than the This is a case of tax evasion. In CIR VS. THE ESTATE
appearance which may be contrived. OF BENIGNO TODA, JR. [483 SCRA 293], the
Supreme Court held that the three factors in tax
Q: What are the three factors to be evasion were present. The two transfers were
tainted with fraud since the intermediary transfer
considered in determining if a scheme is
(from the corporation to a natural person) was
designed to evade taxes? prompted only by the desire to mitigate tax liabilities
and not for any business purpose.
The three factors to be considered are:

1. The end to be achieved (which is payment of Q: ABC Corporation owns the ABC building.
less taxes than that known by the taxpayer to be It sold the said building to A, a close
legally due or non-payment of a tax when it is business associate of ABC Corporation, on
shown that a tax is due); 30 August 1989. After a week, A sold the
2. An evil or deliberate state of mind; and same to XYZ Corporation. Is the scheme
3. A course of action which is unlawful. designed to avoid taxes or evade taxes?

Q: Husband and wife own a lot of real This is a case of tax evasion. The scheme sought to
estate. Upon advice of their lawyer, they make it appear that there were two sales of the
decided to organize a corporation to take
control of their properties. The husband and _________________________________________
wife were issued 2,500 original unissued no 4
If the properties were to be held by the spouses in the case, it
par value shares of stock in exchange for would be tied to the succession proceedings and the
their properties. Is the scheme designed to consequential payment of estate taxes when the owner dies. On
the other hand, a corporation does not die and can hold the
avoid taxes or evade taxes? property for a period of at least 50 years.

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subject properties. It is obvious that the objective of 1. Where the President exercises his power
the sale to Z was to reduce the amount of tax to be under the flexible tariff clause to remove
paid especially that the transfer from Z to XYZ would existing protective tariff rates (see Section
then be subject to only 6% capital gains tax, and not 28(2), Article VI, 1987 Constitution)
the 30% corporate income tax. The intermediary 2. The local government may grant exemptions
transaction which was prompted more on the from the payment of local taxes without
mitigation of tax liabilities than for legitimate congressional approval consequent to its
business purpose constitutes one of tax evasion power to levy taxes, fees and other charges.
(CIR v. CA [327 Phil. 1]). (see Section 5, Article X, 1987
Constitution)
--------------------------------------------------------------- 3. Where the President enters into and ratify a
5. Exemption from taxation tax treaty granting certain exemptions
a) Meaning of exemption from taxation subject only to Senate occurrence.
b) Nature of tax exemption
Q: May tax exemptions exist by implication?
c) Kinds of tax exemption
d) Rationale/grounds for exemption No. In NDC v. CIR [151 SCRA 472], at issue was
e) Revocation of tax exemption whether the undertaking signed by the Secretary of
--------------------------------------------------------------- Finance in the promissory note can be considered
an exemption on taxes on the interest remitted. The
Note: Tax exemption of special entities under the Supreme Court ruled in the negative and opined that
Constitution shall be discussed under Chapter 1.I.2.a.(iv) tax exemptions cannot be merely implied but must
Prohibition against Taxation of religious, charitable entities
and educational entities, (v) Prohibition against taxation of
be categorically and unmistakably expressed.
non-stock, non-profit institutions, (xii) exemption from real
property taxes. ---------------------------------------------------------------
b) Nature of tax exemption
--------------------------------------------------------------- ---------------------------------------------------------------
a) Meaning of exemption from taxation
--------------------------------------------------------------- Q: What is the nature of tax exemptions?

Q: What is a tax exemption? Tax exemptions are:

A tax exemption is defined as a grant of immunity, 1. Mere personal privileges to the grantees;
express or implied, to particular persons or 2. Generally revocable by the government unless
corporations from the obligation to pay taxes. founded on contract which is protected by the
non-impairment clause;
Q: Who has the power to grant tax 3. Implies a waiver on the part of the Government
exemptions? of its right to collect what otherwise would be
due; and
Both the power to tax and to exempt certain persons 4. Not necessarily discriminatory so long as the
are vested in the legislature. In particular, ARTICLE exemption has a rational basis.
VI, SECTION 28 OF THE CONSTITUTION provides that
“No law granting any tax exemption shall be passed ---------------------------------------------------------------
without the concurrence of a majority of all the c) Kinds of tax exemptions
Members of the Congress.” ---------------------------------------------------------------
Q: Enumerate the instances where tax Q: What are the kinds of tax exemptions?
exemptions may be granted other than by
act of Congress: See table.

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Q: What is the rationale behind tax


As to source exemptions?
Constitutional Exemption originates from Tax exemptions are given because:
the Constitution
Statutory Emanating from legislation 1. Public interest will be served by the exemption
Contractual Based on contractual allowed; and
stipulation 2. Such public benefit or interest is sufficient to
Treaty Based on treaty provisions offset the monetary loss entailed in the grant of
Ordinance Based on an ordinance the exemption
exempting payment of local
government taxes. Q: What are the grounds of tax exemption?
As to manner of creation
Tax exemption may be based on:
Express Expressly granted by organic 1. Contract;
or statute law 2. Some ground of public policy; and
Implied Whenever particular persons, 3. Treaty created on grounds of reciprocity or to
properties, or excises are lessen the rigors of international double or
deemed exempt as they fall multiple taxation
outside the scope of the
taxing provision.
Q: Can be there be a tax exemption on the
ground of equity?
As to scope of extent
No. The Supreme Court held in DAVAO GULF V. CIR
Total When certain persons,
[293 SCRA 76], that there is no tax exemption solely
property or transactions are
on the ground of equity.
exempted from all taxes
Partial When certain persons,
---------------------------------------------------------------
property or transactions are
exempted from certain taxes e) Revocation of tax exemption
---------------------------------------------------------------
As to object
Q: May a tax exemption be revoked?
Personal Those granted directly in
favor of such persons as are Yes. Since taxation is the rule and exemption
within the contemplation of therefrom is the exception, the exemption may be
the law granting the withdrawn at the pleasure of the taxing authority.
exemption
Impersonal Those granted directly in Hence, in MCIAA V. M ARCOS [261 SCRA 667], the
favor of a certain class of Supreme Court noted that Section 234 of the the
property Local Government Code unequivocally withdrew
exemptions from payments of real property taxes
--------------------------------------------------------------- granted to natural or juridical persons, including
government-owned and control corporations. Since
d) Rationale/grounds for exemption
MCIAA is a GOCC, it follows that its exemption
--------------------------------------------------------------- granted under a charter prior to the LGC has been
withdrawn.
Note: The rationale for exemption and the grounds for
exemption are two different things. The rationale asks the
In SMART V. CITY OF DAVAO [565 SCRA 237], the
question why tax exemptions are given while the grounds
tell us why the State can provide tax exemptions. Supreme Court noted that the “in lieu of all taxes”
clause in its charter has become functus officio with

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the abolition of franchise tax on telecommunications amount equal or greater than the tax being collected
companies in accordance with the VAT law. (PHILEX MINING V. CIR [294 SCRA 687]).

in REPUBLIC V. CAGUIOA [536 SCRA 194] held that Taxes cannot be the subject of set-off because they
there is no vested right in a tax exemption and more are not in the nature of contracts between parties
so when the latest expression of legislative intent but grow out of a duty to, and, are positive acts, of
renders it continuance doubtful. In the said case, RA the Government, to the making and enforcing of
7227 granted private domestic corporations doing which, the personal consent of the taxpayer is not
business in the Subic SEZ tax exemptions on required (REPUBLIC V. M AMBULAO LUMBER [4 SCRA
importations of general merchandise. However, RA 622])
9334 withdrew the tax exemption on the
importations of cigars, cigarettes, distilled spirits, The erroneous payment of final withholding tax
fermented liquors and wines. cannot be used to offset or be treated as advance
tax payment, and cannot be used against the
In NITAFAN V. CIR [152 SCRA 284], the Supreme succeeding final withholding tax. COMMISSIONER OF
Court held that the salaries of members of the INTERNAL REVENUE VS. GOULDS PUMPS (PHILS.)
judiciary are subject to income tax as applied to all INCORPORATED, AUGUST 22, 2012
taxpayers. The payment of income tax by Justices
and Judges do not fall within the constitutional Note: In one case, DOMINGO V. GARLITOS [8 SCRA 443],
protection against decrease of their salaries during the Supreme Court allowed the set-off between taxes and
their continuance in office. debts. It opined that if the obligation to pay taxes and the
taxpayer’s claim against the government are both
overdue, demandable, as well as fully liquidated,
Q: Is there an exception to the above compensation takes place by operation of law and both
doctrine? obligations are extinguished to their concurrent amounts.
In the said case, the taxpayer who has been assessed
Yes. The exemption cannot be withdrawn if the municipal taxes was allowed to assign in favor of the
exception was granted to private parties based on municipality a final judgment obtained by him against the
material consideration of a mutual nature, which said municipality to cover the assessment. Atty.
then becomes contractual and thus covered by the Domondon reconciled the rulings of the Supreme Court in
non-impairment clause of the Constitution (MCIAA DOMINGO V. GARLITOS [8 SCRA 443] and FRANCIA V. IAC
[162 SCRA 753] by stating that in the former case, both
V. M ARCOS [261 SCRA 667]).
claims being overdue, demandable, and fully liquidated
while in the latter case, the claim against the government
--------------------------------------------------------------- was not overdue and demandable as it was already
6. Compensation and set-off settled. Atty. Domondon submits that when confronted
--------------------------------------------------------------- with a bar problem, we follow the doctrine laid down in
FRANCIA V. IAC [162 SCRA 753] unless the facts would
involve the (1) the application of the principle of solutio
Q: Can taxes be the subject of indebiti or (2) it involves local government taxes.
compensation between the government and
the taxpayer? Q: Is the civil concept of solutio indebiti
applicable to taxation?
No. As held in CALTEX VS. COA [208 SCRA 727],
taxes cannot be the subject of compensation Yes. In the case of FILINVEST DEVELOPMENT
because the government and taxpayer are not CORPORATION VS. CIR [529 SCRA 605], the Court
mutually creditors and debtors of each other. A claim held that in the field of taxation where the State
for taxes is not such a debt, demand, contract or exacts strict compliance upon its citizens, the State
judgment as is allowed to be set-off. (see FRANCIA V. must likewise deal with taxpayers with fairness and
IAC [162 SCRA 753]) honesty. Hence, under the principle of solutio
indebiti, the Government has to restore to petitioner
There can be no off-setting of taxes against the the sums representing erroneous payments of taxes.
claims that the taxpayer may have against the
government. A person cannot refuse to pay taxes on
the ground that the government owes him an

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Ateneo Law Batch 2013 Last Updated: 30 July 2013(v3)
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Latest Supreme Court and CTA Jurisprudence as of January 31, 2013)

Q: What is the doctrine of equitable


recoupment? Q: What is a tax condonation/remission?

The doctrine provides that where the refund of a tax The condonation of a tax liability is equivalent and
illegally or erroneously collected or overpaid by a is in the nature of a tax exemption. Hence, it is a
taxpayer is barred by prescription, a tax presently grant of immunity, express or implied, to particular
being assessed against a taxpayer may be persons or corporations from the obligation to pay
recouped or set-off against the tax whose refund is taxes.
now barred by prescription. This doctrine is
inapplicable in the Philippines in light of the lifeblood ---------------------------------------------------------------
theory. (UST V. COLLECTOR [104 PHIL. 1062] 9. Construction and interpretation of:
a) Tax Laws
--------------------------------------------------------------- b) Tax Exemption and exclusion
7. Compromise c) Tax Rules and Regulations
--------------------------------------------------------------- d) Penal Provisions of Tax Laws
e) Non-retroactive application to taxpayers
Q: Can taxes be the subject of a ---------------------------------------------------------------
compromise?

Yes. Compromises are allowed and enforceable Q: What are the sources of tax laws?
when the subject matter thereof is not prohibited
from being compromised and the person entering The sources of tax laws are:
into it is duly authorized to do so. In fact, under
SECTION 204 OF THE TAX CODE, payment of internal 1. Constitution;
revenue taxes may be compromised on the grounds 2. NIRC as amended – RA 9648;
of (1) doubtful validity of the assessment or (2) 3. Tariff and Custom Code as amended – RA
financial incapacity. 8181;
4. Local Government Code;
--------------------------------------------------------------- 5. Local Tax Ordinance/City/Municipal Tax Code;
6. Tax Treaties/International Agreements;
8. Tax Amnesty
7. Presidential Decree/ Executive Order;
--------------------------------------------------------------- 8. Decisions of SC/CTA/CA; and
9. Revenue Rules and Regulations, Rulings
Q: What is a tax amnesty? implemented by the BIR
A tax amnesty is a general pardon or intentional
Q: What is the nature of tax laws?
overlooking by the State of its authority to impose
penalties on persons otherwise guilty of evasion or
1. Not political in character
violation of a revenue or tax. REPUBLIC V. IAC [196
2. Civil in nature, not subject to ex post facto
SCRA 335]
law prohibition
3. Not penal in character
Q: Distinguish a tax amnesty from a tax 4. Not retroactive in its application
exemption.
Q: Do tax laws continue in force even during
Tax Amnesty Tax Exemption
a period of enemy occupation?
immunity from all immunity from civil
criminal, civil and liability only Yes. In HILADO V. CIR [100 SCRA 288], the Supreme
administrative liabilities Court held that internal revenue laws are not
arising from nonpayment political in nature and as such were continued in
of taxes force during the period of enemy occupation and in
applies only to past tax has prospective effect actually enforced by the occupation
periods application. government. Income tax returns filed during such

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Ateneo Law Batch 2013 Last Updated: 30 July 2013(v3)
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period and income tax payments effected are and determine the classification of the imported article
considered valid and legal. before tariff may be imposed. Unfortunately, CMO 23-
2007 has already classified the article even before the
customs officer had the chance to examine it. In effect,
Q: Do rules and regulations issued by petitioner Commissioner of Customs diminished the
administrative or executive officers powers granted by the Tariff and Customs Code with
(implementing tax laws) have the force and regard to wheat importation when it no longer required the
effect of law customs officer’s prior examination and assessment of the
proper classification of the wheat. It is well-settled that
rules and regulations, which are the product of a
Yes. Rules and regulations issued by administrative
delegated power to create new and additional legal
or executive officers pursuant to the procedure or provisions that have the effect of law, should be within the
authority granted by law upon the administrative scope of the statutory authority granted by the legislature
agency have the force and effect, or partake of the to the administrative agency. It is required that the
nature of a statute and are just as binding as if they regulation be germane to the objects and purposes of the
have been written in the statute itself. As such, they law; and that it be not in contradiction to, but in conformity
have the force and effect of law and enjoy the with, the standards prescribed by law.
presumption of constitutionality and legality until they
are set aside with finality in an appropriate case by a
competent court (ABAKADA GURO PARTY LIST VS. ---------------------------------------------------------------
PURISIMA [562 SCRA 251]) a) Tax laws
---------------------------------------------------------------
COMMISSIONER OF CUSTOMS V. HYPERMIX FEEDS Q: State the rule on construction or
[G.R. NO. 179579, FEBRUARY 1, 2012] interpretation of tax laws?
DOCTRINE: Rule and regulations, which are the product
of a delegated power to create new and additional legal As a general rule, there is no need for statutory
provisions that have effect of law, should be within the construction if the tax law is clear. Where the law is
scope of the statutory authority granted by the legislature clear and unambiguous, the law must be taken as it
to the administrative agency. is devoid of judicial addition or subtraction.

FACTS: As an exception, if there is an ambiguity in the law,


statutory construction is but proper and tax laws
Petitioner issued Customs Memorandum Order (CMO)
shall be liberally interpreted in favor of the taxpayer
No. 27-2003 prescribing guidelines, for tariff purposes, in
the applicable to importation of wheat. Respondent filed a and strictly against the taxing authority.
Petition for Declaratory Relief with the Regional Trial Court
(RTC) of Las Pinas City. Petitioner filed a Motion to Q: What is the rationale behind the liberal
Dismiss and alleged that the RTC did not have jurisdiction construction or interpretation of tax
over the subject matter of the case because respondent statutes?
was asking for a judicial determination of the classification
of wheat, thus, action for declaratory relief is improper.
As held in the case of PHILIPPINE HEALTH CARE
HELD: The Supreme Court held that the determination of PROVIDERS V. CIR [554 SCRA 411], tax statutes are
whether a specific rule or set of rules issued by an strictly construed against the taxing authority
administrative agency contravenes the law or the because taxation is a destructive power which
constitution is within the jurisdiction of the regular courts. interferes with the personal and property rights of
Indeed, the Constitution vests the power of judicial review the people and takes from them a portion of their
or the power to declare a law, treaty, international or property for the support of the government.
executive agreement, presidential decree, order,
instruction, ordinance, or regulation in the courts, including
the regional trial courts. This is within the scope of judicial
Q: Is the construction of a tax statute by
power, which includes the authority of the courts to predecessors binding on the successors?
determine the validity of the acts of the political
departments. Also, Section 1403 of the Tariff and customs No. The construction of a statute by predecessors is
law mandates that the customs officer must first assess not binding on their successors if thereafter the latter

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becomes satisfied that a different construction only an exemption from property taxes on the poles,
should be given. wires, and transformers.
---------------------------------------------------------------
b) Tax Exemption and exclusion Q: What is the “legislative grace” concept”?
---------------------------------------------------------------
The legislative grace concept provides that any tax
Q: How are tax exemptions construed and relief provided is the result of specific acts of
interpreted? Congress that must be applied and interpreted
strictly. In NDC V. CIR [151 SCRA 472], the
Tax exemptions should be strictly construed against Supreme Court ruled that the fact that the Secretary
the taxpayer. of Finance guaranteed the loans of the NDC cannot
be taken to mean that the payments of NDC to the
As held in the case of QUEZON CITY V. ABS-CBN Japanese creditors are exempt from withholding
[567 SCRA 495], statutes granting tax exemptions since the undertaking was not tantamount to a
are construed stricissimi juris against the taxpayer waiver of collection to taxes which must be express
and liberally in favor of the taxing authority. He who
claims an exemption from his share of common Q: Should the doctrine of strict
burden must justify his claim that the legislature interpretation of tax exemptions be applied
intended to exempt him by unmistakable terms. For first as a precondition to the application of
exemptions from taxation are not favored in law, nor the principle of tax exemption?
are they presumed.
Yes. Before applying the principles of tax exemption,
A tax exemption must be strictly construed against doctrine of strict interpretation must first be applied.
the one claiming the exemption because it is There must first be a determination who are covered
contrary to the lifeblood theory which is the by the tax statute before a determination of who are
underlying basis for taxes. exempted. In CIR V. CA & ADMU [271 SCRA 605],
the Supreme Court, before resolving the issue on
Taxation is the rule and exemption is the exception. whether the Institute of Philippine Culture (IPC) of
The burden of proof rests upon the party claiming the Ateneo De Manila University was an
the exemption to prove that it is in fact covered by independent contractor (and as such liable for
the exemption so claimed (CIR V. MITSUBISHI METAL contractor’s tax), noted that it is an error to apply the
[181 SCRA 215]). principle of tax exemption without first applying the
well-settled doctrine of strict interpretation in the
In LUZON STEVEDORING V. CTA [163 SCRA 647], in imposition of taxes. The Supreme Court found that
resolving the issue on whether “tugboats” are the IPC never sold its services for a fee to anyone or
embraced and included in the term “cargo vessel,” was ever engaged in a business apart from or
the Supreme Court ruled in the negative. Any claim independently from the academic purposes of the
for exemption from the tax statute should be strictly Ateneo. Thus, it is not an independent contractor.
construed against the taxpayer. Thus, tugboats
cannot be considered cargo vessels as they are not Q: What are the reasons for strictissimi juris
meant to carry and transport persons or goods by interpretation of tax laws?
themselves but are mainly for towing.
1. Lifeblood theory
In MERALCO V. VERA [67 SCRA 352], the issue to be 2. To minimize differential treatment and foster
resolved was whether MERALCO was exempt from impartiality, fairness and equality of
excise tax on its poles, wires, and transformers. The treatment among taxpayers
Supreme Court held that the “in lieu of all taxes” 3. Taxation is a high prerogative of sovereignty
provision is limited in scope to taxes “upon the whose relinquishment is never presumed
privileges, earnings, income, franchise and poles,
wires, transformers, and insulators of the grantee.”
Construing this provision strictly against MERALCO,
the Supreme Court held that the provision covers

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Q: What the exceptions to the strictissimi Q: How are tax condonations construed?
juris interpretation of tax laws?
As held in SURIGAO CONSOLIDATED MINING VS. CIR [9
1. When the statute granting exemption SCRA 728], being in the nature of tax exemptions, it
provides for liberal construction thereof should be sustained only when expressed in explicit
2. In case of special taxes relating to special terms, and it cannot be extended beyond the plain
cases and affecting only special classes of meaning of those terms. Hence, it must construed
persons strictly against the grantee and liberally in favor of
3. If exemption refer to the public property the taxing authority.
4. In cases of exemptions granted to charitable
and educational institutions or their property ---------------------------------------------------------------
5. In cases of exemptions in favor of a c) Tax rules and regulations
government political subdivision or ---------------------------------------------------------------
instrumentality
Q: How are tax rules and regulations
Q: Is the rule of strict construction to tax construed?
exemptions applicable to government
political subdivisions and instrumentalities? As they have the force and effect of law, tax rules
and regulations are construed strictly against the
No. As held in the case of M ACEDA V. M ACARAIG [197 government and liberally in favor of the taxpayer.
SCRA 771], it is a recognized principle that the rule ---------------------------------------------------------------
on strict interpretation does not apply in the case of d) Penal provisions of tax laws
exemptions in favor of a government political ---------------------------------------------------------------
subdivision or instrumentality.
Q: How are penal provisions of tax laws
Q: Why is the rule of strict construction to
construed?
tax exemptions inapplicable to government
political subdivisions and instrumentalities? Penal provisions of tax laws are strictly construed
against the State and liberally in favor of the
The reason for the rule does not apply in the case of taxpayer.
exemptions running to the benefit of the government
itself or its agencies. In such case the practical effect
---------------------------------------------------------------
of an exemption is merely to reduce the amount of
money that has to be handled by government in the e) Non-retroactive application to taxpayers
course of its operations. For these reasons, ---------------------------------------------------------------
provisions granting exemptions to government
agencies may be construed liberally, in favor of non Q: Can BIR issuances be applied
tax liability of such agencies. (M ACEDA V. M ACARAIG retroactively?
[197 SCRA 771])
Yes. BIR issuances may be applied retroactively if
Q: How are tax amnesties construed? its application will not be prejudicial to the taxpayer.
(see Section 246, NIRC)
As held in the case of CIR V. M ARUBENI
CORPORATION [204 SCRA 377], a tax amnesty, Q: When will BIR issuances be not given
much like a tax exemption, is never favored nor retroactive application?
presumed in law. If granted, the terms of the
amnesty, like that of a tax exemption, must be As provided in SECTION 246 OF THE NIRC, rulings
construed strictly against the taxpayer and liberally and circulars, rules and regulations promulgated by
in favor of the taxing authority. the CIR would have no retroactive application if to
so apply them would be prejudicial to the
taxpayers

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In CIR V. CA [267 SCRA 557], the taxpayer relied Q: Is the failure of a taxpayer to consult the
and implemented a computation by virtue of a BIR BIR before relying on a BIR Ruling imply
Ruling. The said issuance was later reversed in a bad faith on the part of the former?
subsequent BIR Ruling. The Supreme Court held
that the later BIR ruling cannot be given retroactive No. In CIR V. CA [267 SCRA 557], the Supreme
application as such would be prejudicial to the Court in resolving the argument that failure to
taxpayer. The same doctrine was applied in the case consult with the BIR amounted to bad faith opined
of ABS-CBN V. CTA [108 SCRA 143] with regard to that such failure does not imply bad faith especially
its reliance on a Memorandum Circular on the when the BIR Ruling relied upon was clear and
withholding of taxes on film rentals which was categorical leaving no room for interpretation.
revoked by a subsequent memorandum circular.
---------------------------------------------------------------
Q: When can BIR issuances be given I. Scope and Limitation of Taxation
retroactive application even if such would 1. Inherent Limitations
be prejudicial to taxpayers? 2. Constitutional Limitations
SECTION 246 OF THE NIRC provides for the following ---------------------------------------------------------------
exceptions:
Q: What is the scope of the legislature’s
1. Where the taxpayer deliberately misstates or taxing power?
omits material facts from his return or any
document required of him by the BIR; The legislative taxing power or discretion extends to
2. Where the facts subsequently gathered by the the following:
BIR are materially different from the facts on
which the ruling is based; or 1. nature (kind of tax to be collected);
3. Where the taxpayer acted in bad faith. 2. object (purpose for which the tax shall be
levied);
Jurisprudence also provides for another exception. 3. extent (amount or rate of tax to be collected);
In PBCOM V. CIR [302 SCRA 241], The Supreme 4. coverage (the persons, property or occupation to
Court opined that the non-retroactivity of rulings by be taxed);
the CIR is inapplicable where the nullity of the 5. apportionment of the tax (general or limited to a
issuance was declared by the Courts and not by the particular locality or partly general or partly
CIR. local);
6. method of collection; and
In BIR RULING NO. 370-2011 [OCTOBER 7, 2011] the 7. situs (place) of taxation.
issue was whether RCBC is liable to pay the final
withholding tax on interest income realized from the ---------------------------------------------------------------
5
purchase of PEAce Bonds. Relying upon previous 1. Inherent Limitations
BIR Rulings in 2001, RCBC paid no final tax upon a) Public purpose
the issuance of the bonds. However, the rulings b) Inherently legislative
were all reversed by a BIR Ruling in 2004. RCBC c) Territorial
invoked the non-retroactivity principle of BIR d) International comity
Rulings. The Supreme Court in resolving this matter e) Exemption of government entities,
stated that the non-retroactivity principle does not
agencies, and instrumentalities
apply when the ruling involved is null and void for
being contrary to the law, such as the previous ---------------------------------------------------------------
rulings on the PEACe bonds.
What are the inherent limitations on the
power to tax?
_________________________________________
5 The inherent limitations are those limitations which
Poverty Eradication and Alleviation Certificate (PEAce) Bond
exist despite the absence of an express
constitutional provision thereon.

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Ateneo Law Batch 2013 Last Updated: 30 July 2013(v3)
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rampant film piracy and flagrant violation of


The inherent limitations are: intellectual property rights.

1. Public purpose – the revenues collected from ---------------------------------------------------------------


taxation should be devoted to a public purpose. b) Inherently legislative
2. Inherently legislative or non-delegability of (i) General Rule
the taxing power – Only the legislature can (ii) Exceptions
exercise the power of taxes unless the same is (a) Delegation to local governments
delegated by the constitution or through a law
(b) Delegation to the President
which does not violate the constitution
3. Territoriality or situs of taxation – the taxing (c) Delegation to administrative agencies
power should be exercised only within the ---------------------------------------------------------------
territorial jurisdiction of the taxing authority
4. Principle of Comity – Comity is respect Q: Is the power to tax delegable?
accorded by nation to each others as co-equals.
As taxation is an act of sovereignty, such power As a general rule, the power to tax is purely
should be imposed upon equals out of respect. legislative and it cannot be delegated.
5. Tax exemption of the State
As exceptions, delegation is allowed in the
Note: The inherent limitations on the power of taxation is following cases:
also known as the elements, tenets or characteristics of
taxation. a. Delegation of tariff powers to the President
--------------------------------------------------------------- under the flexible tariff clause. (see Sec. 28(2),
a) Public purpose Article 6, 1987 Constitution)
---------------------------------------------------------------
b. When the delegation relates merely to
6
Q: What is meant by “public purpose” as an administrative implementation (see M ACEDA VS.
inherent limitation on the power to tax? M ACARAIG [197 SCRA 771])

The right of taxation can only be used in aid of a c. Delegation of emergency powers to the
public purpose. In PASCUAL V. SECRETARY OF PUBLIC President (see Section 23(2), Article VI, 1987
WORKS [110 SCRA 331], the Supreme Court Constitution)
explained that the right of the legislature to
appropriate public funds is correlative with its right to d. Delegation to the President to enter into
tax and as such the power of taxation may only be executive agreements and to ratify tax treaties
exercised for public purposes. In that case, the subject to the concurrence by the Senate
appropriation of public funds for the construction of
feeder roads on land owned by a private person is e. Delegation to the people at large
invalid for being made for other than a public
purpose. Q: Do local governments have the power to
tax?
The rule can also be seen in PEPSI COLA V.
MUNICIPALITY OF TANUAN [69 SCRA 460] where the Yes. The power to tax is no longer vested
Supreme Court held that one of the requisites for the exclusively on Congress. The local governments are
valid exercise of the power of tax is that the tax must now given direct authority to levy taxes, fees and
be for a public purpose. other charges pursuant to Section 5, Article X, of the

In TIO VS. VIDEOGRAM REGULATORY BOARD [151


SCRA 208], the Supreme Court held that the levy of _________________________________________
30% tax on videogram operators is for a public 6
The delegation to be valid must comply with the completeness
purpose. It was imposed primarily to answer the test and the existence of sufficiently determinate standards test.
need for regulating the video industry, particularly

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1987 Constitution. NAPOCOR V. CITY OF A, who sold a parcel of land which he


CABANATUAN [G.R. NO. 149110, APRIL 9, 2003]. inherited, refused to pay and argued that
such tax can only be collected by the
Note: Previously, the power of taxation is National Government. On the other hand,
exclusively with the Legislature and that such is the Municipality argues that under the
merely delegated to local governments in respect of
Constitution, it has the power to create its
matters of local concern. PEPSI COLA V.
MUNICIPALITY OF TANUAN [69 SCRA 460]. Now, there own sources of revenue. Resolve the
is a direct grant of taxing power by the Constitution controversy.
to the local governments. Thus, the reference of the
2013 Bar Syllabus as delegation to local None of them is correct. In fact, the ordinance is
governments as an exception to the general rule that void. Under the Local Government Code, only
the power of taxation is inherently legislative is provinces and cities can impose a tax on the transfer
inaccurate. of ownership of real property. Municipalities are
prohibited from imposing said tax that provinces are
Q: Does the direct grant of taxing power to specifically authorized to levy.
the local governments mean that the
---------------------------------------------------------------
legislature may no longer provide
c) Territorial
limitations and guidelines to such power?
(i) Situs of Taxation
No. While the power to tax may be exercised by ---------------------------------------------------------------
local governments, no longer merely by virtue of a .
valid delegation as before, but pursuant to direct Q: Explain the territoriality rule as a
authority conferred by the Constitution, the basic limitation on the power of taxation.
doctrine on local taxation remains the same in that
the power to tax is primarily vested in Congress. However broad the power of taxation may be as to
QUEZON CITY V. ABS-CBN [G.R. NO. 166408, its character and no matter how searching it is in its
OCTOBER 6, 2008] extent, such power is necessarily limited only to
persons, property or businesses within its
It must be noted, further, that the power is not jurisdiction.
inherent in the local government unlike in the
national government. M ANILA ELECTRIC COMPANY VS. Thus, in ILOILO BOTTLERS INC. VS. CITY OF ILOILO
PROVINCE OF LAGUNA [306 SCRA 750]. A municipal [164 SCRA 607], the Supreme Court, on the issue of
corporation has no inherent right to impose taxes. Its whether a bottling company which sells soft drinks in
power to tax must always yield to a legislative act Iloilo City but operates its bottling plant in another is
which is superior having been passed by the state liable for the excise tax imposed by said City on the
itself which has the inherent power to tax. (see distribution, manufacture and bottling of soft drinks,
BASCO VS. PAGCOR [197 SCRA 52]) held that since truck sales were made in the City,
the acts or privileges of the company is within its
Q: May Congress abolish the power to tax of jurisdiction.
local governments?
In CIR V. M ARUBENI [204 SCRA 377], what was
7
No, Congress cannot abolish what is expressly involved was a contract on a turn-key basis which
granted by the fundamental law. The only authority the CIR sought to tax as an indivisible contract. The
conferred to Congress is to provide the guidelines Supreme Court held that the contract actually
and limitations on the local government’s exercise of involved two taxing jurisdictions. While the
the power to tax. _________________________________________
7
Q: The Municipality of XYZ passed an In a turn key contract, the contractor is entrusted to design,
construct, commission and handover the project to the employer
ordinance imposing a tax on the sale or in a completed state.
transfer of real property (local transfer tax).

PIERRE MARTIN DE LEON REYES Page 27 of 158


Ateneo Law Batch 2013 Last Updated: 30 July 2013(v3)
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Latest Supreme Court and CTA Jurisprudence as of January 31, 2013)

construction and installation work were completed in Due to the variance in the concept of “domicile” for
the Philippines, some pieces of equipment and tax purposes and considering the multiple
supplies were completely designed and engineered relationships that may arise with respect to
in Japan. These services made and completed in intangible property and the use to which the property
Japan are not subject to contractor’s tax as they are may have been devoted, all of which may receive
rendered outside the taxing jurisdiction of the the protection of the laws of jurisdiction other than
Philippines. the domicile of the owner thereto, the same income
or intangible property may be subject to taxation in
In REAGAN V. CIR [30 SCRA 968], the Supreme several taxing jurisdictions.
Court held that bases under lease to the US under
the Military Bases Agreement remain part of Q: How do we address multiplicity of situs
Philippine territory. It is not foreign territory for of taxation?
purposes of income tax legislation. The power to tax
has been preserved except for those matters where
an appropriate exemption was provided for. The taxing jurisdiction may:

1. provide for exemptions or allowance of


Q: What are the exceptions to the deduction or tax credit for foreign taxes; and/or
territoriality rule? 2. enter into tax treaties with other States.

1. Where tax laws operate outside territorial ---------------------------------------------------------------


jurisdiction (i.e. taxation of resident citizens (b) Situs of Income tax
on their incomes derived from abroad)
(1) From sources within the Philippines
2. Where tax laws do not operate within the
territorial jurisdiction of the state (i.e. when (2) From sources without the Philippines
exempted by treaty obligations and when (3) Income partly within and partly without
exempted by international comity.) the Philippines
---------------------------------------------------------------
---------------------------------------------------------------
(i) Situs of Taxation Q: What is the situs of taxation of income?
(a) Meaning
(b) Situs of Income tax 1. From sources within the Philippines: all
(c) Situs of property taxes kinds of taxpayers are subject to income tax
on income derived from sources within the
(d) Situs of excise taxes
Philippines.
(e) Situs of business tax 2. From sources without the Philippines:
--------------------------------------------------------------- only Resident Citizens and Domestic
Corporations are liable to income tax on
Q: Define “situs of taxation.” income derived from sources without the
The situs of taxation is the place or authority that Philippines
has the right to impose and collect taxes. 3. Income partly within and partly without
the Philippines: Taxable income
Q: What are the basis or determinants of the attributable to sources within the Philippines
situs of taxation? may be determined by processes or
formulas of general apportionment
1. The symbiotic relationship prescribed by the Secretary of Finance.
2. Jurisdiction, state or political unit that gives
protection has the right to demand support Note: The general principles of income taxation under
Section 23 of the Tax Code is also known as the situs of
income taxation.
Q: What is the effect of multiplicity of situs
of taxation?

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--------------------------------------------------------------- occupation is being conducted. This is so because


(c) Situs of property taxes that is the place which gives protection to the
(1) Taxes on real property business or occupation.
(2) Taxes on personal property
Q: What is the situs of estate and donor’s
---------------------------------------------------------------
taxes?
Q: What is the situs of taxes on real
property? Same rule applies to both.

For citizens, whether resident or non-resident,


The situs of taxes on real property is where the
and resident aliens: taxed on properties wherever
property is located (lex situs)
situated.
Q: What is the situs of taxes on personal For non-resident aliens: taxed on properties
property? situated in the Philippines.
If the personal property is tangible: where the ---------------------------------------------------------------
property is physically located although the owner (e) Situs of business taxes
resides in another jurisdiction
---------------------------------------------------------------
If the personal property is intangible: As a
Q: What is the situs of sales of real
general rule, the situs is the domicile of the owner
(mobilia sequuntur personam). The exceptions are property?
as follows:
The situs of sales of real property is where the real
1. where the intangible personal property has property is located
acquired a business situs in another
8
jurisdiction. Q: What is the situs of sales of personal
2. When the law provides for the situs of the property?
subject of the tax
--------------------------------------------------------------- The situs of sales of personal property is the place
(d) Situs of excise taxes where the sales are perfected and consummated
(1) Estate Tax
(2) Donor’s Tax
--------------------------------------------------------------- Q: What is the situs of VAT?

Note: Instead of “Situs of Excise taxes,” this should have The situs of VAT is the place where the transaction
been properly referred to as “Situs of transfer taxes.” is made. It is either where the property is sold and
While transfer taxes are considered “excise taxes,” note consumed or where the service is to be performed.
that VAT was placed under “Situs of Business taxes” when
in fact it is also an excise tax.
---------------------------------------------------------------
Q: What is the situs of excise taxes? d) International Comity
---------------------------------------------------------------
The situs of excise taxes is where the transaction
was performed. It is the place where the business or Q: Explain the principle of comity as a
_________________________________________ limitation on the power of taxation.
8
As an example, the tax imposed on gains from sale of shares of The property or income of a foreign state or
stock of a domestic corporation are treated as derived entirely government may not be the subject of taxation by
from sources within the Philippines regardless of where the said another.
shares are sold.

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Ateneo Law Batch 2013 Last Updated: 30 July 2013(v3)
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Latest Supreme Court and CTA Jurisprudence as of January 31, 2013)

As held in TANADA V. ANGARA [272 SCRA 18], by


their voluntary act, nations may surrender some Q: Can local governments tax the national
aspects of their state power in exchange for greater government, its agencies, and
benefits granted or derived from a convention of instrumentalities?
pact. The underlying consideration in this partial
surrender of sovereignty is the reciprocal No. In MIAA v. CA [495 SCRA 591], the Supreme
commitment of the other contracting states in Court, in resolving the issue on whether the lands
granting the same privilege and immunities to the and buildings owned by the Manila International
Philippines, its officials and its citizens. The point is Airport Authority were subject to real property tax,
that a portion of sovereignty may be waived without ruled in the negative. The Supreme Court opined
violating the Constitution, based on the rationale that that since MIAA is not a GOCC but instead as
the Philippines "adopts the generally accepted government instrumentality vested with corporate
principles of international law as part of the law of powers or a government corporate entity, it is
the land and adheres to the policy of . . . cooperation exempt from real property tax. By express provision
and amity with all nations." of the Local Government Code, local governments
cannot levy taxes, fees or charges of any kind on the
Note that the principle of comity entails an exchange National Government, its agencies and
in benefits. Thus, in SEA-LAND SERVICE V. CA [357 instrumentalities.
SCRA 441], the Supreme Court ruled that the
hauling and transport of household goods and Furthermore, the said lands and buildings are
personal effects of U.S. military personnel were not property of the public dominion and therefore owned
tax exempt under the RP-US Military Bases by the State. They are devoted to public use. Thus,
Agreement as they do not directly contribute to the they cannot be auctioned as they are outside the
defense and security of the Philippines. commerce of man. However, the portions of the
property leased to private entities are subject to real
In CIR V. MITSUBISHI METAL CORP [181 SCRA 214], property tax.
the Supreme Court held that scrupulous care must
be taken when international comity is invoked on the ---------------------------------------------------------------
representation that funds involved in the loans are 2. Constitutional Limitations
those of a foreign government as we should avoid
a) Provisions directly affecting taxation
opening the floodgates to the violation of our tax
laws. ---------------------------------------------------------------
Q: What are the constitutional provisions
---------------------------------------------------------------
directly affecting taxation?
e) Exemption of government entities,
agencies, and instrumentalities The direct constitutional provisions on taxation are:
---------------------------------------------------------------
1. Non-imprisonment for non-payment of poll-
Q: Is the State subject to tax? tax (Article III, Sec. 20)
2. Uniformity, equitability and progressivity of
Generally, the State may not be subject to taxation. taxation (Article VI, Section 28, par. 1).
However, while this may be so, sovereignty being 3. Grant by Congress of authority to the
absolute and taxation being an act of high President to fix tariff rates, import and export
sovereignty, the State may tax itself including its quotas, etc (Article VI, Section 28, par. 2)
political subdivisions. 4. Tax exemption of properties actually,
directly, and exclusively used for religious,
Q: Are GOCCs subject to local government charitable and educational purposes (Article
taxes? VI, Section 28, par. 3)
5. Exemption from taxes of the revenues and
Yes. Exemptions of GOCCs from local government assets of educational institutions including
taxes have been withdrawn by the the Local grants, endowments, donations or
Government Code

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Ateneo Law Batch 2013 Last Updated: 30 July 2013(v3)
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Latest Supreme Court and CTA Jurisprudence as of January 31, 2013)

contributions. (Article XVI, Section 4, par. Q: What is meant by “equitable”?


3)
6. President’s veto power on appropriation, Equitable means fair, just, reasonable and
revenue, tariff bills (Article VI, Section 27, proportionate to one’s ability to pay.
par. 2)
7. Non-impairment of the Supreme Court’s In ABAKADA GURO PARTY-LIST V. ERMITA [469 SCRA
jurisdiction in tax cases (Article VIII, Sec. 5, 1], the Supreme Court ruled that the 12% VAT
par. 2(b)) imposition was equitable as it imposes safeguards
8. Power of local governments to create its and limits in the form of VAT exemption granted to
own sources of revenue and to levy taxes gross sales below P1.5 million.
subject to Congressional limitations (Article
X, Section 6) In KAPATIRAN V. TAN [163 SCRA 372], the Supreme
9
9. Voting requirement in connection with the Court held that EO 278 is equitable as it is imposed
legislative grant of tax exemption (Article VI, only on sales of goods or services by persons
Section 28, par. 4) engaged in a business with an aggregate gross
10. The provision which mandates that money annual sales exceeding P200,000 while small corner
collected on a tax levied for a public purpose sari-sari stores are consequently exempt as well as
shall be paid out for such purpose only sales of farm and marine products.
(Article VI, Section 29, par. 3)
Q: Should the system of taxation be always
--------------------------------------------------------------- progressive?
(i) Prohibition against imprisonment for non-
payment of poll tax No. The Supreme Court in TOLENTINO VS.
--------------------------------------------------------------- SECRETARY OF FINANCE [249 SCRA 628] explained
that what Congress is required by the Constitution to
do is only to "evolve a progressive system of
Article III.
taxation." This is a directive to Congress, just like the
Section 20. No person shall be imprisoned for debt or
non-payment of a poll tax. directive to it to give priority to the enactment of laws
for the enhancement of human dignity and the
reduction of social, economic and political
--------------------------------------------------------------- inequalities or for the promotion of the right to
(ii) Uniformity and equality of taxation "quality education." These provisions are put in the
--------------------------------------------------------------- Constitution as moral incentives to legislation, not as
judicially enforceable rights. Thus, even if the VAT is
regressive because it is an indirect tax, it is not
Article VI. prohibited by the Constitution.
Section 28.
1. The rule of taxation shall be uniform and ---------------------------------------------------------------
equitable. The Congress shall evolve a (iii) Grant by Congress of authority to the
progressive system of taxation.
President to impose tariff rates
(xi) Flexible tariff clause
---------------------------------------------------------------
Q: What is meant by “uniformity”?

Uniformity requires that all subjects or objects of Article VI.


taxation similarly situated are to be treated alike or Section 28.
put on equal footing both in privileges and liabilities
(SISON V. ANCHETA [130 SCRA 654]; see also CIR V. _________________________________________
LINGAYEN GULF [164 SCRA 27]) 9
EO 278 imposing a 10% VAT on the value added by every seller
with aggregate gross annual sales of articles and/ or services
exceeding P200,000 to his purchase of goods and services

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2. The Congress may, by law, authorize the 6. All lands, buildings, and improvements, actually,
President to fix within specified limits, and subject directly and exclusively used for religious,
to such limitations and restrictions as it may charitable or educational purposes.
impose, tariff rates, import and export quotas,
tonnage and wharfage dues, and other duties or
The exemption provided for under Article VI, Section
imposts within the framework of the national
development program of the Government. 28 pertains only to real property taxes (LLADOC V.
CIR [14 SCRA 292]).
---------------------------------------------------------------
Under Article XIV, Section 4(3), all revenues and
(iv) Prohibition against taxation or religious,
assets of non-stock, non-profit educational
charitable entities, and educational entities institutions used actually, directly, and exclusively for
(x) Exemption from real property taxes educational purposes shall be exempt from taxes
--------------------------------------------------------------- and duties.

Article VI. Q: What is meant by actual, direct, and


Section 28. exclusive use?
3. Charitable institutions, churches and personages
or convents appurtenant thereto, mosques, non- What is meant by actual, direct, and exclusive use of
profit cemeteries, and all lands, buildings, and the property for charitable institutions is the direct
improvements, actually, directly, and exclusively and immediate and actual application of the property
used for religious, charitable, or educational itself to the purpose for which the charitable
purposes shall be exempt from taxation.
institution is organized. LUNG CENTER OF THE
PHILIPPINES V. QUEZON CITY [433 SCRA 119]
--------------------------------------------------------------- Q: If a hospital also admits paying patients,
(v) Prohibition against taxation of non-stock, does it lose its character as a charitable
non-profit institutions institution?
---------------------------------------------------------------
No. In CIR V. BISHOP OF MISSIONARY DISTRICT [14
SCRA 991], the Supreme Court held that the
Article XIV.
admission of pay patients does not detract from the
Section 4.
3. All revenues and assets of non-stock, non-profit
charitable character of a hospital if its funds are
educational institutions used actually, directly, devoted exclusively to the maintenance of the
and exclusively for educational purposes shall be institution as a public charity (see also HERRERA V.
exempt from taxes and duties. Upon the QCBAA [3 SCRA 186])
dissolution or cessation of the corporate
existence of such institutions, their assets shall In LUNG CENTER OF THE PHILIPPINES V. QUEZON CITY
be disposed of in the manner provided by law [433 SCRA 119], the Supreme Court stated that, as
a general principle, a charitable institution does not
lose its character as such and its exemption from
Q: What are special entities that are granted
taxes simply because it derives income from paying
tax exemptions by the Constitution? patients , whether out-patient or confined in the
hospital or receives subsidies from the government,
Under Article VI, Section 28, the following are as long as the money received is devoted or used
exempt from real property taxes: altogether to the charitable object which it is
intended to achieve, and no money inures to the
1. Charitable institutions private benefit of the persons managing or operating
2. Churches the institution.
3. Parsonages or convents appurtenant thereto
4. Mosques Q: Does the phrase “actually, directly, and
5. Non-profit cemeteries; and exclusively used” mean that the exemption

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shall only cover property actually charged parking fees on the lots beside its
indispensable to the institution? building. Can the CIR tax YMCA for such
income?
No. As held in HERRERA V. QCBAA [3 SCRA 186],
the exemption in favor of property used exclusively Yes. In CIR V. CA [298 SCRA 83], the Supreme
for charitable or educational purposes is not limited Court ruled that the income from the lease and
to property actually indispensable but extends to parking fees were not exempt. The last paragraph of
facilities which are incidental to or reasonably Section 27 of the NIRC clearly provides that profits
necessary for the accomplishment of its purposes. realized by exempt organizations (non-profit clubs)
from real property from whatever source and
Q: A hospital has a school for training wherever used are taxable. The Court noted that
nurses and midwifes. Substantial profit is while YMCA is exempt from real property taxes, it is
derived from the operation of the said not exempt from income tax on the rentals from its
school. Is the school exempt from taxes? property. Further, YMCA failed to prove that it was a
non-stock, non-profit educational institution under
As to the “lands, buildings, and improvements,” such Article XIV, Section 4(3) of the Constitution.
is beyond the taxing power of the State irrespective
of the substantial profits as “all lands, buildings and Q: The Philippine Lung Center leased
improvements used exclusively for religious, portions of its real property out for
charitable or educational purposes” are exempt from commercial purposes. Are these exempt
real property taxes. The school is a facility incidental from real property taxes?
or reasonably necessary for the accomplishment of
the purposes of the hospital as the students practice No. In LUNG CENTER OF THE PHILIPPINES V. QUEZON
therein. (see HERRERA V. QCBAA [3 SCRA 186]) CITY [433 SCRA 119], the Supreme Court held that
the hospital was not exempt from real property tax
As to the profits, it will be exempt from taxes if it on the portions of its property not actually, directly,
proves that it is within the coverage of Article XIV, and exclusively used for charitable purposes. Thus,
Section 4(3) which exempts all revenues and assets those leased out for commercial purposes are
of non-stock, non-profit educational institutions used subject to real property tax. Those used by the
actually, directly, and exclusively for educational hospital even if used for paying patients remain
purposes exempt from real property taxes.

Q: Is a vegetable garden and an unused


cemetery adjacent to a convent exempt from CIR V. ST. LUKES MEDICAL CENTER [SEPTEMBER
payment of real property taxes? 26, 2012]

Yes. As held in BISHOP OF SEGOVIA V. PROV. BOARD DOCTRINE: A proprietary non-profit hospital is subject
OF ILOCOS NORTE [51 SCRA 352], the exemption to 10% tax under Section 27(B) of the Tax Code.
from the payment of the land tax in favor of the
FACTS: St. Lukes Medical Center is a hospital organized as
convent includes not only the land actually occupied a non-stock and non-profit corporation. It admits both
by the building, but also the adjacent ground or paying and non-paying patients. The CIR claimed that St.
vegetable garden destined to the incidental use of Lukes was liable for income tax at 10% as provided under
10
the parish priest in his ordinary life. The unused Section 27(B) of the NIRC. St. Lukes argues that it is a
cemetery is also exempt as it is not used for non-stock, non-profit institution for charitable and social
commercial purposes and instead is used as a place
for those who participate in the religious festivities.
_________________________________________
Q: YMCA is a non-stock, non-profit 10
Section 27(B) provides that proprietary educational institutions
institution with religious, charitable and and hospitals which are non-profit shall pay a tax of ten percent
educational objectives. YMCA leased part of (10%) on their taxable income
its premises to small canteen owners and

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welfare purposes exempt from income tax under Section charitable.” This is affirmed in the constitutional provision
11
30(E) and (G) of the NIRC. with regard to non-stock, non-profit educational
institutions. For their income to be exempt, their revenues
HELD: St. Lukes cannot claim full tax exemption under and assets must be used actually, directly, and exclusively
Section 30 because it has paying patients and this is for educational purposes. The rule now can be laid down
notwithstanding the fact that it is a non-profit hospital. For as follows: For the income of a non-stock, non-profit
Section 27(B) to apply, the hospital must be non-profit corporation to be totally exempt, it must be organized and
which means that no net income or asset accrues to or operated exclusively for educational or charitable
benefits any member or specific person and all the purposes. In such case, it will fall within the coverage of
activities of the hospital are non-profit. On the other hand, Section 30(E) and (G) of the Tax Code. However, if it
Section 30(E) and (G), while providing for an exemption is conducts for-profit activities, like the admission of paying
qualified by the last paragraph which, in turn, provides that patients, it will not be exempt with regard to that particular
activities conducted for profit shall be taxable. Section income. Section 27(B) will apply and the income will be
30(E) and (G) requires that an institution be operated taxed at the preferential rate of 10%.
exclusively for charitable purposes to be completely
exempt from income tax. In this case, however, St. Lukes RMC 67-2012 [October 31, 2012] was issued by the BIR
is not operated exclusively for charitable purposes insofar to implement this decision of the Supreme Court on all
as its revenues from paying patients are concerned. Such private non-profit hospitals and educational institutions
revenue is subject to income tax at 10% under Section starting from January 1, 1998.
27(B).
Q: Is the existence of paying patients
material to the real property tax exemption
Note: This case is very important because it reconciles the
following constitutional and statutory provisions: Section of the building, land and improvements of
28, Article VI (tax exemption of real property actually, St. Lukes?
directly, and exclusively used for religious, charitable or
educational purposes); Section 4(3) Article XIV (tax No. The lands, buildings, and improvements of St.
exemption of income of non-stock, non-profit educational Lukes remain exempt from real property taxes even
institutions used actually, directly, and exclusively for if it admits paying patients. This is consistent with
educational purposes); Section 27(B), Tax Code (10% the ruling in LUNG CENTER OF THE PHILIPPINES V.
preferential tax rate to income of proprietary educational
institutions); Section 30(E) and (G) (tax exemption of the
QUEZON CITY [433 SCRA 119] where the Supreme
income of non-stock non-profit corporations organized and Court held that a charitable institution does not lose
operated exclusively for charitable purposes.). its character as such and its exemption from real
property taxes simply because it derives income
With regard to taxation of real property, the doctrine laid from paying patients
down in LUNG CENTER OF THE PHILIPPINES V. QUEZON CITY
[433 SCRA 119] still holds. The lands, buildings, and Q: If St. Lukes were to lease to private
improvements actually, directly and exclusively used for
religious, charitable and educational purposes shall
persons portions of its property for profit, is
remain exempt from real property taxes even if there is, in the property and the profits exempt from
the case of a hospital, admission of paying patients. If the taxes?
hospital were to lease to private persons portions of its
property for profit, the real property will not be exempt The property will not be exempt from real property
from real property taxes. That’s for real property taxes. taxes and also the profits will not be exempt from
Income taxation is another thing. income tax. Pursuant to the ruling in LUNG CENTER
OF THE PHILIPPINES V. QUEZON CITY [433 SCRA 119],
With regard to income taxation, the statement of the Court
must be noted: “Non-profit does not necessarily mean those portions of real property not actually used for
_________________________________________ charitable purposes shall not be exempt from real
property taxes. Consistent with the ruling in CIR V.
11
Section 30(E), NIRC provides that a non-stock corporation or CA [298 SCRA 83], profits realized from real
association organized and operated exclusively for charitable property by exempt institutions from whatever
purposes is exempt from income tax while Section 30(G) provides source or wherever used are taxable.
that a civic league or organization not organized for profit but
operated exclusively for the promotion of social welfare is likewise
exempt. ---------------------------------------------------------------

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(vi) Majority vote of Congress for grant of Section 27.


tax exemption 2. The President shall have the power to veto any
particular item or items in an appropriation,
--------------------------------------------------------------- revenue, or tariff bill, but the veto shall not affect
the item or items to which he does not object.
Article VI.
Section 28.
4. No law granting any tax exemption shall be
---------------------------------------------------------------
passed without the concurrence of a majority of (ix) Non-impairment of jurisdiction of the
all the Members of the Congress. Supreme Court
---------------------------------------------------------------
---------------------------------------------------------------
(vii) Prohibition on use of tax levied for a Article VIII.
Section 5. The Supreme Court shall have the following
special purpose powers:
--------------------------------------------------------------- 2. Review, revise, reverse, modify, or affirm on
appeal or certiorari, as the law or the Rules of
Court may provide, final judgments and orders of
Article VI. lower courts in:
Section 29. b. All cases involving the legality of any
3. All money collected on any tax levied for a tax, impost, assessment, or toll, or any
special purpose shall be treated as a special fund penalty imposed in relation thereto.
and paid out for such purpose only. If the
purpose for which a special fund was created has
been fulfilled or abandoned, the balance, if any,
shall be transferred to the general funds of the ---------------------------------------------------------------
Government. (x) Grant of power to the local government
units to create its own sources of revenue
In determining whether the creation of the OPSF ---------------------------------------------------------------
violate the above provision, the Supreme Court in
OSMENA VS. ORBOS [220 SCRA 703] opined that in
Article X.
order for the funds to fall under the prohibition, it
Section 5. Each local government unit shall have the
must be shown that they were collected as taxes – power to create its own sources of revenues and to levy
as a form of revenue. In this case, while the funds taxes, fees and charges subject to such guidelines and
were referred to as taxes, they were exacted not limitations as the Congress may provide, consistent with
under the power of taxation, but in the exercise of the basic policy of local autonomy. Such taxes, fees, and
the police power of the State. The main objective charges shall accrue exclusively to the local governments.
was not revenue but to stabilize the price of oil and
petroleum products. The OPSF is actually a special
fund. It is segregated from the general fund; and ---------------------------------------------------------------
while it is placed in what the law refers to as a “trust (xiii) No appropriation or use of public
liability account,” the fund nonetheless remains money for religious purposes
subject to the scrutiny and review of the COA. These ---------------------------------------------------------------
measures comply with the constitutional description
of a “special fund.”
Article VI.
Section 29.
---------------------------------------------------------------
2. No public money or property shall be
(viii) President’s veto power on appropriated, applied, paid, or employed, directly
appropriation, revenue, tariff bills or indirectly, for the use, benefit, or support of
--------------------------------------------------------------- any sect, church, denomination, sectarian
institution, or system of religion, or of any priest,
preacher, minister, other religious teacher, or
Article VI. dignitary as such, except when such priest,

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preacher, minister, or dignitary is assigned to the Q: How does the principle of “uniformity”
armed forces, or to any penal institution, or relate to the equal protection clause?
government orphanage or leprosarium.
The test of uniformity is based on the requisites for a
valid classification under the equal protection clause.
--------------------------------------------------------------- As held in SISON V. ANCHETA [130 SCRA 654],
2. Constitutional Limitations uniformity of taxation is quite similar to the standard
a) Provisions indirectly affecting taxation of equal protection.
---------------------------------------------------------------
Under the equal protection clause, for a
Q: What are the general (indirect) classification to be valid, it must:
constitutional limitations on the taxing
1. Rest on substantial distinctions;
power? 2. Be germane to the purpose of the law;
3. Not be limited to existing conditions only; and
The general constitutional limitations are: 4. Apply equally to all members of the same class.
1. Due process (Article III, Section 1)
Q: Is there a violation of the uniformity of
2. Equal protection (Article III, Section 1)
3. Religious Freedom (Article III, Section 5) taxation or equal protection when the State
4. Non-Impairment of Contracts (Article gives preferential tax treatment to locators
(Article III, Section 10) inside special economic zones?

--------------------------------------------------------------- No. As held in TIU V. CA [301 SCRA 278], there are


(i) Due Process substantial differences between the big investors
(ii) Equal Protection who are being lured to establish and operate their
--------------------------------------------------------------- industries in the special economic zones and those
business operators outside the zones. One of these
is that the former bring in billion-peso investments
Article III. and thousands of new jobs. The Supreme Court also
Section 1. No person shall be deprived of life, liberty, or stated that the equal protection guarantee does not
property without due process of law, nor shall any person require territorial uniformity of laws.
be denied the equal protection of the laws.
Q: Should tax incentives be uniform for all
Q: How is the “due process” clause applied special economic zones?
to taxation?
Not necessarily. In JOHN HAY V. LIM [414 SCRA
356], at issue was the extension of benefits given to
In PEPSI-COLA BOTTLING COMPANY VS. MUNICIPALITY the Subic SEZ under RA 7227 to the John Hay SEZ
OF T ANAUAN, LEYTE [69 SCRA 460], the Supreme via a proclamation, the Supreme Court ruled that tax
Court held that taking of property without due exemptions must be strictly and expressly provided
process of law may not be passed over under the for and that the power to grant exemption is only
guise of taxing power, except when the latter is within Congress. The same rationale was used with
exercised lawfully as when: respect to locators in the Clark SEZ in the case of
COCONUT OIL REFINERS ASSOCIATION V. TORRES [465
1. the tax is for a public purpose; SCRA 48].
2. the rule on uniformity of taxation is observed;
3. either the person or property taxed is within the The implication of these two cases is that special
jurisdiction of the government levying the tax; economic zones can have different tax incentives.
and However, it must be noted that by virtue of RA 9400,
4. in the assessment and collection of taxes notice the same incentives have been granted to Clark,
and opportunity for hearing are provided John Hay, Poro Point and Morong SEZs.

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Q: Does the Attrition Law (RA 9335), which Q: Does RR 17-99 (implementing RA 8240
gives incentives to BOR/BOC employees, but applying the higher tax rule on the
violate the equal protection clause? January 1, 2000 increase)13 violate the equal
protection clause?
No. In ABAKADA GURO PARTY-LIST V. PURISIMA [562
SCRA 251], the Supreme Court held that there was Yes. In CIR V. FORTUNE TOBACCO [SEPTEMBER 28,
no violation of the equal protection clause. The 2011], the Supreme Court ruled that the higher tax
equal protection clause recognizes a valid rule only applies on the transition period. To
classification, that is, a classification that has a implement the higher tax rule on the January 1,
reasonable foundation or rational basis and not 2000 increase would violate the rule of uniformity
arbitrary. The subject of the Attrition Law was since brands belonging to the same category would
revenue generation and collection of the BIR and be imposed with different tax rates.
BOC, thus, the incentives and sanctions should
logically pertain to them and not to other government Q: Does the adoption of a gross system of
agencies. This has been reiterated in the recent income taxation to compensation income
case of BOCEA V. TEVES [G.R. 181704, DEC. 6,
and a system of net income taxation as
2011].
regards professional and business income
Q: Does the classification freeze scheme12 violate the rule on uniformity?
under RA 9334 violate the equal protection
No. In SISON V. ANCHETA [130 SCRA 654], the
clause?
Supreme Court noted that taxpayers who are
No. In British American Tobacco v. Camacho
recipients of compensation income have practically
[562 SCRA 511], the Supreme Court held that the
no overhead expenses and thus, they should not be
classification freeze does not violate the equal
entitled to make deductions for income tax
protection clause as it passes the rational basis test
purposes. On the other hand, professionals and
and is meant to improve the efficiency and effectivity
businessmen have no uniformity in terms of costs or
of the tax administration over sin products while
expenses necessary to produce their income. Thus,
trying to balance the same with state interests. It
it would be unjust to disregard such disparities and
addresses the concerns in the simplification of tax
giving them all zero deductions and impose on all
administration of sin products, elimination of
the same tax rates.
potential areas for abuse and corruption in tax
collection, buoyant and stable revenue generation,
and ease of projection of revenues. Q: Does the rule on uniformity require
territorial uniformity?

No. As held in TIU V. CA [301 SCRA 278], the equal


protection guarantee does not require territorial
uniformity of laws. In VILLANUEVA V. CITY OF ILOILO
[26 SCRA 578], in determining whether the
imposition of a municipal license tax on tenement
houses violates the equal protection clause as such
taxes are not imposed in other cities, the Supreme
_________________________________________ _________________________________________
12 13
Under the classification freeze scheme, after a brand of RA 8240 which took effect January 1, 1997 provides for a shift
cigarette is classified based on its current net retail price, the from ad valorem taxes to specific taxes on cigarettes. The law
classification is frozen and only Congress can thereafter reclassify provided that (1) the specific tax due from any brand of cigarette
the same. Under this scheme, it would be possible that over time within 3 years shall not be lower than the tax due before the new
the net retail price of a previously classified brand would increase law (higher tax rule) and (2) the specific tax rate shall be
to a point that its net retail price pierces tha tax bracket to which it increased by 12% on January 1, 2000. In effect, what RR 17-99
was previously classified byt nonetheless it would still be subject did was to implement the higher tax rule for the January 1, 2000
to the excise tax rate under the lower tax bracket. increase.

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Court ruled in the negative as the rule on uniformity thereof. The free exercise and enjoyment of religious
does not require taxes for the same purpose should profession and worship, without discrimination or
be imposed in different territorial subdivisions at the preference, shall forever be allowed. No religious test shall
same time. It is enough that the tax falls equally and be required for the exercise of civil or political rights.
impartially on all owners or operations of tenement
houses similarly classified or situated.
Q: A municipality passed an ordinance
The statement made by the Court in CIR V. which imposes a tax on the sale of bibles. Is
LINGAYEN GULF [164 SCRA 27] to the effect that “a the ordinance valid?
tax is uniform when it operates with the same force
and effect in every place where the subject of it is No. As held in AMERICAN BIBLE SOCIETY VS. CITY OF
found” should not be taken to mean that territorial M ANILA [101 SCRA 386], the municipal ordinances
uniformity is required. imposing a tax on the sale of bibles were declared
unconstitutional as it would impair the free exercise
Q: A municipal ordinance was passed and enjoyment of its religious profession and
worship, as well as its rights of dissemination of
imposing a tax on the sale of soft drinks or
religious beliefs.
carbonated beverages by
agents/consignees of dealers doing ---------------------------------------------------------------
business outside the municipality. Is there a (iv) Non-impairment of obligations of
violation of the equal protection clause? contracts
---------------------------------------------------------------
Yes. As held in PEPSI-COLA V. CITY OF BUTUAN [24
SCRA 789], under the said municipal ordinance,
sales of local dealers not acting for or on behalf of Article III.
merchants established outside the municipality Section 10. No law impairing the obligation of contracts
would be exempt from the tax while those acting as shall be passed.
agents and consignees of dealers outside the
municipality would have to pay the tax. The
Q: When can the non-impairment clause be
Supreme Court ruled that this was a violation of the rightly invoked against the withdrawal of a
uniformity required by the Constitution. tax exemption?

Q: A tax ordinance was passed expressly In PROVINCE OF MISAMIS ORIENTAL V. CAGAYAN


ELECTRIC [181 SCRA 38], the Supreme Court held
providing for the entity which shall be
that the non-impairment clause may be rightly
subject to tax. Is there a violation of the invoked against contractual tax exemptions.
equal protection clause? Contractual tax exemptions are those agreed by the
taxing authority in contracts, such as those
Yes. In ORMOC SUGAR V. TREASURER [22 SCRA contained in government bonds or debentures,
603], the Supreme Court held that a reasonable lawfully entered into by them under enabling laws in
classification should be in terms applicable to future which the government, acting in its private capacity,
conditions. The taxing ordinance should not be sheds its cloak of authority and waives its
singular and exclusive as to exclude any government immunity (see also MERALCO V.
subsequently established entity from the coverage of PROVINCE OF LAGUNA [306 SCRA 750])
the tax.
What constitutes an impairment of the obligation of
--------------------------------------------------------------- contract is the revocation of an exemption which is
(iii) Religious Freedom founded on a valuable consideration because it
--------------------------------------------------------------- takes the form and essence of a contract.

Article III. Q: Is a tax exemption embodied in a


Section 5. No law shall be made respecting an legislative franchise a contractual tax
establishment of religion, or prohibiting the free exercise

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exemption (such that it impairs the Q: What are the characteristics or elements
obligations of contracts when revoked)? of a tax? (essential elements of a tax)

No. As held in PROVINCE OF MISAMIS ORIENTAL V. 1. Enforced contributions


CAGAYAN ELECTRIC [181 SCRA 38], a franchise does 2. Generally payable in money
not take the nature of a contractual tax exemption, 3. Proportional in character, since taxes are
which cannot be revoked without impairing the based on one’s ability to pay
obligations of contracts. It is a unilateral tax 4. Levied on persons, property, or exercise of a
exemption. A legislative franchise can be withdrawn right or privilege
through amendment or repeal. (see also CAGAYAN 5. Levied by the State having jurisdiction
ELECTRIC POWER V. CIR [138 SCRA 629]; LEALDA 6. Levied by the legislature
ELECTRIC V. CIR [7 SCRA 928].) 7. Levied for a public purpose
8. Paid at regular periods or intervals
---------------------------------------------------------------
J. Stages of taxation Q: Can stockholders be held personally
1. Levy liable for the unpaid taxes of a dissolved
2. Assessment and collection corporation?
3. Payment
No, a corporation is vested by the law with a
4. Refund
personality that is separate and distinct from those
--------------------------------------------------------------- of the persons composing it.

Q: Enumerate the three (3) stages or However, they may be held liable for the unpaid
aspects of taxation. Explain each. taxes:
a. If it appears that the corporate assets have
The three stages or aspects of taxation are: passed into their hands
b. When the stockholders have unpaid
1. Levy – This refers to the enactment of a law by subscriptions to the capital of the
Congress imposing a tax corporation (liable only to the extent of their
2. Assessment and collection – This is the act of unpaid subscriptions).
administration and implementation of the tax law ---------------------------------------------------------------
by the executive department through the L. Requisites of a Valid Tax
administrative agencies ---------------------------------------------------------------
3. Payment – This is the act of compliance by the
taxpayer including whatever remedies are
Q: What are the requisites of a valid tax?
available to him under the law

Note: Refund is one of the remedies of the taxpayer. It is


1. The tax should be within the jurisdiction of
not a separate stage of taxation. It is deemed included in the taxing authority
the stage of payment. 2. It must be for a public purpose
--------------------------------------------------------------- 3. The rule of taxation must be uniform
K. Definition, nature and characteristics of 4. It guarantees against injustice to individuals,
especially by way of notice and opportunity
taxes
to be heard be provided.
--------------------------------------------------------------- 5. It must not impinge on the inherent and
Constitutional limitations on the power of
Q: Define taxes. taxation.

Taxes are enforced proportional contributions from


persons and property, levied by the state by virtue of
its sovereignty for the support of the government
and for all its public needs.

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--------------------------------------------------------------- by the private individuals or


M. Tax as distinguished from other forms of government entities
exactions
1. Tariff
2. Toll ---------------------------------------------------------------
3. License fee 3. License Fee
4. Special assessment ---------------------------------------------------------------
5. Debt
--------------------------------------------------------------- Q: Distinguish a tax from a license fee.

--------------------------------------------------------------- See table below.


1. Tariff
TAX LICENSE FEE
---------------------------------------------------------------
Purpose Imposed for Imposed for regulatory
revenue purposes
Q: Distinguish a tax from a tariff? purposes
A tax is an all embracing term to include various Basis Imposed under Imposed under the
kinds of enforced contributions imposed upon the power of police power of the
persons for the attainment of public purposes, while taxation State
a tariff should be understood to mean a kind of tax
imposed on articles which are traded internationally. Amount No limit as to Amount of license fee
the amount of that can be collected
--------------------------------------------------------------- tax is limited to the cost of
2. Toll the license and the
--------------------------------------------------------------- expenses of police
surveillance and
Q: Distinguish a tax from a toll. regulation

See table below. Time of Normally paid Normally paid before


payment after the start the commencement of
TAX TOLL of business the business
Definition Enforced Sum of money for
proportional the use of Effect of Failure to pay Failure to pay the
contributions something, a non- the tax does license fee makes the
from persons consideration which payment not make the business illegal
and property is paid for the use of business illegal
a property which is of
a public nature
As held in the case of PROGRESSIVE DEVELOPMENT
Basis A demand of A demand of CORPORATION VS. QUEZON CITY [172 SCRA 629], the
sovereignty proprietorship term "tax" frequently applies to all kinds of exactions
of monies which become public funds. It is often
Amount No limit as to Amount of toll loosely used to include levies for revenue as well as
the amount of depends upon the levies for regulatory purposes such that license fees
tax cost of construction are frequently called taxes although license fee is a
or maintenance of legal concept distinguishable from tax: a license fee
the public is imposed in the exercise of police power primarily
improvement used for purposes of regulation, while a tax is imposed
under the taxing power primarily for purposes of
Authority May be May be imposed by raising revenues (see also COMPANIA GENERAL DE
imposed only the government or

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TABACOS DE FILIPINAS V. CITY OF M ANILA [8 SCRA be of sufficient amount to include the cost of
367]. ) licensing, regulating and surveillance.

Q: What is the importance of determining Q: Does the above rule apply to all types of
whether a particular imposition is a tax or a license fees?
license fee?
No. In the case of license fees for non-useful
It is necessary because some limitations apply only occupations, wider discretion in fixing the amount is
to one and not to the other, and for the reason that given to municipal corporations and the exaction
exemption from taxes may not include exemption may be very large without necessarily being a tax.
from license fees. This is so because municipal corporations are
Q: What are the three types of license fees? authorized to enact ordinances to provide for the
health and safety and promote the morality, peace
The three types of license fees are: and general welfare of its inhabitants. Thus, in the
case of PHYSICAL THERAPY ORGANIZATION OF THE
1. License for the regulation of useful occupation or PHILIPPINES V. MUNICIPAL BOARD OF THE CITY OF
enterprises M ANILA [101 PHIL. 1142], the Supreme Court found
2. License for the regulation or restriction of non- the imposed license fee as reasonable as the
useful occupation or enterprises practice of hygienic and aesthetic massage not as a
14
3. License for revenue only useful and beneficial occupation which will promote
and is conducive to public morals.
(See VICTORIAS MILLING CO. VS. CIR [22 SCRA 13])
---------------------------------------------------------------
Q: What is a license tax and how do you 4. Special Assessment
distinguish it from a license fee? ---------------------------------------------------------------
As explained by the Supreme Court in the case of
VICTORIAS MILLING CO. VS. CIR [22 SCRA 13], the Q: Distinguish a tax from a special
term "license tax" has not acquired a fixed meaning. assessment.
It is often "used indiscriminately to designate
impositions exacted for the exercise of various See table below.
privileges." It does not refer solely to a license for
regulation. In many instances, it refers to "revenue- TAX SPECIAL
raising exactions on privileges or activities." On the ASSESSMENT
other hand, license fees are commonly called taxes. Definition Enforced An enforced
But, legally speaking, license taxes are "for the proportional proportional
purpose of raising revenues," in contrast to license contribution from contribution from
fees which are imposed "in the exercise of police persons and owners of lands
power for purposes of regulation." property especially or
peculiarly benefited
Q: What should be the extent of the exaction by public
for it to be considered a license fee? improvements

As held in the case of G.A. CUUNJIENG V. PATSTONE Basis Based on Based wholly on
[42 PHIL 818], the amount of the exaction must only necessity benefits

Subject Levied on: Levied only on land


_________________________________________ (1) persons
(2) Property
14
This shouldn’t be a type of license fee. It is instead a license (3) Acts
tax.

Scope Has general It is exceptional

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application both as to time and individuals


place
Prescription Prescriptive Civil Code
Person It is a personal Not a personal periods for governs the
Liable liability of the liability of the
tax are prescriptive
taxpayer person assessed;
his liability is determined period of debts
limited only to the under the
land involved NIRC

See THE APOSTOLIC PREFECT OF THE MOUNTAIN


Q: Distinguish a tax from a penalty.
PROVINCE V. TREASURER OF BAGUIO [71 PHIL. 547]

--------------------------------------------------------------- TAX PENALTY


5. Debt Definition Enforced Sanction imposed
--------------------------------------------------------------- proportional as punishment for
contributions violation of a law or
Q: Distinguish a tax from a debt. from persons acts deemed
and property injurious; violation
See table below. of tax laws may
give rise to
TAX DEBT imposition of
Basis Based on Based on penalty
law contract or
Purpose Intended to Designed to
judgment raise revenue regulate conduct
Effect of Taxpayer No
non- may be imprisonment Authority May be May be imposed by
payment imprisoned for failure to pay imposed only (1) Government; or
for his failure a debt by the (2) Private
to pay the government individuals or
tax entities

Mode of Generally May be payable


payment payable in in money, Q: Distinguish a tax from a subsidy?
money property and
services A subsidy is a legislative grant of money in aid of a
private enterprise deemed to promote a public
Assignability Not Can be welfare. It is not a tax although it may be necessary
assignable assigned to raise the money to pay the subsidy by means of a
tax.
Interest Does not Draws interest if
Q: Distinguish a tax from customs duties
draw interest stipulated or
and fees
unless delayed
delinquent Customs Duties and fees are those charged upon
commodities on their being imported in or exported
Authority Imposed by Can be from the country. Customs duties are taxes but a tax
public imposed by is a broader term to include not only customs duties
authority private but other taxes as well.

PIERRE MARTIN DE LEON REYES Page 42 of 158


Ateneo Law Batch 2013 Last Updated: 30 July 2013(v3)
PM REYES BAR REVIEWER ON TAXATION I
(Based on the 2013 Bar Syllabus and Updated with Recent BIR Issuances and the
Latest Supreme Court and CTA Jurisprudence as of January 31, 2013)

Q: Distinguish a tax from revenue power (e.g. real estate tax)

Revenue is a broad term that includes not only Excise or Taxes laid upon the
taxes but income from other sources as well. privilege tax manufacture, sale or
consumption of commodities
--------------------------------------------------------------- within the country; upon
N. Kinds of taxes licenses to pursue certain
1. As to object occupations and upon
a) Personal, capitation, or poll tax corporate privileges (e.g.
b) Property tax value-added tax)
c) Privilege tax
2. As to burden or incidence Q: What are the classes or kinds of tax
a) Direct according to who bears the burden?
b) Indirect
3. As to tax rates See table below.
a) Specific
b) Ad valorem Direct Taxes wherein both the tax
c) Mixed liability as well as the impact
4. As to purposes or burden of the tax falls on
a) General or fiscal the same person (e.g.
b) Special, regulatory, or sumptuary corporate and individual
5. As to scope or authority to impose income tax)
a) National – internal revenue taxes
Indirect Taxes wherein the tax liability
b) Local – real property tax, municipal falls on one person but the
tax burden thereof may be
6. As to graduation shifted or passed to another.
a) Progressive (e.g. value-added tax,
b) Regressive percentage taxes)
c) Proportionate
---------------------------------------------------------------
Q: Classify the taxes imposed under the Tax
Q: What are the classes or kinds of tax Code into direct and indirect taxes.
according to subject or object?
Income tax, estate tax and donor’s tax are
See table below. considered as direct taxes. On the other hand,
value-added tax, excise tax, other percentage tax
Personal, Taxes of a fixed amount upon and documentary stamp tax are indirect taxes.
capitation, or all persons of a certain class
poll tax within the jurisdiction of the
taxing power without regard Q: What are the classes or kinds of tax
to the amount of their according to the determination of amount or
property or the occupations of tax rates?
businesses in which they may
be engaged (e.g. community See table below.
tax)
Specific Tax which imposes a specific
Property Tax Taxes assessed on all sum by the head or number
property or all property of a or by some standard of
certain class within the weight or measurement and
jurisdiction of the taxing which requires no

PIERRE MARTIN DE LEON REYES Page 43 of 158


Ateneo Law Batch 2013 Last Updated: 30 July 2013(v3)
PM REYES BAR REVIEWER ON TAXATION I
(Based on the 2013 Bar Syllabus and Updated with Recent BIR Issuances and the
Latest Supreme Court and CTA Jurisprudence as of January 31, 2013)

assessment beyond a listing tax)


and classification of the
subjects to be taxed (e.g. Regressive Taxes imposed where the tax
taxes on distilled spirits) rate decreases as the tax
base increases.
Ad Valorem Tax upon the value of the
article or thing subject of Mixed The tax rates are partly
taxation (e.g. real estate tax) progressive and partly
regressive
Mixed A choice between ad valorem
or specific depending on the Proportionate The tax rates are fixed (in
condition attached amounts or in percentage) on
a flat tax base) (e.g. real
Q: What are the classes or kinds of tax estate tax)
according to purpose?

See table below.

General or fiscal Taxes levied for the general


or revenue or ordinary purposes of
Government (e.g. income tax,
value-added tax)

Special, Taxes levied for a special


regulatory, or purpose (e.g. protective
sumptuary tariffs, custom duties)

Q: What are the classes or kinds of tax


according to the scope or imposing
authority?

See table below.

National Taxes levied by the National


(internal Government (e.g. national
revenue taxes) internal revenue taxes)

Local (real Taxes levied by the local


property tax, governments subject to such
municipal tax) guidelines and limitations as
the Congress may provide
(e.g. real estate tax)

Q: What are the classes or kinds of tax


according to graduation?

See table below.

Progressive Taxes imposed where the tax


rate increases as the tax
base increases (e.g. income

PIERRE MARTIN DE LEON REYES Page 44 of 158


Ateneo Law Batch 2013 Last Updated: 30 July 2013(v3)
PM REYES BAR REVIEWER ON TAXATION I
(Based on the 2013 Bar Syllabus and Updated with Recent BIR Issuances and the
Latest Supreme Court and CTA Jurisprudence as of January 31, 2013)

--------------------------------------------------------- compensation, capital gains, passive income, or


II. NIRC other income subject to final withholding tax) or
(c) both global and schedular may be applied
---------------------------------------------------------- depending on the nature of the income realized
by the taxpayer during the year.
Note: This Chapter will include A. Income Tax, B. Estate
Tax, C. Donor’s Tax, E. Value-Added Tax and F. Tax
Remedies. Other percentages taxes, Excise taxes and The current method of taxation under the Tax Code
documentary stamp tax are not discussed as they are belongs to a system which is partly scheduler and
excluded from the bar coverage. partly global.

---------------------------------------------------------- Q: How do you distinguish “schedular


A. INCOME TAX treatment from “global treatment” as used
---------------------------------------------------------- in income taxation?

--------------------------------------------------------------- Under the schedular tax system, the various types of


income (i.e. compensation; business/professional
1. Income Tax Systems
income) are classified accordingly and are accorded
a) Global Tax System different tax treatments, in accordance with
b) Schedular Tax System schedules characterized by graduated tax rates.
c) Semi-schedular or semi-global tax Since these types of income are treated separately,
system the allowable deductions shall likewise vary for each
--------------------------------------------------------------- type of income.

Q: What are the kinds of income tax On the other hand, under the global tax system, all
systems? income received by the taxpayer are grouped
together, without any distinction as to type or nature
The types of income tax systems are as follows: of the income, and after deducting therefrom
expenses and other allowable deductions, are
1. Global Tax System – where the taxpayer is subjected to tax at a graduated or fixed rate (see
required to lump up all items of income earned TAN VS. DEL ROSARIO [OCTOBER 3, 1994]).
during a taxable period and pay under a single
set of income tax rates on these different items Note: The Philippines had adopted both the global system
of income. and the schedular system of taxation. The global system
can be found in the income taxation of corporations. The
Tax Code subjects them to either the regular corporate
Note: Simply put, one rate for all types of gross
income tax or minimum corporate income tax irrespective
income.
of the tax base. On the other hand, the schedular system
can be found in the income taxation of individuals where
2. Schedular Tax System – where there are the tax rates are progressive in character.
different tax treatments of different types of
income so that a separate tax return is required ---------------------------------------------------------------
to be filed for each type of income and the tax is 2. Features of the Philippine Income Tax
computed on a per return or per schedule basis.
Law
Note: Simply put, varying taxes are imposed on a) Direct tax
passive income. b) Progressive
c) Comprehensive
3. Semi-Schedular or Semi-Global Tax System d) Semi-schedular or semi-global tax
– where the tax system is either (a) global (e.g. system
taxpayer with compensation income not subject ---------------------------------------------------------------
to final withholding tax or business or
professional income or mixed income –
compensation and business or professional
income) or (b) schedular (e.g. taxpayer with

PIERRE MARTIN DE LEON REYES Page 45 of 158


Ateneo Law Batch 2013 Last Updated: 30 July 2013(v3)
PM REYES BAR REVIEWER ON TAXATION I
(Based on the 2013 Bar Syllabus and Updated with Recent BIR Issuances and the
Latest Supreme Court and CTA Jurisprudence as of January 31, 2013)

Q: What are the features of the Philippine 4. Types of Philippine Income Tax
Income Tax system? ---------------------------------------------------------------

The Philippine tax system is: Q: What are the types of Philippine Income
Tax (under Title II of the NIRC)?
1. Income tax is a direct tax because the tax
burden is borne by the income recipient The types of Income tax under Title II of the NIRC
upon whom the tax is imposed. are:
2. Income tax is a progressive tax since the 1. Graduated income tax on individuals
tax base increases as the tax rate increases. 2. Normal corporate income tax on corporations
3. The Philippines has adopted the most 3. Minimum corporate income tax on corporations
comprehensive system of imposing 4. Special income tax on certain corporations (e.g.
income tax by adopting the citizenship private educational institutions, FCDUs, and
principle, resident principle and the source international carriers)
principle. 5. Capital gains tax on sale or exchange of unlisted
4. The Philippines follows the semi-schedular shares of stock of a domestic corporation
or semi-global system of income taxation. classified as a capital asset
6. Capital gains tax on sale or exchange of real
--------------------------------------------------------------- property located in the Philippines and classified
3. Criteria in imposing Philippine income tax as a capital asset
a) Citizenship principle 7. Final withholding tax on certain passive
b) Residence principle investment incomes
c) Source principle 8. Fringe benefit tax
9. Branch profit remittance tax; and
---------------------------------------------------------------
10. Tax on improperly accumulated earnings.
Q: What are the criteria in imposing
---------------------------------------------------------------
Philippine income tax?
5. Taxable Period
1. Citizenship or nationality principle – A ---------------------------------------------------------------
citizen of the Philippines is subject to
Philippine income tax (a) on his worldwide Note: This is apparently misplaced in the Syllabus. For
better understanding of the concepts, I moved this to the
income, if he resides in the Philippines (b) discussion on Income right before Methods of Accounting.
only on his Philippine source income, if he
qualifies as a non-resident citizen where his
foreign-source income shall be tax-exempt. ---------------------------------------------------------------
2. Residence or domicile principle – An alien 6. Kinds of Taxpayers
is subject to Philippine income tax because ---------------------------------------------------------------
of his residence in the Philippines. A
resident alien is liable to pay Philippine Note: It is important to know the different kinds of
income tax only from his income from taxpayers in order to determine the following: (1) gross
income for tax purposes (2) exclusions from gross income;
Philippine sources but is tax-exempt from (3) exemptions; (4) deductions and (5) income tax rates.
foreign-source income
3. Source of income principle – An alien is The only two exceptions where knowing the taxpayer is
subject to Philippine income tax because he immaterial are where the transaction involves (1) sales of
derives income from sources within the shares of stock of a domestic corporation because it is
Philippines. Thus, a non-resident alien or subject to ½ of 1% of stock transaction tax or 5%/10%
non-resident foreign corporation is liable to capital gains tax on net capital gain whether the seller is
pay Philippine income tax on income from an individual, citizen or alien or a corporation, domestic or
sources within the Philippines foreign and (2) where the real property sold is a capital
asset located in the Philippines which is subject to 6%
capital gains tax.
---------------------------------------------------------------

PIERRE MARTIN DE LEON REYES Page 46 of 158


Ateneo Law Batch 2013 Last Updated: 30 July 2013(v3)
PM REYES BAR REVIEWER ON TAXATION I
(Based on the 2013 Bar Syllabus and Updated with Recent BIR Issuances and the
Latest Supreme Court and CTA Jurisprudence as of January 31, 2013)

Q: What are the kinds of income taxpayers?


Note: It is important to know the classification of Philippine
The kinds of income taxpayers under Title II of the citizens on whether they are resident citizens or non-
NIRC are: resident citizens to determine what incomes are subject to
tax in the Philippines. Resident citizens are taxable on all
income derived from sources within and without the
A. Individuals Philippines while non-resident citizens are taxable only on
1. Citizens (Section 24, NIRC) income derived from sources within the Philippines. (see
a. Resident Citizens Section 22, Tax Code)
b. Nonresident Citizens
2. Aliens Q: Who is a resident citizen?
a. Resident Aliens (Section 24, NIRC)
b. Nonresident Aliens (Section 25, A resident citizen is a citizen of the Philippines
NIRC) without the intention of transferring his physical
i. Engaged in trade or business in presence abroad whether to stay permanently or
the Philippines temporarily as an overseas contract worker.
ii. Not engaged in trade or
business in the Philippines Q: Who are citizens of the Philippines?
3. Estates and Trusts (Section 60, NIRC)
a. Revocable trust The following are considered citizens of the
b. Irrevocable trust Philippines:
B. Corporations
1. Domestic Corporations (Section 27, 1. Those who are citizens of the Philippines at
NIRC) the time of the adoption of the Constitution
2. Foreign Corporations (Section 28, 2. Those whose fathers or mothers are citizens
NIRC) of the Philippines
a. Resident foreign corporations 3. Those born before January 17, 1973 of
b. Nonresident foreign corporations Filipino mothers, who elect Philippine
3. Partnerships Citizenship upon reaching the age of
a. Taxable partnership (Section 73(D), majority; and
NIRC) 4. Those who are naturalized in accordance
b. Exempt partnership with law
i. General Professional
Partnership (Section 26, NIRC) Read Section 22(E), Tax Code
ii. Joint venture or consortium
undertaking construction activity
or engaged in petroleum Q: Who is a non-resident citizen?
operations with operating
contract with the government The term “non-resident citizen” means a citizen of
the Philippines:
Note: The depiction of the kinds of taxpayers in the 2013
Bar Syllabus is inaccurate. It is suggested that you classify 1. who establishes to the satisfaction of the
the taxpayers in the manner above. Commissioner the fact of his physical
presence abroad with intention to reside
--------------------------------------------------------------- therein
a) Individual Taxpayers 2. who leaves the Philippines during the
--------------------------------------------------------------- taxable year to reside abroad either as an
immigrant or for employment on a
permanent basis
---------------------------------------------------------------
3. one who works and derives income from
(i) Citizens abroad and whose employment thereat
(a) Resident citizens requires him to be physically present
(b) Non-resident citizens abroad most of the time during the taxable
--------------------------------------------------------------- year.

PIERRE MARTIN DE LEON REYES Page 47 of 158


Ateneo Law Batch 2013 Last Updated: 30 July 2013(v3)
PM REYES BAR REVIEWER ON TAXATION I
(Based on the 2013 Bar Syllabus and Updated with Recent BIR Issuances and the
Latest Supreme Court and CTA Jurisprudence as of January 31, 2013)

4. who has been previously considered a non- Ruling 33-00 [September 5, 2000], however, the CIR
resident citizen and who arrives in the held that for overseas contract workers, the time spent
Philippines at any time during the taxable abroad is not material as all that is required is for the
year to reside permanently in the Philippines worker’s employment contract to pass through and be
registered with the POEA.
with respect to his income derived from
sources abroad
Q: If a natural-born Philippine citizen who
[See Section 22(E), NIRC] became a citizen of the United States is later
on granted Philippine dual citizenship under
Note that Section 2, RR No. 01-79 [January 8, RA 9225, is he required to pay taxes for
1979] enumerates who are deemed “non-resident income earned in the United States?
citizens:”
No. In BIR Ruling DA-095-05 [March 29, 2005], the
1. Immigrant – one who leaves the Philippines CIR held that such a person would be a non-resident
to reside abroad as an immigrant for which a citizen, and hence, will not be required to pay
foreign visa has been secured Philippine tax for income earned in the United
2. Permanent employee – one who leaves the States.
Philippines to reside abroad for employment
on a more or less permanent basis ---------------------------------------------------------------
3. Contract worker – one who leaves the (ii) Aliens
Philippines on account of a contract of (a) Resident Aliens
employment which is renew from time to (b) Non-resident Aliens
time under such circumstance as to require
(1) Engaged in trade or business
him to be physically present abroad most of
the time (not less than 183 days) (2) Not engaged in trade or business
---------------------------------------------------------------
Q: Should a non-resident citizen file an
Note: It is important to know the classification of alien
income tax return or information return taxpayers to know (1) the tax rates to be imposed on their
covering his income earned abroad? income derived from sources within the Philippines and (2)
allowable exemptions and deductions.
No. Previously, under RR No. 01-79, non-resident
citizens were required to do so. In RR No. 9-99, non- As to (1): Tax rates – A non-resident alien not engaged in
resident citizens were required to file an information trade or business within the Philippines is subject to a flat
return. However, under RR 05-01 [July 31, 2001], tax of 25% on income within the Philippines. (see Section
25(B), Tax Code). A resident alien is or non-resident alien
non-resident citizens are no longer required to file engaged in trade or business is subject to the graduated
the same on their income derived from sources income tax rates (see Section 23, Tax Code)
outside the Philippines.
As to (2): Deductions – Resident aliens can avail of
Q: What is meant by the phrase “most of the deductions while non-resident aliens not engaged in trade
time” as used in determining whether a or business cannot avail of deductions.
citizen who derives income from abroad and Exemptions – Resident aliens are allowed personal and
is physically present abroad is a non- additional exemptions while non-resident aliens engaged
resident? in trade or business in the Philippines are entitled to
personal exemptions only by way of reciprocity and not to
RR No. 01-79 states that to be physically present additional exemptions.
abroad most of the time during the taxable year, a
contract worker must have been outside the Read Section 22(F) and (G), Tax Code
Philippines for not less than 183 days during such
taxable year. Q: Who is a resident alien?

Note: As can be seen from the wording of RR No. 01-79, A resident alien is an individual whose residence is
“most of the time” applies to a contract worker. In BIR within the Philippines and who is not a citizen

PIERRE MARTIN DE LEON REYES Page 48 of 158


Ateneo Law Batch 2013 Last Updated: 30 July 2013(v3)
PM REYES BAR REVIEWER ON TAXATION I
(Based on the 2013 Bar Syllabus and Updated with Recent BIR Issuances and the
Latest Supreme Court and CTA Jurisprudence as of January 31, 2013)

RR 2 provides that an alien who has acquired


Q: How is the residency of an alien residence in the Philippines retains his status as a
determined? resident until he abandons the same and actually
departs from the Philippines. An intention to
An alien is considered a non-resident if he stays change his residence does not change his status as
here for a definite short period of time. a resident alien to that of a nonresident alien.

An alien will be considered a resident if the stay here Q: Who is a non-resident alien?
is either:
A non-resident alien is an individual:
1. definite and extended;
2. indefinite 1. whose residence is not within the Philippines; and
2. who is not a citizen thereof
An alien actually present in the Philippines who is
not a mere transient or sojourner is a resident of the Note: Determination is by his intention with regard to the
Philippines for purposes of the income tax. length and nature of his stay (see Section 5, RR 2).
Again, remember, that an alien is considered a non-
resident if he stays here for a definite short period of
In GARRISON V. CA [JULY 19, 1990], in resolving the time.
contention of US nationals that they cannot be
considered resident aliens as they intend to go back
Q: What are two kinds of non-resident
to the US on termination of their employment in the
Philippines, the Supreme Court held that what the aliens?
law requires is merely physical or bodily presence in
a given place for a period of time, not the intention to 1. Engaged in trade, business, or the practice
make it a permanent place of abode. of a profession in the Philippines
2. Not engaged in trade business, trade or
The Supreme Court further held that, as laid clearly exercise of a profession within the
in RR No. 2, whether an alien is a transient or not is Philippines
determined by his intentions with regard to the
length and nature of his stay. A mere floating Read Section 25(A)(1), Tax Code
intention indefinite as to time, to return to another
country is not sufficient to constitute him as a Q: How do you determine if a non-resident
transient. If he lives in the Philippines and has no alien is engaged in trade or business?
15
definite intention as to his stay, he is a resident.
One who comes to the Philippines for a definite Once a taxpayer is determined to be a non-resident
purpose, which in its nature may be promptly alien, the test to determine whether the alien is a
16
accomplished, is a transient. But if his purpose is non-resident alien engaged in trade or business is
of such a nature that an extended stay may be whether his total aggregate stay for a taxable year
necessary for its accomplishment, and to that end exceeds 180 days.
the alien makes the Philippines his temporary home,
he becomes a resident, although he intends to ---------------------------------------------------------------
17
return to his domicile abroad. (iii) Special class of individual employees
(a) Minimum wage earner
Q: When is the residence of an alien ---------------------------------------------------------------
considered lost?
Section 22(GG) and (HH), Tax Code
_________________________________________
Note: This is not a kind of taxpayer. A minimum wage
15
In other words, stay is indefinite. worker is actually a resident citizen only that it is exempt
16
In other words, the stay is for a definite short period of time. from income tax.
17
In other words, the stay is definite but extended.

PIERRE MARTIN DE LEON REYES Page 49 of 158


Ateneo Law Batch 2013 Last Updated: 30 July 2013(v3)
PM REYES BAR REVIEWER ON TAXATION I
(Based on the 2013 Bar Syllabus and Updated with Recent BIR Issuances and the
Latest Supreme Court and CTA Jurisprudence as of January 31, 2013)

Q: Is the income of minimum wage earners Read Section 61, Tax Code
subject to the graduated income tax rates?
Q: To whom shall the income of a trust be
No. Minimum wage earners shall be exempt from taxable to?
the payment of income tax on their taxable income.
Further, their holiday pay, overtime pay, night shift If the trust instrument is irrevocable, the income
differential pay, and hazard pay received by them shall be taxable to the fiduciary. If the trust
shall likewise be exempt from income tax (see 21
instrument is revocable, the income shall be
Section 24, Tax Code as amended by RA 9504) taxable to the grantor.

--------------------------------------------------------------- Q: Is the tax imposed on trusts applicable to


e) Estates18 and trusts19 all trusts?
---------------------------------------------------------------
No. If the trust were an employee’s trust which
Note: This is discussed first because they should be forms part of an employer’s pension, stock or profit-
properly treated as individuals as their taxable income is sharing plan that complies with the requirements of
computed in the same manner and on the same basis as tax exemption under Section 60(B) the NIRC, its
in the case of an individual (see Section 61, Tax Code)
income would be exempt from income tax.
Q: Define estate for purposes of income ---------------------------------------------------------------
taxation. (b) Corporations
The Tax Code does not provide a definition.
---------------------------------------------------------------
However, Atty. Domondon suggests that the word
“estate” refers to the mass of properties and assets Read Section 22(B), Tax Code
left behind by the deceased. The income that is
subject to income taxation is the “income received ---------------------------------------------------------------
by estates of deceased persons during the period of (i) Domestic Corporations
administration or settlement of the estate.” (see (ii) Foreign Corporations
20
Section 60, Tax Code) (a) Resident foreign corporations
(b) Non-resident foreign corporations
Q. How are the incomes of estates and ---------------------------------------------------------------
trusts taxed?
Read Section 22(C), (D), (H) and (I), Tax
The taxable income of estates and trusts is
computed in the same manner and on the same Code
basis as in the case of an individual subject to
Note: It is important to know the classification of Philippine
certain exceptions
citizens on whether they are domestic corporations or
foreign corporations to determine what incomes are
subject to tax in the Philippines. A domestic corporation is
_________________________________________
_________________________________________
18
An estate is created by operation of law, when an individual
21
dies, leaving properties to his compulsory or other heirs. The trust instrument is “revocable” where at any time the
19
A trust is a legal arrangement whereby the owner of the power to revest in the grantor title to any part of the corpus of the
property (the trustor) transfers ownership to a person (the trustee) trust is vested:
who is to hold and control the property according to the owner’s a. in the grantor, either alone or in conjunction with any
instructions, for the benefit of a designated person(s) (the person not having a substantial adverse interest in the
beneficiary). Legal title to the trust property is vested in the trustee disposition of such part of the corpus or the income
while equitable title belongs to the beneficiary. therefrom
20
To illustrate by way of example: A died leaving a condo unit b. in any person not having a substantial adverse interest in
which he rents out. The rentals that would accrue prior to the the disposition of such part of the corpus or the income
settlement of A’s estate would be subject to income tax. therefrom, the income of such part of the trust.

PIERRE MARTIN DE LEON REYES Page 50 of 158


Ateneo Law Batch 2013 Last Updated: 30 July 2013(v3)
PM REYES BAR REVIEWER ON TAXATION I
(Based on the 2013 Bar Syllabus and Updated with Recent BIR Issuances and the
Latest Supreme Court and CTA Jurisprudence as of January 31, 2013)

taxed on its income from sources within and without the tax of 10%. ABC argues that following the
Philippines, but a foreign corporation is taxed only on its principal-agent relationship theory, ABC is a
income from sources within the Philippines.
resident foreign corporation subject only to
It is important to know the kinds of foreign corporations for the 10 % intercorporate final tax on
income taxation purposes to determine the allowable dividends received from a domestic
deductions. While a resident foreign corporation is taxable corporation. Is ABC correct?
on income solely from sources within the Philippines, it is
permitted to deductions from gross income but only to the
extent connected with income earned in the Philippines.
No. The general rule that a foreign corporation is the
On the other hand, non-resident foreign corporations same juridical entity as its branch office in the
cannot avail of deductions. (see N.V. REEDERIJ Philippines cannot apply here. This rule is based on
“AMSTERDAM” VS. CIR [JUNE 23, 1988]) the premise that the business of the foreign
corporation is conducted through its branch office,
Q: Enumerate the kinds of corporate following the principal agent relationship theory. It is
taxpayers and define each. understood that the branch becomes its agent here.
So that when the foreign corporation transacts
A corporation is itself a taxpaying entity and business in the Philippines independently of its
speaking generally, for purposes of income tax, branch, the principal-agent relationship is set aside.
corporations are classified into (a) domestic The transaction becomes one of the foreign
corporations and (b) foreign corporations. corporation, not of the branch. Consequently, the
Foreign corporations are further classified into (1) taxpayer is the foreign corporation, not the branch or
resident foreign corporations and (2) non- the resident foreign corporation. Corollarily, if the
resident foreign corporations. business transaction is conducted through the
branch office, the latter becomes the taxpayer, and
For definitions, see table below. not the foreign corporation. (see M ARUBENI
CORPORATION VS. CIR [SEPTEMBER 14, 1989]).
Domestic one created or organized in the
corporation Philippines or under its laws. Q: XYZ is a foreign shipping company. It
Foreign one created or organized under does not have a branch office in the
Corporation the laws of a foreign country. Philippines and it made only two calls in
Resident foreign a foreign corporation engaged in
Corporation trade or business within the
Philippine ports. What kind of foreign
Philippines or having an office or corporation is XYZ?
place of business therein.
Non-resident a foreign corporation not XYZ is a foreign corporation not authorized or
foreign engaged in trade or business licensed to do business in the Philippines. In order
corporation within the Philippines and not that a foreign corporation may be considered
having any office or place of engaged in trade or business, its business
business therein. transactions must be continuous. A casual
business activity in the Philippines by a foreign
Q: ABC Corporation, a foreign corporation corporation does not amount to engaging in
in Japan and licensed to do engage in trade or business in the Philippines for income
business in the Philippines (hence, a tax purposes. Accordingly, its taxable income for
resident foreign corporation) has equity purposes of our income tax law consists of its gross
investments in XYZ Company, a domestic income from all sources within the Philippines. (see
corporation. XYZ declared and paid cash N.V. REEDERIJ “AMSTERDAM” VS. CIR [JUNE 23,
dividends to ABC. XYZ directly remitted the 1988])
cash dividends to ABC’s head office in
Japan (hence, a non-resident foreign
corporation) net not only of the 10% final
dividend tax but also of the withheld 15%
profit remittance tax based on the remittable
amount after deducting the final withholding

PIERRE MARTIN DE LEON REYES Page 51 of 158


Ateneo Law Batch 2013 Last Updated: 30 July 2013(v3)
PM REYES BAR REVIEWER ON TAXATION I
(Based on the 2013 Bar Syllabus and Updated with Recent BIR Issuances and the
Latest Supreme Court and CTA Jurisprudence as of January 31, 2013)

--------------------------------------------------------------- 1. covered by a special license as contractor by the


(iii) Joint venture and consortium22 PCAB; and
--------------------------------------------------------------- 2. construction project is certified by the
appropriate government office as a foreign
Q: Are joint ventures taxable? financed/internationally-funded project and that
international bidding is allowed under the
Generally, yes. However, a joint venture or bilateral agreement between the Philippine
consortium undertaking construction projects or government; and foreign/international financing
engaged in petroleum operations with an institution.
operating contract with the government are not
liable for income tax. Q: Two local contractors entered into a joint
development agreement to construct a
Q: What are the requirements in order for a residential subdivision. One local contractor
joint venture formed for construction shall contribute the parcel of land while the
purposes be not liable for income tax? other shall contribute the construction and
development of the parcel of land into a
In RR No. 010-12 [JUNE 1, 2012], a joint venture or subdivision. Each shall receive an allocation
consortium formed for the purpose of undertaking of saleable house and lot units from the
construction projects which is not considered as a project. Is the joint venture liable for income
taxable corporation should be: tax?
1. For the undertaking of a construction project; No. In BIR Ruling No. 108-2010 [October 19,
2. Should involve joining or pooling of resources by 23
2010], involving a joint venture between Avida and
licensed local contractors, licensed by the Aurora, the CIR held that the joint development
Philippine Contractors Accreditation Board agreement between the two is not subject to income
(PCAB) of the DTI; tax because joint ventures formed by local
3. The local contractors are engaged in contractors for construction purposes are deemed
construction business; as not falling under the definition of a taxable
4. The joint venture itself must likewise be duly corporation.
licensed as such by the PCAB
---------------------------------------------------------------
Absent one of the requirements, the joint venture
c) Partnerships24
formed for construction purposes shall be
considered a taxable corporation. f) Co-ownerships
---------------------------------------------------------------
Q: May joint ventures involving foreign
Note: Co-ownerships have been included in this
contractors be treated as a non-taxable discussion because in most cases, the Court has been
corporation? asked to determine whether there exists a taxable
(unregistered) partnership and not a mere co-ownership.
Yes, provided that the member foreign contractor is:

_________________________________________
_________________________________________
23
It is also important to note in this BIR Ruling that the CIR held
22
The requisites of a joint venture are as follows: that the allocation of saleable units does not constitute as a
1. Contribution by each party taxable event as no income is actually realized by Avida or
2. Profits are shared among the parties Aurora.
24
3. There is joint right of mutual control over the subject By the contract of partnership, two or more persons bind
matter themselves to contribute money, property or industry to a
4. There is a single business transaction rather than a common fund with the intention of dividing the profits among
general or continuous transaction. themselves (see Article 1767, Civil Code)

PIERRE MARTIN DE LEON REYES Page 52 of 158


Ateneo Law Batch 2013 Last Updated: 30 July 2013(v3)
PM REYES BAR REVIEWER ON TAXATION I
(Based on the 2013 Bar Syllabus and Updated with Recent BIR Issuances and the
Latest Supreme Court and CTA Jurisprudence as of January 31, 2013)

income tax. Is the co-ownership taxable as a


Q: Is a partnership liable for income tax? corporation?

Yes. The term “corporations” includes partnerships, No. A co-ownership who own properties which
no matter how created or organized. produce income should not automatically be
considered partners of an unregistered partnership,
Q: What are the kinds of partnerships under or a corporation, within the purview of the income
the Tax Code? tax law. The essential elements of a partnership are
two, namely: (a) an agreement to contribute money,
1. Taxable partnerships – these are business property or industry to a common fund; and (b) intent
partnerships or partnerships which are to divide the profits among the contracting
organized for the purpose of engaging in parties. Here, there is no evidence that petitioners
trade or business. They are subject to entered into an agreement to contribute money,
income tax as if they were corporations property or industry to a common fund, and that they
whether or not registered with the SEC as a intended to divide the profits among themselves.
partnership The sharing of returns does not in itself establish a
2. Exempt partnerships – these are partnership whether or not the persons sharing
partnerships not considered as taxable therein have a joint or common right or interest in
entities for income tax purposes i.e. General the property. There must be a clear intent to form a
Professional Partnerships). partnership, the existence of a juridical personality
different from the individual partners, and the
Q: How do you determine if a partnership is freedom of each party to transfer or assign the
taxable? (elements of a taxable partnership) whole property. (see OBILLOS v. CIR [OCTOBER 29,
1985] and PASCUAL V. CIR [OCTOBER 18, 1988]).
1. An intent to form the same
2. Generally participating in both profits and Q: A group of insurance companies in the
losses Philippines decided to form a pool and
3. Such a community of interest, as far as third entered into a reinsurance treaty with a non-
persons are concerned as enables each resident reinsurance company. Is such a
party to make contract, manage he business pool subject to corporate taxes and
and dispose of the whole property. withholding taxes on dividends paid to the
non-resident reinsurance company?
Q: Is a co-ownership taxable as a
corporation? Yes. Where several local insurance ceding
companies enter into a Pool Agreement or an
No. The common ownership of property does not by association that would handle all the insurance
itself create a partnership between the owners, businesses covered under their quota-share
though they may use it for purposes of making reinsurance treaty and surplus reinsurance
gains. Article 1769(3) of the Civil Code provides treaty with a non-resident foreign reinsurance
that “the sharing of gross returns does not by itself company, the resulting pool having a common fund,
establish a partnership whether or not the persons and functions through an executive board and its
sharing them have a joint or common right or interest work is indispensable, beneficial and economically
in any property from which the returns are derived. useful to the business of the ceding companies and
the foreign firm, such circumstances indicate a
Q: A and B, co-owners, bought 3 parcels of partnership or an association taxable as a
land in one transaction and bought 2 more corporation (see AFISCO INSURANCE CORPORATION
parcels of land in another. They decided to VS. CIR [JANUARY 25, 1999])
sell the 3 parcels to C and the 2 parcels to D.
They realized a net profit gain and paid CGT. Q: A and B inherited properties. They did
CIR assessed them for deficiency corporate not partition the same and instead invested
them to a common fund and divide the

PIERRE MARTIN DE LEON REYES Page 53 of 158


Ateneo Law Batch 2013 Last Updated: 30 July 2013(v3)
PM REYES BAR REVIEWER ON TAXATION I
(Based on the 2013 Bar Syllabus and Updated with Recent BIR Issuances and the
Latest Supreme Court and CTA Jurisprudence as of January 31, 2013)

profits therefrom. Should they be classified income of which is derived from engaging in any
as an unregistered partnership subject to trade or business.
corporate income tax?
Q: Is a GPP liable for income tax?
Yes. The income from inherited properties may be
considered as individual income of the respective No. A GPP is not considered a taxable entity for
heirs only as long as the inheritance or estate is not income tax purposes. Section 26 of the NIRC
distributed, or, at least, partitioned. But the moment provides that persons engaging in business as
their respective known shares are used as part of partners in a GPP shall be liable for income tax only
the common assets of heirs to be used in making in their separate and individual capacities computed
profits, it is but proper that the income from such on their respective distributive shares of the
shares should be considered as part of the taxable partnership profit.
income of an unregistered partnership. (see ONA V.
CIR [M AY 25, 1972]). Q: Distinguish between a GPP and an
ordinary business partnership.
Note: Thus, we make a distinction. Before the partition of
property, the income of the co-ownership arising from the A general professional partnership, unlike an
death of a decedent is not subject to income tax, if the ordinary business partnership (which is treated as a
activities of the co-owners are limited to the preservation corporation for income tax purposes and so subject
of the property and the collection of the income therefrom.
However, after partition, should the co-owners invest the
to the corporate income tax), is not itself an income
income of the co-ownership in any income-producing taxpayer. The income tax is imposed not on the
properties, they would be constituting themselves into an professional partnership, which is tax exempt, but on
unregistered partnership which is consequently subject to the partners themselves in their individual capacity
income tax as a corporation. computed on their distributive shares of partnership
profits (see CARAG, CABALLES, JAMORA AND SOMERA
Q: A and B bought 3 parcels of land in 1976 LAW OFFICES VS. DEL ROSARIO [OCTOBER 3, 1994])
and 2 parcels of land in 1977. In 1988 they
sold the first three to Z and the other two ---------------------------------------------------------------
were sold to Y in 1989. A and B realized a 7. Income Taxation
net profit from the sale and they individually a) Definition
paid he corresponding capital gains tax. The b) Nature
CIR assessed them for deficiency income c) General Principles
tax arguing that they formed an ---------------------------------------------------------------
unregistered partnership. Is the contention
of the CIR correct? Q: Define Income tax.

No. Isolated transactions by two or more persons do Income tax is a tax on all yearly profits arising from
not warrant their being considered as an property, professions, trades and offices.
unregistered partnership. They will instead be
considered as mere co-owners; no corporate income In CONWI V. CTA [AUGUST 31, 1992], the Supreme
tax is due on mere co-ownerships. Court defined income tax as an amount of money
coming to a person or corporation within a specified
--------------------------------------------------------------- time, whether as payment for services, interest, or
profit from investment.
d) General Professional Partnerships (GPP)
---------------------------------------------------------------
Q: What is the nature of income tax?
Q: What is a GPP? An income tax is an excise tax and not a tax on
property. It is levied upon the privilege of receiving
General professional partnership (GPP) are income or profit.
partnerships formed by persons for the sole purpose
of exercising their common profession, no part of the

PIERRE MARTIN DE LEON REYES Page 54 of 158


Ateneo Law Batch 2013 Last Updated: 30 July 2013(v3)
PM REYES BAR REVIEWER ON TAXATION I
(Based on the 2013 Bar Syllabus and Updated with Recent BIR Issuances and the
Latest Supreme Court and CTA Jurisprudence as of January 31, 2013)

As stated by the Supreme Court in REPUBLIC OF THE ---------------------------------------------------------------


PHILIPPINES VS. M ANILA ELECTRIC COMPANY 8. Income
[NOVEMBER 15, 2002], income tax is imposed on an a) Definition
individual or entity as a form of excise tax or a tax on b) Nature
the privilege of earning income. In exchange for the
c) When Income is taxable
protection extended by the State to the taxpayer, the
government collects taxes as a source of revenue to d) Tests in determining whether income is
finance its activities. earned for tax purposes
---------------------------------------------------------------
Q: What are the general principles of income
Note: The outline provided in the 2013 Syllabus on
taxation? Income was not well thought of. This is how the discussion
is going to be: First, I will discuss the (a) Definition and (b)
Note: We will discuss this again and in more detail and Nature of Income. Second, I will discuss (c) when income
with cases when we discuss situs of income taxation and is taxable (excluding methods of accounting) and (d) tests
source of income rules under Part 9 (Gross Income) of in determining whether income is earned for tax purposes.
Chapter 2 of the Syllabus. Third, I will discuss taxable income (not in the Syllabus),
taxable periods (recall that I said earlier that I would move
Under Section 23, Title II, Tax Code, the general the discussion here in Income), and then (iv) methods of
principles are: accounting.

Resident Citizen taxable on all income derived from ---------------------------------------------------------------


sources within and outside the a) Definition
Philippines
b) Nature
Non-Resident taxable only on income derived from ---------------------------------------------------------------
Citizen sources within the Philippines
[By definition of a non-resident Q: Define income for tax purposes.
citizen, this applies to an overseas
contract worker (a citizen working Income means the gain derived from capital, from
and deriving income from abroad)]
labor, or from both combined, including profits
Alien (whether taxable only on income derived from
gained from dealings in property or as well as any
resident or non- sources within the Philippines asset clearly realized whether earned or not.
resident)
Income may be defined as the amount of money
Domestic taxable on all income derived from coming to a person or corporation within a specified
corporation sources within and outside the time, whether as payment for services, interest or
Philippines profit from investment.
Foreign taxable only on income derived from It refers to all wealth which flows into the taxpayer
corporation sources within the Philippines other than as a mere return on capital. (RR No.2)
(This applies whether the foreign
corporation is engaged or not in
Thus, as stated in FISHER V. TRINIDAD [OCTOBER 30,
trade or business in the Philippines) 1922], mere advance in the value of property or a
corporation in no sense constitutes the income
Note: Simply put, only resident citizens and domestic specified in the law. Such advance constitutes and
corporations are taxable on their worldwide income (both can be treated merely as an increase in capital.
income inside and outside the Philippines) while the other
types of individual and corporate taxpayers (i.e. non- Q: What is the nature of income?
resident citizen, non-resident alien, foreign corporation)
are taxable only on income derived from sources within
the Philippines.
Income is that 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. Income is the

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Ateneo Law Batch 2013 Last Updated: 30 July 2013(v3)
PM REYES BAR REVIEWER ON TAXATION I
(Based on the 2013 Bar Syllabus and Updated with Recent BIR Issuances and the
Latest Supreme Court and CTA Jurisprudence as of January 31, 2013)

“fruit” of capital or labor severed from the “tree.” (see However, stock dividends constitute as income if a
M ADRIGAL VS. RAFFERTY [AUGUST 7, 1918]). corporation redeems stock issued so as to make a
25
distribution. This is essentially equivalent to the
Q: What is the difference between income distribution of a taxable dividend the amount so
and capital? distributed in the redemption considered as taxable
income. (see COMMISSIONER VS. M ANNING [AUGUST
Income is distinct from capital. Income means all the 7, 1975])
wealth which flows into the taxpayer other than a
mere return on capital while capital is a fund or Q: Is money received as exemplary
property existing at one distinct point in time while damages (punitive damages) income?
income denotes a flow of wealth during a definite
period of time. Income is gain derived and severed Yes. In COMMISSIONER V. GLENSHAW GLASS CO. [348
from capital. (see CHAMBER OF REAL ESTATE AND U.S. 426], Glenshaw Co was engaged in a
BUILDER’S ASSOCIATION, INC. V. ROMULO [M ARCH 9, protracted litigation with Hartford-Empire Co where
2010]). the former demanded exemplary damages for fraud
and treble damages for injury to its business by
Income as contrasted with capital or property is to reason of the latter’s violation of federal antitrust
be the test. The essential difference between capital laws. The parties settled. Glenshaw did not report
and income is that capital is a fund; income is a flow. the money received as damages from the settlement
A fund of property existing at an instant of time is in its income tax return. The Commissioner
called capital. A flow of services rendered by that assessed Glenshaw for the deficiency. Glenshaw
capital by the payment of money from it or any other contended that punitive damages, as windfalls
benefit rendered by a fund of capital in relation to flowing from culpable conduct of third parties are not
such fund through a period of time is called an taxable income. The US Supreme Court held that
income. Capital is wealth, while income is the money received as damages must be reported as
service of wealth. A tax on income is not a tax on they constitute income. The mere fact that such
property. "Income," as here used, can be defined as payments were extracted from wrongdoers cannot
"profits or gains." (see M ADRIGAL VS. RAFFERTY detract from their character as taxable income. The
[AUGUST 7, 1918]). Court also stated that punitive damages cannot be
classified as gifts.
Q: Are stock dividends income or capital?
Q: Is money received as compensatory
Generally, stock dividends represent capital and do damages income?
not constitute as income to its recipient. Mere
issuance thereof is not yet subject to income tax as Yes. In MURPHY V. IRS [493 F.3d 170], the US Court
they are nothing but an enrichment through increase of Appeals (District of Columbia), held that the
in value of capital investment. Such are considered amount received as compensatory damages on for
unrealized gain and cannot be subjected to income emotional distress and loss of reputation constitutes
tax until that gain has been realized. taxable income.

As explained by the Supreme Court in FISHER V. Note: It must be noted, however, that in the Murphy case,
TRINIDAD [OCTOBER 30, 1922], when a corporation what was involved was physical injuries. Note under our
issues stock dividends, it shows that the Tax Code, amounts received as compensation for
corporation’s accumulated profits have been personal injuries are excluded from gross income and
capitalized, instead of distributed to the stockholders hence, not taxable. Thus, we must make a distinction. If
it’s non-physical injuries like mental anguish, the damages
or retained as surplus available for distribution. The are included in gross income and hence taxable but if it’s
stockholder receives nothing out of the corporate _________________________________________
assets for his separate use and benefit but a
representation of his increased interest in the capital 25
The exception to the rule that stock dividends do not constitute
of the corporation. The capital still belongs to the income shall be discussed more extensively later. Knowing that
corporation as there is no separation of interest. there is an exception will suffice for now.

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Ateneo Law Batch 2013 Last Updated: 30 July 2013(v3)
PM REYES BAR REVIEWER ON TAXATION I
(Based on the 2013 Bar Syllabus and Updated with Recent BIR Issuances and the
Latest Supreme Court and CTA Jurisprudence as of January 31, 2013)

physical injuries, it is excluded from gross income.


--------------------------------------------------------------- (see Section 52, RR No. 2)
c) When income is taxable
(i) Existence of income Q: Distinguish actual receipt from
(ii) Realization of income constructive receipt.
(a) Tests of realization
(b) Actual vis-à-vis constructive receipt Actual receipt may be actual or physical receipt
29
(iii) Recognition of income while constructive receipt occurs when money
--------------------------------------------------------------- consideration or its equivalent is placed at the
control of the person who rendered the service
Q: When is income taxable? (elements of a without restriction by the payor (see Section 4.108-
A, RR 16-2005).
taxable income)

Income, gain or profit is subject to income tax when Q: What is the constructive receipt
the following conditions are present: doctrine?

1. There is income, gain or profit (existence of The constructive receipt doctrine provides than an
26 item is treated as income when it is credited to the
income)
2. The income, gain or profit is not exempt from account of the taxpayer, or made unconditionally
27 available to the taxpayer; no physical possession is
income tax.
3. The income, gain or profit is received or realized required. (see Section 52, RR No. 2-40)
28
during the taxable year; (realization of
income) Income is received not only when it is actually
handed to a taxpayer but also when it is merely
Note: As to (1) – for tax purposes, income does not only constructively received by him. In LIMPAN
refer to the money a taxpayer receives but includes INVESTMENT V. CIR [JULY 26, 1966], the lessees
anything of value. opted to deposit their payments when the lessor
refused to accept the same in 1957. The lessor did
As to (2) – An income may have other elements but the not report these payments in his 1957 income tax
law may specifically exclude the same from income for tax return. The Supreme Court held that the failure to
purposes i.e. certain passive incomes excluded from
income as they are already subject to final taxes.
report the said rental income is unjustified as, when
the payments were deposited, the lessor was
As to (3) – Even if there is material gain, not excluded by deemed to have constructive received such rentals.
law, if the material gain is not yet realized by the taxpayer,
then there is no income to speak of. Q: When is income recognized?

Following the realization principle, income is


Q: When is income considered received for generally recognized when both the following
income tax purposes? conditions are met:

1. If actually or physically received by the 1. The earning process is complete or virtually


taxpayer (actual receipt) complete
2. If constructively received by the taxpayer 2. An exchange has taken place
(constructive receipt)
_________________________________________
26
As opposed to mere reimbursements or return on capital. _________________________________________
27
Examples of those exempt from income tax: de minimis
29
benefits and professional fees of GPPs. Examples of income constructively received: (1) deposits in
28
As opposed to the common examples of unrealized forex gains banks (2) interest coupons; (3) undistributed share of a partner in
or mere revaluation increments. the profits of a general partnership

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Ateneo Law Batch 2013 Last Updated: 30 July 2013(v3)
PM REYES BAR REVIEWER ON TAXATION I
(Based on the 2013 Bar Syllabus and Updated with Recent BIR Issuances and the
Latest Supreme Court and CTA Jurisprudence as of January 31, 2013)

(see M ANDARIN HOTELS V. CIR, CTA CASE NO, 5046, services they are plainly
M ARCH 24, 1997] compensation which is taxable
income COMMISSIONER V. LABUE
[351 US 243]
---------------------------------------------------------------
d) Tests in determining whether income is All Events Test Income is reportable when all
earned for tax purposes the events have occurred that
(i) Realization test fix the taxpayer’s right to
(ii) Claim of right doctrine or doctrine of receive the income and the
amount can be determined with
ownership, command or control reasonable accuracy. CIR V.
(iii) Economic benefit test, doctrine of ISABELA CULTURAL
proprietary interest CORPORATION, G.R. NO. 172231,
(iv) Severance test FEBRUARY 12, 2007
(v) All events test
Flow of Wealth Test The test of taxability is the
--------------------------------------------------------------- source (the property, activity or
service that produced the
Note: The enumeration is inaccurate in that realization income determins whether any
test and severance test is one and the same. Also it does gain was derviced from the
not include the Flow of Wealth Test. transaction COLLECTOR V.
ADMINISTRATRIX OF THE ESTATE
Q: Enumerate the different tests for income OF ECHARRI, G.R. NO. 45544,
determination and define each. APRIL 25, 1939.

Realization/Severance There is no taxable income until


test there is a separation from ---------------------------------------------------------------
capital of something of Taxable Periods
exchangeable value, thereby ---------------------------------------------------------------
supplying the realization or
transmutation which would
result in the receipt of income. Read Section 22(P) and (Q), Tax Code

Income is not deemed realized Q: What are the different taxable periods
until the fruit has been plucked provided for in the Tax Code?
from the tree EISNER V.
MACOMBER [252 US 426]
1. Calendar period or calendar year – is an
Claim of Right The power to dispose of income
accounting period which starts from January
Doctrine/Doctrine of is the equivalent of ownership 1 and ends on December 31
Ownership, of it. The exercise of that power 2. Fiscal period or fiscal year - is an
Command or Control to procure the payment of accounting period of 12 months ending on
income to another is the the last day of any month other than
enjoyment and hence the December 31.
realization of the income by him 3. Short period – is an accounting period
who exercises it. The dominant wherein income shall be computed on the
purpose of the revenue laws is
basis of a period less than 12 months.
the taxation of income to those
who earn or otherwise create
the right to receive it and enjoy Read Section 43, Tax Code
the benefit of it when paid
HELVERING V. HORST [311 U.S. Q: What is the general rule for computing
112]
the taxpayer’s taxable income?
Economic Benefits Where stock, options, shares of
Test/Doctrine of stock or other assets are The taxable income shall be computed upon the
Proprietary Interest transferred by an employer to basis of the taxpayer’s annual accounting period –
an employee to secure better fiscal year or calendar year as the case may be.

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Ateneo Law Batch 2013 Last Updated: 30 July 2013(v3)
PM REYES BAR REVIEWER ON TAXATION I
(Based on the 2013 Bar Syllabus and Updated with Recent BIR Issuances and the
Latest Supreme Court and CTA Jurisprudence as of January 31, 2013)

Q: Can a taxpayer change his accounting


Q: Can an individual compute his income on period?
the basis of a fiscal year?
Yes, but this applies only to corporate taxpayers. If
No. Individual taxpayers cannot use the fiscal the corporate taxpayer wishes to change his
period. They are required to use only the calendar accounting period from fiscal to calendar year, from
year. (RR 2-40). This would include Estates and calendar year to fiscal year, or from one fiscal year
Trusts and General Professional Partnerships to another, the net income shall, with the approval of
the CIR, be computed on the basis of such new
Q: Is a corporation required to use only the accounting period. (see Section 46, Tax Code)
calendar year?
---------------------------------------------------------------
No. As a general rule, income tax returns, whether (iv) Methods of accounting
individuals or for corporations, are required to be
(a) Cash method vis-à-vis accrual method
made and their income computed for each calendar
year. However, corporations may with the approval (b) Installment payment vis-à-vis deferred
of the CIR, file their returns and compute their payment vis-à-vis percentage completion (in
income on the basis of a fiscal year. (see Section long term contracts)
43, Tax Code). ---------------------------------------------------------------

Q: In what instances shall taxable income be Q: What are two main accounting methods
computed on the basis of calendar year? that may be used by taxpayers?

1. Taxpayer’s accounting period is other than The methods are:


fiscal year
2. Taxpayer has no annual accounting period 1. Cash Method – a method of accounting
3. Taxpayer does not keep books whereby all items of gross income received
4. Taxpayer is an individual during the year shall be accounted for in
5. Taxpayer is a general professional such taxable year and that only expenses
partnership actually paid shall be claimed as deductions
6. Taxpayer is an estate or a trust during the year

Q: In what instances shall taxable income be 2. Accrual Method – method of accounting for
computed on the basis of a short period? income in the period it is earned, regardless
of whether it has been received or not.
The general rule is that the taxable period is always Expenses are accounted for in the period
12 months. The exceptions (where a taxpayer may they are incurred and not in the period they
have a taxable period of less than 12 months) are: are paid.

1. Taxpayer, other than an individual, changes Note: Other methods would include (1) Installment
method; (2) Percentage of Completion Method and (3)
his accounting period from fiscal to calendar Crop year basis.
30
year or from calendar year to fiscal year or
from one fiscal year to another (Section 46,
Q: Distinguish cash method from accrual
Tax Code)
2. Taxpayer dies method of accounting.
3. Corporation is newly organized _________________________________________
4. Corporation is dissolved 30
Crop Year Basis is a method of accounting applicable only for
5. Tax period is terminated by the CIR by
farmers engaged in the production of crops which take more than
authority of law (Section 6(D), Tax Code) a year from the time of planting to the process of gathering and
disposal of the harvest. Expenses paid or incurred are deductible
Read Section 46, Tax Code in the year the gross income from the sale of the crops is realized.

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Ateneo Law Batch 2013 Last Updated: 30 July 2013(v3)
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Latest Supreme Court and CTA Jurisprudence as of January 31, 2013)

initial payment, the income realized from the


In cash method, income is reported in the year discounting itself is still a separate taxable income in
payments are received while expenses are deducted the year it was converted into cash because it was
in the year paid. On the other hand, in accrual at this year that there was actual gain on the
method, income is reported in the year it is earned discounted notes.
while expenses are deducted in the year it is
incurred, regardless of receipt or disbursement of Q: Explain the percentage of completion
cash. method.

Q: Can a taxpayer use a combination of two Percentage of Completion Method is a method of


or more methods of accounting? accounting applicable in the case of a building,
installation or construction contract covering a period
No. The rule is that a taxpayer may use any one in excess of one year, whereby gross income
method of accounting but not a combination of two derived from such contract may be reported upon
or more methods of accounting for each type of the basis of percentage of completion. (see Section
business during the taxable year. The use of a 48, Tax Code)
hybrid method of accounting is not allowed (see
CONSOLIDATED MINES VS. CTA [AUGUST 29, 1974]) Q: Explain the deferred payment method.

Q: Explain the installment method Deferred payment method is a method of


accounting considered when payments are made at
Installment Method is a method of accounting a later date.
considered appropriate when collections of the
proceeds of sales and incomes extend over When the asset sold is an ordinary asset or a capital
relatively long periods of time and there is strong asset other than property subject to capital gains
possibility that full collection will not be paid. As tax, the income from deferred payment sale of
customers make installment payments, the seller property may be reported under the instalment
recognizes the gross profit on sale in proportion to method or deferred payment method.
the cash collected during the year. (see Section 49,
Tax Code) ---------------------------------------------------------------
9. Gross Income
Q: A sold lots to ABC Corp and was paid ---------------------------------------------------------------
less than 25%, the balance was covered by 4
checks. On the same day, the checks were Note: Previously, in Item 6 of Chapter 2 of the 2013 Bar
Syllabus, we looked into the types of taxpayers. In Item 8,
discounted (exchange for cash at an amount we determined when income is taxable. In this item, we
lower than face value) also ABC Corp. A determine what is included in gross income (because
reported as income for the year of the sale there are those already subject to final tax), what is
for the year of the sale only the cash amount excluded, what is deducted, and what exemptions can be
availed of.
received from sale and excluded the amount
received from the discounted checks. The In this part, I will focus more on the concepts, nature and
balance was reported as income only in the components of gross income, deductions, exclusions, and
next four years. A argues that initial exemptions. While I may provide certain tax rates on some
payment excludes evidence of sources of income, tax rate tables will be provided in
greater detail and for easier comprehension in the
indebtedness. Is A’s contention correct? discussion in Items 10-15 of Chapter 2 (NIRC) of the 2013
Syllabus on Taxation of the different kinds of taxpayers.
Yes. As held in BANAS V. CA [FEBRUARY 10, 2000], For now, let us understand the concepts.
The transaction remains to be an instalment (not
cash) sale as the law expressly excludes evidence At the end of the day, the whole point of knowing what
of indebtedness in the determination of how much constitutes gross income and what can be availed of as
was paid for the year. However, even if the proceeds deductions, exclusions, and exemptions is to know how
of discounted note is not considered as part of the much the taxpayer must pay. Two factual situations can

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Ateneo Law Batch 2013 Last Updated: 30 July 2013(v3)
PM REYES BAR REVIEWER ON TAXATION I
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Latest Supreme Court and CTA Jurisprudence as of January 31, 2013)

be inferred from most cases on income taxation. It’s either b) Concept of income from whatever source
the taxpayer overpaid and hence, he wants a refund or the derived
taxpayer underpaid and hence, the government assesses
him for deficiency taxes. This is why it is important to ---------------------------------------------------------------
understand the inclusions in gross income, deductions,
exclusions and exemptions because the controversy Q: Is the enumeration provided in Section
between the taxpayer and the government in most cases 32(A) exclusive?
would be in one of these areas.
No. Section 32(A) does not intend the enumeration
--------------------------------------------------------------- to be exclusive. It merely directs that the types of
9. Gross Income income listed therein be treated as income from
a) Definition sources within the Philippines (see CIR VS.
b) Concept of income from whatever source AMERICAN AIRLINES [DECEMBER 19, 1989]).
derived
c) Classification of income as to source Note: Note that the statutory definition contains the phrase
“all income derived from whatever source.” This indicates
--------------------------------------------------------------- that non-exclusive nature of the enumeration in Section
32(A).
Read Section 32(A), Tax Code
Q: What is meant by the phrase “all income
--------------------------------------------------------------- derived from whatever source"
a) Definition
--------------------------------------------------------------- The phrase “all income derived from whatever
source” encompasses all accessions to wealth,
clearly realized, and over which the taxpayers have
Q: Define gross income. (statutory
complete dominion. A gain constitutes taxable
inclusions of gross income) income when its recipient has such control over it
that as a practical matter, he derives readily
Except when otherwise provided, all income derived realizable economic value from it.
from whatever source, including, but not limited to,
the following items: Income from whatever sources refers to all income
not expressly excluded or exempted from the class
1. Compensation for services in whatever form of taxable income, irrespective of the voluntary or
paid, including, but not limited to fees, involuntary action of the taxpayer in producing the
salaries, wages, commissions and similar income GUTIERREZ V. CIR, CTA CASE NO. 65,
items; AUGUST 31, 1965]
2. Gross income derived from the conduct of
trade or business or the exercise of a Gains, money or otherwise derived from all other
profession; illegal source fall within the ambit of “income derived
3. Gains derived from dealings in property from whatever source” and is subject to income tax.
4. Interests
5. Rents Note: Income derived from whatever source will be
6. Royalties discussed in greater detail later.
7. Dividends
8. Annuities ---------------------------------------------------------------
9. Prizes and winnings c) Gross income vis-à-vis net income vis-à-
10. Pensions; and
vis taxable income
11. Partner’s distributive share from the net
income of the GPP ---------------------------------------------------------------

(see Section 32(A), NIRC) Read Section 31, Tax Code

---------------------------------------------------------------

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Ateneo Law Batch 2013 Last Updated: 30 July 2013(v3)
PM REYES BAR REVIEWER ON TAXATION I
(Based on the 2013 Bar Syllabus and Updated with Recent BIR Issuances and the
Latest Supreme Court and CTA Jurisprudence as of January 31, 2013)

Q: Distinguish gross income from net = Gross Income = Gross Income


income and taxable income Less: Deductions Less: Deductions
= Net Income = Taxable net income
Gross Income All income minus exclusions. (In Less: Personal and - x Tax Rate
other words, all income subject to Additional Exemptions = Tax Due
income tax) = Taxable net income
x Tax Rate
Taxable Income All pertinent items of gross income = Tax Due
less deductions and/or personal and
additional exemptions, if any,
authorized for such types of income
by this Code or other special laws
Note: Some minor matters: 1. Why do you stop at (2)
(see Section 31, NIRC)
when it comes to corporations? Well, corporations
cannot avail of personal and additional exemptions. By
Net income This is gross income less the
their nature, personal and additional exemptions apply
allowable deductions.
only to natural persons.

2. Why don’t you follow the computation if the income


is subject to final tax or when the gross compensation
Note: To connect to concepts of gross income, taxable
income tax system applies? Well, there’s no need to go
income, net income, deductions, exclusions and
through the computation, because the law provides for a
exemptions together, one must have an idea on how a
“final” tax. It’s final already and you just have to pay it. No
taxpayer would go about computing how much income tax
deduction, no exclusions, nothing. As to gross
he is going to pay.
compensation income tax system, this applies in the case
of a non-resident alien not engaged in trade and business
Q: How do you determine the net income tax in the Philippines, he just has to pay a tax equal to 25% of
payable? such gross income. No deduction, no exclusions, nothing.

In all cases, other than when a final tax is imposed I hope that placed things into perspective and highlights
or when the gross compensation income tax system the importance and relationship of the concepts of gross
applies, the income tax is imposed on the net income, deductions, exclusions and exemptions.
taxable income computed as follows:
---------------------------------------------------------------
(1) All income minus exclusions equals gross d) Classification of income as to source
income; ---------------------------------------------------------------
(2) Gross income less allowable deductions
equals net income (in case of corporations, Q: What are the classifications of income as
this is already the taxable net income) to source?
(3) Net income less personal and additional
exemptions (when applicable) equals 1. Gross income and taxable income from
taxable net income sources within the Philippines
(4) Taxable net income times income tax rates 2. Gross income and taxable income from
(on the graduated basis or corporate tax rate sources without the Philippines
as the case may be) equals net income tax 3. Income partly within or partly without the
due Philippines
(5) Income tax less creditable withholding tax
and/or tax credit equals net income tax Note: I’ll discuss this in greater detail under (x)(e) Source
payable. Rules in determining income from within and without and
(f) Situs of Taxation of this Item in the Syllabus. Let’s know
To simplify: first the different incomes that would be considered part of
gross income and then we determine whether it is within
Individual Corporation or without. It’s pointless to determine the source of the
income if you don’t know if it’s actually income in the first
place. Again, the 2013 Bar Syllabus was not well thought
All Income All income of.
Less: Exclusions Less: Exclusions

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Ateneo Law Batch 2013 Last Updated: 30 July 2013(v3)
PM REYES BAR REVIEWER ON TAXATION I
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Latest Supreme Court and CTA Jurisprudence as of January 31, 2013)

2. Salaries
--------------------------------------------------------------- 3. Wages
(e) Sources of income subject to tax 4. Commissions; and
(i) Compensation Income 5. Similar items
(ii) Fringe benefits
(see Section 32(A)(1))
(iii) Professional Income
(iv) Income from business
Q: What are the items not included in
(v) Income from dealings in property
compensation income?
(vi) Passive investment income
(vii) Annuities, proceeds from life insurance 1. For agricultural labor paid entirely in
or other types of insurance products of the farm where the labor is
(viii) Prizes and Awards performed
(ix) Pensions, retirement benefit or 2. For domestic service in a private home
31
separation pay 3. For casual labor not in the course of the
32
(x) Income from any source whatever employer’s trade or business
--------------------------------------------------------------- 4. For services by a citizen or resident of the
Philippines for a foreign government or an
--------------------------------------------------------------- international organization.
(i) Compensation Income
(see Section 78, NIRC)
---------------------------------------------------------------
Note: As to (2) – (a) A private home is the fixed place of
Read Section 78, Tax Code aboard of an individual or family. If the home is utilized
primarily for the purpose of supplying board or lodging to
Note: There are two components to compensation the public as a business enterprise, it ceases to be a
income: (1) the basic compensation income (which we will private home and remuneration paid for services
discuss here) and (2) fringe benefits which is specially performed therein is not exempted and should be included
treated by the Tax Code. in compensation income.

Q: Define compensation for income tax (b) The services of a household personnel furnished to an
employee (except rank and file employee) by an employer
purposes. shall be subject to fringe benefit tax.

Compensation means all remuneration for services As to (3) – (a) Any remuneration paid for casual labor
performed by an employee for his employer under and does not promote or advance the employer’s trade or
an employer-employee relationship unless business is not considered compensation income.
specifically excluded by the Tax Code. This includes However, any remuneration paid for casual labor but in the
the cash value of all remuneration paid in any course of the employer’s trade or business is considered
as compensation.
medium other than cash. (see Section 78, NIRC,
Section 2.78.3, RR No. 2-98). Compensation may
be paid in money, or in some medium other than Q: What is the test to determine whether an
money as for example, stocks, bonds, or other forms income is compensation or not?
of property.
The test is whether such income is received by
33
Q: What constitutes compensation for virtue of an employer-employee relationship.
services? _________________________________________
31
Compensation for services, under an employer- Casual labor means occasional, incidental or irregular.
32
This means that the labor does not promote or advance the
employee relationship, includes payments “in trade or business of the employer.
whatever form paid including but not limied to: 33
To determine the existence of an employer-employee
relationship, follow the four-fold test:
1. Fees

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Ateneo Law Batch 2013 Last Updated: 30 July 2013(v3)
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Latest Supreme Court and CTA Jurisprudence as of January 31, 2013)

No. They are not included in compensation income.


Q: If the compensation is paid after In fact, they are excluded from gross income (see
separation, will it still form part of Section 32(B)(7)(e), Tax Code)
compensation income?
Q: Are GSIS, SSS, Medicare and other
Yes. Remuneration for services constitutes contributions included in compensation
compensation even if the employer-employee income?
relationship no longer exists at the time when
payment is made between the person in whose No. GSIS, SSS, Medicare and Pag-Ibig contributions
employ the services had been performed and the and union dues of individuals are not included in
individual who performed them (see Section compensation income as they are excluded from
2.78.1(A) RR No. 2-98] gross income (see Section 32(B)(7)(f), Tax Code)
34
Q: May compensation earners avail of Note: PERA contributions from an employer to an
deductions as to their compensation employee do not form part of his gross income (see RR
income? 17-2011 and RA 9505).

No. Section 34 expressly provides that no Q: If an employer pays the income taxes
deductions shall be allowed for taxpayers earning assessable against an employee, is the
compensation income arising from personal services payment by the employer taxable income on
rendered under an employer-employee relationship. the part of the employee?
The deductions are not necessary for the taxpayer
to earn the pure compensation income which arose Yes. In OLD COLONY TRUST CO. V. COMMISSIONER
out of an employer-employee relationship. [279 U.S. 716], the US Supreme Court held that the
payment of the tax by the employer was in
Q: Are living allowances treated as consideration of services rendered by the employee.
compensation income? The payment constituted income to the employee.
The Court also added that it cannot be argued that
A: Generally, living allowances should be treated as the payment was a gift. The payment for services,
income of the recipient. However, if any amount even though voluntary, was nevertheless
thereof is paid directly by the employer and paid for compensation for services rendered.
the convenience of the latter, the excess of what the
recipient employee would have ordinarily incurred Q: Are association dues, membership fees
for his own subsistence is not taxable income but a and other assessment charges collected by
business expense of the employer. This exemplifies a condominium corporation from its
the employer’s convenience rule (see COLLECTOR members and tenants subject to income
VS. HENDERSON [1 SCRA 649])
tax?
Q: Are 13th month pay and other benefits Yes. Such amounts form part of the gross income of
included in compensation income? the corporation. This is because the condominium
corporation furnishes its members and tenants with
benefits, advantages and privileges in return for
_________________________________________
34
"Personal Equity and Retirement Account (PERA)" refers to the
1. The employer has the power to control the employee voluntary retirement account established by and for the exclusive
with respect to the means and methods by which the use and benefit of the Contributor for the purpose of being
work is to be accomplished invested solely in PERA investment products in the Philippines.
2. Selection and management of the employee The Contributor shall retain the ownership, whether legal or
3. Power of dismissal beneficial, of funds placed therein, including all earnings of such
4. Payment of wages funds.

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Latest Supreme Court and CTA Jurisprudence as of January 31, 2013)

such payments. They constitute as income 10. Life or health insurance and other non-life
payments or compensation for beneficial services insurance premiums or similar amounts
provided to members and tenants. [RMC 65-2012] in excess of what the law allows.

Note: Pursuant to Section 18 of RA 9904 (Magna Carta Q: What is the rationale behind the
for Homeowners and Homeowners’ Association), the
association dues and income derived from rentals of the
Fringe Benefits Tax?
homeowner’s associations may be exempted from tax
subject to the following conditions: (a) The homeowners As a general rule, the income recipient is the person
association must be a duly constituted “Association” as liable to pay the income tax. In order to improve
defined under Section 3(b) of RA 9904; (b) The LGU collection of income on the compensation income of
having jurisdiction over the homeowners’ association must employees, the State requires the employer to
issue a certification identifying the basic services being withhold the tax upon payment of the compensation
rendered by the association and its lack of resources to income. However, it has been observed that many of
render such services; and (c) the association must present the fringe benefits paid by the employer to his
proof that the income and dues are used for the
cleanliness, security and other basic services need by
employees are not subjected to income tax and
members, including maintenance of the facilities in their withholding tax on compensation. To plug this
respective subdivisions and villages. (RMC 9-2013 loophole, RA 8424 was passed. It imposed a fringe
[January 29, 2013] benefits tax on the fringe benefits received by
--------------------------------------------------------------- supervisory and managerial employees. The law
(ii) Fringe benefits mandates that the employer shall assume the fringe
(a) Special treatment of fringe benefits benefits tax imposed on the taxable fringe benefits
35 36
of the managerial or supervisory employees, but
(b) Definition
allows the employer to deduct such fringe benefit tax
(c) Taxable and non-taxable fringe benefits as a business expense from its gross income.
--------------------------------------------------------------- However, the fringe benefits of rank-and-file
37
employees are treated as part of his compensation
Read Section 33, Tax Code income, which must be withheld and deducted by his
employer from the compensation income of the
Q: What is a fringe benefit? employee.

As defined by Section 33(B), the term “fringe What is a fringe benefit tax?
benefit” means any good, service or other benefit
furnished or granted in cash or in kind by an A fringe benefit tax is a final withholding tax (at
employer to an individual employee (except rank 32%) imposed on the grossed-up monetary value of
and file employees as defined herein) such as, but fringe benefit furnished or granted to the employee
not limited to, the following: except rank and file employees by the employer.

1. Housing; (see Section 33, Tax Code and RR 3-98 [JANUARY


2. Expense account; 1, 1998])
3. Vehicle of any kind;
4. Household personnel, such as maid, driver and
others; _________________________________________
5. Interest on loan at less than market rate to the 35
A managerial employee refers to one who is vested with
extent of the difference between the market rate powers or prerogatives to lay down and execute management
and actual rate granted; policies and/or to hire, transfer, suspend, lay-off, recall, discharge,
6. Membership fees, dues and other expenses assign or discipline employees
36
borne by the employer for the employee in social A supervisory employee is one who, in the interest of the
employer, effectively recommends such managerial actions if the
and athletic clubs or other similar organizations; exercise of such authority is not merely routinary or clerical in
7. Expenses for foreign travel; nature but requires the use of independent judgment.
37
8. Holiday and vacation expenses; A rank-and-file employee means all employees who are holding
9. Educational assistance to the employee or his neither managerial or supervisory position
dependents; and

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Ateneo Law Batch 2013 Last Updated: 30 July 2013(v3)
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Latest Supreme Court and CTA Jurisprudence as of January 31, 2013)

subcontractors, the grossed-up value of the fringe benefit


If the recipient of the value of such fringe shall be determined by dividing the actual monetary value
the fringe benefit is benefit shall form part of of the fringe benefit by the difference between one
a rank and file compensation income hundred percent (100%) and under their respective rates
of income tax.
employee and the
benefit is not tax-
exempt Q: In what instances is the housing privilege
subject to fringe benefit tax?
if the recipient of the same shall not be
the fringe benefit is included in the compensation 1. Employer leases residential property and
not a rank-and-file income. A fringe benefit tax assigns the same for use by the employee
employee and the is levied upon the employer. 2. Employer owns a residential property on
benefit is not tax- installment basis and allows use by the
exempt employee
3. Employer purchases a residential property
Note: (1) The fringe benefits tax shall be treated as a final and transfers ownership to the employee
tax on the employee which shall be withheld and paid by 4. Employees provides a monthly fixed amount
the employer (see Section 2.33(A), RR 3-98). for the employee to pay his landlord

(2) On the taxation of fringe benefits – There is a Q: What housing privileges are not subject
difference in tax treatment between supervisory and
managerial employees on one hand and rank-and-file
to fringe benefit tax?
employees on the other. It can be argued that such
contravenes the fundamental principle that the income tax 1. Housing privilege of military officials of the
38
shall be imposed based on the taxpayer’s ability to pay. AFP
2. Housing unit which is situated inside or
Q: What is meant by “grossed-up monetary adjacent to the premises of a business or
value of the fringe benefit?” factory (it is considered adjacent if its
located within the maximum of 50 meters
As defined in RR 3-98 [JANUARY 1, 1998], the from the perimeter of the business
grossed-up monetary value of the fringe benefit premises)
represents the whole amount of income received by 3. Temporary housing for an employee who
the employee which includes the net amount of stays in a housing unit for three months or
money or net monetary value of property which has less
been received plus the amount of the fringe benefit
tax thereon otherwise due from the employee, but (see Section 2.33(D)(1), RR 3-98]
paid by the employer for and in behalf of his
employee. Q: Are expense accounts taxable fringe
benefits?
In essence, the purpose of getting the grossed-up
monetary value is to preserve the benefit to the General Rule: Expenses incurred by the employee
employer as a whole. but which are paid by his employer shall be treated
as taxable fringe benefits
Q: How is the grossed-up monetary value of
the fringe benefit determined? Exception: They are not taxable fringe benefits if
incurred or reasonably expected to be incurred by
It is determined by dividing the actual monetary
value of the fringe benefit by 68% (effective January _________________________________________
1, 2000.)
38
Why? Pursuant to the employer’s convenience rule, by
Note: The above determination is not absolute. In the providing the quarters, the government can avail of the services of
case of non-resident aliens not engaged in trade or soldiers anytime their services are desired.
business and alien and Filipino individuals employed in
RHQs, ROHQs of MNCs, OBUs and petroleum

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Latest Supreme Court and CTA Jurisprudence as of January 31, 2013)

the employee in the performance of his duties be taxable as fringe benefits (see Section 2.33(D),
subject to the following conditions – RR No. 3-98)

1. Expenditures are duly receipted for and in Q: Are interest on loans obtained by the
the name of the employer employee from the employer subject to
2. Expenditures do not partake of the nature of fringe benefit tax?
a personal expense attributable to the
employee Yes. If the employer lends money to his employee
free of interest or a rate lower than 12%, such
(see Section 2.33(D)(2)(a), RR 3-98) interest foregone by the employer or the difference
of the interest assumed by the employee and the
Note: Personal expenses of the employee paid or rate of 12% shall be treated as a taxable fringe
reimbursed by the employer to the employee shall be
treated as a taxable fringe benefit whether or not the same
benefit (see Section 2.33(D)(5)(a), RR No. 3-98)
are duly receipted for in the name of the employer
Q: Are membership fees, dues and other
Q: When is a motor vehicle privilege expenses in social and athletic clubs
considered a taxable fringe benefit? subject to fringe benefit tax?

1. Employer purchases vehicle in employee’s Yes. Membership fees, dues, and other expenses
name borne by the employer for his employee in social
2. Employer provides employee cash for and athletic clubs or other smiliar organizations shall
vehicle purchase be treated as taxable fringe benefits of the employee
3. Employer purchases car on installment in in full (see Section 2.33(D)(6), RR No. 3-98)
name of employee
4. Employer shoulders a portion of purchase Q: Are expenses for foreign travel by the
price employee subject to fringe benefits tax?
5. Employer owns and maintains a fleet of
motor vehicles for use of business and General Rule: Reasonable business expenses
employees which are paid for by the employer for the foreign
6. Employer leases and maintains a fleet of travel of his employee for the purpose of attending
motor vehicles for the use of the business business meetings or conventions shall not be
and employees. treated as taxable fringe benefits.

(see Section 2.33(D)(3), RR No. 3-98) Exception: In the absence of documentary evidence
showing that the travel abroad was in connection
Note: The use of an aircraft is not subject to fringe with business meetings or conventions, the expense
benefits tax but the use of yacht is subject to fringe benefit shall be treated as a taxable fringe benefit.
39
tax. (see Section 2.33(D)(3)(g) and (h), RR No. 3-98).
(see Section 2.33(D)(7), RR No. 3-98)
Q: Are household expenses of employees
subject to fringe benefits tax? Note: (1) Travelling expenses of family members of the
employee borne by the employer shall be subject to fringe
Yes. Expenses of the employee which are borne by benefits tax (see Section 2.33(D)(7)(c), RR No. 3-98)
the employer for household personnel such as
salaries of household help, personal driver of the (2) Holiday and vacation expenses treated of the
employee, or other similar personnel expenses shall employee borne by the employer shall be treated as
taxable fringe benefits. (see Section 2.33(D)(8), RR No.
_________________________________________ 3-98)

39
Don’t ask me why there’s a distinction. I can’t fathom why.
That’s what the law says!

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Ateneo Law Batch 2013 Last Updated: 30 July 2013(v3)
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Latest Supreme Court and CTA Jurisprudence as of January 31, 2013)

Q: Is the cost of educational assistance to 4. Benefits given to the rank and file employees,
the employee or his dependents subject to whether granted under a collective bargaining
fringe benefit tax? agreement; and
5. De minimis benefits
General rule: Yes. The cost of educational
assistance to the employee and his dependents Note: Exemption from fringe benefit tax is not an
exemption from other income taxes unless such benefit is
borne by the employer shall be subject to fringe also stated expressly to be exempt from other income
benefits tax (see Section 2.33(D)(9)(a) and (b), RR taxes (refer to the exclusions). Section 2.23(C), RR No. 3-
No. 3-98) 98 provides that fringe benefits exempted from the
payment of the fringe benefits tax may however still form
Exceptions: part of the employee’s basic compensation income which
is subject to income tax.
1. Education of the employee is directly
connected with employer’s trade or business Q: What are de minimis benefits?
2. With a written contract that employee shall
remain employed with the employer for a As defined by RR 3-98 [MAY 21, 1998], de minimis
period of time mutually agreed upon by the benefits are benefits of relatively small value
parties offered or furnished by the employer to his/her
3. In case of dependents, the assistance was employees as a means of promoting the health,
provided through a competitive scheme goodwill, contentment, efficiency of his/her
under the scholarship program of the employees. These benefits are exempt from the
company employer. withholding tax on compensation income, and
consequently from income tax, regardless of
Q: Is the cost of life or health insurance paid whether or not the recipients of the benefits are
for by the employer subject to fringe benefit managerial or rank-and-file employees.
tax?
Q: What are deemed de minimis benefits?
The cost of life or health insurance and other non-life
insurance premiums borne by the employer for his As provided in RR No. 005-11 [March 16, 2011], as
employees shall be treated as taxable fringe benefits amended recently by RR No. 008-12 [M AY 11,
except: 2012], the following shall be considered de minimis
benefits not subject to income tax as well as
1. Contributions of the employer for the benefit withholding tax on compensation income of both
of the employee to the SSS, GSIS and other managerial and rank and file employees:
similar contributions
2. The cost of premiums borne by the 1. Monetized unused vacation leave credits of
employer for the group insurance of his private employees not exceeding ten (10) days
40
employees during the year;
2. Monetized value of vacation and sick leave
(see Section 2.33(D)(10), RRR No. 3-98) credits paid to government officials and
41
employees;
3. Medical cash allowance to dependents of
Q: Enumerate the non-taxable fringe employees, not exceeding P750 per employee
benefits. per semester or P125 per month;
42

1. Fringe benefits are required by the business or _________________________________________


for the convenience of the employer
40
2. Fringe benefits exempted by law This was included in RR 3-98 and in RR 8-00 [August 21, 2000]
3. Contributions of the employer for the benefit of but referred to employees in general. RR No. 005-11 [March 16,
2011] specifically provided “private” employees.
the employee to retirement, insurance, and 41
Introduced by RR 10-00 [December 14, 2000]
hospitalization benefit plans 42
Provided under RR 3-98 and RR 8-00 [August 21, 2000]

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4. Rice subsidy of P1,500 or one (1) sack of 50 kg. ---------------------------------------------------------------


rice per month amounting to not more than (iii) Professional Income
43
P1,500; ---------------------------------------------------------------
5. Uniform and clothing allowance not exceeding
44
P5,000 per annum;
Q: Define professional income
6. Actual medical assistance, e.g. medical
allowance to cover medical and healthcare
needs, annual medical check-up, maternity Professional income refers to fees received by a
assistance, and routine consultations, not professional from the practice of his profession
exceeding P10,000 per annum;
45 provided that there is no employer-employee
7. Laundry allowance not exceeding P300 per relationship between him and his clients. It includes
month;
46 the fees derived from engaging in an endeavor
8. Employees achievement awards, e.g. for length requiring special training as a professional as a
of service or safety achievement, with an annual means of livelihood, which includes, but is not
monetary value not exceeding P10,000;
47 limited to, the fees of CPAs, doctors, lawyers,
9. Gifts given during Christmas and major engineers and the like (see RR No. 2-98)
anniversary celebrations not exceeding P5,000
per employee per annum;
48 Q: Distinguish professional income from
10. Daily meal allowance for overtime work and compensation income.
night/graveyard shift not exceeding 25% of the
49
basic minimum wage per region basis. The existence or absence of an employer-employee
relationship determines whether the income shall be
Q: Is the enumeration of de minimis benefits treated as compensation income or professional
exclusive? income. If there is an employer-employee
relationship, then it is considered compensation
Yes. As provided in RR No. 005-11 [March 16, income. Otherwise, it is considered professional
2011], all other benefits given by employers which income.
are not included in the enumeration shall not be
considered de minimis benefits, and, hence, shall be Note: Professional income shall be subject to creditable
subject to income tax as well as withholding tax on withholding tax on the rates prescribed under Section
2.57.2 of RR No. 2-98.
compensation income.
---------------------------------------------------------------
(iv) Income from business
_________________________________________ ---------------------------------------------------------------
43
Under RR 3-98, the amount was P350. RR 8-00 [August 21,
2000] increased this to P1,000 and added the alternative 1 sack
Q: What is business income?
of 50kg of rice. This was increased by RR 5-2008 [APRIL 17, 2008]
to P1,500.
44
Business income refers to gross income derived
RR 3-98 did not provide for an amount. RR 8-00 [August 21, from the conduct of trade or business or the exercise
2000] provided for an amount of P3,000. RR No. 005-11 [March
16, 2011] provided for an amount of P4,000. This was again of a profession.
increased by RR No. 008-12 [MAY 11, 2012] to P5,000.
45
RR 3-98 simply said “medical benefits” with no corresponding Note: Business income shall be subject to the graduated
amount. RR 8-00 [August 21, 2000] provided the amount of rates in the case of individuals and the corporate income
P10,000 as the ceiling. tax in the case of corporations.
46
RR 3-98 provided for an amount of P150. RR 8-00 [August 21,
2000] increased it to P300.
47
RR 3-98 provided for a ceiling of ½ month of the basic salary of ---------------------------------------------------------------
the employee. RR 8-00 [August 21, 2000] changed the ceiling (v) Income from dealings in property
amount to P10,000.
48
RR 3-98 did not provide for a ceiling amount. RR 8-00 [August (a) Types of properties
21, 2000] introduced the P5,000 ceiling.
49
(b) Types of gains from dealings in property
Introduced by RR 8-00 [August 21, 2000].
---------------------------------------------------------------

PIERRE MARTIN DE LEON REYES Page 69 of 158


Ateneo Law Batch 2013 Last Updated: 30 July 2013(v3)
PM REYES BAR REVIEWER ON TAXATION I
(Based on the 2013 Bar Syllabus and Updated with Recent BIR Issuances and the
Latest Supreme Court and CTA Jurisprudence as of January 31, 2013)

Q: What gains from dealings in property are


included in the “gross income”? (2) There is no rigid or fixed formula to determine with
finality whether property is a capital or ordinary asset.
Each case must rest upon its own peculiar facts and
Only gains derived from the sale or exchange of circumstances (see CALASANZ V. CIR [144 SCRA 664]
property considered as ordinary assets.
Q: What is the importance of knowing if an
Note: Thus, if what is sold is an ordinary asset, any gain
from the sale thereof shall form part of the ordinary income asset/income is capital or ordinary
which shall be subject either to graduated income tax
rates (if individual) or corporate income tax (if corporation). The tax treatment will vary depend on the nature of
On the other hand, if what is sold is a capital asset, it is the asset. For example, if real property is a capital
subject to capital gains tax. asset, the gain from the sale thereof shall be subject
to the final capital gains tax of 6%. If it is an ordinary
--------------------------------------------------------------- asset, any gain from the sale thereof shall form part
(a) Types of properties of the ordinary income which shall be subject either
(1) Ordinary Assets to graduated income tax rates (if an individual) or
(2) Capital Assets corporate income tax (if a corporation).
---------------------------------------------------------------
Q: A inherited from his father an agricultural
land. He had the land surveyed and
Read Section 39(A)(1), Tax Code
subdivided into lots. Improvements, such as
good roads, concrete gutters, drainage and
Q: What are ordinary assets?
lighting system, were introduced to make
1. Stock in trade of the taxpayer or other the lots saleable. Soon after, the lots were
property of a kind which would properly be sold to the public at a profit. The Revenue
included in the inventory of the taxpayer if examiner adjudged A as engaged in
on hand at the close of the taxable year business as real estate dealers and required
him to pay the real estate dealer’s tax and
2. Property held by the taxpayer primarily for assessed a deficiency income tax on profits
sale to customers in the ordinary course of derived from the sale of the lots based on
his trade or business the rates for ordinary income and not as
capital gains at capital gain rates. Is the
3. Property used in trade or business of a
Revenue Examiner correct?
character that is subject to allowance for
depreciation
Yes. The statutory definition of capital assets is
negative in nature. If the asset is not among the
4. Real property used in trade or business of
exceptions, it is a capital asset; conversely, assets
the taxpayer
falling within the exceptions are ordinary assets. And
necessarily, any gain resulting from the sale or
(see Section 39 Tax Code, and Section 132, RR 2)
exchange of an asset is a capital gain or an ordinary
gain depending on the kind of asset involved in the
Q: What are capital assets? transaction. In this case, the activities of A are
indistinguishable from those invariably employed by
The term capital assets means property held by the one engaged in the business of selling real estate.
taxpayer whether or not connected with his trade or One strong factor is the business element of
business, except those enumerated as ordinary development which is very much in evidence. A did
assets in Section 39. not sell the land in the condition in which he
acquired it. In the course of selling the subdivided
Note: (1) The statutory definition of capital assets is
lots, A engaged in the real estate business and
negative in nature. If the asset is not among the
exceptions, it is a capital asset; conversely, assets falling
accordingly, the gains from the sale of the lots are
within the exceptions are ordinary assets. ordinary income taxable in full (see CALASANZ VS.
COMMISSIONER [OCTOBER 9, 1986])

PIERRE MARTIN DE LEON REYES Page 70 of 158


Ateneo Law Batch 2013 Last Updated: 30 July 2013(v3)
PM REYES BAR REVIEWER ON TAXATION I
(Based on the 2013 Bar Syllabus and Updated with Recent BIR Issuances and the
Latest Supreme Court and CTA Jurisprudence as of January 31, 2013)

engaged n real estate business but without any


Q: Y inherited from his mother several tracts specification as to whether the property is capital or
of land. When his mother was still alive, ordinary. The CIR stated that it is necessary to first
these lands were subdivided into lots and determine the character of the real property being
leased. Y sold the leased lots to the sold.
occupants except for one lot which needed
If the real property is a land or building which is not
filling because of low elevation. Said lot was actually used in the business of the seller-
filled and subdivided into smaller lots and corporation and is treated as a capital asset, , then a
sold to the public. Y reported his income final tax of six percent (6%) shall be imposed on the
from the sales as long-term capital gains. gain presumed to have been realized on its sale,
The CIR denied this and ruled that Y was exchange or disposition of such land or building
engaged in the business of leasing the lots based on the gross selling price or fair market value,
and the subsequent sale are sales of real whichever is higher of such land and/or building.
property used in trade or business of the This rule applies, whether or not the seller-
taxpayer. Is the CIR correct? corporation is engaged in real estate business.

Yes. In this case, the properties should be regarded If the real property being sold is an ordinary asset,
as ordinary assets. When Y obtained by inheritance withholding tax rates shall apply. The rate of
the parcels in question, transferred to him was not withholding tax will depend on whether, first, the
merely the duty to respect the terms of any contract seller is exempt or taxable; second, whether the
thereon, but as well the correlative right to receive seller is habitually engaged in real estate business
and enjoy the fruits of the business and property or not; and third, if the seller is habitually engaged in
which the decedent had established and real estate business, the gross selling price.
maintained. Under the circumstances, Y’s sales of
the several lots forming part of his rental business Q: Is an equity investment a capital asset?
cannot be characterized as other than sales of
ordinary assets. The sales concluded on installment Yes. As ruled by the Supreme Court in CHINABANK V.
basis of the subdivided lots comprising the last lot do CA [JULY 19, 2000], an equity investment is
not deserve a different characterization for tax a capital, not ordinary, asset of the investor the sale
purposes. The following circumstances in or exchange of which results in either a capital gain
combination show unequivocally that the petitioner or a capital loss.
was, at the time material to this case, engaged in the
real estate business (see TUASON VS. LINGAD [JULY Q: Can an ordinary asset be converted to a
31, 1974]) capital asset?

Q: What is the tax consequence if the General Rule: No, the property is still an ordinary
property is sold by a seller-corporation asset (see Section 3(e), RR No. 7-2003)
engaged in real estate business?
Exceptions: Properties classified as ordinary assets
It depends. In BIR RULING 27-02 [JULY 15, 2002],
50 for being used in business by a taxpayer engaged in
the CIR was asked to rule on the tax consequences business other than real estate business are
of certain transactions involving a seller that is automatically converted into capital assets upon
showing of proof that the same have not been used
_________________________________________ in business for more than 2 years prior to the
consummation of the taxable transactions involving
50
This ruling also stated that registration with the HLURB or the properties. (BIR RULING NO. 142-2011; Sec.
HUDCC shall be sufficient for a seller/transferor to be considered 3(e), RR No. 7-2003)
as habitually engaged in the real estate business. If the
seller/transferor is not registered with HLURB or HUDCC, he/it
may prove that he/it is engaged in the real estate business by Note: The conversion from ordinary assets to capital
offering other satisfactory evidence assets is only allowed if the taxpayer is not engaged in the
real estate business.

PIERRE MARTIN DE LEON REYES Page 71 of 158


Ateneo Law Batch 2013 Last Updated: 30 July 2013(v3)
PM REYES BAR REVIEWER ON TAXATION I
(Based on the 2013 Bar Syllabus and Updated with Recent BIR Issuances and the
Latest Supreme Court and CTA Jurisprudence as of January 31, 2013)

Q: Can a capital asset be converted to an ordinary gains taxation (NELCO)


ordinary asset?
Deductions are usually Generally no deductions
Yes. While RR No. 7-2003 provides a rule that once allowed for ordinary are allowed from capital
an asset is ordinary, it cannot be converted to a gains gains
capital asset (subject to the two year waiting period),
jurisprudence has consistently held that a capital Ordinary gains are Capital gains are subject
asset may become an ordinary asset. CALASANZ V. subject to the graduated to final taxes
CIR [144 SCRA 664] rates or corporate
income tax rate as the
--------------------------------------------------------------- case may be
(b) Types of gains from dealings in property
Ordinary income is to be Income from capital
(1) Ordinary gain vis-à-vis capital gain included in the annual gains tax are not
(2) Actual gain vis-à-vis presumed gain income tax return included in the annual
(3) Long term capital gain vis-à-vis short- income tax return
term capital gain
(4) Net capital gain, net capital loss Q: Distinguish actual gain from presumed
--------------------------------------------------------------- gain

Read Section 22(Z), Section 39(A)(2), Tax Actual gain Presumed gain
Code
There is actual gain There is presumed gain
Q: Distinguish ordinary gain from capital whenever an individual whenever an individual
gain. or corporation sold sold real property treated
shares of stock treated as a capital asset
Ordinary Gain Capital Gain as a capital asset located in the Philippines
or a corporation sold
land/building treated as
any gain from the sale or The gains realized from
a capital asset located in
exchange of property the sale, exchange, or
the Philippines
which is not a capital other disposition of the
asset or property. properties of a taxpayer
classified as capital Actual gain arrived at by Presumed gain does not
assets. deducting the cost or consider the cost of the
adjusted basis of the property sold
property sold from the
Derived from property Derived from property
amount realized
used in trade or not used in trade or
business business whether or not
connected thereto Q: Distinguish long-term capital gain v.
short-term capital gain.
Ordinary gains are not Some types of capital
adjusted by the holding gains are adjusted by Short-term capital gain Long-term capital gain
period in Section 39(B) the holding period in
Section 39(B) If the capital asset has If the capital asset has
been held for not more been held for more than
Only ordinary losses Ordinary losses may be than 12 months 12 months
may be deduced from deducted from certain
ordinary gains types of capital gains

The concept of net The concept of net loss


operating loss carryover carryover applies to
(NOLCO) applies to capital gains taxation

PIERRE MARTIN DE LEON REYES Page 72 of 158


Ateneo Law Batch 2013 Last Updated: 30 July 2013(v3)
PM REYES BAR REVIEWER ON TAXATION I
(Based on the 2013 Bar Syllabus and Updated with Recent BIR Issuances and the
Latest Supreme Court and CTA Jurisprudence as of January 31, 2013)

Q: Distinguish net capital gain and net Q: What is the allowable extent of losses
capital loss from sales or exchanges of capitals assets?
(capital loss limitation rule)
Net capital gain Net capital loss
Losses from sales of exchanges of capital assets
means the excess of the means the excess of the shall be allowed to be deducted only to the extent of
gains from sales or losses from sales or the gains from such sales or exchanges.
exchanges of capital exchanges of capital
assets over the losses assets over the gains In CHINABANK V. CA [JULY 19, 2000], Chinabank
from such sales or from such sales or made a 53% equity investment in the First CBC
exchanges exchanges. Capital (Asia) Ltd, a Hong Kong subsidiary. First
CBC became insolvent. With BSP approval,
--------------------------------------------------------------- Chinabank wrote-off the investment in its ITR as a
(5) Computation of the amount of gain or bad debt or as an ordinary loss deductible from its
loss gross income. The BIR disallowed the deduction on
the basis that the debt was not worthless. The
---------------------------------------------------------------
Supreme Court ruled that the equity investment is
not indebtedness in the first place but rather capital,
Note: This involves Section 40 of the Tax Code
not an ordinary, asset. Shares of stock would
(Determination of Amount and Recognition of Gains or
Loss). I’ll discuss this after I complete the discussion on be ordinary assets only to a dealer in securities or a
Section 39 (Capital Gains and Losses) person engaged in the purchase and sale of, or an
active trader (for his own account) in, securities. In
--------------------------------------------------------------- the hands, however, of another who holds the
shares of stock by way of an investment, the shares
(6) Income tax treatment of capital loss to him would be capital assets. When the shares
(a) Capital loss limitation rule held by such investor become worthless, the loss is
(b) Net loss carry-over rule deemed to be a loss from the sale or exchange of
--------------------------------------------------------------- capital assets.

Read Section 39(B), (C), (D), Tax Code The Court further stated that assuming that the
equity investment of CBC has indeed become
Q: Is the capital gain from the sale or "worthless," the loss sustained is a capital, not an
exchange of a capital asset always taxable ordinary, loss. The rule thus is that capital loss can
be deducted only from capital gains. The capital loss
in full? (Holding period) sustained by CBC can only be deducted from capital
gains if any derived by it during the same taxable
No. In the case of a taxpayer other than a
51 year that the securities have become "worthless.
corporation, the following percentages of the gain
upon the sale or exchange of a capital asset shall be
Note: The exception (where the capital loss limitation rule
taken into account in computing net capital gain: will not apply) – If a bank or trust company incorporated
under the laws of the Philippines, a substantial part of
1. 100% if the capital asset has been held for not whose business is the receipt of deposits sells any bond,
more than 12 months debenture, note or certificate or other evidence of
2. 50% if the capital asset has been held for more indebtedness issued by an corporation with interest
than 12 months coupons or in registered form, any losss resulting from
such sale shall not be subject to the above limitations and
shall not be included in determining the applicability of
such limitation to other losses. See Section 39(C), Tax
_________________________________________ Code.

51
The holding period is material only if the capital asset is sold by
an individual. This does not apply to corporations.

PIERRE MARTIN DE LEON REYES Page 73 of 158


Ateneo Law Batch 2013 Last Updated: 30 July 2013(v3)
PM REYES BAR REVIEWER ON TAXATION I
(Based on the 2013 Bar Syllabus and Updated with Recent BIR Issuances and the
Latest Supreme Court and CTA Jurisprudence as of January 31, 2013)

Q: What is the net loss carry-over rule Read Section 24(D), Section 25(A)(3),
(NELCO)? Section 25(B), Section 27(D)(5), Tax Code

If any taxpayer, other than a corporation, sustains in Q: What is the rule on capital gains from
any taxable year a net capital loss, such loss (in an dispositions of real property?
amount not in excess of the net income for such
year) shall be treated in the succeeding taxable year The rate of 6% shall be imposed on capital gains
as a loss from the sale or exchange of a capital presumed to have been realized by the seller from
asset held for not more than twelve (12) months. the sale, exchange, or other disposition of real
properties located in the Philippines classified as
Note: The capital limitation rule applies to both individual capital assets, including lacto de retro sales and
and corporate taxpayers while NELCO only applies to other forms of conditional sales based on the gross
individuals and cannot be availed of by corporate
selling price or fair market value as determined
taxpayers.
by the CIR, whichever is higher.
Q: Distinguish Net Loss Carry-over (NELCO)
The tax base shall be the entire selling price.
from Net Operating Loss Carry-Over
(NOLCO). The capital gains tax must be paid within 30 days
following each sale or disposition. In case of
NELCO NOLCO installment sale, the return shall be filed within 30
days following the receipt of the first down payment
NELCO is a concept in NOLCO is a concept in
capital gains taxation ordinary income taxation and within 30 days following the subsequent
installment payments.
NELCO is enjoyed only by NOLCO is enjoyed by
individuals, not corporations corporations, not Q: What are the transactions covered by the
individuals capital gains tax?
May be availed of only May be availed over a 1. Sale
during the succeeding year period three years
2. Exchange; or
3. Other disposition, including pacto de retro
--------------------------------------------------------------- sales and other forms of conditional sales
(7) Dealings in real property situated in the Note: (1) The phrase “sale, exchange, or other
Philippines disposition” includes taking by the government through
(8) Dealings in shares of stock of Philippine expropriation GONZALES V. CTA [121 PHIL. 861]
corporations
--------------------------------------------------------------- Q: What is the basis of the 6% capital gains
tax?
Note: Again, to reiterate, whether it’s real property or
shares of stock that is the subject of the sale, if it is an Whichever is the higher of:
ordinary asset, it forms part of the ordinary income which
shall be subject either to graduated income tax rates (if
1. The gross selling price; or
individual) or corporate income tax (if corporation). On the
other hand, if it’s a capital asset, it is subject to capital 2. Current fair market value as determined
gains tax. below:
a. The FMV of real properties located
--------------------------------------------------------------- in each zone or area as determined
by the CIR after consultation with
(7) Dealings in real property situated in the competent appraisers both from the
Philippines private and public sectors
(9) Sale of principal residence b. The fair market value as shown in
--------------------------------------------------------------- the schedule of values of the
provincial and city assessors

PIERRE MARTIN DE LEON REYES Page 74 of 158


Ateneo Law Batch 2013 Last Updated: 30 July 2013(v3)
PM REYES BAR REVIEWER ON TAXATION I
(Based on the 2013 Bar Syllabus and Updated with Recent BIR Issuances and the
Latest Supreme Court and CTA Jurisprudence as of January 31, 2013)

4. The historical cost or adjusted basis of his


(see Section 24(D)(1) in relation to Section 6(E), old principal residence sold, exchanged
Tax Code) disposed shall be carried over to the cost
basis of his new principal residence
Q: What is the special rule for disposition of 5. If there is no full utilization of the proceeds of
real property made by an individual to the sale, exchange or disposition of his old principal
government? residence, he shall be liable for deficiency
54
capital gains tax of the utilized portion.
As provided in RR 8-98, in case of disposition of real
property made by an individual to the government or Note: The exemption applies to resident citizens and
aliens. This is logical because if they are not residents,
to any of its political subdivisions or agencies or to then there is no principal place of residence.
government-owned or controlled corporations, the
seller may elect to:
Q: Define “principal residence”
1. compute the tax on the gain derived from such
It is the dwelling house, where the husband or wife
sale under the normal income tax rates; or
or unmarried individual residence; actual occupancy
2. under a final capital gains tax of 6%.
is not interrupted or abandoned by temporary
absence
Q: What are the conditions for the
exemption of capital gains tax on the sale by Q: Who is liable to pay the capital gains tax?
a natural person of his principal residence?
The seller is liable to pay the capital gains tax. As
As provided in RR 13-99 [JULY 26, 1999], as provided in RR NO. 8-98 [AUGUST 25, 1998], the
52
amended by RR 14-2000 [NOVEMBER 20, 2000]: capital gains tax return will be filed by the seller
within 30 days following each sale or disposition of
1. The 6% capital gains tax due shall be deposited real property.
in an account with an authorized agent bank
under an Escrow Agreement. It can only be Q: Can the buyer pay the capital gains tax?
released upon showing that the proceeds have
been fully utilized within 18 months. Yes. The buyer can retain the amount for the capital
2. The proceeds from the sale, exchange or 55
gains tax and pay it upon authority of the seller, or
disposition must be fully utilized in acquiring the seller can pay the tax, depending on the
or constructing his new principal residence agreement of the parties.
within 18 calendar months from date of its
53
sale. Proof must be submitted.
Q: Is the payment of the capital gains tax a
3. The tax exemption may be availed of only
once every 10 years pre-requisite to the transfer of ownership to
the buyer?
_________________________________________
No. Payment of the capital gains tax, however, is not
52
RR 14-2000 added the escrow agreement requirement and a pre-requisite to the transfer of ownership to the
conditions relating thereto. buyer. The transfer of ownership takes effect upon
53
To ensure compliance, he must within 30 days from the lapse the signing and notarization of the deed of absolute
of the said period the required documents to prove full utilization. sale. (see CHUA V. CA [APRIL 9, 2003])
If he fails to submit the required documents within 30 days after
the lapse of the 18-month period, it shall be presumed that he did _________________________________________
not fully utilize the proceeds of the sale, exchange or disposition
54
of his old principal residence, and shall be assessed deficiency This is inclusive of 20% interest per annum, computed from the
capital gains tax. The escrow shall be applied in payment of this. 31st day after the date of sale or disposition of the said old
If the same is insufficient to cover the entire amount assessed, he principal residence.
55
shall remain liable for the remaining balance of the assessment. The buyer has more interest in having the capital gains tax paid
The excess of the deposit in escrow, if any, shall be returned to immediately since this is a pre-requisite to the issuance of a new
him. Torrens title in his name.

PIERRE MARTIN DE LEON REYES Page 75 of 158


Ateneo Law Batch 2013 Last Updated: 30 July 2013(v3)
PM REYES BAR REVIEWER ON TAXATION I
(Based on the 2013 Bar Syllabus and Updated with Recent BIR Issuances and the
Latest Supreme Court and CTA Jurisprudence as of January 31, 2013)

Note: In the next two questions, I will be discussing capital Note: (1) To summarize, no capital gains taxes if
gains taxation of foreclosed mortgaged real properties. foreclosed properties is redeemed. If there is non-
The relevant BIR issuances (RR 4-99) and relevant cases redemption, capital gains must be paid.
are outdated and do not reflect the changes introduced by
Section 47 of the General Banking Law. The most recent Q: ABC Company took out a loan from XYZ
case SUPREME TRANSLINER V. BPI FAMILY SAVINGS BANK
[FEBRUARY 23, 2011] involved a foreclosure sale which
bank and mortgaged one of its properties as
took place prior to the effectivity of the General Banking collateral. ABC was unable to pay so XYZ
Law. The updated BIR issuance on the matter is RMC 55- extrajudicially foreclosed the property and
2011 [November 10, 2011]. bought it. Before the expiration of the one-
year redemption period,57 the mortgagor
RMC 55-2011 provides that the 1-year period on the
foreclosed asset of natural persons and the period within notified the bank of its intention to redeem
which to pay CGT or CWT and DST on the foreclosure of the property. Is XYZ liable to pay the capital
Real Estate Mortgage shall be reckoned from the date of gains tax as a result of the foreclosure sale?
registration of the sale in the Office of the Register of
Deeds No. In foreclosure sale, there is no actual transfer of
the mortgaged real property until after the expiration
For juridical persons in an extrajudicial foreclosure,
Section 47 of the General Banking Law provides that its
of the one-year period and title is consolidated in the
right of redemption shall be until, but not after the name of the mortgagee in case of non-redemption.
registration of the certificate of sale with the Register of This is because before the period expires there is
Deeds, which in no case shall be more than 3 months yet no transfer of title and no profit or gain is realized
after foreclosure, whichever is earlier. (RMC No. 55-2011 by the mortgagor. SUPREME TRANSLINER V. BPI
[November 10, 2011]). The right of redemption shall be FAMILY SAVINGS BANK [FEBRUARY 23, 2011]
reckoned from the approval of the executive judge [CIR v.
UPCB [October 23, 2009]) Q: If title to property is transferred to one
spouse as a result of a court decision in an
Q: If a mortgagee foreclosed the mortgaged
annulment case, is the transfer subject to
property but the mortgagor exercises his
capital gains tax?
right of redemption within the applicable
period, will capital gains tax still be imposed No. In BIR Ruling DA-029-08 [JANUARY 23, 2008],
on the foreclosure sale? title to a house and lot was transferred to the
husband by virtue of a decision of the court
RR 4-99 [M ARCH 9, 1999] provides that in case the declaring his marriage with his wife null and void. In
mortgagor exercises his right of redemption within BIR Ruling DA 287-07 [M AY 8, 2007], title to a
one year from the issuance of the certificate of condominium unit was transferred to the wife as a
56
sale, no capital gains tax shall be imposed result of an agreement to distribute communal
because no capital gains has been derived by the property executed in the course of annulment
mortgagor and no sale or transfer of real property proceedings. In both BIR Rulings, the CIR held that
was realized. If the mortgagor does not exercise his the transfer of the title of the subject properties are
right of redemption, capital gains tax on the not subject to capital gains tax, as such transfers are
foreclosure sale shall become due. In such case, the equivalent to a conveyance but without monetary
capital gains tax due will be based on the bid price consideration, made in accordance with the Court's
of the highest bidder. Decision granting parties agreement for the
_________________________________________ distribution of communal property.

56
Note Section 47 of the General Banking Act, judicial persons
whose property is being sold pursuant to an extrajudicial
foreclosure shall have the right to redeem the property until, but _________________________________________
not after, the registration of the certificate of foreclosure sale with
57
the Register of Deeds which in no case shall be more than 3 The foreclosure sale in the case on which the question is based
months after foreclosure took place prior to the effectivity of the Act.

PIERRE MARTIN DE LEON REYES Page 76 of 158


Ateneo Law Batch 2013 Last Updated: 30 July 2013(v3)
PM REYES BAR REVIEWER ON TAXATION I
(Based on the 2013 Bar Syllabus and Updated with Recent BIR Issuances and the
Latest Supreme Court and CTA Jurisprudence as of January 31, 2013)

Q: Is the assignment and delivery of the Q: Who are liable for capital gains tax on
developed units to joint owners in a Build- shares of stock?
To-Own (BTO) scheme subject to capital
gains tax? 1. Individual taxpayer, whether citizen or alien
2. Corporate taxpayer, whether domestic or
In a BTO, the developer makes it appear that it foreign
merely manages the construction of the 3. Other taxpayers other than (1) and (2) such
condominium project, and that the funds as as estates, trusts, trust funds, and pension
contributed by the individual investors are pooled in funds,
a bank with the developer, as project manager,
receiving a project management fee, In that scheme, Q: Who are exempt from capital gains tax on
it is claimed that the assignment and delivery to the shares of stock?
individual investors of the developed units is not
taxable as it is merely a transfer of property held in 1. Dealer in securities
trust by the Trustee for the individual trustors. 2. Investors in shares of stock in a mutual fund
Previous BIR rulings have exempted the assignment company in connection with the gains
from capital gains tax. In In BIR RULING DA-455-07 realized by said investor upon redemption of
[AUGUST 17, 2007], the conveyance of the the said shares of stock
condominium units by the trustee to the individual 3. All other persons, whether natural or
trustors pursuant to the terms of the BTO contract juridical, who are specifically exempt from
and without consideration was held not subject to NIRC taxes under existing investment
capital gains tax. However, in RMC NO. 055-10 schemes and other special laws.
[JUNE 28, 2010], the CIR nullified all BIR Rulings
exempting the scheme from capital gains tax. Thus, Q: What is the rule on capital gains from
the present rule is that the assignment and delivery sales of shares of stock?
in BTO schemes are subject to capital gains tax.
Capital gains tax shall be imposed upon the net
--------------------------------------------------------------- capital gains realized during the taxable year from
(8) Dealings in shares of stock of Philippine the sale, barter, exchange or other disposition of
corporations shares of stock in a domestic corporation except
(a) Shares listed and traded in the stock shares, sold or disposed through the stock
exchange exchange.
(b) Shares not listed and traded in the stock
The final tax imposed shall be:
exchange
--------------------------------------------------------------- Capital gains not over P100,000 – 5%
Capital gains over P100,000 – 10%
Read Section 22(L), (T), (U), Section 24(C),
Section 25(A)(3), Section 25(B), Section The tax base shall only be the gain on the sale and
27(D), Section 28(A) and Section 28(B), Tax such sale will always be subject to capital gains tax
Code without any exemption.

The capital gains tax must be paid within 30 days


following each sale or disposition. In case of
Q: What are stocks classified as capital
installment sale, the return shall be filed within 30
assets? days following the receipt of the first down payment
and within 30 days following the subsequent
Stocks classified as capital assets mean all stocks installment payments.
and securities held by taxpayers other than dealers
in securities. (See RR 06-2008 [APRIL 22, 2008])

PIERRE MARTIN DE LEON REYES Page 77 of 158


Ateneo Law Batch 2013 Last Updated: 30 July 2013(v3)
PM REYES BAR REVIEWER ON TAXATION I
(Based on the 2013 Bar Syllabus and Updated with Recent BIR Issuances and the
Latest Supreme Court and CTA Jurisprudence as of January 31, 2013)

Note: This is how you construe the rate of capital gains


tax for shares of stock – The tax rate is 5% for a net REVENUE REGULATIONS NO. 16-2012
capital gain not exceeding P100,000 and 10% for any
excess. Tax Treatment of Sales, Barters, Exchanges or Other
Dispositions of Shares of Stock of Publicly-listed
Q: How do you determine the tax base of Companies Whose Public Ownership Levels Fall
disposition of stock? Below the Mandatory Minimum Public Ownership
(MPO) Level, Monitoring of these Companies and their
Stock Transactions, and Amending Revenue
Listed and FMV is the actual selling price
Regulations No. 06-08 for the Purpose
traded through
the PSE Revenue Regulations No. 16-2012 prescribes the tax
treatment of sales, barters, exchanges or other
Sales of stock FMV is the closing price on the dispositions of shares of stock of publicly-listed companies
listed but not day when the shares were sold, that are required to maintain the minimum public
traded through transferred, etc (if no sale was ownership (MPO) of ten percent (10%) of issued and
the PSE made on that day in the PSE, outstanding shares, or such percentage as may be
then the closing price on the prescribed by the Securities and Exchange Commission
(SEC) or Philippine Stock Exchange (PSE), whichever is
day nearest to the date of sale higher.
,transfer, or exchange of the
said shares The taxes to be imposed on sales, barters, exchanges and
other dispositions of shares of stocks of publicly-listed
Sales of stock The FMV is the book value of companies that do not comply with the MPO are:
not listed and the shares of stock as shown in
not traded the financial statements duly a. Transactions up to December 31, 2012 – stock
through the PSE certified by an independent transaction tax of one-half of one percent (1/2 of 1%) of
the gross selling price or gross value in money of the
CPA nearest to the date of sale.
shares of stock.

b. Transactions after December 31, 2012 – final tax of 5%


(See RR 06-2008 [APRIL 22, 2008]) on the net capital gain up to P100,000.00 and 10% of the
net capital gain in excess thereof, and documentary stamp
Note: That under RR 6-2013 [April 11, 2013], the FMV tax under Section 175 of the NIRC.
shall be determined using the Adjusted Net Asset Method.
All assets and liabilities are to be adjusted to fair market
values, and the net value thereof shall be the value of the
Q: What are exempted from capital gains tax
equity. on stock transactions?

Q: If the share of stock is traded through the 1. Gains derived by dealers in securities
stock exchange, what tax is applicable? 2. Gains from sales of stock to the extent invested
in new shares of stocks in banks, financial
A percentage tax of ½ of 1% is imposed on the intermediaries, and corporations organized
gross selling price of shares of stock if they are listed primarily to hold equities in banks
and sold, exchanged or transferred through the 3. All other gains which hare specifically exempt
facilities of the local stock exchange.(see Section from income tax under existing investment
127(A) and RR 06-2008 [APRIL 22, 2008]) incentives and other special laws.

However, even if traded through the stock Q: Is an assignment of deposits on stock


exchange, a sale of shares by companies not subscriptions subject to capital gains tax?
complying with the 10% minimum public float shall
be subject to capital gain tax (see RR 16-2012 Yes. The assignment of the deposits on stock
[November 7, 2012]) subscriptions results in a net gain. A tax on the profit
of sale on net capital gain is the very essence of the
net capital gains tax law. To hold otherwise will
ineluctably deprive the government of its due and

PIERRE MARTIN DE LEON REYES Page 78 of 158


Ateneo Law Batch 2013 Last Updated: 30 July 2013(v3)
PM REYES BAR REVIEWER ON TAXATION I
(Based on the 2013 Bar Syllabus and Updated with Recent BIR Issuances and the
Latest Supreme Court and CTA Jurisprudence as of January 31, 2013)

unduly set free from tax liability persons who profited (a) Meaning of merger, consolidation,
from said transactions (see COMPAGNIE FINANCIERE control
SUCRES ET DENREES VS. CIR [AUGUST 28, 2006]) securities
(b) Transfer of a controlled
Q: What is the effect of non-payment of corporation
capital gains tax on stock transactions? ---------------------------------------------------------------
As provided in Section 11 of RR 06-2008, no sale, Disclaimer: I would advise that you get a pack of tissue
exchange, transfer or similar transaction intended to and some pain relievers. You may experience headaches
convey ownership of, or title to any share of stock and nose bleeding in this part.
shall be registered in the books of the corporation
unless the receipts of payment of the tax herein ---------------------------------------------------------------
imposed is filed with and recorded by the stock (a) Cost or basis of the property sold
transfer agent or secretary of the corporation. (b) Cost or basis of the property exchanged
in corporate readjustment
RMC 37-2012 [AUGUST 3, 2012] clarified RR 06- ---------------------------------------------------------------
2008 in stating that a Certificate Authorizing
Registration [CAR] is still necessary before any Read Section 40(A), (B) (C)(5), Tax Code
transfer of shares of stock not traded in the Stock
Exchange may be transferred in the books of a
corporation. Q: How is gain from the sale or other
disposition of property computed?
---------------------------------------------------------------
The gain from the sale or other disposition of
(5) Computation of the amount of gain or
property shall be the excess of the amount realized
loss therefrom over the basis or adjusted basis for
--------------------------------------------------------------- determining gain.
Note: Section 40 (Determination of Amount and
Recognition of Gain or Loss) can be divided into two parts:
Q: How is loss from the sale or other
(1) Computation of Gain or Loss/Basis for Determining disposition of property computed?
Gain or Loss from Sale or Disposition of Property and the
more important topic (2) tax-free exchanges. The 2012 The loss shall be the excess of the basis or
Bar Syllabus broke down this topic. In the discussions adjusted basis for determining loss over the amount
below, I shall follow the said outline, to wit: realized.

--------------------------------------------------------------- Note: Amount realized is the sum of the money received


(a) Cost or basis of the property sold plus the fair market value of the property (other than
(b) Cost or basis of the property exchanged money received).
in corporate readjustment
(1) Merger Q: What is the cost or basis for determining
(2) Consolidation gain or loss from the sale or exchange of
(3) Transfer to a controlled corporation property
(tax-free
If the property is acquired by:
exchanges)
(c) Recognition of gain or loss in exchange Purchase The basis is the cost of the property
of property
(1) General rule Inheritance The FMV as of the date of acquisition
(a) Where no gain or loss shall be if the same was acquired
recognized Gift the basis shall be the same as if it
(2) Exceptions would be in the hands of the donor or
the last preceding owner by whom it

PIERRE MARTIN DE LEON REYES Page 79 of 158


Ateneo Law Batch 2013 Last Updated: 30 July 2013(v3)
PM REYES BAR REVIEWER ON TAXATION I
(Based on the 2013 Bar Syllabus and Updated with Recent BIR Issuances and the
Latest Supreme Court and CTA Jurisprudence as of January 31, 2013)

was not acquired by gift except if (a) Where no gain or loss shall be
such basis is greater than FMV of the recognized
property at the time of the gift then,
for purpose of determining loss, the (2) Exceptions
basis shall be such FMV (a) Meaning of merger, consolidation,
control, securities
For less than the basis of such property is the (b) Transfer of a controlled
an adequate amount paid by the transferee for the
consideration
corporation
property
in money or ---------------------------------------------------------------
money’s worth
Tax-free a. Shares of stock received by Read Section 40(C)(1) to (3), Tax Code
exchanges transferor – original basis less
the money received and fair Q: What is the general rule in the
market value of property
received, plus the amount recognition of gain or loss in an exchange
treated as dividend of the of property?
shareholder and the amount of
any gain that was recognized As a general rule, the entire amount of the gain or
on the exchange loss shall be recognized upon the sale or exchange
b. Property transferred in the of property. In other words, if there are gains, the
hands of the transferee – same gains shall be taxable. If there are losses, the losses
as it would be in the hands of
shall be allowed as deductions.
transferor increased by the
amount of the gain recognized
to the transferor on the transfer Note: The phrase “where no gain or loss is recognized”
means that if there is an exchange of property and there is
a gain, the resulting gain is not subject to tax. If there is a
Stocks and The basis of the substantially
loss, the loss could not be used as a deduction from gross
Securities identical stock so sold or disposed of,
income. This does not refer to the general rule because in
acquired in increased or decreased, as the case
the general rule the gain or loss is recognized. The phrase
Wash Sales may be, by the difference, if any,
appropriately refers to Section 40(C)(2) (merger or
between the price at which the stock
consolidation and transfer of a controlled corporation)
or securities was acquired and the
price at which such substantially
identical stock or securities were sold Q: What are the exceptions to the general
or otherwise disposed of. [see rule?
Section 143, RR 2]
1. No gains or loss recognized if in pursuance
of a plan of merger or consolidation where
To be entitled to the computation of the gain or loss there is an exchange solely in kind (see
from the sale of an investment of a non-resident Section 40(C)(2))
stockholder using a functional currency other than 2. Gains recognized but loss not recognized in
the Philippine peso, the following elements must be transactions between related parties (see
present, to wit: (1) such non-resident stockholder Section 36(B))
made the said investment in such functional 3. Gains recognized but loss not recognized
currency, and not in Philippine peso; and (2) the where the exchange is not solely in kind
investee company in the Philippines uses a (see Section 40(C)(3))
functional currency other than the Philippine peso for
its financial statements. CE PHILIPPINES LTD. VS. CIR, Note: No. 2 will be discussed in Part 6 (Items not
CTA EB 770 (CTA 7688), SEPTEMBER 20, 2012 deductible) of the Syllabus. In this part, I will focus on
Items 1 and 3.
---------------------------------------------------------------
(c) Recognition of gain or loss in exchange
of property
(1) General rule

PIERRE MARTIN DE LEON REYES Page 80 of 158


Ateneo Law Batch 2013 Last Updated: 30 July 2013(v3)
PM REYES BAR REVIEWER ON TAXATION I
(Based on the 2013 Bar Syllabus and Updated with Recent BIR Issuances and the
Latest Supreme Court and CTA Jurisprudence as of January 31, 2013)

Q: What are the instances where no gain or


loss is recognized (tax-free exchanges or 1. It must be undertaken for a bona fide
exchanges of property solely in kind) business purpose and not solely for
escaping the burden of taxation
No gain or loss shall be recognized if in pursuance 2. In determining if a bona fide transaction
of a plan of merger or consolidation: exists, the whole transaction or series of
transactions shall be treated as a single unit
1. A corporation which is a party to a merger or and every step of the transaction shall be
consolidation exchanges property solely for considered
stock in a corporation, which is a party to the 3. In determining if the property transferred
merger or consolidation (property for constitutes a substantial portion of the
stock) property of the transferor, property shall be
2. A shareholder exchanges stock in a taken to include cash assets.
corporation, which is a party to a merger or
consolidation solely for the stock of another Q: What is the basic consideration in
corporation also a party to a merger or determining whether a consolidation or
consolidation (stock for stock) merger is tax-free?
3. A security holder of a corporation, which is a
party to a merger or consolidation, The basic consideration is the purpose of the merger
exchanges his securities in such or consolidation. The merger or consolidation must
corporation, solely for stock or securities in be undertaken for a bona fide business purpose and
another corporation, a party to the merger or not for the purpose of escaping the burden of
consolidation (security for stock) taxation.
4. If property is transferred to a corporation by
a person in exchange for stock or unit of Q: A owns all the stock of ABC Corp. ABC
participation in such a corporation of which Corp. had 1,000 shares of XYZ Corp. A
as a result of such exchange, said person, formed a new corporation called DEF Corp.
alone or together with others, not exceeding A had ABC transfer all 1,000 XYZ shares to
four (4) persons gains control of said DEF. She then dissolved DEF and liquidated
corporation provided that stocks issued for
the assets (the XYZ shares). A then sold the
services shall not be considered as issued in
return for property. (estate planning or XYZ shares and paid the corresponding
transfer of a controlled corporation) CGT based on a lower cost basis. Is the
transfer valid?
Note: (1) An exchange solely in kind is an exchange of
property with property with no money involved. (2) Control No. As held in GREGORY V. HELVERING [293 US 465,
means ownership or stocks in a corporaion possessing at JANUARY 7, 1935], a transfer of assets by one
least 51% of the total voting power of all classes of stock corporation to another must have a business
entitled to vote purpose. Here, it was a mere device which followed
the form of a corporate reorganization to conceal its
Q: Define merger of consolidation in relation real character which was a transfer of stock of XYZ
to tax-free exchanges. shares to A.

Merger or consolidation shall be understood to mean Q: A, B, C were majority stockholders of


ABC Theatrical Co. They were also majority
1. the ordinary merger or consolidation; or
stockholders of XYZ Theatrical Co which
2. the acquisition by one corporation of all or
substantially all the properties of another was engaged in the same business. ABC
corporation solely for stock (de facto and XYZ agreed to merge. Under the
merger) agreement, all business, property, assets
and goodwill of ABC will be transferred to
For a transaction to be regarded as a merger or XYZ in exchange for XYZ stocks for each
consolidation under Section 40:

PIERRE MARTIN DE LEON REYES Page 81 of 158


Ateneo Law Batch 2013 Last Updated: 30 July 2013(v3)
PM REYES BAR REVIEWER ON TAXATION I
(Based on the 2013 Bar Syllabus and Updated with Recent BIR Issuances and the
Latest Supreme Court and CTA Jurisprudence as of January 31, 2013)

stock held in ABC. Is the exchange subject for he assets to be transferred. In effect, the transfer
to capital gains tax? takes the nature of a donation made by the
subsidiaries to their parent company contrary to
No. As held in CIR v. RUFINO [FEBRUARY 27, 1987], It what is contemplated in Section 40(C)(2) of the
is well established that where stocks for stocks were NIRC. Also, the intended merger has the effect of
exchanged, and distributed to the stockholders of dissolving and liquidating the subsidiaries without
the corporations, parties to the merger or payment of corresponding taxes. BIR RULING NO.
consolidation, pursuant to a plan of reorganization, 614-12 [NOVEMBER 9, 2012]
such exchange is exempt from capital gains tax. The
basic consideration, of course, is the purpose of the Q: Filinvest Development Corporation
merger, as this would determine whether the (FDC), a holding company, is the owner of
exchange of properties involved therein shall be 80% of the outstanding shares of Filinvest
subject or not to the capital gains tax. The criterion Alabang, Inc. (FAI) and 67.42% of the
laid down by the law is that the merger" must be outstanding shares of Filinvest Land, Inc.
undertaken for a bona fide business purpose and (FLI). FDC and FAI entered into a Deed of
not solely for the purpose of escaping the burden of Exchange with FLI whereby the former both
taxation." It is clear, in fact, that the purpose of the
transfer in favor of the latter parcels of land
merger was to continue the business of the Old
Corporation, whose corporate life was about to in exchange for shares of stock of FLI. The
expire, through the New Corporation to which all the CIR argues that the taxable gain should be
assets and obligations of the former had been recognized for the exchange as FDC’s
transferred. The exemption from the tax of the gain controlling interest in FLI was decreased as
derived from exchanges of stock solely for stock of a result of the exchange. Is the CIR’s
another corporation was intended to encourage contention correct?
corporations in pooling, combining or expanding
their resources conducive to the economic No. The Supreme Court in CIR V. FILINVEST
development of the country. The merger in question DEVELOPMENT CORPORATION (JULY 19, 2011] stated
involved a pooling of resources aimed at the that the requisites for the non-recognition of gain or
continuation and expansion of business and so loss of a transfer of property for shares of stock are
came under the letter and intendment of the NIRC as follows: (a) the transferee is a corporation; (b)
exempting from the capital gains tax exchanges of the transferee exchanges its shares of stock for
property. property/ies of the transferor; (c) the transfer is made
by a person, acting alone or together with others, not
Q: A Corp, a domestic corporation, entered exceeding four persons; and, (d) as a result of the
into a merger with its wholly-owned exchange the transferor, alone or together with
domestic subsidiaries B Corp and C Corp. A others, not exceeding four, gains control of the
Corp is the surviving corporation. Pursuant transferee. Rather than isolating FDC, the shares
to the merger, B Corp and C Corp will issued to FDC should be appreciated in combination
with the new shares issued to FAI. Together, FDC
transfer all their assets and liabilities to A
and FAI’s shares add to 70.99% of FLI’s shares.
Corp. However, since B Corp and C Corp are Since the term "control" is clearly defined as
wholly-owned by A Corp prior to the merger, "ownership of stocks in a corporation possessing at
A Corp will not longer issue any shares of least fifty-one percent of the total voting power of
stock in consideration of the assets and classes of stocks entitled to one vote, “ the
liabilities transferred. Is the merger between exchange of property for stocks between FDC-FAI
A Corp, B Corp, and C Corp considered a and FLI clearly qualify as a tax-free transaction.
tax free merger under Section 40(C)(2)?
Q: ABC is a domestic corporation.
No. The intended re-organization is an upstream Shareholders transferred their real property
merger between a parent company and its in exchange for more shares in the
subsidiaries where the parent company will not be corporation. In effect, they gained control of
issuing any shares ot the subsidiaries in exchange more than 51% of the shares of the

PIERRE MARTIN DE LEON REYES Page 82 of 158


Ateneo Law Batch 2013 Last Updated: 30 July 2013(v3)
PM REYES BAR REVIEWER ON TAXATION I
(Based on the 2013 Bar Syllabus and Updated with Recent BIR Issuances and the
Latest Supreme Court and CTA Jurisprudence as of January 31, 2013)

corporation entitled to vote. Is the exchange transfer to the Transferee of all the rights, privileges,
tax-exempt? and liabilities of the Transferor in the case of de
facto merger.
58
It depends. In BIR Ruling 274-87, the CIR ruled
that no gain or loss would be recognized if property Q: What are the similarities and differences
is transferred to a corporation by a person in between a de facto merger and a transfer of
exchange for stock in such a corporation of which as property for shares under Section 40(C)(2)
a result of such exchange, said person alone or of the Tax Code?
together with others, not exceeding four persons,
gains control of said corporation. The term "control" De facto merger is in procedure similar to a transfer
shall mean ownership of stocks in a corporation to a controlled corporation under the same Section
possessing at least 51% of the total voting power of 40(C)(2) of the Tax Code of 1997, except that at
all classes of stocks entitled to vote. In determining least 80% of the Transferor's assets, including cash,
the 51% stock ownership, only those persons who are transferred to the Transferee, with the element
transferred property for stock in the same of permanence and not merely momentary holding.
transaction may be counted up to a maximum of
five. However, a de facto merger and a transfer to a
controlled corporation are different in that, (1) the
Q: What is a de facto merger? Transferor in a de facto merger is a corporation,
while in a transfer to a controlled corporation, the
To constitute a de facto merger, the following Transferors may either be a corporation or an
elements must concur: individual, and (2) in a de facto merger, there is no
requirement that the transferor gains control (that is,
1. There must be a transfer of all or 51% of the total voting powers of all classes of
substantially all of the properties of the stocks of the Transferee entitled to vote) of the
transferor corporation solely for stock, Transferee as a prerequisite to enjoying the benefit
and of non-recognition of gain or loss. What is essential
2. It must be undertaken for a bona fide in a de facto merger is that the Transferee acquires
business purpose and not solely for the all or substantially all of the properties of the
purpose of escaping the burden of Transferor. (see RMC 1-02 [April 25, 2002])
taxation. (see RMC 1-02 [April 25, 2002])
Q: What are the administrative requirements
Q: What is meant by “substantially all”? in case of tax-free exchanges?
As provided by RR 2, "substantially all" means the 1. The parties who are applying for confirmation
acquisition by one corporation of at least 80% of the that the transaction is indeed a tax-free
assets, including cash, of another corporation, which exchange shall submit the following:
has the element of permanence and not merely
momentary holding a. A sworn certification on the basis of the
property to be transferred
Q: What are the differences between a de b. Certified true copies of the TCT and/or CCT
facto merger and a statutory (ordinary) of real properties transferred
merger? c. Certified true copies of the corresponding
latest Tax Declaration of the real properties
In a de facto merger, the Transferor is not to be transferred
automatically dissolved unlike in the case of a d. Certified true copies of the certificates of
statutory merger. Likewise, there is no automatic stocks evidencing shares of stocks to be
transferred
_________________________________________ e. Certified true copy of the inventory of other
58
property/ies to be transferred/
Note that in this BIR Ruling, there were 6 transferors,

PIERRE MARTIN DE LEON REYES Page 83 of 158


Ateneo Law Batch 2013 Last Updated: 30 July 2013(v3)
PM REYES BAR REVIEWER ON TAXATION I
(Based on the 2013 Bar Syllabus and Updated with Recent BIR Issuances and the
Latest Supreme Court and CTA Jurisprudence as of January 31, 2013)

2. The BIR shall issue a certification or ruling amount of the gain recognized not in excess
confirming that an exchange of property for of his proportionate share of the
shares complies with the requisites for it to be undistributed earnings and profits of the
tax-free. The certification or ruling shall contain corporation; the remainder, if any, shall be
the substituted basis of the properties. treated as capital gain.
3. The Certificate Authorizing Registration (CAR) 3. If the transferor corporation receives money
or Tax Clearance (TCL) shall be issued by the and/or property in addition to the stock, then:
RDO/Authorized Internal Revenue Officer on the
basis of the BIR certification or ruling a. If the corporation distributes it in
4. The information that the transaction is a tax-free pursuance of the plan of merger or
exchange and the substituted basis of the consolidation, no gain shall be
properties shall be annotated in the TCT and/or recognized
CCT. b. If the corporation does not distribute it,
5. The applicant/taxpayer shall pay the processing the gain, if any, but not the loss shall be
and certification fee of P5,000 for each recognized but not in an amount not in
application not involving more than 10 real excess of the sum of such money and
properties and/or certificates of stock. An the fair market value of the property so
additional P100 shall be paid for every TCT/CCT received.
and/or certificate of stock in excess of 10.
6. Every official, agent, or employee of the Registry Q: What is the effect of the assumption of
of Deeds and corporate secretary or the duly the transferee of the liabilities of the
authorized officer of the corporation who fails to transferor in addition to the transfer of
annotate the information shall be subject to a property?
penalty.
Section 40(C)(4) provides that if the taxpayer
Q: Is there a prescriptive period for rulings receives the stock as if it were the sole
issued in connection to tax-free exchanges? consideration, and, as part of the consideration,
another party to the exchange assumes a liability of
Yes. RMC 40-2012 [August 3, 2012] provides that the taxpayer or acquires property subject to a
rulings issued under Section 40 (C) (2) of the NIRC, liability, such assumption or acquisition shall not be
as amended, shall be valid only for ninety (90) days treated as money and/or property and shall not
counted from the date of receipt of the ruling by any prevent the exchange from being tax-free.
of the parties to the exchange transaction. The
properties and shares of stocks involved in the However, if the amount of liabilities assumed plus
transfer should be conveyed to the transferee/s and the amount of liabilities to which the property is
transferor/s, respectively, within this period. subjected to exceed the total adjusted basis of the
property, then such excess shall be considered
Read Section 40(C)(3) to (4), Tax Code either a capital gain or ordinary gain, as the case
may be.
Q: What is the effect if the tax-free exchange
is not solely in kind? Note: Take a walk and have a break muna!

1. If an individual, shareholder, security holder ---------------------------------------------------------------


or corporation receives money and/or (vi) Passive investment income
property in addition to the stock, the gain, (a) Interest Income
but not the loss, shall be recognized but in
(b) Dividend Income
amount not in excess of the sum of the
money and the fair market value of such (c) Royalty Income
other property received. (d) Rental Income
2. As to the shareholder, if the money and/or ---------------------------------------------------------------
property has the effect of a distribution of a
taxable dividend, there shall be taxed an Note: Earlier we discussed capital gains from dealings in
real property and shares of stock. These two along with

PIERRE MARTIN DE LEON REYES Page 84 of 158


Ateneo Law Batch 2013 Last Updated: 30 July 2013(v3)
PM REYES BAR REVIEWER ON TAXATION I
(Based on the 2013 Bar Syllabus and Updated with Recent BIR Issuances and the
Latest Supreme Court and CTA Jurisprudence as of January 31, 2013)

certain passive incomes are subject to final tax. The (4) Liquidating dividend
importance of knowing that an income is subject to final ---------------------------------------------------------------
tax is that it is no longer included in his gross income
reportable in the annual income tax return.
Q: What are dividends?
Q: Define passive income
The term “dividends” means any distribution made
Passive income is income derived from any activity by a corporation to its shareholders out of its
in which the taxpayer does not materially participate. earnings or profits and payable to its shareholders,
whether in money or in other property.
Q: What is the tax treatment of passive Note: To simplify matters – If the distribution is in money,
income? it is called a cash dividend. If it is in property, it is called a
property dividend. If it is in stock, it is called a stock
Passive income may be subject to: dividend. If it results from the distribution by a corporation
of all its property or assets in complete liquidation or
1. Schedular rates (e.g. dividend income dissolution, it is called a liquidating dividend.
received by a domestic corporation from a
foreign corporation) Q: When is dividend income subject to tax?
2. Final tax (e.g. interest income from foreign
currency bank deposits by a resident citizen) It is taxable at the time of their declaration by the
corporation, and not at the time of actual payment of
--------------------------------------------------------------- dividends, since dividend income is taxable whether
(a) Interest Income actually or constructively received.
---------------------------------------------------------------
Q: Are property dividends taxable?
Q: Define interest income Yes. As provided in Section 251, RR No. 2,
dividends paid in securities or other property (other
Interest income means the amount of than its own stock), in which the earnings of a
compensation paid for the use of money or corporation have been invested, are income to the
forbearance from such use. recipients to the amount of the full market value of
such property when receivable by individual
Q: What is the tax treatment of interest stockholders.
income?
Q: Are stock dividends subject to income
Interests received or credited to the account of the tax?
depositor or investors are included in their gross
income, unless they are exempt from tax or subject No. As discussed earlier, a stock dividend only
to a final tax. represents the transfer of surplus to capital account
and, as such, is not subject to income tax.
Note: This will be discussed in greater detail later in the
taxation of individual and corporate taxpayers as I tackle Q: What are the exceptions to the rule that
the new BIR issuance on the matter - REVENUE
MEMORANDUM CIRCULAR NO. 77-2012 (Clarifying certain stock dividends are not subject to income
provisions of RR 14-2012 on the proper tax treatment of tax?
interest income on financial instruments and other related
transactions) 1. Change in the stockholder’s equity, right or
interest in the net assets of the corporation
--------------------------------------------------------------- 2. Recipient is other than the shareholder
(b) Dividend Income 3. Cancellation or redemption of shares of sock
(1) Cash dividend 4. Distribution of treasury stocks
(2) Stock dividend 5. Dividends declared in the guise of treasury
stock dividend to avoid the effects of income
(3) Property dividend

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Ateneo Law Batch 2013 Last Updated: 30 July 2013(v3)
PM REYES BAR REVIEWER ON TAXATION I
(Based on the 2013 Bar Syllabus and Updated with Recent BIR Issuances and the
Latest Supreme Court and CTA Jurisprudence as of January 31, 2013)

taxation all previous rulings to that effect. The rule now is that they
6. Different classes of stocks were issued. are subject to income tax.

Stock dividends constitute as income if a corporation Q: What are disguised dividends?


redeems stock issued so as to make a distribution.
This is essentially equivalent to the distribution of a These are payments, usually for services, made in
taxable dividend the amount so distributed in the the form of dividends in order to evade the higher
redemption considered as taxable income. (see taxes imposed on gross income. They are not
COMMISSIONER VS. MANNING [AUGUST 7, 1975]) dividends in legal contemplation because they are
not return from investments. They are payment for
The redemption converts into money the stock services rendered and as such, they are taxable as
dividends which become a realized profit or gain and part of compensation income or income derived from
consequently, the stockholder's separate self-employment or exercise of a profession.
property. Profits derived from the capital invested
cannot escape income tax. As realized income, the ---------------------------------------------------------------
proceeds of the redeemed stock dividends can be (c) Royalty Income
reached by income taxation regardless of the
---------------------------------------------------------------
existence of any business purpose for the
redemption. (see CIR VS. CA [JANUARY 20, 1999])
Q: Define royalties.
As provided in Section 252, RR No. 2: A stock
dividend constitutes income if its gives the Royalties are any payment of any kind received as
shareholder an interest different from that which is consideration for the use of or right to use any
former stock holdings represented. A stock dividend patent, trademark, design or model, secret formula
does not constitute income if the new shares confer or process, industrial commercial or scientific
no different rights or interests that did the old. equipment, information concerning industrial,
commercial or scientific experience.
Q: Are liquidating dividends subject to
income tax? Q: What is the tax treatment of royalty
income?
Yes. Where a corporation distributes all of its
property or assets in complete liquidation or A sale of royalty on a regular basis for a
59
dissolution, the gain realized from the transaction consideration is considered an active business and
by the stockholder, whether individual or corporate, any gain therefrom shall be subject to the normal
60
is taxable income or a deductible loss, as the case corporate income tax (see RMC 77-2003). Where a
may be. person pays royalty to another for the use of its
intellectual property, such royalty is passive income
Note: Previously, the CIR has ruled in BIR RULING 039-02 of the owner and is therefore subject to final
[NOVEMBER 11, 2002] and other previous rulings that the withholding tax.
transfer by a liquidating corporation of its remaining assets
to its stockholders and the receipt of the shares
surrendered by the shareholder are not subject to income
---------------------------------------------------------------
tax. However, in BIR RULING 479-11 [DECEMBER 5, 2011], (d) Rental Income
the CIR reversed and set aside the above-cited ruling and (1) Lease of personal property
(2) Lease of real property
(a) Leasehold improvements by lessee
_________________________________________
(b) VAT added to rental/paid by the
59
There must be a bona fide plan of liquidation involving the lessee
transfer of all assets.
60
(c) Advance rental/long term lease
If the amount received by the stockholder in liquidation is less
than the cost or other basis of the stock, the loss in the
---------------------------------------------------------------
transaction is deductible.

PIERRE MARTIN DE LEON REYES Page 86 of 158


Ateneo Law Batch 2013 Last Updated: 30 July 2013(v3)
PM REYES BAR REVIEWER ON TAXATION I
(Based on the 2013 Bar Syllabus and Updated with Recent BIR Issuances and the
Latest Supreme Court and CTA Jurisprudence as of January 31, 2013)

Q: Define rental income Q: Are improvements made by lessees


taxable as income on the part of the lessor?
Rental income refers to the amount or
compensation paid for the use or enjoyment of a Yes, provided that such buildings or improvements
thing or a right and implies a fixed sum or property are not subject to the removal by the lessee. The
amounting to a fixed sum to be paid at a stated time lessor may either: (1) report the improvements as
for the use of the property. It includes all amount or income at the time when such improvements are
property received from the lease contract, whether completed based on its fair market value; or (2)
used in business or not. spread over the life of the lease the estimated
--------------------------------------------------------------- depreciate value of the improvements at termination
(1) Lease of personal property of the lease and report as income for each year of
--------------------------------------------------------------- the lease an aliquot part thereof (Section 49, RR
No. 2)
Q: What is the tax treatment of income
Q: Should the improvement be capable of
received from lease of personal property?
being separated from the land in order to be
Rental income on the lease of personal property considered a taxable gain?
located in the Philippines and paid to a non-resident
taxpayer shall be taxed as follows: No. The US Supreme Court in HELVERING V. BRUUN
[309 US 461] stated that it is not necessary to
recognition of taxable gain that the lessor be able to
Non-Resident Non-Resident
sever the improvement begetting the gain from his
foreign alien
original capital.
corporation
Vessel 4.5% 25%
Aircraft, 7.5% 25% Q: What is the tax treatment of VAT added to
machineries rental or VAT paid by the lessee?
and other
equipment Any additional amount paid, directly or indirectly, by
Other assets 32% 25% the lessee in consideration for the lease is
considered rental. Therefore, taxes paid by the
--------------------------------------------------------------- lessee on leased property are part of rental income
of the landlord.
(2) Lease of real property
(a) Leasehold improvements by lessee
Q: What is the tax treatment of advanced
(b) VAT added to rental/paid by the
rental paid by the lessee?
lessee
(c) Advance rental/long term lease
Prepaid or advance rental is taxable income to the
--------------------------------------------------------------- lessor in the year received, if so received under a
claim of right and without restriction as to its use,
Q: What is the tax treatment of income and regardless of method of accounting employed.
received from lease of real property? Security deposit applied to the rental of the terminal
month or period of contract must be recognized as
The lease of real property shall be considered as income at the time it is applied.
conduct of trade or business on the part of the
lessor, hence, the rental income therefrom shall be Note: If the security deposit is merely to ensure
considered as business income which shall be compliance with the contract (security deposit with
included in the computation of the year-end gross acceleration clause), it is not income to the lessor
income of the lessor, and not as a passive until the lessee violates any provision of the
investment income subject to withholding tax. contract.

---------------------------------------------------------------

PIERRE MARTIN DE LEON REYES Page 87 of 158


Ateneo Law Batch 2013 Last Updated: 30 July 2013(v3)
PM REYES BAR REVIEWER ON TAXATION I
(Based on the 2013 Bar Syllabus and Updated with Recent BIR Issuances and the
Latest Supreme Court and CTA Jurisprudence as of January 31, 2013)

(vii) Annuities, proceeds from life insurance


or other types of insurance Q: What is the tax treatment of separation
--------------------------------------------------------------- pay?

Q: What is an annuity for purposes of Separation pay may or may not be taxable
income taxation? depending on the voluntariness or involuntariness of
the cause of separation.
An annuity refers to the periodic installment
payments of income or pension by insurance Note: The taxability of pensions, retirement benefit
companies during the life of a person or for a or separation pay will be discussed later in
guaranteed fixed period of time, whichever is longer, Exclusions from Gross Income
in consideration of capital paid by him. The portion
of proceeds from insurance that represent a mere ---------------------------------------------------------------
return of the premiums is not taxable while the (x) Income from any source whatever
portion that represents the interests is taxable. (a) Forgiveness of indebtedness
(b) Recovery of accounts previously written
Note: The taxability of proceeds from life insurance and off
returns of premiums from annuity contracts will be
discussed later in Exclusions from Gross Income
(c) Receipt of tax refunds or credit
(d) Income from any source whatever
--------------------------------------------------------------- ---------------------------------------------------------------
(viii) Prizes and Awards
Q: What is meant by the phrase “all income
---------------------------------------------------------------
derived from whatever source"
Q: What are prizes and awards for purposes The phrase “all income derived from whatever
of income taxation? source” encompasses all accessions to wealth,
clearly realized, and over which the taxpayers have
It refers to the amount of money in cash or in kind complete dominion. A gain constitutes taxable
received by chance or through luck. Prizes and income when its recipient has such control over it
awards are generally taxable except if specifically that as a practical matter, he derives readily
mentioned under the exclusions from the realizable economic value from it.
computation of gross income
It includes all income not expressly excluded or
Note: The taxability of prizes and awards will be exempted from the class of taxable income,
discussed later in Exclusions from Gross Income and irrespective of the voluntary or involuntary action of
Taxation of Individual and Corporate Taxpayers the taxpayer in producing the income. GUTIERREZ V.
CIR [CTA CASE NO. 65, AUGUST 31, 1965]. The
--------------------------------------------------------------- source of the income may be legal or illegal.
(ix) Pensions, retirement benefit or
separation pay Q: May cancellation or forgiveness of
--------------------------------------------------------------- indebtedness amount to a gain subject to
income tax?
Q: What is pension for purposes of income
taxation? Yes. If, for example, an individual performs services
for a creditor, who, in consideration thereof cancels
It refers to the amount of money received in lump the debt, income to that amount is realized by the
sum or on staggered basis in consideration of debtor as compensation for his services. If, however,
services rendered given after an individual reaches a creditor merely desires to benefit a debtor and
the age or retirement. They are generally taxable to without any consideration therefor cancels the debt,
the extent of the amount received, except if there is the amount of the debt is a gift. If a corporation to
a BIR approved pension plan. which a stockholder is indebted forgives the debt,

PIERRE MARTIN DE LEON REYES Page 88 of 158


Ateneo Law Batch 2013 Last Updated: 30 July 2013(v3)
PM REYES BAR REVIEWER ON TAXATION I
(Based on the 2013 Bar Syllabus and Updated with Recent BIR Issuances and the
Latest Supreme Court and CTA Jurisprudence as of January 31, 2013)

the transaction has the effect of the payment of a to “gross income” in recognition of the intent of
dividend. (see Section 50, RR No. 2). Congress to tax all gains except those specifically
exempted.
Q: What is the Tax Benefit Rule in relation to
recovery of accounts previously written off? ---------------------------------------------------------------
(f) Situs of income taxation
Under the Tax Benefit Rule or Equitable Doctrine ---------------------------------------------------------------
of Tax Benefit, the recovery of amounts deducted in
previous years shall be included as part of the gross Note: The situs of income taxation refers to the
income in the year of recovery to the extent of the General Principles of Income Taxation. Just to
income tax benefit of said deduction. reiterate again – Only resident citizens and
domestic corporations are taxable on their
If in the year the taxpayer claimed deduction of bad worldwide income (both income inside and
debts written-off, he realized a reduction of the outside the Philippines) while the other types of
income tax due from him on account of said individual and corporate taxpayers (i.e. non-
deduction, his subsequent recovery thereof from his resident citizen, non-resident alien, foreign
debtor shall be treated as a receipt of realized corporation) are taxable only on income derived
taxable income. Conversely, if the said taxpayer did from sources within the Philippines.
not benefit from the deduction if the said bad debt
written-off, then his subsequent recovery shall be Now, that we know who are the taxpayers that can
treated as a mere recovery or a return of capital, be taxed on income within, without or both. Let us
hence, not treated as receipt of realized taxable discuss when is income considered within the
income. Philippines and without the Philippines.

Q: Should taxes previously claimed and ---------------------------------------------------------------


allowed as deductions but subsequently (e) Source rules in determining income from
refunded or granted as tax credit be within and without
considered part of gross income? (1) Interests
(2) Dividends
Yes. RMC No. 13-80 [April 10, 1980] provides if a (3) Rentals
taxpayer receives a tax credit certificate or refund for
(5) Royalties
erroneously paid tax which was claimed as a
deduction from his gross income that resulted in a (6) Sale of real property
lower net taxable income or a higher net operating (7) Sale of personal property
loss that was carried over to the succeeding taxable (8) Shares of stock of domestic corporation
year, he realizes taxable income that must be ---------------------------------------------------------------
included in his income tax return in the year of the
receipt. Q: What is meant by “source of income”?

Note: However, taxes which are not allowable as The source of an income is the property, activity or
deductions, when refunded or credited, are not service that produced the income. It is the physical
declarable for income tax purposes (income tax, source where the income came from. (see CIR VS.
estate tax, donor’s tax, and special assessments) BAIER-NICKEL [AUGUST 29, 2006]).

Q: Is an unlawful gain subject to income


tax?

Yes. In JAMES V. US [366 US 213], the Supreme


Court ruled that embezzled money constitutes gross
income. It opined that unlawful, as well, as lawful
gain are comprehended within the term “gross
income.” The Court has given a liberal construction

PIERRE MARTIN DE LEON REYES Page 89 of 158


Ateneo Law Batch 2013 Last Updated: 30 July 2013(v3)
PM REYES BAR REVIEWER ON TAXATION I
(Based on the 2013 Bar Syllabus and Updated with Recent BIR Issuances and the
Latest Supreme Court and CTA Jurisprudence as of January 31, 2013)

Q: What are the source of income rules in Services Income from services is sourced in
the Philippines? (Section 42, Title II, NIRC) the country where the services are
performed. (place of performance
of the service)
Interests The source of an interest payment is
the place of residence of the person Thus, it is income within the
obligated to make that payment Philippines if the service is
(residence-of-the-obligor/debtor performed in the Philippines. It is
rule). income without the Philippines if it is
performed abroad.
It is income within the Philippines if
the residence of the obligor is in the Rents and The rental income and royalty
Philippines. Royalties income derived from the use of
property has its source in the
It is income without the Philippines if country where the property is used
the residence of the obligor is or located. (location of the
abroad. property or interest in such
property)

Dividends Generally, a dividend has its source Thus, it is income within the
in the country where the corporation Philippines if rents and royalties are
paying the dividend is incorporated. derived from property located in the
(residence of the corporation Philippines
paying the dividend)
Sale of Income from the sale of real
Real property is sourced in the country
Thus, if the dividend is received from Property where the real property is located.
a domestic corporation, it is income (location of real property)
within the Philippines. If the dividend
is from the foreign corporation, it is Thus, it is income within the
income without the Philippines. Philippines if the real property is
located in the Philippines. It is
The exception to the general rule income without if the real property is
that dividends paid by a foreign located abroad.
corporation are from sources without
the Philippines is when a foreign Sale of
corporation derives 50 percent of its Personal It depends:
gross income from sources within Property
the Philippines for a three-year 1. Personal property produced
period ending with the close of its (in whole or in part) by the
taxable year preceding the taxpayer within the
declaration of its dividends Philippines and sold without
or produced (in whole or in
part) by the taxpayer without
and sold within the
Philippines – the income
shall be treated as derived
partly from sources within
and party from sources
without.
2. Purchase of personal
property within and its sale
without the Philippines, or

PIERRE MARTIN DE LEON REYES Page 90 of 158


Ateneo Law Batch 2013 Last Updated: 30 July 2013(v3)
PM REYES BAR REVIEWER ON TAXATION I
(Based on the 2013 Bar Syllabus and Updated with Recent BIR Issuances and the
Latest Supreme Court and CTA Jurisprudence as of January 31, 2013)

purchase of personal Philippines. Is the sale of the tickets taxable


property without and its sale as income from sources within the
within the Philippines - any Philippines?
income shall be treated as
derived entirely from Yes. For the source of income to be considered as
sources within the country coming from the Philippines, it is sufficient that the
in which sold. income is derived from activity within the Philippines.
3. Shares of stock in a In ABC’s case, the sale of tickets in the Philippines
domestic corporation – is the activity that produces the income. The tickets
gains from sale of shares of exchanged hands here in the country and the
stock of a domestic payments for fares were also made with Philippine
corporation are treated as currency. The site of the source of payments is the
derived entirely from Philippines. The absence of flight operations to and
sources within the from the Philippines is not determinative of the
Philippines regardless of source of income/site of income taxation for the test
where the said shares are of taxability is the “source.” (see CIR VS. JAPAN
sold. AIRLINES [MARCH 6, 1991]; CIR VS. BOAC [APRIL 30,
1987])

Q: In CIR v. MARUBENI [DECEMBER 18, 2001],61 Q: XYZ entered into reinsurance contracts
assuming that Marubeni was disqualified with foreign insurance companies not doing
from availing of the income tax amnesty, business in the Philippines. XYZ was to
would the income from the services cede portions of premiums underwritten in
rendered in connection with the turn-key the Philippines to the foreign corporations
projects constitute as income from in consideration for the assumption of risk.
Philippine sources? Is the cession of the premiums taxable as
income from sources within the
The answer is both yes and no. The answer is yes
Philippines?
with regard to those services performed in the
Philippines. The answer is, however, no with regard
Yes. “Sources” means the activity, property, or
to those services rendered in Japan. Such services
service giving rise to the income. The original
were rendered outside the taxing jurisdiction and
insurance undertakings took place in the Philippines.
thus constitute as income without the Philippines.
It is not required that the foreign corporation be
Marubeni, being a foreign corporation, is taxable
engaged in business in the Philippines. What is
only on income within the Philippines and, hence,
controlling is no the place of business, but the place
income from services rendered in the Philippines.
of activity that created the income. Thus, the income
is subject to income tax. (see PHILIPPINE GUARANTY
Q: ABC Airways is a foreign airline.62 While V. CIR [APRIL 30, 1965] and HOWDEN & CO. V. CIR
it did not carry passengers and/or cargo to [APRIL 14, 1965]).
or from the Philippines, ABC maintains a
general sales agent of its tickets in the
_________________________________________ Q: ABC, a domestic corporation, entered
into a “Management Service Agreement”
61
Remember that case I provided in General Principles. with XYZ, a non-resident foreign corporation
62
It is a resident foreign corporation. In order that a foreign under which the latter shall provide services
corporation may be regarded as doing business within a State,
there must be continuity of conduct and intention to establish a for ABC’s US branch and advice on ABC’s
continuous business, such as the appointment of a local agent, corporate structure, all performed abroad. Is
and not one of a temporary character. ABC maintained a general the compensation for services taxable as
sales agent and it was engaged in selling or issuing tickets, which
is considered the main lifeblood of an airline. income from sources within the
Philippines?

PIERRE MARTIN DE LEON REYES Page 91 of 158


Ateneo Law Batch 2013 Last Updated: 30 July 2013(v3)
PM REYES BAR REVIEWER ON TAXATION I
(Based on the 2013 Bar Syllabus and Updated with Recent BIR Issuances and the
Latest Supreme Court and CTA Jurisprudence as of January 31, 2013)

Yes. The services covered by the management has a licensed computer software program
service agreement fall under the meaning of that its customers in North Dakota use for
royalties. It is immaterial if the non-resident foreign checking Quill’s current inventories and for
corporation has no properties in the Philippines. The placing orders directly. North Dakota
test of taxability is the source and the source of an
attempted to impose a “use tax”65 on Quill.
income is that activity which produced the income. It
is not the presence of any property from which one Is Quill liable for the tax?
63
derives rentals and royalties that is controlling, but Yes. In QUILL CORP V. NORTH DAKOTA [504 US 298,
rather as expressed under the expanded meaning of M AY 26, 1992], the US Supreme Court ruled that
royalties, it includes “royalties for the supply of there must be physical presence in a state for the
scientific, technical, industrial, or commercial, corporation to be liable for sales and use taxes. It
knowledge or information; and the technical advice, applied its ruling in NATIONAL BELLAS HESS V.
assistance or services rendered in connection with DEPARTMENT OF REVENUE OF ILLINOIS [386 US 753]
the technical management and administration of any where it held that a seller whose only connection
scientific, industrial or commercial undertaking, with customers in the State is by common carrier or
venture, project or scheme. (see PHILAMLIFE V. CTA the mail lacked the requisite minimum contacts with
[CA-GR SP. NO. 31283, APRIL 25, 1995]). the State. Thus, such vendors are free from state-
imposed duties to collect sales and use taxes.
Nevertheless, the US Supreme Court opined that if
Q: A, a non-resident citizen, was engaged by
interstate commerce would be subject to intolerable
a domestic corporation as a commission or undesirable burdens because of this, Congress
agent. A will receive a sales commission on has the power to legislate make such vendors liable
all sales actually concluded. A argues that for sales and use taxes.
66

the income is not taxable as A does not


reside in the Philippines and that the place Q: Vodafone International Holdings (VIH), a
of payment of the income is outside the corporation in the Netherlands, acquired a
Philippines. Is A’s contention correct? controlling interest of CGP holdings, a
company in the Cayman Islands. By virtue
No. The source of an income is the property, of this controlling interest, VIH acquired a
activity or service that produced the income. 52% stake in Hutchinson Essar Limited
With respect of rendition of labor or personal
(HEL)67 in India from Hutchinson Telecom
service, as in the instant case, it is the place
where the labor or service is performed that International Limited (HTIL). Simply stated,
determines the source of income. There is VIH acquired control over CGP and its
therefore no merit in A’s interpretation which subsidiaries, including HEL. The Indian tax
equates source of income in labor or personal authorities contended that the transfer of
service with the residence of the payor or the place shares was subject to income tax. VIH
of payment of the income. (see CIR VS. BAIER- argues that the transfer of shares took place
64
NICKEL [AUGUST 29, 2006]) outside the Indian taxing jurisdiction, and,
Q: Quill Corp is an office supply retailer with
_________________________________________
no physical presence in North Dakota but it
65
A use tax is a type of excised tax levied in the United States
_________________________________________ upon otherwise "tax free" tangible personal property purchased by
a resident of the assessing state for use, storage or consumption
63
This confirms the acceptance of the Philippine taxing of goods in that state (not for resale), regardless of where the
jurisdiction of the rule that as to intangible property, the country of purchase took place.
66
use is the country that protects the owner of that property against Note that, as of this updated version, the BIR plans to impose a
its unauthorized use by other persons. sales tax on online retailers in the opinion that such sellers are no
64
Note that in this case, Baier-Nickel argued that the services different from merchants who sell their goods in physical stores. A
were done in Germany. However, she failed to prove hat such RR on the matter is forthcoming.
67
was the fact. Thus, the services were deemed performed in the HEL was an Indian joint venture between HTIL, a corporation in
Philippines, and, as such, is subject to income tax. Hong Kong, and Essar, an Indian corporation.

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Ateneo Law Batch 2013 Last Updated: 30 July 2013(v3)
PM REYES BAR REVIEWER ON TAXATION I
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Latest Supreme Court and CTA Jurisprudence as of January 31, 2013)

hence, is not taxable. Which contention is generated from “constructive” trading and
correct? commission income derived from brokering activities
of Philippine branches of foreign corporations
The contention of VIH was held to be correct. In engaged in trading activities. RAMO No. 01-95
VODAFONE INTERNATIONAL HOLDINGS B.V. V. UNION [March 21, 1995] expanded RAMO No. 1-86 to
OF INDIA (SUPREME COURT OF INDIA, CIVIL APPEAL NO. cover taxation of Philippine branches of foreign
68 corporations engaged in soliciting orders,
733 OF 2012, JANUARY 20, 2012), the Indian
Supreme Court ruled that VIH had no liability to purchases, service contracts, trading, construction
withhold tax as the transaction was between two and other activities.
non-residents with no taxable presence in India.
Under Section 9(1) of the Income Tax Act of India, Q: ABC, a multinational company, claimed
all income accruing or arising, whether directly or as deduction from gross income its share of
indirectly through transfer of capital assets situated the overhead expenses of its foreign head
69
in India shall be deemed to accrue or arise in India. office. Can these overhead expenses of the
The Supreme Court stated that the section clearly foreign head office be deducted from the
applied to a transfer of capital asset situated in India gross income of the Philippine branch?
and could not be expanded to cover indirect
transfers of capital assets or property situated in It depends. Either it can be deducted in full or partly.
India. The words “directly or indirectly” go with the Where an expense is clearly related to the
70
income and not with the transfer of a capital asset. production of Philippine-derived income or to
Philippine operations (e.g. salaries of Philippine
Q: Is the gross income of branches of personnel, rental of office building in the
foreign corporations generated from Philippines), that expense can be deducted from the
solicitation of orders from local importers gross income acquired in the Philippines without
where the branches merely relay to its head resorting to apportionment. However, where there
office abroad said purchase orders and are items included in the overhead expenses
where the head office is the entity which incurred by the parent company, all of which cannot
actually consummates the sale liable for be definitely allocated or identified with the
income tax? operations of the Philippine branch, the company
may claim as its deductible share a ratable part of
Yes. By virtue of RAMO No. 1-86 [April 25, 1986], such expenses based upon the ratio of the local
an income tax is imposed on the gross income branch's gross income to the total gross income,
worldwide, of the multinational corporation. (see
_________________________________________ COMMISSIONER VS. CTA & SMITH KLINE [JANUARY 17,
68 1984]; see also RAMO 4-86 [April 5, 1986])
It is also important to note, that in this case, the Indian Supreme
Court stated that, on the context of taxation of a holding company
structure, the corporate veil may be lifted only if it is established ---------------------------------------------------------------
that the transaction was a sham or there was abuse. In this case, (g) Exclusions from gross income
the shares of CGP were transferred only for a commercial benefit
and not with the object of tax evasion. The structure was in (1) Rationale for the exclusions
existence over a decade, it was not created or used as an (2) Taxpayers who may avail of the
instrument for tax avoidance, VIH was not a short-time investor
and it did not introduce any new practice to grant itself a
exclusions
“controlling interest.” (3) Exclusions distinguished from
69
The Indian taxing authorities argued that this was a “look- deductions and tax credit
through provision” a “look through” provision so that if there was a
transfer, of a capital asset, situated in India, it meant income from (4) Under the Constitution
capital gains accruing or arising outside India would be fictionally (5) Under the Tax Code
deemed to accrue or arise in India. (6) Under Special laws
70
The Indian Supreme Court also noted that the existence of the
Direct Tax Code Bill of 2010 which expressly stated that income ---------------------------------------------------------------
accuring even from indirect transfer of capital assets situated in
India would be deemed to accrue in India but this is not yet in
force.

PIERRE MARTIN DE LEON REYES Page 93 of 158


Ateneo Law Batch 2013 Last Updated: 30 July 2013(v3)
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(Based on the 2013 Bar Syllabus and Updated with Recent BIR Issuances and the
Latest Supreme Court and CTA Jurisprudence as of January 31, 2013)

Q: What are “exclusions?”


Pertain to the Pertains to computation
The term “exclusions” refers to items that are not computation of gross of taxable income
included in the determination of gross income income
because:
Exclusions are Deductions are
1. They represent return of capital or are not something received or something spent or paid
income, gain or profit (e.g. life insurance) earned by the taxpayer in earning gross income
2. They are subject to another kind of internal but which do not form
revenue tax (e.g. gifts, bequests, devices) part of gross income
3. They are income, gain or profits that are
expressly exempt from income tax under the Q: Distinguish exclusions from deductions
Constitution, tax treaty, Tax Code, or general or and tax credits.
special law. (e.g. PEZA)
Exclusions Deductions Tax Credits
---------------------------------------------------------------
(1) Rationale for the exclusions Amounts that Amounts Amounts
(2) Taxpayers who may avail of the are not subtracted from subtracted from
exclusions included in pertinent items the computed
(3) Exclusions distinguished from gross income of gross income tax in order to
in order to arrive at taxes
deductions and tax credit
arrive at payable
--------------------------------------------------------------- taxable income
upon which the
Q: What is the rationale for the exclusions? tax rate is
applied
Some receipts are excluded from gross income
because they are not income. Even if they are by Not income Part of income Are taxes that
definition income, the exclusions are not subject to are not
tax because of policy considerations such as to collected
avoid the effects of double taxation or to provide
incentives for certain socially desirable activities. ---------------------------------------------------------------
(4) Under the Constitution
Q: Who are the taxpayers who may avail of
(a) Income derived by the government or its
the exclusions?
political subdivisions from the exercise of
All taxpayers can avail of exclusions because any essential government function
excluded receipts are not considered as income for ---------------------------------------------------------------
tax purposes.
Note: There is no express provision in the Constitution
which provides that income derived by the State is
Q: Distinguish exclusions from gross excluded from gross income. On this point, the Syllabus is
income from deductions from gross income. wrong. It is an inherent limitation of the power of taxation
that the State be exempt from taxes. This part should have
Exclusions Deductions instead referred to non-stock, non-profit educational
institutions as there is an express provision for their
Flow of wealth to the Amounts which the law exemption from income tax.
taxpayer which is not allows to be subtracted
treated as part of gross from gross income in Q: What income is excluded from gross
income because it is order to arrive at net income by the Constitution?
exempted or it does not income
come within the The assets and revenues of a non-stock, non-
definition of income profit private educational institution used

PIERRE MARTIN DE LEON REYES Page 94 of 158


Ateneo Law Batch 2013 Last Updated: 30 July 2013(v3)
PM REYES BAR REVIEWER ON TAXATION I
(Based on the 2013 Bar Syllabus and Updated with Recent BIR Issuances and the
Latest Supreme Court and CTA Jurisprudence as of January 31, 2013)

directly, actually and exclusively for educational amounts are held by the insurer under an
purposes shall be exempt from income taxation. agreement to pay interest.
(see Section 4(3), Article XIV, 1987
Constitution) 2. Amounts received by the insured as return of
premiums paid under life insurance,
Note: Although not expressly provided for, endowment or annuity contracts, either during
remember that the State as a general rule is exempt the term or at the maturity of the contract or
from taxation. It is an inherent limitation. Thus, the upon the surrender thereof.
income of the State are generally excluded from 72
gross income. As to GOCCs – If they are performing 3. Gifts, bequests, and devises but not the
government functions, they are exempt unless income from such property; if the amount
expressly subject to tax; If they are performing received is on account of services rendered
proprietary functions, they are subject to tax unless whether constituting a demandable debt or not
expressly exempted. See discussions in General such as remuneratory donations or the use or
Principles and Exempt Corporations. opportunity or use of capital, the receipt is
income.
--------------------------------------------------------------- 4. Compensation for injuries or sickness
(5) Under the Tax Code whether by suit or agreement including amounts
(a) Proceeds from life insurance policies received through accident or health insurance or
(b) Return of premium paid under the Workmen’s compensation Act, but not
(c) Amounts received under life insurance, damages or compensation recovered for loss of
endowment, or annuity contracts profit in loss or damage to property which would
(d) Value of property acquired by gift, be taxable
bequest, devise or descent
(e) Amount received through accident or 5. Income exempt under treaty binding upon the
Government of the Philippines.
health insurance
(f) Income exempt under tax treaty 6. Certain retirement benefits, pensions,
(g) Retirement benefits, pensions, gratuities, gratuities, more particularly:
etc.
(h) Winnings, prizes, and awards, including a. Retirement benefits received under RA
those in sports competition 7641 and those received by officials and
--------------------------------------------------------------- employees of private firms, whether
individual or corporate, in accordance with a
73
Read Section 32(B), Tax Code reasonable private benefit plan maintained
by the employer provided:
Q: What are deemed excluded from (gross)
income under the Tax Code?
_________________________________________
As provided in Section 32(B), NIRC, the following
72
items shall not be included in gross income and shall They are instead subject to estate or gift taxes (see PIROVANO
VS. COMMISSIONER [JULY 31, 1965])
be exempt from income tax 73
Reasonable private benefit plan means a pension, gratuity,
71
stock bonus or profit-sharing plan maintained by an employer for
1. Proceeds of life insurance, payable upon the the benefit of some or all of his officials or employees, wherein
death of the insured to the heirs or beneficiaries, contributions are made by such employer for the officials or
but not the interest payments thereon if such employees, or both, for the purpose of distributing to such officials
and employees the earnings and principal of the fund thus
accumulated, and wherein its is provided in said plan that at no
_________________________________________ time shall any part of the corpus or income of the fund be used
for, or be diverted to, any purpose other than for the exclusive
71
It is considered as indemnity rather than income benefit of the said officials and employees.

PIERRE MARTIN DE LEON REYES Page 95 of 158


Ateneo Law Batch 2013 Last Updated: 30 July 2013(v3)
PM REYES BAR REVIEWER ON TAXATION I
(Based on the 2013 Bar Syllabus and Updated with Recent BIR Issuances and the
Latest Supreme Court and CTA Jurisprudence as of January 31, 2013)

i. that the retiring official or employee has from their passive investments in the
been in the service of the same Philippines
employer for at least ten (10) years and b. Income of the Philippine government
is not less than fifty (50) years of age at and its political subdivisions derived
the time of his retirement from public utilities or in the exercise of
essential governmental functions
ii. That the benefits granted shall be c. Prizes and awards made primarily in
availed of by an official or employee recognition of religious, charitable,
only once. scientific, educational, artistic, literary or
civic achievement but only if:
b. Any amount received by an official or i. The recipient was selected without
employee or by his heirs from the any action on his part to enter the
employer as a consequence of contest or proceedings; and
separation of such official or employee ii. The recipient is not required to
from the service of the employer render substantial future services as
because of death sickness or other a condition to receiving the prize or
physical disability or for any cause award
beyond the control of the said official or d. All prizes and wards granted to
employee. athletes in local and international sports
c. The provisions of any existing law to the competitions whether held in the
contrary notwithstanding, social Philippines or abroad.
security benefits, retirement e. Gross benefits received by officials
gratuities, pensions and other similar and employees of public and private
benefits received by resident or non- entities provided, however, that the
resident citizens of the Philippines or total exclusion shall not exceed P30,000
aliens who come to reside permanently which shall cover:
in the Philippines from foreign i. Benefits received by officials and
government agencies and other employees of the national and local
institutions, private or public. government pursuant to RA 6686
d. Payments of benefits due or to ii. Benefits received by employees
become due to any person (residing in pursuant to PD 851
the Philippines) under the laws of the iii. Benefits received by officials and
United States administered by the employees not covered by PD 851
United States Veterans Administration. iv. Other benefits such as productivity
e. Benefits received from or enjoyed incentives and Christmas bonus
under the Social Security System in provided that the ceiling of P30,000
accordance with the provisions of may be increased through the rules
Republic Act No. 8282. and regulations issued by the
f. Benefits received from the GSIS Secretary of Finance, upon
under Republic Act No. 8291, including recommendation of the
retirement gratuity received by Commissioner, after considering,
government officials and employees. among others, the effect on the
same of the inflation rate at the end
7. Miscellaneous items, likewise exempt, of the taxable year.
including: f. GSIS, SSS, Medicare and Pag-ibig
contributions and union dues of
a. Income of foreign governments or individuals
financing institutions owned, controlled g. Gains from the sale of bonds,
or enjoying refinancing from such debentures or other certificate of
foreign governments and of international indebtedness with a maturity of more
or regional financial institutions than 5 years
established by foreign governments h. Gains from the redemption of shares
of stock in a mutual fund company

PIERRE MARTIN DE LEON REYES Page 96 of 158


Ateneo Law Batch 2013 Last Updated: 30 July 2013(v3)
PM REYES BAR REVIEWER ON TAXATION I
(Based on the 2013 Bar Syllabus and Updated with Recent BIR Issuances and the
Latest Supreme Court and CTA Jurisprudence as of January 31, 2013)

that may result as the death of the insured


Also, under Section 33(C), NIRC, the following partner
fringe benefits are not taxable: 4. The recipient of the insurance proceeds is a
partnership in which the insured is a partner
1. Fringe benefits authorized and exempted from and the insurance was taken to compensate
tax under special laws; the partnership for any loss in come that
2. Contributions of the employer for the benefit of may result from the dissolution of the
the employee to retirement, insurance and partnership caused by the death of the
hospitalization plans; insured partner
3. Benefits given to rank and file employees, 5. The recipient of the life insurance proceeds
whether granted under a CBA or not; is a corporation which the insured was an
4. De minimis benefits. employee or officer. (see RR No. 2-40)

Note: As to 7(a) – A financing institution wholly-owned and Q: What is the tax treatment of the interests
controlled by a foreign government is exempt from income paid on life insurance proceeds?
tax and final withholding tax with respect to its income
derived from investments in T-bonds. GOVERNMENT OF
SINGAPORE INVESTMENT CORPORATION PTE LTD. VS. CI, CTA If the amounts of life insurance proceeds are held by
8030, SEPTEMBER 5, 2012 the insurer under an agreement to pay interest
thereon, the interest payments shall be included in
--------------------------------------------------------------- the gross income. (see Section 32(B)(1), Tax Code)
(a) Proceeds from life insurance policies Note: Rationale – The interests do not form part of the
--------------------------------------------------------------- indemnity but are earnings or income from the use of
capital which are taxable.
Q: What are the conditions for the exclusion
from gross income of life insurance Q: Is the concept of revocability or
proceeds? irrevocability in the designation of the
beneficiary relevant for purposes of
The proceeds of life insurance policies must be: exclusion?
1. Paid to the heirs or beneficiaries No. There is no need for the determination of the
2. Upon the death of the insured revocability or irrevocability in the designation of the
3. whether in a single sum or otherwise beneficiary for purposes of exclusion of the life
insurance proceeds from the gross estate. It is
Note: (1) Payment by reason other than death – material only in determining whether the proceeds
Payment for reasons other than death are subject to tax form part of the gross estate or not.
up to the extent of the excess of the premiums paid.

(2) Reason for the Exclusion – They partake more of ---------------------------------------------------------------


indemnity or compensation rather than gain to the (b) Return of premium paid
recipient (c) Amounts received under life insurance,
endowment, or annuity contracts
Q: In what instances are life insurance ---------------------------------------------------------------
proceeds not excluded from gross income?
Note: Items (b) and (c) refer to the same thing. In fact, that
1. Life insurance policy is used to secure a is Section 32(B)(2) which refers to amounts received by
money obligation insured as return of premium paid by him undr life
2. Life insurance policy was transferred for a insurance, endowment or annuity contracts.
valuable consideration
3. The recipient of the insurance proceeds is a
business partner of the deceased and the
insurance was taken to compensate the
partner-beneficiary for any loss in income

PIERRE MARTIN DE LEON REYES Page 97 of 158


Ateneo Law Batch 2013 Last Updated: 30 July 2013(v3)
PM REYES BAR REVIEWER ON TAXATION I
(Based on the 2013 Bar Syllabus and Updated with Recent BIR Issuances and the
Latest Supreme Court and CTA Jurisprudence as of January 31, 2013)

Q: What are the conditions for amounts It is excluded from gross income and hence not
received by insured as return of premiums subject to income tax. However, the income from the
be excluded from gross income? property acquired and transfers of divided interests
shall be included in gross income. (see Section
1. The amounts are received by the insured 32(B)(3), Tax Code).
74
2. Under a life insurance, endowment, or
annuity contract
75 Note: Rationale – The property is subject to donor’s or
estate taxes as the case may be. As to the income from
3. Either: the property, what is only excluded is the property itself
a. during the term or
b. at maturity of the term mentioned in
the contract or ---------------------------------------------------------------
c. upon surrender of the contract (e) Amount received through accident or
health insurance
(see Section 32(B)(2), Tax Code) ---------------------------------------------------------------

Note: The amount returned is not income but return of Q: What kinds of of compensation or
capital. They represent earnings which were previously damages for injuries or sickness are
taxed.
excluded from gross income?
Q: What is the tax treatment of proceeds
1. Amounts received through Accident or
received under endowment policies? Health Insurance or Workmen’s
Compensation Act as compensation for
1. If the insured dies, and the benificary recives personal injuries or sickness
the life insurance proceeds – not taxable 2. Amounts of any damages received whether
and excluded from gross income by suit or agreement on account of such
2. If the insured does not die and survives the injuries or sickness
designated period – the amount pertaining
to the premiums are excluded from gross Note: The above amounts are absolutely excluded from
income but the excess shall be considered gross income. Rationale – they are mere compensation
part of his gross income for injuries or sickness suffered and not income

--------------------------------------------------------------- Q: Is the compensation for unearned income


(d) Value of property acquired by gift, as a result of personal injuries or sickness
bequest, devise or descent excluded from gross income?
---------------------------------------------------------------
Yes. They are also excluded from gross income as
Q: What is the tax treatment of property they were not earned by the taxpayer as a result of
acquired by gift, bequest, devise or the personal injuries or sickness.
descent? Note: (1) Rationale – It is meant to restore the injured
party “whole as before the injury.” (2) Note that this is the
popular view. The other view is that it is not excluded
_________________________________________
because such damages merely replace the income which
74 would have been subjected to tax if earned.
An endowment is where the insurer agrees to pay a sum
certain to the insured if he outlives a designated period. If he dies
before that date, the proceeds are to be paid to the designated ---------------------------------------------------------------
beneficiary.
75
An annuity binds the debtor to pay an annual pension or
(f) Income exempt under tax treaty
income during the life of one or more determinate persons in ---------------------------------------------------------------
consideration of a capital consisting of money or other property
whose ownership is transferred to him at once with the burden of
the income (see Art. 2021, NCC)

PIERRE MARTIN DE LEON REYES Page 98 of 158


Ateneo Law Batch 2013 Last Updated: 30 July 2013(v3)
PM REYES BAR REVIEWER ON TAXATION I
(Based on the 2013 Bar Syllabus and Updated with Recent BIR Issuances and the
Latest Supreme Court and CTA Jurisprudence as of January 31, 2013)

Q: What is the reason for the exclusion of 3. the retiring official or employee is not less
income exempt under treaty? than fifty (50) years of age at the time of his
retirement; and
Although it is income, it is excluded from gross 4. the benefit had been availed of only once
income by reasons of public policy which recognizes 5. The retirement plan must be submitted to
the principles of reciprocity and comity among and approved by the BIR (see
States. INTERCONTINENTAL BROADCASTING
CORPORATION VS. AMARILLA [OCTOBER 29,
Q: A domestic corporation entered into a 2006])
loan and sales contract with a foreign
Q: An employer maintains an employees’
corporation where the latter shall extend a
trust to provide retirement, pension,
loan to the former and the former shall sell
disability benefits to its employees. The
to the latter all copper concentrates to be
trust made investments and earned
produced from the machine to be purchased
therefrom interest income. Is it proper to
using the loaned amount. The foreign
subject the interest income to withholding
corporation applied for the loan from one of
tax?
its government financing institutions. Is the
interest income from the loans automatically No. As held by the Supreme Court in CIR V. CA &
exempt from withholding tax? GCL RETIREMENT PLAN [M ARCH 23, 1992], said
retirement benefits received by officials and
No. As held in CIR V. MITSUBISHI METAL employees of private firms in accordance with a
CORPORATION [JANUARY 22, 1990], the burden of reasonable private benefit plan maintained by the
proof rests upon the party claiming an exemption to employer shall be exempt from all taxes
prove that it is in fact covered by the exemption. In
the said case, the Supreme Court found that the Q: What are the conditions in order that
foreign government financing institution had nothing
separation pay may be excluded from gross
to do with the sales and loans agreement. It is the
foreign corporation, not the foreign government income?
financing institution that is the sole creditor of the
domestic corporation 1. Amount received by an official, employee, or
by his heirs
2. From the employer
--------------------------------------------------------------- 3. As a consequence of separation of such
(g) Retirement benefits, pensions, gratuities, official or employee from the service of the
etc. employer
--------------------------------------------------------------- a. Because of death, sickness, or other
physical disability or
Q: What are the conditions to exempt b. For any cause beyond the control of
retirement benefits paid from an employer such official or employee , such as
maintained reasonable private retirement i. Retrenchment
plan from income tax? ii. Redundancy
iii. Cessation of business
For the retirement benefits to be exempt from
Note: In other words, the separation must be involuntary
income tax, the taxpayer is burdened to prove the in order for it to be excluded from gross income.
concurrence of the following elements:

1. a reasonable private benefit plan is


maintained by the employer; Q: A government employee, retired from
2. the retiring official or employee has been in service. Upon retirement, he received,
the service of the same employer for at least among other benefits, terminal leave pay
ten (10) years; which the CIR withheld a portion allegedly

PIERRE MARTIN DE LEON REYES Page 99 of 158


Ateneo Law Batch 2013 Last Updated: 30 July 2013(v3)
PM REYES BAR REVIEWER ON TAXATION I
(Based on the 2013 Bar Syllabus and Updated with Recent BIR Issuances and the
Latest Supreme Court and CTA Jurisprudence as of January 31, 2013)

representing income tax thereon. Is terminal 1. Made primary in recognition of religious,


leave pay considered part of gross income charitable, scientific, educational, artistic,
of the recipient? literary, or civic achievement
2. The recipient was selected without any
No. In COMMISSIONER OF INTERNAL REVENUE VS. CA action on his par to enter the contest or
& EFREN CASTANEDA [OCTOBER 17, 1991], the proceeding and
Supreme Court held that terminal leave pay received 3. The recipient is not required to render
by a government official or employee is not subject substantial future services as a condition to
to withholding (income) tax. The rationale behind the receiving the prize or award.
employee’s entitlement to an exemption from
withholding tax on his terminal leave is that Q: What are the requisites for the exclusion
commutation of leave credits, more commonly from gross income of prizes and awards in
known as terminal leave, is applied for by an officer sports competitions?
or employee who retires, resigns or is separated
from the service through no fault of his own. In the 1. The prizes and awards granted to athletes
exercise of sound personnel policy, the Government 2. In local and international sports tournaments
encourages unused leaves to be accumulated. and competitions
Terminal leave payments are given not only at the 3. Whether held in the Philippines or abroad
same time but also for the same policy 4. Sanctioned by their national sports
considerations governing retirement benefits. In fine, associations
not being part of the gross salary or income of a
government official or employee but a retirement ---------------------------------------------------------------
benefit, terminal leave pay is not subject to income (6) Under Special laws
tax. (see RE: REQUEST OF ATTY. BERNANDINO (a) Personal Equity and Retirement Account
ZIALCITA [OCTOBER 18, 1990]).
---------------------------------------------------------------
Q: Are contributions to SSS, GSIS, PHIC and Note: Special laws granting tax exemptions to
Pag-Ibig in excess of the mandatory corporations shall be discussed under Exempt
contributions subject to income tax? Corporations.

Yes. Previously, SSS, GSIS, PHIC and Pag-Ibig Q: Is income earned by a contributor from
contributions in excess of the mandatory the investments and reinvestments of his
contributions were considered exempt from income Personal Equity and Retirement Act (PERA)
tax. However, because it was deemed to have been assets subject to income tax?
abused and the excess contributions are being
made as a form of investment, RMC No. 027-11 No. As provided in RR No 017-11 [OCTOBER 27,
[JULY 1, 2011] now considers the excess 2011], implementing the tax provisions of RA 9505,
contributions as not excludible from gross income otherwise known as the Personal Equity and
and not exempt from income and withholding tax. Retirement Account (PERA) Act of 2008, investment
income of a contributor consisting of all income
--------------------------------------------------------------- earned from the investments and reinvestments of
(h) Winnings, prizes, and awards, including his PERA assets in the maximum amount allowed
those in sports competition shall be exempt from the following taxes as may be
--------------------------------------------------------------- applicable:

Q: What are the requisites to be met before 1. Final withholding tax on interest from any
prizes and awards are excluded from gross currency bank deposit, yield or any other
monetary benefit from deposit substitutes and
income?
from trust funds and similar arrangements,
including a depository bank under the EFCDS;
The prizes and awards are:

PIERRE MARTIN DE LEON REYES Page 100 of 158


Ateneo Law Batch 2013 Last Updated: 30 July 2013(v3)
PM REYES BAR REVIEWER ON TAXATION I
(Based on the 2013 Bar Syllabus and Updated with Recent BIR Issuances and the
Latest Supreme Court and CTA Jurisprudence as of January 31, 2013)

2. Capital gains tax on the sale, exchange, exemption for head of a


retirement or maturity of bonds, debentures or family.
other certificates of indebtedness;
3. 10% tax on cash and/or property dividends Q: What is the nature of deductions?
actually or constructively received from a
domestic corporation, including a mutual fund Deductions partake of the nature of tax exemptions.
company; Hence, they are likewise strictly construed against
4. Capital gains tax on the sale, barter, exchange, the taxpayer. CIR V. ISABELA CULTURAL
or other disposition of shares of stock in a CORPORATION [G.R. NO. 172231, FEBRUARY 12,
domestic corporation; 2007]
5. Regular income tax.
Q: What are the kinds of deductions?
---------------------------------------------------------------
(h) Deductions 1. The itemized deductions in Section 34(A) to
(1) General Rules J and (M) available to all kinds of taxpayers
(2) Return of Capital engaged in trade or business or practice of
76
(3) Itemized Deductions profession in the Philippines
(4) Optional Standard Deduction 2. The optional standard deduction in Section
(5) Personal and additional exemption 34(L) available to all kinds of taxpayers
engaged in trade or business or practice of a
(6) Items not deductible
profession in the Philippines
--------------------------------------------------------------- 3. The special deductions in Section 37 and 38
as well as in special laws
Q: What are deductions? 4. The personal and additional exemptions and
deductions in Section 35 for premium
Deductions are items or amounts authorized by law payments on health and/or hospitalization
to be subtracted from the pertinent items of gross insurance in Section 34(M) available both to
income to arrive at taxable income. individual taxpayers earning purely
compensation income and individual
Q: Distinguish a deduction from an taxpayers engaged in trade or business or
exemption practice of a profession

Deduction Exemption Note: As to (2) – In Atty. Mamalateo’s book, he still states


that OSD is available only to an individual taxpayer, other
It is a subtraction It is an immunity or than a nonresident alien. This no longer holds true in light
privilege, a freedom from of the amendment introduced by RA 9504. Domestic and
resident foreign corporations may now avail of OSD.
a charge or burden to
which others are
subjected to Q: Who can avail of the deductions provided
for under the law?
It is not a receipt but an It is generally a receipt
expenditure which is which is excluded from On compensation 1) Deductions for premium
permitted to be taxable income income of payments on health and/or
subtracted from income citizens, whether hospitalization insurance
to determine the amount resident or
subject to tax nonresident, and 2) Personal and additional

_________________________________________
It is a reduction of wealth A person exemption is
which helped earn the the theoretical personal 76
As it requires that they be engaged in a trade, or business, or
income subject to tax, family and living profession, this excludes citizens and alien residents earning
such as ordinary and expense of an individual, purely compensation income.
necessary expenses such as the personal

PIERRE MARTIN DE LEON REYES Page 101 of 158


Ateneo Law Batch 2013 Last Updated: 30 July 2013(v3)
PM REYES BAR REVIEWER ON TAXATION I
(Based on the 2013 Bar Syllabus and Updated with Recent BIR Issuances and the
Latest Supreme Court and CTA Jurisprudence as of January 31, 2013)

resident aliens exemptions personal and additional exemptions and premium


payments on health and hospitalization insurance.
On incomes 1) Itemized deductions or
(other than optional standard deduction ---------------------------------------------------------------
compensation (1) General Rules
income) of 2) Deductions for premium (a) Deductions must be paid or incurred
citizens, whether payments on health and/or in connection with the taxpayer’s trade,
resident or hospitalization insurance business or profession
nonresident, and (b) Deductions must be supported by
resident aliens 3) Personal and additional adequate receipts or invoices (except
exemptions
standard deduction)
On income of 1) Itemized deductions but not (c) Additional requirement relating to
non-resident allowed optional standard withholding
aliens engaged in deduction ---------------------------------------------------------------
trade, business,
or profession in 2) Deductions for premium Q: What are the general rules to be
the Philippines payments on health and/or observed regarding deductions?
hospitalization insurance
1. Deductions must be paid or incurred in
3) Personal and additional connection with the taxpayer’s trade,
exemptions subject to business or profession
reciprocity 2. Deductions must be supported by adequate
receipts or invoices
Non-resident Their income (whether 3. Additional requirement relating to
alien individuals compensation or other income) withholding
not engaged in is subject to tax on their gross
trade or business income. Hence, no deductions Read Section 34(K), Tax Code
in the Philippines or exemptions
Q: What are the general requisites before
Domestic 1) Itemized deductions or deductions are allowed?
Corporations and optional standard deduction
Resident foreign 1. There must be a specific provision of law
corporations allowing the deductions, since deductions do
not exist by implication
Non-resident Their income (whether 2. The requirements of deductibility must be
foreign compensation or other income) met
corporation is subject to tax on their gross 3. There must be proof of entitlement to the
income. Hence, no deductions deductions
or exemptions 4. The deductions must not have been waived
5. The withholding and payment of the tax
required must be shown
Note: In sum, all taxpayers except:
Note: Remember this! In fact, please memorize it as these
1. Nonresident aliens not engaged in trade or business; are the requisites common to all deductions. Each
and deduction would add some requisites in the enumeration.
2. Nonresident foreign corporations or those foreign So remember the general requisites!
corporations not engaged in trade or business in the
Philippines

However, with respect to itemized deductions, they cannot


be availed by citizens and resident aliens whose income is
purely compensation income. They are entitled only to

PIERRE MARTIN DE LEON REYES Page 102 of 158


Ateneo Law Batch 2013 Last Updated: 30 July 2013(v3)
PM REYES BAR REVIEWER ON TAXATION I
(Based on the 2013 Bar Syllabus and Updated with Recent BIR Issuances and the
Latest Supreme Court and CTA Jurisprudence as of January 31, 2013)

--------------------------------------------------------------- to sellers of inventory of goods.


(2) Return of Capital Their entire gross receipts are
(a) Sale of inventory of goods by treated as part of income.
manufacturers and dealers of properties
(b) Sale of stock in trade by a real estate ---------------------------------------------------------------
dealer and dealer in securities (3) Itemized Deductions
(c) Sale of services (a) Expenses
--------------------------------------------------------------- (b) Interest
(c) Taxes
Q: Discuss “return of capital” as a (d) Losses
deduction. (e) Bad Debts
(f) Depreciation
Income tax is levied only in income, which may be (g) Charitable and other contributions
gross income or net income; hence, the amount (h) Contributions to pension trusts
representing return of capital should be deducted (i) Deductions under special laws
from the proceeds from sales of assets and should ---------------------------------------------------------------
not be subject to income tax (see Section 65, RR
No. 2) Note: I will not be discussing Depletion and Research and
Development as they are not included in the 2013
Sale of inventory The amount received by the Syllabus.
of goods by seller consists of return of
manufacturers capital and gain from sale of Q: What are the allowable under the Tax
and dealers of goods or properties. That Code? (Itemized deductions)
properties portion of the receipt
representing return of capital is The allowable and itemized deductions include:
not subject to income tax.
Accordingly, cost of goods 1. Business Expenses (Expenses in
manufactured and sold (in the connection with taxpayer’s trade, business
case of manufacturers) or cost or profession)
of sales (in the case of 2. Interest on Indebtedness
dealers) is deducted from 3. Taxes in connection with taxpayer’s
gross sales to arrive at gross business, trade or profession [except
income. income taxes, estate and donor’s taxes,
special assessments, and foreign income
Sale of stock in They are not ordinarily allowed taxes (unless the taxpayer does not make
trade by a real to compute the amount use of the tax credit privilege)]
estate dealer and representing return of capital 4. Losses
dealer in through cost of sales. Rather, 5. Bad debts
securities they are required to deduct the 6. Depreciation
total cost specifically 7. Depletion
identifiable to the real property 8. Charitable and other contributions
or shares of stock sold or 9. Research and development expenditures
exchanged. The resulting gain 10. Contributions to pension trusts
or loss is subject to income
tax. Note: The Secretary of Finance may prescribe ceilings for
the allowable itemized deductions.
Sale of services Seller of services do not buy
and carry nor sell any stock in Read Section 34 last ¶, Tax Code
trade or inventory of property;
hence, they do not take or
assume any risk of loss similar

PIERRE MARTIN DE LEON REYES Page 103 of 158


Ateneo Law Batch 2013 Last Updated: 30 July 2013(v3)
PM REYES BAR REVIEWER ON TAXATION I
(Based on the 2013 Bar Syllabus and Updated with Recent BIR Issuances and the
Latest Supreme Court and CTA Jurisprudence as of January 31, 2013)

--------------------------------------------------------------- 7. The tax required to be withheld on the


(a) Expenses expense paid or payable is shown to have
(1) Requisites for deductibility been remitted to the BIR
(2) Salaries, wages and other forms of
compensation for personal services Q: What is meant by ordinary and necessary
actually rendered, including the grossed- expenses?
up monetary value of the fringe benefit
An expense is 'ordinary' when it connotes a
subjected to fringe benefit tax which tax
payment which is normal in relation to the business
should have been paid of the taxpayer and the surrounding circumstances.
(3) Travelling/transportation expenses
(4) Cost of materials An expense will be considered 'necessary' where
(5) Rentals and/or other payments for the expenditure is appropriate and helpful in the
use or possession of property development of the taxpayer's business
(6) Repairs and maintenance
(7) Expenses under lease agreements Q: What is meant by “paid or incurred
(8) Expenses for professionals during the taxable year?”
(9) Entertainment/Representation
expenses Paid or incurred during the taxable year means that
(10) Political campaign expenses the deduction shall be taken for the taxable year in
which paid or accrued or paid or incurred dependent
(11) Training expenses
on the accounting method in which net income is
--------------------------------------------------------------- computed

Read Section 34(A), Tax Code Q: ABC Corp failed to claim expenses for
professional services that accrued in past
Q: What are the requisites for deductibility years. May ABC Corp still claim these
of business expenses?77 expenses as deductions?
The requisites are: No. In COMMISSIONER OF INTERNAL REVENUE VS.
1. The expense must be ordinary and ISABELA CULTURAL CORPORATION (FEBRUARY 12,
necessary 2007), Isabela Corp failed to claim the expenses for
2. Paid or incurred during the taxable year professional services that accrued in 1984 and 1985
3. In carrying on the trade or business of the during the said years. Instead, it sought to claim
taxpayer them as deductions during the taxable year of 1986.
4. It must be supported by adequate invoices The Supreme Court held that one of the requisites
and receipts for the deductibility of a business expenses is that it
5. Must not be against law, morals, public must have been paid or incurred during the taxable
78
policy, or public order year. Hence, the professional fees should have been
6. It must be reasonable claimed as deductions during the years where they
were paid or incurred.

_________________________________________ Q: Discuss the substantiation rule.


77
This is the general rule which is to be followed for all business
It is required that before business or professional
expenses. The enumeration provided in certain business
expenses provide for additional requisites. expenses are allowed as deductions from gross
78
We said that illegal income will form part of gross income income, the taxpayer must satisfy the BIR that the
because the Code provides for “income from whatever source.” deductions being claimed are indeed ordinary and
However, one cannot deduct the illegal income from gross
necessary expenses incurred during the taxable
income. It is against law and public policy. Ninakaw mo na nga,
gusto mo pa ng deduction. Kapal ng face. year carrying on any trade or business. The
taxpayer shall substantiate the expense being

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deducted with sufficient evidence such as official


receipts or other adequate records. No. A taxpayer is entitled to deduct the ordinary and
necessary expenses paid in carrying on his business
Note: The burden is on the taxpayer to prove from his gross income from whatever source.
entitlement to a claimed deduction.
Q: Are “advertising expenses” deductible
Q: What is the Cohan Principle? from gross income?
If there is a showing that expenses have been It depends on the nature of the advertising expense.
incurred but the exact amount thereof cannot be In COMMISSIONER OF INTERNAL REVENUE VS. GENERAL
ascertained due to the absence of documentary FOODS (PHILS.) INC. [APRIL 24, 2003], General Foods
evidence, it is the duty of the BIR to make an claimed as deductions its advertising expenses for
estimate of deduction that may be allowed in its product “Tang.” The CIR disallowed the deduction
computing the taxpayer’s taxable income bearing arguing that the advertising expenses are not
heavily against the taxpayer whose inexactitude is of business expenses but capital expenditures.
his own making. Cohan v. Commissioner [39 F. 2d
540, 2d Cir. 1930] The Supreme Court ruled in favor of the CIR.
Advertising is generally of two kinds: (1) advertising
Q: What are the types of business expenses to stimulate the current sale of merchandise or use
specifically included in the Tax Code as of services and (2) advertising designed to stimulate
deductions? the future sale of merchandise or use of services.
The second type involves expenditures incurred, in
As provided in Section 34(A)(1)(a), these are: whole or in part, to create or maintain some form of
goodwill for the taxpayer’s trade or business or for
1. Reasonable allowance for salaries or other the industry or profession of which the taxpayer is a
compensation for personal services member. If the expenditures are for the advertising
actually rendered to the taxpayer of the first kind, then, except as to the question of
2. Reasonable allowance for travel expenses the reasonableness of amount, there is no doubt
in the pursuit of trade, business or such expenditures are deductible as business
profession expenses. If, however, the expenditures are for
3. Reasonable allowance for rentals and or advertising of the second kind, then normally they
other payments required for the continued should be spread out over a reasonable period of
use or premium of the property for the time The protection of brand franchise is analogous
purpose of the trade or business and to to the maintenance of goodwill or title to one’s
which property the taxpayer has not taken or property. This is a capital expenditure which should
is not taking title or in which he has no be spread out over a reasonable period of time. This
79
equity. was akin to the acquisition of capital assets and
4. Reasonable allowance for entertainment, therefore expenses related thereto were not to be
amusement and recreation expenses considered as business expenses but as capital
provided that they are connected to the expenditures. The advertising expense incurred by
development and operation of the trade, General Foods fall under the second type.
business or profession and that it is not
contrary to law, morals, public policy or Q: ABC Corporation paid a PR firm to
public order. campaign for the sale of ABC’s additional
capital stock. Is the compensation paid to
Q: Is the enumeration of business expenses the PR firm deductible as a business
provided in the Tax Code exclusive? expense?
_________________________________________ No. In ATLAS CONSOLIDATED MINING & DEVELOPMENT
79 CORPORATION VS. COMMISSIONER OF INTERNAL
In the latter case, he may claim depreciation allowance
REVENUE (JANUARY 27, 1981), the Supreme Court
held that this is not deductible because it is a capital

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expenditure. Expenses relating to the payments purely for the personal services actually
recapitalization and reorganization of the rendered.
corporation, promotion expenses and commission or
fees for the sale of stock reorganization are capital Q: What are some factors that may be
expenditures. considered in determining the
reasonableness of the compensation paid
Q: Are litigation expenses deductible as a for services?
business expense?
They are:
No. As held in ATLAS CONSOLIDATED MINING &
DEVELOPMENT CORPORATION VS. COMMISSIONER OF 1. The payment must be made in good faith
INTERNAL REVENUE (JANUARY 27, 1981), litigation 2. The character of the taxpayer’s business
expenses incurred in defense or protection of title 3. The volume and amount of its net earnings
are capital in nature and not deductible. 4. The locality in which the business is in
5. The type and extent of the services rendered
6. The salary policy of the corporation
Are police protection fees and gifts for an 7. The size of the particular business
exhibition for charitable purposes deductible as 8. The employee’s qualifications and business
a business expense? venture
9. The general economic conditions
No. In CALANOC VS. COLLECTOR OF INTERNAL
REVENUE [NOVEMBER 29, 1961], at issue in this case There is no fixed test in determining the
is the deductibility of the expenses incurred for reasonableness of a given bonus as compensation.
police protection and for gifts and parties in This depends on many factors and the situation
connection with the boxing and wrestling exhibition must be considered as a whole.
that Calanoc financed and promoted whose
proceeds would be given to the orphans and Q: Are salaries deductible?
destitute children of the Child Welfare Workers Club
of the Social Welfare Commission. The Supreme Yes provided that they comply with the following
Court held that the police protection fees were not requisites:
deductible as they are illegal since it was
consideration for the performance of functions 1. The salaries must be for personal services
required of policemen by law. As to the gifts and actually rendered
parties, they were deemed excessive considering 2. The salaries must be reasonable in amount.
that the purpose of the exhibition was for a
charitable cause. (see Section 70, RR No. 2)

--------------------------------------------------------------- Note: To determine if reasonable, you look at what is


2) Salaries, wages and other forms of ordinarily paid for such service in like enterprise in like
compensation for personal services circumstances (see Section 70, RR No. 2-40)
actually rendered, including the grossed-
up monetary value of the fringe benefit Q: Are bonuses to employees allowable
subjected to fringe benefit tax which tax deductions from gross income?
should have been paid
Yes provided that:
---------------------------------------------------------------
1. They are made in good faith
Q: What is the rule on the deductibility of 2. They are given for personal services actually
compensation payments? rendered
3. The bonus when added to salaries is
The test of deductibility in the case of compensation reasonable when measured by the amount
payments is whether they are reasonable and and quality of the services performed with

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relation to the business of the particular the deductibility of bonuses is that they are given for
taxpayer. personal services actually rendered.

(see KUENZLE & STREIFF V. COLLECTOR [106 PHIL. Q: ABC Corporation claimed as deductions
355]; C.M. HOSKINS & CO., INC. VS. COMMISSIONER OF bonuses it gave to its non-resident
INTERNAL REVENUE [NOVEMBER 28, 1969]) president and vice-president and the
bonuses it gave to its resident officers and
Q: A, an experienced realtor, was paid employees. The company gave its resident
supervision fees in the amount of P100,000 officers and employees much more. The
annually by XYZ Corporation for a three- deductions for bonuses given to resident
year project, an amount when combined officers and employees were disallowed for
with his salary and bonuses is double the being excessive and for no special reason.
XYZ’s income. Are the supervision fees Is the disallowance proper?
deductible?
It would depend on the nature, extent, and quality of
No. In C.M. HOSKINS & CO., INC. VS. COMMISSIONER the services actually rendered by the resident
OF INTERNAL REVENUE [NOVEMBER 28, 1969], officers and employees. In KUENZLE & STREIFF, INC.
Hoskins & Co. claimed as deductions the payment VS. COLLECTOR OF INTERNAL REVENUE [OCTOBER 20,
of P100,000 to its founder and controlling 1959], the Supreme Court held that the bonuses to
stockholder, Hoskins representing 50% of the 8% its resident officers and employees were reasonable
supervision fees the company received as managing taking into account the situation at the time when the
agent for Paradise Farms. In this case, the Supreme services were rendered: unsettling conditions after
Court held that such was not deductible for failing to the war, the imposition of controls on exports and
pass the reasonableness test. If allowed, Hoskin imports, and he use of foreign exchange which
would be receiving on his salary, bonus, and resulted in diminution of the amount of business.
supervision fees at total of P185,000 which is double
the company’s reported net income. The Supreme
---------------------------------------------------------------
Court stated that if it was a one-time payment, it
could have been deducted since Hoskin was an (3) Travelling/transportation expenses
experienced realtor. However, the P100,000 ---------------------------------------------------------------
supervision fee was being paid every year (for three
years) for the entire duration of the company’s Q: What are the requisites for deductibility
project with Paradise Farms. of travelling or transportation expenses?

Q: Can a bonus given to corporate officers 1. It must be paid or incurred while away from
be deducted from gross income from the home
sale of one of its properties on the 2. It must be incurred in the pursuit of the
representation that corporate officers, by taxpayer’s trade or business
virtue of their positions, contributed to the 3. It must be reasonable and necessary
consummation of the sale?
---------------------------------------------------------------
No. In AGUINALDO INDUSTRIES CORPORATION VS. (4) Cost of materials
COMMISSIONER OF INTERNAL REVENUE [FEBRUARY 25, ---------------------------------------------------------------
1982], Aguinaldo Industries sought to claim as
deductions the bonuses given to its corporate Q: What are the requisites for deductibility
officers from the sale of one of its properties.The of cost of materials?
Supreme Court held that the said bonuses cannot
be deducted because there is no evidence that the The charges for materials and supplies shall be only
said officers did any work which would be the basis to the amount that they are actually consumed and
of the grant of the bonuses. One of the requisites for used in operation during the year for which the
return is made, provided that the cost of such

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materials and supplies has not been deducted in Q: What are the allowable deductions by a
determining the net income for any previous year lessee?
(see Section 67, RR No. 2-40)
The lessee may deduct the amount of rent paid or
--------------------------------------------------------------- accrued including all expenses which under the
(5) Rentals and/or other payments for terms of the agreement, the lessee is required to
use or possession of property pay to, or for the account of the lessor. If the
--------------------------------------------------------------- payments are so arranged as to constitute advance
rentals, such payment will be duly apportioned over
the lease term (see Section 3.01, RR No. 19-86)
Q: What are the requisites for deductibility
of rental expenses?
---------------------------------------------------------------
1. Made as a condition to the continued use or (8) Expenses for professionals
possession of property ---------------------------------------------------------------
2. Taxpayer has not taken or is not taking title
to the property or has no equity other than Q: What are the allowable deductions for
that of a lessee, use or possessor professionals?
3. Property must be used in trade or business
4. Subjected to withholding tax of 5%; 1. The cost of supplies used by him in the
otherwise, it shall be disallowed as a practice of his profession
deduction 2. Expenses paid in the operation and repair of
--------------------------------------------------------------- transportation equipment used in making
(6) Repairs and maintenance professional calls
--------------------------------------------------------------- 3. Dues to professional societies and
subscriptions to professional journals
Q: Discuss the deductibility of repairs 4. The rent paid for office rooms
expenses. 5. The expenses of the fuel, light, water,
telephone, etc. used in such offices; and
The cost of incidental repairs which neither 6. The hire of office assistants
materially add to the value of the property nor
appreciably prolong its life, but keep it in an ordinary ---------------------------------------------------------------
working condition, may be deducted as a business (9) Entertainment/Representation
expense. However, extraordinary repairs (those expenses
which prolong its life or add material value) are not ---------------------------------------------------------------
deductible
Q: What is the rule on the deductibility of
---------------------------------------------------------------
representation or entertainment, amusement
(7) Expenses under lease agreements
and recreation expenses?
---------------------------------------------------------------
Such expenses must:
Q: What are the allowable deductions by a 1. Must be paid or incurred during the taxable
lessor? year
2. be directly related to or in furtherance of the
Since the rentals are considered as income of the conduct of the trade, business or exercise of
lessor (owner of the property, such lessor may the profession
deduct all ordinary and necessary expenses paid or 3. not be contrary to law, morals, public policy
incurred during the taxable year which are or public order
attributable to the earning of the income. (see 4. does not constitute a bribe, kickback or
Section 2.01, RR No. 19-86) other similar payment

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5. must be duly substantiated by adequate determine from all available data, the amount
proof properly deductible as representation expenses. In
6. The appropriate amount of withholding tax if view of this, the Supreme Court held CTA did not
applicable should have been withheld commit error in allowing as promotion expenses in
therefrom and paid to the BIR A’s income tax returns at merely one-half.
7. not exceed such ceilings prescribed by the
Secretary of Finance. ---------------------------------------------------------------
(10) Political campaign expenses
Q: Is there a ceiling on entertainment, ---------------------------------------------------------------
amusement and recreational expenses?
Note: I will use this as an opportunity to discuss the import
Yes. RR 10-2002 [JULY 10, 2002] provides that: of RR 8-2009 in relation to RMC 63-09 and RR 7-2011 in
relation to RMC 15-2013 which are recent BIR issuances
1. Sellers of goods or properties – 0.5% of on the matter of political campaign expenses. We know (or
their net sales as representation expenses should know) that contributions given to candidates or
2. Sellers of services – 1% of their net political parties are not subject to donor’s tax (see Section
revenues as representation expenses. 13, RA 7166). It may, however, be subject to income tax.
In order for the campaign expenditure to be tax-exempt, it
must be fully utilized. If it is not fully utilized, it is subject to
However, when supporting documents reflect a income tax (see Section 2, RR 7-2011). These
lower amount, then such lower amount shall be contributions are intended to finance the operation
used. expenditures of a candidate. Any unexpended balance
from any contribution to a candidate or party shall be
Q: A, a hotel owner, claimed as deduction subject to income tax. Further, if the candidate fails to
include certain campaign expenditures in the Statement of
promotion expenses incurred by his wife for Expenditures to be filed with the COMELEC, such
the promotion of the hotel. Half of the said amounts will be automatically subjected to income tax.
expenses were disallowed as deductions
because on the finding that his wife went RMC 15-2013 requires every candidate, treasurer of the
abroad on a combined business and party and person acting under authority of that candidate
or treasurer a) to keep detailed, full and accurate records
medical trip. Is the disallowance proper? of all contributions received and expenditures incurred; b)
to be responsible for the preservation of the records of
Yes. In ZAMORA VS. COLLECTOR OF INTERNAL contributions and expenditures together with all pertinent
REVENUE [M AY 31, 1963], Zamora, a hotel owner, documents, for at least three years after the holding of the
claimed as deduction promotion expenses incurred election to which they pertain and for the productions for
by his wife for the promotion of the hotel. On appeal, inspection by the COMELEC or its duly authorized
the CTA only allowed 50% of the promotional representative, or upon presentation of a subpoena duces
expenses as deductions because it was found in the tecum duly issued by the COMELEC.
Central Bank dollar allocation that his wife went Now, with that said, we now answer whether political
abroad on a combined business and medical trip. campaign expenses are deductible.

The Supreme Court stated that promotional Q: Are political campaign expenses
expenses are deductible but must be substantiated. deductible?
When some of the representation expenses claimed
by the taxpayer were evidenced by vouchers or We must distinguish between (1) the candidate,
chits, but others were without vouchers or chits, political party, or contributor and (2) the supplier of
documents or supporting papers; that there is no the goods and services pertaining to the campaign
more than oral proof to the effect that payments expenditures.
have been made for representation expenses
allegedly made by the taxpayer and about the As to the candidate, political party, or contributor, the
general nature of such alleged expenses; that political campaign expenses are not deductible. If
accordingly, it is not possible to determine the actual they are fully utilized, they are tax exempt and thus
amount covered by supporting papers and the there’s no need for any deduction at all. If they are
amount without supporting papers, the court should

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not fully utilized and hence subject to income tax, it Q: What are the requisites for the
is submitted that they cannot still be deducted either deductibility of interest expenses from
as a business expense or as a contribution. gross income?
MONTENEGRO V. COMMISSIONER, CTA CASE 695,
APRIL 30, 1965) The requisites are:
80
1. There must be indebtedness
However, as to the supplier of the goods or services, 2. There should be an interest expense paid or
he may avail of a deduction. RR 8-2009 subjects the incurred upon such indebtedness
following to a 5% creditable withholding tax: (a) 3. The indebtedness must be that of the
payments made by the political parties and taxpayer
candidates of local and national elections for their 4. The indebtedness must be connected with
campaign expenditures; and (b) payments made by the taxpayer’s trade, business or exercise of
individuals or juridical persons for their purchases of profession
goods and services intended to be given as 5. The interest expense must have been paid
campaign contributions to political parties and or incurred during the taxable year.
candidates. RMC 63-2009 provides that such 5% 6. The interest must be legally due
creditable withholding tax shall be allowed as a tax 7. the interest payment arrangement must not
credit or deduction against the total income tax be between related taxpayers
liability of the supplier of goods or services. 8. the interest must not be incurred to finance
petroleum operations
--------------------------------------------------------------- 9. in case of interest incurred to acquire
(11) Training expenses property used in trade, business, or exercise
--------------------------------------------------------------- of profession, the same was not treated as a
capital expenditure
Q: Discuss the deductibility of training 10. The interest must have been stipulated in
expenses as a business expense. writing
11. The allowable deduction have been reduced
by an amount equal to 33% of the interest
The training expenses must constitute ordinary and
income subject to final tax
necessary business expenses of a taxpayer.
(see RR 13-2000 [NOVEMBER 20, 2000])
---------------------------------------------------------------
(b) Interest
(1) Requisites for deductibility Q: When is interest expense not deductible
(2) Non-deductible interest expense from gross income?
(3) Interest subject to special rules
--------------------------------------------------------------- 1. an indebtedness on which an interest is
paid in advance through discount or
Section 34(B), Tax Code otherwise. Such interest shall be allowed as
a deduction in the year the indebtedness is
paid. If the indebtedness is payable in
---------------------------------------------------------------
periodic amortization, the amount of
(1) Requisites for deductibility interest which corresponds to the amount of
(2) Non-deductible interest expense the principal amortized or paid during the
--------------------------------------------------------------- year shall be allowed as deduction in such
taxable year.

_________________________________________
80
Indebtedness is something owned by one who is
unconditionally obligated or bound to pay

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2. If both the taxpayer and the person to whom Such interest shall be allowed as a deduction in the
the payment has been made or is to be year the indebtedness is paid.
made are “related” persons specified
under Section 36(B). Q: What is the rule on interest periodically
3. If the indebtedness is used to finance amortized?
petroleum exploration.
4. Interest expense equal to 33% of the The amount of interest which corresponds to the
interest income subject to final tax amount of the principal amortized or paid during the
year shall be allowed as deduction in such taxable
Q: Enumerate the cases when no deduction year.
is allowed because the loan is between
related taxpayers. ---------------------------------------------------------------
(c) Interest expense incurred to acquire
1. Between members of the family (brother, property for use in trade, business,
sisters, ascendant, lineal descendant) profession
2. Between an individual and a corporation –
where the individual paid interest on a loan
---------------------------------------------------------------
granted by the corporation more than 50%
of the capital stock of which is owned by the Q: May the taxpayer choose to treat
individual interest expense as capital expenditure?
3. Between two corporations – where one
corporation owns more than 50% of the Yes. Section 34(B)(3) provides that at the option of
other the taxpayer, interest incurred to acquire property
4. Between a grantor and fiduciary of a trust used in trade, business or exercise of a profession
5. Between the fiduciary of a trust and the may be allowed as a deduction or treated as a
fiduciary of another trust with the same capital expenditure.
grantor
6. Between a fiduciary of a trust and a However, should the taxpayer elect to deduct the
beneficiary of such trust interest payments against its gross income, the
taxpayer cannot at the same time capitalize the
Read Section 36(B), Tax Code interest payments because that would constitute
double tax benefits which is not authorized by law
---------------------------------------------------------------
(3) Interest subject to special rules In PAPER INDUSTRIES CORPORATION OF THE
(a) Interest paid in advance PHILIPPINES VS. COURT OF APPEALS [DECEMBER 1,
1995], Paper Industries claimed as deductions
(b) Interest periodically amortized
against gross income interest payments on loans for
(c) Interest expense incurred to acquire the purchase of machinery and equipment. The CIR
property for use in trade, business, disallowed the deduction on the ground that
profession because the loans had been incurred for the
(d) Reduction of interest purchase of machinery and equipment, the interest
expense/interest arbitrage payments on the said loans should have been
--------------------------------------------------------------- capitalized instead and claimed as a depreciation
deduction taking into account the adjusted basis of
--------------------------------------------------------------- the machinery and equipment (original acquisition
(a) Interest paid in advance cost plus interest charges) over the useful life of
(b) Interest periodically amortized such assets.
---------------------------------------------------------------
The Supreme Court ruled that Paper Industries is
entitled to its claimed deduction for interest
Q: What is the rule on interest paid in payments on loans for, among other things, the
advance? purchase of machinery and equipment. The general

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rule is that interest expenses are deductible against tax) thus benefiting by 12% representing the
gross income and this certainly includes interest difference the 32% deduction and the 20%
paid under loans incurred in connection with the withholding tax. It does not matter if the taxpayer
carrying on of the business of the taxpayer. In this actually intended to save taxes.
case, the CIR does not dispute that the interest
payments were made on loans incurred in In BIR RULING NO. 006-00 [JANUARY 5, 2000], PNB
connection with the carrying on of the registered requested the BIR to exclude the interest income
operations of Paper Industries, i.e., the financing of derived by it from treasury bonds in the
the purchase of machinery and equipment actually determination of the interest expense not allowable
used in the registered operations of Paper as deduction as gross income. PNB argues that the
Industries. Neither does the CIR deny that such said bonds were given by the Government for
interest payments were legally due and payment for its liabilities to PNB and hence, it has
demandable under the terms of such loans, and in not engaged in a tax arbitrage scheme.
fact paid by Paper Indusries during the tax year.
The CIR has been unable to point to any provision of Although as a general rule, the amount of interest
the Tax Code or any other Statute that requires the expense paid or incurred by a taxpayer within a
disallowance of the interest payments made by taxable year on indebtedness in connection with his
Paper Industries. The general rule that interest trade, business or exercise of profession shall be
payments on a legally demandable loan are allowed as a deduction from his gross income, the
deductible from gross income must be applied. said interest expense, however, shall be reduced if
the taxpayer has derived certain interest income
--------------------------------------------------------------- which had been subject to final withholding tax. The
(d) Reduction of interest CIR ruled that this limitation on the deductibility of
expense/interest arbitrage interest expenses applies whether or not a tax
arbitrage scheme was entered into by the taxpayer
---------------------------------------------------------------
Q: Do tax obligations constitute
Q: What is the limitation on the amount of
indebtedness?
interest expense allowed to be deductible?
Yes. In COMMISSIONER OF INTERNAL REVENUE VS.
The amount of interest expense paid or incurred by
VDA. DE PRIETO [SEPTEMBER 30, 1960], Vda. de
a taxpayer in connection with his trade, business, or
Prieto conveyed real property by way of gifts to her
exercise of a profession from an existing
four children. She was assessed for donor’s gift
indebtedness shall be reduced by an amount equal
taxes including interests due thereon. She claimed
to 33% of the interest income earned which had
as deduction the total interest on account of the
been subject to final withholding taxes.
delinquency. She contends that the interests due
from her tax obligations are deductible from gross
Q: What is interest arbitrage? income.
Interest arbitrage results in the reduction of the The Supreme Court held that although interest
interest expense by a percentage of the interest payment for delinquent taxes is not deductible as tax
income subject to final tax. It is also defined as a under Section 34(C) of the Tax Code, the taxpayer
circumstance which is presumed to exist because by is not precluded thereby from claiming said interest
putting excess funds in deposits/securities subject to payment as deduction under Section 34(B) of the
20% withholding, taxpayers are able to avoid the same Code. It is a well-settled rule that tax
32% tax which will happen if the same funds are obligations constitute indebtedness for purposes of
invested in revenue-generating activities. deduction from gross income of the amount of
interest paid on indebtedness.
Another illustration of this is when a taxpayer
borrows money from the bank (interest payments on
---------------------------------------------------------------
which can then be claimed as expense and thus a
32% benefit) then deposits it in a bank (and (c) Taxes
subsequently suffers only a 20% final withholding (1) Requisites for Deductibility

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(Based on the 2013 Bar Syllabus and Updated with Recent BIR Issuances and the
Latest Supreme Court and CTA Jurisprudence as of January 31, 2013)

(2) Non-deductible taxes No. Section 34(C)(1) provides that all taxes,
(3) Treatments of national or local, paid or accrued during the taxable
surcharges/interests/fines for year in connection with the trade or business or
delinquency profession of the taxpayer are deductible from
gross income except:
(4) Treatment of special assessment
(5) Tax credit vis-à-vis deduction 1. Philippine income tax
--------------------------------------------------------------- 2. Foreign income taxes unless the taxpayer
does not make use of the tax credit privilege
Read Section 34(C), Tax Code under Section 34(C)(3).
3. Estate and donor’s taxes
--------------------------------------------------------------- 4. Taxes assessed against local benefits of a
(1) Requisites for Deductibility kind tending to increase the value of the
(2) Non-deductible taxes property assessed (special assessments)
5. VAT
---------------------------------------------------------------
Note: In the case of nonresident alien individual or a
Q: Who are entitled to deduct taxes from foreign corporation, deduction is only allowed if and to
gross income? the extent that the taxes for which deduction is claimed
are connected with income from sources within the
Taxes are deductible as such only by the taxpayer Philippines.
upon which they are imposed.
---------------------------------------------------------------
Q: What are the requisites for the (3) Treatments of
deductibility of taxes? surcharges/interests/fines for
delinquency
1. The payments must be for taxes (4) Treatment of special assessment
2. It must be paid or incurred within the taxable ---------------------------------------------------------------
year
3. It must be incurred in connection with trade, Q: Are surcharges, interest and fines for
business or profession delinquency deductible?
4. Tax must be imposed by law on and payable
by the taxpayer (indirect taxes not included) No. To allow them to be deducted defeats the
5. Taxes are not specifically excluded by law prescribed punishment. GUITIERREZ V. COLLECTION
from being deducted from the taxpayer’s [14 SCRA 33]
gross income
Note: However, as discussed, Interest on deficiency taxes
may be allowed as deduction (considered as interest on
indebtedness).
Q: What is the effect of a refund or credit of
deducted taxes? Q: Are special assessments deductible?

The taxes that are allowed as deductions, when It depends.


refunded or credited, shall be included as part of
gross income in the year of receipt to the extent of 1. Maintenance or repair of local benefits –
the income tax benefit of said deduction (Tax Benefit deductible as an expense incurred in trade,
Rule) (see Section 34(C)(1)) business or exercise of a profession if the
payment of such assessment is ordinary and
Q: Are all taxes deductible from gross necessary to the conduct of trade, business
income? or profession
2. Construction of local benefits which increase
the value of the property assessed – the

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Latest Supreme Court and CTA Jurisprudence as of January 31, 2013)

payments should be treated as capital Q: What are the remedies for a taxpayer who
expenditures and hence are not deductible has paid income taxes to a foreign country
for which he would also be liable for
(see Section 83, RR No. 2-40) Philippine income tax?
--------------------------------------------------------------- 1. Tax credit against the Philippine income tax
(5) Tax credit vis-à-vis deduction due;
--------------------------------------------------------------- 2. Deduction from gross income

Q: What is a tax credit? Note: Rationale for allowing tax credit for foreign
taxes – to address indirect double taxation.

A tax credit is the amount subtracted from an


Q: Who are allowed to avail of credit against
individual’s or entity’s tax liability to arrive at the
tax for taxes of foreign countries?
total tax liability.
Only those subject to tax on worldwide income
Q: Distinguish a tax credit from a tax (resident citizen and domestic corporations) may
deduction. avail of tax credits because they pay taxes for
foreign sources income twice (in the Philippines and
Tax Credit Tax Deduction abroad) and the tax credit is meant to lessen the
impact of double taxation.
Reduces the taxpayer’s Reduces taxable income
liability peso for peso upon which the tax Note: This would include members of GPPs and estates.
liability is calculated
Q: May a resident alien deduct from their
gross income income taxes they paid to
Subtracted from the tax Subtracted from the their government?
income before the tax is
computed No. In COMMISSIONER OF INTERNAL REVENUE VS.
81
LEDNICKY [JULY 31, 1964], US citizens residing in
Q: Is the 20% sales discount granted by the Philippines who derives income wholly from
establishments to qualified senior citizens sources within the Philippines, sought to deduct from
considered a tax credit or a tax deduction? their gross income the income taxes they have paid
to the US government.
In M.E. HOLDING CORPORATION V. COURT OF APPEALS
[M ARCH 3, 2008], the Supreme Court noted that The Supreme Court held that to allow an alien
under RA 9257 or the Expanded Senior Citizens Act resident to deduct from his gross income whatever
of 2003, starting taxable year 2004, the 20% sales taxes he pays to his own government is
discount shall be treated as a tax deduction and no incompatible with the status of the Philippines as a
longer as a tax credit. sovereign state. This is because the foreign
government will have the power to reduce the tax
Q: What is the difference between a tax income of the Philippine government simply by
increasing their tax rates.
credit and tax deduction?

A tax credit is a peso-for-peso deduction from the _________________________________________


taxpayer’s tax liability or a full recovery while a tax
81
deduction only benefits the taxpayer to the extent of Note that at the time this case was decided, resident aliens
a percentage of the amount granted as a discount. were still allowed to claim a tax credit. The present rule is that
only resident citizens and domestic corporations can claim a tax
(See CARLOS SUPERDRUG CORP. V. DSQS [JUNE 29, credit. Also, in this case, their net income for foreign sources was
2007] and M.E. HOLDING CORPORATION V. COURT OF zero and, thus, there was no need to apply the tax credit.
APPEALS [M ARCH 3, 2008])

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Note: Also important is this case is the statement made by (2) Other types of losses
the court on the exception: a taxpayer may only be (a) Capital losses
allowed to deduct from his gross income, taxes paid to a
foreign country when such taxpayer is entitled to a foreign (b) Securities becoming worthless
tax credit and he does not choose to exercise such right. (c) Losses on wash sales of stocks or
The right to deduct foreign tax paid is only an alternative to securities
the taxpayer’s right to the foreign tax credit. (d) Wagering Losses
(e) NOLCO
Q: What are the limitations on credit for
---------------------------------------------------------------
foreign taxes?

The amount of the credit shall be subject to the Read Section 34(D), Tax Code
following limitations:
Q: What are the conditions for deductibility
1. The amount of the credit in respect to the of losses?
tax paid or incurred to any country shall not
exceed the same proportion of the tax In order that losses may be allowed as deductions,
against which such credit is taken, which the the following conditions must concur:
taxpayer’s taxable income from sources
within such country under this Title bears to 1. The losses must actually be sustained and
his entire taxable income for the same charged off within the taxable year
taxable year. 2. Evidenced by a closed and completed
transaction
Note: For those who have not yet been rendered 3. Loss is not compensated by insurance or
mathematically impaired by law school, the formula is this: otherwise
4. In the case of an individual, the loss must have
been incurred in the business, trade or
profession of the taxpayer or incurred in any
transaction entered into for profit though not
connected with his trade or business
5. In the case of casualty loss, declaration of loss
2. The total amount of the credit shall not is filed within 45 days from the occurrence of the
exceed the same proportion of the tax casualty loss
against which such credit is taken, which the
taxpayer’s taxable income from sources Note: (1) Losses are deductible only by the person sustaining
them. They are purely personal and cannot be used as
without the Philippines taxable under this
deductions by another
Title bears to his entire taxable income for
the same taxable year. (2) The loss shall not be allowed as a deduction if such
loss was claimed as a deduction for estate tax purposes
Note: Again for the mathematically unimpaired, the (see Section 34(D)(1)(c))
formula is this:
(3) It is not required that the loss must be a result of
transactions in the taxable year only. The taxpayer need
only prove that a closed and completed transaction sets
the loss in the taxable year or in the year claimed and it is
not compensated by insurance or otherwise.
Note: Actually, mas madali naman i-memorize ang
formula instead of trying to memorize and make some Q: How shall the amount of the loss
sense out of those two sentences. deductible be determined?

--------------------------------------------------------------- The amount of loss deductible is limited to the


(d) Losses difference between the value of the property
(1) Requisites for deductibility immediately preceding the loss and its value
immediately thereafter but shall not exceed an

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amount equal of the cost or other adjusted basis of


the property, or depreciated cost reduced by any Q: What are the substantiation requirements
82
insurance or other compensation received. for losses arising from casualty, robbery,
theft, or embezzlement?
Q: What are the kinds of losses allowed to
be deducted from gross income? Generally, under RR 12-77 [OCTOBER 6, 1977], the
substantiation requirements are:
1. Ordinary losses
2. Losses from casualty, theft or 1. A declaration of loss filed with the CIR or his
embezzlement (casualty losses) deputies within a certain period as
3. Net operating loss (where there is a carry- prescribed in the RR after the occurrence of
over of deductions) the casualty, robbery, theft, or
embezzlement
Q: What are ordinary losses? 2. Proof of the elements of the loss claimed

These are losses that are incurred by a taxable RMO 31-2009 [OCTOBER 16, 2009] provides for
entity as a result of its day to day operations policies and guidelines for the reporting of casualty
conducted for profit or otherwise. losses.

Q. What are casualty losses? ---------------------------------------------------------------


(2) Other types of losses
These are the loss or physical damage suffered by (a) Capital losses
property used in trade, business, or the profession (b) Securities becoming worthless
that results from unforeseen, identifiable events that (c) Losses on wash sales of stocks or
are sudden, unexpected, and unusual in character. securities
(d) Wagering Losses
Q: Define casualty, theft, and embezzlement ---------------------------------------------------------------
for purposes of tax deduction
Q: Discuss the deductibility of capital
Casualty means the complete or partial losses.
destruction of property resulting from
an identifiable event of a sudden,
unexpected or unusual nature. Capital losses may not be deducted from ordinary
gains; such capital losses may only be deducted
from capital gains unless a final tax on the capital
Theft Criminal appropriation of another’s transaction is imposed.
property to the use of the taker Q: What is the rule with respect to loss
resulting from shrinkage in the value of the
Embezzlement Fraudulent appropriation of another’s
property by a person to whom it has
stock
been entrusted or into whose hands it
has lawfully come A person cannot deduct from gross income any
amount claimed as a loss merely on account of
(see Section 1, RR No. 12-77) shrinkage in value of such stock through fluctuations
of the market or otherwise.
_________________________________________
82
For example, you purchased a piece of machinery for the value Q: What is the rule with respect to loss
of 200,000 to be depreciated for 20 years. On the 10th year, it was resulting from stocks becoming worthless?
lost due to fire and for the loss, you received P50,000 from your
insurance. How much can you deduct? Get the depreciated cost
which is now 100,000 and deduct the insurance received. The
If the securities become worthless during the taxable
amount that can be deducted is then 50,000. year and are capital assets, the loss resulting
therefrom shall be considered as a loss from the

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Latest Supreme Court and CTA Jurisprudence as of January 31, 2013)

sale or exchange, on the last day of such taxable ---------------------------------------------------------------


year, of capital assets. (e) NOLCO
---------------------------------------------------------------
Shares of stock becoming worthless in the hands of
an investor are capital assets, as such capital losses
Q: What is a net operating loss?
are allowed to be deducted only to the extent of
capital gains.
Net Operating loss refers to the excess of
allowable deduction over gross income of a
Read Section 38, Tax Code business for any taxable year.

Q: What is a wash sale? Q: What are the requisites for the


deductibility of NOLCO from gross income?
Wash sale is a sale or other disposition of stock or
securities where substantially identical securities are
1. The net operating loss of the business or
acquired or purchased within a 61-day period,
enterprise
beginning 30 days before the sale and ending 30
2. for any taxable year immediately preceding
days after the sale.
the current taxable year
3. which had not been previously offset as
Q: Are losses from wash sales deductible? deduction from gross income
4. shall be carried over as a deduction from
No. This is an exception to the general rule that gross income
losses from sales or exchanges of stock or securities 5. for the next 3 consecutive taxable years
are deductible as losses from sales or exchange of immediately following the year of such loss
property. 6. Provided, any net loss incurred in a taxable
year during which the taxpayer was exempt
This will not apply to a loss incurred by a dealer in from income tax shall not be allowed as a
securities. A loss incurred by a dealer in securities deduction
with respect to a transaction made in the ordinary 7. Provided, further, a net operating loss carry-
course of the business of such dealer is deductible. over shall be allowed only if there has been
no substantial change in the ownership of
Example: the business or enterprise.
A, whose taxable year is the calendar year, on
Q: What is meant by “substantial change in
December 1, 2012, purchased 100 shares of
common stock in the ABC Company for P100,000 the ownership of the business or
and on December 15, 2012, purchased 100 enterprise?”
additional shares for P80,000. On January 2, 2012,
he sold the 100 shares purchased on December 1, The 75% equity rule or ownership or interest rule
2012, for P80,000. Because of the provisions of shall only apply to a transfer or assignment of the
Section 38, no loss from the sale is allowable as a taxpayer’s net operating losses as a result of or
deduction. arising from the said taxpayer’s merger or
consolidation or business combination with another
(see Section 38, Tax Code and Section 131, RR 2) person.

Q: Discuss the deductibility of wagering The transferee or assignee shall not be entitled to
claim the same as a deduction from gross income
losses.
except when as a result of the said merger,
consolidation, or combination, the shareholders of
Losses from wagering transaction shall be allowed the transferor/assignor, or the transferor gains
only to the extent of the gains from such control of:
transactions.
(a) not less than 75% in nominal value of
outstanding issued shares or paid up capital of

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the transferee/assignee in case the No. In PAPER INDUSTRIES CORPORATION OF THE


transferee/assignee is a corporation or PHILIPPINES VS. COURT OF APPEALS [DECEMBER 1,
1995], the Supreme Court ruled that the deduction
(b) Not less than 75% of the interest in the was improper. NOLCO of the taxpayer shall not be
business of the transferee/assignee in case he transferred or assigned to another person, whether
transferee/assignee is not a corporation. directly or indirectly, such as, but not limited to, the
transfer or assignment thereof through merger,
Q: Who are the taxpayers who are entitled to consolidation or any form of business combination of
the deduct NOLCO from gross income? such taxpayer with another person. To allow the
deduction claimed by the surviving corporation
1. Any individual engaged in trade or business would be to permit one corporation or enterprise to
or in the exercise of his profession benefit from the operating losses accumulated by
2. Domestic and resident foreign corporations another corporation or enterprise.
subject to normal corporate income tax
Q: If several corporations enter an
Q: Discuss the relationship between NOLCO agreement to integrate their respective
and the Minimum Corporate Income Tax businesses, can each of the corporations
(MCIT) continue to carry-over their respective net
operating losses?
Domestic and resident foreign corporations are
liable to the 2% MCIT (computed based on gross It depends on the nature of the integration plan. In
income) whenever the amount of MCIT is greater BIR RULING 30-00 [AUGUST 10, 2000], three cement
than the normal income tax due (which would be companies (Republic, Fortune and Blue Circle)
computed with the benefit of NOLCO if any). Thus, sought the opinion of the CIR on the tax implications
such corporation cannot enjoy the benefit of NOLCO of their integration plan. With regard to NOLCO, the
when it is subject to MCIT. CIR held that since, under the plan, the corporation
are not dissolved but merely integrated for a specific
Q: Will the three-year reglementary period bona fide purpose, the net operation losses of each
of the cement corporations are preserved after the
on the carry-over of NOLCO continue to run
proposed share swap and may be carried over and
notwithstanding that the corporation is claimed as a deduction from their respective gross
subject to MCIT (and hence, cannot avail of income because there is no substantial change in
the benefit of NOLCO)? the ownership of either of the three cement
companies.
Yes. RR 14-01 [AUGUST 27, 2001] provides that the
three-year reglementary period on the carry-over of Q: Are foreign exchange losses deductible?
NOLCO shall continue to run notwithstanding the
fact that the corporation paid its income tax under No. In BIR RULING 206-90 [OCTOBER 30, 1990] and
the MCIT computation BIR RULING NO. 144-85 [AUGUST 26, 1985], the CIR
held that, with regard to foreign exchange losses,
Q: XYZ entered into a merger agreement the annual increase in value of an asset is not
with ABC. Under this agreement, the rights, taxable income because such increase has not yet
properties, privileges, powers and been realized, The increase in value could only be
franchises of the said ABC were to be taxed when a disposition of the property occurred
transferred, assigned and conveyed to XYZ which was of such a nature as to constitute a
as the surviving corporation. Before merger, realization of such gain. The same conclusion
the company had over preceding years obtains to losses. The annual decline in the value of
property is not normally allowable as a deduction.
accumulated losses. XYZ claimed these
Hence, to be allowable the loss must be realized.
losses as a deduction against its gross
income. Should the deduction be allowed?

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--------------------------------------------------------------- 1. The BSP, through the Monetary Board, shall ascertain


(e) Bad Debts the worthlessness and uncollectibility of the bad debts
and it shall approve the writing off of the said
(1) Requisites for deductibility indebtedness from the banks; books of accounts at
(2) Effect of recovery of bad debts the end of the taxable year.
--------------------------------------------------------------- 2. In no case may a receivable from an insurance or
surety company be written-off from the taxpayer's
books and claimed as bad debts deduction unless
Read Section 34(E), Tax Code such company has been declared closed due to
insolvency or for any such similar reason by the
Q: What are bad debts? Insurance Commissioner

Bad debts shall refer to those debts resulting from In both cases, requisites nos. 1-4 should still be complied
the worthlessness or uncollectibility, in whole or with.
in part, of amounts due the taxpayer by others,
arising from money lent or form uncollectable Q: What is meant by “actually ascertained to
amounts of income from goods sold or services be worthless?”
rendered.
The phrase means that a debt is not worthless
Q: How do you distinguish bad debts from simply because it is of doubtful value or difficult to
loss? collect. Conclusive evidence must be presented to
show that the taxpayer’s receivable from a debtor
Voluntary cancellation or forgiveness of a debt does has definitely become worthless.
not give rise to a deductible loss. However, if the
debt is actually worthless, there may be a bad debt Q: What is meant by “actually charged off?”
deduction. That deduction would be allowed
because the debt was worthless, not because it was The phrase means that the amount of money lent by
forgiven. the taxpayer to his debtor has been recorded in his
books of account as a receivable that has actually
Q: What are the conditions for bad debts to become worthless of as of the end of the taxable
year, that the said receivable has been cancelled
be deductible?
and written-off from the said taxpayers’ books of
account.
As provided in RR 5-99 [March 10, 1999], the
requisites for deductibility of bad debts are:
Q: ABC mining entered into a management
1. There must be an existing indebtedness due to contract with XYZ mining. ABC made
the taxpayer which must be valid and legally advances of cash and property. However,
demandable XYZ’s mine suffered continuing losses
2. The same must be connected with the which led to ABC;s withdrawal as manager
taxpayer’s trade, business or practice of and cessation of mine operations. ABC and
profession XYZ entered into two compromises: the first
3. The same must not be sustained in a transaction involved alleged indebtedness by XYZ from
entered into between related parties the advances of ABC and the second
4. The same must actually be charged-off within
involved long-term loans guaranteed by
the taxable year
5. The same must be actually ascertained to be ABC. ABC deducted the amounts as bad
worthless and uncollectible as of the end of the debt. Is the deduction proper?
taxable year.
6. The debts are uncollectible despite diligent No. In PHILEX MINING CORPORATION VS.
efforts exerted by the taxpayer COMMISSIONER OF INTERNAL REVENUE [APRIL 16,
2008], the Supreme Court held that Philex cannot
Note: RR 5-99 [March 10, 1999] provides for two deduct the amounts as bad debt. The agreement
exceptions to requisite no. 5, namely: provided for a distribution of assets of the mine upon
termination, a provision that is more consistent with

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a partnership than a creditor-debtor relationship. In 30, 1969], the Supreme Court held that the
this connection, there is no contractual basis for the deduction was improper. The Court opined that
execution of the two compromise agreements in assuming that in this case there was a valid and
which Baguio Gold recognized a debt in favor of subsisting debt and that the debtor was incapable of
Philex. Philex’s advances should be treated as paying the debt, the debt is still not deductible as a
investments in a partnership. The advances were worthless debt because the debtor was still in
not "debts" of Baguio Gold to Philex inasmuch as the operation. It has been held that if the debtor
latter was under no unconditional obligation to return corporation, although losing money or insolvent, was
the same to the former. still operating at the end of the taxable year, the debt
is not considered worthless and therefore not
As for the amounts that Philex paid as guarantor to deductible.
Baguio Gold’s creditors, the debts were not yet due
and demandable at the time that Philex paid the Q: What is the effect of recovery of bad
same. Philex cannot claim the advances as a bad debts?
debt deduction from its gross income. Deductions for
income tax purposes partake of the nature of tax The recovery of bad debts previously allowed as
exemptions and are strictly construed against the deduction in the preceding year or years shall be
taxpayer, who must prove by convincing evidence included as part of the taxpayer’s gross income in
that he is entitled to the deduction claimed. In this the year of such recovery to the extent of the income
case, Philex failed to substantiate its assertion that tax benefit of said deduction (equitable doctrine of
the advances were subsisting debts of Baguio Gold tax benefit or tax benefit rule)
that could be deducted from its gross income.
Consequently, it could not claim the advances as a
valid bad debt deduction. ---------------------------------------------------------------
(f) Depreciation
Is the declaration by the taxpayer that a debt is (1) Requisites of computing depreciation
worthless sufficient for it to claim a bad debt allowance
deduction? (2) Methods of computing depreciation
allowance
No. In PHILIPPINE REFINING COMPANY VS. COURT OF (a) Straightline method
APPEALS [M AY 8, 1996], at issue was PRC’s (now (b) Declining-balance method
Unilever) claimed of bad debt deduction. On appeal, (c) Sum-of-the-years-digit method
the CTA disallowed the same as there was no iota of
---------------------------------------------------------------
documentary evidence to prove the worthlessness of
the debts sought to be deducted. The Supreme
Court stated that before a debt can be considered Read Section 34(F), Tax Code
worthless, the taxpayer must also show that it is
indeed uncollectible even in the future. PRC here ---------------------------------------------------------------
failed to prove the worthlessness of the amounts (1) Requisites of computing depreciation
receivable. allowance
---------------------------------------------------------------
Q: ABC, an investment company made
advances to XYZ under an agreement that a Q: What is depreciation?
portion of its net profits would go to ABC.
XYZ suffered substantial losses but Depreciation is the gradual diminution in the useful
83
continued to operate. ABC made a partial value of tangible property resulting from wear and
write-off of the losses and deducted the tear and normal obsolescense.
amount in its return. Is the deduction _________________________________________
proper? 83
Not all tangible property can be depreciated. Land, for example,
cannot be depreciated because its value continues to increase.
No. In FERNANDEZ HERMANOS, INC. VS.
COMMISSIONER OF INTERNAL REVENUE [SEPTEMBER

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aside some money to buy a replacement or, in other


The term is also applied to amortization of the value words, to gradually recover the acquisition cost. The
84
of intangible assets, the use of which in the trade income tax law does not authorize the depreciation
or business is definitely limited in duration. of an asset beyond its acquisition cost. The reason
is that deductions from gross income are privileges,
Q: What is the rationale behind not matters of right. More importantly, the recovery,
depreciation? free of income tax, of an amount more than the
invested capital in an asset will run counter to the
Depreciation commences with the acquisition of the purpose of a depreciation allowance. For then, the
property and its owner is not bound to see his taxpayer can not only recover the acquisition cost,
property gradually waste, without making provision but also make some profit. Recovery in due time
out of earnings for its replacement. It is entitled to through depreciation of investment made is the
see to it that from earnings the value of the property philosophy behind depreciation allowance; the idea
invested is kept unimpaired so that at the end of any of profit on the investment made has never been the
given term of years, the original investment remains underlying reason for the allowance of a deduction
as it was in the beginning for depreciation.

Q: What are the requisites for the The BIR found that ABC claimed excessive
deductibility of a depreciation expense? depreciation of its buildings. In its defense, ABC
Limpan argued that that some of its buildings
1. The allowance for depreciation must be are old and out of style; hence, they are entitled
reasonable to higher rates of depreciation than those
2. It must be for property used in the trade, adopted by the BIR in its assessment. On appeal,
business, or profession the CTA found that the depreciation was
3. It must be charged off during the taxable year; excessive. Should the findings of the CTA be
and affirmed?
4. A statement on the allowance must be attached
to the return Yes provided there no arbitrariness and abuse of
discretion on the part of the CTA. In LIMPAN
INVESTMENT CORPORATION VS. COMMISSIONER OF
Q: Can an asset be depreciated beyond its
INTERNAL REVENUE [JULY 26, 1966], the Supreme
acquisition cost? Court opined that depreciation is a question of fact
and is not measured by theoretical yardstick, but
No. In BASILAN ESTATES, INC. VS. COMMISSIONER OF should be determined by a consideration of actual
INTERNAL REVENUE [SEPTEMBER 5, 1967], Basilan facts. The findings of the tax court in this respect
Estates claimed deductions for the depreciation of should not be disturbed when not shown to be
its assets up to 1949 on the basis of their acquisition arbitrary or in abuse of discretion. Limpan has not
cost. In 1950, however, it changed the depreciable shown any arbitrariness or abuse of discretion on
value of the assets by increasing it to conform with the part of the CTA. In fact, the CTA applied rates of
the increase in cost of their replacement. depreciation in accordance with Bulletin F of the US
Accordingly, in 1950 to 1953, the company deducted Federal Internal Revenue Service, which the
from gross income the value of the depreciation Supreme Court, has pronounced as having strong
based on this reappraised value. persuasive effect.
The Supreme Court held that such value cannot be
deducted from gross income as it was beyond the
acquisition cost. Depreciation as a deduction is RR 12-2012 [OCTOBER 12, 2012] Deductibility
allowed so that the owner of the assets can set of Depreciation Expense as it relates to
purchase of vehicles
_________________________________________
84
Guidelines to claim depreciation as a deduction in
Like those with limited duration gross income:

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Ateneo Law Batch 2013 Last Updated: 30 July 2013(v3)
PM REYES BAR REVIEWER ON TAXATION I
(Based on the 2013 Bar Syllabus and Updated with Recent BIR Issuances and the
Latest Supreme Court and CTA Jurisprudence as of January 31, 2013)

1. Only one vehicle for land transport is allowed for in a constant charge over the useful
the use of an official or employee life.
2. The value of which should not exceed
P2,400,000 Declining- It is an accelerated method of
3. It must be substantiated with sufficient evidence, balance depreciation which writes off a
such as official receipts or other adequate method relatively larger amount of the
records; and asset’s cost nearer the start of its
4. There is a direct connection or relation of the useful life than does the straight
vehicle to the development, management, line. It results in a decreasing
operation, and/or conduct of the trade or charge over the useful life
business or profession of the taxpayer
Sum-of-the- It is an accelerated method of
Generally, no deduction in the gross income shall be years-digit depreciation that provides higher
allowed for depreciation of the following: method depreciation expense in the earlier
years and lower charges in the later
1. Yachts, helicopters, airplanes, and/or aircrafts; years.
and
2. Land vehicles with a value of more than
P2,400,000 ---------------------------------------------------------------
(g) Charitable and other contributions
Exception: the taxpayer is in the business of (1) Requisites for deductibility
transport operations or lease of transportation
(2) Amount that may be deducted
equipment and the vehicles purchased are used in
such operations. ---------------------------------------------------------------

In addition, the following shall be disallowed as Read Section 34(H), Tax Code
deductions in the gross income:
Q: What are the conditions for deductibility
1. All maintenance expenses on account of non- of charitable contributions?
depreciable vehicles;
2. Input taxes on the purchase of non-depreciable The requisites are:
vehicles and all input taxes on maintenance 1. Actually paid or made to the Philippine
expenses. Government or any political subdivision
thereof, or any of the domestic corporation
or association specified in the Tax Code
--------------------------------------------------------------- 2. Made within the taxable year
(2) Methods of computing depreciation 3. Not exceeding 10% (individuals) or 5%
allowance (corporations) of the taxpayer’s taxable
(a) Straightline method income before charitable contributions
(b) Declining-balance method 4. Evidenced by adequate receipts or records
(c) Sum-of-the-years-digit method
Q: What contributions are deductible in full?
---------------------------------------------------------------
Donations to the following institutions are deductible
Q: What are the methods of computing in full:
depreciation allowance and define each?
1. Donations to the Government, its entities,
Straight-line The annual depreciation charge is political subdivisions or fully owned
method calculated by allocating the amount corporations exclusively for undertaking
to be depreciated equally over the priority activities in accordance with the
number of years of the estimated national priority plan to be determined by
useful life of the property. It results NEDA

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Ateneo Law Batch 2013 Last Updated: 30 July 2013(v3)
PM REYES BAR REVIEWER ON TAXATION I
(Based on the 2013 Bar Syllabus and Updated with Recent BIR Issuances and the
Latest Supreme Court and CTA Jurisprudence as of January 31, 2013)

2. Donations to foreign institutions or ---------------------------------------------------------------


international organizations pursuant to (h) Contributions to pension trusts
agreements, treaties entered into by ---------------------------------------------------------------
Government or special laws
3. Donations to accredited Non-Government
Organizations (non-profit domestic
Read Section 34(J), Tax Code
85
corporation)
Q: What are the requisites for deductibility
Q: When are donations subject to of contributions to pension trust?
limitations?
1. Employer must have established a pension
When the donation is made to: or retirement plan for the payment of
1. The government for public purposes reasonable pension to its employees
2. Accredited domestic corporations for 2. Pension plan is reasonable and actuarially
religious, charitable, scientific, etc. purposes sound
3. Social welfare institutions 3. Funded by the employer (employer
4. NGOs (not accredited) contributes cash)
4. Amount contributed must no longer be
The limitations are 10% of net income for individual subject to the control of the employer
taxpayers and 5% of net income for corporate 5. Payment has not yet been allowed as
taxpayers. deduction
---------------------------------------------------------------
Note: A non-government organization shall refer to a (i) Deductions under special laws
non-stock, non-profit domestic corporation organized ---------------------------------------------------------------
and operated exclusively for scientific, research,
educational, character-building and youth and sports
development, health, social welfare, cultural or Q: Name some special laws which provide
charitable purposes or a combination thereof, no part for deductible business expenses.
of the net income of which inures to the benefit of any
private individual. 1. Republic Act 10028 (Expanded Breastfeeding
Promotion Act)
Q: Is an international NGO qualified to be
granted accreditation? The law provides that the expenses incurred by a
private health and non-health facility, establishment
No. In BIR RULING 19-01 [M AY 10, 2001], at issue or institution, in complying with the provisions of this
was whether or not international organizations with Act, shall be deductible expenses for income tax
home offices based abroad are qualified to be purposes up to twice the actual amount incurred
granted donee institution status (accreditations as provided:
NGO), the CIR ruled that a non-stock, non-profit
corporation or organization must be created or 1. That the deduction shall apply for the
organized under Philippine laws and that an NGO taxable period when the expenses were
must be a non-profit domestic corporation, a foreign incurred
corporation whether resident or non-resident cannot 2. That all health and non-health facilities,
be accredited as a done institution. establishments and institutions shall comply
with the provisions of this Act within six (6)
months after its approval
3. That such facilities, establishments or
institutions shall secure a "Working Mother-
_________________________________________ Baby-Friendly Certificate" from the
Department of Health to be filed with the
85
NGOs are accredited by the PCNC (Philippine Council for NGO Bureau of Internal Revenue, before they can
Certification) avail of the incentive.

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Ateneo Law Batch 2013 Last Updated: 30 July 2013(v3)
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(Based on the 2013 Bar Syllabus and Updated with Recent BIR Issuances and the
Latest Supreme Court and CTA Jurisprudence as of January 31, 2013)

2. Republic Act 8502 (Jewelry Industry (c) Partnerships


Development Act) ---------------------------------------------------------------
The law provides for a deduction from taxable Read Section 34(L), Tax Code
income of fifty percent (50%) of expenses incurred in
training schemes in connection with the Act and
which shall be deductible during the financial year Q: What is meant by “Optional Standard
the expenses were incurred. deduction?”

3. Republic Act 8525 (Adopt a school act) Section 34(L) provides that in lieu of the itemized
deductions, an individual subject to tax excluding a
The law provides for a deduction from the gross nonresident alien may elect a standard
income equivalent to fifty percent (50%) of expenses deduction of not exceeding 40% of his gross sales
incurred in connection with the said act. or gross receipts, as the case may be. In the case of
a domestic corporation and a resident foreign
4. Republic Act 9999 (Free Legal Assistance Act) corporation, it may elect a standard deduction in an
amount not exceeding 40% of its gross income.
The law provides that a lawyer or professional
partnerships rendering actual free legal services, as A non-resident alien (whether engaged or not) and a
defined by the Supreme Court, shall be entitled to an non-resident foreign corporation cannot claim OSD.
allowable deduction from the gross income, the
amount that could have been collected for the actual The election to use OSD when made in the return
free legal services rendered or up to ten percent shall be irrevocable for the taxable year for which
(10%) of the gross income derived from the actual the return is made.
performance of the legal profession, whichever is
lower Q: Who may avail of the OSD?

5. RA No. 9994 (Expanded Senior Citizens Act) in 1. A citizen, whether resident or non-resident
relation to RR 7-2010 [July 20, 2010] 2. Resident alien
3. Taxable estate or trust
The law provides that discounts given to senior
Note: A non-resident alien and a non-resident foreign
citizens on certain goods and services shall be
corporation cannot claim OSD.
deductible from gross income. Also, private
establishments employing senior citizens shall be
entitled to additional deductions from gross income Q: What are the rules in the determination of
equivalent to fifteen (15%) of the total amount paid the amount of OSD?
as salaries and wages to senior citizens.
RR 16-2008 [NOVEMBER 26, 2008] provides for the
following rules:
6. RA No. 7277, as amended (Magna Carta of
Disabled Persons) in relation to RR 7-2010 [July
1. For individuals
20, 2010]
a. If on accrual basis of accounting, the OSD
shall be based on gross sales
The law provides that sales discounts given to
b. If on cash basis of accounting, the OSD
persons with disabilities shall be deductible from
shall be based on gross receipts
gross income subject to certain conditions.
c. Cost of sales and cost of services are not
allowed to be deducted for purposes of
--------------------------------------------------------------- determining the basis of the OSD
(4) Optional Standard Deduction
(a) Individuals, except non-resident 2. For corporations
aliens a. It shall be based on gross income
(b) Corporations, except non-resident
foreign corporations

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Ateneo Law Batch 2013 Last Updated: 30 July 2013(v3)
PM REYES BAR REVIEWER ON TAXATION I
(Based on the 2013 Bar Syllabus and Updated with Recent BIR Issuances and the
Latest Supreme Court and CTA Jurisprudence as of January 31, 2013)

Note: The basis of the 40% OSD for individual taxpayers Q: What is the rationale behind personal and
shall be gross sales or gross receipts, not gross income, additional exemptions under the Tax Code?
because the “cost of sales” and the “cost of services” are
not allowed to be deducted for purposes of determining
the basis of OSD. Exemptions are fixed at arbitrary amounts intended
to substitute for the disallowance of personal or
Q: What are the rules in the determination of living expenses as deductible items from the taxable
income of certain individual taxpayers. The amounts
the amount of OSD of GPPs?
represent roughly the equivalent of the taxpayer’s
minimum subsistence and those of his
RR 2-2010 [FEBRUARY 18, 2010] amended Sections
dependents.(see PANSACOLA V. CIR [NOVEMBER 16,
6 to 7 of RR 16-2008 with respect to the
2006])
determination of the OSD of GPPs.

A GPP is not subject to income tax but the partners Q: Which kinds of individual taxpayers can
shall be liable to pay income tax on their separate avail of personal and additional
and individual capabilities for their respective exemptions?
distributive share in the net income of the GPP.
Citizens and resident aliens are allowed personal
For purposes of computing the distributive share of and additional exemptions; nonresident aliens
the partners, the net income of the GPP shall be engaged in trade or business in the Philippines
computed in the same manner as a corporation. The are entitled to personal exemptions only by way of
86
GPP may claim itemized deductions or in lieu reciprocity but not to additional exemptions.
thereof may opt to avail of the OSD allowed to
corporations. The net income determined by either Q: How should these exemptions be
claiming the itemized deductions or OSD from the credited?
GPP’s gross income is the distributable net income
from which the share of each partner is determined. These exemptions must first be credited against
gross compensation income; the excess, if any, can
If the GPP availed of the itemized deductions in be used to offset taxable net income.
computing its net income, a partner may still claim
itemized deductions from his share in the net income Q: What is personal exemption allowed to
of the partnership. individual taxpayers?
However, if the GPP availed of the OSD in 87
All individual taxpayers, regardless of status, shall
computing its net income, the partner can no longer be allowed a basic personal exemption of P50,000.
claim further deduction from his share in the said net
income.

--------------------------------------------------------------- _________________________________________
(5) Personal and additional exemption (RA.
86
9504, Minimum Wage Earner Law) Thus, for a nonresident alien, his entitlement to personal and
additional exemption depends on whether he is engaged in trade
(a) Basic Personal Exemptions or business and his country of residence allows exemption to
(b) Additional exemptions for taxpayer Filipinos. If not engaged, he will not be allowed the exemption.
with dependents Note as well that employees of ROHQs, OBUs, and FCDUs are
not entitled to personal and additional exemptions as they are
(c) Status-at-the-end-of-the-year rule subject to tax on gross income without the benefit of deductions/
(d) Exemptions claimed by non-resident exemptions.
87
aliens Note that, previously, the amount of personal exemption
depended on the status of the individual taxpayer. It was P20,000
--------------------------------------------------------------- for single individuals, P32,000 for legally married and P25,000 for
head of a family. As amended by RA 9504, all individuals,
regardless of status, are entitlted to a basic personal exemption of
Read Section 35, Tax Code P50,000.

PIERRE MARTIN DE LEON REYES Page 125 of 158


Ateneo Law Batch 2013 Last Updated: 30 July 2013(v3)
PM REYES BAR REVIEWER ON TAXATION I
(Based on the 2013 Bar Syllabus and Updated with Recent BIR Issuances and the
Latest Supreme Court and CTA Jurisprudence as of January 31, 2013)

Q: Can a benefactor88 of a PWD whose civil Q: May parents and siblings be considered
status is single avail of the “head of family” as additional exemptions?
status to be entitled to personal exemption?
No. parents and siblings are considered dependents
It is no longer necessary. RA 9442, which amends only for purposes of qualifying an individual to
RA 7277 or the Magna Carta for Persons with become head of a family but not for purposes of
Disability, provides that a benefactor of a PWD additional exemptions.
whose civil status is single shall be considered as
“head of family” and, as such, shall be entitled to Q: Are senior citizens supported and living
personal exemption. However, the terms “head of with a taxpayer considered as additional tax
family” and “his/her dependents” for purposes of exemptions?
availing personal exemption have been eliminated in
view of an amendment brought about by RA 9504. No. The word “dependent” does not include senior
The rule is that individual taxpayers regardless of citizens.
status are entitled to the personal exemption. [see
RR NO. 001-09 [DECEMBER 9, 2008]. Q: Is a foster child considered a dependent?
Q: What is the rule for married individuals? Yes. RA 10165 or “The Foster Care Act of 2012”
amended the NIRC to include a “foster child” in the
In the case of married individuals where only one term “dependent.” Thus, foster parents may claim an
spouse is deriving gross income, only such spouse addition exemption of P25,000 for each dependent
shall be allowed the personal exemption. (which includes the foster child) not exceeding 4.

Q: What are the additional exemptions Q: What is the rule for spouses and legally
allowed to individual taxpayers? separated spouses?
There shall be allowed an additional exemption of The additional exemption for dependents can be
89
P25,000 for each dependent not exceeding four. claimed by only one of the spouses. In the case of
legally separated spouses, additional exemptions
Q: Who is a “dependent” under the Tax may be claimed only by the spouse who has custody
Code? of the child or children.
90
A dependent means a legitimate, illegitimate, or Q: What is the “status-at-the-end-of-the-
legally adopted child chiefly dependent upon and year” rule or the “change-of-status” rule
living with the taxpayer if such dependent is not with respect to personal and additional
more than 21 years of age, unmarried and not exemptions?
gainfully employed or if such dependent, regardless
of age, is incapable of self-support because of This means that whatever is the status of the
mental or physical defect. taxpayer at the end of the calendar year shall be
used for purposes of determining his personal and
Q: Are illegitimate children considered for additional exemptions.
additional exemptions?
Yes. By express wording of the law, a dependent As held in PANSACOLA V. CIR [NOVEMBER 16, 2006],
includes an illegitimate child. what the law should consider for the purpose of
_________________________________________ determining the tax due from an individual taxpayer
is his status and qualified dependents at the close of
88
A benefactor refers to any person, whether related or not to the the taxable year and not at the time the return is filed
person with disability, who takes care of him/her as a dependent
89 and the tax due thereon is paid.
Previously, the amount was P8,000.
90
Note that Illegitimate children are included in the definition of
dependents and in the entitlement for additional exemption.

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Ateneo Law Batch 2013 Last Updated: 30 July 2013(v3)
PM REYES BAR REVIEWER ON TAXATION I
(Based on the 2013 Bar Syllabus and Updated with Recent BIR Issuances and the
Latest Supreme Court and CTA Jurisprudence as of January 31, 2013)

A change of status of the taxpayer during the Read Section 36, Tax Code
taxable year generally benefits, but does not
91
prejudice him.
Q: What items are not deductible from
In the following cases, the rule is applied as follows: gross income?

1. If the taxpayer marries or should have additional A: No deduction shall in any case be allowed in
dependents during the taxable year, he may respect to:
claim the corresponding additional exemption in
full for such year. 1. Personal, living or family expenses
2. If the taxpayer dies during the taxable year, his
estate may still claim the personal and additional 2. Any amount paid out for new buildings or
exemptions for himself and his dependents as if for permanent improvements or
he died at the close of such year. betterments made to increase the value of
3. If the spouse or any of the dependents dies or if any property or estate. (Capital
any such dependent marries, becomes 21 years expenditures, see COMMISSIONER VS.
old or becomes gainfully employed during the SORIANO)
taxable year, the taxpayer may still claim the
same exemptions as if the spouse or any oth e 3. Any amount expended in restoring
dependents died, or if such dependents married, property or in making good the exhaustion
became 21 years old or became gainfully thereof for which an allowance is or has
employed at the close of such year. been made (capitalized interest, see
PAPER INDUSTRIES VS. CA).
---------------------------------------------------------------
(6) Items not deductible 4. Premiums paid on any life insurance
policy covering the life of any officer or
(a) General Rules
employee or of any person financially
(b) Personal, living or family expenses interested in any trade or business carried
(c) Amount paid for new buildings or for on by the taxpayer, individual, or corporate
permanent improvements (Capital when the taxpayer is directly or indirectly a
expenditures) beneficiary under such policy
(d) Amount expended in restoring property
(major repairs) 5. Losses from sales or exchanges of property
(e) Premiums paid on life insurance policy directly or indirectly between related
covering life or any other officer or persons
employee financially interested a. Between members of a family
b. Between an individual and a
(f) Interest expense, bad debts, and losses
corporation more than 50% in value of
from sales of property between related the outstanding stock of which is owned
parties by such individual (except in the case of
(g) non-deductible interest distributions in liquidation)
(h) non-deductible taxes c. Between two corporations more than
(i) non-deductible losses 50% in value of the outstanding stock of
(k) losses from wash sales of stock or each of which is owned by the same
securities individual if either one of the companies
--------------------------------------------------------------- is a holding company
d. Between the grantor and a fiduciary of
_________________________________________ any trust
91
e. Between the fiduciary of a trust and
The rule of thumb is that which will be beneficial to the the fiduciary of another trust if the
taxpayer.
same person is a grantor with respect to
each trust

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Ateneo Law Batch 2013 Last Updated: 30 July 2013(v3)
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Latest Supreme Court and CTA Jurisprudence as of January 31, 2013)

f. Between a fiduciary of a trust and a true taxable income or to prevent evasion of taxes. RR 2-
beneficiary of such trust. 2013 [January 23, 2013] which provides the guidelines on
transfer pricing implements this authority of the CIR to
6. Non-deductible interest review controlled transactions among associated
enterprises and to allocate or distribute their income and
7. Non-deductible taxes deductions in order to determine the appropriate revenues
8. Non-deductible losses and taxable income of the associated enterprises involved
9. Losses from wash sales of stock or in controlled transactions
securities
Q: GSK purchased a pharmaceutical
Note: Since we mentioned related parties, I shall discuss
an important topic in light of RR No. 2-2013 [January 23,
ingredient from Adechsa, a related non-
2013] or the Transfer Pricing Guidelines. Previously, residency company for between $1,512 and
the Philippines does not have any guidelines on transfer $1,651 per kg. During the same period, two
pricing unlike in other jurisdictions. RMC 026-08 [March Canadian pharmaceutical companies
24, 2008] states that while the BIR is still revising the final purchase the same ingredient for between
draft of the RR on transfer pricing, the BIR as a matter of
policy subscribes to the OECD Transfer Pricing Guidelines $194 and $304 per kg from arm’s length
in the interim. Now, we have Transfer pricing guidelines suppliers. Canada’s minister for internal
which give life to Section 50 of the Tax Code. revenue reassessed GSK because the
prices it paid for the ingredient were greater
Read Section 50, Tax Code than an amount that would have been
reasonable in the circumstances had they
Q: What is transfer pricing? been dealing at arm’s length. GSK argues
the License and Supply Agreement it
Transfer pricing is generally defined as the pricing of entered with Adechsa should be considered
cross-border, intra-firm transactions between related
in determining if it is an arm’s length
parties or associated enterprises. Typically, a
transfer price occurs between a taxpayer of a
transaction. Is GSK’s contention correct?
country with high income taxes and a related or
Yes. As held by the Supreme Court of Canada in
associated enterprise of a country with low income
HM V. GLAXOSMITHKLINE [2012 SCC 52, OCTOBER
taxes.
18, 2012], a proper application of the arm’s length
.
principle requires that regard be had for the
While transfer pricing issue typically occurs in cross-
“economically relevant characteristics” of the arm’s
border transactions, it can also occur in domestic
length and non-arm’s length circumstances to
transactions. One context where transfer pricing
ensure they are “sufficiently comparable.” The
issue occurs domestically is where one associated
“economically relevant characteristics of the
enterprise, entitled to income tax exemptions, is
situations being compared” may make it necessary
being used to allocate income away from a company
to consider other transactions that impact the
subject to regular income taxes. is a domestic
transfer price under consideration. Such
transfer pricing issue when income are shifted in
circumstances will include agreements that may
favor of a related company with special tax
confer rights and benefits in addition to the purchase
privileges such as Board of Investments (BOI)
of property where those agreements are linked to
Incentives and Philippine Economic Zone Authority
the purchasing agreement. The objective is to
(PEZA) fiscal incentives or when expenses of a
determine what an arm’s length purchaser would
related company with special tax privileges are
pay for the property and the rights and benefits
shifted to a related company subject to regular
together where the rights and benefits are linked to
income taxes or in other circumstances, when
the price paid for the property. In this case, GSK was
income and/or expenses are shifted to a related
party in order to minimize tax liabilities (see RR 2- paying for at least some of the rights and benefits
under the Licence Agreement as part of the
2013 [January 23, 2013])
purchase prices for ranitidine from Adechsa. As
such, the Licence Agreement could not be ignored in
Note: Section 50 of the Tax Code refers to the power of
the CIR to distribute, apportion, allocate, and shift income
determining the reasonable amount paid to Adechsa
and expenses between related taxpayers to reflect their

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Ateneo Law Batch 2013 Last Updated: 30 July 2013(v3)
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Latest Supreme Court and CTA Jurisprudence as of January 31, 2013)

which applies not only to payment for goods but also situations being compared can materially affect the
to payment for services. price or margin being compared, or
(2) reasonably accurate adjustments can be made to
eliminate the effect of any such differences.
Q: What is the “arm’s length bargaining
standard” with respect to the determination Step 2: Identify the tested party and the appropriate
of the taxable income on inter-company transfer pricing method.
loans or advances in relation to transfer
pricing? The tested party is the entity to which a transfer pricing
method can be most reliably applied to and from which the
most reliable comparables can be found. For an entity to
RMC 026-08 [M ARCH 24, 2008] adopts the arm’s become a tested party, the Bureau requires sufficient and
length standard as the ultimate test for determining verifiable information on such entity
the fairness of related party transactions. The
standard to be applied in every case is that of an The selection of a transfer pricing method is aimed at
uncontrolled taxpayer dealing at arm’s length with finding the most appropriate method for a particular case.
another uncontrolled taxpayer. Accordingly, the method that provides the most reliable
measure of an arm‟s length result shall be used. (see
Thus, where a member of a group of controlled methods below)
entities makes a loan or advances directly or
Step 3: Determine the arm’s length results.
indirectly or becomes a creditor of another member
of such group and charges no interest, or chargest Once the appropriate transfer pricing method has been
interest at a rate which is not equal to an arm’s- identified, such is applied on the data of independent party
92
length rate, the CIR may make appropriate transactions to arrive at the arm‟s length result.
allocations to reflect an arm’s length interest rate for
use of such loan or advance. In some cases, it will be possible to apply the arm‟s length
principle to arrive at a single figure or specific ratio (e.g.
Note: RR No. 2-2013 [January 23, 2013] also adopted price or margin) that is the most reliable to establish
the arm‟s length principle as the most appropriate whether the conditions of a transaction are arm's length.
standard to determine transfer prices of related parties However, it is generally difficult to arrive at a specific ratio
or range of deviation that may be considered as arm‟s
length. More likely, the transfer pricing analysis would lead
to a range of ratios.
RR No. 2-2013 [January 23, 2013] Transfer
Pricing Guidelines 1. If the relevant condition of the controlled
transaction (i.e. price or margin) is within the
The Regulations prescribe the 3-step approach in the arm‟s length range, no adjustment should be
application of the arm’s length principle: made.
2. If the relevant condition of the controlled
Step 1: Conduct a comparability analysis. transaction (e.g. price or margin) falls outside the
arm‟s length range asserted by the Bureau, the
The arm‟s length principle is based on a comparison of taxpayer should present proof or substantiation
the prices or margins adopted or obtained by related that the conditions of the controlled transaction
parties with those adopted or obtained by independent satisfy the arm‟s length principle, and that the
parties engaged in similar transactions. For such price or result falls within the arm‟s length range (i.e. that
margin comparisons to be meaningful, all economically the arm‟s length range is different from the one
relevant characteristics of the situations being compared asserted by the tax administration).
should be sufficiently similar so that: 3. If the taxpayer is unable to establish this fact, the
Bureau must determine the point within the arm‟s
(1) none of the differences (if any) between the length range to which it will adjust the condition of
_________________________________________ the controlled transaction.

92
The arm's length interest rate shall be the rate of interest which The Regulations also adopt the following arm’s length
was charged or would have been charged at the time the pricing methodologies to be used as appropriate:
indebtedness arose in independent transaction with or between
unrelated parties under similar circumstances. 1. Comparable Uncontrolled Price (CUP) Method -
The CUP Method evaluates whether the amount charged
in a controlled transaction is at arm‟s length by reference

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Ateneo Law Batch 2013 Last Updated: 30 July 2013(v3)
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Latest Supreme Court and CTA Jurisprudence as of January 31, 2013)

to the amount charged in a comparable uncontrolled demanded in the absence of a stipulation to


transaction in comparable circumstances. Any difference that effect. Is FDC’s contention correct?
between the two prices may indicate that the conditions of
the commercial and financial relations of the associated
enterprises are not arm‟s length, and that the price in the Yes. According to the case of CIR V. FILINVEST
uncontrolled transaction may need to be substituted for DEVELOPMENT CORPORATION [JULY 19, 2011],
the price in the controlled transaction. Despite the seemingly broad power of the CIR to
distribute, apportion and allocate gross income
2. Resale Price Method (RPM) - RPM is applied where under Section 50, the same does not include the
a product that has been purchased from a related party is power to impute theoretical interest even with regard
resold to an independent party. Essentially, it seeks to to controlled taxpayers’ transactions. This is true
value the functions performed by the reseller of a product. even if the CIR is able to prove that the interest
The resale price method evaluates whether the amount
expense was in fact claimed by FDC. The term in
charged in a controlled transaction is at arm‟s length by
reference to the gross profit margin realized in comparable the definition of gross income that even those
uncontrolled transactions. This method is generally income “from whatever source derived” is covered
appropriate where the final transaction is made with an still requires that there must be actual or at least
independent party. probable receipt or realization of the time of gross
income sought to be apportioned, distributed or
3. Cost Plus Method (CPM) - CPM focuses on the reallocated. Finally, under the Civil Code, no interest
gross mark-up obtained by a supplier who transfers 93
shall be due unless expressly stipulated in writing.
property or provides services to a related purchaser.
Essentially, the method attempts to value the functions
performed by the supplier of the property or services. CPM Q: Are margin fees deductible business
is most useful where semi-finished goods are sold expenses?
between associated enterprises or where the controlled
transaction involves the provision of services. No. In ESSO STANDARD EASTERN, INC. VS.
COMMISSIONER OF INTERNAL REVENUE [JULY 7, 1989],
4. Profit Split Method (PSM) - PSM seeks to eliminate Esso made profit remittances to its New York Head
the effect on profits of special conditions made or imposed Office. Esso claims that the margin fees it paid to the
in a controlled transaction (or in controlled transactions
Central Bank on the remittances are ordinary and
that are appropriate to aggregate) by determining the
division of profits (or losses) that independent enterprises necessary expenses and should be deducted from
would have expected to realize from engaging in the its gross income.
transaction or transactions.
The Supreme Court held that margin fees are not
5. Transactional Net Margin Method (TNMM) - TNMM necessary and ordinary expenses. The margin fees
operates in a manner similar to the cost plus and resale are not expenses in connection with the production
price methods in the sense that it uses the margin or earning of petitioner's incomes in the Philippines..
approach. This method examines the net profit margin Since the margin fees in question were incurred for
relative to an appropriate base such as costs, sales or
the remittance of funds to petitioner's Head Office in
assets attained by the member of a group of controlled
taxpayers from a controlled transaction. New York, which is a separate and distinct income
taxpayer from the branch in the Philippines, for its
Note: The case below would have been decided disposal abroad, it can never be said therefore that
differently if we had an RR on Transfer Pricing at that time. the margin fees were appropriate and helpful in the
development of petitioner's business in the
Q: Filinvest Development Corporation (FDC) Philippines exclusively or were incurred for purposes
extended advances in favour of its affiliate. proper to the conduct of the affairs of petitioner's
The BIR assesses FDC for deficiency branch in the Philippines exclusively or for the
income by unilaterally imputing an “arm’s purpose of realizing a profit or of minimizing a loss in
the Philippines exclusively
length” interest rate on its advances. FDC
disputes this by saying the CIR lacks _________________________________________
authority to impute theoretical interest and 93
The case would have been decided differently if we had an RR
the rule is that interests cannot be on Transfer Pricing.

PIERRE MARTIN DE LEON REYES Page 130 of 158


Ateneo Law Batch 2013 Last Updated: 30 July 2013(v3)
PM REYES BAR REVIEWER ON TAXATION I
(Based on the 2013 Bar Syllabus and Updated with Recent BIR Issuances and the
Latest Supreme Court and CTA Jurisprudence as of January 31, 2013)

or asset devoted to the institution’s purposes and all


--------------------------------------------------------------- its activities.
(7) Exempt Corporations
(a) Proprietary educational institutions and As noted by the Supreme Court IN CIR V. ST. LUKES
hospitals MEDICAL CENTER [SEPTEMBER 26, 2012], “non-profit”
does not necessarily mean “charitable.”
(b) Government owned or controlled
corporations
Q: What is meant by “unrelated trade,
(c) Others
business, or other activity”?
---------------------------------------------------------------
It means any trade, business or other activity, the
--------------------------------------------------------------- conduct of which is not substantially related to the
(a) Proprietary educational institutions and exercise or performance by such institution of its
hospitals primary purpose or function.
---------------------------------------------------------------
Q: What are the guidelines for the tax
Read Section 27(B), Tax Code exemption of non-stock, non-profit
educational institutions, non-stock, non-
profit corporations and private educational
Q: What is the tax treatment of proprietary institutions as provided in RMC 76-03?
education institutions and hospitals which
are non-profit? Non-stock, non-profit educational institutions –

Section 27(B) of the Tax Code provides that they 1. Their exemption refers only to revenues
shall pay a tax of 10% on their taxable income derived from assets used actually, directly,
except: and exclusively for educational purposes
1. Certain passive incomes subject to final tax 2. Income from cafeterias, canteens and
2. If the gross income from unrelated trade, bookstores are also exempt if they are
94
business, or other activity exceeds 50% of owned and operated by the educational
the total gross income derived by such institution and are located within the school
95
proprietary educational institution and premises
hospital which are non-profit from all 3. However, they shall be subject to internal
sources, the tax shall be imposed on the revenue taxes on income from trade,
entire taxable income at 30% business or other activity, the conduct of
which is not related to the exercise or
Q: What is meant by the terms “proprietary” performance by such educational institution
and “non-profit?” of their educational purposes or functions
4. The interest income on bank deposits and
Proprietary means private while non-profit means no yields from deposit substitutes may be
net income or asset accrues to or benefits any exempt from income tax if there is showing
member or specific person, with all the net income that said income will be used actually,
directly, and exclusively for educational
_________________________________________ purposes.
94
Means any trade, business, or other activity, the conduct of Non-stock, non-profit corporations –
which is not substantially related to the exercise or performance
by such educational institution or hospital of its primary purpose
or function.
While generally exempt, they remain liable for
95
Is any private schoolm maintained and administered by private
individuals or groups with an issued permit to operation from the 1. Income derived from any of their real
Department of Education or CHED, or TESDA, as the case may properties
be
2. Any activity conducted from profit regardless
of disposition thereof

PIERRE MARTIN DE LEON REYES Page 131 of 158


Ateneo Law Batch 2013 Last Updated: 30 July 2013(v3)
PM REYES BAR REVIEWER ON TAXATION I
(Based on the 2013 Bar Syllabus and Updated with Recent BIR Issuances and the
Latest Supreme Court and CTA Jurisprudence as of January 31, 2013)

3. Interest income from any bank deposits or hospital. For Section 27(B) to apply, the hospital
yield on deposit substitutes, including must be non-profit which means that no net income
foreign currency deposits. or asset accrues to or benefits any member or
4. They shall be withholding agents for their specific person and all the activities of the hospital
employees’ compensation income subject to are non-profit. On the other hand, Section 30(E) and
withholding tax. (G), while providing for an exemption is qualified by
the last paragraph which, in turn, provides that
Private educational institutions – activities conducted for profit shall be taxable.
Section 30(E) and (G) requires that an institution be
They shall be exempt from VAT but must be operated exclusively for charitable purposes to be
accredited with either the DepEd or CHED. completely exempt from income tax. In this case,
however, St. Lukes is not operated exclusively for
1. However, income derived from trade, charitable purposes insofar as its revenues from
business or other activity is still taxable paying patients are concerned. Such revenue is
2. Bank deposits and foreign currency deposits subject to income tax at 10% under Section 27(B).
are exempt from withholding tax but they
must show proof that such income is used to Q: Reconcile the tax treatment of proprietary
fund proposed projects for their institution’s educational institutions and hospitals which
improvement are non-profit under Section 27(B) and non-
3. They shall be withholding agents for their stock, non-profit charitable institutions
employees’ compensation income subject to
under Section 30(E) and (G).
withholding tax.
To be exempt from income taxes, Section 30(E)
Q: St. Lukes Medical Center is a hospital requires that the charitable institution must be
organized as a non-stock and non-profit organized and operated exclusively for charitable
corporation. It admits both paying and non- purpose. It is nevertheless allowed to engage in
paying patients. The CIR claimed that St. “activities conducted for profit” without losing its tax-
Lukes was liable for income tax at 10% as exempt status for its not-for-profit activities. The
provided under Section 27(B)96 of the NIRC. consequence, however, is that such income from
St. Lukes argues that it is a non-stock, non- activities conducted for profit, regardless of the
profit institution for charitable and social disposition made of such income, shall be subject to
welfare purposes exempt from income tax tax.
under Section 30(E) and (G) of the NIRC.97
For proprietary educational institutions and hospitals
Decide. which are non-profit to avail of the preferential tax
rate, no net income or asset accrues to or benefits
In CIR V. ST. LUKES MEDICAL CENTER [SEPTEMBER any member or specific person, with all the net
26, 2012], the Supreme Court ruled that St. Lukes income or asset devoted to the institution’s purposes
cannot claim full tax exemption under Section 30 and all its activities.
because it has paying patients and this is
notwithstanding the fact that it is a non-profit Thus, in CIR V. ST. LUKES MEDICAL CENTER
[SEPTEMBER 26, 2012], while the St. Lukes did not
_________________________________________
qualify as a non-profit, non-stock charitable
96
Section 27(B) provides that proprietary educational institutions institution under Section 30(E) as it was not
and hospitals which are non-profit shal pay a tax of ten percent operated exclusively for charitable purposes, it
(10%) on their taxable income
97
remains to be a proprietary non-profit hospital under
Section 30(E), NIRC provides that a non-stock corporation or Section 27(E) as long as it does not distribute any of
association organized and operated exclusively for charitable
purposes is exempt from income tax while Section 30(G) provides its profits to its members and such profits are
that a civic league or organization not organized for profit but reinvested pursuant to its corporate purposes. St.
operated exclusively for the promotion of social welfare is likewise Lukes, as a proprietary non-profit hospital, is entitled
exempt. to the preferential tax rate of 10% on its net income
from its for-profit activities.

PIERRE MARTIN DE LEON REYES Page 132 of 158


Ateneo Law Batch 2013 Last Updated: 30 July 2013(v3)
PM REYES BAR REVIEWER ON TAXATION I
(Based on the 2013 Bar Syllabus and Updated with Recent BIR Issuances and the
Latest Supreme Court and CTA Jurisprudence as of January 31, 2013)

--------------------------------------------------------------- 2005 which the BIR issued to implement the VAT


(b) Government owned or controlled law subjecting PAGCOR to VAT is invalid for being
corporations contrary to RA 9337. PAGCOR V. BIR [M ARCH 15,
--------------------------------------------------------------- 2011]

Read Section 27(C), Tax Code ---------------------------------------------------------------


(c) Others
Q: Are GOCCs, agencies and ---------------------------------------------------------------
instrumentalities owned and control by the
government liable to pay income tax? Read Section 30, Tax Code

All corporations, agencies, or instrumentalities Q: What are the exempt corporations


owned or controlled by the government shall pay enumerated in Section 30 of the Tax Code?
such rate of tax upon their taxable income except:
1. Labor, agricultural or horticultural organization
1. GSIS not organized principally for profit
2. SSS 2. Mutual savings bank not having a capital stock
3. Phil Health represented by shares and cooperative bank
98
4. Local Water Districts without capital stock organized and operated for
5. PCSO mutual purposes and without profit
3. A beneficiary society, order or association,
(see Section 27(C), Tax Code) operating for the exclusive benefit of the
members such as a fraternal organization
Note: That is the general rule. The provisions of special operating under the lodge system, or a mutual
laws or general laws may provide otherwise. aid association or a non-stock corporation
organized by employees providing for the
Q: RA 9337 amended Section 27(C) of the payment of life, sickness, accident, or other
Tax Code and excluded PAGCOR from the benefits exclusively to the members of such
enumeration of GOCCs exempt from the society, order, or association, or non-stock
payment of corporate income tax. Is corporation or their dependents
PAGCOR subject to income tax? 4. Cemetery company owned and operated
exclusively for the benefit of its members
5. Non-stock corporation or association organized
No. The Supreme Court held that the original
and operated exclusively for religious,
exemption of PAGCOR from corporate income tax
charitable, scientific, athletic, or cultural
was not made pursuant to a valid classification
purposes, or for the rehabilitation of veterans, no
based on substantial distinction so that the law may
part of its net income or asset shall belong to or
operate only on some and not on all. Instead, the
inure to the benefit of any member, organizer,
same was merely granted to the acquiescence of
officer or any specific person
the House Committee on Ways and Means to the
6. Business league, chamber of commerce, or
request of PAGCOR. The argument that the
board of trade, not organized for profit and no
withdrawal of the exemption violates the non-
part of the net income of which inures to the
impairment clause will not hold since any franchise
benefit of any private stockholder or individual
is subject to amendment, alteration or repeal by
7. Civil league or organization not organized for
Congress. The Court, however, made clear that
profit but operated exclusively for the promotion
PAGCOR remains to be exempt from VAT. Nowhere
of social welfare
in RA 9337 is it provided that PAGCOR can be
8. A non-stock and non-profit educational
subjected to VAT. Thus, the provision of RR 16-
institution
_________________________________________ 9. Government educational institution
98 10. Farmers or mutual typhoon or fire insurance
Inserted by RA 10026.
company, mutual ditch or irrigation company,
mutual or cooperative telephone company or like

PIERRE MARTIN DE LEON REYES Page 133 of 158


Ateneo Law Batch 2013 Last Updated: 30 July 2013(v3)
PM REYES BAR REVIEWER ON TAXATION I
(Based on the 2013 Bar Syllabus and Updated with Recent BIR Issuances and the
Latest Supreme Court and CTA Jurisprudence as of January 31, 2013)

organization of a purely local character, the preferential treatment accorded to members of


income of which consists solely of assessments, cooperatives who are exempt in the same way as
dues, and fees collected from members for the the cooperative themselves. (see DUMAGUETE
sole purpose of meeting its expenses; and CREDIT COOPERATIVE V. CIR [JANUARY 22, 2010]).
11. Farmers, fruit growers, or like association
organized and operated as a sales agent for the Q: Are all the activities of the enumerated
purpose of marketing the products of its exempt corporations exempt from tax?
members and turning back to them the proceeds
of sales, less the necessary selling expenses on No. Notwithstanding that they are exempt
the basis of the quantity of produce finished by corporations, the income of whatever kind and
them. character of the organizations mentioned above
from any of their properties, real or personal, or form
Note: The exemption refers to income received by these any of their activities conducted for profit regardless
corporations from undertakings which are essential to or of the disposition made of such income shall be
necessarily connected with the purposes for which hthey
were organized and operated. They are subject to income
subject to tax imposed under the Code.
tax on income of whatever kind and character from any of
their properties (real or personal) or from any of their Q: If a non-stock,