VI.

EXPENSES
BATCH 4 (TAX COMPILATION)
1. Republic vs Meralco 391 SCRA 700
Facts:
On December 23, 1993, MERALCO filed with ERB an application for the
revision of its rate schedules. The application reflected an average increase
of 21 centavos per kilowatt-hour (kwh) in its distribution charge. On January
28, 1994, the ERB issued an Order granting a provisional increase of P0.184
per kwh, subject tothe following condition: In the event, however, that the
Board finds, after hearing and submission by theCommission on Audit of an
audit report on the books and records of the applicant that the latter
isentitled to a lesser increase in rates, all excess amounts collected from the
applicants customers as aresult of this Order shall either be refunded to
them or correspondingly credited in their favor for application to electric bills
covering future consumptions.
In the same Order, the ERB requested the Commission on Audit (COA) to
conduct an audit and examination of the books and other records of account
and to submit a copy to the ERB immediately upon completion. On February
11, 1997, the COA submitted its Audit Report SAO No. 95-07 (the COA
Report) which contained the recommendation: 1.not to include income taxes
paid by MERALCO as part of its operating expenses for purposes of rate
determination and 2.not to include the use of the net average investment
method for the computation of the proportionate value of the properties used
by MERALCO during the test year for the determination of the rate base.
ERB rendered its decision adopting COAs recommendations and auhorized
MERALCO to implement a rate adjustment in the average amount of P0.017
per kwh, and the provisional relief in the amount of P0.184 per kilowatt-hour
is superseded and modified and the excess average amount of P0.167 be
refunded to the customers or correspondingly credited in their favor for
future consumption (from February 1994 to February 1998).
ERB held that income tax should not be treated as operating expense as this
should be borne by the stockholders who are recipients of the income or
profits realized from the operation of their business hence, should not be
passed on to the customers.

ERB also adopted COAs recommendationin computing the rate base which
should only include the proportionate value of the property, determined in
accordance with the number of months the same was actually used in
service during the test year.
Issues:
1. Whether or not the income tax paid by MERALCO should be treated as
part of its operating expenses (and thus considered in determining the
amount of increase in rates imposed by MERALCO)?
2. Whether or not the net average method used by COA and the ERB
should be adopted, and not the average investment method used by
MERALCO?
Ruling:
1) No, income tax should not be included in the computation of operating
expenses of public utility. Income tax paid by a public utility is inconsistent
with the nature of operating expenses. In general, operating expenses are
those which are reasonably incurred in connection with business operations
to yield revenue or income. They are items of expenses which contribute or
are attributable to theproduction of income or revenue. As correctly put by
the ERB, operating expenses should be a requisiteof or necessary in the
operation of a utility, recurring, and that itredounds to the service or benefit
of customers.
Income tax is imposed on an individual or entity as a form of excise tax or a
tax on the privilege of earning income. In exchange for the protection
extended by the State to the taxpayer, the government collects taxes as a
source of revenue to finance its activities. Clearly, by its nature, income tax
payments of a public utility are not expenses which contribute to or are
incurred in connection with the production of profit of a public utility. Income
tax should beborne by the taxpayer alone as they are payments made in
exchange for benefits received by the taxpayer from the State. No benefit is
derived by the customers of a public utility for the taxes paid by such entity
and no direct contribution is made by the payment of income tax to the
operation of a public utility for purposes of generating revenue or profit.
Accordingly,the burden of paying income tax should be Meralcos alone and
should not be shifted to the consumers by including the same in the
computation of its operating expenses. The principle behind the inclusion of
operating expenses in the determination of a just and reasonable rate is to

allow the public utility to recoup the reasonable amount of expenses it has
incurred in connection with the service it provides. It does not give the public
utility the license to indiscriminately charge any and all types of expenses
incurred without regard to the nature thereof, i.e., whether or not the
expense if attributable to the production of services by the public utility. To
charge consumers for expenses incurred by a public utility which are not
related to the service or benefit derived by the customers from the public
utility is unjustified and inequitable.
Explanation given by the Court : The regulation of rates to be charged by
public utilities is founded upon the police powers of the State. When private
property is used for a public purpose and is affected with public interest, it
ceases to be jurisprivati and becomes subject to regulation. In regulating
rates charged by public utilities, the State protects the public against
arbitrary and excessive rates. However, the power to regulate rates does not
give the State the right to prescribe rates which are so low as to deprive the
public utility of a reasonable return on investment. The rates must be one
that yields a fair return and one that is reasonable to the public for the
services rendered. In the case of Southwestern Bell Tel Co. v. Public Service
Commission, it was held that charges to the public shall be reasonable since
the company is thesubstitute for the State in the performance of the public
service, thus becoming a public servant.
Who determines whether rates fixed are reasonable? The judiciary; it is
purely judicial question and is subject to the review of the courts. Implied
standard in fixing rates: rate be reasonable and just. The requirement of
reasonableness comprehends such rates which must not be so low as to be
confiscatory, or too high as to be oppressive. In determining whether a rate
is confiscatory, it is essential also to consider the given situation,
requirements and opportunities of the utility. Three (3) major factors I n
determining the just and reasonable rates to be charged by a public utility:
1.rate of return judgment percentage which, if multiplied with the rate base,
provides a fair return on the public utility for the use of its property for
service to the public. Prescribed by administrative and judicial
pronouncements.
2.rate base evaluation of the property devoted by the utility to the public
service or the value of invested capital or property which the utility is
entitled to a return.

3.return itself or the computed revenue to be earned by the public utility

based on the rate of return and rate base In determining whether or not a
rate yields a fair return to the utility, the operating expenses of the utility
must be considered. The return must be sufficient to provide for the payment
of such reasonable operating expenses incurred by the public utility.
2) The Net Average Investment Method used by the ERB and COA should be
adopted. In the determination of the rate base, property used in the
operation must be subject to appraisal and evaluation. Under the net
average investment method, properties and equipment used in the operation
are entitled to a return only on the actual number of months they are in
service. In contrast, theaverage investment method computes the
proportionate value of the property by adding the value of the property at
the beginning and at the end of the test year with the resulting sum divided
by two. By using the net average investment method, the ERB and COA
considered for determination of the rate base the value of properties and
equipment used by MERALCO in proportion to the period that the same were
actually used during the period in question. This treatment is consistent with
the rule that the determination of the rate base of a public utility must be
based on properties and equipment actually being used or are useful to the
operation of the public utility. Further, computing the proportionate value of
assets used in service in accordance with the actual number of months the
same is used during the test year is a more accurate method of determining
the value of the properties of a public utility entitled to a return. If the Court
sustains the application of the trending method or the average investment
method, the public utility may easily manipulate the valuation of its property
entitled to a returnby simply including a highly capitalized assed even if the
same was used for a limited period of time. With the inexactness of the
trending method and the possibility that the valuation may be subject to the
control of and abuse by the public utility, the Court finds no reasonable basis
to overturn the recommendation of COA and ERB.
2. ESSO vs CIR
Facts:
ESSO deducted from its gross income for 1959, as part of its ordinary and
necessary business expenses, the amount it had spent for drilling and
exploration of its petroleum concessions. The Commissioner disallowed the
claim on the ground that the expenses should be capitalized and might be

written off as a loss only when a dry hole should result. Hence, ESSO filed
an amended return where it asked for the refund of P323,270 by reason of its
abandonment, as dry holes, of several of its oil wells. It also claimed as
ordinary and necessary expenses in the same return amount representing
margin fees it had paid to the Central Bank on its profit remittances to its
New York Office.
Issue:
Whether or not the margin fees paid by the petitioner be considered
necessary and ordinary business expenses and therefore still deductible from
its gross income.
Ruling:
No. In the case of Atlas Consolidated Mining and Development
Corporation v. Commissioner of Internal Revenue, 4 the Court laid down the
rules on the deductibility of business expenses. To be deductible as a
business expense, three conditions are imposed mainly. (1) The expense
must be ordinary and necessary, (2) it must be paid or incurred within the
taxable year, and (3) it must be paid or incurred in carrying on a trade or
business. In addition, not only must the taxpayer meet the business test, he
must substantially prove by evidence or records the deductions claimed
under the law, otherwise, the same will be disallowed.
ESSO has not shown that the remittance to the head office of part of its
profits was made in furtherance of its own trade or business. The petitioner
merely presumed that all corporate expenses are necessary and appropriate
in the absence of a showing that they are illegal or ultra vires. This is error.
The public respondent is correct when it asserts that "the paramount rule is
that claims for deductions are a matter of legislative grace and do not turn
on mere equitable considerations The taxpayer in every instance has the
burden of justifying the allowance of any deduction claimed."
It is clear that ESSO, having assumed an expense properly attributable
to its head office, cannot now claim this as an ordinary and necessary
expense paid or incurred in carrying on its own trade or business.
3. AGUINALDO vs. CIR,112 SCRA 149
Expenses- Services actually rendered
FACTS:

Aguinaldo Industries is engaged in the manufacture of fishing nets (a tax

exempt industry), which is handled by its Fish Nets Division. It is also
engaged in the manufacture of furniture which is operated by its Furniture
Division. Each division is provided with separate books of accounts. The
income from the Fish Nets Division, miscellaneous income of the Fish Nets
Division, and and the income from the Furniture Division are computed
individually. Petitioner acquired a parcel of land in Muntinlupa Rizal as site for
its fishing net factory. The transaction was entered in the books of the Fish
Nets Division. The company then found another parcel of land in Marikina
Heights, which was more suitable. They then sold the Muntinlupa property
and the profit derived from the sale was entered in the books of the Fish Nets
Division as miscellaneous income to separate it from its tax exempt income.
For 1957, petitioner filed 2 separate ITRs (one for Fish Nets and one for
Furniture). After investigation, BIR examiners found that the Fish Nets Div
deducted from its gross income PhP 61k as additional remuneration paid to
the companys officers. Such amount was taken from the sale of the land and
was reported as part of the selling expenses.
The examiners recommended that such deduction be disallowed. Petitioner
then asserted in its letter that it should be allowed because it was paid as
bonus to its officers pursuant to Sec.3 of its by-laws: From the net profits
shall be deducted for allowance of the Pres. - 3%, VP - 1%, members of the
Board - 10%. CTA imposed a 5% surcharge and 1% monthly interest for the
deficiency assessment. Petitioner then stressed that the profit derived from
the sale of the land is not taxable because the Fish Nets Div enjoys tax
exemption under RA 901.
ISSUES:
(1) Whether the bonus given to the officers of the petitioner upon the sale
of its Muntinlupa land is an ordinary and necessary business expense
deductible for income tax purposes; and
(2) Whether petitioner is liable for surcharge and interest for late
payment.
RULING:
1) YES. These extraordinary and unusual amounts paid by petitioner to these
directors in the guise and form of compensation for their supposed services

as such, without any relation to the measure of their actual services, cannot
be regarded as ordinary and necessary expenses within the meaning of the
law. This posture is in line with the doctrine in the law of taxation that the
taxpayer must show that its claimed deductions clearly come within the
language of the law since allowances, like exemptions, are matters of
legislative grace.
Moreover, petitioner cannot now claim that the profit from the sale is tax
exempt. At the administrative level, the petitioner implicitly admitted that
the profit it derived from the sale of its Muntinlupa land, a capital asset, was
a taxable gain which was precisely the reason why for tax purposes the
petitioner deducted therefrom the questioned bonus to its corporate officers
as a supposed item of expense incurred for the sale of the said land, apart
from the P51,723.72 commission paid by the petitioner to the real estate
agent who indeed effected the sale. The BIR therefore had no occasion to
pass upon the issue. To allow a litigant to assume a different posture when
he comes before the court and challenge the position he had accepted at the
administrative level, would be to sanction a procedure whereby the court
which is supposed to review administrative determinations would not
review, but determine and decide for the first time, a question not raised at
the administrative forum.
The requirement of prior exhaustion of administrative remedies gives
administrative authorities the prior opportunity to decide controversies
within its competence, and in much the same way that, on the judicial level,
issues not raised in the lower court cannot be raised for the first time on
appeal. Up to the time the questioned decision of the respondent Court was
rendered, the petitioner had always implicitly admitted that the disputed
capital gain was taxable, although subject to the deduction of the bonus paid
to its corporate officers. It was only after the said decision had been
rendered and on a motion for reconsideration thereof, that the issue of tax
exemption was raised by the petitioner for the first time. It was thus not one
of the issues raised by petitioner in his petition and supporting memorandum
in the CTA.
2) YES. Interest and surcharges on deficiency taxes are imposable upon
failure of the taxpayer to pay the tax on the date fixed in the law for the
payment thereof, which was, under the unamended Section 51 of the Tax
Code, the 15th day of the 5th month following the close of the fiscal year in
the case of taxpayers whose tax returns were made on the basis of fiscal
years. A deficiency tax indicates non-payment of the correct tax, and such

deficiency exists not only from the assessment thereof but from the very
time the taxpayer failed to pay the correct amount of tax when it should
have been paid and the imposition thereof is mandatory even in the absence
of fraud or willful failure to pay the tax is full.

4. Philippine Refining Co. v. CA-June Lacpao

Facts:
Philippine Refining Corp (PRC) was assessed deficiency tax payments for the
year 1985 in the amount of around 1.8M. This figure was computed based on
the disallowance of the claim of bad debts by PRC. PRC duly protested the
assessment claiming that under the law, bad debts and interest expense are
allowable deductions.
When the BIR subsequently garnished some of PRCs properties, the latter
considered the protest as being denied and filed an appeal to the CTA which
set aside the disallowance of the interest expense and modified the
disallowance of the bad debts by allowing 3 accounts to be claimed as
deductions. However, 13 supposed bad debts were disallowed as the CTA
claimed that these were not substantiated and did not satisfy the
jurisprudential requirement of worthlessness of a debt The CA denied the
petition for review.
Issue: Whether or not the CA was correct in disallowing the 13 accounts as
bad debt?
Ruling:
Yes. Both the CTA and CA relied on the case of Collector vs. Goodrich
International, which laid down the requisites for worthlessness of a debt;
In said case, we held that for debts to be considered as "worthless," and
thereby qualify as "bad debts" making them deductible, the taxpayer should
show that (1) there is a valid and subsisting debt. (2) the debt must be
actually ascertained to be worthless and uncollectible during the taxable
year; (3) the debt must be charged off during the taxable year; and (4) the
debt must arise from the business or trade of the taxpayer. Additionally,
before a debt can be considered worthless, the taxpayer must also show that
it is indeed uncollectible even in the future.

Furthermore, there are steps outlined to be undertaken by the taxpayer to

prove that he exerted diligent efforts to collect the debts, viz.: (1) sending of
statement of accounts; (2) sending of collection letters; (3) giving the
account to a lawyer for collection; and (4) filing a collection case in court.
PRC only used the testimony of its accountant Ms.Masagana in order to prove
that these accounts were bad debts. This was considered by all 3 courts to
be self-serving. The SC said that PRC failed to exercise due diligence in order
to ascertain that these debts were uncollectible. In fact, PRC did not even
show the demand letters they allegedly gave to some of their debtors.
5. China Banking vs. CA- Christal
Facts: China Banking Corporation made an equity investment (bought shares
of stock) from the First CBC Capital, its subsidiary. Eventually, the First CBC
Capital became insolvent .Since the stocks became worthless, China Banking
then treated the loss as a bad debt or as an ordinary loss which is deductible
from its gross income. The CIR disallowed the deduction and asked China
Banking to pay income tax deficiency.
Issue: Can the loss obtained from the worthless stocks be deducted from the
gross income?
Ruling: No. The taxpayer can have deductions from his gross income to
lessen his tax liability. Among the possible deductions are bad debts and
losses. However, equity investments is considered a capital asset under
Section33(1) of the NIRC. Under Section 33 a capital asset is something that
is not stocks in trade, goods in the inventory, property that will be sold to
customers or those that are used in the business. These would be called
ordinary assets. What is not included here falls under capital assets.
If one is engaged in purchasing or selling securities or an active trader, then
it is also considered an ordinary asset. But since what happened here was an
investment (China Banking was not an active trader), it is considered capital
asset under Section 33(1). Since it is a capital asset, any loss of it would be
called capital loss. The rule with capital loss is that it can only be deducted
from the capital gains (profits derived from capital assets). So it cannot be
deducted from the usual gross income. Hence, China Banking was mistaken
in subtracting the loss from the gross income when it should be subtracted
from the capital gains.
6. CIR vs. General Foods-Duron

FACTS:On June 14, 1985, respondent corporation filed its income tax return
for the fiscal year ending Feb 28, 1985. In the application, the amount of
9,461,246 as advertising expense for Tang was claimed as deduction. The
Commissioner disallowed 50% of the deduction claimed and as a
consequence, the respondent corporation was assessed deficient in income
taxes in the amount of 2,635,141.42. Respondent corporation filed an MOR
but was denied. Their appeal to the CTA was also dismissed. The decision
stated that the expense incurred was to create goodwill for the company.
Aggrieved, respondent corporation filed a petition for review at the Court of
Appeals which rendered a decision reversing and setting aside the decision
of the Court of Tax Appeals. Hence this petition.
ISSUES:Whether or not the subject media advertising expense for Tang
incurred by respondent corporation was an ordinary and necessary expense
fully deductible under the National Internal Revenue Code (NIRC)
RULING:No. To be deductible from gross income, the subject advertising
expense must comply with the following requisites: (a) the expense must be
ordinary and necessary; (b) it must have been paid or incurred during the
taxable year; (c) it must have been paid or incurred in carrying on the trade
or business of the taxpayer; and (d) it must be supported by receipts,
records or other pertinent papers.
The Court agreed with the Commissioner that the subject advertising
expense was not ordinary on the ground that it failed the two conditions set
by U.S. jurisprudence: first, reasonableness of the amount incurred and
second, the amount incurred must not be a capital outlay to create
goodwill for the product and/or private respondents business.
The subject expense for the advertisement of a single product is inordinately
large. Therefore, even if it is necessary, it cannot be considered an ordinary
expense deductible under then Section 29 (a) (1) (A) of the NIRC.
The Court agreed with the CTA that the expense was intended to generate
future sale of the merchandise or use of services in order to protect the
corporations brand franchise.

7. Gancaycovs CIR - Mamugay

Facts:

This case involves the validity of petitioner Gancaycos claim for tax
deduction of two items: 1) for farming expenses and 2) for representation
expenses.
On May 10, 1950, petitioner filed his income tax return for year 1949. On
May 12, 1950, CIR made assessment for petitioners income tax liability
amounting to P9,793.62 (1st assessment). On May 15, 1950, petitioner paid
the amount. On May 14, 1951, CIR informed petitioner that upon
investigation, he still need to pay for deficiency income tax worth P29,554.05
(2nd assessment). Petitioner sought for reconsideration and was partly
granted by CIR an on April 8, 1953, adjusted the amount to P16,860.31 (3 rd
assessment).
Issue: Is petitioner correct in claiming tax deductions for (a) for farming
expenses, P27,459.00; and (b) for representation expenses, P8,933.45?
Ruling:
No for both.
A) On farming expenses:
Section 30 of the Tax Code partly reads:
(a) Expenses:
(1) In General All the ordinary and necessary expenses paid or incurred
during the taxable year in carrying on any trade or business, including a
reasonable allowance for salaries or other compensation for personal
services actually rendered; traveling expenses while away from home in the
pursuit of a trade or business; and rentals or other payments required to be
made as a condition to the continued use or possession, for the purposes of
the trade or business, of property to which the taxpayer has not taken or is
not taking title or in which he has no equity.
Also, Section 31:
(a) General Rule In computing net income no deduction shall in any case
be allowed in respect of
(1) Personal, living, or family expenses;
(2) Any amount paid out for new buildings or for permanent improvements,
or betterments made to increase the value of any property or estate;

(3) Any amount expended in restoring property or in making good the

exhaustion thereof for which an allowance is or has been made; or xxx
In this case, petitioner failed to present evidence on the nature of farming
expense but only his bare statements that they were spent for cultivation
and development of his property. No specifications were provided.
Furthermore, as a consequence of Section 31, in computing net income, no
deduction shall be allowed for amount paid for new buildings or permanent
improvements or betterments to increase value of property.
The cost of farm machinery, equipment and farm building represents capital
investment and is not an allowable deduction as expense. Thus, the farming
expenses for clearing and developing the farm which was necessary for the
land to be productive, were not ordinary expenses but a capital expenditure.
Note: To be covered under Section 30 as ordinary and necessary expenses,
an item of expenditure must fall squarely within the statutory provision.
That is: expenditures of a recurring nature and the benefit from such is
realized and exhausted within the taxable year. If the benefit is acquisition of
an asset, its use is already beyond the taxable year and is not covered by
Sec. 30.
B. On representation expenses:
Petitioner claims 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.
8. CIR vs CTA , G.R. No. L-54108 January 17, 1984
FACTS: Smith Kline and French Overseas Companyis a multinational firm
domiciled in Philadelphia, Pennsylvania, and licensed to do business in the
Philippines. It is engaged in the importation, manufacture and sale of
pharmaceuticals drugs and chemicals. In its 1971 original income tax return,
Smith Kline declared a net taxable income of P1,489,277 and paid P511,247
as tax due. Among the deductions claimed from gross income was P501,040
as its share of the head office overhead expenses. However, in its amended
return filed on March 1, 1973, there was an overpayment of P324,255
"arising from underdeduction of home office overhead. It made a formal
claim for the refund of the alleged overpayment.

On April 2, 1974, without awaiting the action of the CIR on its claim Smith
Kline filed a petition for review with the CTA.The Tax Court ordered the
Commissioner to refund the overpayment or grant a tax credit to Smith
Kline.
ISSUE: Whether or not Smike Kline is entitled for tax credit or refund from its
overpayment?
Held: Yes. Where an expense is clearly related to the production of Philippinederived income or to Philippine operations (e.g. salaries of Philippine
personnel, rental of office building in the Philippines), that expense can be
deducted from the gross income acquired in the Philippines without resorting
to apportionment.
The overhead expenses incurred by the parent company in connection with
finance, administration, and research and development, all of which direct
benefit its branches all over the world, including the Philippines, fall under a
different category however. These are items which cannot be definitely
allocated or Identified with the operations of the Philippine branch.
Under section 37(b) of the Revenue Code and section 160 of the regulations,
Smith Kline can claim as its deductible share a ratable part of such expenses
based upon the ratio of the local branch's gross income to the total gross
income, worldwide, of the multinational corporation.
National Internal Revenue Code
SEC. 37. Income form sources within the Philippines.
(b) Net income from sources in the Philippines. From the items of gross
income specified in subsection (a) of this section there shall be deducted the
expenses, losses, and other deductions properly apportioned or allocated
thereto and a ratable part of any expenses, losses, or other deductions which
cannot definitely be allocated to some item or class of gross income. The
remainder, if any, shall be included in full as net income from sources within
the Philippines.
Revenue Regulations No. 2 of the Department of Finance:
SEC. 160. Apportionment of deductions. From the items specified in
section 37(a), as being derived specifically from sources within the
Philippines there shall be deducted the expenses, losses, and other
deductions properly apportioned or allocated thereto and a ratable part of
any other expenses, losses or deductions which can not definitely be

allocated to some item or class of gross income. The remainder shall be

included in full as net income from sources within the Philippines. The ratable
part is based upon the ratio of gross income from sources within the
Philippines to the total gross income.

9. CIR v. Central Luzon Drug, G.R. No. 148512

FACTS: In 1995, Central Luzon Drug Corporation opened 3 drugstores as a
franchisee under the business name and style of Mercury Drug. For January December 1995, by the mandate of Sec. 4(a)* of R.A. No. 7432, petitioner
granted a 20% discount on the sale of medicines to qualified senior citizens
amounting to P 219,778. Pursuant to Revenue Regulations No. 2-94
implementing R.A. No. 7432, which states that the discount given to senior
citizens shall be deducted by the establishment from its gross sales for
value-added tax and other percentage tax purposes, respondent deducted
the total amount of P 219,778 from its gross income. For taxable year 1995,
respondent reported a net loss of P 20,963 in its corporate income tax return
and so did not pay income tax for 1995. Then on December 27, 1996,
claiming that according to Sec. 4(a) of R.A. No. 7432, the amount of P
219,778 should be applied as a tax credit, respondent filed a claim for refund
in the amount of P 150,193.Since CIR was not able to decide on time,
respondent filed a Petition for Review with the CTA.
CTA dismissed the petition, declaring that even if the law treats the 20%
sales discounts as a tax credit, it cannot apply when there is no tax liability
or the amount of the tax credit is greater than the tax due. In the latter case,
the tax credit will only be to the extent of the tax liability. tate that a refund
can be claimed by the private establishment concerned as an alternative to
the tax credit.
CA granted petition and concluded that the 20% discount to senior citizens
which is treated as a tax credit pursuant to Sec. 4(a) of R.A. No. 7432 is
considered just compensation and may be carried over to the next taxable
period if there is no current tax liability.
*Note:
Sec. 4(a) of R.A. No. 7432:
Sec. 4. Privileges for the Senior citizens. The senior citizens shall be entitled
to the following:

(a) the grant of twenty percent (20%) discount from all establishments
relative to utilization of transportations services, hotels and similar lodging
establishments, restaurants and recreation centers and purchase of
medicines anywhere in the country: Provided ,That private establishments
may claim the cost as tax credit.
ISSUE: Is the 20% sales discount granted to senior citizens a tax credit or as
a deduction from gross sales?
HELD: Tax credit.
The CA and the CTA correctly ruled that based on the plain wording of the
law, discounts given under R.A. No. 7432 should be treated as tax credits,
NOT deductions from income. The provision (see note above) explicitly
employed the word tax credit. The definition of tax credit found in Section
2(1) of Revenue Regulations No. 2-94 is erroneous as it refers to tax credit as
the amount representing the 20% discount that shall be deducted by the
said establishment from their gross sales for value added tax and other
percentage tax purposes. This definition is contrary to what the lawmakers
had envisioned. The law cannot be amended by a mere regulation. The
administrative agencies issuing these regulations may not enlarge, alter or
restrict the provisions of the law they administer.
ISSUE #2: Should tax credit be granted then?
HELD: Yes.
Sec. 229 of the Tax Code does not apply to cases under Sec. 4 of R.A. No.
7432 because the former governs exclusively all kinds of refund or credit of
internal revenue taxes that were erroneously or illegally imposed and
collected; while the latter extends the tax credit benefit to the private
establishments concerned even before tax payments have been made.
Unlike in Sec. 229 where the remedy of refund is available to the taxpayer,
Sec. 4 of the law speaks only of a tax credit, NOT a refund. This tax credit is a
form of just compensation for private property taken by the State for public
use. The privilege enjoyed by the senior citizens does not come directly from
the State, but from the private establishments. Prior payment of any tax
liability is not a precondition before a taxable entity can benefit from the tax
credit. The credit may be availed of upon payment of the tax due, if any.
Where there is no tax liability or where a private establishment reports a net
loss for the period, the tax credit can be availed of and carried over to the
next taxable year.

Petition is DENIED.
10. Pansacola vs. CIR (Personal exemption, Taxable year)
507 SCRA 81-GALLO
FACTS: On April 13, 1998, petitioner Pansacola filed his income tax return for
the taxable year 1997 that reflected an overpayment of P5,950. In it he
claimed the increased amounts of personal and additional exemptions under
Section 35 of the National Internal Revenue Code of 1997, although his
certificate of income tax withheld on compensation indicated the lesser
allowed amounts on these exemptions. He claimed a refund of P5,950 with
the BIR, which was denied. Later, the CTA also denied his claim saying, "it
would be absurd for the law to allow the deduction from a taxpayers gross
income earned on a certain year of exemptions availing on a different
taxable year" On appeal, the CA denied his petition for lack of merit stating
that the NIRC took effect on January 1, 1998, thus the increased exemptions
were effective only to cover taxable year 1998 and cannot be applied
retroactively.
Petitioner argues that the personal and additional exemptions are of a fixed
character based on Section 35 (A) and (B) of the NIRC and as ruled by this
Court in Umali, these personal and additional exemptions are fixed amounts
to which an individual taxpayer is entitled and that unlike other allowable
deductions, the availability of these exemptions does not depend on the
taxpayers profession, trade or business for a particular taxable period.
Respondent counters that the increased exemptions were not yet available
for taxable year 1997 because all provisions of the NIRC took effect on
January 1, 1998 only and that the fixed character of personal and additional
exemptions does not necessarily mean that these were not time bound.
ISSUE: Could the exemptions under Section 35 of the NIRC, which took effect
on January 1, 1998, be availed of for the taxable year 1997?
RULING: No. Section 45 provides that the deductions provided for under Title
II of the NIRC shall be taken for the taxable year in which they are "paid or
accrued" or "paid or incurred." At the time petitioner filed his 1997 return
and paid the tax due thereon in April 1998, the increased amounts of
personal and additional exemptions in Section 35 were not yet available. It
has not yet accrued as of December 31, 1997, the last day of his taxable
year. Petitioners taxable income covers his income for the calendar year
1997. The law cannot be given retroactive effect. It is established that tax
laws are prospective in application, unless it is expressly provided to apply

retroactively. In the NIRC, we note, there is no specific mention that the

increased amounts of personal and additional exemptions under Section 35
shall be given retroactive effect. Conformably too, personal and additional
exemptions are considered as deductions from gross income. Deductions for
income tax purposes 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.
Definition of keywords for this case: (Personal exemptions, Taxable year) *in
case maam will ask
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. 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.
Taxable year means the calendar year, upon the basis of which the net
income is computed under Title II of the NIRC.