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SMI-ED Philippine Technology, Inc. vs.

Commissioner of Internal Revenue

FACTS:

SMI-Ed Philippines is a PEZA-registered corporation authorized "to engage in the business of


manufacturing ultra high-density microprocessor unit package."

After its registration on June 29, 1998, SMI-Ed Philippines constructed buildings and purchased
machineries and equipment.

As of December 31, 1999, the total cost of the properties amounted to P3,150,925,917.00

SMI-Ed Philippines "failed to commence operations." Its factory was temporarily closed, effective
October 15, 1999. On August 1, 2000, it sold its buildings and some of its installed machineries and
equipment to Ibiden Philippines, Inc., another PEZA-registered enterprise, for 2,100,000,000.00
(P893,550,000.00). SMI-Ed Philippines was dissolved on November 30, 2000.

In its quarterly income tax return for year 2000, SMI-Ed Philippines subjected the entire gross sales of its
properties to 5% final tax on PEZA registered corporations. SMI-Ed Philippines paid taxes amounting to
P44,677,500.00.

In February 2, 2001, after requesting the cancellation of its PEZA registration and amending its articles of
incorporation to shorten its corporate term, SMI-Ed Philippines filed an administrative claim for the
refund of P44,677,500.00 with the Bureauof Internal Revenue (BIR). SMIEd Philippines alleged that the
amountwas erroneously paid. It also indicated the refundable amount in its final income tax return filed
on March 1, 2001. It also alleged that it incurred a net loss of P2,233,464,538.00.

The BIR did not act on SMI-Ed Philippines claim, which prompted the latter to file a petition for review
before the Court of Tax Appeals on September 9, 2002.

The Court of Tax Appeals Second Division denied SMI-Ed Philippines claim for refund in the decision
dated December 29, 2004.

The Court of Tax Appeals Second Division found that SMI-Ed Philippines administrative claim for refund
and the petition for review with the Court of Tax Appeals were filed within the two-year prescriptive
period. However, fiscal incentives given to PEZA-registered enterprises may be availed only by PEZA-
registered enterprises that had already commenced operations. Since SMI-Ed Philippines had not
commenced operations, it was not entitled to the incentives of either the income tax holiday or the 5%
preferential tax rate. Payment of the 5% preferential tax amounting to P44,677,500.00 was erroneous.

After finding that SMI-Ed Philippines sold properties that were capital assets under Section 39(A)(1) of
the National Internal Revenue Code of 1997, the Court of Tax Appeals Second Division subjected the sale
of SMIEd Philippines assets to 6% capital gains tax under Section 27(D)(5) of the same Code and Section
2 of Revenue Regulations No. 8-98.19 It was found liable for capital gains tax amounting to
P53,613,000.00.20 Therefore, SMIEd Philippines must still pay the balance of P8,935,500.00 as
deficiency tax, "which respondent should perhaps look into

The instant petition was DENIED by the Court of Tax Appeals Second Division, as well as SMI-Ed
Philippine's motion for reconsideration.

On July 17, 2005, SMI-Ed Philippines filed a petition for review before the Court of Tax Appeals En Banc.
It argued that the Court of Tax Appeals Second Division erroneously assessed the 6% capital gains tax on
the sale of SMI-Ed Philippines equipment, machineries, and buildings. It also argued that the Court of
Tax Appeals Second Division cannot make an assessment at the first instance. Even if the Court of Tax
Appeals Second Division has such power, the period to make an assessment had already prescribed.

The decision promulgated on November 3, 2006, the Court of Tax Appeals En Banc dismissed SMI-Ed
Philippines petition and affirmed the Court of Tax Appeals Second Divisions decision and resolution.

Hence, this petition for review.

ISSUE:

Whether or not the petitioner's machineries be subjected to 6% capital gains tax

HELD:

For petitioners properties to be subjected to capital gains tax, the properties must form part of
petitioners capital assets.

Section 39(A)(1) of the National Internal Revenue Code of 1997 defines "capital assets":

SEC. 39. Capital Gains and Losses. -

(A) Definitions.- As used in this Title -

(1) Capital Assets.- the term capital assets means property held by the taxpayer (whether or not
connected with his trade or business), but does not include stock in trade of the taxpayer or other
property of a kind which would properly be included in the inventory of the taxpayer if on hand at the
close of the taxable year, or property held by the taxpayer primarily for sale to customers in the ordinary
course of his trade orbusiness, or property used in the trade or business, of a character which is subject
to the allowance for depreciation provided in Subsection (F) of Section 34; or real property used in trade
or business of the taxpayer. (Emphasis supplied) Thus, "capital assets" refers to taxpayers property that
is NOT any of the following:

1. Stock in trade;

2. Property that should be included inthe taxpayers inventory at the close of the taxable year;

3. Property held for sale in the ordinary course of the taxpayers business;

4. Depreciable property used in the trade or business; and

5. Real property used in the trade or business.

The properties involved in this case include petitioners buildings, equipment, and machineries.
They are not among the exclusions enumerated in Section 39(A)(1) of the National Internal Revenue
Code of 1997. None of the properties were used in petitioners trade or ordinary course of business
because petitioner never commenced operations. They were not part of the inventory. None of them
were stocks in trade. Based on the definition of capital assets under Section 39 of the National Internal
Revenue Code of 1997, they are capital assets.

Respondent insists that since petitioners machineries and equipment are classified as capital assets,
their sales should be subject to capital gains tax. Respondent is mistaken.

In Commissioner of Internal Revenue v. Fortune Tobacco Corporation, this court said:

The rule in the interpretation of tax laws is that a statute will not be construed as imposing a tax
unless it does so clearly, expressly, and unambiguously. A tax cannot be imposed without clear and
express words for that purpose. Accordingly, the general rule of requiring adherence to the letter in
construing statutes applies with peculiar strictness to tax laws and the provisions of a taxing act are not
to be extended by implication. In answering the question of who is subject to tax statutes, it is basic that
in case of doubt, such statutes are to be construed most strongly against the government and in favor of
the subjects or citizens because burdens are not to be imposed nor presumed to be imposed beyond
what statutes expressly and clearly import. As burdens, taxes should not be unduly exacted nor assumed
beyond the plain meaning of the tax laws.

Capital gains of individuals and corporations from the sale of real properties are taxed differently.
Individuals are taxed on capital gains from sale of all real properties located in the Philippines and
classified as capital assets. Thus:

SEC. 24. Income Tax Rates.

....

(D) Capital Gains from Sale of Real Property.

(1) In General. - The provisions of Section 39(B) notwithstanding, a final tax of six percent (6%) based on
the gross selling price or current fair market value as determined in accordance with Section 6(E) of this
Code, whichever is higher, is hereby imposed upon capital gains presumed to have been realized from
the sale, exchange, or other disposition of real property located in the Philippines, classified as capital
assets, including pacto de retro sales and other forms of conditional sales, by individuals, including
estates and trusts: Provided, That the tax liability, if any, on gains from sales or other dispositions of real
property to the government or any of its political subdivisions or agencies or to government-owned or
controlled corporations shall be determined either under Section 24 (A) or under this Subsection, at the
option of the taxpayer. (Emphasis supplied)

For corporations, the National Internal Revenue Code of 1997 treats the sale of land and
buildings, and the sale of machineries and equipment, differently. Domestic corporations are imposed a
6% capital gains tax only on the presumed gain realized from the sale of lands and/or buildings. The
National Internal Revenue Code of 1997 does not impose the 6% capital gains tax on the gains realized
from the sale of machineries and equipment. Section 27(D)(5) of the National Internal Revenue Code of
1997 provides:

SEC. 27. Rates of Income tax on Domestic Corporations. -


....

(D) Rates of Tax on Certain Passive Incomes. -

....

(5) Capital Gains Realized from the Sale, Exchange or Disposition of Lands and/or Buildings. - A final tax
of six percent (6%) is hereby imposed on the gain presumed to have been realized on the sale, exchange
or disposition of lands and/or buildings which are not actually used in the business of a corporation and
are treated as capital assets, based on the gross selling price of fair market value as determined in
accordance with Section 6(E) of this Code, whichever is higher, of such lands and/or buildings. (Emphasis
supplied)

Therefore, only the presumed gain from the sale of petitioners land and/or building may be
subjected to the 6% capital gains tax. The income from the sale of petitioners machineries and
equipment is subject to the provisions on normal corporate income tax.

Subissue:

1. Land machinery equipment- ordinary or capital asset?

-- its a capital asset. Since the petitionr failed to commence operation, it shall be capital asset only. All
involved are capital assets

2 Is the sale subject to CGT?

Sec 24 (d); Sec 27 (d5)

SMIED being a domestic corporation- Sec 27 (d5)only land and buildings will be subject

Sec 24 (d) refers to invididuals