Claiming accrued bonuses as deductions

SUITS THE C -SUITE By Joanne Marie D. Macainag-Cobacha

Business World (09/28/2015 p.S1/4)
The withholding tax on, and deductibility of, year-end bonuses to employees are issues that are
frequently raised during tax examinations of a companys books of accounts. Usually, these bonuses are
accrued at yearend and deducted for income tax purposes in the year accrued, although the bonus is paid
to the individual employee, and the withholding tax deducted and remitted to the Bureau of Internal
Revenue (BIR), in the succeeding year. In these situations, the BIR usually questions and disallows the tax
deduction claimed by the employer on the ground of non-withholding.
In a decision promulgated recently by the Supreme Court, the Court confi rmed that the obligation of the
payor/employer to deduct and withhold the related withholding tax arises at the time the income was
paid or accrued or recorded as an expense in the payors/employers books, whichever comes fi rst. The
Court said that since the employer accrued or recorded the bonuses as deductible expense in its books,
therefore, its obligation to withhold the related withholding tax due from the deductions for accrued
bonuses arose at the time of accrual and not at the time of actual payment.
At issue in this case was the withholding tax on bonuses accrued and recorded by the employer as a
deductible expense in its books in 1996 and 1997, but which the employer paid to the employees in the
succeeding year. The employer argued that the liability of the employer to withhold the tax does not arise
until such bonus is actually distributed, citing Section 72 [now 79 (A)] of the Tax Code, which states that
[e]very employer making payment of wages shall deduct and withhold upon such wages a tax.
However, the Court applied Section 34 (K) of the Tax Code which provides that any amount paid or
payable which is otherwise deductible from or taken into account in computing gross income may be
deducted only if it is shown that the appropriate tax has been paid to the BIR.
Section 2.57.4 of Revenue Regulations (RR) No. 2-98, as amended by RR No. 12-01, also provides that the
obligation of the payor to deduct and withhold the tax arises at the time income is paid or payable, or
accrued or recorded as an expense or asset, whichever is applicable, in the payors books, whichever
comes fi rst. The term payable refers to the date the obligation becomes due, demandable, or legally
enforceable. However, where income is not yet paid or payable but the same has been recorded as an
expense or asset, whichever is applicable, in the payors books, the obligation to withhold shall arise in
the last month of the return period in which the same is claimed as an expense or amortized for tax
purposes.
The Court said that the provision of Section 72 [now 79 (A)] of the Tax Code regarding withholding on
wages must be read and construed in harmony with Section 29 (j) [now 34 (K)] of the Tax Code on
deductions from gross income. This is in accordance with the rule on statutory construction that an
interpretation is to be sought which gives eff ect to the whole of the statute such that every part is made
eff ective, harmonious, and sensible, if possible, and not defeated nor rendered insignifi cant,
meaningless, and nugatory. If the theory of the employer is adopted, then the condition imposed by
Section 29 (j) [now 34 (K)] would have been rendered nugatory, or we would in eff ect have created an
exception to this mandatory requirement when there was none in the law.
The Court also reiterated the doctrine that The accrual of income and expense is permitted when the allevents test has been met. This test requires: (1) fi xing of a right to income or liability to pay; and (2) the
availability of the reasonable accurate determination of such income or liability. The all-events test
requires the right to income or liability be fi xed, and the amount of such income or liability be
determined with reasonable accuracy. However, the test does not demand that the amount of income or
liability be known absolutely, only that a taxpayer has at his disposal the information necessary to
compute the amount with reasonable accuracy. If the taxpayer is on the accrual method, he can deduct
the expense upon accrual thereof. An item that is reasonably ascertained as to amount and acknowledged
to be due has accrued; actual payment is not essential to constitute expense.

More interestingly in this case, the Court said that employer already recognized a defi nite liability on its
part considering that it had deducted as business expense from its gross income the accrued bonuses due
to its employees. Underlying its accrual of the bonus expense was a reasonable expectation or probability
that the bonus would be achieved. Applying the then prevailing Revenue Regulations No. 6-82, as
amended, the Court said that, in this sense, there was already a constructive payment for income tax
purposes as these accrued bonuses were already allotted or made available to its offi cers and employees.
Joanne Marie D. Macainag-Cobacha is a Tax Senior Director of SGV & Co.