Professional Documents
Culture Documents
General Rule: The amount of taxable fringe benefit and the fringe benefit tax shall constitute allowable deductions from gross income of the employer
14
TAXATION I (Income Tax) Finals reviewer
Prof. C. C. Laforteza
1 Semester A.Y. 2011-2012
st
Deductions are items or amounts which the law allows to be deducted from the gross income of a taxpayer in order to arrive at taxable income
*A taxpayer has the right to deduct all authorized allowances for the taxable year.
Pensions and compensations for injuries when the amount of the salary is paid for a limited period after his death to his heirs, in recognition of services
rendered
3. Traveling/Transportation expenses
RR 3-98.
Travel expenses in general include transportation expenses and meals and lodging, here and/or abroad of an EE paid for by the ER
REQUISITES:
(1) Must be reasonable and necessary
(2) Must be incurred or paid while away from home home=tax home=principal place of business
(3) Must be paid or incurred in the conduct of trade or business
PROOF OF DEDUCTIBILITY statement attached in return showing
(1) Nature of business engaged in
(2) Number of days away from home during the taxable year
(3) Total amount of travel expenses incident to business
4. Cost of materials
RR-2, 67. Cost of materials. Taxpayers carrying materials and supplies on hand should include in expenses the charges for materials and
supplies only to the amount that they are actually consumed and used in operation during the year for which the return is made, provided that the
cost of such materials and supplies has not been deducted in determining the net income for any previous year. If a taxpayer carries incidental
materials or supplies on hand for which no record of consumption is kept or of which physical inventories at the beginning and end of the year are
not taken, it will be permissible for the taxpayer to include in his expenses and deduct from gross income the total cost of such supplies and
materials as were purchased during the year for which the return is made, provided the net income is clearly reflected by this method.
2 methods:
(1) Actual consumption computed by the inventory method [beginning inventory; add:purchases; less ending inventory=materials and supplies used]
(2) Total purchases all purchases
5. Repairs
RR-2, 68. Repairs. The cost of incidental repairs which neither materially add to the value of the property nor appreciably prolong its life, but
keep it in an ordinarily efficient operating condition, may be deducted as expense, provided the plant or property account is not increased by the
amount of such expenditure. Repairs in the nature of replacement, to the extent that they arrest deterioration and appreciably prolong the life of
the property should be charged against the depreciation reserves if such account is kept.
DEDUCTIBLE WHEN such repairs are incidental or ordinary, i.e. made to keep the property used in the business of the taxpayer in an ordinarily efficient
operating condition
*They do not materially add to the value of the property nor appreciably prolong its life
*Repairs in the nature of replacement to the extent that they arrest deterioration and prolong the life are capital expenditures and should be debited against
the corresponding allowances for depreciation
6. Expenses under lease agreements
RR-2, 74. Rentals. Where a leasehold is acquired for business purposes for a specified sum, the purchaser may take as a deduction in his return
an aliquot part of such sum each year, based on the number of years the lease has to run. Taxes paid by a tenant to or for a landlord for business
property are additional rent and constitute a deductible item to the tenant and taxable income to the landlord, the amount of the tax being
deductible by the latter. The cost borne by a lessee in erecting buildings or making permanent improvements on ground of which he is lessee is held
to be a capital investment and not deductible as a business expense. In order to return to such taxpayer his investment of capital, an annual
deduction may be made from gross income of an amount equal to the cost of such improvements divided by the number of years remaining of the
term of lease, and such deduction shall be in lieu of a deduction for depreciation. If the remainder of the term of lease is greater than the probable
life of the buildings erected, or of the improvements made, this deduction shall take the form of an allowance for depreciation.
Generally deductible only if the payment is made for the use of the property be the lessee for its trade or business
(1) Leasehold acquired for a certain sum e.g. 720K for 5 years = aliquot part each year
(2) Taxes paid be the lessee considered as additional rent rent for the year + realty tax
(3) Repairs and improvements made by the lessee capital investment, NOT deductible as business expense
31
TAXATION I (Income Tax) Finals reviewer
Prof. C. C. Laforteza
1 Semester A.Y. 2011-2012
st
(a) Representation expenses incurred by taxpayer in connection with the conduct of his trade, business or exercise of profession, in entertaining, providing
amusement and recreation to, or meeting with, a guest or guests at a dining place, place of amusement, country club, theater, concert, play, sporting
event, and other similar events or places
(b) Entertainment facilities (1) yacht/vacation home/condominium; (2) any similar item of real or personal property used by the taxpayer primarily for
the entertainment, amusement or recreation of guests or employees
(c) Exclusions expenses treated as compensation/fringe benefit; expenses for charitable/fund raising events; expenses for attending/sponsoring to a
business league or professional organization meeting expenses for event organized for promotion, marketing and advertising
Maximum percentage ceiling: in no case shall such deduction exceed 50% of the net sales (i.e. Gross sale less gross returns/allowances and sales discount) if
TP engaged in sale of goods or properties; or 100% of net revenue (i.e. gross revenue less discounts) for TP engaged in sale of services
10. Expenses of private educational institutions
Alhambra Cigar v. CIR.
Expenses for police protection is illegal
Calanoc v. CIR. We have examined the records of the case and we agree with the lower court that most of the items of expenditures contained in
the statement submitted to the agent are either exorbitant or not supported by receipts. We agree with the tax court that the payment of P461.65
for police protection is illegal as it is a consideration given by the petitioner to the police for the performance by the latter of the functions required
of them to be rendered by law. The expenditures of P460.00 for gifts, P1,880.05 for parties and other items for representation are rather excessive,
considering that the purpose of the exhibition was for a charitable cause.
11. Constructive dividends
RR-2, 70. Compensation for personal services. Among the ordinary and necessary expenses paid or incurred in carrying on any trade or business
may be included a reasonable allowance for salaries or other compensation for personal services actually rendered. The test of deductibility in the
32
TAXATION I (Income Tax) Finals reviewer
Prof. C. C. Laforteza
1 Semester A.Y. 2011-2012
st
Tax credits for foreign taxes are allowed only for income derived from sources outside the Philippines
Limitations on tax credit: Tax credit to be taken is the lower amount between amount actually paid and the computed tax credit
1. For taxes paid to one foreign country
34
TAXATION I (Income Tax) Finals reviewer
Prof. C. C. Laforteza
1 Semester A.Y. 2011-2012
st
O. Losses implies an unintentional parting with something of value; it is used in the income tax law in a very broad sense to comprehend all losses which
are not general or natural to the ordinary course of business and are not covered under some other heading such as bad debts, inventory losses,
depreciation, etc.
RR-2, 93. Losses by individuals. Losses sustained by individuals during the year not compensated for by insurance or otherwise are fully deductible
(except by non-resident aliens)
(a) If incurred in a taxpayer's trade; or
(b) If incurred in any transaction entered into for profits; or
(c) Of property not connected with the trade or business if arising from fires, storm, shipwreck, or other casualty, or from robbery, theft or
embezzlement. No loss shall, however, be allowed as a deduction if at the time of filing of the return, such loss has been claimed as deduction for
estate or inheritance tax purposes in the estate or inheritance tax return.
RR-2, 94. Losses by corporations. Domestic corporations may deduct losses actually sustained and charged off within the year and not compensated
for by insurance or otherwise.
RR-2,95. Losses by non-resident alien and foreign corporation. Non-resident aliens and foreign corporations are allowed only losses sustained in
business or trade conducted within the Philippines, losses of property within the Philippines arising from fires, storms, shipwreck, or other casualty and
from robbery, theft, or embezzlement, and losses actually sustained in transactions entered into for profit in the Philippines, although not connected with
their trade or business, not compensated by insurance or otherwise.
RR-2,96. Losses generally. Losses must usually be evidenced by closed and completed transactions. Proper adjustment must be made in each case for
expenditures or items of loss properly chargeable to capital account, and for depreciation, obsolescence, amortization, or depletion. Moreover, the
amount of the loss must be reduced by the amount of any insurance or other compensation received, and by the salvage value, if any, of the property. A
loss on the sale of residential property is not deductible unless the property was purchased or constructed by the taxpayer with a view to its subsequent
sale for pecuniary profit. No loss is sustained by the transfer of property by gift or death. Losses sustained in illegal transactions are not deductible.
RR-2,97. Voluntary removal of buildings. Loss due to the voluntary removal or demolition of old buildings, the scrapping of old machinery,
equipment, etc., incident to renewals and replacements will be deductible from gross income. When a taxpayer buys real estate upon which is located a
building, which he proceeds to raze with a view to erecting thereon another building, it will be considered that the taxpayer has sustained no deductible
expense on account of the cost of such removal, the value of the real estate, exclusive of old improvements, being presumably equal to the purchase price
of the land and building plus the cost of removing the useless building.
RR-2,98. Loss of useful value. When through some change in business conditions, the usefulness in the business of some or all of the capital assets is
suddenly terminated, so that the taxpayer discontinues the business or discards such assets permanently from use of such business, he may claim as
deduction the actual loss sustained. In determinating the amount of the loss, adjustment must be made, however, for improvements, depreciation and
the salvage value of the property. This exception to the rule requiring a sale or other disposition of property in order to establish a loss requires proof of
some unforeseen cause by reason of which the property has been prematurely discarded, as, for example, where an increase in the cost or change in the
manufacture of any product makes it necessary to abandon such manufacture, to which special machinery is exclusively devoted, or where new
legislation directly or indirectly makes the continued profitable use of the property impossible. This exception does not extend to a case where the useful
life of property terminates solely as a result of those gradual processes for which depreciation allowance are authorized. It does not apply to inventories
or to other than capital assets. The exception applies to buildings only when they are permanently abandoned or permanently devoted to a radically
different use, and to machinery only when its use as such is permanently abandoned. Any loss to be deductible under this exception must be charged off
in the books and fully explained in returns of income.
RR-2,99. Shrinkage in value of stocks. A person possessing stock of a corporation can not deduct from gross income any amount claimed as a loss
merely on account of shrinkage in value of such stock through fluctuation of the market or otherwise. The loss allowable in such case is that actually
suffered when the stock is disposed of. If stock of a corporation becomes worthless, its cost or other basis determined in accordance with these
regulations may be deducted by the owner in the taxable year in which the stock became worthless, provided a satisfactory showing of its worthlessness
be made, as in the case of bad debts.
RR-2,100. Losses of farmers. Losses incurred in the operation of farms as business enterprises are deductible from gross income. If farm products are
held for favorable markets, no deduction on account of shrinkage in weight or physical value or by deterioration in storage shall be allowed, except as
such shrinkage may be reflected in an inventory if used to determine profits. The total loss by storm, flood, or fire of a prospective crop is not a
deductible loss in computing net income. A farmer engaged in raising and selling stock, cattle, sheep, horses, etc., is not entitled to claim as a loss the
value of animals that perish from among those animals that were raised on the farm, except as such loss is reflected in an inventory if used. If livestock
has been purchased after March 1, 1913, for any purpose, and afterwards dies from disease, exposure, or injury, or is killed by order of the authorities,
the actual purchase price of such stock, less any depreciation allowable as a deduction in computing net income, with respect to such perished, livestock,
and also any insurance or indemnity recovered, may be deducted as a loss. The actual cost of other property (with proper adjustment for depreciation),
which is destroyed by order of the authorities, may in like manner be claimed as a loss; but if reimbursement is made in whole or in part on account of
stock killed or property destroyed, the amount received shall be reported as income for the year in which reimbursement is made. The cost of any feed,
pasturage, or care which has been deducted as an expense of operation shall not be included as part of the cost of the stock for the purpose of
ascertaining the amount of a deductible loss. If gross income is ascertained by inventories, no deduction can be made for livestock or products lost
during the year, whether purchased for resale, produced on the farm, as such losses will be reflected in the inventory by reducing the amount of livestock
35
TAXATION I (Income Tax) Finals reviewer
Prof. C. C. Laforteza
1 Semester A.Y. 2011-2012
st
Classification of losses:
(1) Ordinary losses
(a) Losses incurred in trade/business/profession
(b) Losses incurred of property connected with T/B/P if due to casualty or from robbery, theft or embezzlement
(2) Capital losses
(a) Losses from sales or exchanges of capital assets
(b) Losses resulting from securities becoming worthless, and which are capital assets
(c) Losses from short sales of property
(d) Losses due to failure to exercise privileges or options to buy or sell property
(3) Special kinds of losses
(a) Losses from wash sales of stock or securities
(b) Losses due to voluntary removal of buildings, machinery, etc. incident to renewal or replacement
(c) Losses of the useful value of capital assets due to some change in business conditions
(d) Abandonment losses in petroleum operations
REQUISITES:
(a) The loss must be that of the taxpayer
(b) It must be actually sustained and charged off within the taxable year
(c) It must have been incurred in the trade/business/profession
(d) Must be evidenced by a closed and completed transaction
(e) Must not be compensated for by insurance or other form of indemnity
(f) In case of casualty loss, a sworn declaration of the loss must be filed within 45 days after the date of the occurrence of casualty or
robbery/theft/embezzlement
(g) Taxpayer must prove elements of the loss claimed, such as the actual nature and occurrence of the event and the amount of the loss
1. Kinds of taxpayers and their losses
2. Completed transactions
There should be an identifiable event which justifies the loss
Determination of amount deductible: GR the amount of casualty
=
o But shall not exceed an amount equal to the cost or other adjusted basis of the property, or depreciated cost in the case of property
used in business, reduced by any insurance or other compensation received
Fernandez Hermanos v. CIR.
Quick Facts: Fernandez Hermanos Inc. is a domestic corporation organized for the principal purpose of engaging in business as an investment
company. The CIR disallowed the following deductions:
1. losses in Mati Lumber Co in 1950
2. losses or bad debts in Palawan Manganese Mines Inc in 1951
3. losses in Balamban Coal Mines in 1950 and 1951
4. losses in Hacienda Dalupiri and Hacienda Samal from 1950-1954
Held: The Supreme Court discussed the allowance or disallowance of each in the following manner:
1. Allowed. These losses represent the shares of stock (worth P8,050) petitioner acquired from Mati in Jan. 1, 1948. The petitioner was
correct in writing off and claiming as a deduction in 1950 the amount on the ground that the lumber company had ceased operations and
became insolvent in that year. The CIR was incorrect in arguing that since the company still owned a sawmill and some equipment, the
shares of stock still had value. The proper assessment would be to treat as income for the year in which petitioner gets the proceeds from
the liquidation of those assets.
2. Disallowed. These losses represent part of the loans extended by the petitioner to its 100% owned subsidiary. Petitioner advanced
financial assistance to Palawan from 1945 to 1952. By way of payment, Palawan was to give petitioner 15% of net profits. Whether
Palawan was able to pay the loans or not because it continued to operate at a loss is immaterial. Petitioner cannot properly claim as a loss
the advances given to Palawan in 1951 for that year. There can be no partial writing off as a loss or bad debt under the Tax Code. Those
losses or bad debts ascertained within the taxable year are deductible in full or not at all. Petitioner continued to give Palawan advances
even beyond 1951. It was only in 1956 when Palawan decided to cease operations.
3. Disallowed. These losses represent sums spent by the petitioner for the operation of its Balamban coal mines in 1950 and 1951. The
petitioner should have treated them as losses in 1952 when the mines were abandoned and not in 1950 and 1951 on the ground that the
mines made no sales of coal during those years.
4. Allowed. These losses represent sums spent by petitioner for the operation of the 2 haciendas. The amounts were properly reported as
deductions for the correct years. The only reason why the CIR disallowed them was on the ground that the farms were operated solely
for pleasure or as a hobby and not for profit. But the Supreme Court is not convinced, and being for business, the petitioner may properly
deduct the same.
36
TAXATION I (Income Tax) Finals reviewer
Prof. C. C. Laforteza
1 Semester A.Y. 2011-2012
st
SECTION 134-A. Capital loss carry-over-Illustration. A, an individual has the following incomes and losses:
1946 Net income from business 1,000
Dividends received 750
Interest earned 500
Capital gains on capital assets held for 8 months 5,000
43
TAXATION I (Income Tax) Finals reviewer
Prof. C. C. Laforteza
1 Semester A.Y. 2011-2012
st
RR-2, 136. Basis for determining gain or loss from sale of property. For the purpose of ascertaining the gain or loss from the sale or exchange of
property, the basis is the cost of such property, or in the case of property which should be included in the inventory, its latest inventory value. But
in the case of property acquired before March 1, 1913, when its fair market value as of that date is in excess of its cost, the gain to be included in
gross income is the excess of the amount realized therefor over such fair market value. (See illustration I, Section 137 of these regulations). Also in
the case of property acquired before March 1, 1913, when its fair market value as of that date is lower than its cost the deductible loss is the excess
of such fair market value over the amount realized therefor. (See Illustration II, Id.). No gain or loss is recognized in the case of property sold or
exchanged (a) at more than cost but less than its fair market value as of March 1, 1913 (See Illustration III, Id.), or (b) at less than cost but at more
than its fair market value as of March 1, 1913. (See Illustration IV, Id., Id., Id.) In any case proper adjustment must be made in computing gain or loss
from the exchange or sale of property for any depreciation or depletion sustained and allowable as deduction in computing net income; the amount
of depreciation previously charged off by the taxpayer shall be deemed to be true depreciation sustained unless shown by clear and convincing
evidence to be incorrect. What the fair market value of property was as of March 1, 1913, is a question of fact to be established by evidence which
will reasonably and adequately make it appear. The nature and extent of the sales and the circumstances under which they were made should be
considered. Prices received at forced sales or for small lots of property may be and often are no real indication of the value of the amount of
property in question. For instance, sales from time to time of a small number of shares of stock is little indication of the value of a large or
controlling interest in the corporation. If the taxpayer can not determine the cost of securities purchased prior to March 1, 1913, because of the loss,
destruction, or failure to keep records, the value of the securities at the date of approximate date of acquisition may be used in determining the cost
basis for purposes of computing the gain or loss from the sale of the securities. When the date or approximate date of acquisition is unknown, no
general rule can be stated for determining the cost value of such securities. Each case must be considered separately upon its own facts.
RR-2, 137. Illustrations of the computation of gain or loss from the sale or exchange of property acquired prior to March 1, 1913. To avoid
complexity no adjustment has been made in these examples for depreciation or depletion.
In the case of property acquired before March 1, 1913, when its fair market value as of that date is in excess of its cost, the taxable gain is the
excess of the amount realized therefor over such fair market value.
ILLUSTRATION I
Fair Market
Cost Value Sale Price Taxable gain
Mar. 1, 1913
P20,000 P30,000 P40,000 P10,000
Excess of amount realized over fair
market value as of March 1, 1913.
Gain attributed to the period prior
to March 1, 1913 not taxable.
In the case of property acquired before March 1, 1913, when its fair market value as of that date is lower than its cost, the deductible loss is the
excess of such fair market value over the amount realized therefor.
ILLUSTRATION II
Fair Market
Cost Value Sale Price Taxable gain
Mar. 1, 1913
P20,000 P10,000 P6,000 P4,000
Excess of fair market value over
amount realized. Loss attributable to
the period prior to March 1, 1913, not
deductible.
No gain or loss is recognized in the case of property acquired before March 1, 1913, and sold or disposed of at more than cost but at less than
its fair market value as of that date.
ILLUSTRATION III
Fair Market
46
TAXATION I (Income Tax) Finals reviewer
Prof. C. C. Laforteza
1 Semester A.Y. 2011-2012
st
ILLUSTRATION IV
Fair Market
Cost Value Sale Price Taxable gain
Mar. 1, 1913
P20,000 P6,000 P10,000 No taxable gain or deductible loss.
Reason: A loss on whole transaction,
which loss is attributable to period
prior to March 1, 1913.
Where the cost is equal to or greater than the fair market value as of March 1, 1913, and the selling price exceeds the cost, the gain to be included in gross
income is the excess of the selling price over the cost.
ILLUSTRATION V
Fair Market
Cost Value Sale Price Taxable gain
Mar. 1, 1913
P20,000 P10,000 P40,000 P20,000
Reason: Gain on whole transaction,
all of which is attributable to period
subsequent to March 1, 1913.
Where the fair market value as of March 1, 1913, is equal to or greater than the cost and the selling price is less than the cost, the deductible loss is the amount
by which the cost exceeds the selling price.
ILLUSTRATION VI
Fair Market
Cost Value Sale Price Taxable gain
Mar. 1, 1913
P20,000 P30,000 P10,000 P10,000
Reason: Loss on whole transaction, all
of which is attributable to period
subsequent to March 1, 1913. Only
actual loss sustained deductible.
RR-2, 138. Sale of property acquired by gift. In computing the gain or loss from the sale or other disposition of property acquired by gift, the
basis shall be the selling price and the fair market value of the property at the time the gift was made, or its fair market value as of March 1, 1913, if
acquired prior thereto, determined in accordance with the next two preceding sections. In the case of gifts made on or after July 1, 1939, the value
taken as a basis for gift tax purposes shall be considered as the fair market value in computing gain or loss from the sale or other disposition of the
property.
RR-2, 139. Sale of property acquired by devise, bequests, or inheritance. In computing the gain or loss from the sale or other disposition of
property acquired by devise, bequest, or inheritance, the basis shall be the fair market price or value of such property at the time of the death of the
decedent. The term "property acquired by bequest, devise, or inheritance" as used herein includes (a) such property interests as the taxpayer has
received as the result of a transfer, or creation of a trust, in contemplation of or intended to take effect in possession or enjoyment at or after death,
and (b) such property interest as the taxpayer has received as the result of the exercise by a person of a general power of appointment (1) by will,
or (2) by deed executed in contemplation of or intended to take effect in possession or enjoyment at or after death. In the case of property acquired
by gift, bequest, devise, or inheritance, prior to March 1, 1913, the taxable gain or deductible loss from the sale or other disposition thereof shall be
computed in accordance with sections 136 and 137 of these regulations. In the case of property acquired by bequest, devise or inheritance, its value
as appraised for the purpose of the inheritance tax shall be deemed to be its fair market value when acquired.
RR-2, 140. Exchange of property. Gain or loss arising from the acquisition and subsequent disposition of property is realized only when as the
result of a transaction between the owner and another person the property is converted into other property (a) that is essentially different from the
property disposed of, and (b) that has a market value. The requirement that the property received in exchange must be "essentially different from
the property disposed of" implies that there must be a change in substance and not merely a change in form. By way of illustration, if a taxpayer
owning ten shares of stock exchanges his stock certificate for a voting trust certificate, no income is realized. The term "market value" means the
fair value of the property in money as between one who wishes to purchase and one who wishes to sell. It is not, however, what can be obtained for
the property when the owner is under peculiar compulsion to sell or the purchaser to buy; nor is it a purely speculative value which an owner could
not reasonably expect to obtain for the property although he might possibly be fortunate enough to do so. "Market value" is the price at which a
seller willing to sell at a fair price and a buyer willing to buy at a fair price, both having reasonable knowledge of the facts, will trade. Evidence as to
the assets and liabilities of a corporation and as to its earnings may furnish definite indications of the market value of its stock.
RR-2, 141. Determination of gain or loss from the exchange of property. The amount of income derived or loss sustained from an exchange of
property is the difference between the market value at the time of the exchange of the property received in exchange and the original cost, or other
basis, of the property exchange. If the property exchanged was acquired prior to March 1, 1913, see Sections 136 and 137 of these regulations.
47
TAXATION I (Income Tax) Finals reviewer
Prof. C. C. Laforteza
1 Semester A.Y. 2011-2012
st
EXAMPLE (1): A purchased a share of common stock of the X Corporation for P100 in 1936, which he sold January 15, 1940, for P80.00. On
February 1, 1940, he purchased a share of common stock of the same corporation for P90.00. No loss from the sale is recognized under Section 33
of the Code. The basis of the new share is P110; that is, the basis of the old share (P100) increased by P10, excess of the price at which the new
share was acquired (P90) over the price at which the old share was sold (P80).
EXAMPLE (2): A purchased a share of common stock of the X corporation for P100 in 1936, which he sold January 15, 1940, for P80. On January 1,
1940, he purchased a share of common stock of the same corporation for P70. No loss from the sale is recognized under Section 33 of the Code. The
basis of the new share is P90; that is, the basis of the old share (P100) decreased by P10, the excess of the price at which the old share was sold
(P80) over the price at which the new share was acquired (P70). (See Section 131 of these regulations).
1. Computation of gain or loss
CIR v. Aquafresh Seafood. It is undisputed that at the time of the sale of the subject properties, the same were classified as RR, or
residential, based on the 1995 Revised Zonal Value of Real Properties. Petitioner CIR, thus, cannot unilaterally change the zonal valuation of
such properties to commercial without first conducting a re-evaluation of the zonal values as mandated under Section 6(E) of the NIRC.
Petitioner failed to prove that it had complied with Revenue Memorandum No. 58-69 and that a revision of the 1995 Revised Zonal Values of
Real Properties was made prior to the sale of the subject properties.
2. Cost or basis for income tax purposes
3. Exchange of property tax-free exchange
NIRC, 40(c)(2). Limitations on Deductions. - In the case of a nonresident alien individual engaged in trade or business in the Philippines and
a resident foreign corporation, the deductions for taxes provided in paragraph (1) of this Subsection (C) shall be allowed only if and to the
extent that they are connected with income from sources within the Philippines.
i. Merger or consolidation
+ =
+ =
BIR Ruling 383-87, November 25, 1987.
CIR v. Vicente Rufino. The Court of Tax Appeals did not err in finding that no taxable gain was derived by the private respondents from
the questioned transaction. There was a valid merger although the actual transfer of the properties subject of the Deed of Assignment
was not made on the date of the merger. The Court finds no impediment to the exchange of property for stock between the two
corporations being considered to have been effected on the date of the merger. That, in fact, was the intention, and the reason why the
Deed of Assignment was made retroactive to January 1, 1959. Such retroaction provided in effect that all transactions set forth in the
merger agreement shall be deemed to be taking place simultaneously on January 1. 1959, when the Deed of Assignment became
operative. The certificates of stock subsequently delivered by the New Corporation to the private respondents were only evidence of the
ownership of such stocks. Although these certificates could be issued to them only after the approval by the SEC of the increase in
capitalization of the New Corporation, the title thereto, legally speaking, was transferred to them on the date the merger took effect, in
accordance with the Deed of Assignment. Our ruling then is that the merger in question involved a pooling of resources aimed at the
continuation and expansion of business and so came under the latter and intendment of the National Internal Revenue code, as amended
by the above-cited law, exempting from the capital gains tax exchanges of property effected under lawful corporate combinations.
The basis consideration, of course, is the purpose of the merger, as this would determine whether the exchange of properties involved
therein shall be subject or not to the capital gains tax. The criterion laid down by the law is that the merger "must be undertaken for a
bona fide" business purpose and not solely for the purpose of escaping the burden of taxation."
ii. Transfer of substantially all the assets
iii. Transfer of property for shares of stocks
iv. Administrative requirements in case of tax-free exchanges
v. De facto merger
4. Cost basis in tax-free exchanges
5. Assumption of liability in tax-free exchanges
6. Business purpose
Gergory v. Helvering. In these circumstances, the facts speak for themselves and are susceptible of but one interpretation. The whole undertaking,
though conducted according to the terms of subdivision (B), was in fact an elaborate and devious form of conveyance masquerading as a corporate
reorganization, and nothing else. The rule which excludes from consideration the motive of tax avoidance is not pertinent to the situation, because
the transaction upon its face lies outside the plain intent of the statute. To hold otherwise would be to exalt artifice above reality and to deprive the
statutory provision in question of all serious purpose.
48
TAXATION I (Income Tax) Finals reviewer
Prof. C. C. Laforteza
1 Semester A.Y. 2011-2012
st
NIRC, 34.
RR-2, 131. Losses from wash sales of stock or securities. (a) A taxpayer cannot deduct any loss claimed to have been sustained from the sale or
other disposition of stock or securities, if, within a period beginning thirty days before the date of such sale or disposition and ending thirty days
after such date (referred to in this section as the sixty-one-day period), he has acquired (by purchase or by an exchange upon which the entire
amount of gain or loss was recognized by law), or has entered into a contract or option so to acquire, substantially identical stock or securities.
However, this prohibition does not apply in the case of a dealer in stock or securities if the sale or other disposition of stock or securities is made in
the ordinary course of its business as such dealer.
(b) Where more than one loss is claimed to have been sustained within the taxable year from the sale or other disposition of stock
or securities, the provisions of this section shall be applied to the losses in the order in which the stock or securities the disposition of which
resulted in the respective losses were disposed of (beginning with the earliest disposition). If the order of disposition of stock or securities disposed
of at a loss on the same day cannot be determined, the stock or securities will be considered to have been disposed of in the order in which they
were originally acquired (beginning with earliest acquisition).\
(c) Where the amount of stock or securities acquired within the sixty-one day period is less than the amount of stock or securities
sold or otherwise disposed of, then the particular shares of stock or securities the loss from the sale or other disposition of which is not deductible
shall be those with which the stock or securities acquired are matched in accordance with the following rule:
The stock or securities acquired will be matched in accordance with the order of their acquisition (beginning with the earliest
acquisition) with an equal number of the shares of stock or securities sold or otherwise disposed of.
(d) Where the amount of stock or securities acquired within the sixty- one-day period is not less than the amount of stock or
securities sold or otherwise disposed of, then the particular shares of stock or securities the acquisition of which resulted in the nondeductibility of
the loss shall be those with which the stock or securities disposed of are matched in accordance with the following rule:
The stock or securities sold or otherwise disposed of will be matched with an equal number of the shares of stock or securities acquired
in accordance with the order of acquisition (beginning with the earliest acquisition) of the stock or securities acquired.
(e) The acquisition of any security which results in the non-deductibility of a loss under the provisions of this section shall be
disregarded in determining the deductibility of any other loss.
(f) The word "acquired" as used in this section means acquired by purchase or by an exchange upon which the entire amount of
gain or loss was recognized by law, and comprehends cases where the taxpayer has entered into a contract or option within the sixty-one-day
period to acquire by purchase or by such an exchange.
EXAMPLE (1): A, whose taxable year is the calendar year, on December 1, 1939, purchased 100 shares of common stock in the M Company for
P10,000 and on December 15, 1939, purchased 100 additional shares for P9,000. On January 2, 1940, he sold the 100 shares purchased on
December 1, 1939, for P9,000. Because of the provisions of Section 33 no loss from the sale is allowable as a deduction.
EXAMPLE (2): A, whose taxable year is the calendar year, on September 21, 1939, purchased 100 shares of the common stock of the M Company for
P5,000. On December 21, 1939, he purchased 50 shares of substantially identical stock for P2,750, and on December 26, 1939, he purchased 25
additional shares of such stock for P1,125. On January 2, 1940, he sold for P4,000 the 100 shares purchased on September 21, 1939. There is an
indicated loss of P1,000 on the sale of the 100 shares. Since within the sixty-one-day period A purchased 75 shares of substantially identical stock,
the loss on the sale of 75 of the shares (P3,750 less P3,000, or P750) is not allowable as a deduction because of the provisions of Section 33. The loss
on the sale of the remaining 25 shares (P1,250 less P1,000, or P250) is deductible subject to the limitations provided in Sections 31(b) and 34. The
basis of the 50 shares purchased December 21, 1939, the acquisition of which resulted in the non-deductibility of the loss (P500) sustained on 50 of
the 100 shares sold on January 2, 1940, is P2,500 (the cost of 50 of the shares sold on January 2, 1940), plus P750 [the difference between the
purchase price of the 50 shares acquired on December 21, 1939, (P2,750) and the selling price of 50 of the shares sold on January 2, 1940
(P2,000)], or P3,250. Similarly the basis of the 25 shares purchased on December 26, 1939, the acquisition of which resulted in the nondeductibility
of the loss (P250) sustained on 25 of the shares sold on January 2, 1940, is P1,250 plus P125, or P1,375. (See Section 143 of these regulations.)
A calendar year
BUT since within the 61-day period A purchased 75 shares of substantially identical stock, the loss on the sale of the 75 shares = NOT DEDUCTIBLE
Loss on the sale of the remaining 25 shares = deductible subject to the limitations
EXAMPLE (3): A, whose taxable year is the calendar year, on September 15, 1938, purchased 100 shares of the stock of the M Company for P5,000.
He sold these shares on February 1, 1940, for P4,000. On each of the four days from February 15, 1940, to February 18, 1940, he purchased 50
shares of substantially identical stock for P2,000. There is an indicated loss of P1,000 from the sale of the 100 shares on February 1, 1940, but since
within the sixty-one-day period A purchased not less than 100 shares of substantially identical stock, the loss is not deductible. The particular
shares of stock the purchase of which resulted in the nondeductibility of the loss are the first 100 shares purchased within such period, that is, the
50 shares purchased on February 15, 1940, and the 50 shares purchased on February 16, 1940.
d. Exemption from capital gains tax of certain individuals from the sale or exchange of principal residence
NIRC, 24 (D)(2). Exception The provisions of paragraph (1) of this Subsection to the contrary notwithstanding, capital gains presumed to have
been realized from the sale or disposition of their principal residence by natural persons, the proceeds of which is fully utilized in acquiring or
constructing a new principal residence within eighteen (18) calendar months from the date of sale or disposition, shall be exempt from the capital
gains tax imposed under this Subsection: Provided, further, That the historical cost or adjusted basis of the real property sold or disposed shall be
carried over to the new principal residence built or acquired: Provided, further, That the Commissioner shall have been duly notified by the taxpayer
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TAXATION I (Income Tax) Finals reviewer
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1 Semester A.Y. 2011-2012
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Classification:
(1) Ordinary assets
*stock in trade of the TP or other properties which would be properly be included in the inventory of the TP
*property held primarily for sale
*property used in trade or business subject to depreciation
*real property used in trade or business
(2) Capital assets
*accounts receivable
*property subdivided and sold to tenants at govt instance
*sugar quota
*interest in partnership
*properties held for investments
*membership in the PSE
Definition of terms:
*Capital gain gain derived from the sale/exchange of capital assets
*capital loss loss incurred from the sale or exchange of capital assets
*Net Capital gain the Excess of the gains over the losses
*Net Capital Loss the excess of the losses over the gains
*net capital loss carry over NCL cannot be deducted from ordinary income but which could be carried over to the next taxable year by a TP other than a
corporation as a deduction against NCG
*short-term CG/L gain or loss arising from sale/exchange of CA held for 12months or less
*long-term CG/L -- gain or loss arising from sale/exchange of CA held for more than 12months
*ordinary income excess of income over expenses
EXAMPLE: A non-resident alien individual whose taxable year is the calendar year, derived gross income from all sources for 1939 of P180,000,
including therein:
Interest on bonds of a domestic corporation P9,000
Dividends on stock of domestic corporation 4,000
Royalty for the use of patents within the Philippines 12,000
Gain from sale of real property located within the Philippines 11,000
TotalP36,000
that is, one-fifth of the total gross income was from sources within the Philippines. The remainder of the gross income was from sources without the
Philippines, determined under Section 37(c).
The expenses of the taxpayer for the year amounted to P78,000. Of these expenses the amount of P8,000 is properly allocated to income from sources within
the Philippines and the amount of P40,000 is properly allocated to income from sources without the Philippines.
The remainder of the expense, P30,000, cannot be definitely allocated to any class of income. A ratable part thereof, based upon the relation of gross income
from sources within the Philippines to the total gross income, shall be deducted in computing net income from sources within the Philippines. Thus, there are
deducted from the P36,000 of gross income from sources within the Philippines expenses amounting to P14,000 (representing P8,000 properly apportioned
to the income from sources within the Philippines and P6,000, a ratable part (one-fifth) of the expenses which could not be allocated to any item or class of
gross income). The remainder, P22,000, is the net income from sources within the Philippines.
RR-2, 161. Other income from sources within the Philippines. Items of gross income other than those specified in Section 37(a) and (c) shall be
allocated or apportioned to sources within or without the Philippines, as provided in Section (37)(e).
The income derived from the ownership or operation of any farm, mine, oil or gas well, other natural deposit, or timber, located within the
Philippines, and from the sale by the producer of the products thereof within or without the Philippines, shall ordinarily be included in gross income
from sources within the Philippines. If, however, it is shown to the satisfaction of the Commissioner of Internal Revenue that due to the peculiar
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TAXATION I (Income Tax) Finals reviewer
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1 Semester A.Y. 2011-2012
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PERSONAL PROPERTY PRODUCED AND SOLD: Gross income derived from the sale of personal property produced (in whole or in part) by the taxpayer
within the Philippines and sold within a foreign country, or produced (in whole or in part) by the taxpayer within a foreign country and sold within the
Philippines shall be treated as derived partly from sources within the Philippines and partly from sources within a foreign country under one of the cases
below. As used herein the word "produced" includes created, fabricated, manufactured, extracted, processed, cured, or aged.
CASE 1. Where the manufacturer or producer regularly sells a part of his output to wholly independent distributors or other selling concerns in such a way
as to establish fairly an independent factory or production price or shows to the satisfaction of the Commissioner of Internal Revenue that such an
independent factory or production price has been otherwise established unaffected by considerations of tax liability, and the selling or distributing branch
or department of the business is located in a different country from that in which the factory is located or the production carried on, the net income
attributable to sources within the Philippines shall be computed by an accounting which treats the products as sold by the factory or productive department
of the business to the distributing or selling department at the independent factory price as established. In all such cases the basis of the accounting shall be
fully explained in a statement attached to the return.
CASE 2. Where an independent factory or production price has not been established as provided under Case 1, the net income shall first be computed by
deducting from the gross income derived from the sale of personal property produced (in whole or in part) by the taxpayer within the Philippines and sold
within a foreign country or produced (in whole or in part) by the taxpayer within a foreign country and sold within the Philippines, the expenses, losses, or
other deductions properly apportioned or allocated thereto and a ratable part of any expenses, losses, or other deductions which can not definitely be
allocated to some item or class of gross income. Of the amount of net income so determined, one-half shall be apportioned in accordance with the value of the
taxpayer's property within the Philippines and within the foreign country, the portion attributable to sources within the Philippines being determined by
multiplying such one half by a fraction the numerator of which consists of the value of the taxpayer's property within the Philippines, and the denominator of
which consists of the value of the taxpayer's property both within the Philippines and within the foreign country. The remaining one-half of such net income
shall be apportioned in accordance with the gross sales of the taxpayer within the Philippines and within the foreign country, the portion attributable to
sources within the Philippines being determined by multiplying such one-half by a fraction the numerator of which consists of the taxpayer's gross sales for
the taxable year or period within the Philippines, and the denominator of which consists of the taxpayer's gross sales for the taxable year, or period both
within the Philippines and within the foreign country. The "gross sales of the taxpayer within the Philippines" means the gross sales made during the taxable
year which were principally secured, negotiated, or effected by employees, agents, offices, or branches of the taxpayer's business resident or located in the
Philippines. The term "gross sales" as used in this paragraph refers only to the sales of personal property produced (in whole or in part) by the taxpayer
within the Philippines and sold within a foreign country or produced (in whole or in part) by the taxpayer within a foreign country and sold within the
Philippines, and the term "property" includes only the property held or used to produce income which is derived from such sales. Such property should be
taken at its actual value, which in the case of property valued or appraised for purposes of inventory, depreciation, depletion, or other purposes of taxation
shall be the highest amount at which so valued or appraised, and which in other cases shall be deemed to be its book value in the absence of affirmative
evidence showing such value to be greater or less than the actual value. The average value during the taxable year or period shall be employed. The average
value of property as above prescribed at the beginning and end of the taxable year or period ordinarily may be used, unless by reason of material changes
during the taxable year or period such average does not fairly represent the average for such year or period, in which event the average shall be determined
upon a monthly or daily basis. Bills and accounts receivable shall (unless satisfactory reason for a different treatment is shown) be assigned or allocated to the
Philippines when the debtor resides in the Philippines.
CASE 3. Applications for permission to base the return upon the taxpayer's books of account will be considered by the Commissioner of Internal Revenue in
the case of any taxpayer who, in good faith and unaffected by considerations of tax liability, regularly employs in his books of account a detailed allocation of
receipts and expenditures which reflects more clearly than the processes or formulas herein prescribed, the income derived from sources within the
Philippines.
RR-2, 163. Foreign steamship companies. The returns of foreign steamship companies whose vessels touch ports of the Philippines should include as
gross income, the total receipts of all out-going business whether freight or passengers. With the gross income thus ascertained, the ratio existing
between it and the gross income from all parts, both within and without the Philippines of all vessels, whether touching ports of the Philippines or not,
should be determined as the basis upon which allowable deductions may be computed, the principle being that allowable deductions shall be computed
upon a basis which recognizes that the income arising and accruing from business done if any from this country shall bear its share, and no more, of
expense, incident to the earning or creation of such income, in the ratio that the gross income arising in and from this country bears to the entire gross
income arising from business done both within and without this country. In other words, the net income of a foreign steamship company doing business
in or from this country is ascertained for the purpose of the income tax, by deducting from the gross receipts from outgoing business such a portion of
the aggregate expenses, losses, etc., as such receipts bear to the aggregate receipts from all ports of all vessels, including in each case incoming of a
nonshipping character but incidental, to the shipping business such as dividends from investments, interests on deposits, etc. For example
Given
(a) Gross receipts from outgoing freights and passengers
from P.I. ports P20,000
(b) Gross receipts from outgoing freights and passengers
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TAXATION I (Income Tax) Finals reviewer
Prof. C. C. Laforteza
1 Semester A.Y. 2011-2012
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RR-2, 164. Telegraph and cable service. A foreign corporation carrying on the business of transmission of telegraph or cable messages between
points in the Philippines and points outside the Philippines derives income partly from sources within and partly from sources without the Philippines.
(1) GROSS INCOME. The gross income from sources within the Philippines derived from such services shall be determined by adding (a) its gross
revenues derived from messages originating in the Philippines and (b) amounts collected abroad on collect messages originating in the Philippines
and deducting from such sum amounts paid or accrued for transmission of messages beyond the company's own circuit. Amounts received by the
company in the Philippines with respect to collect messages originating without the Philippines shall be excluded from gross income.
(2) NET INCOME. In computing net income from sources within the Philippines there shall be allowed as deductions from gross income determined
in accordance with paragraph (1): (a) all expenses incurred in the Philippines (not including any general overhead expenses), incident to the
carrying on of the business in the Philippines; (b) all direct expenses incurred abroad in the transmission of messages originating in the Philippines
(not including any general overhead expenses or maintenance, repairs, and depreciation of cable and not including any amount already deducted in
computing gross income); (c) depreciation of property (other than cables) located in the Philippines and used in the trade or business therein; and
(d) a proportionate part of the general overhead expenses [not including any items incurred abroad corresponding to those enumerated in (a), (b),
and (c)], and of maintenance, repairs, and depreciation of cables of the entire cable system of the enterprise based on the ratio which the number of
words originating in the Philippines bears to the total words transmitted by the enterprise.
RR-2, 165. Computation of income. If a taxpayer has gross income from sources within or without the Philippines as defined by Section 37 (a) or (c)
together with gross income derived partly from sources within and partly from sources without the Philippines, the amounts thereof, together with the
expenses and investment applicable thereto, shall be segregated, and the net income from sources within the Philippines shall be separately computed
therefrom.
1. Gross income from sources within Philippines
2. Taxable income from sources within the Philippines
CIR v. CTA and Smith Kline. The governing law is found in section 37 of the old NIRC which reads: Xxx (b) Net income from sources in the
Philippines. From the items of gross income specified in subsection (a) of this section there shall be deducted the expenses, losses, and other
deductions properly apportioned or allocated thereto and a ratable part of any expenses, losses, or other deductions which cannot definitely be
allocated to some item or class of gross income. The remainder, if any, shall be included in full as net income from sources within the Philippines.
Rev. Audit Memo Order 1-86 (income from constructive trading of multinationals)
RR 16-86.
RAMO 4-86 (allocation of head office overhead expenses)
RAMO 1-95 (audit guidelines on determination of income tax of branches of multinationals)
3. Gross income from sources without the Philippines
4. Income from sources partly within or without the Philippines
5. Situs of sale of stocks in a domestic corporation
6. Definition of royalties
Philamlife v. CTA.
CIR v. Marubeni, supra.
RMC 44-2005 [September 1, 2005] Guideline for computer software payment, royalties, services or business income
AA. Accounting Periods and Methods
NIRC, 43. General Rule. - The taxable income shall be computed upon the basis of the taxpayer's annual accounting period (fiscal year or calendar year, as
the case may be) in accordance with the method of accounting regularly employed in keeping the books of such taxpayer, but if no such method of
accounting has been so employed, or if the method employed does not clearly reflect the income, the computation shall be made in accordance with such
method as in the opinion of the Commissioner clearly reflects the income. If the taxpayer's annual accounting period is other than a fiscal year, as defined
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TAXATION I (Income Tax) Finals reviewer
Prof. C. C. Laforteza
1 Semester A.Y. 2011-2012
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(c) APPLICATION. Transactions between the controlled taxpayer and another will be subjected to special scrutiny to ascertain whether the common
control is being used to reduce, avoid, or escape taxes. In determining the true net income of a controlled taxpayer, the Commissioner of Internal
Revenue is not restricted to the case of improper accounting, to the case of a fraudulent, colorable, or sham transaction, or to the case of a device
designed to reduce or avoid tax by shifting or distorting income or deductions. The authority to determine true net income extends to any case in
which either by inadvertence or design the taxable net income in whole or in part, of a controlled taxpayer, is other than it would have been had the
taxpayer in the conduct of his affairs been an uncontrolled taxpayer dealing at arm's length with another uncontrolled taxpayer.
RR-2, 51. When income is to be reported. Gains, profits, and income are to be included in the gross income for the taxable year in which they are
received by the taxpayer, unless they are included when they accrue to him in accordance with the approved method of accounting followed by him. If a
person sues in one year on a pecuniary claim or for property, and money or property is recovered on a judgment therefore in a later year, income is
realized in that year, assuming that the money or property would have been income in the earlier year if then received. This is true of a recovery for
patent infringement. Bad debts or accounts charged off subsequent to March 1, 1913, because of the fact that they were determined to be worthless,
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TAXATION I (Income Tax) Finals reviewer
Prof. C. C. Laforteza
1 Semester A.Y. 2011-2012
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