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Tax treatment of commissions

In an atmosphere of fierce competition, sales incentives act as important factors in
enhancing sales performance. And one of the tools often used by companies to improve
their sales revenue is the grant of commissions to their sales personnel.

As opposed to salary, which is a fixed compensation for services paid on a regular basis,
a commission is a fee or remuneration paid to an agent, representative or employee for
services rendered, which is usually determined based on individual sales. Commissions
may come in the form of profit shares, performance bonuses, performance incentives, or
even sales discounts. Common industries where commission is used prevalently include
car sales, property sales, insurance broking and many other sales jobs.

The tax treatment of commissions would depend on whether an employer-employee

relationship exists between the payor and the recipient, and whether the commission is
being paid by reason of that relationship. It is significant to note that an employer-
employee relationship exists when the person for whom services are performed has the
right to control and direct the individual who performs the services not only as to the
result to be accomplished by the work, but also as to the details and means by which
that result is accomplished. In this connection, it is not necessary that the employer
actually directs or controls the manner in which the services are performed; it is sufficient
that he has the right to do so. The right to discharge is also an important factor that the
person possessing that right is an employer. Other factors characteristic of an employer,
but not necessarily present in very case, are furnishing the tools and furnishing of a
place of work to the individual who performs the services.

A typical situation where a commission is paid under an employer-employee relationship

is when the employee receives sales commissions, profit shares, performance bonuses
or incentives in addition to salary. These fees are typically considered supplemental
compensation.
In cases where a commission is paid by reason of an employer-employee relationship,
the commission should be treated as employee compensation. Based on existing tax
rules, compensation includes all remuneration for services, however designated,
including salaries, wages, emoluments and honoraria, allowances, commissions, fees
including directors fees, taxable bonuses and fringe benefits. Thus, the commission
would be subject to the withholding tax applicable to salaries of employees. However,
this commission would not be subject to value-added tax or other business taxes.

On the other hand, commissions paid for the services of a person other than an
employee are subject to the expanded/creditable withholding taxes. The withholding-tax
rate, however, would depend on the nature of activities rendered by the recipient.
Regardless of the amount, a creditable withholding-tax rate of 10 percent is imposed on
gross commissions or service fees of customs, insurance, stock, real estate, immigration
and commercial brokers and fees of agents of professional entertainers. The same rate
is applied on gross commissions, rebates, discounts and other similar considerations
paid or granted to independent and/or exclusive sales representatives and marketing
agents and subagents of companies, including multilevel marketing companies, on their
sale of goods or services by way of direct selling or similar arrangements where there is
no transfer of title over the goods from the seller to the agent/sales representative.

Other than these specific types of activities, the commission may be classified as
professional, promotional and talent fees or any other form of remuneration for services
rendered. As such, depending on the amount of income of the recipient, the withholding-
tax rate may either be 15 percent or 10 percent.

Regardless of the applicable withholding-tax rate, the creditable-taxes withheld, as the

term suggest, are creditable against the income tax due of the recipient. The recipient is,
therefore, required to report the commission income in his income-tax return and claim
the taxes withheld as credit.

Likewise, as an income derived from the performance of services, the commission

should be subject to the value-added tax or to a 3-percent percentage tax, as the case
may be. Whether subject to value-added tax or to percentage tax, the payee, as a rule,
is required to issue duly registered receipts to cover all receipts of commissions.

Given the difference in the tax treatment of commissions, it pays to know these tax
effects so that attendant compliance requirements imposed by the tax authorities are
fully satisfied by both the payors and payees of commissions. Through this article, we
hope we are able to help clarify the tax treatment of commissions for the proper guidance of
concerned taxpayers.