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SUBSTANTIATION RULE AND THE COHAN RULE Santiago Gancayco v.

The Collector of Internal Revenue L-13325 April 20, 1961 In 1950, Gancayco filed his income tax return for the year 1949. Respondent Collector of Internal Revenue issued a notice advising him that his income tax liability for that year amounted P9,793.62, which he paid on May 15, 1950. A year later, respondent notified Gancayco that, upon investigation, there was still due from him, a deficiency income tax for the year 1949, the sum of P29,554.05. Gancayco sought a reconsideration, which was part granted by respondent, who in a letter dated April 8, 1953 informed petitioner that his income tax deficiency amounted to P16,860.31. Gancayco urged another reconsideration but no action taken on this request. Respondent issued a warrant of distraint and levy against the properties of Gancayco for the satisfaction of his deficiency income tax liability. Upon petition of Gancayco, the Court of Tax Appeal issued a resolution ordering the cancellation of the sale and directing that the same be readvertised at a future date, in accordance with the procedure established by the National Internal Revenue Code. Subsequently, he filed an amended petition praying for the Court to allow the deduction of entertainment, representation and farming expenses.

ISSUE: Whether the sum his claim for deduction of two (2) items, namely: (a) for farming expenses, P27,459.00; and (b) for representation expenses, P8,933.45 be allowed No. Cohan Rule Principle states that if there is showing that expenses have been 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. Substantiation Rule on the other hand requires that before business or professional expenses are allowed as deductions from gross income, the taxpayer must satisfy the BIR that the deductions being claimed are indeed ordinary and necessary expenses incurred during the taxable year carrying on any trade or business. Gancayco's claim for representation expenses aggregated P31,753.97, of which P22,820.52 was allowed, and P8,933.45 disallowed. Such disallowance is justified by the record, for, apart from the absence of receipts, invoices or vouchers of the expenditures in question, petitioner could not specify the items constituting the same, or when or on whom or on what they were incurred. The case of Cohan v. Commissioner, cited by petitioner is not in point, because in that case there was evidence on the amounts spent and the persons entertained and the necessity of entertaining them, although there were no receipts and vouchers of the expenditures involved therein. Such is not the case of petitioner herein.

BAD DEBTS Philex Mining Corporation v. Commissioner of Internal Revenue GR No. 148187 April 16, 2008 On April 16, 1971, petitioner Philex Mining Corporation (Philex Mining), entered into an agreement with Baguio Gold Mining Company (Baguio Gold) for the former to manage and operate the latters mining claim, known as the Sto. Nino mine, located in Atok and Tublay, Benguet Province. The parties agreement was denominated as Power of Attorney and provided that within three (3) years from date thereof, the PRINCIPAL (Baguio Gold) shall make available to the MANAGERS (Philex Mining) up to ELEVEN MILLION PESOS (P11,000,000.00), in such amounts as from time to time may be required by the MANAGERS within the said 3-year period, for use in the MANAGEMENT of the STO. NINO MINE and that whenever the MANAGERS shall deem it necessary and convenient in connection with the MANAGEMENT of the STO. NINO MINE, they may transfer their own funds or property to the Sto. Nino PROJECT in accordance with their arrangements. However, the mine suffered continuing losses over the years which resulted to petitioners withdrawal as manager of the mine on January 28, 1982 and in the eventual cessation of mine operations on February 20, 1982 and thereafter the parties executed a Compromise with Dation in Payment wherein Baguio Gold admitted an indebtedness to petitioner in the amount of P179,394,000.00 and agreed to pay the same in three segments by first assigning Baguio Golds tangible assets to petitioner, transferring to the latter Baguio Golds equitable title in its Philodrill assets and finally settling the remaining liability through properties that Baguio Gold may acquire in the future. In 1982, the parties executed an Amendment to Compromise with Dation in Payment where the parties determined that Baguio Golds indebtedness to petitioner actually amounted to P259,137,245.00, which sum included liabilities of Baguio Gold to other creditors that petitioner had assumed as guarantor. Likewise in its 1982 annual income tax return, petitioner deducted from its gross income the amount of P112,136,000.00 as loss on settlement of receivables from Baguio Gold against reserves and allowances. However, the Bureau of Internal Revenue (BIR) disallowed the amount as deduction for bad debt and assessed petitioner a deficiency income tax of P62,811,161.39. ISSUE: Whether or not the alleged bad debts are deductible No. The requisites for a bad debt deduction were: (a) there was a valid and existing debt; (b) the debt was ascertained to be worthless; and (c) it was charged off within the taxable year when it was determined to be worthless.

The lower courts did not err in treating petitioners advances as investments in a partnership known as the Sto. Nino mine. The advances were not debts of Baguio Gold to petitioner inasmuch as the latter was under no unconditional obligation to return the same to the former under the Power of Attorney. As for the amounts that petitioner paid as guarantor to Baguio Golds creditors, Baguio Golds debts were not yet due and demandable at the time that petitioner paid the same. Verily, petitioner prepaid Baguio Golds outstanding loans to its bank creditors and this conclusion is supported by the evidence on record. Petitioner cannot claim the advances as a bad debt deduction from its gross income. Deductions for income tax purposes partake of the nature of tax exemptions and are strictly construed against the taxpayer, who must prove by convincing evidence that he is entitled to the deduction claimed. In this case, petitioner failed to substantiate its assertion that the advances were subsisting debts of Baguio Gold that could be deducted from its gross income. Consequently, it could not claim the advances as a valid bad debt deduction.