4 Caltex v. COA

3/5/2017 G.R.No.
169507
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SECONDDIVISION
January11,2016
G.R.No.169507
AIRCANADA,Petitioner,
vs.
COMMISSIONEROFINTERNALREVENUE,Respondent.
DECISION
LEONEN,J.:
An offline international air carrier selling passage tickets in the Philippines, through a general sales agent, is a
resident foreign corporation doing business in the Philippines. As such, it is taxable under Section 28(A)(l), and
notSection28(A)(3)ofthe1997NationalInternalRevenueCode,subjecttoanyapplicabletaxtreatytowhichthe
Philippinesisasignatory.PursuanttoArticle8oftheRepublicofthePhilippinesCanadaTaxTreaty,AirCanada
may only be imposed a maximum tax of 1 % of its gross revenues earned from the sale of its tickets in the
Philippines.
ThisisaPetitionforReview1appealingtheAugust26,2005Decision2oftheCourtofTaxAppealsEnBanc,which
inturnaffirmedtheDecember22,2004Decision3andApril8,2005Resolution4oftheCourtofTaxAppealsFirst
DivisiondenyingAirCanadasclaimforrefund.
AirCanadaisa"foreigncorporationorganizedandexistingunderthelawsofCanada[.]"5OnApril24,2000,itwas
grantedanauthoritytooperateasanofflinecarrierbytheCivilAeronauticsBoard,subjecttocertainconditions,
which authority would expire on April 24, 2005.6 "As an offline carrier, [Air Canada] does not have flights
originatingfromorcomingtothePhilippines[anddoesnot]operateanyairplane[in]thePhilippines[.]"7
OnJuly1,1999,AirCanadaengagedtheservicesofAerotelLtd.,Corp.(Aerotel)asitsgeneralsalesagentinthe
Philippines.8Aerotel"sells[AirCanadas]passagedocumentsinthePhilippines."9
Fortheperiodrangingfromthethirdquarterof2000tothesecondquarterof2002,AirCanada,throughAerotel,
filed quarterly and annual income tax returns and paid the income tax on Gross Philippine Billings in the total
amountof5,185,676.77,10detailedasfollows:
1 w p h i1
ApplicableQuarter[/]Year DateFiled/Paid AmountofTax

3rdQtr2000 November29,2000 P395,165.00
AnnualITR 2000April16,2001 381,893.59
1stQtr2001 May30,2001 522,465.39
2ndQtr2001 August29,2001 1,033,423.34
3rdQtr2001 November29,2001 765,021.28
AnnualITR2001 April15,2002 328,193.93
1stQtr2002 May30,2002 594,850.13
http://www.lawphil.net/judjuris/juri2016/jan2016/gr_169507_2016.html 1/23
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2ndQtr2002 August29,2002 1,164,664.11

TOTAL P5,185,676.77 11
On November 28, 2002, Air Canada filed a written claim for refund of alleged erroneously paid income taxes
amounting to 5,185,676.77 before the Bureau of Internal Revenue,12 Revenue District Office No. 47East
Makati.13Itfoundbasisfromthereviseddefinition14 of Gross Philippine Billings under Section 28(A)(3)(a) of the
1997NationalInternalRevenueCode:
SEC.28.RatesofIncomeTaxonForeignCorporations.
(A)TaxonResidentForeignCorporations.
....
(3)InternationalCarrier.AninternationalcarrierdoingbusinessinthePhilippinesshallpaya
taxoftwoandonehalfpercent(21/2%)onitsGrossPhilippineBillingsasdefinedhereunder:
(a)InternationalAirCarrier.GrossPhilippineBillingsreferstotheamountofgrossrevenue
derived from carriage of persons, excess baggage, cargo and mail originating from
the Philippines in a continuous and uninterrupted flight, irrespective of the place of
saleorissueandtheplaceofpaymentoftheticketorpassagedocument: Provided,
Thatticketsrevalidated,exchangedand/orindorsedtoanotherinternationalairlineformpartof
the Gross Philippine Billings if the passenger boards a plane in a port or point in the
Philippines: Provided, further, That for a flight which originates from the Philippines, but
transshipmentofpassengertakesplaceatanyportoutsidethePhilippinesonanotherairline,
only the aliquot portion of the cost of the ticket corresponding to the leg flown from the
PhilippinestothepointoftransshipmentshallformpartofGrossPhilippineBillings.(Emphasis
supplied)
Topreventtherunningoftheprescriptiveperiod,AirCanadafiledaPetitionforReviewbeforetheCourtofTax
AppealsonNovember29,2002.15ThecasewasdocketedasC.T.A.CaseNo.6572.16
On December 22, 2004, the Court of Tax Appeals First Division rendered its Decision denying the Petition for
Review and, hence, the claim for refund.17 It found that Air Canada was engaged in business in the Philippines
through a local agent that sells airline tickets on its behalf. As such, it should be taxed as a resident foreign
corporationattheregularrateof32%.18Further,accordingtotheCourtofTaxAppealsFirstDivision,AirCanada
was deemed to have established a "permanent establishment"19 in the Philippines under Article V(2)(i) of the
Republic of the PhilippinesCanada Tax Treaty20 by the appointment of the local sales agent, "in which [the]
petitionerusesitspremisesasanoutletwheresalesof[airline]ticketsaremade[.]"21
AirCanadaseasonablyfiledaMotionforReconsideration,buttheMotionwasdeniedintheCourtofTaxAppeals
FirstDivisionsResolutiondatedApril8,2005forlackofmerit.22TheFirstDivisionheldthatwhileAirCanadawas
notliablefortaxonitsGrossPhilippineBillingsunderSection28(A)(3),itwasneverthelessliabletopaythe32%
corporateincometaxonincomederivedfromthesaleofairlineticketswithinthePhilippinespursuanttoSection
28(A)(1).23
OnMay9,2005,AirCanadaappealedtotheCourtofTaxAppealsEnBanc.24TheappealwasdocketedasCTA
EBNo.86.25
In the Decision dated August 26, 2005, the Court of Tax Appeals En Banc affirmed the findings of the First
Division.26TheEnBancruledthatAirCanadaissubjecttotaxasaresidentforeigncorporationdoingbusinessin
thePhilippinessinceitsoldairlineticketsinthePhilippines.27TheCourtofTaxAppealsEnBancdisposedthus:
WHEREFORE, premises considered, the instant petition is hereby DENIED DUE COURSE, and accordingly,
DISMISSEDforlackofmerit.28
Hence,thisPetitionforReview29wasfiled.
Theissuesforourconsiderationare:
First, whether petitioner Air Canada, as an offline international carrier selling passage documents through a
generalsalesagentinthePhilippines,isaresidentforeigncorporationwithinthemeaningofSection28(A)(1)of
the1997NationalInternalRevenueCode
Second,whetherpetitionerAirCanadaissubjecttothe2%taxonGrossPhilippineBillingspursuanttoSection
28(A)(3).Ifnot,whetheranofflineinternationalcarriersellingpassagedocumentsthroughageneralsalesagent
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canbesubjecttotheregularcorporateincometaxof32%30ontaxableincomepursuanttoSection28(A)(1)
Third,whethertheRepublicofthePhilippinesCanadaTaxTreatyapplies,specifically:
a.WhethertheRepublicofthePhilippinesCanadaTaxTreatyisenforceable
b. Whether the appointment of a local general sales agent in the Philippines falls under the definition of
"permanentestablishment"underArticleV(2)(i)oftheRepublicofthePhilippinesCanadaTaxTreatyand
Lastly,whetherpetitionerAirCanadaisentitledtotherefundof5,185,676.77pertainingallegedlytoerroneously
paidtaxonGrossPhilippineBillingsfromthethirdquarterof2000tothesecondquarterof2002.
Petitioner claims that the general provision imposing the regular corporate income tax on resident foreign
corporations provided under Section 28(A)(1) of the 1997 National Internal Revenue Code does not apply to
"internationalcarriers,"31 which are especially classified and taxed under Section 28(A)(3).32 It adds that the fact
thatitisnolongersubjecttoGrossPhilippineBillingstaxasruledintheassailedCourtofTaxAppealsDecision
"doesnotrenderitipsofactosubject to 32% income tax on taxable income as a resident foreign corporation."33
Petitionerarguesthattoimposethe32%regularcorporateincometaxonitsincomewouldviolatethePhilippine
governmentscovenantunderArticleVIIIoftheRepublicofthePhilippinesCanadaTaxTreatynottoimposeatax
higher than 1% of the carriers gross revenue derived from sources within the Philippines.34 It would also
allegedlyresultin"inequitabletaxtreatmentofonlineandofflineinternationalaircarriers[.]"35
Also,petitionerstatesthattheincomeitderivedfromthesaleofairlineticketsinthePhilippineswasincomefrom
services and not income from sales of personal property.36 Petitioner cites the deliberations of the Bicameral
Conference Committee on House Bill No. 9077 (which eventually became the 1997 National Internal Revenue
Code), particularly Senator Juan Ponce Enriles statement,37 to reveal the "legislative intent to treat the revenue
derivedfromaircarriageasincomefromservices,andthatthecarriageofpassengerorcargoastheactivitythat
generates the income."38 Accordingly, applying the principle on the situs of taxation in taxation of services,
petitioner claims that its income derived "from services rendered outside the Philippines [was] not subject to
Philippineincometaxation."39
Petitioner further contends that by the appointment of Aerotel as its general sales agent, petitioner cannot be
consideredtohavea"permanentestablishment"40inthePhilippinespursuanttoArticleV(6)oftheRepublicofthe
PhilippinesCanada Tax Treaty.41 It points out that Aerotel is an "independent general sales agent that acts as
suchfor...otherinternationalairlinecompaniesintheordinarycourseofitsbusiness."42Aerotelsellspassage
ticketsonbehalfofpetitionerandreceivesacommissionforitsservices.43PetitionerstatesthateventheBureau
of Internal Revenuethrough VAT Ruling No. 00304 dated February 14, 2004has conceded that an offline
international air carrier, having no flight operations to and from the Philippines, is not deemed engaged in
businessinthePhilippinesbymerelyappointingageneralsalesagent.44Finally,petitionermaintainsthatits"claim
for refund of erroneously paid Gross Philippine Billings cannot be denied on the ground that [it] is subject to
incometaxunderSection28(A)(1)"45sinceithasnotbeenassessedatallbytheBureauofInternalRevenuefor
anyincometaxliability.46
Ontheotherhand,respondentmaintainsthatpetitionerissubjecttothe32%corporateincometaxasaresident
foreigncorporationdoingbusinessinthePhilippines.Petitionerstotalpaymentof5,185,676.77allegedlyshows
that petitioner was earning a sizable income from the sale of its plane tickets within the Philippines during the
relevantperiod.47RespondentfurtherpointsoutthatthiscourtinCommissionerofInternalRevenuev.American
Airlines,Inc.,48whichinturncitedthecasesinvolvingtheBritishOverseasAirwaysCorporationandAirIndia,had
alreadysettledthat"foreignairlinecompanieswhichsoldticketsinthePhilippinesthroughtheirlocalagents...
[are] considered resident foreign corporations engaged in trade or business in the country."49 It also cites
RevenueRegulationsNo.678datedApril25,1978,whichdefinedthephrase"doingbusinessinthePhilippines"
as including "regular sale of tickets in the Philippines by offline international airlines either by themselves or
throughtheiragents."50
Respondent further contends that petitioner is not entitled to its claim for refund because the amount of
5,185,676.77itpaidastaxfromthethirdquarterof2000tothesecondquarterof2001wasstillshortofthe32%
incometaxduefortheperiod.51Petitionercannotallegedlyclaimgoodfaithinitsfailuretopaytherightamountof
tax since the National Internal Revenue Code became operative on January 1, 1998 and by 2000, petitioner
should have already been aware of the implications of Section 28(A)(3) and the decided cases of this courts
rulingonthetaxabilityofofflineinternationalcarrierssellingpassageticketsinthePhilippines.52
Attheoutset,weaffirmtheCourtofTaxAppealsrulingthatpetitioner,asanofflineinternationalcarrierwithno
landingrightsinthePhilippines,isnotliabletotaxonGrossPhilippineBillingsunderSection28(A)(3)ofthe1997
NationalInternalRevenueCode:
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....
(3)InternationalCarrier.AninternationalcarrierdoingbusinessinthePhilippinesshallpayataxof
twoandonehalfpercent(21/2%)onitsGrossPhilippineBillingsasdefinedhereunder:
(a)InternationalAirCarrier.'GrossPhilippineBillings'referstotheamountofgrossrevenue
derived from carriage of persons, excess baggage, cargo and mail originating from the
Philippines in a continuous and uninterrupted flight, irrespective of the place of sale or issue
and the place of payment of the ticket or passage document: Provided, That tickets
revalidated,exchangedand/orindorsedtoanotherinternationalairlineformpartoftheGross
Philippine Billings if the passenger boards a plane in a port or point in the Philippines:
Provided, further, That for a flight which originates from the Philippines, but transshipment of
passenger takes place at any port outside the Philippines on another airline, only the aliquot
portionofthecostoftheticketcorrespondingtothelegflownfromthePhilippinestothepoint
oftransshipmentshallformpartofGrossPhilippineBillings.(Emphasissupplied)
Undertheforegoingprovision,thetaxattachesonlywhenthecarriageofpersons,excessbaggage,cargo,and
mail originated from the Philippines in a continuous and uninterrupted flight, regardless of where the passage
documentsweresold.
NothavingflightstoandfromthePhilippines,petitionerisclearlynotliablefortheGrossPhilippineBillingstax.
II
Petitioner, an offline carrier, is a resident foreign corporation for income tax purposes. Petitioner falls within the
definition of resident foreign corporation under Section 28(A)(1) of the 1997 National Internal Revenue Code,
thus,itmaybesubjectto32%53taxonitstaxableincome:
(1)InGeneral.ExceptasotherwiseprovidedinthisCode,acorporationorganized,authorized,or
existing under the laws of any foreign country, engaged in trade or business within the
Philippines, shall be subject to an income tax equivalent to thirtyfive percent (35%) of the
taxableincomederivedintheprecedingtaxableyearfromallsourceswithinthePhilippines:
Provided, That effective January 1, 1998, the rate of income tax shall be thirtyfour percent (34%)
effectiveJanuary1,1999,therateshallbethirtythreepercent(33%)andeffectiveJanuary1,2000
andthereafter,therateshallbethirtytwopercent(32%54).(Emphasissupplied)
Thedefinitionof"residentforeigncorporation"hasnotsubstantiallychangedthroughouttheamendmentsofthe
NationalInternalRevenueCode.Allversionsreferto"aforeigncorporationengagedintradeorbusinesswithin
thePhilippines."
Commonwealth Act No. 466, known as the National Internal Revenue Code and approved on June 15, 1939,
defined "resident foreign corporation" as applying to "a foreign corporation engaged in trade or business within
thePhilippinesorhavinganofficeorplaceofbusinesstherein."55
Section 24(b)(2) of the National Internal Revenue Code, as amended by Republic Act No. 6110, approved on
August4,1969,reads:
Sec.24.Ratesoftaxoncorporations....
(b)Taxonforeigncorporations....
(2)Residentcorporations.Acorporationorganized,authorized,orexistingunderthelawsofany
foreign country, except a foreign life insurance company, engaged in trade or business within the
Philippines, shall be taxable as provided in subsection (a) of this section upon the total net income
receivedintheprecedingtaxableyearfromallsourceswithinthePhilippines.56(Emphasissupplied)
Presidential Decree No. 1158A took effect on June 3, 1977 amending certain sections of the 1939 National
InternalRevenueCode.Section24(b)(2)onforeignresidentcorporationswasamended,butitstillprovidesthat"
[a] corporation organized, authorized, or existing under the laws of any foreign country, engaged in trade or
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business within the Philippines, shall be taxable as provided in subsection (a) of this section upon the total net
incomereceivedintheprecedingtaxableyearfromallsourceswithinthePhilippines[.]"57
As early as 1987, this court in Commissioner of Internal Revenue v. British Overseas Airways Corporation58
declaredBritishOverseasAirwaysCorporation,aninternationalaircarrierwithnolandingrightsinthePhilippines,
asaresidentforeigncorporationengagedinbusinessinthePhilippinesthroughitslocalsalesagentthatsoldand
issuedticketsfortheairlinecompany.59Thiscourtdiscussedthat:
Thereisnospecificcriterionastowhatconstitutes"doing"or"engagingin"or"transacting"business.
Eachcasemustbejudgedinthelightofitspeculiarenvironmentalcircumstances.Thetermimpliesa
continuity of commercial dealings and arrangements, and contemplates, to that extent, the
performanceofactsorworksortheexerciseofsomeofthefunctionsnormallyincidentto,and
in progressive prosecution of commercial gain or for the purpose and object of the business
organization."InorderthataforeigncorporationmayberegardedasdoingbusinesswithinaState,
there must be continuity of conduct and intention to establish a continuous business, such as the
appointmentofalocalagent,andnotoneofatemporarycharacter.["]
BOAC,duringtheperiodscoveredbythesubjectassessments,maintainedageneralsalesagentin
thePhilippines.Thatgeneralsalesagent,from1959to1971,"wasengagedin(1)sellingandissuing
tickets(2)breakingdownthewholetripintoseriesoftripseachtripintheseriescorrespondingto
adifferentairlinecompany(3)receivingthefarefromthewholetripand(4)consequentlyallocating
to the various airline companies on the basis of their participation in the services rendered through
the mode of interline settlement as prescribed by Article VI of the Resolution No. 850 of the IATA
Agreement."Thoseactivitieswereinexerciseofthefunctionswhicharenormallyincidentto,andare
inprogressivepursuitof,thepurposeandobjectofitsorganizationasaninternationalaircarrier.In
fact, the regular sale of tickets, its main activity, is the very lifeblood of the airline business, the
generation of sales being the paramount objective. There should be no doubt then that BOAC was
"engaged in" business in the Philippines through a local agent during the period covered by the
assessments.Accordingly,itisaresidentforeigncorporationsubjecttotaxuponitstotalnetincome
receivedintheprecedingtaxableyearfromallsourceswithinthePhilippines.60 (Emphasis supplied,
citationsomitted)
RepublicActNo.7042ortheForeignInvestmentsActof1991alsoprovidesguidancewithitsdefinitionof"doing
business" with regard to foreign corporations. Section 3(d) of the law enumerates the activities that constitute
doingbusiness:
d.the phrase "doing business" shall include soliciting orders, service contracts, opening offices,
whethercalled"liaison"officesorbranchesappointingrepresentativesordistributorsdomiciledinthe
Philippines or who in any calendar year stay in the country for a period or periods totalling one
hundred eighty (180) days or more participating in the management, supervision or control of any
domesticbusiness,firm,entityorcorporationinthePhilippinesandanyotheractoractsthatimply
a continuity of commercial dealings or arrangements, and contemplate to that extent the
performance of acts or works, or the exercise of some of the functions normally incident to,
and in progressive prosecution of, commercial gain or of the purpose and object of the
businessorganization:Provided,however,Thatthephrase"doingbusiness"shallnotbedeemedto
includemereinvestmentasashareholderbyaforeignentityindomesticcorporationsdulyregistered
todobusiness,and/ortheexerciseofrightsassuchinvestornorhavinganomineedirectororofficer
torepresentitsinterestsinsuchcorporationnorappointingarepresentativeordistributordomiciled
in the Philippines which transacts business in its own name and for its own account[.]61 (Emphasis
supplied)
WhileSection3(d)abovestatesthat"appointingarepresentativeordistributordomiciledinthePhilippineswhich
transacts business in its own name and for its own account" is not considered as "doing business," the
ImplementingRulesandRegulationsofRepublicActNo.7042clarifiesthat"doingbusiness"includes"appointing
representatives or distributors, operating under full control of the foreign corporation, domiciled in the
Philippines or who in any calendar year stay in the country for a period or periods totaling one hundred eighty
(180)daysormore[.]"62
An offline carrier is "any foreign air carrier not certificated by the [Civil Aeronautics] Board, but who maintains
officeorwhohasdesignatedorappointedagentsoremployeesinthePhilippines,whosellsoroffersforsaleany
air transportation in behalf of said foreign air carrier and/or others, or negotiate for, or holds itself out by
solicitation, advertisement, or otherwise sells, provides, furnishes, contracts, or arranges for such
transportation."63
"Anyonedesiringtoengageintheactivitiesofanofflinecarrier[must]applytothe[CivilAeronautics]Boardfor
such authority."64 Each offline carrier must file with the Civil Aeronautics Board a monthly report containing
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information on the tickets sold, such as the origin and destination of the passengers, carriers involved, and
commissionsreceived.65
Petitionerisundoubtedly"doingbusiness"or"engagedintradeorbusiness"inthePhilippines.
Aerotel performs acts or works or exercises functions that are incidental and beneficial to the purpose of
petitioners business. The activities of Aerotel bring direct receipts or profits to petitioner.66 There is nothing on
recordtoshowthatAerotelsolicitedordersaloneandforitsownaccountandwithoutinterferencefrom,letalone
directionof,petitioner.Onthecontrary,Aerotelcannot"enterintoanycontractonbehalfof[petitionerAirCanada]
withouttheexpresswrittenconsentof[thelatter,]"67anditmustperformitsfunctionsaccordingtothestandards
requiredbypetitioner.68ThroughAerotel,petitionerisabletoengageinaneconomicactivityinthePhilippines.
Further, petitioner was issued by the Civil Aeronautics Board an authority to operate as an offline carrier in the
Philippinesforaperiodoffiveyears,orfromApril24,2000untilApril24,2005.69
Petitioneris,therefore,aresidentforeigncorporationthatistaxableonitsincomederivedfromsourceswithinthe
Philippines.Petitionersincomefromsaleofairlinetickets,throughAerotel,isincomerealizedfromthepursuitof
itsbusinessactivitiesinthePhilippines.
III
However,theapplicationoftheregular32%taxrateunderSection28(A)(1)ofthe1997NationalInternalRevenue
CodemustconsidertheexistenceofaneffectivetaxtreatybetweenthePhilippinesandthehomecountryofthe
foreignaircarrier.
In the earlier case of South African Airways v. Commissioner of Internal Revenue,70 this court held that Section
28(A)(3)(a) does not categorically exempt all international air carriers from the coverage of Section 28(A)(1).
Thus, if Section 28(A)(3)(a) is applicable to a taxpayer, then the general rule under Section 28(A)(1) does not
apply.If,however,Section28(A)(3)(a)doesnotapply,aninternationalaircarrierwouldbeliableforthetaxunder
Section28(A)(1).71
This court in South African Airways declared that the correct interpretation of these provisions is that:
"internationalaircarrier[s]maintain[ing]flightstoandfromthePhilippines...shallbetaxedattherateof2%of
itsGrossPhilippineBillings[]whileinternationalaircarriersthatdonothaveflightstoandfromthePhilippinesbut
nonethelessearnincomefromotheractivitiesinthecountry[likesaleofairlinetickets]willbetaxedattherateof
32%ofsuch[taxable]income."72
Inthiscase,thereisataxtreatythatmustbetakenintoconsiderationtodeterminethepropertaxrate.
Ataxtreatyisanagreemententeredintobetweensovereignstates"forpurposesofeliminatingdoubletaxationon
income and capital, preventing fiscal evasion, promoting mutual trade and investment, and according fair and
equitabletaxtreatmenttoforeignresidentsornationals."73CommissionerofInternalRevenuev.S.C.Johnsonand
Son,Inc.74explainedthepurposeofataxtreaty:
The purpose of these international agreements is to reconcile the national fiscal legislations of the
contracting parties in order to help the taxpayer avoid simultaneous taxation in two different
jurisdictions. More precisely, the tax conventions are drafted with a view towards the elimination of
internationaljuridicaldoubletaxation,whichisdefinedastheimpositionofcomparabletaxesintwoor
morestatesonthesametaxpayerinrespectofthesamesubjectmatterandforidenticalperiods.
Theapparentrationalefordoingawaywithdoubletaxationistoencouragethefreeflowofgoodsand
servicesandthemovementofcapital,technologyandpersonsbetweencountries,conditionsdeemed
vital in creating robust and dynamic economies. Foreign investments will only thrive in a fairly
predictable and reasonable international investment climate and the protection against double
taxationiscrucialincreatingsuchaclimate.75(Emphasisintheoriginal,citationsomitted)
Observance of any treaty obligation binding upon the government of the Philippines is anchored on the
constitutionalprovisionthatthePhilippines"adoptsthegenerallyacceptedprinciplesofinternationallawaspartof
the law of the land[.]"76Pacta sunt servanda is a fundamental international law principle that requires agreeing
partiestocomplywiththeirtreatyobligationsingoodfaith.77
Hence,theapplicationoftheprovisionsoftheNationalInternalRevenueCodemustbesubjecttotheprovisionsof
taxtreatiesenteredintobythePhilippineswithforeigncountries.
InDeutscheBankAGManilaBranchv.CommissionerofInternalRevenue,78thiscourtstressedthebindingeffects
oftaxtreaties.Itdealtwiththeissueof"whetherthefailuretostrictlycomplywith[RevenueMemorandumOrder]
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RMO No. 12000 will deprive persons or corporations of the benefit of a tax treaty."80 Upholding the tax treaty
79
overtheadministrativeissuance,thiscourtreasonedthus:
Our Constitution provides for adherence to the general principles of international law as part of the law of the
land.Thetimehonoredinternationalprincipleofpactasuntservandademandstheperformanceingoodfaithof
treatyobligationsonthepartofthestatesthatenterintotheagreement.Everytreatyinforceisbindinguponthe
parties,andobligationsunderthetreatymustbeperformedbythemingoodfaith.Moreimportantly,treatieshave
theforceandeffectoflawinthisjurisdiction.
Taxtreatiesareenteredinto"toreconcilethenationalfiscallegislationsofthecontractingpartiesand,inturn,help
thetaxpayeravoidsimultaneoustaxationsintwodifferentjurisdictions."CIRv.S.C.JohnsonandSon,Inc.further
clarifies that "tax conventions are drafted with a view towards the elimination of international juridical double
taxation, which is defined as the imposition of comparable taxes in two or more states on the same taxpayer in
respect of the same subject matter and for identical periods. The apparent rationale for doing away with double
taxationistoencouragethefreeflowofgoodsandservicesandthemovementofcapital,technologyandpersons
between countries, conditions deemed vital in creating robust and dynamic economies. Foreign investments will
only thrive in a fairly predictable and reasonable international investment climate and the protection against
double taxation is crucial in creating such a climate." Simply put, tax treaties are entered into to minimize, if not
eliminatetheharshnessofinternationaljuridicaldoubletaxation,whichiswhytheyarealsoknownasdoubletax
treatyordoubletaxagreements.
"Astatethathascontractedvalidinternationalobligationsisboundtomakeinitslegislationsthosemodifications
that may be necessary to ensure the fulfillment of the obligations undertaken." Thus, laws and issuances must
ensure that the reliefs granted under tax treaties are accorded to the parties entitled thereto. The BIR must not
impose additional requirements that would negate the availment of the reliefs provided for under international
agreements.Moreso,whentheRPGermanyTaxTreatydoesnotprovideforanyprerequisitefortheavailmentof
thebenefitsundersaidagreement.
....
Bearing in mind the rationale of tax treaties, the period of application for the availment of tax treaty relief as
requiredbyRMONo.12000shouldnotoperatetodivestentitlementtothereliefasitwouldconstituteaviolation
of the duty required by good faith in complying with a tax treaty. The denial of the availment of tax relief for the
failureofataxpayertoapplywithintheprescribedperiodundertheadministrativeissuancewouldimpairthevalue
ofthetaxtreaty.Atmost,theapplicationforataxtreatyrelieffromtheBIRshouldmerelyoperatetoconfirmthe
entitlementofthetaxpayertotherelief.
TheobligationtocomplywithataxtreatymusttakeprecedenceovertheobjectiveofRMONo.12000.Logically,
noncompliance with tax treaties has negative implications on international relations, and unduly discourages
foreigninvestors.WhiletheconsequencessoughttobepreventedbyRMONo.12000involveanadministrative
procedure,thesemayberemediedthroughothersystemmanagementprocesses,e.g.,theimpositionofafineor
penalty.Butwecannottotallydeprivethosewhoareentitledtothebenefitofatreatyforfailuretostrictlycomply
with an administrative issuance requiring prior application for tax treaty relief.81 (Emphasis supplied, citations
omitted)
On March 11, 1976, the representatives82 for the government of the Republic of the Philippines and for the
governmentofCanadasignedtheConventionbetweenthePhilippinesandCanadafortheAvoidanceofDouble
Taxation and the Prevention of Fiscal Evasion with Respect to Taxes on Income (Republic of the Philippines
CanadaTaxTreaty).ThistreatyenteredintoforceonDecember21,1977.
Article V83 of the Republic of the PhilippinesCanada Tax Treaty defines "permanent establishment" as a "fixed
placeofbusinessinwhichthebusinessoftheenterpriseiswhollyorpartlycarriedon."84
Even though there is no fixed place of business, an enterprise of a Contracting State is deemed to have a
permanentestablishmentintheotherContractingStateifundercertainconditionsthereisapersonactingforit.
Specifically, Article V(4) of the Republic of the PhilippinesCanada Tax Treaty states that "[a] person acting in a
ContractingStateonbehalfofanenterpriseoftheotherContractingState(otherthananagentofindependent
status to whom paragraph 6 applies) shall be deemed to be a permanent establishment in the firstmentioned
State if . . . he has and habitually exercises in that State an authority to conclude contracts on behalf of the
enterprise, unless his activities are limited to the purchase of goods or merchandise for that enterprise[.]" The
provisionseemstorefertoonewhowouldbeconsideredanagentunderArticle186885oftheCivilCodeofthe
Philippines.
Ontheotherhand,ArticleV(6)providesthat"[a]nenterpriseofaContractingStateshallnotbedeemedtohavea
permanentestablishmentintheotherContractingStatemerelybecauseitcarriesonbusinessinthatotherState
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throughabroker,generalcommissionagentoranyotheragentofanindependentstatus,wheresuchpersons
areactingintheordinarycourseoftheirbusiness."
Considering Article XV86 of the same Treaty, which covers dependent personal services, the term "dependent"
wouldimplyarelationshipbetweentheprincipalandtheagentthatisakintoanemployeremployeerelationship.
Thus, an agent may be considered to be dependenton the principal where the latter exercises comprehensive
controlanddetailedinstructionsoverthemeansandresultsoftheactivitiesoftheagent.87
Section 3 of Republic Act No. 776, as amended, also known as The Civil Aeronautics Act of the Philippines,
defines a general sales agent as "a person, not a bonafide employee of an air carrier, who pursuant to an
authorityfromanairline,byitselforthroughanagent,sellsoroffersforsaleanyairtransportation,ornegotiates
for,orholdshimselfoutbysolicitation,advertisementorotherwiseasonewhosells,provides,furnishes,contracts
or arranges for, such air transportation."88 General sales agents and their property, property rights, equipment,
facilities, and franchise are subject to the regulation and control of the Civil Aeronautics Board.89 A permit or
authorizationissuedbytheCivilAeronauticsBoardisrequiredbeforeageneralsalesagentmayengageinsuch
anactivity.90
ThroughtheappointmentofAerotelasitslocalsalesagent,petitionerisdeemedtohavecreateda"permanent
establishment"inthePhilippinesasdefinedundertheRepublicofthePhilippinesCanadaTaxTreaty.
Petitioner appointed Aerotel as its passenger general sales agent to perform the sale of transportation on
petitioner and handle reservations, appointment, and supervision of International Air Transport
Associationapprovedandpetitionerapprovedsalesagents,includingthefollowingservices:
ARTICLE7
GSASERVICES
TheGSA[AerotelLtd.,Corp.]shallperformonbehalfofAC[AirCanada]thefollowingservices:
a) Be the fiduciary of AC and in such capacity act solely and entirely for the benefit of AC in every
matterrelatingtothisAgreement
....
c)PromotionofpassengertransportationonAC
....
e)WithouttheneedforendorsementbyAC,arrangeforthereissuance,intheTerritoryoftheGSA
[Philippines],oftrafficdocumentsissuedbyACoutsidethesaidterritoryoftheGSA[Philippines],as
requiredbythepassenger(s)
....
h) Distribution among passenger sales agents and display of timetables, fare sheets, tariffs and
publicitymaterialprovidedbyACinaccordancewiththereasonablerequirementsofAC
....
j)DistributionofofficialpressreleasesprovidedbyACtomediaandreferenceofanypressorpublic
relationsinquiriestoAC
....
o)SubmissionforACsapproval,ofanannualwrittensalesplanonorbeforeadatetobedetermined
byACandinaformacceptabletoAC
....
q) Submission of proposals for ACs approval of passenger sales agent incentive plans at a
reasonabletimeinadvanceofproposedimplementation.
r)Provisionofassistanceonrequest,initsrelationswithGovernmentalandotherauthorities,offices
andagenciesintheTerritory[Philippines].
....
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u) Follow AC guidelines for the handling of baggage claims and customer complaints and, unless
otherwisestatedintheguidelines,referallsuchclaimsandcomplaintstoAC.91
UnderthetermsofthePassengerGeneralSalesAgencyAgreement,Aerotelwill"provideatitsownexpenseand
acceptableto[petitionerAirCanada],adequateandsuitablepremises,qualifiedstaff,equipment,documentation,
facilitiesandsupervisionandinconsiderationoftheremunerationandexpensespayable[,][will]defrayallcosts
andexpensesofandincidentaltotheAgency."92"[I]tisthesoleemployerofitsemployeesand...isresponsible
for[their]actions...orthoseofanysubcontractor."93Inremunerationforitsservices,Aerotelwouldbepaidby
petitioner a commission on sales of transportation plus override commission on flown revenues.94 Aerotel would
alsobereimbursed"forallauthorizedexpensessupportedbyoriginalsupplierinvoices."95
Aerotelisrequiredtokeep"separatebooksandrecordsofaccount,includingsupportingdocuments,regardingall
transactionsat,throughorinanywayconnectedwith[petitionerAirCanada]business."96
"Ifrepresentingmorethanonecarrier,[Aerotelmust]representallcarriersinanunbiasedway."97Aerotelcannot
"acceptadditionalappointmentsasGeneralSalesAgentofanyothercarrierwithoutthepriorwrittenconsentof
[petitionerAirCanada]."98
ThePassengerGeneralSalesAgencyAgreement"maybeterminatedbyeitherpartywithoutcauseupon[no]less
than 60 days prior notice in writing[.]"99 In case of breach of any provisions of the Agreement, petitioner may
require Aerotel "to cure the breach in 30 days failing which [petitioner Air Canada] may terminate [the]
Agreement[.]"100
ThefollowingtermsareindicativeofAerotelsdependentstatus:
First,Aerotelmustgivepetitionerwrittennotice"within7daysofthedate[it]acquiresortakescontrolofanother
entityormergeswithorisacquiredorcontrolledbyanotherpersonorentity[.]"101Exceptwiththewrittenconsent
of petitioner, Aerotel must not acquire a substantial interest in the ownership, management, or profits of a
passengersalesagentaffiliatedwiththeInternationalAirTransportAssociationoranonaffiliatedpassengersales
agent nor shall an affiliated passenger sales agent acquire a substantial interest in Aerotel as to influence its
commercial policy and/or management decisions.102 Aerotel must also provide petitioner "with a report on any
interestsheldby[it],itsowners,directors,officers,employeesandtheirimmediatefamiliesincompaniesandother
entities in the aviation industry or . . . industries related to it[.]"103 Petitioner may require that any interest be
divestedwithinasetperiodoftime.104
Second, in carrying out the services, Aerotel cannot enter into any contract on behalf of petitioner without the
expresswrittenconsentofthelatter105itmustactaccordingtothestandardsrequiredbypetitioner106"followthe
terms and provisions of the [petitioner Air Canada] GSA Manual [and all] written instructions of [petitioner Air
Canada]"107and"[i]ntheabsenceofanapplicableprovisionintheManualorinstructions,[Aerotelmust]carryout
itsfunctionsinaccordancewith[itsown]standardpracticesandprocedures[.]"108
Third, Aerotel must only "issue traffic documents approved by [petitioner Air Canada] for all transportation over
[its]services[.]"109Alluseofpetitionersname,logo,andmarksmustbewiththewrittenconsentofpetitionerand
accordingtopetitionerscorporatestandardsandguidelinessetoutintheManual.110
Fourth, all claims, liabilities, fines, and expenses arising from or in connection with the transportation sold by
Aerotelarefortheaccountofpetitioner,exceptinthecaseofnegligenceofAerotel.111
Aerotel is a dependent agent of petitioner pursuant to the terms of the Passenger General Sales Agency
Agreementexecutedbetweentheparties.Ithastheauthorityorpowertoconcludecontractsorbindpetitionerto
contracts entered into in the Philippines. A thirdparty liability on contracts of Aerotel is to petitioner as the
principal, and not to Aerotel, and liability to such third party is enforceable against petitioner. While Aerotel
maintains a certain independence and its activities may not be devoted wholly to petitioner, nonetheless, when
representingpetitionerpursuanttotheAgreement,itmustcarryoutitsfunctionssolelyforthebenefitofpetitioner
andaccordingtothelattersManualandwritteninstructions.Aerotelisrequiredtosubmititsannualsalesplanfor
petitionersapproval.
In essence, Aerotel extends to the Philippines the transportation business of petitioner. It is a conduit or outlet
throughwhichpetitionersairlineticketsaresold.112
UnderArticleVII(BusinessProfits)oftheRepublicofthePhilippinesCanadaTaxTreaty,the"businessprofits"of
anenterpriseofaContractingStateis"taxableonlyinthatState[,]unlesstheenterprisecarriesonbusinessinthe
other Contracting State through a permanent establishment[.]"113 Thus, income attributable to Aerotel or from
businessactivitieseffectedbypetitionerthroughAerotelmaybetaxedinthePhilippines.However,pursuanttothe
lastparagraph114ofArticleVIIinrelationtoArticleVIII115(ShippingandAirTransport)ofthesameTreaty,thetax
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imposedonincomederivedfromtheoperationofshipsoraircraftininternationaltrafficshouldnotexceed1%of
grossrevenuesderivedfromPhilippinesources.
IV
WhilepetitioneristaxableasaresidentforeigncorporationunderSection28(A)(1)ofthe1997NationalInternal
Revenue Code on its taxable income116 from sale of airline tickets in the Philippines, it could only be taxed at a
maximumof1%ofgrossrevenues,pursuanttoArticleVIIIoftheRepublicofthePhilippinesCanadaTaxTreaty
thatappliestopetitionerasa"foreigncorporationorganizedandexistingunderthelawsofCanada[.]"117
Taxtreatiesformpartofthelawoftheland,118andjurisprudencehasappliedthestatutoryconstructionprinciple
thatspecificlawsprevailovergeneralones.119
The Republic of the PhilippinesCanada Tax Treaty was ratified on December 21, 1977 and became valid and
effectiveonthatdate.Ontheotherhand,theapplicableprovisions120relatingtothetaxabilityofresidentforeign
corporationsandtherateofsuchtaxfoundintheNationalInternalRevenueCodebecameeffectiveonJanuary1,
1998.121Ordinarily,thelaterprovisiongovernsovertheearlierone.122Inthiscase,however,theprovisionsofthe
RepublicofthePhilippinesCanadaTaxTreatyaremorespecificthantheprovisionsfoundintheNationalInternal
RevenueCode.
Theserulesofinterpretationapplyeventhoughoneofthesourcesisatreatyandnotsimplyastatute.
ArticleVII,Section21oftheConstitutionprovides:
SECTION21.Notreatyorinternationalagreementshallbevalidandeffectiveunlessconcurredinbyatleasttwo
thirdsofalltheMembersoftheSenate.
This provision states the second of two ways through which international obligations become binding. Article II,
Section2oftheConstitutiondealswithinternationalobligationsthatareincorporated,whileArticleVII,Section21
dealswithinternationalobligationsthatbecomebindingthroughratification.
"Validandeffective"meansthattreatyprovisionsthatdefinerightsanddutiesaswellasdefiniteprestationshave
effects equivalent to a statute. Thus, these specific treaty provisions may amend statutory provisions. Statutory
provisionsmayalsoamendthesetypesoftreatyobligations.
Weonlydealherewithbilateraltreatystateobligationsthatarenotinternationalobligationsergaomnes.Weare
also not required to rule in this case on the effect of international customary norms especially those with jus
cogenscharacter.
The second paragraph of Article VIII states that "profits from sources within a Contracting State derived by an
enterpriseoftheotherContractingStatefromtheoperationofshipsoraircraftininternationaltrafficmaybetaxed
inthefirstmentionedStatebutthetaxsochargedshallnotexceedthelesserofa)oneandonehalfpercentof
thegrossrevenuesderivedfromsourcesinthatStateandb)thelowestrateofPhilippinetaximposedonsuch
profitsderivedbyanenterpriseofathirdState."
TheAgreementbetweenthegovernmentoftheRepublicofthePhilippinesandthegovernmentofCanadaonAir
Transport, entered into on January 14, 1997, reiterates the effectivity of Article VIII of the Republic of the
PhilippinesCanadaTaxTreaty:
ARTICLEXVI
(Taxation)
The Contracting Parties shall act in accordance with the provisions of Article VIII of the Convention between the
PhilippinesandCanadafortheAvoidanceofDoubleTaxationandthePreventionofFiscalEvasionwithRespect
toTaxesonIncome,signedatManilaonMarch31,1976andenteredintoforceonDecember21,1977,andany
amendmentsthereto,inrespectoftheoperationofaircraftininternationaltraffic.123
Petitionersincomefromsaleofticketforinternationalcarriageofpassengerisincomederivedfrominternational
operation of aircraft. The sale of tickets is closely related to the international operation of aircraft that it is
consideredincidentalthereto.
"[B]yreasonofourbilateralnegotiationswith[Canada],wehaveagreedtohaveourrighttotaxlimitedtoacertain
extent[.]"124 Thus, we are bound to extend to a Canadian air carrier doing business in the Philippines through a
localsalesagentthebenefitofalowertaxequivalentto1%onbusinessprofitsderivedfromsaleofinternational
airtransportation.
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Finally, we reject petitioners contention that the Court of Tax Appeals erred in denying its claim for refund of
erroneouslypaidGrossPhilippineBillingstaxonthegroundthatitissubjecttoincometaxunderSection28(A)(1)
of the National Internal Revenue Code because (a) it has not been assessed at all by the Bureau of Internal
Revenue for any income tax liability125 and (b) internal revenue taxes cannot be the subject of setoff or
compensation,126citingRepublicv.MambulaoLumberCo.,etal.127andFranciav.IntermediateAppellateCourt.128
InSMIEDPhilippinesTechnology,Inc.v.CommissionerofInternalRevenue,129wehaveruledthat"[i]nanaction
for the refund of taxes allegedly erroneously paid, the Court of Tax Appeals may determine whether there are
taxesthatshouldhavebeenpaidinlieuofthetaxespaid."130Thedeterminationofthepropercategoryoftaxthat
shouldhavebeenpaidisincidentalandnecessarytoresolvetheissueofwhetherarefundshouldbegranted.131
Thus:
Petitioner argued that the Court of Tax Appeals had no jurisdiction to subject it to 6% capital gains tax or other
taxesatthefirstinstance.TheCourtofTaxAppealshasnopowertomakeanassessment.
As earlier established, the Court of Tax Appeals has no assessment powers. In stating that petitioners
transactionsaresubjecttocapitalgainstax,however,theCourtofTaxAppealswasnotmakinganassessment.It
was merely determining the proper category of tax that petitioner should have paid, in view of its claim that it
erroneouslyimposeduponitselfandpaidthe5%finaltaximposeduponPEZAregisteredenterprises.
Thedeterminationofthepropercategoryoftaxthatpetitionershouldhavepaidisanincidentalmatternecessary
fortheresolutionoftheprincipalissue,whichiswhetherpetitionerwasentitledtoarefund.
The issue of petitioners claim for tax refund is intertwined with the issue of the proper taxes that are due from
petitioner.Aclaimfortaxrefundcarriestheassumptionthatthetaxreturnsfiledwerecorrect.Ifthetaxreturnfiled
wasnotproper,thecorrectnessoftheamountpaidand,therefore,theclaimforrefundbecomequestionable.In
thatcase,thecourtmustdetermineifataxpayerclaimingrefundoferroneouslypaidtaxesismoreproperlyliable
fortaxesotherthanthatpaid.
In South African Airways v. Commissioner of Internal Revenue, South African Airways claimed for refund of its
erroneouslypaid2%taxesonitsgrossPhilippinebillings.ThiscourtdidnotimmediatelygrantSouthAfricans
claimforrefund.ThisisbecausealthoughthiscourtfoundthatSouthAfricanAirwayswasnotsubjecttothe2%
taxonitsgrossPhilippinebillings,thiscourtalsofoundthatitwassubjectto32%taxonitstaxableincome.
Inthiscase,petitionersclaimthatiterroneouslypaidthe5%finaltaxisanadmissionthatthequarterlytaxreturn
itfiledin2000wasimproper.Hence,todetermineifpetitionerwasentitledtotherefundbeingclaimed,theCourt
ofTaxAppealshasthedutytodetermineifpetitionerwasindeednotliableforthe5%finaltaxand,instead,liable
for taxes other than the 5% final tax. As in South African Airways, petitioners request for refund can neither be
grantednordeniedoutrightwithoutsuchdetermination.
Ifthetaxpayerisfoundliablefortaxesotherthantheerroneouslypaid5%finaltax,theamountofthetaxpayers
liabilityshouldbecomputedanddeductedfromtherefundableamount.
Anyliabilityinexcessoftherefundableamount,however,maynotbecollectedinacaseinvolvingsolelytheissue
ofthetaxpayersentitlementtorefund.Thequestionoftaxdeficiencyisdistinctandunrelatedtothequestionof
petitioners entitlement to refund. Tax deficiencies should be subject to assessment procedures and the rules of
prescription. The court cannot be expected to perform the BIRs duties whenever it fails to do so either through
neglect or oversight. Neither can court processes be used as a tool to circumvent laws protecting the rights of
taxpayers.132
Hence,theCourtofTaxAppealsproperlydeniedpetitionersclaimforrefundofallegedlyerroneouslypaidtaxon
itsGrossPhilippineBillings,onthegroundthatitwasliableinsteadfortheregular32%taxonitstaxableincome
receivedfromsourceswithinthePhilippines.Itsdeterminationofpetitionersliabilityforthe32%regularincometax
wasmademerelyforthepurposeofascertainingpetitionersentitlementtoataxrefundandnotforimposingany
deficiencytax.
In this regard, the matter of setoff raised by petitioner is not an issue. Besides, the cases cited are based on
differentcircumstances.Inbothcitedcases,133thetaxpayerclaimedthathis(its)taxliabilitywasoffsetbyhis(its)
claimagainstthegovernment.
Specifically,inRepublicv.MambulaoLumberCo.,etal.,MambulaoLumbercontendedthattheamountsitpaidto
thegovernmentasreforestationchargesfrom1947to1956,nothavingbeenusedinthereforestationofthearea
covered by its license, may be set off or applied to the payment of forest charges still due and owing from it.134
RejectingMambulaosclaimoflegalcompensation,thiscourtruled:
[A]ppellant and appellee are not mutually creditors and debtors of each other. Consequently, the law on
compensationisinapplicable.Onthispoint,thetrialcourtcorrectlyobserved:
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UnderArticle1278,NCC,compensationshouldtakeplacewhentwopersonsintheirownrightarecreditorsand
debtorsofeachother.WithrespecttotheforestchargeswhichthedefendantMambulaoLumberCompanyhas
paidtothegovernment,theyareinthecoffersofthegovernmentastaxescollected,andthegovernmentdoesnot
oweanythingtodefendantMambulaoLumberCompany.So,itiscrystalclearthattheRepublicofthePhilippines
andtheMambulaoLumberCompanyarenotcreditorsanddebtorsofeachother,becausecompensationrefers
tomutualdebts.***.
Andtheweightofauthorityistotheeffectthatinternalrevenuetaxes,suchastheforestchargesinquestion,can
notbethesubjectofsetofforcompensation.
Aclaimfortaxesisnotsuchadebt,demand,contractorjudgmentasisallowedtobesetoffunderthestatutesof
setoff, which are construed uniformly, in the light of public policy, to exclude the remedy in an action or any
indebtednessofthestateormunicipalitytoonewhoisliabletothestateormunicipalityfortaxes.Neitherarethey
apropersubjectofrecoupmentsincetheydonotariseoutofthecontractortransactionsuedon.***.(80C.J.S.
7374.)
Thegeneralrule,basedongroundsofpublicpolicyiswellsettledthatnosetoffisadmissibleagainstdemands
fortaxesleviedforgeneralorlocalgovernmentalpurposes.Thereasononwhichthegeneralruleisbased,isthat
taxesarenotinthenatureofcontractsbetweenthepartyandpartybutgrowoutofadutyto,andarethepositive
actsofthegovernment,tothemakingandenforcingofwhich,thepersonalconsentofindividualtaxpayersisnot
required.***IfthetaxpayercanproperlyrefusetopayhistaxwhencalleduponbytheCollector,becausehehas
a claim against the governmental body which is not included in the tax levy, it is plain that some legitimate and
necessary expenditure must be curtailed. If the taxpayers claim is disputed, the collection of the tax must await
andabidetheresultofalawsuit,andmeanwhilethefinancialaffairsofthegovernmentwillbethrownintogreat
confusion.(47Am.Jur.766767.)135(Emphasissupplied)
In Francia, this court did not allow legal compensation since not all requisites of legal compensation provided
underArticle1279werepresent.136Inthatcase,aportionofFranciaspropertyinPasaywasexpropriatedbythe
nationalgovernment,137whichdidnotimmediatelypayFrancia.Inthemeantime,hefailedtopaytherealproperty
taxdueonhisremainingpropertytothelocalgovernmentofPasay,whichlateronwouldauctionthepropertyon
accountofsuchdelinquency.138Hethenmovedtosetasidetheauctionsaleandargued,amongothers,thathis
realpropertytaxdelinquencywasextinguishedbylegalcompensationonaccountofhisunpaidclaimagainstthe
nationalgovernment.139ThiscourtruledagainstFrancia:
There is no legal basis for the contention. By legal compensation, obligations of persons, who in their own right
arereciprocallydebtorsandcreditorsofeachother,areextinguished(Art.1278,CivilCode).Thecircumstances
ofthecasedonotsatisfytherequirementsprovidedbyArticle1279,towit:
(1)thateachoneoftheobligorsbeboundprincipallyandthathebeatthesametimeaprincipalcreditorof
theother
xxxxxxxxx
(3)thatthetwodebtsbedue.
xxxxxxxxx
Thisprincipalcontentionofthepetitionerhasnomerit.Wehaveconsistentlyruledthattherecanbenooffsetting
oftaxesagainsttheclaimsthatthetaxpayermayhaveagainstthegovernment.Apersoncannotrefusetopaya
taxonthegroundthatthegovernmentoweshimanamountequaltoorgreaterthanthetaxbeingcollected.The
collectionofataxcannotawaittheresultsofalawsuitagainstthegovernment.
....
There are other factors which compel us to rule against the petitioner. The tax was due to the city government
whiletheexpropriationwaseffectedbythenationalgovernment.Moreover,theamountof4,116.00paidbythe
national government for the 125 square meter portion of his lot was deposited with the Philippine National Bank
longbeforethesaleatpublicauctionofhisremainingproperty.NoticeofthedepositdatedSeptember28,1977
wasreceivedbythepetitioneronSeptember30,1977.Thepetitioneradmittedinhistestimonythatheknewabout
the4,116.00depositedwiththebankbuthedidnotwithdrawit.Itwouldhavebeenaneasymattertowithdraw
2,400.00fromthedepositsothathecouldpaythetaxobligationthusabortingthesaleatpublicauction.140
The ruling in Franciawas applied to the subsequent cases of Caltex Philippines, Inc. v. Commission on Audit141
andPhilexMiningCorporationv.CommissionerofInternalRevenue.142InCaltex,thiscourtreiterated:
[A]taxpayermaynotoffsettaxesduefromtheclaimsthathemayhaveagainstthegovernment.Taxescannotbe
thesubjectofcompensationbecausethegovernmentandtaxpayerarenotmutuallycreditorsanddebtorsofeach
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other and a claim for taxes is not such a debt, demand, contract or judgment as is allowed to be setoff.143
(Citationsomitted)
PhilexMiningruledthat"[t]hereisamaterialdistinctionbetweenataxanddebt.DebtsareduetotheGovernment
in its corporate capacity, while taxes are due to the Government in its sovereign capacity."144 Rejecting Philex
Miningsassertionthattheimpositionofsurchargeandinterestwasunjustifiedbecauseithadnoobligationtopay
the excise tax liabilities within the prescribed period since, after all, it still had pending claims for VAT input
credit/refundwiththeBureauofInternalRevenue,thiscourtexplained:
Tobesure,wecannotallowPhilextorefusethepaymentofitstaxliabilitiesonthegroundthatithasapendingtax
claim for refund or credit against the government which has not yet been granted. It must be noted that a
distinguishing feature of a tax is that it is compulsory rather than a matter of bargain. Hence, a tax does not
dependupontheconsentofthetaxpayer.Ifanytaxpayercandeferthepaymentoftaxesbyraisingthedefense
thatitstillhasapendingclaimforrefundorcredit,thiswouldadverselyaffectthegovernmentrevenuesystem.A
taxpayercannotrefusetopayhistaxeswhentheyfallduesimplybecausehehasaclaimagainstthegovernment
orthatthecollectionofthetaxiscontingentontheresultofthelawsuititfiledagainstthegovernment.Moreover,
PhilexstheorythatwouldautomaticallyapplyitsVATinputcredit/refundagainstitstaxliabilitiescaneasilygiverise
to confusion and abuse, depriving the government of authority over the manner by which taxpayers credit and
offsettheirtaxliabilities.145(Citationsomitted)
In sum, the rulings in those cases were to the effect that the taxpayer cannot simply refuse to pay tax on the
ground that the tax liabilities were offset against any alleged claim the taxpayer may have against the
government.Suchwouldmerelybeinkeepingwiththebasicpolicyonpromptcollectionoftaxesasthelifebloodof
thegovernment. 1 w p h i1
Here,whatisinvolvedisadenialofataxpayersrefundclaimonaccountoftheCourtofTaxAppealsfindingofits
liabilityforanothertaxinlieuoftheGrossPhilippineBillingstaxthatwasallegedlyerroneouslypaid.
SquarelyapplicableisSouthAfricanAirwayswherethiscourtrejectedsimilarargumentsonthedenialofclaimfor
taxrefund:
CommissionerofInternalRevenuev.CourtofTaxAppeals,however,grantedtheoffsettingofataxrefundwitha
taxdeficiencyinthiswise:
Further,itisalsoworthnotingthattheCourtofTaxAppealserredindenyingpetitionerssupplementalmotionfor
reconsiderationallegingbringingtosaidcourtsattentiontheexistenceofthedeficiencyincomeandbusinesstax
assessment against Citytrust. The fact of such deficiency assessment is intimately related to and inextricably
intertwined with the right of respondent bank to claim for a tax refund for the same year. To award such refund
despite the existence of that deficiency assessment is an absurdity and a polarity in conceptual effects. Herein
privaterespondentcannotbeentitledtorefundandatthesametimebeliableforataxdeficiencyassessmentfor
thesameyear.
Thegrantofarefundisfoundedontheassumptionthatthetaxreturnisvalid,thatis,thefactsstatedthereinare
true and correct. The deficiency assessment, although not yet final, created a doubt as to and constitutes a
challenge against the truth and accuracy of the facts stated in said return which, by itself and without
unquestionableevidence,cannotbethebasisforthegrantoftherefund.
Section 82, Chapter IX of the National Internal Revenue Code of 1977, which was the applicable law when the
claimofCitytrustwasfiled,providesthat"(w)henanassessmentismadeincaseofanylist,statement,orreturn,
which in the opinion of the Commissioner of Internal Revenue was false or fraudulent or contained any
understatementorundervaluation,notaxcollectedundersuchassessmentshallberecoveredbyanysuitsunless
it is proved that the said list, statement, or return was not false nor fraudulent and did not contain any
understatementorundervaluationbutthisprovisionshallnotapplytostatementsorreturnsmadeortobemade
ingoodfaithregardingannualdepreciationofoilorgaswellsandmines."
Moreover, to grant the refund without determination of the proper assessment and the tax due would inevitably
result in multiplicity of proceedings or suits. If the deficiency assessment should subsequently be upheld, the
Government will be forced to institute anew a proceeding for the recovery of erroneously refunded taxes which
recoursemustbefiledwithintheprescriptiveperiodoftenyearsafterdiscoveryofthefalsity,fraudoromissionin
thefalseorfraudulentreturninvolved.Thiswouldnecessarilyrequireandentailadditionaleffortsandexpenses
onthepartoftheGovernment,imposeaburdenonandadrainofgovernmentfunds,andimpedeordelaythe
collectionofmuchneededrevenueforgovernmentaloperations.
Thus, to avoid multiplicity of suits and unnecessary difficulties or expenses, it is both logically necessary and
legallyappropriatethattheissueofthedeficiencytaxassessmentagainstCitytrustberesolvedjointlywithitsclaim
for tax refund, to determine once and for all in a single proceeding the true and correct amount of tax due or
refundable.
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Infact,astheCourtofTaxAppealsitselfhasheretoforeconceded,itwouldbeonlyjustandfairthatthetaxpayer
andtheGovernmentalikebegivenequalopportunitiestoavailofremediesunderthelawtodefeateachothers
claim and to determine all matters of dispute between them in one single case. It is important to note that in
determining whether or not petitioner is entitled to the refund of the amount paid, it would [be] necessary to
determine how much the Government is entitled to collect as taxes. This would necessarily include the
determinationofthecorrectliabilityofthetaxpayerand,certainly,adeterminationofthiscasewouldconstituteres
judicataonbothpartiesastoallthematterssubjectthereofornecessarilyinvolvedtherein.
Sec. 82, Chapter IX of the 1977 Tax Code is now Sec. 72, Chapter XI of the 1997 NIRC. The above
pronouncementsare,therefore,stillapplicabletoday.
Here,petitioner'ssimilartaxrefundclaimassumesthatthetaxreturnthatitfiledwascorrect.Given,however,the
findingoftheCTAthatpetitioner,althoughnotliableunderSec.28(A)(3)(a)ofthe1997NIRC,isliableunderSec.
28(A)(l),thecorrectnessofthereturnfiledbypetitionerisnowputindoubt.Assuch,wecannotgranttheprayer
forarefund.146(Emphasissupplied,citationomitted)
In the subsequent case of United Airlines, Inc. v. Commissioner of Internal Revenue, 147 this court upheld the
denialoftheclaimforrefundbasedontheCourtofTaxAppeals'findingthatthetaxpayerhad,througherroneous
deductions on its gross income, underpaid its Gross Philippine Billing tax on cargo revenues for 1999, and the
amountofunderpaymentwasevengreaterthantherefundsoughtforerroneouslypaidGrossPhilippineBillings
taxonpassengerrevenuesforthesametaxableperiod.148
Inthiscase,theP5,185,676.77GrossPhilippineBillingstaxpaidbypetitionerwascomputedattherateof1%
of its gross revenues amounting to P345,711,806.08149 from the third quarter of 2000 to the second quarter of
2002. It is quite apparent that the tax imposable under Section 28(A)(l) of the 1997 National Internal Revenue
Code[32%oft.axableincome,thatis,grossincomelessdeductions]willexceedthemaximumceilingof1%of
grossrevenuesasdecreedinArticleVIIIoftheRepublicofthePhilippinesCanadaTaxTreaty.Hence,norefundis
forthcoming.
WHEREFORE,thePetitionisDENIED.TheDecisiondatedAugust26,2005andResolutiondatedApril8,2005of
theCourtofTaxAppealsEnBancareAFFIRMED.
SOORDERED.
MARVICM.V.F.LEONEN
AssociateJustice
WECONCUR:
ANTONIOT.CARPIO
AssociateJustice
Chairperson
ARTUROD.BRION MARIANOC.DELCASTILLO
AssociateJustice AssociateJustice
JOSECATRALMENDOZA
AssociateJustice
ATTESTATION
IattestthattheconclusionsintheaboveDecisionhadbeenreachedinconsultationbeforethecasewasassigned
tothewriteroftheopinionoftheCourt'sDivision.
ANTONIOT.CARPIO
AssociateJustice
Chairperson
CERTIFICATION
PursuanttoSection13,ArticleVIIIoftheConstitutionandtheDivisionChairperson'sAttestation,Icertifythatthe
conclusionsintheaboveDecisionhadbeenreachedinconsultationbeforethecasewasassignedtothewriterof
theopinionoftheCourt'sDivision.
MARIALOURDESP.A.SERENO
ChiefJustice
3/5/2017 G.R.No.169507
Footnotes
1
Rollo,pp.940.ThePetitionwasfiledpursuanttoRule45oftheRulesofCourt.
2
Id.at5772.TheDecisionwaspennedbyAssociateJusticeOlgaPalancaEnriquezandconcurredinby
PresidingJusticeErnestoD.AcostaandAssociateJusticesLovellR.Bautista,ErlindaP.Uy,andCaesarA.
Casanova.AssociateJusticeJuanitoC.Castaeda,Jr.voluntarilyinhibitedhimself.
3
Id. at 4151. The Decision was penned by Associate Justice Lovell R. Bautista and concurred in by
PresidingJusticeErnestoD.AcostaandAssociateJusticeCaesarA.Casanova.
4
Id. at 5256. The Resolution was signed by Presiding Justice Ernesto D. Acosta and Associate Justices
LovellR.BautistaandCaesarA.Casanova.
5
Id.at59,CourtofTaxAppealsEnBancDecision.
6
Id.at78,CivilAeronauticsBoardExecutiveDirectorsLetter.
7
Id.at300,AirCanadasMemorandum.
8
Id.at118140,PassengerGeneralSalesAgencyAgreementBetweenAirCanadaandAerotelLtd.,Corp.
9
10
11
Id.
12
Id.at60.
13
Id.at13,Petition.
14
Pres. Decree No. 1355 (1978), sec. 1 defines Gross Philippine Billings as: "Gross Philippine billings"
includes gross revenue realized from uplifts anywhere in the world by any international carrier doing
businessinthePhilippinesofpassagedocumentssoldtherein,whetherforpassenger,excessbaggageor
mail, provided the cargo or mail originates from the Philippines. The gross revenue realized from the said
cargoormailshallincludethegrossfreightchargeuptofinaldestination.Grossrevenuesfromchartered
flightsoriginatingfromthePhilippinesshalllikewiseformpartof"grossPhilippinebillings"regardlessofthe
placeofsaleorpaymentofthepassagedocuments.Forpurposesofdeterminingthetaxabilityofrevenues
fromcharteredflights,theterm"originatingfromthePhilippines"shallincludeflightofpassengerswhostay
inthePhilippinesformorethanfortyeight(48)hourspriortoembarkation."(Emphasissupplied)
15
Rollo,p.60,CourtofTaxAppealsEnBancDecision.
16
Id.at41,CourtofTaxAppealsFirstDivisionDecision.
17
Id.at51.
18
Id.at4748.
19
Id.at51.
20
Id.at50.
21
Id.at51.
22
Id.at53and56,CourtofTaxAppealsFirstDivisionResolution.
23
Id.at54.
24
Id.at16,Petition.
25
Id.
26
3/5/2017 G.R.No.169507
27
Id.at6768.
28
Id.at71.
29
ThePetitionwasreceivedbythecourtonOctober20,2005.RespondentfileditsComment(Id.at252
261)onAugust6,2007.Subsequently,pursuanttothecourtsResolution(Id.at282283)datedNovember
28,2007,petitionerfileditsMemorandum(Id.at284328)onFebruary21,2008andrespondentfiledits
Manifestation (Id. at 349350) on January 5, 2009, stating that it is adopting its Comment as its
Memorandum.
30
PursuanttoRep.ActNo.9337(2005),therateisreducedto30%beginningJanuary1,2009.
31
Rollo,pp.22,Petition,and307,AirCanadasMemorandum.
32
Id.
33
Id.at28,Petition.
34
Id.at2324,Petition,and315,AirCanadasMemorandum.
35
36
Id.at2829,Petition.
37
Id.at29.AccordingtoSenatorJuanPonceEnrile,"thegrossPhilippinebillingsofinternationalaircarriers
mustrefertoflownrevenuebecausethisisanincomefromservicesandthiswillmakethedeterminationof
the tax base a lot easier by following the same rule in determining the liability of the carrier for common
carrierstax."(MinutesoftheBicameralConferenceCommitteeonHouseBillNo.9077[ComprehensiveTax
ReformProgram],10October1997,pp.1920).
38
Id.
39
40
Id.at35,Petition.
41
42
43
Id.at35,Petition.
44
45
46
47
Id.at256,CommissionerofInternalRevenuesComment.
48
259Phil.757(1989)[PerJ.Regalado,SecondDivision].
49
Rollo,p.258,CommissionerofInternalRevenuesComment.
50
Id.at257.
51
Id.at260.
52
Id.at260261.
53
54
55
Com.ActNo.466(1939),sec.84(g).
3/5/2017 G.R.No.169507
56
Commissioner of Internal Revenue v. British Overseas Airways Corporation, 233 Phil. 406, 421 (1987)
[Per J. MelencioHerrera, En Banc], citing TAX CODE, sec. 24(b)(2), as amended by Rep. Act No. 6110
(1969).
57
Pres.DecreeNo.1158A(1977),sec.1.
58
233Phil.406(1987)[PerJ.MelencioHerrera,EnBanc],citedinCommissionerofInternalRevenuev.Air
India,241Phil.689,694696(1988)[PerJ.Gancayco,FirstDivision].
59
Id.at420421.
60
Id.
61
Rep.ActNo.7042(1991),sec3(d).
62
ImplementingRulesandRegulationsofRep.ActNo.7042(1991),sec1(f).
63
CivilAeronauticsBoardEconomicRegulationNo.4,chap.I,sec.2(b).
64
CivilAeronauticsBoardEconomicRegulationNo.4,chap.III,sec.26.
65
CivilAeronauticsBoardEconomicRegulationNo.4,chap.III,sec.30.
66
Cf.Cargill,Inc.v.IntraStrataAssuranceCorporation,629Phil.320,332(2010)[PerJ.Carpio,Second
Division],citingNationalSugarTradingCorporationv.CourtofAppeals,316Phil.562,568569(1995)[Per
J.Quiason,FirstDivision].
67
Rollo,p.122,PassengerGeneralSalesAgencyAgreementBetweenAirCanadaandAerotelLtd.,Corp.
68
Id.at126.
69
Id.at78,CivilAeronauticsBoardExecutiveDirectorGuiaMartinezslettertoAerotelLimitedCorporation.
70
626Phil.566(2010)[PerJ.Velasco,Jr.,ThirdDivision].ThecasewasalsocitedinUnitedAirlines,Inc.v.
CommissionerofInternalRevenue,646Phil.184,193(2010)[PerJ.Villarama,Jr.,ThirdDivision].
71
South African Airways v. Commissioner of Internal Revenue, 626 Phil. 566, 574575 (2010) [Per J.
Velasco,Jr.,ThirdDivision].
72
Id.at575.
73
J. Paras, Dissenting Opinion in Commissioner of Internal Revenue v. Procter & Gamble Philippine
ManufacturingCorporation,G.R.No.66838,December2,1991,204SCRA377,411[PerJ.Feliciano,En
Banc].
74
368Phil.388(1999)[PerJ.GonzagaReyes,ThirdDivision].
75
Id.at404405.
76
CONST.,art.II,sec.2.
77
Taadav.Angara,338Phil.546,591592(1997)[PerJ.Panganiban,EnBanc]:"[W]hilesovereigntyhas
traditionally been deemed absolute and allencompassing on the domestic level, it is however subject to
restrictions and limitations voluntarily agreed to by the Philippines, expressly or impliedly, as a member of
thefamilyofnations.Unquestionably,theConstitutiondidnotenvisionahermittypeisolationofthecountry
from the rest of the world. In its Declaration of Principles and State Policies, the Constitution "adopts the
generallyacceptedprinciplesofinternationallawaspartofthelawoftheland,andadherestothepolicyof
peace,equality,justice,freedom,cooperationandamity,withallnations."Bythedoctrineofincorporation,
the country is bound by generally accepted principles of international law, which are considered to be
automatically part of our own laws. One of the oldest and most fundamental rules in international law is
pactasuntservandainternationalagreementsmustbeperformedingoodfaith."Atreatyengagementis
not a mere moral obligation but creates a legally binding obligation on the parties. . . . A state which has
contractedvalidinternationalobligationsisboundtomakeinitslegislationssuchmodificationsasmaybe
necessarytoensurethefulfillmentoftheobligationsundertaken."(Citationsomitted)
78
G.R. No. 188550, August 28, 2013, 704 SCRA 216 [Per C.J. Sereno, First Division]. Also cited in CBK
Power Company Limited v. Commissioner of Internal Revenue, G.R. Nos. 19338384, January 14, 2015
3/5/2017 G.R.No.169507
<http://sc.judiciary.gov.ph/pdf/web/viewer.html?file=/jurisprudence/2015/january2015/19338384.pdf> 78
[PerJ.PerlasBernabe,FirstDivision].
79
Deutsche Bank AG Manila Branch v. Commissioner of Internal Revenue, G.R. No. 188550, August 28,
2013,704SCRA216,223[PerC.J.Sereno,FirstDivision].TheBureauofInternalRevenue"issuedRMO
No. 12000, which requires that any availment of the tax treaty relief must be preceded by an application
withITADatleast15daysbeforethetransaction.TheOrderwasissuedtostreamlinetheprocessingofthe
application of tax treaty relief in order to improve efficiency and service to the taxpayers. Further, it also
aimstopreventtheconsequencesofanerroneousinterpretationand/orapplicationofthetreatyprovisions
(i.e., filing a claim for a tax refund/credit for the overpayment of taxes or for deficiency tax liabilities for
underpayment)."(Citationomitted)
80
Id.
81
Id.at227228.
82
ConventionwithCanadafortheAvoidanceofDoubleTaxationandthePreventionofFiscalEvasionwith
Respect to Taxes on Income, March 11, 1976 (1977)
<http://www.bir.gov.ph/images/bir_files/international_tax_affairs/Canada%20treaty.pdf> (visited July 21,
2015). Cesar Virata signed for the government of the Republic of the Philippines, while Donald Jamieson
signedforthegovernmentofCanada.
83
RespecttoTaxesonIncome,art.Vprovides:
ArticleV
PermanentEstablishment
1. For the purposes of this Convention, the term "permanent establishment" means a fixed
placeofbusinessinwhichthebusinessoftheenterpriseiswhollyorpartlycarriedon.
2.Theterm"permanentestablishment"shallincludeespecially:
a)aplaceofmanagement
b)abranch
c)anoffice
d)afactory
e)aworkshop
f)amine,quarryorotherplaceofextractionofnaturalresources
g)abuildingorconstructionsiteorsupervisoryactivitiesinconnectiontherewith,where
suchactivitiescontinueforaperiodmorethansixmonths
h)anassemblyorinstallationprojectwhichexistsformorethanthreemonths
i)premisesusedasasalesoutlet
j)awarehouse,inrelationtoapersonprovidingstoragefacilitiesforothers.
3.Theterm"permanentestablishment"shallnotbedeemedtoinclude:
a)theuseoffacilitiessolelyforthepurposeofstorage,displayordeliveryofgoodsor
merchandisebelongingtotheenterprise
b)themaintenanceofastockofgoodsormerchandisebelongingtotheenterprise
solelyforthepurposeofstorage,displayordelivery
c)themaintenanceofastockofgoodsormerchandisebelongingtotheenterprise
solelyforthepurposeofprocessingbyanotherenterprise
d)themaintenanceofafixedplaceofbusinesssolelyforthepurposeofpurchasing
goodsormerchandise,orforcollectinginformationfortheenterprise
3/5/2017 G.R.No.169507
e)themaintenanceofafixedplaceofbusinesssolelyforthepurposeofadvertising,for
the supply of information, for scientific research, or for similar activities which have a
preparatoryorauxiliarycharacter,fortheenterprise.
4. A person acting in a Contracting State on behalf of an enterprise of the other Contracting

State (other than an agent of independent status to whom paragraph 6 applies) shall be
deemedtobeapermanentestablishmentinthefirstmentionedStateif:
a) he has and habitually exercises in that State an authority to conclude contracts on

behalf of the enterprise, unless his activities are limited to the purchase of goods or
merchandiseforthatenterpriseor
b)hehasnosuchauthority,buthabituallymaintainsinthefirstmentionedStateastock
of goods or merchandise from which he regularly delivers goods or merchandise on
behalfoftheenterprise.
5. An insurance enterprise of a Contracting State shall, except in regard to reinsurance, be

deemed to have a permanent establishment in the other State if it collects premiums in the
territory of that State or insures risks situated therein through an employee or through a
representativewhoisnotanagentofindependentstatuswithinthemeaningofparagraph6.
6.AnenterpriseofaContractingStateshallnotbedeemedtohaveapermanentestablishment
intheotherContractingStatemerelybecauseitcarriesonbusinessinthatotherStatethrough
abroker,generalcommissionagentoranyotheragentofanindependentstatus,wheresuch
personsareactingintheordinarycourseoftheirbusiness.
7.ThefactthatacompanywhichisaresidentofaContractingStatecontrolsoriscontrolled
byacompanywhichisaresidentoftheotherContractingState,orwhichcarriesonbusiness
inthatotherState(whetherthroughapermanentestablishmentorotherwise),shallnotofitself
constituteforeithercompanyapermanentestablishmentoftheother.(Emphasissupplied)
84
RespecttoTaxesonIncome,art.V(1).
85
CIVILCODE,art.1868provides:
Article 1868. By the contract of agency a person binds himself to render some service or to do
somethinginrepresentationoronbehalfofanother,withtheconsentorauthorityofthelatter.
86
RespecttoTaxesonIncome,art.XVprovides:
ArticleXV
DependentPersonalServices
1. Subject to the provisions of Articles XVI, XVIII and XIX, salaries, wages and other similar
remunerationderivedbyaresidentofaContractingStateinrespectofanemploymentshallbe
taxableonlyinthatStateunlesstheemploymentisexercisedintheotherContractingState.If
the employment is so exercised, such remuneration as is derived therefrom may be taxed in
thatotherState.
2. Notwithstanding the provisions of paragraph 1, remuneration derived by a resident of a

ContractingStateinrespectofanemploymentexercisedintheotherContractingStateshallbe
taxableonlyinthefirstmentionedStateiftherecipientispresentintheotherContractingState
for a period or periods not exceeding in the aggregate 183 days in the calendar year
concerned,andeither
a) the remuneration earned in the other Contracting State in the calendar year
concerneddoesnotexceedtwothousandfivehundredCanadiandollars($2,500)orits
equivalentinPhilippinepesosorsuchotheramountasmaybespecifiedandagreedin
lettersexchangedbetweenthecompetentauthoritiesoftheContractingStatesor
b)theremunerationispaidby,oronbehalfof,anemployerwhoisnotaresidentofthe
otherState,andsuchremunerationisnotbornebyapermanentestablishmentorafixed
basewhichtheemployerhasintheotherState.
3. Notwithstanding the preceding provisions of this Article, remuneration in respect of

employmentasamemberoftheregularcreworcomplementofashiporaircraftoperatedin
3/5/2017 G.R.No.169507
internationaltrafficbyanenterpriseofaContractingState,shallbetaxableonlyinthatState.
87
Amongthefourelementsofanemployeremployeerelationship(i.e.,(i)theselectionandengagementof
the employee (ii) the payment of wages (iii) the power of dismissal and (iv) the power of control of the
employees conduct), the control test is regarded as the most important. Under this test, an employer
employee relationship exists if the employer has reserved the right to control the employee not only as to
theresultoftheworkdonebutalsoastothemeansandmethodsbywhichthesameistobeaccomplished.
See Fuji Television Network, Inc. v. Espiritu, G.R. Nos. 20494445, December 3, 2014
<http://sc.judiciary.gov.ph/pdf/web/viewer.html?file=/jurisprudence/2014/december2014/20494445.pdf> 19
20[PerJ.Leonen,SecondDivision]RoyaleHomesMarketingCorporationv.Alcantara,G.R.No.195190,
July28,2014,731SCRA147,162[PerJ.DelCastillo,SecondDivision]Tongkov.TheManufacturersLife
Insurance Co. (Phils.), Inc., 655 Phil. 384, 400401 (2011) [Per J. Brion, En Banc] Sonza v. ABSCBN
BroadcastingCorporation,G.R.No.138051,June10,2004,431SCRA583,594595[PerJ.Carpio,First
Division]Dr.Sarav.Agarrado,248Phil.847,851(1988)[PerC.J.Fernan,ThirdDivision],andInvestment
Planning Corporation of the Philippines v. Social Security System, 129 Phil. 143, 147 (1967) [Per J.
Makalintal,EnBanc],citedinInsularLifeAssuranceCo.,Ltd.v.NationalLaborRelationsCommission,259
Phil.65,72(1989)[PerJ.Narvasa,FirstDivision].
88
Rep.ActNo.776(1952),sec.1(jj),asamendedbyPres.DecreeNo.1462(1978),sec.1.
89
Rep.ActNo.776(1952),sec.10(A),asamendedbyPres.DecreeNo.1462(1978),sec.6.
90
Rep.ActNo.776(1952),sec.11,asamendedbyPres.DecreeNo.1462(1978),sec.7.
91
Rollo,pp.124125,PassengerGeneralSalesAgencyAgreementBetweenAirCanadaandAerotelLtd.,
Corp.
92
Id.at126.
93
Id.at122.
94
Id.at127.
95
Id.at128.
96
Id.at130.
97
Id.at122.
98
Id.
99
Id.at137.
100
Id.
101
Id.at122.
102
Id.at123.
103
Id.
104
Id.
105
Id.at122.
106
Id.at126.
107
Id.
108
Id.
109
Id.at129.
110
Id.at131.
111
Id.at132.
3/5/2017 G.R.No.169507
112
Cf.Steelcase,Inc.v.DesignInternationalSelections,Inc.,G.R.No.171995,April18,2012,670SCRA
64[PerJ.Mendoza,ThirdDivision].Thiscourtheldthat"theappointmentofadistributorinthePhilippinesis
notsufficienttoconstitutedoingbusinessunlessitisunderthefullcontroloftheforeigncorporation.On
the other hand, if the distributor is an independent entity which buys and distributes products, other than
thoseoftheforeigncorporation,foritsownnameanditsownaccount,thelattercannotbeconsideredtobe
doing business in the Philippines. It should be kept in mind that the determination of whether a foreign
corporationisdoingbusinessinthePhilippinesmustbejudgedinlightoftheattendantcircumstances."(Id.
at 74, citations omitted) This court found that Design International Selections, Inc. "was an independent
contractor, distributing various products of Steelcase and of other companies, acting in its own name and
for its own account." (Id. at 75) "As a result, Steelcase cannot be considered to be doing business in the
PhilippinesbyitsactofappointingadistributorasitfallsunderoneoftheexceptionsunderR.A.No.7042."
(Id.at77).
113
RespecttoTaxesonIncome,art.VIIprovides:
ArticleVII
BusinessProfits
1.TheprofitsofanenterpriseofaContractingStateshallbetaxableonlyinthatState
unless the enterprise carries on business in the other Contracting State through a
permanentestablishmentsituatedtherein.Iftheenterprisecarriesonorhascarriedon
businessasaforesaid,theprofitsoftheenterprisemaybetaxedintheotherStatebut
onlysomuchofthemasisattributableto:
a)thatpermanentestablishmentor
b) sales of goods or merchandise of the same or similar kind as those sold, or

from other business activities of the same or similar kind as those affected,
throughthatpermanentestablishment.
2.Subjecttotheprovisionsofparagraph3,whereanenterpriseofaContractingState
carries on business in the other Contracting State through a permanent establishment
situatedtherein,thereshallbeattributedtothatpermanentestablishmentprofitswhichit
might be expected to make if it were a distinct and separate enterprise engaged in the
same or similar activities under the same or similar conditions and dealing wholly
independentlywiththeenterpriseofwhichitisapermanentestablishment.
3.Inthedeterminationoftheprofitsofapermanentestablishment,thereshallbeallowed
those deductible expenses which are incurred for the purposes of the permanent
establishmentincludingexecutiveandgeneraladministrativeexpenses,whetherincurred
intheStateinwhichthepermanentestablishmentissituatedorelsewhere.
4. No profits shall be attributed to a permanent establishment by reason of the mere

purchasebythatpermanentestablishmentofgoodsormerchandisefortheenterprise.
5. For the purposes of the preceding paragraphs, the profits to be attributed to the
permanentestablishmentshallbedeterminedbythesamemethodyearbyyearunless
thereisgoodandsufficientreasontothecontrary.
6.WhereprofitsincludeitemsofincomewhicharedealtwithseparatelyinotherArticles
of this Convention, then, the provisions of those Articles shall not be affected by the
provisionsofthisArticle.
114
RespecttoTaxesonIncome,art.VII,par.6provides:
6. Where profits include items of income which are dealt with separately in other Articles of this
Convention, then, the provisions of those Articles shall not be affected by the provisions of this
Article.
115
RespecttoTaxesonIncome,art.VIIIprovides:
ArticleVIII
ShippingandAirTransport
3/5/2017 G.R.No.169507
1.ProfitsderivedbyanenterpriseofaContractingStatefromtheoperationofshipsor
aircraftshallbetaxableonlyinthatState.
2. Notwithstanding the provisions of paragraph 1, profits from sources within a

Contracting State derived by an enterprise of the other Contracting State from the
operation of ships or aircraft in international traffic may be taxed in the firstmentioned
Statebutthetaxsochargedshallnotexceedthelesserof
a)oneandonehalfpercentofthegrossrevenuesderivedfromsourcesinthat
Stateand
b) the lowest rate of Philippine tax imposed on such profits derived by an

enterpriseofathirdState.
116
TAXCODE,sec.31provides:
SEC. 31. Taxable Income Defined. The term taxable income means the pertinent items of gross
incomespecifiedinthisCode,lessthedeductionsand/orpersonalandadditionalexemptions,ifany,
authorizedforsuchtypesofincomebythisCodeorotherspeciallaws.
117
Rollo,p.59,CourtofTaxAppealsEnBancDecision.
118
CONST.,art.II,sec.2.
119
LexspecialisderogatgeneraliSeeBAYAN(BagongAlyansangMakabayan)v.Exec.Sec.Zamora,396
Phil.623,652(2000)[PerJ.Buena,EnBanc],citingManilaRailroadCo.vCollectorofCustoms, 52 Phil.
950,952(1929)[PerJ.Malcolm,EnBanc]andLeverizav.IntermediateAppellateCourt,241Phil.285,299
(1988)[PerJ.Bidin,ThirdDivision],citedinRepublicv.Sandiganbayan,FirstDivision,255Phil.71,8384
(1989)[PerJ.Gutierrez,Jr.,EnBanc].
120
TAXCODE,sec.28(A)(1),asamendedbyRep.ActNo.9337(2005),sec.2.
121
SeeBureauofInternalRevenuewebsite<http://www.bir.gov.ph/index.php/taxcode.html>(visitedJuly21,
2015).
122
SeeHermanv.RadioCorporationofthePhilippines,50Phil.490,498(1927)[PerJ.Street,EnBanc]in
thatthelaterlegislativeexpressionprevailswhentwostatutesapply.
123
AgreementBetweentheGovernmentofCanadaandtheGovernmentoftheRepublicofthePhilippines
onAirTransport,GlobalAffairsCanada<http://www.treatyaccord.gc.ca/texttexte.aspx?id=100250>(visited
July21,2015).
124
MarubeniCorporationv.CommissionerofInternalRevenue,258Phil.295,306(1989)[PerC.J.Fernan,
ThirdDivision].
125
Rollo,pp.325326,AirCanadasMemorandum.
126
Id.at323325.
127
114Phil.549,554555(1962)[PerJ.Barrera,EnBanc].
128
245Phil.717,722723(1988)[PerJ.Gutierrez,Jr.,ThirdDivision].
129
G.R. No. 175410, November 12, 2014 <http://sc.judiciary.gov.ph/pdf/web/viewer.html?
file=/jurisprudence/2014/november2014/175410.pdf>[PerJ.Leonen,SecondDivision].
130
Id.at1.
131
Id.
132
Id.at910.
133
Republic v. Mambulao Lumber Co., et al., 114 Phil. 549, 552 (1962) [Per J. Barrera, En Banc] and
Franciav.IntermediateAppellateCourt,245Phil.717,722(1988)[PerJ.Gutierrez,Jr.,ThirdDivision].
134
Republicv.MambulaoLumberCo.,etal.,114Phil.549,552(1962)[PerJ.Barrera,EnBanc].
3/5/2017 G.R.No.169507
135
Id.at554555.
136
Franciav.IntermediateAppellateCourt,245Phil.717,722(1988)[PerJ.Gutierrez,Jr.,ThirdDivision].
137
Id.at719.
138
Id.at720.
139
Id.at722.
140
Id.at722723.
141
G.R.No.92585,May8,1992,208SCRA726[PerJ.Davide,Jr.,EnBanc].
142
356Phil.189(1998)[PerJ.Romero,ThirdDivision].
143
CaltexPhilippines,Inc.v.CommissiononAudit,G.R.No.92585,May8,1992,208SCRA726,756[PerJ.
Davide,Jr.,EnBanc].
144
Philex Mining Corporation v. Commissioner of Internal Revenue, 356 Phil. 189, 198 (1998) [Per J.
Romero, Third Division], citing Commissioner of Internal Revenue v. Palanca, Jr., 124 Phil. 1102, 1107
(1966)[PerJ.Regala,EnBanc].
145
Id.at200.
146
SouthAfricanAirwaysv.CommissionerofInternalRevenue,626Phil.566,577(2010)[PerJ.Velasco,
Jr.,ThirdDivision].
147
646Phil.184(2010)[PerJ.Villarama.Jr.,ThirdDivision].
148
Id.at198199.
149
Rollo,pp.79105,AirCanada'sQuarterlyandAnnualIncomeTaxReturns.
TheLawphilProjectArellanoLawFoundation

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3/5/2017 G.R.No.

ApplicableQuarter[/]Year DateFiled/Paid AmountofTax

2ndQtr2002 August29,2002 1,164,664.11

4. A person acting in a Contracting State on behalf of an enterprise of the other Contracting

a) he has and habitually exercises in that State an authority to conclude contracts on

5. An insurance enterprise of a Contracting State shall, except in regard to reinsurance, be

2. Notwithstanding the provisions of paragraph 1, remuneration derived by a resident of a

3. Notwithstanding the preceding provisions of this Article, remuneration in respect of

b) sales of goods or merchandise of the same or similar kind as those sold, or

4. No profits shall be attributed to a permanent establishment by reason of the mere

2. Notwithstanding the provisions of paragraph 1, profits from sources within a

b) the lowest rate of Philippine tax imposed on such profits derived by an

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