A message to

Bravo
Dear Atty. Bravo, We would like to thank you for this opportunity to discover th
e sometimes confusing but wholly practical and informative world of taxation law
under your esteemed tutelage. Our class feels blessed to come under your guidan
ce once again this semester.
Atty. Dante
R. , B.S.C., L.L.B.
We promise to strive harder in meeting the quality of excellence you expect of y
our students. PleasManila Wine Merchants organized in 1937 was engaged in the im
portation and sale of whiskey, wines, liquor and distilled spirits. Its original
paid up capital was Php 500,000. At one point, they reduced to their capital to
Php 250,000 with the approval of the SEC but this reduction was never implement
ed. When the business began to flourish, they increased their capital to 1 Milli
on Pesos, again with the approval of SEC in 1958. Wine Merchants invested in sev
eral companies including Acme Commercial, Co., Union Insurance of Canton and bou
ght shares in Wack Wack Golf and Country Club. Wine Merchants also acquired USA
Treasury Bills valued at around 347,000 Pesos.
The CIR examined the books of Manila Wine Merchants and found that it had unreas
onably accumulated a surplus of Php 428,000 from 1947-1957 in excess of the reas
onable needs of business subject to the surtax of 2% imposed by Section 25 of th
e Tax Code then demanded payment of the IAET. Wine Merchants appealed to the CTA
. For the CTA, the purchase of shares in Wack Wack, Union Insurance and Acme Com
mercial were harmless and not subject to 25% surtax. However, the purchase of th
e Treasury Bills was in no way related to the business of importing and selling
wines and ordered Manila Wine Merchants to pay IAET on the Treasury Bills. Manil
a Wine Merchants appealed to the CTA. ISSUE: Whether or not Manila Wine Merchant
s unreasonably accumulated earnings in excess of the reasonable needs of busines
s, thus making it liable to surtax under the Tax Code? HELD:
Sec. 29 (A) - Im
position of Improperly Accumulated Earnings Tax (A) In General. - In addition to
other taxes imposed by this Title, there is hereby imposed for each taxable yea
r on the improperly accumulated taxable income of each corporation described in
Subsection B hereof, an improperly accumulated earnings tax equal to ten percent
(10%) of the improperly accumulated taxable income.
Tax on improper accumulation of surplus is essentially a penalty tax. The provis
ion discouraged tax avoidance through corporate surplus accumulation. When corpo
rations do not declare dividends, income taxes are not paid on the undeclared di
vidends received by the shareholders. The tax on improper accumulation of surplu
s is essentially a penalty tax designed to compel corporations to distribute ear
nings so that the said earnings by shareholders could, in turn, be taxed. Immedia
cy Test may be used to determine the reasonable needs of the business. To determine
the reasonable needs of the business in order to justify an accumulation of earni
ngs, the Courts of the United States had developed the Immediacy Test which cons
trued the words reasonable needs of the business to mean the immediate needs of
the business, and it was generally held that; if the corporation did not prove a
n immediate need for the accumulation of the earnings and profits, the accumulat
ion was not for the reasonable needs of the business, and the penalty tax would
apply. Touchstone of liability is the purpose behind the accumulation of the inc
ome and not the consequences of the accumulation.
A prerequisite to the imposition of the tax has been that the corporation be for
med or availed of for the purpose of avoiding the income tax (or surtax) on its
shareholders, or on the shareholders of any other corporation by permitting the
earnings and profits of the corporation to accumulate instead of dividing them a

mong or distributing them to the shareholders. If the earnings and profits were
distributed, the
if the distribution were not made to them. Thus. Taxpayers intention at the time
of accumulation is controlling.shareholders would be required to pay an income t
ax thereon whereas. The mere recognition of a future problem and the discussion
of possible and alternative solutions is not sufficient. such purpose does not f
all within the interdiction of the statute. e continue to guide us patiently eve
n though we may sometimes fall short of your expectations. We look forward to th
e new challenges we will encounter this semester. Sincerely, 3B

Table of Contents
TAXABLE INCOME IN GENERAL 1. Madrigal vs. Rafferty 2. Fisher vs. Trinidad 3. Lim
pan Investment Corporation vs. Commissioner of Internal Revenue 4. Conwi vs. Cou
rt of Tax Appeals 5. Baas, Jr. vs. Court of Appeals INCOME TAX ON INDIVIDUALS 6.
Garrison vs. Court of Appeals 7. Pansacola vs. Commissioner of Internal Revenue
8. Umali vs. Estanislao 1 3 4 5 6 8 10 12 14 15 16 18 20 21 22 24 25 27 29 31 33
35 36 37
DEFINITION OF CORPORATIONS 9. AFISCO Insurance Corporation v. Court of Appeals 1
0. Pascual vs. Commissioner of Internal Revenue 11. Obillos vs. Commissioner of
Internal Revenue 12. Oa vs. Commissioner of Internal Revenue PASSIVE INCOME 13. C
ommissioner of Internal Revenue vs. Manning
MINIMUM CORPORATE INCOME TAX (MCIT) 14. Commissioner of Internal Revenue vs. Phi
lippine Airlines, Inc. (PAL) 15. The Manila Banking Corporation vs. Commissioner
of Internal Revenue 16. Chamber of Real Estate and Builders Associations, Inc. (
CREBA) vs. Romulo, et al.
INCOME TAX ON RESIDENT FOREIGN CORPORATION 17. Commissioner of Internal Revenue
vs. British Overseas Airways Corporation (BOAC) and Court of Tax Appeals 18. Com
missioner of Internal Revenue vs. British Overseas Airways Corporation (BOAC) an
d Court of Tax Appeals 19. Steamship Company of Svendborg and Steamship Company
of 1912 vs. Commissioner of Interval Revenue 20. Bank of America NT & SA vs. Cou
rt of Appeals 21. Commissioner of Internal Revenue vs. Burroughs Limited 22. Com
pania General de Tabacos de Filipinas vs. Commissioner of Internal Revenue INCOM
E TAX ON NON-RESIDENT FOREIGN CORPORATION 23. Commissioner of Internal Revenue v
s. S.C. Johnson and Son, Inc. 24. Marubeni Corporation vs. Commissioner of Inter
nal Revenue

25. N.V. Reederij "Amsterdam" and Royal Interocean Lines vs. Commissioner of Int
ernal Revenue IMPROPERLY ACCUMULATED EARNINGS TAX (IAET) 26. The Manila Wine Mer
chants, Inc. vs. Commissioner of Internal Revenue 27. Commissioner of Internal R
evenue vs. Tuason 28. Cyanamid Philippines, Inc. vs. Court of Appeals TAX-EXEMPT
CORPORATIONS 29. Commissioner of Internal Revenue vs G. Sinco Educational Corp
39 40 42 43 44 45 46 47 49 51 53 54 55 56 57 59 61 62 63 64 65 66 67 69 71 73 75
77 78 80 81 83
GROSS INCOME 30. Filinvest Development Corporation and Filinvest Alabang, Inc vs
Commissioner of Internal Revenue 31. Commissioner of Internal Revenue vs. Court
of Appeals 32. Commissioner of Internal Revenue vs. Manning 33. Wise & Co., Inc
. vs. Meer 34. Commissioner of Internal Revenue vs. Court of Appeals 35. Commiss
ioner of Internal Revenue vs. Court of Appeals 36. RE: Request of Atty. Bernardo
Zialcita for Reconsideration of the Action of the Financial and Budget Office 3
7. Commissioner of Internal Revenue vs. Mitsubishi Metal Corporation DEDUCTIONS;
IN GENERAL 38. Aguinaldo Industries Corporation vs. Commissioner of Internal Re
venues 39. Atlas Consolidated Mining Corporation vs. Commissioner of Internal Re
venue 40. Roxas vs. Court of Tax Appeals 41. Zamora v. Collector of Internal Rev
enue 42. C. M. Hoskins & Co. Inc. v Commissioner of Internal Revenue 43. Calanoc
vs. Collector of Internal Revenue 44. Kuenzle & Streiff Inc. vs. Collector of I
nternal Revenue 45. Paper Industries Corporation of the Philippines vs. Court of
Appeals 46. Commissioner of Internal Revenue vs. Vda de Prieto 47. Commissioner
of Internal Revenue vs. Lednicky 48. Paper Industries Corporation of the Philip
pines vs. Court of Appeals 49. Philippine Refining Company vs. Court of Appeals
50. Fernandez Hermanos, Inc. vs. Commissioner of Internal Revenue 51. Basilan Es
tates, Inc. vs. Commissioner of Internal Revenue 52. Limpan Investment Corporati
on vs. Commissioner of Internal Revenue 53. Consolidated Mines, Inc. vs. Court o
f Tax Appeals 54. 3M Philippines, Inc. vs. Commissioner of Internal Revenue 55.
Esso Standard Eastern, Inc. vs. Commissioner of Internal Revenue CAPITAL GAIN AN
D LOSS 56. Calasanz, et al. vs. Commissioner of Internal Revenue

56. Tuason vs Lingad 57. China Banking Corporation vs. Court of Appeals
DETERMINATION OF GAIN OR LOSS FROM SALE OR TRANSFER OF PROPERTY 58. Commissioner
of Internal Revenue v. Rufino 59. Gregory v. Helvering SITUS OF TAXATION 60. Co
mmissioner of Internal Revenue vs. Marubeni Corporation 61. Commissioner of Inte
rnal Revenue vs. BOAC 62. Commissioner vs. CTA and Smith Kline & French Overseas
Co. 63. Philippine Guaranty Co., Inc. vs. Commissioner of Internal Revenue 64.
Howden and Co. Ltd. vs. Collector of Internal Revenue 65. Philippine American Li
fe Insurance Co. Inc. vs. Court of Tax Appeals ACCOUNTING PERIODS AND METHODS 66
. Consolidated Mines Inc. vs. Court of Tax Appeals 67. Banas. Jr. vs. Court of A
ppeals
85 87 90 92 93 95 97 99 101 103 105 106 108 110 112 113 114 115 116 117
RETURNS AND PAYMENT OF TAXES 68. BPI-Family Savings Bank vs. Court of Appeals 69
. Philam Asset Management, Inc. vs. Commissioner of Internal Revenue 70. Commiss
ioner of Internal Revenue vs. BPI 71. Bank of the Philippine Islands vs. Commiss
ioner of Internal Revenue WITHHOLDING TAX 72. Citibank vs. Court of Appeals 73.
Commissioner of Internal Revenue vs. Wander Philippines, Inc. 74. Commissioner o
f Internal Revenue vs. Procter & Gamble Philippine Manufacturing Corp. 75. Filip
inas Synthetic Fiber Corp. vs. Court of Appeals

DOCTRINES
CASE

1. Madrigal vs. Rafferty The Income Tax Law does not look on the spouses as indi
vidual partners in an ordinary partnership. The husband and wife are only entitl
ed to the exemption of P8,000 specifically granted by the law. The higher schedu
les of the additional tax directed at the incomes of the wealthy may not be part
ially defeated by reliance on provisions in our Civil Code dealing with the conj
ugal partnership and having no application to the Income Tax Law.
CASE DOCTRINES
TAXABLE INCOME IN GENERAL
2. Fisher vs. Trinidad Income is defined as the amount of money coming to a pers
on or corporation within a specified time whether as payment for services, inter
est, or profit from investment. A stockholder who receives a stock dividend has
received nothing but a representation of his increased interest in the capital o
f the corporation. We believe that the Legislature when it provided income tax, in
tended only to tax the income of corporations or firms as that used in its commo
n acceptation; that is money received for services, interest or profit from inve
stments. 3. Limpan Investment Corporation vs. Commissioner of Internal Revenue T
he non-collection was the petitioners fault since it refused to refused to accept
the rent, and not due to nonpayment of lessees. Hence, although the corporation
did not actually receive the rent, it is deemed to have constructively received
them. 4. Conwi vs. Court of Tax Appeals Income may be defined as an amount of m
oney coming to a person or corporation within a specified time, whether as payme
nt for services, interest or profit from investment. The dollar earnings of peti
tioners are the fruits of their labors in the foreign subsidiaries of Procter &
Gamble. It was a definite amount of money which came to them within a specified
period of time of two years as payment for their services. 5. Baas, Jr. vs. Court
of Appeals The general rule is that the whole profit accruing from a sale of pr
operty is taxable as income in the year the sale is made. But, if not all of the
sale price is received during such year, and a statute provides that income sha
ll be taxable in the year in which it is received, the profit from an installment
sale is to be apportioned between or among the years in which such installments
are paid and received.
6. Garrison vs. Court of Appeals An alien actually present in the Philippines wh
o is not a mere transient or sojourner is a resident of the Philippines for purp
oses of income tax. Whether he is a transient or not is determined by his intent
ions with regards to the length and nature of his stay. A mere floating intentio
n indefinite as to time, to return to another country is not sufficient to const
itute him as transient.
INCOME TAX ON INDIVIDUALS

9. AFISCO Insurance Corporation v. Court of Appeals The term partnership include

s a syndicate, group, pool, joint venture or other unincorporated organization,
through or by means of which any business, financial operation, or venture is ca
rried on.
DEFINITION OF CORPORATIONS
10. Pascual vs. Commissioner of Internal Revenue The sharing of returns does not
in itself establish a partnership whether or not the persons sharing therein ha
ve a joint or common right or interest in the property. There must be a clear in
tent to form a partnership, the existence of a juridical personality different f
rom the individual partners, and the freedom of each party to transfer or assign
the whole property. 11. Obillos vs. Commissioner of Internal Revenue Not all co
-ownerships are deemed unregistered partnership. A co-ownership owning propertie
s which produce income should not automatically be considered partners of an unr
egistered partnership, or a corporation, within the purview of the income tax la
w. 12. Oa vs. Commissioner of Internal Revenue For tax purposes, the co-ownership
of inherited properties is automatically converted into an unregistered partner
ship the moment the said common properties and/or the incomes derived therefrom
are used as a common fund with intent to produce profits for the heirs in propor
tion to their respective shares in the inheritance as determined in a project pa
rtition either duly executed in an extrajudicial settlement or approved by the c
ourt in the corresponding testate or intestate proceeding.
13. Commissioner of Internal Revenue vs. Manning A stock dividend, being one pay
able in capital stock, cannot be declared out of outstanding corporate stock, bu
t only from retained earnings: A stock dividend always involves a transfer of s
urplus (or profit) to capital stock. A stock dividend is a conversion of surplu
s or undivided profits into capital stock, which is distributed to stockholders
in lieu of a cash dividend.
PASSIVE INCOME
14. Commissioner of Internal Revenue vs. Philippine Airlines, Inc. (PAL) The tax
paid by the grantee under either of the alternatives provided in Sec. 13 of P.D
. 1590 (basic corporate income tax based on grantees annual net taxable income or
franchise tax of 2 % of the gross revenues derived by the grantee from all sour
ces) shall be in lieu of all other taxes, duties, royalties, registration, licen
se, and other fees and charges of any kind, nature, or description, imposed, lev
ied, established, assessed, or collected by any municipal, city, provincial, or
national authority or government agency, now or in the future.
MINIMUM CORPORATE INCOME TAX (MCIT)

15. The Manila Banking Corporation vs. Commissioner of Internal Revenue The date
of commencement of operations of a thrift bank is the date it was registered wi
th the SEC or the date when the Certificate of Authority to Operate was issued t
o it by the Monetary Board of the BSP, whichever comes later. Thus, for purposes
of ascertaining when the 4-year grace period commences for non-imposition of th
e MCIT, the date the thrift bank was registered with the SEC or the date when th
e Certificate of Authority to Operate was issued to it by the Monetary Board of
the BSP, whichever comes later should be considered. 16. Chamber of Real Estate
and Builders Associations (CREBA), Inc. vs. Romulo MCIT Is Not Violative of Due P
rocess. An income tax is arbitrary and confiscatory if it taxes capital because
capital is not income. In other words, it is income, not capital, which is subje
ct to income tax. However, the MCIT is not a tax on capital.
17. Commissioner of Internal Revenue vs. British Overseas Airways Corporation (B
OAC) and Court of Tax Appeals In order that a foreign corporation may be regarde
d as doing business within a State, there must be continuity of conduct and inte
ntion to establish a continuous business, such as the appointment of a local age
nt, and not one of a temporary character.
INCOME TAX ON RESIDENT FOREIGN CORPORATION
18. Commissioner of Internal Revenue vs. British Overseas Airways Corporation (B
OAC) and Court of Tax Appeals The source of an income is the property, activity,
or service that produced the income. For the source of income to be considered
as coming from the Philippines, it is sufficient that the income is derived from
activity within the Philippines.
19. Steamship Company of Svendborg and Steamship Company of 1912 vs. Commissione
r of Interval Revenue Demurrage fees are definitely income or revenue accruing t
o the international carriers. Demurrage fees or charges consists of an inflow of
funds to the international carriers which are neither capital contributions nor
incurrence of liabilities. It cannot be understood in any other manner except i
n the concept of income to the petitioners. Income means cash received or its equ
ivalent; it is the amount of money coming to a person within a specific time; some
thing distinct from principal or capital. For while capital is fund, income is f
low.
20. Bank of America NT & SA vs. Court of Appeals The statute employs "Any profit
remitted abroad by a branch to its head office shall be subject to a tax of fif
teen per cent (15%)" without more. Where the law does not qualify that the tax i
s imposed and collected at source based on profit to be remitted abroad, that qu
alification should not be read into the law. In the 15% remittance tax, the law
specifies its own tax base to be on the "profit remitted abroad." There is absol
utely nothing equivocal or uncertain about the language of the provision. The ta
x is imposed on the amount sent abroad, and the law calls for nothing further.

21. Commissioner of Internal Revenue vs. Burroughs Limited Any revocation, modif
ication, or reversal of any of the rules and regulations promulgated in accordan
ce with the preceding section or any of the rulings or circulars promulgated by
the Commissioner shag not be given retroactive application if the revocation, mo
dification, or reversal will be prejudicial to the taxpayer except in the follow
ing cases (a) where the taxpayer deliberately misstates or omits material facts
from his return or in any document required of him by the Bureau of Internal Rev
enue; (b) where the facts subsequently gathered by the Bureau of Internal Revenu
e are materially different from the facts on which the ruling is based, or (c) w
here the taxpayer acted in bad faith. 22. Compania General de Tabacos de Filipin
as vs. Commissioner of Internal Revenue What should apply as the taxable base in
computing the 15% branch profit remittance tax is the amount applied for with t
he Central Bank as profit to be remitted abroad and not the total amount of bran
ch profits.
INCOME
TAX
23. Commissioner of Internal Revenue vs. S.C. Johnson and Son, Inc. It bears str
ess that tax refunds are in the nature of tax exemptions. As such they are regis
tered as in derogation of sovereign authority and to be construed strictissimi j
uris against the person or entity claiming the exemption. The burden of proof is
upon him who claims the exemption in his favor and he must be able to justify h
is claim by the clearest grant of organic or statute law. Private respondent is
claiming for a refund of the alleged overpayment of tax on royalties; however th
ere is nothing on record to support a claim that the tax on royalties under the
RP-US Treaty is paid under similar circumstances as the tax on royalties under t
he RP-West Germany Tax Treaty. 24. Marubeni Corporation vs. Commissioner of Inte
rnal Revenue The general rule that a foreign corporation is the same juridical e
ntity as its branch office in the Philippines cannot apply here. This rule is ba
sed on the premise that the business of the foreign corporation is conducted thr
ough its branch office, following the principal agent relationship theory. It is
understood that the branch becomes its agent here. So that when the foreign cor
poration transacts business in the Philippines independently of its branch, the
principal-agent relationship is set aside. The transaction becomes one of the fo
reign corporation, not of the branch. Consequently, the taxpayer is the foreign
corporation, not the branch or the resident foreign corporation. 25. N.V. Reeder
ij "Amsterdam" and Royal Interocean Lines vs. Commissioner of Internal Revenue A
foreign corporation not engaged in trade or business within the Philippines and
which does not have any office or place of business therein is taxed on income
received from all sources within the Philippines at the rate of 35% of the gross
income.
ON NON-RESIDENT CORPORATION
FOREIGN

26. The Manila Wine Merchants, Inc. vs. Commissioner of Internal Revenue To dete
rmine the reasonable needs of the business in order to justify an accumulation of
earnings, the Courts of the United States had developed the Immediacy Test which
construed the words reasonable needs of the business to mean the immediate need
s of the business, and it was generally held that; if the corporation did not pr
ove an immediate need for the accumulation of the earnings and profits, the accu
mulation was not for the reasonable needs of the business, and the penalty tax w
ould apply. 27. Commissioner of Internal Revenue vs. Tuason The importance of li
ability is the purpose behind the accumulation of the income and not the consequ
ences of the accumulation. Thus, if the failure to pay dividends were for the pu
rpose of using the undistributed earnings & profits for the reasonable needs of
the business, that purpose would not fall to overcome the presumption and correc
tness of CIR.
IMPROPERLY ACCUMULATED EARNINGS TAX (IAET)
28. Cyanamid Philippines, Inc. vs. Court of Appeals In order to determine whethe
r profits are accumulated for the reasonable needs of the business to avoid the
surtax upon the shareholders, it must be shown that the controlling intention of
the taxpayer is manifested at the time of the accumulation, not intentions subs
equently, which are mere afterthoughts.
29. Commissioner of Internal Revenue vs G. Sinco Educational Corp Mere provision
for the distribution of its assets to the stockholders upon dissolution does no
t remove the right of an educational institution from tax exemption.
TAX-EXEMPT CORPORATIONS GROSS INCOME - INCLUSIONS
30. Filinvest Development Corporation and Filinvest Alabang, Inc vs Commissioner
of Internal Revenue No taxable gain from an exchange of property for shares of
stock of a corporation shall be recognized if as a result of the exchange the tr
ansferor, alone or together with others, not exceeding four persons, gains contr
ol of the corporation. 31. Commissioner of Internal Revenue vs. Court of Appeals
The three elements in the impositions of income tax are. 1) There must be gain
and or profit, 2) that the gain and or is realized or received actually or const
ructively, and 3) it is not exempted by law or treaty from income tax.
32. Commissioner of Internal Revenue vs. Manning The essence of a stock dividend
was the segregation out of surplus account of a definite portion of the corpora
te earnings as part of the permanent capital resources of the corporation by the
device of capitalizing the same, and the issuance to the stockholders of additi
onal shares of stock representing the profits so capitalized.

33. Wise & Co., Inc. vs. Meer A dividend is a return upon the stock of its stock
holders, paid to them by a going corporation without reducing their stockholding
s, leaving them in a position to enjoy future returns upon the same stock. In ot
her words, it is earnings paid to him by the corporation upon his invested capit
al therein, without wiping out his capital. Under the law so long as a gain is r
ealized, it will be taxable income whether the distribution comes from the earni
ngs or profits of the corporation or from the sale of all of its assets in gener
al, so long as the distribution is made "in complete liquidation or dissolution"
.
34. Commissioner of Internal Revenue vs. Court of Appeals Employees trusts or b
enefit plans normally provide economic assistance to employees upon the occurren
ce of certain contingencies, particularly, old age retirement, death, sickness,
or disability and established for their exclusive benefit and for no other purpo
se. Tax-exemption is to be enjoyed by the income of the pension trust, otherwise
, taxation of those earnings would result in a diminution accumulated income and
reduce whatever the trust beneficiaries would receive out of the trust fund. Th
e application of the withholdings system is essentially to maximize and expedite
the collection of income taxes by requiring its payment at the source, therefor
e, there is no logic in withholding a certain percentage of an income which it i
s not supposed to pay in the first place. 35. Commissioner of Internal Revenue v
s. Court of Appeals The terminal leave pay received by a government official or
employee on the occasion of his compulsory retirement from the government servic
e is not subject to withholding (income) tax. It not being part of the gross sal
ary or income of a government official or employee but a retirement benefit. 36.
RE: Request of Atty. Bernardo Zialcita for Reconsideration of the Action of the
Financial and Budget Office The amount received by way of commutation of his ac
cumulated leave credits as a result of his compulsory retirement, or his termina
l leave pay, falls within the enumerated exclusions from gross income and is the
refore not subject to tax. Since terminal leave is applied for by an officer or
employee who has already severed his connection with his employer and who is no
longer working, then it follows that the terminal leave pay, which is the cash v
alue of his accumulated leave credits, is no longer compensation for services re
ndered. It cannot be viewed as salary.
GROSS INCOME - EXCLUSIONS
37. Commissioner of Internal Revenue vs. Mitsubishi Metal Corporation Laws grant
ing exemption from tax are construed strictissimi juris against the taxpayer and
liberally in favor of the taxing power. Taxation is the rule and exemption is t
he exception. The burden of proof rests upon the party claiming exemption to pro
ve that it is in fact covered by the exemption so claimed, which onus petitioner
s have failed to discharge. Significantly, private respondents are not even amon
g the entities which, under Section 29 (b) (7) (A), are entitled to exemption an
d which should indispensably be the party in interest in this case.

38. Aguinaldo Industries Corporation vs. Commissioner of Internal Revenues Whene

ver a controversy arises on the deductibility, for purposes of income tax, of ce
rtain items for alleged compensation of officers of the taxpayer, two (2) questi
ons become material, namely: (a) Have personal services been actually rendered b
y said officers? (b) In the affirmative case, what is the reasonable allowance t
herefore? This posture is in line with the doctrine in the law of taxation that
the taxpayer must show that its claimed deductions clearly come within the langu
age of the law since allowances, like exemptions, are matters of legislative gra
ce. 39. Atlas Consolidated Mining Corporation vs. Commissioner of Internal Reven
ue The Manila Wine Merchants organized in 1937 was engaged in the importation an
d sale of whiskey, wines, liquor and distilled spirits. Its original paid up cap
ital was Php 500,000. At one point, they reduced to their capital to Php 250,000
with the approval of the SEC but this reduction was never implemented. When the
business began to flourish, they increased their capital to 1 Million Pesos, ag
ain with the approval of SEC in 1958. Wine Merchants invested in several compani
es including Acme Commercial, Co., Union Insurance of Canton and bought shares i
n Wack Wack Golf and Country Club. Wine Merchants also acquired USA Treasury Bil
ls valued at around 347,000 Pesos.
The CIR examined the books of Manila Wine Merchants and found that it had unreas
onably accumulated a surplus of Php 428,000 from 1947-1957 in excess of the reas
onable needs of business subject to the surtax of 2% imposed by Section 25 of th
e Tax Code then demanded payment of the IAET. Wine Merchants appealed to the CTA
. For the CTA, the purchase of shares in Wack Wack, Union Insurance and Acme Com
mercial were harmless and not subject to 25% surtax. However, the purchase of th
e Treasury Bills was in no way related to the business of importing and selling
wines and ordered Manila Wine Merchants to pay IAET on the Treasury Bills. Manil
a Wine Merchants appealed to the CTA. ISSUE: Whether or not Manila Wine Merchant
s unreasonably accumulated earnings in excess of the reasonable needs of busines
s, thus making it liable to surtax under the Tax Code? HELD:
Sec. 29 (A) - Im
position of Improperly Accumulated Earnings Tax (A) In General. - In addition to
other taxes imposed by this Title, there is hereby imposed for each taxable yea
r on the improperly accumulated taxable income of each corporation described in
Subsection B hereof, an improperly accumulated earnings tax equal to ten percent
(10%) of the improperly accumulated taxable income.
Tax on improper accumulation of surplus is essentially a penalty tax. The provis
ion discouraged tax avoidance through corporate surplus accumulation. When corpo
rations do not declare dividends, income taxes are not paid on the undeclared di
vidends received by the shareholders. The tax on improper accumulation of surplu
s is essentially a penalty tax designed to compel corporations to distribute ear
nings so that the said earnings by shareholders could, in turn, be taxed. Immedia
cy Test may be used to determine the reasonable needs of the business. To determine
the reasonable needs of the business in order to justify an accumulation of earni
ngs, the Courts of the United States had developed the Immediacy Test which cons
trued the words reasonable needs of the business to mean the immediate needs of
the business, and it was generally held that; if the corporation did not prove a
n immediate need for the accumulation of the earnings and profits, the accumulat
ion was not for the reasonable needs of the business, and the penalty tax would
apply. Touchstone of liability is the purpose behind the accumulation of the inc
ome and not the consequences of the accumulation.
A prerequisite to the imposition of the tax has been that the corporation be for
med or availed of for the purpose of avoiding the income tax (or surtax) on its
shareholders, or on the shareholders of any other corporation by permitting the
earnings and profits of the corporation to accumulate instead of dividing them a
mong or distributing them to the shareholders. If the earnings and profits were
distributed, the
if the distribution were not made to them. Thus. Taxpayers intention at the time

of accumulation is controlling.shareholders would be required to pay an income t

ax thereon whereas. The mere recognition of a future problem and the discussion
of possible and alternative solutions is not sufficient. such purpose does not f
all within the interdiction of the statute.