Ballpen example: Baseball Example: No Income because

w/ name — income to finder there is really no realization because there

w/o name — no income to finder
*Treasure Trove Test PM REYES NOTES ON TAXATION I:
INCOME TAX
In general
Under “realization” there must be: 2. The income, gain or profit is received or realized Page | 1
1) change in substance
Q1.What is an income? 2) transaction with a 3rd party
Income means the gain derived from capital, from
labor, or from both combined, including profits gained
from dealings in property or as well as any asset
clearly realized whether earned or not.
It refers to all wealth which flows into the taxpayer
other than as a mere return on capital. (RR No.2)
Q2.What is an income tax?
Income Tax is a tax on the net income or the entire
income received or realized in one taxable year. It is
levied upon corporate and individual incomes in
excess of specified amounts, less certain deductions
and/or specified exemptions permitted by law.
The final tax on certain passive incomes and
withholding tax on income are embraced within the
term.
In CONWI V. CTA [AUGUST 31, 1992], the Supreme
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.
As stated by the Supreme Court in REPUBLIC OF THE
PHILIPPINES VS. M ANILA ELECTRIC COMPANY
[NOVEMBER 15, 2002], income tax is imposed on an
individual or entity as a form of excise tax or a tax on
the privilege of earning income. In exchange for the
protection extended by the State to the taxpayer, the
government collects taxes as a source of revenue to
finance its activities.
Q3.When is income taxable? (or what are the
elements of a taxable income?)
Gross Income (less) Deductions = Taxable Income
Income, gain or profit is subject to income tax when
the following conditions are present:
is no business transaction with a 3rd party.
This militates agianst administrative
convenience.
1
1. There is income, gain or profit (e.g. no reimbursement — medrep)
2
during the taxable year; (known as the
realization concept) and (supports Fisher v. Trinidad)
3. The income, gain or profit is not exempt from
3
income tax.
4. Complete Dominion (CIR v. Glenshaw Glass Co.)
Q3.1. What is the difference between Income
income and capital? from capital
& labor? Is
Income is distinct from capital. Income means all the this a
wealth which flows into the taxpayer other than a requisite for
mere return on capital while capital is a fund or what
constitutes
property existing at one distinct point in time while
income?
income denotes a flow of wealth during a definite
NO.
period of time. Income is gain derived and severed Because it
from capital. (see CHAMBER OF REAL ESTATE AND can also
BUILDER’S ASSOCIATION, INC. V. ROMULO [M ARCH 9, arise from
2010]). WINDFALL.
(See CIR v.
Income as contrasted with capital or property is to be Glenshaw &
the test. The essential difference between capital and Murphy v.
income is that capital is a fund; income is a flow. A IRS)
fund of property existing at an instant of time is called
capital. A flow of services rendered by that capital by Does it
the payment of money from it or any other benefit have to be
rendered by a fund of capital in relation to such fund severed
through a period of time is called an income. Capital from the
is wealth, while income is the service of wealth. A tax capital
on income is not a tax on property. "Income," as here before it is
used, can be defined as "profits or gains." (see considered
M ADRIGAL VS. RAFFERTY [AUGUST 7, 1918]). as income?
NO.
Q3.1.1 Are stock dividends income or (Hevering v.
Bruun)
capital?
Generally, stock dividends represent capital and do
not constitute as income to its recipient. Mere
issuance thereof is not yet subject to income tax as
they are nothing but an enrichment through increase
in value of capital investment. Such are considered
NOTE: Inter-corporate dividends are subject to 0% tax.
1
As opposed to mere reimbursements or return on capital.
2
As opposed to the common examples of unrealized forex gains or
mere revaluation increments.
3
Examples of those exempt from income tax: de minimis benefits
and professional fees of GPPs.

PM REYES NOTES ON TAXATION I: INCOME TAX (Updated 14 January 2013)

BY PIERRE M ARTIN DE LEON REYES

This reviewer is a compilation of personal notes in Taxation One and notes and lectures from Atty. Gruba and Atty. Montero. References have
also been made to the following books: DE LEON & DE LEON, JR. THE FUNDAMENTALS OF TAXATION (2012); DE LEON & DE LEON, JR.
COMPREHENSIVE REVIEW OF TAXATION (2010); VITUG & ACOSTA. TAX LAW AND JURISPRUDENCE (2006); DOMONDON, TAXATION VOLUME II: INCOME
TAX (2009); CO-UNTIAN, JR. TAX DIGEST (2009); MAMALATEO, PHILIPPINE INCOME TAX (2010); MAMALATEO, REVIEWER ON TAXATION (2008). This
reviewer is best used with SACADALAN-CASASOLA, NIRC AND OTHER LAWS (2012).

Possessors are granted the right to reproduce and distribute this reviewer as well as the right to convert the work to any medium for the
purpose of preservation and/or continued distribution provided that the  author’s  name  remains  clearly  associated  with  the  work  and  that  no  
alterations of the form and content are made.
 Stock dividends cannot comply with the requirement of “wherewithal” (i.e.
The holder of stock dividend was not any the capacity to pay. — By taxing stock dividends, it is like asking the
poorer or richer when he received stock stockholder to sell his stock dividends to the BIR.
dividends (realization). There is also the
idea of severance from capital which was PM REYES NOTES ON TAXATION I:
been modified by Helvering v. Bruun. INCOME TAX
You have unrealized gain and cannot be subjected to income Q3.3. What is the constructive receipt
to be liquid tax until that gain has been realized. doctrine?
to be taxed.
You can’t As explained by the Supreme Court in FISHER V.
pay stocks/ The constructive receipt doctrine provides than an
TRINIDAD [OCTOBER 30, 1922], when a corporation item is treated as income when it is credited to the
chickens to issues stock dividends, it shows that the corporation’s  
the BIR. account of the, or made unconditionally available to
accumulated profits have been capitalized, instead of the taxpayer; no physical possession is required.
This is why distributed to the stockholders or retained as surplus
realization
available for distribution. The stockholder receives Income is received not only when it is actually
is a
nothing out of the corporate assets for his separate handed to a taxpayer but also when it is merely
requisite for
income. use and benefit but a representation of his increased constructively received by him. In LIMPAN INVESTMENT
WHEN interest in the capital of the corporation. The capital V. CIR [JULY 26, 1966], the lessees opted to deposit
YOU still belongs to the corporation as there is no their payments when the lessor refused to accept the
REALIZE it separation of interest.Receipt of stock dividends does not same in 1957. The lessor did not report these
is a give rise to income payments in his 1957 income tax return. The
different However, stock dividends constitute as income if a Supreme Court held that the failure to report the said
question. corporation redeems stock issued so as to make a rental income is unjustified as, when the payments
4
distribution. This is essentially equivalent to the were deposited, the lessor was deemed to have
distribution of a taxable dividend the amount so constructive received such rentals.
distributed in the redemption considered as taxable
income. (see COMMISSIONER VS. M ANNING [AUGUST 7,
Overview of the Philippine Income Tax
1975])
System
Segues into Q3.2. Are money received as damages
the 3rd Q4.What are the features of the Philippine tax
income?
requisite. system?
There may
be an Yes. In COMMISSIONER V. GLENSHAW GLASS CO. [348
instance U.S. 426], Glenshaw Co was engaged in a proracted The Philippine tax system is:
5
whereby litigation with Hartford-Empire Co where the former 1. Direct
6
those not demanded exemplary damages for fraud and treble 2. Progressive
considered damages for injury to its business by reason of the 3. Semi-schedular, semi-global
as income latter’s   violation of federal antitrust laws. The parties
will be such settled. Glenshaw did not report the money received Q4.1. What are the kinds of income tax
because the as damages from the settlement in its income tax systems?
law says return. The Commissioner assessed Glenshaw for
they are. the deficiency. Glenshaw contended that punitive The types of income tax systems adopted are as
damages, as windfalls flowing from culpable conduct follows:
Tax Benefit of third parties are not taxable income. The US
Rule - if Supreme Court held that money received as 1. Global Tax System – where the taxpayer is
unable to damages must be reported as they constitute required to lump up all items of income earned
collect, you income. The mere fact that such payments were during a taxable period and pay under a single
may report extracted from wrongdoers cannot detract from their
set of income tax rates on these different items of
it as loss. character as taxable income. The Court also stated
income. (Simply put, varying taxes are imposed
But if after
that punitive damages cannot be classified as gifts. on passive income)
such report,
you receive
payment for In MURPHY V. IRS [493 F.3d 170], the US Court of 2. Schedular Tax System – where there are
the debt, it Appeals (District of Columbia), held that the amount different tax treatments of different types of
becomes received as compensatory damages for emotional income so that a separate tax return is required
income in distress and loss of reputation constitutes taxable to be filed for each type of income and the tax is
your hands. income. computed on a per return or per schedule basis.
In contrast,
if you 5
receive it Direct taxes are those taxes wherein both the tax liability as well
4
The exception to the rule that stock dividends do not constitute as the impact or burden of the tax falls on the same person
before loss income shall be discussed more extensively later. Knowing that 6
Progressive taxes are those taxes imposed where the tax rate
report, its there is an exception exists will suffice for now. increases as the tax base increases
neutral.

PIERRE MARTIN DE LEON REYES 2

 PM REYES NOTES ON TAXATION I:
INCOME TAX
(Simply put, one rate for all types of gross 6. Capital gains tax on sale or exchange of real
income). property located in the Philippines and classified
as a capital asset
3. Semi-Schedular or Semi-Global Tax System – 7. Final withholding tax on certain passive
where the tax system is either (a) global (e.g. investment incomes
taxpayer with compensation income not subject 8. Fringe benefit tax
to final withholding tax or business or 9. Branch profit remittance tax; and
professional income or mixed income – 10. Tax on improperly accumulated earnings.
compensation and business or professional
income) or (b) schedular (e.g. taxpayer with Definition of Terms
compensation, capital gains, passive income, or
other income subject to final withholding tax) or
Q5.Define the following terms:
(c) both global and schedular may be applied
depending on the nature of the income realized
by the taxpayer during the year. In Section 22(A) to (I), (Z), (GG), and (HH), Tax
Code:
Q4.2. How do you distinguish
Person An individual, a trust, estate or
“schedular   treatment   from   “global   corporation
treatment”   as   used   in   income   Corporation Includes partnerships, no matter
taxation? how created or organized, joint-
stock companies, joint accounts,
Under the schedular tax system, the various types of associations, or insurance
income (i.e. compensation; business/professional companies but does not include
income) are classified accordingly and are accorded general professional
different tax treatments, in accordance with partnerships and a joint venture
schedules characterized by graduated tax rates. or consortium formed for the
Since these types of income are treated separately, purpose of undertaking
the allowable deductions shall likewise vary for each construction projects or
type of income. engaging in petroleum and other
energy operations pursuant to
On the other hand, under the global tax system, all an operating agreement under a
income received by the taxpayer are grouped service contract with the
together, without any distinction as to type or nature Government
of the income, and after deducting therefrom General Partnerships formed by persons
expenses and other allowable deductions, are Professional for the sole purpose of
subjected to tax at a graduated or fixed rate (see TAN Partnerships exercising their common
VS. DEL ROSARIO [OCTOBER 3, 1994]). (GPPs) profession, no part of the income
of which is derived from
Q4.3. What are the types of Philippine engaging in any trade or
Income Tax (under Title II of the business
NIRC)? Domestic When applied to a corporation,
(Corporation) means created or organized in
The types of Income tax under Title II of the NIRC the Philippines or under its laws
are: Foreign When applied to a corporation,
1. Graduated income tax on individuals (Corporation) means a corporation which is
2. Normal corporate income tax on corporations not domestic
3. Minimum corporate income tax on corporations Nonresident The term means a citizen of the
4. Special income tax on certain corporations (e.g. citizen Philippines:
private educational institutions, FCDUs, and 1. who establishes to the
international carriers) satisfaction of the
5. Capital gains tax on sale or exchange of unlisted Commissioner the fact of his
shares of stock of a domestic corporation physical presence abroad
classified as a capital asset with intention to reside
therein

PIERRE MARTIN DE LEON REYES 3

Branch — not a separate entity from the Subsidiary — organized as a separate entity from the parent corp;
head office; mere extension; you secure a relationship is based on equity (shareholding); considered as domestic
registration establishing the branch. For tax corp. even if wholly owned by a foreign corporation.
purposes is a resident foreign corp. PM REYES NOTES ON TAXATION
INCOME TAX
Diff. bet. RC & NRC 2. who leaves the Philippines
is based on the during the taxable year to
physical presence reside abroad either as an
and on the nature of immigrant or for employment
the stay. on a permanent basis
3. who works and derives
income from abroad and
whose employment thereat
requires him to be physically
present abroad most of the
time during the taxable year.
4. who has been previously
considered a non-resident
citizen and who arrives in
the Philippines at any time
during the taxable year to
reside permanently in the
Philippines with respect to
his income derived from
sources abroad until date of
his arrival in the Philippines
Resident alien An individual whose residence is
within the Philippines and who is
not a citizen thereof
Nonresident An individual whose residence is
alien not within the Philippines and
who is not a citizen thereof
Resident A foreign corporation engaged in
foreign trade or business within the
corporation Philippines SEC Reg.
Tokyo Nonresident A foreign corporation not
Shipping foreign engaged in trade or business
case corporation within the Philippines
Ordinary Includes any gain from the sale
Income or exchange of property which is
not a capital asset or property
7
described in Section 39(A)(1)
Statutory Refers to the rate fixed by the
Minimum Regional Tripartite Wage and
Wage Productivity Boar, as defined by
the Bureau of Labor and
Employment Statistics (BLES) of
DOLE.
Minimum A worker in the private sector
Wage earner paid the statutory minimum
wage or to an employee in the
Not subject to
Income Tax public sector with compensation
income of not more than the
statutory minimum wage in the
non-agricultural sector where
he/she is assigned
7
which defines what capital assets are and those which are not.
PIERRE MARTIN DE LEON REYES
I:
In Section 31, 35(B), and 39(A), Tax Code:
Taxable the pertinent items of gross
Income income specified in the NIRC
Income - Exclusions less the deductions and/or
= Gross income - personal and additional
Deductions/ exemptions, if any, authorized
Exemptions = Net for such types of income by the
Taxable Income NIRC or other special laws
Dependent a legitimate, illegitimate or
legally adopted child chiefly
dependent upon and living with
the taxpayer if such dependent
is not more than twenty-one (21)
years of age, unmarried and not
gainfully employed or if such
dependent, regardless of age, is
incapable of self-support
because of mental or physical
defect
Capital Assets property held by the taxpayer
(whether or not connected with
his trade or business, EXCEPT:
1. Stock in trade of the
taxpayer or other property
of a kind which would
properly be included in the
inventory of the taxpayer if
on hand at the close of the
taxable year
2. Property held by the
taxpayer primarily for sale to
customers in the ordinary
course of his trade or
business
3. Property used in trade or
business of a character that
is subject to allowance for
depreciation
4. Real property used in trade
or business of the taxpayer
Net Capital the excess of the gains from
Gain sales or exchanges of capital
assets over the losses from such
sales or exchanges
Net Capital the excess of the losses from
loss sales or exchanges of capital
assets over the gains from such
sales or exchanges
4
 PM REYES NOTES ON TAXATION I:
INCOME TAX
Q6.What are the kinds of income taxpayers?8
1. Those who are citizens of the Philippines at
The kinds of income taxpayers under Title II of the the time of the adoption of the Constitution
NIRC are: 2. Those whose fathers or mothers are citizens
of the Philippines
A. Individuals 3. Those born before January 17, 1973 of
1. Citizens (Section 24, NIRC) Filipino mothers, who elect Philippine
a. Resident Citizens Citizenship upon reaching the age of
b. Nonresident Citizens majority; and
2. Aliens 4. Those who are naturalized in accordance
a. Resident Aliens (Section 24, NIRC) with law
b. Nonresident Aliens (Section 25,
NIRC) Q8.Who is a non-resident alien?
i. Engaged in trade or business in
the Philippines A non-resident alien is an individual whose residence
ii. Not engaged in trade or business is within the Philippines and who is not a citizen
in the Philippines thereof.
3. Estates and Trusts (Section 60, NIRC)
a. Revocable trust Q8.1. How is the residency of an alien
b. Irrevocable trust determined?
B. Corporations
1. Domestic Corporations (Section 27, An alien is considered a non-resident if he stays here
NIRC) for a definite short period of time.
2. Foreign Corporations (Section 28, NIRC)
a. Resident foreign corporations An alien will be considered a resident if the stay here
b. Nonresident foreign corporations is either:
3. Partnerships
a. Taxable partnership (Section 73(D), 1. definite and extended;
NIRC) 2. indefinite
b. Exempt partnership
i. General Professional Partnership In GARRISON V. CA [JULY 19, 1990], in resolving the
(Section 26, NIRC) contention of US nationals that they cannot be
ii. Joint venture or consortium considered resident aliens as they intend to go back
undertaking construction activity to the US on termination of their employment in the
or engaged in petroleum Philippines, the Supreme Court held that what the
operations with operating law requires is merely physical or bodily presence in
contract with the government a given place for a period of time, not the intention to
make it a permanent place of abode.
Resident citizens and resident aliens
The Supreme Court further held that, as laid clearly in
Q7.Who are citizens of the Philippines?9 RR No. 2, whether an alien is a transient or not is
determined by his intentions with regard to the length
The following are considered citizens of the and nature of his stay. A mere floating intention
Philippines: indefinite as to time, to return to another country is
8
not sufficient to constitute him as a transient. If he
Before proceeding to income proper, it is important to know the
different kinds of taxpayers first. This is because in analyzing any
lives in the Philippines and has no definite intention
10
problem involving income taxation, the first thing to do is to as to his stay, he is a resident. One who comes to
determine who the taxpayer is. The only two exceptions where the Philippines for a definite purpose, which in its
knowing the taxpayer is immaterial are where the transaction nature may be promptly accomplished, is a
involves sales of shares of stock of a domestic corporation 11
because it is subject to 1% of stock transaction tax or 5%/10%
transient. But if his purpose is of such a nature that
capital gains tax on net capital gain whether the seller is an an extended stay may be necessary for its
individual, citizen or alien or a corporation, domestic or foreign and accomplishment, and to that end the alien makes the
(2) where the real property sold is a capital asset located in the
Philippines which is subject to 6% capital gains tax.
9 10
To determine if the taxpayer is a resident citizen, just refer to the In other words, stay is indefinite.
11
enumeration of what constitutes a non-resident citizen. In other words, the stay is for a definite short period of time.

PIERRE MARTIN DE LEON REYES 5

How to Determine if NRA or RA
Relevant factors:(1) Duration & (2) Certainty/Definitie
Short-Definite — NRA
Short-Indefinite — Resident PM REYES NOTES ON TAXATION
Long-Definite — Resident (e.g. Normal Black)
Long-Indefinite — Resident
INCOME TAX
Philippines his temporary home, he becomes a
resident, although he intends to return to his domicile
12
abroad.
Q8.2. When is the residence of an alien
considered lost?
RR 2 provides that an alien who has acquired
residence in the Philippines retains his status as a
resident until he abandons the same and actually
departs from the Philippines. An intention to
change his residence does not change his status as
a resident alien to that of a nonresident alien.
Non-resident citizens
Q9.Who is a non-resident citizen?
The   term   “non-resident   citizen”   means   a   citizen   of
the Philippines:
1. who establishes to the satisfaction of the
Commissioner the fact of his physical
presence abroad with intention to reside
therein
2. who is an one who leaves the Philippines
during the taxable year to reside abroad
either as an immigrant or for employment on
a permanent basis
3. who is one who works and derives income
from abroad and whose employment thereat
requires him to be physically present
abroad most of the time during the taxable
year.
4. who has been previously considered a non-
resident citizen and who arrives in the
Philippines at any time during the taxable
year to reside permanently in the Philippines
with respect to his income derived from
sources abroad until date of his arrival in
the Philippines
(See Section 22E, NIRC and Section 2, RR No. 01-
79 [January 8, 1979])
Q9.1. Should a non-resident citizen file
an income tax return or
information return covering his
income earned abroad?
No. Previously, under RR No. 01-79, non-resident
citizens were required to do so. In RR No. 9-99, non-
resident citizens were required to file an information
12
In other words, the stay is definite but extended.
PIERRE MARTIN DE LEON REYES
I:
return. However, under RR 05-01 [July 31, 2001],
non-resident citizens are no longer required to file the
same on their income derived from sources outside
the Philippines.
Q9.2. What is meant by the phrase The 183 day
“most   of   the   time”   as used in qualification
determining whether a citizen who is only to
derives income from abroad and is qualify the
“most of the
physically present abroad is a time”
non-resident?
requirement
BUT this is
RR No. 01-79 states that to be physically present not solely
abroad most of the time during the taxable year, a controlling.
contract worker must have been outside the RATHER
Philippines for not less than 183 days during such Section 22.
taxable year.This applies to a citizen who needs to be abroad
for the most time but not a contract worker.
Note: As can be seen from the wording of RR No.The moment
01-79,  “most  of  the  time”  applies  to  a  contract  worker.  you leave the
In BIR Ruling 33-00 [September 5, 2000], however,Phils. you are
the CIR held that for overseas contract workers, theconsidered an
time spent abroad is not material as all that is NRC whether
required   is   for   the   worker’s   employment   contract   to  or not you
pass through and be registered with the POEA. prove the
requisites.
Q9.3. If a natural-born Philippine citizen
Dual Citizens are
who became a citizen of the United
treated as non-
States is later on granted
resident citizens of
Philippine dual citizenship under
the Philippines RA 9225, is he required to pay
taxes for income earned in the
United States?
No. In BIR Ruling DA-095-05 [March 29, 2005], the
CIR held that such a person would be a non-resident
citizen, and hence, will not be required to pay
Philippine tax for income earned in the United States.
Non-resident aliens engaged in business
in the Philippines
Q10. Who is a non-resident alien?
A non-resident alien is an individual:
1. whose residence is not within the Philippines; and
2. who is not a citizen thereof
6
 PM REYES NOTES ON TAXATION I:
INCOME TAX
Q10.1. How do you determine if a non-
resident alien is engaged in trade
or business?
Once a taxpayer is determined to be a non-resident
alien, the test to determine whether the alien is a
non-resident alien engaged in trade or business is
whether his total aggregate stay for a taxable year
exceeds 180 days. Once clasisified as NRA (S-D), further:
< 180 days — Not engaged in business.
Corporations — Back&Forth accumulated to 180
> 180 days — Engaged in business.
Q11. Differentiate the kinds of corporate
taxpayers.
A corporation is itself a taxpaying entity and speaking
generally, for purposes of income tax, corporations
are classified into (a) domestic corporations and (b)
foreign corporations. Foreign corporations are
further classified into (1) resident foreign
corporations and (2) non-resident foreign
corporations.
A domestic corporation is one created or organized
in the Philippines or under its laws. A foreign
corporation is one created or organized under the
laws of a foreign country.
A resident foreign corporation is a foreign
corporation engaged in trade or business within the
Philippines or having an office or place of business
therein. A non- resident foreign corporation is a
foreign corporation not engaged in trade or business
within the Philippines and not having any office or Diff. bet. Co-Ownership and parcels of land in one
place of business therein.
A domestic corporation is taxed on its income from
sources within and without the Philippines, but a
foreign corporation is taxed only on its income from
sources within the Philippines. However, while a
foreign corporation doing business in the
Philippines is taxable 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. On the other
hand, foreign corporations not doing business in
the Philippines are taxable on income from all
sources within the Philippines, as interest, dividends,
rents, salaries, wages, premiums, annuities
Compensations, remunerations, emoluments, or
other fixed or determinable annual or periodical or
casual  gains,  profits  and  income  and  capital  gains.”   13
PIERRE MARTIN DE LEON REYES
(see N.V. REEDERIJ “AMSTERDAM” VS. CIR [JUNE 23,
1988])
Q12. Is a partnership liable for income tax?
Yes.   The   term   “corporations”   includes   partnerships,  
no matter how created or organized.
Q12.1. Is a GPP13 liable for income tax?
No. A GPP is not considered a taxable entity for
income tax purposes. Section 26 of the NIRC
provides that persons engaging in business as
partners in a GPP shall be liable for income tax only
in their separate and individual capacities computed
on their respective distributive shares of the
partnership profit.
Q12.2. Distinguish between a GPP and an
ordinary business partnership.
A general professional partnership, unlike an ordinary
business partnership (which is treated as a
corporation for income tax purposes and so subject
to the corporate income tax), is not itself an income
taxpayer. The income tax is imposed not on the
professional partnership, which is tax exempt, but on
the partners themselves in their individual capacity
computed on their distributive shares of partnership
profits (see CARAG, CABALLES, JAMORA AND SOMERA
LAW OFFICES VS. DEL ROSARIO [OCTOBER 3, 1994])
Q12.2.1. A and B, co-owners, bought 3
Unregistered Partnership: transaction and bought 2 more
Common Fund parcels of land in another.
Intent to divide profits They decided to sell the 3
Habituality parcels to C and the 2 parcels
to D. They realized a net profit
gain and paid CGT. CIR
assessed them for deficiency
corporate income tax. Is the
co-ownership taxable as a
corporation?
No. A Co-Ownership who own properties which
produce income should not automatically be
considered partners of an unregistered partnership,
or a corporation, within the purview of the income tax
law. The essential elements of a partnership are two,
namely: (a) an agreement to contribute money,
General professional partnership (GPP) are partnerships formed
by persons for the sole purpose of exercising their common
profession, no part of the income of which is derived from
engaging in any trade or business.
7
 PM REYES NOTES ON TAXATION I:
INCOME TAX
property or industry to a common fund; and (b) intent
to divide the profits among the contracting
parties. Here, there is no evidence that petitioners
entered into an agreement to contribute money,
property or industry to a common fund, and that they
intended to divide the profits among themselves. The
sharing of returns does not in itself establish a
partnership whether or not the persons sharing
therein have a joint or common right or interest in the
property. There must be a clear intent to form a
partnership, the existence of a juridical personality
different from the individual partners, and the
freedom of each party to transfer or assign the whole
property. (see OBILLOS v. CIR [OCTOBER 29, 1985]
and PASCUAL V. CIR [OCTOBER 18, 1988]).
Q12.2.2. A group of insurance
companies in the Philippines
decided to form a pool and This was made by the BIR
entered into a reinsurance because they cant amend the formed
treaty with a non-resident NIRC. The RR requires that
reinsurance company. Is such both parties in the JV must be income tax?
a pool subject to corporate
taxes and withholding taxes
on dividends paid to the non-
resident reinsurance
company?
Yes. Where several local insurance ceding
companies enter into a Pool Agreement or an
association that would handle all the insurance
businesses covered under their quota-share
reinsurance treaty and surplus reinsurance treaty
with a non-resident foreign reinsurance company, the
resulting pool having a common fund, and functions
through an executive board and its work is
indispensable, beneficial and economically useful to
the business of the ceding companies and the foreign
firm, such circumstances indicate a partnership or an
association taxable as a corporation (see AFISCO
INSURANCE CORPORATION VS. CIR [JANUARY 25,
1999])
Q12.2.3. A and B inherited properties.
They did not partition the
same and instead invested
them to a common fund and
divide the profits therefrom.
Should they be classified as
an unregistered partnership
subject to corporate income
tax?
Yes. The income from inherited properties may be
considered as individual income of the respective
PIERRE MARTIN DE LEON REYES
heirs only as long as the inheritance or estate is no
distributed, or, at least, partitioned. But the moment
their respective known shares are used as part of the
common assets of heirs to be used in making profits,
it is but proper that the income from such shares
should be considered as part of the taxable income of
an unregistered partnership. (see ONA V. CIR [M AY
25, 1972]).
Q12.3. Are joint ventures taxable?
Generally, yes. However, a joint venture or In order to
consortium undertaking construction projects or still fall w/in
engaged in petroleum operations with an the NIRC,
operating contract with the government are not they form a
liable for income tax. separate
entity
Q12.3.1. What are the requirements in altogether
order for a joint venture (instead of
for construction JV) so that
purposes be not liable for the
distribution
of units is
In RR No. 010-12 [J UNE 1, 2012], a joint venture or merely
consortium formed for the purpose of undertaking dividends
construction projects which is not considered as a and not
taxable.
taxable corporation should be:
1. For the undertaking of a construction project;
2. Should involve joining or pooling of resources by
licensed local contractors, licensed by the
Philippine Contractors Accreditation Board
(PCAB) of the DTI;
3. The local contractors are engaged in construction
business;
4. The joint venture itself must likewise be duly
licensed as such by the PCAB
Absent one of the requirements, the joint venture
formed for construction purposes shall be considered
a taxable corporation.
Q12.3.2. May joint ventures involving
foreign contractors be treated
as a non-taxable corporation?
Yes, provided that the member foreign contractor is:
1. covered by a special license as contractor by the
PCAB; and
2. construction project is certified by the appropriate
government office as a foreign
financed/internationally-funded project and that
international bidding is allowed under the bilateral
agreement between the Philippine government;
and foreign/international financing institution.
8
 PM REYES NOTES ON TAXATION I:
INCOME TAX
8. Annuities
Q12.3.3. Two local contractors entered 9. Prizes and winnings
into a joint development 10. Pensions; and
agreement to construct a 11. Partner’s   distributive   share   from   the   net  
residential subdivision. One income of the GPP
local contractor shall
16
contribute the parcel of land (see Section 32(A), NIRC)
while the other shall
contribute the construction Q13.1. Is the enumeration provided in
and development of the parcel Section 32(A) exclusive?
of land into a subdivision.
Each shall receive an No. Section 32(A) does not intend the enumeration to
allocation of saleable house be exclusive. It merely directs that the types of
and lot units from the project. income listed therein be treated as income from
Is the joint venture liable for sources within the Philippines (see CIR VS. AMERICAN
income tax? AIRLINES [DECEMBER 19, 1989])

No. In BIR Ruling No. 108-2010 [October 19,

14 Compensation for services
2010], involving a joint venture between Avida and
Aurora, the CIR held that the joint development
agreement between the two is not subject to income Q13.2. If an employer pays the income What is being
tax because joint ventures formed by local taxes assessable against an taxed is the
contractors for construction purposes are deemed as employee, is the payment by the employee-
employer
not falling under the definition of a taxable employer taxable income on the relationship.
corporation. part of the employee?

Income15 Yes. In OLD COLONY TRUST CO. V. COMMISSIONER

Statutory Inclusions
Q13. What are deemed included in (gross)
income?
All income derived from whatever source, including,
but not limited to, the following items:
1. Compensation for services in whatever form
paid, including, but not limited to fees,
salaries, wages, commissions and similar
items;
2. Gross income derived from the conduct of
trade or business or the exercise of a
profession;
3. Gains derived from dealings in property
4. Interests Section 78: specific types of payment that
5. Rents
are not considered as taxable income (e.g.
6. Royalties domestic labor)
7. Dividends
14
It is also important to note in this BIR Ruling that the CIR held
that the allocation of saleable units does not constitute as a taxable
event as no income is actually realized by Avida or Aurora.
15
Previously, we looked into the types of taxpayers. Now, before
proceeding to general principles and source of income rules, let us
look into what   is   included   in   the   term   “income;;”   and   what   is   what is considered income and what is not considered income or
excluded therefrom.
[279 U.S. 716], the US Supreme Court held that the
payment of the tax by the employer was in
consideration of services rendered by the employee.
The payment constituted income to the employee.
The Court also added that it cannot be argued that
the payment was a gift. The payment for services,
even though voluntary, was nevertheless
compensation for services rendered.
Rents
Q13.3. Are improvements made by
lessees taxable as income on the
part of the lessor?
Yes, provided the such buildings or improvements
are not subject to the removal by the lessee. The
lessor may either: (1) report the improvements as
income at the time when such improvements are
completed based on its fair market value; or (2)
spread the life of the lease the estimated depreciate
value of the improvements at termination of the lease
16
The above answer is the definition of gross income. This will be
discusses in greater detail later. For now, we focus on determining
excluded therefrom.

PIERRE MARTIN DE LEON REYES 9

 PM REYES NOTES ON TAXATION I:
INCOME TAX
and report as income for each year of the lease an COMMISSIONER VS. MANNING [AUGUST 7, 1975])
aliquot part thereof (Section 49, RR No. 2)
The redemption converts into money the stock
Q13.3.1. Should the improvement be dividends which become a realized profit or gain and
capable of being separated consequently, the stockholder's separate
property. Profits derived from the capital invested
from the land in order to be
cannot escape income tax. As realized income, the
considered a taxable gain? proceeds of the redeemed stock dividends can be
reached by income taxation regardless of the
No. The US Supreme Court in HELVERING V. BRUUN existence of any business purpose for the
[309 US 461] stated that it is not necessary to redemption. (see CIR VS. CA [JANUARY 20, 1999])
recognition of taxable gain that the lessor be able to
sever the improvement begetting the gain from his As provided in Section 252, RR No. 2: A stock
original capital. dividend constitutes income if its gives the
shareholder an interest different from that which is
Dividends former stock holdings represented. A stock dividend
Mere does not constitute income if the new shares confer
issuance/ no different rights or interests that did the old.
Q13.4. What are dividends?
declaration
of stock The   term   “dividends” means any distribution made
dividends Q13.7. Are liquidating dividends subject
by a corporation to its shareholders out of its to income tax?
are doesn’t
earnings or profits and payable to its shareholders,
result to 17
whether in money or in other property.
income Yes. Where a corporation distributes all of its
property or assets in complete liquidation or
Q13.5. Are property dividends taxable? 18
dissolution, the gain realized from the transaction
by the stockholder, whether individual or corporate, is
Yes. As provided in Section 251, RR No. 2, dividends 19
taxable income or a deductible loss, as the case
paid in securities or other property (other than its own may be.
20
stock), in which the earnings of a corporation have
been invested, are income to the recipients to the
amount of the full market value of such property
“From  whatever  source”
when receivable by individual stockholders.
Q13.8. What   is   meant   by   the   phrase   “all  
income derived from whatever
Q13.6. Are stock dividends subject to source"
income tax?
The   phrase   “all   income   derived   from   whatever  
source”   encompasses   all   accessions   to   wealth,  
No. As discussed earlier, a stock dividend only
clearly realized, and over which the taxpayers have
represents the transfer of surplus to capital account
complete dominion. A gain constitutes taxable
and, as such, is not subject to income tax.
income when its recipient has such control over it that
SD issued — bought by the as a practical matter, he derives readily realizable
company — ultimately the
Q13.6.1. What is the exception to economic value from it.
stockholder received cash. the rule that stock
Except that it was declared T dividends are not
18
tax-free. subject to income tax? There must be a bona fide plan of liquidation involving the
transfer of all assets.
— not legit bus. purpose 19
If the amount received by the stockholder in liquidation is less
Stock dividends constitute as income if a corporation than the cost or other basis of the stock, the loss in the transaction
redeems stock issued so as to make a distribution. is deductible.
20
Previously, the CIR has ruled in BIR RULING 039-02 [NOVEMBER
This is essentially equivalent to the distribution of a 11, 2002] and other previous rulings that the transfer by a
taxable dividend the amount so distributed in the liquidating corporation of its remaining assets to its stockholders
redemption considered as taxable income. (see 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], the CIR reversed and set aside the above-
17
If in money, it is called a cash dividend. If it is in property, it is cited ruling and all previous rulings to that effect. The rule now is
called a property dividend. that they are subject to income tax.
Tax rate for liquidating dividends is higher (32%) than ordinary
dividends.
PIERRE MARTIN DE LEON REYES 10
 PM REYES NOTES ON TAXATION I:
INCOME TAX
Validity of Q13.8.1. Is an unlawful gain subject income of a taxpayer. If such is the determination, the
the element to income tax? taxpayer shall take inventories upon such basis as
of complete the Secretary of Finance, upon recommendation of
dominion. Yes. In JAMES V. US [366 US 213], the Supreme the CIR, may prescribe as conforming as nearly as
Court ruled that embezzled money constitutes gross may be to the best accounting practice in the trade or
Tax you paid income. It opined that unlawful, as well, as lawful gain business and as most clearly reflecting the income.
for are   comprehended   within   the   term   “gross   income.”  
embezzled The   Court   has   given   a   liberal   construction   to   “gross   Q13.9.1. Is there a particular method
income is income”  in  recognition  of  the  intent  of  Congress  to  tax  
non- of valuing inventory that a
all gains except those specifically exempted. taxpayer should follow?
refundable.
Q13.8.2. May cancellation or No. The taxpayer may choose the method of valuding
Gambler lost 3.4M but was only forgiveness of its inventory for any taxable year, and such method
required to pay 0.5M. Is there taxable indebtedness amount to a should be used in all subsequent years unless:
income in his hands? The US-SC is gain subject to income tax?
not income. 1. With the approval of the CIR, a change to a
For Yes. If, for example, an individual performs services different method is authorized; or
discharge of for a creditor, who, in consideration thereof cancels 2. The CIR finds that the nature of the stock on
debt to be the debt, income to that amount is realized by the hand is such that inventory ains should be
applicable: debtor as compensation for his services. (see considered realized for tax purposes and
(1) liability Section 50, RR No. 2).21 therefore it is necessary to modify the valuation
(2) debtors method.
23

holds
Q13.8.3. Should taxes previously
property. Thus, in BIR RULING DA-128-08 [AUGUST 11, 2008],
(e.g. the claimed and allowed as
deductions but Pilipinas Shell requested to change its valuation
chips dont method from the Weighted Average Method (WAVE)
represent subsequently refunded or
to the First-In-First-Out (FIFO) to conform with the
property. It is granted as tax credit be adoption by a new computerized accounting system
only an considered part of gross
accounting based on the Global Systems Application and
income? Product Data Processing (GSAP) by its parent
mechanism)
company and its affiliates, including Pilipinas Shell.
Yes. RMC No. 13-80 [April 10, 1980] provides that They system uses FIFO. The CIR approved the shift
taxes previously claimed and allowed as deductions to FIFO noting that the WAVE method is no longer
but subsequently refunded or granted as tax credit compatible with the new accounting system to be
should be declared as part of the gross income of the introduced and to be consistent with the inventory
taxpayer in the year of receipt of the refund or tax method used by its parents company and affiliates all
credit. However, taxes which are not allowable as over the world.
deductions, when refunded or credited, are not
22
declarable for income tax purposes.
Exclusions
Inventories Q14. What  are  “exclusions?”

Q13.9. Explain the use of inventories to The   term   “exclusions”   refers   to   items   that   are   not  
determine the income of a included in the determination of gross income
taxpayer. because:

For certain businesses, the use of inventories may be
deemed necessary in order to determine clearly the
21
If, however, a creditor merely desires to benefit a debtor and
without any consideration therefor cancels the debt, the amount of
the debt is a gift. If a corporation to which a stockholder is indebted
forgives the debt, the transaction has the effect of the payment of a
dividend.
22
The enumeration of taxes not allowable as deductions will be
provided later.
1. They represent return of capital or are not
income, gain or profit (e.g. life insurance)
2. They are subject to another kind of internal
revenue tax (e.g. gifts, bequests, devices)
3. They are income, gain or profits that are
expressly exempt from income tax under the
23
The CIR shall not exercise this authority more often than every 3
years.

PIERRE MARTIN DE LEON REYES 11

 PM REYES NOTES ON TAXATION I:
INCOME TAX
Constitution, tax treaty, Tax Code, or general or
special law. (e.g. PEZA)
Q15. What are deemed excluded from
(gross) income?
Section 32(B) is an exclusive list
As provided in Section 32(B), NIRC, the following
items shall not be included in gross income and shall
be exempt from income tax
24
1. Proceeds of life insurance, payable upon the
death of the insured to the heirs or beneficiaries,
but not the interest payments thereon if such
amounts are held by the insurer under an
agreement to pay interest.
2. Amounts received by the insured as return of
premiums paid under life insurance, endowment
or annuity contracts, either during the term or at
the maturity of the contract or upon the surrender
thereof.
25
3. Gifts, bequests, and devises but not the
income from such property; if the amount
received is on account of services rendered
whether constituting a demandable debt or not
such as remuneratory donations or the use or
opportunity or use of capital, the receipt is
income.
4. Compensation for injuries or sickness
whether by suit or agreement including amounts
received through accident or health insurance or
under   the  Workmen’s   compensation   Act,   but not
damages or compensation recovered for loss of
profit in loss or damage to property which would
be taxable
5. Income exempt under treaty binding upon the
Government of the Philippines.
6. Certain retirement benefits, pensions,
gratuities, more particularly:
a. Retirement benefits received under RA
7641 and those received by officials and
employees of private firms, whether
individual or corporate, in accordance with a
26
reasonable private benefit plan maintained
by the employer provided:
24
It is considered as indemnity rather than income
25
They are instead subject to estate or gift taxes (see PIROVANO
VS. COMMISSIONER [JULY 31, 1965])
26
Reasonable private benefit plan means a pension, gratuity, stock
bonus or profit-sharing plan maintained by an employer for the
PIERRE MARTIN DE LEON REYES
i. that the retiring official or employee has
been in the service of the same employer
for at least ten (10) years and is not less
than fifty (50) years of age at the time of
his retirement
ii. That the benefits granted shall be availed
of by an official or employee only once.
b. Any amount received by an official or
employee or by his heirs from the
employer as a consequence of
separation of such official or employee
from the service of the employer because
of death sickness or other physical
disability or for any cause beyond the
control of the said official or employee.
c. The provisions of any existing law to the
contrary notwithstanding, social security
benefits, retirement gratuities,
pensions and other similar benefits
received by resident or non-resident
citizens of the Philippines or aliens who
come to reside permanently in the
Philippines from foreign government
agencies and other institutions, private or
public.
d. Payments of benefits due or to
become due to any person (residing in
the Philippines) under the laws of the
United States administered by the
United States Veterans Administration.
e. Benefits received from or enjoyed
under the Social Security System in
accordance with the provisions of
Republic Act No. 8282.
f. Benefits received from the GSIS under
Republic Act No. 8291, including
retirement gratuity received by
government officials and employees.
7. Miscellaneous items, likewise exempt,
including:
a. Income of foreign governments or
financing institutions owned, controlled or
enjoying refinancing from such foreign
benefit of some or all of his officials or employees, wherein
contributions are made by such employer for the officials or
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 benefit
of the said officials and employees.
12
 PM REYES NOTES ON TAXATION I:
INCOME TAX
governments and of international or
regional financial institutions established
by foreign governments from their
passive investments in the Philippines
b. Income of the Philippine government
and its political subdivisions derived
from public utilities or in the exercise of
essential governmental functions
c. Prizes and awards made primarily in
recognition of religious, charitable,
scientific, educational, artistic, literary or
civic achievement but only if:
i. The recipient was selected without
any action on his part to enter the
contest or proceedings; and
ii. The recipient is not required to
render substantial future services as
a condition to receiving the prize or
award
d. All prizes and wards granted to
Pacquiao is not exempt athletes in local and international sports
under this because his competitions whether held in the
“prizes” are contractual. Philippines or abroad.
e. Gross benefits received by officials
and employees of public and private
entities provided, however, that the total
exclusion shall not exceed P30,000
which shall cover: Bonuses
i. Benefits received by officials and
employees of the national and local
government pursuant to RA 6686
ii. Benefits received by employees
pursuant to PD 851
iii. Benefits received by officials and
employees not covered by PD 851
iv. Other benefits such as productivity
incentives and Christmas bonus
provided that the ceiling of P30,000
may be increased through the rules
and regulations issued by the
Secretary of Finance, upon
recommendation of the
Commissioner, after considering,
among others, the effect on the
same of the inflation rate at the end
of the taxable year.
f. GSIS, SSS, Medicare and Pag-ibig
Supported by RMC 27-2011 contributions and union dues of
individuals
g. Gains from the sale of bonds,
debentures or other certificate of
indebtedness with a maturity of more
than 5 years
h. Gains from the redemption of shares
of stock in a mutual fund company
PIERRE MARTIN DE LEON REYES
Also, under Section 33(C), NIRC, the following fringe
27
benefits are not taxable:
1. Fringe benefits authorized and exempted from
tax under special laws;
2. Contributions of the employer for the benefit of
the employee to retirement, insurance and
hospitalization plans;
3. Benefits given to rank and file employees,
whether granted under a CBA or not;
4. De minimis benefits.
Retirement benefits
Q15.1. What are the requirements to
exempt retirement benefits from
income tax?
For the retirement benefits to be exempt from income
tax, the taxpayer is burdened to prove the
concurrence of the following elements:
1. a reasonable private benefit plan is
maintained by the employer;
2. the retiring official or employee has been in
the service of the same employer for at least
ten (10) years;
3. the retiring official or employee is not less
than fifty (50) years of age at the time of his
retirement; and
4. the benefit had been availed of only once
5. The retirement plan must be submitted to
and approved by the BIR (see
INTERCONTINENTAL BROADCASTING
CORPORATION VS. AMARILLA [OCTOBER
29, 2006])
Q15.2. An employer maintains an
It was the trust employees’ trust to provide
company's decision toretirement, pension, disability
invest, NOT payee/ benefits to its employees. The
trust made investments and
employer
earned therefrom interest income.
Is it proper to subject the interest
income to withholding tax?
No. As held by the Supreme Court in CIR V. CA &
GCL RETIREMENT PLAN [M ARCH 23, 1992], said
retirement benefits received by officials and
27
Fringe benefits means any goods, service or other benefit
furnished or granted in cash or in kind by an employer to an
individual employee (except rank and file employees). This will
discussed more later.
13
 PM REYES NOTES ON TAXATION I:
INCOME TAX
employees of private firms in accordance with a
reasonable private benefit plan maintained by the
employer shall be exempt from all taxes
Q15.3. A government employee, retired
from service. Upon retirement, he
received, among other benefits,
terminal leave pay which the CIR
withheld a portion allegedly
representing income tax thereon.
Is terminal leave pay considered
part of gross income of the
recipient?
No. In COMMISSIONER OF INTERNAL REVENUE VS. CA &
EFREN CASTANEDA [OCTOBER 17, 1991], the Supreme
Court held that terminal leave pay received by a
government official or employee is not subject to
withholding (income) tax. The rationale behind the
employee’s   entitlement to an exemption from
withholding tax on his terminal leave is that
commutation of leave credits, more commonly known
as terminal leave, is applied for by an officer or
employee who retires, resigns or is separated from
the service through no fault of his own. In the
exercise of sound personnel policy, the Government
encourages unused leaves to be accumulated.
Terminal leave payments are given not only at the
same time but also for the same policy
considerations governing retirement benefits. In fine,
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
tax. (see RE: REQUEST OF ATTY. BERNANDINO
ZIALCITA [OCTOBER 18, 1990]).
Q15.4. Are contributions to SSS, GSIS,
PHIC and Pag-Ibig in excess of
the mandatory contributions
subject to income tax?
Yes. Previously, SSS, GSIS, PHIC and Pag-Ibig
contributions in excess of the mandatory
contributions were considered exempt from income
tax. However, because it was deemed to have been
abused and the excess contributions are being made
as a form of investment, RMC No. 027-11 [JULY 1,
2011] now considers the excess contributions as not
excludible from gross income and not exempt from
income and withholding tax.
PIERRE MARTIN DE LEON REYES
Income derived by foreign government
Q15.5. A domestic corporation entered
into a loan and sales contract with
a foreign corporation where the
latter shall extend a loan to the
former and the former shall sell to
the latter all copper concentrates
to be produced from the machine
to be purchased using the loaned
amount. The foreign corporation
applied for the loan from one of its
government financing institutions.
Is the interest income from the
loans automatically exempt from
withholding tax?
No. As held in CIR V. MITSUBISHI METAL
CORPORATION [JANUARY 22, 1990], the burden of
proof rests upon the party claiming an exemption to
prove that it is in fact covered by the exemption. In
the said case, the Supreme Court found that the
foreign government financing institution had nothing
to do with the sales and loans agreement. It is the
foreign corporation, not the foreign government
financing institution that is the sole creditor of the
domestic corporation.
De Minimis/PERA
Q15.6. What are de minimis benefits?
As defined by RR 3-98 [MAY 21, 1998], de minimis
benefits are benefits of relatively small value offered
or furnished by the employer to his/her employees as
a means of promoting the health, goodwill,
contentment, efficiency of his/her employees. These
benefits are exempt from the withholding tax on
compensation income, and consequently from
income tax, regardless of whether or not the
recipients of the benefits are managerial or rank-and-
file employees.
Q15.6.1. What are deemed de minimis
benefits?
As provided in RR No. 005-11 [March 16, 2011], as
amended recently by RR No. 008-12 [M AY 11, 2012],
the following shall be considered de minimis benefits
not subject to income tax as well as withholding tax
on compensation income of both managerial and
rank and file employees:
14
 PM REYES NOTES ON TAXATION I:
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1. Monetized unused vacation leave credits of Yes. As provided in RR No. 005-11 [March 16,
private employees not exceeding ten (10) days 2011], all other benefits given by employers which
28
during the year; are not included in the enumeration shall not be
2. Monetized value of vacation and sick leave considered de minimis benefits, and, hence, shall be
credits paid to government officials and subject to income tax as well as withholding tax on
29
employees; compensation income.
3. Medical cash allowance to dependents of
employees, not exceeding P750 per employee Q15.7. Is income earned by a contributor
30
per semester or P125 per month; from the investments and
4. Rice subsidy of P1,500 or one (1) sack of 50 kg. reinvestments of his Personal
rice per month amounting to not more than Equity and Retirement Act (PERA)
31
P1,500;
assets subject to income tax?
5. Uniform and clothing allowance not exceeding
32
P5,000 per annum; No. As provided in RR No 017-11 [OCTOBER 27,
6. Actual medical assistance, e.g. medical 2011], implementing the tax provisions of RA 9505,
allowance to cover medical and healthcare otherwise known as the Personal Equity and
needs, annual medical check-up, maternity Retirement Account (PERA) Act of 2008, investment
assistance, and routine consultations, not income of a contributor consisting of all income
33
exceeding P10,000 per annum; earned from the investments and reinvestments of
7. Laundry allowance not exceeding P300 per his PERA assets in the maximum amount allowed
34
month; shall be exempt from the following taxes as may be
8. Employees achievement awards, e.g. for length applicable:
of service or safety achievement, with an annual
35
monetary value not exceeding P10,000; 1. Final withholding tax on interest from any
9. Gifts given during Christmas and major currency bank deposit, yield or any other
anniversary celebrations not exceeding P5,000 monetary benefit from deposit substitutes and
36
per employee per annum; from trust funds and similar arrangements,
10. Daily meal allowance for overtime work and including a depository bank under the EFCDS;
night/graveyard shift not exceeding 25% of the 2. Capital gains tax on the sale, exchange,
37
basic minimum wage per region basis. retirement or maturity of bonds, debentures or
other certificates of indebtedness;
Q15.6.2. Is the enumeration of de 3. 10% tax on cash and/or property dividends
minimis benefits exclusive? actually or constructively received from a
domestic corporation, including a mutual fund
company;
4. Capital gains tax on the sale, barter, exchange,
28
This was included in RR 3-98 and in RR 8-00 [August 21, 2000] or other disposition of shares of stock in a
but referred to employees in general. RR No. 005-11 [March 16,
2011]  specifically  provided  “private”  employees.  
domestic corporation;
29
Introduced by RR 10-00 [December 14, 2000] 5. Regular income tax.
30
Provided under RR 3-98 and RR 8-00 [August 21, 2000]
31
Under RR 3-98, the amount was P350. RR 8-00 [August 21, General Principles
2000] increased this to P1,000 and added the alternative 1 sack of
50kg of rice. This was increased by RR 5-2008 [APRIL 17, 2008] to
P1,500. Q16. What are the general principles of
32
RR 3-98 did not provide for an amount. RR 8-00 [August 21, income taxation in the Philippines
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 (Section 23, Title II, NIRC)?
increased by RR No. 008-12 [MAY 11, 2012] to P5,000.
33
RR 3-98   simply   said   “medical   benefits”   with   no   corresponding   Except as otherwise provided in this Code, the
amount. RR 8-00 [August 21, 2000] provided the amount of general principles are:
P10,000 as the ceiling.
34
RR 3-98 provided for an amount of P150. RR 8-00 [August 21,
2000] increased it to P300. Resident taxable on all income derived
35
RR 3-98 provided for a ceiling of ½ month of the basic salary of Citizen from sources within and outside
the employee. RR 8-00 [August 21, 2000] changed the ceiling the Philippines
amount to P10,000.
36
RR 3-98 did not provide for a ceiling amount. RR 8-00 [August
Non-Resident taxable only on income derived
21, 2000] introduced the P5,000 ceiling. Citizen from sources within the
37
Introduced by RR 8-00 [August 21, 2000].
The Tax Credit is 5% of the tax due from you which is substracted. So if the
tax due from you (imposed on the net income) is 90k, and the tax credit rate
PIERRE MARTIN DE LEON REYES is 5%, then the tax due would only be 85k 15
 PM REYES NOTES ON TAXATION I:
INCOME TAX
Philippines Interests The source of an interest payment is
[By definition of a non-resident the place of residence of the person
citizen, this applies to an obligated to make that payment
overseas contract worker (a (residence-of-the-obligor rule).
citizen working and deriving
income from abroad)] It is income within the Philippines if
Alien Alien (whether taxable only on income derived the residence of the obligor is in the
whether resident or from sources within the Philippines.
engaged in non-resident) Philippines
trade and Domestic taxable on all income derived It is income without the Philippines if
business corporation from sources within and outside the residence of the obligor is
in the PH the Philippines abroad.
or not. Foreign taxable only on income derived
corporation from sources within the
Whether resident or Philippines Dividends Generally, a dividend has its source
non-resident foreign (This applies whether the foreign in the country where the corporation
corporation corporation is engaged or not in paying the dividend is incorporated.
trade or business in the
Philippines) Thus, if the dividend is received from
a domestic corporation, it is income
Simply put, only resident citizens and domestic within the Philippines. If the dividend
corporations are taxable on their worldwide income is from the foreign corporation, it is
while the other types of individual and corporate income without the Philippines.
taxpayers are taxable only on income derived from
sources within the Philippines. The exception to the general rule
that dividends paid by a foreign
Additionally, it must be noted that only a non- corporation are from sources without
resident alien not engaged in trade or business in the Philippines is when a foreign
the Philippines and non-resident foreign corporation derives 50 percent of its
corporations are taxed on gross income while all gross income from sources within
other types of taxpayers are subject to tax on net the Philippines for a three-year
income (i.e. may claim deductions). period ending with the close of its
taxable year preceding the
Source of Income Rules38 declaration of its dividends

Services Income from services is sourced in

You need to Q17. What  is  meant  by  “source  of  income”? the country where the services are
first know performed.
what type The source of an income is the property, activity or
of income service that produced the income. It is the physical Thus, it is income within the
you have, source where the income came from. (see CIR VS. Philippines if the service is
then the BAIER-NICKEL [AUGUST 29, 2006]). performed in the Philippines. It is
source and income without the Philippines if it is
whether it performed abroad.
would be Q18. What are the source of income rules in
taxable in the Philippines? (Section 42, Title II,
the PH or NIRC) Rents and The rental income and royalty
not. Royalties income derived from the use of
Royalties — property has its source in the
income from country where the property is used.
38
For the source of income rules, my reference IS MICHAEL J. intangible prop.
MCINTYRE, INTERNATIONAL TAX: TEXT, CASES, PROBLEMS, AND For tangible property, the place of
QUESTIONS (2013). Most, if not all, of our tax books fail to Rents — use is the place where the tangible
sufficiently explain source of income rules and, thus, recourse to a
foreign material is warranted. The rules are applicable as they are
income from property is actually located.
based on the US Tax Code, of which our own tax laws are tangible prop.
modeled after.

PIERRE MARTIN DE LEON REYES 16

 PM REYES NOTES ON TAXATION I:
INCOME TAX
Thus, it is income within the Q18.1. In CIR v. MARUBENI [DECEMBER 18,
Philippines if rents and royalties are 2001], assuming that Marubeni
derived from property located in the was disqualified from availing of
Philippines the income tax amnesty, would the
Royalties — you income from the services rendered
pay depending For intangible property, the country
of use is the country that protects
in connection with the turn-key
on where the projects constitute as income from
capital in used. the owner of that property against its
unauthorized use by other Philippine sources?
So if you use 39
the intellectual persons.
The answer is both yes and no. The answer is yes
property with regard to those services performed in the
(construct the Thus, it is income within the
Philippines. The answer is, however, no with regard
design) here, Philippines if it is used in the
to those services rendered in Japan. Such services
then you have Philippines and the unauthorized
were rendered outside the taxing jurisdiction and thus
to pay taxes use of such intangible property is
here. constitute as income without the Philippines.
protected by Philippine law.
Marubeni, being a foreign corporation, is taxable only
Sale of Income from the sale of real
on income within the Philippines and, hence, income
Real property is sourced in the country
from services rendered in the Philippines.
Property where the real property is located.

Thus, it is income within the Q18.2. ABC Airways is a foreign airline.41

Philippines if the real property is While it did not carry passengers
located in the Philippines. It is and/or cargo to or from the
income without if the real property is Philippines, ABC maintains a
located abroad. general sales agent of its tickets in
Sale of The income from the sale of the Philippines. Is the sale of the
Personal personal property has its source in tickets taxable as income from
Property the country where the personal sources within the Philippines?
40
The execution/ property is sold.
signing of the
contract is Thus, if the personal property is sold Yes. For the source of income to be considered as
insignificant to in the Philippines, it is income within coming from the Philippines, it is sufficient that the
determining the Philippines. If sold abroad, it is income is derived from activity within the Philippines.
where the sale income without the Philippines. In  ABC’s  case,  the  sale  of  tickets  in  the  Philippines is
of the property the activity that produces the income. The tickets
would be taxed. Note that gains from sale of shares exchanged hands here in the country and the
of stock of a domestic corporation payments for fares were also made with Philippine
are treated as derived entirely from currency. The site of the source of payments is the
sources within the Philippines Philippines. The absence of flight operations to and
regardless of where the said shares from the Philippines is not determinative of the
are sold. source of income/site of income taxation for the test
of   taxability   is   the   “source.”   (see   CIR VS. JAPAN
AIRLINES [MARCH 6, 1991]; CIR VS. BOAC [APRIL 30,
1987])

Q18.3. XYZ entered into reinsurance

contracts with foreign insurance
companies not doing business in

41
It is a resident foreign corporation. In order that a foreign
corporation may be regarded as doing business within a State,
there must be continuity of conduct and intention to establish a
39
This is the generally accepted rule. continuous business, such as the appointment of a local agent,
40
In the US, the rule is that income from sale of personal property and not one of a temporary character. ABC maintained a general
is sourced in the country where the seller is resident (residence- sales agent and it was engaged in selling or issuing tickets, which
of-the-seller rule) is considered the main lifeblood of an airline.

PIERRE MARTIN DE LEON REYES 17

 PM REYES NOTES ON TAXATION I:
INCOME TAX
the Philippines. XYZ was to cede
portions of premiums underwritten
in the Philippines to the foreign
corporations in consideration for
the assumption of risk. Is the
cession of the premiums taxable
as income from sources within the
Philippines?
Yes.   “Sources”   means   the   activity,   property,   or  
service giving rise to the income. The original
insurance undertakings took place in the Philippines.
It is not required that the foreign corporation be
engaged in business in the Philippines. What is
controlling is no the place of business, but the place
of activity that created the income. Thus, the income
is subject to income tax. (see PHILIPPINE GUARANTY V.
CIR [APRIL 30, 1965] and HOWDEN & CO. V. CIR
[APRIL 14, 1965]).
Q18.4. ABC, a domestic corporation,
entered   into   a   “Management   CIR VS. BAIER-NICKEL [AUGUST 29, 2006])
Service   Agreement”   with   XYZ,   a  
non-resident foreign corporation
under which the latter shall
provide   services   for   ABC’s   US   in North Dakota but it has a the corp has
branch   and   advice   on   ABC’s   licensed
corporate structure, all performed
abroad. Is the compensation for
services taxable as income from
sources within the Philippines?
Yes. The services covered by the management
service agreement fall under the meaning of
royalties. It is immaterial if the non-resident foreign
corporation has no properties in the Philippines. The
test of taxability is the source and the source of an
income is that activity which produced the income. It
is not the presence of any property from which one
derives rentals and royalties that is controlling, but
42
rather as expressed under the expanded meaning of
royalties,   it   includes   “royalties   for   the   supply   of   DEPARTMENT OF REVENUE OF ILLINOIS [386 US 753]
scientific, technical, industrial, or commercial,
knowledge or information; and the technical advice,
assistance or services rendered in connection with
the technical management and administration of any
scientific, industrial or commercial undertaking,
venture, project or scheme. (see PHILAMLIFE V. CTA
[CA-GR SP. NO. 31283, APRIL 25, 1995]).
Philamlife
42
discusses the difference between royalties and services.
This confirms the acceptance of the Philippine taxing jurisdiction
of the rule that as to intangible property, the country of use is the
country that protects the owner of that property against its
unauthorized use by other persons.
PIERRE MARTIN DE LEON REYES
Q18.5. A, a non-resident citizen, was
engaged by a domestic
corporation as a commission
agent. A will receive a sales
commission on all sales actually
concluded. A argues that the
income is not taxable as A does
not reside in the Philippines and
that the place of payment of the
income is outside the Philippines.
Is  A’s  contention correct?
No. The source of an income is the property,What she
activity or service that produced the income. With failed to do
respect of rendition of labor or personal service,was prove
as in the instant case, it is the place where thethat the sale
labor or service is performed that determines thewas
source of income. There  is  therefore  no  merit  in  A’s  consummated
interpretation which equates source of income inin Germany
labor or personal service with the residence of the
payor or the place of payment of the income. (see
43
Q18.6. Quill Corp is an office supply Even in PH
retailer with no physical presence tax treaties,
computer software to have
program that its customers in physical
North Dakota use for checking presence to
be taxable by
Quill’s   current   inventories   and   for  the locality.
placing orders directly. North
Dakota attempted to impose a
“use   tax”44 on Quill. Is Quill liable
for the tax?
Yes. In QUILL CORP V. NORTH DAKOTA [504 US 298,
M AY 26, 1992], the US Supreme Court ruled that
there must be physical presence in a state for the
corporation to be liable for sales and use taxes. It
applied its ruling in NATIONAL BELLAS HESS V.
where it held that a seller whose only connection with
customers in the State is by common carrier or the
mail lacked the requisite minimum contacts with the
43
Note that in this case, Baier-Nickel argued that the services were
done in Germany. However, she failed to prove hat such was the
fact. Thus, the services were deemed performed in the Philippines,
and, as such, is subject to income tax.
44
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
of goods in that state (not for resale), regardless of where the
purchase took place.
18
 PM REYES NOTES ON TAXATION I:
INCOME TAX
State. Thus, such vendors are free from state- indirectly through transfer of capital assets situated in
48
imposed duties to collect sales and use taxes. India shall be deemed to accrue or arise in India.
Nevertheless, the US Supreme Court opined that if The Supreme Court stated that the section clearly
interstate commerce would be subject to intolerable applied to a transfer of capital asset situated in India
or undesirable burdens because of this, Congress and could not be expanded to cover indirect transfers
has the power to legislate make such vendors liable of capital assets or property situated in India. The
45
for sales and use taxes. words   “directly   or   indirectly”   go   with   the   income   and  
49
not with the transfer of a capital asset.
Q18.7. Vodafone International Holdings
(VIH), a corporation in the Q18.8. Is the gross income of branches of
What has to be the
subject is the stocks of the Netherlands, acquired a foreign corporations generated
company and not the controlling interest of CGP from solicitation of orders from
company itself. holdings, a company in the local importers where the
Cayman Islands. By virtue of this branches merely relay to its head
controlling interest, VIH acquired a office abroad said purchase orders
52% stake in Hutchinson Essar and where the head office is the
Limited (HEL)46 in India from entity which actually
Hutchinson Telecom International consummates the sale liable for
Limited (HTIL). Simply stated, VIH income tax?
acquired control over CGP and its
Yes. By virtue of RAMO No. 1-86 [April 25, 1986],
subsidiaries, including HEL. The
an income tax is imposed on the gross income
Indian tax authorities contended generated   from   “constructive”   trading   and  
that the transfer of shares was commission income derived from brokering activities
subject to income tax. VIH argues of Philippine branches of foreign corporations
that the transfer of shares took engaged in trading activities. RAMO No. 01-95
place outside the Indian taxing [March 21, 1995] expanded RAMO No. 1-86 to cover
jurisdiction, and, hence, is not taxation of Philippine branches of foreign
taxable. Which contention is corporations engaged in soliciting orders, purchases,
correct? service contracts, trading, construction and other
activities.
The contention of VIH was held to be correct. In
VODAFONE INTERNATIONAL HOLDINGS B.V. V. UNION OF Q18.9. ABC, a multinational company,
INDIA (SUPREME COURT OF INDIA, CIVIL APPEAL NO. claimed as deduction from gross
47
733 OF 2012, JANUARY 20, 2012), the Indian income its share of the overhead
Supreme Court ruled that VIH had no liability to expenses of its foreign head
withhold tax as the transaction was between two non- office. Can these overhead
residents with no taxable presence in India. Under expenses of the foreign head
Section 9(1) of the Income Tax Act of India, all office be deducted from the gross
income accruing or arising, whether directly or
income of the Philippine branch?
45
Note that, as of this updated version, the BIR plans to impose a It depends. Either it can be deducted in full or partly.
sales tax on online retailers in the opinion that such sellers are no Where an expense is clearly related to the production
different from merchants who sell their goods in physical stores. A of Philippine-derived income or to Philippine
RR on the matter is forthcoming.
46
HEL was an Indian joint venture between HTIL, a corporation in operations (e.g. salaries of Philippine personnel,
Hong Kong, and Essar, an Indian corporation.
47 48
It is also important to note, that in this case, the Indian Supreme The   Indian   taxing   authorities   argued   that   this   was   a   “look-
Court stated that, on the context of taxation of a holding company through  provision”  a  “look  through”  provision  so  that  if  there  was  a  
structure, the corporate veil may be lifted only if it is established transfer, of a capital asset, situated in India, it meant income from
that the transaction was a sham or there was abuse. In this case, capital gains accruing or arising outside India would be fictionally
the shares of CGP were transferred only for a commercial benefit deemed to accrue or arise in India.
49
and not with the object of tax evasion. The structure was in The Indian Supreme Court also noted that the existence of the
existence over a decade, it was not created or used as an Direct Tax Code Bill of 2010 which expressly stated that income
instrument for tax avoidance, VIH was not a short-time investor accuring even from indirect transfer of capital assets situated in
and it did not introduce any new practice to grant itself a India would be deemed to accrue in India but this is not yet in
“controlling  interest.” force.

PIERRE MARTIN DE LEON REYES 19

 PM REYES NOTES ON TAXATION I:
INCOME TAX 3. Individual earning compensation income (exception subsection M)
rental of office building in the Philippines), that
expense can be deducted from the gross income
acquired in the Philippines without resorting to
apportionment. However, where there are items
included in the overhead expenses incurred by the
parent company, all of which cannot be definitely
allocated or identified with the operations of the
Philippine branch, the company may claim as its
deductible share a ratable part of such expenses
based upon the ratio of the local branch's gross
income to the total gross income, worldwide, of the
multinational corporation. (see COMMISSIONER VS.
CTA & SMITH KLINE [JANUARY 17, 1984]; see also
RAMO 4-86 [April 5, 1986])
Deductions
Q19. What are the kinds of deductions?
1. Deductions from compensation income –
refers to the personal and additional exemptions
in Section 35, NIRC and premium payments on
health and/or hospitalization insurance which are
allowed to be deducted by an individual taxpayer
who receives income for personal services
rendered under an employer-employee
relationship
2. Deductions from business and/or
professional income – refers to the itemized
deductions in Section 34 (A) to (M) including
those deductible from compensation income,
which a self-employed individual or professional
engaged in the practice of a profession may
deduct.
3. Deductions from corporate income – refers to
the itemized deductions in Section 34 (A) to (J)
which corporations (including partnerships other
than GPPs) engaged in trade or business are
authorized to claim
4. Special deductions – refer to the deductions
allowed in addition to the itemized deductions
allowable to corporations which may be availed
of by insurance companies and proprietary
educational institutions and non-profit hospitals
as well as estates and trusts.
Q19.1. Who can avail of the deductions
provided for under the law?
All taxpayers except:
Outright expense v. Capitalized expense: BOTTOMLINE IS BENEFIT
— capitalized expenses may be spread out (e.g. adding a new floor, R&D). These
are when the expenses will benefit the whole company in the long run beyond the
current tax period.
— outright expense
PIERRErequires
MARTIN thatDyou creditRthe
E LEON expense the year it was spent. (e.g.
EYES
repairs and maintenance)
4. Resident citizen who opted OSD (Sec.34, par.1)
1. Nonresident aliens not engaged in trade or
business; and
2. Nonresident foreign corporations or those
corporations not engaged in trade or business in
the Philippines
With respect to the itemized deductions, they cannot
be availed by citizens and resident aliens whose
income is purely compensation income from which
only the personal and additional exemptions and
premium payments on health and hospitalization
insurance are deductible.
Sections 34 and 35, Tax Code
Q20. What are the allowable and itemized
deductions under the Tax Code?
The allowable and itemized deductions include:
1. Business Expenses (Expenses in connection
with  taxpayer’s  trade,  business  or  profession)
2. Interest on Indebtedness
3. Taxes in   connection   with   taxpayer’s  
business, trade or profession [except income
taxes,   estate   and   donor’s   taxes,   special  
assessments, and foreign income taxes
(unless the taxpayer does not make use of
the tax credit privilege)]
4. Losses
5. Bad debts
6. Depreciation
7. Depletion
8. Charitable and other contributions
9. Research and development expenditures
10. Contributions to pension trusts
Business expenses
Q21. What are the requisites for deductibility
of business expenses?50
The requisites are:
1. The expense must be ordinary and
necessary
2. Paid or incurred during the taxable year
3. In carrying on the trade or business of the
taxpayer
4. Reasonable in amount
5. Substantiated by sufficient evidence
“Substantiated” —
— What if the income to be taxed comes from a drug cartel
50
This is the general rule which is to be followed for all business
expenses. The enumeration provided in certain business expenses
provide for additional requisites.
“Reasonable” (Kuezle & Aguinaldo) — if the amount was indicative of being a
dividend, then it is not deductible. Another form (deductible) is if the amount
was compensation, but this is hard to defend if the 20 amount is too huge
or bloated. This veil of reasonableness is to protect the government from tax
evasion by the taxpayer who may shift all income to the income tax-exempt
entitty. (p.24)
 Expenses: Not necessary — would never be deductible.
Extraordinary — may be capitalized (deductible but spread through a period of time) from a case to case basis.
Usually these are necessary on top of being extraordinary.
(Re: #7) As to withholding tax, the tax must PM REYES NOTES ON TAXATION I:
be withheld first before it can be deducted
because there is a presumption that if such INCOME TAX
was not withheld, another taxing jurisdiction
is claiming it. 6. Must not be against law, morals, public 3. Reasonable allowance for rentals and or
Ex: VP of policy, or public order other payments required for the continued
the corp. 7. Must be paid to the BIR use or premium of the property for the
borrowed Q21.1. What is meant by ordinary and purpose of the trade or business and to
money from necessary expenses? which property the taxpayer has not taken or
the is not taking title or in which he has no
51
employees. An expense is 'ordinary' when it connotes a equity.
The VP payment which is normal in relation to the business of 4. Reasonable allowance for entertainment,
died, so the the taxpayer and the surrounding circumstances. amusement and recreation expenses
P took Ex: Pet shop incident where the snake bit the client — necessary provided that they are connected to the
company An expense will be considered 'necessary' where development and operation of the trade,
funds to the expenditure is appropriate and helpful in the business or profession and that it is not
repay the development of the taxpayer's business contrary to law, morals, public policy or public
debts. This Ex: insuring the president is not related to the business. order.
is an extra-
Q21.2. What  is  meant  by  “paid  or  incurred  
ordinary Q21.4. Is the enumeration of business
expense, but during  the  taxable  year?”
expenses provided in the Tax
not
deductible. Paid or incurred during the taxable year means that Code exclusive?
Rather, it the deduction shall be taken for the taxable year in
was which paid or accrued or paid or incurred dependent No. A taxpayer is entitled to deduct the ordinary and
capitalized. on the accounting method in which net income is necessary expenses paid in carrying on his business
computed from his gross income from whatever source.

Q21.2.1. ABC Corp failed to claim Q21.4.1. Name some special laws
expenses for professional which provide for deductible
services that accrued in past business expenses.
years. May ABC Corp still
claim these expenses as 1. Republic Act 10028 (Expanded Breastfeeding
deductions? Promotion Act)

No. In COMMISSIONER OF INTERNAL REVENUE VS.
ISABELA CULTURAL CORPORATION (FEBRUARY 12,
2007), Isabela Corp failed to claim the expenses for
professional services that accrued in 1984 and 1985
during the said years. Instead, it sought to claim them
as deductions during the taxable year of 1986. The
Supreme Court held that one of the requisites for the
deductibility of a business expenses is that it must
have been paid or incurred during the taxable year.
Hence, the professional fees should have been
claimed as deductions during the years where they
were paid or incurred.
Q21.3. What are the types of business
expenses specifically included in
the Tax Code as deductions?
As provided in Section 34(A)(1)(a), these are:
Donations to
Yolanda are 1. Reasonable allowance for salaries or other
compensation for personal services
deductible
actually rendered to the taxpayer
2. Reasonable allowance for travel expenses
in the pursuit of trade, business or profession
PIERRE MARTIN DE LEON REYES
The law provides that the expenses incurred by a
private health and non-health facility, establishment
or institution, in complying with the provisions of this
Act, shall be deductible expenses for income tax
purposes up to twice the actual amount incurred
provided:
1. That the deduction shall apply for the taxable
period when the expenses were incurred
2. That all health and non-health facilities,
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
Bureau of Internal Revenue, before they can
avail of the incentive.
2. Republic Act 8502 (Jewelry Industry
Development Act)
51
In the latter case, he may claim depreciation allowance
US deductible — housing amortization is deductible
whereas, such is not deductible in the Philippines.
21
 PM REYES NOTES ON TAXATION I:
INCOME TAX
The law provides for a deduction from taxable 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 the expenses
were incurred.
3. Republic Act 8525 (Adopt a school act)
The law provides for a deduction from the gross
income equivalent to fifty percent (50%) of expenses
incurred in connection with the said act.
4. Republic Act 9999 (Free Legal Assistance Act)
The law provides that a lawyer or professional
partnerships rendering actual free legal services, as
defined by the Supreme Court, shall be entitled to an
allowable deduction from the gross income, the
amount that could have been collected for the actual
free legal services rendered or up to ten percent
(10%) of the gross income derived from the actual
performance of the legal profession, whichever is
lower
Q21.4.2. Name some revenue
regulations implementing
special laws which provide for
deductible business expenses.
1. RR 1-2009 [December 9, 2008]
The RR provides that sales discounts given to
persons with disabilities shall be deductible from
gross income subject to certain conditions.
2. RR 7-2010 [July 20, 2010]
The RR provides that discounts given to senior
citizens on certain goods and services shall be
deductible from gross income. Also, private
establishments employing senior citizens shall be
entitled to additional deductions from gross income
equivalent to fifteen (15%) of the total amount paid as
salaries and wages to senior citizens.
Q21.4.3. Are   “advertising   expenses”   Q21.4.5.
deductible from gross
income?
It depends on the nature of the advertising expense.
In COMMISSIONER OF INTERNAL REVENUE VS. GENERAL
FOODS (PHILS.) INC. [APRIL 24, 2003], General Foods
claimed as deductions its advertising expenses for its
product   “Tang.”   The   CIR   disallowed   the   deduction   capital in nature and not deductible.
PIERRE MARTIN DE LEON REYES
arguing that the advertising expenses are not
business expenses but capital expenditures.
The Supreme Court ruled in favor of the CIR.
Advertising is generally of two kinds: (1) advertising
to stimulate the current sale of merchandise or use of
services and (2) advertising designed to stimulate
the future sale of merchandise or use of services.
The second type involves expenditures incurred, in
whole or in part, to create or maintain some form of
goodwill   for   the   taxpayer’s   trade   or   business   or   for  
the industry or profession of which the taxpayer is a
member. If the expenditures are for the advertising of
the first kind, then, except as to the question of the
reasonableness of amount, there is no doubt such
expenditures are deductible as business expenses.
If, however, the expenditures are for advertising of
the second kind, then normally they should be spread
out over a reasonable period of time The protection
of brand franchise is analogous to the maintenance
of  goodwill  or  title  to  one’s  property.  This  is  a  capital  
expenditure which should be spread out over a
reasonable period of time. This was akin to the
acquisition of capital assets and therefore expenses
related thereto were not to be considered as
business expenses but as capital expenditures. The
advertising expense incurred by General Foods fall
under the second type.
Q21.4.4. ABC Corporation paid a PR
firm to campaign for the sale
of   ABC’s   additional   capital  
stock. Is the compensation
paid to the PR firm deductible
as a business expense?
No. In ATLAS CONSOLIDATED MINING & DEVELOPMENT
CORPORATION VS. COMMISSIONER OF INTERNAL
REVENUE (JANUARY 27, 1981), the Supreme Court
held that this is not deductible because it is a capital
expenditure. Expenses relating to the recapitalization
and reorganization of the corporation, promotion
expenses and commission or fees for the sale of
stock reorganization are capital expenditures.
Are litigation expenses
deductible as a business
expense?
No. As held in ATLAS CONSOLIDATED MINING &
DEVELOPMENT CORPORATION VS. COMMISSIONER OF
INTERNAL REVENUE (JANUARY 27, 1981), litigation
expenses incurred in defense or protection of title are
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Q21.4.6. A, a hotel owner, claimed as
REPRESENTATION EXPENSE: deduction promotion
— a deductible expense on the part expenses incurred by his wife
of the employer. But it is not for the promotion of the hotel.
considered as income on the part of Half of the said expenses were
the employee. disallowed as deductions
— In representation expense, there
because on the finding that his
must be some benefit to the
wife went abroad on a
business of the taxpayer (e.g. dining
out of office guests/clients). combined business and
— v. Fringe Benefits — deductible medical trip. Is the
expense and income. disallowance proper?
Yes. In ZAMORA VS. COLLECTOR OF INTERNAL
REVENUE [MAY 31, 1963], Zamora, a hotel owner,
claimed as deduction promotion expenses incurred
by his wife for the promotion of the hotel. On appeal,
the CTA only allowed 50% of the promotional
expenses as deductions because it was found in the
Central Bank dollar allocation that his wife went
abroad on a combined business and medical trip.
The Supreme Court stated that promotional
expenses are deductible but must be substantiated.
When some of the representation expenses claimed
by the taxpayer were evidenced by vouchers or chits,
but others were without vouchers or chits, documents
or supporting papers; that there is no more than oral
proof to the effect that payments have been made for
representation expenses allegedly made by the
taxpayer and about the general nature of such
alleged expenses; that accordingly, it is not possible
to determine the actual amount covered by
supporting papers and the amount without supporting
papers, the court should determine from all available
data, the amount properly deductible
representation expenses. In view of this, the
Supreme Court held CTA did not commit error in
allowing   as   promotion   expenses   in   A’s   income   tax   at total of P185,000 which   is   double   the   company’s
returns at merely one-half.
Q21.4.7. Are police protection fees and
gifts for an exhibition for
charitable purposes
deductible as a business
expense?
No. In CALANOC VS. COLLECTOR OF INTERNAL
REVENUE [NOVEMBER 29, 1961], at issue in this case
is the deductibility of the expenses incurred for police
protection and for gifts and parties in connection with
the boxing and wrestling exhibition that Calanoc
financed and promoted whose proceeds would be
given to the orphans and destitute children of the
Child Welfare Workers Club of the Social Welfare
PIERRE MARTIN DE LEON REYES
Commission. The Supreme Court held that the police
protection fees were not deductible as they are illegal
since it was consideration for the performance of
functions required of policemen by law. As to the gifts
and parties, they were deemed excessive
considering that the purpose of the exhibition was for
a charitable cause.
Q21.5. What is the rule on the
deductibility of compensation
payments?
The test of deductibility in the case of compensation
payments is whether they are reasonable and
payments purely for the personal services actually
rendered.
Q21.5.1. A, an experience realtor, was
paid supervision fees in the
amount of P100,000 annually
by XYZ Corporation for a
three-year project, an amount
when combined with his salary
and bonuses is double the
XYZ’s   income.   Are   the  
supervision fees deductible?
No. In C.M. HOSKINS & CO., INC. VS. COMMISSIONER OF
INTERNAL REVENUE [NOVEMBER 28, 1969], Hoskins &
Co. claimed as deductions the payment of P100,000
to its founder and controlling stockholder, Hoskins
representing 50% of the 8% supervision fees the
company received as managing agent for Paradise
Farms. In this case, the Supreme Court held that
as such was not deductible for failing to pass the
reasonableness test. If allowed, Hoskin would be
receiving on his salary, bonus, and supervision fees
 
reported net income. The Supreme Court stated that
if it was a one-time payment, it could have been
deducted since Hoskin was an experienced realtor.
However, the P100,000 supervision fee was being
paid every year (for three years) for the entire
duration   of   the   company’s   project   with   Paradise  
Farms.
Q21.6. Are salaries deductible?
Yes provided that they comply with the following
requisites:
1. The expense must be both ordinary and
necessary
2. The salaries must be paid or incurred within
the taxable year
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3. The salaries must be incurred in carrying on
a trade or business
4. The salaries must be for personal services
actually rendered
5. The salaries must be reasonable in amount.
Q21.7. Are bonuses to employees
allowable deductions from gross
income?
Yes provided that:
1. They are made in good faith
2. They are given for personal services actually
rendered
3. They do not exceed a reasonable
compensation for the services rendered
when added to the stipulated salaries.
Q21.7.1. Can a bonus given to
corporate officers be deducted
from gross income from the
sale of one of its properties on
the representation that
corporate officers, by virtue of
their positions, contributed to
the consummation of the sale?
No. In AGUINALDO INDUSTRIES CORPORATION VS.
COMMISSIONER OF INTERNAL REVENUE [FEBRUARY 25,
1982], Aguinaldo Industries sought to claim as
deductions the bonuses given to its corporate officers
from the sale of one of its properties.The Supreme
Court held that the said bonuses cannot be deducted
because there is no evidence that the said officers
did any work which would be the basis of the grant of
the bonuses. One of the requisites for the
deductibility of bonuses is that they are given for
personal services actually rendered.
Q21.7.2. ABC Corporation claimed as
deductions bonuses it gave to
its non-resident president and
vice-president and the
bonuses it gave to its resident
officers and employees. The
company gave its resident
officers and employees much
more. The deductions for
bonuses given to resident
officers and employees were
disallowed for being excessive
and for no special reason. Is
the disallowance proper?
PIERRE MARTIN DE LEON REYES
It would depend on the nature, extent, and quality of
the services actually rendered by the resident officers
and employees. In KUENZLE & STREIFF, INC. VS.
COLLECTOR OF INTERNAL REVENUE [OCTOBER 20,
1959], the Supreme Court held that the bonuses to
its resident officers and employees were reasonable
taking into account the situation at the time when the
services were rendered: unsettling conditions after
the war, the imposition of controls on exports and
imports, and he use of foreign exchange which
resulted in diminution of the amount of business.
Q21.8. What are some factors that may be
considered in determining the
reasonableness of the
compensation paid for services?
They are:
1. The payment must be made in good faith
2. The  character  of  the  taxpayer’s  business
3. The volume and amount of its net earnings
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
7. The size of the particular business
8. The   employee’s   qualifications   and   business  
venture
9. The general economic conditions
There is no fixed test in determining the
reasonableness of a given bonus as compensation.
This depends on many factors and the situation must
be considered as a whole.
Q21.9. What is the rule on the
deductibility of representation or
entertainment, amusement and
recreation expenses?
Such expenses must:
1. be directly related to or in furtherance of the
conduct of the trade, business or exercise of
the profession
2. not be contrary to law, morals, public policy
or public order
3. not exceed such ceilings prescribed by the
Secretary of Finance.
Q21.9.1. Is there a ceiling on
entertainment, amusement
and recreational expenses?
Yes. RR 10-2002 [JULY 10, 2002] provides that
sellers of goods or properties are allowed to deduct
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0.5% of their net sales as representation expenses
while sellers of services are granted 1% of their net
revenues as representation expenses. However,
when supporting documents reflect a lower amount,
then such lower amount shall be used.
Interest (as amended by Republic Act 9337)
Q22. How is interest defined under the Tax
Code?
Interest shall refer to the payment for the use or
forbearance or detention of money, regardless of the
name it is called or denominated. It includes the
amount   paid   for   the   borrower’s   use   of   money   during   1. the interest payment arrangement must not be
the term of the loan, as well as for his detention of
money after the due date for its repayment.
Q23. What is indebtedness?
Indebtedness is something owned by one who is
unconditionally obligated or bound to pay
Q24. What are the requisites for the
deductibility of interest expenses from
gross income?
The requisites are:
Loan agreement 1. There must be indebtedness
provides an 2. The indebtedness must be connected with
interest between
the  taxpayer’s  trade,  business  or  exercise of
X and Y (corps).
Is the interest profession
deductible? 3. The interest must be legally due
Depends. If X 4. The interest expense must have been paid or
and Y are incurred during the taxable year.
individuals, it is 5. The interest must have been stipulated in
deductible. writing
Lender has to be + (6) not related parties and (7) interest arbitrage
an individual and Q24.1. Do tax obligations constitute
must own at indebtedness?
least 50% of the
entities. Yes. In COMMISSIONER OF INTERNAL REVENUE VS. VDA.
DE PRIETO [SEPTEMBER 30, 1960], Vda. de Prieto
conveyed real property by way of gifts to her four
children.   She   was   assessed   for   donor’s   gift   taxes   deductible from gross income) are:
including interests due thereon. She claimed as
deduction the total interest on account of the
delinquency. She contends that the interests due
from her tax obligations are deductible from gross
income.
The Supreme Court held that although interest
payment for delinquent taxes is not deductible as tax
under Section 34(C) of the Tax Code, the taxpayer is
PIERRE MARTIN DE LEON REYES
not precluded thereby from claiming said interest
payment as deduction under Section 34(B) of the
same Code. It is a well-settled rule that tax
obligations constitute indebtedness for purposes of
deduction from gross income of the amount of
interest paid on indebtedness.
Q24.2. Are there any additional
requisites provided for revenue
regulations for the deductibility
of interest expenses?
Yes. RR 13-2000 [NOVEMBER 20, 2000] provides
three more, namely:
between related taxpayers
2. the interest must not be incurred to finance
petroleum operations
3. in case of interest incurred to acquire property
used in trade, business, or exercise of profession, the
same was not treated as a capital expenditure
The RR also provides for a limitation in that the
amount of interest expense paid or incurred by a
taxpayer in connection with his trade, business, or
exercise of a profession from an existing
indebtedness shall be reduced by an amount equal to
38% of the interest income earned which had been
52
subject to final withholding taxes.
Q24.3. What are the rules on the
deductibility of Interest
expenses?
The general rule is that the amount of interest
expense paid or incurred within a taxable year on
indebtedness in connection  with  the  taxpayer’s  trade,  
business or exercise of profession shall be allowed
as   a   deduction   from   the   taxpayer’s   gross   income  
provided that   the   taxpayer’s   otherwise   allowable  
deduction for interest expense shall be reduced by
38% of the interest income subject to final tax.
The exceptions (where interest expense is not
1. If within the taxable year an individual
reporting income on the cash basis incurs an
indebtedness on which an interest is paid in
advance through discount or otherwise.
Such interest shall be allowed as a deduction
in the year the indebtedness is paid. If the
52
This will be further discussed under tax arbitrage.
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indebtedness is payable in periodic
amortization, the amount of interest which
corresponds to the amount of the principal
amortized or paid during the year shall be
allowed as deduction in such taxable year.
2. If both the taxpayer and the person to whom
the payment has been made or is to be made
are “related”   persons specified under
Section 36(B).
3. If the indebtedness is used to finance
petroleum exploration.
Q24.4.1. Enumerate the cases when no
deduction is allowed because
the loan is between related
taxpayers.
1. Between members of the family
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
individual
3. Between two corporations – where one
corporation owns more than 50% of the
53
other
4. Between a grantor and fiduciary of a trust
5. Between the fiduciary of a trust and the
fiduciary of another trust with the same
grantor
6. Between a fiduciary of a trust and a
beneficiary of such trust
Q25. May the taxpayer choose to treat
interest expense as capital
expenditure?
Yes. Section 34(B)(3) provides that at the option of
the taxpayer, interest incurred to acquire property
used in trade, business or exercise of a profession
may be allowed as a deduction or treated as a capital
expenditure.
However, should the taxpayer elect to deduct the
interest payments against its gross income, the
taxpayer cannot at the same time capitalize the
interest payments because that would constitute
double tax benefits which is not authorized by law
53
The case of a parent company-subsidiary loan will not be
disallowed because it does not refer to a case of a commonly-
owned entity (commonly owned at 50%) but one where one entity
owns the other.
PIERRE MARTIN DE LEON REYES
In PAPER INDUSTRIES CORPORATION OF THE
PHILIPPINES VS. COURT OF APPEALS [DECEMBER
1, 1995], Paper Industries claimed as deductions
against gross income interest payments on loans for
the purchase of machinery and equipment. The CIR
disallowed the deduction on the ground that because
the loans had been incurred for the purchase of
machinery and equipment, the interest 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 cost plus interest
charges) over the useful life of such assets.
The Supreme Court ruled that Paper Industries is
entitled to its claimed deduction for interest payments
on loans for, among other things, the purchase of
machinery and equipment. The general rule is that
interest expenses are deductible against gross
income and this certainly includes interest paid under
loans incurred in connection with the carrying on of
the business of the taxpayer. In this case, the CIR
does not dispute that the interest payments were
made on loans incurred in connection with the
carrying on of the registered operations of Paper
Industries, i.e., the financing of the purchase of
machinery and equipment actually used in the
registered operations of Paper Industries. Neither
does the CIR deny that such interest payments
were legally due and demandable under the terms of
such loans, and in fact paid by Paper Indusries
during the tax year. The CIR has been unable to
point to any provision of the Tax Code or any other
Statute that requires the disallowance of the interest
payments made by Paper Industries. The general
rule that interest payments on a legally demandable
loan are deductible from gross income must be
applied.
Interest arbitrage
Q26. What is interest arbitrage?
Interest arbitrage results in the reduction of the
interest expense by a percentage of the interest
income subject to final tax. It is also defined as a
circumstance which is presumed to exist because by
putting excess funds in deposits/securities subject to
20% withholding, taxpayers are able to avoid the
32% tax which will happen if the same funds are
invested in revenue-generating activities.
Another illustration of this is when a taxpayer borrows
money from the bank (interest payments on which
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INCOME TAX
can then be claimed as expense and thus a 32%
benefit) then deposits it in a bank (and subsequently
suffers only a 20% final withholding tax) thus
benefiting by 12% representing the difference the
32% deduction and the 20% withholding tax. It does
not matter if the taxpayer actually intended to save
taxes.
In BIR RULING NO. 006-00 [JANUARY 5, 2000],
PNB requested the BIR to exclude the interest
income derived by it from treasury bonds in the
determination of the interest expense not allowable
as deduction as gross income. PNB argues that the
said bonds were given by the Government for
payment for its liabilities to PNB and hence, it has not
engaged in a tax arbitrage scheme.
Although as a general rule, the amount of interest
expense paid or incurred by a taxpayer within a
taxable year on indebtedness in connection with his
trade, business or exercise of profession shall be
allowed as a deduction from his gross income, the
said interest expense, however, shall be reduced if
the taxpayer has derived certain interest income
which had been subject to final withholding tax. The
CIR ruled that this limitation on the deductibility of
interest expenses applies whether or not a tax
arbitrage scheme was entered into by the taxpayer.
Taxes
Q27. Are all taxes deductible from gross
income?
No. Section 34(C)(1) provides that all taxes, national
or local, paid or accrued during the taxable year in
connection with the trade or business or
profession of the taxpayer are deductible from
gross income except:
1. Philippine income tax
2. Foreign income taxes unless the taxpayer
does not make use of the tax credit privilege
under Section 34(C)(3)
3. Estate  and  donor’s  taxes
4. Taxes assessed against local benefits of a
kind tending to increase the value of the
property assessed (special assessments)
5. VAT
In the case of nonresident alien individual or a
foreign corporation, deduction is only allowed if and
to the extent that the taxes for which deduction is
PIERRE MARTIN DE LEON REYES
claimed are connected with income from sources
within the Philippines.
Also, to be deductible, the taxes must be imposed by
law on, and payable by the taxpayer. Thus, a VAT is
not deductible by the customer upon whom the
burden of the tax is shifted by the seller (on whom the
tax is imposed by law).
Q27.1. May a resident alien deduct from
their gross income income taxes
they paid to their government?
Generally, the answer is no. In COMMISSIONER OF
INTERNAL REVENUE VS. LEDNICKY [JULY 31, 1964],
54
US citizens residing in the Philippines who derives
income wholly from sources within the Philippines,
sought to deduct from their gross income the income
taxes they have paid to the US government.
The Supreme Court held that to allow an alien
resident to deduct from his gross income whatever
taxes he pays to his own government is incompatible
with the status of the Philippines as a sovereign
state. This is because the foreign government will
have the power to reduce the tax income of the
Philippine government simply by increasing their tax
rates.
Also important is this case is the statement made by
the court on the exception: a taxpayer may only be
allowed to deduct from his gross income, taxes paid
to a foreign country when such taxpayer is entitled to
a foreign tax credit and he does not choose to
exercise such right. The right to deduct foreign tax
paid   is   only   an   alternative   to   the   taxpayer’s   right   to  
the foreign tax credit.
Q28. What is the rule on credit for taxes?
If the taxpayer signifies in his return his desire to
claim a credit for taxes, the basis of such credit, in
the case of a resident citizen of the Philippines, and
in the case of a domestic corporation is as follows:
a. The amount of income taxes paid or incurred
during the taxable year to any foreign country
b. An   individual’s   proportionate   share   of   any  
such taxes of which he is a partner or of an
54
Note that at the time this case was decided, resident aliens were
still allowed to claim a tax credit. The present rule is that only
resident citizens and domestic corporations can claim a tax credit.
Also, in this case, their net income for foreign sources was zero
and, thus, there was no need to apply the tax credit.
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estate or trust of which he is a beneficiary
paid or accrued during the taxable year to a
foreign country if his distributive share of the
income of such partnership or trust is
reported for taxation under Title II.
Only those subject to tax on worldwide income
(resident citizen and domestic corporations) may
avail of tax credits because they pay taxes for foreign
sources income twice (in the Philippines and abroad)
and the tax credit is meant to lessen the impact of
double taxation,
Q28.1. What are the limitations on credit
for foreign taxes?
The amount of the credit shall be subject to the
following limitations:
Rationale for 1. The amount of the credit in respect to the tax
allowing foreign paid or incurred to any country shall not
income taxes to
exceed the same proportion of the tax
be deductible: To
against which such credit is taken, which the
prevent double
taxpayer’s   taxable   income   from   sources   entered into for profit though not connected with
taxation.
HOWEVER, only within such country under this Title bears to
citizens and his entire taxable income for the same
domestic taxable year.
corporations are 2. The total amount of the credit shall not
allowed to claim exceed the same proportion of the tax
to tax deductions against which such credit is taken, which the
because they are taxpayer’s   taxable   income   from   sources   deductible be determined?
the only ones without the Philippines taxable under this
taxed globally Title bears to his entire taxable income for
(e.g. Pacquiao) the same taxable year.
In mathematical terms, this can be expressed as:
Thus, the tax payable is whichever comes out from
this formula or the actual foreign taxes paid,
whichever is lower.
Losses
Q29. How are losses classified under the Tax
Code?
Losses are generally classified into:
1. Those incurred in a trade or business for
profit
PIERRE MARTIN DE LEON REYES
2. Those incurred in any transaction entered
into for profit, although not connected with
the trade or business
3. Casualty losses that arise from fire, storm,
shipwreck, or other casualty, or from theft or
robbery, even though not connected with the
trade or business of the taxpayer.
Q30. What are the conditions for deductibility
of losses?
In order that losses may be allowed as deductions,
the following conditions must concur:
1. The losses must actually be sustained and
charged off within the taxable year
2. Evidenced by a closed and completed
transaction
3. Loss is not compensated by insurance or
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
his trade or business
5. In the case of casualty loss, declaration of loss is
filed within 45 days from the occurrence of the
casualty loss
Q30.1. How shall the amount of the loss
The amount of loss deductible is limited to the
difference between the value of the property
immediately preceding the loss and its value
immediately thereafter but shall not exceed an
amount equal of the cost or other adjusted basis of
the property, or depreciated cost reduced by any
55
insurance or other compensation received.
Q30.2. What are the special rules on
losses?
Certain special rules on losses are:
1. Losses are deductible only by the person
sustaining them. They are purely personal
and cannot be used as deductions by
another
55
For example, you purchased a piece of machinery for the value
of 200,000 to be depreciated for 20 years. On the 10th year, it was
lost due to fire and for the loss, you received P50,000 from your
insurance. How much can you deduct? Get the depreciated cost
which is now 100,000 and deduct the insurance received. The
amount that can be deducted is then 50,000.
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2. Net Operating Loss Carry Over (NOLCO)
can be availed of by any taxpayer engaged in
trade, business, or practice of profession.
Net Operating loss of business for any
taxable year, which refers to the excess of
allowable deduction over gross income, can
be carried over as deduction for the next
three consecutive taxable years immediately
following the year of such loss.
NOLCO shall be allowed only if there has
been no substantial change in the
ownership of the business or enterprise.
3. Capital losses may not be deducted from
ordinary gains; such capita losses may only
be deducted from capital gains unless a final
tax on the capital transaction is imposed.
4. Losses from wagering transaction shall be
allowed only to the extent of the gains from
such transactions.
5. In the case of petroleum operations which
are abandoned, wholly or partially,
accumulated exploration and development
expenditures to a certain extent may be
allowed as deduction as abandonment
losses.
6. Losses on account of the shrinkage in value
of securities or shares of stock are not
deductible until after the loss would have
been actually sustained by the disposition of
the said securities. When, however, such
securities become worthless during the
taxable year and are capital assets the loss
thereform shall be considered as a loss from
the sale or exchange on the last day of such
taxable year, of capital assets.
7. Voluntary advances to a corporation made
without expectation of repayment do no
warrant, upon on-payment, a deduction for
losses
8. Losses from investments are not deductible
as ordinary losses or as bad debts from other
income. Shares of stock becoming worthless
in the hands of an investor are capital assets,
as such capital losses are allowed to be
deducted only to the extent of capital gains.
Q30.3. What is the rule with respect to
loss resulting from shrinkage in
the value of the stock
PIERRE MARTIN DE LEON REYES
A person cannot deduct from gross income any
amount claimed as a loss merely on account of
shrinkage in value of such stock through fluctuations
of the market or otherwise.
Q30.4. What is the rule with respect to
loss resulting from stocks
becoming worthless?
If the securities become worthless during the taxable
year and are capital assets, the loss resulting
therefrom shall be considered as a loss from the sale
or exchange, on the last day of such taxable year, of
capital assets.
Q30.5. What are the substantiation
requirements for losses arising
from casualty, robbery, theft, or
embezzlement?
Generally, under RR 12-77 [OCTOBER 6, 1977], the
substantiation requirements are:
1. A declaration of loss filed with the CIR or his
deputies within a certain period as prescribed
in the RR after the occurrence of the
casualty, robbery, theft, or embezzlement
2. Proof of the elements of the loss claimed
RMO 31-2009 [OCTOBER 16, 2009] provides for
policies and guidelines for the reporting of casualty
losses.
Section 38, Tax Code
Q31. Define Wash sale.
Wash sale is a sale or other disposition of stock or
securities where substantially identical securities are
acquired or purchased within a 61-day period,
beginning 30 days before the sale and ending 30
days after the sale.
Q31.1. Are losses from wash sales
deductible?
No. This is an exception to the general rule that
losses from sales or exchanges of stock or securities
are deductible as losses from sales or exchange of
property.
This will not apply to a loss incurred by a dealer in
securities.
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NOLCO
Q32. What is a net operating loss?
Net Operating loss refers to the excess of allowable
deduction over gross income of a business for any
taxable year.
Q32.1. What are the rules on the carry-
over of net operation loss by a
taxpayer?
1. The net operating loss of the business or
enterprise for any taxable year immediately
preceding the current taxable year, which had not
been previously offset as deduction from gross
income shall be carried over as a deduction from
gross income for the next 3 consecutive taxable
years immediately following the year of such loss
2. Any net loss incurred in a taxable year during
which the taxpayer was exempt from income tax
shall not be allowed as a deduction
3. A net operating loss carry-over shall be allowed
only if there has been no substantial change in
the ownership of the business or enterprise in
that –
(a) not less than 75% in nominal value of
outstanding issued shares, if the business is in
the name of a corporation is held by or on behalf
of the same persons; or
(b) Not less than 75% of the paid-up capital of the
corporation. If the business is in the name of a
corporation is held by or on behalf of the same
persons.
Q32.2. XYZ entered into a merger
agreement with ABC. Under this
agreement, the rights, properties,
privileges, powers and franchises
of the said ABC were to be
transferred, assigned and
conveyed to XYZ as the surviving
corporation. Before merger, the
company had over preceding
years accumulated losses. XYZ
claimed these losses as a
deduction against its gross
income. Should the deduction be
allowed?
PIERRE MARTIN DE LEON REYES
No. In PAPER INDUSTRIES CORPORATION OF THE
PHILIPPINES VS. COURT OF APPEALS [DECEMBER 1,
1995], the Supreme Court ruled that the deduction
was improper. NOLCO of the taxpayer shall not be
transferred or assigned to another person, whether
directly or indirectly, such as, but not limited to, the
transfer or assignment thereof through merger,
consolidation or any form of business combination of
such taxpayer with another person. To allow the
deduction claimed by the surviving corporation would
be to permit one corporation or enterprise to benefit
from the operating losses accumulated by another
corporation or enterprise.
Q32.3. If a corporation has paid its MCIT,
will the three-year reglementary
period on the carry-over of NOLCO
continue to run?
Yes. RR 14-01 [AUGUST 27, 2001] provides that that
the three-year reglementary period on the carry-over
of NOLCO shall continue to run notwithstanding the
fact that the corporation paid its income tax under the
MCIT computation
Q32.4. If several corporations enter an
agreement to integrate their
respective businesses, can each
of the corporations continue to
carry-over their respective net
operating losses?
It depends on the nature of the integration plan. In
BIR RULING 30-00 [AUGUST 10, 2000], three cement
companies (Republic, Fortune and Blue Circle)
sought the opinion of the CIR on the tax implications
of their integration plan. With regard to NOLCO, the
CIR held that since, under the plan, the corporation
are not dissolved but merely integrated for a specific
bona fide purpose, the net operation losses of each
of the cement corporations are preserved after the
proposed share swap and may be carried over and
claimed as a deduction from their respective gross
income because there is no substantial change in the
ownership of either of the three cement companies.
Forex losses
Q33. Are foreign exchange losses
deductible?
No. In BIR RULING 206-90 [OCTOBER 30, 1990] and
BIR RULING NO. 144-85 [AUGUST 26, 1985], the CIR
30
 PM REYES NOTES ON TAXATION I:
INCOME TAX
held that, with regard to foreign exchange losses, the
annual increase in value of an asset is not taxable
income because such increase has not yet been
realized, The increase in value could only be taxed
when a disposition of the property occurred which
was of such a nature as to constitute a realization of
such gain. The same conclusion obtains to losses.
The annual decline in the value of property is not
normally allowable as a deduction. Hence, to be
allowable the loss must be realized.
Bad Debts
Q34. What are bad debts?
Bad debts shall refer to those debts resulting from
the worthlessness or uncollectibility, in whole or in
part, of amounts due the taxpayer by others, arising
from money lent or form uncollectable amounts of
income from goods sold or services rendered.
Q34.1. How do you distinguish bad debts
from loss?
Voluntary cancellation or forgiveness of a debt does
not give rise to a deductible loss. However, if the debt
is actually worthless, there may be a bad debt
deduction. That deduction would be allowed because
the debt was worthless, not because it was forgiven.
Q34.2. What are the conditions for bad
debts to be deductible?
As provided in RR 5-99 [March 10, 1999], the
requisites for deductibility of bad debts are:
1. There must be an existing indebtedness due to
the taxpayer which must be valid and legally
demandable
2. The  same  must  be  connected  with  the  taxpayer’s   cessation of mine operations. ABC
trade, business or practice of profession
3. The same must not be sustained in a transaction
entered into between related parties
4. The same must actually be charged-off within the
taxable year
5. The same must be actually ascertained to be
worthless and uncollectible as of the end of the
taxable year.
RR 5-99 [March 10, 1999] provides for two
exceptions to requisite no. 5, namely:
1. The BSP, through the Monetary Board, shall
ascertain the worthlessness and uncollectibility of
PIERRE MARTIN DE LEON REYES
the bad debts and it shall approve the writing off
of the said indebtedness from the banks; books
of accounts at 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 such company has been declared closed
due to insolvency or for any such similar reason
by the Insurance Commissioner
In both cases, requisites nos. 1-4 should still be
complied with,
Q34.3. What   is   meant   by   “actually  
ascertained  to  be  worthless?”
The phrase means that a debt is not worthless simply
because it is of doubtful value or difficult to collect.
Conclusive evidence must be presented to show that
the  taxpayer’s  receivable  from  a  debtor  has  definitely  
become worthless.
Q34.4. What   is   meant   by   “actually  
charged  off?”
The phrase means that the amount of money lent by
the taxpayer to his debtor has been recorded in his
books of account as a receivable that has actually
become worthless of as of the end of the taxable
year, that the said receivable has been cancelled and
written-off from the said taxpayers books of account.
Q34.5. ABC mining entered into a
management contract with XYZ
mining. ABC made advances of
cash and property. However,
XYZ’s   mine   suffered   continuing  
losses which led to ABC;s
withdrawal as manager and
and XYZ entered into two
compromises: the first involved
alleged indebtedness by XYZ from
the advances of ABC and the
second involved long-term loans
guaranteed by ABC. ABC
deducted the amounts as bad
debt. Is the deduction proper?
No. In PHILEX MINING CORPORATION VS.
COMMISSIONER OF INTERNAL REVENUE [APRIL 16,
2008], the Supreme Court held that Philex cannot
deduct the amounts as bad debt. The agreement
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 PM REYES NOTES ON TAXATION I:
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provided for a distribution of assets of the mine upon
termination, a provision that is more consistent with a
partnership than a creditor-debtor relationship. In this
connection, there is no contractual basis for the
execution of the two compromise agreements in
which Baguio Gold recognized a debt in favor of
Philex.   Philex’s   advances   should   be   treated   as   still not deductible as a worthless debt because the
investments in a partnership. The advances were not
"debts" of Baguio Gold to Philex inasmuch as the
latter was under no unconditional obligation to return
the same to the former.
As for the amounts that Philex paid as guarantor to
Baguio   Gold’s   creditors,   the   debts   were   not   yet   due
and demandable at the time that Philex paid the
same. Philex cannot claim the advances as a bad
debt deduction from its gross income. Deductions for
income tax purposes partake of the nature of tax
exemptions and are strictly construed against the
taxpayer, who must prove by convincing evidence
that he is entitled to the deduction claimed. In this
case, Philex failed to substantiate its assertion that
the advances were subsisting debts of Baguio Gold
that could be deducted from its gross income.
Consequently, it could not claim the advances as a
valid bad debt deduction.
Q34.6. Is the declaration by the taxpayer
that a debt is worthless sufficient
for it to claim a bad debt
deduction?
There No. In PHILIPPINE REFINING COMPANY VS. COURT OF
should APPEALS [M AY 8, 1996], at issue   was   PRC’s   (now   Depreciation
have been Unilever) claimed of bad debt deduction. On appeal,
diligent the CTA disallowed the same as there was no iota of
efforts from documentary evidence to prove the worthlessness of
the the debts sought to be deducted. The Supreme Court
taxpayer in stated that before a debt can be considered
trying to worthless, the taxpayer must also show that it is
collect the indeed uncollectible even in the future. PRC here
debt. failed to prove the worthlessness of the amounts
receivable.
Q34.7. ABC, an investment company
made advances to XYZ under an
agreement that a portion of its net
profits would go to ABC. XYZ
suffered substantial losses but
continued to operate. ABC made a
partial write-off of the losses and
deducted the amount in its return.
Is the deduction proper?
PIERRE MARTIN DE LEON REYES
No. In FERNANDEZ HERMANOS, INC. VS. COMMISSIONER
OF INTERNAL REVENUE [SEPTEMBER 30, 1969], the
Supreme Court held that the deduction was improper.
The Court opined that assuming that in this case
there was a valid and subsisting debt and that the
debtor was incapable of paying the debt, the debt is
debtor was still in operation. It has been held that if
the debtor corporation, although losing money or
insolvent, was still operating at the end of the taxable
year, the debt is not considered worthless and
therefore not deductible.
Q34.8. What is the Tax Benefit Rule?
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
income in the year of recovery to the extent of the
income tax benefit of said deduction.
If in the year the taxpayer claimed deduction of bad
debts written-off, he realized a reduction of the
income tax due from him on account of said
deduction, his subsequent recovery thereof from his
debtor shall be treated as a receipt of realized
taxable income. Conversely, if the said taxpayer did
not benefit from the deduction if the said bad debt
written-off, then his subsequent recovery shall be
treated as a mere recovery or a return of capital,
hence, not treated as receipt of realized taxable
income.
Q35. What is depreciation?
Depreciation is the gradual diminution in the useful
56
value of tangible property resulting from wear and
tear and normal obsolescense.
The term is also applied to amortization of the value
57
of intangible assets, the use of which in the trade or
business is definitely limited in duration.
Q35.1. What is the rationale behind
depreciation?
Depreciation commences with the acquisition of the
property and its owner is not bound to see his
property gradually waste, without making provision
56
Not all tangible property can be depreciated. Land, for example,
cannot be depreciated because its value continues to increase.
57
Like those with limited duration
32
 PM REYES NOTES ON TAXATION I:
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out of earnings for its replacement. It is entitled to see
to it that from earnings the value of the property
invested is kept unimpaired so that at the end of any
given term of years, the original investment remains
as it was in the beginning
Capital
Q35.2. What are the requisites for the
Recovery
deductibility of a depreciation
Concept —
you should expense?
be able to
recover your 1. The allowance for depreciation must be
capital during reasonable
the time that 2.
It must be for property used in the trade,
you’re using
business, or profession
your asset.
Such asset
3. It must be charged off during the taxable
can either be year; and
tangible or 4. A statement on the allowance must be
intangible attached to the return
(e.g. patents).
Q35.3. Can an asset be depreciated
beyond its acquisition cost?
No. In BASILAN ESTATES, INC. VS. COMMISSIONER OF
INTERNAL REVENUE [SEPTEMBER 5, 1967], Basilan
Estates claimed deductions for the depreciation of its
assets up to 1949 on the basis of their acquisition
cost. In 1950, however, it changed the depreciable
value of the assets by increasing it to conform with
the increase in cost of their replacement. Accordingly,
in 1950 to 1953, the company deducted from gross
income the value of the depreciation based on this
reappraised value.
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
allowed so that the owner of the assets can set aside
some money to buy a replacement or, in other words,
to gradually recover the acquisition cost. The income
tax law does not authorize the depreciation of an
asset beyond its acquisition cost. The reason is that
deductions from gross income are privileges, not
matters of right. More importantly, the recovery, free
of income tax, of an amount more than the invested
capital in an asset will run counter to the purpose of a
depreciation allowance. For then, the taxpayer can
not only recover the acquisition cost, but also make
some profit. Recovery in due time through
depreciation of investment made is the philosophy
behind depreciation allowance; the idea of profit on
the investment made has never been the underlying
reason for the allowance of a deduction for
depreciation.
PIERRE MARTIN DE LEON REYES
Q35.4. The BIR found that ABC claimed
excessive depreciation of its
buildings. In its defense, ABC
Limpan argued that that some of
its buildings are old and out of
style; hence, they are entitled to
higher rates of depreciation than
those adopted by the BIR in its
assessment. On appeal, the CTA
found that the depreciation was
excessive. Should the findings of
the CTA be affirmed?
Yes provided there no arbitrariness and abuse of
discretion on the part of the CTA. In LIMPAN
INVESTMENT CORPORATION VS. COMMISSIONER OF
INTERNAL REVENUE [JULY 26, 1966], the Supreme
Court opined that depreciation is a question of fact
and is not measured by theoretical yardstick, but
should be determined by a consideration of actual
facts. The findings of the tax court in this respect
should not be disturbed when not shown to be
arbitrary or in abuse of discretion. Limpan has not
shown any arbitrariness or abuse of discretion on the
part of the CTA. In fact, the CTA applied rates of
depreciation in accordance with Bulletin F of the US
Federal Internal Revenue Service, which the
Supreme Court, has pronounced as having strong
persuasive effect.
Q35.5. What are the special rules on
deductibility of depreciation on
vehicle expenses?
RR 12-2012 [OCTOBER 12, 2012] provides for the
following rules:
1. Only one vehicle for land transport is allowed for
the use of an official or employee
2. The value of which should not exceed
P2,400,000
3. It must be substantiated with sufficient evidence,
such as official receipts or other adequate
records; and
4. There is a direct connection or relation of the
vehicle to the development, management,
operation, and/or conduct of the trade or
business or profession of the taxpayer
Generally, no deduction in the gross income shall be
allowed for depreciation of the following:
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 PM REYES NOTES ON TAXATION I:
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1. Yachts, helicopters, airplanes, and/or aircrafts;
and
2. Land vehicles with a value of more than
P2,400,000
Exception: the taxpayer is in the business of transport
operations or lease of transportation equipment and
the vehicles purchased are used in such operations.
In addition, the following shall be disallowed as
deductions in the gross income:
1. All maintenance expenses on account of non-
depreciable vehicles;
2. Input taxes on the purchase of non-depreciable
vehicles and all input taxes on maintenance
expenses.
Depletion
Q36. What is depletion?
Depletion is the exhaustion of natural resources like
mines and opil and gas wells as a result of production
or severance from such mines or wells.
Q36.1. Who may avail of the cost of
depletion?
Annual depletion deductions are allowed only to
persons who own an economic interest in the
property that are entitled to depletion allowance.
Q36.2. What is the difference between
depletion and depreciation?
Both depletion and depreciation are predicated on
the same basic premise of avoiding a tax on capital.
The allowance for depletion is based on the theory
that the extraction of minerals gradually exhausts the
capital investment in the mineral deposit. The
purpose of the depletion deduction is to permit the
owner of a capital interest in mineral in place to make
a tax-free recovery of that depleting capital asset. A
depletion is based upon the concept of the
exhaustion of a natural resource whereas
depreciation is based upon the concept of the
exhaustion of the property, not otherwise a natural
resource, used in a trade or business or held for the
production of income. Thus, depletion and
depreciation are made applicable to different types of
assets. And a taxpayer may not deduct that which the
Code allows as a deduction of another.
PIERRE MARTIN DE LEON REYES
Q36.3. What is the rule on depletion?
A reasonable allowance for depletion or amortization,
under a cost depletion method, shall be allowed for
oil and gas wells and mines. The allowance is
deductible from the net taxable income. However,
when the allowance for depletion has equal the
capital invested, no further allowance shall be
granted
In CONSOLIDATED MINES, INC. VS. COURT OF TAX
APPEALS [AUGUST 29, 1974], the BIR among other
disallowances claimed that the depletion expense
deductions of Consolidated Mines have been
overcharged. Thus, Consolidated was assessed for
income tax deficiency. The CIR and Consolidated
differed with regard to the cost of the mining property
as well as the estimated ore deposit. On appeal to
the CTA, the CTA ruled in favor of the CIR on the
issue of depletion deductions. Consolidated
contested the rate of mine depletion adopted by the
CTA in arriving at its conclusion.
In depletion, evidence must be shown to show the
produce mined and for how much they were sold
during the year for which the return or computation
were made. This is necessary in order to determine
the amount of depletion that can be legally deducted
from gross income. Given the evidence presented,
the Supreme Court held that the CIR was correct as
to the cost of the mining property but both the CIR
and Consolidated were wrong as to estimated ore
deposit.
Charitable and other contributions
Q37. What are the conditions for deductibility
of charitable contributions?
The requisites are:
1. Actually paid or made to the Philippine
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
3. Not exceeding 10% (individuals) or 5%
(corporations)   of   the   taxpayer’s   taxable  
income before charitable contributions
4. Evidenced by adequate receipts or records
34
 PM REYES NOTES ON TAXATION I:
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Q37.1. What contributions are deductible
in full?
Donations to the following institutions are deductible
in full:
1. Donations to the Government, its entities,
political subdivisions or fully owned
corporations exclusively for undertaking
priority activities in accordance with the
national priority plan to be determined by
NEDA
2. Donations to foreign institutions or
international organizations pursuant to
agreements, treaties entered into by
Government or special laws
3. Donations to accredited Non-Government
Organizations (non-profit domestic
58
corporation)
Q37.2. When are donations subject to
limitations?
When the donation is made to:
1. The government for public purposes
2. Accredited domestic corporations for
religious, charitable, scientific, etc. purposes
3. Social welfare institutions
4. NGOs (not accredited)
No. In BIR RULING 19-01 [M AY 10, 2001], at issue
was whether or not international organizations with
home offices based abroad are qualified to be
granted done institution status (accreditations as
NGO), the CIR ruled that a non-stock, non-profit
corporation or organization must be created or
organized under Philippine laws and that an NGO
must be a non-profit domestic corporation, a foreign
corporation whether resident or non-resident cannot
be accredited as a done institution.
Research and Development
Q38. What is the rule on the deductibility of
expenses for research and
development?
A taxpayer may treat research or development
expenditures which are paid or incurred by him
during the taxable year in connection with his trade,
business, or profession as ordinary and necessary
expenses which are not chargeable to capital
account. The expenditures so treated shall be
allowed as deduction during the taxable year when
paid or incurred.
Q38.1. When is the above rule
inapplicable?

The limitations are 10% of net income for individual The rule does not apply to:
taxpayers and 5% of net income for corporate
taxpayers. 1. Any expenditure for the acquisition or
improvement of land, or for the improvement
Q37.3. What is a non-government of property to be used in connection with
research and development of a character
organization?
which is subject to depreciation and depletion
2. Any expenditure paid or incurred for the
A non-government organization shall refer to a
purpose of ascertaining the existence,
non-stock, non-profit domestic corporation
location, extent, quality of any deposit of ore
organized and operated exclusively for scientific,
or other mineral, including oil or gas.
research, educational, character-building and
youth and sports development, health, social
In 3M PHILIPPINES, INC. VS. COMMISSIONER OF
welfare, cultural or charitable purposes or a 59
INTERNAL REVENUE [SEPTEMBER 26, 1988], 3M
combination thereof, no part of the net income of
Philippines, a subsidiary of 3M (nonresident foreign
which inures to the benefit of any private individual.
corporation based in the US), claimed as deductions
the entire amount paid by 3M Philippines to 3M for
Q37.3.1. Is an international NGO royalties and technical services. The Supreme Court
qualified to be granted ruled that the entire amount is not deductible.
accreditation? Improper payments of royalty are not deductible as
legitimate business expenses. Proper reference must
be given to CB Circular 393 which provides that

58 59
NGOs are accredited by the PCNC (Philippine Council for NGO Note, however, that during this time, there was a 5% threshold
Certification) for royalty payments.

PIERRE MARTIN DE LEON REYES 35


PM REYES NOTES ON TAXATION I:
INCOME TAX
CB Circular royalties shall be paid only on commodities
is no longer manufactured by the licensee under the royalty
present, so agreement. In this case, there were some finished
the standard products imported by the licensee from the licensor.
is
No royalty is payable on the wholesale price of such
“reasonable imported finished products.
ness”
Q38.2. May the taxpayer elect to
amortize/capitalize its research
and development expenses?60
Yes. The taxpayer may elect to amortize the following
research and development expenditures:
1. Paid or incurred by the taxpayer in connection
with his trade, business, or profession
2. Not treated as research and development
expenses (not capitalized)
3. Chargeable to capital account but not chargeable
to property of a character which is subject to
depreciation or depletion.
Additional requirements for deductibility
Q39. What are the additional requirements
for deductibility of deductions?
ALTERNATI Any amount paid or payable which is otherwise
VE: Go to deductible from or taken into account in computing
the BIR and gross income or for which depreciation or
show that amortization may be allowed shall be allowed as a
the payee deduction ONLY if it is shown that the tax required to
reported it be deducted and withheld therefrom has been paid to
as income. the BIR in accordance with:
You show
BIR the 1. Section 34, Section 58 (on returns and payment of
income tax taxes withheld at source); and
return of the
other party 2. Section 81 (on filing of return and payment of taxes
from which withheld) .
you should
have
withheld.
RMO 38-83 [NOVEMBER 14, 1983] provides for the
guidelines for allowance of deductions for certain
income payments.
Optional Standard Deduction
Section 34 (L), Tax Code as amended by Republic
Act 9504
60
This is similar to interest expense where you can capitalized.
PIERRE MARTIN DE LEON REYES
Gross Receipts —
Gross Sales —
Gross Income —
Q40. What   is   meant   by   “Optional   Standard  
deduction?”
Section 34(L) provides that in lieu of the itemized
deductions, an individual subject to tax excluding a
nonresident alien may elect a standard deduction
of not exceeding 40% of his gross sales or gross
receipts, as the case may be. In the case of a
domestic corporation and a resident foreign
corporation, it may elect a standard deduction in an
amount not exceeding 40% of its gross income.
A non-resident alien (whether engaged or not) and a
non-resident foreign corporation cannot claim OSD.
The election to use OSD when made in the return
shall be irrevocable for the taxable year for which the
return is made.
Q40.1. What are the rules in the
determination of the amount of
OSD?
RR 16-2008 [NOVEMBER 26, 2008] provides for the
following rules:
1. For individuals
a. If on accrual basis of accounting, the OSD
shall be based on gross sales
b. If on cash basis of accounting, the OSD shall
be based on gross receipts
c. Cost of sales and cost of services are not
allowed to be deducted for purposes of
determining the basis of the OSD
2. For corporations
a. It shall be based on gross income
Q40.2. What are the rules in the
determination of the amount of
OSD of GPPs?
RR 2-2010 [FEBRUARY 18, 2010] amended Sections
6 to 7 of RR 16-2008 with respect to the
determination of the OSD of GPPs.
A GPP is not subject to income tax but the partners
shall be liable to pay income tax on their separate
and individual capabilities for their respective
distributive share in the net income of the GPP.
For purposes of computing the distributive share of
the partners, the net income of the GPP shall be
computed in the same manner as a corporation. The
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 PM REYES NOTES ON TAXATION I:
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GPP may claim itemized deductions or in lieu thereof
may opt to avail of the OSD allowed to corporations.
The net income determined by either claiming the
itemized   deductions   or   OSD   from   the   GPP’s   gross   (capitalized interest)
income is the distributable net income from which the
share of each partner is determined.
If the GPP availed of the itemized deductions in
computing its net income, a partner may still claim
itemized deductions from his share in the net income
of the partnership.
However, if the GPP availed of the OSD in computing
its net income, the partner can no longer claim further
deduction from his share in the said net income.
Premium payments on health and/or
hospitalization insurance
Q41. May a taxpayer deduct from his gross
income premium payments for health
and hospitalization insurance?
Yes. An individual taxpayer can claim as deduction
from his gross income the premium payment for
health and/or hospitalization insurance for an amount
not exceeding P2,400 per family during the taxable
year provided the gross family income does not
exceed P250,000 for the taxable year. Only one
spouse claiming the additional exemption for
dependents shall be entitled to this deduction.
Non-deductible expenses
Section 36, Tax Code
Q42. What items are not deductible from
gross income?
No deduction shall in any case be allowed in respect
to:
61
1. Personal, living or family expenses
2. Any amount paid out for new buildings or
for permanent improvements or
betterments made to increase the value of
any property or estate. (Capital
expenditures)
61
They are not deductible because the taxpayer is already given a
personal exemption of P50,000 regardless of status and gender,
plus an additional exemption of P25,000 foe each dependent, not
exceeding 4, as defined by law
PIERRE MARTIN DE LEON REYES
3. Any amount expended in restoring property
or in making good the exhaustion thereof for
which an allowance is or has been made
4. Premiums paid on any life insurance
policy covering the life of any officer or
employee or of any person financially
interested in any trade or business carried on
by the taxpayer, individual, or corporate
when the taxpayer is directly or indirectly a
beneficiary under such policy
5. Losses from sales or exchanges of property
directly or indirectly between related
persons
a. Between members of a family
b. Between an individual and a
corporation more than 50% in value of
the outstanding stock of which is owned
by such individual (except in the case of
distributions in liquidation)
c. Between two corporations more than
50% in value of the outstanding stock of
each of which is owned by the same
individual if either one of the companies
is a holding company
d. Between the grantor and a fiduciary of
any trust
e. Between the fiduciary of a trust and
the fiduciary of another trust if the
same person is a grantor with respect to
each trust
f. Between a fiduciary of a trust and a
beneficiary of such trust.
Section 119-122, RR 2 reiterates the enumeration
provided above.
Q42.1. Are margin fees deductible
business expenses?
No. In ESSO STANDARD EASTERN, INC. VS.
COMMISSIONER OF INTERNAL REVENUE [JULY 7, 1989],
Esso made profit remittances to its New York Head
Office. Esso claims that the margin fees it paid to the
Central Bank on the remittances are ordinary and
necessary expenses and should be deducted from its
gross income.
The Supreme Court held that margin fees are not
necessary and ordinary expenses. The margin fees
are not expenses in connection with the production or
earning of petitioner's incomes in the Philippines..
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 PM REYES NOTES ON TAXATION I:
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Since the margin fees in question were incurred for
the remittance of funds to petitioner's Head Office in
New York, which is a separate and distinct income
taxpayer from the branch in the Philippines, for its
disposal abroad, it can never be said therefore that
the margin fees were appropriate and helpful in the
development of petitioner's business in the
Philippines exclusively or were incurred for purposes
proper to the conduct of the affairs of petitioner's
branch in the Philippines exclusively or for the
purpose of realizing a profit or of minimizing a loss in
the Philippines exclusively
Determining Net Income Tax Payable62
Section 31, 32(A), NIRC
Q43. What is taxable income?
As defined in Section 31,  the  term  “taxable income”  
means the pertinent items of gross income specified
in this Code, less the deductions and/or personal and
additional exemptions, if any, authorized for such
types of income by this Code or other special laws.
Q44. What is gross income?
As provided in Section 32(A), gross income means
all income derived from whatever source, including,
but not limited to, the following items:
1. Compensation for services in whatever form
paid, including, but not limited to fees,
salaries, wages, commissions and similar
items;
2. Gross income derived from the conduct of
trade or business or the exercise of a
profession;
3. Gains derived from dealings in property
4. Interests
5. Rents
6. Royalties
7. Dividends
8. Annuities
9. Prizes and winnings
10. Pensions; and
11. Partner’s   distributive   share   from   the   net  
income of the GPP
62
The next three parts will be on Individuals, Corporations, and
Withholding Tax. This part provides the key terms and an overview
of how net income tax payable for individuals and corporations are
determined.
PIERRE MARTIN DE LEON REYES
Q45. Is income subject to final tax included
in  the  taxpayer’s  taxable  income?
No. Under the Tax Code, "taxable income" does not
include passive income subjected to final withholding
taxes. The definition of gross income is broad enough
to include all passive incomes subject to specific
rates or final taxes. However, since these passive
incomes are already subject to different rates and
taxed finally at source, they are no longer included in
the computation of gross income, which determines
taxable income (see CIR VS. PHILIPPINE AIRLINES
[OCTOBER 9, 2006]).
Such  income  is  no  longer  “returnable,”  meaning  it  will  
no longer be declared as income in the income tax
return and, hence, will not be subject to the schedular
income tax rates on individuals or the corporate
income tax rate.
Q46. How is net income tax payable
determined?
In all cases, other than when a final tax is imposed or
when the gross compensation income tax system
applies, the income tax is imposed on the net taxable
income computed as follows:
(1) All income minus exclusions equals gross
income;
(2) Gross income less allowable deductions
equals net income (in case of corporations,
63
this is already the taxable net income)
(3) Net income less personal and additional
exemptions (when applicable) equals
taxable net income
(4) Taxable net income times income tax rates
(on the graduated basis) equals net income
tax due
(5) Income tax less creditable withholding tax
and/or tax credit equals net income tax
payable.
63
Simply multiply it with the corporate income tax rate.
38
 PM REYES NOTES ON TAXATION I:
INCOME TAX
Individuals
Ordinary and Passive Income
Q47. Differentiate ordinary income
passive income.
Ordinary income is income other than capital gain
and those incomes which fall under the category of
passive income.
On the other hand, if the income is generated in the
active   pursuit   and   performance   of   the   corporation’s   which determines taxable income.
primary purposes, the same is not passive income.
Generally, passive income is income generated by
the   taxpayer’s   assets.   These   assets   can   be   in   the   final tax rates?
form of real properties that return rental income,
shares of stock in a corporation that earn dividends
or interest income received from savings.
Q47.1. What is the income tax rate
imposed on ordinary income?
It shall be subject to the graduated income tax with
64
rates from 5% to 32%.
In relation to Section 23 of the NIRC, the taxable
income derived for each taxable year:
1. From all sources within and without the
Philippines by resident citizens;
2. From all sources within the Philippines only
by a non-resident citizen including overseas
contract workers;
3. From all sources within the Philippines only,
by a resident alien or a non-resident alien
engaged in trade or business in the
65
Philippines;
shall be subject to the graduated income tax in
accordance with the following schedule provided
under Section 24 (see Tax Rates Table annexed to
this reviewer)
Q47.1.1. Is the income of minimum
wage earners be subject to the
graduated income tax rates?
No. Minimum wage earners shall be exempt from the
payment of income tax on their taxable income.
64
For ordinary income over P10,000 but not over P30,000 and
upper brackets, a fixed amount is added to the taxable amount
subject to the graduated income tax rate.
65
Only difference really is the source of income
PIERRE MARTIN DE LEON REYES
Further, their holiday pay, overtime pay, night shift
differential pay, and hazard pay received by them
shall likewise be exempt from income tax.
from Q47.2. What is the income tax rate
imposed on passive income?
Passive incomes are subject to different final taxes.
As stated earlier, since they are already subject to
different rates and taxed finally at source, they are no
longer included in the computation of gross income,
Q47.3. What are the incomes subject to
As a general rule, income, gain or profit derived by
an individual during the taxable year shall be subject
to the graduated income tax rates.
As exceptions, certain incomes subject to tax are
not subject to the graduated tax rates and are instead
subject to final tax rates. They are:
1. Tax on certain passive income under
Section 24(B)
a. Interests, royalties, prizes and other
winnings under Section 24(B)(1)
b. Cash and/or property dividends under
Section 24(B)(2)
2. Capital gains from sale of shares of stock not
traded in the Stock exchange under Section
24(C)
3. Capital gains from sale of real property under
Section 24(D)
4. Compensation income of alien and Filipino
employees of
a. Regional or area headquarters and
regional operating headquarters of MNCs
under Section 25(C)
b. Offshore Banking Units under Section
25(D)
c. Foreign petroleum service contractors
and sub-contractors under Section 25(E)
Q47.3.1. What is the proper tax
treatment on individual
taxpayers of income derived
from royalties, prizes and
other winnings?
Royalties (except books, literary works, musical
compositions), prizes amount to more than P10,000
and other winnings (except PCSO and Lotto)
39
 PM REYES NOTES ON TAXATION I:
INCOME TAX
Final tax in case of citizens (whether resident or
nonresident), resident aliens and non-resident aliens
engaged in trade or business is 20%.
In case of non-resident aliens not engaged in trade or
business, the amount received shall form part of their
gross income subject to a flat 25%. (see Section
25(B))
Exceptions:
1. For royalties from books, literary works, musical
compositions, the final tax is 10%.
2. Prizes amounting to P10,000 or less shall form
part of ordinary taxable income and, subject, to the
graduated income tax rates.
3. PCSO and Lotto Winnings are tax-exempt.
Q47.3.2. What is the proper tax
treatment on individual
taxpayers of income derived
from dividends?
Dividends from domestic corporations and shares in
net profits of taxable partnerships received by
citizens (whether resident or nonresident) or resident
aliens are subject to 10%.
In the case of non-resident aliens engaged in trade or
business, it is 20%.
As for non-resident aliens not engaged in trade or
business, it shall form part of their taxable gross
income subject to flat rate of 25%.
Q47.3.3. What are deposit substitutes?
Deposit An alternative form of obtaining
substitutes funds from the public (the term
public means borrowing from 20 or
more individual or corporate
lenders at any one time), other
than deposits, through
issuance, endorsement,
acceptance of debt instruments for
the   borrower’s   own   account   for
purposes of re-lending
purchasing receivables and other
similar obligations, or financing
their own needs or the needs of
their agent or dealer
PIERRE MARTIN DE LEON REYES
Q47.3.4. What is the proper tax
treatment on individual
taxpayers of income derived
from interests
As provided in RR 14-2012 [NOVEMBER 7, 2012]:
1. Interest from Philippine currency bank 1- 4 are
deposits and yield from deposit substitute derived from
and from trust funds or similar dealings with
arrangements banks not
interest
Final tax in case of citizens, resident aliens and non- income
resident aliens engaged in trade or business is derived by
66 banks.
20%.
In case of non-resident aliens not engaged in trade or
business, the amount received shall form part of their
67
gross income subject to flat 25% income tax.
2. Interest income derived from government
debt instruments and securities
68
They   are   considered   “deposit   substitutes.” The
same tax treatment as above is applied.
3. Interest derived from long long-term
deposits or investments
They are exempt from tax, provided the following
requisites are met:
a. Depositor is an individual citizen (resident or
non-resident), a resident alien or a
nonresident alien engaged in trade or
business in the Philippines;
b. The long-term deposit or investment
certificates under name of the individual;
c. The long-term deposits or investments must
be in the form of savings, common or
individual trust funds, deposit substitutes, etc
evidences by certificates in the BSP-
prescribed form
d. The long-term deposits or investments must
be issued by banks only;
the e. The long-term deposits or investments must
or have a maturity period of not less than 5
years
 
or
66
Same rate applies to domestic and resident foreign corporations.
67
68
A non-resident foreign corporation is subject to a FWT of 30%.
Irrespective of the number of lenders at the time of origination if
such debt instrument and securities are to be traded or exchanged
in the secondary market.
40
 Interest bearing bond v. Zero-coupon bank

PM REYES NOTES ON TAXATION I:

INCOME TAX
f. The long-term deposits or investments must banks, the interest income shall be subject to
be in the denominations of P10,000 and 10%
other BSP-prescribed denominations
g. The long-term deposits or investments 6. Interest income derived all other
should not be pre-terminated. instruments
h. Except those specifically exempted by law,
any other income such as gains from trading, Any other debt instrument not within the coverage of
foreign exchange gain shall not be covered deposit substitutes shall be subjected to a creditable
by income tax exemption. withholding tax of 20%.

If the deposit or investment is pre-terminated, a final Capital Gains Tax70

tax shall be imposed on the entire income.
Q48. Define the following terms.
Four years to less than five year – 5%.
Three years to less than four years – 12% Section 22(Z) and 39(A) Tax Code
If less than three years – 20%.
Ordinary Any gain from the sale or
4. Interest income derived from a depository
Income exchange of property which is not
bank under the expanded foreign
a capital asset or property
currency deposit system (EFCDS)
described in Section 39(A)(1)
(which defines what capital assets
Derived from FCDUs:
are and those which are not)
a. The interest income must be derived by Ordinary loss Includes any loss from the sale or
residents. If the interest income is derived by a exchange of property which is not
resident individual taxpayer, it shall be subject to a capital asset
a final tax of 7 ½%.
69 Capital Assets Means property held by the
b. Any income of non-residents, whether individuals taxpayer (whether or not
or corporations, shall be tax-exempt. connected with his trade or
c. If the bank account is jointly in the name of a business) but does not include:
non-resident and a resident, 50% shall be treated
as exempt and the remaining 50% shall be 1. Stock in trade of the taxpayer
subject to the final tax of 7 ½. or other property of a kind
which would properly be
Derived by FCDUs: include in the inventory of the
taxpayer if on hand at the
a. The interest income must be derived by close of the taxable year
residents. Interest income from foreign currency 2. Property held by the taxpayer
loans granted by such depository banks under primarily for sale to customers
the EFCDS other than OBUs shall be subject to a in the ordinary course of his
final tax of 10%. trade or business
b. Any income of non-residents, whether individuals 3. Property used in the trade or
or corporations, shall be tax-exempt. business of a character which
is subject to the allowance for
5. Interest income derived from offshore depreciation
banking units of OBUs 4. Real property used in trade or
business of the taxpayer
a. Income derived by OBUs from foreign currency Net Capital Means the excess of the gains
transactions with nonresidents, other OBUs, and Gain from sales of exchanges of capital
local commercial banks are tax-exempt. assets over the losses from such
b. If the foreign currency transactions are with sales or exchanges
residents other than OBUs and local commercial Net Capital Means the excess of the losses
Loss from sales or exchanges of capital
69 70
Domestic and resident foreign corporations are also subject to This will be discussed in greater detail in the section on Capital
the final tax of 7.5%. Nonresident foreign corporations are exempt. Gains and Losses.

PIERRE MARTIN DE LEON REYES 41

 PM REYES NOTES ON TAXATION I:
INCOME TAX
assets over the gains from such
sales or exchanges
Section 22(T) to (X), Tax Code
Securities Means share of stock n a
corporation and rights to subscribe
for or to receive such shares
Dealer in A merchant of stocks or securities,
securities whether an individual, partnership
or corporation, with an established
place of business, regularly
engaged in the purchase of
securities and the resale thereof to
customers
Bank Every banking institution as
defined in RA 337 as amended by
RA 8791 (General Banking Act of
2000)
Non-bank A financial intermediary as defined
financial in RA 337 as amended by RA
institution 8791 (General Banking Act of
2000) authorized by the BSP to
perform quasi-banking activities
Quasi-banking Means borrowing funds from 20 or
activities more personal or corporate
lenders at any one time, through
the issuance, endorsement, or
acceptance of debt instruments of
any kind other than deposits for
the   borrower’s   own   account   or  
through the issuance of certificates
of assignments or similar
instruments, with recourse, or of
purchase agreements for purposes
of re-lending or purchasing
receivables and other similar
obligations
Q49. What is a capital gains tax?
A capital gains tax is a tax on capital gains, the profit
realized from the sale of capital assets.
Q49.1. If the asset sold is not a capital
asset, what tax will be imposed?
If the asset is an ordinary asset, any gain from the
sale thereof shall form part of the ordinary income
which shall be subject either to graduated income tax
rates (if individual) or corporate income tax (if
corporation).
PIERRE MARTIN DE LEON REYES
Q49.2. What capital gains are subject to As far as the
capital gains tax? taxing
authority is
concerned,
1. Capital gains from the sale of shares of stock no
the seller is
trade in the stock exchange
liable for the
2. Capital gains from the sale of real property tax.
EXCEPT for
Q49.3. From the above transactions, who mortgage
are the individual taxpayers whose where the
transactions would be subject to mortgagee
capital gains tax? is the
statutory
The capital gains tax shall be imposed on such seller.
transactions by any individual taxpayer, whether
citizen or alien.
71
Q49.4. Is the capital gain from the sale or
exchange of a capital asset always
taxable in full?
No. In the case of a taxpayer other than a
corporation, the following percentages of the gain
upon the sale or exchange of a capital asset shall be
taken into account in computing net capital gain:
1. 100% if the capital asset has been held for not
more than 12 months
2. 50% if the capital asset has been held for more
than 12 months
Capital Gains Tax with respect to shares
of stock
Q50. What are stocks classified as capital
assets?
Stocks classified as capital assets mean all stocks
and securities held by taxpayers other than dealers in
securities.
Q51. What is the rule on capital gains from
sales of shares of stock?
Capital gains tax shall be imposed upon the net
capital gains realized during the taxable year from the
sale, barter, exchange or other disposition of shares
of stock in a domestic corporation except shares,
sold or disposed through the stock exchange.
The final tax imposed shall be:
71
Note that any corporate taxpayer, domestic or foreign as well as
all other taxpayers may be subjected to pay capital gains tax on
stock or real property transactions
42
 PM REYES NOTES ON TAXATION I:
INCOME TAX
Capital gains not over P100,000 – 5%
Capital gains over P100,000 – 10%
The tax base shall only be the gain on the sale and
such sale will always be subject to capital gains tax
without any exemption.
The capital gains tax must be paid within 30 days
following each sale or disposition. In case of
installment sale, the return shall be filed within 30
days following the receipt of the first down payment
and within 30 days following the subsequent
installment payments.
(See RR 06-2008 [APRIL 22, 2008])
Q51.1. If the share of stock is traded
through the stock exchange, what
tax is applicable?
A percentage tax of ½ of 1% is imposed on the gross
selling price of shares of stock if they are listed and
sold, exchanged or transferred through the facilities
of the local stock exchange.(see Section 127(A) and
RR 06-2008 [APRIL 22, 2008])
However, even if trade through the stock exchange, a
sale of shares by companies not complying with the
10% minimum public float shall be subject to capital
gain tax (see RR 16-2012 [November 7, 2012])
Q51.2. What are exempted from capital
gains tax on stock transactions?
1. Gains derived by dealers in securities
2. Gains from sales of stock to the extent invested
in new shares of stocks in banks, financial
intermediaries, and corporations organized
primarily to hold equities in banks
3. All other gains which hare specifically exempt
from income tax under existing investment
incentives and other special laws.
Q51.3. Is an assignment of deposits on
stock subscriptions subject to
capital gains tax?
YES. The assignment of the deposits on stock
subscriptions results in a net gain. A tax on the profit
of sale on net capital gain is the very essence of the
net capital gains tax law. To hold otherwise will
ineluctably deprive the government of its due and
unduly set free from tax liability persons who profited
PIERRE MARTIN DE LEON REYES
from said transactions (see COMPAGNIE FINANCIERE
SUCRES ET DENREES VS. CIR [AUGUST 28, 2006])
Q51.4. What is the effect of non-payment
of capital gains tax on stock
transactions?
As provided in Section 11 of RR 06-2008, no sale,
exchange, transfer or similar transaction intended to
convey ownership of, or title to any share of stock
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
transfer agent or secretary of the corporation.
RMC 37-2012 [AUGUST 3, 2012] clarified RR 06-2008
in stating that a Certificate Authorizing Registration
[CAR] is still necessary before any transfer of shares
of stock not traded in the Stock Exchange may be
transferred in the books of a corporation.
Capital Gains Tax with respect to For there to
disposition of real property be capital
gains tax, the
property
Q52. What is the rule on capital gains from should be a
dispositions of real property? capital asset
“PRESUMED GAIN” — you always assume they sell for gain (property not
The rate of 6% shall be imposed on capital gains used in the
presumed to have been realized by the seller from business &
the sale, exchange, or other disposition of real not principal
properties located in the Philippines classified as residence)
capital assets, including pacto de retro sales and
other forms of conditional sales based on the gross
selling price or fair market value as determined by the
CIR, whichever is higher.
The tax base shall be the entire selling price.
The capital gains tax must be paid within 30 days
following each sale or disposition. In case of
installment sale, the return shall be filed within 30
days following the receipt of the first down payment
and within 30 days following the subsequent
installment payments.
Q52.1. What is the special rule for
disposition of real property made
by an individual to the
government?
As provided in RR 8-98, in case of disposition of
real property made by an individual to the
43
 PM REYES NOTES ON TAXATION I:
INCOME TAX
When government or to any of its political subdivisions or
included as agencies or to government-owned or controlled
income,
corporations, the seller may elect to:
there may be
deductions
you can avail 1. compute the tax on the gain derived from such
of. sale under the normal income tax rates; or
2. under a final capital gains tax of 6%.
Q52.2. What are the conditions for the
exemption of capital gains tax on
the sale by a natural person of his
principal residence?
As provided in RR 13-99 [JULY 26, 1999], as
72
amended by RR 14-2000 [NOVEMBER 20, 2000]:
1. The 6% capital gains tax otherwise due shall be
deposited   in   cash   or   manager’s   check   in   an   the seller can pay the tax, depending on the
interest-bearing account with an authorized agent
bank under an Escrow Agreement.
2. He shall file his Capital Gains Tax Return
3. The proceeds from the sale, exchange or
disposition must be fully utilized in acquiring or
constructing his new principal residence within 18
calendar months from date of its sale. To ensure
compliance, he must within 30 days from the
lapse of the said period the required documents
to prove full utilization.
4. Upon a showing that the proceeds of the sale,
exchange or disposition have been fully utilized,
the escrow on the bank deposit shall be released.
5. The tax exemption may be availed of only once
every 10 years
6. The historical cost or adjusted basis of his old
principal residence sold, exchanged disposed
shall be carried over to the cost basis of his new
principal residence
7. 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 of
his old principal residence, and shall be assessed
deficiency capital gains tax. The escrow shall be
73
applied in payment of this.
8. If there is no full utilization of the proceeds of
sale, exchange or disposition of his old principal
residence, he shall be liable for deficiency capital
gains tax, inclusive of 20% interest per annum,
72
RR 14-2000 added the escrow agreement requirement and
conditions relating thereto.
73
If the same is insufficient to cover the entire amount assessed,
he shall remain liable for the remaining balance of the assessment.
The excess of the deposit in escrow, if any, shall be returned to
him.
PIERRE MARTIN DE LEON REYES
computed from the 31st day after the date of sale
or disposition of the said old principal residence.
Q52.3. Who is liable to pay the capital
gains tax?
The seller is liable to pay the capital gains tax. As
provided in RR NO. 8-98 [AUGUST 25, 1998], the
capital gains tax return will be filed by the seller within
30 days following each sale or disposition of real
property.
Q52.3.1. Can the buyer pay the capital
gains tax?
Yes. The buyer can retain the amount for the capital
74
gains tax and pay it upon authority of the seller, or
agreement of the parties.
Q52.4. Is the payment of the capital gains
tax a pre-requisite to the transfer
of ownership to the buyer?
No. Payment of the capital gains tax, however, is not
a pre-requisite to the transfer of ownership to the
buyer. The transfer of ownership takes effect upon
the signing and notarization of the deed of absolute
sale. (see Chua v. CA [APRIL 9, 2003])
Q52.5. If a mortgagee foreclosed the
mortgaged property but the
mortgagor exercises his right of
redemption within the applicable
period, will capital gains tax still
be imposed on the foreclosure
sale?
RR 4-99 [M ARCH 9, 1999] provides that in case the
mortgagor exercises his right of redemption within
one year from the issuance of the certificate of sale,
75
no capital gains tax shall be imposed because no
capital gains has been derived by the mortgagor and
no sale or transfer of real property was realized. If the
mortgagor does not exercise his right of redemption,
74
The buyer has more interest in having the capital gains tax paid
immediately since this is a pre-requisite to the issuance of a new
Torrens title in his name.
75
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
the Register of Deeds which in no case shall be more than 3
months after foreclosure
44
 PM REYES NOTES ON TAXATION I:
INCOME TAX
capital gains tax on the foreclosure sale shall become
due.
Q52.5.1. ABC Company took out a loan
from XYZ bank and mortgaged
one of its properties as
collateral. ABC was unable to
pay so XYZ extrajudicially
foreclosed the property and
bought it. Before the expiration
of the one-year redemption
76
period, the mortgagor notified
the bank of its intention to
redeem the property. Is XYZ
liable to pay the capital gains tax
as a result of the foreclosure
sale?
No. In foreclosure sale, there is no actual transfer of
the mortgaged real property until after the expiration
of the one-year period and title is consolidated in the
name of the mortgagee in case of non-redemption.
This is because before the period expires there is yet
no transfer of title and no profit or gain is realized by
the mortgagor.
Q52.6. If title to property is transferred to
one spouse as a result of a court
decision in an annulment case, is
the transfer subject to capital
gains tax?
No. In BIR Ruling DA-029-08 [JANUARY 23, 2008],
title to a house and lot was transferred to the
husband by virtue of a decision of the court declaring
his marriage with his wife null and void. In BIR
Ruling DA 287-07 [M AY 8, 2007], title to a
condominium unit was transferred to the wife as a
result of an agreement to distribute communal
property executed in the course of annulment
proceedings. In both BIR Rulings, the CIR held that
the transfer of the title of the subject properties are
not subject to capital gains tax, as such transfers are
equivalent to a conveyance but without monetary
consideration, made in accordance with the Court's
Decision granting parties agreement for the
distribution of communal property.
OCWs/Senior Citizens/Disabled
76
The foreclosure sale in the case on which the question is based
took place prior to the effectivity of the Act.
PIERRE MARTIN DE LEON REYES
Q53. What are the requirements for OCWs
and seafarers or seamen to be
considered OCWs for taxation
purposes?
To be considered as an OCW, they must be duly
registered as such with the POEA with a valid
Overseas Employment Certificate (OEC). In the case
of seafarers or seamen, they must be duly registered
with the POEA with a valid OEC and with a valid
Seafarers   Identification   Record   Book   or   Seaman’s  
book issued by the MARINA. (see RR NO. 001-11
[FEBRUARY 24, 2011]).
Q53.1. What is the tax treatment of OCWs
for purposes of income tax?
An   OCW’s   income   arising   out   of   his   overseas
employment is exempt from income tax. If he has
income earnings from business activities or
properties within the Philippines, such income
earnings are subject to Philippine income tax.
Q53.2. Are OCWs and seafarers exempt
from the 7.5% final tax on interest
income from a depository bank
under the EFCDS?
No, because OCW and seamen are non-residents.
As such, they are exempt from the final tax. To avail
of the tax exemption, they must present proof of non-
residency   such   as   their   OEC   or   Seaman’s   book.  
However, if the account is jointly in the name of the
OCW and an individual living in the Philippines, half
of the interest income will be treated as tax-exempt
and the remaining half shall be subject to the final
tax. (see RR NO. 001-11 [FEBRUARY 24, 2011]).
Q54. What is the tax treatment of senior
citizens for purposes of income tax?
Generally, qualified senior citizens deriving returnable
income during the taxable year, whether from
compensation or otherwise, are required to file their
income tax return and pay the tax.
However, he shall be exempt under the following
cases:
1. The returnable income is in the nature of
compensation income but he qualifies as a
minimum wage earner; and
2. If the aggregate amount of gross income earned
by the Senior Citizen during the taxable year
45
 PM REYES NOTES ON TAXATION I:
INCOME TAX
does not exceed the amount of his personal
exemptions (basic and additional)
Note that the exemption of senior citizens from
income tax does not extend to all types of income
earned during the taxable year such as those subject
to final taxes. (see RR No. 007-10 [JULY 20, 2010].)
Q54.1. Is the 20% sales discount granted
by establishments to qualified
senior citizens considered a tax
credit or a tax deduction?
In M.E. HOLDING CORPORATION V. COURT OF APPEALS
[M ARCH 3, 2008], the Supreme Court noted that
under RA 9257 or the Expanded Senior Citizens Act
of 2003, starting taxable year 2004, the 20% sales
discount shall be treated as a tax deduction and no
longer as a tax credit.
Q54.1.1. What is the difference between
a tax 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   Q56.2. How should these exemptions be
deduction only benefits the taxpayer to the extent of a
percentage of the amount granted as a discount.
(See CARLOS SUPERDRUG CORP. V. DSQS [JUNE 29,
2007] and M.E. HOLDING CORPORATION V. COURT OF
APPEALS [M ARCH 3, 2008])
Q55. Can a benefactor77 of a PWD whose civil
status   is   single   avail   of   the   “head   of   individual taxpayers?
family”  status  to  be  entitled  to  personal  
exemption?
It is no longer necessary. RA 9442, which amends
RA 7277 or the Magna Carta for Persons with
Disability, provides that a benefactor of a PWD
whose civil status is single shall be considered as
“head   of   family”   and,   as   such,   shall   be   entitled   to  
personal   exemption.   However,   the   terms   “head   of  
family”   and   “his/her dependents”   for   purposes   of  
availing personal exemption have been eliminated in
view of an amendment brought about by RA 9504.
The rule is that individual taxpayers regardless of
status are entitled to the personal exemption. [see
RR NO. 001-09 [DECEMBER 9, 2008].
Personal and additional Exemptions/
PERA
77
A benefactor refers to any person, whether related or not to the
person with disability, who takes care of him/her as a dependent
PIERRE MARTIN DE LEON REYES
Q56. What is the rationale behind personal
and additional exemptions under the
Tax Code?
Exemptions are fixed at arbitrary amounts intended to
substitute for the disallowance of personal or living
expenses as deductible items from the taxable
income of certain individual taxpayers. The amounts
represent   roughly   the   equivalent   of   the   taxpayer’s  
minimum subsistence and those of his
dependents.(see PANSACOLA V. CIR [NOVEMBER 16,
2006])
Q56.1. Which kinds of individual
taxpayers can avail of personal
and additional exemptions?
Citizens and resident aliens are allowed personal
and additional exemptions; nonresident aliens
engaged in trade or business in the Philippines
are entitled to personal exemptions only by way of
78
reciprocity but not to additional exemptions.
credited?
These exemptions must first be credited against
gross compensation income; the excess, if any, can
be used to offset taxable net income.
Q57. What is personal exemption allowed to
79
All individual taxpayers, regardless of status, shall
be allowed a basic personal exemption of P50,000.
78
Thus, for a nonresident alien, his entitltment to personal and
additional exemption depends on whether he is engaged in trade
or business and his country of residence allows exemption to
Filipinos. If not engaged, he will not be allowed the exemption.
Note as well that employees of ROHQs, OBUs, and FCDUs are
not entitled to personal and additional exemptions as they are
subject to tax on gross income without the benefit of deductions/
exemptions.
79
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
P50,000.
46
 PM REYES NOTES ON TAXATION I:
INCOME TAX
Q57.1. 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.

Q58. What are the additional exemptions Q58.2. What is the rule for spouses and
allowed to individual taxpayers? legally separated spouses?
There shall be allowed an additional exemption of The additional exemption for dependents can be
80
P25,000 for each dependent not exceeding four. claimed by only one of the spouses. In the case of
legally separated spouses, additional exemptions
Living — Q58.1. Who   is   a   “dependent”   under   the   may be claimed only by the spouse who has custody
those who Tax Code? of the child or children.
are living
away by A dependent means a legitimate, illegitimate, or
81 Q59. What   is   the   “status-at-the-end-of-the-
“force”, are legally adopted child chiefly dependent upon and year”   rule   or   the   “change-of-status”  
still entitled living with the taxpayer if such dependent is not more rule with respect to personal and
to claim than 21 years of age, unmarried and not gainfully additional exemptions?
exemptions. employed or if such dependent, regardless of age, is
incapable of self-support because of mental or This means that whatever is the status of the
physical defect. taxpayer at the end of the calendar year shall be
used for purposes of determining his personal and
Q54.1.2. Are illegitimate children additional exemptions.
considered for additional
exemptions? As held in PANSACOLA V. CIR [NOVEMBER 16, 2006],
what the law should consider for the purpose of
Yes. By express wording of the law, a dependent determining the tax due from an individual taxpayer is
includes an illegitimate child. his status and qualified dependents at the close of
the taxable year and not at the time the return is filed
and the tax due thereon is paid.
Q54.1.3. May parents and siblings be
considered as additional A change of status of the taxpayer during the taxable
82
exemptions? year generally benefits, but does not prejudice him.

R.A. No. No. parents and siblings are considered dependents In the following cases, the rule is applied as follows:
9504 — only for purposes of qualifying an individual to
there are no become head of a family but not for purposes of 1. If the taxpayer marries or should have additional
longer additional exemptions. dependents during the taxable year, he may
heads of claim the corresponding additional exemption in
families. Q54.1.4. Are senior citizens supported full for such year.
and living with a taxpayer 2. If the taxpayer dies during the taxable year, his
considered as additional tax estate may still claim the personal and additional
exemptions? exemptions for himself and his dependents as if
he died at the close of such year.
No.   The   word   “dependent”   does   not   include   senior   3. If the spouse or any of the dependents dies or if
citizens. any such dependent marries, becomes 21 years
old or becomes gainfully employed during the
Q54.1.5. Is a foster child considered a taxable year, the taxpayer may still claim the
dependent? same exemptions as if the spouse or any oth e
dependents died, or if such dependents married,
80
Previously, the amount was P8,000.
81
Note that Illegitimate children are included in the definition of
82
dependents and in the entitlement for additional exemption. The rule of thumb is that which will be beneficial to the taxpayer.

PIERRE MARTIN DE LEON REYES 47

 PM REYES NOTES ON TAXATION I:
INCOME TAX
became 21 years old or became gainfully Q62. May GPPs claim OSD?
employed at the close of such year.
Yes. RR 2-2010 [FEBRUARY 18, 2010] provides for
Q60. What is the tax treatment of PERA the rules in the determination of the OSD of GPPs.
investment income with respect to Refer to Q40.1.
income tax?
Corporations
The investment income of a contributor consisting of
all income earned from the investments and Q63. Define taxable income and gross
reinvestments of his PERA assets in the maximum income for purposes of corporate
amount allowed shall be exempt from income tax income taxes.
provided that:
Taxable means the pertinent items of gross
1. Each of the investment products must be Income income specified in the Code, less
approved by the concerned regulatory authority the deductions and/or personal
2. Non-income taxes, if applicable, relating to the and additional exemptions, if any
above investment income, shall remain authorized for such types of
imposable. income by the Code or other
special laws. For corporations,
Partnerships (GPPs)83 taxable income would mean net
income. Net income and taxable
Q61. What is the tax treatment of a GPP? income is used interchangeably
when it comes to corporations.
The GPP as an entity is not liable for income tax. Gross Income Shall mean gross sales less sales
However, the persons engaging in business as returns, discounts, allowances and
partners in a GPP shall be liable for income tax only cost of goods sold.
in their separate and individual capacities for their
respective distributive share in the net income of the Q63.1. Why is the distinction of the two
GPP. relevant for purposes of corporate
Q61.1. How is the distributive share of the income tax?
partners computed?
1. For domestic corporations and resident foreign
corporations, Regular Corporate Income Tax
The net income of the GPP shall be computed in the
(RCIT) is imposed on taxable income. For non-
same manner as a corporation. Each partner shall
resident foreign corporations, RCIT is imposed
report as gross income his distributive share, actually
on its gross income.
or constructively received, in the net income of the
2. When applicable, MCIT is imposed on the gross
partnership.
income of domestic and resident foreign
Q61.2. When is the net income of a corporations.
partnership deemed constructively
received by partners? Domestic Corporations

The taxable income declared by a partnership which Ordinary Income

is subject to corporate income tax, after deducting the
said corporate income tax, shall be deemed to have
Q64. What is the regular corporate income
been actually or constructively received by the
partners in the same taxable year and shall be taxed tax imposed on corporations?
to them in their individual capacity, whether actually 84
distributed or not. The rate of RCIT imposed on corporations is 30%.

83
Previously, we have said that a partnership is liable for income
tax  as  the  term  “corporations”  includes  partnerships  no  matter  how  
84
created or organized except GPPs. In this, GPPs will be discussed Note that it was 35% effective November 1, 2005 but on January
instead. 1, 2009, the effective rate is now 30%.

PIERRE MARTIN DE LEON REYES 48

Between resident citizen and domestic
receives dividends from foreign corps:
RC - 10%
D - 0% PM REYES NOTES ON TAXATION I:
INCOME TAX
For domestic corporations:
1. The rate is imposed on taxable income from
sources within and without the Philippines.
2. Different rates of tax apply on certain passive
incomes.
For resident foreign corporations:
1. The rate is imposed on taxable income from
sources within the Philippines.
2. Different rates of tax apply on certain passive
incomes.
For nonresident foreign corporations:
1. The rate is imposed on gross income from all
sources within the Philippines.
2. The gross income includes those income sourced
from certain passive incomes including capital
gains.
3. However, capital gains from sales of shares of
stock not traded in the stock exchange are, not
included in the gross income as well as interest
from foreign loans and intercorporate dividends
which are subject to final tax rates.
Q65. May the President allow domestic and
resident foreign corporations the option
to be taxed on their gross income?
Yes. As provided under Section 27(A)(1) and
Section 28(A)(1), the President upon
recommendation of the Secretary of Finance may
allow domestic and resident foreign corporations the
option to be taxed at 15% of gross income after the
following conditions have been satisfied:
1. a tax effort ratio of 20% of the GNP
2. a ratio of 40% of income tax collection to total
tax revenues
3. a VAT tax effort of 4% of GNP
4. a 0.9% ratio of Consolidated Public Sector
Financial Position (CPSFP) to GNP
This option is available to firms whose ratio of cost of
sales to gross sales or receipts from all sources does
not exceed 55%. Upon election of the gross income
tax option, it shall be irrevocable for 3 consecutive
taxable years during which the corporation is
qualified.
Q66. What domestic corporations are subject
to preferential tax rates?
PIERRE MARTIN DE LEON REYES
As a general rule, all domestic corporations are
subject to the RCIT. As exceptions, certain domestic
corporations are subject to final tax rates. They are:
1. Proprietary education institutions and
hospitals
2. Foreign currency deposit unit of a local
universal or commercial bank
3. Firms that are taxed under a special income
tax regime
4. Private educational institutions
5. Hospitals
Q67. Are GOCCs subject to corporate
income tax?
As a general rule, yes. As provided under Section
27(C), the provisions of special or general laws to the
contrary notwithstanding, all corporations, agencies
or instrumentalities owned or controlled by the
Government, except the GSIS, SSS, Philhealth,
and the PCSO, shall pay such rate of tax upon their
taxable income as imposed by this section upon
corporations or associations engaged in a similar
business, industry or activity.
Passive Income
Q68. What are some of the certain passive
incomes received by corporations?
1. Interests from Deposits and Yield or any other
Monetary Benefit from Deposit Substitutes and
from Trust Funds and Similar Arrangements and
Royalties
2. Income derived under the Expanded Foreign
Currency Deposit System
3. Intercorporate Dividends
4. Capital gains from sale of shares of stock not
traded in the Stock exchange under
5. Capital gains from sale of real property
85
85
Note that this is not considered a passive income for foreign
corporations, whether resident or nonresident. The simple reason
is because of the prohibition imposed by the Constitution on
foreign ownership of lands.
49
 PM REYES NOTES ON TAXATION I:
INCOME TAX
Q68.1. What is the tax treatment on 2. Income derived by a depository bank under the
corporations of income derived EFCDS from foreign currency transactions with
from dividends? non-residents, OBUs in the Philippines, local
commercial banks, including branches of foreign
1. If the dividends are from a domestic banks and other depository banks under the
corporation: EFCDS shall be exempt from all taxes.
3. Interest income from foreign currency loans
Domestic and resident foreign corporations are tax- granted by such depository banks under the
exempt as they are treated as inter-corporate EFCDS other than OBUs shall be subject to a
dividends. However, for resident foreign corporations, final tax of 10%.
they are subject to the 15% branch profit remittance
tax. Capital Gains Tax86

For non-resident foreign corporations, the dividend is Q69. Is the assignment and delivery of the
subject to: developed units to joint owners in a
Build-To-Own (BTO) scheme subject to
1. Tax treaty rate, if applicable capital gains tax?
2. 15% if no tax treaty but satisfies the tax-sparing
provision In a BTO, the developer makes it appear that it
3. 30% if no tax treaty and does not comply with the merely manages the construction of the condominium
tax-sparing provision project, and that the funds as contributed by the
individual investors are pooled in a bank with the
2. If the dividends are from a foreign corporation: developer, as project manager, receiving a project
management fee, In that scheme, it is claimed that
The income shall form part of the gross income of the the assignment and delivery to the individual
corporation but the situs of the income becomes investors of the developed units is not taxable as it is
material except for a domestic corporation which is merely a transfer of property held in trust by the
taxed on worldwide income. Trustee for the individual trustors. Previous BIR
rulings have exempted the assignment from capital
Q68.2. What is the tax treatment on gains tax. In In BIR RULING DA-455-07 [AUGUST 17,
corporations of interest income 2007], the conveyance of the condominium units by
from Deposits and Yield or any the trustee to the individual trustors pursuant to the
other Monetary Benefit from terms of the BTO contract and without consideration
Deposit Substitutes and from was held not subject to capital gains tax. However, in
RMC NO. 055-10 [JUNE 28, 2010], the CIR nullified all
Trust Funds and Similar
BIR Rulings exempting the scheme from capital gains
Arrangements and Royalties? tax. Thus, the present rule is that the assignment and
If the tax 1. Domestic and resident foreign corporations are delivery in BTO schemes are subject to capital gains
rate for tax. Semi-global aspect of taxation
subject to a final tax of 20%.
something 2. Subject to a final withholding tax of 30% if — Section 24(A) — because it
is not Resident Foreign Corporations just states all the income that
received by a foreign nonresident corporation, are taxable and provides a fixed
specifically unless the interest income is from foreign loans You dont need to be
stated, it contracted on or before August 1, 1986, in which In general registered as long as you tax rate.
does not are “engaged in business”
case it is subject to a FWT of 20%
mean it is Q70. What is the difference between a branch
exempt.
Q68.3. What is the tax treatment on and a subsidiary?
Rather, it
will form corporations of income derived
For purposes of taxation, a subsidiary is considered a
part of your under the EFCDS? domestic corporation while a branch is a resident
regular foreign corporation.
income 1. Domestic and resident foreign corporations are
subject to subject to a final tax of 7.5%. Any income of non- Domestic v. Resident Foreign Corp. differ in treatment of the ff:
30% tax residents, whether individuals or corporations, — Royalties, capital gains on disposition of property, prizes, dividends
shall be tax-exempt. 86
Same rates and rules as in the case of individual taxpayers.
Refer to that discussion in the reviewer.
Domestic v. Resident Foreign Corp.
Q: Sells at a price lower than acquisition
PIERRE MARTIN DE LEON REYES A: D would be taxed under presumed gain. RFC 50
would not be taxed since “no gain” would reflect in
their taxable income.
 R.A. No. 10378 — the airline would be
exempt from tax if the PH has a counterpart
in their jurisdiction which enjoys similar
PM REYES NOTES ON TAXATION I:exemption.
— This affects the UA v. CIR decision,
INCOME TAX although not the focus.

Q71. What resident foreign corporations are taxed on the income they derive from Philippine
subject to preferential tax rates? sources.

As a general rule, all resident foreign corporations
are subject to the RCIT. As exceptions, certain
resident foreign corporations are subject to final
rates. They are:
1. Regional or area headquarters (RHQ) (a branch
established in the Philippines by MNCs and
which does not earn or derive income from the
87
Philippines and whose role is supervisory)
2. Representative office (a branch in the Philippines
of a MNC whose activities are limited to
information dissemination, product promotion)
88
3. International carriers by air or water
89
4. Offshore Banking Units
5. Foreign Currency deposit Unit (FCDU) in the
90
Philippines of a foreign bank
91
6. Regional Operating Headquarters (ROHQ)
7. Branch of foreign corporation with respect to
profit remittances to head office.
8. Branch of foreign corporations registered with
PEZA, SBMA, CDA, CDJHA.
9. Qualified service contractor or subcontractor
engaged in petroleum operations in the
Philippines
Just because International Carrier
you have
landing rightsQ72. For purposes of income taxation, what
does not
mean you is an international carrier?
are “engaged
in business” An International carrier shall refer to a foreign airline
corporation doing business in the Philippines having
If you sell been granted landing rights in any Philippine port to
tickets in the perform international air transportation
PH services/activities or flight operations anywhere in the
automatically world (see RR NO. 15-2002)
make you
engaged in Q73. What is Gross Philippine Billings?
business.
The 2.5% tax on gross Philippine billings is an
income tax levied on the presumed gain of the airline
and shipping companies. It ensures that they are
87
They are tax-exempt.
88
An international carrier doing business in the Philippines shall
pay a tax of 2.5% on its Gross Philippine Billings
89
Income derived by OBUs from foreign currency transactions with
nonresidents, other OBUs, and local commercial banks are tax-
exempt.If the foreign currency transactions are with residents other
than OBUs and local commercial banks, the interest income shall
be subject to 10%
90
See Q68.3.
91
They shall pay a tax of 10% of their taxable income
For an international air carrier, Gross Philippine
Billings refers to the amount of gross revenue derived
from carriage of persons, excess baggage, cargo and
mail originating from the Philippines in a continuous
and uninterrupted flight, irrespective of the place of
sale or issue and the place of payment of the ticket or
passage document.
For International Shipping, Gross Philippine Billings
means gross revenue whether for passenger, cargo
or mail originating from the Philippines up to final
destination, regardless of the place of sale or
payments of the passage or freight documents
Q73.1. ABC Shipping is a foreign
corporation. XYZ chartered one of
ABC’s   ships   to   load   raw   sugar   in  
the Philippines. Upon arriving at
the port, the vessel found no sugar
for loading. The ship sailed back
without carrying any sugar. Is ABC
Shipping liable for gross
Philippine billings tax?
No. A resident foreign corporation engaged in the
transport of cargo is liable for taxes depending on the
amount of income it derives from sources within the
Philippines. ABC derived no receipt from its charter
agreement with XYZ. The vessel arrived in the port
on but found no raw sugar to load and returned
without any cargo laden on board (see CIR vs.
Tokyo Shipping [M AY 26, 1995])
Q73.2. What is the tax treatment of an
international air carrier with flights
originating from Philippine ports?
RR No. 15-2002 provides that such an international
air carrier, irrespective of the place where passage
documents are sold or issued, is subject to the Gross
Philippine Billings tax unless subject to a different tax
rate under the applicable tax treaty to which the
Philippines is a signatory.
Q73.3. What is the tax treatment of
foreign airline companies who do
not have flights from or passing
through any point in the
Philippines but have a branch

PIERRE MARTIN DE LEON REYES 51


PM REYES NOTES ON TAXATION I: foreign
INCOME TAX
office or a sales agent in the (see CIR
Philippines which sells tickets? Z EALAND V . CIR [CTA C ASE , J ANUARY
UNITED AIRLINES V. CIR [SEPTEMBER 29, 2010])
RR No. 15-2002 provides that such off-line airline is
not considered engaged in business as an
international air carrier and is, therefore, not subject
to the Gross Philippine billings tax.
However, the sale of tickets is taxable as income
from sources within the Philippines.
Q73.4. ABC Airlines is an off-line
international carrier selling
passage documents through an
independent sales agent in the
Philippines. Is ABC engaged in
trade or business in the
Philippines and, as such, subject
to the corporate income tax on
resident foreign corporations?
In order that a foreign corporation may be regarded
as doing business within a State, there must be
continuity of conduct and intention to establish a
continuous business, such as the appointment of a
local agent, and not one of a temporary character.
Here, ABC maintained a general sales agent and it
was engaged in selling or issuing tickets, which is
considered the main lifeblood of an airline.
The absence of flight operations to and from the
Philippines is not determinative of the source of
income for purposes of ascertaining income tax
liability. It is sufficient that the income is derived from
activity within the Philippine territory. For the source
of income to be considered as coming from the
Philippines, it is sufficient that the income is derived
from activity within the Philippines. In  ABC’s  case,  the   profits abroad.
sale of tickets in the Philippines is the activity that
produces the income. The tickets exchanged hands
here in the country and the payments for fares were
also made with Philippine currency. The site of the
source of payments is the Philippines.
If an international air carrier maintains flights to and
from the Philippines, it shall be taxed at the rate of
2.5% of its Gross Philippine billings, while
international air carriers that do not have flights to
and from the Philippines but nonetheless earn
income from other activities in the country will be
taxed at the corporate income tax rate. Here, ABC
earns income from the sale of tickets.
PIERRE MARTIN DE LEON REYES
Subsidiary v. Branch
— Subsidiary is a domestic corporation
whose equity ownership may be wholly
— Branch and its foreign head office is one
and the same, with the branch being a
resident foreign corp. registered with the
V . BOAC [A PRIL 30, 1987], AIR NEW
30, 2008] and
Single-entitty Rule — the head
OBUs/FCDUs92 and branch is one and the
same. Passive income items
Branch Profit Remittance Tax do not form part of the income
items subject to BPRT.
Q74. What is a branch profit remittance tax?
Any profit remitted by a branch to its head office shall
be subject to a tax of 15% which shall be based on
the total profits applied or earmarked for remittance
without any deduction for the tax component thereof
except those activities which are registered with the
PEZA.
Q74.1. What is the purpose of the branch
profit remittance tax?
The purpose of a branch profit remittance tax is to
equalize the tax burden on foreign corporations
maintaining on one hand, local branch offices, and
organizing, on the other hand, a subsidiary domestic
corporation   where   at   least   majority   of   all   the   latter’s  
stocks are owned by such foreign corporations.
As explained in the case of BANK OF AMERICA VS.
COURT OF APPEALS [JULY 21, 1994], prior to
amendment, local branches were made to pay only
the usual corporate income tax of 25% to 35% then
on net income applicable to resident foreign
corporations while Philippine subsidiary corporations
were subject to the same rate on their net income but
their dividend payments were additionally subjected
to a 15% withholding tax. Thus to eliminate this
unequal tax treatment, a branch profit remittance tax
was imposed on local branches on their remittance of
Q74.2. What is the correct tax base for
computing the branch profit
remittance   tax?   Is   it   the   “profit
actually   remitted”   or   “the   amount  
actually  applied  for”?
The correct tax base is the amount actually applied
for by the branch with the Central Bank as profit to be
remitted abroad.
In BANK OF AMERICA VS. COURT OF APPEALS [JULY 21,
1994], the Supreme Court held that the the tax base
92
Refer to questions on the tax treatment of interest income
derived from transactions with OBUs and FCDUs as provided in
RR 14-2012.
52
When the PEZA is the one remitting, it will
not be subject to BPRT.

PM REYES NOTES ON TAXATION I:

INCOME TAX
upon which the 15% which the 15% branch profits Regional or Area Headquarters and
remittance tax shall be imposed is the profit actually ROHQs
remitted abroad and not the total branch profits out of
which the remittance is to be made. We note,
however, that the applicable law for the branch profit Q75. Define regional or area headquarters
remittance tax specifies the tax base to be on the and a regional operating headquarters.
profit remitted abroad.
Regional or Shall mean a branch established in
In COMPANIA GENERAL V. CIR [CTA CASE NO. 4141 area the Philippines by MNCs and
AUGUST 23, 1993], Compania General contended that headquarters which headquarters do not earn or
the correct tax base for computing the branch profit (RHQs) derive income from the Philippines
remittance tax is the profit actually remitted abroad Limited acts and which act as supervisory,
given its reliance on previous BIR rulings and the allowed. Exempted communications and coordinating
case of CIR v. Burroughs. On the other hand, the CIR from tax since the center for their affiliates,
contends that, because of RMC Circular No. 8-82 things it does don’t subsidiaries, or branches in the
[March 17, 1982], the tax base should be the amount generate income. Asia-Pacific Region and other
actually applied for by the branch with the Central foreign markets
Bank of the Philippines as profit to be remitted Regional Shall mean a branch established in
abroad. The CTA ruled in favour of the CIR as the Operating the Philippines by multinational
branch profit remittance taxes were paid after the Headquarters companies which are engaged in
effectivity of RMC No. 8-82. (ROHQs) any of the following services:
general administration; business
Q74.3. Norway and the Philippines planning and coordination;
sourcing and procurement of raw
entered into a tax treaty. Article 25
materials and components;
of the Convention provides for corporate finance advisory
equal treatment between nationals services; marketing control and
of the two countries and as sales promotion; training and
between a Norwegian enterprise in personal management; logistic
the Philippines and a domestic services; research and
enterprise. Det Norske Philippines, development services and product
a local branch of De Norske, a development; technical support
Norwegian enterprise, invokes and maintenance; data processing
Article 25 for the non-imposition of and communications; and
business development
the branch profits remittance tax.
Is its contention valid? Q75.1. What is the tax treatment of RHQs
and ROHQs?
No. In ITAD BIR RULING NO. 018-09 [JUNE 23, 2009],
the CIR ruled that the principle of equal treatment in
RHQs are not subject to income tax while ROHQs
Article 25 does not prevent the imposition of the
shall pay a tax of 10% of their taxable income
branch profit remittance tax. First, the principle of
equal treatment is limited to nationals of the Q75.2. What is the tax treatment of the
Philippines and of Norway who are both residents of
income derived by alien
the Philippines. While indeed Det Norske is a national
of Norway, it is not a resident of the Philippines. individuals and qualified Filipino
Second, while the treaty lays down a principle of personnel employed by RHQs and
equal treatment between a Norwegian enterprise in ROHQs?
the Philippines and a domestic enterprise, as long as
the aggregate taxes imposed by the Philippines on A FWT of 15% shall be withheld from the gross
such Norwegian enterprise is not greater than the income derived by every alien individual occupying
taxes imposed by the Philippines on a domestic managerial and technical positions in RHQs and
enterprise, it cannot be considered that such ROHQs and representative offices established in the
Norwegian enterprise is treated less favourably in the Philippines multinational companies as salaries,
Philippines than the domestic enterprise. wages, annuities, compensation, remuneration, and
other emoluments, such as honoraria and

PIERRE MARTIN DE LEON REYES 53

 PM REYES NOTES ON TAXATION I:
INCOME TAX
allowances, except income which is subject to fringe
benefits tax, from such regional or area headquarters
and regional operating headquarters.
The same tax treatment shall apply to Filipinos
employed and occupying the same positions as those
aliens employed by RHQs and ROHQs of
multinational companies, regardless of whether or not
there is an alien executive occupying the same
position. (see RR 11-2010 [October 26, 2010])
Q75.2.1. Can the Filipino employee opt
to be taxed at the regular
income tax rate?
Yes, such Filipinos employed by RHQs and ROHQs
in a managerial or technical position shall have the
option to be taxed at either 15% of gross income or at
the regular rate on their taxable income in
accordance with the Tax Code if the RHQ or ROHQ
93
is governed by Book III of E.O. 226, as amended by
R.A. No. 8756. (see RR 11-2010 [October 26, 2010])
Q75.2.2. If the Filipino is not a
managerial or technical
employee, can he avail of the
15% final income tax rate?
No. As clarified by RR 11-2010 [October 26, 2010],
all other employees other than those in managerial or
technical positions are considered as regular
employees who are subject to the regular income tax
rate on their taxable compensation income.
Q75.2.3. What are the requirements in
order for a Filipino to be
THREE-FOLD TEST applicable to deemed occupying a tax rate of 10% provided for in the RP-Germany Tax
FIlipinos
managerial or technical
1. Function
position the same as that of an
2. Compensation
3. Exclusivity alien employed in an ROHQs
or RHQ?
1. Position and Function Test — The employee
must occupy a managerial position or technical
position AND must actually be exercising such
managerial or technical functions pertaining to
said position;
2. Compensation Threshold Test — In order to be
considered a managerial or technical employee
for income tax purposes, the employee must
have received, or is due to receive under a
contract of employment, a gross annual taxable
93
Book III of EO 226 (or the Omnibus Investments Code) refers to
Incentives to MNCs establishing RHQs and ROHQs in the
Philippines
PIERRE MARTIN DE LEON REYES
compensation of at least PhP975,000.00
9495
(whether or not this is actually received);
3. Exclusivity Test — The Filipino managerial or
technical employee must be exclusively working
for the RHQ or ROHQ as a regular employee and
not just a consultant or contractual personnel.
Exclusivity means having just one employer at a
time.
Nonresident Foreign Corporations
In general
Q76. XYZ Corporation is a domestic
corporation which entered into a
license agreement with ABC
Corporation, a non-resident foreign
corporation based in the US pursuant to
which the former was granted the right
to use trademark, patents and
technology owned by the latter. For
such use, XYZ paid royalties to ABC
and subjected the same to the 25%
withholding tax on royalty payments.
XYZ claimed for a refund and argues
that the withholding tax should only be
10% pursuant to the most-favoured
nation clause of the RP-US Tax Treaty
in relation to the RP-West Germany Tax
Treaty.  Is  XYZ’s  contention  correct?
No. In CIR V. S.C. JOHNSON AND SONS, INC. [JUNE 25,
1999], the Supreme Court held that the concessional
Treaty could not apply to taxes imposed upon
royalties in the RP-US Tax Treaty since the two taxes
imposed under the two tax treaties are not paid under
similar circumstances and do not contain similar
provisions on tax crediting. It is not proved that the
RP-US Tax Treaty grants similar tax reliefs to
residents of the US in respect of the taxes imposable
upon royalties earned from sources within the
Philippines as those allowed to their German
counterparts. Further, the RP-Germany Tax Treaty
allows for crediting against German income and
94
If there is a change in compensation as a consequence of which,
such employee subsequently receiving less than the compensation
threshold, the employee shall be subject to the regular income tax
rate for the calendar year when the change becomes effective.
95
Beginning December 31, 2013 and on December 31 every three
years thereafter, the compensation threshold shall be adjusted to
its present value using the Philippine Consumer Price Index (CPI),
as published by the National Statistics Office.
54
 PM REYES NOTES ON TAXATION I:
INCOME TAX
corporate tax of 20% of the gross amount of royalties
paid under the law of the Philippines. On the other
hand, the RP-US Tax Treaty does not provide for the
similar crediting of 20% of the gross amount of
royalties paid. The similarity in the circumstances of
payment of taxes is a condition for the enjoyment of
most favored nation treatment precisely to
underscore the need for equality of treatment. since
the RP-US Tax Treaty does not give a matching tax
credit of 20 percent for the taxes paid to the
Philippines on royalties as allowed under the RP-
West Germany Tax Treaty, XYZ cannot be deemed
entitled to the 10 percent rate granted under the latter
treaty for the reason that there is no payment of taxes
on royalties under similar circumstances.
Q77. ABC Corporation, a foreign corporation
Marubeni wanted in Japan and licensed to do engage in
to be an RFC business in the Philippines (hence, a
because the tax resident foreign corporation) has equity
was lower than if it
investments in XYZ Company, a
was classified as
domestic corporation. XYZ declared
an NRFC, in which
and paid cash dividends to ABC. XYZ
case the dividends
are taxes at 15%. directly remitted the 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 tax of 10%. ABC argues
that following the principal-agent
relationship theory, ABC is a resident
foreign corporation subject only to the
10 % intercorporate final tax on
dividends received from a domestic
corporation. Is ABC correct?
No. The general rule that a foreign corporation is the
same juridical entity as its branch office in the
Philippines cannot apply here. This rule is based on
the premise that the business of the foreign
corporation is conducted through its branch office,
following the principal agent relationship theory. It is
understood that the branch becomes its agent here.
So that when the foreign corporation transacts
business in the Philippines independently of its
branch, the principal-agent relationship is set aside.
The transaction becomes one of the foreign
corporation, not of the branch. Consequently, the
taxpayer is the foreign corporation, not the branch or
the resident foreign corporation. Corollarily, if the
business transaction is conducted through the branch
PIERRE MARTIN DE LEON REYES
office, the latter becomes the taxpayer, and not the
foreign corporation. (see MARUBENI CORPORATION VS.
CIR [SEPTEMBER 14, 1989]).
Q78. XYZ is a foreign shipping company. It
does not have a branch office in the
Philippines and it made only two calls
in Philippine ports. What kind of foreign
corporation is XYZ?
XYZ is a foreign corporation not authorized or
licensed to do business in the Philippines. In order
that a foreign corporation may be considered
engaged in trade or business, its business
transactions must be continuous. A casual
business activity in the Philippines by a foreign
corporation does not amount to engaging in trade
or business in the Philippines for income tax
purposes. Accordingly, its taxable income for
purposes of our income tax law consists of its gross
income from all sources within the Philippines. (see
N.V. REEDERIJ “AMSTERDAM” VS. CIR [JUNE 23,
1988])
Special nonresident foreign corporations
Q79. Enumerate the non-resident foreign
corporations whose income is subject to
preferential tax rates.
As a general rule, the gross income of a non-resident
foreign corporation is subject to the flat rate tax of
30%. As exceptions, the following are subject to final
tax rates and final withholding taxes:
1. Income of a non-resident cinematographic film
96
owner, lessor or distributor
2. Income of a non-resident owner or lessor of
97
vessels chartered by Philippine nationals
3. Income of a non-resident owner of aircraft,
98
machineries and other equipment
Mo MCIT for these special corporations
96
Such corporation shall pay a tax of 25% of its gross income from
sources within the Philippines
97
Such corporation shall be subject to a tax of 4.5% of gross
rentals, lease or charter fees from leases or charters to Filipino
citizens or corporations, as approved by the Marina
98
Such corporations shall be subject to a tax of 7.5% of gross
rentals of fees
55
 The Philippines has to provide the lower
tax rate, and the US has to provide the tax
sparing provision.
PM REYES NOTES ON TAXATION I: The providing state provides the “deemed
paid” status to preserve the benefit trying
INCOME TAX to be given by the developing state.

Tax on Certain Incomes of Non-resident exempted or reduced are considered as having been
Foreign Corporations fully paid.

In the Philippines, the 15% tax on dividends received

Q80. Enumerate the incomes of non-resident by a non-resident foreign corporation from a domestic
foreign corporations subject to corporation is imposed subject to the condition that
preferential tax rates the country in which the nonresident foreign
corporation is domiciled shall allow a credit against
1. Interest income on foreign loans contract on or the tax due from the nonresident foreign corporation
after August 1, 1986. taxes deemed to have been paid in the Philippines
2. Intercorporate dividends received from a equivalent to 15%, which represents the different
domestic corporation between the regular income tax of 30% and the 15%
100
3. Income covered by Tax Treaties tax on dividends.

Q80.1. What is the tax treatment on Q80.2.2. Illustrate the application of the
interest income on foreign loans tax-sparing provision by
101
from a non-resident foreign providing an example.
corporation?
1. "X" Foreign Corp. Tax Liability with no preferential
rates
If the foreign loan is contracted on or after August 1,
1986, it shall be subject to a FWT at the rate of 20%. "X" Foreign Corporation income 400
102
Foreign Tax rate (50%) 200
Q80.2. What is the tax treatment on RP Tax Rate (30%)
103
120
dividends received from a Foreign Tax Credit 120
104
domestic corporation by a non- "X" tax payable to Foreign 80
resident foreign corporation? "X" tax payable to RP 120

For non-resident foreign corporations, the dividend is Here, the total tax payable of the foreign corporation
subject to: is 200.

1. Tax treaty rate, if applicable 2. "X" Foreign Corp. Tax Liability with Preferential
2. 15% if no tax treaty but satisfies the tax-sparing Rate and without Tax Sparing
provision
3. 30% if no tax treaty and does not comply with the "X" Foreign Corporation income 400
tax-sparing provision Foreign Tax rate (50%) 200
RP Tax Rate (15%) 60
Q80.2.1. What is a tax-sparing Foreign Tax Credit 60
provision? "X" tax payable to Foreign 140
"X" tax payable to RP 60
As explained in the case of CIR V. PROCTER &
GAMBLE PHILIPPINES [DECEMBER 2, 1999]: A more Here, the total tax payable of the foreign corporation
general way of mitigating the impact of double is still the same at 200.
taxation is to recognize the foreign tax as a tax credit.
However, the principal defect of the tax credit system
is when low tax rates or special tax concessions are 100
Note that previously, it was 20% which represents the
granted in a country for the obvious reason of difference between the RCIT of 35% and the 15% tax on
encouraging foreign investments. For instance, if the dividends.
usual tax rate is 35 percent but a concession rate 101
The example provided in the case of CIR v. Procter & Gamble
accrues to the country of the investor rather than to uses the old rates. This example modifies the example provided in
99 the case and uses the current rates effective January 1, 2009.
the investor himself. To obviate this, a tax sparing Note that the foreign tax rate and the foreign corporation income
provision may be stipulated. With tax sparing, taxes are hypothetical.
102
Income (400) x Foreign Tax Rate (50%) = 200
99 103
This means that, at the end of the day, the foreign investor Income (400) x RP Tax Rate (30%) = 120
104
would be paying the same total amount of taxes due to the foreign [Income (400) x Foreign Tax Rate (50%)] – Foreign Tax Credit
country and the Philippines. (120) = 80

PIERRE MARTIN DE LEON REYES 56

 PM REYES NOTES ON TAXATION I:
INCOME TAX
3. "X" Foreign Corp. Tax Liability with Preferential
Rate and with Tax Sparing
"X" Foreign Corporation income
Foreign Tax rate (50%)
RP Tax Rate (15%)
Foreign Tax Credit
"X" tax payable to Foreign
"X" tax payable to RP
The total tax payable of the foreign corporation is
now 140.
Q80.2.3. Is it required that the foreign
country   must   give   a   “deemed
paid”   tax   credit   for   the   In INTERPUBLIC GROUP OF COMPANIES, INC. VS.
dividend tax waived by the
Philippines making applicable
the preferred dividend tax rate
of 15%?
As ruled in CIR V. PROCTER & GAMBLE PHILIPPINES
[DECEMBER 2, 1999], the Tax Code does not require
that   the   foreign   country’s   tax   laws   deemed   the  
parent-corporation to have paid the dividend tax
waived by the Philippines. The Code only requires
that the foreign country shall allow the corporation a
“deemed   paid”   tax   credit   in   an   amount   equivalent   to
the percentage points waived by the Philippines.
Q80.2.4. When does a non-resident
foreign corporation become
entitled to the 15% FWT?
In INTERPUBLIC GROUP OF COMPANIES, INC. VS.
COMMISSIONER OF INTERNAL REVENUE [CTA CASE NO.
7796 DATED FEBRUARY 21, 2011], a US Corporation,
who owns 30% of the total and outstanding voting
capital stock of a Philippine advertising company filed
a claim for the refund or issuance of a TCC for
overpaid FWT on dividends withheld and remitted by
the Philippine company. In the administrative claim,
the US corporation alleged that, as a non-resident
foreign corporation, it may avail of the preferential
FWT rate of 15% on cash dividends received from a
domestic corporation during the taxable year 2006.
The CIR, in response, raised the question of whether
the US corporation is entitled to the FWT at the rate
of 15% or the rate of 20% in accordance with the RP-
US Tax Treaty.
The CTA, applying the ruling in CIR V. PROCTER &
GAMBLE PHILIPPINES [DECEMBER 2, 1999], concluded
that if the country of domicile of the recipient
400 corporation allows a credit against the tax imposable
106
200 by it an amount equivalent to 20% of the dividends
60 remitted from a Philippine domestic corporation to
105
120 corporations domiciled therein, the dividends remitted
80 are subject to FWT at the preferential rate of 15% in
60 accordance with Section 28 (b)(5)(b) of the Tax Code
of 1997, as amended.
Q80.2.5. Is there a need for a prior
ruling from the BIR in order to
avail of the benefit?
 
COMMISSIONER OF INTERNAL REVENUE [CTA CASE NO.
7796 DATED FEBRUARY 21, 2011], the CIR also
contended   that   the   US   company’s   transactions   were
bereft of any tax treaty relief application with the
International Tax Affairs Division (ITAD). On this
point, the CTA ruled that the same is not
107
necessary.
Q80.2.6. If the foreign country does not
impose a tax on the dividend,
is the dividend received by the
non-resident foreign
corporation subject to the 15%
FWT?
Yes. In BIR RULING DA-145-07 [M ARCH 8, 2007], SM
Investments asked for the   BIR’s   opinion   on   whether  
the cash dividends declared by them to Asia
Opportunities Limited, a corporation organized and
existing under the laws of the British Virgin Islands
are subject to 15% FWT. The CIR noted that the
International Business Companies Ordinance of the
Territory of the British Virgin Islands does not impose
any tax on dividends from foreign sources, which
logically would include those received from Philippine
corporations. As such, the dividend is subject only to
the FWT of 15%.
Q80.3. To avail the benefits of a tax treaty
provision, must it be preceded by
an application for a tax treaty relief
with the International Tax Affairs
Division (ITAD)?

105 106
The additional 60 will be considered as tax deemed paid or also Now, 15% effective January 1, 2009.
107
known   as   the   “phantom   tax.”   It   is   the   foreign   jurisdiction   that   will   This is subject to debate. This case implies that the benefit is
allow  the  “deemed  paid”  tax  credit. automatic without need for a TTRA.

PIERRE MARTIN DE LEON REYES 57

If the payor is liable on the Tax Treaty, he
won’t be liable in the Tax Code provisions.
— You will make a decisions based on
whether or not the other country has a tax PM REYES NOTES ON TAXATION
credit provision.
INCOME TAX
Yes. As provided in RMO 072-10 [AUGUST 25, 2010],
the ITAD is the sole office charged with the receiving
of tax treaty relief applications (TTRA). All tax treaty
relief applications relative to the implementation and
interpretation of the provisions of Philippine tax
treaties shall only be submitted to and received by
the International Tax Affairs Division (ITAD). All
rulings relative to the application, implementation and
interpretation of the provisions of Philippine tax
treaties shall emanate from ITAD.
In MIRANT V. CIR [CTA CASE NO. 7796, FEBRUARY 21,
2011], Mirant made income payments to VHL
enterprises, a US nonresident foreign corporation
and to WES World, a UK nonresident foreign
corporation. It accordingly withheld the tax due on
these interest payments. Thereafter, Mirant filed for a
refund contending that the two foreign corporations
have created   “permanent   establishments”   in   the   referring to the manner of payment of taxes and not
Philippines and thus making applicable the lower
withholding tax rate under the RP-UK and RP-US tax
treaties. The CTA noted that under those treaties,
VHL and WES World, while not having a fixed place
of business have   established   “permanent   both treaties is the amount actually paid in the
establishments”  in  the  Philippines  because  they  have   Philippines. Thus, the royalty payments by Energizer
“furnished   services   through   their   employees   or   other   to Eveready are subject to the preferential tax rate of
personnel for a period or periods the aggregate of
which is more than 183 days in a twelve-month
period."
However, under RMO 01-2000, it is provided that the
availment of a tax treaty provision must be preceded
by an application for a tax treaty relief with its
International Tax Affairs Division (ITAD). A foreign
corporation wishing to avail of the benefits of the tax
treaty should invoke the provisions of the tax treaty
and prove that indeed the provisions of the tax treaty
applies to it, before the benefits may be extended to
such corporation.The CTA noted that Mirant did not
make such application. Thus, the CTA finally held
that the income payments of Mirant to VHL and WES,
which are both non-resident foreign corporations, are
108109
subject to the final tax of 32%.
Q80.4. What is the meaning of most-
favoured nation (MFN) and how is
it applied to applications for tax
treaty reliefs?
108
Note that the applicable tax rate is now 30%.
109
Note, however, that in INTERPUBLIC GROUP OF COMPANIES, INC.
VS. COMMISSIONER OF INTERNAL REVENUE [CTA CASE NO. 7796
DATED FEBRUARY 21, 2011], the CTA, by way of obiter, stated that,
even with respect to the applicability of the 20% FWT under the
RP-US   Tax   Treaty,   a   tax   treaty   relief   application   “is   not   made   a   The obligation to withhold is compulsory as it makes
condition  precedent  by  law.”   such withholding agent personally liable for payment
PIERRE MARTIN DE LEON REYES
Deutsche Bank AG Manila Branch v. CIR
(G.R. No. 188550) — you can take the
benefit of the 20% even without a tax ruling
I: ifcredit
the other country does not have a tax
system and you are left with a 30%
(NIRC provision for NRFC) or 20% (treaty
provision).
The most-favoured nation simply means that a
country which is the recipient of this treatment must,
receive equal advantages as the "most favoured
nation" by the country granting such treatment. Most
tax treaties would have a MFN clause making a
benefit which is more advantageous accorded to one
country demandable.
In ITAD RULING 102-02 [M AY 28, 2002], Energizer
Philippines claims that its royalty payments to
Eveready Battery are subject to the preferential tax
rate of 15% pursuant to the MFN clause of the RP-
US Tax Treaty in relation to the RP-Netherlands Tax
Treaty. The CIR applied the ruling in CIR V. S.C.
JOHNSON AND SONS, INC. [JUNE 25, 1999], where the
Supreme Court interpreted the MFN clause, or the
phrase   “paid   under   similar   circumstances”   as  
the subject matter of the tax which is royalties. The
CIR found that the RP-US and RP-Netherland tax
treaties show a similarity on the manner of payment
of taxes, that is, the allowable foreign tax credit on
15% of the gross amount of royalties pursuant to the
"most-favored-nation" provision of the RP-US tax
treaty in relation to the RP-Netherlands tax.
Withholding tax is a direct tax. However, if the
Withholding Tax agent is the one who shoulders the penalties in
case of non-payment, isn’t it an indirect tax?
In general
Q81. What is the withholding tax system?
The withholding tax system is a procedure through
which taxes (including income taxes) are collected.
Q81.1. Who is the withholding agent?
The withholding agent is the one who has control,
custody, or receipt of the funds that is subject to
income tax and to be withheld and remitted to the
BIR. The withholding agent holds the amount
withheld from the income of another person in trust
for the government until paid.
The duty to withhold is different from the duty to pay
income tax. The obligation to withhold is imposed
upon the buyer-payor of income but the burden of tax
is really upon the seller-income earner.
58
 PM REYES NOTES ON TAXATION I:
INCOME TAX
of the tax. Such liability of the withholding agent is to be less than the amount that should have been
direct and independent from the liability of the income withheld. Second, as an agent of the taxpayer, his
recipient. authority to file the income tax return and remit the
tax withheld to the government includes the authority
Q81.2. Who are required by law to to file a claim for refund and to bring an action for
withhold on income payments? recovery of such claim.

1. Agents or employees of withholding agents Q81.5. Is the withholding agent who filed
2. Persons having control of the payment and the claim for tax refund obliged to
claiming the expense remit the same to the taxpayer?
3. Payor having control of the payment where
payment is made thru brokers Yes. In CIR V. SMART COMMUNICATIONS
[AUGUST 25, 2010], the Supreme Court ruled
If you’re Q81.3. When does the obligation to that while the withholding agent has the right to
already withhold arise?
recognizing recover the taxes erroneously or illegally
Ex: debt was due on Feb. 17, but was paid 15th. collected, he nevertheless has the obligation to
the paid When is the tax due? 15th since it was paid
amount as a Either when: remit the same to the principal taxpayer under
then, but if it wasn’t paid on the 15th nor 17th,
deduction in then tax is due by the 17th. the principle of unjust enrichment.
your books, 1. It is paid
you will have 2. It becomes payable (i.e. it is legally due,
Q81.6. What are the three categories of
to withhold demandable, or enforceable)
income subject to withholding
such at the 3. It is accrued as an asset or expense
end of the In FILIPINAS SYNTHETIC FIBER CORPORATION V. CA
tax?
quarter. [OCTOBER 12, 1999], the Supreme Court stated that
the Tax Code is silent as to when the duty to withhold Under Section 57 of the Tax Code, the types of
taxes arises. In this case, to determine when the duty income subject to withholding tax are divided into
to withhold the taxes arose, the Court inquired into three categories:
the nature of accrual method of accounting, the
procedure used by the taxpayer, and to the modus 1. withholding of final tax on certain incomes;
vivendi of withholding tax at source come. It noted 2. withholding of creditable tax at source and
that under the accrual basis method of accounting, 3. tax-free covenant bonds.
income is reportable when all the events have
occurred   that   fix   the   taxpayer’s   right   to   receive   the   Q81.7. What are the three types of
income and the amount can be determined with withholding tax?
reasonable accuracy. Such method is allowed by law
in reporting incomes. 1. Final withholding tax (FWT)
2. Creditable Withholding Tax (WT)
Q81.4. May a withholding agent file a 3. Withholding Tax on Wages
claim for tax refund?
Q82. Differentiate final withholding tax (FWT)
Generally, the person entitled to claim a tax refund is from creditable withholding tax (CWT).
the taxpayer. However, if the taxpayer does not file
the claim, the withholding agent may file the same. In The differences are as follows:
CIR V. SMART COMMUNICATIONS [AUGUST 25, 2010], it
was submitted that rule allowing the withholding FWT CWT
agent to file the claim is applicable only when the The amount of income Taxes withheld on certain
withholding agent and the taxpayer are related tax withheld by the income payments are
parties. The Supreme Court disagreed and stated withholding agent is intended to equal or at
that such relationship is not required. A withholding constituted as a full and least approximate the tax
agent has a legal right to file a claim for refund. First, final payment of the due of the payee on said
he is considered a taxpayer under the Tax Code as income tax due from the income.
he is personally liable for the withholding tax as well payee on the said
as for deficiency assessments, surcharges, and income.
penalties, should the amount withheld be finally found The liability for payment Payee of income is

PIERRE MARTIN DE LEON REYES 59

 PM REYES NOTES ON TAXATION I:
INCOME TAX
of the tax rests primarily required to report the Under the CWT tax system, taxes withheld on certain
on the payor as a income and/or pay the payments are but intended to approximate the tax
withholding agent. difference between the due from the payee. The withheld taxes remitted to
tax withheld and the tax the BIR are treated as deposits or advances on the
due on the income. The actual tax liability of the taxpayer, subject to
payee also has the right adjustment at the proper time when the actual tax
to ask for a refund if the liability can be fully and finally determined.
tax withheld is more than
the tax due. Q84.1. What are the three general types of
The payee is not The income recipient is creditable withholding taxes?
required to file an income still required to file an
tax return for the income tax return, as The three types of creditable withholding taxes are:
particular income. prescribed in Sec. 51
and Sec. 52 of the NIRC. 1. Expanded withholding tax on certain income
payments made by private persons to resident
(see Section 2.57(A) and (B), RR 2-98 [April 17, taxpayers (e.g. professional fees, income
1998] and CHAMBER OF REAL ESTATE AND BUILDER’S payments to brokers, income payments to
ASSOCIATION, INC. V. ROMULO [M ARCH 9, 2010]) partners of GPPs, etc)
2. Withholding tax on compensation income for
services done in the Philippines
Final Withholding Tax at Source 3. Withholding tax on money payments made by the
government
Q83. What is meant by withholding tax at
source? Q84.2. What is the rule on creditable
withholding of income payments
Since the withholding taxes are deducted by the to medical petitioners as laid down
withholding agent when the income payments are in RR 13-98 [August 14, 1998]?
paid or payable,  they  are  described  as  “withholding
taxes-at-source.”  This  means  that  the  income  tax  of   It shall be presumed that the hospital or clinic has
the recipient of income is withheld and deducted at collected the professional fee of the said medical
the source and at the time of accrual or payment of practitioner and shall, accordingly, be liable for the
the expense by the withholding agent-payer of withholding of the tax vis-a-vis each and every patient
income. admitted into the hospital or clinic under the care of
the said medical practitioner.
Q83.1. What are the four general types of
income payments subject to FWT? However, the withholding tax shall not apply
whenever there is proof that no professional fee has
1. Passive Incomes in fact been charged by the medical practitioner and
2. Income payments to entities where their gross paid by his patient,
income is subject to tax (i.e. non-resident aliens
not engaged in trade or business, non-resident Return and Payment of Tax Withheld at
foreign corporations, special aliens) Source
3. Fringe Benefits
4. Informer’s  Reward  to  Persons  Instrumental  in  the  
Discovery of the Violations of the Tax Code.
Q85. Who is obliged to file the return and pay
the tax withheld?
(see Section 2.57.1, RR 2-98 [April 17, 1998])
The withholding agent shall file the return and pay the
tax:
Creditable Withholding Tax 1. FWT - within 25 days from the close of each
calendar quarter for FWT
Q84. What is meant by creditable withholding 2. CWT - not later than the last day of the month
tax? following the close of the quarter during which
withholding was made. (see Section 58(A), Tax
Code)

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Q85.1. What are the other obligations of
the withholding agent with respect
to the return and payment of the
tax withheld?
1. He shall furnish the recipient of the income a
written statement showing the income or other
payments made by him during such quarter or
year, and the amount of the tax deducted and
withheld therefrom.
2. He shall submit an annual information return
containing the list of payees and income
payments, amount of taxes withheld for each
payee and other pertinent information. (see
Section 58(B) and (C), Tax Code)
Q85.2. Since CWT is but an
approximation, what happens if
there is excess payment or
deficiency in payment?
The excess of the amount of tax so withheld over the
tax due on his return shall be refunded.
If the income tax collected at source is less than the
tax due on his return, the difference shall be paid.
(see Section 58(D), Tax Code)
Q85.3. What is the effect of non-payment
of CWT to the transfer of real
property?
No registration of any document transferring real
property shall be effected by the Register of Deeds
unless the CIR or his duly authorized representative
has certified that such transfer has been reported and
the capital gains or CWT, if any, has been paid. (see
Section 58(E), Tax Code)
Withholding on Wages
Q86. What income payments are exempted
from the requirement of withholding tax
on compensation?
As provided in SECTION 2.78, RR 2-98 [APRIL 17,
1998], as amended by RR 1-2006 [DECEMBER 29,
2005]:
1. Compensation income of individuals that do not
exceed the statutory minimum wage or P5,000
pesos per month, whichever is higher.
PIERRE MARTIN DE LEON REYES
2. Compensation income of government employees
with salary grades 1 to 3.
Q87. Who is obliged to deduct, withhold, file
the return and pay the tax upon wages?
Every employer making payment of wages shall
deduct and withhold upon such wages the applicable
110
tax except in the case of minimum wage earners.
(see Section 79(A), Tax Code)
The return shall be filed and the payment made
within 25 days from the close of each calendar
quarter (see Section 81, Tax Code)
However, if the employer is the Government or any
political subdivision, agency, or instrumentality, the
return of the amount deducted and withheld upon any
wage shall be made:
1. by the officer or employee having control over the
payment of such wage, or
2. by any officer duly designated for the purpose
(see Section 82, Tax Code)
Q87.1. What are the other obligations of
the employer with respect to the
withholding of tax on wages?
1. Every employer shall furnish to each such
employee a written statement confirming wages
paid by the employer during the calendar year
and the amount of tax deducted and withheld
2. Every employer shall submit to the CIR an annual
information return containing a list of employees,
the total amount of compensation income of each
employee, the total amount of taxes,
accompanied by copies of the written statements,
and other information as may be deemed
necessary.
Q87.2. Who is liable if there is a failure to
withhold and remit the correct
amount of tax?
The employer shall be liable. If he fails to withhold
and remit the correct amount, such tax shall be
collected from him together with penalties or
additions to the tax otherwise applicable (see
Section 80(A), Tax Code)
110
Minimum wage earners are exempt from income tax.
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Q87.3. What is the consequence if the
employer fails to deduct and
withhold the tax but the tax
against which such tax may be
credited is paid (the tax is paid by
the recipient)/employee)?
If the employer fails to deduct and withhold the tax
and thereafter the tax against which such tax may be
credited is paid, the tax so required to be deducted
and withheld shall not be collected from the
employer. The employer shall not be relieved of
liability for any penalty for non-compliance (see
Section 79(A), Tax Code)
Q87.4. What is the rule when there is an
overpayment of tax withheld on
wages by the employer?
If the overpayment was not deduced and withheld by
the employer, he shall be given a refund or credit.
If the overpayment was deducted and withheld by the
employer, the employee shall be allowed a credit.
Q87.5. How can employees avail of
personal and additional
exemptions given that their
compensation is subjected to
withholding?
On or before the date of commencement of
employment with the employer, the employee shall
submit to the employer a signed withholding
exemption certificate relating to the personal and
additional exemptions to which he is entitled.
If there is a change of status, he may file a new
exemption certificate within 10 days from such
change. (see Section 79(D)(2), Tax Code)
Q87.6. What is the consequence if an
employee fails or refuses to file an
exemption certificate or wilfully
supplies false or inaccurate
information?
The tax shall be collected from the employee
including penalties or additions to the tax. Further,
excess taxes withheld by the employer shall not be
refunded to the employee but shall be forfeited to the
government
PIERRE MARTIN DE LEON REYES
Q87.7. What is the withholding treatment
when the husband and the wife
each are recipients of wages?
1. The husband shall be deemed the head of the
family and proper claimant of the additional
exemption unless he explicitly waives this right in
favor of his wife
2. Taxes shall be withheld from the wages of the
wife with the schedule for zero exemption
Q88. Are backwages, allowances and
benefits awarded in a labor dispute
subject to withholding tax?
Yes. Backwages, allowances, and benefits awarded
in a labor dispute constitute remunerations for
services that would have been performed by the
employee in the year when actually received, or
during the period of his dismissal from the service
which was subsequently ruled to be illegal. The said
back wages, allowances and benefits are subject to
withholding tax on wages. (see RMC 39-2012
[August 3, 2012])
Q88.1. Who should withhold the tax due
thereon?
The employers are mandated to withhold taxes on
wages and this includes those backwages,
allowances, and benefits awarded in a labor dispute.
Q88.2. If the backwages, allowances,
disputes are received by virtue of
a labor dispute award through
garnishment of debts due to the
employer and other credits to
which the employer is entitled to
subject to withholding tax?
In RMC 39-2012 [August 3, 2012], the CIR
answered this question in the affirmative. Persons
having control of the payment of wages or salaries
are authorized to deduct and withhold upon such
wages or salaries the withholding tax due thereon. In
this case, the garnishees are the persons owning
debts due to the employer or in possession or control
of credits to which the employer are entitled.
Accordingly, they are in control of the payment of
backwages, allowances and benefits. Thus, in order
to ensure the collection of the appropriate withholding
taxes on wages, garnishees of a judgment award in a
labor dispute are constituted as withholding agents
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with the duty of deducting the corresponding
withholding tax on wages due thereon in an amount
equivalent to five percent (5%) of the portion of the
judgment award representing the taxable backwages,
allowances and benefits.
Withholding Tax by Government
Agencies
Q89. What income payments made by the
government are subject to withholding?
Income payments, except any single purchase which
is P10,000 and below, which are made by a
government office, national or local, including
111
GOCCs, on their purchases of goods from local
suppliers shall be subject to a withholding tax of 1%.
(see Section 2.57.2(N), RR 2-98 [April 17, 1998])
Special Rules
Minimum Corporate Income Tax
Q90. What is the minimum corporate income
tax (MICT?)
A minimum corporate income tax of 2% of gross
income shall be imposed on a domestic
corporation and resident foreign corporation
beginning on the fourth taxable year immediately
following the year in which such corporation
commenced its business operations when:
1. the MCIT is greater than the RCIT for the taxable
year.
2. such operation has zero or negative taxable
income
(see Section 27(E), Section 28(A)(2), Tax Code and
RR 9-98 [August 5, 1998], as amended by RR 12-
2007 [October 10, 2007])
Q90.1. What is the purpose of MCIT?
As held in the case of CHAMBER OF REAL ESTATE AND
BUILDER’S ASSOCIATION, INC. V. ROMULO [M ARCH 9,
2010]), the primary purpose of any legitimate
business is to earn a profit. Continued and repeated
losses after operations of a corporation or consistent
reports of minimal net income render its financial
statements and its tax payments suspect. For sure,
111
A GOCC which is listed as one of the top 5,000 corporations
shall withhold the tax in its capacity as a GOCC rather than as one
of the top 5,000 corporations.
PIERRE MARTIN DE LEON REYES
certain tax avoidance schemes resorted to by
corporations are allowed in our jurisdiction. The MCIT
serves to put a cap on such tax shelters. As a tax on
gross income, it prevents tax evasion and minimizes
tax avoidance schemes achieved through
sophisticated and artful manipulations of deductions
and other stratagems. Since the tax base was
broader, the tax rate was lowered.
Q90.2. Is MCIT a tax on capital and an
additional tax imposition?
The Supreme Court in CHAMBER OF REAL ESTATE AND
BUILDER’S ASSOCIATION, INC. V. ROMULO [M ARCH 9,
2010] answered this in the negative. The MCIT is
imposed on gross income which is arrived at by
deducting the capital spent by the corporation in the
sale of its goods, i.e. the cost of goods and other
direct expenses from gross sales. Thus, the capital is
not being taxed. Furthermore, the MCIT is not an
additional tax imposition. It is imposed in lieu of the
RCIT.
Q90.3. What is the difference between
RCIT and MCIT?
The tax base of RCIT is taxable income while the tax
base of MCIT is gross income.
In COMMISSIONER VS. PAL [JULY 7, 2009], PAL under
PD 1590 (its franchise) was liable only for basic
corporate income tax or franchise tax, whichever is
lower and this is in lieu of all other taxes, except real
property. The CIR contends that PAL is subject to
MCIT while it was the contention of PAL that the
MCIT   was   included   in   the   “in   lieu   of   all   other   taxes”  
provision. The Supreme Court noted there is a
distinction between taxable income, which is the
basis for basic corporate income tax; and gross
income, which is the basis for the MCIT under
Section 27(E). The two terms have their respective
technical meanings, and cannot be used
interchangeably. Hence, the basic corporate income
tax cannot cover MCIT since the basis for the first is
the annual net taxable income; while the basis for the
second  is  gross.  Thus,  MCIT  is  included  in  “all  other  
taxes”  from  which  PAL  is  exempted.  
Q90.4. For purposes of MCIT, what is
gross income?
As provided in RR 9-98 [August 5, 1998], as
amended by RR 12-2007 [October 10, 2007]:
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For purposes of MCIT, the term "gross income" 1998 50,000 75,000 (tax 25,000
means gross sales less sales returns, discounts, and to be
114
allowances and cost of goods sold, in case of sale of paid)
goods, or gross revenue less sales returns, 1999 60,000 100,000 (tax 40,000
discounts, allowances and cost of services/direct to be paid)
2000 100,000 (tax 60,000
cost, in case of sale of services.
to be
115
paid)
Note   that   “cost of goods sold”   shall   include all
business expenses directly incurred to produce the In the year 2000, since the RCIT is greater than
merchandise to bring them to their present location MCIT, the firm will have to pay the RCIT of P100,000.
and  use  while  “cost of services”  shall  mean  all direct To this amount, the corporation can credit the excess
costs and expenses necessarily incurred to provide MCIT is has so far which totals 65,000. The amount
112
the services required by the customs and clients. of income tax payable now becomes 35,000. Note
that with respect to the excess MCIT of 25,000, that
As noted by the Supreme Court in COMMISSIONER VS. can be claimed as tax credit against the normal
PAL [JULY 7, 2009], inclusions and income tax up to the year 2001 or three years from
exclusions/deductions from gross income for MCIT payment of the MCIT in 1998 and only when the
purposes are limited to those directly arising from the RCIT is greater than MCIT. You cannot credit the
conduct   of   the   taxpayer’s   business.   It   is   thus   more   MCIT against the MCIT or other losses.
limited than the gross income used in the
computation of basic corporate income tax.
Q90.6. Can the imposition of MCIT be
Q90.4.1. What if apart from the income
suspended?
from core business activities,
other items of gross income Yes, the Secretary of Finance can suspend its
are realized or earned by the imposition on any corporation which suffers losses on
116
corporation, are these items account of prolonged labor dispute, or because of
117
included as part of gross force majeure, or because of legitimate business
118
income? reverses.

Yes. If apart from deriving income from these core Improperly Accumulated Earnings Tax
business activities there are other items of gross (IAET)
income realized or earned by the taxpayer during the
taxable period which are subject to the normal
Q91. What is an improperly accumulated
corporate income tax, the same items must be
included as part of the taxpayer's gross income for
earnings tax?
113
computing MCIT.
This is the income tax imposed on a corporation if its
earnings and profits are accumulated (undistributed)
Q90.5. Explain the carrying forward of
instead of being divided and distributed to its
excess MCIT against normal stockholders.
income tax.
An improperly accumulated earnings tax (IAET) equal
Any excess MCIT against the normal income tax is to 10% is imposed for each taxable year on the
creditable within the next three (3) years from
payment thereof. To illustrate:
114
Year RCIT MCIT Excess This is the tax to be paid because MCIT > RCIT
115
This Is the tax to be paid because MICT < RCIT
MCIT 116
Defined as losses arising from a strike staged by the employees
against which lasted for more than six (6) months within a taxable period
RCIT and which has caused the temporary shutdown of business
operations.
112 117
This only shows that deductions are not taken into account in It means a cause due to an irresistible force as by "Act of God"
MCIT. like lightning, earthquake, storm, flood and the like. This term shall
113
This means that the term "gross income" will also include all also include armed conflicts like war or insurgency.
118
items of gross income enumerated under Section 32(A) of the Tax It shall include substantial losses sustained due to fire, robbery,
Code, as amended, except income exempt from income tax and theft or embezzlement, or for other economic reason as
income subject to final withholding tax determined by the Secretary of Finance.

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improperly accumulated taxable income of each
corporation.
It is imposed on domestic corporations which are
119
classified as closely-held corporations.
Q91.1. Define   “improperly   accumulated  
taxable  income.”
The   term   “improperly   accumulated   taxable   income”  
means taxable income adjusted by:
1. Income exempt from tax
2. Income excluded from gross income
3. Income subject to final tax; and
4. The amount of net operating loss carry-over
deducted; and
5. Reduced by the sum of:
a. dividends actually or constructively paid; and
b. income tax paid for the taxable year
c. amount reserved for the reasonable needs of
120
the business
In relation to 5(c), RMC 35-2011 [March 14, 2011]
states that the amount that may be retained, taking
into consideration the reasonable needs of the
business shall be 100% of the paid-up capital or the
amount contributed to the corporation representing
the par value of the shares of stock. Any excess
121
capital over and above the par shall be excluded.
Q91.2. What is the purpose and nature of
IAET?
The imposition of IAET discouraged tax avoidance
through corporate surplus accumulation. When
corporations do not declare dividends, income taxes
are not paid on the undeclared dividends received by
the shareholders. The tax on improper accumulation
of surplus is essentially a penalty tax designed to
compel corporations to distribute earnings so that the
said earnings by shareholders could, in turn, be taxed
(see CYNAMID PHILIPPINES INC VS. CA [JANUARY 20,
2000])
119
Closely-held corporations are those corporations at least fifty
percent (50%) in value of the outstanding capital stock or at least
fifty percent (50%) of the total combined voting power of all classes
of stock entitled to vote is owned directly or indirectly by or for not
more than twenty (20) individuals. Domestic corporations not
falling under the aforesaid definition are, therefore, publicly-held
corporations.
120
Added by RR 2-01.
121
For example, if only Dec 31, 2010, you have a paid-up capital of
100,000. You can only retain up to 100,000. A subsequent infusion
of capital of 500,000 a week later cannot be considered.
PIERRE MARTIN DE LEON REYES
The IAET is being imposed in the nature of a penalty
to the corporation for the improper accumulation of its
earnings, and as a form of deterrent to the avoidance
of tax upon shareholders who are supposed to pay
dividends tax on the earnings distributed to them by
the corporation (see RR 2-01 [FEBRUARY 12, 2001]).
Q91.3. What corporations are subject to
IAET?
As a general rule, the IAET shall apply to every
corporation formed or availed for the purpose of
avoiding the income tax with respect to its
shareholders or the shareholders of any other
corporation, by permitting earnings and profits
accumulate instead of being divided or distributed.
As exceptions, the IAET shall not apply to:
1. Publicly-held corporations
2. Banks and other non-bank financial
intermediaries; and
3. Insurance companies
4. GPPs
5. Non-taxable joint ventures
6. Enterprises registered under SEZs (see RR
2-01 [FEBRUARY 12, 2001]).
Q91.4. What is the main factor to consider
in holding a corporation liable for
IAET?
The touchstone of the liability is the purpose behind
the accumulation of the income and not the
consequences of the accumulation. Thus, if the
failure to pay dividends is due to some other causes,
such as the use of undistributed earnings and profits
for the reasonable needs of the business, such
purpose would not generally make the accumulated
or undistributed earnings subject to the tax. However,
if there is a determination that a corporation has
accumulated income beyond the reasonable needs of
the business, the 10% improperly accumulated
earnings tax shall be imposed. [see RR 2-01
[FEBRUARY 12, 2001]).
Q91.5. What circumstances are indicative
of a purpose to avoid the income
tax with respect to shareholders?
The fact that any corporation is a mere holding
company or investment company shall be prima
facie evidence of a purpose to avoid the tax upon its
shareholders or members. (see Section 29(C)(1),
Tax Code)
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Moreover, the fact that the earnings or profits of a
corporation are permitted to accumulate beyond the
reasonable needs (including reasonably anticipated
needs) of the business shall be determinative of the
purpose to avoid the tax upon its shareholders or
members unless the corporation, by the clear
preponderance of evidence shall prove the contrary
(see Section 29(C)(2), Tax Code)
In CIR v. TUASON [M AY 15, 1989], the CIR assessed
Tuason, Inc. for IAET. The CIR presumed that when
Tuason, Inc. accumulated profits, the purpose was to
avoid the income tax on its shareholders on the
finding that it was a mere holding or investment
company. Tuason contended it was for the purpose
of expanding their business as a real estate broker.
The Supreme Court ruled that Tuason was liable for
IAET. Tuason was a mere holding company as it was
not involved itself in the development of the
subdivisions but merely subdivided its own lots and
sold them for bigger profits. It derived its income from
interest, dividends, and rental from the sale of realty.
The touchstone of liability is the purpose behind the
accumulation of the income and not the
consequences of the accumulation. The company's
failure to distribute dividends to its stockholders was
clearly for reasons other than the reasonable needs
of the business.
Q91.6. What  is  the  “Immediacy  Test?”
In order to The Immediacy Test is used to determine the
escape IAET, “reasonable  needs”  of  business”  in  order  to  justify  an   the taxpayer is reckoned at what
dividends accumulation of earnings. Under this test, the term
must be "reasonable needs of the business" are hereby
declared construed to mean the immediate needs of the
within 1yr business, including reasonably anticipated needs.
from the
The corporation should be able to prove an
close of the immediate need for the accumulation of the earnings
fiscal year.
and profits, or the direct correlation of anticipated
Otherwise,
needs to such accumulation of profits. Otherwise,
you will have
to justify the such accumulation would be deemed to be not for the
accumulation reasonable needs of the business, and the penalty
tax would apply.
In M ANILA WINE MERCHANTS V. CIR [FEBRUARY 20,
1984], Manila Wine Merchants (MWM) invested in
several companies and bought shares in Wack Wack
Golf and Country Club and likewise acquired US
Treasury Bills. CIR found that MWM had
unreasonably accumulated a surplus. On appeal, the
CTA ruled that the purchase of shares were
harmless. However, the CTA also ruled that the
purchase of US Treasury Bills was in no way related
to the business of importing and selling wines and
PIERRE MARTIN DE LEON REYES
ordered MWM to pay IAET on the said treasury bills.
One of the contentions of MWM was that it will be
used to aid its importations The Supreme Court ruled
against MWM. It noted that the bonds were bought in
1951  and  until  1961;;  it  was  never  used  to  aid  MWM’s  
importations. To justify an accumulation of earnings
and profits for the reasonably anticipated future
needs, such accumulation must be used within a
reasonable time after the close of the taxable year.
In CYNAMID V. CA [JANUARY 20, 2000], Cynamid
argued that the increase of working capital by a
corporation justifies accumulating income. It invoked
the Bardahl Formula which allowed retention, as
working capital reserve, sufficient amounts of liquid
assets to carry the company though one operating
cycle and pay all of its current liabilities and any
extraordinary expenses reasonably anticipated. The
Supreme Court ruled that, as stressed by American
authorities, the formula is used only for administrative
convenience and not a precise rule. The Court found
that in companies where the formula was applied,
they had operating cycles shorten than that of
Cynamid. The ratio of current assets to current
liabilities should be used to determine the sufficiency
of working capital which ideally should be 2:1.
Cyanamid’s   ratio   is   2.21:1   and,   thus,   there   was   no  
need to infuse working capital.
Q91.7. In determining if profits are
reasonably accumulated for
business needs, the intention of
time?
It is reckoned at the time of accumulation. In M ANILA
WINE MERCHANTS V. CIR [FEBRUARY 20, 1984], one of
the contentions of MWM was that it held on to said
bonds for several years to wait for 60% of its stock to
be owned by Filipinos so it can purchase its own lot
and building. The Supreme Court stated that to
determine if profits are reasonably accumulated for
business needs, the controlling intention is that
manifested at the time of accumulation and not later
ones. The second reason given by MWM was too
indefinite and was a mere afterthought.
Q91.8. Are there ways by which to avoid
liability from IAET?
Yes, when the accumulation is justified by
reasonable needs of the business such as:
1. Accumulation up to 100% of the paid-up capital
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2. For definite corporate expansion projects or
programs
3. For buildings, plants or equipment acquisitions
4. For compliance with a loan covenant or pre-
existing obligation under a legitimate business
agreement
5. When there is a legal prohibition for its
distribution
6. In the case of Philippine subsidiaries of foreign
corporations, undistributed earnings intended or
reserved for investments within the Philippines
Q91.9. Abbot-Phils, a domestic
The subsidiaries of foreign corporation, is a wholly owned
corporations are exempt subsidiary of Abbot-US, a non-
from IAET provided that resident foreign corporation.
after applying the Abbot-Phils claims that by virtue
grandfather rule, they are
not closely-held of this, it is exempt from the IAET.
Is this contention correct?
corporations.
Yes. In BIR RULING 25-02 [JUNE 25, 2002], the CIR
ruled that Abbot-Phils was exempt from IAET. Since
Abbott-Phils. is a wholly-owned subsidiary of Abbott-
US, such shares will be considered as being owned
proportionately by the Abbott-US shareholders. The
ownership of a domestic corporation for purposes of
determining whether it is a closely held corporation or
a publicly held corporation is ultimately traced to the
individual shareholders of the parent company. Thus,
where at least 50% of the outstanding capital stock or
at least 50% of the total combined voting power of all
classes of stock entitled to vote in a corporation is
owned directly or indirectly by at least 21 or more
individuals, the corporation is considered publicly-
held corporation. As of the year-end 2000, Abbott-US
had 101,272 shareholders holding a combined
1,545,934,133 shares of common stock and the
twenty largest shareholders of Abbott-US as of
September 30, 2001 own an aggregate of 30.1
percent of Abbott-US' issued and outstanding shares.
Thus, Abbot-Phils is a publicly-held corporation
exempt from IAET.
Fringe Benefit Tax
Q92. What is a fringe benefit tax?
The State imposes a final tax of 32% effective
January 1, 2000 on the grossed-up monetary value
of fringe benefit furnished or granted to the
employee except rank and file employees by the
employer, whether an individual, professional
partnership or a corporation regardless of whether
PIERRE MARTIN DE LEON REYES
the corporation is taxable or not, or the government
and its instrumentalities except when:
1. The fringe benefit is required by the nature of or
necessary to the trade, business or profession of
the employer; or
2. When the fringe benefit is for the convenience or
advantage of the employer
(see Section 33, Tax Code and RR 3-98 [JANUARY
1, 1998])
Q92.1. What is a fringe benefit?
As defined by Section 33(B),   the   term   “fringe
benefit”   means   any good, service or other benefit
furnished or granted in cash or in kind by an
employer to an individual employee (except rank and
file employees as defined herein) such as, but not
For educ.
limited to, the following:
discounts
1. Housing; — for short-term only ø given to
2. Expense account; teachers for
their
3. Vehicle of any kind;
4. Household personnel, such as maid, driver and children, the
others; general rule
is that it is
5. Interest on loan at less than market rate to the
not FB if
extent of the difference between the market rate
such
and actual rate granted;
scholarship
6. Membership fees, dues and other expenses was given
borne by the employer for the employee in social by virtue of a
and athletic clubs or other similar organizations; screening
7. Expenses for foreign travel;— trade related ø and because
8. Holiday and vacation expenses; of the
9. Educational assistance to the employee or his employee
dependents; and — connected to trade + service contract ø
10. Life or health insurance and other non-life
insurance premiums or similar amounts in excess
of what the law allows.
Q92.2. What is the rationale behind the
Fringe Benefits Tax?
As a general rule, the income recipient is the person
liable to pay the income tax. In order to improve
collection of income on the compensation income of
employees, the State requires the employer to
withhold the tax upon payment of the compensation
income. However, it has been observed that many of
the fringe benefits paid by the employer to his
employees are not subjected to income tax and
withholding tax on compensation. To plug this
loophole, RA 8424 was passed. It imposed a fringe
benefits tax on the fringe benefits received by
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FB no longer supervisory and managerial employees. The law Q92.4. Are all fringe benefits subject to
form part of mandates that the employer shall assume the fringe FBT?
the income benefits tax imposed on the taxable fringe benefits of
of the the managerial
122
or supervisory employees,
123
but
employee No. The following fringe benefits are not taxable:
allows the employer to deduct such fringe benefit tax
since FBT is as a business expense from its gross income.
a final tax for 1. Fringe benefits exempted by law
However, the fringe benefits of rank-and-file 2. Benefits required by the business or for the
which the 124
employees are treated as part of his compensation convenience of the employer
employer is
paying income, which must be withheld and deducted by his 3. Benefits given to the rank and file employees;
already. employer from the compensation income of the and
employee. 4. De minimis benefits
126

This holds true only when both are related parties.

Q92.3. What is meant by “grossed-up Transfer Pricing However, where A is not subject to income (e.g. tax
monetary value of the fringe holiday), then overpricing becomes an issue.
benefit?” Q93. What is transfer pricing? The principle
behind TP is
As defined in RR 3-98 [JANUARY 1, 1998], the It is the power of the CIR to distribute, apportion, that you
grossed-up monetary value of the fringe benefit allocate, and shift income and expenses between want what is
represents the whole amount of income received by related taxpayers to reflect their true taxable income an
the employee which includes the net amount of or to prevent evasion of taxes. acceptable
money or net monetary value of property which has tax between
been received plus the amount of the fringe benefit At present, the Philippines does not have any the parties.
tax thereon otherwise due from the employee, but guidelines on transfer pricing unlike in other
paid by the employer for and in behalf of his jurisdictions. RMC 026-08 [March 24, 2008] states
125
employee. that while the BIR is still revising the final draft of the
RR on transfer pricing, the BIR as a matter of policy
Q92.3.1. How is the grossed-up subscribes to the OECD Transfer Pricing Guidelines
The tax paid is the difference monetary value of the fringe in the interim.
between the monetary value and the benefit determined?
gross monetary value. Q93.1. GSK purchase a pharmaceutical
The formula It is determined by dividing the actual monetary value ingredient from Adechsa, a related
is applied in of the fringe benefit by 68% (effective January 1, non-residency company for
order to 2000.) between $1,512 and $1,651 per kg.
preserve the
full value of During the same period, two
Q92.3.2. Is the above formula absolute?
the fringe Canadian pharmaceutical
benefits and No. In the case of non-resident aliens not engaged in companies purchase the same
at the same trade or business and alien and Filipino individuals ingredient for between $194 and
time satisfy employed in RHQs, ROHQs of MNCs, OBUs and $304 per kg   from   arm’s   length  
the tax petroleum subcontractors, the grossed-up value of suppliers.   Canada’s   minister   for  
liability (e.g. the fringe benefit shall be determined by dividing the
you cannot
internal revenue reassessed GSK
actual monetary value of the fringe benefit by the because the prices it paid for the
give a car
difference between one hundred percent (100%) and ingredient were greater than an
and tell the
employee to under their respective rates of income tax. amount that would have been
leave reasonable in the circumstances
behind three 122 A managerial employee refers to one who is vested with powers had   they   been   dealing   at   arm’s  
wheels to or prerogatives to lay down and execute management policies
length. GSK argues the License
pay for the and/or to hire, transfer, suspend, lay-off, recall, discharge, assign
tax.) or discipline employees and Supply Agreement it entered
123
A supervisory employee is one who, in the interest of the with Adechsa should be
employer, effectively recommends such managerial actions if the
exercise of such authority is not merely routinary or clerical in considered in determining if it is
nature but requires the use of independent judgment.
124
an   arm’s   length   transaction. Is
A rank-and-file employee means all employees who are holding
neither managerial or supervisory position
GSK’s  contention  correct?
125
The purpose of getting the grossed-up monetary value is to
126
preserve the benefit to the employer as a whole. For the discussion of this, see Q15.6

PIERRE MARTIN DE LEON REYES 68

RR — Advance Pricing Agreement — get
someone to say that the amount (though
seemingly overpriced) is acceptable because
of certain circumstances; Doctrine of HM v. PM REYES NOTES ON TAXATION I:
GlaxoSmithKline
INCOME TAX
Q93.1.1. Filinvest Development
Yes. As held by the Supreme Court of Canada in HM Corporation (FDC) extended
V. GLAXOSMITHKLINE [2012 SCC 52, OCTOBER 18, advances in favour of its
2012], a proper   application   of   the   arm’s   length   affiliate. The BIR assesses
principle requires that regard be had for the FDC for deficiency income by
“economically   relevant   characteristics”   of   the   arm’s   unilaterally  imputing  an  “arm’s  
length and non-arm’s  length  circumstances  to  ensure   length”   interest   rate   on   its  
they  are  “sufficiently  comparable.”   The “economically advances. FDC disputes this
relevant characteristics of the situations being by saying the CIR lacks
compared”   may   make   it   necessary   to   consider   other   authority to impute theoretical
transactions that impact the transfer price under interest and the rule is that
consideration. Such circumstances will include interests cannot be demanded
agreements that may confer rights and benefits in in the absence of a stipulation
addition to the purchase of property where those to   that   effect.   Is   FDC’s  
agreements are linked to the purchasing agreement. contention correct?
The   objective   is   to   determine   what   an   arm’s   length  
purchaser would pay for the property and the rights Yes. According to the case of CIR V. FILINVEST
and benefits together where the rights and benefits DEVELOPMENT CORPORATION [JULY 19, 2011], Despite
are linked to the price paid for the property. In this the seemingly broad power of the CIR to distribute,
case, GSK was paying for at least some of the rights apportion and allocate gross income under Section
and benefits under the Licence Agreement as part of 50, the same does not include the power to impute
the purchase prices for ranitidine from Adechsa. As theoretical interest even with regard to controlled
such, the Licence Agreement could not be ignored in taxpayers’  transactions.  This  is  true  even  if  the  CIR  is  
determining the reasonable amount paid to Adechsa able to prove that the interest expense was in fact
which applies not only to payment for goods but also claimed by FDC. The term in the definition of gross
to payment for services. income   that   even   those   income   “from   whatever  
source   derived”   is   covered   still   requires   that   there  
Q93.2. What   is   the   “arm’s   length   must be actual or at least probable receipt or
bargaining   standard”   with   respect   realization of the time of gross income sought to be
apportioned, distributed or reallocated. Finally, under
to the determination of the taxable
the Civil Code, no interest shall be due unless
income on inter-company loans or expressly stipulated in writing.
128
advances in relation to transfer
pricing? Q93.3. Is transfer pricing applicable only
to taxable entities
RMC 026-08 [M ARCH 24, 2008] adopts   the   arm’s  
length standard as the ultimate test for determining
No. Section 50 does not apply only to taxable
the fairness of related party transactions. The
entities. Reallocation may also apply to tax-exempt
standard to be applied in every case is that of an
organizations. (see RMC 026-08 [M ARCH 24, 2008])
uncontrolled taxpayer   dealing   at   arm’s   length   with  
another uncontrolled taxpayer. Basically two unrrelated
parties selling similar Special Entities
Thus, where a member of a group of controlled
entities makes a loan or advances directly or Proprietary Educational Institutions and
indirectly or becomes a creditor of another member of
Hospitals
such group and charges no interest, or chargest
interest  at  a  rate  which  is  not  equal  to  an  arm’s-length
127
rate, the CIR may make appropriate allocations to Q94. What is the tax treatment of proprietary
reflect   an   arm’s   length   interest   rate   for   use   of   such   education institutions and hospitals
loan or advance. which are non-profit?
Reconcile Sec.30 (activity for profit) & Article XIV of the Constitution (utilization)
— harmonized in the sense that your activity is for the benefit of profit-making
127
and not exclusively for educational/charitable purposes. However, if it was
The arm's length interest rate shall be the rate of interest which
was charged or would have been charged at the time the
income from profit, then there would be contradiction with C.
128
indebtedness arose in independent transaction with or between The case would have been decided differently if we had an RR
unrelated parties under similar circumstances. on Transfer Pricing.
100M derived from the education business. 60% is dedicated for non-educational
purposes. Under Sec.27, the 50% rule applies on (1) non-stock, proprietary schools
PIERRE MARTIN DE LEON REYES and (2) non-stock, non-proprietary hospitals. 69
— The source has to arise from the primary purpose. Income should be generated by
the educational purpose. Otherwise, it is not shielded by the 10% benefit.
 PM REYES NOTES ON TAXATION I:
INCOME TAX
Section 27(B) of the Tax Code provides that they
shall pay a tax of 10% on their taxable income
except:
1. Certain passive incomes subject to final tax
2. If the gross income from unrelated trade,
129
business, or other activity exceeds 50% of
the total gross income derived by such
130
proprietary educational institution and
hospital which are non-profit from all sources,
the tax shall be imposed on the entire taxable
income.
Q94.1. What is meant by the terms
“proprietary” and “non-profit?”
Proprietary means private while non-profit means no
net income or asset accrues to or benefits any
member or specific person, with all the net income or
asset devoted to the institution’s purposes and all its
activities.
As noted by the Supreme Court IN CIR V. ST. LUKES
MEDICAL CENTER [SEPTEMBER 26, 2012], ―non-profit‖
does not necessarily mean ―charitable.‖
Q94.2. St. Lukes Medical Center is a
hospital organized as a non-stock
and non-profit corporation. It
admits both paying and non-
paying patients. The CIR claimed
that St. Lukes was liable for
income tax at 10% as provided
under Section 27(B)131 of the NIRC.
St. Lukes argues that it is a non-
stock, non-profit institution for
charitable and social welfare
purposes exempt from income tax
under Section 30(E) and (G) of the
NIRC.132 Decide.
129
Means any trade, business, or other activity, the conduct of
which is not substantially related to the exercise or performance by
such educational institution or hospital of its primary purpose or
function.
130
Is any private schoolm maintained and administered by private
individuals or groups with an issued permit to operation from the
Department of Education or CHED, or TESDA, as the case may be
131
Section 27(B) provides that proprietary educational institutions
and hospitals which are non-profit shal pay a tax of ten percent
(10%) on their taxable income
132
Section 30(E), NIRC provides that a non-stock corporation or
association organized and operated exclusively for charitable
purposes is exempt from income tax while Section 30(G) provides
that a civic league or organization not organized for profit but
operated exclusively for the promotion of social welfare is likewise
exempt.
PIERRE MARTIN DE LEON REYES
In CIR V. ST. LUKES MEDICAL CENTER [SEPTEMBER 26,
2012], the Supreme Court ruled that St. Lukes
cannot claim full tax exemption under Section 30
because it has paying patients and this is
notwithstanding the fact that it is a non-profit hospital.
For Section 27(B) to apply, the hospital must be non-
profit which means that no net income or asset
accrues to or benefits any member or specific person
and all the activities of the hospital are non-profit. On
the other hand, Section 30(E) and (G), while
providing for an exemption is qualified by the last
paragraph which, in turn, provides that activities
conducted for profit shall be taxable. Section 30(E)
and (G) requires that an institution be operated
exclusively for charitable purposes to be completely
exempt from income tax. In this case, however, St.
Lukes is not operated exclusively for charitable
purposes insofar as its revenues from paying patients
are concerned. Such revenue is subject to income
tax at 10% under Section 27(B).
Q94.3. Reconcile the tax treatment of
proprietary educational
institutions and hospitals which
are non-profit under Section 27(B)
and non-stock, non-profit
charitable institutions under
Section 30(E) and (G).
To be exempt from income taxes, Section 30(E)
requires that the charitable institution must be
organized and operated exclusively for charitable
purpose. It is nevertheless allowed to engage in
―activities conducted for profit‖ without losing its tax-
exempt status for its not-for-profit activities. The
consequence, however, is that such income from
activities conducted for profit, regardless of the
disposition made of such income, shall be subject to
tax.
For proprietary educational institutions and hospitals
which are non-profit, to avail of the preferential tax
rate, no net income or asset accrues to or benefits
any member or specific person, with all the net
income or asset devoted to the institution’s purposes
and all its activities.
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 institution
under Section 30(E) as it was not operated
exclusively for charitable purposes, it remains to be a
proprietary non-profit hospital under Section 27(E) as
long as it does not distribute any of its profits to its
70
General Rule: non-stock, proprietary hospital,
exempt from tax.
Exception: You will be subject to 10% if you do
things outside of your essential function (educ/
charity). — 30% imposed if more than 50% of
PM REYES NOTES ON TAXATION I:
your income arises from unrrelated business. INCOME TAX
members and such profits are reinvested pursuant to
its corporate purposes. St. Lukes, as a proprietary
non-profit hospital, is entitled to the preferential tax
rate of 10% on its net income from its for-profit
activities.
GOCCs
Q95. Are GOCCs, agencies
instrumentalities owned and control by
the government liable to pay income
tax? Passive income is not part of the exempted income.
All corporations, agencies, or instrumentalities owned
or controlled by the government shall pay such rate
of tax upon their taxable income except:
1. GSIS
2. SSS
3. Phil Health
4. Local Water Districts
133
5. PCSO
(see Section 27(C), Tax Code)
Q95.1. Is RA 9337 constitutional insofar
as it excluded PAGCOR from the
enumeration of GOCCs exempt
from the payment of corporate
income tax?
Yes. In PAGCOR V. BIR [M ARCH 15, 2011], the
Supreme Court held that the original exemption of
PAGCOR from corporate income tax was not made
pursuant to a valid classification based on substantial
distinction so that the law may operate only on some
and not on all. Instead, the same was merely granted
to the acquiescence of the House Committee on
Ways and Means to the request of PAGCOR. The
argument that the withdrawal of the exemption
violates the non-impairment clause will not hold since
any franchise is subject to amendment, alteration or
repeal by Congress.
134
133
Inserted by RA 10026.
134
The Court, however, made clear that PAGCOR remains to be
exempt from indirect taxes.
PIERRE MARTIN DE LEON REYES
Exempt Corporations
Q96. What are the exempt corporations
enumerated in Section 30 of the Tax
Code?
1. Labor, agricultural or horticultural organization
not organized principally for profit
and 2. Mutual savings bank not having a capital stock
represented by shares and cooperative bank
without capital stock organized and operated for
mutual purposes and without profit
3. A beneficiary society, order or association,
operating for the exclusive benefit of the
members such as a fraternal organization
operating under the lodge system, or a mutual
aid association or a non-stock corporation
organized by employees providing for the
payment of life, sickness, accident, or other
benefits exclusively to the members of such
society, order, or association, or non-stock
corporation or their dependents
4. Cemetery company owned and operated
exclusively for the benefit of its members
5. Non-stock corporation or association organized
and operated exclusively for religious, charitable,
scientific, athletic, or cultural purposes, or for the
rehabilitation of veterans, no part of its net
income or asset shall belong to or inure to the
benefit of any member, organizer, officer or any
specific person
6. Business league, chamber of commerce, or
board of trade, not organized for profit and no
part of the net income of which inures to the
benefit of any private stockholder or individual
7. Civil league or organization not organized for
profit but operated exclusively for the promotion
of social welfare
8. A non-stock and non-profit educational institution
9. Government educational institution
10. Farmers or mutual typhoon or fire insurance
company, mutual ditch or irrigation company,
mutual or cooperative telephone company or like
organizstion of a purely local character, the
income of which consists solely of assessments,
dues, and fees collected from members for the
sole purpose of meeting its expenses; and
11. Farmers, fruit growers, or like association
organized and operated as a sales agent for the
purpose of marketing the products of its
members and turning back to them the proceeds
of sales, less the necessary selling expenses on
the basis of the quantity of produce finished by
them.
71
 PM REYES NOTES ON TAXATION I:
INCOME TAX
Q96.1. Are recreational clubs
from income tax?
No. As clarified by RMC 35-2012 [AUGUST 3, 2012],
clubs which are organized and operated exclusively
for pleasure, recreation, and other non-profit
purposes (hereinafter referred to as "recreational
clubs") are not exempt from income tax. The
provision in the National Internal Revenue Code of
1977 which granted income tax exemption to such
recreational clubs was omitted in the current list of
tax exempt corporations under National Internal
Revenue Code of 1997, as amended.
Q96.2. A credit cooperative was assessed
deficiency withholding tax on
interest from savings and time
deposits of its members. The CTA
ruled against the credit
cooperative stating that
withholding tax on income
payments subject to FWT includes
said   interests   as   “interests   from   As provided in RMC 76-03 [November 14, 2003]:
similar   arrangements.”   Is   CTA’s  
ratio correct?
No. Since interest from any Philippine currency bank
deposit yield or any other monetary benefit from
deposit substitutes are paid by banks, other entities
such as cooperative are not required to withhold the
corresponding tax on the interest from savings and
time   deposits   of   its   members.   The   fact   that   “similar   from a depository bank under the expanded foreign
arrangements”   is   preceded by banking terms means
that those subject to withholding must have deposit
peculiarities. This is also consistent with the
preferential treatment accorded to members of
cooperatives who are exempt in the same way as the
cooperative themselves. (see DUMAGUETE CREDIT
COOPERATIVE V. CIR [JANUARY 22, 2010]).
Q96.3. Are all the activities of
corporations enumerated in Q90
exempt from tax?
No. Notwithstanding that they are exempt
corporations, the income of whatever kind and
character of the organizations mentioned above from
any of their properties, real or personal, or form any
of their activities conducted for profit regardless of the
disposition made of such income shall be subject to
tax imposed under the Code.
PIERRE MARTIN DE LEON REYES
Q96.1.1. If a non-stock, non-profit
exempt educational institution
charges tuition and other fees
for the different services it
renders, does the institution
lose its tax-exempt status?
No. In CIR V. G. SINCO EDUCATIONAL CORP [OCTOBER
23, 1956], the Supreme Court held that the amount of
fees charged by the school depends upon the policy
and a given administration at a given time and is not
conclusive of the purposes of the institution. It does
not in itself make a school a profit-making enterprise.
Q96.1.2. What is the difference in tax
treatment on interest income
from currency bank deposits
and yield, etc and on interest
income from a depository
bank under the EFCDS of non-
stock, non-profit corporations
and non-stock, non-profit
educational institutions?
For non-stock non profit corporation, their interest
income from currency bank deposits and yield or any
other monetary benefit from deposit substitute
instruments and from trust funds and similar
arrangement, and royalties derived from sources
within the Philippines are subject to the 20% final
withholding tax and interest income derived by them
currency deposit system shall be subject to 71/2%
final withholding tax.
Unlike non-stock, non-profit corporations, their
interest income from currency bank deposits and
yield from deposit substitute instruments used
actually, directly and exclusively in pursuance of their
purposes as an educational institution, are exempt
from the 20% final tax and 7 ½% tax on interest
income under the expanded foreign currency deposit
system imposed provided they submit on an annual
basis submit to the Revenue District Office
concerned an annual information return and duly
audited financial statement together with the
following:
1. Certification from their depository banks as to the
amount of interest income earned from passive
investment not subject to the 20% final
withholding tax and 7 ½% tax on interest income
72
 PM REYES NOTES ON TAXATION I:
INCOME TAX
under the expanded foreign currency deposit
system.
2. Certification of actual utilization of the said
income; and
3. Board Resolution by the school administration on
proposed projects to be funded out of the money
deposited in banks or placed in money markets,
on or before the 14th day of the fourth month
following the end of its taxable year.
Q96.4. Enumerate some special laws
granting exempt status to certain
types of corporations
1. Executive Order 226 (Article 39) or the
Omnibus Investment Code
Registered Enterprises are granted an Income Tax
Holiday as follows:
a. For six (6) years from commercial operation
for pioneer firms and four (4) years for non-
pioneer firms, new registered firms shall be
fully exempt from income taxes levied by the
National Government. This tax exemption will
be extended for another year in each of the
following cases:
i. the project meets the prescribed ration of
capital equipment to number of workers set
by the BOI
ii. utilization of indigenous raw materials at
rates set by the BOI
iii. the net foreign exchange savings or
135
earnings amount
b. For a period of three (3) years from
commercial operation, registered expanding
firms shall be entitled to an exemption from
income taxes levied by the National
136
Government.
2. RA 7916 (Sections 23 to 25) or the Special
Economic Zone Act
a. Except for real property taxes on land owned
by developers, no taxes, local and national,
shall be imposed on business establishments
operating within the ECOZONE. In lieu
135
No registered pioneer firm may avail of this incentive for a
period exceeding eight (8) years.
136
During the period within which this incentive is availed of by the
expanding firm it shall not be entitled to additional deduction for
incremental labor expense.
PIERRE MARTIN DE LEON REYES
thereof, 5% of the gross income earned by all
business enterprises within the ECOZON
shall be paid and remitted as follows:
i. 3% to the National Government
ii.   2%   to   the   Treasurer’s   office   of   the  
municipality of city where the enterprise is
located.
3. RA 9178 or the Barangay Micro Business
Enterprises Act
Final tax on certain passive income is not exempt.
All BMBEs shall be exempt from tax for income
arising from the operations of the enterprise.
4. RA 9593 (Section 4 & 86, 88) or Tourism
Act
a. New enterprises in Greenfield and Brownfield
137
Tourism Zones shall, from the start of
business operations, be exempt from tax on
income for a period of six (6) years. This
income tax holiday may be extended if the
enterprise undertakes a substantial
expansion or upgrade of its facilities prior to
138
the expiration of the first six (6) years.
b. These enterprises shall likewise be allowed
to carry over as deduction from the gross
income for the next six (6) consecutive years
immediately following the year of the loss,
their net operating losses for any taxable
year immediately preceding the current
taxable year which had not been previously
offset as deduction from gross income.
c. An existing enterprise in a Brownfield
Tourism Zone shall be entitled to avail of a
non-extendible income tax holiday if it
undertakes an extensive expansion or
139
upgrade of facilities.
d. In lieu of all other national and local taxes,
license fees, imposts and assessments,
except real estate taxes and such fees as
may be imposed by the TIEZA, a new
137
A   “Greenfield   Tourism   Zone”   refers   to   a   new   or   pioneer  
development, as determined by the TIEZA (Tourism Infrastructure
and  Enterprise  Zone  Authority)  while  a    “Brownfield  Tourism  Zone”  
refers to an area with existing infrastructure or development as
determined by the TIEZA.
138
This extension shall consider the cost of such expansion or
upgrade in relation to the original investment, but shall in no case
exceed an additional six (6) years.
139
Such an income tax holiday shall consider the cost of such
expansion or upgrade in relation to the original investment, but
shall in no case exceed six (6) years to be counted from the time of
completion of the expansion or upgrade.
73
Homeowners Association qualifications to be
exempt from tax (Section 30).

PM REYES NOTES ON TAXATION I:

INCOME TAX
enterprise shall pay a tax of five percent (5%) Capital assets/income v. Ordinary
on its gross income earned, which shall be Assets/income
distributed as follows:

i. 1/3 to be proportionally allocated among Q97.1. What are capital assets?

affected LGUs
ii. 1/3 to the National Government; and The term capital assets means property held by the
iii. 1/3 to the TIEZA taxpayer (whether or not connected with his trade or
business, except:
5. RA 9856 or the Real Estate Investment Shares of
Trust (REIT) Act 1. Stock in trade of the taxpayer or other stock is
property of a kind which would properly be different
A REIT
140
shall be subject to income tax on its included in the inventory of the taxpayer if on from stock
taxable net income defined in the Act as the pertinent hand at the close of the taxable year in trade.
items of gross income less all allowable deductions,
less the dividends distributed by the REIT out of its 2. Property held by the taxpayer primarily for
141
distributable income. In no case, shall the REIT be sale to customers in the ordinary course of
subject to MCIT. his trade or business

Note, however, that if the REIT (1) fails to maintain its 3. Property used in trade or business of a
status as a public company as defined in the Act; (2) character that is subject to allowance for
fails to maintain the listed status of the investor depreciation
securities on the Exchange; and (3) fails to distribute
at least 90% of its distributable income, the income 4. Real property used in trade or business of
tax shall be imposed on taxable net income not as the taxpayer
defined in the Act but as defined in the Tax Code.
(see Section 39 Tax Code, and Section 132, RR 2)
(see RR 13-2011 [JULY 25, 2011])
Q97.1.1. A inherited from his father an
If the gain is Capital Gains and Losses agricultural land. He had the
not covered land surveyed and subdivided
by a specific into lots. Improvements, such
final tax,
Q97. What is the importance of knowing if an as good roads, concrete
such gain or asset/income is capital or ordinary gutters, drainage and lighting
loss will system, were introduced to
constitute The tax treatment will vary depend on the nature of make the lots saleable. Soon
part of your the asset. For example, if real property is a capital after, the lots were sold to the
gross incomeasset, the gain from the sale thereof shall be subject public at a profit. The Revenue
subject to to the final capital gains tax of 6%. If it is an ordinary examiner adjudged A as
income tax. asset, any gain from the sale thereof shall form part engaged in business as real
of the ordinary income which shall be subject either estate dealers and required
to graduated income tax rates (if an individual) or him to pay the real estate
corporate income tax (if a corporation). dealer’s   tax   and   assessed   a  
CAPITAL LOSS CARRY-OVER — When you sell an asset below its value or deficiency income tax on
the value your acquired it, it is considered a loss which can be carried over for profits derived from the sale of
the next 3 years. the lots based on the rates for
ordinary income and not as
capital gains at capital gain
rates. Is the Revenue
Examiner correct?

Yes. The statutory definition of capital assets is

negative in nature. If the asset is not among the
140
A REIT is a stock corporation established principally for the exceptions, it is a capital asset; conversely, assets
purpose of owning income - generating real estate assets.
141
Dividends are allowed deductions.
falling within the exceptions are ordinary assets. And

PIERRE MARTIN DE LEON REYES 74

 PM REYES NOTES ON TAXATION I:
INCOME TAX
necessarily, any gain resulting from the sale or
exchange of an asset is a capital gain or an ordinary
gain depending on the kind of asset involved in the
transaction. In this case, the activities of A are
indistinguishable from those invariably employed by
one engaged in the business of selling real estate.
One strong factor is the business element of
development which is very much in evidence. A did
not sell the land in the condition in which he acquired
it. In the course of selling the subdivided lots, A
engaged in the real estate business and accordingly,
the gains from the sale of the lots are ordinary
income taxable in full (see CALASANZ VS.
COMMISSIONER [OCTOBER 9, 1986])
Q97.2. What are ordinary assets?
The statutory definition of capital assets is negative in
nature. If the asset is not among the exceptions, it is
a capital asset; conversely, assets falling within the
exceptions are ordinary assets
Q97.2.1. Y inherited from his mother
several tracts of land. When
his mother was still alive,
these lands were subdivided
into lots and leased. Y sold the
leased lots to the occupants
except for one lot which
needed filling because of low
elevation. Said lot was filled
and subdivided into smaller
lots and sold to the public. Y
reported his income from the
sales as long-term capital
gains. The CIR denied this and
ruled that Y was engaged in
the business of leasing the
lots and the subsequent sale
are sales of real property used
in trade or business of the
taxpayer. Is the CIR correct?
Yes. In this case, the properties should be regarded
as ordinary assets. When Y obtained by inheritance
the parcels in question, transferred to him was not
merely the duty to respect the terms of any contract
thereon, but as well the correlative right to receive
and enjoy the fruits of the business and property
which the decedent had established and maintained.
Under  the  circumstances,  Y’s  sales  of  the  several  lots   142
forming part of his rental business cannot be
characterized as other than sales of ordinary assets.
The sales concluded on installment basis of the
subdivided lots comprising the last lot do not deserve
PIERRE MARTIN DE LEON REYES
a different characterization for tax purposes. The
following circumstances in combination show
unequivocally that the petitioner was, at the time
material to this case, engaged in the real estate
business (see TUASON VS. LINGAD [JULY 31, 1974])
Q97.3. What is the tax consequence if the
property is sold by a seller-
corporation engaged in real estate
business?
142
It depends. In BIR RULING 27-02 [JULY 15, 2002],
the CIR was asked to rule on the tax consequences
of certain transactions involving a seller that is
engaged n real estate business but without any
specification as to whether the property is capital or
ordinary. The CIR stated that it is necessary to first
determine the character of the real property being
sold.
If the real property is a land or building which is not
actually used in the business of the seller-corporation
and is treated as a capital asset, , then a final tax of
six percent (6%) shall be imposed on the gain
presumed to have been realized on its sale,
exchange or disposition of such land or building
based on the gross selling price or fair market value,
whichever is higher of such land and/or building. This
rule applies, whether or not the seller-corporation is
engaged in real estate business.
If the real property being sold is an ordinary asset,
withholding tax rates shall apply. The rate of
withholding tax will depend on whether, first, the
seller is exempt or taxable; second, whether the
seller is habitually engaged in real estate business or
not; and third, if the seller is habitually engaged in
real estate business, the gross selling price.
Q97.4. Is an equity investment a capital
asset?
Yes. As ruled by the Supreme Court in CHINABANK V.
CA [JULY 19, 2000], an equity investment is a capital,
not ordinary, asset of the investor the sale or
exchange of which results in either a capital gain or a
capital loss.
This ruling also stated that registration with the HLURB or
HUDCC shall be sufficient for a seller/transferor to be considered
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
offering other satisfactory evidence
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 PM REYES NOTES ON TAXATION I:
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Net capital gain, net capital loss a dealer in securities or a person engaged in the
purchase and sale of, or an active trader (for his own
Q97.5. Define net capital gain and net account) in, securities. In the hands, however, of
capital loss. another who holds the shares of stock by way of an
investment, the shares to him would be capital
Net Capital the excess of the gains from assets. When the shares held by such investor
Gain sales or exchanges of capital become worthless, the loss is deemed to be a loss
assets over the losses from such from the sale or exchange of capital assets.
sales or exchanges
Net Capital the excess of the losses from The Court further stated that assuming that the equity
loss sales or exchanges of capital investment of CBC has indeed become "worthless,"
assets over the gains from such the loss sustained is a capital, not an ordinary, loss.
sales or exchanges The rule thus is that capital loss can be deducted
only from capital gains. The capital loss sustained by
HOLDING CBC can only be deducted from capital gains if any
Percentage taken into account PERIOD derived by it during the same taxable year that the
RULE
securities have become "worthless.
Q97.6. Is the capital gain from the sale
or exchange of a capital asset
Determination of Gains or Loss from Sale
always taxable in full?
or Transfer of Property
No. In the case of a taxpayer other than a
corporation,
143
the following percentages of the gain Computation of Gain or Loss
upon the sale or exchange of a capital asset shall be
taken into account in computing net capital gain: Q98. How is gain or loss from the sale or
other disposition of property
1. 100% if the capital asset has been held for not computed?
more than 12 months
2. 50% if the capital asset has been held for more The gain from the sale or other disposition of
than 12 months property shall be the excess of the amount realized
therefrom over the basis or adjusted basis for
Limitations on capital loss determining gain.

Q97.7. What is the allowable extent of The loss shall be the excess of the basis or adjusted
losses from sales or exchanges of basis for determining loss over the amount realized.
capitals assets?
Q98.1. Define  “amount  realized”
Losses from sales of exchanges of capital assets
shall be allowed to be deducted only to the extent of Amount the sum of the money received
the gains from such sales or exchanges. realized plus the fair market value of te
property (other than money
In CHINABANK V. CA [JULY 19, 2000], Chinabank received).
made a 53% equity investment in the First CBC
Capital (Asia) Ltd, a Hong Kong subsidiary. First CBC Q98.2. When is gain or loss realized?
became insolvent. With BSP approval, Chinabank
wrote-off the investment in its ITR as a bad debt or as Gain or loss arising from the acquisition and
an ordinary loss deductible from its gross income. subsequent disposition of property is realized only
The BIR disallowed the deduction on the basis that when as the result of a transaction between the
the debt was not worthless. The Supreme Court ruled owner and another person the property is converted
that the equity investment is not indebtedness in the into other property that:
first place but rather capital, not an ordinary, asset.
Shares of stock would be ordinary assets only to 1. is essentially different from the property disposed
of, and
143
The holding period is material only if the capital asset is sold by
2. has a market value.
an individual. This does not apply to corporations.

PIERRE MARTIN DE LEON REYES 76

 PM REYES NOTES ON TAXATION I:
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The requirement that the property received in
exchange must be "essentially different from the [see Section40(B) Tax Code
property disposed of" implies that there must be a and RR-2]
change in substance and not merely a change in Basis of The basis of the substantially
144
form. Stocks and identical stock so sold or
Securities disposed of, increased or
The term "market value" means the fair value of the acquired in decreased, as the case may be,
property in money as between one who wishes to Wash Sales by the difference, if any,
purchase and one who wishes to sell. It between the price at which the
stock or securities was acquired
Cost or basis for determining gain or and the price at which such
loss substantially identical stock or
securities were sold or otherwise
disposed of. [see Section 143,
Q99. Define  “basis” RR 2]
Basis 1. The cost thereof in the case of
property acquired on or after
Exchange of Property (Tax-Free
March 1, 1913, if such property Exchanges) A — (6M) B — (10M) C
was acquired by purchase; Under 40(c), the transactions are all not in cash. This is
Definitions not taxable to the extent that taxpayer does not have the
2. The FMV as of the date of wherewithal to pay.
acquisition if the same was Q100. For purposes of Section 40, define the
acquired by inheritance following terms:
3. If the property was acquired Securities Means bonds and debentures
by gift, the basis shall be the but not notes of whatever class
same as if it would be in the or duration
hands of the donor or the last
Merger or Shall be understood to mean (i)
preceding owner by whom it was
Consolidation the ordinary merger or
not acquired by gift except if
consolidation or (ii) the
such basis is greater than FMV
acquisition by one corporation of
of the property at the time of the
all or substantially all the
gift then, for purpose of
properties of another corporation
determining loss, the basis shall
solely for stock.
be such FMV;
For a transaction to be regarded
4. If the property was acquired
as a merger or consolidation
for less than an adequate
under Section 40:
consideration in money or
money’s  worth,  the  basis  of  such  
1. It must be undertaken for a
property is the amount paid by
bona fide business purpose and
the transferee for the property
not solely for escaping the
burden of taxation
5. The basis as defined in
paragraph (C)(5) of Section 40 if
2. In determining if a bona fide
the property was acquired in a
transaction exists, the whole
transaction where the gain or
transaction or series of
loss is not recognized under
transactions shall be treated as
paragraph (C)(2) of Section
145 a single unit and every step of
40.
the transaction shall be
considered
144
By way of illustration, if a taxpayer owning ten shares of stock
exchanges his stock certificate for a voting trust certificate, no 3.In determine if the property
income is realized.
145
This refers to the basis used in tax-free exchanges transferred constitutes a

PIERRE MARTIN DE LEON REYES 77

 PM REYES NOTES ON TAXATION I:
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substantial portion of the
property of the transferor,
property shall be taken to
include cash assets
Control Means ownership or stocks in a
corporaion possessing at least
51% of the total voting power of
all classes of stock entitled to
vote
Q101. What are considered as tax-free
exchanges?
As a general rule, the entire amount of the gain or
loss shall be recognized upon the sale or exchange
of property
The exceptions (tax free exchanges) are:
1. No gain or loss shall be recognized if in
pursuance of a plan of merger or
consolidation:
a. A corporation which is a party to a
merger or consolidation exchanges
property solely for stock in a corporation,
which is a party to the merger or
consolidation
b. A shareholder exchanges stock in a
corporation, which is a party to a merger
or consolidation solely for the stock of
another corporation also a party to a
merger or consolidation
c. A security holder of a corporation, which
is a party to a merger or consolidation,
exchanges his securities in such
corporation, solely for stock or securities
in another corporation, a party to the
merger or consolidation
2. No gain or loss shall be recognized if
property is transferred to a corporation by
a person in exchange for stock or unit of
participation in such a corporation of
which as a result of such exchange, said
person, alone or together with others, not
exceeding four (4) persons gains control of
said corporation provided that stocks issued
for services shall not be considered as
issued in return for property.
Merger or Consolidation
Q101.1. A, B, C were majority
stockholders of ABC Theatrical
PIERRE MARTIN DE LEON REYES
CIR v. Rufino — there Co. They were also majority
must be a business stockholders of XYZ Theatrical
purpose. There has to Co which was engaged in the
be a time deferential same business. ABC and XYZ
between the exchange
of shares of two
agreed to merge. Under the
companies, and the agreement, all business,
distribution of such property, assets and goodwill of
shares to the ABC will be transferred to XYZ in
shareholder. exchange for XYZ stocks for
each stock held in ABC. Is the
exchange subject to capital
gains tax?
No. As held in CIR v. RUFINO [FEBRUARY 27, 1987], It
is well established that where stocks for stocks were
exchanged, and distributed to the stockholders of the
corporations, parties to the merger or consolidation,
pursuant to a plan of reorganization, such exchange
is exempt from capital gains tax. The basic
consideration, of course, is the purpose of the
merger, as this would determine whether the
exchange of properties involved therein shall be
subject or not to the capital gains tax. The criterion
laid down by the law is that the merger" must be
undertaken for a bona fide business purpose and not
solely for the purpose of escaping the burden of
taxation." It is clear, in fact, that the purpose of the
merger was to continue the business of the Old
Corporation, whose corporate life was about to
expire, through the New Corporation to which all the
assets and obligations of the former had been
transferred. The exemption from the tax of the gain
derived from exchanges of stock solely for stock of
another corporation was intended to encourage
corporations in pooling, combining or expanding their
resources conducive to the economic development of
the country. The merger in question involved a
pooling of resources aimed at the continuation and
expansion of business and so came under the letter
and intendment of the NIRC exempting from the
capital gains tax exchanges of property.
Transfer of property for shares of stock
Q101.2. Filinvest Development
Corporation (FDC), a holding
company, is the owner of 80% of
the outstanding shares of
Filinvest Alabang, Inc. (FAI) and
67.42% of the outstanding
shares of Filinvest Land, Inc.
(FLI). FDC and FAI entered into a
Deed of Exchange with FLI
78

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whereby the former both transfer
in favor of the latter parcels of
land in exchange for shares of
stock of FLI. The CIR argues that
the taxable gain should be
recognized for the exchange as
FDC’s   controlling   interest   in   FLI   control
was decreased as a result of the
exchange.   Is   the   CIR’s   To constitute a de facto merger, the following de facto
contention correct?
No. The Supreme Court in CIR V. FILINVEST
DEVELOPMENT CORPORATION (JULY 19, 2011] stated
that the requisites for the non-recognition of gain or
loss of a transfer of property for shares of stock are
as follows: (a) the transferee is a corporation; (b) the
transferee exchanges its shares of stock for
property/ies of the transferor; (c) the transfer is made
by a person, acting alone or together with others, not
exceeding four persons; and, (d) as a result of the
exchange the transferor, alone or together with
others, not exceeding four, gains control of the
transferee. Rather than isolating FDC, the shares
issued to FDC should be appreciated in combination
with the new shares issued to FAI. Together, FDC
and   FAI’s   shares   add   to   70.99%   of   FLI’s   shares.   has the element of permanence and not merely
Since the term "control" is clearly defined as
"ownership of stocks in a corporation possessing at
least fifty-one percent of the total voting power of
classes of stocks entitled to one vote,  “  the exchange
of property for stocks between FDC-FAI and FLI
clearly qualify as a tax-free transaction.
Q101.3. ABC is a domestic corporation.
Shareholders transferred their
real property in exchange for
more shares in the corporation.
In effect, they gained control of
more than 51% of the shares of
the corporation entitled to vote.
Is the exchange tax-exempt?
It depends. In BIR Ruling 274-87,
146
the CIR ruled
that no gain or loss would be recognized if property is
transferred to a corporation by a person in exchange
for stock in such a corporation of which as a result of
such exchange, said person alone or together with
others, not exceeding four persons, gains control of
said corporation. The term "control" shall mean
ownership of stocks in a corporation possessing at
least 51% of the total voting power of all classes of
146
Note that in this BIR Ruling, there were 6 transferors,
PIERRE MARTIN DE LEON REYES
UPSTREAM MERGER — treated as a
donation.
stocks entitled to vote. In determining the 51% stock
ownership, only those persons who transferred
property for stock in the same transaction may be
counted up to a maximum of five.
Transfer  of  “substantially  all”  the  assets   Statutory
merger —
Q101.4. What is a de facto merger? requirement
elements must concur: merger —
always a
1. There must be a transfer of all or corporation.
substantially all of the properties of the
transferor corporation solely for stock, and
2. It must be undertaken for a bona fide
business purpose and not solely for the
purpose of escaping the burden of taxation.
(see RMC 1-02 [April 25, 2002])
Q101.5. What   is   meant   by   “substantially  
all”?
As provided by RR 2, "substantially all" means the
acquisition by one corporation of at least 80% of the
assets, including cash, of another corporation, which
momentary holding
Q101.6. What are the differences
between a de facto merger and a
statutory (ordinary) merger?
In a de facto merger, the Transferor is not
automatically dissolved unlike in the case of a
statutory merger. Likewise, there is no automatic
transfer to the Transferee of all the rights, privileges,
and liabilities of the Transferor in the case of de facto
merger.
Q101.7. What are the similarities and
differences between a de facto
merger and a transfer of property
for shares under Section 40(C)(2)
of the Tax Code?
De facto merger is in procedure similar to a transfer
to a controlled corporation under the same Section
40(C)(2) of the Tax Code of 1997, except that at least
80% of the Transferor's assets, including cash, are
transferred to the Transferee, with the element of
permanence and not merely momentary holding.
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 PM REYES NOTES ON TAXATION I:
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However, a de facto merger and a transfer to a
controlled corporation are different in that, (1) the
Transferor in a de facto merger is a corporation, while
in a transfer to a controlled corporation, the
Transferors may either be a corporation or an
individual, and (2) in a de facto merger, there is no
requirement that the transferor gains control (that is,
51% of the total voting powers of all classes of stocks
of the Transferee entitled to vote) of the Transferee
as a prerequisite to enjoying the benefit of non-
recognition of gain or loss. What is essential in a de
facto merger is that the Transferee acquires all or
substantially all of the properties of the Transferor.
(see RMC 1-02 [April 25, 2002])
Administrative Requirements in case of
tax-free exchanges
Q101.8. What are the administrative
requirements in case of tax-free
exchanges?
1. The parties who are applying for confirmation that
the transaction is indeed a tax-free exchange
shall submit the following:
a. A sworn certification on the basis of the
property to be transferred
b. Certified true copies of the TCT and/or CCT
of real properties transferred
c. Certified true copies of the corresponding
latest Tax Declaration of the real properties
to be transferred
d. Certified true copies of the certificates of
stocks evidencing shares of stocks to be
transferred
e. Certified true copy of the inventory of other
property/ies to be transferred/
2. The BIR shall issue a certification or ruling
confirming that an exchange of property for
shares complies with the requisites for it to be
tax-free. The certification or ruling shall contain
the substituted basis of the properties.
3. The Certificate Authorizing Registration (CAR) or
Tax Clearance (TCL) shall be issued by the
RDO/Authorized Internal Revenue Officer on the
basis of the BIR certification or ruling
4. The information that the transaction is a tax-free
exchange and the substituted basis of the
properties shall be annotated in the TCT and/or
CCT.
5. The applicant/taxpayer shall pay the processing
and certification fee of P5,000 for each
PIERRE MARTIN DE LEON REYES
application not involving more than 10 real
properties and/or certificates of stock. An
additional P100 shall be paid for every TCT/CCT
and/or certificate of stock in excess of 10.
6. Every official, agent, or employee of the Registry
of Deeds and corporate secretary or the duly
authorized officer of the corporation who fails to
annotate the information shall be subject to a
penalty.
Exchange not solely in kind
Q101.9. What is the effect if the tax-free
exchange is not solely in kind?
1. If an individual, shareholder, security holder
or corporation receives money and/or
property in addition to the stock, the gain, but
not the loss, shall be recognized but in
amount not in excess of the sum of the
money and the fair market value of such
other property received.
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
amount of the gain recognized not in excess
of his proportionate share of the undistributed
earnings and profits of the corporation; the
remainder, if any, shall be treated as capital
gain.
3. If the transferor corporation receives money
and/or property in addition to the stock, then:
a. If the corporation distributes it in
pursuance of the plan of merger or
consolidation, no gain shall be
recognized
b. If the corporation does not distribute it,
the gain, if any, but not the loss shall be
recognized but not in an amount not in
excess of the sum of such money and
the fair market value of the property so
received.
Assumption of Liability in Tax-Free
Exchanges
Q101.10. What is the effect of the
assumption of the transferee of
the liabilities of the transferor
in addition to the transfer of
property?
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PM REYES NOTES ON TAXATION
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Section 40(C)(4) provides that if the taxpayer
receives the stock as if it were the sole consideration,
and, as part of the consideration, another party to the
exchange assumes a liability of the taxpayer or
acquires property subject to a liability, such
assumption or acquisition shall not be treated as
money and/or property and shall not prevent the
exchange from being tax-free.
However, if the amount of liabilities assumed plus the
amount of liabilities to which the property is subjected
to exceed the total adjusted basis of the property,
then such excess shall be considered either a capital
gain or ordinary gain, as the case may be.
Q101.11. What is the cost or basis in tax-
free exchanges?
The basis of the stock or securities shall be the same
as the basis of the property, stock, or securities
exchanged:
1. minus the money received
2. minus the fair market value of the property
received
3. plus the amount treated as dividend of the
shareholder
4. plus the amount of any gain that was
recognized on the exchange.
Note that the assumption or acquisition of liability
shall be treated as money and/or property received if
as part of the consideration to the transferor, the
transferee of the property assumes a liability of the
transferor or acquires from the latter property subject
to a liability.
The basis of the property transferred in the hands of
the transferee shall be the same as it would be in the
hands of the transferor increased by the amount of
the gain recognized to the transferor on the transfer.
Business Purpose
Q101.12. A owns all the stock of ABC
Corp. ABC Corp. had 1,000
shares of XYZ Corp. A formed
a new corporation called DEF
Corp. A had ABC transfer all
1,000 XYZ shares to DEF. She
then dissolved DEF and
liquidated the assets (the XYZ
shares). A then sold the XYZ
PIERRE MARTIN DE LEON REYES
G v. H — tax avoidance. The shares sold by
new company to P is lower value than if such
shares had been declared as dividends. New
I: corp. has lower value shares because it was
new. As such, the dividends it declares at
liquidation has lower value subject to
taxation; step-transaction doctrine/collapse
shares and paid the
corresponding CGT based on a
lower cost basis. Is the transfer
valid?
.
No. As held in GREGORY V. HELVERING [293 US 465,
JANUARY 7, 1935], a transfer of assets by one
corporation to another must have a business
purpose. Here, it was a mere device which followed
the form of a corporate reorganization to conceal its
real character which was a transfer of stock of XYZ
shares to A.
Rulings
Q101.13. Is there a prescriptive period
for rulings issued in
connection to tax-free
exchanges?
Yes. RMC 40-2012 [August 3, 2012] provides that
rulings issued under Section 40 (C) (2) of the NIRC,
as amended, shall be valid only for ninety (90) days
counted from the date of receipt of the ruling by any
of the parties to the exchange transaction. The
properties and shares of stocks involved in the
transfer should be conveyed to the transferee/s and
transferor/s, respectively, within this period.
Losses from Wash Sales of Stocks or
Securities
Q101.14. What is a Wash sale?
Wash sale is a sale or other disposition of stock or
securities where substantially identical securities are
acquired or purchased within a 61-day period,
beginning 30 days before the sale and ending 30
days after the sale.
Q101.15. Are losses from wash sales
deductible?
No. This is an exception to the general rule that
losses from sales or exchanges of stock or securities
are deductible as losses from sales or exchange of
property.
This will not apply to a loss incurred by a dealer in
securities. A loss incurred by a dealer in securities
with respect to a transaction made in the ordinary
course of the business of such dealer is deductible.
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 PM REYES NOTES ON TAXATION I:
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Example:
A, whose taxable year is the calendar year, on
December 1, 2012, purchased 100 shares of
common stock in the ABC Company for P100,000
and on December 15, 2012, purchased 100
additional shares for P80,000. On January 2, 2012,
he sold the 100 shares purchased on December 1,
2012, for P80,000. Because of the provisions of
Section 38, no loss from the sale is allowable as a
deduction.
(see Section 38, Tax Code and Section 131, RR 2)
Administrative Provisions
Accounting Methods
Q102. What are accounting methods that
may be used by taxpayers?
The methods are:
1. Cash Method – a method of accounting
whereby all items of gross income received
during the year shall be accounted for in
such taxable year and that only expenses
actually paid shall be claimed as deductions
during the year
2. Accrual Method – method of accounting for
income in the period it is earned, regardless
of whether it has been received or not.
Expenses are accounted for in the period
they are incurred and not in the period they
are paid.
3. Installment Method – method of accounting
considered appropriate when collections of
the proceeds of sales and incomes extend
over relatively long periods of time and there
is strong possibility that full collection will not
be paid. As customers make installment
payments, the seller recognizes the gross
profit on sale in proportion to the cash
collected during the year. (see Section 49,
Tax Code)
4. Percentage of Completion Method –
method of accounting applicable in the case
of a building, installation or construction
contract covering a period in excess of one
year, whereby gross income derived from
such contract may be reported upon the
PIERRE MARTIN DE LEON REYES
basis of percentage of completion. (see
Section 48, Tax Code)
5. Crop Year Basis – method of accounting
applicable only for farmers engaged in the
production of crops which take more than a
year from the time of planting to the process
of gathering and disposal of the harvest.
Expenses paid or incurred are deductible in
the year the gross income from the sale of
the crops is realized.
Hybrid Method
Q102.1. Can a taxpayer use a
combination of two or more
methods of accounting?
No. The rule is that a taxpayer may use any one
method of accounting but not a combination of two or
more methods of accounting for each type of
business during the taxable year. The use of a hybrid
method of accounting is not allowed (see
CONSOLIDATED MINES VS. CTA [AUGUST 29, 1974])
Percentage of Completion Method
Q102.2. Can gross income be instead
reported when the long term
contract is finally completed?
Yes. Section, 44, RR 2 provides that gross income
may be reported in the taxable year in which the
contract is finally completed and accepted if the
taxpayer elects as a consistent practice to so treat
such income, provided such method clearly reflects
the net income. If this method is adopted there
should be deducted from gross income all
expenditures during the life of the contract which are
properly allocated thereto, taking into consideration
any material and supplies charged to the work under
the contract but remaining on hand at the time of the
completion.
Installment Basis
Q102.3. A sold lots to ABC Corp and was
The law expressly paid less than 25%, the balance
excludes Evidence Of was covered by 4 checks. On the
Indebtedness from the same day, the checks were
compuation of whether <discounted (exchange for cash
25% has been paid. at an amount lower than face
value) also ABC Corp. A reported
"Discount" -- you "buy" the checks for a lower amount than what
the check stands for.
Whatever you get from discounted sales is no longer part of the
real estate. The tax on it is not tied to the sale of real82
property.
 PM REYES NOTES ON TAXATION I:
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as income for the year of the sale
for the year of the sale only the
cash amount received from sale
and excluded the amount
received from the discounted
checks. The balance was
reported as income only in the
next four years. A argues that
initial payment excludes
evidence   of   indebtedness.   Is   A’s  
contention correct?
Yes. As held in BANAS V. CA [FEBRUARY 10, 2000],
The transaction remains to be an instalment (not
cash) sale as the law expressly excludes evidence of
indebtedness in the determination of how much was
paid for the year. However, even if the proceeds of
discounted note is not considered as part of the initial
payment, the income realized from the discounting
itself is still a separate taxable income in the year it
was converted into cash because it was at this year
that there was actual gain on the discounted notes.
Accounting Period
Q103. What is the general rule for computing
the  taxpayer’s  taxable  income?
The taxable income shall be computed upon the
basis   of   the   taxpayer’s   annual accounting period –
fiscal year or calendar year as the case may be.
Q103.1. What is the difference between
fiscal year and calendar year?
Calendar year is an accounting period which starts
from January 1 and ends on December 31 while
Fiscal year is an accounting period of 12 months
ending on the last day of any month other than
December 31.
Income tax returns, whether individuals or for
corporations, are required to be made and their
income computed for each calendar year. However,
corporations may with the approval of the CIR, file
their returns and compute their income on the basis
of a fiscal year. (see Section 43, Tax Code)
Change of Accounting Period
Q103.2. Can a taxpayer change his
accounting period?
PIERRE MARTIN DE LEON REYES
Yes, but this applies only to corporate taxpayers. If
the corporate taxpayer wishes to change his
accounting period from fiscal to calendar year, from
calendar year to fiscal year, or from one fiscal year to
another, the net income shall, with the approval of the
CIR, be computed on the basis of such new
accounting period. (see Section 46, Tax Code)
The corporation must file the corresponding final or
adjustment return (see Section 47, Tax Code)
Allocation of Income and Deductions
Q103.3. When are items of gross income
included?
The amount of all items of gross income shall be
included in the gross income for the taxable year in
which received by the taxpayer unless under the
accounting method such amounts are to be properly
accounted for as for a different period. (see Section
44, Tax Code)
Q103.4. When is the period for which
deductions and credits are
taken?
The deductions shall be taken for the taxable year in
which paid or accrued or paid or incurred
dependent upon the accounting method used unless
in order to clearly reflect the income the deductions
should be taken as of a different period. (see Section
45, Tax Code)
Q103.5. When is the CIR authorized to
allocate income and deductions?
(Transfer pricing)
CIR to authorized to distribute, apportion, allocate,
and shift income and expenses between related
taxpayers to reflect their true taxable income or to
prevent evasion of taxes.
Returns and Payments of Taxes
Q104. Enumerate the BIR forms used in
income tax filing.
1. BIR Form 1700: Annual ITR for Individuals
Earning Purely Compensation Income
2. BIR Form 1702: Annual ITR for Self-
Employed Individuals, Estates and Trusts;
3. BIR Form 1702: Annual ITR for Corporation,
Partnership and Other Non-Individual
Annual Income Tax Return: seeks to capture bank deposits which
are subject to 20% final withholding, but the issue is that it does
not comply with secrecy of bank deposits.
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Taxpayer. (see RR 019-11 [DECEMBER 9,
2011])
Individual Return
Who are required to pay
Q105. Who are required to file an income tax
return?
The following individuals are required to file an
income tax return:
1. Resident citizen
2. Nonresident citizen, on his income from
sources within the Philippines
3. Resident alien, on income derived from
sources within the Philippines
4. Nonresident alien engaged in trade or
business or in the exercise of profession in
the Philippines (see Section 51, Tax Code)
Those not required to pay
Q106. Who are not required to file an income
tax return?
A: The following individuals are not required to file an
income tax return:
1. An individual whose gross income does not
exceed his total personal and additional
exemptions for dependents under Section
35.
You are required to file However, a citizen of the Philippines and any
ITR even if you have no alien individual engaged in business or
net for the year because practice of profession within the Philippines
your deductions are shall file an income tax return, regardless of
the amount of gross income.
always subject to scrutiny
2. An individual with respect to pure
compensation income derived from
sources within the Philippines (substituted
filing)
You need to file because However, (1) an individual deriving
they are using two compensation concurrently from two or more
different rates. employers at any time during the taxable
year shall file an income tax return and (2) an
individual whose compensation income
derived from sources within the Philippines
exceeds P60,000 shall also file an income
tax return
PIERRE MARTIN DE LEON REYES
3. An individual whose sole income has been
subjected to final withholding tax
4. An individual who is exempt from income
tax
5. Minimum wage workers
6. Senior citizen
Where to file
Q107. Where will the income tax return be
filed?
The return shall be filed with the
1. authorized agent bank
2. Revenue District Officer
3. Collection Agent
4. duly authorized Treasurer of the city or
municipality in which such person has his legal
residence or principal place of business in the
Philippines
5. if there be no legal residence or place of
business in the Philippines, with the Office of the
Commissioner. (see Section 51, Tax Code).
When to file
Q108. When is the income tax return filed?
The following rules shall govern the time of filing of
income tax returns:
15th day of the 4th month following the close of the taxable year
1. The return of any individual shall be filed on
or before April 15 of each year covering
income for the preceding taxable year.
2. Individuals subject to tax on capital gains
;
a. From the sale or exchange of shares of
stock not traded thru a local stock
exchange shall file a return within thirty
(30) days after each transaction and a
final consolidated return on or before
April 15 of year covering all stock
transactions of the preceding taxable
year; and
b. From the sale or disposition of real
property shall file a return within thirty
(30) days following each sale or other
disposition.
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3. Married individuals who do not derive income
purely from compensation, shall file a return
for the taxable year to include the income of
both spouses, but where it is impracticable
for the spouses to file one return, each
spouse may file a separate return of income.
4. The income of unmarried minors derived
from property received from a living parent
shall be included in the return of the parent,
except:
a. when the donor's tax has been paid on
such property, or
b. when the transfer of such property is
exempt  from  donor’s  tax.
5. If the taxpayer is unable to make his own
return, the return may be made by his duly
authorized agent or representative or by the
guardian or other person charged with the
care of his person or property.
Where to pay
Q109. Where is the income tax paid?
1. At the nearest Authorized Agent Bank (AAB)
of the Revenue District Office where the
taxpayer is registered.
2. In places where there are no AABs, to the
Revenue Collection Officer or duly
Authorized City or Municipal Treasurer
located within the Revenue District Office
where the taxpayer is registered.
Quarterly Income Tax
Q110. When should income tax be declared
for individuals?
147
Individuals subject to income tax, who is receiving
148
self-employment income, whether it constitutes the
sole source of his income or in combination with
salaries, wages, and other fixed or determinable
income, shall make and file a declaration of his
estimated income for the current taxable year on or
147
Nonresident citizens, with respect to income without the
Philippines and nonresident aliens not engaged in trade or
business, are not required to make a declaration.
148
Consists of earnings derived by the individual from the practice
of profession or conduct of trade or business carried on by him as
a sole proprietor or by a partnership of which he is a member.
PIERRE MARTIN DE LEON REYES
before April 15 of the same taxable year. (see
Section 74(A), Tax Code) Example: lawyers
Q110.1. When should the estimated tax
be paid?
The estimated tax due with respect to his declared
income shall be paid in four (4) instalments. The first
shall be paid at the time of te declaration and the
second and third shall be paid on August 15 and
November 15 of the current year, respectively. The
fourth instalment shall be paid on or before April 15 of
the following calendar year when the final adjusted
income tax return is to be filed. (see Section 74(B),
Tax Code)
Corporation Returns
Q111. Who are required to file a corporate
return?
Every corporation, except foreign corporations not
engaged in trade or business in the Philippines, shall
render, in duplicate, a true and accurate quarterly
income tax return and final or adjustment return.
The return shall be filed by the president, vice-
president or other principal officer, and shall be sworn
to by such officer and by the treasurer or assistant
treasurer.
Quarterly Income Tax
Q112. When should corporate income tax be
declared and paid?
Every corporation shall file a quarterly summary
declaration of its gross income and deductions on a
cumulative basis for the preceding quarter or
quarters, upon which the income tax shall be levied,
collected and paid.
The tax so computed shall be decreased by the
amount of tax previously paid or assessed during the
preceding quarters and shall be paid not later than 60
days from the close of each of each of the first three
quarters of the taxable year, whether calendar or
fiscal year (see Section 75, Tax Code)
Final Adjustment Return
Q113. What are the options available to the
corporation when the sum of the
quarterly tax payments made during
What you're liable for is higher than what you earned
What you're liable for is equal to what you earned
What you're lianle for is lower than whay you've paid. 85
 PM REYES NOTES ON TAXATION I:
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the taxable year is not equal to the
total tax due on the entire taxable
income of that year?
The corporation shall either
1. Pay the balance of tax still due
2. Carry-over the excess credit
3. Be credited or refunded with the excess
amount paid
Q113.1. Differentiate a tax credit from a
tax refund
In a tax refund, any tax on income that is paid in
excess of the amount due the government is
refunded. In a tax credit, the refundable amount is
applied against the estimated quarterly income tax
liabilities of the succeeding taxable year
Q113.2. Are the options to file a tax
refund and to avail of tax credit
alternative remedies?
Yes. As held in PHILAM ASSET M ANAGEMENT V. CIR
[DECEMBER 14, 2005], these two options are
alternative. The choice of one precludes the other.
One cannot get a tax refund and a tax credit at the
same time for the same excess income taxes paid.
Q113.2.1. If the corporate taxpayer fails
to signify his intention in the
Final Adjustment Return, is it
barred from making a valid
request for refund should it
choose this option later on?
No. As held in PHILAM ASSET M ANAGEMENT V. CIR
[DECEMBER 14, 2005], failure to indicate a choice will
not bar a valid request for a refund, should this option
be chosen by the taxpayer later on.
Q113.3. What is the irrevocability rule?
Ability to carry it over is perpetual
No. Once the option to carry-over the excess and
apply the excess quarterly income tax against income
tax due for the taxable quarters of the succeeding
taxable years has been made, such option shall be
considered irrevocable for that taxable period and no
application for cash refund or issuance of a tax credit
certificate shall be allowed. (see Section 76, Tax
Code and SYSTRA PHILIPPINES V. CIR [SEPTEMBER 21,
2007])
Q113.4. What is the implication when a
corporation fills out the portion
PIERRE MARTIN DE LEON REYES
“Prior Year’s Excess Credits” in
the Final Adjustment Return?
As held in PHILAM ASSET M ANAGEMENT V. CIR
[DECEMBER 14, 2005], the fact that the corporation
filled out the portion “prior year’s excess credits” in
the Final Adjustment Return means that it
categorically availed itself of the carry-over option. If
an application for tax refund has been or will be filed,
that portion should necessarily be blank.
Where to file
Q114. Where should the quarterly income
tax declaration and final adjustment
return be filed?
They shall be filed with the
1. Authorized agent bank
2. Revenue District Officer
3. Collection Agent
4. Duly authorized Treasurer of the city or
municipality having jurisdiction over the location
of the principal office of the corporation filing the
return or place where its main books of accounts
and other data from which the return is prepared
(see Section 77, Tax Code)
When to file
Q115. When should the quarterly income tax
declaration and final adjustment
return be filed?
The corporate quarterly declaration shall be filed
within 60 days following the close of each of the first
here quarters of the taxable year.
The final adjustment return shall be filed on or before
th th
April 15, or on on or before the 15 day of the 4
month following the close of the fiscal year, as the
case may be.
When to pay
Q116. When should the income tax due be
paid?
The income due on the corporate quarterly returns
and final adjustment income tax returns shall be paid
at the time the declaration or return is filed.
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Capital gains on shares of stock
Q117. When should the return for capital
gains on shares of stock be filed?
Every corporation deriving capital gains from the sale
or exchange of shares of stock not traded thru a local
stock exchange shall file a return within 30 days after
each transaction and a final consolidated return of all
transactions during the taxable year on or before the
th th
15 day of the 4 month following the close of the
taxable year.
Return of corporations contemplating
dissolution/reorganization
Q118. If a corporation plans to dissolve or
reorganize, what are its obligations
with respect to returns and payments
of taxes?
Yes. RR 2 provides that all corporations,
contemplating dissolution or retiring from business
without formal dissolution shall, within 30 days after
the approval of such resolution authorizing their
dissolution, and within the same period after their
retirement from business, file their income tax returns
covering the profit earned or business done by them
from the beginning of the year up to the date of such
dissolution or retirement and pay the corresponding
income tax due thereon upon demand by the CIR.
In BPI V. CIR [CA-G.R. SP. NO. 38304, APRIL 14,
2000], by virtue of a merger, BPI became the
successor-in-interest of FEBTC on July 1, 1985. On
April 10, 1986, FEBTC filed its final income tax return
with the BIR showing, among others, a refundable
amount of P174,065.77. BPI filed a claim for refund
of this amount. The BIR and CTA stated that the
claim for refund has already prescribed because the
return should have been filed by FEBTC within 30
days from SEC's approval of the Articles of Merger.
BPI contended that the said return should have been
filed on the 15th day of the 4th month following the
close of FBTC's taxable year. The CA agreed with
the BIR and CTA. Section 78 of the Tax Code and
Section 224 of RR 2 required FEBTC as a dissolving
corporation to file its income tax return within 30 days
after the cessation of its business or 30 days after the
approval of the merger on July 1, 1985 or up to July
31, 1985. Thus, the claim for refund has already
prescribed.
PIERRE MARTIN DE LEON REYES
Return of GPPs
Q119. Is a GPP required to file a return?
Yes. Although a GPP is not a taxable entity, it is
required to file a return of its income setting forth the
items of gross income and deductions, and the
names, taxpayer identification numbers (TIN),
addresses and shares of each of the partners. (see
SECTION 55, Tax Code).
Return of Receivers, Trustees in
Bankruptcy or Assignees
Q120. Who shall make the return if the
property or business of a corporation
is being operated by receivers,
trustees or assignees?
If receivers, trustees in bankruptcy or assignees are
operating the corporation, such receivers, trustees
or assignees shall make the returns of net income
as and for such corporation and the tax due shall be
assessed and collected in the same manner as if
assessed directly against the corporation.
Others not captured
Q121. How shall the tax upon gains, profits,
and income not falling and not
returned and paid under the
provisions on returns and payment of
tax be assessed?
They shall be assessed by personal return. The rule
is that all gains, profits, and income of a taxable
class, shall be charged and assessed with the
corresponding tax and the said tax shall be paid by
the owners of such gain, profits or income or the
proper person having receipt, custody, or control or
disposal of the same
Other income tax requirements
Q122. Enumerate the other income tax
requirements under Section 67-72 of
the Tax Code
1. All persons, corporations, duly registered general
co-partnerships undertaking for profit or
otherwise the collection of foreign payments of
interests or dividends shall obtain a license from
the CIR. (see Section 67, Tax Code)
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2. All persons, corporations, duly registered general cargo revenue and paid a lower income tax thereon,
co-partnerships making income payments to and that its underpayment of the income tax on cargo
another are required to render a true and revenue is even higher than the income tax it paid on
accurate return to the CIR setting forth the passenger revenue subject of the refund, such that
amount of such gains, profits and income and the refund cannot be granted.
name and address of the recipient of such
payments. (see Section 68, Tax Code)
3. All persons, corporations, duly registered general
co-partnerships, doing business as a broker,
shall render a correct return showing the names
of customers for whom such persons,
corporations, duly registered general co-
partnerships transacted business with. (see
Section 69, Tax Code)
4. Any attorney, accountant fiduciary, bank, trust
company, financial institution or other person,
who aids, assists, counsels or advises in, or with
respect, to the formation, organization or
reorganization of any foreign corporation shall
within 30 days thereafter file a return with the
CIR. (see Section 70, Tax Code)
5. After the assessment shall have been made,
returns, including corrections thereto made by the
CIR, shall be filed in the Office of the CIR and
shall constitute public records and be open to
149
inspection upon order of the President (see
Section 71, Tax Code)
6. When an assessment is made in case of any list,
statement or return, which in the opinion of the
CIR was false or fraudulent or contained any
understatement or undervaluation, no tax
collected under such assessment shall be
recovered by any suit unless the said list,
statement or return was not false nor fraudulent
and did not contain any understatement or
150
undervaluation. (see Section 72, Tax Code)

In UNITED AIRLINES V. CIR [SEPTEMBER 29, 2010], the

CTA found that United Airlines underpaid its Gross
Philippine Billings because United made erroneous
deductions from its gross cargo revenues in the ITR.
United questioned the proprietary of the CTA’s
determination. The Supreme Court held that under
Section 72 of the Tax Code, the CTA can make a
valid finding that the taxpayer made erroneous
deductions on its gross cargo revenue, that because
of such erroneous deductions, it reported a lower

149
RA 10021 or the Exchange of Information on Tax Matters Act of
2009 provides that income tax returns of specific taxpayers subject
of a request for exchange of information by a foreign tax authority
pursuant to an international convention or agreement on tax
matters to which the Philippines is a signatory or a party of, shall
be open to inspection upon order of the President
150
This provision does not apply to statement or returns made or to
be made in good faith regarding annual depreciation of oil or gas
wells and mines

PIERRE MARTIN DE LEON REYES 88