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NOTES AND CASES IN TAXATION

PERSONAL NOTES OF Atty. OLIVER R. GATCHALIAN

General Principles*
Taxation, definition and concept

The inherent power of the sovereign exercised
through legislature to impose burdens upon subjects
and objects within its jurisdiction for the purpose of
raising revenues to carry out the legitimate objects of
government.
Two Fold Nature of Taxation/Nature of the Power of Taxation
1. Inherent Power an attribute of sovereignty.
a. Basis Life Blood Theory
b. Manifestations Imposition even in the
absence of constitutional grant. States
right to select objects and subjects of
taxation. No injunction to enjoin collection
of tax
2. Legislative Power High prerogative of sovereignty
a. Basis Involves promulgation of rules
b. Manifestation Prohibition on improper
delegation. The power to tax includes the
authority to
i. Determine the nature, object
extent, coverage, apportionment of
the tax, situs of the imposition, and
method of collection.
ii. Grant
tax
exemptions
or
condonations; and
iii. Specify or provide for the
administrative as well as judicial
remedies
that
either
the
government or the taxpayers may
avail themselves in the proper
implementation
of
the
tax
measure.
Life Blood Theory

Without revenue raised from taxation, the
government will not survive, resulting in detriment to
society. Without taxes, the government would be
paralyzed for lack of motive power to activate and
operate it.

References
1. Reviewer on Taxation Vol. 1 & 2 by Prof. A.
Domondon,
2. Basic Approach to Income Taxation by Justice Japar
Dimaampao,
3. Reviewer on Taxation by Prof. Victorino Mamalateo,
4. Tax Law and Jurisprudence by Justice Jose Vitug and
Justice Ernesto Acosta,
5. Reviewer on Taxation by Francisco Sababan,
6. Revenue Regulations 16-2005 Consolidated ValueAdded Tax Regulations of 2005
7. Revenue Memorandum Circular No. 50-2007
8. L. Rodriguez Common Sources of Bar Questions
9. New Cases

Unauthorized users shall be punished by the law of karma and


they will not pass the examination they shall take or be
unsuccessful and unhappy in life

Bass of the Theory of Taxation


1. Acceptance that a government existence is a necessity
2. Performance of governmental functions redounds to the
benefit of the populace in general
3. Revenues could be raised to defray expenditures for
public purpose.


The power of taxation is sometimes called also the power


to destroy. Therefore it should be exercised with caution
to minimize injury to the proprietary rights of a taxpayer.
It must be exercised fairly, equally and uniformly, lest the
tax collector kill the 'hen that lays the golden egg.' And, in
order to maintain the general public's trust and
confidence in the Government this power must be used
justly and not treacherously."

The power of taxation is an essential and inherent


attribute of sovereignty, belonging as a matter of right to
every independent government without being expressly
granted by the people. It is an attribute of sovereignty
which emanates from necessity which the very existence
of the government is dependent. Without tax money, the
government would not be able to undertake the purpose
for which it was organized thus negating the need for its
existence.

Reconciliation of the view that The power to tax involves the power
to destroy from The power to tax is not the power to destroy
1. The imposition of a valid tax could not be judicially
restrained merely because it would prejudice taxpayers
property.
2. An illegal tax could be judicially declared invalid and
should not work to prejudice a taxpayers property.
3. Marshals view refers to a valid tax while the Holmes
view refers to an invalid tax.
Basis of Taxation/Rationale for Taxation
1. Reciprocal duties of protection and support between the
state and its citizens and residents. Known as Symbiotic
Relation between the state and its citizen. The state
gives protection and for it to continue giving protection it
must be supported by the taxpayers in the form of taxes.
2. Jurisdiction by the state over persons and property.


The basis of taxation is the reason why the government


could impose taxes on the income of resident citizens
derived from sources outside of the Philippines. On aliens
residing in the Phil.

Purpose/Objectives of Taxation
1. Revenue purposes. To raise revenues to meet the
legitimate objectives of government.
2. Sumptuary or regulatory purpose. The state increases
taxes on harmful substance making them more expensive,
thus limiting their consumption.
3. Compensatory Purpose. Maintain high level of
employment, control inflation, and achieved social justice
through redistribution.
4. It can also be used to implement the power of imminent
domain.


Regulatory Taxes Those imposed in the joint exercise of


the power of taxation and police power.
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NOTES AND CASES IN TAXATION




PERSONAL NOTES OF Atty. OLIVER R. GATCHALIAN

Taxation distinguishable from the power of taxation


as to the means employed to implement these public
goals.
It is necessary to determine whether a particular
imposition is a tax or a license fee, because some
limitations apply only to one and not to other.
Furthermore exemption from taxes does not include
exemption from license.

Taxation may be made the implement of the state's


police power. If the purpose is primarily revenue, or if
revenue is, at least, one of the real and substantial
purposes, then the exaction is properly called a tax.
Such is the case of motor vehicle registration fees
[PAL v. EDU]

The permanent reduction in their total revenues is a


forced subsidy corresponding to the taking of private
property for public use or benefit. This constitutes
compensable taking for which petitioners would
ordinarily become entitled to a just compensation.
Just compensation is defined as the full and fair
equivalent of the property taken from its owner by
the expropriator [CARLOS SUPERDRUG CORP. v.
DSWD 526 SCRA 130]

A tax deduction does not offer full reimbursement of


the senior citizen discount. As such, it would not meet
the definition of just compensation [supra]
RA 9257 is a legitimate exercise of police power
which, similar to the power of eminent domain, has
general welfare for its object. When the conditions so
demand as determined by the legislature, property
rights must bow to the primacy of police power
because property rights, though sheltered by due
process, must yield to general welfare [supra]
The tax imposed on videogram establishment is not
only regulatory but a revenue measure because the
earnings of such establishments have not been
subject to tax depriving the government of an
additional source of income. There is no
overregulation as a result of the imposition of the tax
because of the need for regulating a new industry
[TIO v. VRB]

TAXATION
For revenue
Impose under the power of
taxation
No limit as to the amount

Normally paid after the


commencement of a business
Failure to pay a tax does not
make the business illegal
Being the lifeblood of the
state cannot be surrendered
except
for
lawful
consideration

LICENSE FEE
For regulation
Under police power
Limited to the cost of the
license and the expenses of
police
surveillance
and
regulation
Before
Failure to pay the license fee
makes the business illegal
May be surrendered with or
without consideration

Instances where license fees could exceed the cost of regulation,


control or administration
1. Where the collection of the license fee is authorized both
under the power of taxation and police power
2. Where the license fee is collected to regulate non-useful
occupation
TAXATION
The purpose is for revenue
The amount of tax collected is
practically unlimited
The compensation of which is
the enjoyment of public
service
The property taken is money

Constructive because the


money collected is spent for
building infrastructure or
providing public services
Inferior to non-impairment
clause and could not override
the same
Interferes with property right
only

POLICE POWER
For general welfare
The license fee should not
exceed the cause of regulation
The feeling of having done
something
good
in
the
community
Any property other than money
which is the source of the
danger health, safety, or morals
Destructive; the property taken
is destroyed.

Superior

Regulates
property

both liberty and

Taxation from imminent domain


1. Taxation could be exercised by the legislative department
and in certain cases by the Pres. Or the local government
units only while eminent domain may be exercised by
private entities
2. In taxation it is the money that is taken while in eminent
domain it is property usually land.
Basic Principles or Characteristics of a Sound Tax System/Canons of
Taxation are used to determine whether a tax system is able to
meet the purpose or objectives of taxation
1. Fiscal Adequacy the taxes collected must be able to
finance the government expenditures and their variations
2. Administrative Feasibility The tax measures should
easily be implemented in order to assure the smooth flow
into the treasury of the fiscally adequate amounts
3. Theoretical Justice means that taxes should be collected
premised on the ability of pay.
Limitations on the Power of Taxation
1. Inherent limitations These are part and parcel of the
power of taxation and originate from the very nature of
taxation
2. Constitutional Limitations The restriction imposed by
the Const.


Rationale to prevent abuse on the exercise of the


otherwise unlimited power of taxation

Inherent limitations on the Power of Taxation Known as the


Elements, Tenets or characteristics of Taxation
1. The tax impose should be for public purpose.
2. There should no improper delegation of the taxing power
3. The power to tax is limited to the territorial jurisdiction of
the taxing power
4. Exemption of government entities recognized
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NOTES AND CASES IN TAXATION

PERSONAL NOTES OF Atty. OLIVER R. GATCHALIAN

5.

Observance of international comity such that


property of foreign sovereigns, not subject to
taxation.

While the power to tax cannot be delegated to


executive agencies, details as to the enforcement and
administration of an exercise of such power may be
left to them, including the power to determine the
existence of facts on which its operation depends, the
rationale being that the preliminary ascertainment of
facts as basis for the enactment of legislation is not of
itself a legislative function but is simply ancillary to
legislation [ABAKADA GURO v. ERMITA 469 SCRA 1]

The case before us is not a delegation of legislative


power - it is simply a delegation of ascertainment of
facts upon which enforcement and administration of
the increase rate under the law is contingent. No
discretion would be exercised by the President
[supra]
In making his recommendation to the President of the
existence of either the two conditions, the Secretary
of Finance is not acting as alter ego of the President
he is acting as agent of the legislative department, to
determine and declare the event upon which its
expressed will is to take effect, becoming the means
or tool by which legislative policy is determined and
implemented [supra]

Tax is for public purpose when


1. If for the welfare of the nation or greater portion of
the population
2. If affects the area as a community rather than as
individuals
3. Is designed to support the services of government for
some of the recognized objects of the country. [The
tax must be for public purpose otherwise it is robbery]
Concepts relative to public purpose
1. Inequalities resulting from singling out one of a
particular class for taxation or exemption infringe no
constitutional limitations. Reason It is inherent in
the power to tax that the legislature is free to select
the subjects of taxation.
2. An individual taxpayer need not derive direct benefits
from the tax. Reason the paramount consideration
is the welfare of the greater portion of the population
3. A tax may be imposed, not so much for revenue
purposes but under the police power for the greater
welfare of the community
4. Public purpose continually expanding.
5. Tax revenues must not be used for purely private
purposes or for the exclusive benefit of private
persons.
6. Private persons may be benefited but such benefit
should be merely incidental as its main object is the
benefit of the community in general.
7. Determined at the time of the enactment of tax law
and not at the time of implementation.
8. There is a presumption of public purpose even if the
tax law does not specifically provide for its purpose.
Taxpayer Suit

There must be a claim of illegal disbursement of public


funds or that the tax measure is unconstitutional.

GR - taxpayers have no locus standi to impugn


expenditure of public funds on constitutional grounds on
the premise that their interest in such expenditures is to
remote indeterminate and minute and that any injury is
suffered in common with people generally

Exceptions
1. Where there is a personal injury
2. Where there is an allegation of violation of a specific
constitutional limitation on the taxing and spending
power and not merely an incidental expenditure under
police power
3 stages or aspects/process of taxation
1. LEVYING the act of the legislature in choosing the
persons, properties, rights or privileges to be subjected to
taxation.
2. ASSESSMENT and COLLECTION This is the act of
executing the law through the administrative agencies
of government.
3. PAYMENT the act of the taxpayer in settling his tax
obligations.
Situs of Taxation

The place or authority that has the right to impose and
collect taxes.


Determines by the symbiotic relationship. The


jurisdiction, state or political unit that gives protection has
the right to demand support

Exception to the territory rule


1. Where the tax laws operates outside the territorial
jurisdiction
2. Taxation of resident citizens on their income derived from
abroad.
3. Where tax laws do not operate within the territorial
jurisdiction of the state. Such as when exempted by treaty
obligations or when exempted by international comity.


Comity


State may tax itself. Premise on the concept that with


respect to the government, exemption is the rule and
taxation is the exception. Reason Government is usually
exempt from taxation in order to reduce the amount of
money that the government is handling.

It is the respect accorded by the nations to each other


because they are sovereign equals. The property or
income of a foreign state or government may not be the
subject of taxation by another. Based on the rule on
international law that a foreign government may not be
sued without its consent so that it is useless to impose a
tax which could not be collected.

Kinds of Constitutional Limitations

ART VIII SEC. 5. The Supreme Court shall have the


following powers: 2] Review, revise, reverse, modify, or
affirm on appeal or certiorari, as the law or the Rules of
Court may provide, final judgments and orders of lower
courts in: b] All cases involving the legality of any tax,
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NOTES AND CASES IN TAXATION

PERSONAL NOTES OF Atty. OLIVER R. GATCHALIAN

impost, assessment, or toll, or any penalty imposed in


relation thereto.

latter's power to propose or concur with


amendments [Tolentino v. Secretary of Finance]

ART X SEC. 5. Each local government unit shall have


the power to create its own sources of revenues and to
levy taxes, fees, and charges subject to such guidelines
and limitations as the Congress may provide, consistent
with the basic policy of local autonomy. Such taxes,
fees, and charges shall accrue exclusively to the local
governments.

Art. VI Sec. 27 par. 2. The President shall have the power


to veto any particular item or items in an appropriation,
revenue, or tariff bill, but the veto shall not affect the item
or items to which he does not object.

ART X SEC. 6. Local government units shall have a


just share, as determined by law, in the national taxes
which shall be automatically released to them.
ART. XIV SEC. 4. 3] All revenues and assets of nonstock, non-profit educational institutions used actually,
directly, and exclusively for educational purposes shall
be exempt from taxes and duties. Upon the dissolution
or cessation of the corporate existence of such
institutions, their assets shall be disposed of in the
manner provided by law.
Proprietary educational institutions, including those
cooperatively owned, may likewise be entitled to such
exemptions subject to the limitations provided by law
including restrictions on dividends and provisions for
reinvestment.
4] Subject to conditions prescribed by law, all grants,
endowments, donations, or contributions used actually,
directly, and exclusively for educational purposes shall
be exempt from tax.
1.

GENERAL OR INDIRECT

Due Process Clause

Equal Protection Clause

Freedom of the Press

Religious freedom

No taking of private property without just
compensation

Non-impairment clause

Art. VI Sec. 26

Art. VII Sec. 19

2.

DIRECT OR SPECIFIC

Art. III SEC 20. No person shall be imprisoned for


debt or non-payment of a poll tax.
ART. VI SEC 24. All appropriation, revenue or tariff
bills, bills authorizing increase of public debt, bills of
local application, and private bills shall originate
exclusively in the House of Representatives, but the
Senate may propose or concur with amendments.


What is prohibited is for the Senate to enact


revenue measures on its own without a bill
originating from the House. But once the revenue
bill was passed by the House and sent to the
Senate, the latter can pass its own version on
the same subject matter consonant with the

Art. VI SEC 28. 1] The rule of taxation shall be uniform


and equitable. The Congress shall evolve a progressive
system of taxation. Congress shall evolve a progressive
system of taxation
2] The Congress may, by law, authorize the President to fix
within specified limits, and subject to such limitations and
restrictions as it may impose, tariff rates, import and export
quotas, tonnage and wharfage dues, and other duties or
imposts within the framework of the national development
program of the Government.
3] Charitable institutions, churches and parsonages or
convents appurtenant thereto, mosques, non-profit
cemeteries, and all lands, buildings, and improvements,
actually, directly, and exclusively used for religious,
charitable, or educational purposes shall be exempt from
taxation.
4] No law granting any tax exemption shall be passed
without the concurrence of a majority of all the Members of
the Congress.
Art. VI SEC. 29. 1] No money shall be paid out of the
Treasury except in pursuance of an appropriation made by
law.
2] No public money or property shall be appropriated,
applied, paid, or employed, directly or indirectly, for the
use, benefit, or support of any sect, church, denomination,
sectarian institution, or system of religion, or of any priest,
preacher, minister, or other religious teacher, or dignitary as
such, except when such priest, preacher, minister, or
dignitary is assigned to the armed forces, or to any penal
institution, or government orphanage or leprosarium.
3] All money collected on any tax levied for a special
purpose shall be treated as a special fund and paid out for
such purpose only. If the purpose for which a special fund
was created has been fulfilled or abandoned, the balance, if
any, shall be transferred to the general funds of the
Government.
Requisites of Due Process in Taxation
1. Tax must be for public purpose
2. Imposed within territorial jurisdiction
3. No arbitrariness or oppression in assessment and
collection


It does not require


1. Determination through judicial inquiry of property
subject to tax and amount of tax to be imposed
2. Notice and hearing as to amount of the tax and
manner of appropriation
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NOTES AND CASES IN TAXATION

PERSONAL NOTES OF Atty. OLIVER R. GATCHALIAN

Publication

As a GR appeals is not part of due process except


when the Constittution or the statue provides for an
appeals in which case its denial is a violation of due
process

No due process where a statue is so arbitrary that it


finds no support in the Constitution

No violation of due process although tax will result in


an injury rather than benefit to a particular taxpayer.

The input tax is not a property or a property right


within the constitutional purview of the due process
clause a VAT registered person entitlement to the
creditable input tax is a mere statutory privilege. The
right to credit input tax as against the output tax is
clearly a privilege created by law, a privilege that also
the law can remove or limit [ABAKADA GURO v.
ERMITA 469 SCRA 1]

The due process clause may be invoked only when


there is a clear contravention of inherent or
constitutional limitations in the exercise of the tax
power.

Equal Protection & Uniformity Rule



The criteria is met when the law operates uniformly
on all persons under similar circumstances. All
persons are treated in the same manner the
conditions not being different both in privileges
conferred and liabilities imposed. Favoritism and
preference not allowed.


The criteria means that all taxable articles or kinds of


property of the same class shall be taxed at the same
rate. The constitution does not require things which
are different in fact to be treated in law as though
they were they same.

In its general sense, means taxing the same subject or


object twice during the same taxing period. In its general
sense, it does not violate the Constitution.

Kinds of Double Taxation


1. Direct Duplicate Taxation which violates the equal
protection clause
Elements
a. The same object or property is taxed twice by the same
taxing authority for the same taxing purpose within the
same tax period
b. Taxing all the objects or property for the first time
without taxing all of them for the second time. The
presence of second element which violates the equal
protection clause.

Absence of any of the elements of direct duplicate taxation
makes it indirect duplicate taxation which is not prohibited.
2. Indirect Duplicate Taxation which is not repugnant to the
Constitution.
Methods of Avoiding the occurrence of Double Taxation
1. Tax treaties which exempt foreign nationals from local
taxation and local nationals from foreign taxation under
the principle of reciprocity
2. Tax credits where foreign taxes are allowed as deductions
from local taxes that are due to be paid
3. Allowing foreign taxes as deductions from gross income
4. Reduction of the Phil. income tax rate.
International Juridical Double Taxation

The imposition of comparable taxes in two or more states
on the same taxpayer in respect of the same subject
matter and for identical periods.


Double taxation usually takes place when a person is


resident of a contracting state and derives income from,
or owns capital in, the other contracting state and both
states impose tax on that income or capital.

The taxing power has the power to make reasonable


and natural classification for purposes of taxation.
The legislature has the inherent power to select the
subjects of taxation, hence it has the power to whom
to exempt.

The rationale for doing away with double taxation is to


encourage the free flow of goods and services and the
movement of capital, technology and persons between
countries, conditions deemed vital in creating robust and
dynamic economies [CIR v. S.C. JOHNSON]

Tax exemptions are not violative of the equal


protection clause so long as there is a valid
classification.

The purpose of tax treaties is to reconcile the national


fiscal legislations of the contracting parties in order to
help the taxpayer avoid simultaneous taxation in two
different jurisdictions.

Requisites of a valid classification


1. There must be substantial distinctions which must
make for real differences
2. The classification must be germane to the issue
3. It must apply not only to existing conditions but
future conditions as well
4. It must be applicable to all members of the same
class.


Taxation is equitable when its burden falls on those


better able to pay.

Double Taxation

Religious Freedom

The constitutional guaranty of the free exercise and
enjoyment of religious profession and worship carries
with it the right to disseminate religious information. Any
restraint of such right can only be justified like other
restraints of freedom of expression on the grounds that
there is a clear and present danger of any substantive evil
which the State has the right to prevent [AMERICAN
BIBLE SOCIETY v. CITY OF MANILA]
Non-impairment clause

If the tax exemption was granted for a consideration, it is
in the nature of a contract, protected by the non5

NOTES AND CASES IN TAXATION

PERSONAL NOTES OF Atty. OLIVER R. GATCHALIAN

impairment clause and may not be withdrawn. If the


tax exemption was granted gratuitously, without any
material consideration in favor of the state, it may be
revoked at anytime without impairing the obligations
and contracts.

3.

Nature & purpose of tax amnesty



It is a general pardon or intentional overlooking by
the State of its authority to impose penalties on
persons otherwise guilty of evasion or violation of a
revenue or tax law.

5.

It partakes of an absolute forgiveness or waiver by


the Government of its right to collect what otherwise
would be due it, and in this sense, prejudicial thereto,
particularly to give tax evaders, who wish to relent
and are willing to reform a chance to do so and
thereby become a part of the new society with a
clean slate.

4.

Basis for Classification of Taxes


1. SUBJECT or OBJECT

Personal, poll or capitation imposed on all
residents, whether citizen or not

Property

Excise Imposed upon the performance of an act,
the enjoyment of a privilege or the engaging in the
occupation
2.

Who Bears the Burden



DIRECT demanded from the very person who
should pay the tax and which he cannot shift to
another.

INDIRECT demanded from one person with the
expectation that he can shift the burden to someone
else, not as a tax but as part of the purchase price.

3.

Determination of Amount

Specific imposed base on some standard of weight
or measurement and which requires no assessment
beyond a listing and classification of the object to be
taxed.

Ad valorem Imposed based on a specific
proportion of the value fixed by law or as appraised

Mixed imposes both specific and ad valorem.

4.

Purpose

General, fiscal or revenue impose for the purpose
of raising public funds for the service of the
government.

To avail of a tax amnesty granted by the government,


and to be immune from suit on its delinquencies, the
tax payer must have voluntarily disclosed his
previously untaxed income and must have paid the
corresponding tax on such previously untaxed
income.

Rule on tax amnesty



The government is not stopped from questioning the
tax liability even if amnesty taxed were already
received.


Defense of amnesty is a personal defense.

TAX AMNESTY
Immunity from all criminal, civil
and administrative liabilities
arising from non-payment of
taxes
Applies only to past tax periods

TAX EXEMPTION
Immunity from civil liability
only.

That either the person or property taxed be within the


jurisdiction of the taxing authority
That the assessment and collection of certain kinds of
taxes guarantees against injustice to individuals,
especially by way or notice and opportunity for hearing be
provided
The tax must not impinge on the inherent and constitional
limitations on the power of taxation

It has prospective application




Three system of taxation


1. Proportional System where the tax increases or
decreases in relation to the tax bracket
2. Progressive or Graduated System where the tax
increases as the income of the taxpayer goes higher.
Based on the ability to pay and in implementation of
the social justice principle.
3. Regressive System where the tax decreases as the
income of the taxpayer increases.

5.

Graduation or Rate
 Proportional - which increases or decreases in
relation to the bracket.
 Progressive or graduated increases as the income
of the taxpayer goes higher.
 Regressive decreases as the income of the
taxpayer goes higher.

6.

Scope of Imposing Authority



Local

National

Tax


Are enforced contributions generally payable in


money, proportionate in character, levied on persons,
property or exercise of a right or privilege by the state
having jurisdiction, through its legislature, for public
purpose and paid at regular periods or intervals. [The
essential element of tax or its characteristics are
derived from the definition]

Requisites of a valid tax


1. It must be for public purpose
2. The rule of taxation shall be uniform

Special or regulatory imposed primarily for the


regulation of useful and non-useful occupation or
enterprises and secondarily only for the raising of
public funds.

Tax Pyramiding

The practice of imposing tax upon another tax. It is
prohibited as a taxpayer cannot be compelled to pay a
tax on the tax itself [PEOPLE v. SANDIGANBAYAN]
GR Taxes cannot be the subject of compensation or set-off:
Exceptions
6

NOTES AND CASES IN TAXATION


1.
2.
3.

PERSONAL NOTES OF Atty. OLIVER R. GATCHALIAN

Where both claims have already become overdue and


demandable as well as fully liquidated.
Compensation takes place by operation of law.
In case of a tax overpayment, the BIRs obligation to
refund or set-off arises from the moment the taxes
was paid.

Compensations take place by operation of law, where


the local government and the taxpayer are in their
own right reciprocally debtors and creditors of each
other, and that the dents are both due and
demandable [Domingo v. GARLITOS]

No off-setting of taxes against the claims that the


taxpayer may have against the government. A person
cannot refuse to pay a tax on the ground that the
government owes him an amount equal to or greater
than the tax being collected. The collection of a tax
cannot await the results of a lawsuit against the
government [FRANCIA v. IAC]

Doctrine of Equitable Recoupment



Where the refund of a tax illegally or erroneously
collected or overpaid by a taxpayer is barred by
prescription, a tax presently being assessed against a
taxpayer may be recouped or set-off against the tax
whose refund is now bared by prescription. This is
not followed in the Phil. because of lifeblood theory.
Tax from Tariff

Tax is an all embracing them to include various kinds
of enforced contributions imposed upon persons for
the attainment of public purpose, while a tariff is a
kind of tax imposed on articles which are traded
internationally.
Source of Tax Laws

Constitution

Existing tax laws of the Phil.
1. National Tax Laws
2. Local Tax Laws
3. Miscellaneous Tax Laws.
Nature of Tax Laws

Not political in character, civil in nature and not
subject to ex post facto law.


Tax laws are liberally interpreted in favor of the


taxpayer and strictly construed against the
government because taxes are burden which must be
endured by the taxpayer should not presumed to go
beyond what the law expressly and clearly declares.

Liberal interpretation does not apply to tax


exemptions which should be construed in strictissimi
juris against the taxpayer.

Principle of Strictissimi Juris



When a tax is unquestionably imposed, a claim for
exemption from tax payments must be clearly shown
and based on language in the law too plain to be
mistaken. [REASON Lifeblood theory, to minimize
differential treatment and foster impartiality, fairness
and equality of treatment among taxpayers and

taxation is high prerogative of sovereignty whose


relinquishment is never presumed]
Exceptions
1. When the statute granting exemption provides for liberal
construction thereof
2. In case of special taxes relating to special cases and
affecting only special classes of persons.
3. If exemption refer the public property
4. In cases of exemptions granted to charitable and
educational institutions or their property
5. In cases of exemptions in favor of a government, political
subdivision or instrumentality.


Law granting partial refund partakes the nature of a tax


exemption and therefore must be strictly construed
against the taxpayer.

Tax Avoidance

Tax saving device within the means sanctioned by law.
This method should be used by the taxpayer in good faith
and at arms length.
Tax Evasion

A term that connotes fraud through the use of pretenses
and forbidden devices to lessen or defeat taxes.
Factors to determine tax evasion
1. The end to be achieved, i.e., the payment of less than that
known by the taxpayer to be legally due, or the nonpayment of tax when it is shown that a tax is due;
2. An accompanying state of mind which is described as
being evil, in bad faith, willfull,or deliberate and
not accidental; and
3. A course of action or failure of action which is unlawful
[CIR v. TODA 438 SCRA 290]
TAX AVOIDANCE
legal and not subject to
criminal penalty
It is minimization of taxes

TAX EVASION
illegal and subject to criminal
penalty
almost always results in
absence of tax payments

Penalty for tax evasion

SEC. 254. Attempt to Evade or Defeat Tax.


Any person who
1. willfully attempts in any manner to evade or
2. defeat any tax imposed under this Code or the
payment thereof
3. shall, in addition to other penalties provided by law,
4. upon conviction thereof,
5. be punished by a fine not less than P30,000 but not
more than P100,000 and
6. suffer imprisonment of not less than 2 years but not
more than 4 years:
7. Provided, That the conviction or acquittal obtained
under this Section
8. shall not be a bar to the filing of a civil suit for the
collection of taxes.
Tax Exemption

Broad Sense whenever a tax on property does not apply
to all property within the jurisdiction of the taxing
7

NOTES AND CASES IN TAXATION

PERSONAL NOTES OF Atty. OLIVER R. GATCHALIAN

authorities. The property not taxed is said to be


exempted.


Narrow Sense the grant of immunity, expressed


implied to a particular person or persons or
corporations of a particular class, from a tax upon
property or an excise tax which persons or
corporations generally within the same taxing
districts are obliged to pay.
No tax exemption by implication. [Reason Every
exemptions from taxation are looked upon with
disfavor and one who claims exception must be able
to justify his claim by clearest grant of organic or
statute law]
The power of taxation includes the power to exempt
which is essentially a legislative prerogative

Instances where tax exemptions may be granted other than by


act of Congress

1.

2.

3.

ART. 6 SEC. 28 Par. 4] No law granting any


tax exemption shall be passed without the
concurrence of a majority of all the Members of
the Congress.
ART. X SEC. 5. Each local government unit
shall have the power to create its own sources of
revenues and to levy taxes, fees, and charges
subject to such guidelines and limitations as the
Congress may provide, consistent with the basic
policy of local autonomy. Such taxes, fees, and
charges shall accrue exclusively to the local
governments.
ART. 7 SEC 21. No treaty or international
agreement shall be valid and effective unless
concurred in by at least two-thirds of all the
Members of the Senate.
A tax exemption may be revoked because it is an act
of liberality which could be taken back by the
government.

Restrictions on revocation of tax exemption


1. Non-impairment clause.
2. Adherence to form
3. Where the tax exemption is grant is in the form of a
special law and not by a general law even if the terms
of the general act are broad enough to include the
codes in the general law unless there is manifest
intent to repeal or alter the special law.


The original reasons for the withdrawal of tax


exemption privileges granted to government-owned
and controlled corporations and all other units of
government were that such privilege resulted in
serious tax base erosion and distortions in the tax
treatment of similarly situated enterprises.

BIR ruling granting tax exemptions may be reversed.


Reason - the government is never estopped from
collecting taxes because of mistakes or errors on the
part of its agents. The Commissioner is not bound by
the ruling of his predecessors.

Withdrawal of tax exemption is not to be construed as


prohibiting future grants of tax exemptions.

Power of the Commissioner to Obtain Information, and to


Summon, Examine, and Take Testimony of Persons

*SEC 5. In ascertaining the


a. correctness of any return, or
b. in making a return when none has been made, or
c. in determining the liability of any person for any
internal revenue tax, or
d. in collecting any such liability, or
e. in evaluating tax compliance,
 the Commissioner is authorized:
A. To examine any
1. book,
2. paper,
3. record, or
4. other data which may be relevant or
material to such inquiry;
B. To obtain on a regular basis from any person
1. other than the person whose internal
revenue tax liability is subject to audit or
investigation, or
2. from any office or officer of the national
and local governments, government
agencies and instrumentalities, including
the BSP and government-owned or
controlled corporations,
3. any information such as, but not limited to,
costs and volume of production, receipts or
sales and gross incomes of taxpayers,
4. and the names, addresses, and financial
statements of
i. corporations,
ii. mutual fund companies,
iii. insurance companies,
iv. regional operating headquarters of
multinational companies,
v. joint accounts,
vi. associations,
vii. joint ventures or consortia and
viii. registered partnerships, and their
members;
C. To summon the
1. Person liable for tax or
2. required to file a return, or
3. any officer or employee of such person, or
4. any person having possession, custody, or
care of the books of accounts and other
accounting records containing entries
relating to the business of the person liable
for tax, or
5. any other person,
i.
to
appear
before
the
Commissioner or his duly
authorized representative
ii.
at a time and place specified in
the summons

NOTES AND CASES IN TAXATION

PERSONAL NOTES OF Atty. OLIVER R. GATCHALIAN

iii.

and to produce such books,


papers, records, or other data,
and to give testimony;
D. To take such testimony of the person concerned,
1. under oath,
2. as may be relevant or material to such
inquiry; and
E. To cause revenue officers and employees
1. to make a canvass from time to time of
any revenue district or region
2. and inquire after and concerning all
persons therein who may be liable to
pay any internal revenue tax, and all
persons owning or having the care,
management or possession of any
object with respect to which a tax is
imposed.
The provisions of
the foregoing paragraphs
notwithstanding,
1. nothing in this Section shall be construed
2. as granting the Commissioner the authority to
inquire into bank deposits
3. other than as provided for in Section 6(F) of this
Code.
SEC 6. Power of the Commissioner to Make Assessments
and Prescribe Additional Requirements for Tax
Administration and Enforcement.
***E) Authority of the Commissioner to Prescribe Real
Property Values. The Commissioner is hereby authorized
to divide the Philippines into different zones or areas and
shall, upon consultation with competent appraisers both
from the private and public sectors, determine the fair
market value of real properties located in each zone or
area.
For purposes of computing any internal revenue tax,
 the value of the property shall be, whichever is
the higher of:
1. the fair market value as determined by the
Commissioner, or
2. the fair market value as shown in the schedule of
values of the Provincial and City Assessors.
***F] Authority of the Commissioner to Inquire into Bank
Deposit Accounts. Notwithstanding any contrary provision
of RA 1405 and other general or special laws,
 the Commissioner is hereby authorized to
inquire into the bank deposits of:
1. a decedent to determine his gross estate; and
2. any taxpayer who has filed an application
for compromise of his tax liability under
Sec. 204(A)(2) of this Code by reason of
financial incapacity to pay his tax liability.
In case a taxpayer files an application to compromise the
payment of his tax liabilities

1.
2.
3.

4.
5.

on his claim that his financial position demonstrates


a clear inability to pay the tax assessed,
his application shall not be considered
unless and until he waives in writing his privilege
under RA1405 or under other general or special
laws,
and such waiver
shall constitute the authority of the Commissioner to
inquire into the bank deposits of the taxpayer.

Authority of Internal Revenue Officer in Searching for Taxable


Articles

**SEC 171. Any internal revenue officer may,


1. in the discharge of his official duties,
2. enter any house, building or place where articles
subject to tax under this Title are produced or kept,
or are believed by him upon reasonable grounds to
be produced or kept,
3. so far as may be necessary to examine, discover or
seize the same.
He may also stop and search any vehicle or other means of
transportation when upon reasonable grounds he believes
that the same carries any article on which the excise tax has
not been paid.
Related Provision
SEC. 206. Constructive Distraint of the Property of a Taxpayer. To
safeguard the interest of the Government, the Commissioner may
place under constructive distraint the property of a delinquent
taxpayer or any taxpayer who, in his opinion, is retiring from any
business subject to tax, or is intending to leave the Philippines or
to remove his property therefrom or to hide or conceal his
property or to perform any act tending to obstruct the
proceedings for collecting the tax due or which may be due from
him.
The constructive distraint of personal property shall be effected
by requiring the taxpayer or any person having possession or
control of such property to sign a receipt covering the property
distrained and obligate himself to preserve the same intact and
unaltered and not to dispose of the same in any manner
whatever, without the express authority of the Commissioner.


No search warrant is required for exercise of power.


Reason Doctrine of primary jurisdiction. Basis lifeblood
theory.

The warrantless searches of dwelling places and means of


transportation by Internal Revenue officers could only be
exercised where the articles being searched are subject to
excise tax.

Where articles are not subject to excise taxes internal


revenue officers could not exercise warrantless search but
may exercise the power of constructive distraint of
personal property under Art. 206 1st par. This is known as
pre-emptive embargo.

Pre-emptive embargo

Refers to the power of the CIR to place under constructive
distraint the property of a delinquent taxpayer, or of any
taxpayer, who in his opinion performs any act tending to
9

NOTES AND CASES IN TAXATION

PERSONAL NOTES OF Atty. OLIVER R. GATCHALIAN

obstruct the proceeding for collecting the tax due or


which may be due him.

services rendered abroad as a member of the


complement of a vessel engaged exclusively in
international trade shall be treated as an overseas
contract worker.

Authority of Internal Revenue Officers to Make Arrests and


Seizures

SEC
15.
The
Commissioner,
the
Deputy
Commissioners, the Revenue Regional Directors, the
Revenue District Officers and other internal revenue
officers shall have authority to make arrests and seizures
for the violation of any penal law, rule or regulation
administered by the Bureau of Internal Revenue. Any
person so arrested shall be forthwith brought before a
court, there to be dealt with according to law.
Non-Retroactivity of Rulings

SEC 246. Any revocation, modification or reversal of


any of the rules and regulations promulgated in
accordance with the preceding Sections or any of the
rulings or circulars promulgated by the Commissioner
shall not be given retroactive application if the
revocation, modification or reversal will be prejudicial
to the taxpayers, except in the following cases:
a. Where the taxpayer deliberately misstates or
omits material facts from his return or any
document required of him by the BIR;
b. Where the facts subsequently gathered by the
BIR are materially different from the facts on
which the ruling is based; or
c. Where the taxpayer acted in bad faith.
Sources of Revenue

**SEC. 21. The following taxes, fees and charges are


deemed to be national internal revenue taxes:
a. Income tax;
b. Estate and donor's taxes;
c. Value-added tax;
d. Other percentage taxes;
e. Excise taxes;
f. Documentary stamp taxes; and
g. Such other taxes as are or hereafter may be
imposed and collected by the BIR.
Gen. Principles of Income Taxation
General Principles of Income Taxation in the Philippines
/Known as situs of income taxation/ Source Rule of Income
Taxation.

***SEC 23. Except when otherwise provided in this


Code:
a. A citizen of the Philippines residing therein is
taxable on all income derived from sources
within and without the Philippines;
b. A nonresident citizen is taxable only on income
derived from sources within the Philippines;
c. An individual citizen of the Philippines who is
working and deriving income from abroad as an
overseas contract worker is taxable only on
income from sources within the Philippines:
Provided, That a seaman who is a citizen of the
Philippines and who receives compensation for

Note- Starting January 1, 1998, their incomes are no


longer taxable. The income is considered as income of a
non-resident citizen derived from without the Philippines.
Overseas Contract Worker The intention of the law is to
cover only those individuals with a working contract
abroad.

d.

e.

f.

An alien individual, whether a resident or not of the


Philippines, is taxable only on income derived from
sources within the Philippines;
A domestic corporation is taxable on all income
derived from sources within and without the
Philippines; and
A foreign corporation, whether engaged or not in
trade or business in the Philippines, is taxable only
on income derived from sources within the
Philippines.

**Income tax

A tax on the yearly profits arising from property,
professions, trades, and offices.


Nature of income tax It is an excise tax and not a legal


tax on property.

Types of income tax


1. Presumptive a scale of income taxes is imposed in
relation to a group of persons actual expenditure and the
presumed income
2. Composite A tax consisting of a series of separate quasi
-personal taxes, assessed on the particular source of
income with a superimposed personal tax on the income
as a whole
3. Unitary Incomes are arranged according to source. The
separate items are added together and the rate applied to
the resulting total income.
INCOME TAX
Incidence of income tax falls
on the earner
Measured by the amount of
income received over a period
of time
Taxed only once
The tax imposed on income is
predicated
upon
the
governmental
protection
given to the earner

PROPERTY TAX
The incidence of a property tax
on the property itself
Measured by the value of the
property at a particular date
May be taxed on a recurrent
basis
The tax on property is
predicated
upon
the
governmental
protection
extended to the property itself

Tax Base can be grouped into the following categories


1. Compensation income, business and professional income,
capital gains not subject to final tax, passive income not
subject to final tax, and other income.
2. Capital gains subject to final tax at a preferential tax rates
3. Passive income subject to final tax at a preferential tax
rates.

10

NOTES AND CASES IN TAXATION




PERSONAL NOTES OF Atty. OLIVER R. GATCHALIAN

Note - Where an individual has all 3 categories on


income, the taxpayer shall treat separately his liability
on each of such income.

Basic feature of the present income tax


1. It has adopted a COMPREHENSIVE TAX SITUS by
using the nationality, residence, and source rules.
This makes citizens and resident aliens taxable on
their income derived from all sources while nonresident aliens are taxed only on their income
derived from within the Philippines. Domestic
corporations are also taxed on universal income while
foreign corporations are taxed only on income from
within.
2. The individual income tax system is mainly
PROGRESSIVE IN NATURE in that it provides graduated
rates of income tax. Corporations in general are taxed
at a flat rate of 30% of net income.
3. It has retained MORE SCHEDULAR THAN GLOBAL
FEATURES with respect to individual taxpayers but
has maintained a more global treatment on
corporations
Functions of income tax in our present tax system
1. Income taxes contribute large amounts of needed
revenue and with the broadening of the income tax
base, is an increasingly dependable source of revenue
to the government
2. The income tax, levied at reasonable progressive
rates has come to be regarded as the best measure of
ability to pay.
3. Progressive income tax re necessary to offset the
regressive sales and consumption taxes thus brings
about a tax system which on the whole is based on
the ability to pay principle.
System of Income Taxation
1. GLOBAL SYSTEM All income received by the
taxpayer are grouped together, without any
distinction as to the type or nature of the income,
and after deducting therefrom expenses and other
allowable deductions, are subjected to tax at a fixed
rate.
2. SCHEDULAR SYSTEM the various types/items of
income
(compensation; business/professional
income) are classified accordingly and are
accorded different tax treatments, in accordance
with schedules characterized by graduated tax rates.
Since these types of income are treated separately,
the allowable deductions shall likewise vary for each
type of income.

***Determination of source according to kind of income


KINDS OF INCOME
SOURCE/ TAX SITUS
Rentals
Location of the property or
interest in such property.
Royalties [copyright,
designed, patent,
trademark]
Sale of Real Property
Sale of Personal Property
Mining income
Farming income
Merchandising
Gain on sale of domestic
corporation

The method under which the NIRC belongs to a


system which is partly schedular and partly global.

SCHEDULAR TREATMENT
There are different tax rates
There are different categories
of taxable income

Usually used in the income


taxation of individuals

GLOBAL SYSTEM
There is a unitary or single
tax rate
There is no need for
classification as all taxpayers
are subjected to a single
rate.
Usually
applied
to
corporations

Location of real property


Place of sale
Location of the mines
Place of Farming activities
Place of Sale
Income within the Philippines.

Gross income from sources within the Philippines [Sec. 42]


1. Interest Two Kinds
a. Interest derived from sources within the
Philippines These are interest earned from
bank deposits. To determine whether a bank
interest should be considered as an income
from sources within the Philippines, determine
the location of the bank. The bank must be
located in the Philippines, otherwise, it is
deemed from a source without the Philippines.
b. Interest on bonds, notes, or other interestbearing obligations of residents, corporate or
otherwise Determining factor is the interest
of the obligor whether individual or corporate.
If the obligor is a residence of the Philippines,
the interest payment paid by him can have no
other source than within the Philippines.
2. Dividends
a. Issued by a domestic corporation always an
income derived from sources within the
Philippines.
b. Issued by Foreign Corporation Income from
sources within the Philippines provided the 2
requisites are present
i.
At least 50% of its gross income is
from sources within the Philippines
ii.
Such gross income must be for the 3
year period ending with the close of
the taxable year preceding the
declarations of such dividends.
Otherwise, it is considered as income
from sources without the Philippines.
3.

Place of use of intangible

Services the determining factor is the place of


performance. The taxable income is the compensation for
labor or personal services performed in the Philippines.

Kinds of Income Taxes


1. Net Income Tax
2. Gross Income Tax
3. Final Income Tax
4. Minimum Corporate Income Tax of 2% of gross income
5. Improperly Accumulated Earning Tax of 10% on
improperly accumulated earnings
6. Optional Corporate Income Tax of 15% on gross income.
INDIVIDUAL INCOME TAX
11

NOTES AND CASES IN TAXATION




PERSONAL NOTES OF Atty. OLIVER R. GATCHALIAN

Schedular Tax Treatment

Net Income Taxation


1. Resident Citizen
2. Non-resident Citizen
3. Resident Alien
4. Non-resident alien engaged in trade or business
Gross Income Taxation

Non Resident Alien not engaged in trade or business

Allowable deduction for resident citizens and resident aliens who are
self-employed or are engaged in the practice of a profession
a. Basic personal & additional exemptions [Sec. 35]
b. Optional standard deductions or the itemized deductions
[Sec. 34L]
c. Premium payments on health and hospitalization
insurance [Sec. 34M]


Note these taxpayers have the option of choosing


between the optional standard deduction and the
itemized deductions.

CORPORATE INCOME TAXATION




Global Tax Treatment

Net Income Taxation


1. Domestic Corporation
2. Resident Foreign Corporation
Gross Income Taxation

Non-resident Foreign Corporation
Classification of Taxpayers and Taxation of Their
Income
Income taxpayer

Any person subject to tax.
INDVIDUALS

The natures of their income are compensation
income and income derived from trade, business or
profession.
**Deductions from gross compensation income allowed to
resident and nonresident Filipino citizens and resident aliens.
a. Basic personal & additional exemptions [Sec. 35]
b. Premiums payment on health and/or hospitalization
insurance;
i. The amount of premiums not to exceed
P2,400 per family or P200 a month paid
during the taxable year for health and/or
hospitalization insurance taken by the
taxpayer for himself, including his family, shall
be allowed as a deduction from his gross
income:
ii. Provided, That said family has a gross income
of not more than P250,000 for the taxable
year:
iii. Provided, finally, That in the case of married
taxpayers, only the spouse claiming the
additional exemption for dependents shall be
entitled to this deduction [Sec. 34M]


Note - these deductions can also availed of by


individuals whose source of income are derived
from other than compensation income.
All other kind of deductions like the optional
standard deduction and itemized deductions are
not allowed to be deducted from gross
compensation income. Reason - The disallowed
items are not necessary for the taxpayer to earn
the pure compensation income which arose out
of an employer-employee relationship.

Resident Citizen

A citizen of the Philippines who stays in the Philippines
without the intention of transferring his physical presence
abroad whether to stay permanently or temporarily.
TAXATION OF RESIDENT CITIZEN on income derived from selfemployment; trade or business or profession

a. Taxable only on income derived from sources within


and without the Phil.
b. Allowed 40% optional standard deduction or itemized
deduction
c. Allowed personal and additional exemptions.
d. Subject to final tax on certain passive income
1. Interest, royalties, prizes and other winnings
2. Cash and or property dividends
3. Capital gains from the sale of shares of stock not
traded in the stock exchange
4. Capital gains from the sale of real property
e. From the pertinent items of gross income derived from
sources within and without the Phil. are subtracted
allowable deductions and the personal and additional
exemptions in order to arrived at the taxable income


Exclusions are not included in gross income for income tax


purposes

Non-resident Citizen
1. A citizen of the Philippines who establishes to the
satisfaction of the Commissioner the fact of his physical
presence abroad with a definite intention to reside
therein.
2. A citizen of the Philippines who leaves the Philippines
during the taxable year to reside abroad, either as an
immigrant or for employment on a permanent basis.
TAXATION OF NON-RESIDENT CITIZEN

a.
b.
c.
d.

e.

Taxable only on income derived from sources within


the Phil.
Subject to income tax in the same manner as
resident citizen
Allowed 40% optional standard deduction or
itemized deductions
Allowed personal and additional exemptions.
However if married and the spouse is in the Phil.
then he could not avail of the additional exemptions
because the resident spouse is the one who is
entitled.
Subject to final tax on certain passive income
1. Interest, royalties, prizes and other
winnings
2. Cash and or property dividends
12

NOTES AND CASES IN TAXATION

PERSONAL NOTES OF Atty. OLIVER R. GATCHALIAN

3.

f.

Capital gains from the sale of shares of


stock not traded in the stock exchange
4. Capital gains from the sale of real
property
From the pertinent items of gross income
derived from sources within the Phil. are
subtracted allowable deductions and the personal
and additional exemptions in order to arrived at
the taxable income
Exclusions are not included in gross income for
income tax purposes

Resident Alien

An individual whose residence is within the
Philippines and who is not a citizen thereof
TAXATION OF RESIDENT ALIEN
 Same in non-resident citizen

and additional exemptions in order to arrived at the


taxable income


Nonresident Alien NOT Engaged in Trade or Business within the


Philippines
1. A nonresident alien individual who shall come to the
Philippines and stay therein for an aggregate period of
less than 180 days during any calendar year or
2. Who does not actually engages in trade or business or
exercise of a profession with regularity.


a.

c.

TAXATION OF Nonresident Alien Engaged in Trade or Business


within the Philippines

d.

b.
c.
d.

e.
f.

g.

Taxable only on income derived from sources


within the Phil.
Subject to income tax in the same manner as
resident citizen
Not allowed 40% optional standard deduction
Allowed in itemized deductions except TAXES
which are allowed only as a deduction only if
and to the extent that they are connected with
income from sources within the Phil.
Allowed personal and additional exemptions
subject to reciprocity
Subject to final tax on certain passive income
1. Cash and/or Property Dividends from
a Domestic Corporation or Joint Stock
Company, or Insurance or Mutual
Fund Company or Regional Operating
Headquarter
or
Multinational
Company, or Share in the Distributable
Net Income of a Partnership (Except a
General Professional Partnership),
Joint Account, Joint Venture Taxable
as a Corporation or Association.,
Interests, Royalties, Prizes, and Other
Winnings [SEC. 25 A2]
2. Capital gains from the sale of shares of
stock not traded in the stock exchange
3. Capital gains from the sale of real
property
From the pertinent items of gross income
derived from sources within the Phil. are
subtracted allowable deductions and the personal

These individuals are subject to income tax due to the


possibility of their deriving income in the country.

TAXATION OF Nonresident Alien NOT Engaged in Trade or Business


within the Philippines

Nonresident Alien Engaged in Trade or Business within the


Philippines
1. A nonresident alien individual who shall come to the
Philippines and stay therein for an aggregate period
of more than 180 days during any calendar year or
2. Actually engages in trade or business or
3. Exercise of a profession with regularity.

a.

Exclusions are not included in gross income for income tax


purposes.

b.

Taxable only on income derived from sources within


the Phil.
No deductions [itemized or optional standard]
allowed because taxed on gross income
Subject to final tax on certain passive income
1. Capital gains realized from the sale, barter or
exchange of sale of shares of stock not traded
in the stock exchange
2. Capital gains from the sale of real property
The entire income received from all sources within
the Philippines as interest, cash and/or property
dividends, rents, salaries, wages, premiums,
annuities, compensation, remuneration, emoluments,
or other fixed or determinable annual or periodic or
casual gains, profits, and income, and capital gains
[except from shares of stock in domestic
corporations, and real property] shall be subject to a
tax equal to 25% [SEC.25 B]

Aliens employed in Multinational Companies, Offshore banking


Units and Petroleum Service Contractors/Subcontractors
1. Aliens employed in Multinational Companies, Offshore
banking Units They are classified either as
a. Resident
b. Non-resident
2. Petroleum
Service
Contractors/Subcontractors

considered as non residents.

CORPORATIONS

It shall include partnerships, no matter how created


or organized, joint-stock companies, joint accounts
(cuentas en participacion), associations, or insurance
companies, but does not include
1. general professional partnerships and
2. a joint venture or consortium formed for
the purpose of undertaking construction
projects or engaging in petroleum, coal,
geothermal and other energy operations
pursuant to an operating or consortium
agreement under a service contract with
the Government. Note The joint venture
which is exempt from corporate income tax is a
merger of 2 or more corporations for the
purpose of engaging in construction projects or
13

NOTES AND CASES IN TAXATION

PERSONAL NOTES OF Atty. OLIVER R. GATCHALIAN


is not liable if the income derived is passive. Reason
Being a passive income such is not included in the
partnership annual return. It is as if the partnership did
not earn any income other the exercise of their
profession.

energy operations pursuant to a


consortium agreement or service contract
with the government.
The corporations comprising of the joint
venture or consortium must be engaged in
the same line of business.
It is only the joint venture or consortium
itself which is exempt from corporate
income tax, not the income of each
corporation from the joint venture or
consortium.
No matter how created or organized
 Applicable to all entities deemed as a corporation, to
wit
1. Whether or not organized under the
Philippines or foreign laws
2. Whether or not organized in accordance
with law or against it
3. Whether stock or non-stock, profit or nonprofit.


However, if the income is derived from engaging in any


trade or business, the partnership is subject to corporate
income tax and the share of each partner is considered as
a taxable dividend subject to final income tax.
***Elements constitutive of taxable partnership
1. An intent to form the same;
2. Generally participating in both profits and losses; and
3. Such a community of interest, as far as third persons are
concerned as enables each party to make contract,
manage the business and dispose of the whole property


Corporations which are non-stock and non-profit are


subject to income tax because of the possibility of
receiving income as such.

**Co-heirs who have inherited properties which produce


income should not automatically be considered as
partners of an unregistered partnership or corporation
subject to income tax. Reason Sharing of gross retruns
does not by itself establish a partnership, there must be an
unmistakable intention to form a partnership or joint
venture. There is no contribution or investment of
additional capital to increase or expand the inherited
properties, merely continuing the dedication of the
property to the use to which it had been put by their
forbears [OBILLOS v. CIR]

Tax Liability of Members of General Professional Partnerships

SEC.26. A general professional partnership as such


shall not be subject to the income tax imposed under this
Chapter. Persons engaging in business as partners in a
general professional partnership shall be liable for
income tax only in their separate and individual
capacities.
For purposes of computing the distributive share of the
partners, the net income of the partnership shall be
computed in the same manner as a corporation.

Other exempt Corporations [Sec. 30]




The exemption refers only to the corporation,


organization, association or partnership but not to the
individual stockholders members, and partners
comprising them.

These corporations are exempt only from corporate


income tax but does not bar the applicability of other
taxes to these corporations.

An exempt corporation can be held liable for income tax if


it derives income from
1. Any of their property, real or personal or
2. Any of their activities conducted for profit
regardless of the disposition made of such
income.

Each partner shall report as gross income his distributive


share, actually or constructively received, in the net
income of the partnership.
General professional partnerships
1. Partnerships formed by persons for the sole
purpose of exercising their common profession,
2. no part of the income of which is derived from
engaging in any trade or business.

Taxation of Domestic Corporation [SEC. 27]

a.

b.

If the 2 requisites are absent, the partnership is


deemed a corporation, hence, liable for corporate
income tax.

A GPP is deemed a corporation if it derives income


from engaging in the trade or business. In this case,
the partnership itself is subject to corporate income
tax, while the share of each partner, whether actually
or constructively received, is deemed as a dividend
which is subject to final income tax.

If the GPP derived income from other sources,


besides the exercise of a profession, the partnership

A domestic corporation is taxable on all income


derived from sources within and without the
Philippines
A tax whichever is higher of
i.
The normal income tax rate of 30% upon
the taxable income derived during each
taxable year from all sources within and
without the Philippines.
ii.
A minimum corporate income tax of 2% of
the gross income as of the end of the
taxable year, beginning on the 4th taxable
year immediately following the year in
which such corporation commenced its
business operations.
 Note - The MCIT shall be imposed whenever a
domestic corporation has zero or negative taxable
14

NOTES AND CASES IN TAXATION

PERSONAL NOTES OF Atty. OLIVER R. GATCHALIAN

income or whenever the amount of MCIT is


greater than the normal income tax of 30% due
on taxable income due from the corporation.
Rationale of the law in imposing MCIT
 It is designed to forestall the prevailing practice of
corporations of over claiming deductions in order to
reduce their income tax payments. The filing of
income tax returns showing a tax loss every year goes
against the business motive which impelled the
stockholders to form the corporation.
 The minimum corporate income tax is a proxy for the
normal corporate income tax, not the regular corporate
income tax paid by a corporation.
Relief from the MCIT  The Secretary of Finance is hereby authorized to
suspend the imposition of the minimum corporate
income tax on any corporation which suffers losses on
account of prolonged labor dispute, or because of force
majeure, or because of legitimate business reverses.
Carry forward of excess MCIT
 Any excess of the MCIT over the net income tax shall
be carried forward and credited against the net
income tax for the 3 immediately succeeding taxable
years.
 MCIT is only applicable to domestic corporations and
resident foreign corporations.

c.

d.

Subject to final tax on certain passive income


1. Interest from deposits and yield or any
other monetary benefit from deposit
substitutes and from trust funds and
similar arrangements, and royalties
2. Capital Gains from the Sale of Shares
of Stock Not Traded in the Stock
Exchange
3. Capital Gains Realized from the Sale,
Exchange or Disposition of Lands
and/or Buildings
4. Tax on Income Derived under the
Expanded Foreign Currency Deposit
System
Dividends received by a domestic corporation
from another domestic corporation shall not be
subject to tax.

Note



Exclusions are not included in gross income for


income tax purposes
Allowed itemized deduction

Imposition of Improperly Accumulated Earnings Tax

In addition to other taxes imposed, there is


hereby imposed for each taxable year on the
improperly accumulated taxable income of each
corporation, an improperly accumulated earnings
tax equal to 10% of the improperly accumulated
taxable income.

The improperly accumulated earnings tax 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 to
accumulate instead of being divided or distributed.

Exceptions

The improperly accumulated earnings tax shall not apply to:


1. Publicly-held corporations;
2. Banks and other nonbank financial intermediaries;
and
3. Insurance companies.


Rationale The tax is being imposed in the nature of


penalty to the corporation for the improperly
accumulation of earnings and as a form of deterrent to
avoidance of tax upon shareholders who are supposed to
pay dividends tax on the earnings distributed to them by
the corporation.

This tax is imposed not only to encourage, but to compel


corporations to declare dividends.

Only domestic corporations and closely held corporations


are liable for this tax.

Taxation of proprietary educational institutions, and non-profit


hospitals

1.

2.

A tax of 10% on taxable income EXCEPT


a. Interest from deposits and yield or any other
monetary benefit from deposit substitute and
from trust funds and similar arrangements and
royalties.
b. Capital gains from of shares of stock in any
domestic corporation not traded in the stock
exchange
c. Capital Gains Realized from the Sale,
Exchange or Disposition of Lands and/or
Buildings
d. Tax on Income Derived under the Expanded
Foreign Currency Deposit System
A tax of 30% on the entire taxable income if the
gross income from unrelated trade, business or other
activity EXCEEDS 50% of the total gross income
from all sources.

Unrelated trade, business or other activity


 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.
Requisites to be tax at 10%
1. It must be a stock and non-profit institution or hospital
2. It must be a private educational institution or hospital.
3. The gross income from unrelated trade, business or other
activity, if any, does not exceed 50% of their gross income
from all sources
4. Must have been issued a permit to operate from CHED,
DEPEd or the TESDA.


Refers to stock educational institution.


15

NOTES AND CASES IN TAXATION

PERSONAL NOTES OF Atty. OLIVER R. GATCHALIAN


the expanded foreign currency deposit system
shall be subject to a final income tax at the
rate of 7 1/2% of such interest income.

Taxation of Resident Foreign Corporation [Sec. 28]


a. Taxable only on income derived from
b.

c.

d.

sources within the Philippines


A tax whichever is higher of
i. The normal income tax rate of 30%
upon the taxable income derived during
each taxable year from all sources
within and without the Philippines.
ii. A minimum corporate income tax of
2% of the gross income as of the end of
the taxable year, beginning on the
fourth taxable year immediately
following the year in which such
corporation commenced its business
operations, when the minimum income
tax is greater than the tax computed.
Granted the option to be taxed at 15% on
gross income under the same conditions as a
domestic corporation.
*Subject to tax on branch profits
remittances.
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).
Application
1. The profit remitted by a branch to its
head of office, must be effectively
connected with the conduct of its trade
or business in the Philippines (except
those activities which are registered
with the PEZA).Otherwise the net
income tax will apply.
2. This tax applies only to branch offices in
the Philippines of foreign corporations
abroad.

f.

g.

h.

Note


Exclusions are not included in gross income for income tax


purposes.

Allowed itemized deduction.

Note There seems no provision under the law relative to


the imposition of income tax on capital gains realized
from the sale, exchange or disposition of lands/and or
buildings which is similar to that domestic corporation.
Thus, the gains derived by a resident foreign corporation
from the sale, exchange or disposition of their real
property, whether ordinary or capital in character, are
deemed to be included in their income taxable, whichever
is higher between the MCIT or the reduced corporate
income tax rate.

Taxation of Nonresident Foreign Corporation

1.

Purpose To equalize the tax burden on foreign


corporations maintaining on the one hand, local
branch offices and organizing, on the other
hand, subsidiary domestic corporations where at
least a majority of the latters shares of stock are
owned by such corporations.

2.
e.

Subject to final tax on their certain passive


income like domestic corporation
1. Interest from deposits and yield or
any other monetary benefit from
deposit substitutes and from trust
funds and similar arrangements, and
royalties. Note- Interest from any
currency bank deposit and yield or any
other monetary benefit from deposit
substitutes and from trust funds and
similar arrangements and royalties
derived from sources within the
Philippines shall be subject to a final
income tax at the rate of 20% of such
interest: Provided, however, That interest
income derived by a resident foreign
corporation from a depository bank under

2. Capital Gains from the Sale of Shares


of Stock Not Traded in the Stock
Exchange
3. Tax on Income Derived under the
Expanded Foreign Currency Deposit
System
Dividends received by a domestic corporation
from another domestic corporation shall not be
subject to tax
Regional or area headquarters of multinational
companies in the Phil. shall not be subject to
income tax.
Regional operation Headquarters shall pay a tax
of 10% of their taxable income.

A foreign corporation not engaged in trade or


business in the Philippines shall pay a tax equal to
30% of the gross income received during each
taxable year from all sources within the Philippines,
such as interests, dividends, rents, royalties, salaries,
premiums (except reinsurance premiums), annuities,
emoluments or other fixed or determinable annual,
periodic or casual gains, profits and income, and
capital gains, except capital gains from the sale of
shares of stock not traded in the stock exchange.
A final withholding tax at the rate of 20% on the
amount of interest on foreign loans.
 The transaction contemplated is one where the
lender is a non-resident foreign corporation and
the borrower is a domestic corporation.

3.

A final withholding tax at the rate of 15% on the


amount of cash and/or property dividends received
from a domestic corporation subject to the condition
that the country in which the nonresident foreign
corporation is domiciled, shall allow a credit against
the tax due from the nonresident foreign corporation
taxes deemed to have been paid in the Philippines
equivalent to 15%, which represents the difference
between the regular income tax of 30% and the 15%
tax on dividends.
16

NOTES AND CASES IN TAXATION

PERSONAL NOTES OF Atty. OLIVER R. GATCHALIAN

Tax deemed paid credit rule/tax sparring rule


 What is necessary is that the country of
domicile of the non-resident foreign
corporation allows a tax credit of 15% for the
taxes deemed paid in the Philippines to be
entitled a lower rate of 15%.


Note There seems no provision under the law


relative to the imposition of income tax on capital
gains realized from the sale, exchange or disposition
of lands/and or buildings which is similar to that
domestic corporation. Thus, the gains derived by a
nonresident foreign corporation from the sale,
exchange or disposition of their real property,
whether ordinary or capital in character, are deemed
to be included in their income subject to 30% tax on
gross income.

Exclusions are not included in gross income for


income tax purposes

Note non-resident foreign corporation are tax on


their gross income, therefore there are no itemized
deductions.

2.

Requisites of transshipment to be considered subject to final tax on


GPB

1.
2.

The flight originated from the Philippines


The transshipment of the passenger take place at any port
outside the Philippines
3. The passenger transferred to another airline.
 Only the aliquot portion of the cost of the ticket
corresponding to the leg flown from the Philippines to the
point of transshipment shall be subject to the final income
tax on GPB.
Requisites of International shipping to the final tax on GPB
1. It must originate in the Philippines
2. It must be up to the final determination
3. Regardless of the place of sale or payment of the
passenger or freight documents.
Income Taxation of offshore banking units

Income derived by offshore banking units authorized


by the BSP, from foreign currency transactions with
nonresidents, other offshore banking units, local
commercial banks, including branches of foreign
banks that may be authorized by the BSP to transact
business with offshore banking units shall be exempt
from all taxes except net income from such
transactions as may be specified by the Secretary of
Finance, upon recommendation of the Monetary
Board which shall be subject to the regular income
tax payable by banks:

Provided, however, That any interest income derived


from foreign currency loans granted to residents,
other than offshore banking units or local
commercial banks, including local branches of
foreign banks that may be authorized by the BSP to
transact business with offshore banking units, shall
be subject only to a final tax at the rate of 10%.

Any income of nonresidents, whether individuals or


corporations, from transactions with said offshore
banking units shall be exempt from income tax.

Special Resident foreign corporations

Income taxation of international carriers

An international carrier doing business in the


Philippines shall pay a tax of 2 1/2% on its
Gross Philippine Billings.

Only an airline carrier with a landing right in the


Philippines is subject to this tax.

Requisites
1. The persons, excess baggage, cargo, and the mail
must be originating in the Philippines.
2. In a continuous and uninterrupted flight or shipment.
 If the stopover does not exceed 48 hrs. It is still
considered as uninterrupted; otherwise the
flight is not continuous and uninterrupted.
3. Irrespective of the place of sale or issue and the place
of payment of the ticket or passage document.
 Exception if the place of sale or issue and the place of
payment of the ticket or passage document will only
become material if the other 2 elements are not
present. In that case, the final tax of 2 on GPB is
inapplicable.

Otherwise, the place of sale of the ticket should


be considered to determine the income tax
liability.
The ticket must have been revalidated, exchanged and/or
indorsed to another airline.

Gross Income Tax




To determine the liability in that case, the place of


sale of the ticket should be determined.
1. If the ticket was sold within the Philippines, the
resident foreign corporation shall be liable for
net income tax since the income derived
therefrom is income from sources within the
Philippines.
2. If the ticket was sold outside of the Philippines,
the income is considered as income from
sources without the Philippines.

Requisites of revalidation to be subject to the final tax on GPB


1. Passenger must have boarded a plane in a port or
point in the Philippines.

Formula
 Gross Income x Tax rate = Tax Due
Features
1. Does not allow deductions, personal and additional
exemptions.
2. The application of this tax bars the application of the net
income tax. The two taxes cannot be imposed
simultaneously.
3. Always subject to the final withholding tax.
4. Computed by multiplying the total income received to the
tax rate. The income is considered collectively, as a whole,
total.
17

NOTES AND CASES IN TAXATION


5.

PERSONAL NOTES OF Atty. OLIVER R. GATCHALIAN

The determination of gain or loss is immaterial since


the basis of the tax is the gross income, hence actual
gain or loss does not matter.

ADVANTAGES OF GROSS
INCOME TAXATION
Simplifies the income tax
system
Does away with wastages of
manpower and supply
Substantial
reduction
in
corruption and tax evasion
exercise of discretion to allow
or
disallow
deduction
dispensed with

ADVANTAGES OF NET
INCOME TAXATION
Fair and just due to grant of
deductions
Tax audit minimizes fraud

DISADVANTAGES OF GROSS
INCOME TAXATION
No
deductions
and
exemptions allowed

DISADVANTAGES OF NET
INCOME TAXATION
Vulnerable to corruption on
account
of
margin
of
discretion in the grant of
deductions
Confusing
and
complex
process of filing ITR
Difficult/costly to administer

6.

Passive income
 Income derived from any activity in which the taxpayer
does not materially participate.

Provides equitable reliefs in


the form of deduction,
exemptions and tax credit

b.

c.

d.

Final Income Tax




The only income tax applicable to all types of


taxpayers without distinction.

Incomes subject to final tax are not included


anymore in the annual income tax returns.

The income is derived from sources within the


Philippines.

Features
1. The rate is multiplied to each income, individually and
not collectively. Each income may have a different
rate, as the case may be.
2. Does not allow deductions, personal and additional
exemptions.
3. The determination of gain or loss is immaterial since
the basis of the tax is the gross income, hence actual
gain or loss does not matter.
4. An income which is subject to final tax is no longer
subject to net income tax.
 Reason double taxation. However, the
prohibition is with respect only to a particular
income and not the taxpayer, thus, a taxpayer
may pay both final income tax and net income
tax but the subject income of the two taxes are
different.
Applicable only to passive income and income from
sources within the Philippines.
 Reason - Income from sources without the
Philippines cannot be subject to final income
tax because as a general rule, final income tax is
subject to final withholding tax. Since there are
no withholding agents outside of the
Philippines, final income tax cannot be
imposed.

A final tax at the rate of 20% is imposed upon the


amount of interest from any currency bank deposit
and yield or any other monetary benefit from deposit
substitutes and from trust funds and similar
arrangements;
royalties, except on books, as well as other literary
works and musical compositions, which shall be
imposed a final tax of 10%;
prizes (except prizes amounting to P10,000 or less
which shall be subject to tax under Subsection (A)
of Sec. 24;and
other winnings [except Philippine Charity
Sweepstakes and Lotto winnings], derived from
sources within the Philippines:

Provided, however, That interest income received by


an individual taxpayer (except a nonresident
individual) from a depository bank under the
expanded foreign currency deposit system shall be
subject to a final income tax at the rate of 7 & %
of such interest income:

Provided, further, That interest income from longterm deposit or investment in the form of savings,
common or individual trust funds, deposit
substitutes, investment management accounts and
other investments evidenced by certificates in such
form prescribed by the BSP shall be exempt from
the tax imposed under this Subsection:

Provided, finally, That should the holder of the


certificate pre-terminate the deposit or investment
before the 5th year, a final tax shall be imposed on
the entire income and shall be deducted and
withheld by the depository bank from the proceeds
of the long-term deposit or investment certificate
based on the remaining maturity thereof:
Four years to less than 5 years 5%;
Three years to less than 4 years 12%; and
Less than 3 years 20%.

Formula
 Gross Income x Tax Rate = tax Due

5.

***SEC. 24 B] Rate of Tax on Certain Passive Income


1] Interests, Royalties, Prizes, and Other Winnings.

a.

Susceptible of fraud in the


absence of general audit
Taxpayers lose interest to
earn more thereby lessening
their purchasing power

The withholding agent shall be held liable since they


should be the ones to remit the taxes withheld.

Common requisites of passive income


1. Derived from sources within the Philippines
2. The bank which the interest is derived should be located
in the Philippines.
***Tax treatments of prizes
Subject to a final tax of 20%
18

NOTES AND CASES IN TAXATION

PERSONAL NOTES OF Atty. OLIVER R. GATCHALIAN


make the distribution and cancellation or redemption, in
whole or in part, essentially equivalent to the distribution
of a taxable dividend.

1. The prize must have been derived from sources


within the Phil.
2. The prize must be more than P10, 000.00
3. Pursuant to a promotion or contest.

Cash and/or Property Dividends

SEC. 24 B] A final tax at 10% rates shall be imposed


upon the cash and/or property dividends actually or
constructively received by an individual from a domestic
corporation or from a joint stock company, insurance or
mutual fund companies and regional operating
headquarters of multinational companies, or on the share
of an individual in the distributable net income after tax
of a partnership (except a general professional
partnership) of which he is a partner, or on the share of
an individual in the net income after tax of an
association, a joint account, or a joint venture or
consortium taxable as a corporation of which he is a
member or co-venturer:
Reason why cash dividends, when received by a resident
citizen or alien from a domestic corporation, are taxed
only at the final tax of 10%
1. To ensure the collection of income tax on said
income. If we subject the dividend to the
progressive tax rate, which can only be done
through the filing of income tax returns, there is
no assurance that the taxpayer will declare the
income, especially when there are other items of
gross income earned during the year. It would be
extremely difficult for the BIR to monitor
compliance considering the huge number of
stockholders. By shifting the responsibility to remit
the tax to the corporation, it is very easy to check
compliance because there are fewer withholding
agents compared to the number of income
recipients.
2. The imposition of a final withholding tax will
make the tax available to the government at an
earlier time.
3. The final withholding tax will be a sure revenue
to the government unlike when the dividend is
treated as a returnable income where the recipient
thereof who is in a tax loss position is given the
chance to offset such loss against dividend
income thereby depriving the government of the
tax on said dividend income
*Disguised dividends

These are payments, usually for services made in the
form of dividends in order to evade the higher taxes
imposed on gross income. They are not dividends in
legal contemplation because they are not return from
investments.
**Tax treatments of stock dividends
 Stock dividends as a rule are not taxable since such
dividends are only a transfer of the surplus profit
from the retain earnings to the authorized capital
stock.


Exceptions stock dividends may be subject to tax, if


the issuing corporation cancels or redeems the stock
issued as a dividend at such time in such manner as to

**Stock dividends issued by the corporation, are


considered unrealized gain, and cannot be subjected to
income tax until that gain has been realized.

Capital Gains Tax




A tax imposed on the gains presumed to have been


realized from the
1. sale,
2. exchange, or
3. other disposition of real property
4. located in the Philippines,
5. classified as capital assets,
6. including pacto de retro sales and other forms
of conditional sales,
7. by individuals, including estates and trusts.

The kind of income tax applicable on the property transaction


depends on the nature of the property sold or exchanged.
1. ORDINARY ASSET if the property sold is classified as an
ordinary asset, income tax due is
 the normal corporate income tax computed at 30%
of its net taxable income or the 2% minimum
corporate income tax [in the case of corporations],
or
 The graduated income tax rates ranging from 5% to
32% applied on his net taxable income after certain
deductions [in the case of individuals other than a
non-resident alien not engaged in trade or business
in the Phil].


The income is derived from trade, business or exercise of


the professions.

*Ordinary income

The gains derived from the disposal or used of ordinary
assets. It includes any gains from the sale or exchange of
property which is not a capital asset or property.


As a GR the income tax law imposes the tax only when


there is actual income, gain or profit.

2.

CAPITAL ASSET if the real property sold is classified as


capital asset, the income tax due is the capital gains tax.

Where an individual or a corporation sold real property


or land and/or building respectively, classified as capital
asset, the law presumes that there was a capital gain
realized, and the capital gains tax is computed at 6% of
the actual consideration or the fair market value at the
time of the sale of real property whichever is higher.

In other words regardless of whether or not the seller


makes a profit or incurs a loss from the transaction, the
capital gains tax must be paid thereon by the seller.
Actual gain is not required for the imposition of the
tax but it is the gain by fiction of law which is
taxable.

19

NOTES AND CASES IN TAXATION




PERSONAL NOTES OF Atty. OLIVER R. GATCHALIAN

However no donors tax is due on the transfer of said


real property for less than its full and adequate
consideration under Sec. 100. This is an exception to
the General Rule that there must be actual income,
gain or profit realized by the taxpayer in order that
the income tax may be imposed thereon.

Requisites of capital gains


1. There must be a sale or exchange
2. What is sold or exchange is a capital asset
Capital gains

The gains realized from the sale, exchange or other
disposition of the properties of a taxpayer classified
as the capital asserts.


Tangible personal properties of corporations even if


not used in trade or business, are not considered as
capital assets but are part of its ordinary assets.

Capital Assets

Property held by the taxpayer (whether or not
connected with his trade or business), but does not
include
1. stock in trade of the taxpayer or
2. 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, or
3. property held by the taxpayer primarily for
sale to customers in the ordinary course of his
trade or business, or
4. property used in the trade or business, of a
character which is subject to the allowance
for depreciation provided in Subsection (F) of
Section 34; or
5. real property used in trade or business of the
taxpayer [Sec. 39 A1]


Since the 4 enumeration of capital asset is made in


the negative manner, the 4 general types of assets
listed are ORDINARY ASSET.

The exception would show that these are items


connected with trade or business. Therefore, CAPITAL
ASSETS - are the properties of a taxpayer which are
not connected with his trade or business. The
properties that are excluded from the concept of
capital assets are denominated as ordinary assets.

Examples of Capital Assets


1. Stocks and securities held by taxpayers other than
dealers in securities.
2. Jewelry not used for trade and business
3. Residential houses and lands owned and used as such
4. Automobiles not used in trade and business.
5. Paintings, sculptures, stamp collections, objects of
arts which are not used in trade or business.
*Some exemptions from capital Gains
1. Foreclosure sale
2. Transfer of real property under revocable trust
3. Sale by trustee of land owned by the tax exempt
pension plan
4. Consolidation of more than one title owned by the
same owner into one mother title

5.

Adjudication of real property to an heir in a partition not


being a sale, exchange or disposition thereof.

Property initially classified as capital asset may thereafter


be treated as an ordinary assets if a combination of the
factors indubitably tend to show that the activity was in
furtherance of or in the course of the taxpayers trade or
business.

KINDS OF CAPITAL GAINS


a. Capital gains subject to final tax
i.
From the sale, barter, exchange or other disposition
of shares of stock in a domestic corporation, not
traded or disposed in the local stock exchange or
through initial public offering [Sec. 24C, Sec. 25 A3]
ii.
From the sale, exchange, or other disposition of real
property located in the Philippines, classified as
capital assets, including pacto de retro sales and
other forms of conditional sales, by individuals,
including estates and trusts [Sec. 24D]
iii.
Capital Gains Realized from the Sale, Exchange or
Disposition of Lands and/or Buildings.
b.

Capital Gains Included In Gross Income for Income Tax


Purposes These are the gains derived from the sale,
exchange or disposition of personal property classified as
capital assets.

*Ordinary Gain

Any gain from the sale or exchange of property which are
not a capital asset or property.
Ordinary loss

Includes any loss from the sale or exchange of property
which is not a capital asset.
***CAPITAL GAIN
The source is property which
not used in trade or business
Generally no deductions are
allowed from capital gains
CAPITAL GAIN SUBJECT TO
FINAL TAX
There is a fixed rate for tax
which is charged without
benefit of deductions

With the exception of


dispositions of shares not
traded, sold or disposed
through
a
local
stock
exchange or through initial
public offering, it does not
matter whether or not capital
gains were actually earned as
they are more in the nature of
transaction taxes.
The
holding
period
is
immaterial, except share of
stock not traded sold, or
disposed through a local stock

ORDINARY GAIN
The source is property used in
trade or business
Deductions are usually allowed

CAPITAL GAINS INCLUDED IN


GROSS INCOME
The
capital
gains
are
aggregated with other income
[ordinary income] to constitute
gross income subject to
deductions before application
of the tax rate
There must be actual capital
gains earned, otherwise the tax
would not apply

The
holding
considered.

period

is

20

NOTES AND CASES IN TAXATION

PERSONAL NOTES OF Atty. OLIVER R. GATCHALIAN

exchange or through initial


public offering

Net loss carry-over is not


allowed


The tax is payable within 30 days from the sale or


disposition thereof.

In a pacto de retro sale, the vendee a retro who sells back


the property to the vendor a retro is subject to the tax of
6% based on the gross selling price.

It could be availed

No capital gains taxes if foreclosed real property is


redeemed since there is no capital gains has been
derived by the mortgagor and no sale or transfer of
real property was realized. Capital gains shall be paid
in case of non-redemption.

Capital Gains from the sale of real property


Elements
1. The property sold is real property
2. Located in the Philippines
3. Classified as capital assets.
INDIVIDUALS
***Tax treatment of disposition of real property deemed
capital asset
Basis of the final tax of 6% whichever is higher of the
1. Based on the gross selling price
2. Current fair market value as determined
a. The fair market value or real properties located
in each zone or area as determined by the CIR
after consultations with competent appraisers
both from the private and public assessors.
b. The fair market value as shown in the schedule
of values of the Provincial and City Assessors
[Sec. 24 D]
*Taxation of sale to the Government of real properties
considered as capital

The tax liability, if any, on gains from sales or other
dispositions of real property to the government or
any of its political subdivisions or agencies or to
government-owned or controlled corporations shall
be determined at the option of the taxpayer:
1. Include as part of gross income to be
subject to the allowable deductions and/ or
personal and additional exemptions, then
subject to the scheduler tax [Sec. 24 D 1 in
relation to Sec. 24 A 1]
2. The final tax of 6% imposed on the
presumed capital gain which is whichever is
higher of the gross selling price or the
current fair market value as determined
a. The fair market value or real
properties located in each zone
or area as determined by the CIR
after
consultations
with
competent appraisers both from
the private and public assessors.
b. The fair market value as shown
in the schedule of values of the
Provincial and City Assessors
[Sec. 24 D 1 in relation to Sec. 6
E]


**The seller of the real property, classified as capital


assets pays the capital gains tax on sale of real
property.

*Exemptions from capital gains tax allowed to natural persons

Sec. 24 D2. Capital gains presumed to have been realized


from the sale or disposition of their principal residence by
natural persons, the proceeds of which is fully utilized in
acquiring or constructing a new principal residence within
18 calendar months from the date of sale or disposition,
shall be exempt from the capital gains tax:
Provided, That the historical cost or adjusted basis of the
real property sold or disposed shall be carried over to the
new principal residence built or acquired:
Provided, further, That the Commissioner shall have been
duly notified by the taxpayer within 30 days from the date
of sale or disposition through a prescribed return of his
intention to avail of the tax exemption herein mentioned:
Provided, still further, That the said tax exemption can only
be availed of once every 10 years:
Provided, finally, That if there is no full utilization of the
proceeds of sale or disposition, the portion of the gain
presumed to have been realized from the sale or disposition
shall be subject to capital gains tax.
Disposition by Domestic Corporation

A final tax of 6% is hereby imposed on the gain presumed
to have been realized on the sale, exchange or disposition
of lands and/or buildings which are not actually used in
the business of a corporation and are treated as capital
assets, based on whichever is higher of the:
1. Gross selling price
2. Fair market value as determined 1] the fair
market value or real properties located in each
zone or area as determined by the CIR after
consultations with competent appraisers both
from the private and public assessors. 2] The
fair market value as shown in the schedule of
values of the Provincial and City Assessor [Sec.
27 D in relation to Sec. 6 E]


Corporations are subject to tax on dispositions of lands


and/or buildings only.

Capital gains from Sale of Shares of Stock not traded in the Stock
Exchange
 The basis of the tax is the net capital gain and not the
length of time by which the taxpayer held the shares of
stock.
Elements
1. The shares are shares in a domestic corporation.
 If the shares are from a foreign corporation The
income tax liability will depend upon the place where
the shares are sold is material.
2. Classified as capital asset.
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NOTES AND CASES IN TAXATION

PERSONAL NOTES OF Atty. OLIVER R. GATCHALIAN

3. The stocks are not listed and traded in the local stock
exchange.
Not sold or disposed through a local stock exchange or through
initial public offering the tax is
1. 5% of net capital gain if not over P100, 000.00 or
2. 10% of net capital gain if over P100, 000.00
Tax treatment of capital gains and capital losses for personal
Property
1. Holding Period Rule - In the case of a taxpayer, other
than a corporation, only the following percentages of
the gain or loss recognized upon the sale or exchange
of a capital asset shall be taken into account in
computing net capital gain, net capital loss, and net
income:
1. 100% if the capital asset has been held for
not more than 12 months; and
2. 50% if the capital asset has been held for
more than 12 months [Sec. 39 B]


The holding period applies to movable properties. It is


only applicable to individuals, estates and trusts.

For corporate taxpayers the capital gains or losses are


always recognized at their full value or 100%.

2.

Loss Limitation Rule Capital Losses are deductible


only to the extent of capital gains.
Net Capital Loss Carry Over Rule If any taxpayer,
other than a corporation, sustains in any taxable year
a net capital loss, such loss (in an amount not in
excess of the net income for such year) shall be
treated in the succeeding taxable year as a loss from
the sale or exchange of a capital asset held for not
more than 12 months.

3.

 The gain or loss should always be determined since any


gain or loss from the sale of such property is subject to
net income tax.
Tax treatment of gains or losses arising from the disposition of
capital assets other than real properties or shares of stock not
listed and traded in the stock exchange
 For individuals the gain or losses shall be subject to
the holding period, after which the net gain is to be
included as part of ordinary income to be reported in the
income tax return and then subject to the schedular
rates.
 For corporation determined the amount that would be
the net gain reportable in the income tax return.
Determination of Amount and Recognition of Gain or Loss [Sec.
40]
Gain from the sale or other disposition of property
 Refers to the excess of the amount realized therefrom
over the basis or the adjusted basis for determining
loss over the amount realized.
Loss


Refer to the excess of the basis or adjusted basis for


determining loss over the amount realized.

Amount realized from the sale or other disposition of property


 The sum of money received plus the fair market value of
the property other than the money received.
Basis for Determining Gain or Loss from Sale or Disposition of
Property. The basis of property shall be

1. The cost of the property, if acquired by purchase;


2. The fair market price or value as of the moment of
death of the decedent, if acquired by inheritance;
3. The basis in the hands of the donor or the last
preceding owner by whom the property was not
acquired by gift, if the property was acquired by
donation. If the basis, however, is greater than the fair
market value of the property at the time of donation,
then, for purposes of determining loss, the basis shall
be such fair market value; or,
4. The amount paid by the transferee for the property, if
the property was acquired for less than an adequate
consideration in money or money's worth.
5. The adjusted basis of (a) to (d) above, if the
acquisition cost of the property is increased by the
amount of improvements that materially add to the
value of the property or appreciably prolong its life
less accumulated depreciation.
6. The substituted basis, if the property was acquired in a
previous taxfree exchange under Section 40(C)(2) of
the Tax Code.
Withholding Tax System
 Known as taxation at source refers to the requirement that
taxes imposed or prescribed by the NIRC are to be deducted
and withheld by the payor from payments made to the
payee for the former to pay the same directly to the BIR.
 In the operation of the withholding tax system, the payee is
the taxpayer, while the payor, a separate entity, acts no
more than an agent of the government for the collection of
the tax in order to ensure its payment.
 The finality of the withholding tax is limited only to the
payees income tax liability on the particular income. It does
not extend to the payees other tax liability such as when
the said income is further subject to percentage tax, such as
gross receipts tax in the case of a bank.
 The subsequent inability of the withholding agent to
pay/remit the tax withheld is not a ground for compromise
because the withholding tax is not a tax upon the
withholding agent but it is only a procedure for the
collection of a tax.
Rationale for the withholding tax system
1. To minimize tax evasion thus resulting in a more efficient
tax collection system.
2. To improve the governments cash flow
Income subject to final tax
 Refers to an income wherein the tax due is fully collected
through the withholding tax system.
 Under this procedure, the payor of the income
withholds the tax and remits it to the government as a
22

NOTES AND CASES IN TAXATION

PERSONAL NOTES OF Atty. OLIVER R. GATCHALIAN

final settlement of the income tax due on said


income. The recipient is no longer required to include
the item of income subjected to "final tax" as part of his
gross income in his income tax returns.
Two types of Withholding taxes
1. Final withholding tax - the amount of tax withheld by
the withholding agent represents the full and final
payment of the income tax due from the recipient of
income.

sufficient legal interest to file an application for refund,


of the amount he believes was illegally collected from
him.
Liabilities for failure to withhold a tax
1. The withholding agent shall be liable for the payment of
the tax which was not withheld.
2. The withholding agent shall be liable to both civil and
criminal penalties imposed by the Tax Code.
Exclusions from Gross Income

Thus, the taxpayer is no longer required to file a tax


return for the particular income, or to include such
income as part of the taxable income that he will be
reporting under in his annual income tax return.

Exclusions refers to items that are not included in the


determination of gross income either because
1. They represent return of capital or are not
income, gain or profit.
2. They are subject to another kind of internal
revenue tax or
3. They are income gain or profit that are
expressly exempt from income tax under the
Constitution, tax treaty, Tax code or a general
or special law.

Income received or earned but not taxable because it is


exempted by law or treaty.

They are in the nature of tax exemptions, hence, they


must be strictly construed against the taxpayer

2. Creditable withholding tax - the income recipient is still


required to file an income tax return to report the
income and to pay the difference between the tax due
on the income and the tax withheld, if any.
3 Types of Creditable Withholding Tax
1. Withholding Tax on Compensation - is the tax
withheld from income payments to individuals
receiving purely compensation income arising from
an employer-employee relationship.
2. Expanded Withholding Tax - is a kind of withholding
tax which is prescribed only for certain payors and is
creditable against the income tax due of the payee for
the taxable quarter/year.
3. Withholding Tax on Government Money Payments is a tax withheld by government bureaus, offices and
instrumentalities, including government-owned orcontrolled corporations and local government units,
before making any payments to private individuals,
corporations, partnerships and/or associations.
a. Withholding Tax on Vat
b. Withholding Tax on Percentage Taxes
Failure of a Withholding Agent to Collect and Remit Tax.

SEC 251. Any person required to withhold, account for,


and remit any tax imposed or who willfully fails to
withhold such tax, or account for and remit such tax, or
aids or abets in any manner to evade any such tax or the
payment thereof, shall, in addition to other penalties, be
liable upon conviction to a penalty equal to the total
amount of the tax not withheld, or not accounted for and
remitted.
Failure of a Withholding Agent to refund Excess Withholding
Tax.

SEC 252. Any employer/withholding agent who fails or


refuses to refund excess withholding tax shall, in
addition to the penalties, be liable to a penalty to the
total amount of refunds which was not refunded to the
employee resulting from any excess of the amount
withheld over the tax actually due on their return.


A taxpayer is "any person subject to tax." Since, the


withholding tax agent who is "required to deduct
and withheld any tax" is made "personally liable for
such tax" should the amount of the tax withheld be
finally found to be less than that required to be
withheld by law, then he is a taxpayer. Thus, he has

***Types of Exclusions
1. Temporary Exclusions Exclusions from gross income
which results from timing of recognition of income.
These are income which are deferred recognition for
income tax purposes.
2. Substantive Exclusions Receipts which are not
considered as income. Although exclusions are exempt
from income taxation, they may still be taxed under the
NIRC such as
a. Gifts, bequest and devises may be subject to
donors taxes [Sec. 98-104] 2]
b. Income derived from any public utility may
subject to Other Percentage Tax [Sec. 117-120].
EXCLUSIONS FROM GROSS
INCOME
Refer to a flow of wealth to
the taxpayer which are not
treated as part of gross
income for purposes of
computing the taxpayers
taxable income due to the
following reasons 1] It is
exempted by the fundamental
law 2] It is exempted by
statute 3] it does not come
within the definitions of
income
Pertain to the computation of
gross income
Something received or earned
by the taxpayer which do not
form part of gross income

DEDUCTIONS FROM GROSS


INCOME
Are the amounts which the law
allows to be subtracted from
gross income in order to arrive
at a net income

Pertain to the computation of


net income
Are something spent or paid in
earning gross income

***1. LIFE INSURANCE.


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NOTES AND CASES IN TAXATION

PERSONAL NOTES OF Atty. OLIVER R. GATCHALIAN

The proceeds of life insurance policies paid to the


heirs or beneficiaries upon the death of the
insured, whether in a single sum or otherwise, but
if such amounts are held by the insurer under an
agreement to pay interest thereon, the interest
payments shall be included in gross income.


Reason Because they partake more of the indemnity


or compensation rather than gain to the recipient

Conditions for the exclusion from gross income


1. proceeds of life insurance policies
2. paid to the heirs or beneficiaries
3. upon the death of the insured,
4. whether in a single sum or otherwise


The life insurance proceeds must be paid at the death


of the insured. Payment for reasons other than death
are subject to tax up to the extent of the excess of the
premiums paid.

However, interest payments on life insurance


proceeds held by the insurer under an agreement to
pay interest thereon, the interest payments shall be
included in gross income. Reason Interest do not
form part of the indemnity but are earnings or income
from the use of capital [the insurance proceeds which
were not taken which are taxable]

***2. AMOUNT RECEIVED BY INSURED AS RETURN OF


PREMIUM.

The amount received by the insured, as a return of


premiums paid by him under life insurance,
endowment, or annuity contracts, either during the
term or at the maturity of the term mentioned in the
contract or upon surrender of the contract.


Reason The amount return are not return but


return of capital. They represent earnings which were
previously taxed.
Interest or earnings of premiums returned included in
gross income because the interest or earnings are
income not return of capital.

Endowment

The insurer agrees to pay a sum certain to the insured
if he outlives a designated period. If he dies before
that date, the proceeds are to be paid to the
designated beneficiary.
***Tax treatment of proceeds received under endowment
policies
a. If the insured dies, and the beneficiary receives the
life insurance proceeds, these are not taxable income
because they are excluded from gross income
b. If the insured does not die and survives the
designated period, the amount pertaining to the
premiums are excluded from gross income but the
excess shall be considered part of his gross income.

***3. GIFTS, BEQUESTS, AND DEVISES.

The value of property acquired by gift, bequest, devise,


or descent:
Provided, however, That income from such property, as
well as gift, bequest, devise, or descent of income from
any property, in cases of transfers of divided interest,
shall be included in gross income.


Reason the property is subject to donors or estate taxes


as the case may be. Furthermore there is no income.

It is the property itself that is acquired by gift, bequest,


devise or descent that is excluded from gross income and
not the income from said property. The income is
included as part of gross income and is subject to tax.

Gift Any transfer not in the ordinary course of business


which not made for full and adequate consideration in
money or moneys worth.

***Gift tax Test



There is no legally demandable obligation to give the gift.
If there is a legally demandable obligation to give, there is
income.
***Distinction between compensation and gift
1. If the payment is intended to represent payment,
whether designated as compensation or otherwise, for
services rendered either in the past, present or future, the
amount received will be taxable income to the recipient.
2. If the payments are made to show goodwill or a mere
kindliness towards the recipients and are not intended as
a recompense for services rendered, then the payments
represent gifts and should be exempt.


A payment made in satisfaction of a moral obligation or


claim without legal obligation to pay is not a gift and is
subject to income.

***4. Compensation for Injuries or Sickness.


Amounts received, through Accident or Health
Insurance or under Workmen's Compensation Acts, as
compensation for personal injuries or sickness, plus the
amounts of any damages received, whether by suit or
agreement, on account of such injuries or sickness.


Reason They are mere compensation for injuries or


sickness suffered and not income

Personal injuries - refers to the bodily harm that a person


sustains upon application of physical force. Synonymous
to physical injuries.

The exclusion arising from damages received as


compensation for personal injuries or sickness include
damages receive on account of a claim of wrongful death
arising from accident, and damages that are
compensation for amounts paid fro medical care.

No exclusions may be claimed for moral and other kinds


of damages arising from other acts which are not personal
injuries or sickness such as libel, breach of contract
[unless it is an accident and the cause of action is breach
of contract of carriage] and others of similar nature. This
24

NOTES AND CASES IN TAXATION

PERSONAL NOTES OF Atty. OLIVER R. GATCHALIAN

is so because exclusions are to be construed strictly


against the taxpayer and the law mentions personal
injuries or sickness.


Compensation for unearned income as a result of


personal injuries or sickness to be included as part of
gross income. Reason Such damages are merely
replacement of income which would have been
subject to tax if earned. Furthermore, exclusions are in
the nature of tax exemptions, hence, they must be
strictly construed against the taxpayer.

5. INCOME EXEMPT UNDER TREATY.


Income of any kind, to the extent required by any
treaty obligation binding upon the Government of the
Philippines.


Reason - Principle of reciprocity and comity among


nations

***6. RETIREMENT BENEFITS, PENSIONS, GRATUITIES, ETC.



Retirement benefits received under RA 7641

Retirement received form reasonable private benefit
plan after compliance with certain conditions

Amounts received for beyond control separation

Foreign social security, retirement gratuities,
pensions etc.

USVA benefits

SSS benefits

GSIS Benefits

***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
reasonable private benefit plan maintained by the
employer:
Provided, That the retiring official or employee has been
in the service of the same employer for at least 10 years
and is not less than 50 years of age at the time of his
retirement:
Provided, further, That the benefits granted under this
subparagraph shall be availed of by an official or
employee only once.
Conditions for excluding retirement benefits from gross income
1. Retirement benefits received under RA 7641 and
those received by officials and employees of private
firms, whether individual or corporate, in accordance
with a reasonable private benefit plan approved by
the BIR
2. The retiring official or employee has been in the
service of the same employer for at least 10 years and
is not less than 50 years of age at the time of his
retirement
3. That the benefits granted is availed of by an official or
employee only once.
Kinds of retirement
1. Optional
2. Mandatory

If the employee has rendered less than 10 years service,


and he retires under the optional mode, he may not be
entitled to tax exempt retirement. If the retirement is
mandatory, and the employee has rendered less than 10
years service, he may claim an exclusion from gross
income as he may allege that his mandatory retirement is
separation for a cause beyond his control under Sec. 32
B[6]

Retirement laws are liberally construed. Retirement law


aims to assist retiree in his old age, not to punish him for
having survived.

Terminal leave pay may likewise be viewed as a


retirement gratuity received by government employees
which falls within the enumerated exclusions.

RA 7641 refers to the retirement benefits of private firms


without retirement plan.

Requisites
1. The retiring official or employee is at least 60 years old
but not more than 65.
2. He must have served the company for at least 5 years.
Terminal Leave Benefits
 The commutation or monetarization of an employees
accumulated and unused vacation leave and sick leave.


If terminal leave benefits are paid upon retirement, such


benefits are exempt from income tax.

If such benefits are given annually or on a yearly basis


a. If sick leave not exempt
b. If vacation leave if more than 10 days subject
to income tax; if 10 days or less- exempt.

***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.


Separation pay excluded from gross income.

For any cause beyond the control of the said official or


employee Connotes involuntariness on the part of the
official or employee. The separation from the service
must not be asked or initiated by him.

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
nonresident 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.

25

NOTES AND CASES IN TAXATION

PERSONAL NOTES OF Atty. OLIVER R. GATCHALIAN

E] Benefits received from or enjoyed under the SSS in


accordance with the provisions of RA 8282.

ii.

F] Benefits received from the GSIS under RA 8291,


including retirement gratuity received by government
officials and employees.

iii.

iv.


However the interest of the pension in c, d, & e is


subject to a final tax of 20% as passive income.

Provided, further, That the ceiling of P30,000 may


be increased through 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.

7] MISCELLANEOUS ITEMS.

A] Income Derived by Foreign Government.


Income derived from investments in the Philippines in
loans, stocks, bonds or other domestic securities, or
from interest on deposits in banks in the Philippines
by
i. foreign governments,
ii. financing institutions owned, controlled, or
enjoying refinancing from foreign governments,
and
iii. international or regional financial institutions
established by foreign governments.


Rationale for the exclusions - Premised on the


principle of comity or upon the principle of reciprocity

B] Income Derived by the Government or its Political


Subdivisions.

Income derived from any public utility or from the


exercise of any essential governmental function
accruing to the Government of the Philippines or to
any political subdivision thereof.
***C] Prizes and Awards.
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 proceeding;
and
ii.
The recipient is not required to render
substantial future services as a condition to
receiving the prize or award.
***D] Prizes and Awards in Sports Competition.
All prizes and awards granted to athletes in local and
international sports competitions and tournaments
whether held in the Philippines or abroad and
sanctioned by their national sports associations.

Benefits received by employees pursuant to PD


851, as amended by Memorandum Order No. 28,
dated August 13, 1986;
Benefits received by officials and employees not
covered by PD 851, as amended by Memorandum
Order No. 28, dated August 13, 1986; and
Other benefits such as productivity incentives and
Christmas bonus:

Concepts of Net Income Taxation


Known as
 taxable income/
 gross income/
 to be included in the gross income/
 the ordinary way of paying income tax/
 Normal way of paying income tax
Formula
Gross Income
Less: Deductions
Net Income
Multiplied by: Tax rate
Net Income Tax Payable
Less: Tax Credits
Net Income tax Due
Features
1. Allows deductions, personal and additional exemptions
and tax credits.
2. The determination of actual gain or loss is material since
the tax shall be based on the net, meaning, after
considering the deductions.
3. Net income tax is subject to creditable withholding tax if
the law provides, otherwise it is not. In which case the
taxpayer will be held liable even though the tax has been
previously withheld by virtue of the creditable
withholding tax.
*Taxable income

Pertinent items of gross income specified in the NIRC
less the deductions and or personal and additional
exemptions, if any, authorized for such types of income
by the NIRC and other specified laws.
a. Concepts of Income

National sports association Those sports association


duly accredited by the POC.

***E] 13th Month Pay and Other Benefits.


Gross benefits received by officials and employees of
public and private entities: Provided, however, That
the total exclusion under this subparagraph shall not
exceed P30,000 which shall cover:
i.
Benefits received by officials and employees
of the national and local government pursuant
to RA 6686;

*INCOME An amount of money coming to a person or


corporation, whether as payment for services, interest or
profit from investment. Unless otherwise specified it
means cash or equivalent.

All wealth which flows into the taxpayer other than as


mere return of capital.

CAPITAL
Capital is wealth or fund

INCOME
Profit or gain from the flow of
26

NOTES AND CASES IN TAXATION

Capital is wealth
Capital is the tree

PERSONAL NOTES OF Atty. OLIVER R. GATCHALIAN

wealth
It is the service of wealth
income is the fruit

Principle of Mobilia Sequuntur Personam in income taxation



Refers to the principle that taxation follows the
property or person who shall be subject to the tax.
***Conceptual definition of income for income tax purposes

Any material gain not excluded by law, realized out
of a closed and completed transactions, where
there is an exchange of economic value for
economic value [This definition is only used for
solving problems to determine what items are to be
considered as income]


Material gain does not only refer to the money a


taxpayer receives but includes anything of value,
whether tangible or intangible.

Realization - It is the determinative or earning


process resulting to income. Without realization
there is no income.

The determining factor for the imposition of income


tax is whether any gain or profit was derived from
the transaction.

***Realization Principle

Revenue is generally recognized when both of the
following conditions are met
1. The earning process is complete or
virtually complete and
2. An exchange has taken place.


This principle requires that revenues must be


earned before it is recorded.

Constructive receipt of income



Income which is credited to the account or set apart
for a taxpayer and which may be drawn upon by
him at anytime is subject to tax for the year during
which credit is set apart although not the actually
reduced to possession.


To constitute receipt in such case, the income must


be credited to the taxpayer without any substantial
limitation or restriction as to the time or manner or
payment or condition upon which payment is to be
made.

***Test for the determination that income is earned


1. Severance test theory There is not taxable income
until there is a separation from capital of something
of exchangeable value, thereby supplying the
realization or transmutation which would result in the
receipt of income.
2. Claim of right doctrine The absence of a definite
unconditional obligation to repay or return that which
would otherwise constitute a gain.
3. Doctrine of Ownership, command or control income
The power to dispose of income is the equivalent of
ownership of it. The exercise of that power to procure
the payment of income to another is the enjoyment

4.

5.

6.


and hence the realization of the income by him who


exercise it.
Doctrine of proprietary interest Where stock options,
shares of stocks or other assets are transferred by an
employer to an employee to secure better services they
are plainly compensation which is taxable income.
Doctrine of actual receipt When income is considered
received for Phil. income tax purposes

If actually or physically received by taxpayer or
if constructively receipt by taxpayer.
Doctrine of constructive receipt
***Borrowed money not part of taxable income. Reason
it has to be repaid by the debtor. On the other hand, the
creditor does not received any income upon payment
because it is merely a return of the investment.
Discharge of indebtedness of insolvent corporation does
not result to income.

***Tax treatment of cancellation or forgiveness of indebtedness



The cancellation and forgiveness of indebtedness may
amount to payment of income, to a gift, or to a capital
transaction depending upon the circumstances
1. When cancellation of debt, INCOME. If an individual
performs services for a creditor, who in
consideration thereof, cancels the debt, it is income
to the extent of the amount realized by the debtor
as compensation for his services.
2. When the cancellation of a debt, GIFT. If a creditor
merely desires to benefit a debtor without any
consideration thereof, cancels, the amount of the
debt it is a gift from the creditor to the debtor and
need not be included in the latters income.
3. When cancellation of debt is a capital transaction. If
a corporation to which a stockholder is indebted
forgives the debt, the transaction has the effect of
payment of a dividend.
4. An insolvent debtor does not realize taxable income
form the cancellation or forgiveness
5. The insolvent debtor realizes income resulting from
the cancellation or forgiveness of indebtedness
when he becomes solvent.


Court awarded damages if received pending appeal is part


of income to be reported in income tax return.

b. Gross Income

The income required to be reported less income which is
by statutory definition or otherwise exempt from the tax
imposed by law.
Formula
 All income Exclusions = Gross Income


The income tax applicable is the net income tax.

Gross Income

SEC. 32. Except when otherwise provided in this Title,


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;
27

NOTES AND CASES IN TAXATION

2.
3.
4.

Gross income derived from the conduct of trade


or business or the exercise of a profession;
Gains derived from dealings in property;
Interests;


5.
6.




Who issued the dividends


a. Domestic corporation Final
Income Tax
b. Foreign Corporation net
income tax.

Annuities;


9.

Determined whether the royalty is subject


to final income tax if it is derived from
sources within the Philippines.
Or the net income tax derived from
sources without the Philippines.
If the taxpayer is a non-resident alien not
engaged in trade or business in the
Philippines, or a non-resident foreign
corporation, the royalty is not included
because they are subject to gross income
tax.

Dividends;


8.

Two interest contemplated


a. Interest on loans always included
in gross income.
b. Bank interest Determined
whether the bank interest is derived
from sources within or without the
Philippines. If the bank intrest is
derived from sources within the
Philippines, the same is not
included because it is subject to
final income tax.

Rents;
Royalties;


7.

PERSONAL NOTES OF Atty. OLIVER R. GATCHALIAN




***Income from whatever source derived



All income not expressly excluded or exempted from the
class of taxable income, irrespective of the voluntary or
involuntary action of the taxpayer in procuring the
income.

Embezzled or stolen money is taxable income/James
Doctrine Even though the law imposes a legal obligation
upon the embezzler or thief to repay the funds, the
embezzled or stolen money is gross income. Reason The
embezzler or thief has no intention of repaying the money.
Methods of income recognition where ownership of improvements
constructed by the lessees is transferred to the lessor after the lease
period
1. Lessor reports as income the fair market value of the
improvements at the time of the completion of the
construction or
2. Lessor spreads over the life of the lease the estimated
depreciated value of the improvements at the
termination of the lease and report as income for each
year of the lease an aliquot part thereof.
Personal Exemptions


Personal exemptions are the theoretical personal, living


and family expenses of an individual allowed to be
deducted from the gross or net income of an individual
taxpayer [PANSACOLA v. CIR 507 SCRA 81]

These are arbitrary amounts which have been calculated


by our lawmakers to be roughly equivalent to the
minimum of subsistence, taking into account the personal
status and additional qualified dependents of the
taxpayer [supra]

Personal and additional exemptions are considered as


deductions from gross income which partake of the
nature of tax exemptions, hence strictly construed against
the taxpayer and cannot be allowed unless granted in the
most explicit and categorical language too plain to be
mistaken [supra]

Those which are not excluded by law.

Prizes and winnings;




Winning must be from sources without the


Philippines.

3 instances for a prize to be included from


gross income
a. It should be derived from sources
within the Philippines and should
be less than P10K or exactly P10K
b. The prizes is derived from
sources without the Philippines
c. The taxpayer is a corporation.

10. Pensions; and




Refers to pensions which are not considered


as exclusions.

11. Partner's distributive share from the net income


of the general professional partnership.


The enumeration is not exclusive because of the word


including but not limited to the following.

The definition of gross income is presumed to include


all receipt of money or property unless excluded by a
specific provision of law or doctrine. Reason
Lifeblood Theory.

Taxable goodwill - Goodwill created by an incorporator in


the course of the business of a corporation and appraised
to pay the unpaid price of shares subscribed by said
incorporator, is a profit subject to income taxes.

Allowance of Personal Exemption for Individual Taxpayer


[SEC. 35]
A] In General.
For purposes of determining the tax provided in Section
24(A) of this title, there shall be allowed a basic personal
exemption amounting to (P50,000) for each individual
taxpayer.
In the case of married individual where only one of the
spouses is deriving gross income, only such spouse shall
be allowed the personal exemption.
B] Additional Exemption for Dependents.
There shall be allowed an additional exemption of
P25,000 for each dependent not exceeding (4).
28

NOTES AND CASES IN TAXATION

PERSONAL NOTES OF Atty. OLIVER R. GATCHALIAN

The additional exemption for dependents shall be


claimed by only one of the spouses in the case of
married individuals.

the spouse or any of the dependents died, or as if such


dependents married, became 21 years old or became
gainfully employed at the close of such year.

In the case of legally separated spouses, additional


exemptions may be claimed only by the spouse who
has custody of the child or children:

Status-at-the- end-of- the-year Rule



Which means that whatever is the status of the taxpayer
at the end of the calendar year shall be used for purposes
of determining his personal and additional exemptions
generally applies. A change of status of the taxpayer
during the taxable year generally benefits, but does not
prejudice him.

Provided, That the total amount of additional


exemptions that may be claimed by both shall not
exceed the maximum additional exemptions herein
allowed.
Dependent
 A legitimate, illegitimate or legally adopted child
chiefly dependent upon and living with the
taxpayer if such dependent is
a. not more than 21 years of age,
b. unmarried and
c. not gainfully employed or
d. if such dependent, regardless of age, is
incapable of self-support because of
mental or physical defect


Wisconsin Plan A system which allows personal


exemptions as deductions from gross income of the
taxpayer.

Legally adopted children The adoption must have


been through a legal or court decree.

Living with does not necessarily mean actual and


physical dwelling together at all times and under all
circumstances.

D] Personal Exemption Allowable to Nonresident Alien


Individual.
A nonresident alien individual engaged in trade, business
or in the exercise of a profession in the Philippines shall
be entitled to a personal exemption in the amount equal to
the exemptions allowed in the income tax law in the
country of which he is a subject or citizen, to citizens of
the Philippines not residing in such country, not to exceed
the amount fixed in this Section as exemption for citizens
or residents of the Philippines:
Provided, That said nonresident alien should file a true and
accurate return of the total income received by him from all
sources in the Philippines, as required by this Title.
Deductions from Gross Income

Items Not Deductable [SEC. 36]


In computing net income, no deduction shall in any case be
allowed in respect to 1. ***Personal, living or family expenses; reason
because they did not help earn the income.

2.


Chief support principal or main support. It is more


than one half of the support required by the
dependent.

The fact that the father is still alive and continues to


exercise parental authority over his minor children is
of no moment. All that the law requires in order that
an unmarried individual may be considered as head
of a family is that the relatives enumerated be
dependent upon him for their chief support
[COLLECTOR v. CALSADO]

C] Change of Status.
If the taxpayer marries or should have additional
dependent(s) as defined above during the taxable year,
the taxpayer may claim the corresponding additional
exemption, as the case may be, in full for such year.

which helped earn the income when it is incurred.


The proportion of the capital expenditures which
would help earn income for future periods are
allowed as deductions for depreciation.
Exception- when capital expenditures maybe
deducted Deductions allowed to private
educational institutions [Sec. 34 A2]

3.

If the taxpayer dies during the taxable year, his estate


may still claim the personal and additional exemptions
for himself and his dependent(s) as if he died at the
close of such year.
4.
If the spouse or any of the dependents dies or if any of
such dependents marries, becomes 21 years old or
becomes gainfully employed during the taxable year,
the taxpayer may still claim the same exemptions as if

Capital expenditures
a. Any amount paid out for new buildings or
for
permanent
improvements,
or
betterments made to increase the value of
any property or estate;
b. Any amount expended in restoring
property or in making good the exhaustion
thereof for which an allowance is or has
been made; Reason There are no expenditures

***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.
***Bribes, kickbacks and other similar payments
[Sec. 34 A [c] - No deduction from gross income
shall be allowed for any payment made,
a. directly or indirectly, to an official or
employee of the national government, or to
29

NOTES AND CASES IN TAXATION

b.

PERSONAL NOTES OF Atty. OLIVER R. GATCHALIAN

an official or employee of any local


government unit, or to an official or
employee of a government-owned or controlled corporation, or to an official
or employee or representative of a
foreign government, or
to a private corporation, general
professional partnership, or a similar
entity, if the payment constitutes a
bribe or kickback.

Capital Expenditures

A cash outlay or exchange of property that does not
decrease a taxpayers assets but merely changes its
form.


Expenditures
for
replacements,
alterations
improvements or additions which prolong the life of
the property is capital in nature.

**Public relations fees for promoting subscription to


the capital stock and enhancing the image of the
corporation are in the nature of capital expenditures.

*Litigation expenses in defense of a mining


companys title over certain mining properties are
capital in nature and are not deductable business
expenses. Such litigation expenses form part of the
cost of the property.

ALLOWABLE DEDUCTIONS
Amount - generally refer to
actual expenses incurred in
the
pursuit
of
trade,
business or practice of
profession
Nature - constitute business
expenses
Purpose - allowed to enable
the taxpayer to recoup his
cost of doing business
Claimants - can be claimed
by all taxpayers, corporate
or otherwise


PERSONAL EXEMPTIONS
Arbitrary amounts allowed by
law.

Pertain to personal expenses


Allowed to cover personal,
family and living expenses
Can be claimed only
individual taxpayers

by

The allowable deductions are limited to those that


are related to or connected with the taxpayers
trade or business or his exercise of a profession.
Except charitable contributions, premium payments
on health insurance and, to a certain degree losses
incurred by the taxpayer.
The deductions partake of the nature of tax
exemptions and are to be construed strictissimi juris
against the taxpayer.

Cohan Rule Principle



If there is a showing that expenses have incurred but
the exact amount thereof cannot be ascertained due
to the absence of documentary evidence, it is the
duty of the BIR to make an estimate of deduction that
may be allowed in computing the taxpayers taxable
income bearing heavily against the taxpayer whose

inexactitude is of his own making. A disallowance of 50%


of the taxpayers claimed deduction is valid.
Matching concept of deductibility

States that the deductions as a general rule, match the
income, i.e., helped earn the income.
***Requisites of deductions in general
1. There must be a specific provision of law allowing
deductions, since deduction do not exits by implication
2. The requirements of deductibility must be met
3. There must be proof of entitlement to the deductions
4. The deductions must not have been waived
5. The withholding and payment of the tax must be shown.


The taxpayer is mandated to deduct amounts only within


the limits allowed by law. He could choose to only avail of
a lesser amount or even none at all.

Deductions allowed under the NIRC


1. Optional standard deduction Sec. 34 L
2. Itemized deductions [Sec. 34 A-K, and M]
3. Personal and additional expenses [Sec. 35]
4. Extraordinary deductions such as
a. Those allowed to insurance companies [Sec. 37]
b. Deductions allowed to estate and trusts
availing of itemized deductions of income
currently distributed to the beneficiaries [Sec.
61]
c. Losses from wash sales of stocks or securities
[Sec. 38]
d. Certain capital losses but only from capital
gains [Sec. 39]
e. Deductions allowed to private educational
institutions [Sec. 34 A2]
Optional Standard Deduction

SEC. 34 L) In lieu of the deductions allowed under the


preceding Subsections, an individual subject to tax under
Section 24, other than a nonresident alien, may elect a
standard deduction in an amount not exceeding 40% of his
gross sales or gross receipts, as the case may be.
In the case of a corporation subject to tax under section
27(A) and 28(A)(1), it may elect a standard deduction in an
amount not exceeding 40% of its gross income as defined in
Section 32 of this Code.
Unless the taxpayer signifies in his return his intention to
elect the optional standard deduction, he shall be considered
as having availed himself of the deductions allowed in the
preceding Subsections. Such election when made in the
return shall be irrevocable for the taxable year for which the
return is made:
Provided, That an individual who is entitled to and claimed
for the optional standard shall not be required to submit
with his tax return such financial statements otherwise
required under this Code:
Provided, further, That except when the Commissioner
otherwise permits, the said individual shall keep such
records pertaining to his gross sales or gross receipts, or the
30

NOTES AND CASES IN TAXATION

PERSONAL NOTES OF Atty. OLIVER R. GATCHALIAN

said corporation shall keep such records pertaining to


his gross income as defined in Section 32 of this Code
during the taxable year, as may be required by the rules
and regulations promulgated by the Secretary of
Finance, upon recommendation of the Commissioner.

the conduct of his or its trade, business or exercise


of a profession not to exceed such ceilings as the
Secretary of Finance may, by rules and regulations
prescribe,
upon
recommendation
of
the
Commissioner, taking into account the needs as well
as the special circumstances, nature and character of
the industry, trade, business, or profession of the
taxpayer:

Optional Standard deduction



A fixed percentage deduction which is allowed certain
taxpayers without regard to any actual expenditures.
The standard optional deduction is 40% of the gross
income of the qualified taxpayer [Sec. 34 L]
Purpose

To facilitate the audit or review of tax returns
because there is no need on the part of the
administrative taxing personnel to determine which
items are allowed to be deducted or not.
Itemize deductions allowed
a. Ordinary and Necessary Trade,
Professional Expenses
b. Interest
c. Taxes
d. Losses
e. Bad debts
f.
Depreciation
g. Depletion
h. Charitable and other contribution
i.
Research and development
j.
Contribution to pension trusts

Business

Provided, That any expense incurred for


entertainment, amusement or recreation that is
contrary to law, morals, public policy or public order
shall in no case be allowed as a deduction.
Substantiation Rule

No deduction from gross income shall be allowed


unless the taxpayer shall substantiate with sufficient
evidence, such as official receipts or other adequate
records:
i.
the amount of the expense being deducted,
and
ii.
the direct connection or relation of the
expense
being
deducted
to
the
development, management, operation
and/or conduct of the trade, business or
profession of the taxpayer [Sec. 34 A1b]

or

***SEC. 34 A 1a] Deductions for Ordinary and Necessary Trade,


Business or Professional Expenses

There shall be allowed as deduction from gross income


all the ordinary and necessary expenses paid or incurred
during the taxable year in carrying on or which are
directly attributable to, the development, management,
operation and/or conduct of the trade, business or
exercise of a profession
i.
A reasonable allowance for salaries, wages, and
other forms of compensation for personal
services actually rendered, including the
grossed-up monetary value of fringe benefit
furnished or granted by the employer to the
employee: Provided, That the final tax imposed
on such gross up monetary value of the fringe
benefit has been paid;
ii.
A reasonable allowance for travel expenses,
here and abroad, while away from home in the
pursuit of trade, business or profession;
iii.
A reasonable allowance for rentals and/or other
payments which are required as a condition for
the continued use or possession, for purposes of
the trade, business or profession, of property to
which the taxpayer has not taken or is not taking
title or in which he has no equity other than that
of a lessee, user or possessor;
iv.
A reasonable allowance for entertainment,
amusement and recreation expenses during the
taxable year, that are directly connected to the
development, management and operation of the
trade, business or profession of the taxpayer, or
that are directly related to or in furtherance of

Requisites for deductibility of business expenses


1. The expense must be ordinary and necessary
2. It must have been paid or incurred during the taxable
year
3. It must have been paid or incurred in carrying on the
trade or business of the taxpayer
4. It must be substantiated by proof
5. Expenses must not be against public policy, public
moral or law.


Expenses not being claimed as deductions by a


taxpayer in the current year when they are incurred
cannot be claimed as deduction from income for the
succeeding year.

Aside from the above, the business expenses must still


comply with the requisites for deductibility in general.

Necessary expenses

Presupposes that in order to be allowed as deduction, the
expenses must be business connected.


Compensation payments made to members of the family


controlling the corporation as promotional fees if not
excessive and not distribution of dividends are allowed as
deduction from gross income.

3 expenses under this section


1. Reasonable wages and salaries
2. Other forms of compensation for service actually
rendered bonus is considered as other forms of
compensation.
3. Grossed-up monetary value of fringe benefit provided the
final income tax thereof has been paid.

31

NOTES AND CASES IN TAXATION

PERSONAL NOTES OF Atty. OLIVER R. GATCHALIAN

Requisites for deductibility by employer of compensation


payments to employees
1. The payments are reasonable
2. They are in fact payments for personal service
rendered.

Provided, That such interest shall be allowed as a


deduction in the year the indebtedness is paid:
Provided, further, That if the indebtedness is payable
in periodic amortizations, 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;

***Requisites for bonus to employees to be deductible by the


employer as business expense
1. The payment of the bonuses is in fact compensation
2. It must be for personal services actually rendered;
3. The bonuses, when added to the salaries, are
"reasonable when measured by the amount and
quality of the services performed with relation to the
business of the particular taxpayer [KUENZLE &
STREIFF, INC., v. COLLECTOR]


Bonuses to employees made in good faith and as


additional compensation for the services actually
rendered by the employees are deductible, provided
such payments, when added to the stipulated
salaries, do not exceed a reasonable compensation
for the services rendered [supra]

Requisites of Representation and Entertainment Expenses


1. Subject to the rule on substantiation
2. Paid or incurred in the pursuit of trade or business
3. Paid or incurred in the taxable year
4. Must not be contrary to law morals and public policy
5. Reasonable
SEC. 34 A2] Expenses Allowable to Private Educational
Institutions. A private educational institution may at its

option elect either:


a. to deduct expenditures otherwise considered as
capital outlays of depreciable assets incurred
during the taxable year for the expansion of school
facilities, or
b. to deduct allowance for depreciation.
SEC. 34 B] Interest

The amount of interest paid or incurred within a taxable


year on indebtedness in connection with the taxpayer's
profession, trade or business shall be allowed as
deduction from gross income.

Note If the entire amount of the principal obligation has


been paid in that year, the entire amount of interest
corresponding to the principal shall be allowed as a
deduction for that year.
On the other hand, if the principal obligation has not been
paid entirely, say only half of it has been paid, the interest
expense to be deducted shall only be in an amount
corresponding to the amount of the principal has been
paid.

b.

c.
d.

e.

If both the taxpayer and the person to whom the


payment has been made or is to be made are
considered as related parties.
If the indebtedness is incurred to finance petroleum
exploration [Sec. 34 B2]
***Interest in the forms of dividends paid to preferred
shareholders. Reason preferred shares are considered
capital regardless of the conditions under which such
shares are issued and dividends or interest paid thereon
are not allowed as deductions from gross income of
corporation.
Interest paid on earned on unclaimed salary [KUENZLE &
STREIFF, INC., v. COLLECTOR]

*Requisites for the deductibility of interest expense


1. The indebtedness must be related to the taxpayers trade
or business
2. Interest should be legally due on the indebtedness
3. The interest is paid or accrued during the taxable year.


Interest on delinquent taxes is deductable as they are


considered as interest on indebtedness and not as taxes.
This is applicable only to business taxes and not income
taxes.

*Taxes

Provided, however, The taxpayer's otherwise allowable


deduction for interest expense shall be reduced by an
amount equal to 33% beginning January 1, 2009. The
limitation is to check tax arbitrage schemes.

*Optional Treatment of Interest Expense

SEC. 34 B3] 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
a. deduction or
b. treated as a capital expenditure. Which is subject
to the allowance of depreciation.
Interest not allowed as a deduction from gross income

a.

If within the taxable year an individual taxpayer


reporting income on the cash basis incurs an
indebtedness on which an interest is paid in
advance through discount or otherwise:

Sec. 34 C] Taxes paid or incurred within the taxable year in

connection with the taxpayer's profession, trade or business.


EXCEPT
a. The income tax under the NIRC
b. Income taxes imposed by authority of any foreign
country; but this deduction shall be allowed in the
case of a taxpayer who does not signify in his return
his desire to have to any extent the benefits of
credits for taxes paid to foreign countries.
c. Estate and donor's taxes
d. Taxes assessed against local benefits of a kind
tending to increase the value of the property
assessed [Sec. 34 C1]
e.

f.

Taxes on sale, barter or exchange of shares of stock listed


and traded through the local stock exchange of through
initial public offering [Sec. 127 D]
Final taxes.
32

NOTES AND CASES IN TAXATION

PERSONAL NOTES OF Atty. OLIVER R. GATCHALIAN

Provided, that taxes that are allowed as deductions,


when refunded or credited, shall be included as part of
gross income in the year of receipt to the extent of the
income tax benefit of said deduction.
Limitations on Deductions

Sec. 34 C2]. In the case of a nonresident alien individual


engaged in trade or business in the Philippines and a
resident foreign corporation, the deductions for taxes
shall be allowed only if and to the extent that they are
connected with income from sources within the
Philippines.
** Credit against Tax for Taxes of Foreign Countries

Sec. 34 C3]. If the taxpayer signifies in his return his

desire to have the benefits of credit against tax for taxes


of foreign countries.
a. Citizen and Domestic Corporation. In the case of a
citizen of the Philippines and of a domestic
corporation, the amount of income taxes paid or
incurred during the taxable year to any foreign
country; and
b. Partnerships and Estates. In the case of any such
individual who is a member of a general
professional partnership or a beneficiary of an
estate or trust, his proportionate share of such
taxes of the general professional partnership or
the estate or trust paid or incurred 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
this Title.
An alien individual and a foreign corporation
shall not be allowed the credits against the tax
for the taxes of foreign countries allowed under
this paragraph.
Limitations on Credit
Sec. 34 C4] The amount of the credit taken under this
Section shall be subject to each of the following
limitations:
a. The amount of the credit in respect to the tax
paid or incurred to any country shall not exceed
the same proportion of the tax against which
such credit is taken, which the taxpayer's taxable
income from sources within such country under
this Title II [tax on income] bears to his entire
taxable income for the same taxable year; and
b. The total amount of the credit shall not exceed
the same proportion of the tax against which
such credit is taken, which the taxpayer's taxable
income from sources without the Philippines
taxable under this Title [tax on income] bears to
his entire taxable income for the same taxable
year.

Requisites for the deductibility of taxes


1. Paid or incurred within the taxable year
2. Paid or incurred in connection with taxpayers
business

3.

Deductible only by the person upon whom the tax is


imposed by law.

Rationale for allowing the deduction of taxes



The accounting concept of matching revenues with
expenditures. If the expenditure helped earned the
income, then it should be allowed as a deduction. But if
the expenditure did not help earn the income, then it
should not be deducted.
2 ways to minimize a taxpayers liability
1. Tax deductions deducted from the gross income
2. Tax credit deducted from the income tax due.
Purpose of tax credit

To lessen the harshness of taxation in cases where an
income is subject to both foreign tax and Phil. income tax.
TAX CREDIT
Reduces
the
taxpayers
liability dollar for dollar
It is subtracted from the tax

DEDUCTION
Reduces taxable income upon
which the tax liability is
calculated
Subtracted from the income
before the tax is computed

If the taxpayer fails to signify in his return his desire to


have the benefits of credit, he may still claim the taxes as
deduction.

In considering the taxes as a deductions, the taxpayer


reduces only his taxable income or net income which
serve as the basis for the tax he should pay since the net
income is in turn multiplied with the tax rate to arrive at
the net income tax due.

On the other hand, in claiming those taxes as a tax credit,


the tax payer reduces not the basis of his tax but his tax
liability itself.

Limitations on credit
Formula


Gross Income - Philippines


Gross Income World x Income Tax Due Phil. = Tax Credit

2 Limitations
1. The Tax credit for taxes paid or incurred in any foreign
country should not exceed the taxes from which the tax
credit is taken
2. Said tax credit should be compared with the tax to be paid
in the Philippines by the taxpayer and such credit should
not exceed the amount of the tax to be paid in the
Philippines.
*** Losses

[Sec. 34 D] Losses actually sustained during the taxable year

and not compensated for by insurance or other forms of


indemnity shall be allowed as deductions:
a. If incurred in trade, profession or business;
b. Of property connected with the trade, business or
profession, if the loss arises from fires, storms,
shipwreck, or other casualties, or from robbery, theft
or embezzlement.
c. No loss shall be allowed as a deduction if at the time
of the filing of the return, such loss has been claimed
33

NOTES AND CASES IN TAXATION

PERSONAL NOTES OF Atty. OLIVER R. GATCHALIAN

as a deduction for estate tax purposes in the estate


tax return.
Proof of Loss

In the case of a nonresident alien individual or


foreign corporation, the losses deductible shall be
those actually sustained during the year incurred in
business, trade or exercise of a profession conducted
within the Philippines, when such losses are not
compensated for by insurance or other forms of
indemnity.
Provided, That the time to be so prescribed in the rules
and regulations shall not be less than 30 days nor more
than 90 days from the date of discovery of the casualty
or robbery, theft or embezzlement giving rise to the
loss [Sec. 34 D2]
Requisites of deductibility of Loss
1. The loss claimed as deduction must be that of a
taxpayer
2. The loss must have been sustained during the taxable
year
3. Loss must be evidence by closed and completed
transaction - one in which the facts indicate the
transaction sufficiently final to ascertain that loss has
occurred.
4. Loss not compensated by insurance or otherwise
Kinds of losses allowed being deductible from gross income
1. Ordinary losses Those incurred in trade or business.
2. Losses from casualty, theft or embezzlement
3. Net operating loss the excess of allowable
deductions over gross income of the business in a
taxable year.


The law does not require that the loss must be the
result of transactions in the taxable year only. What
the law requires is that the loss must be actually
sustained in the taxable year and not compensated by
insurance or otherwise.

What is indeed to be entitled to a loss deduction is for


the taxpayer to prove that a closed and completed
transaction sets the loss in the taxable year or in the
year claimed and it is not compensated by insurance
or otherwise.

The law was intended to relieve to relieve hardships


or to compensate the financial detriment suffered by
the taxpayer, hence, it should be construed in favor of
those who are the intended beneficiaries.

Trading loss is a cost of operation or service which


may be allowed as a deduction from gross income.

Casualty

Complete or partial destruction of property resulting
from identifiable event of a sudden unexpected or
unusual nature. It denotes accident, some sudden
invasion by hostile agency, and excludes progressive
deterioration through steadily operating cause.

Sec. 34 D3] 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:
Provided, however, That any net loss incurred in a taxable
year during which the taxpayer was exempt from income
tax shall not be allowed as a deduction
Provided, further, That 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
i.
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
ii.
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.
Net operating loss shall mean the excess of allowable
deduction over gross income of the business in a taxable
year
Provided, That for mines other than oil and gas wells, a net
operating loss without the benefit of incentives provided for
under [Omnibus Investments Code of 1987], incurred in any
of the first 10 years of operation may be carried over as a
deduction from taxable income for the next 5 years
immediately following the year of such loss.
The entire amount of the loss shall be carried over to the
first of the 5 taxable years following the loss, and any
portion of such loss which exceeds the taxable income of
such first year shall be deducted in like manner from the
taxable income of the next remaining 4 years.


The rule is applicable to both individual and corporate


taxpayer. However with respect to the corporations, the
carry-over shall only be allowed if there has been no
substantial change in ownership of the business or
enterprise.

Capital Losses [Sec. 34 D4]


1. *Limitation. Loss from sales or exchanges of capital

2.

assets shall be allowed only to the extent provided in


Sec. 39.
**Securities Becoming Worthless. If 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.

Related Provisions
Sec. 39 C] Limitation on Capital Losses.

Losses from sales or exchanges of capital assets shall be


allowed only to the extent of the gains from such sales
or exchanges.

Net Operating Loss Carry-over


34

NOTES AND CASES IN TAXATION




PERSONAL NOTES OF Atty. OLIVER R. GATCHALIAN

Thus capital losses are not deductible from ordinary


gain. The rationale for this rule is that a capital asset
refers to property held by a taxpayer which is not
considered as an ordinary asset. Generally, capital
assets are properties of the taxpayer that are not
used in his trade or business. To allow deduction of
non-business [capital] losses from business [ordinary]
income or gain could mean the reduction or even
elimination of taxable income of the taxpayer through
personal, non-business related expenses, resulting in
substantial losses of revenue to the government.

Sec. 34 E2] Securities Becoming Worthless.

If securities, are ascertained to be worthless and


charged off within the taxable year and are capital
assets, the loss resulting therefrom shall, in the case of
a taxpayer other than a bank or trust company
incorporated under the laws of the Philippines a
substantial part of whose business is the receipt of
deposits, be considered as a loss from the sale or
exchange, on the last day of such taxable year, of
capital assets.


Worthless Securities, which are ordinary assets, are


not allowed as deduction from gross income
because the loss is not realized. However, if these
worthless securities are capital assets, the owner is
considered to have incurred a capital loss as of the
last day of the taxable year and, therefore, deductible
to the extent of capital gains. (Section 34(D)(4), NIRC).
This deduction, however, is not allowed to a bank or
trust company. (Section 34(E)(2), NIRC).

*Losses from Wash Sales of Stock or Securities


SEC. 34 D5] Losses from 'wash sales' of stock or securities

as provided in Section 38.


Wagering Losses
SEC. 34 D6] Losses from wagering transactions shall be
allowed only to the extent of the gains [winning] from

such transactions.
Wash sale

Purchase and sale of substantially identical stock or
securities within a period provided by law.
GR on losses from wash sale

Losses from wash sales of stock or securities incurred
by taxpayers other than dealers in stock or securities
are treated in the same manner as other capital
assets.
Exception
 Losses from wash sales of stock or securities
deductible only by a dealer in stock or securities not
by other taxpayer.
Purpose of non-deductibility

To prevent taxpayers from claiming losses when
actually there are none.
**Bad Debts

Sec. 34 E1] Debts due to the taxpayer actually ascertained to


be worthless and charged off within the taxable year except
those not connected with profession, trade or business and
those sustained in a transaction entered into between parties
mentioned under Sec. 36(B):

Provided, That recovery of bad debts previously allowed as


deduction in the preceding 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.
Bad debts
 Debts due to the taxpayer actually ascertained to be
worthless and charged off within the taxable year.
***Requisites for deductibility of bad debts
1. The debt must be valid and subsisting;
2. The debt is connected with the taxpayer's trade or
business, and is not between related parties;
3. There is an actual ascertainment that the debt is
worthless [insolvency, bankruptcy prescribed debts]
4. The debt is charged-off within the taxable year.
Concept of Recapture Rules/ Tax Benefit Rule
a. States that the taxpayer is obliged to declare as taxable
income subsequent recovery of bad debts in the year they
were collected to the extent of the tax benefit enjoyed by
the taxpayer when the bad debts were written-off and
claimed as a deduction from income.
b. It also applies to taxes previously deducted from gross
income but which were subsequently refunded or
credited.
c. The taxpayer is also required to report as taxable income
the subsequent tax refund or tax credit granted to the
extent of the tax benefit the taxpayer enjoyed when
such taxes were previously claimed as deduction from
income.
*** Depreciation

Sec. 34 F] There shall be allowed as a depreciation deduction


a reasonable allowance for the exhaustion, wear and tear
(including reasonable allowance for obsolescence) of
property used in the trade or business.

In the case of property held by one person for life with


remainder to another person, the deduction shall be
computed as if the life tenant were the absolute owner of
the property and shall be allowed to the life tenant.
In the case of property held in trust, the allowable
deduction shall be apportioned between the income
beneficiaries and the trustees in accordance with the
pertinent provisions of the instrument creating the trust, or
in the absence of such provisions, on the basis of the trust
income allowable to each.
The generally accepted methods in determining the
depreciation allowance:
a. The straight-line method;
b. Declining-balance method, using a rate not
exceeding twice the rate which would have been
used had the annual allowance been computed under
the straight-line method;
35

NOTES AND CASES IN TAXATION

c.
d.

PERSONAL NOTES OF Atty. OLIVER R. GATCHALIAN

The sum-of-the-years-digit method; and


Any other method which may be prescribed by
the Secretary of Finance upon recommendation
of the Commissioner.

Requisites
1. The property subject to depreciation must be
property with life of more than one taxable year.
2. The property depreciated must be used in trade,
business or exercise of a profession
3. The depreciation method used must be reasonable
and consistent
4. The depreciation must have been charged during the
taxable year
5. The depreciation schedule should be attached to the
income tax return.
Depreciation

The gradual diminution in the useful value of tangible
property resulting from wear and tear and normal
obsolescence.


The term is also applied to amortization of the value


of intangible assets, the use of which in the trade or
business is definitely limited in duration.

prescribed by the Secretary of


recommendation of the Commissioner:

Finance,

upon

Provided, That when the allowance for depletion shall equal


the capital invested no further allowance shall be granted:
Provided, further, That after production in commercial
quantities has commenced, certain intangible exploration
and development drilling costs:
a. shall be deductible in the year incurred if such
expenditures are incurred for non-producing wells
and/or mines, or
b. shall be deductible in full in the year paid or
incurred or, at the election of the taxpayer, may be
capitalized and amortized if such expenditures
incurred are for producing wells and/or mines in the
same contract area.
Depletion

It is the exhaustion of natural resources like mines and oil
and gas wells as a result of production or severance from
such mines or wells.

There is a need for depreciation in order to determine


the true taxable income of the taxpayer, allowing for
a deduction of the portion of the value of an asset
used in the earning of income.

Theory and purpose



As the product of the mine is sold, a gradual sale is being
made of the taxpayers capital interest in the property.
The purpose is then to enable him to recover that capital
interest free of income tax at its cost or on some other
basis.

Serve as an exception to the rule that expenses to be


deducted should have been incurred during the
taxable year. Depreciation is the expenses which can
be deducted by the taxpayer for several years, as the
case may be.

Who are entitled?



Only persons having an economic interest in mineral land
or oil or gas wells. To acquire an economic interest, the
taxpayer must have a capital investment in the property
and not mere economic disadvantage.

Nature and Concept



The process is designed to match the assets expense
against the revenue generated over the assets life or
usefulness. Consequently depreciation is an expense
that determines the taxable income and ultimately
the income tax to be paid. The primary function of
deduction for depreciation is to determine the
income subject to tax.

DEPLETION
The
asset
subject
depletion could not
replaced

to
be

DEPRECIATION
Could be replaced

*** Charitable and Other Contributions

1. Contributions or gifts actually paid or made within

the taxable year to, or


2. for the use of the Government of the Philippines or

Depreciation is a question of fact and is not measured


by theoretical yardstick.

The basis for depreciation is construction cost and not


the assessed value of the building.

**Depreciation of goodwill

Goodwill may or may not be the subject of
depreciation. If cost is paid or incurred in the
acquisition then it may be subject to depreciation. On
the other hand, goodwill that is internally generated
is not subject to depreciation.
Depletion of Oil and Gas Wells and Mines

Sec. 34 G] In the case of oil and gas wells or mines, a

reasonable allowance for depletion or amortization


computed in accordance with the cost-depletion method
shall be granted under rules and regulations to be

any of its agencies or any political subdivision thereof


exclusively for public purposes, or
3. to accredited domestic corporations or associations
organized and operated exclusively for religious,
charitable, scientific, youth and sports development,
cultural or educational purposes or for the
rehabilitation of veterans, or to social welfare
institutions, or to nongovernment organizations in
accordance with rules and regulations promulgated by
the Secretary of Finance, upon recommendation of the
Commissioner,
4. no part of the net income of which inures to the benefit
of any private stockholder or individual in an amount
not in excess of 10% in the case of an individual, and
5% in the case of a corporation, of the taxpayer's
taxable income derived from trade, business or

36

NOTES AND CASES IN TAXATION

PERSONAL NOTES OF Atty. OLIVER R. GATCHALIAN

profession as computed without the benefit of this


and the following subparagraphs.
Kinds of charitable and other contributions allowed as deduction
1. Partial deductions
2. Deducted in full
Conditions for deductibility of charitable and other
contributions/known as partial deduction
1. The NGO must be properly accredited as a donee
institution
2. no part of the net income of which inures to the
benefit of any private stockholder or individual
3. The deduction must not exceed the taxable net
income of the taxpayer derived from trade, business
or profession as computed without the benefit of the
total claimed deductions for charitable and other
contributions.
i.
Not in excess of 10% in the case of an
individual, and
ii.
5% in the case of a corporation

SEC 34 M] The amount of premiums not to exceed P2,400

per family or P200 a month paid during the taxable year for
health and/or hospitalization insurance taken by the
taxpayer for himself, including his family, shall be allowed
as a deduction from his gross income:
Provided, That said family has a gross income of not more
than P250,000 for the taxable year:
Provided, finally, That in the case of married taxpayers,
only the spouse claiming the additional exemption for
dependents shall be entitled to this deduction.
Research and Development

SEC. 34 I] 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.

Sec. 34 H2] Contributions Deductible in Full

Donations to the following institutions or entities shall


be deductible in full:
a. Donations to the Government. Donations to the
Government of the Philippines or to any of its
agencies or political subdivisions, including
fully-owned
government
corporations,
exclusively to finance, to provide for, or to be
used in undertaking priority activities in
education, health, youth and sports development,
human settlements, science and culture, and in
economic development according to a National
Priority Plan determined by the NEDA, in
consultation with appropriate government
agencies, including its regional development
councils and private philanthropic persons and
institutions:
Provided, That any donation which is made to
the Government or to any of its agencies or
political subdivisions not in accordance with the
said annual priority plan shall be subject to the
limitations prescribed in paragraph (1) of this
Subsection;
b.

Donations to Certain Foreign Institutions or


International Organizations. Donations to foreign

institutions or international organizations which


are fully deductible in pursuance of or in
compliance with agreements, treaties, or
commitments entered by the Government of the
Philippines and the foreign institutions or
international organizations or in pursuance of
special laws;
c.
d.

Donations
to
Accredited
Nongovernment
Organizations
Donations of prizes and awards to athletes [RA 7549
Sec. 1]

***Premium Payments on Health and/or Hospitalization


Insurance of an Individual Taxpayer

SEC. 34 J) Pension Trusts.


 Applicable only to the employer on account of its
contribution to a private pension plan for the benefit of its
employee. Purely business in character.
Requisites of deductibility
1. Employer must have established a pension or
retirement plan for the payment of reasonable pension
to its employees.
2. Pension plan is reasonable
3. Funded by the employer [employer contributes cash]
4. Amount contributed must no long be subjected to
control of the employer
5. Payment has been allowed as deduction
Taxation of Exchanges of Property


Applicable only to net income tax since it is the only tax


where the determining of gain or loss is material.

It is only where the real property is an ordinary asset


where the gain or loss is material since it is subject to net
income tax.

Any sale of capital asset is subject to final income tax.

GR - upon the sale or exchange of property, the


entire amount of the gain or loss, as the case may be,
shall be recognized. [Sec. 40 C [1] this means that if
there are gains, the gains shall be taxable and if there are
losses, the losses shall allowed as deductions.

Exceptions
1. Gains recognized but loss not recognized in transactions
between related parties [Sec. 36 B] means if there is an
exchange of property and there is a gain, the resulting
gain is subject to tax but if there is a loss, the loss is not
allowed as deduction from gross income.
Losses from Sales or Exchanges of Property - In computing net

income, no deduction shall in any case be allowed in


37

NOTES AND CASES IN TAXATION

PERSONAL NOTES OF Atty. OLIVER R. GATCHALIAN

respect of losses from sales or exchanges of property


directly or indirectly.
1. Between members of a family. For purposes of
this paragraph, the family of an individual shall
include only his brothers and sisters (whether by
the whole or half-blood), spouse, ancestors, and
lineal descendants; or
2. Except in the case of distributions in liquidation,
between an individual and a corporation more
than 50% in value of the outstanding stock of
which is owned, directly or indirectly, by or for
such individual; or
3. Except in the case of distributions in liquidation,
between two corporations more than 50% in
value of the outstanding stock of each of which
is owned, directly or indirectly, by or for the
same individual, if either one of such
corporations, with respect to the taxable year of
the corporation preceding the date of the sale or
exchange was, under the law applicable to such
taxable year, a personal holding company or a
foreign personal holding company;
4. Between the grantor and a fiduciary of any trust;
or
5. Between the fiduciary of a trust and the fiduciary
of another trust if the same person is a grantor
with respect to each trust; or
6. Between a fiduciary of a trust and a beneficiary
of such trust.
Gains recognized but loss not recognized where the exchange is
not solely in kind [Sec. 40 C [3]
A. Exchange not Solely in Kind - this is an exchange which
involves property being exchanged with other property
plus money

a.

b.

If, in connection with an exchange, an


individual, a shareholder, a security holder
or a corporation receives not only stock or
securities permitted to be received without
the recognition of gain or loss, but also
money and/or property, the gain, if any,
but not the loss, shall be recognized but in
an amount not in excess of the sum of the
money and the fair market value of such
other property received:
Provided, That as to the shareholder, if the
money and/or other property received has
the effect of a distribution of a taxable
dividend, there shall be taxed as dividend to
the shareholder 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, of the gain recognized
shall be treated as a capital gain.
If, in connection with the exchange, the
transferor corporation receives not only
stock permitted to be received without the
recognition of gain or loss but also money
and/or other property, then

(i) if the corporation receiving such money


and/or other property distributes it in
pursuance of the plan of merger or
consolidation, no gain to the corporation shall
be recognized from the exchange, but
(ii) if the corporation receiving such other
property and/or money does not distribute it in
pursuance of the plan of merger or
consolidation, the gain, if any, but not the loss
to the corporation shall be recognized but in an
amount not in excess of the sum of such money
and the fair market value of such other property
so received, which is not distributed.
B. Losses from Wash Sales of Stock or Securities

SEC. 38 In the case of any loss claimed to have been


sustained from any sale or other disposition of shares
of stock or securities where it appears that within a
period beginning 30 days before the date of such
sale or disposition and ending 30 days after such
date, the taxpayer has acquired (by purchase or by
exchange upon which the entire amount of gain or
loss was recognized by law), or has entered into a
contact or option so to acquire, substantially
identical stock or securities, then no deduction for
the loss shall be allowed unless the claim is made by
a dealer in stock or securities and with respect to a
transaction made in the ordinary course of the
business of such dealer. Reason of nondeductibility to
prevent taxpayer from claiming losses when actually there are
none.

C. Illegal transactions or sale or exchanges, in general, which


are not at arms length.
2.

No gains or loss recognized if in pursuance of plan of


merger or consolidation where there is an exchange
solely in kind [Sec. 40 C] means that if there is an
exchange of property and there is a gain, the resulting
gain is not subject to tax. If there is a loss, the loss could
not be used as a deduction from gross income. Known as
Tax-exempt sale or exchanges or tax free exchanges.

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; or Note - To the extent
that the exchange is not solely in kind, the exemption
would not apply. If however, the merged
corporation, distributes such money or property to its
shareholders in pursuance of the plan of
merger/consolidation, no gain to the corporation will
be recognized from the exchange.

b. A shareholder exchanges stock in a corporation,


which is a party to the merger or consolidation,
solely for the stock of another corporation also
a party to the merger or consolidation; or
c. A security holder of a corporation, which is a
party to the merger or consolidation, exchanges
his securities in such corporation, solely for
38

NOTES AND CASES IN TAXATION

PERSONAL NOTES OF Atty. OLIVER R. GATCHALIAN


price than the basis of the property given up shall be
subject to tax, the rate depending on the nature of the
property disposed of.

stock or securities in another corporation, a


party to the merger or consolidation.
No gain or loss shall also 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 4
persons, gains control of said corporation:

Basis for Computing the Tax Gains

a.

Provided, That stocks issued for services shall not be


considered as issued in return for property.
Control


Ownership of stocks in a corporation possessing at


least 51% of the total voting power of all classes of
stock entitled to vote.

Exchange solely in kind


 An exchange of property with property with no
money involved.
Tax free Exchange
 A pre-condition for the tax free-exchange is that it
should result to corporate control.


Tax Consequences of tax free Exchange [RMR -1-2001]


 Transferor will not be subject to
1. Capital gains Tax
2. Net Income Tax
3. Creditable withholding Tax on the transfer of
such property to the transferee.
The transferor shall not recognize any gain or loss on
the transfer of the property to the transferee.

Neither may the transferee recognize any loss if any,


incurred on the transfer.

Donors tax not subject, there being no intent to


donate on the part of the transferor.

Documentary Stamp tax the transferor or the


transferee is liable.

The basis of the stock or securities received by the


transferor upon the exchange specified in the above
exception shall be the same as the basis of the
property, stock or securities exchanged, decreased
by
1. the money received, and
2. the fair market value of the other property
received, and increased by
a. the amount treated as dividend of the
shareholder and
b. the amount of any gain that was
recognized on the exchange:
Provided, That the property received as 'boot' shall
have as basis its fair market value:
Provided, further, That if as part of the consideration
to the transferor, the transferee of property assumes
a liability of the transferor or acquires from the latter
property subject to a liability, such assumption or
acquisition (in the amount of the liability) shall, for
purposes of this paragraph, be treated as money
received by the transferor on the exchange:

If there was already corporate control prior to the


exchange, tax free-exchange still applies.

If a loss results, the loss may be deductible if the taxpayer


is a corporation but not if he is an individual.

Provided, finally, That if the transferor receives


several kinds of stock or securities, the
Commissioner is hereby authorized to allocate the
basis among the several classes of stocks or
securities.
b.

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
[Sec. 40 C [5]

Determination of Amount and Recognition of Gain or Loss [SEC 40]

VAT - the transferor is liable if he is engage in


business subject to VAT

Reason for tax exemption


 To prevent double taxation


The exemption refers only to the initial exchange.


Where the parties to the exchange disposed of the
property they received as a result of the exchange,
then a gain or loss would be recognized. There is
merely a deferral of the income tax.

Tax aspects of disposal of property received from a tax free


exchange
 The gain resulting from the disposition of the
property received which is disposed of at a higher

Gain from the sale or other disposition of property


 Refers to the excess of the amount realized therefrom
over the basis or the adjusted basis for determining loss
over the amount realized.
Loss


Refer to the excess of the basis or adjusted basis for


determining loss over the amount realized.

Amount realized from the sale or other disposition of property


 The sum of money received plus the fair market value of
the property other than the money received.
Basis for Determining Gain or Loss from Sale or Disposition of
Property. The basis of property shall be

1. The cost of the property, if acquired by purchase;


2. The fair market price or value as of the moment of
death of the decedent, if acquired by inheritance;
39

NOTES AND CASES IN TAXATION

PERSONAL NOTES OF Atty. OLIVER R. GATCHALIAN

3. The basis in the hands of the donor or the last


preceding owner by whom the property was not
acquired by gift, if the property was acquired by
donation. If the basis, however, is greater than the
fair market value of the property at the time of
donation, then, for purposes of determining loss,
the basis shall be such fair market value; or,
4. The amount paid by the transferee for the property,
if the property was acquired for less than an
adequate consideration in money or money's
worth.
5. The adjusted basis of (a) to (d) above, if the
acquisition cost of the property is increased by the
amount of improvements that materially add to the
value of the property or appreciably prolong its life
less accumulated depreciation.
6. The substituted basis, if the property was acquired
in a previous taxfree exchange under Section
40(C)(2) of the Tax Code.
Gross Compensation Income


All remuneration for services performed by an


employee for his employer under an employeremployee relationship unless excepted by the
provision of the NIRC.

The name by which the remuneration for services


designated is immaterial.

Minimum Wage Earner



A worker in the private sector paid the statutory
minimum wage, or to an employee in the public
sector with compensation income of not more than
the statutory minimum wage in the non-agricultural
sector where he/she is assigned.


Minimum wage earners as shall be exempt from the


payment of income tax on their taxable income:
Provided, further, That the holiday pay, overtime pay,
night shift differential pay and hazard pay received by
such minimum wage earners shall likewise be exempt
from income tax.

General Rule
The value of employer furnished quarters or meals
are considered as part of compensation income.
Exceptions or instances when the value of employer furnished
quarters or meals are not part of compensation income
1. Application of the convenience of the employer rule
means that if the living quarters or meals are
furnished to an employee for the convenience of the
employer, the value thereof need not be included as
part of compensation income.
2. Given to non-rank and file employees subject to
fringe benefit tax.
3. The value of housing privileges not treated as fringe
benefits.


The monetarized value of leave credits paid to


government officials and employees shall not be
subject to income tax and consequently to
withholding tax.

Components of compensation income


1. Basic pay This is subject to allowable deductions [Sec.
34] is then subject to the schedular rates.
2. Fringe benefits subject to final withholding tax.
Nature of Gross income taxation of compensation income

Compensation income is subject to an adjusted or
modified gross income tax because it is reduced only by
the personal and additional exemptions and premium
payments for health and/or hospitalization insurance.
Taxation of Basic Wage

The basic wage is considered the gross income of an
individual from which generally deducted the personal
and additional exemptions and the health and
hospitalization insurance policies in order to arrive at the
income subject to tax.
SEC 33. Special Treatment of Fringe Benefit

A final tax of 32% is hereby imposed on the grossed-up


monetary value of fringe benefit furnished or granted to the
employee (except rank and file employees as defined
herein) by the employer, whether an individual or a
corporation (unless the fringe benefit is required by the
nature of, or necessary to the trade, business or profession
of the employer, or when the fringe benefit is for the
convenience or advantage of the employer).
The tax is payable by the employer.
C] Fringe Benefits Not Taxable.
1. fringe benefits which are authorized and exempted
from tax under special laws;
2. Contributions of the employer for the benefit of the
employee
to
retirement,
insurance
and
hospitalization benefit plans;
3. Benefits given to the rank and file employees,
whether granted under a collective bargaining
agreement or not; and
4. De minimis benefits as defined in the rules and
regulations to be promulgated by the Secretary of
Finance,
upon
recommendation
of
the
Commissioner.
Fringe Benefit

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).


The fringe benefit tax is imposed as a final withholding


tax placing the legal obligation to remit the tax on the
employer, such that, if the tax is not paid the legal
recourse of the BIR is to go after the employer. The
person who is legally required to pay is that person
who, in case of non-payment, can be legally demanded
to pay the tax.

Taxation of fringe benefit


a. Rank and file employee is the recipient the value of such
fringe benefit shall be considered as part of the
compensation income of such employee subject to tax
payable by the employee
b. Not a rank and file employee is the recipient the same
shall not be included in the compensation income of such
40

NOTES AND CASES IN TAXATION

PERSONAL NOTES OF Atty. OLIVER R. GATCHALIAN

employee subject to tax. Instead it is levied upon the


employer who is required to pay.
 Membership fees, dues and other expenses borne by
the employer for his employee in social and athletic
club or other similar organizations shall be treated as
taxable fringe benefits of the employee in full.
De minimis benefits [RR 10-2008]
 Ordinary facilities and privileges furnished or offered by
an employer to his employees, are not considered as
compensation subject to income tax, if such facilities or
privileges are of relatively small value and are offered or
furnished by the employer merely as a means of
promoting the health, goodwill, contentment or
efficiency of his employer.
 Applicable to both managerial and rank and file
employees.
 An employee who receives additional compensation
such as commission, honoraria, fringe benefits in excess
of P30, 000 shall not enjoy the privilege of being a
Minimum Wage Earner. However, only the excess to
P30, 000 will be subject to tax.
 Any amount given by the employer as benefits to its
employees whether fringe benefits or de minimis
benefits shall constitute as deductible expenses upon
such employer.
Income Tax Returns
The following individuals are required to file an income tax
return

a. Every Filipino citizen residing in the Philippines;


b. Every Filipino citizen residing outside the
Philippines, on his income from sources within the
Philippines;
c. Every alien residing in the Philippines, on income
derived from sources within the Philippines; and
d. Every nonresident alien engaged in trade or
business or in the exercise of profession in the
Philippines.
Taxable Year of Corporation.

A corporation may employ either calendar year or fiscal


year as a basis for filing its annual income tax return:
Provided, That the corporation shall not change the
accounting period employed without prior approval
from the Commissioner.
Time of Filing the Income Tax Return.

The corporate quarterly declaration shall be filed within


60 days following the close of each of the first 3
quarters of the taxable year. The final adjustment return
shall be filed on or before the 15th day of April, or on or
before the 15th day of the 4th month following the close
of the fiscal year, as the case may be.


A domestic corporation is required to file income tax


returns 4 times for income earned during a single
taxable year. Quarterly returns are required to be filed

for the first three quarters where the corporation shall


declare its quarterly summary of gross income and
deductions on a cumulative basis. Then, a final
adjustment return is required to be filed covering the total
taxable income for the entire year, calendar or fiscal.
Reason
 To
ensure
the timeliness of collection to meet the
budgetary needs of the government. Likewise, it is designed
to ease the burden on the taxpayer by providing it with an
installment payment scheme, rather than requiring the
payment of the tax on a lump-sum basis after the end of the
year.
Penalties and Surcharge

Nature of penalties, interest, and surcharges



Surcharges imposed as penalties are not to be considered
as criminal penalties but civil administrative sanctions
provided primarily as a safeguard for the protection of
state revenue and to reimburse the government for the
heavy expense of investigation and loss resulting from the
taxpayers fraud.
Surtax/surcharge/civil penalties

Amount imposed in addition to the tax required. They are
in the nature of the penalties and shall be collected at the
same time, in the same manner as part of the tax.
Two kinds
1. The 25% surcharge for late filing or late payment
2. The 50% willful neglect or fraud surcharge.
Deficiency interest

The interest assessed and collected on any unpaid
amount of tax, interest at the rate of 20% per annum, or
such higher rate as may be prescribed by rules and
regulations, from the date prescribed for payment until
the amount is fully paid.
Delinquency Interest

The interest that is required to be paid in case of failure
on the part of the taxpayer to pay the amount of the tax
due on any return to be filed, or the amount of the tax
due for which no return is required or a deficiency tax, or
any surcharge or interest thereon on the due date
appearing in the notice and demand of the Commissioner.


At the rate of 20% per annum, or such higher rate as may


be prescribed by rules and regulations shall be assessed
and collected until the amount is fully paid.

Value Added Tax


Characteristics of VAT
1. It is a tax on value added of a taxpayer.
2. It is collected through the tax credit method.
3. The Phil. has adopted the Tax inclusive Method
4. It is a broad based tax on consumption of goods,
properties or services in the Phil.
5. It is a form of sales tax
6. It is an indirect tax where tax shifting is always
presumed:
7. There is no cascading in VAT
41

NOTES AND CASES IN TAXATION

PERSONAL NOTES OF Atty. OLIVER R. GATCHALIAN

Tax on value added



VAT is a tax on the value added of a taxpayer arising
from taxable sales of goods, properties or services
during the quarter at a rate of 0% or 12%.


Value added is the difference between total sale of


the taxpayer for the taxable quarter subject to VAT
and his total purchases for the same period subject
also to VAT.
Thus, the value added of a businessman is the same
as his gross profit, provided he is not engaged in
transactions exempt from VAT. If there is no value
added on taxable sales [because the gross sales or
receipts is equal to the gross purchases] or where
there is a loss from sale [because the gross purchases
is more than the gross sales or receipts], there is still
output tax due on the transaction. There will no VAT
due or there will be an excess input tax which may be
carried over to the next quarters respectively.

Illustration of Par. 1
For a given taxable quarter ABC Corp. has output VAT of 100
and input VAT of 80. Since output tax exceeds the input tax for
such taxable quarter, all of the input tax may be utilized to
offset against the output tax. Thus, the net VAT payable is 100
minus 80 = 20.
Illustration of Par. 2
For a given taxable quarter XYZ Corp. has output VAT of 100
and input VAT of 110. Since input tax exceeds the output tax
for such taxable quarter, there is an excess input tax at the end
of the quarter which may be carried over to the next quarter or
quarters [RR 4-2007]
Tax Credit Method/Invoice method

Refers to the manner by which the VAT of a taxpayer is
computed.


Output Tax

Means the VAT due on the sale or lease of taxable
goods or properties or services by any person
registered or required to register under the Code.
Input Tax

Means the VAT due from or paid by a VAT-registered
person in the course of his trade or business on
importation of goods or local purchase of goods or
services, including lease or use of property, from a
VAT-registered person.

Sales
Output tax [100 x
12%]
Purchases
Input tax [90 or 130
x 12%]
Value Added
VAT
payable
[10x12%]
Excess input tax [30 x 12%]

Case A
Amount VAT
100
12

Case B
Amount Vat
100
12

90

130
10.8

10

15.6

Tax Inclusive Method



Generally, sale of goods by the supplier must be subject
to VAT in order to entitle the buyer who is also subject to
VAT to credit the input tax from his output tax on his
taxable sale, except in case of VAT exempt transaction.
Broad Based Tax on Consumption

VAT is a broad base because every sale of goods,
properties or services at the levels of manufacturers or
producers and distributors is subject to VAT. While every
taxable sale of goods, properties or services is subject to
VAT, the burden rests with the final consumer, who
consumes the goods, properties or services.


Consumption takes place when the taxpayer does not sell


further the goods, properties or services either because
he is the final consumer or he is not engaged in business
subject to VAT [like sale of agricultural food products in
their original state].

The VAT system encourages savings because the tax is


imposed only upon consumption.

-30
1.2
3.6

Excess Output or Input Tax

The input taxes shifted by the sellers to the buyer are


credited against the buyers output taxes when he in turn
sells the taxable goods, properties or services. The tax is
shifted when the buyer of goods, properties or services
used in the production or distribution process passes the
input tax forward to his buyer or backward to his supplier.

SEC. 110 B] If at the end of any taxable quarter the

output tax exceeds the input tax, the excess shall be


paid by the VAT-registered person. If the input tax
exceeds the output tax, the excess shall be carried over
to the succeeding quarter or quarters:
Provided, That the input tax inclusive of input VAT
carried over from the previous quarter that may be
credited in every quarter shall not exceed 70% of the
output VAT:
Provided, however, that any input tax attributable to
zero-rated sales by a VAT-registered person may at his
option be refunded or applied for a tax credit certificate
which may be used in the payment of internal revenue
taxes, subject to the limitations as may be provided for
by law.

Sales tax

GR there must be an actual sales of goods, properties or
services in the Phil. in order that the VAT may be imposed
Exceptions
1. Importation of goods
2. Deemed sale of goods or properties
3. Deposit on returnable containers
Taxable transactions

The main objective of the VAT is the transaction. A
transaction could either be
1. Sale, barter or exchange of goods or properties
in the course of trade or business
2. Sale of services in the course of trade or
business
42

NOTES AND CASES IN TAXATION


3.

PERSONAL NOTES OF Atty. OLIVER R. GATCHALIAN

Importation of goods whether or not made


in the course of trade or business.

Destination Principle/Cross border Doctrine



The destination of the goods determines taxation or
exemption from tax. Export sale of goods are subject
to 0% rate [zero rated] while import of goods are
subject to 12% VAT.


In the case of services, the consumption takes place


where the service is performed, following the situs of
service principle.
When the goods, properties or services are consumed
or are destined for consumption abroad, they are
zero rated; hence no output tax is imposed on the
sale thereof, but the input tax passed on such
purchase of taxable goods, properties or services may
be claimed by the taxpayer in the form of refund or
tax credit from the BIR. [SEC. 112]

Indirect Tax

The impact of taxation is on the seller upon whom the
tax has been imposed, while the incidence of tax is on
the final consumer, the place at which the tax comes
to rest.
Cumulative through the chain of distribution of goods and
performance of service

This means that on the taxable transaction, the seller
is subject to output tax on his gross selling price or
gross receipts, while the buyer is entitled to input tax
on his purchases. When there is a new sale of the
same goods, properties or services, the new seller is
subject to the output tax and the new buyer is
entitled to input tax. This procedure is repeated until
the last sale to the final consumer, in which case, the
input tax passed on to the final consumer becomes
part of his acquisition cost or operating expenses.
VAT does not cascade

A tax is said to cascade when there is a tax on tax or
the tax passed on by the previous seller which is now
a component of the gross selling price or gross
receipts of the present seller is being taxed.
There is no cascading because
1. In defining the terms gross selling price and
gross receipts, the VAT law expressly
exclude the VAT passed on by the seller to
the buyers.
2. Moreover, the input tax due from or paid
by the buyer are allowed to be credited
against his output taxes.
Registration

A taxable person must register for VAT purposes
[SEC.236]. However his failure to register as a VAT
person does not exculpate him from his liability to
pay the VAT on his taxable sales of goods, properties
or services. Registration is only important because a
non- VAT registered person is not entitled to input tax
although he is always liable to output tax on his
taxable sales.

Tax Base

The amount or value on which the VAT rate will applied in
computing thee output tax.
Persons Liable

SEC. 105. Any person who, in the course of trade or


business, sells barters, exchanges, leases goods or
properties, renders services, and any person who imports
goods shall be subject to the VAT.
.
The persons liable for the value-added tax are:
1. Any person who, in the course of his trade or business,
sells, barters, exchanges or leases goods or properties, or
renders services.
2. In the case of importation of taxable goods, the importer,
whether an individual or corporation and whether or not
made in the course of his trade or business, shall be liable.
Value-Added Tax on Sale of Goods or Properties

SEC. 106. There shall be levied, assessed and collected on


every sale, barter or exchange of goods or properties, a
VAT equivalent to 10% of the gross selling price or gross
value in money of the goods or properties sold, bartered or
exchanged, such tax to be paid by the seller or transferor.
Gross Selling Price
 Means the total amount of money or its equivalent which
the purchaser pays or is obligated to pay to the seller in
consideration of the sale, barter or exchange of the goods
or properties, excluding the value-added tax. The excise
tax, if any, on such goods or properties shall form part of
the gross selling price.
 In the case of sale, barter or exchange of real property
subject to VAT, gross selling price shall mean the
consideration stated in the sales document or the fair
market value whichever is higher.
Elements of Taxable sale of goods or properties [to be subject to
VAT]
1. The transaction must be an actual or deemed sale of
goods or properties for value consideration
2. Undertaken in the course of trade or business
3. Not exempt from VAT under the TAX Code, special law or
international agreement.
Taxable sale

Refers to the sale, barter, exchange and/or lease of goods
or properties, including transactions deemed sale and
the performance of service for a consideration, whether
in cash or in kind, all of which are subject to tax
Types of Sale
1. Actual sale In actual sale, a VAT registered person is the
seller; the buyer may or may not be registered as a VAT
taxpayer. The seller output tax becomes the VAT
registered buyers input tax, which the latter can credit
against his output tax on his taxable sales of goods,
property or services during the quarter.
2. Transactions Deemed Sale The following transactions
shall be deemed sale:
a. Transfer, use or consumption not in the course of
business of goods or properties originally intended
for sale or for use in the course of business;
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NOTES AND CASES IN TAXATION

PERSONAL NOTES OF Atty. OLIVER R. GATCHALIAN

b. Distribution or transfer to:


i. Shareholders or investors as share in the
profits of the VAT-registered persons: or
ii. Creditors in payment of debt;
c. Consignment of goods if actual sale is not made
within 60 days following the date such goods,
were consigned; and
d. Retirement from or cessation of business, with
respect to inventories of taxable goods existing
as of such retirement or cessation.

shall be based on the landed cost plus excise taxes, if any:

The rationale of transaction deemed sale is to


recapture the VAT that was claimed as input tax at
the time of purchase.

B] Transfer of Goods by Tax-exempt Persons. In the case of tax


free importation of goods into the Philippines by persons,
entities or agencies exempt from tax where such goods are
subsequently sold, transferred or exchanged in the
Philippines to non-exempt persons or entities, the
purchasers, transferees or recipients shall be considered the
importers thereof, who shall be liable for any internal
revenue tax on such importation. The tax due on such
importation shall constitute a lien on the goods superior to
all charges or liens on the goods, irrespective of the
possessor thereof.

A transaction is outside the scope of VAT unless it is


made for valuable consideration. The valuable
consideration or gross selling price may consist of
money or something of value other than money
[barter] or partly money and partly in kind.

Export sales includes 3 types of export sales


a. Actual export sale
b. Constructive or indirect export sale
c. Sale of goods by a person in the custom territory to another
who is located within the special economic zone.

Zero-Rated Sales

A zero-rated sale by a VAT-registered person is a
taxable transaction for VAT purposes, but shall not
result in any output tax. However, the input tax on
purchases of goods, properties or services, related to
such zero-rated sale, shall be available as tax credit or
refund.
Effectively Zero-rated

Refers to the local sale of goods and properties by a
VAT-registered person to a person or entity who was
granted indirect tax exemption under special laws or
international agreement. Since the buyer is exempt
from indirect tax, the seller cannot pass on the VAT
and therefore, the exemption enjoyed by the buyer
shall extend to the seller, making the sale effectively
zero-rated.
Authority of the Commissioner to Determine the Appropriate Tax
Base

SEC 106 E] The Commissioner shall, by rules and


regulations prescribed by the Secretary of Finance,
determine the appropriate tax base incases where a
transaction is deemed a sale, barter or exchange of
goods or properties under Subsection (B)[Transaction
Deemed Sale], or where the gross selling price is
unreasonably lower than the actual market value. The
gross selling price is unreasonably lower than the actual market
value if it is lower by more than 30% of the actual market value of
the same goods of the same quantity and quality sold in the
immediate locality on or nearest the date of sale.

Value-Added Tax on Importation of Goods

SEC. 107. A] In General. There shall be levied, assessed


and collected on every importation of goods a VAT
equivalent to 12% based on the total value used by the
BOC in determining tariff and customs duties, plus
customs duties, excise taxes, if any, and other charges,
such tax to be paid by the importer prior to the release of
such goods from customs custody. Provided, That where
the customs duties are determined on the basis of the
quantity or volume of the goods, the value-added tax

Value-added Tax on Sale of Services and Use or Lease of Properties

SEC. 108. There shall be levied, assessed and collected, a


VAT equivalent to 12% of gross receipts derived from the
sale or exchange of services, including the use or lease of
properties:
Gross Receipts

Means the total amount of money or its equivalent
representing the contract price, compensation, service
fee, rental or royalty, including the amount charged for
materials supplied with the services and deposits and
advanced payments actually or constructively received
during the taxable quarter for the services performed or
to be performed for another person, excluding valueadded tax.
Sale or Exchange of services

Means the performance of all kinds of services in the
Philippines for others for a fee, remuneration or
consideration.
Categories of Sale of services
1. Professional or technical consultancy
2. Transfer of technology
3. Lease or use of intangible property
4. Lease or use of tangible property.
Requisites for taxability of Services
1. The service must be performed or to be performed in the
course of trade or business in the Phil.
2. For valuable consideration actually or constructively
received
3. The service is not exempt under the Tax Code, special law
or international agreement.


It is not absolutely necessary that a person who entered


into a contract to perform service for another in the
course of trade or business should personally render the
service. The service may be performed by another as
subcontractor.

The place where the service is performed determines the


jurisdiction to impose the VAT.
44

NOTES AND CASES IN TAXATION

PERSONAL NOTES OF Atty. OLIVER R. GATCHALIAN

VAT-exempt transactions

Refers to the sale of goods, properties or services or
the use or lease of properties that is not subject to
VAT [output], and the seller/supplier is not allowed
any tax credit of VAT (input tax) on purchases related
to such exempt transaction.

Return and Payment of Value-Added Tax.

SEC. 114 A] Every person liable to pay the value-added tax


imposed under this Title shall file a quarterly return of the
amount of his gross sales or receipts within 25 days
following the close of each taxable quarter prescribed for
each taxpayer:

Categories of exemption
1. Exempt persons The seller or the buyer or importer
is not liable to VAT
2. Exempt transactions transaction in certain goods,
properties or services, which are not subject to VAT,
even if such goods or services are sold by a VAT
registered person , and regardless of the annual gross
sales or receipts derived therefrom.

Provided, however, That VAT-registered persons shall pay


the value-added tax on a monthly basis.

Categories of input taxes that may be credited against output


tax
1. Input Tax credit [Sec. 110]
2. Transitional input Tax credit [Sec.111 A]
3. Presumptive input tax credit [Sec.111 b]
4. Creditable withholding tax credit.[Sec.114 c]

Provided, That only one consolidated return shall be filed


by the taxpayer for his principal place of business or head
office and all branches.

Refunds or Tax Credits of Input Tax


SEC. 112. A] Zero-Rated or Effectively Zero-Rated Sales.

Any VAT-registered person, whose sales are zero-rated


or effectively zero-rated may, within 2 years after the
close of the taxable quarter when the sales were made,
apply for the issuance of a tax credit certificate or refund
of creditable input tax due or paid attributable to such
sales, except transitional input tax, to the extent that
such input tax has not been applied against output tax:
Where the taxpayer is engaged in both zero-rated or
effectively zero-rated sales and in taxable (including
sales subject to final withholding VAT) or exempt sales
of goods, properties or services, and the amount of
creditable input tax due or paid cannot be directly and
entirely attributed to any one of the transactions, only
the proportionate share of input taxes allocated to zerorated or effectively zero-rated sales can be claimed for
refund or issuance of a tax credit certificate [RR 162005 Sec. 4.112-1]
Period within which Refund or Tax Credit of Input Taxes shall be
Made

Any person, whose registration has been cancelled in


accordance with Section 236, shall file a return and pay the
tax due thereon within 25 days from the date of cancellation
of registration:

Where to File the Return and Pay the Tax

SEC. 114B] Except as the Commissioner otherwise permits,


the return shall be filed with and the tax paid to an
authorized agent bank, Reveenue Collection Officer or duly
authorized city or municipal Treasurer in the Philippines
located within the revenue district where the taxpayer is
registered or required to register.
Revenue Memorandum Circular 50-2007
Tax Treatment Of The Sale, Barter Or Exchange Of Goods Or Sale Or
Exchange Of Services Or Lease Of Properties Made By Suppliers From
The Customs Territory To The Registered Freeport Zone And Vice
Versa.

Freeport Zones by legal fiction, are regarded as foreign
territories. This legal fiction is necessary to give
meaningful effect to the policies of the special law
creating the said Freeport zone. The Philippine VAT Law
adheres to the "cross border doctrine" of the VAT system,
which basically means that no VAT shall be imposed to
form part of the cost of goods destined for consumption
outside the territorial border of the Philippine taxing
authority.


For as long as the goods remain within the zone, whether


we call it an economic zone or a freeport zone, for as long
as we say in this law that all goods entering this particular
territory will be duty- free and tax- free, for as long as
they remain there, consumed there or re-exported or
destroyed in that place, then they are not subject to
duties and taxes in accordance with the laws of the
Philippines. Hence, even individuals can be entitled to tax
and duty free purchases of goods within the SFZ and for
as long as these goods are not brought out of the
Freeport Zone.

The sale, barter or exchange of goods or properties into


the Freeport Zone by suppliers/contractors from the
Customs Territory shall be considered as export sales.

SEC. 112 c] In proper cases, the Commissioner shall


grant a refund or issue the tax credit certificate for
creditable input taxes within 120 days from the date of
submission of complete documents in support of the
application.
In case of full or partial denial of the claim for tax credit
certificate/refund as decided by the CIR, the taxpayer
may appeal to the CTA within 30 days from the receipt
of said denial, otherwise the decision shall become final.
However, if no action on the claim for tax credit
certificate/refund has been taken by the CIR after the
120 day period from the date of submission of the
application with complete documents, the taxpayer may
appeal to the CTA within 30 days from the lapse of the
120-day period.[RR 16-2005 Sec. 4.112-1]

Treatment of sale, barter, exchange or lease of goods, properties


and sale or exchange of services to a registered Freeport Zone
enterprise by sellers/contractors from the Customs Territory

45

NOTES AND CASES IN TAXATION




PERSONAL NOTES OF Atty. OLIVER R. GATCHALIAN

If the seller is a VAT taxpayer, such sale, barter or


exchange shall be subject to VAT at 0%. If the seller is
a non -VAT taxpayer,the transaction shall be exempt
from VAT.

VAT treatment of sale, exchange,barter or lease of goods,


properties and/or services by a Freeport Zone-registered
enterprise or Resident within the Freeport Zone

Such sale, exchange, barter or lease of goods,
properties and services within the subject Freeport
Zones shall be exempt from VAT.
Tax treatment for the income of Freeport Zone-registered
enterprises derived from sources in the Customs Territory

Freeport Zone-registered enterprises may generate
income from sources within the Customs Territory of
up to 30% of its total income from all sources;
provided, that should a Freeport Zone-registered
enterprises income from sources within the Customs
Territory exceed 30% of its total income from all
sources, then it shall be subject to the income tax
laws of the Customs Territory; provided further, that
in any case, customs duties and taxes must be paid
with respect to transactions, receipts, income and
sales of articles to the Customs Territory and in the
Customs Territory.
Tax treatment of sale, barter or exchange of goods and
properties by Freeport Zone-registered enterprises to a buyer
from the customs territory

The sale, barter or exchange shall be treated as a
technical importation made by the buyer in the
customs territory. The buyer shall be treated as the
importer and shall be imposed the corresponding
import taxes and duties prior to release of the goods
or merchandise from Customs custody. Any unpaid
taxes thereon, aside from being the prime liability of
the buyer-importer, shall constitute a lien on such
goods or merchandise imported from the Freeport
Zone.
Tax treatment of a sale of service or lease of properties
(machineries and equipment) by Freeport Zone-registered
enterprises to a customer or lessee from the Customs territory

The sale of service shall be exempt from VAT if the
service is performed or rendered within the Freeport
Zone.


The lease of properties, on the other hand, shall


likewise be exempt from VAT if the property is
located within the Freeport Zone. However, if the
properties (machineries and equipment) leased by
the Freeport Zone registered enterprise is located
outside of the Freeport Zone, payments to such
enterprise will be considered as royalties and subject
to the final withholding VAT of 12%.

46