taxation

Silliman notes (2003) I.

INCOME TAX

Afisco Insurance Corporation vs. Court of Appeals, Jan. 25, 1999, Panganiban, J. Question: 41 non-life insurance corporations organized and existing under the laws of the Philippines organized a pool of machinery insurers for the purpose of entering into a reinsurance treaty (Quota Share Reinsurance Treaty and a Surplus Reinsurance Treaty) with a German firm based in Munich, a non-resident foreign insurance corporation. On April 14, 1976 the pool submitted a financial statement and filed an information return as an organization exempt from income tax for the year ending 1975. The BIR assessed the pool deficiency corporate income tax of P1.8 million and withholding tax of P1.7 million on pool dividends paid to the German firm and P89 thousand on pool dividends paid to members. The insurance pool raises the following defenses why no deficiency taxes be imposed on them: the pool is not formed as an unregistered partnership making it taxable as a corporation; double taxation prescription on the right of government to collect Rule on the issues. Answer: 1. The pool is an association taxable like a corporation pursuant to Section 24 (now Sec. 24(B) of the NIRC of 1997). The Tax Code has included under the term ‘corporation’ partnerships, no matter how created or organized, joint-stock companies, joint accounts (cuentas en participacion), association or insurance companies. The term partnership includes a syndicate, group, pool, joint venture or other unincorporated organization, through or by means of which any business, financial operation, or venture is carried on. (Evangelista vs. Collector) The pool entered into by the insurers is an association considered under the Tax Code as a partnership or association treated like a corporation as it handles all the insurance businesses covered under the reinsurance treaty with the German firm. (Domondon) Another answer: Article 1767 of the Civil Code recognizes the creation of a contract of partnership when “two or more persons bind themselves to contribute money, property or industry to a common fund, with the intention of dividing profits among themselves. In the instant case the pool has a common fund that pays for its administration and operating expenses. It also functions through an executive board composed of representatives from each insurance (ceding) companies. And while the pool is not a reinsurance company and does not issue insurance policies, its work is indispensable, beneficial and useful to the business of the ceding companies. These are clear indicia of its nature as a taxable partnership. (Abella/Aban)

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2. There is no double taxation which means taxing the same property twice when it should be taxed only once. The pool is a taxable entity separate and distinct from the individual corporate entities of the pool. The tax on its income is obviously different from the tax on the dividends received by said companies. Clearly, there is no double taxation here. 3. The prescriptive period was not suspended because it may be suspended only ‘if taxpayer informs the Commissioner of any change in the address.’ The fact that the pool’s information return filed in 1980 indicated therein its ‘present address’ is not sufficient compliance with the legal requirement. (Domondon) Banas, Jr. vs. CA , Feb. 10, 2000 Question: A seller sold on installment his land to the buyer who executed promissory notes to cover the installments. On the same day of the sale, the seller discounted the said notes from the buyer himself and got the proceeds thereof. Is the seller allowed to report his income under the installment method? Answer: No. As a rule, the sale of real property may be reported by installment provided the initial payment does not exceed 25% of the selling price. Initial payment covers all payments received in the year of sale. In the case at bar, although the proceeds of the discounted promissory notes are not considered initial payment, still it must be included as taxable income on the year it was converted into cash. (Co Untian) By virtue of the discounting, made on the same date as the sale, the seller lost his entitlement to report the sale as a sale on installment since taxable disposition resulted therefrom. Filipinas Synthetic Fiber Corporation vs. CA, October 12, 1999, Purisima, J. Question: When is the proper time of withholding of a tax on income reported by the earner on the accrual basis? Answer: The tax shall be withheld at the time when the income is reported by the payee because it is at this time where all the events have occurred that fix the taxpayers right to receive the income, and the amount thereof at this precise moment can be determined with reasonable certainty. Thus, it is the right to receive income, and not the actual receipt, that determines when to include the amount in gross income. It is at this time that the withholding of taxes at sources shall be made by the payor. (Abella) Question:

What is meant by the accrual method of accounting?

Answer: Income is reportable when all the events have occurred that fix the taxpayer’s right to receive the income, and the amount can be determined with reasonable accuracy. Thus, it is the right to receive income, and not the actual receipt, that determines when to include the amount in gross income. Consequently, the following are the requisites:

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that the right to receive the income must be valid, unconditional and enforceable, i.e., not contingent upon future time; the amount must be reasonably susceptible of accurate estimate; and there must be a reasonable expectation that the amount will be paid in due course. (Domondon) CIR vs. YMCA (1998) Question: Are the rentals received by YMCA from the lease of its properties to small shop operators (such as restaurants and canteens) and parking fees collected from nonmembers on its vacant lot subject to income tax? Answer: Yes. The rentals and parking fees are subject to income tax. Sec. 30 of the Tax Code mandates that “the income of exempt organizations from any of their properties, real or personal, or from any of their activities conducted for profit, regardless of the disposition made of such income, shall be taxable.” The phrase “from any of their activities conducted for profit” does not qualify the word “properties.” Therefore, any income from real or personal properties, whether conducted for profit or for lofty purposes shall be subject to income tax. (Co Untian) China Banking Corporation vs. Court of Appeals, July 19, 2000 Question: In 1980, China Banking Corp. made a 53% equity investment in the First CBC Capital (Asia) Ltd, a Hongkong subsidiary engaged in financing and investment with “deposittaking” function. The investment amounted to P16,227,851.80, consisting of 106,000 shares with a par value of P100 per share. Subsequently, First CBC Capital, has become insolvent. China Banking treated the investment in its 1987 Income Tax Return as a bad debt or as an ordinary loss deductible from its gross income. The BIR disallowed the deduction because the investment should not be classified as “worthless.” Is the disallowance correct? Answer: Yes. The BIR was correct. The equity investment is capital in character, the loss of which could be deductible only from capital gains, and not from any other income of the taxpayer. First CBC Capital (Asia) Ltd, the investee corporation, is a subsidiary corporation of China Banking whose shares in said investee corporation are not intended for purchase or sale but an investment. A capital investment is a capital, not ordinary asset of the investor. The sale or exchange of which results in either capital gain or a capital loss. When securities become worthless there is strictly no sale or exchange, but the law deems the loss anyway to be “a loss from the sale or exchange of capital assets.” (Domondon) Another answer: In the hands, however, of another who holds the shares of stock by way of investment, the shares to him would be capital assets. When the shares held by such investor

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become worthless, the loss is deemed to be a loss from the sale or exchange of capital assets. (Sec. 29(d)(4)(B) NIRC) (The Revenue Report) Another answer: The SC ruled that if this investment is booked as investment in the records of China Banking, because the investor (China Banking) is NOT a dealer in securities, then the loss therefrom is capital loss deductible to the extent of capital gains. So the implication is, only dealer in securities can treat it as bad debts. (abella) Commissioner of Internal Revenue vs. Anscor Jan. 20, 1999, Martinez, J.: Question:

Is the issuance of stock dividend taxable?

Answer: No. Stock dividends represent capital and do not constitute income to its recipient. They are considered as unrealized gain and hence, no income is yet realized upon the issuance. Question: transaction?

Is the subsequent redemption of stock dividends by the corporation a taxable

Answer: No, with respect to shares redeemed that come from initial capital investment and the redemption price is the concurrent value of acquisition that no gain is derived hence, not taxable. But with respect to redeemed shares that are from stock dividend declarations other than initial capital investment, the proceeds thereof is additional wealth and therefore, taxable. There is no hard and fast rule in determining its taxability. But the normal application of the “net effect test” is usually resorted to, meaning, that depending on the time and manner surrounding the redemption, if profit is realized then it is taxable. (Co Untian) II.

IMPROPERLY ACCUMULATED EARNINGS TAX

Cyanamid Philippines, Inc. vs. CA, Jan. 20, 2000, Quisumbing, J. Question:

What are improperly accumulated earnings?

Answer: These are earnings or profits of a corporation which are permitted to accumulate instead of being divided by a corporation to its shareholders for the purpose of avoiding the income tax with respect to its shareholders or the shareholders of another corporation. If the income were divided and distributed, they would have been taxed as dividends. (Domondon) Question:

What is an improperly accumulated earnings tax (IAET)?

Answer: In addition to other income taxes, there is imposed for each taxable year on the improperly accumulated taxable income of each corporation, an improperly accumulated earnings tax (IAET) equal to ten percent (10%) of the improperly accumulated taxable income. (Sec.29(A)) (Domondon)

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Question:

What corporations are liable for the IAET? What are not?

Answer: Every corporation formed or availed for the purpose of avoiding income tax with respect to its shareholders or the shareholders of another corporation, by permitting earnings and profits to accumulate instead of being dividend or distributed. The IAET shall NOT apply to (1) publicly held corporation (2) banks and other nonbank financial intermediaries; and (3) insurance companies. (Sec. 29 (B)(2)) (Domondon) Question:

What facts may show the purpose of avoiding tax upon shareholders?

Answer: The fact that the earnings or profits of a corporation are permitted to accumulate beyond the reasonable needs of the business shall be determinative of the purpose to avoid the tax upon its members unless the corporation, by clear preponderance of evidence, shall prove the contrary. (Sec. 29(C)(2)) Question:

What is meant by reasonable needs of business for IAET purposes?

Answer: Reasonable needs of the business includes the reasonably anticipated (immediate) needs of the business. (Sec. 29 (E)) In order to determine whether profits are accumulated for the reasonable needs of the business to avoid the surtax upon shareholders, it must be shown that the controlling intention of the taxpayer is manifested at the time of the accumulation, not intentions declared subsequently, which are mere afterthoughts. Furthermore, the accumulated profits must be used within a reasonable time after the close of the taxable year. (Domondon) Question: proper?

What are the tests to determine whether or not the accumulation of profits is

Answer:

The tests to determine whether accumulation is justified are:

Immediacy test – “Reasonable needs of the business” means the immediate needs of the business, and it was generally held that if the corporation did not prove an immediate need for the accumulation of the earnings and profits, the accumulation was not for the reasonable needs of the business and the penalty tax would apply. (Domondon) (Industry test – per decision) “2 to 1” Rule - The ratio of current assets to current liabilities (current ratio) and the adoption of industry standard. The ratio of current assets to current liabilities is used to determine the sufficiency of working capital. Ideally, the working capital should equal the current liabilities and there must be 2 units of current assets for every unit of current liability, hence the so-called “2-1” Rule. (Domondon)

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“Bardahl Formula” – Allows the retention as working capital reserve, sufficient amounts to liquid assets to carry the company through one operating cycle. It applies to companies with short operating cycles. The formula requires an examination of whether the taxpayer has sufficient liquid assets to pay all its current liabilities and any extraordinary expenses reasonably anticipated, plus enough to operate the business in one operating cycle. Operating cycle is the period of time it takes to convert cash into raw materials, raw materials into inventory, and inventory into sales, including the time to collect payment for the sales. (Domondon) Question:

What is the Golconda Ruling in relation to the application of IAET?

Answer: This is an American case where the Ninth Circuit Court of Appeals ruled that accumulated earnings tax would only apply to closely held corporations. This is the rule followed under the 1997 NIRC. (den) Question:

What are two usual defenses of taxpayers in IAET cases?

Answer: That (1) it is a publicly held corporation and (2) it did not declare dividends in order to use the accumulated earnings as working capital reserve to meet reasonable needs of the business. (den) Question: Cyanamid raised the above two defenses to refute the assessment of surplus tax on it. Cyanamid stressed that it used the “Bardahl formula” in determining the required working capital it should retained. Under the circumstances of the case, are the defenses meritorious? Answer: No. The accumulation was still covered under the 1977 Tax Code where publicly held corporations were not among those enumerated as exempt from the coverage of the “surtax on accumulated earnings.” The publicly held corporation is now included under the list of IAET exempt entities in the 1997 Tax Code. Hence, the rule on ‘express mention of one person, thing, act or consequence is construed to exclude all others’ shall apply. In addition, taxation is the rule and exemption is the exception. Laws granting tax exemption are strictly construed against taxpayer and liberally for the government. The use of the Bardahl formula does NOT preclude the BIR from using the current ratio method. The Barhdal formula allowed the retention, as working capital reserve, sufficient amounts of liquid assets to carry the company through one operating cycle. The formula was developed to measure corporate liquidity (Bardahl vs. Commissioner (US))

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The formula, however, has been routinely used by the court in a number of different cases. Thus, it is safe to conclude that it is not a precise rule. Such that when the tax court below used the current ratio method which revealed that the current assets of Cyanamid is just more than enough of what was supposed to be retained, then such application of the current ratio method should be given credence. (den) III.

NET OPERATING LOSS CARRYOVER (NOLCO)

ONE of the new features introduced by the Tax Reform Act of 1997 is the provision on net operating loss carry-over, more popularly known as Nolco. The net operating loss which can be carried over and used as a deduction in the next three consecutive taxable years is limited to the excess of allowable deductions (excluding Nolco) over gross income in a taxable year. Thus, it would seem that the BIR would allow taxpayers to deduct Nolco in a particular taxable year to the extent that it will not result in a net loss for the year. This prevents taxpayers from extending its Nolco. Only net operating losses incurred from Jan. 1, 1998 may be carried over as a deduction in the next three succeeding taxable years. Thus, for taxpayers who are reporting income on a fiscal year basis, only a ratable portion of net operating loss, if any, shown in the Consolidated Annual Income Tax Return for fiscal year ended 1998 can be carried over as Nolco in the next succeeding three fiscal years. To illustrate, a taxpayer that reported a net operating loss of P 1.2 million in fiscal year ended March 31, 1998 shall be allowed to carry-over the amount of P300,000 (P1.2 million x 3 months/12 months) as Nolco in the next three succeeding fiscal years. Net operating losses incurred in a taxable year during which the taxpayer was exempt from income tax cannot be carried over to the succeeding taxable years. Net operating losses incurred by Board of Investment (BOI)-registered enterprises from registered activities are not allowed as Nolco deduction from gross income derived from unregistered business activities. Net operating loss incurred in a taxable year may be carried over only in the next succeeding three taxable years. Nolco shall be utilized on a "first in, first out" basis. Nolco is not transferable to another taxpayer, except in the following instances: · Merger of two or more corporations.

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The Nolco of the absorbed corporation may be transferred or assigned to the surviving corporation, if the stockholders of the absorbed corporation gain control (75 percent or more) of the surviving corporation. · Consolidation of two or more corporations. The Nolco of any one of the constituent corporations may be transferred or assigned to the consolidated corporation if the stockholders gain control (75 percent or more) of the consolidated corporation. · Combination of two or more taxpayers. The Nolco of any one of the constituent taxpayers may be transferred or assigned to the combined entity if the same constituent taxpayer gains control (75 percent or more) of the combined entity. Nolco shall be allowed as a deduction from the gross income of the same taxpayer that sustained and accumulated it regardless of the change in ownership. In case of merger, the surviving entity is allowed to utilize the Nolco that it accumulated prior to the merger. All taxpayers subject to normal income tax or preferential tax rates under the Tax Code on their taxable income are allowed to claim deduction of the Nolco, except the following: · Individuals earning purely compensation income; · Non-resident alien individuals not engaged in trade or business within the Philippines; · Non-resident foreign corporations; · Offshore banking unit (OBU) of a foreign banking corporation; · Foreign currency deposit unit (FCDU) of a domestic or foreign banking corporation; · Enterprises registered with the BOI with respect to its BOI-registered activity enjoying the income tax holiday; · Enterprises registered with the Philippine Economic Zone Authority (Peza) pursuant to Republic Act No. 7916, as amended, with respect to its Peza-registered business activity; · Enterprises registered under the Bases Conversion and Development Act of 1992, e.g., Subic Bay Metropolitan Authority-registered enterprises, with respect to its registered business activity; · Foreign corporations engaged in international shipping or air carriage business in the Philippines; and · Any person, natural or juridical, enjoying exemption from income tax pursuant to the provisions of the Tax Code or any special law with respect to its operation during the period for which the aforesaid exemption is applicable. Its accumulated net operating losses incurred or sustained during the said period shall not qualify for purposes of the Nolco. An individual engaged in trade or business or in the exercise of profession who claims the 10 percent optional standard deduction shall not simultaneously claim deduction of Nolco. For mines other than oil and gas wells, a net operating loss without the benefit of incentives provided for under the Omnibus Investment Code of 1987, as amended, incurred in the first 10 years of operation may be carried over as a deduction from taxable income for the next five

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taxable years following the loss. Nolco shall be allowed as deduction in computing the taxpayer’s income taxes per quarterly and annual final adjustment returns. The Nolco shall be separately shown in the taxpayer’s income tax return. The unused Nolco shall be presented in the Notes to the Financial Statements showing, in detail, the taxable year in which the net operating loss was incurred and the amount claimed as Nolco deduction. Failure to comply with this requirement will disqualify the taxpayer from claiming the Nolco. IV.

MINIMUM CORPORATE INCOME TAX (MCIT)

One type of income tax that companies may pay is the Minimum Corporate Income Tax, or MCIT, which was imposed starting Jan. 1, 1998. The rules and regulations governing MCIT are Sections 27(E) and 28(A)(2) of the Tax Code, Revenue Regulations (RR) No. 9-98 dated Aug. 25, 1998 and the recently issued Revenue Memorandum Circular No. 4-2003 dated Dec. 31, 2002. RR No. 9-98 is otherwise known as the MCIT regulations. MCIT vs. RCIT MCIT is imposed on domestic corporations and resident foreign corporations that are subject to the regular corporate income tax (RCIT) or the normal income tax. The RCIT or the normal income tax refers to the 32-percent income tax that is commonly due from corporations. Those corporations, which are not subject to the normal income tax, are not liable to pay the MCIT. Examples of companies exempted from paying the MCIT are those registered with the Philippine Economic Zone Authority and subject to five-percent preferential tax rate on their entire activities; proprietary educational institutions subject to 10-percent income tax; and nonprofit hospitals that are subject to 10-percent income tax. Firms covered by the MCIT pay this tax beginning the fourth taxable year immediately following the taxable year in which they started their business operations. For this purpose, corporations are considered to commence their operations in the year of their registrations with the Bureau of Internal Revenue (BIR). Take, for example, a corporation with a calendar year taxable period that was registered with the BIR in November 2002 and started to commercially operate in January 2003. It will be subject to MCIT starting taxable year 2006, which is the fourth taxable year immediately succeeding the taxable year it was registered with the BIR. Taxable year The taxable year when the company registered with the BIR is considered in determining when the corporation is subject to MCIT. The time when it begun to commercially operate is disregarded. A company will pay MCIT only if the MCIT is greater than the RCIT. Also, the MCIT should be computed annually. For example, the amount of MCIT in taxable year 2002 is 150,000 pesos while the RCIT is computed at 100,000 pesos. In this case, the firm shall pay the MCIT of 150,000 pesos instead of the 100,000-peso RCIT.

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The form to be used in paying the MCIT should be the same as the one used for payment of the normal income tax (i.e., BIR Form No. 1702 ). The amount of income tax paid, if any, by the company in the first to the third quarters during the taxable year may be deducted from the amount of MCIT due in the same taxable year. The amount of creditable withholding tax withheld from income payments made to the company in the same period may also be deducted from the amount of MCIT payable. MCIT is determined by multiplying the gross income by two percent (2%). The tax base in computing for MCIT is the gross income, which is specifically defined in the Tax Code and the pertinent regulations and circulars. Based on the MCIT regulations, "gross income" for sale of goods means gross sales less sales returns, discounts and allowances and cost of goods sold. "Gross sales" shall include only sales contributory to income taxable under Section 27(A) of the Tax Code. "Cost of goods sold" shall include all business expenses directly incurred to produce the merchandise to bring them to their present location and use. Passive incomes that have been subject to a final tax at source shall NOT form part of gross income for purposes of the MCIT. Interest on Philippine bank deposits and dividends received from another domestic corporation, are examples of passive income that are subject to final tax. Regulations The MCIT regulations defined "cost of goods sold" for each type of business operations. For a trading or merchandising concern, "cost of goods sold" means the invoice cost of the goods sold, plus import duties, freight in transporting the goods to the place where the goods are actually sold, including insurance while the goods are in transit. In one of its rulings, the BIR mentioned that the cost composition of "cost of goods sold" includes only those items that are direct and incidental to the acquisition of the merchandise intended for resale. It therefore excludes items of expenses that the company may incur when it sells the merchandise. Cost of goods sold The BIR further stated that the latter should form part of the company's operating or administrative overhead that are likewise necessary in the business operation. Conversely, these costs do not form part of the "cost of goods sold." For a manufacturing concern, "cost of goods manufactured and sold" means all costs of production of finished goods, such as raw materials used, direct labor and manufacturing overhead, freight cost, insurance premiums and other costs incurred to bring the raw materials to the factory or warehouse. In the case of sales of services, the term "gross income" generally means gross receipts less sales returns, allowances, discounts and cost of services. The term "gross receipts" for purposes of this tax, means the amounts actually or constructively received during the taxable year. Provided, that for taxpayers employing the accrual basis of accounting, the term "gross receipts" shall mean amounts earned as gross income. On the other hand, "cost of services" generally means all direct costs and expenses necessarily incurred to provide the services required by the customers and clients. Crediting payments This circular should serve as a reference to determine the income and allowable expense or cost items for purposes of computing the MCIT of these sellers of services. The government allows as deduction against RCIT, to a certain extent and subject to limitation, the amount of MCIT paid. Any excess of the MCIT over the normal income tax as computed

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under Section 27(A) of the Tax Code during the taxable year shall be carried forward on an annual basis and credited against the normal income tax for the three immediately succeeding taxable years. Please note that the excess MCIT in a given taxable year may only be utilized when the amount of RCIT in any year during the next three taxable years is higher than the amount of MCIT in the same year. In other words, the excess MCIT may only be credited against the RCIT that may be payable in the next three years. The excess MCIT cannot be credited against the MCIT that may be due during this three-year period. In the example cited earlier, the 50,000-peso excess MCIT over the normal income tax in taxable year 2002 may be used as credit against the income tax due in taxable years 2003 to 2005 but only when the amount of RCIT in any year during this period exceeds the amount of MCIT in the same year. Thus, assuming that in taxable year 2003, the amount of MCIT is again higher than the RCIT amount, the 50,000-peso excess MCIT in taxable year 2002 cannot be used as credit against the amount of MCIT payable in year 2003. Relief Moreover, under certain conditions, relief from the payment of MCIT may also be granted. The secretary of finance, upon recommendation of the BIR commissioner, may suspend imposition of the MCIT upon submission of proof by the applicant-corporation, duly verified by the Commissioner's authorized representative, that the corporation (1) sustained substantial losses on account of a prolonged labor dispute or because of (2) "force majeure" or (3) because of legitimate business reverses. There have been various instances in which the BIR chief suspended the payment of MCIT to various companies that sustained significant losses brought about by these conditions. It is therefore advisable for companies who may qualify for such relief to ask the authorities for suspension of the MCIT as early as possible so that a ruling can be issued before the deadline for filing the annual income tax return. The grant of such tax relief will indeed result in savings of the much-needed funds of companies. V.

MOST FAVORED NATION CLAUSE (MFN CLAUSE)

UNDER the Philippine-US Tax Treaty, Article 13 (b)(iii) it is provided that in case of royalties arising from Philippine sources, the tax imposed by the Philippines shall be "the lowest rate of Philippine tax that may be imposed on royalties of the same kind paid under similar circumstances to a resident of a third State." Accordingly, a resident of the US can invoke this provision and use the lowest tax rate of a country with which the Philippines has concluded a treaty. In BIR ITAD Ruling No. 102-02, dated May 28, 2002, the BIR held that the royalty payments by EP, a domestic company, to EBC, a non-resident foreign corporation existing under the laws of the United States, are subject to the preferential tax rate of 15 percent pursuant to the "most favored nation clause" of the Philippine-US tax treaty, in relation to the Philippine-Netherlands tax treaty. Without invoking the lower tax rate found in the Philippine-Netherlands tax treaty, the applicable tax rate on the royalty payments by EP to EBC would have been a higher rate of 25 percent of the gross amount of the royalties.

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Commissioner of Internal Revenue vs. S.C. Johnson & Son, Inc., June 5, 1999, GonzagaReyes, J. Question: Discuss the applicability of the 10% withholding tax on royalties imposed under the RP-West Germany Tax Treaty under the “most favored nation clause” provided in the RPUS Tax Treaty. Answer: The 10% withholding tax rate under the RP-West Germany Tax Treaty will NOT apply to payments of royalties to US-Based corporations under the most favored nation clause of the RP-US Tax Treaty on the ground that there is NO MATCHING TAX CREDIT provision provided therein as that in the RP-West Germany Tax Treaty. Hence, the circumstances as to the tax payments are not similar which is a condition for most favored nation clause to apply. In fine, the phrase “paid under similar circumstances” refers to the payment of the tax and not on the payment of royalties. (Abella) Another answer: The entitlement of the 100% rate by the U.S. Firms despite the absence of a matching credit (20% for royalties) would derogate from the design behind the most favored nation clause to grant equality of international treatment since the tax burden laid upon the income of the investor is not the same in the two countries. The similarity in the circumstances of payment of taxes is a condition for the enjoyment of the most favored nation treatment precisely to underscore the need for equality of treatment. (Domondon) Question: What is the philosophy behind the adoption of the most favored nation (MFN) clause? Answer: The intention should be considered in the light of the purpose behind the MFN clause which is to grant to the contracting party treatment not less favorable than which has been or may be granted to the ‘most favored’ among other countries. The MFN is intended to establish the principle of equality of international treatment by providing that the citizens or subjects of the contracting nations may enjoy privileges accorded by either party to those of the most favored nation. The essence of the principle is to allow the taxpayer in one state to avail of more liberal provisions granted in another tax treaty to which the country of residence of such taxpayer is also a party provided that the subject matter of taxation is the same as that in the tax treaty under which the taxpayer is liable. (Domondon) VI.

TAX SPARING RULE

THERE are instances when countries offer tax benefits to encourage economic development. In such cases, when the tax credit method is applied to these items of income, such incentives are siphoned off by the state of residence since, in effect, the tax benefits are cancelled out.

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For example, a particular income is made exempt by special measures in the state of source. If the tax credit method is applied by the state of residence, there is no more tax to credit since the income that was previously subject to tax in the state of source is now exempt. This problem has been addressed by the tax sparing provision incorporated in some tax treaties. This provision states that the state of residence allows as credit, the amount that would have been paid, as if no reduction has been made. This way, the state of residence gives recognition to the special incentives measures of the state of source. VII.

TAX –FREE EXCHANGE

Question:

What is the so-called TAX-FREE EXCHANGE?

Answer: As a general rule, upon the sale or exchange of property, the entire amount of gain or loss, as the case may be, shall be recognized. There may however, be called tax-free exchanges. There are two instances under the Tax Code. The first involves a plan of merger or consolidation where: (Tax free merger) a corporation which is a party to a merger or consolidation exchanges property solely for stock in a corporation which is, a party to the merger or consolidation, a shareholder exchanges stock in a corporation which is a party to the merger or consolidation solely for the stock in another corporation also a party to the merger or consolidation or a security holder of a corporation which is a party to the merger or consolidation exchanges his securities in such corporation solely for stocks in another corporation, a party to the merger or consolidation. The second form occurs when: (Tax free exchange of property) if property is transferred to a corporation by a person in exchange for stock in such corporation ; resulting of that exchange, said person, alone or together with others NOT exceeding four (4) persons, gains control (51% of all voting stocks) of said corporation; provided that stocks issued for services shall not be considered as issued in return of property. (den) The tax consequences of a tax-free exchange are that, 1) NO income tax shall be recognized in the transaction whether or not gain or loss resulted in the transfer; 2) NO VAT shall be paid; 3) NO donor’s tax shall also be paid as there was no intent to donate 4) But the documentary stamp taxes shall be paid on the transaction. VII. SERVICES VS. ROYALTIES In BIR Ruling No. 57-2000 dated Nov. 7, 2000, the BIR made a ruling, thus: In this ruling, Company ABC-Philippines was a domestic company primarily engaged in the licensing, implementation and maintenance of computer software in the domestic and foreign markets. It was licensed by a company in the United Kingdom (UK Co.) to distribute, support

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and use in the Philippines, licensed systems, owned by UK Co., consisting of computer software for banks, including basic and related materials and incidental services. ABC-Philippines will NOT acquire any proprietary rights of whatever kind in or over the licensed systems except to distribute, support and use the same within the Philippines. ABCPhilippines pays royalties to UK Co. As its principal and main activity, ABC-Philippines distributes the licensed systems by entering into licensing agreements as well as consultancy, supplementary license and services agreement with its Philippine clients. The licensing agreements grant Philippine clients, the non-exclusive right to use the licensed system or a modified form of the system for internal business purposes only. The services agreement, on the other hand, provides for technical services to be performed by ABC-Philippines personnel to its Philippine clients in support of the licensed system. ABCPhilippines receives fees in consideration for the rights granted and the support services. The BIR ruled that to be subject to the 20-percent final withholding tax, the royalties must be in the nature of passive income. Since the income derived by ABC-Philippines from the distribution of the Licensed Computer Systems to its Philippine clients and the performance of support services is income generated in the active pursuit and performance of its primary purpose, the same is clearly NOT passive income subject to the 20-percent final tax. Such being the case, the payments received by ABC-Philippines from the active conduct of trade or business are considered ordinary business income subject to the 33 percent (now 32) regular corporate income tax. In the more recent BIR Ruling DA-187-2002 dated Oct. 16, 2002, Company XYZ, a domestic company was primarily engaged in sublicensing to third parties, the use of copyrights relating to Disney characters and materials in various promotion and merchandising activities. It also provides advertising, promotions and other services to sub-licensees to enhance the value of the licensed materials. It was licensed by Disney Enterprises, a US resident, to sublicense, support, promote and protect Disney characters and trademarks owned by the US Company. XYZ will NOT acquire any proprietary rights over the Disney characters except to distribute, support and use them in the Philippines. XYZ pays royalties to the US Company. XYZ sublicenses to third parties the right to use Disney trademarks and characters by entering into license agreements. These license agreements also grant clients the non-exclusive right to use Disney trademarks and characters in a number of merchandising activities. In addition, XYZ provides assistance in consumer awareness of the Walt Disney trademarks/characters through various marketing activities such as design support services, advertising, and customer promotions, among others. The BIR ruled that the royalties and other fees received by XYZ are in the nature of active income, arising from the active pursuit of its business expense, because its activities are in accordance with its primary purpose. As provided under its Articles of Incorporation, one of its primary purposes is the sublicensing of licensed materials to its Philippine clients and the performance of support services. Accordingly, the fees it receives are active income subject to 32-percent regular corporate income tax, instead of the 20 percent final income tax. BAR 2002 Question:

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The MBK-Phils. is a BOI-registered domestic corporation licensed by the MKB of the United Kingdom to distribute, support and use in the Philippines its computer software systems, including basic and related materials for banks. The MKB-Phils. provides consultancy and technical services incidental thereto by entering into licensing agreements with banks. Under such agreements, MKB-Phils. will NOT acquire any proprietary rights in the licensed systems. The MKB-Phils. pays royalty to the MKB-UK, net of 15% withholding tax prescribed by the RP-UK Tax Treaty. Is the income of the MKB-Phils. under the licensing agreement with banks considered royalty subject to 20% final withholding tax? Why? If not, what kind of tax will its income be subject to? Explain. (5%) UP SUGGESTED ANSWER: YES. The income of MKB-Phils. under the licensing agreement with banks shall be considered royalty subject to the 20% final withholding tax. The term royalty is broad enough to include technical advice, assistance or services rendered in connection with technical management or administration of any scientific, industrial or commercial undertaking, venture, project of scheme. (Sec. 42(4)(f), NIRC). Accordingly, the consultancy and technical services rendered by MKB-Phils, which are incidental to the distribution, support and use of the computer systems of MKB-UK are taxable as royalty!!!!! (kayo na bahala dito)  VIII. ESTATE TAXATION CIR vs. Josefina Pajonar, March 22, 2000, Gonzaga-Reyes, J. Question: X was a member of the Philippine Scout, Bataan Contingent who took part in the infamous death march, resulting into his insanity. His sister became the guardian of his person while his property was placed under guardianship of the bank. When X died, his sister became the administratrix of his estate. Among the deductions claimed in his gross estate are the attorney’s fees in the guardianship proceedings and notarial fee for the extrajudicial settlement. BIR denied deduction of the notarial fee as such amount of P60,753 is quite extraordinary for a mere notarial fee. In addition, BIR maintains that only judicial expenses of the testamentary proceedings are allowed as deduction to the gross estate. Are these two items deductible from gross estate? Answer: Yes. Judicial expenses are expenses of administration. Administration expenses, as allowable deductions, include all expenses essential to the collection of the assets, payment of debts or the distribution of the property to the persons entitled to it. The services for which the fees are charged must relate to the proper settlement of the estate. In this case, the guardianship proceeding was necessary for the distribution of the property of the deceased to his rightful heirs. In other words, the expenses must be essential to the proper settlement of the estate. Expenditures incurred for the individual benefit of the heirs, devisees or legatees are not deductible. (Co Untian)

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IX.

LOCAL TAXATION

Manila Electric Company vs. Barlis, May 18, 2001, De Leon, J. Question: The Municipal Treasurer sent notices of assessment and collection of real property taxes to Meralco after finding that the latter failed to make proper tax declaration of certain power plant machineries and equipment in the year 1976-1978. Thereafter, the Municipal Treasurer sent out warrants of garnishments to different banks where Meralco maintained deposits. Meralco without exhausting administrative remedies obtained an injunction before the trial court arguing that since it is no longer the owner of the property in question (now with NAPOCOR), it can obtain injunctive relief with the trial court even without the condition precedent protest payment as required under the Real Property Tax Code (now in the LGC). In effect, Meralco is saying that the trial court has jurisdiction as it is the issuance of the warrants of garnishment he is seeking to enjoin not the tax assessment. Is Meralco correct? Answer: No. The trial court has no jurisdiction to entertain a petition for prohibition absent Meralco’s payment under protest of the tax assessed pursuant to Sec. 64 of the RPTC (now in LGC). Such payment under protest is a condition sine qua non and failing to do so, the RTC has no jurisdiction to entertain it. The restriction upon the power of courts to impeach tax assessment without a prior payment, under protest, of the taxes is consistent with the doctrine that taxes are the lifeblood of the nation and as such their collection cannot be curtailed by injunction or any like action. There is also no merit on the contention that the trial court could take cognizance of the petition as it only questions the validity of the warrants of garnishment on the bank deposits and not the tax assessment. As the warrants were issued to collect back taxes from Meralco, the petition for prohibition would in effect forestall the collection of said back taxes. This, Meralco cannot do without first resorting to the proper administrative remedies OR pay under protest the tax assessed, to allow the court to assume jurisdiction over the petition. Question: Is Meralco’s argument correct in saying that since NAPOCOR is now the owner of the plant and machineries it is no longer the taxpayer liable? Answer: No. It is Meralco that misdeclared the property in question way back in 19761978. The fact that NAPOCOR is the present owner of the property does not constitute a legal barrier to the collection of delinquent taxes from the previous owner who defaulted in its payment. The unpaid tax attaches to the property and is chargeable against the person who had actual or beneficial use of it regardless of whether he is the owner. But to impose the real property tax on the subsequent owner which was neither the owner nor the beneficial of the

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property during the designated periods (1976-1978) would not only be contrary to law but also unjust. (den) Question: Meralco argues that real property tax constitutes a lien on the property subject to tax, thus, payment thereof should be made by proceeding against the real property itself (plant machineries and equipment) or any personal property located therein, and NOT the separate personal property of Meralco, specifically the bank deposits. Is Meralco correct? Answer: No. There are 3 concurrent and simultaneous remedies to enforce the collection of real property taxes, namely: (1) distraint of personal property (2) sale of delinquent real property, and (3) collection of real property tax through ordinary court action. The remedy of levy can be pursued by putting up for sale of REAL PROPERTY subject to tax, i.e., the delinquent property upon which the tax lien attaches, regardless of the present owner or possessor thereof. The remedy of distraint and levy of PERSONAL PROPERTY meanwhile allows the taxing authority to subject ANY personal property of the taxpayer to execution, save certain exceptions as enumerated under Sec. 69 of the Real Property Tax Code. Bank deposits are not among those exceptions. (den) Light Rail Transit Authority vs. Central Board of Assessment Appeals, Oct. 12, 2000 Question: The City Assessor of Manila assessed the properties of LRTA, a government owned and controlled corporation consisting of carriageways and passenger terminal stations. LRTA refused to pay the real property tax contending that these are not real property and if the same are considered realty, these are not taxable since these are for public use/purpose and moreover these are owned by the national government. Is LRTA’s carriageways and passenger terminal stations subject to real property tax? Answer: Yes. Under the Real Property Tax Code (now part of LGC), real property is classified for assessment purposes on the basis of actual use, which is defined as “the purpose for which the property is principally or predominantly utilized by the person in possession of the property. Though the creation of LRTA was impelled by public service – to provide mass transportation to alleviate traffic and transportation situation in MM – its operation undeniably partakes of ordinary business. Since it is engaged in a service-oriented commercial endeavor, its carriageways and terminal stations are patrimonial property subject to tax, notwithstanding its claim of being a government-owned or controlled corporation. The carriageways and terminal stations serve a function different from that of public roads. The former are part and parcel of the LRT system while the latter are open to use by the general public. The carriageways are accessible only to LRT trains, while the terminal stations have been built for the convenience of LRTA and its customers who pay the required fare.

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Even granting that the National Government indeed owns the carriageways and terminal stations, the exemption would not apply because their beneficial use has been granted to LRTA, a taxable entity. (den) Pimentel, Jr. vs. Aguirre, July 19, 2000, Panganiban, J. Question: Can the President reduce the internal revenue allotments (IRA) of Local Government Units? Answer: Yes. The President is authorized by the Local Government Code of 1991 to make the necessary adjustments or reductions in the IRA shares of Local Government Units, but this power or authority of the President must be in accordance with the following requirements: There exists an unmanageable public sector deficit on the part of the national government; It is upon the recommended of the Sec. of Finance, Sec. of Interior and Local Government and Secretary of Budget and Management; The President shall consult with the presiding officers of both Houses of Congress and the presidents of the liga; and In no case shall the allotment be less than 30% of the collection of national internal revenue taxes of the third fiscal year preceding the current year. (Revenue Report) Question:

May the national government withhold the IRA from the local government units?

Answer: No. The release of the shares in the internal revenue taxes of the LGU’s may not be withheld by the national government for whatever purpose, but should be automatically released to the respective LGU’s. First Philippine Industrial Corp. vs. CTA, December 29, 1998 Question: X Pipeline is a grantee of a pipeline concession to contract, install and operate oil pipelines. On Jan. 1995, when it applied for mayor’s permit, the local treasurer required X Pipeline to pay a local tax (LBT) on its gross receipts in 1993 stressing that it is engaged in the business of transporting petroleum via pipelines. X Pipeline contends that it is exempt from LBT pursuant to Sec. 133(j) of the LGC exempting from LBT transportation contractor. Is the contention correct? Answer: Yes. A common carrier may be defined broadly as one who holds himself out to the public as engaged in the business of transporting persons or property from place to place, for compensation, offering services to the public generally. Based on the definition of a common carrier under Article 1732 of the Civil Code, there is no doubt that X Pipeline is a common carrier engaged in the transportation of petroleum. It is therefore exempt from the payment of LBT.

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Figuerres vs. Court of Appeals, March 25, 1999, MENDOZA, J. Question: Can the presumption of validity of a tax ordinance be overcome by bare assertions of procedural defects on its enactment? Answer: No. The SC recognized the petitioner’s claim that public hearings are required to be conducted prior to the enactment of an ordinance imposing real property taxes. When there are conflicting claims between the taxpayer and the government regarding the observance of public hearings, but both were not able to present evidence to establish their respective allegations, the DOUBT shall be resolved in FAVOR of the government. The tax ordinance shall be presumed to be valid, hence their constitutionality or legality should be upheld in the absence of evidence showing that the procedure prescribed by law was not observed in their enactment. (Abella) Question: What are the remedies available to a real property owner who questions the validity of tax ordinance? Answer: The taxpayer files appeal to the Secretary of Justice, within 30 days from effectivity thereof. In case the Secretary decides the appeal, a period of 30 days is allowed for an aggrieved party to go to court. But if the Secretary does not act thereon, after the lapse of 60 days, the party could seek relief in court. These three separate periods are clearly given for compliance as a prerequisite before seeking redress in a competent court. Such statutory periods are set to prevent delays as well as enhance the orderly and speedy discharge of judicial functions. For this reason the courts construe these provisions of statutes as mandatory. (Reyes vs. CA, December 10, 1999) (Domondon) Question: When factual issues are involved, can the Secretary of Justice take cognizance of the case involving the constitutionality of tax ordinances? Answer: Yes, the Secretary of Justice can take cognizance of a case involving the constitutionality or legality of tax ordinances where there are factual issues involved. (Domondon) City Government of San Pablo, Laguna vs. Hon. Reyes, March 25, 1999, Gonzaga-Reyes, J. Question: Between a provision in the franchise of MERALCO that grants an exemption from local taxes and the express provision of the Local Government Code which withdrew all exemptions that are enjoyed previously but are now inconsistent to the taxes that are imposed under the LGC, which shall prevail?

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Answer: The LGC prevails over the exemption granted in MERALCO’s franchise because the former’s legislative intent is clear that prior exemptions enjoyed by taxpayers are expressly withdrawn by the enactment of the Code. (Co Untian) Question: Does the withdrawal of tax exemption privilege granted in a special franchise violate the non-impairment clause of the Constitution? Answer: No. Tax exemptions contained in special franchises are not strictly contractual in nature. Contractual tax exemptions, in the real sense and which is the proper subject of the nonimpairment clause, are those which are agreed upon by the taxing authority in contracts, such as those in government bonds and debentures wherein the state’s immunity from suit is waived. A franchise is in the nature of a grant so the non-impairment clause does not apply. (Co Untian) Another answer: The SC ruled that the franchise of Meralco containing the “in lieu of all taxes provision” making it exempt from any tax payment of any kind of tax, is no longer applicable upon the effectivity of the Local Government Code in view of the withdrawal of the tax exemption privileges as provided in Section 193 and 234 thereof. The explicit language embodied in the LGC which authorizes the province to impose franchise tax notwithstanding any exemption granted by any law or other special law is allencompassing and clear. The non-impairment clause of the Constitution cannot be invoked to uphold Meralco’s exemption from local tax because all franchises are subject to the right of Congress to amend, alter or repeal when the public interest so requires. (Abella) X.

TARIFF AND CUSTOMS TAXATION

Nestle Philippines vs. Court of Appeals, July 6, 2001, De Leon, J. Question: The CTA ruled in favor of Nestle that in its 16 importations, it overpaid advance sales tax. On the basis of this ruling, Nestle protested before the Collector of Customs of Manila alleging overpayment also of customs duties relative to the 16 importations. The Collector of Customs of Manila did not act on the timely protest of Nestle for nearly 6 years. Believing that Nestle was a case of solutio indebiti which shall prescribe in 6 years under Art. 1145 of the Civil Code, it filed an appeal with the CTA. Is the appeal proper? Answer: No. First, it is not a case of solutio indebiti. For it to apply, Nestle must first show that the customs duties it paid was in excess of what the law requires. In this case, there was no determination of overpayment yet because the collector has not decided on the protest. Nor is the exact amount determinable. Accordingly, once a written protest is seasonably filed with the Collector of Customs, that is 15 days from an adverse ruling, the failure or inaction of the latter to promptly perform his mandated duty under the Tariff and Customs Code to decide the protest should NOT be allowed to prejudice the right of the party adversely affected thereby. Meaning, that the period of prescription shall be interrupted during the whole time when the protest remains with the

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Collector. The period for filing an appeal to the Commissioner of Customs has not commenced to run. (den) Question:

How is protest before the Collector of Customs made?

Answer: Within 15 days from an adverse ruling or decision of the collector whereby liability for duties, taxes and fees or other charges (except the fixing of fines in seizure case) is set forth, the taxpayer adversely affected shall protest the ruling by (1) presenting to the Collector a written protest setting forth his objection to the ruling together with the reasons therefor and (2) pay the amount due and corresponding docket fee. (den) Commissioner of Customs vs. CTA, March 27, 2000, Mendoza, J: Question: Certain imported articles were given tax exemption based on the misrepresentation of X that he was connected with PAGCOR. Relying on a tip, the Collector of Customs seized the articles and, after hearing, ordered their forfeiture. The importer raised the defense that the forfeiture proceedings were barred by the one-year prescriptive period under Sec. 1603 of the Tariff and Customs Code. Is the one year period applicable to the case at bar? Explain. Answer: No. The one-year prescriptive period in forfeiture proceedings does not apply when there is fraud. X’s misrepresentation that he was connected with PAGCOR leading to the release of the imported articles without any taxes constituted fraud. The essence of fraud is the intentional and willful employment of deceit deliberately done or resorted to in order to induce another to give up some right. (Co Untian) Bureau of Customs vs. Nelson Ogario and Mark Montelibano (2000) Question: The forfeiture proceedings involved 25,000 bags of rice on board M/V Alberto that were seized by Customs Officials based on the report by the EIIB that the same had been smuggled into Palawan. The consignee and his buyer filed a complaint before the RTC for injunction and upon posting of a bond, the court ordered the release of the goods. Does the RTC have jurisdiction of the instant case? Answer: No. The RTC is devoid of any competence to pass upon the validity or regularity of seizure and forfeiture proceedings conducted by the Collector of Customs and to enjoin or otherwise interfere with the proceedings. The Collector of Customs sitting in seizure and forefeiture proceedings has exclusive jurisdiction to hear and determine all questions touching on the seizure and forfeiture of dutiable goods. The Tariff and Customs Code provides the proper remedy of aggrieved importers, that is, to appeal the actions of the Collector of Customs to the Commissioner of Customs whose decision, in turn, is subject to the exclusive appellate jurisdiction of the CTA and from there to the CA and SC. (Co Untian)

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Question: Do customs authorities need to secure search warrant from the court on articles on board a vessel suspected of being imported or intended to be shipped abroad before they exercise the power to effect customs searches and seizures? Answer: No. The customs authorities do not have to prove to the satisfaction of the court that the articles on board a vessel were imported from abroad or are intended to be shipped abroad before they may exercise the power to effect customs searches, seizures, or arrest provided by law and continue with the administrative hearings Transglobe International, Inc. vs. CA, January 25, 1999, Bellosillo, J. Question: Can redemption of seized articles by the Bureau of Customs be allowed if: The articles were declared as hand tools when as a matter of fact they were textile fabrics; All the 8 consignees were fictitious; and Customs rules specifically state that the shipment to fictitious consignees that is seized shall not be subject to redemption? Answer: Yes. The articles may be redeemed upon payment of their domestic market value since the articles are not among those which are absolutely prohibited under the Tariff and Customs Code. Redemption is not allowed only in any of the following cases: when there is fraud; when the importation is absolutely prohibited; OR when the release would be contrary to law. Fraud, as alleged by the Commissioner, must be actual and not merely constructive. It must be intentional and deliberate. Misdeclaration in the manifest and rider that the goods were hand tools and not textile fabrics cannot be imputed on the consignee who did not prepare them. If at all, the falsity of the documents can only be attributed to the foreign suppliers. (Co Untian) Another Answer: Redemption of forfeited property is unavailing in three (3) instances, namely (1) when there is fraud, (2) where the importation is absolutely prohibited OR (3) where the release of the property would be contrary to law. The SC stressed that any ruling against redemption based on fraud, the fraud contemplated by law must be actual and not constructive. It must be intentional, consisting of deception willfully and deliberately done or resorted to in order to induce another to give up some right. While the shipment was misdeclared in the rider and the manifest (it appearing that what was contained in shipment were textiles and not hand tools), the consignee is innocent of the facts therein stated as it had no hand in their preparation or issuance. Hence, the consignee should be allowed to redeem the articles forfeited upon payment of their domestic market value. (Abella) XI.

REMEDIES

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Bank of the Philippine Islands vs. CIR, August 28, 2001, Mendoza, J. Question: Family Bank merged with BPI on July 1, 1985. Prior to the merger, Family Bank had excess creditable withholding tax credits amounting to P174,065. BPI filed Family Bank’s final adjustment return on April 15, 1986. Thereafter, BPI filed a claim for refund of Family Bank’s excess tax credits with the BIR. Accordingly, BPI filed a petition for review seeking refund with the Court of Tax Appeals on December 29, 1987. The CTA dismissed the petition and denied the claim on the ground of prescription. BPI argued that the two-year period should be counted from April 15, 1986. CTA ruled that the two-year period commenced to run July 31, 1985 or 30 days after the approval of the SEC of the plan of dissolution. Decide. Answer: The two-year period has prescribed. The two-year period must be counted from July 31, 1985 or 30 days after the approval of the SEC of the plan of dissolution pursuant to Sec. 78 (now 52 (C)) of the Tax Code and Sec. 244 of Revenue Regulations 2 (the consolidated income tax regulations). Sec. 78 (and Sec. 244 of RR 2) provides that within 30 days after the adoption by the corporation of a resolution or plan for dissolution of the corporation or for the liquidation of the whole or any part of its capital stock xxx render a correct return (short return) to the CIR setting forth terms of such resolution or plan. Thus, Family Bank, after the end of its corporate life on June 30, 1985, should have filed its income tax return (called short return) within thirty (30) days after the cessation of its business or thirty days after the approval of the Articles of Merger, which is July 31, 1985. The two-year period therefore shall end on July 31, 1987. (den) Protector’s Services, Inc. vs. CIR (2000) Question: On December 10, 1987, taxpayer received CIR’s assessment notices covering the taxable years 1983 and 1984. On January 12, 1988, it protested the said assessments and requested for a reinvestigation. Is the protest filed on time? Answer: No. The taxpayer may no longer dispute the correctness of the assessments. It only has thirty (30) days from receipt thereof within which to protest an assessment. From December 10, 1987 to January 12, 1988, thirty-three (33) days have already lapsed. (Co Untian) Question: Does the act of the taxpayer in filing a petition before the CTA to prevent the collection of the assessed deficiency tax and in elevating the case to the SC for review suspend the running of the Statute of Limitation? Answer: Yes. The running of the prescriptive period to collect deficiency taxes shall be suspended for the period during which the CIR is prohibited from beginning a distraint and levy or instituting a proceeding in court, and for sixty (60) days thereafter.

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To assert that the pendency of the appeal did not stop the running of the period because the CTA did not have jurisdiction over the case would encourage taxpayers to delay the payment of taxes in the hope of ultimately avoiding the same. (Co Untian) CIR vs. BPI and CA, Jan. 21, 1999, Mendoza, J. Question: On April 2, 1986, Paramount filed its corporate annual income tax return for the calendar year ending December 31, 1985. All in all, Paramount paid the total amount of P1,218,940 thereby showing a refundable amount of P65,259. On April 14, 1988, BPI, as liquidator of Paramount, filed with the CTA a letter dated April 12, 1988 reiterating its claim for the refund of P65,259 as overpaid income for the calendar year 1985. On April 15, 1988, the Paramount representative, filed with the CTA a petition to toll the running of the prescriptive period for filing a claim for refund of overpaid income taxes. The CTA ruled that the two-year prescriptive period commenced to run April 15, 1986, the last day for filing the corporate income tax return and granted the refund. Was the grant of the refund proper? Answer: No. The two-year prescriptive period for actions for refund of corporate income tax should be computed from the time of actual filing of the Final Adjustment Return or Annual Income Tax Return. The reason being, that at that point, it can already be determined whether there has been an overpayment made by the taxpayer. Moreover, payment is made at the time the return is filed. Since Paramount filed its corporate annual income tax return on April 2, 1986, it had only two-years from the date within which to file its written claim for refund. When it filed a written claim for refund on April 14, 1988, and a petition for refund only on April 15, 1988, both claim and action for refund were thus barred by prescription. (Domondon) Another answer:

No. The refund was not proper.

The SC ruled that the context of Section 230 of the NIRC, which provides for a two-year period of prescription counted from the date of payment of the tax for action for refund of Corporate Income Tax, the said period should be counted from the time of ACTUAL filing of the Adjustment Return or Annual Income Tax Return. This is in consonance with the pay-as-you file system mandated under Section 49 (now 56) where at the point of filing it can already be determined whether there has been an overpayment by the taxpayer. (Abella) Philippine Bank of Communications vs. CIR, Jan. 28, 1999 Question: Can the CIR issue a Revenue Memorandum Circular (RMC 7-85) that changes the prescriptive period of filing claims for refund of tax credit from two (2) years as provided in the Tax Code into ten (10) years? Answer: No. The courts will not countenance administrative issuances that would override, instead of being consistent and in harmony with, the law they seek to apply and

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implement. In making the change, the CIR did not simply interest the law; rather, it legislated guidelines contrary to the statute passed by Congress. (Co Untian) Question: By the aforementioned change in the prescriptive period, is the CIR estopped from denying the claim for refund made by the taxpayer who relied on the its RMC? Answer: No. Estoppel does not lie. Not only because the government is not estopped by the errors of its agents but also because in the instant case, it was the CTA, not the CIR, who denied the claim for refund, and correctly so. (Co Untian) Another answer: No. Such circular changing the prescriptive period of 2 years as provided under Section 230 of the NIRC to 10 years is a clear inconsistency in the interpretation of the law for it legislated guidelines contrary to the statute passed by Congress. Being so, reliance thereto cannot be granted to allow a claim for tax refund if filed beyond the 2-year prescriptive period provided by law. Such administrative rulings issued by heads of executive offices of government although given respect in the courts may, nevertheless, be ignored if found judicially erroneous. The state cannot be put in estoppel by the mistakes and errors of its officials. (Abella) CIR vs. Carnation Philippines and CA, Feb. 25, 1999, Purisima, J. Question: X Corporation filed its income tax returns in January 1995 for its income for the year 1994. In Oct. 1997, March 1998 and May 1998, X Corporation through its authorized representative signed three (3) separate waivers of “statute of limitations under the NIRC.” The waivers were not signed by the BIR Commissioner or his agents. In 1999 (4 years after April 15, 1995), the BIR issued letters of demand, accompanied by assessment notices asking the corporation to pay the deficiency internal revenue taxes for its income for the year 1994. “X” disputed the assessment and requested a reinvestigation. The BIR Commissioner denied the protest. “X” appealed to the CTA, on the ground of prescription. Decide. Answer: The BIR’s authority to assess already prescribed. The three (3) waivers did not suspend the running of the prescriptive period. The only agreement that could suspend the running of the prescriptive period for the collection of the tax in question is a written agreement between X Corporation and the BIR entered into before the expiration of the three (3) year prescriptive period, extending the said period. Since, what is required is the signatures of both the Commissioner and the taxpayer, a unilateral waiver on the part of the taxpayer does not suspend the prescriptive period. (Domondon) Another Answer: The binding effect of a waiver executed by the taxpayer can only be had if the CIR accepted the same. The SC declared these waivers to be invalid and without any binding

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effect if there is not consent given by the CIR. This is so because the law speaks of an agreement in writing as the one which can suspend the running of the prescriptive period.(Abella) Philex Mining Corporation vs. CIR, April 21, 1999, Quisumbing, J. Question:

Should interest be paid where a tax is refunded by the Government to a taxpayer?

Answer: The rule is that no interest on refund of tax can be awarded unless authorized by law or the collection of the tax was attended by arbitrariness. An action is not arbitrary when exercised honestly and upon due consideration where there is room for two opinions, however much it may be believed that an erroneous conclusion was reached. Arbitrariness presupposes inexcusable or obstinate disregard of legal provisions. (Domondon) Commissioner of Internal Revenue vs. Pascor Realty and Development Corp. June 29, 1999, Panganiban, J. Question: What constitutes an assessment? Is an assessment needed before the filing of a tax fraud case against a taxpayer? Answer: An assessment is a formal notice to the taxpayer stating that the amount thereon is due as a tax and containing a demand for the payment thereof. An assessment contains not only a computation of tax liabilities, but also demand for payment within the prescribed period. An affidavit which was executed by revenue officers stating the tax liabilities of a taxpayer and attached to a criminal complaint for tax evasion, can not be deemed an assessment that can be questioned before the CTA. In a tax evasion case, the issuance of an assessment, is not a condition precedent before a criminal charge can be filed. (Abella) CIR vs. Court of Appeals (Fortune Tobacco Case) June 4, 1996 Question: Under the facts in this peculiar case, is an assessment a prior condition before a criminal case for tax evasion can be filed against the officers of Fortune Tobacco? Answer: Yes. There can be no criminal charges without first determining what is the correct taxes due from Fortune. This is because Fortune submitted documents (daily manufacturer’s sworn statements) containing the registered wholesale prices of the goods, and these documents were approved by the BIR. The registered wholesale price of the goods, approved by the BIR is presumed to be the actual wholesale price, therefore, not fraudulent and unless and until the BIR has made a final determination of what is supposed to be the correct taxes, the taxpayer should not be placed in the crucible of criminal prosecution.

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Ungab vs. Cusi, 97 SCRA (1980) Question: Is precise computation of the tax due (assessment) a prior condition before any criminal prosecution may be commenced against a taxpayer? Answer: No. A criminal prosecution for violations of the NIRC is within the cognizance of the RTC. While there can be no civil action to enforce collection before the assessment procedures are followed, there is no requirement for the precise computation of the tax before there can be a criminal prosecution under the code. The crime is complete when the violator has knowingly and willfully filed fraudulent returns with the intent to evade part of the tax. It is grounded upon the taxpayers knowledge that he has made an inaccurate return, and the State’s failure to discover such and promptly to assess is of no relevance. (UP Tax II Reviewer by A-99) Republic of the Philippines vs. Salud Hizon, December 13, 1999 MENDOZA, J. Question: Can the power of the Commissioner to approve the filing of civil and criminal actions be delegated? Answer: Yes. The SC ruled that this power can be validly delegated. The highest tribunal has validly recognized Revenue Administrative Order No. 10-95 specifically delegating the power to the Regional Director and therefore, any complaint verified by the said Revenue Official is in compliance with the law. This rule became more manifest with the passage of the Tax Code of 1997 wherein the non-delegable powers are clearly enumerated. Under Section 7 thereof, such is not among the non-delegable powers. CIR vs. Ateneo de Manila University (1997) Question: Is it proper for the CIR to apply the principle on tax exemption (that exemptions are strictly construed against the taxpayer) before resolving whether or not the tax statute applies to the taxpayer? Answer: No. It is error for the CIR to do so. In accordance with the “hornbook doctrine” in the interpretation of tax laws, a statute will not be construed as imposing a tax unless it does so clearly, expressly and unambiguously. Only when this is done can a tax exemption be construed strictly against the taxpayer. (Co Untian)

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