Income Taxation

1. KUENZLE & STREIFF, INC. VS. CIR- Taxable Additional Compensation 

Category: Income Taxation It is a general rule that `Bonuses to employees made in good faith and as additional compensation for the services actually rendered by the employees are deductible, provided such payments, when added to the stipulated salaries, do not exceed a reasonable compensation for the services rendered.

The condition precedents to the deduction of bonuses to employees are: (1) the payment of the bonuses is in fact compensation; (2) it must be for personal services actually rendered; and (3) bonuses, when added to the salaries, are `reasonable ... when measured by the amount and quality of the services performed with relation to the business of the particular taxpayer. Here it is admitted that the bonuses are in fact compensation and were paid for services actually rendered.

FACTS: 1. Kuenzle & Streiff for the years 1953, 1954 and 1955 filed its income tax return, declaring losses.

2. CIR filed for deficiency of income taxes against Kuenzle & Streiff Inc. for the said years in the amounts of P40,455.00, P11,248.00 and P16,228.00, respectively, arising from the disallowance, as deductible expenses, of the bonuses paid by the corporation to its officers, upon the ground that they were not ordinary, nor necessary, nor reasonable expenses within the purview of Section 30(a) (1) of the National Internal Revenue Code.

3. The corporation filed with the Court of Tax Appeals a petition for review contesting the assessments. CTA favored the CIR, however lowered the tax due on 1954. The corporation moved for reconsideration, but still lost.

4. The Corporation contends that the tax court, in arriving at its conclusion, acted "in a purely arbitrary manner", and erred in not considering individually the total compensation paid to each of petitioner's officers and staff members in determining the reasonableness of the bonuses in

question, and that it erred likewise in holding that there was nothing in the record indicating that the actuation of the respondent was unreasonable or unjust.

ISSUE: Whether or not the bonuses in question was reasonable and just to be allowed as a deduction? HELD: No. RATIO: It is a general rule that `Bonuses to employees made in good faith and as additional compensation for the services actually rendered by the employees are deductible, provided such payments, when added to the stipulated salaries, do not exceed a reasonable compensation for the services rendered. The condition precedents to the deduction of bonuses to employees are: (1) the payment of the bonuses is in fact compensation; (2) it must be for personal services actually rendered; and (3) bonuses, when added to the salaries, are `reasonable ... when measured by the amount and quality of the services performed with relation to the business of the particular taxpayer. Here it is admitted that the bonuses are in fact compensation and were paid for services actually rendered. The only question is whether the payment of said bonuses is reasonable.

There is no fixed test for determining the reasonableness of a given bonus as compensation. This depends upon many factors, one of them being the amount and quality of the services performed with relation to the business. Other tests suggested are: payment must be 'made in good faith'; the character of the taxpayer's business, the volume and amount of its net earnings, its locality, the type and extent of the services rendered, the salary policy of the corporation'; 'the size of the particular business'; 'the employees' qualifications and contributions to the business venture'; and 'general economic conditions. However, 'in determining whether the particular salary or compensation payment is reasonable, the situation must be considered as a whole.

It seems clear from the record that, in arriving at its main conclusion, the tax court considered, inter alia, the following factors: 1) The paid officers, in the absence of evidence to the contrary, that they were competent, on the other the record discloses no evidence nor has petitioner ever made the claim that all or some of them were gifted with some special talent, or had undergone some extraordinary training, or had accomplished any particular task, that contributed materially to the success of petitioner's business during the taxable years in question.

2) All the other employees received no pay increase in the said years.

3) The bonuses were paid despite the fact that it had suffered net losses for 3 years. Furthermore the corporation cannot use the excuse that it is 'salary paid' to an employee because the CIR does

not question the basic salaries paid by petitioner to the officers and employees, but disallowed only the bonuses paid to petitioner's top officers at the end of the taxable years in question.

2. ZAMORA VS. COLLECTOR (1963)- Allowed Tax Deductions 

Category: Income Taxation There shall be allowed as deductions all the ordinary and necessary expenses paid or incurred during the taxable year, in carrying on any trade or business. Since promotion expenses constitute one of the deductions in conducting a business, same must testify these requirements. Claim for the deduction of promotion expenses or entertainment expenses must also be substantiated or supported by record showing in detail the amount and nature of the expenses incurred.

That to be deductible, said business expenses must be ordinary and necessary expenses paid or incurred in carrying on any trade or business; that those expenses must also meet the further test of reasonableness in amount; that when some of the representation expenses claimed by the taxpayer were evidenced by vouchers or chits, but others were without vouchers or chits, the court should determine from all available data, the amount properly deductible as representation expenses.

FACTS: • Mariano Zamora, owner of the Bay View Hotel and Farmacia Zamora, Manila, filed his income tax returns the years 1951 and 1952. The Collector of Internal Revenue found that he failed to file his return of the capital gains derived from the sale of certain real properties and claimed deductions which were not allowable. The collector required him to pay the sums of P43,758.50 and P7,625.00, as deficiency income tax for the years 1951 and 1952. • On appeal by Zamora, the Court of Tax Appeals modified the decision appealed from and ordered him to pay the reduced total sum of P30,258.00 (P22,980.00 and P7,278.00, as deficiency income tax for the years 1951 and 1952.

• Having failed to obtain a reconsideration of the decision, Mariano Zamora appealed alleging that the Court of Tax Appeals erred (amongst other things, this being the only relevant to the topic) in disallowing P10,478.50, as promotion expenses incurred by his wife for the promotion of the Bay View Hotel and Farmacia Zamora (which is ½ of P20,957.00, supposed business expenses). • Note: He contends that the whole amount of P20,957.00 as promotion expenses in his 1951 income tax returns, should be allowed and not merely one-half of it or P10,478.50, on the ground that, while not all the itemized expenses are supported by receipts, the absence of some supporting receipts has been sufficiently and satisfactorily established. For, as alleged, the said amount of P20,957.00 was spent by Mrs. Esperanza A. Zamora (wife of Mariano), during her travel to Japan and the United States to purchase machinery for a new Tiki-Tiki plant, and to observe hotel management in modern hotels. The CTA, however, found that for said trip Mrs. Zamora obtained only the sum of P5,000.00 from the Central Bank and that in her application for dollar allocation, she stated that she was going abroad on a combined medical and business trip, which facts were not denied by Mariano Zamora. No evidence had been submitted as to where Mariano had obtained the amount in excess of P5,000.00 given to his wife which she spent abroad. No explanation had been made either that the statement contained in Mrs. Zamora's application for dollar allocation that she was going abroad on a combined medical and business trip, was not correct. The alleged expenses were not supported by receipts. Mrs. Zamora could not even remember how much money she had when she left abroad in 1951, and how the alleged amount of P20,957.00 was spent.

ISSUE: Whether or not the CTA erred in disallowing P10,478.50 as promotion expenses incurred by his wife for the promotion of the Bay View Hotel and Farmacia Zamora in the absence of receipts proving the same.

HELD: NO • Section 30, of the Tax Code, provides that in computing net income, there shall be allowed as deductions all the ordinary and necessary expenses paid or incurred during the taxable year, in carrying on any trade or business. Since promotion expenses constitute one of the deductions in conducting a business, same must testify these requirements. Claim for the deduction of promotion expenses or entertainment expenses must also be substantiated or supported by record showing in detail the amount and nature of the expenses incurred (N.H. Van Socklan, Jr. v. Comm. of Int. Rev.; 33 BTA 544). Considering, as heretofore stated, that the application of Mrs. Zamora for dollar allocation shows that she went abroad on a combined medical and business trip, not all of her expenses came under the category of ordinary and necessary expenses; part

thereof constituted her personal expenses. There having been no means by which to ascertain which expense was incurred by her in connection with the business of Mariano Zamora and which was incurred for her personal benefit, the Collector and the CTA in their decisions, considered 50% of the said amount of P20,957.00 as business expenses and the other 50%, as her personal expenses. We hold that said allocation is very fair to Mariano Zamora, there having been no receipt whatsoever, submitted to explain the alleged business expenses, or proof of the connection which said expenses had to the business or the reasonableness of the said amount of P20,957.00. While in situations like the present, absolute certainty is usually not possible, the CTA should make as close an approximation as it can, bearing heavily, if it chooses, upon the taxpayer whose inexactness is of his own making. • In the case of Visayan Cebu Terminal Co., Inc. v. Collector of Int. Rev, it was declared that representation expenses fall under the category of business expenses which are allowable deductions from gross income, if they meet the conditions prescribed by law, particularly section 30 (a) [1], of the Tax Code; that to be deductible, said business expenses must be ordinary and necessary expenses paid or incurred in carrying on any trade or business; that those expenses must also meet the further test of reasonableness in amount; that when some of the representation expenses claimed by the taxpayer were evidenced by vouchers or chits, but others were without vouchers or chits, documents or supporting papers; that there is no more than oral proof to the effect that payments have been made for representation expenses allegedly made by the taxpayer and about the general nature of such alleged expenses; that accordingly, it is not possible to determine the actual amount covered by supporting papers and the amount without supporting papers, the court should determine from all available data, the amount properly deductible as representation expenses.

3. ESSO V. CIR- Tests of Deductability 

Category: Income Taxation For an item to be deductible as a business expense, the expense must be ordinary and necessary; it must be paid or incurred within the taxable year; and it must be paid or incurred in carrying on a trade or business. In addition, the taxpayer must substantially prove by evidence or records the deductions claimed under law, otherwise, the same will be disallowed.

FACTS: ESSO deducted from its gross income for 1959, as part of its ordinary and necessary business

expenses, the amount it had spent for drilling and exploration of its petroleum concessions. The Commissioner disallowed the claim on the ground that the expenses should be capitalized and might be written off as a loss only when a ―dry hole‖ should result. Hence, ESSO filed an amended return where it asked for the refund of P323,270 by reason of its abandonment, as dry holes, of several of its oil wells. It also claimed as ordinary and necessary expenses in the same return amount representing margin fees it had paid to the Central Bank on its profit remittances to its New York Office.

ISSUE: Whether the margin fees may be considered ordinary and necessary expenses when paid. HELD: For an item to be deductible as a business expense, the expense must be ordinary and necessary; it must be paid or incurred within the taxable year; and it must be paid or incurred in carrying on a trade or business. In addition, the taxpayer must substantially prove by evidence or records the deductions claimed under law, otherwise, the same will be disallowed. There has been no attempt to define ―ordinary and necessary‖ with precision. However, as guiding principle in the proper adjudication of conflicting claims, an expenses is considered necessary where the expenditure is appropriate and helpful in the development of the taxpayer‘s business. It is ordinary when it connotes a payment which is normal in relation to the business of the taxpayer and the surrounding circumstances. Assuming that the expenditure is ordinary and necessary in the operation of the taxpayer‘s business; the expenditure, to be an allowable deduction as a business expense, must be determined from the nature of the expenditure itself, and on the extent and permanency of the work accomplished by the expenditure. Herein, ESSO has not shown that the remittance to the head office of part of its profits was made in furtherance of its own trade or business. The petitioner merely presumed that all corporate expenses are necessary and appropriate in the absence of a showing that they are illegal or ultra vires; which is erroneous. Claims for deductions are a matter of legislative grace and do not turn on mere equitable considerations.

4. CIR VS. CA AND CASTANEDA- Retirement Benefit, Terminal Leave Pay is Not Subject to Income Tax 

Category: Income Taxation

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.

FACTS: • Private respondent Efren P. Castaneda retired from the government service in 1982. 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 on 16 July 1984 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 decided in favor of Castaneda and ordered the CIR to refund Castaneda the sum of P12,557.13 withheld as income tax. Petitioner appealed the abovementioned Court of Tax Appeals decision to this Court. In turn, we referred the case to the Court of Appeals for resolution. On 26 September 1990, the Court of Appeals dismissed the petition for review and affirmed the decision of the Court of Tax Appeals. Hence, the present recourse by the Commissioner of Internal Revenue. • 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 NIRC.

ISSUE: Whether or not terminal leave pay received by a government official or employee on the occasion of his compulsory retirement from the government service is subject to withholding (income) tax.

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 recent case of Jesus N. Borromeo vs. The Hon. Civil Service Commission, et al., G.R. No. 96032, 31 July 1991, 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.

5. CIR VS. ANSCOR- Income Subject to Tax - Passive Income - Dividends 

Category: Income Taxation GENERAL RULE: A stock dividend representing the transfer of surplus to capital account shall not be subject to tax.

EXCEPTION: The redemption or cancellation of stock dividends, depending on the "time" and "manner" it was made, is essentially equivalent to a distribution of taxable dividends," making the proceeds thereof "taxable income" "to the extent it represents profits".

FACTS: -- reversal of the decision of the CA • 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 nonresident aliens.

• In 1937, Don Andres subscribed to 4,963 shares of the 5,000 shares originally issued. In 1945, ANSCOR's authorized capital stock was increased to P2,500,000.00 divided into 25,000 common shares with the same par value. Don Andres' increased his subscription to 14,963 common shares. A month later, 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. • From 1947-1963, ANSCOR declared stock dividends. On December 30, 1964 Don Andres died. As of that date, the records revealed that he has a total shareholdings of 185,154 shares. Correspondingly, one-half of that shareholdings or 92,577 shares were transferred to his wife, Doña Carmen Soriano, as her conjugal share. The other half formed part of his estate.

• A day after Don Andres died, ANSCOR increased its capital stock to P20M and in 1966 further increased it to P30M. 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 June 30, 1968, pursuant to a Board Resolution, ANSCOR redeemed 28,000 common shares from the Don Andres' estate. By November 1968, the Board further increased ANSCOR's capital stock to P75M. About a year later, ANSCOR again redeemed 80,000 common shares from the Don Andres' estate. As stated in the Board Resolutions, ANSCOR's business purpose for both redemptions of stocks is to partially retire said stocks as treasury shares in order to reduce the company's foreign exchange remittances in case cash dividends are declared.

• 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.

ISSUE: • Whether or not 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.

HELD: • YES. The bone of contention is the interpretation and application of Section 83(b) of the 1939 Revenue Act 38 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. • Sec. 83(b) of the 1939 NIRC was taken from the 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. • 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."

• The exception provides that the redemption or cancellation of stock dividends, depending on the "time" and "manner" it was made, is essentially equivalent to a distribution of taxable dividends," making the proceeds thereof "taxable income" "to the extent it represents profits". The exception was designed to prevent the issuance and cancellation or redemption of stock dividends, which is fundamentally not taxable, from being made use of as a device for the actual distribution of cash dividends, which is taxable. • 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. 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."

• Redemption is repurchase, a reacquisition of stock by a corporation which issued the stock 89 in exchange for property, whether or not the acquired stock is cancelled, retired or held in the treasury. 90 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. In the case, ANSCOR redeemed shares twice. 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. • It is not the stock dividends but the proceeds of its redemption that may be deemed as taxable dividends. At the time of the last redemption, the original common shares owned by the estate were only 25,247.5 91 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. 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.

• 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 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.

• ANSCOR invoked two reasons to justify the redemptions — (1) the alleged "filipinization" program and (2) the reduction of foreign exchange remittances in case cash dividends are declared. The Court is not concerned with the wisdom of these purposes but on their relevance to the whole transaction which can be inferred from the outcome thereof. It is the "net effect rather than the motives and plans of the taxpayer or his corporation". 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 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 taxation regardless of the existence of any business purpose for the redemption. Otherwise, to rule that the said proceeds are exempt from income tax when the redemption is supported by legitimate business reasons would defeat the very purpose of imposing tax on income. • 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. • Even if the said purposes support the redemption and justify the issuance of stock dividends, the same has no bearing whatsoever on the imposition of the tax herein assessed because the proceeds of the redemption are deemed taxable dividends since it was shown that income was generated therefrom. • 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 21 120 of 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.

6. COLLECTOR VS. HENDERSON- Rental and Travel Allowance are not Part of Taxable Income 

Category: Income Taxation Rental allowances and travel allowances by a company are not part of taxable income.

FACTS: • Sps. Arthur Henderson and Marie Henderson filed their annual income tax with the BIR. Arthur is president of American International Underwriters for the Philippines, Inc., which is a domestic corporation engaged in the business of general non-life insurance, and represents a group of American insurance companies engaged in the business of general non-life insurance. • The BIR demanded payment for alleged deficiency taxes. In their computation, the BIR included as part of taxable income: 1) Arthur‘s allowances for rental, residential expenses, subsistence, water, electricity and telephone expenses 2) entrance fee to the Marikina Gun and Country Club which was paid by his employer for his account and 3) travelling allowance of his wife • The taxpayers justifications are as follows: 1) as to allowances for rental and utilities, Arthur did not receive money for the allowances. Instead, the apartment is furnished and paid for by his employer-corporation (the mother company of American International), for the employer corporation‘s purposes. The spouses had no choice but to live in the expensive apartment, since the company used it to entertain guests, to accommodate officials, and to entertain customers. According to taxpayers, only P 4,800 per year is the reasonable amount that the spouses would be spending on rental if they were not required to live in those apartments. Thus, it is the amount they deem is subject to tax. The excess is to be treated as expense of the company. 2) The entrance fee should not be considered income since it is an expense of his employer, and membership therein is merely incidental to his duties of increasing and sustaining the business of his employer.

3) His wife merely accompanied him to New York on a business trip as his secretary, and at the employer-corporation‘s request, for the wife to look at details of the plans of a building that his employer intended to construct. Such must not be considered taxable income.

• The Collector of Internal Revenue merely allowed the entrance fee as nontaxable. The rent expense and travel expenses were still held to be taxable. The Court of Tax Appeals ruled in favor of the taxpayers, that such expenses must not be considered part of taxable income. Letters of the wife while in New York concerning the proposed building were presented as evidence.

ISSUE: Whether or not the rental allowances and travel allowances furnished and given by the employer-corporation are part of taxable income? HELD: NO. Such claims are substantially supported by evidence. These claims are therefore NOT part of taxable income. No part of the allowances in question redounded to their personal benefit, nor were such amounts retained by them. These bills were paid directly by the employer-corporation to the creditors. The rental expenses and subsistence allowances are to be considered not subject to income tax. Arthur‘s high executive position and social standing, demanded and compelled the couple to live in a more spacious and expensive quarters. Such ‗subsistence allowance‘ was a SEPARATE account from the account for salaries and wages of employees. The company did not charge rentals as deductible from the salaries of the employees. These expenses are COMPANY EXPENSES, not income by employees which are subject to tax.

7. FARMERS & MERCHANTS BANK vs. CIR- Source of Income 

Category: Income Taxation

FACTS: • Petitioner, a corporation, was engaged in the banking within the district of the Federal Reserve Bank of Cleveland, Ohio. It was the custom of petitioner to make a charge for the collection of checks on foreign banks and of checks drawn on it and sent from other banks. • Petitioner was not a member of the Federal Reserve System so that checks drawn on it instead of being cleared through the Reserve Bank were sent direct to petitioner by the holding bank and paid by drafts on Cincinnati or New York. • In 1920 the Reserve Bank demanded that petitioner should clear checks at par. This demand

was refused, and thereupon the Reserve Bank notified its members that it would collect without charge all checks sent to it and drawn on petitioner. • Its method was to employ agents who would appear daily at the bank with these checks and demand payment thereof in cash.

• This practice was followed about eighteen months. For a greater portion of the time these collections were effected in such an unusual and unbusiness-like manner as to attract unfavorable public comment, and petitioner claimed that it was thereby annoyed, embarrassed, and interfered with in the conduct of its affairs. • Subsequently petitioner brought an action against the Reserve Bank for damages alleged to have been sustained by reason of these tactics. In its petition it set out particularly that, by reason of the wrongful conduct of the Reserve Bank, it had been forced to procure and keep in its vaults and with its correspondents unusually large amounts of money; that it had lost the earning power of a great deal of money; that it had lost deposits and depositors, and had failed to gain new ones; that it had been unable to grow, and to develop new business; and that it had been permanently injured in its reputation, standing, growth, and prosperity. The petition also included a claim for exemplary damages based upon a charge that the conduct of the Reserve Bank was malicious. • This action was compromised in 1925 and the Reserve Bank paid $18,750.00 in full settlement. The expense of the suit being deducted the net amount received by petitioner was reduced to $13,792.96.

• Respondent conceived that this fund represented earnings for the year 1925 and included it in petitioner's net income for that year. • The Board of Tax Appeals sustained the respondent. It decided that at least some portion thereof represented earnings and that petitioner had failed to show what portion did not.

ISSUE: Whether or not the Board of Tax Appeals was correct in sustain the respondent.

HELD: The court did not assent. Reversed.

• The fund involved must be considered in the light of the claim from which it was realized and which is reflected in the petition filed in its action against the Reserve Bank. • ―We find nothing therein to indicate that petitioner sought reparation for profits which petitioner's misconduct prevented it from earning in 1925.‖ • The petitioner's cashier testified before the Board that the loss of such earnings could not be definitely determined and this probably furnishes the explanation for the failure definitely to demand it. • Petitioner not only did not insist upon the restoration of anticipated profits as a matter of fact, but based its claim for damages upon an alleged tortious injury to the good will of its business, and the court sees no legal distinction between compensation for destruction of or damage to incorporeal or intangible property, such as good will, and similar compensation for damage to tangible property. • The gravamen of petitioner's action against the Reserve Bank was the injury inflicted to its banking business generally, and that the true measure of damages was compensation to be determined by ascertaining how much less valuable its business was by reason of the wrongful acts of the Reserve Bank. • Injury to its business of course means injury to its financial standing, credit, reputation, good will, capital, and other possible elements. Profits were one of the chief indications of the worth of the business; but the usual earnings before the injury, as compared with those afterward, were only an evidential factor in determining actual loss and not an independent basis for recovery. • ―We think that, if petitioner's case had proceeded to a verdict, the law would not have awarded to it what it might have expected to gain but only that which it had actually lost. We are not justified in reading an element into the compromise which was not therein distinctly recognized in fact and would not have been recognized in law. We think therefore that there is no logical basis upon which petitioner could be charged with gain.‖

8. COMMISSIONER VS. GLENSHAW GLASS- Income From Whatever Source 

Category: Income Taxation

“Income from whatever source” includes award of damages received by a winning party in a case.

FACTS: • Glenshaw manufactures glass bottles and containers. Hatford- Empire company manufactures the machines used by Glenshaw.

• Glenshaw sued Hatford-Empire. His claims were demands for exemplary damages for fraud and treble damages for injury to its business by reason of Hartford‘s violation of the federal antitrust laws. They had a settlement wherein Hartford paid Glenshaw $800,000. Of this amount, around $324k, which was for punitive damages for fraud and antitrust violations, was not reported by Glenshaw as income.

• The Commissioner determined a deficiency, claiming as taxable the entire sum less only deductible legal fees. The Tax Court and the Court of Appeals ruled for Glenshaw.

ISSUE: Whether or not the award for damages falls under “income derived from whatever source,” thus taxable

HELD: YES. • US Tax Code: SEC. 22. GROSS INCOME. "(a) GENERAL DEFINITION. 'Gross income' includes gains, profits, and income derived from salaries, wages, or compensation for personal service . . . of whatever kind and in whatever form paid, or from professions, vocations, trades, businesses, commerce, or sales, or dealings in property, whether real or personal, growing out of the ownership or use of or interest in such

property; also from interest, rent, dividends, securities, or the transaction of any business carried on for gain or profit, or gains or profits and income derived from any source whatever. . . ." • Here, we have instances of undeniable accessions to wealth, clearly realized, and over which the taxpayers have complete dominion. The mere fact that the payments were extracted from the wrongdoers as punishment for unlawful conduct cannot detract from their character as taxable income to the recipients. Respondents concede, as they must, that the recoveries are taxable to the extent that they compensate for damages actually incurred. It would be an anomaly that could not be justified in the absence of clear congressional intent to say that a recovery for actual damages is taxable, but not the additional amount extracted as punishment for the same conduct which caused the injury. And we find no such evidence of intent to exempt these payments.

9. JAMES V. US- Taxable Income 

Category: Income Taxation If a taxpayer receives income , legally or illegally, without consensual recognition of obligation to repay, that income is automatically taxable.

FACTS: • The defendant, Eugene James, was an official in a labor union who had embezzled more than $738,000 in union funds, and did not report these amounts on his tax return.

• He was tried for tax evasion, and claimed in his defense that embezzled funds did not constitute taxable income because, like a loan, the taxpayer was legally obligated to return those funds to their rightful owner

• Indeed, James pointed out, the Supreme Court had previously made such a determination in Commissioner v. Wilcox, 327 U.S. 404 (1946). However, this defense was unavailing in the trial court, where Eugene James was convicted and sentenced to three years in prison

ISSUE: Whether or not the receipt of embezzled funds constitutes income taxable to the wrongdoer, even though an obligation to repay exists. HELD: • The Supreme Court of the US ruled that the receipt of embezzled funds was includable in the gross income of the wrongdoer and was taxable to the wrongdoer, even though the wrongdoer had an obligation to return the funds to the rightful owner. • If a taxpayer receives income , legally or illegally, without consensual recognition of obligation to repay, that income is automatically taxable. • The Court noted that the Sixteenth Amendment did not limit its scope to "lawful" income, a distinction which had been found in the Revenue Act of 1913. The removal of this modifier indicated that the framers of the Sixteenth Amendment had intended no safe harbor for illegal income. • The Court also ruled, however, that Eugene James could not be held liable for the willful tax evasion because it is not possible to willfully violate laws that were not established at the time of the violation.

10. GUTIERREZ VS. COLLECTOR- Tax on Disposition of Property 

Category: Income Taxation

It appears then that the acquisition by the Government of private properties through the exercise of the power of eminent domain, said properties being JUSTLY compensated, is embraced within the meaning of the term "sale" "disposition of property", and the proceeds from said transaction clearly fall within the definition of gross income laid down by Section 29 of the Tax Code of the Philippines.

FACTS: 1. Maria Morales, married to Gutierrez(spouses), was the owner of an agricultural land. The U.S. Gov(pursuant to Military Bases Agreement) wanted to expropriate the land of Morales to expand the Clark Field Air Base. 2. The Republic was the plaintiff, and deposited a sum of Php 152k to be able to take immediate possession. The spouses wanted consequential damages but instead settled with a compromise agreement. In the compromise agreement, the parties agreed to keep the value of Php 2,500 per hectare, except to some particular lot which would be at Php 3,000 per hectare. 3. In an assessment notice, CIR demanded payment of Php 8k for deficiency of income tax for the year 1950. 4. The spouses contend that the expropriation was not taxable because it is not "income derived from sale, dealing or disposition of property" as defined in Sec. 29 of the Tax Code. The spouses further contend that they did not realize any profit in the said transaction. CIR did not agree. 5. The spouses appealed to the CTA. The Solicitor General, in representation of the respondent Collector of Internal Revenue, filed an answer that the profit realized by petitioners from the sale of the land in question was subject to income tax, that the full compensation received by petitioners should be included in the income received in 1950, same having been paid in 1950 by the Government. CTA favored SolGen but disregarded the penalty charged. 6. Both parties appealed to the SC.

ISSUES: 1. Whether or not that for income tax purposes, the expropriation should be deemed as income from sale and any profit derived therefrom is subject to income taxes capital gain?

2. Whether or not there was profit or gain to be taxed?

HELD: Yes to both. CTA decision affirmed. It is subject to income tax.

RATIO 1: It is to be remembered that said property was acquired by the Government through condemnation proceedings and appellants' stand is, therefore, that same cannot be considered as sale as said acquisition was by force, there being practically no meeting of the minds between the parties. U.S jurisprudence has held that the transfer of property through condemnation proceedings is a sale or exchange within the meaning of section 117 (a) of the 1936 Revenue Act and profit from the transaction constitutes capital gain" "The taking of property by condemnation and the, payment of just compensation therefore is a "sale" or "exchange" within the meaning of section 117 (a) of the Revenue Act of 1936, and profits from that transaction is capital gain. SEC. 29. GROSS INCOME. — (a) General definition. — "Gross income" includes gains, profits, and income derived from salaries, wages, or compensation for personal service of whatever kind and in whatever form paid, or from professions, vocations, trades, businesses, commerce, sales or dealings in property, whether real or personal, growing out of ownership or use of or interest in such property; also from interests, rents, dividends, securities, or the transactions of any business carried on for gain or profit, or gains, profits, and income derived from any source whatsoever.

SEC. 37. INCOME FROM SOURCES WITHIN THE PHILIPPINES. — (a) Gross income from sources within the Philippines. — The following items of gross income shall be treated as gross income from sources within the Philippines: xxxxxxxxx (5) SALE OF REAL PROPERTY. — Gains, profits, and income from the sale of real property located in the Philippines; xxxxxxxxx It appears then that the acquisition by the Government of private properties through the exercise of the power of eminent domain, said properties being JUSTLY compensated, is embraced within the meaning of the term "sale" "disposition of property", and the proceeds from said transaction clearly fall within the definition of gross income laid down by Section 29 of the Tax Code of the Philippines.

RATIO 2: As to appellant taxpayers' proposition that the profit, derived by them from the expropriation of their property is merely nominal and not subject to income tax, We find Section 35 of the Tax Code illuminating. Said section reads as follows:

SEC. 35. DETERMINATION OF GAIN OR LOSS FROM THE SALE OR OTHER DISPOSITION OF PROPERTY. —The gain derived or loss sustained from the sale or other disposition of property, real or personal, or mixed, shall be determined in accordance with the following schedule: (a) xxx xxx xxx (b) In the case of property acquired on or after March first, nineteen hundred and thirteen, the

cost thereof if such property was acquired by purchase or the fair market price or value as of the date of the acquisition if the same was acquired by gratuitous title. xxxxxxxxx The records show that the property in question was adjudicated to Maria Morales by order of the Court of First Instance of Pampanga on March 23, 1929, and in accordance with the aforequoted section of the National Internal Revenue Code, only the fair market price or value of the property as of the date of the acquisition thereof should be considered in determining the gain or loss sustained by the property owner when the property was disposed, without taking into account the purchasing power of the currency used in the transaction. The records placed the value of the said property at the time of its acquisition by appellant Maria Morales P28,291.73 and it is a fact that same was compensated with P94,305.75 when it was expropriated. The resulting difference is surely a capital gain and should be correspondingly taxed.

11. BRADFORD VS. CIR- Realized Income 

Category: Income Taxation The Rail Joint Co. case is identical in principle with the present case. In that case, a corporate taxpayer, after a reappraisal of its assets, distributed a dividend consisting of its own debenture bonds. In a subsequent year the corporation purchased some of these bonds at less than their face amounts, retired them, and credited the difference to surplus. The court rejected the Commissioner's claim that the corporation thereby realized income in the year the bonds were retired. Stripped of superficial distinctions, In that case, as in this, the taxpayer received nothing of value when the indebtedness was assumed. Although the indebtedness was discharged at less than its face value, the taxpayer was in fact poorer by virtue of the entire transaction.

FACTS: • In 1938 the petitioner's husband owed a Nashville bank approximately $305,000. The husband had a debt which had grown out of investment banking ventures he had engaged in prior to the depression. Fearing that disclosure of so much indebtedness might impair the position of his brokerage firm with the NY Stock Exchange, he persuaded the bank to substitute the note of his wife, the petitioner, for a portion of his indebtedness. Accordingly, the petitioner executed her note to the bank for $205,000 without receiving any consideration in return.

Her husband remained the obligor on two notes to the bank for $100,000 and so reported to the New York Stock Exchange. • About two years later the petitioner at the bank's request executed two notes to replace her $205,000 note, one for $105,000, on which all the collateral was pledged, and another for $100,000 which was unsecured. In 1943 a bank examiner required the bank to write off $50,000 of the petitioner's $100,000 unsecured note. In 1946 the bank advised petitioner that it was willing to sell the $100,000 note for $50,000, its then value on the bank's books. The petitioner's husband accordingly persuaded his half-brother, a Mr. Duval, to purchase the note from the bank for $50,000 with funds furnished by the petitioner and her husband. The Tax Court found that this transaction "was, in essence, a discharge of Mrs. Bradford's indebtedness for $50,000." And Upon these facts the Tax Court concluded that the petitioner had realized unreported ordinary income of $50,000 in 1946 and upheld the Commissioner's determination of deficiency in accordance with that conclusion. • The petitioner asks us to reverse the Tax Court's decision upon two separate grounds: (1) that the cancellation of her $100,000 note for $50,000 was a "gratuitous forgiveness" upon the part of the bank and therefore a gift within the meaning of § 22(b) (3) of the Internal Revenue Code of 1939,2 and (2) that because she received nothing when the original note was executed by her in 1938, she did not realize income in 1946 when the note was cancelled for less than its face amount, even if the cancellation was not a gift.

ISSUE: Whether or not the petitioner realized $50,000 income in 1946 when her liability upon a note for $100,000 was discharged for $50,000. HELD: NO Note: tax court found the cancellation not as a gift as it failed the the factual test of the Jacobson case. They were unable to find an intent by the creditor to release an unpaid balance "for nothing", Denman Tire & Rubber Co. v. Commissioner. SC agreed. (GR taxable when not a gift, I guess exception ito sa GR)

• The fact is that by any realistic standard the petitioner never realized any income at all from the transaction in issue. In 1938 "without receiving any consideration in return," she promised to pay a prior debt of her husband's. In a later year she paid part of that debt for less than its face value. Had she paid $50,000 in 1938 to discharge $100,000 of her husband's indebtedness, the Commissioner could hardly contend that she thereby realized income. Yet the net effect of what she did do was precisely the same.

• Note: to prove their conclusion, they cited analogous cases: In Bowers v. Kerbaugh-Empire Co., 1926, 271 U.S. 170, 46 S.Ct. 449, 451, 70 L.Ed. 886, the corporate taxpayer had borrowed money from a bank in Germany repayable in marks. The marks were immediately converted into dollars, and the money was lost in the performance of construction contracts by a subsidiary company over a period of years. In a subsequent year, the taxpayer repaid the loan with greatly devalued marks. The question for decision was "Whether the difference between the value of marks measured by dollars at the time of payment * * * and the value when the loans were made was income." The Court decided that it was not, saying that "The loss was less than it would have been if marks had not declined in value; but the diminution of loss is not gain, profit, or income. • In Commissioner of Internal Revenue v. Rail Joint Co., 2 Cir., 1932, 61 F.2d 751, a corporate taxpayer, after a reappraisal of its assets, distributed a dividend consisting of its own debenture bonds. In a subsequent year the corporation purchased some of these bonds at less than their face amounts, retired them, and credited the difference to surplus. The court rejected the Commissioner's claim that the corporation thereby realized income in the year the bonds were retired. Stripped of superficial distinctions, the Rail Joint Co. case is identical in principle with the present case. In that case, as in this, the taxpayer received nothing of value when the indebtedness was assumed. Although the indebtedness was discharged at less than its face value, the taxpayer was in fact poorer by virtue of the entire transaction.

12. Exact Tax Benefit Rule- PERRY VS. US 

Category: Income Taxation In Perry v. United States, 160 F. Supp. 270 (Ct. Cl. 1958), the Court of Claims adopted an "exact tax benefit" rule, under which the recovery was taxed at the rate that was applicable to the deduction; it later overruled this decision and accepted the prevailing judicial view that the recovery is to be taxed at whatever rate is in effect for the year of receipt. Alice Phelan Sullivan Corp. v. United States, 381 F.2d 399 Ct. Cl. 1967).

From 1954 to 1976, I.R.C. § 1342 reached a similar result for certain recoveries of amounts paid as a result of a judicial decision in a patent infringement suit. Section 1346 (in force from 1941 to 1976) was also comparable to the "exact tax benefit"principle of the Perry case; it permitted taxpayers receiving a repayment of unconstitutional federal taxes to choose between (a) excluding the receipt currently andamending the earlier year's return to eliminate the deduction (despite the running of the statute of limitations) and (b) reporting the recovery and paying the resulting tax. Sections 1342 and 1346 were repealed by Title XIX (the "deadwood" provisions) of the Tax Reform Act of 1976, Pub. L. No. 94-455, § 1901(a)(147)-(148), 90 Stat. 1788 (1976).

A model income tax statute drafted by an American Law Institute group proposed to require the inclusion of all recoveries of deductible items, whether the deduction was taken or not, and, if a deduction was taken, whether or not it resulted in a reduction of the taxpayer's tax, subject, however, to the taxpayer's option to reopen the earlier year if the statute of limitations had not expired or if the amount exceeded specified dollar or percentage limits.

13. Fernandez Hermanos, Inc. VS. CIR- Allowable Tax Deductions 

Category: Income Taxation That the circumstances are such that the method does not reflect the taxpayer ’ s income with reasonable accuracy and certainty and proper and just additions of personal expenses and other non-deductible expenditures were made and correct , fair and equitable credit adjustments were given by way of eliminating non- taxable items.

FACTS: • Four cases involve two decisions of the Court of Tax Appeal s determining the taxpayer ' s income tax liability for the years 1950 to 1954 and for the year 1957. Both the taxpayer and the Commissioner of Internal Revenue, as petitioner and respondent in the cases a quo respectively , appealed from the Tax Court's decisions , insofar as their respective contentions on particular tax items were therein resolved against them. Since the issues raised are inter related, the Court resolves the four appeals in this joint decision. • The taxpayer , Fernandez Hermanos, Inc. , is a domestic corporation organized for the principal purpose of engaging in business as an " investment company " wi th main office at Manila. Upon verification of the taxpayer's income tax returns for the period in quest ion, the Commissioner of Internal Revenue assessed against the taxpayer the sums of P13,414.00, P119,613.00, P11,698.00, P6,887.00 and P14,451.00 as alleged deficiency income taxes for the year s 1950, 1951, 1952, 1953 and 1954, respectively. Said assessments were the result of alleged discrepancies found upon the examination and verification of the taxpayer's income tax returns for the said years, summarized by the Tax Court in its decision of June 10, 1963 in CTA Case No. 787, as follows:

ISSUE: The correctness of the Tax Court's rulings with respect to the disputed items of disallowances enumerated in the Tax Court's summary reproduced HELD: That the circumstances are such that the method does not reflect the taxpayer‘s income with reasonable accuracy and certainty and proper and just additions of personal expenses and other non-deductible expenditures were made and correct , fair and equitable credit adjustments were given by way of eliminating non-taxable items.

Proper adjustments to conform to the income tax laws. Proper adjustments for non-deductible items must be made. The following non-deductibles , as the case may be, must be added to the increase of decrease in the net worth:

1. Personal living or family expenses 2. Premiums paid on any life insurance policy 3. Losses from sales or exchanges of property between members of the family 4. Income taxes paid 5. Other non-deductible taxes 6. Election expenses and other expense against public policy 7. Non-deductible contributions 8. Gifts to others 9. Estate inheritance and gift taxes 10. Net Capital Loss

On the other hand, non- taxable items should be deducted therefrom. These items are necessary adjustments to avoid the inclusion of what otherwise are non-taxable receipts. They are: 1. inheritance gifts and bequests received 2. non- taxable gains 3. compensation for injuries or sickness 4. proceeds of life insurance policies 5. sweepstakes 6. winnings 7. interest on government securities and increase in net worth are not taxable if they are shown not to be the result of unreported income but to be the result of the correction of errors in the taxpayer‘s entries in the books relating to indebtedness

14. COMMISSIONER VS. JAVIER- Claim of Right Doctrine 

Category: Income Taxation Claim of right doctrine or doctrine of ownership, command or control- In this case, Javier is not liable for fraud penalty because the “income” he received is not yet a taxable gain since it is still under litigation.

FACTS: • 1977: Victoria Javier, wife of Javier-respondent, received $999k from Prudential Bank remitted by her sister Dolores through Mellon Bank in US. • Around 3 weeks after, Mellon Bank filed a complaint with CFI Rizal against Javier claiming that its remittance of $1M was a clerical error and should have been $1k only and praying that the excess be returned on the ground that the Javiers are just trustees of an implied trust for the benefit of Mellon Bank. • CFI charged Javier with estafa alleging that they misappropriated and converted it to their own personal use. • A year after, Javier filed his Income Tax Return for 1977 and stating in the footnote that ―the taxpayer was recipient of some money received abroad which he presumed to be a gift but turned out to be an error and is now subject of litigation‖ • The Commissioner of Internal Revenue wrote a letter to Javier demanding him to pay taxes for the deficiency, due to the remittance. • Javier replied to the Commissioner and said that he will pay the deficiency but denied that he had any undeclared income for 1977 and requested that the assessment of 1977 be made to await final court decision on the case filed against him for filing an allegedly fraudulent return. • Commissioner replied that ―the amount of Mellon Bank‘s erroneous remittance which you were able to dispose is definitely taxable‖ and the Commissioner imposed a 50% fraud penalty on Javier.

ISSUE: Whether or not Javier is liable for the 50% penalty. HELD: No.

• The court held that there was no actual and intentional fraud through willful and deliberate misleading of the BIR in the case. Javier even noted that ―the taxpayer was recipient of some money received abroad which he presumed to be a gift but turned out to be an error and is now subject of litigation‖ • (the ff are not expressly written in the case, in fact the doctrine I just found it elsewhere but this is relevant to the topic rather than the issue in the case) o Claim of right doctrine- a taxable gain is conditioned upon the presence of a claim of right to the alleged gain and the absence of a definite and unconditional obligation to return or repay. o In this case, the remittance was not a taxable gain, since it is still under litigation and there is a chance that Javier might have the obligation to return it. It will only become taxable once the case has been settled because by then whatever amount that will be rewarded, Javier has a claim of right over it.

15. COMMISSIONER OF INTERNAL REVENUE VS. TOURS SPECIALISTS, INC.- Gross Receipts Subject to Tax; Contractor's Tax 

Category: Income Taxation Gross receipts subject to tax under the Tax Code do not include monies or receipts entrusted to the taxpayer which do not belong to them and do not redound to the taxpayer's benefit.

FACTS: -- petition to review on certiorari the decision of the CTA • From 1974 to 1976, Tours Specialists, Inc. had derived income from its activities as a travel agency by servicing the needs of foreign tourists and travelers and Filipino "Balikbayans" during their stay in this country. Some of the services extended to the tourists consist of booking said tourists and travelers in local hotels for their lodging and board needs; transporting these foreign tourists from the airport to their respective hotels, and from the latter to the airport upon their departure from the Philippines, transporting them from their hotels to various embarkation points for local tours, visits and excursions; securing permits for them to visit places of interest; and arranging their cultural entertainment, shopping and recreational activities. • In order to ably supply these services to the foreign tourists, TOURS and its correspondent counterpart tourist agencies abroad have agreed to offer a package fee for the tourists. . Although

the fee to be paid by said tourists is quoted by the petitioner, the payments of the hotel room accommodations, food and other personal expenses of said tourists, as a rule, are paid directly either by tourists themselves, or by their foreign travel agencies to the local hotels and restaurants or shops, as the case may be. • Some tour agencies abroad request the local tour agencies that the hotel room charges be paid through them. By this arrangement, the foreign tour agency entrusts to Tours, the fund for hotel room accommodation, which in turn is paid by petitioner tour agency to the local hotel when billed. The billing hotel sends the bill to Tours. The local hotel identifies the individual tourist, or the particular groups of tourists by code name or group designation and also the duration of their stay for purposes of payment. Upon receipt of the bill, Tours then pays the local hotel with the funds entrusted to it by the foreign tour correspondent agency. • Commissioner of Internal Revenue assessed petitioner for deficiency 3% contractor's tax as independent contractor by including the entrusted hotel room charges in its gross receipts from services for the years 1974 to 1976. • In addition to the deficiency contractor's tax of P122,946.93, petitioner was assessed to pay a compromise penalty of P500.00. • During one of the hearings in this case, a witness, Serafina Sazon, Certified Public Accountant and in charge of the Accounting Department of Tours, had testified, that the amounts entrusted to it by the foreign tourist agencies intended for payment of hotel room charges, were paid entirely to the hotel concerned, without any portion thereof being diverted to its own funds. And that the reason why tourists pay their room charge, or through their foreign tourists agencies, is the fact that the room charge is exempt from hotel room tax under P.D. 31

ISSUE/S: • WON amounts received by a local tourist and travel agency included in a package fee from tourists or foreign tour agencies, intended or earmarked for hotel accommodations form part of gross receipts subject to 3% contractor's tax.

HELD: • NO. Gross receipts subject to tax under the Tax Code do not include monies or receipts entrusted to the taxpayer which do not belong to them and do not redound to the taxpayer's benefit; and it is not necessary that there must be a law or regulation which would exempt such monies and receipts within the meaning of gross receipts under the Tax Code.

• The room charges entrusted by the foreign travel agencies to the private respondent do not form part of its gross receipts within the definition of the Tax Code. The said receipts never belonged to the private respondent. The private respondent never benefited from their payment to the local hotels. As stated earlier, this arrangement was only to accommodate the foreign travel agencies. • Another objection raised by the petitioner is to the respondent court's application of Presidential Decree 31 which exempts foreign tourists from payment of hotel room tax. Section 1 thereof provides: Sec. 1. — Foreign tourists and travelers shall be exempt from payment of any and all hotel room tax for the entire period of their stay in the country. • If the hotel room charges entrusted to Tours will be subjected to 3% contractor's tax as what CIR would want to do in this case, that would in effect do indirectly what P.D. 31 would not like hotel room charges of foreign tourists to be subjected to hotel room tax. Although, CIR may claim that the 3% contractor's tax is imposed upon a different incidence i.e. the gross receipts of the tourist agency which he asserts includes the hotel room charges entrusted to it, the effect would be to impose a tax, and though different, it nonetheless imposes a tax actually on room charges. One way or the other, it would not have the effect of promoting tourism in the Philippines as that would increase the costs or expenses by the addition of a hotel room tax in the overall expenses of said tourists.

16. EISNER VS. MACOMBER- What is Income? 

Category: Income Taxation Income means something derived from labor or capital. To be “derived” means something of exchangeable value separated from the capital.

FACTS: 1. Mrs. Macomber owned 2,200 share of Standard Oil Company of California stock. 2. In January, 1916, the company declared a stock dividend and Mrs. Macomber received an additional 1,100 shares of stock. Of these shares, 198.77 shares, par value $19,877, represented surplus earned by the company after March 1, 1913.

3. The IRS treated the $19,877 as taxable income under the Revenue Act of 1916 which provided that a stock dividend was considered income to the amount of its cash value. 4. Mrs. Macomber argued that that provision in the Revenue Act of 1916 was unconstitutional because it was a direct tax not apportioned per population; since a stock dividend was not income, a legislative provision subjecting it to income tax was not constitutional under the 16th Amendment. 5. The District Court held that the stock dividend was not income.

ISSUE: Does Congress have the power under the 16th Amendment to tax shareholders on stock dividends received? Are stock dividends considered income or capital?

Laws/ References: 1) 16th Amendment - "The Congress shall have power to lay and collect taxes on income, from whatever source derived, without apportionment among the several States, and without regard to any census or enumeration." 2) Revenue Act of 1916 - a "stock dividend shall be considered income, to the amount of its cash value." 3) Brushaber v Union Pacific - in this case, the Supreme Court stated that the 16th Amendment "did not extend the taxing power to new subjects, but merely removed the necessity which otherwise might exist for an apportionment among the State of taxes laid on income." Macomber, 1 USTC ¶32, page 1079. Thus, the item must be income in order for Congress to tax it. 4) The Court suggested that "income," which is not defined in the 16th Amendment, was something derived from capital or labor, or from both.

HELD: The Supreme Court affirmed the District Court holding for the taxpayer that a stock dividend is not income. The Revenue Act of 1916 provision subjecting stock dividends to tax was held unconstitutional.

If a stock dividend is not considered income, it can not be subject to income tax under the 16th Amendment. In applying the 16th Amendment, it is important to distinguish between capital and income, as only income is subject to income tax.

A stock dividend reflects the corporation transferring an amount from "surplus" (retained

earnings) to "capital stock." Such a transaction is merely a bookkeeping entry and "affects only the form, not the essence, of the "liability" acknowledged by the corporation to its own shareholders ... it does not alter the preexisting proportionate interest of any stockholder or increase the intrinsic value of his holding or of the aggregate holdings of the other stockholders as they stood before" (Macomber, p. 1081). An increase to the value of capital investment is not income. Nothing of value has been taken from the corporation and given to the shareholder as is the case with a cash dividend.

In addition, since the shareholder receives no cash, in order to pay any tax on a stock dividend, he might have to convert the stock into cash - he has no wherewithal to pay from the nature of the transaction. "Nothing could more clearly show that to tax a stock dividend is to tax a capital increase, and not income, than this demonstration that in the nature of things it requires conversion of capital in order to pay the tax" (Macomber, p. 1082).

17. LIMPAN INVESTMENT VS. CIR- Actual vs Constructive Receipt 

Category: Income Taxation Limpan Investment Company deemed to have constructively received rental payments in 1957 when they were deposited in court due to its refusal to receive them.

FACTS: • BIR assessed deficiency taxes on Limpan Corp, a company that leases real property, for underdeclaring its rental income for years 1956-57 by around P20K and P81K respectively. • Petitioner appeals on the ground that portions of these underdeclared rents are yet to be collected by the previous owners and turned over or received by the corporation. • Petitioner cited that some rents were deposited with the court, such that the corporation does not have actual nor constructive control over them. • The sole witness for the petitioner, Solis (Corporate Secretary- Treasurer) admitted to some undeclared rents in 1956 and1957, and that some balances were not collected by the corporation in 1956 because the lessees refused to recognize and pay rent to the new owners and that the corp‘s president Isabelo Lim collected some rent and reported it in his personal income statement, but did not turn over the rent to the corporation. • He also cites lack of actual or constructive control over rents deposited with the court.

ISSUE: Whether or not the BIR was correct in assessing deficiency taxes against Limpan Corp. for undeclared rental income

HELD: Yes. Petitioner admitted that it indeed had undeclared income (although only a part and not the full amount assessed by BIR). Thus, it has become incumbent upon them to prove their excuses by clear and convincing evidence, which it has failed to do. When is there constructive receipt of rent? With regard to 1957 rents deposited with the court, and withdrawn only in 1958, the court viewed the corporation as having constructively received said rents. The non-collection was the petitioner‘s fault since it refused to refused to accept the rent, and not due to nonpayment of lessees. Hence, although the corporation did not actually receive the rent, it is deemed to have constructively received them.

18. MADRIGAL VS. RAFFERTY- Difference Between Capital and Income 

Category: Income Taxation The essential difference between capital and income is that capital is a fund; income is a flow. A fund of property existing at an instant of time is called capital. A flow of services rendered by that capital by the payment of money from it or any other benefit rendered by a fund of capital in relation to such fund through a period of time is called income. Capital is wealth, while income is the service of wealth.

FACTS: • Vicente Madrigal and Susana Paterno were legally married prior to Januray 1, 1914. The marriage was contracted under the provisions of law concerning conjugal partnership • On 1915, Madrigal filed a declaration of his net income for year 1914, the sum of P296,302.73 • Vicente Madrigal was contending that the said declared income does not represent his income for the year 1914 as it was the income of his conjugal partnership with Paterno. He said that in computing for his additional income tax, the amount declared should be divided by 2.

• The revenue officer was not satisfied with Madrigal‘s explanation and ultimately, the United States Commissioner of Internal Revenue decided against the claim of Madrigal. • Madrigal paid under protest, and the couple decided to recover the sum of P3,786.08 alleged to have been wrongfully and illegally assessed and collected by the CIR.

ISSUE: Whether or not the income reported by Madrigal on 1915 should be divided into 2 in computing for the additional income tax.

HELD: • No! The point of view of the CIR is that the Income Tax Law, as the name implies, taxes upon income and not upon capital and property. • The essential difference between capital and income is that capital is a fund; income is a flow. A fund of property existing at an instant of time is called capital. A flow of services rendered by that capital by the payment of money from it or any other benefit rendered by a fund of capital in relation to such fund through a period of time is called income. Capital is wealth, while income is the service of wealth. • As Paterno 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. • To recapitulate, Vicente wants to half his declared income in computing for his tax since he is arguing that he has a conjugal partnership with his wife. However, the court ruled that the one that should be taxed is the income which is the flow of the capital, thus it should not be divided into 2.

19. DUMAGUETE CATHEDRAL CREDIT COOPERATIVE vs. CIR- Tax Exemption 

Category: Income Taxation Cooperatives, including their members, deserve a preferential tax treatment because of the vital role they play in the attainment of economic development and social justice. Thus, although taxes are the lifeblood of the government, the State’s power to tax must give way to foster the creation

and growth of cooperatives. To borrow the words of Justice Isagani A. Cruz: "The power of taxation, while indispensable, is not absolute and may be subordinated to the demands of social justice."

FACTS: 1. Dumaguete Cathedral Credit Cooperative (DCCCO) is a credit cooperative with the following objectives and purposes: (1) to increase the income and purchasing power of the members; (2) to pool the resources of the members by encouraging savings and promoting thrift to mobilize capital formation for development activities; and (3) to extend loans to members for provident and productive purposes.

2. (BIR) Operations Group Deputy Commissioner, issued Letters of Authority authorizing BIR Officers to examine petitioner‘s books of accounts and other accounting records for all internal revenue taxes for the taxable years 1999 and 2000.

3. On 2002, DCCCO received Pre-Assessment Notices for deficiency withholding taxes for taxable years 1999 and 2000. The deficiency withholding taxes cover the payments of the honorarium of the Board of Directors, security and janitorial services, legal and professional fees, and interest on savings and time deposits of its members.

4. DCCCO informed BIR that it would ONLY pay the deficiency withholding taxes corresponding to the honorarium of the Board of Directors, security and janitorial services, legal and professional fees for the year 1999 and 2000, EXCLUDING penalties and interest.

5. After payment, DCCCO received from the BIR Transcripts of Assessment and Audit Results/Assessment Notices, ordering petitioner to pay the deficiency withholding taxes, INCLUSIVE of penalties, for the years 1999 and 2000.

6. DCCO's contention: Under Sec. 24. Income Tax Rates. — x x x x (B) 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; x x x applies only to banks and not to cooperatives, since the phrase "similar arrangements" is preceded by terms referring to banking transactions that have deposit peculiarities. Therefore, the savings and time deposits of members of cooperatives are not included in the enumeration, and thus not subject to the 20% final tax. Also, pursuant to Article XII, Section 15 of the Constitution 25 and Article 2 of Republic Act No. 6938 (RA 6938) or the

Cooperative Code of the Philippines, cooperatives enjoy a preferential tax treatment which exempts their members from the application of Section 24(B)(1) of the NIRC.

ISSUE: Whether or not DCCCO is liable to pay the deficiency withholding taxes on interest from savings and time deposits of its members for the taxable years 1999 and 2000, as well as the delinquency interest of 20% per annum?

HELD: DCCCO is not liable. The NIRC states that a "final tax at the rate of twenty percent (20%) is hereby imposed upon the amount of interest on currency bank deposit and yield or any other monetary benefit from the deposit substitutes and from trust funds and similar arrangement x x x" for individuals under Section 24(B)(1) and for domestic corporations under Section 27(D)(1). Considering the members‘ deposits with the cooperatives are not currency bank deposits nor deposit substitutes, Section 24(B)(1) and Section 27(D)(1), therefore, do not apply to members of cooperatives and to deposits of primaries with federations, respectively.

Under Article 2 of RA 6938, as amended by RA 9520, it is a declared policy of the State to foster the creation and growth of cooperatives as a practical vehicle for promoting self-reliance and harnessing people power towards the attainment of economic development and social justice. Thus, to encourage the formation of cooperatives and to create an atmosphere conducive to their growth and development, the State extends all forms of assistance to them, one of which is providing cooperatives a preferential tax treatment.

The legislative intent to give cooperatives a preferential tax treatment is apparent in Articles 61 and 62 of RA 6938, which read: ART. 61. Tax Treatment of Cooperatives. — Duly registered cooperatives under this Code which do not transact any business with non-members or the general public shall not be subject to any government taxes and fees imposed under the Internal Revenue Laws and other tax laws. Cooperatives not falling under this article shall be governed by the succeeding section. ART. 62. Tax and Other Exemptions. — Cooperatives transacting business with both members and nonmembers shall not be subject to tax on their transactions to members. Notwithstanding the provision of any law or regulation to the contrary, such cooperatives dealing with nonmembers shall enjoy the following tax exemptions; x x x.

This exemption extends to members of cooperatives. It must be emphasized that cooperatives exist for the benefit of their members. In fact, the primary objective of every cooperative is to provide goods and services to its members to enable them to attain increased income, savings, investments, and productivity. 30 Therefore, limiting the application of the tax exemption to cooperatives would go against the very purpose of a credit cooperative. Extending the exemption to members of cooperatives, on the other hand, would be consistent with the intent of the legislature. Thus, although the tax exemption only mentions cooperatives, this should be construed to include the members.

It is also worthy to note that the tax exemption in RA 6938 was retained in RA 9520. The only difference is that Article 61 of RA 9520 (formerly Section 62 of RA 6938) now expressly states that transactions of members with the cooperatives are not subject to any taxes and fees. Thus: ART. 61. Tax and Other Exemptions. Cooperatives transacting business with both members and non-members shall not be subjected to tax on their transactions with members. In relation to this, the transactions of members with the cooperative shall not be subject to any taxes and fees, including but not limited to final taxes on members‘ deposits and documentary tax. Notwithstanding the provisions of any law or regulation to the contrary, such cooperatives dealing with nonmembers shall enjoy the following tax exemptions. Moreover, no less than our Constitution guarantees the protection of cooperatives. Section 15, Article XII of the Constitution considers cooperatives as instruments for social justice and economic development. At the same time, Section 10 of Article II of the Constitution declares that it is a policy of the State to promote social justice in all phases of national development.

20. JESUS SACRED HEART COLLEGE V. COLLECTOR OF INTERNAL REVENUE- Tax Exemption 

Category: Income Taxation Actual realization of profits is immaterial; what is important is the presence of the purpose to make a profit over and above the cost of instruction. At any rate, the main evidence of the purpose of a corporation should be its articles of incorporation and by-laws, for such purpose is required by statute to be stated in the articles of incorporation and the by-laws outline the administrative organization of the corporation which, in turn, is supposed to insure or facilitate the accomplishment of said purpose.

Facts: This is an appeal taken by defendant, Collector of Internal Revenue, from a decision of the Court of First Instance of Manila sentencing him to refund to plaintiff, Jesus Sacred Heart College, the sum of P2,241.86, assessed by the former, and paid by the latter, by way of income tax for the years 1947, 1948 and 1949. The parties have stipulated:

1. That the Jesus Sacred Heart College is an educational organization authorized to operate and existing in Lucena, Quezon, and offering to the public elementary, secondary and collegiate courses;

2. That according to its income tax returns, plaintiff realized net incomes from tuition and other fees in carrying on its educational activity in the amounts of P5,659.07; P3,743.82; and P3,572.74 for the years 1947, 1948 and 1949 respectively;

3. That the amount of P2,241.86 (was paid by the plaintiff to the defendant on August 13, 1951 as its income tax.

4. That a claim for refund of said amount of P2,241.86 was duly filed on August 16, 1951 by the plaintiff with the defendant but the claim was denied on August 24, 1951;

5. The assessment notices for the deficiency income tax for the years 1947, 1948 and 1949 were forwarded by the defendant to the plaintiff on or about December 15, 1950, the letter enclosing the said notices was dated December 12, 1950, and the notices were dated December 6, 1950.

Plaintiff appellee maintains, and the lower court held, that it is exempt from taxation under the first part of said paragraph (e), whereas defendant-appellant asserts that the income in question was derived form an "activity conducted for profit," and that, accordingly, it is taxable under the proviso of the same paragraph.

Issue: Whether or not the net income from the tuition and other fees collected and received by the plaintiff is subject to income tax under the provisions of section 24 of the National Internal Revenue Code, notwithstanding the provisions of section 27(e).

Held: No Section 27(e) of the National Internal Revenue Code, as amended by Republic Act No. 82 (section 5), exempts from taxation the "net income" of corporations "organized and operated exclusively for ... educational purposes ... no part of the net income of which inures to the benefit of any private stockholder or individual," and it is conceded that plaintiff corporation belongs to this class. To hold that an educational Institution is subject to income tax whenever it is so administered as to reasonably assure that it will not incur in deficit, is to nullify and defeat the aforementioned exemption. Indeed, the effect, in general, of the interpretation advocate by appellant would be to deny the exemption whenever there is net income, contrary to the tenor of said section 27(e) which positively exempts from taxation those corporations or associations which, otherwise, would be subject thereto, because of the existence of said net income.

Needless to say, every responsible organization must be so run to, at least insure its existence, by operating within the limits of its own resources, especially its regular income. In other words, it should always strive, whenever possible, to have a surplus.

At any rate, the main evidence of the purpose of a corporation should be its articles of incorporation and by-laws, for such purpose is required by statute to be stated in the articles of incorporation (Sec. 6, Act No. 1459), and the by-laws outline the administrative organization of the corporation (Sec. 20 and 21 of Act No. 1459, as amended), which, in turn, is supposed to insure or facilitate the accomplishment of said purpose.

21. CYANAMID PHILIPPINES, INC. VS. CA, CTA AND CIR- Surtax 

Category: Income Taxation In order to determine whether profits are accumulated for the reasonable needs of the business to avoid the surtax upon the shareholders, it must be shown that the controlling intention of the taxpayer is manifested at the time of the accumulation, not intentions subsequently, which are mere afterthoughts.

Facts:

Petitioner is a corporation organized under Philippine laws and 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 imported/indentor. In 1985 the CIR assessed on petitioner a deficiency income tax of P119,817) for the year 1981. Cyanamid protested the assessments particularly the 25% surtax for undue accumulation of earnings. It claimed that said profits were retained to increase petitioner‘s working capital and it would be used for reasonable business needs of the company. The CIR refused to allow the cancellation of the assessments, petitioner appealed to the CTA. It claimed that there was not legal basis for the assessment because 1) it accumulated its earnings and profits for reasonable business requirements to meet working capital needs and retirement of indebtedness 2) it is a wholly owned subsidiary of American Cyanamid Company, a foreign corporation, and its shares are listed and traded in the NY Stock Exchange. The CTA denied the petition stating that the law permits corporations to set aside a portion of its retained earnings for specified purposes under Sec. 43 of the Corporation Code but that petitioner‘s purpose did not fall within such purposes. It found that there was no need to set aside such retained earnings as working capital as it had considerable liquid funds. Those corporations exempted from the accumulated earnings tax are found under Sec. 25 of the NIRC, and that the petitioner is not among those exempted. The CA affirmed the CTA‘s decision.

Issue: Whether or not the accumulation of income was justified.

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

To determine the reasonable needs of the business, the United States Courts have invented the ―Immediacy Test‖ which construed the words ―reasonable needs of the business‖ to mean the immediate needs of the business, and it is held that if the corporation did not prove an immediate need for the accumulation of earnings and profits such was not for reasonable needs of the business and the penalty tax would apply. (Law of Federal Income Taxation Vol 7) The working capital needs of a business depend on 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 and other similar factors. The Tax Court opted to determine the working capital sufficiency by using the ration between the current assets to current liabilities. Unless, rebutted, the presumption is that the assessment is correct. With the petitioner‘s failure to prove the CIR incorrect, clearly and conclusively, the Tax Court‘s ruling is upheld.

22. CIR VS. ANTONIO TUASON INC.- Surtax 

Category: Income Taxation The importance 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 & profits for the reasonable needs of the business, that purpose would not fall to overcome the presumption and correctness of CIR.

FACTS: • CTA set aside petitioner‘s revenue commissioner‘s assessment of 1.1 M as the 25% surtax on private respondent‘s unreasonable accumulation of surplus for the year 1975-1978. • Private respondent protested the assessment 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 a real estate broker. • Private res. Filed a petition that pending determination of the case, an order be issued restraining the commissioner and/or his reps from enforcing the warrants of distraint and levy. Writ of injunction was issued by tax court. • Due to the reversal of CTA of the commissioner‘s decision, CIR appeals to the SC.

ISSUES: 1. Whether or not private respondent is a holding company and/or investment company? 2. Whether or not Antonio accumulated surplus for years 75-78 3. Whether or not Tuason Inc. is liable for the 25% surtax on undue accumulation of surplus for 75-78

HELD: Yes to all. Antionio is liable for the 25% surtax assessed. 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 twentyfour, 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 mere 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. • In this case, Tuason Inc, a mere holding company 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 rentals realized from the sale of realty. • Tuason Inc is also owned by Antonio himself. While these profits were actually made, the commissioner points out that the corp. did not use up its surplus profits. Antonio claims that he spent the money to build an apartment in urdaneta but there‘s a large discrepancy bet. The market value and the alleged investment cost. • The importance 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 & profits for the reasonable needs of the business, that purpose would not fall to overcome the presumption and correctness of CIR.

23. MANILA BANKING CORP VS. CIR- Minimum Corporate Income Tax (MCIT) 

Category: Income Taxation The intent of Congress relative to the minimum corporate income tax(MCIT) is to grant a 4-year suspension of tax payment to newly formed corporations. Corporations still starting their business operations have to stabilize their venture in order to obtain a stronghold in the industry.

Facts: • 1961- Manila Banking Corp was incorporated. It engaged in the banking industry til 1987. • May 1987- Monetary Board of Bangko Sentral ng Pilipinas (BSP) issued Resolution # 505 {pursuant to the Central Bank Act (RA 265)} prohibiting Manila Bank from engaging in business by reason of insolvency. So, Manila Bank ceased operations and its assets and liabilities were placed under charge of a gov.- appointed receiver. • 1998- Comprehensive Tax Reform Act (RA8424) imposed a minimum corporate income tax on domestic and resident foreign corporations. o Implementing law: Revenue Regulation # 9-98 stating that the law allows a 4year period from the time the corporations were registered with the BIR during which the minimum corporate income tax should not be imposed. • June 23, 1999- BSP authorized Manila Bank to operate as a thrift bank. o NOTE: June 15, 1999 Revenue Regulation #4-95 (pursuant to Thrift Bank Act of 1995) provides that the date of commencement of operations shall be understood to mean the date when the thrift bank was registered with SEC or when Certificate of Authority to Operate was issued by the Monetary Board, whichever comes LATER. • Dec 1999- Manila Bank wrote to BIR requesting a ruling on whether it is entitled to the 4 year grace period under RR 9-98. • April 2000- Manila bank filed with BIR annual income tax return for taxable year 1999 and paid 33M. • Feb 2001- BIR issued BIR Ruling 7-2001 stating that Manila Bank is entitled to the 4year grace period. Since it reopened in 1999, the min. corporate income tax may be imposed not earlier than 2002. It stressed that although it had been registered with the BIR before 1994, but it ceased operations 1987-1999 due to involuntary closure. o Manila Bank, then, filed with BIR for the refund. • Due to the inaction of BIR on the claim, it filed with CTA for a petition for review, which was denied and found that Manila Bank‘s payment of 33M is correct, since its operations were merely interrupted during 1987-1999. CA affirmed CTA.

Issue: Whether or not Manila Bank is entitled to a refund of its minimum corporate income tax paid to BIR for 1999.

Held: Yes. • CIR‘s contensions are without merit. He contended that based on RR# 9-98, Manila Bank should pay the min. corporate income tax beg. 1998 as it did not close its operations in 1987 but merely suspended it. Even if placed under suspended receivership, its corporate existence was never affected. Thus falling under the category of a existing corporation recommencing its banking business operations ** Sec. 27 E of the Tax Code provides the Minimum Corporate Income Tax (mcit) on Domestic Corporations.

o (1) Imposition of Tax- MCIT of 2% of gross income as of the end of the taxable year, as defined here in, is hereby imposed on a corporation taxable under this title, beginning on the 4th taxable year immediately following the year in which such corp commenced its business operations, when the mcit is greater than the tax computed under Subsec. A of this section for the taxable year. o (2) Any excess in the mcit over the normal income tax… shall be carried forward and credited against the normal income tax for the 3 succeeding taxable years. • Let it be stressed that RR 9-98 imposed the mcit on corps, the date when business operations commence is the year in which the domestic corporation registered with the BIR. But under RR 4-95, the date of commencement of operations of thrift banks, is the date of issuance of certificate by Monetary Board or registration with SEC, whichever comes later. Clearly then, RR 4-95 applies to Manila banks, being a thrift bank. 4-year period= counted from June 1999.

24. CHAMBER OF REAL ESTATE AND BUILDERS' ASSOCIATIONS, INC. VS. ROMULO, ET AL- Minimum Corporate Income 

Category: Income Taxation Congress has the power to condition, limit or deny deductions from gross income in order to arrive at the net that it chooses to tax. This is because deductions are a matter of legislative grace. The assignment of gross income, instead of net income, as the tax base of the MCIT, taken with the reduction of the tax rate from 32% to 2%, is not constitutionally objectionable.

FACTS: Chamber of Real Estate and Builders' Associations, Inc. (CHAMBER) is questioning the constitutionality of Sec 27 (E) of RA 8424 and the revenue regulations (RRs) issued by the

Bureau of Internal Revenue (BIR) to implement said provision and those involving creditable withholding taxes (CWT). [CWT issues will not be discussed]

CHAMBER assails the validity of the imposition of minimum corporate income tax (MCIT) on corporations and creditable withholding tax (CWT) on sales of real properties classified as ordinary assets. Chamber argues that the MCIT violates the due process clause because it levies income tax even if there is no realized gain.

MCIT scheme: (Section 27 (E). [MCIT] on Domestic Corporations.) A corporation, beginning on its fourth year of operation, is assessed an MCIT of 2% of its gross income when such MCIT is greater than the normal corporate income tax imposed under Section 27(A) (Applying the 30% tax rate to net income).

If the regular income tax is higher than the MCIT, the corporation does not pay the MCIT.

Any excess of the MCIT over the normal tax shall be carried forward and credited against the normal income tax for the three immediately succeeding taxable years.

The Secretary of Finance is hereby authorized to suspend the imposition of the [MCIT] on any corporation which suffers losses on account of prolonged labor dispute, or because of force majeure, or because of legitimate business reverses. 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.

CHAMBER claims that the MCIT under Section 27(E) of RA 8424 is unconstitutional because it is highly oppressive, arbitrary and confiscatory which amounts to deprivation of property without due process of law. It explains that gross income as defined under said provision only considers the cost of goods sold and other direct expenses; other major expenditures, such as administrative and interest expenses which are equally necessary to produce gross income, were not taken into account. Thus, pegging the tax base of the MCIT to a corporation‘s gross income is tantamount to a confiscation of capital because gross income, unlike net income, is not "realized gain."

ISSUE:

1. WON the imposition of the MCIT on domestic corporations is unconstitutional

2. WON RR 9-98 is a deprivation of property without due process of law because the MCIT is being imposed and collected even when there is actually a loss, or a zero or negative taxable income

HELD: 1. NO. MCIT is not violative of due process. The MCIT is not a tax on capital. The MCIT is imposed on gross income which is arrived at by deducting the capital spent by a corporation in the sale of its goods, i.e., the cost of goods and other direct expenses from gross sales. Clearly, the capital is not being taxed.

Furthermore, the MCIT is not an additional tax imposition. It is imposed in lieu of the normal net income tax, and only if the normal income tax is suspiciously low.

The MCIT merely approximates the amount of net income tax due from a corporation, pegging the rate at a very much reduced 2% and uses as the base the corporation‘s gross income.

CHAMBER failed to support, by any factual or legal basis, its allegation that the MCIT is arbitrary and confiscatory. It does not cite any actual, specific and concrete negative experiences of its members nor does it present empirical data to show that the implementation of the MCIT resulted in the confiscation of their property.

Taxation is necessarily burdensome because, by its nature, it adversely affects property rights. The party alleging the law‘s unconstitutionality has the burden to demonstrate the supposed violations in understandable terms.

2. NO. RR 9-98, in declaring that MCIT should be imposed whenever such corporation has zero or negative taxable income, merely defines the coverage of Section 27(E).

This means that even if a corporation incurs a net loss in its business operations or reports zero income after deducting its expenses, it is still subject to an MCIT of 2% of its gross income. This is consistent with the law which imposes the MCIT on gross income notwithstanding the amount of the net income.

25. CIR V. WANDER PHILIPPINES INC.-Dividends, Withholding Tax 

Category: Income Taxation The dividends received from a domestic corporation is liable to a 15% withholding tax, provided that the country in which the foreign corporation is domiciled shall allow a tax credit (equivalent to 20% which is the difference between the 35% tax due on regular corporations and the 15% tax due on dividends) against the taxes due to have been paid in the Philippines.

Facts: Wander is a domestic corporation which is a wholly-owned subsidiary of Glaro S.A. Ltd.,a Swiss corporation not engaged in trade/business in the Philippines. In two instances, Wander filed its withholding tax return and remitted to Glaro (the parent company) dividends (P222,000 in the first instance and P355,200 in the second), on which 35% tax was withheld and paid to the BIR.

Wander now files a claim for refund of the withheld tax contending that it is liable only to 15% withholding tax pursuant to Section 24. B.1 of the Tax Code. The BIR did not act upon the claim filed by Wander so the corporation filed a petition to the Court of Tax Appeals (CTA). The CTA held that the corporation is entitled to 15% withholding tax rate on dividends remitted to Glaro, a non-resident foreign corporation.

Issue: Whether or not Wander is entitled to the 15% withholding tax rate.

Held: Yes. According to Sec. 24.B.1 of the Tax Code, the dividends received from a domestic corporation is liable to a 15% withholding tax, provided that the country in which the foreign corporation is domiciled shall allow a tax credit (equivalent to 20% which is the difference

between the 35% tax due on regular corporations and the 15% tax due on dividends) against the taxes due to have been paid in the Philippines.

In the case, Switzerland did not impose any tax on the dividends received by Glaro thus it should be considered as a full satisfaction of the given condition. To deny respondent the privilege to withhold 15% would run counter to the spirit and intent of the law and will adversely affect the foreign corporations‘ interest and discourage them from investing capital in our country.

*Petition dismissed for lack of merit.

26. CIR VS PROCTER AND GAMBLE PHILIPPINE MANUFACTURING CORPORATION (204 SCRA 377) 

Category: Income Taxation

NON-RESIDENT FOREIGN CORPORATION- DIVIDENDS Sec 24 (b) (1) of the NIRC states that an ordinary 35% tax rate will be applied to dividend remittances to non-resident corporate stockholders of a Philippine corporation. This rate goes down to 15% ONLY IF the country of domicile of the foreign stockholder corporation ―shall allow‖ such foreign corporation a tax credit for ―taxes deemed paid in the Philippines,‖ applicable against the tax payable to the domiciliary country by the foreign stockholder corporation. However, such tax credit for ―taxes deemed paid in the Philippines‖ MUST, as a minimum, reach an amount equivalent to 20 percentage points

FACTS: Procter and Gamble Philippines declared dividends payable to its parent company and sole stockholder, P&G USA. Such dividends amounted to Php 24.1M. P&G Phil paid a 35% dividend withholding tax to the BIR which amounted to Php 8.3M It subsequently filed a claim with the Commissioner of Internal Revenue for a refund or tax credit, claiming that pursuant to Section

24(b)(1) of the National Internal Revenue Code, as amended by Presidential Decree No. 369, the applicable rate of withholding tax on the dividends remitted was only 15%.

MAIN ISSUE: Whether or not P&G Philippines is entitled to the refund or tax credit.

HELD: YES. P&G Philippines is entitled. Sec 24 (b) (1) of the NIRC states that an ordinary 35% tax rate will be applied to dividend remittances to non-resident corporate stockholders of a Philippine corporation. This rate goes down to 15% ONLY IF he country of domicile of the foreign stockholder corporation ―shall allow‖ such foreign corporation a tax credit for ―taxes deemed paid in the Philippines,‖ applicable against the tax payable to the domiciliary country by the foreign stockholder corporation. However, such tax credit for ―taxes deemed paid in the Philippines‖ MUST, as a minimum, reach an amount equivalent to 20 percentage points which represents the difference between the regular 35% dividend tax rate and the reduced 15% tax rate. Thus, the test is if USA ―shall allow‖ P&G USA a tax credit for ‖taxes deemed paid in the Philippines‖ applicable against the US taxes of P&G USA, and such tax credit must reach at least 20 percentage points. Requirements were met.

NOTES: Breakdown: a) Deemed paid requirement: US Internal Revenue Code, Sec 902: a domestic corporation (owning 10% of remitting foreign corporation) shall be deemed to have paid a proportionate extent of taxes paid by such foreign corporation upon its remittance of dividends to domestic corporation.

b) 20 percentage points requirement: (computation is as follows) P 100.00 -- corporate income earned by P&G Phils x 35% -- Philippine income tax rate P 35.00 -- paid by P&G Phil as corporate income tax

P 100.00 - 35.00 65. 00 -- available for remittance

P 65. 00 x 35% -- Regular Philippine dividend tax rate P 22.75 -- regular dividend tax

P 65.0o x 15% -- Reduced dividend tax rate P 9.75 -- reduced dividend tax

P 65.00 -- dividends remittable - 9.75 -- dividend tax withheld at reduced rate P 55.25 -- dividends actually remitted to P&G USA

Dividends actually remitted by P&G Phil = P 55.25 ---------------------------------- ------------- x P35 = P29.75 Amount of accumulated P 65.00 profits earned

P35 is the income tax paid. P29.75 is the tax credit allowed by Sec 902 of US Tax Code for Phil corporate income tax ‗deemed paid‘ by the parent company. Since P29.75 is much higher than P13, Sec 902 US Tax Code complies with the requirements of sec 24 NIRC. (I did not understand why these were divided and multiplied. Point is, requirements were met)

Reason behind the law: Since the US Congress desires to avoid or reduce double taxation of the same income stream, it allows a tax credit of both (i) the Philippine dividend tax actually withheld, and (ii) the tax credit for the Philippine corporate income tax actually paid by P&G Philippines but ―deemed paid‖ by P&G USA. Moreover, under the Philippines-United States Convention ―With Respect to Taxes on Income,‖ the Philippines, by treaty commitment, reduced the regular rate of dividend tax to a maximum of 20% of he gross amount of dividends paid to US parent corporations, and established a treaty obligation on the part of the United States that it ―shall allow‖ to a US parent corporation receiving dividends from its Philippine subsidiary ―a [tax] credit for the appropriate amount of taxes paid or accrued to the Philippines by the Philippine [subsidiary].

Note: The NIRC does not require that the US tax law deem the parent corporation to have paid the 20 percentage points of dividend tax waived by the Philippines. It only requires that the US ―shall allow‖ P&G-USA a ―deemed paid‖ tax credit in an amount equivalent to the 20 percentage points waived by the Philippines. Section 24(b)(1) does not create a tax exemption nor does it provide a tax credit; it is a provision which specifies when a particular (reduced) tax rate is legally applicable.

Section 24(b)(1) of the NIRC seeks to promote the in-flow of foreign equity investment in the Philippines by reducing the tax cost of earning profits here and thereby increasing the net dividends remittable to the investor. The foreign investor, however, would not benefit from the reduction of the Philippine dividend tax rate unless its home country gives it some relief from double taxation by allowing the investor additional tax credits which would be applicable against the tax payable to such home country. Accordingly Section 24(b)(1) of the NIRC requires the home or domiciliary country to give the investor corporation a ―deemed paid‖ tax credit at least equal in amount to the 20 percentage points of dividend tax foregone by the Philippines, in the assumption that a positive incentive effect would thereby be felt by the investor.

27. BANK OF AMERICA NT & SA VS. CA- Remittance Tax 

Category: Income Taxation In the 15% remittance tax, the law specifies its own tax base to be on the “profit remitted abroad.” There is absolutely nothing equivocal or uncertain about the language of the provision. The tax is imposed on the amount sent abroad, and the law calls for nothing further.

FACTS: 1. Bank of America is a foreign corporation licensed to engage in business in the Philippines through a branch in Makati. 2. Bank of America paid 15% branch profit remittance tax amounting to PhP7.5M from its REGULAR UNIT OPERATIONS and another 405K PhP from its FOREIGN CURRENCY DEPOSIT OPERATIONS 3. The tax was based on net profits after income tax without deducting the amount corresponding to the 15% tax.

4. Bank of America thereafter filed a claim for refund with the BIR for the portion the corresponds with the 15% branch profit remittance tax. BOA‘s claim: ―BIR should tax us based on the profits actually remitted (45M), and NOT on the amount before profit remittance tax (53M)... The basis should be the amount actually remitted abroad.‖ 5. CIR contends otherwise and holds that in computing the 15% remittance tax, the tax should be inclusive of the sum deemed remitted.

ISSUES: Whether or not the branch profit remittance tax should be base on the amount actually remitted?

HELD: YES. 1. It should be based on the amount actually committed, NOT what was applied for. 2. There is nothing in Section 24which indicates that the 15% tax/branch profit remittance is on the total amount of profit; where the law does NOT qualify that the tax is imposed and collected at source, the qualification should not be read into law. 3. Rationale of 15%: To equalize/ share the burden of income taxation with foreign corporations

28. MARUBENI CORPORATION V. COMMISSIONER OF INTERNAL REVENUE- Income Tax 

Category: Income Taxation The dividends received by Marubeni Corporation from Atlantic Gulf and Pacific Co. are not income arising from the business activity in which Marubeni Corporation is engaged. Accordingly, said dividends if remitted abroad are not considered branch profits subject to Branch Profit Remittance Tax.

Facts:

Marubeni Corporation is a Japanese corporation licensed to engage in business in the Philippines. When the profits on Marubeni‘s investments in Atlantic Gulf and Pacific Co. of Manila were declared, a 10% final dividend tax was withheld from it, and another 15% profit remittance tax based on the remittable amount after the final 10% withholding tax were paid to the Bureau of Internal Revenue. Marubeni Corp. now claims for a refund or tax credit for the amount which it has allegedly overpaid the BIR.

Issues and Ruling: 1. Whether or not the dividends Marubeni Corporation received from Atlantic Gulf and Pacific Co. are effectively connected with its conduct or business in the Philippines as to be considered branch profits subject to 15% profit remittance tax imposed under Section 24(b)(2) of the National Internal Revenue Code.

NO. Pursuant to Section 24(b)(2) of the Tax Code, as amended, only profits remitted abroad by a branch office to its head office which are effectively connected with its trade or business in the Philippines are subject to the 15% profit remittance tax. The dividends received by Marubeni Corporation from Atlantic Gulf and Pacific Co. are not income arising from the business activity in which Marubeni Corporation is engaged. Accordingly, said dividends if remitted abroad are not considered branch profits for purposes of the 15% profit remittance tax imposed by Section 24(b)(2) of the Tax Code, as amended.

2. Whether Marubeni Corporation is a resident or non-resident foreign corporation.

Marubeni Corporation is a non-resident foreign corporation, with respect to the transaction. Marubeni Corporation‘s head office in Japan is a separate and distinct income taxpayer from the branch in the Philippines. The investment on Atlantic Gulf and Pacific Co. was made for purposes peculiarly germane to the conduct of the corporate affairs of Marubeni Corporation in Japan, but certainly not of the branch in the Philippines.

3. At what rate should Marubeni be taxed?

15%. The applicable provision of the Tax Code is Section 24(b)(1)(iii) in conjunction with the Philippine-Japan Tax Treaty of 1980. As a general rule, it is taxed 35% of its gross income from all sources within the Philippines. However, a discounted rate of 15% is given to Marubeni Corporation on dividends received from Atlantic Gulf and Pacific Co. on the condition that Japan, its domicile state, extends in favor of Marubeni Corporation a tax credit of not less than

20% of the dividends received. This 15% tax rate imposed on the dividends received under Section 24(b)(1)(iii) is easily within the maximum ceiling of 25% of the gross amount of the dividends as decreed in Article 10(2)(b) of the Tax Treaty.

Note: Each tax has a different tax basis. Under the Philippine-Japan Tax Convention, the 25% rate fixed is the maximum rate, as reflected in the phrase ―shall not exceed.‖ This means that any tax imposable by the contracting state concerned hould not exceed the 25% limitation and said rate would apply only if the tax imposed by our laws exceeds the same.

29. N.V REEDERIJ “AMSTERDAM” AND ROYAL INTEROCEAN LINES VS. COMMISSIONER OF INTERNAL REVENUE 

Category: Income Taxation In order that a foreign corporation may be considered engaged in trade or business, its business transactions must be continuous

FACTS: • Both vessels of petitioner N.V. Reederij ―Amsterdam‖ called on Philippine ports to load cargoes for foreign destinations. • The freight fees for these transactions were paid in abroad. In these two transactions, petition Royal Interocean Lines acted as husbanding agent for a fee or commission on said vessels. No income tax has been paid by ―Amsterdam‖ on the freight receipts. • As a result, Commissioner of Internal Revenue filed the corresponding income tax returns for the petitioner. Commissioner assessed petitioner for deficiency of income tax, as a non-resident foreign corporation NOT engaged in trade or business. • On the assumption that the said petitioner is a foreign corporation engaged in trade or business in the Philippines, petitioner Royal Interocean Lines filed an income tax return of the aforementioned vessels and paid the tax in pursuant to their supposed classification. • On the same date, petitioner Royal Interocean Lines, as the husbanding agent of ―Amsterdam‖, filed a written protest against the abovementioned assessment made by the respondent

Commissioner. The protest was denied. • On appeal, CTA modified the assessment by eliminating the 50% fraud compromise penalties imposed upon petitioners. Petitioner still was not satisfied and decided to appeal to the SC.

ISSUE: Whether or not N.V. Reederij “Amsterdam” should be taxed as a foreign corporation not engaged in trade or business in the Philippines?

HELD: • Petitioner is a foreign corporation not authorized or licensed to do business in the Philippines. It does not have a branch in the Philippines, and it only made two calls in Philippine ports, one in 1963 and the other in 1964. • In order that a foreign corporation may be considered engaged in trade or business, its business transactions must be continuous. A casual business activity in the Philippines by a foreign corporation does not amount to engaging in trade or business in the Philippines for income tax purposes. • A foreign corporation doing business in the Philippines is taxable on income solely from sources within the Philippines. It is permitted to claim deductions from gross income but only to the extent connected with income earned in the Philippines. On the other hand, foreign corporations not doing business in the Philippines are taxable on income from all sources within the Philippines . The tax is 30% (now 35% for non-resident foreign corp which is also known as foreign corp not engaged in trade or business) of such gross income. (*take note that in a resident foreign corp, what is being taxed is the taxable income, which is with deductions, as compared to a non-resident foreign corp which the tax base is gross income) • Petiioner ―Amsterdam‖ is a non-resident foreign corporation, organized and existing under the laws of the Netherlands with principal office in Amsterdam and not licensed to do business in the Philippines.

30. RA 9504- Minimum Wage, Personal Exemptions, Additional Exemptions, Optional Standard Deduction 

Category: Income Taxation

REPUBLIC ACT NO. 9504 - TAX EXEMPTION OF MINIMUM WAGE EARNERS AND INCREASING PERSONAL/ADDITIONAL EXEMPTIONS / CHANGE IN Optional Standard Deduction Salient Points:

>―Minimum wage earners‖ shall be exempt from income tax on their taxable income including holiday pay, overtime, night shift differential pay, and hazard pay

>Increases the amount of personal exemption for all individuals to a fixed amount of P50,000.00 and the additional exemption toP25,000.00 for each dependent, not exceeding four (4)

>Amends Section 34(L) to increase to 40% of gross sales or receipts the Operational Standard Deduction (OSD) allowed to individuals (except nonresident aliens) engaged in business or earning income in the exercise of their profession

> Now allow corporations (except nonresident foreign corporations) to claim OSD, instead of itemized deductions, in an amount not exceeding 40% of their gross income.

31. REPUBLIC ACT NO. 10026 - TAX EXEMPTION TO LOCAL WATER DISTRICTS 

Category: Income Taxation

REPUBLIC ACT NO. 10026 - TAX EXEMPTION TO LOCAL WATER DISTRICTS >Local water districts are now exempt from income taxes under Section 27 provided that the amount saved by virtue of the exemption is to be used for capital equipment expenditure to expand water services coverage >All unpaid taxes starting August 13, 1996 are condoned provided (1) the BIR establishes financial incapacity of the LOCAL WATER DISTRICT and (2) the LOCAL WATER DISTRICT submits to Congress a program of internal reforms.

32. REPUBLIC ACT NO. 9994 - ADDITIONAL BENEFITS TO SENIOR CITIZENS (TAX BENEFITS) 

Category: Income Taxation

REPUBLIC ACT NO. 9994 - ADDITIONAL BENEFITS TO SENIOR CITIZENS (TAX BENEFITS) The following transactions with senior citizens are exempt from VAT (aside from the 20% discount):

>Professional fees of physicians, licensed health workers

>Purchase of medicines

>Medical and dental services and laboratory fees

>Fare for any land transportation

>Fare for domestic air and sea services

>Utilization of hotels and similar lodging establishments

>Admission fees on theaters, concert halls, circuses, etc.

>Funeral and burial services >Discounts given are still considered as tax deductions and NOT tax credits >Employment of senior citizens will entitle employer to additional tax deduction of 15% of total amount paid as salaries and wages to senior citizens provided that the employment lasts for at least 6 months >Realty tax holiday for the first 5 years is granted to those establishing foster care facilities

33. REPUBLIC ACT 9856 - REAL ESTATE INVESTMENT TRUST (TAX INCENTIVES) 

Category: Income Taxation

REPUBLIC ACT 9856 - REAL ESTATE INVESTMENT TRUST (TAX INCENTIVES) In A Nutshell: The taxable net income of REAL ESTATE INVESTMENT TRUSTs is the gross income under Section 32 less (a) the deductions under Section 34 AND (b) dividends distributed by the REIT out of its distributable income provided it (i) maintains its status as a public company; (ii) maintains the listed status of the investor securities (shares issued by the REIT); and (iii) distributes at least 90% of its distributable income.

Other Tax Rules: >Not subject to the MCIT >Income payments to REIT are subject to a lower CWT of 1% >Sale of real property to REITs subject to DST reduction of 50% >Dividends received by an OFW from the REIT is exempt from the 10% WT for the first 7 years of the law. >VAT is imposed on sale of real property by the REIT but not of its securities as it is not considered a dealer in securities

34. CIR vs. MIRANT OPERATIONS- Tax Credit and Tax Refund 

Category: Income Taxation

COMMISSIONER OF INTERNAL REVENUE vs. MIRANT (PHILIPPINES) OPERATIONS, CORPORATION- Tax Credit and Tax Refund FACTS: Mirant filed its final adjusted Annual Income Tax Return for fiscal year ending 1999 declaring a net loss. It then amended the said return this time reflecting an increased net loss and showing that it opted to carry over as tax credit its overpayment to the succeeding taxable year. This excess tax credit was unutilized in 2000 as Mirant still reported a net loss. Mirant then filed a claim for refund of its excess creditable income tax for 1999.

ISSUE: Can Mirant claim for refund its excess credits from 1999?

HELD: NO. Mirant‘s choice to carry over its 1999 excess income tax credit to succeeding taxable years is irrevocable, regardless of whether it was able to actually apply the said amount to a tax liability. It is a mistake to understand the phrase "for that taxable period" as a prescriptive period for the irrevocability rule – i.e., that since the tax credit in this case was acquired in 1999, and Respondent opted to carry it over to 2000, then the irrevocability of the option to carry over expired by the end of 2000, leaving Respondent free to again take another option as regards its 1999 excess income tax credit. The Court ruled that this interpretation effectively renders nugatory the irrevocability rule.

35. SUPREME TRANSLINER, INC. VS. BPI FAMILY SAVINGS BANK, INC.- Capital Gains Tax 

Category: Income Taxation

SUPREME TRANSLINER, INC. VS. BPI FAMILY SAVINGS BANK, INC.- Capital Gains Tax FACTS: Supreme Transliner took out a loan from respondent and was unable to pay. The respondent bank extrajudicially foreclosed the collateral and, before the expiration of the one-year redemption period, the mortgagors notified the bank of its intention to redeem the property.

ISSUE: Is the mortgagee-bank liable to pay the capital gains tax upon the execution of the certificate of sale and before the expiry of the redemption period?

HELD: NO. It is clear that in foreclosure sale there is no actual transfer of the mortgaged real property until after the expiration of the one-year period and title is consolidated in the name of the mortgagee in case of non-redemption. This is because before the period expires there is yet no transfer of title and no profit or gain is realized by the mortgagor.

36. CIR vs. PHILIPPINE AIRLINES, INC. - Minimum Corporate Income Tax 

Category: Income Taxation

FACTS: PHILIPPINE AIRLINES, INC. had zero taxable income for 2000 but would have been liable for

Minimum Corporate Income Tax based on its gross income. However, PHILIPPINE AIRLINES, INC. did not pay the Minimum Corporate Income Tax using as basis its franchise which exempts it from ―all other taxes‖ upon payment of whichever is lower of either (a) the basic corporate income tax based on the net taxable income or (b) a franchise tax of 2%.

ISSUE: Is PAL liable for Minimum Corporate Income Tax?

HELD: NO. PHILIPPINE AIRLINES, INC.‘s franchise clearly refers to "basic corporate income tax" which refers to the general rate of 35% (now 30%). In addition, there is an apparent distinction under the Tax Code between taxable income, which is the basis for basic corporate income tax under Sec. 27 (A) and gross income, which is the basis for the Minimum Corporate Income Tax under Section 27 (E). The two terms have their respective technical meanings and cannot be used interchangeably. Not being covered by the Charter which makes PAL liable only for basic corporate income tax, then Minimum Corporate Income Tax is included in "all other taxes" from which PHILIPPINE AIRLINES, INC. is exempted.

The CIR also can not point to the ―Substitution Theory‖ which states that Respondent may not invoke the ―in lieu of all other taxes‖ provision if it did not pay anything at all as basic corporate income tax or franchise tax. The Court ruled that it is not the fact tax payment that exempts Respondent but the exercise of its option. The Court even pointed out the fallacy of the argument in that a measly sum of one peso would suffice to exempt PAL from other taxes while a zero liability would not and said that there is really no substantial distinction between a zero tax and a one-peso tax liability. Lastly, the Revenue Memorandum Circular stating the applicability of the MCIT to PAL does more than just clarify a previous regulation and goes beyond mere internal administration and thus cannot be given effect without previous notice or publication to those who will be affected thereby.

37. CIR vs. PHILIPPINE AIRLINES, INC. - Overseas Communications Tax 

Category: Income Taxation

COMMISSIONER OF INTERNAL REVENUE vs. PHILIPPINE AIRLINES, INC. - Overseas Communications Tax FACTS: PHILIPPINE AIRLINES, INC paid the 10% Overseas Communications Tax (OCT) for overseas telephone calls made through PLDT. It then later filed with the BIR a claim for refund of the amount paid as Overseas Communications Tax, claiming that other than being liable for basic corporate income tax or the franchise tax, whichever was lower, it was exempted from all other taxes by virtue of the "in lieu of all taxes" clause in its charter.

ISSUE: Is PHILIPPINE AIRLINES, INC liable for the Overseas Communications Tax?

HELD: NO. The language of PHILIPPINE AIRLINES, INC‘s franchise is clearly all-inclusive --- the basic corporate income tax or franchise tax paid by respondent shall be "in lieu of all other taxes‖ except only real property tax. It is not the fact of tax payment that exempts it, but the exercise of its option. In the event that respondent incurs a net loss, it shall have zero liability for basic corporate income tax, the lowest possible tax liability. There being no qualification to the exercise of its options, then Respondent is free to choose basic corporate income tax, even if it would have zero liability.

38. UNITED AIRLINES, INC. vs. CIR- Gross Philippine Billings (GPB) 

Category: Income Taxation

UNITED AIRLINES, INC. vs. COMMISSIONER OF INTERNAL REVENUE - Gross Philippine Billings (GPB) FACTS: Petitioner used to be an online carrier but ceased operating cargo flights from the Philippines starting 2001. It is now an offline international air carrier but has a general sales agent in the Philippines which sells passage documents for its off-line flights for carriage of passengers and cargo. It filed a claim for refund on the Gross Philippine Billings (GPB) tax it paid. The CTA ruled that Petitioner was not liable for the GBP but was liable to pay 32% tax on its net income derived from the sales of passage documents in the Philippines.

ISSUE: Is Petitioner liable for either the GPB or the 32% tax?

HELD: 32% tax. The Court reiterated the ruling in South African Airways and BOAC stating that it is the sale of tickets which is the revenue-generating activity subject to Philippine tax. The correct interpretation of the applicable rules is that, if an international air carrier maintains flights to and from the Philippines, it shall be taxed at the rate of 2 1/2% of its Gross Philippine Billings, while international air carriers that do not have flights to and from the Philippines but nonetheless earn income from other activities in the country will be taxed at the rate of 32% of such income. The Court also ruled that ―to avoid multiplicity of suits and unnecessary difficulties and expenses‖ the issue of deficiency tax assessment be resolved jointly with the its claim for refund – and doing so does not violate the rule against offsetting of taxes.

39. CIR VS. SMART COMMUNICATION, INC.- Tax Refund



Category: Income Taxation

COMMISSIONER OF INTERNAL REVENUE VS. SMART COMMUNICATION, INC.- Tax Refund FACTS: Smart entered into an Agreement with Prism, a nonresident foreign corporation domiciled in Malaysia, whereby Prism will provide programming and consultancy services to Smart. Thinking that the payments to Prism were royalties, Smart withheld 25% under the RP-Malaysia Tax Treaty. Smart then filed a refund with the BIR alleging that the payments were not subject to Philippine withholding taxes given that they constituted business profits paid to an entity without a permanent establishment in the Philippines.

ISSUE: Does Smart have the right to file the claim for refund?

HELD: YES. The Court reiterated the ruling in Procter & Gamble stating that a person ―liable for tax‖ has sufficient legal interest to bring a suit for refund of taxes he believes were illegally collected from him. Since the withholding agent is an agent of the beneficial owner of the payments (i.e., nonresident), the authority as agent is held to include the filing of a claim for refund. The Silkair case was held inapplicable as it involved excise taxes and not withholding taxes.

Smart was granted a refund given that only a portion of its payments represented royalties since it is only that portion over which Prism maintained intellectual property rights and the rest involved full transfer of proprietary rights to Smart and were thus treated as business profits of Prism.

40.