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INCOME TAX In the 1997 National Internal Revenue Code

INCOME TAX IN THE 1997 NATIONAL INTERNAL REVENUE CODE

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Table of Contents

A. In General .................................................................................................................. 5 Taxable Income ........................................................................................................................5

Madrigal vs. Rafferty ........................................................................................................................... 5 Fisher vs. Trinidad ................................................................................................................................6 Limpan Investment Corporation vs. Commissioner of Internal Revenue........................................ 7 Conwi vs. Court of Tax Appeals..........................................................................................................8

B. General Principles ...................................................................................................... 9 C. Income Tax on Individuals ........................................................................................ 9

Definitions ................................................................................................................................9 Resident citizens and resident aliens..................................................................................................9

GARRISON VS. COURT OF APPEALS ...........................................................................................................9 Non-resident citizens ......................................................................................................................... 10

RR 1-79............................................................................................................................................... 11 RR-5-01 .............................................................................................................................................. 11 BIR RULING 33-00................................................................................................................................ 11

Non-resident aliens engaged in business in the Philippines ........................................................... 11 Head of Family.....................................................................................................................................12 Dependent ...........................................................................................................................................12

Kind of Income and Income Tax of Individuals.....................................................................12 Tax Formula .........................................................................................................................................12 Final Income Tax – Interests, Royalties, Awards, Dividends, Capital Gains on Shares, Realty .....13

RR 10-98 ............................................................................................................................................15 RR 2-82 ..............................................................................................................................................15 RR 8-98..............................................................................................................................................17 RR 13-99............................................................................................................................................ 19 RR 14-2000 ....................................................................................................................................... 20 RR 4-99............................................................................................................................................. 20

Personal and Additional Exemptions ............................................................................................... 22 Change of Status ................................................................................................................................ 23 Personal Exemption Allowable to Nonresident Alien Individuals ................................................. 23 Optional Standard Deduction ........................................................................................................... 23 Premium Payments on Health and/or Hospitalization Insurance .................................................. 24

Tax on Non-Resident Aliens .................................................................................................. 24 Engaged in business in the Philippines ............................................................................................ 24 Not engaged in business in the Philippines..................................................................................... 25 Special Aliens...................................................................................................................................... 25

D. Definitions ............................................................................................................... 26 E. Corporations ............................................................................................................ 29

Pascual vs. Commissioner of Internal Revenue.................................................................... 29 Obillos vs. Commissioner (139 SCRA 436) .............................................................................30 Oña vs CIR (25 SCRA 74)..........................................................................................................31 BIR Ruling No. 317-92...............................................................................................................31

E. Income Tax Rates ..................................................................................................... 32 F. Proprietary Educational Institutions and Hospitals ............................................... 32

Finance Department Order # 137-87...................................................................................... 32 Notes ....................................................................................................................................... 33

RMC 76-03 ........................................................................................................................................... 33


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NON-STOCK, NON-PROFIT CORPORATIONS............................................................................................... 33 NON-STOCK, NON-PROFIT EDUCATIONAL INSTITUTIONS ............................................................................. 33

Income Tax Rules on Regional Headquarters of Multinational Companies ...................... 34 Dept Order No. 149-95 ........................................................................................................... 35

G. GOCCs ...................................................................................................................... 35 H. Passive Income ........................................................................................................ 35

Interest, Deposit Substitute, Royalties ................................................................................. 35 Sale of shares ......................................................................................................................... 35 FCDU........................................................................................................................................ 36 RR 10-98 .................................................................................................................................. 36 Intercorporate Dividends.......................................................................................................36

Comm. v. Manning, 66 SCRA 14 ........................................................................................................ 36 Sale of Realty.......................................................................................................................... 37

Capital Gains from the sale of Real Property................................................................................... 37 RR No. 4-99, 9 March 1999 ................................................................................................................. 38

I. Minimum Corporate Income Tax ............................................................................. 39 RR 9-98....................................................................................................................................40

J. Income Tax on Resident Foreign Corporations .......................................................41 In General ............................................................................................................................... 43 International Carrier .............................................................................................................. 43

CIR vs. BOAC ....................................................................................................................................... 43 RR 15-02 ............................................................................................................................................... 45

OBUs/FCDUs ...........................................................................................................................48 RR 14-77................................................................................................................................................48 RR 10-98...............................................................................................................................................48

Branch Profit Remittance Tax................................................................................................49 Bank of America vs. CA......................................................................................................................49 CIR vs. Burroughs Ltd. ........................................................................................................................50 Cia General de Tabacos de Filipinas vs. CIR (CTA 4141) ...................................................................50 Cia General de Tabacos de Filipinas vs. CIR (CTA 4451)....................................................................51

Regional or Area Headquartes and ROHQs ......................................................................... 51 Tax on Certain Incomes of Resident Foreign Corporations ................................................ 51 Interest, Deposit Subsitutes, Royalties, FCDU, Sales of Shares .......................................... 52 Intercorporate Dividends....................................................................................................... 52

K. Income Tax on Non Resident Foreign Corporations ............................................. 52 In General ............................................................................................................................... 53

CIR vs. SC Johnson and Sons ............................................................................................................. 53 Marubeni vs. CIR................................................................................................................................. 53 The rules.............................................................................................................................................. 54 NV Reederij “Amsterdam” and Royal Interocean Lines vs. CIR ...................................................... 55

Special Non-Resident Foreign Corporations ........................................................................ 55 Tax on Certain Incomes of Non-Resident Foreign Corporations ........................................ 55

Interest on Foreign Loans.................................................................................................................. 55 Intercorporate Dividends................................................................................................................... 55

BIR RULING 8-00 ................................................................................................................................ 55 Income Covered by Tax Treaties .......................................................................................................56

ITAD RULING 102-02 ..........................................................................................................................56 Capital Gains...........................................................................................................................56

L. Improperly Accumulated Earnings Tax................................................................... 56


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The Manila Wine Merchants, Inc. vs. CIR.......................................................................................... 57 CIR vs. Tuason.....................................................................................................................................58 Cyanamid Philippines vs. Court of Appeals .....................................................................................60

RR 2-01.....................................................................................................................................60 BIR Ruling 25-02...................................................................................................................... 61

M. Tax Exempt Corporations ...................................................................................... 62 CIR vs. V.G. Sinco Educational Corporation...................................................................................... 63

Executive Order 226, Article 39 .............................................................................................63 Republic Act 7916, Sections 23-25..........................................................................................65

N. Taxable Income ....................................................................................................... 66 O. Gross Income........................................................................................................... 66

Inclusions ................................................................................................................................66 Compensation ........................................................................................................................ 67 Business Income ..................................................................................................................... 67 Gains ....................................................................................................................................... 67

Rules on Capital Gains and Losses .................................................................................................... 67 Sale and Exchange ............................................................................................................................. 67

Interests ..................................................................................................................................68 Filinvest Development Corporation and Filinvest Alabang, Inc. vs. CIR........................................68 RMO 63-99 ..........................................................................................................................................69

Rents .......................................................................................................................................69 Section 49, RR2 ...................................................................................................................................69

Royalties ................................................................................................................................. 70 Dividends................................................................................................................................ 70

Section 250-256 RR2 ........................................................................................................................... 70 CIR vs. CA and Soriano....................................................................................................................... 72

GENERAL RULE .................................................................................................................................... 73 THE EXCEPTION ................................................................................................................................... 74 REDEMPTION AND CANCELLATION ......................................................................................................... 74 EXCHANGE OF COMMON AND PREFERRED SHARES ................................................................................... 76

CIR vs. Manning.................................................................................................................................. 76 Wise & Co., Inc. vs. Meer.................................................................................................................... 77 BIR Ruling 322-87 ................................................................................................................................ 78

Annuities.................................................................................................................................78 Prizes and Winnings...............................................................................................................78 Pensions .................................................................................................................................. 79 Share in GPP’s income............................................................................................................ 79 From whatever source ...........................................................................................................79

Section 50, RR2 ................................................................................................................................... 79 RMC 13-80............................................................................................................................................ 79

Exclusions ...............................................................................................................................80 Retirement benefits, pensions, gratuitites, etc....................................................................82

CIR vs. CA and GCL Retirement Plan .................................................................................................82 CIR vs. CA and Castaneda ..................................................................................................................83 Re: Request of Atty Bernardo Zialcita ..............................................................................................84 Republic Act 4917................................................................................................................................85 Republic Act 7833 ...............................................................................................................................85

RR 2-95 .............................................................................................................................................85 RMC 36-94........................................................................................................................................86

Income Derived by foreign government ..............................................................................86


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CIR vs. Mitsubishi Metal Corporation ...............................................................................................86

A. In General

Taxable Income

Madrigal vs. Rafferty

Vicente Madrigal married Susana Paterno under a conjugal partnership regime. Their gross profits for 1914 were in three categories:

• P362,407.67, the profits made by Vicente Madrigal in his coal and shipping business; • P4,086.50, the profits made by Susana Paterno in her embroidery business; • P16,687.80, the profits made by Vicente Madrigal in a pawnshop company.

These incomes totaled P383,181.97. General deductions were claimed and allowed in the sum of P86,879.24, resulting in a net income of P296,302.73, which was filed by Madrigal in his tax return as his own net income for 1914.

After the filing, Madrigal claimed that the amount he had filed did not represent his income for the year 1914, but was in fact the income of his conjugal partnership, and that in computing and assessing the additional income tax, the income declared by Vicente Madrigal should have been divided into two equal parts, one-half to be considered his income and the other half to be considered as his wife’s.

If this scheme were to be followed, the spouses Madrigal should each pay the sum of P2,921.09, for a total of P5,842.18 instead of the P9,668.21, that he paid, for an excess of P3,786.08.

Rafferty, as the Collector of Internal Revenue, countered that the taxes imposed by the Income Tax Law are as the name implies taxes upon income tax and not upon capital and property. He argued further that the fact of marriage had no bearing on income considered as income, and that the distinction must be drawn between the ordinary form of commercial partnership and the conjugal partnership of spouses resulting from the relation of marriage.

The Attorney-General issued an opinion in favor of Madrigal, but the US Commissioner of Internal Revenue reversed. Madrigal paid under protest and filed an action for recovery in CFI-Manila.

Should the income tax be divided into two equal parts, because of the conjugal partnership existing between them?

The Court held against the spouses Madrigal.

Prior to the liquidation of the marriage, the interest of the wife and in case of her death, of her heirs, is a mere expectancy, which does not ripen into title until there appears that there are assets in the community as a result of the liquidation and settlement.

Not being seized of a separate estate, Susana Paterno cannot make a separate return in order to receive the benefit of the exemption which would arise by reason of the additional tax.

As she has no estate and income, actually and legally vested in her and entirely distinct from her husband's property, the income cannot properly be considered the separate income of the wife for the purposes of the additional tax. The separate estate of a married woman within the contemplation of the Income Tax Law is that which belongs to her solely and separate and apart from her husband, and over which her husband has no right in equity. It may consist of lands or chattels.


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The Income Tax Law does not look on the spouses as individual partners in an ordinary partnership. The husband and wife are only entitled to the exemption of P8,000 specifically granted by the law.

Fisher vs. Trinidad

Philippine American Drug Company was founded in 1919 in Manila. Frederick Fisher was a stockholder in this company, and that year he received a dividend of P24,800.00. Fisher paid, under protest, P889.91 as income tax on said stock dividend.

Fisher filed an action to recover this amount, while Wenceslao Trinidad, the Collector of Internal Revenue, demurred on lack of cause of action. The demurrer was sustained and the case was brought to the High Court.

Fisher cited American jurisprudence where an effort was made to collect an "income tax" upon "stock dividends" and in each case it was held that "stock dividends" were capital and not an "income" and therefore not subject to the "income tax" law.

Are the "stock dividends" taxable as income under the provisions of §25 of Act No. 2833?

Bouvier argues that the term “income”, in taxation, should be used in its common or ordinary meaning and not in its technical, or economic sense.

• The New Standard Dictionary (1915) defines income as the amount of money coming to a person or corporation within a specified time whether as payment or compensation within a specified time whether as payment for services, interest, or profit from investment.

• Webster's defines income as "the receipt, salary; especially, the annual receipts of a private person or a corporation from property."

• Black defines income as “the return in money from one's business, labor, or capital invested; gains, profit or private revenue." "An income tax is a tax on the yearly profits arising from property , professions, trades, and offices."

The stockholder who receives a stock dividend has received nothing but a representation of his increased interest in the capital of the corporation. All the property or capital of the corporation still belongs to the corporation. A certificate of stock represented by the stock dividend is simply a statement of his proportional interest or participation in the capital of the corporation. A corporation, by issuing stock dividends, acknowledges a liability in form to the stockholders, evidenced by a capital stock account. It simply shows that there has been an increase in the amount of the capital of the corporation during the particular period, which may be due to an increased business or to a natural increase of the value of the capital due to business, economic, or other reasons.

Such a person receiving dividends is in the same position, so far as his income is concerned, as the owner of young domestic animal, one year old at the beginning of the year, which is worth x and, which, at the end of the year, and by reason of its growth, is worth 2x. It is true that he had taxable property at the beginning of the year of the value of x, and the same taxable property at another period, of the value of 2x, but he has had no income in the common sense of that word. The increase in the value of the property should be taken account of on the tax duplicate for the purposes of ordinary taxation, not as income.

The Court held that when the Legislature provided for an "income tax," it intended to tax only the "income" of corporations, firms or individuals, as that term is generally used; that is that the income means money received, coming to a person or corporation for services, interest, or profit from investments.

A mere increase in the value of the capital or assets of a corporation, firm, or individual, should not be taxed as income. Such property can be reached under the ordinary from of taxation.


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Limpan Investment Corporation vs. Commissioner of Internal Revenue

Limpan Investment, founded in 1955, is in the business of leasing real property. Its principal stockholders are the spouses Isabelo P. Lim and Purificacion Ceñiza de Lim, who own and control ninety-nine per cent (99%) of its total paid-up capital. Isabelo is Limpan’s President and Chairman of the Board.

Its real properties consist of several lots and buildings, mostly situated in Manila and in Pasay City, all of which were acquired from Isabelo P. Lim and his mother.

Limpan duly filed and paid its 1956 and 1957 income tax returns, with the sums of P657.00 and P2,220.00, respectively.

The Commission of Internal Revenue investigated Limpan’s tax returns and discovered that Limpan underdeclared its rental incomes by P20,199.00 and P81,690.00 in 1956 and 1957. The BIR also found that Limpan claimed excessive depreciation of its buildings worth P4,260.00 and P16,336.00 for 1956 and 1957. The BIR demanded payment of the appropriate deficiency taxes, with surcharge.

Limpan, through its treasurer, Vicente Solis, tried to explain the discrepancy in the 1956 figure by saying that it was because establish that it did not collect or receive the same because, some tenants refused to recognize Limpan as the new owner, of the properties involved, and they had verbally agreed in 1956 to turn over to Limpan six per cent (6%) of the value of all its properties, computed at P21,630.00, in exchange for whatever rentals the Lims may collect from the tenants.

Solis tried explaining the 1957 figure by saying that Limpan did not actually receive or collect the same but that its President, Isabelo P. Lim, collected part thereof and may have reported the same in his own personal income tax return.

He also claimed that a certain tenant (Go Tong) deposited in court his rentals, over which the corporation had no actual or constructive control and which were withdrawn only in 1958; and that a sub-tenant paid P4,200.00 which ought not be declared as rental income in 1957.

The BIR Inspector, Plaridel Mingoa, however, found that the tenants of Limpan and found that these tenants had been regularly paying their rentals to the collectors of either Limpan or Isabelo Lim.

As to the depreciation, Solis testified that some of Limpan’s buildings were old and out of style; hence, they were entitled to higher rates of depreciation than those adopted by the BIR in their assessment.

Was the deficiency tax assessment on the undeclared income valid?

The Court dismissed the Limpan appeal.

Limpan admitted, through Solis, that it had undeclared more than one-half (1/2) of the amount (P12,100.00 out of P20,199.00) found by the BIR examiners as unreported rental income for the year 1956 and more than one-third (1/3) of the amount (P29,350.00 out of P81,690.00) ascertained by the same examiners as unreported rental income for the year 1957, contrary to its original claim to the revenue authorities, it was incumbent upon it to establish the remainder of its pretensions by clear and convincing evidence, that in the case is lacking.

The Court found the explanation for the 1956 figure to be not only unusual but uncorroborated by the alleged transferors, or by any document or unbiased evidence. The explanation for the 1957 denial and explanation of the non-receipt of the remaining unreported income as unsubstantiated by satisfactory corroboration.

The withdrawal in 1958 of the deposits in court pertaining to the 1957 rental income is no sufficient justification for the non-declaration of said income in 1957, since the deposit was resorted to due to


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the refusal of Limpan to accept the same, and was not the fault of its tenants; hence, Limpan is deemed to have constructively received such rentals in 1957.

The payment by the sub-tenant in 1957 should have been reported as rental income in said year, since it is income just the same regardless of its source.

Depreciation is a question of fact and is not measured by theoretical yardstick, but should be determined by a consideration of actual facts", and the findings of the Tax Court in this respect should not be disturbed when not shown to be arbitrary or in abuse of discretion.

Conwi vs. Court of Tax Appeals

Enrique Abad Santos, Hernando Conwi, Teddy Dimayuga, Jaime Dy-Liacco, Melquiades Gamboa, Manuel Guzman, Vicente Herrera, Benjamin Ildefonso, Alexander Lacson, Jr., Adrian Miciano, Eduardo Rialp, and Jaime Soques are all employees of Procter and Gamble, Philippine Manufacturing Corporation, with offices at Sarmiento Building, Ayala Avenue, Makati, Rizal.

In 1970 and 1971 these P&G employees were assigned, for certain periods, to other subsidiaries of Procter & Gamble outside of the Philippines, during which they were paid in US$.

When the employees filed their income tax returns for 1970, they computed the tax due by applying the dollar-to-peso conversion on the basis of the floating rate ordained under B.I.R. Ruling No. 70-027.

However, on February 8, 1973 and October 8, 1973, the employees filed with the office of the Commissioner amended income tax returns for 1970 and 1971, this time using the par value of the peso as prescribed in §48 of RA 265 in relation to §6 of CA 265 in relation to §6 of CA 699 as the basis for converting their respective dollar income into Philippine pesos for purposes of computing and paying the corresponding income tax due from them.

Without waiting for the decision of the Commissioner, the P&G employees filed a petition for review with the Court of Tax Appeals, which found against them, holding that the proper conversion rate for the purpose of reporting and paying the Philippine income tax on the dollar earnings of the P&G employees are the rates prescribed under Revenue Memorandum Circulars Nos. 7-71 and 41-71.

What exchange rate should be used to determine the peso equivalent of foreign earnings for income tax purposes – the applicable foreign exchange rate or the par value of the Peso?

§21 of the NIRC, before its amendments in 1973 and 1974, imposed a tax upon the taxable net income received during each taxable year from all sources by a citizen of the Philippines, whether residing here or abroad.

Income is an amount of money coming to a person or corporation within a specified time, whether as payment for services, interest or profit from investment.

Unless otherwise specified, it means cash or its equivalent.

Income can also be thought of as flow of the fruits of one's labor.

The P&G employees are correct in claiming that their dollar earnings are not receipts derived from foreign exchange transactions. For a foreign exchange transaction is simply that — a transaction in foreign exchange, foreign exchange being "the conversion of an amount of money or currency of one country into an equivalent amount of money or currency of another

Although Conwi argued that since there were no remittances and acceptances of their salaries and wages in US dollars into the Philippines, they were exempt from the coverage of such circulars, they seem to have forgotten that they are citizens of the Philippines, and their income, within or


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without, and in these cases wholly without, are subject to income tax. §21 of the NIRC does not brook any exemption.

B. General Principles §23. General Principles of Income Taxation in the Philippines. - 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 derived from sources within the Philippines: Provided, That a seaman who is a citizen of the Philippines and who receives compensation for 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;

(D) An alien individual, whether a resident or not of the Philippines, is taxable only on income derived from sources within the Philippines;

(E) A domestic corporation is taxable on all income derived from sources within and without the Philippines; and

(F) 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.

C. Income Tax on Individuals

Definitions

Resident citizens and resident aliens

§22(F), NIRC - The term 'resident alien' means an individual whose residence is within the Philippines and who is not a Filipino citizen.

Garrison vs. Court of Appeals

Several United States citizens, entered this country under §9(a) of the Philippine Immigration Act of 1940, as amended, and are all employed in the United States Naval Base, Olongapo City.

For the year 1969 John L. Garrison earned $15,288.00; Frank Robertson, $12,045.84; Robert H. Cathey, $9,855.20; James W. Robertson, $14,985.54; Felicitas de Guzman, $8,502.40; and Edward McGurk $12,407.99.

They all received separate notices from the BIR RDO, Olongapo City, informing them that they had not filed their respective income tax returns for 1969, as required by Section 45 of the NIRC. The notice directed them to file their returns within ten days.

The Americans refused to file their incomes, saying that they were special temporary visitors, having entered this country thanks to the Immigration Act, and that they fell under the ambit of ¶2 of the US-RP Military Bases Agreement.


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Was the mere fact of the physical presence of the Americans in the Philippines enough to classify them as resident aliens required to file income taxes notwithstanding their employment by the US Government?

Notwithstanding the fact that the US-RP Military Bases Agreement clearly exempted these Americans from the payment of income taxes, they were not exempt from the duty to file their tax returns.

In this case, the Americans fell under the codal precept that "alien[s] residing in the Philippines" are obliged "to file an income tax return."

RR 2, 1940 makes this clear:

An alien actually present in the Philippines who is not a mere transient or sojourner is a resident of the Philippines for purposes of income tax. Whether he is a transient or not is determined by his intentions with regards to the length and nature of his stay.

A mere floating intention indefinite as to time, to return to another country is not sufficient to constitute him as transient. If he lives in the Philippines and has no definite intention as to his stay, he is a resident. One who comes to the Philippines for a definite purpose which in its nature may be promptly accomplished is a transient.

But if his purpose is of such a nature that an extended stay may be necessary to its accomplishment, and to that end the alien makes his home temporarily in the Philippines, he becomes a resident, though it may be his intention at all times to return to his domicile abroad when the purpose for which he came has been consummated or abandoned.

As the tax exemption granted in the US-RP Military Defense Agreement is not absolute, the duty rests on them to invoke and prima facie establish their tax-exempt status.

It cannot simply be presumed that they earned no income from any other sources than their employment in the American bases and are therefore totally exempt from income tax.

Finally, they are not liable to pay income tax does not exempt them from the duty to file an income tax return.

Non-resident citizens

§22(E), NIRC - The term 'nonresident citizen' means:

(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.

(3) A citizen of the Philippines who works and derives income from abroad and whose employment thereat requires him to be physically present abroad most of the time during the taxable year.

(4) A citizen who has been previously considered as nonresident citizen and who arrives in the Philippines at any time during the taxable year to reside permanently in the Philippines shall likewise be treated as a nonresident citizen for the taxable year in which he arrives in the Philippines with respect to his income derived from sources abroad until the date of his arrival in the Philippines.

(5) The taxpayer shall submit proof to the Commissioner to show his intention of leaving the Philippines to reside permanently abroad or to return to and reside in the Philippines as the case may be for purpose of this Section.


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RR 1-79

§2. Who are considered as non-resident citizen – The term “non-resident citizen” meas one who establishes to the satisfaction of the Commissioner of Internal Revenue the fact of his physical presence abroad with the definite intention to reside therein and shall any Filipino who leaves the country during the taxable year as:

(a) Immigrant – one who leaves the Philippines to reside abroad as an immigrant for which a foreign visa has been secured.

(b) Permament employee – one who leaves the Philippines to reside abroad for employment on a more or less permanent basis.

(c) Contract worker – one who leaves the Philippines on account of a contract of employment which renewed from time to time within or during the taxable year under such circumstances as to require him to be physically present abroad most of the time during the taxable year.

Any such Filipino shall be considered a non-resident citizen for such taxable year with respect to the income he derived from foreign sources from the date he actually departed from the Philippines.

A Filipno citizen who has been previously considered as a non-resident citizen and who arrives in the Philippines at any time during the taxable year to reside therein premanently shall also be considered a non-resident citizen for the taxable year in whi he arrived in thePhilippines with respect to his income derived from sources abroad until the date of his arrival.

RR-5-01

§1. Scope. …filing of information returns by non-resident citizens, overseas contract workers (OCWs) and seamen with respect to their income derived from sources outside the Philippines

§2. Filing of Information Returns (BIR form 1701C OR BIR Form 1703) No Longer Required – Non-resident citizens who are exempt from tax with respect to income derived from sources outside the Philippines in accordance with §23(B) and (C), in relation to §22 (E) and §51 (A)(2)(d) and (A)(3) of the 1997 NIRC, but who are nevertheless mandated to file information returns (BIR Form 1701C or the new computerized BIR Form 1703) pursuant to RMO 30-99 and RR 9-99 (both repealed by RR 5-01), shall no longer be required to file the same on their income derived from sources outside the Philippines beginning taxable year 2001.

BIR Ruling 33-00

(September 5, 2000)

Non-resident aliens engaged in business in the Philippines

§22(G), NIRC - The term 'nonresident alien' means an individual whose residence is not within the Philippines and who is not a citizen thereof.

§5, §6, RR 2 - An alien actually present in the Philippines who is not a mere transient or sojourner is a resident of the Philippines for purposes of the income tax. Whether he is a transient or not is determined by his intentions with regard to the length and tenure of his stay. A mere floating intention indefinite as to time, to return to another country is not sufficient to constitute him a transient. If he lives in the Philippines and has no definite intention as to his stay, he is a resident. One who comes to the Philippines for a definite purpose which in its nature may be promptly accomplished is a transient. But if his purpose is of such a nature that an extended stay may be necessary for its accomplishment, and to that end the alien makes his home temporarily in the


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Philippines, he becomes a resident, though it may be his intention at all times to return to return to his domicile abroad when the purpose for which he came has been consummated or abandoned.

Head of Family

§35(A), NIRC - For purposes of determining the tax provided in Section 24 (A) of this Title, there shall be allowed a basic personal exemption as follows:

For single individual or married individual judicially decreed as legally separated with no qualified dependents

P20,000

For Head of Family P25,000

For each married individual P32,000

In the case of married individuals where only one of the spouses is deriving gross income, only such spouse shall be allowed the personal exemption.

For purposes of this paragraph, the term 'head of family' means an unmarried or legally separated man or woman with one or both parents, or with one or more brothers or sisters, or with one or more legitimate, recognized natural or legally adopted children living with and dependent upon him for their chief support, where such brothers or sisters or children are not more than twenty-one (21) years of age, unmarried and not gainfully employed or where such children, brothers or sisters, regardless of age are incapable of self-support because of mental or physical defect.

Dependent

§35(B), NIRC - There shall be allowed an additional exemption of Eight thousand pesos (P8,000) for each dependent not exceeding four (4).

The additional exemption for dependent shall be claimed by only one of the spouses in the case of married individuals.

In the case of legally separated spouses, additional exemptions may be claimed only by the spouse who has custody of the child or children: Provided, That the total amount of additional exemptions that may be claimed by both shall not exceed the maximum additional exemptions herein allowed.

For purposes of this Subsection, a 'dependent' means a legitimate, illegitimate or legally adopted child chiefly dependent upon and living with the taxpayer if such dependent is not more than twenty-one (21) years of age, unmarried and not gainfully employed or if such dependent, regardless of age, is incapable of self-support because of mental or physical defect.

Kind of Income and Income Tax of Individuals

Tax Formula

§24(A), NIRC An income tax is hereby imposed:

(a) On the taxable income defined in Section 31 of this Code, other than income subject to tax under Subsections (B), (C) and (D) of this Section, derived for each taxable year from all sources within and without the Philippines be every individual citizen of the Philippines residing therein;

(b) On the taxable income defined in Section 31 of this Code, other than income subject to tax under Subsections (B), (C) and (D) of this Section, derived for each taxable year from all sources within the Philippines by an individual citizen of the Philippines who is residing outside of the


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Philippines including overseas contract workers referred to in Subsection(C) of Section 23 hereof; and

(c) On the taxable income defined in Section 31 of this Code, other than income subject to tax under Subsections (b), (C) and (D) of this Section, derived for each taxable year from all sources within the Philippines by an individual alien who is a resident of the Philippines.

The tax shall be computed in accordance with and at the rates established in the following schedule:

Not over P10,000 5%

Over P10,000 but not over P30,000 P500 + 10% of the excess over P10,000

Over P30,000 but not over P70,000 P2,500 + 15% of the excess over P30,000




Over P500,000 P125,000 + 34% of the excess over P500,000 in 1998.

Provided, That effective January 1, 1999, the top marginal rate shall be thirty-three percent (33%) and effective January 1, 2000, the said rate shall be thirty-two percent (32%).

For married individuals, the husband and wife, subject to the provision of Section 51 (D) hereof, shall compute separately their individual income tax based on their respective total taxable income: Provided, That if any income cannot be definitely attributed to or identified as income exclusively earned or realized by either of the spouses, the same shall be divided equally between the spouses for the purpose of determining their respective taxable income.

Final Income Tax – Interests, Royalties, Awards, Dividends, Capital Gains on Shares, Realty

§24(B), NIRC - Rate of Tax on Certain Passive Income.

(1) Interests, Royalties, Prizes, and Other Winnings. - A final tax at the rate of twenty percent (20%) is hereby 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 ten percent (10%); prizes (except prizes amounting to Ten thousand pesos (P10,000) or less which shall be subject to tax under Subsection (A) of Section 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 seven and one-half percent (7 1/2%) of such interest income: Provided, further, That interest income from long-term 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 Bangko Sentral ng Pilipinas (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 fifth (5th) year, a final tax shall be imposed on the entire income and shall be deducted


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and withheld by the depository bank from the proceeds of the long-term deposit or investment certificate based on the remaining maturity thereof:

Four (4) years to less than five (5) years - 5%;

Three (3) years to less than (4) years - 12%; and

Less than three (3) years - 20%

(2) Cash and/or Property Dividends - A final tax at the following 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:

Six percent (6%) beginning January 1, 1998;

Eight percent (8%) beginning January 1, 1999; and

Ten percent (10% beginning January 1, 2000.

Provided, however, That the tax on dividends shall apply only on income earned on or after January 1, 1998. Income forming part of retained earnings as of December 31, 1997 shall not, even if declared or distributed on or after January 1, 1998, be subject to this tax.

§24(C), NIRC - Capital Gains from Sale of Shares of Stock not Traded in the Stock Exchange. - The provisions of Section 39(B) notwithstanding, a final tax at the rates prescribed below is hereby imposed upon the net capital gains realized during the taxable year from the sale, barter, exchange or other disposition of shares of stock in a domestic corporation, except shares sold, or disposed of through the stock exchange.

Not over P100,000 5%

On any amount in excess of P100,000 10%

§24(D), NIRC - Capital Gains from Sale of Real Property. -

(1) In General. - The provisions of Section 39(B) notwithstanding, a final tax of six percent (6%) based on the gross selling price or current fair market value as determined in accordance with Section 6(E) of this Code, whichever is higher, is hereby imposed upon capital gains presumed to have been realized 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: Provided, That 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 either under Section 24 (A) or under this Subsection, at the option of the taxpayer.

(2) Exception. - The provisions of paragraph (1) of this Subsection to the contrary notwithstanding, 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 eighteen (18) calendar months from the date of sale or disposition, shall be exempt from the capital gains tax imposed under this Subsection: 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 thirty (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 ten (10) years: Provided,


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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. For this purpose, the gross selling price or fair market value at the time of sale, whichever is higher, shall be multiplied by a fraction which the unutilized amount bears to the gross selling price in order to determine the taxable portion and the tax prescribed under paragraph (1) of this Subsection shall be imposed thereon.

§22(Y), NIRC - The term "deposit substitutes" shall mean an alternative from of obtaining funds from the public (the term 'public' means borrowing from twenty (20) or more individual or corporate lenders at any one time) other than deposits, through the issuance, endorsement, or acceptance of debt instruments for the borrowers own account, for the purpose of relending or purchasing of receivables and other obligations, or financing their own needs or the needs of their agent or dealer. These instruments may include, but need not be limited to bankers' acceptances, promissory notes, repurchase agreements, including reverse repurchase agreements entered into by and between the Bangko Sentral ng Pilipinas (BSP) and any authorized agent bank, certificates of assignment or participation and similar instruments with recourse: Provided, however, That debt instruments issued for interbank call loans with maturity of not more than five (5) days to cover deficiency in reserves against deposit liabilities, including those between or among banks and quasi-banks, shall not be considered as deposit substitute debt instruments.

RR 10-98

(August 25, 1998)

§2.24. Income Tax Rate of Interest Income from Foreign Currency Deposit - Individual Income Tax on Interest Income from a Depository Bank under the Foreign Currency Deposit System

(1) Resident Citizen or Resident Alien 7.5% final withholding tax

(2) Non-Resident Citizen Exempt

If a bank account is jointly in the name of the non-resident citizen such as an overseas contract worker and his spouse who is a resident in the Philippines, 50% of the interest income from such bank deposit shall be exempt, while the other 50% subject to 7.5% final withholding tax.

§2.27 & §2.28 – Corporate Income Tax on Interest Income from a Depository Bank under the Foreign Currency Deposit System, Taxation of Income of an FCDU or OBU from Foreign Currency Transactions – In general, income derived by an FCDU or an OBU from foreign currency transactions with residents of the Philippines, including local commercial banks, local branches of foreign banks, and other depository banks under the foreign currency deposit system, shall be subject to final withholding tax of 10% based on gross income.

RR 2-82

(March 29, 1982)

§5. Imposition of the Tax.

(a) Sales of shares of stock listed and traded through a local stock exchange. A tax of 1/4 of 1% shall be imposed on the gross selling price of the shares of stock sold, exchanged or transferred through the facilities of a stock exchange registered with the Securities and Exchange Commission.

(b) Shares of stock not traded through a local stock exchange. Net capital gains derived during the taxable year from sales, exchanges, transfers or similar transaction shall be taxed as follows:


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Not over P100,000 10% Over P100,000 20%

§ 6. Determination of Tax Base. In determining the tax base, the following rules shall apply:

(a) Determination of selling price. The selling price of the shares of stocks shall be the fair market value of the shares of stocks transferred or exchanged and not the fair market value of the property received in exchange. If the total consideration of the sale or disposition consists partly in cash or money and partly in kind, the selling price shall be the fair market value of the shares disposed.

(1) In the case of shares traded through the stock exchange, "fair market value" shall consist of the actual selling price as shown in the sales confirmation issued by the member of the stock exchange through whom the sale was effected.

(2) In the case of shares not traded through the stock exchange, but listed in one or more stock exchanges, the highest closing price on the day when the shares are sold, transferred or exchanged, shall be the "fair market value." When no sale is made in any stock exchange, the highest closing price on the day nearest to the day of sale, transfer or exchange of the shares shall be the fair market value. acd

(3) In the case of sale, transfer or exchange of shares not listed in the stock exchange, the following rules shall be observed:

(i) In general, the unlisted shares shall be valued at their book value nearest the valuation date. The book value of these unlisted shares of stock shall be prima facie considered as their fair market value.

(ii) In case the shares are valued on a basis lower than their book values, a justification for the deviation from the book value, together with the evidences in support thereof, should be submitted. The following factors are considered relevant in the valuation of shares of stock of closed corporations.

A) The nature of the business and the financial history of the enterprise, from the date of incorporation

B) The economic outlook in general and the business condition and outcome of the specific industry in particular

C) The financial condition of the business

D) The earning capacity of the company

E) The dividend paying capacity

F) Goodwill

G) Sales of stocks and size of the block of stock to be valued

H) Market price of stocks of corporations engaged in the same or similar line of business to be valued

I) Existence of corporate debts in favor of the family of the principal shareholder


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J) Restrictive agreements impairing the alienability of the stock

K) Investments in business or property maintained at a deficit

L) Dividend arrearages

M) Voting rights of stockholders

N) Difficulty in liquidating the assets If such lower fair market valuation is not clearly established and documented, the book value of the unlisted shares of stock shall be adopted. If there have been previous sales/exchanges of the unlisted shares of stock, the price at which these shares exchanged hands should be taken/considered as its fair market value/s.

(b) Determination of cost. The cost basis for determining the capital gains or losses shall be the basis as determined in accordance with the provisions of § 35 of the National Internal Revenue Code, as amended, and its implementing regulations applied in the following manner:

(1) If the stocks can be identified, then the cost shall be the actual purchase price plus all costs of acquisition such as commission, documentary tax, transfer fees, etc.

(2) If the stocks cannot be properly identified, then the cost to be assigned shall be computed on the basis of the first-in, first-out (FIFO) method. However -

(3) If books of accounts are maintained by the seller where every transaction of a particular stocks are recorded, then the moving average method shall be applied rather than the first-in, first-out, (FIFO) method.

(4) In all cases, stock dividend received must be assigned a corresponding cost by allocating the original cost of acquisition to the total number of shares composed of the original shareholdings plus the number of shares of stocks received as stock dividend.

(c) In determining the deductibility of capital losses, the following rules shall apply:

(1) The provisions of § 33 of the National Internal Revenue Code, as amended, and its implementing regulations on the non-deductibility of losses on wash sales.

(2) The net capital losses sustained during the taxable year shall be allowed as a capital loss deductible in the same taxable year only.

(3) The entire amount of capital gains and capital loss shall be considered without taking into account the period or duration during which the stocks were held by the seller up to disposition for purposes of computing net capital gains.

(d) Installment sales of shares of stock not listed and traded through any local stock exchange. In cases of gains arising from installment sales of shares of stocks, the provisions of § 43 of the National Internal Revenue Code, as amended, and its implementing regulations shall apply.

RR 8-98

(August 25, 1988)

§2. Final Tax on Sales, Exchanges or Transfers of Real Properties Classified as Capital Assets. The rate of six percent (6%) shall be imposed on capital gains presumed to have been realized by the


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seller from the sale, exchange or other disposition of real properties located in the Philippines, classified as capital assets, including pacto de retro sales and other forms of conditional sales based on the gross selling price or fair market value as determined in accordance with § 6(E) of the Code (i.e., the authority of the Commissioner to prescribe the real property values), whichever is higher.

In case of disposition of real property made by individuals to the government or to any of its political subdivisions or agencies or to government-owned or -controlled-corporations, the tax to be imposed shall be determined either under the normal income tax rate imposed in § 24(A) or under a final capital gains tax of six percent (6%) imposed under § 24(D)(1), both of the Tax Code of 1997, at the option of the taxpayer.

§3. Time and Place of Payment of Capital Gains Tax. Within thirty (30) days following each sale or disposition, the Capital Gains Tax Return shall be filed by the seller and payment made to an Authorized Agent Bank (AAB) located within the Revenue District Office (RDO) having jurisdiction over the place where the property being transferred is located.

§4. Creditable Withholding Tax on the Sale, Transfer or Exchange of Real Property Classified as Ordinary Asset. A creditable withholding tax based on the gross selling price/total amount of consideration or the fair market value determined in accordance with § 6(E) of the Code, whichever is higher, paid to the seller/owner for the sale, transfer or exchange of real property, other than capital asset, shall be imposed upon the withholding agent/buyer, in accordance with the following schedule:

A. Upon the following values of real property, where the seller/transferor is habitually engaged in the real estate business as per proof of registration with the HLURB or HUDCC:

With a selling price of Five hundred thousand pesos (P500,000.00) or less 1.5%

With a selling price of more than Five hundred thousand pesos (P500,000.00) but not more than Two million pesos (P2,000,000.00)

3.0%

With a selling price of more than Two million pesos (P2,000,000.00) 5.0%

B. Where the seller/transferor is not habitually engaged in the real estate business 7.5%

C. Where the seller/transferor is exempt from creditable withholding tax in accordance with § 2.57.5 of Revenue Regulations No. 2-98

Exempt

§5. Time and Place of Payment of Creditable Withholding Tax. Creditable withholding taxes deducted and withheld by the withholding agent/buyer on the sale, transfer or exchange of real property classified as ordinary asset, shall be paid by the withholding agent/buyer upon filing of the return with the Authorized Agent Bank (AAB) located within the Revenue District Office (RDO) having jurisdiction over the place where the property being transferred is located within ten (10) days following the end of the month in which the transaction occurred. Provided, however, that taxes withheld in December shall be filed on or before January 25 of the following year.

§6. Tax Clearance Certificate. Upon presentation of the Capital Gains Tax Return or Creditable Withholding Tax Return with a bank validation evidencing full payment of the capital gains tax or the creditable withholding tax due on the sale, transfer, barter, exchange or other disposition of real property classified as capital or ordinary asset, as the case may be, the Revenue District Officer (RDO) of the revenue district where the property being transferred is located shall issue the corresponding Tax Clearance (TCL) or Certificate Authorizing Registration (CAR) for the registration of the real property in favor of the transferee.


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RR 13-99

(July 26, 1999)

§2. Definition of Terms. For purposes of these Regulations, the following items shall have the following meaning:

(1) "Natural person" shall refer to a citizen or resident alien individual taxable under Sec. 24 of the Code. It does not include an estate or a trust, the provision of Sec. 60 of the Code to the contrary notwithstanding.

(2) "Principal Residence" shall refer to the dwelling house, including the land on which it is situated, where the husband and wife or an unmarried individual, whether or not qualified as head of family, and members of his family reside. Actual occupancy of such principal residence shall not be considered interrupted or abandoned by reason of the individual's temporary absence therefrom due to travel or studies or work abroad or such other similar circumstances. Such principal residence must be characterized by permanency in that it must be the dwelling house to which, whenever absent, the said individual intends to return.

(3) "Fully Utilized" shall mean that the taxpayer has actually commenced with the construction of his new principal residence or has actually entered into a contract for the purchase of his new principal residence within eighteen (18) calendar months from the date of sale, exchange or disposition thereof, with the intention of using the entire proceeds of sale for the acquisition or construction of his new principal residence. Provided, that any expense paid for by the seller in effecting the sale, i.e., documentary stamp tax, transfer fees, broker's commission, if any, shall be considered as part of the amount utilized.

§3. Conditions of Exemption. The general provisions of the Code to the contrary notwithstanding, capital gains presumed to have been realized from the sale, exchange or disposition by a natural person of his principal residence shall not be imposed with income tax, including the six percent (6%) capital gains tax, subject to the following conditions:

(1) Sworn Declaration Requirement. He shall submit a Sworn Declaration (ANNEX A hereof) of his intent to avail of the tax exemption herein provided which shall be filed with the aforementioned Revenue District Office (RDO) having jurisdiction over the location of the principal residence within thirty (30) days from the date of its sale, exchange or disposition, inclusive of the following:

(a) Duly Accomplished Capital Gains Tax Return (BIR Form No. 1706);

(b) Proof of payment of documentary stamp tax on conveyance of real property;

(c) A sworn statement from the Barangay Chairman that his principal residence is located within the jurisdiction of that Barangay and has been his residence as of the date of sale, exchange or disposition thereof; LibLex

(d) A duplicate original copy of the Deed of Conveyance of his Principal Residence;

(e) Photocopy of the Transfer Certificate of Title (TCT) or Condominium Certificate of Title (CCT), in case of a condominium unit (covering the principal residence sold, exchanged or disposed); and

(f) Latest Tax Declaration of the said principal residence (land and improvement).


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(2) Post Reporting Requirement. The proceeds from the sale, exchange or disposition of his principal residence must be fully utilized in acquiring or constructing his new principal residence within eighteen (18) calendar months from date of its sale, exchange or disposition. In order to show proof that positive action was undertaken to utilize the proceeds for the acquisition or construction of his new principal residence within the 18-month reglementary period, he shall submit to the RDO concerned, within thirty (30) days from the lapse of the said period, the following documents:

(a) A sworn statement that the total proceeds from the sale of his old principal residence has been actually utilized in the acquisition or construction of his new principal residence or, if the construction of his new principal residence is still in progress, a sworn statement that such amount shall be fully utilized to procure the necessary materials and pay for the cost of labor and other expenses for the construction thereof;

(b) A certified statement from his architect or engineer, or both, showing the cost of materials and labor for the construction of his new principal residence;

(c) A certified copy of the Building Permit issued by the Office of the Building Official of the City or Municipality where his new principal residence shall be constructed, as well as photocopies of documents (e.g. building specification plan, construction plans, construction cost estimates) submitted with his application for said permit;

(d) In case his new principal residence is acquired by purchase, a duplicate original copy of the Deed of Absolute Sale covering the purchase of his new principal residence.

(3) The tax exemption herein granted may be availed of only once every ten (10) years;

(4) The historical cost or adjusted basis of his old principal residence sold, exchanged or disposed shall be carried over to the cost basis of his new principal residence; and

(5) If there is no full utilization of the proceeds of sale, exchange or disposition of his old principal residence for the acquisition or construction of his new principal residence, he shall be liable for deficiency capital gains tax which shall be computed in accordance with Sec. (4) hereof. Accordingly, only a fractional part (which the utilized amount bears to the gross selling price) of the historical cost of the old principal residence sold shall be carried over to the cost basis of the new principal residence.

RR 14-2000

Revenue regulation No. 13-99 as amended by RR No. 14-2000 requires the taxpayer to have actually commenced with the construction of her new principal residence or has actually entered into a contract for the purchase of her new principal residence within eighteen (18) months from the date of sale or disposition with the intention of using the entire proceeds of sale for the acquisition or construction of said principal residence, so that the sale of the principal residence remains exempt from the payment of capital gains tax under section 24 (D) (2) of the NIRC.

See Insert for more details.

RR 4-99

Further Amending Revenue Memorandum Order No. 29-86 dated September 3, 1986, as Amended by Revenue Memorandum Order No. 16-88 dated April 18, 1988, Relative to the Payment of Capital Gains Tax and Documentary Stamp Tax on Extra-Judicial Foreclosure Sale of Capital Assets Initiated by Banks, Finance and Insurance Companies


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Foreclosure of Mortgage Provision Under Presidential Decree No. 1529, Otherwise Known as "Property Registration Decree". — Section 63 of P.D. No. 1529, otherwise known as the "Property Registration Decree" provides as follows:

Foreclosure of Mortgage.

(a) If the mortgage was foreclosed judicially, a certified copy of the final order of the court confirming the sale shall be registered with the Register of Deeds. If no right of redemption exists, the certificate of title of the mortgagor shall be cancelled, and a new certificate issued in the name of the purchaser. Where the right of redemption exists, the certificate of title of the mortgagor SHALL NOT BE CANCELLED, but the certificate of sale and the order confirming the sale shall be registered by a BRIEF MEMORANDUM thereof made by the Register of Deeds upon the certificate of title. In the event the property is redeemed, the certificate or deed of redemption shall be filed with the Register of Deeds, and a brief memorandum thereof shall be made by the Register of Deeds on the certificate of title of the mortgagor. If the property is not redeemed, the final deed of sale executed by the sheriff in favor of the purchaser at a foreclosure sale shall be registered with the Register of Deeds; whereupon the title of the mortgagor shall be cancelled, and a new certificate issued in the name of the purchaser.

(b) If the mortgage was foreclosed extrajudicially, a certificate of sale executed by the officer who conducted the sale shall be filed with the Register of Deeds who shall make a brief memorandum thereof on the certificate of title. In the event of redemption by the mortgagor, the same rule provided for in the second paragraph of this section shall apply. In case of non-redemption, the purchaser at foreclosure sale shall file with the Register of Deeds, either a final deed of sale executed by the person authorized by virtue of the power of attorney embodied in the deed of mortgage, or his sworn statement attesting to the fact of non-redemption; whereupon, the Register of Deeds shall issue a new certificate in favor of the purchaser after the owner's duplicate of the certificate has been previously delivered and cancelled. It is clear from the above provision of the "Property Registration Decree" that where the right of redemption of the mortgagor exists, the certificate of title of the mortgagor shall not be cancelled yet even if the property had already been subjected to foreclosure sale, BUT INSTEAD only a brief memorandum shall be annotated at the back of the certificate of title, and the cancellation of the title and the subsequent issuance of a new title in favor of the purchaser/highest bidder depends on whether the mortgagor shall redeem or not the mortgaged property within one year from the issuance of the certificate of sale. Thus, no transfer of title to the highest bidder can be effected yet until and after the lapse of the one-year period from the issuance of the said certificate of sale.

Capital Gains Tax. —

(1) In case the mortgagor exercises his right of redemption within one year from the issuance of the certificate of sale, no capital gains tax shall be imposed because no capital gains has been derived by the mortgagor and no sale or transfer of real property was realized. A certification to that effect or the deed of redemption shall be filed with the Revenue District Office having jurisdiction over the place where the property is located which certification or deed shall


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likewise be filed with the Register of Deeds and a brief memorandum thereof shall be made by the Register of Deeds on the Certificate of Title of the mortgagor.

(2) In case of non-redemption, the capital gains tax on the foreclosure sale imposed under Secs. 24(D)(1) and 27(D)(5) of the Tax Code of 1997 shall become due based on the bid price of the highest bidder but only upon the expiration of the one-year period of redemption provided for under Sec. 6 of Act No. 3135, as amended by Act No. 4118, and shall be paid within thirty (30) days from the expiration of the said one-year redemption period.

Documentary Stamp Tax. —

(1) In case the mortgagor exercises his right of redemption, the transaction shall only be subject to the P15.00 documentary stamp tax imposed under Sec. 188 of the Tax Code of 1997 because no land or realty was sold or transferred for a consideration.

(2) In case of non-redemption, the corresponding documentary stamp tax shall be levied, collected and paid by the person making, signing, issuing, accepting, or transferring the real property wherever the document is made, signed, issued, accepted or transferred where the property is situated in the Philippines; Provided, That whenever one party to the taxable document enjoys exemption from the tax, the other party thereto who is not exempt shall be the one directly liable for the tax. The tax return prescribed under the Code shall be filed within ten (10) days after the close of the month following the lapse of the one-year redemption period, and the tax due under Sec. 196 of the Tax Code of 1997 shall be paid based on the bid price at the same time the aforesaid return is filed.

Tax Clearance Certificate/Certificate Authorizing Registration. — In case of non-redemption, a tax clearance certificate (TCC) or Certificate Authorizing Registration (CAR) in favor of the purchaser/highest bidder shall only be issued upon presentation of the capital gains and documentary stamp taxes returns duly validated by an authorized agent bank (AAB) evidencing full payment of the capital gains and documentary stamp taxes due imposed under Secs. 3 and 4 of these Regulations on the sale of the property classified as capital asset. The AAB must be located at the Revenue District Office having jurisdiction over the place where the property is located.

Personal and Additional Exemptions

§35(A), NIRC - For purposes of determining the tax provided in Section 24 (A) of this Title, there shall be allowed a basic personal exemption as follows:

For single individual or married individual judicially decreed as legally separated with no qualified dependents

P20,000

For Head of Family P25,000

For each married individual P32,000

In the case of married individuals where only one of the spouses is deriving gross income, only such spouse shall be allowed the personal exemption.

For purposes of this paragraph, the term 'head of family' means an unmarried or legally separated man or woman with one or both parents, or with one or more brothers or sisters, or with one or more legitimate, recognized natural or legally adopted children living with and dependent upon him for their chief support, where such brothers or sisters or children are not more than twenty-one (21) years of age, unmarried and not gainfully employed or where such children, brothers or sisters, regardless of age are incapable of self-support because of mental or physical defect.


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§35(B), NIRC - There shall be allowed an additional exemption of Eight thousand pesos (P8,000) for each dependent not exceeding four (4).

The additional exemption for dependent shall be claimed by only one of the spouses in the case of married individuals.

In the case of legally separated spouses, additional exemptions may be claimed only by the spouse who has custody of the child or children: Provided, That the total amount of additional exemptions that may be claimed by both shall not exceed the maximum additional exemptions herein allowed.

For purposes of this Subsection, a 'dependent' means a legitimate, illegitimate or legally adopted child chiefly dependent upon and living with the taxpayer if such dependent is not more than twenty-one (21) years of age, unmarried and not gainfully employed or if such dependent, regardless of age, is incapable of self-support because of mental or physical defect.

Change of Status

§35(C), NIRC - 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.

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.

If the spouse or any of the dependents dies or if any of such dependents marries, becomes twenty-one (21) years old or becomes gainfully employed during the taxable year, the taxpayer may still claim the same exemptions as if the spouse or any of the dependents died, or as if such dependents married, became twenty-one (21) years old or became gainfully employed at the close of such year.

Personal Exemption Allowable to Nonresident Alien Individuals

§35(D), NIRC 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 resident 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.

Optional Standard Deduction

§34(L), NIRC - 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 ten percent (10%) of his gross income. 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 deduction 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 income during the taxable year, as may be required by the rules and regulations promulgated by the Secretary of Finance, upon recommendation of the Commissioner.


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Premium Payments on Health and/or Hospitalization Insurance

§34(M), NIRC - 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 ten percent (10%) of his gross income. 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 deduction 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 income during the taxable year, as may be required by the rules and regulations promulgated by the Secretary of Finance, upon recommendation of the Commissioner.

Tax on Non-Resident Aliens

Engaged in business in the Philippines

§25(A), NIRC

(1) In General. - A nonresident alien individual engaged in trade or business in the Philippines shall be subject to an income tax in the same manner as an individual citizen and a resident alien individual, on taxable income received from all sources within the Philippines. A nonresident alien individual who shall come to the Philippines and stay therein for an aggregate period of more than one hundred eighty (180) days during any calendar year shall be deemed a 'nonresident alien doing business in the Philippines'. Section 22 (G) of this Code notwithstanding.

(2) Cash and/or Property Dividends from a Domestic Corporation or Joint Stock Company, or Insurance or Mutual Fund Company or Regional Operating Headquarters 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. - Cash and/or property dividends from a domestic corporation, or from a joint stock company, or from an insurance or mutual fund company or from a regional operating headquarters of multinational company, or the share of a nonresident alien individual in the distributable net income after tax of a partnership (except a general professional partnership) of which he is a partner, or the share of a nonresident alien individual in the net income after tax of an association, a joint account, or a joint venture taxable as a corporation of which he is a member or a co-venturer; interests; royalties (in any form); and prizes (except prizes amounting to Ten thousand pesos (P10,000) or less which shall be subject to tax under Subsection (B)(1) of Section 24) and other winnings (except Philippine Charity Sweepstakes and Lotto winnings); shall be subject to an income tax of twenty percent (20%) on the total amount thereof: Provided, however, that royalties on books as well as other literary works, and royalties on musical compositions shall be subject to a final tax of ten percent (10%) on the total amount thereof: Provided, further, That cinematographic films and similar works shall be subject to the tax provided under Section 28 of this Code: Provided, furthermore, That interest income from long-term 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 Bangko Sentral ng Pilipinas (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 fifth (5th) year, a final tax shall be imposed on the entire income and shall be deducted and


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withheld by the depository bank from the proceeds of the long-term deposit or investment certificate based on the remaining maturity thereof: Four (4) years to less than five (5) years - 5%; Three (3) years to less than four (4) years - 12%; and Less than three (3) years - 20%.

(3) Capital Gains. - Capital gains realized from sale, barter or exchange of shares of stock in domestic corporations not traded through the local stock exchange, and real properties shall be subject to the tax prescribed under Subsections (C) and (D) of Section 24.

Not engaged in business in the Philippines

§25(B), NIRC There shall be levied, collected and paid for each taxable year upon the entire income received from all sources within the Philippines by every nonresident alien individual not engaged in trade or business 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, a tax equal to twenty-five percent (25%) of such income. Capital gains realized by a nonresident alien individual not engaged in trade or business in the Philippines from the sale of shares of stock in any domestic corporation and real property shall be subject to the income tax prescribed under Subsections (C) and (D) of Section 24.

Special Aliens

§25(C), NIRC - Alien Individual Employed by Regional or Area Headquarters and Regional Operating Headquarters of Multinational Companies. - There shall be levied, collected and paid for each taxable year upon the gross income received by every alien individual employed by regional or area headquarters and regional operating headquarters established in the Philippines by multinational companies as salaries, wages, annuities, compensation, remuneration and other emoluments, such as honoraria and allowances, from such regional or area headquarters and regional operating headquarters, a tax equal to fifteen percent (15%) of such gross income: Provided, however, That the same tax treatment shall apply to Filipinos employed and occupying the same position as those of aliens employed by these multinational companies. For purposes of this Chapter, the term 'multinational company' means a foreign firm or entity engaged in international trade with affiliates or subsidiaries or branch offices in the Asia-Pacific Region and other foreign markets.

§25(D), NIRC - Alien Individual Employed by Offshore Banking Units. - There shall be levied, collected and paid for each taxable year upon the gross income received by every alien individual employed by offshore banking units established in the Philippines as salaries, wages, annuities, compensation, remuneration and other emoluments, such as honoraria and allowances, from such off-shore banking units, a tax equal to fifteen percent (15%) of such gross income: Provided, however, That the same tax treatment shall apply to Filipinos employed and occupying the same positions as those of aliens employed by these offshore banking units.

§25(E), NIRC - Alien Individual Employed by Petroleum Service Contractor and Subcontractor. - An Alien individual who is a permanent resident of a foreign country but who is employed and assigned in the Philippines by a foreign service contractor or by a foreign service subcontractor engaged in petroleum operations in the Philippines shall be liable to a tax of fifteen percent (15%) of the salaries, wages, annuities, compensation, remuneration and other emoluments, such as honoraria and allowances, received from such contractor or subcontractor: Provided, however, That the same tax treatment shall apply to a Filipino employed and occupying the same position as an alien employed by petroleum service contractor and subcontractor.


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Any income earned from all other sources within the Philippines by the alien employees referred to under Subsections (C), (D) and (E) hereof shall be subject to the pertinent income tax, as the case may be, imposed under this Code.

D. Definitions As taken from §22 of the NIRC:

Person – an individual, a trust, estate or corporation.

Corporation – includes partnerships, no matter how created or organized, joint-stock companies, joint accounts (cuentas en participacion), association, or insurance companies, but does not include general professional partnerships and 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 consortium agreement under a service contract with the Government. "General professional partnerships" are partnerships formed by persons for the sole purpose of exercising their common profession, no part of the income of which is derived from engaging in any trade or business.

Domestic, when applied to a corporation – a corporation created or organized in the Philippines or under its laws.

Foreign, when applied to a corporation – means a corporation which is not domestic.

Nonresident Citizen – There are 5 kinds of nonresident citizens:

(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.

(3) A citizen of the Philippines who works and derives income from abroad and whose employment thereat requires him to be physically present abroad most of the time during the taxable year.

(4) A citizen who has been previously considered as nonresident citizen and who arrives in the Philippines at any time during the taxable year to reside permanently in the Philippines shall likewise be treated as a nonresident citizen for the taxable year in which he arrives in the Philippines with respect to his income derived from sources abroad until the date of his arrival in the Philippines.

(5) The taxpayer shall submit proof to the Commissioner to show his intention of leaving the Philippines to reside permanently abroad or to return to and reside in the Philippines as the case may be for purpose of this Section.

Resident Alien – an individual whose residence is within the Philippines and who is not a citizen thereof.

Nonresident Alien – an individual whose residence is not within the Philippines and who is not a citizen thereof.

Resident Foreign Corporation – a foreign corporation not engaged in trade or business within the Philippines.

Nonresident Foreign Corporation – a foreign corporation not engaged in trade or business within the Philippines.


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Fiduciary – a guardian, trustee, executor, administrator, receiver, conservator or any person acting in any fiduciary capacity for any person.

Withholding Agent – any person required to deduct and withhold any tax under the provisions of Section 57.

Shares of Stock – includes shares of stock of a corporation, warrants and/or options to purchase shares of stock, as well as units of participation in a partnership (except general professional partnerships), joint stock companies, joint accounts, joint ventures taxable as corporations, associations and recreation or amusement clubs (such as golf, polo or similar clubs), and mutual fund certificates.

Shareholder – includes holders of a share/s of stock, warrant/s and/or option/s to purchase shares of stock of a corporation, as well as a holder of a unit of participation in a partnership (except general professional partnerships) in a joint stock company, a joint account, a taxable joint venture, a member of an association, recreation or amusement club (such as golf, polo or similar clubs) and a holder of a mutual fund certificate, a member in an association, joint-stock company, or insurance company.

Taxpayer – any person subject to tax imposed by this Title.

Including/Includes, when used in a definition contained in this Title – is not deemed to exclude other things otherwise within the meaning of the term defined.

Taxable Year – is the calendar year, or the fiscal year ending during such calendar year, upon the basis of which the net income is computed under this Title. 'Taxable year' includes, in the case of a return made for a fractional part of a year under the provisions of this Title or under rules and regulations prescribed by the Secretary of Finance, upon recommendation of the commissioner, the period for which such return is made.

Fiscal Year – means an accounting period of twelve (12) months ending on the last day of any month other than December.

Paid or Incurred and Paid or Accrued – is to be construed according to the method of accounting upon the basis of which the net income is computed under this Title.

Trade or Business – includes the performance of the functions of a public office.

Securities – shares of stock in a corporation and rights to subscribe for or to receive such shares. The term includes bonds, debentures, notes or certificates, or other evidence or indebtedness, issued by any corporation, including those issued by a government or political subdivision thereof, with interest coupons or in registered form.

Dealer in Securities – a merchant of stocks or securities, whether an individual, partnership or corporation, with an established place of business, regularly engaged in the purchase of securities and the resale thereof to customers; that is, one who, as a merchant, buys securities and re-sells them to customers with a view to the gains and profits that may be derived therefrom.

Bank – every banking institution, as defined in Section 2 of Republic Act No. 337, as amended, otherwise known as the General banking Act. A bank may either be a commercial bank, a thrift bank, a development bank, a rural bank or specialized government bank.

Non-Bank Financial Intermediary – a financial intermediary, as defined in Section 2(D)(C) of Republic Act No. 337, as amended, otherwise known as the General Banking Act, authorized by the Bangko Sentral ng Pilipinas (BSP) to perform quasi-banking activities.

Quasi-Banking Activities – borrowing funds from twenty (20) or more personal or corporate lenders at any one time, through the issuance, endorsement, or acceptance of debt instruments of any kind other than deposits for the borrower's own account, or through the issuance of certificates of assignment or similar instruments, with recourse, or of repurchase agreements for purposes of


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relending or purchasing receivables and other similar obligations: Provided, however, That commercial, industrial and other non-financial companies, which borrow funds through any of these means for the limited purpose of financing their own needs or the needs of their agents or dealers, shall not be considered as performing quasi-banking functions.

Deposit Substitutes – an alternative from of obtaining funds from the public (the term 'public' means borrowing from twenty (20) or more individual or corporate lenders at any one time) other than deposits, through the issuance, endorsement, or acceptance of debt instruments for the borrowers own account, for the purpose of relending or purchasing of receivables and other obligations, or financing their own needs or the needs of their agent or dealer. These instruments may include, but need not be limited to bankers' acceptances, promissory notes, repurchase agreements, including reverse repurchase agreements entered into by and between the Bangko Sentral ng Pilipinas (BSP) and any authorized agent bank, certificates of assignment or participation and similar instruments with recourse: Provided, however, That debt instruments issued for interbank call loans with maturity of not more than five (5) days to cover deficiency in reserves against deposit liabilities, including those between or among banks and quasi-banks, shall not be considered as deposit substitute debt instruments.

Ordinary Income – any gain from the sale or exchange of property which is not a capital asset or property described in Section 39(A)(1). Any gain from the sale or exchange of property which is treated or considered, under other provisions of this Title, as 'ordinary income' shall be treated as gain from the sale or exchange of property which is not a capital asset as defined in Section 39(A)(1). The term 'ordinary loss' includes any loss from the sale or exchange of property which is not a capital asset. Any loss from the sale or exchange of property which is treated or considered, under other provisions of this Title, as 'ordinary loss' shall be treated as loss from the sale or exchange of property which is not a capital asset.

Rank and File Employees – all employees who are holding neither managerial nor supervisory position as defined under existing provisions of the Labor Code of the Philippines, as amended.

Mutual Fund Company – an open-end and close-end investment company as defined under the Investment Company Act.

Trade, Business or Profession – does not include performance of services by the taxpayer as an employee.

Regional or Area Headquarters – shall mean a branch established in the Philippines by multinational companies and which headquarters do not earn or derive income from the Philippines and which act as supervisory, communications and coordinating center for their affiliates, subsidiaries, or branches in the Asia-Pacific Region and other foreign markets.

Regional Operating Headquarters – a branch established in the Philippines by multinational companies which are engaged in any of the following services: general administration and planning; business planning and coordination; sourcing and procurement of raw materials and components; corporate finance advisory services; marketing control and sales promotion; training and personnel management; logistic services; research and development services and product development; technical support and maintenance; data processing and communications; and business development.

Long-Term Deposit or Investment Certificates – certificate of time deposit or investment in the form of savings, common or individual trust funds, deposit substitutes, investment management accounts and other investments with a maturity period of not less than five (5) years, the form of which shall be prescribed by the Bangko Sentral ng Pilipinas (BSP) and issued by banks only (not by non-bank financial intermediaries and finance companies) to individuals in denominations of Ten thousand pesos (P10,000) and other denominations as may be prescribed by the BSP.


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E. Corporations §22(B),NIRC – Corporations includes partnerships, no matter how created or organized, joint-stock companies, joint accounts (cuentas en participacion), association, or insurance companies, but does not include general professional partnerships and 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 consortium agreement under a service contract with the Government. "General professional partnerships" are partnerships formed by persons for the sole purpose of exercising their common profession, no part of the income of which is derived from engaging in any trade or business.

Pascual vs. Commissioner of Internal Revenue Mariano Pascual and Renato Dragon bought two parcels of land from Santiago Bernardino, et al. on June 22, 1965. On May 22, 1966, Pascual and Dragon bought another three parcels of land from Juan Roque.

The Bernardino properties were sold in 1968 to Marenir Development Corporation, for a net profit of P165,224.70. The Roque properties were sold to Erlinda Reyes and Maria Samson in 1970 for a net profit of P60,000.00. Pascual and Dragon paid the capital gains taxes in 1973 and 1974, availing of the tax amnesties granted in those years.

However, in March 31, 1979, the Acting Commissioner wrote to Pascual and Dragon, demanding the amount of P107,101.70 representing their deficiency income taxes for the years 1968 and 1970. Pascual and Dragon contested this assessment, contending that they availed of the tax amnesties of 1973 and 1974 and should no longer have to pay their deficiency income taxes.

The Commissioner replied saying that because they derived profits from the sale of properties that they co-owned, their co-ownership was actually an unregistered partnership taxable for corporate income tax separate and distinct from that of the partners under §20[b], NIRC and the profit that this corporation obtained was subject to taxes prescribed under §24, NIRC. Although they did pay taxes in 1973 and 1974, what was paid was the tax due on their personal income from the transaction, and not the tax due on the income derived from their de facto partnership.

Pascual and Dragon filed a Petition for Review with the CTA, which affirmed the decision of the CIR. The CTA based its ruling on Evangelista vs. Commissioner of Internal Revenue (102 Phil. 140 [1957]), where an unregistered partnership was formed and was subjected to corporate income tax distinct from that imposed on the partners.

Pascual and Dragon elevated the case to the Supreme Court, contending that there was insufficient evidence to show that they had in fact created an unregistered partnership.

Was there an unregistered partnership created by Pascual and Dragon such that its could be subject to corporate income tax distinct from the income tax of the partners?

The Supreme Court found in favor of Pascual and Dragon, saying that the case of Evangelista, used by the CTA in resolving the issue, differed significantly from the case at bar.

In Evangelista, the Supreme Court found that there was a clear intention to invest money and to create profit from a series of real estate transactions. In the case at bar, the purchase and sale of land were found to be isolated incidents that did not show the character of habituality peculiar to business transactions for the purpose of gain. The sharing of returns does not in itself establish a partnership whether or not the persons sharing have a joint or common right or interest in the property.

The Court cited Justice Bautista’s concurring opinion in Evangelista, which noted that the mere fact of sharing of profits from a transaction involving land held in co-ownership does not a partnership


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make. An isolated transaction where two or more persons contribute funds to buy certain real estate for profit in the absence of any other circumstancesshowing a contrary intention cannot be considered a partnership.

Obillos vs. Commissioner (139 SCRA 436) On March 2, 1973, Jose Obillos, Sr. completed payments on two lots of significant size in Greenhills. The next day, he transferred his rights to his four children, to enable them to build their residences. The lots were sold for P178,708.12 on March 13. The Torrens titles issued showed the Obillios siblings as co-owners of the properties.

After having held the properties for almost a year, the siblings sold the properties to Walled City Securities and Olga Cruz Canda for P313,050.00, with each sibling earning a total profit of P33,584.00. They treated the profit as a capital gain and paid income tax amounting to half of their profits.

One day before the expiration of the five-year prescriptive period, the Commissiner of Interna Revenue required the Obillos siblings to pay corporate income tax on the total profit in addition to individual income tax on their shares. He also assessed for fraud surcharge and accumulated interest. He also considered each share of the profits a distributive dividend and required that it be taxed in full.

Thus, the Obillos siblings were charged taxes and penalties worth P121,781.86 on their profit of P134,336.00, in addition to the capital gains already paid by them.

The case was elevated to the CTA, which affirmed the decision of the CIR.

Was there an unregistered partnership between the Obillos siblings such that the income they derived from the sale of the land could be held subject to corporate income tax distinct from the income tax of the partners?

The Supreme Court held in favor of the Obillos siblings.

To hold the co-ownership as an unregistered partnership would result in oppressive taxation, confirming the overturned dictum that the power to tax is the power to destroy.

There is also no de facto partnership between the siblings. The Court found Obillos’s testimony persuasive in finding that the siblings were merely co-owners. To hold them as co-owners would obliterate the distinction between a co-ownership and a partnership. Just because the siblings shared profits on an isolated transaction does not make them partners.

The division of the profit was merely incidental to the dissolution of the co-ownership. Their original purpose was to divide the lots for residential purposes.

Art. 1769(3) of the Civil Code provides that the sharing of gross returns does not o itself establish a partnership, whether or not the persons sharing them have a joint or common right or interest in any property from which the returns are derived. There must be an unmistakeable intention to form a partnership or joint venture.

The Court distinguished this from the Oña case, supra, where the heirs of an estate after partition used the inheritance and the incomes derived as a common fund to produce profits for themselves. In that case the Court found there actually was an unregistered partnership that was liable for corporate income tax.

The Court noted that what should have been investigated was whether or not the transfer from the senior Obillos was in fact a donation and whether the corresponding donor’s tax had been paid. However, the Court noted that the same may have already prescribed.


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Oña vs CIR (25 SCRA 74) Julia Buñales passed away on March 23, 1944, leaving behind her husband, Lorenzo Oña, and their five children.

In her intestate proceedings, Lorenzo was appointed administrator of her estate. On April 1949, he submitted the project of partition, but because three of the children were still minors at the time of approval of the partition, Lorenzo filed a petition to be appointed as guardian of the minors.

The project of partition shows that the heirs have undivided interest in ten parcels of land, six houses, and an amount collected from the War Damage Commission. This amount was used to rehabilitate the properties owned by them.

Although the partition was approved, no actual partition was made. Instead, the properties remained under the management of Lorenzo who used the properties in business by leasing or selling them and investing the income earned in real properties.

The incomes were recorded in books of account kept by Lorenzo, with the corresponding shares of each child for the year known. However, the children did not actually receive their shares in the profits, which were kept by Lorenzo as he reinvested them.

On the basis of these facts the Commissioner decided that the Oñas were in an unregistered partnership and therefore subject to corporate income tax.

Are the Oñas liable for corporate income tax?

Yes, but only from 1955, when the CIR assessed them as a de facto partnership, and not from the moment of the creation of the de facto partnership itself.

The moment the Oñas allowed not only the incomes from their respective shares but even the inherited properties themselves to be used by Lorenzo as a common funin undertaking several transactions or in business, with the intention oderiving profit to shared by them proportionally, such act was tantamount to actually contributing incomes to a common fund and thus formed an unregistered partnership within the purview of the provisions of the Tax Code.

From the moment of partition, heirs are entitled to their respective definite shares of the estate and the incomes thereof, for each of them to manage and dispose of as exclusively his own wthout the intervention of the other heirs, and he becomes liable individually for all taxes in connection therewith. If after partition, he allows his share to be held in common withhis co-heirs under a single management to be used with the intentof making profit thereby in proportion to his share, there can be no doubt that, even if no document or instrument were executed for the purpose, for tax purposes at least, an unregistered partnership is formed.

For purposes of the tax on corporations, our NIRC includes these partnerships, with the exception only of duly registered general copartnerships within the purview of the term corporation.

BIR Ruling No. 317-92 Ayala Land, Inc.(ALI) & Appleyard Properties, Inc(API) entered into a Memorandum of Agreement (MOA) for the construction of the 6750 Bldg.. Pursuant to the MOA, they will contribute equal amounts to the construction costs & ALI will own 60% of the building while API will own 40%, while there is separate ownership, they will share common area expenses, real estate taxes, etc in the same proportion. ALI & API now propose to enter into a another agreement, a Joint Venture Agreement(JVA). Under the JVA, both ALI & API will contribute money as additional working capital & ALI will be appointed as manager & will be responsible for leasing the floors.

The MOA has not by itself created a taxable joint venture. However, the joint venture to be subsequently entered into by & between ALI & API will create a joint venture subject to tax.


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s thereof, for each of them to manage & dispose of as exclusively his own w/o intervention of the heirs, & accordingly, he becomes liable individually for all taxes in connection therewith. If after such partition, he allows his share to be held in common with his co-heirs under a single management to be used with the intent of making profit thereby in proportion to his share, there can be no doubt that even if no document or instrument were executed for the purpose, for tax purposes, at least, an unregistered partnership is formed.

For purposes of tax on corporations, the NIRC, includes partnerships-with the exception of only duly registered gen. co-partnerships—within the purview of the term corporation.

E. Income Tax Rates §27 (A), Tax Code provides that the income tax rate on domestic corporations shall be 32% of taxable income from all sources.

F. Proprietary Educational Institutions and Hospitals §27 (B), Tax Code provides that the income tax rate on

(1) proprietary educational institutions and

(2) hospitals which are nonprofit shall be 10% of taxable income.

But if such institution derives more than 50% of its gross income from all sources from an unrelated trade or business, the tax on its entire taxable income shall be 32%.

A proprietary educational institution is any private school maintained and administered by private individuals which is accredited by the proper government agency.

Finance Department Order # 137-87

Taxpayer Tax Base Rate

Propriety educational institution and non-profit hospital

Taxable income from all sources

10%

Resident international carrier Gross Philippine Billings 2 1/2%

Non-resident owner or lessor of vessel

Gross rentals, leases, and charter fees from the Philippines

4 1/2%

Non-resident cinematographic film owner, lessor or distributor

Gross income from the Philippines

25%

Non-resident lessor of aircraft, machinery and other equipment

Gross rentals, charter and other fees from Philippine sources

7 1/2%

Regional operating headquarters of multinational

Philippines taxable income 10%


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company

GOCCs (except: GSIS, SSS, PHIC, PCSO and PAGCOR)

N/A The same as other corporations engaged in

similar activities

Notes • There is no minimum corporate income tax for special corporations • All revenues of non-stock, non-profit educational institutions used actually, directly and

exclusively for educational purposes shall be exempt from taxes • If the gross income of a proprietary educational institution or hospital from unrelated trade,

business or other activity exceeds 50% of the total gross income derived from all sources, such educational institution or hospital shall be taxed as an ordinary corporation

• Non-resident owners of vessels are treated as special corporations only from charters or leases of the vessels to Filipino citizens or corporations approved by the Maritime Industry Authority

RMC 76-03

Non-stock, non-profit corporations

Organizations enumerated under Section 30 of the Tax Code of 1997 are exempt from the payment of income tax on income received by them as such an organization.

However, they are subject to the corresponding internal revenue taxes imposed under the Tax Code of 1997 on their income derived from any of their properties, real or personal, or any activity conducted for profit regardless of the disposition thereof (i.e. rental payment from their building/premises), which income should be returned for taxation.

In addition, their interest income from currency bank deposits and yield or any other monetary benefit from deposit substitute instruments and from trust funds and similar arrangement, and royalties derived from sources within the Philippines are subject to the 20% final withholding tax: provided, however, that interest income derived by them from a depository bank under the expanded foreign currency deposit system shall be subject to 71/2% final withholding tax pursuant to Section 27(D)(1) in relation to Section 57(A), both of the Tax Code of 1997.

It shall also be constituted as a withholding agent for the government if they acts as an employer and any of their employee receives compensation income subject to withholding tax under Section 79(A), Chapter XIII, Title II of the Tax Code of 1997, as implemented by Revenue Regulations No. 2-98, or if they makes income payments to individuals or corporations subject to the withholding tax provided for in Section 57 of the Tax Code of 1997, also as implemented by Revenue Regulations No. 2-98.

Non-stock, non-profit educational institutions

The exemption of non-stock, non-profit educational institutions refers to internal revenue taxes imposed by the National Government on all revenues and assets used actually, directly and exclusively for educational purposes (Paragraph 3, Section 4, Article XIV of the Constitution).

Furthermore, revenues derived from assets used in the operation of cafeterias/canteens and bookstores are exempt from taxation provided they are owned and operated by the educational institution as ancillary activities and the same are located within the school premises.

Pursuant to Section 109(m) of the Tax Code of 1997, private educational institutions shall be exempt from value-added tax provided they are accredited either by the Department of Education, Culture


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and Sports or by the Commission on Higher Education. However, this exemption does not extend to their other activities involving sale of goods and services.

However, they shall be subject to internal revenue taxes on income from trade, business or other activity, the conduct of which is not related to the exercise or performance by such educational institutions of their educational purposes or functions (Sec. 2, Finance Department Order No. 137-87 as amended by Finance Department Order No. 92-88) i. e. rental payment from their building/premises.

Unlike non-stock, non-profit corporations, their interest income from currency bank deposits and yield from deposit substitute instruments used actually, directly and exclusively in pursuance of their purposes as an educational institution, are exempt from the 20% final tax and 7 ½% tax on interest income under the expanded foreign currency deposit system imposed under Section 27(D)(1) of the Tax Code of 1997, subject to compliance with the conditions that as a tax-exempt educational institution, they shall on an annual basis submit to the Revenue District Office concerned an annual information return and duly audited financial statement together with the following:

(a) Certification from their depository banks as to the amount of interest income earned from passive investment not subject to the 20% final withholding tax and 7 ½% tax on interest income under the expanded foreign currency deposit system imposed by Section 27(D)(1) of the Tax Code of 1997;

(b) Certification of actual utilization of the said income; and

(c) Board Resolution by the school administration on proposed projects (i.e., construction and/or improvement of school buildings and facilities, acquisition of equipment, books and the like) to be funded out of the money deposited in banks or placed in money markets, on or before the 14th day of the fourth month following the end of its taxable year (Sec. 3, Finance Department Order No. 137-87).

Finally, the exemption does not cover withholding taxes. As an educational institution, they are constituted as withholding agents for the government required to withhold the tax on compensation income of their employees, or the withholding tax on income payments to persons subject to tax pursuant to Section 57 of the Tax Code of 1997.

In both cases, in order to monitor the activities being conducted by these institutions, it is mandatory that they should maintain their respective set of books of accounts as prescribed in Section 235 of the Tax Code of 1997.

Furthermore, both institutions are subject to the payment of the annual registration fee of P500.00 as prescribed in Section 236(B) of the Tax Code of 1997. They are also required under Section 6(C) in relation to Section 237 of the same Code to issue duly registered receipts or sales or commercial invoices for each sale or transfer of merchandise or for services rendered which are not directly related to the activities for which they are registered.

Income Tax Rules on Regional Headquarters of Multinational Companies

Regional headquarters of a multinational company Regional operating headquarters of a multinational company

A branch established in the Philippines by a multinational company and which headquarters do not earn or derive income from the Philippines and which act as supervisory, communications and coordinating center for its affiliates, subsidiaries or

A branch established in the Philippines by a multinational company which is engaged in any of the following qualifying services: general administration and planning, business planning and coordination,


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Regional headquarters of a multinational company Regional operating headquarters of a multinational company

branches in the Asia-Pacific region and other foreign markets

sourcing/procurement of raw materials and components, corporate finance advisory, marketing control and sales promotion, training and personnel management, logistics services, R&D development services and project development, technical support and maintenance, data processing and communication, and business development

Shall not be subject to income tax Shall pay a tax of 10% of its net income

Dept Order No. 149-95 Non-stock, nonprofit educational institutions are exempt from taxes on all their revenues and assets used actually, directly, and exclusively for educational purposes. They shall, however be subject to internal revenue taxes on income from trade, business or other activity the conduct of which is not related to the exercise or performance by such educational institution of its educational purpose or function.

G. GOCCs §27(C), Tax Code: provides that GOCCs shall pay the tax rate imposed on similar corporations.

However, the following are exempted:

• GSIS • SSS • PCSO • PAGCOR • PHIC – Philippine Health Insurance Corporation.

H. Passive Income

Interest, Deposit Substitute, Royalties Section 27 (D), Tax Code

20% Final tax on Interests from PHP bank deposits, deposit substitutes, and royalties derived from sources within the Philippines.

7.5% Final tax on interests from foreign currency deposits under the foreign currency deposit systems – this is different from the interest income earned by foreign currency deposit units of banks from foreign currency transactions such as USD loans, etc – this will be discussed under FCDU.

Sale of shares • 5%/10% final tax on net capital gains from the sale, exchange, or other disposition of shares of

stock in a domestic corporation except shares of stock sold through the stock exchange P1-P100K – 5%


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• Any amount over 100K – 10% (the 10% is imposed only on the amount over 100K)

FCDU 10% final tax on income earned by foreign currency deposit units of banks from foreign currency transactions such as USD loans.

RR 10-98 §2.24. Income Tax Rate of Interest Income from Foreign Currency Deposit

Individual Income Tax on Interest Income from a Depository Bank under the Foreign Currency Deposit System

(1) Resident Citizen or Resident Alien 7.5% final withholding tax

(2) Non-Resident Citizen Exempt


§2.27 and 2.28 – Corporate Income Tax on Interest Income from a Depository Bank under the Foreign Currency Deposit System

Taxation of Income of an FCDU or OBU from Foreign Currency Transactions – In general, income derived by an FCDU or an OBU from foreign currency transactions with residents of the Philippines, including local commercial banks, local branches of foreign banks, and other depository banks under the foreign currency deposit system, shall be subject to final withholding tax of 10% based on gross income.

Intercorporate Dividends

Comm. v. Manning, 66 SCRA 14

Under a trust agreement, Julius Reese who owned 24,700 shares of the 25,000 common shares of MANTRASCO, and the three private respondents who owned the rest, at 100 shares each, deposited all their shares with the Trustees. The trust agreement provided that upon Reese's death MANTRASCO shall purchase Reese's shares. The trust agreement was executed in view of Reese's desire that upon his death the Company would continue under the management of respondents. Upon Reese's death and partial payment by the company of Reeses's share, a new certificate was issued in the name of MANTRASCO, and the certificate indorsed to the Trustees. Subsequently, the stockholders reverted the 24,700 shares in the Treasury to the capital account of the company as stock dividends to be distributed to the stockholders. When the entire purchase price of Reese's interest in the company was paid in full by the latter, the trust agreement was terminated, and the shares held in trust were delivered to the company.

The Bureau of Internal Revenue concluded that the distribution of the 24,700 shares of Reese as stock dividends was in effect a distribution of the "assets or property of the corporation." It therefore assessed respondents for deficiency income taxes as well as for fraud penalty and interest charges.

On a petition for review, the Supreme Court held that the newly acquired shares were not treasury shares; their declaration as treasury stock dividends was a complete nullity and that the


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assessment by the Commissioner of fraud penalty and the imposition of interest charges pursuant to the provision of the Tax Code were made in accordance with law.

Where by the use of a trust instrument as a convenient technical device, respondents bestowed unto themselves the full worth and value of a deceased stockholder's corporate holding acquired with the very earnings of the companies, such package device which obviously is not designed to carry out the usual stock dividend purpose of corporate expansion reinvestment, e.g., the acquisition of additional facilities and other capital budget items, but exclusively for expanding the capital base of the surviving stockholders in the company, cannot be allowed to deflect the latter's responsibilities toward our income tax laws. The conclusion is ineluctable that whenever the company parted with a portion of its earnings "to buy" the corporate holdings of the deceased stockholders, it was in ultimate effect and result making a distribution of such earnings to the surviving stockholders. All these amounts are consequently subject to income tax as being, in truth and in fact, a flow of cash benefits to the surviving stockholders.

Where the surviving stockholders, by resolution, partitioned among themselves, as treasury stock dividends, the deceased stockholder's interest, and earnings of the corporation over a period of years were used to gradually wipe out the holdings therein of said deceased stockholder, the earnings (which in effect have been distributed to the surviving stockholders when they appropriated among themselves the deceased stockholder's interest), should be taxed for each of the corresponding years when payments were made to the deceased's estate on account of his shares. In other words, the Tax Commissioner may not asses the surviving stockholders, for income tax purposes, the total acquisition cost of the alleged treasury stock dividends in one lump sum. However, with regard to payment made with the corporation's earnings before the passage of the resolution declaring as stock dividends the deceased stockholder's interest (while indeed those earnings were utilized in those years to gradually pay off the value of the deceased stockholder's holdings), the surviving stockholders should be liable (in the absence of evidence that prior to the passage of the stockholder's resolution the contributed of each of the surviving stockholder rose corresponding), for income tax purposes, to the extent of the aggregate amount paid by the corporation (prior to such resolution) to buy off the deceased stockholder's shares. The reason is that it was only by virtue of the authority contained in said resolution that the surviving stockholders actually, albeit illegally, appropriated and petitioned among themselves the stockholders equity representing the deceased stockholder's interest.

Sale of Realty

Capital Gains from the sale of Real Property

Tax rate is now 6% based on the gross selling price or current fair market value, whichever is higher. However, if the sale is made to the government or any of its subdivisions or to any GOCC, it may be taxed as part of the taxpayers income ( as set forth in the fist paragraph of this part), at the option of the taxpayer. (RR 8-98)

EXCEPTION: If the sale is of the taxpayers principal residence of a natural person and the proceeds are used to purchase a new home, it shall be exempt provided:

• A return is filed with the Bureau within 30 days from the sale stating the intention to avail of the exemption

• Proceeds are used within 18 months from sale to purchase a new residence • The historical costs of the residence sold is carried over to the new home • Exemption can only be availed of once every 10 years • If proceeds are not fully utilized, portion of the gain is taxable using this formula: Taxable

gain= gsp or fmv (whichever is higher) x unutilized portion/gsp


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RR No. 4-99, 9 March 1999

Further Amending Revenue Memorandum Order No. 29-86 dated September 3, 1986, as Amended by Revenue Memorandum Order No. 16-88 dated April 18, 1988, Relative to the Payment of Capital Gains Tax and Documentary Stamp Tax on Extra-Judicial Foreclosure Sale of Capital Assets Initiated by Banks, Finance and Insurance Companies

Foreclosure of Mortgage Provision Under Presidential Decree No. 1529, Otherwise Known as "Property Registration Decree". — Section 63 of P.D. No. 1529, otherwise known as the "Property Registration Decree" provides as follows:

Foreclosure of Mortgage

(a) If the mortgage was foreclosed judicially, a certified copy of the final order of the court confirming the sale shall be registered with the Register of Deeds. If no right of redemption exists, the certificate of title of the mortgagor shall be cancelled, and a new certificate issued in the name of the purchaser.

Where the right of redemption exists, the certificate of title of the mortgagor SHALL NOT BE CANCELLED, but the certificate of sale and the order confirming the sale shall be registered by a BRIEF MEMORANDUM thereof made by the Register of Deeds upon the certificate of title. In the event the property is redeemed, the certificate or deed of redemption shall be filed with the Register of Deeds, and a brief memorandum thereof shall be made by the Register of Deeds on the certificate of title of the mortgagor.

If the property is not redeemed, the final deed of sale executed by the sheriff in favor of the purchaser at a foreclosure sale shall be registered with the Register of Deeds; whereupon the title of the mortgagor shall be cancelled, and a new certificate issued in the name of the purchaser.

(b) If the mortgage was foreclosed extrajudicially, a certificate of sale executed by the officer who conducted the sale shall be filed with the Register of Deeds who shall make a brief memorandum thereof on the certificate of title.

In the event of redemption by the mortgagor, the same rule provided for in the second paragraph of this section shall apply.

In case of non-redemption, the purchaser at foreclosure sale shall file with the Register of Deeds, either a final deed of sale executed by the person authorized by virtue of the power of attorney embodied in the deed of mortgage, or his sworn statement attesting to the fact of non-redemption; whereupon, the Register of Deeds shall issue a new certificate in favor of the purchaser after the owner's duplicate of the certificate has been previously delivered and cancelled.

It is clear from the above provision of the "Property Registration Decree" that where the right of redemption of the mortgagor exists, the certificate of title of the mortgagor shall not be cancelled yet even if the property had already been subjected to foreclosure sale, BUT INSTEAD only a brief memorandum shall be annotated at the back of the certificate of title, and the cancellation of the title and the subsequent issuance of a new title in favor of the purchaser/highest bidder depends on whether the mortgagor shall redeem or not the mortgaged property within one year from the issuance of the certificate of sale. Thus, no transfer of title to the highest bidder can be effected yet until and after the lapse of the one-year period from the issuance of the said certificate of sale.

Capital Gains Tax. —

(1) In case the mortgagor exercises his right of redemption within one year from the issuance of the certificate of sale, no capital gains tax shall be imposed because no capital gains has been derived by the mortgagor and no sale or transfer of real property was realized. A certification to that effect or the deed of redemption shall be filed with the Revenue District Office having jurisdiction over the place where the property is located which certification or deed shall likewise be filed with the


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Register of Deeds and a brief memorandum thereof shall be made by the Register of Deeds on the Certificate of Title of the mortgagor.

(2) In case of non-redemption, the capital gains tax on the foreclosure sale imposed under Secs. 24(D)(1) and 27(D)(5) of the Tax Code of 1997 shall become due based on the bid price of the highest bidder but only upon the expiration of the one-year period of redemption provided for under Sec. 6 of Act No. 3135, as amended by Act No. 4118, and shall be paid within thirty (30) days from the expiration of the said one-year redemption period.

Documentary Stamp Tax. —

(1) In case the mortgagor exercises his right of redemption, the transaction shall only be subject to the P15.00 documentary stamp tax imposed under Sec. 188 of the Tax Code of 1997 because no land or realty was sold or transferred for a consideration.

(2) In case of non-redemption, the corresponding documentary stamp tax shall be levied, collected and paid by the person making, signing, issuing, accepting, or transferring the real property wherever the document is made, signed, issued, accepted or transferred where the property is situated in the Philippines; Provided, That whenever one party to the taxable document enjoys exemption from the tax, the other party thereto who is not exempt shall be the one directly liable for the tax. The tax return prescribed under the Code shall be filed within ten (10) days after the close of the month following the lapse of the one-year redemption period, and the tax due under Sec. 196 of the Tax Code of 1997 shall be paid based on the bid price at the same time the aforesaid return is filed.

Tax Clearance Certificate/Certificate Authorizing Registration. — In case of non-redemption, a tax clearance certificate (TCC) or Certificate Authorizing Registration (CAR) in favor of the purchaser/highest bidder shall only be issued upon presentation of the capital gains and documentary stamp taxes returns duly validated by an authorized agent bank (AAB) evidencing full payment of the capital gains and documentary stamp taxes due imposed under Secs. 3 and 4 of these Regulations on the sale of the property classified as capital asset. The AAB must be located at the Revenue District Office having jurisdiction over the place where the property is located.

I. Minimum Corporate Income Tax §27(E), NIRC. Minimum Corporate Income Tax on Domestic Corporations. -

(1) Imposition of Tax. - A minimum corporate income tax of two percent (2%0 of the gross income as of the end of the taxable year, as defined herein, is hereby imposed on a corporation taxable under this Title, 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 under Subsection (A) of this Section for the taxable year.

(2) Carry Forward of Excess Minimum Tax. - Any excess of the minimum corporate income tax over the normal income tax as computed under Subsection (A) of this Section shall be carried forward and credited against the normal income tax for the three (3) immediately succeeding taxable years.

(3) Relief from the Minimum Corporate Income Tax Under Certain Conditions. - 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.

The Secretary of Finance is hereby authorized to promulgate, upon recommendation of the Commissioner, the necessary rules and regulation that shall define the terms and conditions


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under which he may suspend the imposition of the minimum corporate income tax in a meritorious case.

(4) Gross Income Defined. - For purposes of applying the minimum corporate income tax provided under Subsection (E) hereof, the term 'gross income' shall mean gross sales less sales returns, discounts and allowances and cost of goods sold. "Cost of goods sold' shall include all business expenses directly incurred to produce the merchandise to bring them to their present location and use.

For a trading or merchandising concern, "cost of goods sold' shall include the invoice cost of the goods sold, plus import duties, freight in transporting the goods to the place where the goods are actually sold including insurance while the goods are in transit.

For a manufacturing concern, cost of "goods manufactured and sold" shall include all costs of production of finished goods, such as raw materials used, direct labor and manufacturing overhead, freight cost, insurance premiums and other costs incurred to bring the raw materials to the factory or warehouse.

In the case of taxpayers engaged in the sale of service, 'gross income' means gross receipts less sales returns, allowances, discounts and cost of services. "Cost of services" shall mean all direct costs and expenses necessarily incurred to provide the services required by the customers and clients including (A) salaries and employee benefits of personnel, consultants and specialists directly rendering the service and (B) cost of facilities directly utilized in providing the service such as depreciation or rental of equipment used and cost of supplies: Provided, however, That in the case of banks, "cost of services" shall include interest expense.

RR 9-98 Imposition of the tax – A minimum corporate income tax of 2% of the gross income as of the end of the taxable year is hereby imposed upon any domestic corporation beginning the 4th taxable year immediately following the taxable year in which such corporation commenced its business operations. The MCIT shall be imposed whenever such corporation has zero or negative taxable income or whenever the amount of minimum corporate income tax is greater than the normal income tax due from such corporation.

Carry forward of excess minimum corporate income tax – Any excess of the minimum corporate income tax over the normal income tax as computed shall be carried against the normal income tax for the 3 immediately succeeding years.

Relief from the MCIT – The Secretary of Finance, upon recommendation of the Commissioner, may suspend imposition of the MCIT upon submission of proof by the applicant-corporation, duly verified by the Commissioner’s authorized representative, that the corporation sustained substantial losses on account of a prolonged labor dispute or because of “force majeure” or because of legitimate business reverses.

The MCIT on Resident Foreign Corporations – The MCIT shall only apply to resident foreign corporations which are subject to normal income tax. Accordingly, the MCIT shall not apply to the following resident foreign corporations:

2. international carrier

3. offshore banking units

4. regional operating headquarters

5. firms that are taxed under special income tax regime (such as those enterprises registered with PEZA and enterprises registered pursuant to the Bases Conversion and Development Act


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J. Income Tax on Resident Foreign Corporations §28(A),NIRC. Tax on Resident Foreign Corporations. -

(1) In General. - Except as otherwise provided in this Code, a corporation organized, authorized, or existing under the laws of any foreign country, engaged in trade or business within the Philippines, shall be subject to an income tax equivalent to thirty-five percent (35%) of the taxable income derived in the preceding taxable year from all sources within the Philippines: Provided, That effective January 1, 1998, the rate of income tax shall be thirty-four percent (34%); effective January 1, 1999, the rate shall be thirty-three percent (33%), and effective January 1, 2000 and thereafter, the rate shall be thirty-two percent (32%).

In the case of corporations adopting the fiscal-year accounting period, the taxable income shall be computed without regard to the specific date when sales, purchases and other transactions occur. Their income and expenses for the fiscal year shall be deemed to have been earned and spent equally for each month of the period.

The reduced corporate income tax rates shall be applied on the amount computed by multiplying the number of months covered by the new rates within the fiscal year by the taxable income of the corporation for the period, divided by twelve.

Provided, however, That a resident foreign corporation shall be granted the option to be taxed at fifteen percent (15%) on gross income under the same conditions, as provided in Section 27 (A).

(2) Minimum Corporate Income Tax on Resident Foreign Corporations. - A minimum corporate income tax of two percent (2%) of gross income, as prescribed under Section 27 (E) of this Code, shall be imposed, under the same conditions, on a resident foreign corporation taxable under paragraph (1) of this Subsection.

(3) International Carrier. - An international carrier doing business in the Philippines shall pay a tax of two and one-half percent (2 1/2%) on its "Gross Philippine Billings" as defined hereunder:

(4) International Air Carrier. - "Gross Philippine Billings" refers to the amount of gross revenue derived from carriage of persons, excess baggage, cargo and mail originating from the Philippines in a continuous and uninterrupted flight, irrespective of the place of sale or issue and the place of payment of the ticket or passage document: Provided, That tickets revalidated, exchanged and/or indorsed to another international airline form part of the Gross Philippine Billings if the passenger boards a plane in a port or point in the Philippines: Provided, further, That for a flight which originates from the Philippines, but transshipment of passenger takes place at any port outside the Philippines on 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 form part of Gross Philippine Billings.

(5) International Shipping. - "Gross Philippine Billings" means gross revenue whether for passenger, cargo or mail originating from the Philippines up to final destination, regardless of the place of sale or payments of the passage or freight documents.

(6) Offshore Banking Units. - The provisions of any law to the contrary notwithstanding, income derived by offshore banking units authorized by the Bangko Sentral ng Pilipinas (BSP) to transact business with offshore banking units, including any interest income derived from foreign currency loans granted to residents, shall be subject to a final income tax at the rate of ten percent (10%) of such income.


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Any income of nonresidents, whether individuals or corporations, from transactions with said offshore banking units shall be exempt from income tax.

(7) Tax on Branch Profits Remittances. - Any profit remitted by a branch to its head office shall be subject to a tax of fifteen (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 Philippine Economic Zone Authority). The tax shall be collected and paid in the same manner as provided in Sections 57 and 58 of this Code: provided, that interests, dividends, rents, royalties, including remuneration for technical services, salaries, wages premiums, annuities, emoluments or other fixed or determinable annual, periodic or casual gains, profits, income and capital gains received by a foreign corporation during each taxable year from all sources within the Philippines shall not be treated as branch profits unless the same are effectively connected with the conduct of its trade or business in the Philippines.

(8) Regional or Area Headquarters and Regional Operating Headquarters of Multinational Companies. -

(a) Regional or area headquarters as defined in Section 22(DD) shall not be subject to income tax.

(b) Regional operating headquarters as defined in Section 22(EE) shall pay a tax of ten percent (10%) of their taxable income.

(9) Tax on Certain Incomes Received by a Resident Foreign Corporation. -

(a) Interest from Deposits and Yield or any other Monetary Benefit from Deposit Substitutes, Trust Funds and Similar Arrangements and Royalties. - 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 twenty percent (20%) of such interest: Provided, however, That interest income derived by a resident foreign corporation from a depository bank under the expanded foreign currency deposit system shall be subject to a final income tax at the rate of seven and one-half percent (7 1/2%) of such interest income.

(b) Income Derived under the Expanded Foreign Currency Deposit System. - Income derived by a depository bank under the expanded foreign currency deposit system from foreign currency transactions with local commercial banks including branches of foreign banks that may be authorized by the Bangko Sentral ng Pilipinas (BSP) to transact business with foreign currency deposit system units, including interest income from foreign currency loans granted by such depository banks under said expanded foreign currency deposit system to residents, shall be subject to a final income tax at the rate of ten percent (10%) of such income.

(10) Any income of nonresidents, whether individuals or corporations, from transactions with depository banks under the expanded system shall be exempt from income tax.

(a) Capital Gains from Sale of Shares of Stock Not Traded in the Stock Exchange. - A final tax at the rates prescribed below is hereby imposed upon the net capital gains realized during the taxable year from the sale, barter, exchange or other disposition of shares of stock in a domestic corporation except shares sold or disposed of through the stock exchange:

Not over P100,000 5% On any amount in excess of P100,000 10%


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(b) Intercorporate Dividends. - Dividends received by a resident foreign corporation from a domestic corporation liable to tax under this Code shall not be subject to tax under this Title.

In General In General. - Except as otherwise provided in this Code, a corporation organized, authorized, or existing under the laws of any foreign country, engaged in trade or business within the Philippines, shall be subject to an income tax equivalent to thirty-five percent (35%) of the taxable income derived in the preceding taxable year from all sources within the Philippines: Provided, That effective January 1, 1998, the rate of income tax shall be thirty-four percent (34%); effective January 1, 1999, the rate shall be thirty-three percent (33%), and effective January 1, 2000 and thereafter, the rate shall be thirty-two percent (32%).

In the case of corporations adopting the fiscal-year accounting period, the taxable income shall be computed without regard to the specific date when sales, purchases and other transactions occur. Their income and expenses for the fiscal year shall be deemed to have been earned and spent equally for each month of the period.

The reduced corporate income tax rates shall be applied on the amount computed by multiplying the number of months covered by the new rates within the fiscal year by the taxable income of the corporation for the period, divided by twelve.

Provided, however, That a resident foreign corporation shall be granted the option to be taxed at fifteen percent (15%) on gross income under the same conditions, as provided in Section 27 (A).

Minimum Corporate Income Tax on Resident Foreign Corporations. - A minimum corporate income tax of two percent (2%) of gross income, as prescribed under Section 27 (E) of this Code, shall be imposed, under the same conditions, on a resident foreign corporation taxable under paragraph (1) of this Subsection.

International Carrier International Carrier. - An international carrier doing business in the Philippines shall pay a tax of two and one-half percent (2 1/2%) on its "Gross Philippine Billings" as defined hereunder:

International Air Carrier. - "Gross Philippine Billings" refers to the amount of gross revenue derived from carriage of persons, excess baggage, cargo and mail originating from the Philippines in a continuous and uninterrupted flight, irrespective of the place of sale or issue and the place of payment of the ticket or passage document: Provided, That tickets revalidated, exchanged and/or indorsed to another international airline form part of the Gross Philippine Billings if the passenger boards a plane in a port or point in the Philippines: Provided, further, That for a flight which originates from the Philippines, but transshipment of passenger takes place at any port outside the Philippines on 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 form part of Gross Philippine Billings.

CIR vs. BOAC British Overseas Airways Corporation (BOAC) is a 100% British Government-owned corporatin organized and existing under the laws of the UK. It is engaged in the international airline business. BOAC does not have lading rights for traffic purposes in nine-month pariod partly in 1961 and 1962, when it was granted a temporary landing permit by the Civil Aeronautics Board.


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Although it did not carry passengrs and cargo to and from the Philippine, it maintained a general sales agent in the Philippines – Warner Barnes and Company, Ltd and later Qantas Airways – which was resonsible for selling BOAC tickets covering passengers and cargoes.

First Case: The CIR assessed BOAC the amount of approx P2.4M for 1959-1963. BOAC protested. In 1970, after investigation BOAC was assessed approx P858K for the years 1959-967. BOAC paid the new assessment under protest. BOAC filed a claim for refund. The claim was denied by the CIR. BOAC a petition for review with the Tax Court.

Second Case: BOAC was also assessed for the years 1968/69-1970-71 the amount of P549K. BOAC requested that the assessment be countermanded and set aside.

The cases were tried jointly. The Tax Court reversed the ruling of the CIR. The Tax Court contends that the sale of BOAC tickets by Warner Barnes and Company. Ltd. and later by Qantas do not constitute BOAC income from Philippine sources. The CTA said hat the income from transportation is income from services and the place where the service is rendered determines the source. Since the services were never done in the Philippines, BOAC had no income derived from Philippine sources.

Is BOAC a resident foreign corporation, being a foreign corporation not having any office or place of business?

BOAC is a resident foreign corporation. The term “doing business” implies a continuity of commercial dealings ad contemplates the performance of ats or works or the exercise of some function normally incident to and in progressive prosecution of commercial ain for the purpose and object of the business organization. During the periods covered by the assessments, BOAC maintained a general sales agent and the regular sale of tickets is the lifeblood of an airline business and BOAC as a resident foreign corporation engaged in busness is subject to tax upon its total net income received in the preceding taxable year.

Is the revenue derived by BOAC from sales of tickets in the Philippines, while having no landing rights, constitute income from Philippine sources?

Gross income includes gains, profits and income derived from salaries, wages, compensation, trades, business...or through transactions of any business carried on for ain or profit and income derived from any source whatever. This definition is broad and comprehensive enough to include proceeds from sales of transport documents.

BOAC says that income derived from transportation is income for services and the place where service is rendered determines the source and since the service did not occur within the Philippines, it cannot be subject to income tax.

The test of taxability is the source of income and the source of the income is that activity which produced the income. In BOAC’s case, the sale of the tickets within the Philippines is the activity that produces the income. The situs of the source of payments is the Philippines. The word source means “origin” and the origin of the income here is the Philippines

Is BOAC liable to Philippine income tax at the rate of 35% of its gross income receivd from all sources within the Philippines?

As of 24 November 1972 with PD No.69, international carriers are taxed 2 ½ % on their gross Philippine billings. Gross Philippine billings includes gross revenue realized from uplifts anywhere in the world by any international carrier doing business in the Philippines of passage documents sold therein, whether for passenger, excess baggage or mail, provided the cargo or mail orginates from the Philippines. The tax on gross billings is an income tax not an excise or privilege tax.

Decision of the CTA was SET ASIDE. BOAC was ordered to pay deficiency taxes and the claim for refund is denied.

Dissent of Justice Feliciano


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Income can either come from (1) labor (source is place where the labor s done) and/or (2) capital (source is the place where capital is employed) and/or (3) sale of capital assets (source is place where the sale is made).

What source rule of income is applicable in the case at bar? Is it (a) rule applicable to contracts of service; or (2) rule applicable to sales of personal property? He also made distinctions as to sources wholly derived from within the Philippines, sources totally derived from without the Philippines and sources derived partly within and partly without the Philippins.

In relation to the case at bar, Justice Felicano says that you can eiher consider the case as a contract of service (properly denominated as a contract of carriage) or as a sale of a ticket or personal property. Justice Feliciano says BOAC’s business should be more appropriately characterized as a contract of service rather than an “activity” or use or sale of property. He says that since it is service, and the service was totally outside the Philippines, it cannot be taxed. He votes to affirm the decision of the CTA.

RR 15-02

§2. Definition of Terms. - For purposes of these Regulations, the following

terms shall be construed as follows:

(a) International air carrier – shall refer to a foreign airline corporation doing business in the Philippines having been granted landing rights in any Philippine port to perform international air transportation services/activities or flight operations anywhere in the world.

(b) Off-line carrier – shall refer to an international air carrier having no flight operations to and from the Philippines.

(c) On-line carrier – shall refer to an international air carrier having or maintaining flight operations to and from the Philippines.

(d) Off-line flights – shall refer to flight operations carried out or maintained by an international air carrier between ports or points outside the territorial jurisdiction of the Philippines, without touching a port or point situated in the Philippines, except when in distress or due to force majeure.

(e) On-line flights – shall refer to flight operations carried out or maintained by an international air carrier between ports or points in the territorial jurisdiction of the Philippines and any port or point outside the Philippines.

(f) Chartered flight – shall refer to flight operation which includes operations between ports or points situated in the Philippines and ports and points outside the Philippines, which includes block charter, placed under the custody and control of a charterer by a contract/charter for rent or hire relating to a particular airplane.

(g) "Originating from the Philippines" - shall include the following:

(1) Where passengers, their excess baggage, cargo and/or mail originally commence their flight from any Philippine port to any other port or point outside the Philippines;

(2) Chartered flights of passengers, their excess baggage, cargo and/or mail originally commencing their flights from any foreign port and whose stay in the Philippines is for more than forty-eight (48) hours prior to embarkation save in cases where the flight of the airplane belonging to the same airline company failed to depart within forty-eight (48) hours by reason of force majeure;

(3) Chartered flights of passengers, their excess baggage, cargo and/or mail originally commencing their flights from any Philippine port to any foreign port; and


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(4) Where a passenger, his excess baggage, cargo and/or mail originally commencing his flight from a foreign port alights or is discharged in any Philippine port and thereafter boards or is loaded on another aircraft, owned by the same airline company, the flight from the Philippines to any foreign port shall not be considered originating from the Philippines, unless the time intervening between arrival and departure of said passenger, his excess baggage, cargo and/or mail from the Philippines exceeds forty-eight (48) hours, except, however, when the failure to depart within forty-eight (48) hours is due to reasons beyond his control, such as, when the only next available flight leaves beyond forty-eight (48) hours or by force majeure.

Provided, however, that if the second aircraft belongs to a different airline company, the flight from the Philippines to any foreign port shall be considered originating from the Philippines regardless of the intervening period between the arrival and departure from the Philippines by said passenger, his excess baggage, cargo and/or mail.

(h) "Continuous and Uninterrupted Flight" – shall refer to a flight in the carrier of the same airline company from the moment a passenger, excess baggage, cargo, and/or mail is lifted from the Philippines up to the point of final destination of the passenger, excess baggage, cargo and/or mail. The flight is not considered continuous and uninterrupted if transshipment of passenger, excess baggage, cargo and/or mail takes place at any port outside the Philippines on another aircraft belonging to a different airline company.

(i) "Place of Final Destination" – shall refer to the place of final disembarkation designated or agreed upon by the parties in a contract of air transportation where the passengers, their excess baggage, cargo and/or mail are to be transported and unloaded by the contracting airline company.

(j) "Transient Passengers" – shall refer to a passenger who originated from outside of the Philippines towards a final destination also outside of the Philippines but stops in the Philippines for a period of less than forty eight (48) hours, or even more than forty-eight (48) hours, if the delay is due to force majeure or reasons beyond his control, wherein in both cases the passenger boarded an airplane of the same airline company bound to the place of final destination.

“Non-revenue passengers" – shall refer to the non-revenue passengers as defined under Resolution No. 788 of the International Air Transport Association regarding Free and Reduced Fare or Rate Transportation and any other Free/Reduced Rate Mileage Programs Administered by individual International Air Carriers.

“Adult passenger ” - shall refer to a passenger who has attained his twelfth birthday.

“Children” – shall refer to passengers who have attained their second but not their twelfth birthday.

“Infant” - shall refer to a passenger who has not attained his second birthday.

(k) “Baggage” - shall refer to such articles, effects and other personal property of a passenger as are necessary or appropriate for wear, use, comfort or convenience in connection with his trip.

“Excess baggage” – shall refer to that part of the baggage which is in excess of that baggage which may be carried free of charge.

(l) “Refund” – shall refer to the repayment to the purchaser of all or a portion of the fare, rate or charge for unused carriage or service.

§3. Foreign Airline Companies without Flights Starting From or Passing Through any Point in the Philippines. - An off-line airline having a branch office or a sales agent in the Philippines which sells passage documents for compensation or commission to cover off-line flights of its principal or head office, or for other airlines covering flights originating from Philippine ports or off-line flights, is


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not considered engaged in business as an international air carrier in the Philippines and is, therefore, not subject to Gross Philippine Billings Tax provided for in Section 28 (A)(3)(a) of the Code nor to the three percent (3%) common carrier’s tax under Section 118(A) of the same Code. This provision is without prejudice to classifying such taxpayer under a different category pursuant to a separate provision of the same Code.

§4. Tax Imposed on International Air Carrier with Flights Originating from Philippine Ports. - An international air carrier having flights originating from any port or point in the Philippines, as clarified in Sec. 2(g) and (h) hereof, irrespective of the place where passage documents are sold or issued, is subject to the Gross Philippine Billings Tax of 2½% imposed under Section 28(A)(3)(a) of the Code unless subject to a different tax rate under the applicable tax treaty to which the Philippines is a signatory.

§5. Determination of Gross Philippine Billings. –

(a) In computing for “Gross Philippine Billings”, there shall be included the total amount of gross revenue derived from passage of persons, excess baggage, cargo and/or mail, originating from the Philippines in a continuous and uninterrupted flight, irrespective of the place of sale or issue and the place of payment of the passage documents.

The gross revenue for passengers whose tickets are sold in the Philippines shall be the actual amount derived for transportation services, for a first class, business class or economy class passage, as the case may be, on its continuous and uninterrupted flight from any port or point in the Philippines to its final destination in any port or point of a foreign country, as reflected in the remittance area of the tax coupon forming an integral part of the plane ticket. For this purpose, the Gross Philippine Billings shall be determined by computing the monthly average net fare of all the tax coupons of plane tickets issued for the month per point of final destination, per class of passage (i.e., first class, business class, or economy class) and per classification of passenger (i.e., adult, child or infant), and multiplied by the corresponding total number of passengers flown for the month as declared in the flight manifest. For tickets sold outside the Philippines, the gross revenue for passengers for first class, business class or economy class passage, as the case may be, on a continuous and uninterrupted flight from any port or point in the Philippines to final destination in any port or point of a foreign country shall be determined using the locally available net fares applicable to such flight taking into consideration the seasonal fare rate established at the time of the flight, the class of passage (whether first class, business class, economy class or non-revenue), the classification of passenger (whether adult, child or infant), the date of embarkation, and the place of final destination. Correspondingly, the Gross Philippine Billing for tickets sold outside the Philippines shall be determined in the manner as provided in the preceding paragraph. Passage documents revalidated, exchanged and/or endorsed to another on-line international airline shall be included in the taxable base of the carrying airline and shall be subject to Gross Philippine Billings tax if the passenger is lifted/boarded on an aircraft from any port or point in the Philippines towards a foreign destination. The gross revenue on excess baggage which originated from any port or point in the Philippines and destined to any part of a foreign country shall be computed based on the actual revenue derived as appearing on the official receipt or any similar document for the said transaction.

The gross revenue for freight or cargo and mail shall be determined based on the revenue realized from the carriage thereof. The amount realized for freight or cargo shall be based on the amount appearing on the airway bill after deducting therefrom the amount of discounts granted which shall be validated using the monthly cargo sales reports generated by the IATA Cargo Accounts Settlement System (IATA CASS) for airway bills issued through their cargo agents or the monthly reports prepared by the airline themselves or by their general sales agents for direct issues made. The amount realized for mails shall, on the other hand, be determined based on the amount as reflected in the cargo manifest of the carrier. Provided,


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however, that in the case of the passenger's passage documents or flights from any port or point in the Philippines and back, that portion of revenue pertaining to the return trip to the Philippines shall not be included as part of “Gross Philippine Billings”.

In cases where a flight is interrupted by force majeure resulting in the transshipment of the passengers, their excess baggage, freight, cargo and/or mail to another airplane operated by another airline company and transshipment takes place in another country, the Gross Philippine Billings shall be determined based on that portion of flight from the Philippines up to the point of said transshipment.

(b) Non-revenue passengers shall not be given value for purposes of computing the taxable base subject to tax. Refunded tickets shall likewise not be included in the computation of Gross Philippine Billings.

(c) In the case of a flight that originates from the Philippines but transshipment of passenger, excess baggage, cargo and/or mail takes place elsewhere in another aircraft belonging to a different airline company, the Gross Philippine Billings shall be that portion of the revenue corresponding to the leg flown from any point in the Philippines to the point of transshipment.

(d) In computing the taxable amount, the foreign exchange conversion rate to be used shall be the average monthly Airline Rate as provided in the Bank Settlement Plan (BSP) Monthly sales report or the Bankers Association of the Philippines (BAP) rate, whichever is higher. The average monthly BAP rate shall be computed by adding all the different BAP rates during the month and dividing the same by the number of days during the month.

OBUs/FCDUs Offshore Banking Units. - The provisions of any law to the contrary notwithstanding, income derived by offshore banking units authorized by the Bangko Sentral ng Pilipinas (BSP) to transact business with offshore banking units, including any interest income derived from foreign currency loans granted to residents, shall be subject to a final income tax at the rate of ten percent (10%) of such income.

Any income of nonresidents, whether individuals or corporations, from transactions with said offshore banking units shall be exempt from income tax.

RR 14-77

Gross Onshore Income shall mean gross interest income arising from foreign currency loans and advances to and/or investments with residents made by offshore banking units or expanded foreign currency loan transactions. In the case of foreign currency loan transactions, such gross interest income shall refer only to the stipulated interest and shall not include all fees, commissions and other charges which are integral parts of the income from the above transactions.

RR 10-98

§2.24. Income Tax Rate of Interest Income from Foreign Currency Deposit

Individual Income Tax on Interest Income from a Depository Bank under the Foreign Currency Deposit System

• Resident Citizen or Resident Alien 7.5% final withholding tax • Non-Resident Citizen Exempt



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§2.27 and §2.28 – Corporate Income Tax on Interest Income from a Depository Bank under the Foreign Currency Deposit System

Taxation of Income of an FCDU or OBU from Foreign Currency Transactions – In general, income derived by an FCDU or an OBU from foreign currency transactions with residents of the Philippines, including local commercial banks, local branches of foreign banks, and other depository banks under the foreign currency deposit system, shall be subject to final withholding tax of 10% based on gross income.

Branch Profit Remittance Tax Tax on Branch Profits Remittances. - Any profit remitted by a branch to its head office shall be subject to a tax of fifteen (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 Philippine Economic Zone Authority). The tax shall be collected and paid in the same manner as provided in Sections 57 and 58 of this Code: provided, that interests, dividends, rents, royalties, including remuneration for technical services, salaries, wages premiums, annuities, emoluments or other fixed or determinable annual, periodic or casual gains, profits, income and capital gains received by a foreign corporation during each taxable year from all sources within the Philippines shall not be treated as branch profits unless the same are effectively connected with the conduct of its trade or business in the Philippines.

Bank of America vs. CA Bank of America is a foreign corporation licensed to engage in business in the Philippines.

On July 20, 1982, it paid 15% branch profit remittance tax worth P7,538,460.72 on profit from its regular banking unit operations and P44,790.25 on profit from its foreign currency deposit unit operations or a total of P7,984,250.97.

The tax base was based on net profits after income tax without deducting the amount corresponding to the 15% tax.

Bank of America filed a claim with the BIR of that portion of the payment which corresponds to the 15% branch profit remittance tax, on the ground that the tax should have been computed on the basis of profits actually remitted, which is P45,244,088.85, and not on the amount before profit remittance tax, which is P53,228,339.82. Subsequently, without awaiting respondent’s decision, Bank of America filed a petition for review with the CTA for recovery of the amount of P1,041,424.03. The court ruled in favor of the bank.

Whether or not the branch profit remittance tax paid or withheld should be deducted from the tax base?

In the 15% remittance tax, the law specifies its own tax base to be on the “profit remitted abroad”. The tax is imposed on the amount sent abroad, and the law calls for nothing further. The taxpayer is a single entity and it should be understandable if it is the local branch of the corporation, using its own local funds, which remits the tax to the Philippine Government.

The remittance tax was conceived in an attempt to equalize the income 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 all the latter’s shares of stock are owned by such foreign corporations. Prior to the amendatory provisions of the Revenue Code, local branches were made to pay only the usual corporate income tax of 25%-35% on net income applicable to resident foreign corporation. While Philippine subsidiaries of foreign corporations subject to the same rate of 25%-35% on their net income, dividend payments, however, were additionally subjected to a 15% withholding tax. In order to avert what would otherwise appear to be an unequal tax treatment on such subsidiaries vis-à-vis local branch offices, a 20%, later reduced


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to 15%, profit remittance tax was imposed on local branches on their remittances of profits abroad. But this is where the tax pari-passu ends between domestic branches and subsidiaries of foreign corporations.

CIR vs. Burroughs Ltd.

Burroughs Ltd is a foreign corporation authorized to do business in the Philippines. It had a branch office in De la Rosa Street in Legaspi Village.

Sometime in March 1979, the branch office applied for authority to remit to its parent company branch profits worth P7,647,058.00. On March 14, 1979, it paid the 15% branch profit remittance tax, pursuant to the Tax Code and remitted to its head office the amount of P6,499,999.30.

Amount applied for remittance P7,647,058.00

Deduct: 15% branch profit remittance tax (1,147,058.70)

Net amount actually remitted P6,499,999.30

Claiming that the 15% profit remittance tax should have been computed on the basis of the amount actually remitted (P6,499,999.30) and not on the amount before profit remittance tax (P7,647,058.00), Burroughs filed on December 24, 1980, a written claim for the refund or tax credit of the amount of P172,058.90 representing alleged overpaid branch profit remittance tax.

The CTA granted the tax credit, and the CIR appealed.

Should Burroughs get a refund?

Yes.

The BIR relied on RMC 8-82, which revoked the ground for the Burroughs refund (BIR Ruling of Jan 21, 1980). It held that “considering that the 15% branch profit remittance tax is imposed and collected at source, necessarily the tax base should be the amount actually applied for by the branch with the Central Bank of the Philippines as profit to be remitted abroad.”

The Court held that what is applicable in the case is still BIR Ruling of Jan. 21 1980, and not RMC 8-82 because the profit remittance tax was paid in 1979 and according to the NIRC, rules cannot be given retroactive effect.

Cia General de Tabacos de Filipinas vs. CIR (CTA 4141)

CGTF is a foreign corporation licensed to do business in the Philippines through a branch office. It paid 15% BPRT for 1985 and 1986. In 1988, it claimed for a refund in the amount of P593,948.61 representing overpayment.

CIR did not react to the claim.

CGTF cited the Burroughs case, infra, and the same BIR ruling on which it recovered its refund. The CIR cites RMC 8-82, and §24(B)(2) of the 1977 NIRC and §24(B)(2)(ii) of the 1986 NIRC, both providing for a BPRT on any profit remitted by a branch to its mother company.

Should the branch profits be computed based on the profits actually remitted or on the total branch profits out of which such remittance is made?

The case in question is readily different from Burroughs. The only reason why Burroughs was decided so was because the BPRT was made prior to RMC 8-82. In fact, Burroughs says that RMC 8-82 should apply to BPRT payments made after its effectivity. The payment after RMC 8-82 is not disputed.

Is passive income still included for the purpose of computing BPRT?


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CGTF says that passive income already subjected to final tax should not be included in computing the BPRT. It cited §24(B)(2)(ii) of the 1986 NIRC and BIR Ruling 32-79 and BIR Ruling 157-81 saying that the BPRT is an income tax.

The BPRT is an income tax, wherefore the refund for passive income is warranted.

Cia General de Tabacos de Filipinas vs. CIR (CTA 4451)

The use of the word remitted may well be understood as referring to that part of the said total branch profits which would be sent to the head office as distinguished from the total profits of the branch (not all of which need be sent or would be ordered remitted abroad). If the legislature indeed had wanted to mitigate the harshness of successive taxation, it would have been simpler to just lower the rates without in effect requiring the relatively novel and complicated way of computing the tax, as envisioned by Compania General de Tabacos. The same result would have been achieved.

Regional or Area Headquartes and ROHQs Regional or Area Headquarters – shall mean a branch established in the Philippines by multinational companies and which headquarters do not earn or derive income from the Philippines and which act as supervisory, communications and coordinating center for their affiliates, subsidiaries, or branches in the Asia-Pacific Region and other foreign markets. Regional or area headquarters as defined in Section 22(DD) shall not be subject to income tax.

Regional Operating Headquarters – a branch established in the Philippines by multinational companies which are engaged in any of the following services: general administration and planning; business planning and coordination; sourcing and procurement of raw materials and components; corporate finance advisory services; marketing control and sales promotion; training and personnel management; logistic services; research and development services and product development; technical support and maintenance; data processing and communications; and business development. Regional operating headquarters as defined in Section 22(EE) shall pay a tax of ten percent (10%) of their taxable income.

Tax on Certain Incomes of Resident Foreign Corporations Interest from Deposits and Yield or any other Monetary Benefit from Deposit Substitutes, Trust Funds and Similar Arrangements and Royalties. - 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 twenty percent (20%) of such interest: Provided, however, That interest income derived by a resident foreign corporation from a depository bank under the expanded foreign currency deposit system shall be subject to a final income tax at the rate of seven and one-half percent (7 1/2%) of such interest income.

Income Derived under the Expanded Foreign Currency Deposit System. - Income derived by a depository bank under the expanded foreign currency deposit system from foreign currency transactions with local commercial banks including branches of foreign banks that may be authorized by the Bangko Sentral ng Pilipinas (BSP) to transact business with foreign currency deposit system units, including interest income from foreign currency loans granted by such depository banks under said expanded foreign currency deposit system to residents, shall be subject to a final income tax at the rate of ten percent (10%) of such income.


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Interest, Deposit Subsitutes, Royalties, FCDU, Sales of Shares Capital Gains from Sale of Shares of Stock Not Traded in the Stock Exchange. - A final tax at the rates prescribed below is hereby imposed upon the net capital gains realized during the taxable year from the sale, barter, exchange or other disposition of shares of stock in a domestic corporation except shares sold or disposed of through the stock exchange:


Intercorporate Dividends Intercorporate Dividends. - Dividends received by a resident foreign corporation from a domestic corporation liable to tax under this Code shall not be subject to tax under this Title.

K. Income Tax on Non Resident Foreign Corporations §28(B),NIRC. Tax on Resident Foreign Corporations. -

(1) In General. - Except as otherwise provided in this Code, a foreign corporation not engaged in trade or business in the Philippines shall pay a tax equal to thirty-five percent (35%) 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 subject to tax under subparagraphs (C) and (D): Provided, That effective 1, 1998, the rate of income tax shall be thirty-four percent (34%); effective January 1, 1999, the rate shall be thirty-three percent (33%); and, effective January 1, 2000 and thereafter, the rate shall be thirty-two percent (32%).

(2) Nonresident Cinematographic Film Owner, Lessor or Distributor. - A cinematographic film owner, lessor, or distributor shall pay a tax of twenty-five percent (25%) of its gross income from all sources within the Philippines.

(3) Nonresident Owner or Lessor of Vessels Chartered by Philippine Nationals. - A nonresident owner or lessor of vessels shall be subject to a tax of four and one-half percent (4 1/2%) of gross rentals, lease or charter fees from leases or charters to Filipino citizens or corporations, as approved by the Maritime Industry Authority.

(4) Nonresident Owner or Lessor of Aircraft, Machineries and Other Equipment. - Rentals, charters and other fees derived by a nonresident lessor of aircraft, machineries and other equipment shall be subject to a tax of seven and one-half percent (7 1/2%) of gross rentals or fees.

(5) Tax on Certain Incomes Received by a Nonresident Foreign Corporation. -

(a) Interest on Foreign Loans. - A final withholding tax at the rate of twenty percent (20%) is hereby imposed on the amount of interest on foreign loans contracted on or after August 1, 1986;

(b) Intercorporate Dividends. - A final withholding tax at the rate of fifteen percent (15%) is hereby imposed on the amount of cash and/or property dividends received from a domestic corporation, which shall be collected and paid as provided in Section 57 (A) of this Code, 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


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taxes deemed to have been paid in the Philippines equivalent to twenty percent (20%) for 1997, nineteen percent (19%) for 1998, eighteen percent (18%) for 1999, and seventeen percent (17%) thereafter, which represents the difference between the regular income tax of thirty-five percent (35%) in 1997, thirty-four percent (34%) in 1998, and thirty-three percent (33%) in 1999, and thirty-two percent (32%) thereafter on corporations and the fifteen percent (15%) tax on dividends as provided in this subparagraph;

(c) Capital Gains from Sale of Shares of Stock not Traded in the Stock Exchange. - A final tax at the rates prescribed below is hereby imposed upon the net capital gains realized during the taxable year from the sale, barter, exchange or other disposition of shares of stock in a domestic corporation, except shares sold, or disposed of through the stock exchange:


In General

CIR vs. SC Johnson and Sons1

The Phil-US Tax Treaty provides that royalties paid by Philippine residents to US residents shall be subject to 25% withholding tax. The treaty also provides that the lowest rate of Philippine tax that may be imposed on royalties of the same kind paid under similar circumstances to a third state, if any, shall apply (Most Favored Nation Clause).

The Philippine-Germany Tax Treaty Provides that royalties paid by Philippine residents to German residents shall be subject to 10% withholding tax provided a credit of 20% on the amount of the royalty is allowed in Germany. In other words, the preferential tax rate shall apply provided the amount spared by the reduced tax rate is also spared by German taxing authorities.

In this case, the Supreme Court interpreted the phrase "paid under similar circumstances" under the most-favored-nation clause of the RP-US tax treaty as referring to the payment of taxes and not royalties.

The Court did not allow the application of the lower rate of 10% under the RP-Germany tax treaty for royalties paid to US residents because the RP-US tax treaty contains no "matching credit" provision similar to that found in Article 24 of the RP-Germany tax treaty.

The tax-sparing scheme in the Phil-Germany Tax Treaty cannot apply to the Phil-US Treaty as a most favored nation rate because the tax on royalties are not paid under similar circumstances.

Marubeni vs. CIR

Marubeni, a Japanese corporation, has equity investments in Atlantic Gulf and Pacific, a domestic corporation.

AG&P declared and paid cash dividends to Marubeni for the 1st and 3rd quarters of 1981, and withheld the corresponding final dividend tax of 10%.

Instead of passing the money through the Manila branch, AG&P directly remitted the dividends to the Japan head office. AG&P subtracted from the amount remitted not only the net of 10% final dividend tax but also the 15% branch profit remittance tax based on the remaining dividend.

AG&P as withholding agent, paid the BPRT and the FDT to the BIR.

1 G.R. No. 127105, June 25, 1999


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The acting BIR Commissoner then declared that pursuant to Section 24 of the NIRC, only profits actually remitted abroad by branch offices that are “effectively connected” with the head office are subject to the BPRT. Dividends received by Marubeni from AG&P are not incom arising from the business activity in which Marubeni is engaged. They are not branch profits.

Marubeni then claimed a refund or issuance of tax credit for 229k representing BPRT erroneously paid.

The CIR denied Marubeni’s claim, saying that although the dividends remitted are not subject to 15% BPRT and it is neither subject to the 10% intercorporate dividend tax because the recepient of the dividends is a nonresient stockholder, the dividend income is subject to a 25% tax pursuant to the Philippine Japan Tax Treaty. Hence, there was nothing to refund.

Marubeni anchors its petition on the argument that Marubeni is a resident foreign corporation subject only to 10% intercorporate final tax on individuals received from a domestic corporation.

Held: To simply add the two taxes to arrive at the 25% tax rate is to disregard a basic rule in taxation that each tax has a different tax basis.

While the tax on dividends is directly levied on the dividends received, "the tax base upon which the 15% branch profit remittance tax is imposed is the profit actually remitted abroad."

It is also error to automatically imposing the 25% rate under Article 10 (2) (b) of the Tax Treaty as if this were a flat rate.

A closer look at the Treaty reveals that the tax rates fixed by Article 10 are the maximum rates as reflected in the phrase "shall not exceed." This means that any tax imposable by the contracting state concerned should not exceed the 25% limitation and that said rate would apply only if the tax imposed by our laws exceeds the same.

In other words, by reason of our bilateral negotiations with Japan, we have agreed to have our right to tax limited to a certain extent to attain the goals set forth in the Treaty.

Marubeni, being a non-resident foreign corporation with respect to the transaction in question, the applicable provision of the Tax Code is Section 24 (b) (1) (iii) in conjunction with the Philippine-Japan Treaty of 1980. Therefore, as a general rule, Marubeni should be taxed 35% of its gross income from all sources within the Philippines.

However, a discounted rate of 15% is given to Marubeni on dividends received from a domestic corporation (AG&P) on the condition that its domicile state (Japan) extends in its favor a tax credit of not less than 20% of the dividends received.

This 20% represents the difference between the regular tax of 35% on non-resident foreign corporations which petitioner would have ordinarily paid, and the 15% special rate on dividends received from a domestic corporation.

The rules

• if the NRF Head office does business in the Philippines through its branch – the tax is that on resident foreign corporations

• if the NRF Head office does business in the Philippines independently of the branch and the business is one not usually engaged in by the branch – the tax is that on nonresident foreign corporations

• if the NRF Head office does business in the Philippines independently of the branch and the business is usually engaged in by the branch – the tax is that on resident foreign corporations.


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NV Reederij “Amsterdam” and Royal Interocean Lines vs. CIR

Two ships of NV Reederij picked up cargo in Philippine ports for delivery to foreign destinations. Freight fees were collected and paid abroad. No income tax was paid by NVR. The husbanding agent of NVR filed returns for the two ships as resident foreign corporations. The CIR assessed them as nonresident foreign corporations.

The CIR was correct. NVR is a foreign corporation not licensed to do business in the Philippines. Its activities (only 2 calls in Philippine ports) were casual; they were not continuous nor with an intention of permanency and thus do not amount to engaging in trade or business in the Philippines for income tax purposes.

Special Non-Resident Foreign Corporations Nonresident Cinematographic Film Owner, Lessor or Distributor. - A cinematographic film owner, lessor, or distributor shall pay a tax of twenty-five percent (25%) of its gross income from all sources within the Philippines.

Nonresident Owner or Lessor of Vessels Chartered by Philippine Nationals. - A nonresident owner or lessor of vessels shall be subject to a tax of four and one-half percent (4 1/2%) of gross rentals, lease or charter fees from leases or charters to Filipino citizens or corporations, as approved by the Maritime Industry Authority.

Nonresident Owner or Lessor of Aircraft, Machineries and Other Equipment. - Rentals, charters and other fees derived by a nonresident lessor of aircraft, machineries and other equipment shall be subject to a tax of seven and one-half percent (7 1/2%) of gross rentals or fees.

Tax on Certain Incomes of Non-Resident Foreign Corporations

Interest on Foreign Loans Interest on Foreign Loans. - A final withholding tax at the rate of twenty percent (20%) is hereby imposed on the amount of interest on foreign loans contracted on or after August 1, 1986;

Intercorporate Dividends

Intercorporate Dividends. - A final withholding tax at the rate of fifteen percent (15%) is hereby imposed on the amount of cash and/or property dividends received from a domestic corporation, which shall be collected and paid as provided in Section 57 (A) of this Code, 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 twenty percent (20%) for 1997, nineteen percent (19%) for 1998, eighteen percent (18%) for 1999, and seventeen percent (17%) thereafter, which represents the difference between the regular income tax of thirty-five percent (35%) in 1997, thirty-four percent (34%) in 1998, and thirty-three percent (33%) in 1999, and thirty-two percent (32%) thereafter on corporations and the fifteen percent (15%) tax on dividends as provided in this subparagraph;

BIR Ruling 8-00

SGS Philippines paid a dividend of 4M to its parent company in Switzerland. 33% was withheld and paid to the BIR. SGS Phils is entitled to a refund since it should only have paid 15%.

This is so because the NIRC provides that the final withholding tax on dividends paid to nonresident foreign corporations shall only be 15% provided the 20& portion to be exempted in the Philippines will likewise be exempted by the country where the nonresident foreign corporation is domiciled.


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Switzerland imposes no tax at all on dividends received by Swiss companies from foreign companies – the requirement is more than satisfied.

Dividends Paid to Swiss Shareholder

A ruling is requested to the effect that the dividend paid by S Company, a domestic corporation, to its parent company, T Corporation, which is based in Switzerland, is subject to tax at the rate of 15% instead of 33% (which is reduced to 32% effective January 1, 2000).

The BIR ruled that the dividends are subject to a 15% final withholding tax. Under Section 28(B)(5)(b) of the NIRC, dividends paid to a nonresident foreign corporation are subject to a 33% final withholding tax (in 1999, but reduced to 32% effective January 1, 2000). However, the rate may be reduced to 15% if the country in which the nonresident foreign corporation is domiciled allows a deemed-paid tax credit to the nonresident foreign corporation in an amount that is equivalent to at least the 18% (now 17%) difference between the 33% (now 32%) and the 15% rates. In the case of Commissioner of Internal Revenue vs. Wander Philippines, Inc., (G.R. No. L-68375 dated April 15, 1998), the Supreme Court ruled that since the Swiss Government does not impose any tax on dividends received by the Swiss parent corporation from its Philippine company, the condition for the imposition of the lower 15% rate is satisfied. (BIR Ruling No. 008-2000 dated January 5, 2000)

Income Covered by Tax Treaties

ITAD Ruling 102-02

Energizer Philippines, in paying royalties to Eveready USA should pay a 15% tax on the gross amount such royalties. The applicable tax rate in the RP-US Tax Treaty is 20%. However, the same treaty contains a ‘most-favored nation clause’, wherein the applicable rate will be the lowest rate of Philippine tax that may be imposed on royalties of the same kind paid under similar circumstances to a resident of a third state. The third state in this case is the Netherlands. The RP-Netherlands Tax Treaty provides that the tax on such royalties is 15% of the gross amount.

Based on an analysis of the RP-US and RP-Netherlands Tax Treaties, the tax imposed on royalties derived by a resident of the United States from sources within the Philippines shall be the lowest rate of Philippine tax that may be imposed on royaltiesof the same kind paid under similar circumstanes to a resident of a third State.

In this connection, it must be noted that the royalties arising from the Philippines and paid to a resident of the Netherlands may also be taxed in the Philippines but the tax so carged shal not exceed 15 percent of the gross amount of royalties in ases other than royalties paid by in enterprise registered in preferred areas of activities in the Philippines.

Capital Gains Since there is no definition of Capital Gains Tax for non-resident foreign corporations in the NIRC, an opinion was issued in 2003 that they should be taxed as resident foreign corporations subject to Capital Gains Tax.

L. Improperly Accumulated Earnings Tax §29,NIRC. Imposition of Improperly Accumulated Earnings Tax. -

(A) In General. - In addition to other taxes imposed by this Title, there is hereby imposed for each taxable year on the improperly accumulated taxable income of each corporation described in


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Subsection B hereof, an improperly accumulated earnings tax equal to ten percent (10%) of the improperly accumulated taxable income.

(B) Tax on Corporations Subject to Improperly Accumulated Earnings Tax. -

(1) In General. - The improperly accumulated earnings tax imposed in the preceding Section 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.

(2) Exceptions. - The improperly accumulated earnings tax as provided for under this Section shall not apply to:

(a) Publicly-held corporations;

(b) Banks and other nonbank financial intermediaries; and

(c) Insurance companies.

(C) Evidence of Purpose to Avoid Income Tax. -

(1) Prima Facie Evidence. - the fact that any corporation is a mere holding company or investment company shall be prima facie evidence of a purpose to avoid the tax upon its shareholders or members.

(2) Evidence Determinative of Purpose. - The fact that the earnings or profits of a corporation are permitted to accumulate beyond the reasonable needs of the business shall be determinative of the purpose to avoid the tax upon its shareholders or members unless the corporation, by the clear preponderance of evidence, shall prove to the contrary.

(D) Improperly Accumulated Taxable Income. - For purposes of this Section, the term 'improperly accumulated taxable income' means taxable income' adjusted by:

(1) Income exempt from tax;

(2) Income excluded from gross income;

(3) Income subject to final tax; and

(4) The amount of net operating loss carry-over deducted;

And reduced by the sum of:

(1) Dividends actually or constructively paid; and

(2) Income tax paid for the taxable year.

Provided, however, That for corporations using the calendar year basis, the accumulated earnings under tax shall not apply on improperly accumulated income as of December 31, 1997. In the case of corporations adopting the fiscal year accounting period, the improperly accumulated income not subject to this tax, shall be reckoned, as of the end of the month comprising the twelve (12)-month period of fiscal year 1997-1998.

(E) Reasonable Needs of the Business. - For purposes of this Section, the term 'reasonable needs of the business' includes the reasonably anticipated needs of the business.

The Manila Wine Merchants, Inc. vs. CIR

Manila Wine Merchants organized in 1937 was engaged in the importation and sale of whiskey, wines, liquor, and distilled spirits. Its orginal paid up capital was P500h. At one point, they reduced to their capital to P250k with the approval of the SEC but this reduction was never implemented.


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When business began to flourish, they increased their capital to P1m, again with SEC approval in 1958. Wine Merchants invested in several companies including Acme Commercial, Co., Union Insurance of Canton, and bought shares in Wack Wack Golf and Country Club. Wine Merchants also acquired USA Treasury Bills valued at around P347k.

The CIR examined the books of Wine Merchants and found that it had unreasonably accumulated a surplus of P 428K from 1947-1957 in excess of the reasonable needs of business subject to the surtax of 2% imposed by Section 25 of the Tax Code. CIR then demanded payment for the IAET. Wine Merchants appealed to the CTA.

For the CTA, the purhcase of shares in Wack Wack, Union Insurance and Acme Commercial were harmless and not subject to 25% surtax. However, the purchase of T-Bills was in no way related to the business of importing and selling wines and ordered MWM to pay IAET on the T-Bills. MWM appealed.

To determine the "reasonable needs" of the business in order to justify an accumulation of earnings, the Courts of the United States have developed the Immediacy Test which construed the words reasonable needs of the business to mean the immediate needs of the business, and it was generally held that if the corporation did not prove an immediate need for the accumulation of the earnings and profits, the accumulation was not for the reasonable needs of the business, and the penalty tax would apply.

CIR vs. Tuason

Facts: On February 27, 1981, the petitioner, Commissioner of Internal Revenue, assessed Antonio Tuason, Inc.:

• Deficiency income tax for the years 1975,1976 and 1978 (P37,491.83) • Deficiency corporate quarterly income tax for the first quarter of 1975 (P161.49) • 25% surtax on unreasonable accumulation of surplus for the years 1975-1978 (P1,151,146.98)

Antonio Tuason, Inc. did not object to the first and second items and, therefore, paid the amounts demanded. However, it protested the assessment on a 25% surtax on the third item on the ground that the accumulation of surplus profits during the years in question was solely for the purpose of expanding its business operations as real estate broker. The request for reinvestigation was granted on condition that a waiver of the statute of limitations should be filed by Antonio Tuason, Inc.. The CIR replied that there was no need of a waiver of the statute of limitations because the right of the Government to assess said tax does not prescribe.

No investigation was conducted nor a decision rendered on Antonio Tuason Inc.'s protest. Meantime, the Revenue Commissioner issued warrants of distraint and levy to enforce collection of the total amount originally assessed including the amounts already paid.

Antonio Tuason, Inc. filed a petition for review in the Court of Tax Appeals with a request that pending determination of the case on the merits, an order be issued restraining the Commissioner and/or his representatives from enforcing the warrants of distraint and levy. Since the right asserted by the Commissioner to collect the taxes involved herein by the summary methods of distraint and levy was not clear, and it was shown that portions of the tax liabilities involved in the assessment had already been paid, a writ of injunction was issued by the Tax Court on November 26, 1984, ordering the Commissioner to refrain from enforcing said warrants of distraint and levy. It did not require the petitioner to file a bond.

Is Antonio Tuason, Inc. a holding company and/or investment company?

Did Antonio Tuason, Inc. accumulate surplus for the years 1975 to 1978?

Is Antonio Tuason, Inc. liable for the 25% surtax on undue accumulation of surplus for the years 1975 to 1978?


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Section 25 of the Tax Code at the time the surtax was assessed, provided:

SEC. 25. Additional tax on corporation improperly accumulating profits or surplus.

(a) Imposition of tax.-If any corporation, except banks, insurance companies, or personal holding companies, whether domestic or foreign, is formed or availed of for the purpose of preventing the imposition of the tax upon its shareholders or members or the shareholders or members of another corporation, through the medium of permitting its gains and profits to accumulate instead of being divided or distributed, there is levied and assessed against such corporation, for each taxable year, a tax equal to twenty-five per centum of the undistributed portion of its accumulated profits or surplus which shall be in addition to the tax imposed by section twenty-four, and shall be computed, collected and paid in the same manner and subject to the same provisions of law, including penalties, as that tax.

(b) Prima facie evidence.-The fact that any corporation is a mare holding company shall be prima facie evidence of a purpose to avoid the tax upon its shareholders or members. Similar presumption will lie in the case of an investment company where at any time during the taxable year more than fifty per centum in value of its outstanding stock is owned, directly or indirectly, by one person.

(c) Evidence determinative of purpose.-The fact that the earnings or profits of a corporation are permitted to accumulate beyond the reasonable needs of the business shall be determinative of the purpose to avoid the tax upon its shareholders or members unless the corporation, by clear preponderance of evidence, shall prove the contrary.

Held: The Court of Tax Appeals conceded that the Revenue Commissioner's determination that Antonio Tuason, Inc. was a mere holding or investment company, was "presumptively correct", for the corporation did not involve itself in the development of subdivisions but merely subdivided its own lots and sold them for bigger profits. It derived its income mostly from interest, dividends and rental realized from the sale of realty.

Another circumstance supporting that presumption is that 99.99% in value of the outstanding stock of Antonio Tuason, Inc., is owned by Antonio Tuason himself. The Commissioner "conclusively presumed" that when the corporation accumulated (instead of distributing to the shareholders) a surplus of over P3 million from its earnings in 1975 to 1978, the purpose was to avoid the imposition of the progressive income tax on its shareholders.

That Antonio Tuason, Inc. accumulated surplus profits amounting to P3,263,305.88 for 1975 up to 1978 is not disputed. However, Antonio Tuason Inc. vehemently denies that its purpose was to evade payment of the progressive income tax on such dividends by its stockholders. According to Antonio Tuason, Inc., surplus profits were set aside by the company to build up sufficient capital for its expansion program which included the construction in 1979-1981 of an apartment building, and the purchase in 1980 of a condominium unit which was intended for resale or lease.

However, while these investments were actually made, the Commissioner points out that the corporation did not use up its surplus profits. Its allegation that P1,525,672.74 was spent for the construction of an apartment building in 1979 and P1,752,332.87 for the purchase of a condominium unit in Urdaneta Village in 1980 was refuted by the Declaration of Real Property on the apartment building which shows that its market value is only P429,890.00, and the Tax Declaration on the condominium unit which reflects a market value of P293,830.00 only. The enormous discrepancy between the alleged investment cost and the declared market value of these pieces of real estate was not denied nor explained by the private respondent.

Since the company as of the time of the assessment in 1981, had invested in its business operations only P773,720 out of its accumulated surplus profits of P3,263,305.88 for 1975-1978, its remaining accumulated surplus profits of P2,489,585.88 are subject to the 25% surtax.

"The touchstone of liability is the purpose behind the accumulation of the income and not the consequences of the accumulation. Thus, if the failure to pay dividends were for the purpose of using the undistributed earnings and profits for the reasonable needs of the business, that purpose would not fall within the interdiction of the statute (Mertens Law of Federal Income Taxation, Vol. 7, Chapter 39, p. 45 cited in Manila Wine Merchants, Inc. vs. Commissioner of Internal Revenue, 127 SCRA 483, 493).


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It is plain to see that the company's failure to distribute dividends to its stockholders in 1975-1978 was for reasons other than the reasonable needs of the business, thereby falling within the interdiction of Section 25 of the Tax Code of 1977.

Cyanamid Philippines vs. Court of Appeals

Facts: Cyanamid Philippines is a wholly owned subsidiary of American Cyanamid Co., based in Maine, USA. It is engaged in the manufacture of pharmaceutical products and chemicals, a wholesaler of imported finished goods, and an importer/indentor.

On February 7, 1985, the CIR sent an assessment letter to Cyanamid and demanded the payment of deficiency income tax. Cyanamid protested the assessments particularly the 25% Surtax Assessment. Cyanamid claimed that the surtax for the undue accumulation of earnings was not proper because the said profits were retained to increase Cyanamid’s working capital and it would be used for reasonable business needs of the company. Cyanamid contended that it availed of the tax amnesty under Executive Order no. 41, hence enjoyed amnesty from civil and criminal prosecution granted by law.

Held: The provision imposing additional tax on corporation improperly accumulating profits or surplus (Sec. 25 NIRC) discouraged tax avoidance through corporate surplus accumulation. When corporations do not declare dividends, income taxes are not paid on the undeclared dividends received by the shareholders. The tax on the improper accumulation of surplus is essentially a penalty tax designed to compel corporations to distribute earnings so that the said earnings by shareholders could, in turn, be taxed.

If the CIR determined that the corporation avoided the tax on shareholders by permitting earnings or profits to accumulate, and the taxpayer contested such a determination, the burden of proving the determination wrong, together with the corresponding burden of first going forward with evidence, is on the taxpayer. This applies even if the corporation is not a mere holding or investment company and does not have an unreasonable accumulation of earnings or profits.

In order to determine whether profits are accumulated for the reasonable needs of the business to avoid the surtax upon shareholders, it must be shown that the controlling intention of the taxpayer is manifested at the time of accumulation, not intentions declared subsequently, which are mere afterthoughts. Furthermore, the accumulated profits must be used within the reasonable time after the close of the taxable year. In the instant case, Cyanamid did not establish, by clear and convincing evidence that such accumulation of profit was for the immediate needs of the business.

In the present case, the Tax Court opted to determine the working capital sufficiency by using the ratio between current assets to current liabilities. The working capital needs of a business depend upon the nature of the business, its credit policies, the amount of inventories, the rate of turnover, the amount of accounts receivable, the collection rate, the availability of credit to the business, and similar factors. Cyanamid, by adhering to the “Bardahl” formula,2 failed to impress the tax court with the required definiteness envisioned by the statute.

RR 2-01 §2, RR 2-01 –There is imposed a tax equal to 10% of the improperly accumulated taxable income of corporations formed or availed of for the purpose of avoiding the income tax with respect to its

2 The “Bardahl” formula was developed to measure corporate liquidity. The formula requires an examination of whether the taxpayer has sufficient liquid assets to pay all of its current liabilities and any extraordinary expenses reasonably anticipated, plus enough to operate the business during one operating cycle. Operating cycle is the period of time it takes to convert cash into raw materials, raw materials into inventory, and inventory into sales, including the time it takes to collect payment for sales.


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shareholders by permitting the earnings and profits of the corporation to accumulate instead of dividing them among or distributing them to the shareholders. The rationale is that if the earnings and profits were distributed, the shareholders would then be liable to income tax thereon, whereas if the distribution were not made to them, they would incur no tax in respect to the undistributed earnings and profits of the corporation. Thus, a tax is being imposed in the nature of a penalty to the corporation for the improper accumulation of its earnings, and as a form of deterrent to the avoidance of tax upon shareholders who are supposed to pay dividend tax on earnings distributed to them by the corporation.

The touchstone of the liability is the purpose behind the accumulation of the income and not the consequences of the accumulation. Thus, if the failure to pay dividends is due to some other causes, such as the use of undistributed earnings and profits for the reasonable needs of the business, such purpose would not generally make the accumulated or undistributed earnings subject to the tax. However, if there is a determination that a corporation has accumulated income beyond the reasonable needs of the business, the 10% improperly accumulated earnings tax shall be imposed.

§4, RR 2-01. Coverage. The Improperly Accumulated Earnings Tax do not apply to the followings corporations:

1. Banks and other non-bank financial intermediaries;

2. Insurance companies;

3. Publicly-Held corporations;

4. Taxable partnerships;

5. General Professional Partnerships;

6. Non-Taxable joint ventures; and

7. Enterprises registered with PEZA and enterprises registered pursuant to the Bases Conversion and Development Act

To determine multi-layered corporations, you have to go all the way back to the source and that will determine whether or not you breach the 50% line.

BIR Ruling 25-02 This ruling amends RR 5-99 relative to the requirements for deductibility of bad debts from the gross income of a corporation, including banks and insurance companies, or an individual, estate, and trust that is engaged in trade or business or a professional engaged in the practice of his profession.

The requisites for valid deduction of bad debts from gross income are:

• There must be an existing indebtedness due to the taxpayer which must be valid and legally demandable;

• The indebtedness must be connected with the taxpayer’s trade, business, or practice of profession;

• The indebtedness must not be sustained in a transaction entered into between related parties enumerated under §36(B) of the National Internal Revenue Code of 1997;

• The indebtedness must be actually charged off the books of accounts of the taxpayer as of the end of the taxable year; and

• The indebtedness must be actually ascertained to be worthless and uncollectible as of the end of the taxable year.

Before a taxpayer may charge off and deduct a debt, he must ascertain and be able to demonstrate with reasonable degree of certainty the uncollectability of the debt.


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The Commissioner of Internal Revenue will consider all pertinent evidence securing the debt and financial condition of the debtor in determining whether a debt is worthless, or the assigning of the case for collection to an independent collection lawyer who is not under the employ of the taxpayer and who shall issue a statement under oath who shall issue a statement under oath showing the propriety of the deductions made for the alleged bad debts.

In no case may a receivable from an insurance or surety company be written off from the taxpayer’s books and claimed as bad debts deduction unless such company has been declared closed to insolvency or for any such similar reason by the Insurance Commissioner.

M. Tax Exempt Corporations §30,NIRC. Exemptions from Tax on Corporations. - The following organizations shall not be taxed under this Title in respect to income received by them as such:

(A) Labor, agricultural or horticultural organization not organized principally for profit;

(B) Mutual savings bank not having a capital stock represented by shares, and cooperative bank without capital stock organized and operated for mutual purposes and without profit;

(C) A beneficiary society, order or association, operating fort he exclusive benefit of the members such as a fraternal organization operating under the lodge system, or mutual aid association or a nonstock corporation organized by employees providing for the payment of life, sickness, accident, or other benefits exclusively to the members of such society, order, or association, or nonstock corporation or their dependents;

(D) Cemetery company owned and operated exclusively for the benefit of its members;

(E) Nonstock corporation or association organized and operated exclusively for religious, charitable, scientific, athletic, or cultural purposes, or for the rehabilitation of veterans, no part of its net income or asset shall belong to or inures to the benefit of any member, organizer, officer or any specific person;

(F) Business league chamber of commerce, or board of trade, not organized for profit and no part of the net income of which inures to the benefit of any private stock-holder, or individual;

(G) Civic league or organization not organized for profit but operated exclusively for the promotion of social welfare;

(H) A nonstock and nonprofit educational institution;

(I) Government educational institution;

(J) Farmers' or other mutual typhoon or fire insurance company, mutual ditch or irrigation company, mutual or cooperative telephone company, or like organization of a purely local character, the income of which consists solely of assessments, dues, and fees collected from members for the sole purpose of meeting its expenses; and

(K) Farmers', fruit growers', or like association organized and operated as a sales agent for the purpose of marketing the products of its members and turning back to them the proceeds of sales, less the necessary selling expenses on the basis of the quantity of produce finished by them;

Notwithstanding the provisions in the preceding paragraphs, the income of whatever kind and character of the foregoing organizations from any of their properties, real or personal, or from any of their activities conducted for profit regardless of the disposition made of such income, shall be subject to tax imposed under this Code.


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CIR vs. V.G. Sinco Educational Corporation

V.G. Sinco Educational Corporation is a non-profit institution and since its organization it has never distributed any dividend or profit to its stockholders. Only part of its income went to the payment of its teachers or professors and to the other expenses of the colleges incident to an educational institution but none of the income has never been channeled to the benefit of any individual stockholders.

Held: Whatever payment is made to those who work for a school or college as a remuneration for their services is not considered as distribution of profit as would make the school one conducted for profit. In the case of Mayor and Common Council of Borough of Princeton vs. State Board of Taxes & Assessments, et al., 115 Atl., 342, wherein the principal officer of the school was formerly its owner and principal and as principal given a salary for his services, the court held that that school is not conducted for profit merely because moderate salaries were paid to the principal and to the teachers.

Executive Order 226, Article 39 Art. 39. Incentives to Registered Enterprises. - All registered enterprises shall be granted the following incentives to the extent engaged in a preferred area of investment;

(a) Income Tax Holiday. –

(1) For six (6) years from commercial operation for pioneer firms and four (4) years for non-pioneer firms, new registered firms shall be fully exempt from income taxes levied by the National Government. Subject to such guidelines as may be prescribed by the Board, the income tax exemption will be extended for another year in each of the following cases:

i. the project meets the prescribed ratio of capital equipment to number of workers set by the Board;

ii. utilization of indigenous raw materials at rates set by the Board;

iii. the net foreign exchange savings or earnings amount to at least US$500,000.00 annually during the first three (3) years of operation.

The preceding paragraph notwithstanding, no registered pioneer firm may avail of this incentive for a period exceeding eight (8) years.

(2) For a period of three (3) years from commercial operation, registered expanding firms shall be entitled to an exemption from income taxes levied by the National Government proportionate to their expansion under such terms and conditions as the Board may determine; Provided, however, That during the period within which this incentive is availed of by the expanding firm it shall not be entitled to additional deduction for incremental labor expense.

(3) The provision of Article 7 (14) notwithstanding, registered firms shall not be entitled to any extension of this incentive.

(b) Additional Deduction for Labor Expense. - For the first five (5) years from registration, a registered enterprise shall be allowed an additional deduction from the taxable income of fifty percent (50%) of the wages corresponding to the increment in the number of direct labor for skilled and unskilled workers if the project meets the prescribed ratio of capital equipment to number of workers set by the Board: Provided, That this additional deduction shall be doubled if the activity is located in less developed areas as defined in Art. 40.

(c) Tax and Duty Exemption on Imported Capital Equipment. - Within five (5) years from the effectivity of this Code, importations of machinery and equipment and accompanying spare parts of new and expanding registered enterprise shall be exempt to the extent of one hundred


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percent (100%) of the customs duties and national internal revenue tax payable thereon: Provided, That the importation of machinery and equipment and accompanying spare parts shall comply with the following conditions:

(1) They are not manufactured domestically in sufficient quantity, of comparable quality and at reasonable prices;

(2) They are reasonably needed and will be used exclusively by the registered enterprise in the manufacture of its products, unless prior approval of the Board is secured for the part-time utilization of said equipment in a non-registered activity to maximize usage thereof or the proportionate taxes and duties are paid on the specific equipment and machinery being permanently used for non-registered activities; and

(3) The approval of the Board was obtained by the registered enterprise for the importation of such machinery, equipment and spare parts.

In granting the approval of the importations under this paragraph, the Board may require international canvassing but if the total cost of the capital equipment or industrial plant exceeds US$5,000,000, the Board shall apply or adopt the provisions of Presidential Decree Numbered 1764 on International Competitive Bidding.

If the registered enterprise sells, transfers or disposes of these machinery, equipment and spare parts without prior approval of the Board within five (5) years from date of acquisition, the registered enterprise and the vendee, transferee, or assignee shall be solidarily liable to pay twice the amount of the tax exemption given it.

The Board shall allow and approve the sale, transfer or disposition of the said items within the said period of five (5) years if made:

(aa) to another registered enterprise or registered domestic producer enjoying similar incentives;

(bb) for reasons of proven technical obsolescence; or

(cc) for purposes of replacement to improve and/or expand the operations of the registered enterprise.

(d) Tax Credit on Domestic Capital Equipment. - A tax credit equivalent to one hundred percent (100%) of the value of the national internal revenue taxes and customs duties that would have been waived on the machinery, equipment and spare parts, had these items been imported shall be given to the new and expanding registered enterprise which purchases machinery, equipment and spare parts from a domestic manufacturer: Provided, That (1) That the said equipment, machinery and spare parts are reasonably needed and will be used exclusively by the registered enterprise in the manufacture of its products, unless prior approval of the Board is secured for the part-time utilization of said equipment in a non-registered activity to maximize usage thereof; (2) that the equipment would have qualified for tax and duty-free importation under paragraph (c) hereof; (3) that the approval of the Board was obtained by the registered enterprise; and (4) that the purchase is made within five (5) years from the date of effectivity of the Code. If the registered enterprise sells, transfers or disposes of these machinery, equipment and spare parts, the provisions in the preceding paragraph for such disposition shall apply.

(e) Exemption from Contractor's Tax. - The registered enterprise shall be exempt from the payment of contractor's tax, whether national or local.

(f) Simplification of Customs Procedure. - Customs procedures for the importation of equipment, spare parts, raw materials and supplies, and exports of processed products by registered enterprises shall be simplified by the Bureau of Customs.


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(g) Unrestricted Use of Consigned Equipment. - Provisions of existing laws notwithstanding, machinery, equipment and spare part consigned to any registered enterprises shall not be subject to restrictions as to period of use of such machinery, equipment and spare parts: Provided, that the appropriate re-export bond is posted unless the importation is otherwise covered under subsections (c) and (m) of this Article. Provided, further, that such consigned equipment shall be for the exclusive use of the registered enterprise.

If such equipment is sold, transferred or otherwise disposed of by the registered enterprise the related provision of Article 39 (c) (3) shall apply. Outward remittance of foreign exchange covering the proceeds of such sale, transfer or disposition shall be allowed only upon prior Central Bank approval.

(h) Employment of Foreign Nationals. - Subject to the provisions of Section 29 of Commonwealth Act Number 613, as amended, a registered enterprise may employ foreign nationals in supervisory, technical or advisory positions for a period not exceeding five (5) years from its registration, extendible for limited periods at the discretion of the Board: Provided, however, That when the majority of the capital stock of a registered enterprise is owned by foreign investors, the position of president, treasurer and general manager or their equivalents may be retained by foreign nationals beyond the period set forth herein.

Foreign nationals under employment contract within the purview of this incentive, their spouses and unmarried children under twenty-one (21) years of age, who are not excluded by Section 29 of Commonwealth Act Numbered 613, as amended, shall be permitted to enter and reside in the Philippines during the period of employment of such foreign nationals.

A registered enterprise shall train Filipinos as understudies of foreign nationals in administrative, supervisory and technical skills and shall submit annual reports on such training to the Board.

(i) Exemption on Breeding Stocks and Genetic Materials. - The importation of breeding stocks and genetic materials within ten (10) years from the date of registration or commercial operation of the enterprise shall be exempt from all taxes and duties: Provided, That such breeding stocks and genetic materials are (1) not locally available and/or obtainable locally in comparable quality at reasonable prices; (2) reasonably needed in the registered activity; and (3) approved by the Board.

(j) Tax Credit on Domestic Breeding Stocks and Genetic Materials. - A tax credit equivalent to one hundred percent (100%) of the value of national internal revenue taxes and customs duties that would have been waived on the breeding stocks and genetic materials had these items been imported shall be given to the registered enterprise which purchases breeding stocks and generic materials from a domestic producer: Provided, 1) That said breeding stocks and generic materials would have qualified for tax and duty free importation under the preceding paragraph; 2) that the breeding stocks and genetic materials are reasonably needed in the registered activity; 3) that the approval of the board has been obtained by the registered enterprise; and 4) that the purchase is made within ten (10) years from date of registration or commercial operation of the registered enterprise.

Republic Act 7916, Sections 23-25 SEC. 23. Fiscal Incentives. – Business establishments operating within the ECOZONES shall be entitled to the fiscal incentives as provided for under Presidential Decree No. 66, the law creating the Export Processing Zone Authority, or those provided under Book VI of Executive Order No. 226, otherwise known as the Omnibus Investment Code of 1987.

Furthermore, tax credits for exporters using local materials as Inputs shall enjoy the same benefits provided for in the Export Development Act of 1994.


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SEC. 24. Exemption from National and Local Taxes.- Except for real property taxes on land owned by developers, no taxes, local and national, shall be imposed on business establishments operating within the ECOZONE. In lieu thereof, five percent (5%) of the gross income earned by all business enterprises within the ECOZONE shall be paid and remitted as follows:

a. Three percent (3%) to the National Government;

b. Two percent (2%) which shall be directly remitted by the business establishments to the treasurer’s office of the municipality or city where the enterprise is located.

SEC. 25. Applicable National and Local Taxes. – All persons and services establishments in the ECOZONE shall be subject to national and local taxes under the National Internal Revenue Code and the Local Government Code.

SEC. 26. Domestic Sales. – Goods manufactured by an ECOZONE enterprise shall be made available for Immediate retail sales in the domestic market, subject to payment of corresponding taxes on the raw materials and other regulations that may be adopted by the Board of the PEZA.

However, in order to protect the domestic industry, there shall be a negative list of Industries that will be drawn up by the PEZA. Enterprises engaged in the industries included in the negative list shall not be allowed to sell their products locally. Said negative list shall be regularly updated by the PEZA.

The PEZA, in coordination with the Department of Trade and Industry and the Bureau of Customs, shall jointly issue the necessary implementing rules and guidelines for the effective Implementation of this section.

N. Taxable Income §31,NIRC. Taxable Income Defined. - The term taxable income means the pertinent items of gross income specified in this Code, less the deductions and/or personal and additional exemptions, if any, authorized for such types of income by this Code or other special laws.

O. Gross Income

Inclusions §32 (A),NIRC. General Definition. - 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;

(2) Gross income derived from the conduct of trade or business or the exercise of a profession;

(3) Gains derived from dealings in property;

(4) Interests;

(5) Rents;

(6) Royalties;

(7) Dividends;

(8) Annuities;

(9) Prizes and winnings;


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(10) Pensions; and

(11) Partner's distributive share from the net income of the general professional partnership.

Compensation Compensation for services in whatever form paid, including, but not limited to fees, salaries, wages, commissions, and similar items are taxable. However, compensation earners will not be allowed to deduct any other deduction from their salary, but may have their deductions applied to income earned from other sources.

Business Income In the case of manufacturing, merchandising, or mining, gross income means total sales less cost of goods sold, plus all income from incidental and outside sources. See MCIT.

Gains Gain or loss on sale or exchange of property is recognized if the following conditions are satisfied:

• The property received in exchange is essentially different from the property disposed, and • The property received has market value.

In a sale or exchange of property, real or personal, a distinction must be made between ordinary and capital assets. Special rules on gains and losses on sales or exchanges of capital assets do not apply to sales and exchanges of ordinary assets.

Rules on Capital Gains and Losses

The transaction on the capital asset should be a sale or exchange

In the case of a taxpayer other than a corporation, only the following percentages of the gain or loss shall be taken into account in computing net capital gain, net capital loss, and net income:

• 100%, if the asset has been held for not more than 12 months; • 50%, if the asset has been held for more than 12 months.

Losses from sales or exchanges of capital assets shall be allowed only to the extent of the gains from such sales or exchanges.

If any taxpayer, other than a corporation, sustains in any taxable year a net capital loss, this loss, in amount not in excess of the net income of such year,3 shall be treated in the succeeding year as a loss from a sale or exchange of a capital asset held for not more than twelve months. This is called net capital loss carry over.

Sale and Exchange

For purposes of taxation, a sale is a delivery of goods for money, while an exchange is a delivery of goods for goods received.

The following are considered as sales or exchanges:

3 understood as taxable income pursuant to EO 37


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• Retirement of bonds – Amounts received by the holder upon the retirement of bonds, debentures, notes, or certificates or other evidence of indebtedness issued by a corporation with interest coupons or in registered form, are considered amounts received in exchange.

• Short sales of properties – A short sale is a transaction in which a speculator sells securities he does not own in anticipation of a decline in its price. A short sale is not consummated until the delivery of property to cover the short sale.

• Failure to exercise a privilege or option to buy or sell property – Will be considered as a capital gain or loss only if the underlying properties are capital assets.

• Securities becoming worthless – If securities, ascertained to become worthless, are charged within the taxable year and are capital assets, the resulting loss shall, in the case of a taxpayer other than a bank or trust company, 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 the taxable year, of capital assets. Securities are worthless when their value is zero.

• Receipt of a liquidating dividend – In all cases where a corporation distributes all of its properties or assets in complete liquidation or dissolution to a stockholder, the gain or loss from the transaction is a deduction from gross income, whether such stockholder is an individual or a corporation.

When a partner retires from a tax-exempt partnership, or the partnership is dissolved, he realizes a gain or suffers a loss measured by the diference between the price received for his interest and the cost to him of his interest in the partnership, including in such cost the amount of his share in any undistributed partnership net income earned since he became a partner which he reported in his income tax return and on which he paid the income tax.

Interests §50,NIRC. Allocation of Income and Deductions. - In the case of two or more organizations, trades or businesses (whether or not incorporated and whether or not organized in the Philippines) owned or controlled directly or indirectly by the same interests, the Commissioner is authorized to distribute, apportion or allocate gross income or deductions between or among such organization, trade or business, if he determined that such distribution, apportionment or allocation is necessary in order to prevent evasion of taxes or clearly to reflect the income of any such organization, trade or business.

Filinvest Development Corporation and Filinvest Alabang, Inc. vs. CIR

Filinvest Development Corporation disputes the income tax assessment issued by the BIR with regards to the alleged interest income on the advances it made to its affiliates.

In support of its assessment, the BIR cited Section 43 (now Section 50) of the Tax Code, in relation to Revenue Regulations No. 2, Section 179 (b), which gave the Commissioner of Internal Revenue the power to allocate, distribute or apportion income or deductions between or among such organizations, trades or businesses as he may deem necessary in order to prevent evasion of taxes or clearly reflect the true income of any such organizations, trades or businesses.

However, FDC sets forth the view that the application of Section 43 is misplaced as the power of the Commissioner is merely limited to distributing, apportioning and allocating gross income or deduction and does not include the power to impute theoretical interest on interest-free advances.

The Court of Tax Appeals upheld the power of the BIR commissioner to impute interest income to the lender on advances granted interest-free to its affiliates and accordingly upheld the deficiency income tax on imputed interest income against the lender.


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The purpose of Section 43 is to place a controlled taxpayer on a tax parity with an uncontrolled taxpayer, by determining, according to the standard of an uncontrolled taxpayer, the true net income from the property and business of a controlled taxpayer.

The interests controlling a group of controlled taxpayers are assumed to have complete power to cause each controlled taxpayer to so conduct its affairs that its transactions and accounting records truly reflect the net income from the property and business of each of the controlled taxpayers. If, however, this has not been done, and the taxable net income is thereby understated, the statute contemplates that the Commissioner of Internal Revenue shall intervene, and by making such distributions, apportionments, or allocations as he may deem necessary of gross income or deductions, or of any item or element affecting net income, between or among the controlled taxpayers constituting the group, shall determine the true net income of each controlled taxpayer dealing at arms-length with another controlled taxpayer.

The standard to be applied in every case is that of an uncontrolled taxpayer. Section 44 (now 50) grants no right to a controlled taxpayer to apply its provisions at will, nor does it grant any right to compel the Commissioner of Internal Revenue to apply such provisions

The CTA further said that it is quite suspicious for any person or entity to advance money without any interest.

Section 50 of the Tax Code gives the commissioner the power to make necessary adjustments by rectifying any distortions on income, through the adoption of standards considered fair, reasonable or at arm's length to determine the true income of each of the parties.

However, the decision in this case has been appealed to the Court of Appeals so the CTA decision is not yet final and executory.

C.A. Case No. 72992

RMO 63-99

Issued August 13, 1999 prescribes the policies and guidelines on the determination of taxable income on inter-company loans or advances pursuant to Section 50 of the Tax Code, as amended. The arm's length bargaining standard will be used as the ultimate test for determining the correct gross income and deductions between two or more enterprises under common control

Rents

Section 49, RR2

§49, RR2. Improvements by lessees. - When buildings are erected or improvements made by a lessee in pursuance of an agreement with the lessor, and such buildings or improvements are not subject to removal by the lessee, the lessor may at his option report the income therefrom upon either of the following bases:

(a) The lessor may report as income at the time when such buildings or improvements are completed the fair market value of such buildings or improvements subject to the lease.

(b) The lessor may spread over the life of the lease the estimated depreciated value of such buildings or improvements at the termination of the lease and report as income for each of the lease all adequate part thereof.

If for any other reason than a bona fide purchase from the lessee by the lessor the lease is terminated, so that the lessor comes into possession or control of the property prior to the time originally fixed for the termination of the lease, the lessor receives additional income for the year in which the lease is so terminated to the extent that the value of such buildings or improvements


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when he became entitled to such possession exceeds the amount already reported as income on account of the erection of such buildings or improvements. No appreciation in value due to causes other than the pre-mature termination of the lease shall be included. Conversely, if the building or improvements are destroyed prior to the expiration of the lease, the lessor is entitled to deduct as a loss for the year when such destruction takes place the amount previously reported as income because of the erection of such buildings or improvements, less any salvage value subject to the lease to the extent that such loss was not compensated for by insurance. If the buildings or improvements destroyed were acquired prior to March 1, 1913, the deduction shall be based on the cost or the value subject to the lease to the extent that such loss was not compensated for by insurance.

Royalties The term “royalts” as used in this Article means any payment of any kind received as aconsideration for he use of, o right to use, any patent, trademark, design or model, secret formula, or process, or for the use of , industrial, commercial, or scientific equipment, or for information concerning industrial, commercial, or scientific experience.

Dividends

Section 250-256 RR2

§250, RR2. Dividends. – Dividends, for the purpose of the law, comprise any distribution whether in cash or other property, in the ordinary course of business, even though extraordinary in amount made by a domestic or resident foreign corporation, joint-stock company, partnership, joint account, association, or insurance company to the shareholders or members out of its earnings or profits accumulated since March 1, 1913.

Although interest on certain Government bonds and other similar obligations is not taxable when received by a corporation, upon amalgamation with the other funds of the corporation, such income loses its identity and when distributed to shareholders, is taxable, the same extent as other dividends.

A taxable distribution made by a corporation to individual stockholders or members shall be included in the gross income of the distributees when the cash or other property is unqualifiedly made subject to their demand. Dividends, in cash or other property received by an individual, are subject to tax in his hands in the same manner as other income.

Dividends, whether in cash or other property received by a domestic or resident foreign corporation from a domestic corporation are taxable only to the extent of 25 per cent thereof in accordance with Section 24 of the Code. Dividends received by a domestic corporation from a foreign corporation, whether resident or nonresident, are taxable to the extent that they constitute income from sources within the Philippines, as provided in section 37 (a) (2) (b) of the Code. Dividends paid by the domestic corporation to a nonresident foreign corporation are taxable in full.

§251, RR2. Dividends paid in property. - Dividends paid in securities or other property (other than its own stock), in which the earnings of a corporation have been invested, are income to the recipients to the amount of the all market value of such property when receivable by individual stockholders. When receivable by corporations, the amount of such dividends includible for purposes of the tax on corporations are specified in section 24 of the Code. (See also section 250 of these regulations). A dividend paid in stock of another corporation is not a stock dividend. even though the stock distributed was acquired through the transfer by the corporation declaring the dividends of property to the corporation the stock of which is distributed as a dividend. Where a corporation declares a dividend payable in a stock of another corporation, setting aside the stock to be so distributed and notifying the stockholders of its action, the income arising to the recipient of such


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stock is its market value at the time the dividend becomes payable. Scrip dividends are subject to tax in the year in which the warrants are issued.

§252, RR2. Stock dividends. - A stock dividend which represents the transfer of surplus to capital account is not subject to income tax. However, a dividend in stock may constitute taxable income to the recipient thereof notwithstanding the fact that the officers or director of the corporation (as defined in section 84) choose to call such distribution as a stock dividend. The distinction between a stock dividend which does not, and one which does, constitute income taxable to the shareholder is the distinction between a stock dividend which works no change in the corporate entity, the same interest In the same corporation being represented after the distribution by more shares of precisely the same character and a stock dividend where there either has been a Change of corporate identity or a change in the nature of the shares issued as dividends whereby the proportional interest of the shareholders after the distribution is essentially different from his former interest. A stock dividend constitutes income if it gives the shareholder an interest different from that which his former stock holdings represented. A stock dividend does not constitute income if the new shares confer no different rights or interest than did the old - the new certificates plus the old representing the same proportionate interest in the net asset of the corporation as did the old.

§253, RR2. Sale of stock received as dividends. - Stock issued by a corporation, as a dividend, does not constitute taxable income to a stockholder in such corporation, but gain may be derived or loss sustained by the stockholder, whether individual or corporate, from the sale of such stock, which gain or loss will be treated as arising from the sale or exchange of a capital asset. (See section 34 of the Code.) The amount of gain derived or loss sustained from the sale of such stock, or from the sale of the stock with respect to which it is issued, shall be determined in accordance with the following rules:

(a) Where the stock issued as dividend is as or substantially the same character or preference as the stock upon which the stock dividend is paid, the cost of each share (or when acquired prior to March, 1, 1913, the fair market value as of such date) will be the quotient of the cost (or such fair market value) of the old shares of stock divided by the total number of the old and new shares.

(b) Where the stock issued as a dividend is in whole or in part of a character or preference materially different from the stock upon which the stock dividend is paid, the cost (and when acquired prior to March 1,1913, the fair market value as of such date) of the old shares of stock shall be divided between such old stock and the new stock, in proportion, as nearly as may be, to the respective value of each class of stock old and new at the time the new shares of stock are issued, and the cost (or when acquired prior to March 1, 1913, the fair market value as of such date) of each share of stock will be the quotient of the cost (or such fair market value as of March 1, 1913) of the class to which such share belongs divided by the number of shares in that class.

(c) Where the stock with respect to which a stock dividend is issued was purchased at different times and at different prices and the identity of the lots cannot be determined, any sale of the original stock, will be charged to the earliest purchases, of such stock, and any sale of dividend stock issued with respect to such stock will be presumed to have been made from the stock issued with respect to the earliest purchased stock, to the amount of the dividend chargeable to such stock.

(d) Where the stock with respect to which a stock dividend is declared was purchased at different times and at different prices, and the dividend stock issued with respect to such stock cannot be identified as having been issued with respect to any particular lot of such stock, then any sale of such dividend stock will be presumed to have been made from the stock issued with respect to the earliest purchased stock, to the amount of the stock dividend chargeable to such stock.

§254, RR2. Declaration and subsequent redemption of a stock dividend. - A true stock dividend is not subject to tax on its receipt in the hands of the recipient. Nevertheless, if a corporation, after


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the distribution of a stock dividend, proceeds to cancel or redeem its stock at such time and in such manner as to make the distribution and cancellation or redemption essentially equivalent to the distribution of a taxable dividend, the amount received in redemption or cancellation of the stock shall be treated as a taxable dividend to the extent of the earnings or profits accumulated by such corporation since March 1, 1913

§255, RR2. Sources of distribution. – For the purpose of income taxation every distribution made by a corporation is made out of earnings or profits to the extent thereof and from the most recently accumulated earnings or profits. In determining the source of a distribution, consideration should be given first, to the earnings or profits of the taxable year; second, to the earnings or profits, accumulated since February 28, 1913, only in the case where, and to the extent that, the distribution made during the taxable year are not regarded as out of the earnings or profits of the taxable year and all the earnings or profits accumulated since February 28, 1913, have been distributed; and, fourth, to sources other than earnings or profits only after the earnings or profits have been distributed.

§255, RR2. Distribution in liquidation. - In all case's where a corporation (as defined in section 84) distributes all of its property or assets in complete liquidation or dissolution, the gain realized from the transaction by the stockholder, whether individual or corporate, is taxable to the extent recognized in section 34 (b) of the Code. For this purpose, the term “complete liquidation” includes anyone of a series of distributions made by a corporation in complete cancellation or redemption of an of its stocks in accordance with a bona fide plan of liquidation under which the transfer of all the assets under liquidation is to be completed within a reasonable time from the date of the first distribution, usually not to exceed one year from the time of such first distribution. If the amount received by the stockholder in liquidation is less than the cost or other basis of the stock, the loss in the transaction is deductible to the extent allowed in section 34(c) of the Code.

CIR vs. CA and Soriano

Sometime in the 1930s, Don Andres Soriano, a citizen and resident of the United States, formed the corporation “A. Soriano Y Cia”, predecessor of ANSCOR, with a P1,000,000.00 capitalization divided into 10,000 common shares at a par value of P100/share. ANSCOR is wholly owned and controlled by the family of Don Andres, who are all non-resident aliens. In 1937, Don Andres subscribed to 4,963 shares of the 5,000 shares originally issued. The authorized capital stock was increased to P2,500,000.00 divided into 25,000 common shares with the same par value with only 10,000 issued and all subscribed by Don Andres. Don Andres transferred 1,250 shares each to his two sons, Jose and Andres, Jr., as their initial investments in ANSCOR. Both sons are foreigners.

Stock dividends were declared on 1947, 1949 and 1963.On December 30, 1964 Don Andres died. As of that date, he has a total shareholdings of 185,154 shares - 50,495 of which are original issues and the balance of 134,659 shares as stock dividend declarations. One-half of that shareholdings were transferred to his wife, Doña Carmen Soriano, as her conjugal share. The other half formed part of his estate.

ANSCOR increased its capital stock to P20M and in 1966 to P30M. In the same year, stock dividends worth 46,290 and 46,287 shares were respectively received by the Don Andres estate and Doña Carmen from ANSCOR. Hence, increasing their accumulated shareholdings to 138,867 and 138,864 common shares each.

On December 28, 1967, Doña Carmen requested a ruling from the United States Internal Revenue Service (IRS), inquiring if an exchange of common with preferred shares may be considered as a tax avoidance scheme under Section 367 of the 1954 U.S. Revenue Act. By January 2, 1968, ANSCOR reclassified its existing 300,000 common shares into 150,000 common and 150,000 preferred shares.

The IRS opined that the exchange is only a recapitalization scheme and not tax avoidance. Consequently, Doña Carmen exchanged her whole 138,864 common shares for 138,860 of the newly


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reclassified preferred shares. The estate of Don Andres in turn, exchanged 11,140 of its common shares for the remaining 11,140 preferred shares, thus reducing its (the estate) common shares to 127,727.

ANSCOR redeemed 28,000 common shares from the Don Andres’ estate. By November 1968, the Board further increased ANSCOR’s capital stock to P75M divided into 150,000 preferred shares and 600,000 common shares. About a year later, ANSCOR again redeemed 80,000 common shares from the Don Andres’ estate further reducing the latter’s common shareholdings to 19,727.

In 1973, after examining ANSCOR’s books of account and records, Revenue examiners issued a report proposing that ANSCOR be assessed for deficiency withholding tax-at-source, pursuant to Sections 53 and 54 of the 1939 Revenue Code, for the year 1968 and the second quarter of 1969 based on the transactions of exchange and redemption of stocks.

Subsequently, ANSCOR filed a petition for review with the CTA assailing the tax assessments on the redemptions and exchange of stocks.

The bone of contention is the interpretation and application of Section 83(b) of the 1939 Revenue Act which provides:

Sec. 83. Distribution of dividends or assets by corporations. -

(b) Stock dividends - A stock dividend representing the transfer of surplus to capital account shall not be subject to tax. However, if a corporation cancels or redeems stock issued as a dividend at such time and in such manner as to make the distribution and cancellation or redemption, in whole or in part, essentially equivalent to the distribution of a taxable dividend, the amount so distributed in redemption or cancellation of the stock shall be considered as taxable income to the extent it represents a distribution of earnings or profits accumulated after March first, nineteen hundred and thirteen.” (Italics supplied).

Specifically, the issue is whether ANSCOR’s redemption of stocks from its stockholder as well as the exchange of common with preferred shares can be considered as “essentially equivalent to the distribution of taxable dividend,” making the proceeds thereof taxable under the provisions of the above-quoted law.

General Rule

Section 83(b) of the 1939 NIRC was taken from Section 115(g)(1) of the U.S. Revenue Code of 1928. It laid down the general rule known as the ‘proportionate test’ wherein stock dividends once issued form part of the capital and, thus, subject to income tax. Specifically, the general rule states that:“A stock dividend representing the transfer of surplus to capital account shall not be subject to tax.”

Having been derived from a foreign law, resort to the jurisprudence of its origin may shed light. Under the US Revenue Code, this provision originally referred to “stock dividends” only, without any exception. Stock dividends, strictly speaking, represent capital and do not constitute income to its recipient. So that the mere issuance thereof is not yet subject to income tax as they are nothing but an “enrichment through increase in value of capital investment.” As capital, the stock dividends postpone the realization of profits because the “fund represented by the new stock has been transferred from surplus to capital and no longer available for actual distribution.” Income in tax law is “an amount of money coming to a person within a specified time, whether as payment for services, interest, or profit from investment.” It means cash or its equivalent. It is gain derived and severed from capital, from labor or from both combined - so that to tax a stock dividend would be to tax a capital increase rather than the income. In a loose sense, stock dividends issued by the corporation, are considered unrealized gain, and cannot be subjected to income tax until that gain has been realized. Before the realization, stock dividends are nothing but a representation of an interest in the corporate properties. As capital, it is not yet subject to income tax. It should be noted that capital and income are different. Capital is wealth or fund; whereas income is profit or gain or the flow of wealth. The determining factor for the imposition of income tax is whether any gain or profit was derived from a transaction.


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The Exception “However, if a corporation cancels or redeems stock issued as a dividend at such time and in such manner as to make the distribution and cancellation or redemption, in whole or in part, essentially equivalent to the distribution of a taxable dividend, the amount so distributed in redemption or cancellation of the stock shall be considered as taxable income to the extent it represents a distribution of earnings or profits accumulated after March first, nineteen hundred and thirteen.” (Emphasis supplied).

Although redemption and cancellation are generally considered capital transactions, as such, they are not subject to tax. However, it does not necessarily mean that a shareholder may not realize a taxable gain from such transactions. Simply put, depending on the circumstances, the proceeds of redemption of stock dividends are essentially distribution of cash dividends, which when paid becomes the absolute property of the stockholder. Thereafter, the latter becomes the exclusive owner thereof and can exercise the freedom of choice. Having realized gain from that redemption, the income earner cannot escape income tax.

As qualified by the phrase “such time and in such manner,” the exception was not intended to characterize as taxable dividend every distribution of earnings arising from the redemption of stock dividends. So that, whether the amount distributed in the redemption should be treated as the equivalent of a “taxable dividend” is a question of fact, which is determinable on “the basis of the particular facts of the transaction in question.” No decisive test can be used to determine the application of the exemption under Section 83(b) The use of the words “such manner” and “essentially equivalent” negative any idea that a weighted formula can resolve a crucial issue - Should the distribution be treated as taxable dividend. On this aspect, American courts developed certain recognized criteria, which includes the following:

1. the presence or absence of real business purpose,

2. the amount of earnings and profits available for the declaration of a regular dividend and the corporation’s past record with respect to the declaration of dividends,

3. the effect of the distribution as compared with the declaration of regular dividend,

4. the lapse of time between issuance and redemption,

5. the presence of a substantial surplus and a generous supply of cash which invites suspicion as does a meager policy in relation both to current earnings and accumulated surplus.

Redemption and Cancellation

For the exempting clause of Section 83(b) to apply, it is indispensable that: (a) there is redemption or cancellation; (b) the transaction involves stock dividends and (c) the “time and manner” of the transaction makes it “essentially equivalent to a distribution of taxable dividends.” Of these, the most important is the third.

Redemption is repurchase, a reacquisition of stock by a corporation which issued the stock in exchange for property, whether or not the acquired stock is cancelled, retired or held in the treasury. Essentially, the corporation gets back some of its stock, distributes cash or property to the shareholder in payment for the stock, and continues in business as before. The redemption of stock dividends previously issued is used as a veil for the constructive distribution of cash dividends. In the instant case, there is no dispute that ANSCOR redeemed shares of stocks from a stockholder (Don Andres) twice (28,000 and 80,000 common shares). But where did the shares redeemed come from? If its source is the original capital subscriptions upon establishment of the corporation or from initial capital investment in an existing enterprise, its redemption to the concurrent value of acquisition may not invite the application of Sec. 83(b) under the 1939 Tax Code, as it is not income but a mere return of capital. On the contrary, if the redeemed shares are from stock dividend declarations other than as initial capital investment, the proceeds of the redemption is additional wealth, for it is not merely a return of capital but a gain thereon.


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It is not the stock dividends but the proceeds of its redemption that may be deemed as taxable dividends. Here, it is undisputed that at the time of the last redemption, the original common shares owned by the estate were only 25,247.5. This means that from the total of 108,000 shares redeemed from the estate, the balance of 82,752.5 (108,000 less 25,247.5) must have come from stock dividends. Besides, in the absence of evidence to the contrary, the Tax Code presumes that every distribution of corporate property, in whole or in part, is made out of corporate profits, such as stock dividends. The capital cannot be distributed in the form of redemption of stock dividends without violating the trust fund doctrine - wherein the capital stock, property and other assets of the corporation are regarded as equity in trust for the payment of the corporate creditors. Once capital, it is always capital. That doctrine was intended for the protection of corporate creditors

With respect to the third requisite, ANSCOR redeemed stock dividends issued just 2 to 3 years earlier. The time alone that lapsed from the issuance to the redemption is not a sufficient indicator to determine taxability. It is a must to consider the factual circumstances as to the manner of both the issuance and the redemption. The “time” element is a factor to show a device to evade tax and the scheme of cancelling or redeeming the same shares is a method usually adopted to accomplish the end sought. Was this transaction used as a “continuing plan,” “device” or “artifice” to evade payment of tax? It is necessary to determine the “net effect” of the transaction between the shareholder-income taxpayer and the acquiring (redeeming) corporation. The “net effect” test is not evidence or testimony to be considered; it is rather an inference to be drawn or a conclusion to be reached. It is also important to know whether the issuance of stock dividends was dictated by legitimate business reasons, the presence of which might negate a tax evasion plan.

The issuance of stock dividends and its subsequent redemption must be separate, distinct, and not related, for the redemption to be considered a legitimate tax scheme. Redemption cannot be used as a cloak to distribute corporate earnings. Otherwise, the apparent intention to avoid tax becomes doubtful as the intention to evade becomes manifest.

Depending on each case, the exempting provision of Sec. 83(b) of the 1939 Code may not be applicable if the redeemed shares were issued with bona fide business purpose, which is judged after each and every step of the transaction have been considered and the whole transaction does not amount to a tax evasion scheme.

It is the “net effect rather than the motives and plans of the taxpayer or his corporation” that is the fundamental guide in administering Sec. 83(b). This tax provision is aimed at the result. It also applies even if at the time of the issuance of the stock dividend, there was no intention to redeem it as a means of distributing profit or avoiding tax on dividends. The existence of legitimate business purposes in support of the redemption of stock dividends is immaterial in income taxation. It has no relevance in determining “dividend equivalence”. Such purposes may be material only upon the issuance of the stock dividends. The test of taxability under the exempting clause, when it provides “such time and manner” as would make the redemption “essentially equivalent to the distribution of a taxable dividend”, is whether the redemption resulted into a flow of wealth. If no wealth is realized from the redemption, there may not be a dividend equivalence treatment.

The three elements in the imposition of income tax are: (1) there must be gain or profit, (2) that the gain or profit is realized or received, actually or constructively,and (3) it is not exempted by law or treaty from income tax. Any business purpose as to why or how the income was earned by the taxpayer is not a requirement. Income tax is assessed on income received from any property, activity or service that produces the income because the Tax Code stands as an indifferent neutral party on the matter of where income comes from.

As stated above, the test of taxability under the exempting clause of Section 83(b) is, whether income was realized through the redemption of stock dividends. The redemption converts into money the stock dividends which become a realized profit or gain and consequently, the stockholder’s separate property.Profits derived from the capital invested cannot escape income tax. As realized income, the proceeds of the redeemed stock dividends can be reached by income


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taxation regardless of the existence of any business purpose for the redemption.

A review of the cited American cases shows that the presence or absence of “genuine business purposes” may be material with respect to the issuance or declaration of stock dividends but not on its subsequent redemption. The issuance and the redemption of stocks are two different transactions. Although the existence of legitimate corporate purposes may justify a corporation’s acquisition of its own shares under Section 41 of the Corporation Code, such purposes cannot excuse the stockholder from the effects of taxation arising from the redemption. If the issuance of stock dividends is part of a tax evasion plan and thus, without legitimate business reasons the redemption becomes suspicious which may call for the application of the exempting clause. The substance of the whole transaction, not its form, usually controls the tax consequences.

After considering the manner and the circumstances by which the issuance and redemption of stock dividends were made, there is no other conclusion but that the proceeds thereof are essentially considered equivalent to a distribution of taxable dividends. As “taxable dividend” under Section 83(b), it is part of the “entire income” subject to tax under Section 22 in relation to Section 21of the 1939 Code. Moreover, under Section 29(a) of said Code, dividends are included in “gross income”. As income, it is subject to income tax which is required to be withheld at source. The 1997 Tax Code may have altered the situation but it does not change this disposition.

Exchange of Common and Preferred Shares

Exchange is an act of taking or giving one thing for another involving reciprocal transfer and is generally considered as a taxable transaction. The exchange of common stocks with preferred stocks, or preferred for common or a combination of either for both, may not produce a recognized gain or loss, so long as the provisions of Section 83(b) is not applicable. This is true in a trade between two (2) persons as well as a trade between a stockholder and a corporation. In general, this trade must be parts of merger, transfer to controlled corporation, corporate acquisitions or corporate reorganizations. No taxable gain or loss may be recognized on exchange of property, stock or securities related to reorganizations.

Both the Tax Court and the Court of Appeals found that ANSCOR reclassified its shares into common and preferred, and that parts of the common shares of the Don Andres estate and all of Doña Carmen’s shares were exchanged for the whole 150,000 preferred shares. Thereafter, both the Don Andres estate and Doña Carmen remained as corporate subscribers except that their subscriptions now include preferred shares. There was no change in their proportional interest after the exchange. There was no cash flow. Both stocks had the same par value. Under the facts herein, any difference in their market value would be immaterial at the time of exchange because no income is yet realized - it was a mere corporate paper transaction. It would have been different, if the exchange transaction resulted into a flow of wealth, in which case income tax may be imposed.

Reclassification of shares does not always bring any substantial alteration in the subscriber’s proportional interest. But the exchange is different - there would be a shifting of the balance of stock features, like priority in dividend declarations or absence of voting rights. Yet neither the reclassification nor exchange per se, yields realize income for tax purposes.

CIR vs. Manning

Under a trust agreement, Julius Reese who owned 24,700 shares of the 25,000 common shares of MANTRASCO, and the three private respondents who owned the rest, at 100 shares each, deposited all their shares with the Trustees. The trust agreement provided that upon Reese's death MANTRASCO shall purchase Reese's shares. The trust agreement was executed in view of Reese's desire that upon his death the Company would continue under the management of respondents. Upon Reese's death and partial payment by the company of Reeses's share, a new certificate was issued in the name of MANTRASCO, and the certificate indorsed to the Trustees. Subsequently, the


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stockholders reverted the 24,700 shares in the Treasury to the capital account of the company as stock dividends to be distributed to the stockholders. When the entire purchase price of Reese's interest in the company was paid in full by the latter, the trust agreement was terminated, and the shares held in trust were delivered to the company.

The Bureau of Internal Revenue concluded that the distribution of the 24,700 shares of Reese as stock dividends was in effect a distribution of the "assets or property of the corporation." It therefore assessed respondents for deficiency income taxes as well as for fraud penalty and interest charges.

On a petition for review, the Supreme Court held that the newly acquired shares were not treasury shares; their declaration as treasury stock dividends was a complete nullity and that the assessment by the Commissioner of fraud penalty and the imposition of interest charges pursuant to the provision of the Tax Code were made in accordance with law.

Where by the use of a trust instrument as a convenient technical device, respondents bestowed unto themselves the full worth and value of a deceased stockholder's corporate holding acquired with the very earnings of the companies, such package device which obviously is not designed to carry out the usual stock dividend purpose of corporate expansion reinvestment, e.g., the acquisition of additional facilities and other capital budget items, but exclusively for expanding the capital base of the surviving stockholders in the company, cannot be allowed to deflect the latter's responsibilities toward our income tax laws. The conclusion is ineluctable that whenever the company parted with a portion of its earnings "to buy" the corporate holdings of the deceased stockholders, it was in ultimate effect and result making a distribution of such earnings to the surviving stockholders. All these amounts are consequently subject to income tax as being, in truth and in fact, a flow of cash benefits to the surviving stockholders.

Where the surviving stockholders, by resolution, partitioned among themselves, as treasury stock dividends, the deceased stockholder's interest, and earnings of the corporation over a period of years were used to gradually wipe out the holdings therein of said deceased stockholder, the earnings (which in effect have been distributed to the surviving stockholders when they appropriated among themselves the deceased stockholder's interest), should be taxed for each of the corresponding years when payments were made to the deceased's estate on account of his shares. In other words, the Tax Commissioner may not asses the surviving stockholders, for income tax purposes, the total acquisition cost of the alleged treasury stock dividends in one lump sum. However, with regard to payment made with the corporation's earnings before the passage of the resolution declaring as stock dividends the deceased stockholder's interest (while indeed those earnings were utilized in those years to gradually pay off the value of the deceased stockholder's holdings), the surviving stockholders should be liable (in the absence of evidence that prior to the passage of the stockholder's resolution the contributed of each of the surviving stockholder rose corresponding), for income tax purposes, to the extent of the aggregate amount paid by the corporation (prior to such resolution) to buy off the deceased stockholder's shares. The reason is that it was only by virtue of the authority contained in said resolution that the surviving stockholders actually, albeit illegally, appropriated and petitioned among themselves the stockholders equity representing the deceased stockholder's interest.

Wise & Co., Inc. vs. Meer

A distribution does not necessarily become a dividend by reason of the fact that it is called a dividend by the distributing corporation. "The ordinary connotation of liquidating dividend involves the distribution of assets by a corporation to its stockholders upon dissolution." The determining element therefore is whether the distribution was in the ordinary course of business and with intent to maintain the corporation as a going concern, or after deciding to quit with intent to liquidate the business. Proceedings actually begun to dissolve the corporation or formal action taken to liquidate it are but evidentiary and not indispensable.


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"The distinction between a distribution in liquidation and an ordinary dividend is factual; the result in each case depending on the particular circumstances of the case and the intent of the parties. If the distribution is in the nature of a recurring return on stock it is an ordinary dividend. However, if the corporation is really winding up its business or recapitalizing and narrowing its activities, the distribution may properly be treated as in complete or partial liquidation and as payment by the corporation to the stockholder for his stock. The corporation is, in the latter instances, wiping out all or Part of the stockholders' interest in the company . . ."

Gains resulting from distributions made in complete liquidation or dissolution of a corporation as specifically contemplated in section 25 (a) of the former Income Tax Law, are taxable as income, whether the stockholder happens to be an individual or a corporation. Section 25 (a) of the law, far from limiting the taxability, provides that the gain thus realized is a "taxable income" — under the law so long as a gain is realized, it will be a taxable income whether the distribution comes from the earnings or profits of the corporation or from the sale of all of its assets in general, so long as the distribution is made "in complete liquidation or dissolution."

BIR Ruling 322-87

Facts: The Company is a trading concern and at present is in the process of liquidation; and that individual stockholders will receive their liquidating dividends in excess of their investment.

Ruling: Since the individual stockholders of the Company will receive upon its complete liquidation all its assets as liquidating dividends, they will thereby realize capital gain or loss.

The gain, if any, derived by the individual stockholders consisting of the difference between the fair market value of the liquidating dividends and the adjusted cost to the stockholders of their respective shareholdings in the said corporation (Sec. 83 (a), Sec. 256, Income Tax Regulations) shall be subject to income tax at the rates prescribed under Section 21(a) of the Tax Code, as amended by Executive Order No. 37.

This difference is capital gain, taxable at the rate of 5% if not over P100k or 10% if over P100k.

Moreover, pursuant to Section 34(b) of the Tax Code, as amended by Executive Order No. 37, only 50% of the aforementioned capital gain is reportable for income tax purposes if the shares were held by the individual stockholders for more than twelve months and 100% of the capital gains if the shares were held for less than twelve months.

Annuities Annuties are exempt. An annuity is a sum of money payable yearly or at other regular intervals.

Prizes and Winnings Prizes and Winnings are generally taxable. Such payments constitute gains derived from labor.

Not taxable – if recipient selected without any action on his part to enter the contest or proceedings; and the recipient is not required to render substantial future services as a condition for receiving the prize or award.

Those granted to athletes shall be exempt from income tax.

Prizes and awards in the nature of gifts are not taxable.


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Pensions Pensions are exempt. A pension is a a gratuity granted (as by a government) as a favor or reward, or one paid under given conditions to a person following retirement from service or to surviving dependents.

Share in GPP’s income §26,NIRC. Tax Liability of Members of General Professional Partnerships. - 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.

Each partner shall report as gross income his distributive share, actually or constructively received, in the net income of the partnership.

From whatever source

Section 50, RR2 §50, RR2. Forgiveness of indebtedness – The cancellation and forgiveness of indebtedness may amount to a payment of income, to a gift, or a capital transaction, dependent upon the circumstances. For example, an individual performs services for a creditor, who, in consideration thereof, cancels the debt, income to that amount is realized by the debtor as compensation for his service. If, however, a creditor merely desires to benefit a debtor without any consideration thereof cancels the debt, the amount of the debt is a gift from the creditor to the debtor and need not be included in the latter’s gross income. If a corporation to which a stockholder indebted forgives the debt, the transaction has the effect of the payment of the dividend.

RMC 13-80

Refunds/Tax Credits under Section 295 of the NIRC. — Taxes previously claimed and allowed as deductions, but subsequently refunded or granted as tax credit pursuant to Section 295 of the Tax Code, should be declared as part of the gross income of the taxpayer in the year of receipt of the refund or tax credit. However, the following taxes, when refunded or credited, are not declarable for income tax purposes inasmuch as they are not allowable as deductions:

a. Income tax imposed in Title III of the Tax Code; b. Income, war-profit and excess profits taxes imposed by authority of a 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 paragraph (3) of this subsection (relating to credit for taxes of foreign countries);

c. Estate and gift taxes; d. Taxes assessed against local benefits of a kind tending to increase the value of the property

assessed; e. Stock transaction tax; f. Energy tax; and g. Taxes which are not allowable as deductions under the law.

Special Tax Credits granted under R.A. 5186; R.A. 6135 and P.D. 535. — These tax credits and their tax consequences are as follows:


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a. Sales, compensating and specific taxes are paid on supplies and raw materials imported by a registered export producer. Said taxes are given as tax credit to be used in the payment of taxes, duties, charges and fees due to the national government in connection with its operations. (Sec. 7(a), R.A. No. 6135)

The tax credits granted should form part of the gross income to the enterprise in the year of receipt of tax credit as said taxes paid are considered allowable deductions for income taxes purposes.

b. In some cases, a registered BOI and tourism enterprise assumes payment of taxes withheld and due from the foreign lender-remittee on interest payments on foreign loans. In such cases, the enterprise is given a tax credit for taxes withheld subject to certain conditions. (Sec. 7(f), R.A. No. 5186; Sec. 8(c), P.D. No. 535)

Said taxes assumed by the registered enterprise represent necessary and ordinary expenses incurred by the enterprise; hence, deductible from its gross income. Therefore, the tax credits granted necessarily constitute taxable income of the enterprise.

Exclusions §32 (B),NIRC. Exclusions from Gross Income. - The following items shall not be included in gross income and shall be exempt from taxation under this title:

(1) Life Insurance. - 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.

(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.

(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.

(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.

(5) Income Exempt under Treaty. - Income of any kind, to the extent required by any treaty obligation binding upon the Government of the Philippines.

(6) Retirement Benefits, Pensions, Gratuities, etc.-

(a) Retirement benefits received under Republic Act No. 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 ten (10) years and is not less than fifty (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. For purposes of this Subsection, the term 'reasonable private benefit plan' means a pension, gratuity, stock bonus or profit-sharing plan maintained by an employer for the benefit of some or all of his officials or employees, wherein contributions are made by such employer for the officials or employees, or both, for the purpose of


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distributing to such officials and employees the earnings and principal of the fund thus accumulated, and wherein its is provided in said plan that at no time shall any part of the corpus or income of the fund be used for, or be diverted to, any purpose other than for the exclusive benefit of the said officials and employees.

(b) Any amount received by an official or employee or by his heirs from the employer as a consequence of separation of such official or employee from the service of the employer because of death sickness or other physical disability or for any cause beyond the control of the said official or employee.

(c) The provisions of any existing law to the contrary notwithstanding, social security benefits, retirement gratuities, pensions and other similar benefits received by resident or 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.

(e) Benefits received from or enjoyed under the Social Security System in accordance with the provisions of Republic Act No. 8282.

(f) Benefits received from the GSIS under Republic Act No. 8291, including retirement gratuity received by government officials and employees.

(7) Miscellaneous Items. -

(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.

(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.

(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 Thirty thousand pesos (P30,000) which shall cover:

(i) Benefits received by officials and employees of the national and local government pursuant to Republic Act No. 6686;

(ii) Benefits received by employees pursuant to Presidential Decree No. 851, as amended by Memorandum Order No. 28, dated August 13, 1986;

(iii) Benefits received by officials and employees not covered by Presidential decree No. 851, as amended by Memorandum Order No. 28, dated August 13, 1986; and


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(iv) Other benefits such as productivity incentives and Christmas bonus: Provided, further, That the ceiling of Thirty thousand pesos (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.

(f) GSIS, SSS, Medicare and Other Contributions. - GSIS, SSS, Medicare and Pag-ibig contributions, and union dues of individuals.

(g) Gains from the Sale of Bonds, Debentures or other Certificate of Indebtedness. - Gains realized from the same or exchange or retirement of bonds, debentures or other certificate of indebtedness with a maturity of more than five (5) years.

(h) Gains from Redemption of Shares in Mutual Fund. - Gains realized by the investor upon redemption of shares of stock in a mutual fund company as defined in Section 22 (BB) of this Code.

Retirement benefits, pensions, gratuitites, etc.

CIR vs. CA and GCL Retirement Plan

GCL Retirement Plan is an employees' trust maintained by the employer, GCL Inc., to provide retirement, pension, disability and death benefits to its employees. The Plan as submitted was approved and qualified as exempt from income tax by the Commissioner of Internal Revenue in accordance with Rep. Act No. 4917.

In 1984, GCL made investments and earned therefrom interest income from which was withheld the fifteen per centum (15%) final withholding tax imposed by Pres. Decree No. 1959.

On 15 January 1985, GCL filed with Petitioner a claim for refund in the amounts of P1,312.66 withheld by Anscor Capital and Investment Corp., and P2,064.15 by Commercial Bank of Manila. On 12 February 1985, it filed a second claim for refund of the amount of P7,925.00 withheld by Anscor, stating in both letters that it disagreed with the collection of the 15% final withholding tax from the interest income as it is an entity fully exempt from income tax as provided under Rep. Act No. 4917 in relation to Section 56(b) of the Tax Code.

The refund requested having been denied, GCL elevated the matter to the Court of Tax Appeals. The CTA ruled in favor of GCL, bottling that employees' trusts are exempt from the 15% final withholding tax on interest income and ordering a refund of the tax withheld.

Upon appeal, originally to this Court, but referred to the Court of Appeals, the CTA Decision was upheld.

Held: It appears that under Rep. Act No. 1983, which took effect on 22 June 1957, amending Sec. 56(b) of the National Internal Revenue Code, employees' trusts were exempt from income tax.

Sec. 56. Imposition of tax. –

(a) Application of tax. -The taxes imposed by this Title upon individuals shall apply to the income of estates or of any kind of property held in trust, including…

(b) Exception. -The tax imposed by this Title shall not apply to employees' trust which forms part of a pension, stock bonus or profitsharing plan of an employer for the benefit of same or all of his employees

(1) if contributions are made to the trust by such employer, or employees, or both, for the purpose of distributing to such employees the earnings and principal of the fund accumulated by the trust in accordance with such plan, x x x"

On 3 June 1977, Pres. Decree No. 1156 provided, for the first time, for the withholding from the interest on bank deposits at the source of a tax of fifteen per cent (15%) of said interest. However, it also allowed a specific exemption in its Section 53.


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Sec.53. Withholding of tax at source.

(3) Depositors enjoying tax exemption privileges or preferential tax treatment. In all cases where the depositor is tax-exempt or is enjoying preferential income tax treatment under existing laws, the withholding tax imposed in this paragraph shall be refunded or credited as the case may be upon submission to the Commissioner of Internal Revenue of proof that the said depositor is a tax-exempt entity or enjoys a preferential income tax treatment.

This exemption and preferential tax treatment were carried over in Pres. Decree No. 1739, effective on 17 September 1980, which law also subjected interest from bank deposits and yield from deposit substitutes to a final tax of twenty per cent (20%).

The deletion in Pres. Decree No. 1959 of the provisos regarding tax exemption and preferential tax rates under the old law, therefore, can not be deemed to extend to employees' trusts. Circulars and orders holding otherwise are deemed inapplicable.

CIR vs. CA and Castaneda

Facts: Efren P. Castaneda retired from the government service as revenue attaché in the Philippine Embassy in London, England, on December 10, 1982, under the provisions of Section 12 [c] of Commonwealth Act 186. Upon retirement, he received, among other benefits, terminal-leave pay from which petitioner Commissioner of Internal Revenue withheld P12,557.13 allegedly representing income tax thereon.

Castaneda filed a formal written claim with petitioner for a refund of the P12,557.13, contending that the cash equivalent of his terminal leave is exempt from income tax. To comply with the two-year prescriptive period within which claims for refund may be filed, Castaneda filed with the Court of Tax Appeals a Petition for Review, seeking the refund of income tax withheld from his terminal-leave pay.

The Court of Tax Appeals found for Castaneda and ordered the Commissioner of Internal Revenue to refund Castaneda the sum of P12,557.13 withheld as income tax.

The Commissioner appealed the abovementioned Court of Tax Appeals decision to this Court.

The Solicitor General, acting on behalf of the Commissioner of Internal Revenue, contends that the terminal-leave pay is income derived from employer-employee relationship, citing in support of his stand Section 28 of the National Internal Revenue Code; that as part of the compensation for services rendered, terminal-leave pay is actually part of gross income of the recipient. Thus: It [terminal-leave pay] cannot be viewed as salary for purposes which would reduce it. There can thus be no “commutation of salary” when a government retiree applies for terminal leave, because he is not receiving it as salary. What he applies for is a “commutation of leave credits.” It is an accumulation of credits intended for old age or separation from service.

Held: The Court has already ruled that the terminal-leave pay received by a government official or employee is not subject to withholding [income] tax. In the case of Jesus N. Borromeo v. The Hon. Civil Service Commission, et al., the Court explained the rationale behind the employee’s entitlement to an exemption from withholding [income] tax on his terminal-leave pay as follows:

“Commutation of leave credits, more commonly known as terminal leave, is applied for by an officer or employee who retires, resigns or is separated from the service through no fault of his own. [Manual on Leave Administration Course for Effectiveness, published by the Civil Service Commission, pages 16-17]. In the exercise of sound personnel policy, the government encourages unused leaves to be accumulated. The government recognizes that for most public servants, retirement pay is always less than generous if not meager and scrimpy. A modest nest egg, which the senior citizen may look forward to, is thus avoided. Terminal leave payments are given not only at the same time but also for the same policy considerations governing retirement benefits.”

In fine, not being part of the gross salary or income of a government official or employee but a retirement benefit, terminal-leave pay is not subject to income tax.


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Re: Request of Atty Bernardo Zialcita

The SC ruled that terminal leave pay of Atty. Zialcita received by virtue of his compulsory retirement can never be considered a part of his salary subject to the payment of income tax but falls under the phrase' other similar benefits received by retiring employees and workers, within the meaning of Section 1 of PD No. 220 and is thus exempt from the payment of income tax.

That the money value of his accrued leave credits is not a part of his salary is further buttressed by Sec. 3(a) of PD No. 985, which makes it clear that the actual service is the period of time for which pay has been received, excluding the period covered by terminal leave.

The CIR as intermovant, and through the SolGen moved for a reconsideration

Since terminal leave is applied for by an officer or employee who has already severed his connection with his employer and who is no longer working, then it follows that the terminal leave pay, which is the cash value of his accumulated leave credits, is no longer compensation for services rendered. It can not be viewed as salary.

Any officer or employee of the government who retires or voluntarily resigns or is separated from the service through no fault of his own and whose leave benefits are not covered by special law, shall be entitled to the commutation of all the accumulated vacation and/or sick leaves to his credit, exclusive of Saturdays, Sundays and holidays, without limitation as to the number of days of vacation and sick leaves that he may accumulate.

Sec. 28 (b) Exclusions from gross income - The following items shall not be included in gross income and shall be exempt from taxation under this Title:

(7) Retirement benefits, pensions, gratuities, etc.

(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 due to death, sickness or other physical disability or for any cause beyond the control of the said official or employee.

In the case of Atty. Zialcita, he rendered government service from March 13, 1962 up to February 15,1990. The next day, or on February 16, 1990, he reached the compulsory retirement age of 65 years. Upon his compulsory retirement, he is entitled to the commutation of his accumulated leave credits to its money value. Within the purview of the above-mentioned provisions of the NIRC, compulsory retirement may be considered as a "cause beyond the control of the said official or employee". Consequently, the amount that he received by way of commutation of his accumulated leave credits as a result of his compulsory retirement, or his terminal leave pay, falls within the enumerated exclusions from gross income and is therefore not subject to tax.

The terminal leave pay of Atty. Zialcita may likewise be viewed as a "retirement gratuity received by government officials and employees" which is also another exclusion from gross income as provided for in Section 28(b), 7(f) of the NIRC.

The case of Atty. Bernardo Zialcita is merely an administrative matter involving an employee of this Court who applied for retirement benefits and who questioned the deductions on the benefits given to him. Hence, our resolution applies only to employees of the Judiciary.

The Chief of the Finance Division likewise sought clarification with respect to the applicability of the resolution to employees of the Supreme Court who:

• those who avail of optional retirement; and • those who resign or are separated from the service through no fault of their own.

The two groups mentioned above are also entitled to terminal leave pay in accordance with Section 286 of the Revised Administrative Code, as amended by RA 1081. This resolution also applies to those who avail of optional retirement and to those who resign or are separated from the service through no fault of their own.


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Republic Act 4917

Any provision of law to the contrary notwithstanding, the retirement benefits received by officials and employees of private firms, whether individual or corporate, in accordance with a reasonable private benefit plan maintained by the employer shall be exempt from all taxes and shall not be liable to attachment, garnishment, levy or seizure by or under any legal or equitable process whatsoever except to pay a debt of the official or employee concerned to the private benefit plan or that arising from liability imposed in a criminal action: Provided, That the retiring official or employee has been in the service of the same employer for at least ten (10) years and is not less than fifty years of age at the time of his retirement: Provided, further, That the benefits granted under this Act shall be availed of by an official or employee only once: Provided, finally, That in case of separation of an official or employee from the service of the employer due to death, sickness or other physical disability or for any cause beyond the control of the said official or employee, any amount received by him or by his heirs from the employer as a consequence of such separation shall likewise be exempt as hereinabove provided.

As used in this Act, the term "reasonable private benefit plan" means a pension, gratuity, stock bonus or profit sharing plan maintained by an employer for the benefit of some or all of his officials and employees, wherein contributions are made by such employer or officials and employees, or both, for the purpose of distributing to such officials and employees the earnings and principal of the fund thus accumulated, and wherein it is provided in said plan that at no time shall any part of the corpus or income of the fund be used for, or be diverted to, any purpose other than for the exclusive benefit of the said officials and employees.

Republic Act 7833

RR 2-95

Implementing Republic Act No. 7833, An Act to Exclude the Benefits Mandated Pursuant to Republic Act No. 6686 and Presidential Decree No. 851, as Amended, and other Benefits from the Computation of Gross Compensation Income for the Purposes of Determining Taxable Compensation Income (January 3, 1995)

Scope. — Pursuant to Section 245 and 72 of the NIRC, as amended, in relation to Section 3 of Republic Act No. 7833, these Regulations are hereby promulgated to implement the provisions of Section 28 (b) (9) (6) of the NIRC, as amended, excluding from the computation of gross compensation income, for purposes of determining taxable compensation income, the 13th month pay and other benefits.

Definition of Terms. — For purposes of these Regulations, the following definitions of words and phrases are hereby adopted:

a) "Exclusions" — shall mean the total benefits which are not included in the computation of gross compensation income for purposes of determining taxable compensation income and are, therefore, exempt from the withholding tax on wages.

b) "Gross compensation income" — means all remunerations for services performed by an employee for his employer, whether paid in cash or in kind, unless specifically excluded under Secs. 27 and 28 of the NIRC, as amended.

c) "Other benefits" — refer to all benefits other than the 13th month pay, such as, the annual Christmas bonus given by private offices, 14th month pay, mid-year productivity incentive bonus, gifts in cash or in kind and other similar benefits received by an official or employee for one calendar year in an amount not exceeding Twelve Thousand Pesos (P12,000.00) as maximum limit.


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d) "13th month pay" — refers to the mandatory one month basic salary of an official or employee of the National Government, Local Government Units, agencies and instrumentalities, including government-owned and -controlled corporations, and of private offices received after the 12th month pay.

Benefits Exempted from Income Tax. — For purposes of determining the taxable compensation income, the following benefits shall be excluded from the gross compensation income, viz:

a) 13th month pay equivalent to the mandatory 1 mo. basic salary of officials and employees of the Government (whether national or local), including goccs, and of private offices received after the 12th month pay beginning CY 1994; and

b) Other benefits, such as, Christmas bonus given by, private offices to their officials and employees, productivity incentives bonus, loyalty award, gifts in cash or in kind and other benefits of similar nature actually received by officials and employees of both Government and private offices in an amount not exceeding P12,000.00 for 1 calendar year.

The above-stated exclusions [(a) and (b)] shall cover benefits paid or accrued beginning January 1, 1994 but shall be limited only to an amount not exceeding P12,000.00 in the case of the "other benefits" contemplated under paragraph (b) above, provided, however, that when added to the 13th month pay, the total amount of tax exempt benefits shall not exceed P30,000.00.

Refund/Credit of Taxes Withheld from employees Separated from Employment. —

a) An employee separate from the service of his previous employer but is presently employed by another employer shall be refunded/credited the taxes withheld on his exempt 13th month pay and other benefits by his present employer.

b) An employee who has been separated from a previous employer but has no present employment shall claim his refund of excess tax withheld on his 13th month pay and other benefits by filing with the BIR a refundable income tax return for CY 1994, provided that the refundable ITR for 1994 reflects the taxes withheld on his 13th month pay and other benefits.

Concurrent Multiple Employments. — An employee is employed by two or more employers at the same time during the taxable year shall be refunded/credited the taxes withheld on his 13th month pay and "other benefits" by his main employer, e.g., the employer paying the highest wage/salary. The said main employer shall determine the maximum allowable 13th month pay and "other benefits" received from both main and secondary employer/s in annualizing the taxable compensation income at year-end adjustment. For this purpose, the secondary employer/s shall furnish the main employer a certification as to the amount of the 13th month pay and other benefits received by the employee.

RMC 36-94

Publishing the full text of Republic Act No. 7833 - an Act excluding the benefits mandated pursuant to Republic Act No. 6686 and Presidential Decree No. 851, as amended, and other benefits from the computation of gross compensation income for purposes of determining taxable compensation income, amending for the purpose Section 28(b)(8) of the National Internal Revenue Code, as amended. (December 14, 1994)

Income Derived by Foreign Government

CIR vs. Mitsubishi Metal Corporation

Facts: Atlas Consolidated Mining entered into a Loan and Sales Contract with Mitsubishi. Under the Contract, Mitsubishi would lend Atlas $20M for the installation of a new concentrator for copper


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production, and in turn, Atlas would sell to Mitsubishi all the copper concentrates produced from the machine for the next 15 years.

Thereafter, Mitsubishi applied for a loan with Eximbank of Japan so that it could comply with its obligations under the contract. Mitsubishi also applied for a loan with a consortium of Japanese banks. The total amount of both loans was $20M.

Atlas made interest payments in favor of Mitsubishi totaling P13M. The corresponding 15% tax on the interest in the amount of P1.9M was withheld and remitted to the Government. Subsequently, Mitsubishi and Atlas filed a claim for tax credit, requesting that the P1.9M be applied against their existing tax liabilities on the ground that the interest earned by Mitsubishi on the loan was exempt from tax.

ISSUE: Whether the interest is tax-exempt.

HELD: No, the interest is not exempt from tax.

The National Internal Revenue Code provides that income received from loans in the Philippines extended by financing institutions owned, controlled, or financed by foreign governments are exempt from tax.

Mitsubishi and Atlas claim that the interest earned from the loan falls under the above exemption because Mitsubishi was merely acting as an agent of Eximbank, which is a financing institution owned, controlled, and financed by the Japanese Government. They allege that Mitsubishi was merely the conduit between Atlas and Eximbank, and that the ultimate creditor was really Eximbank.

The SC held that Mitsubishi was not a mere agent of Eximbank. It entered into the agreement with Atlas in its own independent capacity. The transaction between Mitsubishi and Atlas on the one hand, and between Mitsubishi and Eximbank on the other, were separate and distinct. No agency relationship was established between Eximbank and Mitsubishi.

Since the transaction was between Mitsubishi and Atlas, the exemption that would have been applicable to Eximbank, does not apply. The interest is therefore not exempt from tax.

Fringe Benefits Tax SEC. 33. Special Treatment of Fringe Benefit.-

(A) Imposition of Tax.- A final tax of thirty-four percent (34%) effective January 1, 1998; thirty-three percent (33%) effective January 1, 1999; and thirty-two percent (32%) effective January 1, 2000 and thereafter, 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 herein imposed is payable by the employer which tax shall be paid in the same manner as provided for under Section 57 (A) of this Code. The grossed-up monetary value of the fringe benefit shall be determined by dividing the actual monetary value of the fringe benefit by sixty-six percent (66%) effective January 1, 1998; sixty-seven percent (67%) effective January 1, 1999; and sixty-eight percent (68%) effective January 1, 2000 and thereafter: Provided, however, That fringe benefit furnished to employees and taxable under Subsections (B), (C), (D) and (E) of Section 25 shall be taxed at the applicable rates imposed thereat: Provided, further, That the grossed -Up value of the fringe benefit shall be determined by dividing the actual monetary value of the fringe benefit by the difference between one hundred percent (100%) and the applicable rates of income tax under Subsections (B), (C), (D), and (E) of Section 25.


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(B) Fringe Benefit defined.- For purposes of this Section, the term "fringe benefit" means any good, service or other benefit furnished or granted in cash or in kind by an employer to an individual employee (except rank and file employees as defined herein) such as, but not limited to, the following:

(1) Housing;

(2) Expense account;

(3) Vehicle of any kind;

(4) Household personnel, such as maid, driver and others;

(5) Interest on loan at less than market rate to the extent of the difference between the market rate and actual rate granted;

(6) Membership fees, dues and other expenses borne by the employer for the employee in social and athletic clubs or other similar organizations;

(7) Expenses for foreign travel;

(8) Holiday and vacation expenses;

(9) Educational assistance to the employee or his dependents; and

(10) Life or health insurance and other non-life insurance premiums or similar amounts in excess of what the law allows.

(C) Fringe Benefits Not Taxable. - The following fringe benefits are not taxable under this Section:

(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.

The Secretary of Finance is hereby authorized to promulgate, upon recommendation of the Commissioner, such rules and regulations as are necessary to carry out efficiently and fairly the provisions of this Section, taking into account the peculiar nature and special need of the trade, business or profession of the employer.

Purpose of FBT A final tax of 32% is imposed on the grossed-up monetary value of fringe benefits granted to the employee (except rank and file employees) by the employer unless the benefit is required by the nature of, or necessary to the trade, business, or profession of the employer.

FBT is sort of an income to the employee whose (final) tax is shouldered by the employer. Since it is a tax on the employee’s income, the rate is 32%.

FBT is a final tax – the employee pays no more taxes on the fringe benefit received.

FBT is also an expense which is deductible from the employer’s gross income – provided the FBT is actually paid. What is deductible is the GUMV of the fringe benefit – in other words, the value of the fringe benefit plus the FBT.


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It follows that if the employee is an alien (or a counterpart Filipino) employed by a RAHQ or ROHQ, an offshore banking unit, or a petroleum service contractor, whose income is subject to a 15% tax, the FBT should also be 15% on the Grossed Up Monetary Value (GUMV) of the fringe benefit. The formula for GUMV should also be adjusted accordingly: i.e. 100-15=85%. To arrive at the GUMV, the value of the fringe benefit should be divided by 85%. See Section 25 for details.

Grossed Up Monetary Value

It is the amount subject to tax (paid by the employer). It is arrived at by dividing the actual monetary value of the fringe benefit by 68% (85% if one of those employees mentioned in Section 25).

The taxable amount is the GUMV so that the benefit to the employee may be preserved. As seen above, even after the tax is imposed, the value of the fringe benefit (100) still goes to the employee undiminished.

Deductions

Aguinaldo Industries Corp. vs. CIR

Aguinaldo Industries Corp. was engaged in two lines of business: the manufacture of fishing nets, handled by its Fish Net Division, and the manufacture of furniture, which in turn was handled by its Furniture Division.

For accounting purposes, each division kept separate books of accounts as required by the Department of Finance. The net incomes for the Fish Net Division and the Furniture Division were computed separately.

Aguinaldo Industries had previously acquired land in Muntinlupa for its fishing net factory, but when it acquired more suitable land for the purpose, it sold the Muntinlupa property for a profit, which was entered in its books as miscellaneous income as distinguished from its tax exempt income.

In 1951, Aguinaldo Industries filed separate returns for its fishing and furniture divisions. The BIR investigating officers found that AIC Fish Net deducted from its gross income the amount of 61,000 as additional renumeration paid to the officers of Aguinaldo Industries. The examiner found that this money was taken from the sale of the Muntinlupa property, an isolated transaction not in the usual course of business.

The examiner recommended that the amount be disallowed as a deduction. AIC contends that the money was paid as an allowance or bonus to its officers as provided in its by-laws. The Court of Tax Appeals upheld the CIR, and held Aguinaldo Industries liable for 17,000 in back taxes.

AIC argues that the profit derived from the sale of the Muntinlupa land is not taxable for it is tax-exempt under RA 901 as a new and necessary industry. However, AIC did admit that the profit from the land was a capital asset, and as such, a taxable gain. As such, and for tax purposes, AIC deducted from it the bonus as an item of expense apart from the commission of the real estate agent.

In this case, the tax exemption was only raised on appeal and all the time, AIC admitted that the profit from the land was a taxable gain although subject to the deduction. As such, the claim for deduction should be rejected.

In computing net income, there shall be allowed as deductions “all ordinary and necessary expenses paid or incurred during the taxable year in carrying on any trade or business including reasonable allowances for personal services actually rendered.”


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There in the basis of the foregoing standard, the bonus cannot be deemed as a deductible expense for tax purposes, even if the sale could be classified as a stransaction for carrying on the trade or business of the corporation. There is no actual evidence that the officers actually rendered some service in the perfection of the sale.

For bonuses to be deductible it must answer two questions:

• Has personal service actually been rendered by the officers? • If so, is it a reasonable allowance therefor?

In this case, the shares in the profit were extraordinary and unusual and as such, cannot be deemed as necessary expenses.

Aguinaldo Industries was also held liable to pay surcharge and interest on the back taxes.

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