Article 10, Section 5, 1987 Constitution – “Each

Taxation Review Notes local government unit shall have the power to create its own
sources of revenues and to levy taxes, fees and charges
Questions and Answers subject to such guidelines and limitations as the Congress
may provide, consistent with the basic policy of local
autonomy. Such taxes, fees and charges shall accrue
exclusively to the local governments”.
Power of Taxation
As regards to those within the Autonomous Region, it is
delegated by ordinary statute, not the Constitution, because
An inherent prerogative of the sovereignty such that it
Article 10 Section 20 of the Constitution merely authorizes
can be exercised and enforced even without any constitutional
Congress to pass the Organic Act of Autonomous Region
or statutory provision authorizing taxation.
(Muslim Mindanao and the Cordilleras) which shall provide for
legislative powers to levy taxes upon their inhabitants, hence,
The power to tax is inherent in the National
the provision itself is not self-executing.
Government but not in the Local Government Units
(barangay, municipality, city, province and autonomous
Article 10, Section 20, 1987 Constitution – “Within
regions). Since Local Government Units have no inherent
its territorial jurisdiction and subject to the provisions of
power to tax, they cannot themselves impose taxes upon their
this Constitution and national laws, the organic act of
respective inhabitants UNLESS the power to tax is expressly
autonomous regions shall provide for legislative
granted them by the Constitution or by law passed by
powers over:
Congress.
1. Administrative organization;
Q: Is the power to tax by the LGU inherent?
2. Creation of sources of revenues
3. Ancestral domain and natural resources
A: Determine first what is that LGU- if it is the Autonomous
4. Personal, family and property relations
Region or outside the Autonomous Region.
5. Regional urban and rural planning development;
6. Economic, social, and tourism development;
With respect to those outside the Autonomous Region,
7. Educational policies;
it is vested by the Constitution by virtue of Article 10, Section
8. Preservation and development of the cultural
5 which expressly grants LGUs (except Autonomous Region)
heritage; and
the power to tax persons and property within their respective
9. Such other matters as may be authorized by law
territorial jurisdiction. This provision is a self-executing one.
for the promotion of general welfare of the people of
the region.”

Q: Insofar as the power to tax is concerned therefore,

what is the similarity between the barangay, municipality,

1
city and provinces on the one hand and the Autonomous
Region on the other hand?
A: Both sets of LGUs have no inherent power to tax and
require an authority either from the Constitution or from an
ordinary statute to be able to exercise the power of taxation.
And the distinction is that the former’s power to tax is
based on the Constitution subject only to such guidelines and
limitations as the Congress may provide, while the latter is
based on the Organic Act, which the Constitution authorizes
Congress to pass.
Q: What about the LGC of 1991 (RA 7160), effective
January 1, 1992, which embodies local taxation? Is it not
the source of authority of LGU to levy taxes.
A: The Constitution is the source of the taxing power of the
LGU (except the Autonomous Regions) and the LGC of 1991
serves only as guidelines and limitations provided for by the
Congress in the exercise of the LGU of their power to tax.
Q: The power to tax depends on what?
A: Existence of the State. The moment the State exists,
automatically the power to tax exists.
CONSTITUTIONAL LIMITATIONS
 DUE PROCESS
Q: Why is it that due process is a limitation?
A: The due process clause as a limitation to the power to
tax refers both to substantial and procedural due process.
Substantive due process requires that a tax statute must be
within the constitutional authority of Congress to pass, and that
it be reasonable, fair and just.
Procedural due process, on the other hand, requires
notice and hearing or at least the opportunity to be heard.
Ex. On Substantive Due Process – when the Congress
passes a law exempting the 13th month pay from tax but with
the concurrence only of the majority of the quorum – law would
be invalid because the Constitution provides that any grant of
tax exemption shall be passed with the concurrence of the
majority of all the members of the Congress.
Q: Does it always follow that the adverse party must
always be notified?
A: NO. As a rule, notice and hearing or the opportunity to be
heard is necessary only when expressly required by law.
Where there is no such requirement, notice and the
opportunity to be heard are dispensable.
Ex. Before October 1, 1995, you can secure a TRO
without notifying the adverse party. If you are a suspect in a
criminal case, you have the right to have an opportunity to be
heard (if there is a law).
In the case of a search warrant… The person to be
searched was not notified. The person searched cannot claim
that there was a violation of due process, because there is no
law requiring that the person to be searched should be
notified.
DUE PROCESS CLAUSE
 The Due Process Clause of the Constitution
guarantees the protection of personal and
property rights.
2
  Pursuant thereto, enforced contribution from
the people cannot be made without a law
authorizing the same.
 Hence, the “due process clause” of the
Constitution is violated where tax collections
made not on the basis of a law enacted by a
legitimate government.
 The Due Process clause refers to both
substantive and procedural due process.
 Substantive Due process requires that a tax
statute must be within the Constitutional
authority of the Congress to pass, and that it
be reasonable, fair and just.
 With Procedural Due process requires notice
and hearing or at least the opportunity to be
heard.
Illustration :
Imposition of tax on cellular phones. Justify the
act whether it is just, fair and reasonable.
*Remember that that there is a lot of requirement in
the imposition of cellular phone tax, and it can be assailed
on the ground of double taxation
 EQUAL PROTECTION CLAUSE
As a rule, taxpayers of the same footing are treated
alike, both as to privileges conferred and liabilities imposed.
Difference in treatment is allowed only when based on
substantial distinction. Difference in treatment not based on
substantial distinction is frowned upon as “class legislation”.
This is violated when taxpayers belonging to the same
classification are treated differently from one another; and
when taxpayers belonging to different classifications are
treated alike.
Q: In the case of ORMOC SUGAR (asked in the BAR 15x),
is there a violation of the Equal Protection Clause of the
Constitution if the tax ordinance applied to only one entity
or taxpayer?
A: It depends. You have to determine first the provision of the
tax ordinance. If the ordinance is intended to apply to a
specific taxpayer and to no one else regardless of whether or
not other entities belonging to the same class are established
in the future, it is a violation of the Equal Protection Clause.
But if the ordinance is intended to apply also to similar entities
which may be established in the future, then the tax ordinance
is VALID, even if in the meantime, it applies only to an entity or
taxpayer for the simple reason that there us so far only one (1)
member of the class subject to the tax measure.
Requirements of Reasonable Classification:
1. There must be substantial distinctions that make for real
differences.
2. It must be germane or relevant to the purpose of the law.
3. The distinction or classification must apply not only to the
present but also to future situations.
4. The distinction must apply to persons, things and
transactions belonging to the same class.
Ex. In one case, a tax ordinance was assailed on the
ground that the ordinance failed to distinguish a worker from
casual, permanent or temporary. The SC said that the
ordinance was INVALID because of the future to state the said
qualification.
EQUAL PROTECTION CLAUSE
 Taxpayers of the same footing are treated alike, both
as to privileges conferred and liabilities imposed
3
  Only when there is substantial distinction among the
taxpayers is difference in treatment allowed.
Double taxation is prohibited or obnoxious. However, it is
allowed because there is no prohibition. It exists provided
that the following REQUISITES concur:
1. The taxing authority is the same
2. Tax is imposed on the same taxable year
3. Same tax is imposed on the same subject matter
The case of Commissioner v. Johnson (309 SCRA 87)
defines international juridical double taxation : “When two
or more nations/ countries impose the same or comparable tax
on a particular subject matter within the same comparable
taxable period.”
Illustrative Cases:
 Ormoc Sugar Central vs. Commissioner of Internal
Revenue (22 SCRA 603)
 The City Council of Ormoc passed an ordinance
imposing tax upon entities engaged in sugar
manufacturing or sugar central.
 It so happened that at the time of the enactment of the
law, there was only one sugar central in existence,
which said ordinance applies only to one entity or
taxpayer.
 Is this a violation of the EQUAL PROTECTION
CLAUSE of the Constitution?
 To answer this question, one has to examine the
provision of the tax ordinance itself.
 If the tax ordinance is intended to apply to a specific
taxpayer and to no one else regardless of whether or
not other entities belonging to the same class are
established in the future, IT IS A VIOLATION OF THE
“EQUAL PROTECTION CLAUSE”, but if it is intended
to apply also to similar entities which may be
established in the future, then the tax ordinance is
valid even if in the meantime, it applies only to one
entity or taxpayer for the simple reason that there is for
only one member of the class subject of the tax
measure.
 At this point, it is important to recall the
REQUIREMENTS OF REASONABLE
QUALIFICATIONS as follows:
1. There must be substantial distinctions that
make for real differences;
2. The substantial distinction must be germane or
relevant to the purpose of the law;
3. The distinction or classification must apply not
only to the present but also to future situations;
and
4. The distinctions must apply to persons, things,
and transactions belonging to the same class.
 Tiu vs. Court of Appeals
 This case is on the imposition of EO 97-A, for the
purpose of implementing RA 7227, regarding the
military base in Olongapo City
 Issue: The tax exemption of businessmen within the
military base to the exclusion of those outside.
 Q: Is there a violation of the “Equal Protection
Clause”?
 A: The Supreme Court held that there is NO
VIOLATION OF THE EQUAL PROTECTION CLAUSE
because businessmen operating within the economic
zone is generating substantial amount of money
different from businessmen operating outside
Olongapo City.
4

 NON-IMPAIRMENT OF CONTRACT CLAUSE
Article III, Section 10, 1987 Constitution – “ No law
impairing the obligation of contracts shall be passed”
Article XII, Section 11, 1987 Constitution – “ No
franchise, certificate or any other form of authorization
for the operation of a public utility shall be granted except
to citizens of the Philippines or to corporations or
associations organized under the laws of the Philippines
at least sixty per centum of whose capital is owned by
such citizens, nor shall such franchise, certificate or
authorization be exclusive in character or for a longer
period than 50 years. Neither shall any such franchise or
right be granted except under the condition that it shall
be subject to amendment, alteration or repeal by the
Congress when the common good so requires” xxx
Take note that this applies only to contracts and not to
a franchise.
A franchise is granted always under a condition that it
can be amended, altered or repealed anytime if public interest
so requires. Considering that the non-impairment clause does
not apply to a franchise, such provision for amendment,
alteration or repeal is not a violation of the said Constitutional
injunction.
Take note also that this applies only where one party is
the Government and the other is a private individual. Hence,
this does not apply when both parties are private individuals.
Obligations arise from:
1. Law
2. Contracts
3. Quasi-contracts
4. Acts or omissions punished by law (delict); and
5. Quasi-delicts
The Constitution prohibits impairment only when the
obligation is based on CONTRACTS.
Q: How is the source of obligation determined?
A: When the law establishes the obligation, the law itself is
the source of the obligation. However, when the law merely
recognizes or acknowledges the existence of an obligation
generated by an act which may constitute a contract, quasi-
contract or delict and its only purpose is to regulate such
obligation, then the act itself is the source of the obligation and
not the law.
Q: Considering that the obligation to pay tax is based on
law, how then does the non-impairment clause serve as a
limitation on the power to tax?
A: As a rule, the obligation to pay tax is based on law. But,
when for instance, a taxpayer enters into a compromise with
the BIR, the obligation of the taxpayer becomes one based on
contract. This is an instance where the non-impairment clause
may be invoked.
 Non-imprisonment for Non-Payment of Poll Tax
Article III, Section 20, 1987 Constitution – “No person
shall be imprisoned for debt or non-payment of a poll
tax.”
Q: What is a poll tax?
A: A poll tax is imposed on persons without any qualification.
Hence, a tax based on property ownership, income, or wage is
not a poll tax.
5
 Ex. Community Tax – under Section162 of the LGC
where the payment is P1.00.
Section 162 of the Local Government Code – “
Community Tax Certificate. A community tax certificate shall
be issued to every person or corporation upon payment of the
community tax. A community tax certificate may also be
issued to any person or corporation not subject to the
community tax upon payment of One peso (P1.00)
One cannot be imprisoned for non-payment of a poll
tax because clearly, the payment thereof is NOT
MANDATORY. The penalty for non-payment of a poll tax is
FINE, not imprisonment.
There are (2) kinds of Community Tax – one where
requirement is immaterial.
Q: On the power to tax, why is it a limitation?
A: Because payment is optional, it is not obligatory or
mandatory. The only penalty for non-payment of poll tax is
FINE, not imprisonment.
 FREEDOM OF RELIGION
Article III, Section 5, 1987 Constitution – “No law shall
be made respecting an establishment of religion, or
prohibiting the free exercise thereof. The free exercise
and enjoyment of religious profession and worship,
without discrimination or preference, shall forever be
allowed. No religious test shall be required for the
exercise of civil or political rights”.
This provision contains two clauses: “the non-
establishment clause” and “the free exercise clause”.
The latter is the basis of tax exemptions granted to
religious institutions.
Q: What happens if the government establishes a
religion?
A: In the vent that a religion is established, it will require a
special appropriation from the National Treasury.
 NON-DELEGABILITY OF TAXING POWER
The legislature, which exercises the power to tax, is a
delegate of the people. As such, it cannot further delegate
such power, EXCEPT in the following instances which are
expressly allowed by law:
1. Fixing of tariff rates, customs duties, etc., by the
President –
Article VI, Section 28 (2), 1987 Constitution – “The
Congress may, by law, authorize the President to fix
within specified limits, and subject to such limitations
and restrictions as it may impose, tariff rates, import
and export quotas, tonnage and wharfage dues, and
other duties and imposts within the framework of the
national development program of the Government.”
2. Delegation of taxing power to local governments –
Article 10, Section 5, 1987 Constitution – “Each
local government unit shall have the power to create its
own sources of revenues and to levy taxes, fees and
charges subject to such guidelines and limitations as
the Congress may provide, consistent with the basic
policy of local autonomy. Such taxes, fees and
charges shall accrue exclusively to the local
governments”.
Article 10, Section 20, 1987 Constitution – “Within
its territorial jurisdiction and subject to the provisions of
this Constitution and national laws, the organic act of
6
 autonomous regions shall provide for legislative
powers over:
1. Administrative organization;
2. Creation of sources of revenues
3. Ancestral domain and natural resources
4. Personal, family and property relations
5. Regional urban and rural planning development;
6. Economic, social, and tourism development;
7. Educational policies;
8. Preservation and development of the cultural
heritage; and
9. Such other matters as may be authorized by law
for the promotion of general welfare of the people
of the region.”
The power of taxation is inherent in the national
government but not in the local government units (barangay,
municipality, city, province, and the autonomous regions).
Since local government units have no inherent power to tax,
they cannot by themselves impose taxes upon their respective
inhabitants unless the power to tax is expressly granted them
either by the Constitution or by law passed by Congress.
Under the present set-up, the 1987 Constitution, pursuant to
the policy of the State to make local government units truly
independent and self-governing, expressly grants local
government units (except the autonomous regions) the power
to tax.
Article X, Section 5 of the 1987 Constitution –
expressly grants local government units (except the
autonomous regions) with the power to tax persons and
property within their respective territorial jurisdiction. If the
source of the taxing power of local government units is the
Constitution, what about the Local Government Code of 1991
(RA 7160, effective January 1, 1992) which embodies local
taxation? Is this not the source of authority of local
government units to levy taxes???
The Constitution is the source of the taxing power of
local government units (except the autonomous regions), and
the Local Government Code of 1991 serves only as
guideline and limitations provided for by Congress in the
exercise by local government units of their power to collect
taxes as well as to grant tax exemptions
On the other hand, Article 10, Section 20 of the 1987
Constitution merely authorizes Congress to pass the organic
act of autonomous regions (Muslim Mindanao and the
Cordillera) which shall provide for legislative powers to levy
taxes upon their inhabitants (Subsection 2 thereof). Obviously,
Article X Section 5 is self-executing while Section 20 thereof is
not.
Insofar as the power to tax is concerned, therefore, the
similarity between the barangay, municipality, city and
province, on the one hand, and the autonomous regions, on
the other is this: both sets of local government units have no
inherent power to tax and requires an authority either from the
Constitution or from an ordinary statute to be able to exercise
the power of taxation; and the distinction is this: the former’s
power to tax is based on the Constitution subject only to such
guidelines and limitations as the Congress may provide, while
the latter’s is based on the organic act which the Constitution
authorizes Congress to pass.
The LGC of 1991 is not the source of the taxing powers of
local government units. It serves only as guideline and
limitations to the exercise by LGUs of their delegated power of
taxation.
3. Delegation to administrative bodies -
For purposes of implementing the law, administrative
bodies can come up with implementing rules and regulations.
What can be delegated to administrative bodies, therefore, is
only the collection of taxes but not the imposition thereof,
7
because taxation is inherently a legislative function. The BIR
is concerned only with tax collection.
 EXEMPTION FROM REAL PROPERTY TAX
Article VI, Section 28 par. 3 – xxx “Charitable
institutions, churches and parsonages or convents
appurtenant thereto, mosques, non-profit cemeteries,
and all lands, building and improvements, actually,
directly, and exclusively used for religious, charitable,
or educational purposes shall be exempt from
taxation.”
Cases :
Herrera vs. QC (3 SCRA 186)
Abra vs. Hernando (107 SCRA 104)
Abra Valley vs. Aquino (162 SCRA 106)
Phi. Lung Center vs. QC (433 SCRA 119)
 QUALIFIED MAJORITY IN TAX EXEMPTION
Article VI Section 28, paragraph 4 – “No law granting
any tax exemption shall be passed without the
concurrence of a majority of all the Members of the
Congress.”
 INTERNATIONAL DOUBLE TAXATION
Case: Commissioner vs. Johnson (309 SCRA 87)
The case of Commissioner v. Johnson (309 SCRA 87)
defines international juridical double taxation : “When two
or more nations/ countries impose the same or comparable tax
on a particular subject matter within the same comparable
taxable period.”
 It was held that for the purpose of these
international agreements is to reconcile the
national fiscal legislation of the contracting parties
in order to help the taxpayer avoid simultaneous
taxation in two different jurisdictions.
 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
taxation is to encourage the free flow of goods and
services and the movement of capital, technology
and persons between countries, conditions
deemed vital in creating robust and dynamic
economies.
 Double taxation usually takes place when a person
is a resident of a contracting state and derives
income from, or owns capital in the contracting
state and both states impose taxes on that income
or capital
In order to eliminate double taxation, a tax treaty
resorts to several methods.
First, it sets out the respective rights to tax of the
state of source or situs and of the state of
residence with regard to certain classes of income
or capital.
The second method for the elimination of double
taxation applies whenever the state of source is
given a full or limited right to tax together with the
state of residence. In this case, the treaties make
it incumbent upon the state of residence to allow
relief in order to avoid double taxation.
 In negotiating tax treaties, the underlying rationale
for reducing the tax rate is : that the Philippines will
give up a part of the tax in the expectation that the tax
given up for this particular investment is not taxed by
8
 the country. Thus, the petitioner correctly opined
that the phrase “royalties paid under similar
circumstances” in the most favored nation clause
of the US-RP Treaty necessarily contemplated
“circumstances that are related”.
 The ultimate reason for avoiding double taxation
is: to encourage foreign investors to invest in the
Philippines.
The goal of double taxation conventions would be
thwarted if such treaties did not provide for
effective measures to minimize, if not completely
eliminate, the tax burden laid upon the income or
capital of the investor.
Thus if the rates of tax are lowered by the state of
source in this case by the Philippines, there should
be concomitant commitment on the part of the
state residence to grant some form of tax relief
whether this be in the form of tax credit or
exemption.
At the same time, the intention behind the adoption
of the provision on “relief from double taxation” in
the two tax treaties in question should be
considered in the light of the purpose behind the
most favored nation clause.
 The purpose of the MOST FAVORED NATION
CLAUSE is: to grant to the contracting party
treatment not less favorable than that, which has been
or may be granted to the “most favored” among other
countries.
The most favored nation clause is intended : to
establish the PRINCIPLE OF EQUALITY of
international treatment by providing that the citizens or
subjects of the contracting nations may enjoy the
privileges accorded by either party to those of the
most favored nation.
The essence of the principle is : to allow the
taxpayer in one state to avail of more liberal provisions
granted in another tax treaty to which the country of
residence of such taxpayer is also a party provided
that the same subject matter of taxation, in this case
royalty income is the same as that in the tax treaty
under which the taxpayer is liable.
The similarity in the circumstances of payment of
taxes is a condition for the enjoyment of the most
favored nation treatment precisely to underscore
the need for equality of treatment.
 DOCTRINE OF EQUITABLE RECOUPMENT
This doctrine provides that a claim for refund barred by
prescription may be allowed to offset unsettled tax liabilities.
This is not allowed in this jurisdiction. If allowed, both the
collecting agency and the taxpayer might be tempted to delay
and neglect the pursuit of their respective claims within the
period prescribed by law.
Q: Suppose that because of erroneous computation of
his tax liabilities, a taxpayer is entitled to refund the
amount of P90,000 but the 2-year period lapses without
him filing a written claim for refund. The following year he
finds himself liable to pay the tax in the amount of
P100,000. Can he claim “equitable recoupment” and pay
only the balance of P10,000.
A: NO. The rule is absolute. There is no exception at all,
otherwise, the BIR would be flooded with so many claims.
DOCTRINE OF EQUITABLE RECOUPMENT
9
  It is a claim for refund but has been barred because
of the prescription period
 Jurisprudence has held that it is not allowed in this
jurisdiction because if it is allowed, both the
collecting agency and the taxpayer might be
tempted to delay and neglect the pursuit of their
respective claims within the period prescribed by
law.
 DOCTRINE OF SET-OFF OR COMPENSATION IN
TAXATION
This presupposes mutual obligation between the
parties. In taxation, the concept of set-off arises where the
taxpayer is liable to pay tax but the government, for one
reason or another, is indebted to the said taxpayer.
Case: REPUBLIC vs. MAMBULAO (4 SCRA 622)
Q: In this case, the taxpayer is obliged to pay what?
A: Reforestation charges (tax under the old NIRC)
Mambulao refused to pay, saying that it had paid a
certain sum of money to the government for reforestation
payments but the money was not spent for said purpose.
It claimed set-off or legal compensation between its tax
liability and the amount it had paid for reforestation
RULING: The SC disagreed on the following grounds:
1. The circumstances of the case do not satisfy
requirements of legal compensation, to wit: (1)
each one of the obligors are bound principally; (2)
they are creditors and debtors of each other; (3)
the debts are due and demandable
2. Taxes are not considered debts.
3. Taxes are not in the nature of contracts between the
parties but grow out of duty to and are the positive acts
of the government to the making and enforcing of
which the personal consent of the individual taxpayer is
not required.
Case: FRANCIA vs. IAC
(162 SCRA 753)
Q: The taxpayer is obliged to pay what?
A: Real estate tax.
He refused to pay. He contended that his tax
delinquency had been extinguished by legal compensation
when the government in the wake of a road-widening project
expropriated a portion of his land.
The taxpayer claimed set-off or legal compensation
between his tax liability to the government and the amount that
the government owed him by reason of the confiscation of his
property by way of eminent domain.
RULING: The SC denied such claim reiterating its decision in
the case of Mambulao. The case does not satisfy the
requirements for legal compensation.
Q: In addition to its ruling, what did it say?
A: The payment for the expropriation was already deposited
with the PNB.
Case: DOMINGO vs. GARLITOS
(8 SCRA 443)
the
that Q: What tax is being collected?
that
that A: Inheritance Tax.
Q: Who is the administratrix?
10
A: The surviving spouse.
He refused to pay, saying that the decedent having
rendered services under the Bureau of Lands was entitled to
receive a certain sum as compensation from the government
under RA 2700.
Caltex is entitled to reimbursement because of the
fluctuation of the oil price in the Middle East and Europe.
The government was obliging Caltex to pay due to
OPSF (RA 6952). Caltex invoked legal compensation since it
was entitled to refund because of the fluctuation of oil price.

The administratrix claimed set-off between the tax Q: What did the SC say?
liability of the estate and the compensation which the decedent
should have received from the government but which he failed A: RULING: The SC denied the claim reiterating its decision
to claim before his death. in Mambulao and in Francia to the effect that a taxpayer may
not offset taxes due from the claims that he may have against
RULING: The SC agreed with the taxpayer, saying that where the government. Taxes cannot be the subject of
the taxes and the taxpayers’ claim are fully liquidated, due and compensation, because the government and the taxpayer are
demandable, legal compensation under Article 1279 of the not mutually creditors and debtors of each other and a claim
New Civil Code takes place by operation of law and both debts for tax is not such a debt demand or contract or judgment as is
are extinguished to the concurrent amount allowed to be set-off.
Furthermore, RA 6952 expressly prohibits set-off
Note: But the real reason for allowing compensation was the against the OPSF.
passage of a law, RA 2700, allocating a certain sum of money
to be paid to the estate of the decedent. Case: PHILEX MINING vs. COMM
(294 SCRA 687)
Case: CALTEX vs. COA
(208 SCRA 726) Q: What is Philex obliged to pay?

Q: In this case, who is the taxpayer? A: Excise tax.

A: Caltex. Q: Did Philex agree with the payment of excise tax?

Q: It is obligated to pay what? A: NO. Philex argued that the claim for the excise tax should
be set-off with his refund for VAT.
A: Contribution to the OPSF Fund.
RULING: The SC merely repeated again its prior
Q: To be paid to whom? pronouncements.

A: OPSF. Note: You will notice that only in the case of Domingo that the
RA 6952 obliges all petroleum companies in the SC allowed set-off. The general rule is that set-off is not
Philippines to remit a certain sum of money to the OPSF. allowed.

11
 DOCTRINE OF SET-OFF
 Set-off presupposes mutual obligation between the
parties.
 In taxation, the concept of “set-off” arises where a
taxpayer is liable to pay tax but the government,
for one reason is indebted to the said taxpayer.
Cases on the Concept of Set-Off or Legal Compensation
 Republic vs. Mambulao (6 SCRA 622)
 The government, through the BIR, tried to collect forest
charges from Mambulao Lumber Co., a domestic
corporation.
 The company refused to pay, saying that it had paid a
certain sum of money to the government for
reforestation purposes.
 In sum, the corporation claimed set-off or legal
compensation between its tax liability and the amount
it has paid for reforestation.
 SC: “A claim for taxes is not such a debt, demand,
contract or judgment as is allowed to be set off under
the statutes of set-off, which are construed uniformly,
in the light of public policy, to exclude the remedy in an
action in any of the indebtedness of the state or
municipality for taxes. Neither are they proper subject
of recoupment since they do not arise out of the
contract or transaction sued on.” The Court added,
“The general rule base on grounds for public policy is
well-settled that no set-off is admissible against
demands for taxes levied for general or local
government purposes. The reason on which the
general rule is based, is that taxes are not in the
nature of contracts between the parties but grow out of
duty to, and are positive acts of the government to the
making and enforcing of which the personal consent of
individual taxpayer is not allowed”.
 Domingo vs. Garlitos (8 SCRA 443)
 In this case, the government through the BIR, tried to
collect the inheritance tax from the estate of a
foreigner (inheritance tax is abolished by PD 69).
 The administratrix refused to pay saying that the
decedent, having rendered services under the Bureau
of Lands, was entitled to receive a certain sum as
compensation from the government.
 In sum, the administratrix claimed set-off or legal
compensation between the tax liability of the estate
and the compensation which the decedent should
have received from the government but which he
failed to claim before his death.
 SC: Ruled for the taxpayer, saying that where the
taxes and the taxpayers’ claim are fully liquidated,
due and demandable, legal compensation under
Article 1279 of the Civil Code takes place by
operation of law, and both debts are extinguished to
the concurrent amount.
 But, the legal reason for allowing set-off or legal
compensation in this case was the passage of a law,
RA 2700, allocating a certain sum of money to be paid
to the estate of the decedent.
 Francia vs. Intermediate Appellate Court
 In this case, a taxpayer contended that this tax
delinquency had been extinguished by legal
compensation when the government in the wake of a
road-widening project expropriated a portion of his
land.
 The taxpayer claimed set-off or legal compensation
between his tax liability to the government and the
amount that the government owed him by reason of
12
 the confiscation of his property by way of imminent
domain.
 The Supreme Court denied the claim, reiterating what it
had said in Mambulao, that the circumstances of this
case do not justify the requirements of legal
compensation set forth under Article 1279, CC, to wit:
1. That each one of the obligors bound principally
and he be at the same time a principal of the
other; and
2. That the two debts be due.
 Caltex vs. COA (208 SCRA 726)
 In this case, the government tried to collect the
country’s contribution to the Oil Price Stabilization
Fund (OPSF), but at the same time claimed from the
government a certain sum of money by reason of the
fluctuation of the price of oil in the Middle East and
Europe.
 Caltex, citing the case of Domingo, invoked set off or
legal compensation;
 SC: denied the claim repeating the reasoning in
Mambulao and Francia to the effect that a taxpayer
may not offset taxes due from the claims that he may
have against the Government. Taxes cannot be the
subject of compensation because the government and
the taxpayer are not mutually creditors and debtors of
each other and a claim from the OPSF. One is tax; the
other is a debt. Furthermore, RA 692 expressly
prohibits set-off against the OPSF.
DOUBLE TAXATION
Q: Is double taxation allowed? Why?
A: YES, because there is no prohibition in the Constitution or
statute.
Q: What is the synonym of double taxation?
A: Obnoxious double taxation
Q: What are the elements of Double Taxation?
A: Elements of Double Taxation
1. Levied by the same taxing authority
2. For the same subject matter
3. For the same taxing period and for the same
purpose.
 Commissioner vs. S.C. Johnson and son, Inc.
(309 SCRA 87)
 It was held that for the purpose of these international
agreements is to reconcile the national fiscal
legislation of the contracting parties in order to help
the taxpayer avoid simultaneous taxation in two
different jurisdictions.
 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
taxation is to encourage the free flow of goods and
services and the movement of capital, technology and
persons between countries, conditions deemed vital in
creating robust and dynamic economies.
 Double taxation usually takes place when a person is
a resident of a contracting state and derives income
from, or owns capital in the contracting state and both
states impose taxes on that income or capital
In order to eliminate double taxation, a tax treaty
resorts to several methods.
13

First, it sets out the respective rights to tax of the state
of source or situs and of the state of residence with
regard to certain classes of income or capital.
The second method for the elimination of double
taxation applies whenever the state of source is given
a full or limited right to tax together with the state of
residence. In this case, the treaties make it incumbent
upon the state of residence to allow relief in order to
avoid double taxation.
 In negotiating tax treaties, the underlying rationale for
reducing the tax rate is : that the Philippines will give
up a part of the tax in the expectation that the tax
given up for this particular investment is not taxed by
the country. Thus, the petitioner correctly opined that
the phrase “royalties paid under similar circumstances”
in the most favored nation clause of the US-RP Treaty
necessarily contemplated “circumstances that are
related”.
 The ultimate reason for avoiding double taxation is: to
encourage foreign investors to invest in the
Philippines.
The goal of double taxation conventions would be
thwarted if such treaties did not provide for effective
measures to minimize, if not completely eliminate, the
tax burden laid upon the income or capital of the
investor.
Thus if the rates of tax are lowered by the state of
source in this case by the Philippines, there should be
concomitant commitment on the part of the state
residence to grant some form of tax relief whether this
be in the form of tax credit or exemption.
At the same time, the intention behind the adoption of
the provision on “relief from double taxation” in the two
tax treaties in question should be considered in the
light of the purpose behind the most favored nation
clause.
 The purpose of the MOST FAVORED NATION
CLAUSE is: to grant to the contracting party treatment
not less favorable than that, which has been or may
be granted to the “most favored” among other
countries.
The most favored nation clause is intended : to
establish the PRINCIPLE OF EQUALITY of
international treatment by providing that the citizens or
subjects of the contracting nations may enjoy the
privileges accorded by either party to those of the
most favored nation.
The essence of the principle is : to allow the taxpayer
in one state to avail of more liberal provisions granted
in another tax treaty to which the country of residence
of such taxpayer is also a party provided that the
same subject matter of taxation, in this case royalty
income is the same as that in the tax treaty under
which the taxpayer is liable.
The similarity in the circumstances of payment of
taxes is a condition for the enjoyment of the most
favored nation treatment precisely to underscore the
need for equality of treatment.
Q: What if a tax is levied by the LGU and another by the
national government, is this prohibited?
A: It is not prohibited because the (2) are different taxing
authorities.
14
Q: May the government tax itself?
A: Local government units are expressly prohibited by the
provisions of RA 7160 or the LGC of 1991 from levying tax
upon: (1) the National Government, (2) its agencies and
instrumentalities; (3) LGUs (Section 133 (o))
The National Government, pursuant to the provisions of
RA 8424 of the Tax Reform Act of 1997, can levy tax upon
GOCCs, agencies and instrumentalities (Section 27 (c)),
although income received by the Government from:
1. any public utility, or
2. the exercise of any essential governmental function
is exempt from tax.
CTRP
Classification of Income Taxpayers
Q: What are the different kinds of income taxpayer?
A: There are (3):
1. Individual
2. Corporate
3. Estates and Trust
1. Individual
The following are the individual income taxpayers of
the Philippines:
1. Resident Citizen (Section 23 (A) and 24 (A))
a. Filipino residing in the Philippines
b. Filipino living abroad but without intention of
residing there permanently (Section 22 (E))
2. Non-resident citizen (Section 23 (B) and 24 (A))
3. OCW and Seaman (Section 23 (C) and 24 (A))
4. Resident Alien (Section 22 (F), 23 (D) and 24 (A))
5. Nonresident AETB (Section 22 (G) and 23 (D) and 25
(A)
6. NANETB (Section 22 (G), 23 (D) and 25 (B)
7. AEMOP (Section 25 (C), (D) and (E)
Q: What is the relevance of the classification?
A: The only income taxpayer out of the (7) individuals who is
liable to pay within and without is the resident citizen. The
other (6) are liable only for income derived within the
Philippines.
Q: Is there any taxpayer liable to pay income tax derived
outside the Philippines?
A: None.
Note: It is important to determine the classification of income
taxpayer to know whether he is liable to pay income tax or not.
RESIDENT CITIZEN
Liable for income derived from sources within and
without.
Two (2) types:
1. Filipino residing in the Philippines
2. Filipino living abroad but without intention to reside
there permanently.
Q: If you are a Filipino and you are abroad, are you now a
NRC?
A: No.
Q: What is the determining factor?
A: Whether he has the intention to reside there permanently.
15

Q: If you are a Filipino abroad, is it possible that you are
still a RC for purposes of tax?
A: YES – if you do not have the intention to stay there
permanently.
NON-RESIDENT CITIZEN
Four (4) Types:
1. A citizen of the Philippines who establishes to the
satisfaction of the Commissioner to the fact of his
physical presence abroad with a definite intention to
reside therein.
2. A citizen of the Philippines who leaves the Philippines
during the taxable year to reside abroad, either as an
immigrant or for employment on permanent basis
3. A citizen of the Philippines who works and derives
income from abroad and whose employment thereat
requires him to be physically present abroad most of
the time during the taxable year.
4. A citizen who has been previously considered a NRC
and who arrives in the Philippines at any time during
the taxable year to reside permanently in the
Philippines – NRC for the taxable year in which he
arrives with respect to his income derived from
sources abroad until the date of his arrival in the
Philippines.
OCWs and SEAMEN
Q: What is the implication then why OCW was used and
not OFW in the CTRP?
A: This classification shall cover only those Filipinos citizens
working abroad with a contract. TNTs are not covered.
Note: A Filipino seaman is deemed to be an OCW for
purposes of taxation if he receives compensation for services
rendered abroad as a member of the complement of a vessel
engaged exclusively in international trade.
Consequently, if he is not a member of the complement
or even if he is but the vessel where he works is not
exclusively engaged in international trade, said seaman is not
deemed to be an OCW. He is either a RC or a NRC
depending on where he stays most of the time during the
taxable year.
If he stays in the Philippines most of the time during the
taxable year, he is considered a RC, otherwise, a NRC.
Q: If you are a seaman in the US Navy, are you the one
being referred to?
A: NO.
Q: What is the importance of ascertaining whether or not
a seaman is a RC or a NRC?
A: If he is a RC, he is taxable on ALL income derived from all
sources within and without
If he is a NRC, he is taxable only on income derived
from sources within the Philippines.
RESIDENT ALIEN
An individual whose residence is within the Philippines
and who is not a citizen thereof.
Q: Is an intention to reside permanently in the Philippines
a requirement on the part of the alien?
A: NO.
Q: What is the requirement?
16
A: RR #2 – that the foreigner is neither a sojourner, a traveler
nor a tourist.
NON-RESIDENT ALIEN ENGAGED IN TRADE OR
BUSINESS (NRAETB)
A foreigner not residing in the Philippines but who is
engaged in trade or business here.
RR 2-98 has expanded the coverage of the term,
“engaged in trade or business” to include the exercise of a
profession. Furthermore, by express provision of a law, a NRA
who is neither a businessman nor a professional but who
comes to and stays in the Philippines for an aggregate period
of more than 180 days during any calendar year is deemed to
be a NRAETB in the Philippines.
Consequently, a NRAETB in the Philippines is a
foreigner who is not residing in the Philippines BUT:
1. is engaged in trade or business here.
2. is exercising a profession here
3. comes to and stays in the Philippines for an aggregate
period of more that 180 days during the calendar year.
Q: Suppose that a NRA has no T or B in the Philippines
stays in the country for 100 days in 1996 and another 100
days in 1999, would he be deemed as a NRAETB?
A: NO. The law says the aggregate period of more than 180
days must be within the same calendar year.
Q: What is the income tax applicable to said taxpayer?
A: Net income Tax (NIT) on all its income derived from
sources within the Philippines.
NON-RESIDENT ALIEN NOT ENGAGED IN TRADE OR
BUSINESS
Q: Why is it that the NRANETB are included in any
income tax law?
A: Because they may be deriving income from sources within
the Philippines
They are subject to tax based on their GROSS
INCOME received from all sources within the Philippines.
ALIENS EMPLOYED IN MOP
Are subject to FIT of 15% based on their Gross Income
received from their employer. Income from other sources
within the Philippines shall be subject to NIT.
Q: Are they RA or NRA?
A: The aliens employed in Multinational companies and
Offshore Banking Units are either RA or NRA.
Aliens employed in Petroleum Service Contractors are
NRA
Note: The same treatment applies to the Filipinos employed
and occupying the same position as those aliens in the
Multinational Companies, CBUs, and PSCs.
Q: What is the requirement in RR 2-98 for them to pay
FIT?
A: Only alien individuals occupying managerial and technical
positions – and Filipinos employed are occupying the same
position as those alien individuals – subject to 15% FIT.
3. Corporate
Three (3) types of Corporate Income Taxpayers:
1. Domestic corporation (DC)
17
 2. Resident Foreign Corporation (RFC) or Foreign
Corporation Engaged in Trade or Business in the Both the DC and the RFC are liable for the payment of
Philippines (FCETB) the following:
3. Non-resident Foreign Corporation (NRFC) or Foreign
Corporation Not Engaged in Trade or Business in the 1. NIT- Net Income Tax
Philippines (FCNETB) 2. FIT – Final Income Tax
3. 10% income tax on corporations with improperly
The term “corporation” shall include partnerships, no accumulated earnings
matter how created or organized, joint stock companies, joint 4. MCIT (Minimum Corporate Income Tax) of 2% of the
accounts, associations or insurance companies but does not Gross Income
include general professional partnerships and a joint venture 5. Optional Corporate Income Tax of 15% of the Gross
or consortium formed for the purpose of undertaking Income
construction projects or operations pursuant to or engaging in
petroleum, coal, geothermal or consortium agreement under a A NRFC is liable for the payment of the following:
service contract with the Government.
1. Gross Income Tax (GIT)
Domestic Corporation 2. Final Income Tax (FIT)

Is one created or organized in the Philippines or under Note: Take note of Section 22B “A corporation no matter
its laws. how created or organized.” So,

Taxable on ALL income derived from sources within 1. whether or not a corporation was established in
and without the Philippines. accordance with law or against the law
2. whether or not it was established as non-stock, non-
Resident Foreign Corporation profit

Foreign corporation engaged in trade or business in the Case: TAN vs. DEL ROSARIO
Philippines. (237 SCRA 324)

Non-resident Foreign Corporation Q: What do you mean by GPP or General Professional

Partnership?
Foreign corporation not engaged in trade or business
in the Philippines. A: A GPP is a partnership formed by persons for the:

Foreign Corporation 1. sole purpose of exercising their common profession

2. no part of their income of which is derived from
Either Resident Corporation or Non-resident engaging in any trade or business
Corporation, are taxable only on income from sources within
the Philippines.  To be exempt, the two (2) must concur.

18

Q: What did the SC say as to how many kinds there are?
A: There are two (2) kinds, A GPP formed for:
1. Exercise of a profession – not a corporation – exempt
from corporate income tax (CIT)
2. Exercise of a profession and engaged in trade or
business – a corporation – subject to CIT
-OR-
1. GPP not subject to CIT
2. GPP subject to CIT
3. Estates and Trust
The status of the estate is determined by the status of
the decedent at the time of his death. So an estate, as an
income taxpayer, can be a citizen or an alien
When a person who owns property dies, the following
taxes are payable under the provisions of income tax law:
1. Income Tax for Individuals – to cover the period
beginning January to the time of death.
2. Estate Income Tax – if the property is transferred to
the heirs
3. If no partition is made, individual or Corporate Income
Tax, depending on whether there is or there is no
settlement of the estate. And, if there is, depending
on whether the settlement is judicial or extrajudicial.
Judicial Settlement
1. During the pendency of the settlement, the estate
through the executor, administrator, or heirs is liable for
the payment of ESTATE INCOME TAX (Section 60 (3))
2. If upon the termination of the judicial settlement when
the decision of the court shall have become final and
executory, the heirs still do not divide the property, the
following possibilities may arise:
a. If the heirs contribute to the estate money,
property, or industry, with the intention to
divide the profits between and among
themselves, an UNREGISTERED
PARTNERSHIP is created and the estate
becomes liable for the payment of the CIT
(Evangelista vs. Collector 102 Phil 140)
b. If the heirs without contributing money,
property or industry to improve the estate,
simply divide the fruits thereof between and
among themselves, a CO-OWNERSHIP is
created and Individual Income Tax (IIT) is
imposed on the income derived by each of the
heirs, payable in their separate and individual
capacity (Pascual vs. Comm 166 SCRA 560
and Obillos vs. Comm 139 SCRA 436)
Extrajudicial Settlement and if No Settlement
Same possibilities may arise. The income tax liability
depends on whether or not the unregistered partnership or co-
ownership is created.
Trust
Trust can be created by will, by contract, or by
agreement. The status of a trust depends upon the status of
the grantor or trustor or creator of the trust. Hence, a trust can
also be a citizen or an alien.
The following are the parties to a trust:
19
 x Tax Rate
1. trustor or grantor to a trust -----------------------------
2. trustee or fiduciary Income Tax Due
3. beneficiary
Q: Who are liable to pay the NIT – 32%?
Q: Where the trust earns income and such income is not
passive, who among the parties mentioned is liable for the A: The following are liable to pay the NIT:
payment of income tax thereon?
1. RC – within and without
A: The TRUST itself, through the trustee or fiduciary but only 2. NRC
the trust is irrevocable. 3. OCW and Seamen
4. RA
If it is revocable, or for the benefit of the grantor, the 5. NRAETB – always take note that an alien who comes
liability for the payment of income tax devolves upon the to the Philippines and always stays here for an
trustor himself in his capacity as individual taxpayer. aggregate or more than 180 days is considered a
NRAETB
Kinds of Income Taxes 6. AEMOP – Gross Income – not liable for the NIT but the
FIT except if they receive income from sources other
1. Net Income Tax (NIT) than from their respective employers.
2. Gross Income Tax (GIT) 7. DC – within and without
3. Final Income Tax (FIT) – in sale of shares of stock not 8. RFC
traded, corporate asset; applicable to all kinds of
taxpayer without distinctions Note: Take note that only NRANETB and NRFC are liable
4. Minimum Corporate Income Tax of 2% (MCIT) to pay the GIT.
5. Income Tax on Improperly Accumulated Earnings 10%
6. Optional Corporate Income Tax 15% Note: NRANETB and NRFC – not liable to pay the NIT;
7. Fringe Benefits Tax they are liable for the payment of GIT and FIT

Net Income Tax Final Income Tax

Net Income means Gross Income less deductions and Q: What are the characteristics of a FIT?
or personal and additional exemptions.
A: The characteristics of a FIT are the following:
Formula:
1. An income subject to FIT is no longer subject to NIT
Gross Income otherwise, there will be a violation of prohibited double
(Less) Deductions taxation.
----------------------------- 2. Income subject to FIT does not form part of the
Net Income taxpayer’s GI

20
 3. To pay the FIT, the withholding agent in behalf of the
taxpayer accomplishes a separate return. If the tax is A: The following are liable to pay the FIT:
not paid, it is not the liability of the taxpayer but the
liability of the withholding agent. 1. RC
4. Among the six (6) kinds of income taxes, only the FIT 2. NRC
is applicable to ALL kinds of income taxpayers without 3. OCW and SEAMEN
distinctions. 4. RA
5. To arrive at the FIT, the income subject thereto is 5. NRAETB
immediately multiplied with the applicable tax rate. 6. NRANETB
6. Exemptions and deductions are not allowed 7. AEMOP
absolutely. ALL INCOME TAXPAYERS
7. FIT is applicable only to PASSIVE INCOME – income
is passive if it is derived from sources within the Q: If the taxpayer is a RC, he derives income, is it going
Philippines. to be included in filing the NIT rate?
Suppose the taxpayer is a DC, earning bank
Note: Income from sources within the Philippines cannot interest. If the income is subject to FIT, are you going to
be subjected to FIT because as a general rule, FIT is include it in the annual income tax return.
subject to the withholding tax system. Since we do not
have withholding agents abroad, FIT cannot be imposed A: You have to determine if the income is PASSIVE,
on income derived from sources outside the Philippines. otherwise, there would be an obnoxious double taxation. If
there was already an income already subjected to FIT, then
8. FIT is applied ONLY when the law EXPRESSLY this should NOT appear anymore in the annual income tax
provides for its application. Where the law is silent return or else there would be double taxation.
and the income is not exempt, the income tax
applicable would depend upon the status of the Gross Income Tax
taxpayer.
Q: What is the similarity of the GIT with that of the FIT?
Q: Is there an exception where the withholding agent is
NOT required to pay? A: In both cases, deductions and exemptions are NOT
allowed.
A: YES. In cases of :
1. Sale of Shares of Stock Distinctions
2. Sale of Real Property subject to FIT GIT FIT
1. Applicable only 1. Applicable to
Q: Will it be included in its own annual income tax? to NRANETB and ALL taxpayers
NRFC without distinction
A: NO. There us a separate return for that. 2. There are only 2. Rate varies.
2 rates.
Q: Who are liable to pay FIT? 3. GI is derived by 3. FIT is derived

21
adding up all by multiplying the
income multiplied amount with the
by the tax rate tax rate
Q: Who are liable to pay the GIT?
A: NRANETB and NRFC
Minimum Corporate Income Tax, 2% of the Gross Income
(MCIT)
Q: Who are liable to pay this tax?
A: DC and RFC only.
Q: When is this tax applicable?\
A: The 2% MCIT is applicable on the ____ taxable year of
the corporation, if the NIT due is less than 2% of the GI.
Q: Could the MCIT be applied simultaneously with the
NIT?
A: NO, because the MCIT is paid in lieu of the NIT. It cannot
be paid simultaneously with the NIT. It is either one or the
other, whichever is higher.
Optional Income Tax is 15% of the Gross Income
Not yet applicable because its applicability is upon the
discretion of the President. It is not yet implemented.
Income Tax on Improperly Accumulated Earnings
An improperly accumulated earnings tax equal to 10%
of the improperly accumulated taxable income is imposed on
corporations with improperly accumulated earnings and profits.
Purpose: to prevent or discourage the practice of
accumulating earnings and profits in order to avoid the
payment of income tax on the part of the shareholders.
(See detailed discussion on Section 29.)
 INCOME TAX RATES
Section 24 (A)
Q: Who are liable to pay the NIT under Section 24 (A)?
A: The following are liable to pay the NIT under Section 24
(A):
1. RC
2. NRC
3. OCW and Seamen
4. RA
Note: Take note that Section 24 (A) as worded has no direct
statement that the NIT is applicable. It says, “An income is
imposed on the taxable income defined in Section 31 of this
Code, other than income subject to the tax under subsections
B, C, D of this Section xxx”
Q: How do you interpret that statement?
A: Paragraphs (B), (C), (D) is liable to pay FIT.
Q: What is taxable income?
A: Section 31 – taxable income means the pertinent items of
Gross Income specified in this Code less the deductions and/
or personal and additional exemptions, if any, authorized for
such types of income by this Code or other special laws.
Q: The phrase “taxable income” (Section 31) is this NIT,
GIT or FIT?
22
A: NIT. This refers to the payment of the NIT.
Q: How about the NRAETB?
A: They are liable to pay NIT under Section 25 (A) 1,2.
Q: NRANETB?
A: GIT, Section 25 (B)
Q: Aliens employed in MOP?
A: FIT subject to exceptions.
Section 24 (A) last paragraph, Section 51 (A) (2) (b)
RR 2-98
These are the rules on whether the Husband and the
Wife should file the income tax return JOINTLY or
SEPARATELY.
Q: In case of legally married H and W, in the payment of
the NIT, is it separate or joint?
A: If purely compensation income, SEPARATE.
If not, JOINT
Instances when H and W can file jointly:
1. One spouse earns below P60T – included in the return
of spouse earning more than P60T.
2. Other above P60T
Q: If income is purely compensation, did not exceed
P60T, do you file the return?
A: NO. The employer should file the return.
Q: There are two(2) employers but the income in both
employments does not exceed P60T, is that particular
worker obliged to file the return?
A: No, because the two (2) employers are obliged to file the
return.
Interests, Royalties, Prizes and other Winnings
(Section 24 (B) (1))
Classic Example of FIT.
There are (4) kinds:
1. Bank interest
2. Winnings – FIT of 20% - General Rule- see exceptions
3. Prizes
4. Royalties
Bank Interests
Section 27 (D)
Note: Applies not only to bank interests but also to
deposit substitutes and trust funds.
Q: What is the requirement in case of bank interest?
A: The requirement is that bank interest must be derived from
sources WITHIN the Philippines for it to be considered as
PASSIVE income subject to FIT.
Q: What if you are a RC and deposited in Singapore, what
kind of income tax is imposed on you?
A: NIT. FIT cannot apply because we do not have a
withholding agent in Singapore.
Note: Bank interest is not included in the income tax return
because there is a separate return for this.
23
 1. NRENETB
Depository Bank under the Expanded Currency Deposit 2. NRFC
System (EFCDS) They are liable to pay the GIT.
Section 27 (D) (3)
Q: What about the NRAETB, is he liable to pay FIT on
Bank interest from this is subject to FIT of 7.5% of such bank interest?
interest income.
A: Yes. Section 25 (A) (2) – liable to pay by way of FIT
Q: What if it is a NR?
Q: If he’s a NRANETB?
A: Section 24 (B) (1) – NR – exempt whether individual or
corporation (Section 27 (D) (3)). A: Liable to pa by way of GIT

Q: Is there an instance where the bank interest is exempt Q: What if the depositor is an AEMOP?
from FIT?
A: It depends on whether the alien is classified as residents or
A: YES. Interest from long term bank deposit or investment non-residents.
of individuals is exempt from tax but if the deposit or
investment is preterminated, (4) years to less than (5) years, MO = either RA – FIT
the entire income is subject to a FIT of 5%; (3) years to less NRA --- NRAE – FIT
than (4) = 12%; less than (3) years = 20% NRANE – GIT

Note: Remember, however, that if the DEPOSITOR is a P = NRA –NRAE – FIT

CORPORATION, domestic or foreign, this exception on long- NRANE – GIT
term deposit does not apply.
Q: Suppose the depositor is a DC, what happens to the
Q: So, who are liable to pay FIT on bank interests? bank interest?

A: The following are liable to pay FIT on bank interest: A: Without a DC, it is passive because the branch is in the
Philippines, - FIT of 20% shall apply.
1. RC
2. NRC Q: Does the exception on long term deposits apply?
3. RA
4. OCW and Seamen A: No. It does not apply.
5. DC
Q: What about EFCDS?
Note: Take note that the following are not liable to pay the FIT
on bank interest: A: Yes. Section 27 (D) it is applicable to pay 7.5% FIT.

24
Q: What if the depositor is a RFC?
A: Same – 7.5% FIT
Q: What if the depositor is a NRFC?
A: 32% GIT
Prizes
Derived from contests, promotions.
Note: Take note FIT on prizes applies to individuals only
because if received by a corporation, it is no longer a Passive
Income.
A: Same as in the case of bank interest
RA – FIT
NRAE – FIT
NRANE – GIT
Q: What if the prize is below P10,000?
A: It becomes liable to pay the NIT
Q: If the recipient is a DC, what will be the income tax?
A: NIT not FIT
In the remote possibility that the recipient is a DC,
regardless of the amount and source of origin, FIT shall not be
imposed because FIT is applicable only when the law says so.

Q: What are the requisites? Domestic Corporation

Section 27 D (1)
A: The following are the requisites:
Q: Are prizes in the case of a DC, passive income?
1. income derived within the Philippines
2. not less than P10,000. A: No. This will subject to NIT, part of the GI

Q: Who are liable to pay this tax? Q: What if a RFC?

A: The following are liable to pay FIT on Prizes: A: NIT

1. RC Q: NRFC?
2. NRC
3. OCW and SEAMEN A: Gross Income Tax
4. RA
5. NRAE So, in Prizes and Winnings, when the recipient is an
Individual – FIT (passive); Corporation – NOT FIT (not
Q: Suppose it is NRANETB? passive) but,

A: Not liable for FIT but GIT of 32% 1. DC – NIT

2. RFC – NIT
Q: What about the AEMOP? 3. NRFC – GIT

25
 Note: If a corporation is the recipient, FIT does not apply Q: What winnings are exempt?
because the law is silent.
A: Lotto and PCSO (Philippine Charity Sweepstakes)
Prizes which are EXEMPT from Income Tax winnings.

1. Prizes and Awards made primarily in recognition of Q: Who are liable to pay FIT on Winnings?
religious, charitable, scientific, educational, artistic,
literary or civic achievement are EXCLUSIONS from A: The following are liable to pay FIT on Winnings:
GI if the following conditions concur:
1. RC
a. If the recipient was selected without any 2. NRC
action on his part to enter the contract or 3. OCW and Seamen
proceeding; and 4. RA
b. The recipient is not required to render
substantial future services as a condition to Q: What about NRAETB?
receiving the prize or award
A: Liable to pay FIT.
2. RA 7549 – all prizes and awards granted to athletes
in local and international sports competitions and Q: NRANETB?
tournaments, whether held in the Philippines or
abroad and sanctioned by their national sports A: GIT
association, are likewise exclusions from the GI (The
donor is also exempt from Donor’s Tax). Q: AEMOP

Note: If the interest, royalties and other winnings do not A: Same as in the case of bank interests and prizes. Always
constitute PASSIVE INCOME – (derived from sources make a qualification as to what kind of alien he is, RA or NRA
within) and in the case of prizes not more that P10,000 –
the FIT is not applicable. The applicable tax is the NIT. Q: How about a DC?

A: Liable to pay NIT – FIT does not apply.

Q: NRFC?

Winnings A: GIT

Requirement – income must be derived from sources If the recipient is a corporation, not passive income –
within the Philippines. The P10,000 requirement does not NOT FIT but NIT.
apply.
Royalties

26
Q: What is the general rule on royalty? Q: What about RFC?

A: FIT of 20% except books, literary works and musical A: Same with DC, FIT
compositions are subject to 10% FIT (preferential rate)
Q: What about NRFC?
Q: What is the requirement to be subject to FIT?
A: GIT – 32%
A: Must be derived from sources within the Philippines.
Cash and Property Dividends
Q: What is the requirement to be subject to FIT? Section 24 (B) (2)

A: Must be derived from sources within the Philippines Dividend – means any distribution made by a corporation to its
shareholders out of its earnings and profits and payable to its
Q: What about NRANETB? shareholders, whether in money or in other property (Section
73 (A))
A: GIT

Q: AEMOP? KINDS:
1. Stock Dividend
A: Same rule as with bank interest. 2. Cash Dividend
3. Property Dividend
Q: What about a DC? 4. Disguised Dividend – not relevant
5. Liquidating Dividend – not relevant
A: If the recipient is a DC, RFC it is only on bank interest and
royalties are passive. Prizes and winnings not passive. Disguised Dividend – amount paid by a DC to a NRFC for
services rendered by the latter to the former, when the amount
Bank interest Section 27 D (1) paid exceeds the value of services rendered (RR #2)
Royalties Passive – FIT law provides
Section 24 (B) (2) – did not provide for stock dividend –
Prizes not passive – NIT only cash and property
Winnings law silent
Q: Why is a stock dividend not provided?
Winnings – if received by corporation regardless of the amount
and sources thereof do not constitute as passive income and A: Because a Stock Dividend is exempt from:
not subject to FIT
1. Income Tax
DC = NIT 2. Net Income Tax
RFC = NIT 3. Final Income Tax

27
 Q: In that case, the dividend came from where?
Q: Why exempt?
A: Shares of Stock distributed to SHs.
A: Because of the wordings of Section 73. This is exempt
because it is only a transfer or increase in the authorized Note: for SHs to be exempted, it must come from the
capital stock. And after the declaration of Stock Dividend, profit of the corporation
controlling interest remains the same.
Cash and Property Dividend
Q: Is this absolute?
1. Dividend issued by a DC
A: No. The following are the exceptions (AFISCO case): 2. Dividend received by:
a. Individual Citizen
1. Where treasury share is cancelled and redeemed by 1) RC = Passive Income
the corporation in such time and manner as to make 2) NRC = subject to
such cancellation and redemption essentially 3) OCW and Seamen = FIT
equivalent to the distribution of “taxable dividend” (it b. Resident Alien
now represents a distribution of earnings and profits)
These (2) requirements must concur.
2. Where the controlling interest or the ownership of
each shareholder is no longer uniform after the Note: If the issuing corporation is FOREIGN, dividend
declaration of stock dividend. is not passive and FIT does not apply.

In these two (2) cases, the shareholder is liable to a NIT. Note: Recipient is:
1. NRAE = 20%
Note: If the law is very clear, even if there is a SC 2. NRANE = 25%
decision, look at the law. The SH (shareholder) cannot escape 3. AEMOP = depends on whether or not R of NR
the payment of income tax.
RA >FIT
Q: Why is the stock dividend not provided in Section 24 NRAE >
(B) (2) that it is subject to FIT? NRANE >GIT

A: NIT, not FIT because the law is silent (there must be an Intercorporate Dividend
express provision of law to subject one to FIT)
Dividend issued by DC and received by a DC
Case: COMMISSIONER vs. MANNING (66 SCRA 14) (DC→DC)= exempt (Section 27 (D) (4))

The SC said that the Stock Dividend, which is exempt DC→RFC = exempt (Section 28 (A)(7)(B))
from income tax, must come from the profit of the corporation.
RFC→DC = subject to NIT

28
 DC→NRFC = FIT of 32% (Section 28 (B)(5)(b)) rule on
reciprocity applies 50%, 15%
Q: Section 24 (B)(2), does it include dividend from GPP?
A: Dividend from GPP is exempt from FIT. But under Section
26, the partner in a GPP is liable for the payment of income tax
on the share he receives from the GPP in his separate and
individual capacity.
Note: GPP is exempt from Corporate Income Tax if he
meets the following requirements:
1. It is formed solely for the purpose of exercising their
common profession
2. No part of their income of which is derived from
engaging in any trade or business
Partner is liable in his separate or
Individual capacity.
Q: If any of the foregoing requirements is not complied
with, or a portion of the income was received from other
sources, what happens?
A: GPP is now deemed a corporation, so dividend subject to
FIT under Section 24 (B)(2) and to corporate income tax. It is
under this situation that the parties are exempt from income
tax under Section 24 (B)(2).
Capital Gains from Sale of Shares of Stocks not Traded in
the Stock Exchange
Section 24 (c) look at Section 39 (B), RA 7717
Two (2) Groups of Shares of Stock:
1. Those which are listed or traded
2. Those which are not listed and traded
The Shares of Stocks referred to here are (to be subjected
to FIT):
1. Shares of stock in a DC
2. Capital asset
3. Not listed and traded in the local stock exchange
Note: If one of the requirements are not met, FIT not
applicable.
Rate: 5% for amounts up to 100K
10% for amounts in excess thereof
Q: When is FIT imposed on Cash or Property Dividend?
A: When it is actually or constructively received from:
1. DC
2. Joint stock Company
3. Insurance or Mutual Fund Corporation
4. Regional Operating headquarters of Multinational
Corporations
5. Share of Individual in the distributable net income after
tax of a taxable partnership
6. Share of Individual after net income tax of an
association, joint account, taxable joint venture or
consortium of which he is a member or co-venturer.
Q: What is the meaning of the first part pf paragraph C?
A: Section 39 (B) refers to the holding period under capital
gains.
Holding period is the duration of time within which the
property is held by the taxpayer.
29
Q: So, what is the relevance if the holding period does
not apply?
A: In Section 24 (C) the rule on the holding period does not
apply.
Long term = 100% if the capital asset has been held for
more than 12 months
Short term = 50% if less than 12 months
Let’s look at the (3) requirements in order that FIT
applies:
1. On Domestic Corporation
Q: Suppose the Shares of Stock (SS) is issued by a
foreign corporation?
A: NIT, not FIT, a dividend is considered passive only if issued
by a DC
2. On Capital Asset
Section 39 (B) does not define capital asset. The law
defines capital asset by exclusion.
Section 39 (A)(1) states that capital asset is any property
held by the taxpayer whether or not connected with his trade
or business, but does not include (ordinary asset):
1. 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.
2. Property held by the taxpayer primarily for sale to
customer in the ordinary course of his trade or
business.
3. Property used in trade or business of a character which
is subject to allowance of depreciation provided in
Subsection (F) of Section 34
4. Real Property used in trade or business
So, it is capital asset, if it is not ordinary because we do not
have a definition of capital asset.
Q: When can a SS be classified as ordinary?
A: A SS can be classified as ordinary:
1. if being held by the taxpayer for sale in the ordinary
course of trade or business
2. when used in trade or business
Q: What is the income tax if it is ORDINARY?
A: NIT, not FIT
On SS not listed in Stock Exchange
Q: Suppose it is listed?
A: Percentage tax under Section 127 based on Gross
receipts.
Q: Will it be subjected to net income tax?
A: Exempt. Not subjected to NIT because Percentage Tax is
imposed in lieu of corporate and individual income tax – under
RA 7717.
Q: What is the nature of Percentage Tax?
A: It is a business tax based on gross receipts. It is not an
income tax but it is a business tax.
Q: Who are the persons liable?
30
 before April 15 of each year covering all stock
A: All kinds of taxpayers: transactions of the proceeding taxable year.

1. RC 2. From the sale or disposition of real property under

2. NRC Section 24 (D) who shall file a return within (30) days
3. RA following each sale or other disposition (Section 51
4. OCW and Seamen (C)(2)).
(Section 24 (A)(1) (a)(b)(c))
Note: Where a share of stock in a DC is classified as
NRAE – Section 25 (A)(3) capital asset and not traded in the stock exchange, the return
is accomplished by the taxpayer and there is a determination
NRANE – Section 25 (B) of whether there is a gain or loss.

AEMOP – Section 25 (E) – no need to qualify whether resident
or non-resident because it is the same thing; still liable for FIT
of 5% 10%
DC – Section 27 (D)(2)
Capital Gains for Sale of Real Property
Section 24 (D)(1)
Q: What are the requirements for the FIT on capital gains
on the sale or real property to be imposed?

RFC – Section 28 (A)(7)(C) A: The requirements are as follows:

NRFC – Section 28 (B)(5)(C) 1. The object sold is real property.

2. It is located in the Philippines.
Note: Rate is uniform 5% - 100K 3. It is a capital asset.
10% - in excess 4. The seller is either an individual, estate, trust or
corporation.
The only FIT in the Code where the rate is uniform.
On the other requirements, located in the Philippines
Generally, the taxpayer is liable for the payment of FIT
does not file a return, as it is the obligation of the withholding Q: Suppose it is located abroad?
agent to do so in behalf of the taxpayer (Section 57).
A: Apply NIT, not FIT, because of the inapplicability of the
This rule does not apply to: withholding tax system

1. individuals, subject to tax on capital gains for the sale
or exchange of SS not traded from local stock
exchange. He shall file a return within 30 days after
each transaction and a final consolidated return on or
Property sold is real property…
Q: What is the difference between DC and individual?
A: If the seller is a DC, real property refers to land and
buildings (Section 27 (D)(5)).

31
 If the seller is an individual, real property refers o
immovable property under Article 415 of the NCC; estates and
trusts.
Real Property is Capital Asset
Note: Capital Asset does not include ISUR. It is an
ordinary asset if:
1. held for sale
2. used in trade or business
Q: What is the procedure when a real property is an
ORDINARY ASSET and is subject to NIT?
A: RR # 8-98 – requires that it will undergo the procedure of
the Creditable Withholding Tax System
Q: What if the property is an ordinary asset?
A: FIT is not applicable but the sale of real property is still
taxable depending upon the status of the taxpayer.
Ex. RC = NIT
NRANETB = GIT
Q: What is Creditable Withholding Tax System? It is in
the nature of what?
A: A tax credit on the Net Income Tax due. It is not deduction
from the gross but on the net income tax due. It is an advance
payment of income tax if it is ordinary.
Q: So, if ordinary asset, it is subject to creditable
withholding tax, who pays this? In how many days?
Withholding tax is based on GSP or FMW,
whichever is higher.
A: The buyer pays within 10 days from the date of the
transaction.
Q: What if it is a capital asset subject to FIT, who pays
and how many days?
A: The seller pays FIT, (30) days from the transaction. RR#
8-98; Section 51 (C)(2)(b)
Q: What is the basis of the FIT of 6% here?
A: Gross Selling Price or Current Fair Market Value whichever
is higher.
Note: in the ITR:
1. If it is capital asset, do not include it because there’s a
separate return
2. If subject to FIT, do not include it in the ITR because
there is a separate return.
3. If it is an ordinary asset, whatever profit you earn will
be included in the computation of Gross Income in the
Net Income Tax.
Q: Are you going to apply FIT in case of exchange?
A: YES, because the law say “sale, barter, exchange or other
disposition of any property whether sale is voluntary or
involuntary.
Q: Does it include any kind of sale? Including a
conditional sale?
A: Yes, it includes conditional sale.
Q: When will FIT on Capital Gains on sale of real property
be imposed? (RR#4-99)
32
A: If mortgagee is a BANK or financial institution. During the Rules:
auction sale, FIT will not be imposed because there is no
transfer of ownership yet. Wait for one (1) year after the sale 1. If taxpayer (seller) is an individual = always FIT
to give mortgagor a chance to exercise his right of redemption. (capital asset)
If not redeemed, the FIT will be imposed. 2. GIT – only if ordinary asset
3. If taxpayer (seller) is a corporation:
Consider if mortgagee is a bank or financial institution
or individual because if there is no change of ownership, NO a. Resident FC = NIT
FIT. In case of an individual, whether or not there is a change b. NRFC = GIT
of ownership, FIT will apply. c. DC = FIT

Note: If the mortgagor redeems the property, FIT does (2) Withholding Tax System under the Income Tax Law
not apply because there is no change of ownership.
1. Final Withholding System = FIT
Q: Will the FIT be imposed if redeemed by an individual? 2. Creditable Withholding System = NIT

A: Yes, because there is a change of ownership. Q: Why is it known as FINAL

If the mortgagee is an individual – FIT is imposed A: Because it is no longer credited in the NIT due.
whether or not there is a transfer of ownership at the time of
the sale of the foreclosed property. We go back to the rule that Q: What if it is creditable withholding system?
every transaction is subject to tax.
A: It is included in the NIT.
Section 24 (D)(2)
RR #13-99
 VAT (Value-Added Tax)
Q: What if the property is on an inherited status. Seller is
RC, what is the tax? This is a capital asset? Whether the sale of the realty is also subject to VAT.

A: Final Tax, because he is a RC. Q: If it is a capital asset, is it subject to VAT?

Q: Will it be included in the creditable withholding tax? A: No. VAT is applicable to the sale of realty if the taxpayer
has sold the property to a customer in the ordinary course of
A: No, because we include this in the NIT return. trade or business.

Q: Suppose the seller is NRANE? Note: FIT requires that the real property must be a
capital asset.
A: Final Income Tax under Section 25 (B) last paragraph.

33
 VAT requires that real property must be an ordinary
asset.
Q: Is it correct to say that VAT is always applicable if
realty is ordinary?
Q: What are the requirements before the capital gains of
the sale of PRINCIPAL RESIDENCE of natural individual
persons is exempted from tax?
This exception is not available to a corporation.

A: NO. VAT is only applicable if the real property is held by
the taxpayer for sale in the ordinary course of trade or
business.
There are two (2) kinds of Ordinary Asset:
A: The following are the requirements:
1. When the historical cost or adjusted basis of the real
property sold or disposed shall be carried over to the
new principal residence built or acquired.

1. used by the taxpayer in his trade or business 2. The Commissioner shall be duly notified by the
2. held for sale in the ordinary sense of trade or business taxpayer within (30) days from the date of sale or
disposition of the extent to avail of exemption
Only #2 is subject to VAT. through a prescribed return.

Q: If VAT has been properly imposed, is it exempt from 3. Exemption can be availed only once every (10)
FIT? years.

A: Yes, because the requirements are conflicting. 4. When the proceeds are fully utilized in acquiring or
contracting a new principal residence within (18)
Q: If VAT has been properly imposed, is it exempt from months from the date of sale or disposition
income tax?
Note: If there is no full utilization of the proceeds of the
A: NO. NIT is always applicable. sale, the portion of the gain presumed to have been realized
So, the rule is: from the sale shall be subject to capital gains tax (… or is this
final income tax???)
1. VAT is applicable
2. FIT no more 5. Certification of the barangay captain where the taxpayer
3. NIT is applicable resided that indeed the residence to be sold or sold is the
principal residence of the taxpayer. (RR #13-99)
Note: Section 109 (X) – if the purpose of the seller is to
acquire real property for residential purposes, exempt from Tax on Nonresident Alien Individuals
VAT Section 25

Exceptions Nonresident Alien Engaged

Section 24 D (2) Section 25 (A) (1)

34
 Subject to NIT because:
d. FIT of 5% for income less than 100K and 10%
1. taxable the same way as RC and RA for income in excess of 100K, derived from
2. payable to tax on taxable income gains from the sale, barter of SS in DC not
traded in the stock exchange
Q: Here is a foreigner who stayed in the Philippines for (1)
calendar year, more than (180) days. How do you classify
the taxpayer? e. FIT of 6% based on the GSP or the CFMV
whichever is higher on the sale of real property
A: NRAE in T or B considered as a capital asset.

Q: Liable for what tax? Nonresident Alien NOT Engaged in Trade or Business
Section 25 (B)
1. NIT from all sources derived within the Philippines at
the rate of 32%. Held liable in the same manner as Q: NRANE, what are his tax liabilities?
an individual citizen or resident alien.
2. FIT A: The general rule:

a. of 20% on income earned from: 1. GIT of 25% on all income, gains, revenue, derived fro
1) dividends all sources within the Philippines
2) bank interests 2. FIT
3) royalties
4) prizes a. 5% and 10% - Capital Gains from the sale of
5) other winnings SS not traded in the stock exchange in a DC
received within the Philippines b. 6% - Capital Gains from the sale of Real
property.
b. of 10% on income earned from (applies only to
individuals) Q: What is the most important distinction between GIT
and FIT?
1) royalties on books
2) musical compositions A: In GIT, all income are added x the tax rate.
3) literary works
c. Interest from Long Term Deposits – exempt In FIT, each income is dealt with separately:
from tax. But if pre-terminated:
Amount x Tax Rate
1) 4 years – less than 5 years = 5%
2) 3 years – less than 4 years = 12% AFMOP
3) less than 3 years – 3 years = 20% Section 25 (C) (D) (E)
RR 12-2001

35
Q: What are their tax liabilities? 1. 5% - 100K > rates are uniform in

A: FIT of 15% on gross compensation (salaries and
allowances).
NIT on income from other sources other than their
salaries (taxable in the same way the income of RC)
RR# 2-98 15% FIT applies only to individuals
occupying managerial / technical positions
2. 10% - excess of 100K> all types of taxpayer
Q: Section 25 (E) (Aliens in Petroleum Service), what kind
of income taxpayer, resident or non-resident?
A: NRA
Q: Is it possible that they pay by way of the NIT?

Remember: AEMOP are either: A: Yes. It depends on whether they are RA or NRA.

1. RA RA Section 24 (A) (1)

2. NRAE NRAE net income tax
3. NRANE ------------------------
Section 25 (A)(1)
Aliens in Petroleum – always a non-resident
NRANE – Gross Income
Importance of knowing this: for the applicable tax rates
on income received outside of the salary of the said aliens, General Professional Partnership
which are taxable under the following rates: Section 26

1. RA > 20% Case: TAN vs. DEL ROSARIO (237 SCRA 324)
NRAE > FIT
2. NRANE – 25 % GIT Q: GPP – exempt from Corporate Income Tax, what
happens to the share of a partner?
Aliens who receive passive income (interest, cash and/or
property dividend, royalties, prizes and other winnings) A: A partner is liable to pay NIT in their separate and
individual capacities.
The tax liability will depend on whether he is:
Q: For GPP to be exempt from tax (CIT), what are the
1. RA = 20% requirements?
2. NRAE = 20%
3. NRANE = 25% A: The following are the requirements:

Capital Gains from the sale of SS not traded in the stock 1. It is formed by persons for the sole purpose of
exchange: exercising their common profession; and

36
 2. No part of the income of which is derived from
engaging in ant trade or business.
Q: Are the partners in the GPP liable to pay FIT?
A: NO, they are exempt but subject to NIT under Section 26.
In Tan vs. Del Rosario, the SC held, “If any of the
conditions set by law is not met, the exemption from CIT
provided for under Section 22 (B) is withdrawn and the
partnership is subjected to tax as an ordinary corporation. The
FIT of 10% applies to the share of the partners because it is
now considered a corporation.
Tax on Corporations
Section 27
A domestic corporation shall include partnerships, no
matter how created or organized, joint stock corporation, xxx
The phrase, “no matter how created or organized”
includes joint venture and joint account.
xxx but does not include:
1. general professional partnerships
2. joint venture or consortium
a. formed for the purpose of undertaking
construction project
b. joint venture engaging in petroleum, coal,
geothermal, and other energy operations
pursuant to an operating or consortium
agreement under a service contract with the
government.
CIR vs. BATANGAS
(102 PHIL 823)
Q: What is the argument of the BIR insofar as the
payment of CIT?
A: It is a joint venture so subject to CIT separate and distinct
from BLTB
Q: BIR argued that (Section 24 (B)) since there is a
merger, the income tax liability shall not only be
shouldered by the (2) corporations but also the joint
venture created by the (2) corporations. Was this
sustained by the SC?
A: Yes, because joint venture for purposes of income tax law,
the term corporation shall include joint venture.
Q: What are the joint ventures exempt from CIT
A: The joint ventures exempt from CIT are as follows:
1. Joint venture formed for the purpose of undertaking
construction projects
2. Joint venture engaging in petroleum, coal, geothermal
and other energy operations pursuant to an operating
or consortium agreement under a service contract with
the government.
Note: In Joint Ventures where companies are joined
together and entered into a contract with the Philippine
Government for construction of public utilities, the income shall
be exempt from CIT.
GPP under contract with the government is exempt
from CIT but is not included in Section 30.
Rates of Income Tax on Domestic Corporations
Section 27 (A)
Q: What are the tax liabilities of a DC?
37
A: The following are the tax liabilities of a DC: 4. It has permit to operate from the DECS, CHED or
TESDA
1. NIT
2. FIT Rule: If gross income from unrelated trade or business,
3. MCIT of 2% if any, exceeds 50% of its total income derived from all
4. 10% Improperly Accumulated Earnings sources, the preferential rate of 10% is withdrawn and such
5. Optional Corporate Income Tax of 15% proprietary educational institution and hospitals are subjected
to regular tax at the rate of 32%

NIT on Corporations NIT on Individuals Unrelated Trade or Business – means any trade or
1. Deductions and 1. Deductions and business or other activity, the conduct of which is not
exemptions are not allowed exemptions are allowed. substantially related to the exercise or performance by such
2. 32% NIT 2. 5-32% graduated educational institution or hospital of its primary purpose or
functions.

Proprietary Educational Institutions and Hospitals GOCCs, Agencies and Instrumentalities

Section 27 (B) Section 27 (C)

Correlate with The general rule laid down under Section 27(A) also
applies to GOCCs, agencies, and instrumentalities, except the
1. Section 30 (H) (I) – Exemptions from Tax on following:
Corporations
2. Article 6, Section 28 (3) 1987 Constitution 1. GSIS
3. Article 14, Section 4 (3) 1987 Constitution 2. SSS
4. Section 234 (d) Local Government Code 3. PHIC
5. Section 101 (A) (3) CTRP 4. PCSO
6. Section 109 (m) 5. PAGCOR
Except preferential rate of 10% on their taxable income.
As they are exempt from income tax without any condition
Requirements in order for an educational institution and or qualification.
hospital may be liable to pay only the preferential rate of
10%: Other exempt corporations are:

1. It is private. 1. General professional partnerships

2. non-profit 2. Joint venture or consortium
3. its gross income from unrelated trade or business must 3. Those enumerated under Section 30 subject to
not exceed 50% of its total gross income from all conditions
sources

38
Q: If a government corporation is not exempt under
Section 27 (C), are all of its income taxable?
A: No. If the income is derived from public utility and for the
exercise of essential governmental functions, such income is
exempt (Section 32 (B) (7) (b)).
Q: If you want to be exempted as an educational
institution, what provision will you invoke?
A: NIRC, Section 30 (H) – “Non-stock and non-profit
educational institution” – this refers to private educational
institutions because it was disqualified by paragraph (I)
Section 30 (I) – The governing rule then is Article 14,
Section 4(3) of the Constitution (Proprietary educational
institution also exempt) because we don’t have Section 30 (H).
For private educational institutions, it is enough that
they are PRIVATE & NON-STOCK, NON-PROFIT to be
exempt in CIT (Section 30, last paragraph).
Note: The law says, NOW, for the income of schools
like ALF (non-stock, non-profit) income of such school from
operation of gym, dorm, canteen, by virtue of Section 30, last
paragraph, the school is liable for 32%
Section 30, last paragraph
“Notwithstanding the provisions in the proceeding
paragraphs, the income of whatever kind and character of the
foregoing institutions from any of their properties, real or
personal, or from any of their activities, conducted for profit
regardless of the disposition made of such income, shall be
subject to tax of 32%”.
Q: Is there a further requirement in Section 30 (I)
A: None. So long as it is a government educational
institution, it is exempt.
Q: In the event that the donee is an educational
institution, what are the conditions in order that the donor
shall be exempt form donors’ tax tantamount to
exemption?
A: Section 101 (A) (3) provides that not more than 30% of the
property donated issued for administration purposes be used.
Q: In exemption from income tax, we do not apply Article
14, Section 4 (3) of the Constitution. Does it mean that it
is now a dead law?
A: No. When the law is silent, we claim the benefit of Article
14, Section 4 (3) – “all revenues and assets of non-stock, non-
profit educational institutions used actually, directly and
exclusively for educational purposes shall be exempt from
taxes and duties.
xxx Proprietary educational institutions, including those
cooperatively owned may likewise be entitled to such
exemptions subject to limitations provided for by law.
Q: Do we claim exemption from VAT?
A: NO. We apply Section 109 (m) (qualify if private or
government). If government, automatically exempt from VAT
Exempt transactions from VAT
1. Educational services rendered by private educational
institutions duly accredited by DECS, CHED and those
rendered by governmental educational institutions.
Q: What about exemptions from real estate tax, do we
apply Article 14 Section 4 (3)?
39
A: No. Article 6, Section 28 (3) should be applied because it
speaks of real property
Section 234 (3) LGC.
“Charitable institutions, churches, and parsonages or
cemeteries, all lands and buildings and improvements actually,
directly, and exclusively used for religious, charitable, or
educational purposes shall be exempt.”
Q: What about non-profit, stock private educational
institutions?
A: Section 27 (C) NIRC, preferential rate of 10%. It is not
exempt from income tax but only enjoys a preferential rate of
10%
Q: Does this apply to a foreign corporation?
A: No. If it is a foreign corporation, the rate is 32%
Section 27 for DC only.
General Rule: GOCCs subject to CIT except the (5)
corporations.
Q: Are you going to allow the BIR to collect tax jut
because you are not one of the (5) exempt corporations?
A: No. Determine first the income of the corporation.
If the function of the government is governmental,
exempt.
Correlate it with Section 32 B (7)(b) – Income derived
from any:
1. public utility, or
2. from the exercise of any essential governmental
function
Note: Section 27 (C) – gives the general rule and
exemptions.
Section 32 B (7) – exclusions; exempted because it is
exclusion so it should not be considered in the gross income.
Q: May the government tax itself?
A: First, determine who is the taxing power/ authority.
LGUs are expressly prohibited by the provision of RA
7160 or the Local Government Code (LGC) from levying tax
upon:
1. National Government
2. Its agencies and instrumentalities
3. LGUs
National Government, pursuant to the provision of RA
8424, can levy tax upon GOCC’s, agencies, and
instrumentalities although income received by the government
from:
1. any public utility
2. from the exercise of any essential governmental
function
are exempt from tax.
Section 133 (o), Local Government Code (LGC)
Taxing power of LGUs shall not extend to:
(c) Taxes, fees, charges, of any kind on the National
Government, its agencies and instrumentalities and
LGUs.
40
 BASCO vs. PAGCOR
(197 SCRA 52)
Chairman Committee on Laws of the City Council of
Manila
FACTS: Petitioner filed a petition annul the PAGCOR Charter
PD 1869. They contend that PD 1869 constitutes a waiver of
the right of the City of Manila to impose taxes and legal fees
because PD 1869 exempts PAGCOR, as the franchise holder,
from paying any “tax of any kind or form, income or otherwise.”
RULING : The City of Manila, being a mere municipal
corporation has no inherent power to tax. LGUs have no
power to tax instrumentalities of the National Government.
PAGCOR being an instrumentality of the Government, is
therefore exempt from local taxes. Otherwise, its operation
might be burdened, impeded or subjected to control by a mere
local government.
MACTAN CEBU INTERNATIONAL AIRPORT vs. MARCOS
(261 SCRA 667)
Q: What is the tax being assessed by Cebu?
A: Real Estate Tax
Q: What did Mactan say as to the assessment of real
estate tax?
A: A LGU cannot impose tax on governmental
instrumentalities, agencies and reiterated the doctrine in
BASCO vs. PAGCOR
Q: Did the SC agree with the conclusion of Mactan?
A: The SC ruled that Mactan should pay real estate tax
Q: Why?
A: Mactan cannot invoke Section 133 (o) because real estate
tax is not a local tax. Section 133 refers only to local taxation.
And since the last paragraph of Section 234
unequivocally withdrew, upon the effectivity of the LGC,
exemptions form payment of real property taxes granted to
natural persons and juridical persons, including GOCCs
except as provided in the said section, and the petitioner is,
undoubtedly, a GOCC, it is necessarily follows that its
exemption from tax granted in Section 14 of its Charter, RA
6958 has been withdrawn.
 Rates of Tax on Certain Passive Income
Section 27 (D)
All about FIT except Section 27 (D) (4)
1. Bank interest within the Philippines
Distinctions if the depositor is a DC with that of an individual:
1. In both cases, FIT of 20% shall apply to interest on
currency bank deposit
2. In both cases, FIT of 7.5% shall apply to bank interest
under the EFCDS
3. The difference:
If the depositor is an individual, he is exempt on
long-term deposits.
The exemption on long term deposit does not
apply if the depositor is a DC. If DC, it is
subject to 20%
2. Prizes and Winnings
DC vs. Individual
41
 1. If a corporation receives prizes and winnings, they do
not constitute passive income, hence, subject to FIT. Seller NRANE = 25% GIT

If received by an individual, qualification applies.  Tax on Income Derived under the EFCDS
Section 27 D (3)
RNOR = FIT
NRAE = FIT Q: What is the distinction between Section 27 D(3) and
NRANE = GIT Section 28 A (7)(b)?
AEMOP – RA, NRAE = FIT
NRANE = GIT A: Section 27 (D)(3) = DC
Section 28 (A)(7)(b) = RFC
3. Royalties
Q: In both paragraphs, what is the income referred to?
DC vs. Individual
1. If received by a DC, FIT of 20% will be paid but the A: FIT.
preferential rate of 10% on books, literary works, or
musical corporations does not apply. Q: In the first paragraph, who earns the income?
2. If received by an individual, preferential rate of 10%
applies (Section 24 (D)(1)) A: The Depositary Bank under the EFCDS

 Capital Gains from the Sale of Shares of Stock not Q: In the second paragraph, who earns the income?
Traded in the Stock Exchange
Section 27 D (2) A: Non-residents either an individual or a corporation.

Shares of Stock Q: What is the relevance of the first paragraph, Section 27

1. not listed D (3) if the EFCDS earns income other than those
2. not traded enumerated? What is the significance of that?
3. capital asset
4. stock of a DC A: If other than those enumerated the FIT of 10% shall not
apply. NIT applies. (RR10-98)
FIT = 5% amounts up to 100K
10% in excess of 100K Q: Who are the parties here?

If share of stock of a FC = 32% NIT A: The parties are as follows:

If not capital, ordinary asset – no FIT. Tax depends on 1. Local commercial banks
the status of the taxpayer. 2. Branches of foreign banks that may be authorized by
the BSP to transact with the EFCDS units
Seller DC = NIT 3. Other depository banks under the EFCDS

42
 4. Interest income earned from foreign currency loans A: Cash and property dividends because the law did not
granted by such depositary banks under the EFCDS to distinguish
residents.
Q: Could you give me a dividend that is always exempt
Q: In these (4) cases, what is the income of the bank from income tax?
here?
A: Stock Dividend by virtue of Section 73 (b)
A: Refers to Foreign Currency Transaction
Capital Gains from the Sale, Exchange or Disposition of
Note: ______ if foreign currency transactions but not Lands and/or Building
one of those (4) enumerated, FIT does not apply. Section 27 (D) (5)

Second paragraph – if the party engaged in foreign Fit if seller is DC

currency transaction is a non-resident, either an individual or a
corporation, income of said NR is exempt from income tax. DC RC
(Section 27 (D) (3) and Section 28 A(7)(b)) - lands/ buildings - real property
- not subject to exemption - subject to exemption Section
Correlate Section 27 – DC with Section 28A(4) – RFC Section 24 (D)(2) 24 (D)(2)
Expanded (EFCDS) Offshore
- not only in peso but also in - accepts foreign currency
other currencies acceptable only Q: If an individual taxpayer is a NRANE, is GIT
as authorized by the BSP applicable?
- applies to DC, RFC - RFC
A: No. FIT because of Section 25 (B) last paragraph.
 Intercorporate Dividends
Section 27 (D)(4) Q: For Passive Income under Section 24 B (1) and (2) if:
1. taxpayer is NRANETB = FIT
Dividend Issued by Received by 2. individual is a DC =
DC DC Section 27 D (4) exempt 3. taxpayer is a NRF Corporation = GIT
from tax
DC RFC Section 28 A (7) (b) Minimum Corporate Income Tax on Domestic Corporation
DC NRFC 32% Final Withholding = 2% of the Gross Income
Tax Section 27 (E)
RFC DC Section 27 (A) (Section
does not apply) NIT applies. Must be in existence for at least (4) years.
RFC NRANE = GIT
A minimum corporate income tax (MCIT) of 2% of the
gross income imposed on DC and RFC, beginning on the 4 th
Q: What is the dividend referred to in Section 27 D (4)?
taxable year immediately following the year in which such

43
corporation commenced its business operations, when the
minimum income tax is greater than the tax computed for the
taxable year.
Q: When is the MCIT applicable?
A: DC – Section 27 (E)
RFC – Section 28 (A)(2)
Q: What about NRFC? (and also to individuals)
A: Not applicable
Q: Why not applicable?
A: MCIT is not applicable because the MCIT shall be in lieu of
the NIT. If that is in lieu of the NIT, not applicable to NRFC
because the latter does not pay by way of the net.
Q: Is this MCIT applicable simultaneous to NIT?
A: No. It cannot be imposed simultaneously, it is either one or
the other or whichever is higher.
Note: The Secretary of Finance, however, is
authorized to suspend the imposition of MCIT on any
corporation which suffers losses on account of prolonged labor
dispute, or because of force majeure or because of legitimate
business losses.
Q: What is this “carry-over rule”?
A: It is the excess of the MCIT over the net income tax which
shall be carried forward and credited against the normal
income tax for the (3) immediately succeeding taxable years.
Ex. 2% of gross is = P100T
NIT due = P75T
---------------
P25T
Q: What is the excess?
A: P25 T
Note: Carry-over rule is applicable only = if MCIT is
higher than NIT.
No carry over if NIT is higher than MCIT.
FACTS: Next year, assume that the NIT is higher than
2%. Next year, MCIT is still higher than the net. NO CARRY
OVER.
Q: MCIT is higher than NIT. How could this be?
A: In cases where the corporation availed so many
deductions under Section 34.
(3) Carry Over Rule
1. Section 34 (D)(3) – Net Operating Loss Carry Over
2. Section 39 (D) – Net Capital Loss Carry Over
3. Section 27 (E)(2) – Carry Forward of Excess Minimum
tax
 Rates of Income Tax on Foreign Corporations
Section 28
 Tax on Resident Foreign Corporations (RFC)
Section 28 (A)(1)
Q: What are the income taxes that should be paid by the
RFC?
Section 28 (A)(1), Section 28 (A)(6)(b)
Section 28 (A)(7)(a,b,c,d), Section 20 (A)(3)(14)(15))
A: They are as follows:
44
 1. NIT A: Section 29 does not distinguish. It simply provides, “xxx
2. FIT shall apply to every corporation formed or availed for the
3. MCIT 2% - Section 28 (A)(2) purpose of avoiding the tax with respect to the SHs or SHs of
4. Optional Corporate Income Tax of ____ - Section 28(A) any other corporation.
(1)
5. 10% Improperly Accumulated Earnings – Section 29

Note: The income taxes to be ____ by a DC is the

same with the RFC but they differ on liabilities. A FC is INTERNATIONAL CARRIER
liable only on income from sources within. Section 28 (A)(3)

Q: Differentiate DC and RFC in the payment of income 2 Kinds:

tax.
1. Air Carrier
A: DC = income derived from sources within and without 2. International Shipping
the Philippines (Section 42)
2 Paragraphs
RFC = income derived from sources within the
Philippines only (Section 23 (F)) 1. air carrier transportation
2. water transportation
Q: Here, do we apply the same rate as that of a DC?
Note: a tax on the presumed gain. FIT already presumed.
A: Yes.
A FIT of 2 ½% known as “Gross Philippine Billings” is
MCIT on RFCs imposed on International Air Carrier and International Shipping
Section 28(A)(2) Company which are RFC = 32% NIT
Note: If NRFC = 32% gross income
Q: Is the MCIT of 2% applicable? If DC = NIT

A: Yes. Q: In the imposition of FIT of 2 ½%, what are the

requirements?
Q: Is it applicable to NRFCs?
A: The following are the requirements:
A: No. MCIT is paid in lieu of the NIT and a NRFC does not
pay by way of the net. 1. passengers, excess baggage, cargo and mail must
originate from the Philippines
Q: What about the 10% income tax on corporations 2. instance (board airplane from the Philippines
accumulating too much profit? Is it applicable to NRFCs?

45
 3. in a continuous and uninterrupted flight regardless of
the place of sale or issue of the ticket.
Q: What if it is a DC?
A: NIT, because the law is silent.
Note: First thing to remember here, the common
carrier is a RFC because it is under the topic RFC.
Q: What about with respect to endorsement, will 2½% be
imposed?
A: It must originate from the Philippines.
Q: Suppose there was an exchange of ticket or
revalidation, will 2 ½% be imposed?
A: Yes. If the taxpayer boarded in a port or point in the
Philippines
Q: As to transshipment?
A: The 2 ½% will be applied only to the aliquot portion of the
cost of the ticket from the point in the Philippines up to the
point of transshipment. (Only part or leg flown to the
Philippines).
Depends on where he purchased the ticket. If in the
Philippines, NIT will apply.
Q: As to shipping lines?
A: Must originate in the Philippines regardless of the place of
sale of the ticket.
Q: Is it possible that NIT may also be applicable to RFC,
which are common carriers?
A: Yes. If the requirements are not present RFC shall be
liable to income tax from sources within the Philippines.
Note: This tax applies to:
1. transport of passengers, excess baggage, cargo and
mail
2. revalidation, exchange and endorsement
3. transshipment – must be on another place
COMMISSIONER vs. JAPAN AIRLINES, INC.
(202 SCRA 450)
Facts:
 Japan Airlines is a foreign corporation (FC) engaged in
the business of international air carriage.
 From 1959-1963, JAL did not have planes that lifted or
landed passengers and cargo in the Philippines as it
had not been granted then by the Civil Aeronautics
Board a certificate of public convenience and necessity
to operate here.
 However, since mid-July 1957, JAL had maintained an
office at the Filipinas Hotel, Roxas Boulevard, Manila.
Said office did not sell tickets but was maintained
merely for the promotion of the company’s public
relations and to hand out brochures, literature and
other information playing up the attractions of Japan as
a tourist spot and the services enjoyed in JAL planes.
 JAL constituted PAL as its general sales agent in the
Philippines. As an agent, PAL sold for and in behalf of
JAL, plane tickets.
 On June 2, 1972, JAL received deficiency income tax
assessment notices. JAL protested said assessments
alleging that as a non-resident foreign corporation, it
was taxable only on income from Philippine sources.
Issues:
46
 (a) Whether or not proceeds from sales of JAL tickets
sold in the Philippines are taxable as income from
sources within the Philippines
(b) Whether or not JAL is a foreign corporation engaged
in trade or business in the Philippines.
Ruling:
(a) The revenue derived from the sales of airplane
tickets through its agent, PAL, here in the Philippines,
must be considered taxable income. In the case of
American Airlines, it was likewise declared that for
the sources of income to be considered as coming
from the Philippines, it is sufficient that the income is
derived from activities within this country regardless
of the absence of flight operations within Philippine
territory.
(b) In order that a foreign corporation may be regarded
as doing business within a State, there must be
continuity of conduct and intention to establish a
continuous business.
There being no dispute that JAL constituted PAL as
local agent to sell its airline tickets, there can be no
conclusion other than that JAL is a RFC doing
business in the Philippines. Indeed, the sale of
tickets is the very lifeblood of the airline business, the
generation of sales being the paramount objective.
Note: The tax involved here is the tax on income.
We are not concerned with a sales tax nor with an
excise or privilege tax. For purposes of income
taxation, “the source of income relates not to the
physical sourcing of or flow of money or the physical
situs of payment, but rather to the “property, activity
or service which produced the income”.
CIR vs. BOAC
(149 SCRA 395)
Facts:
 BOAC is a 100% British Government-owned
corporation organized and existing under the
laws of the UK. It is engaged in the
international airline business and is a
member-signatory of the Interline Air
Transport Association (IATA). As such, it
operates air transportation service and sells
transportation tickets over the routes of the
other airline members.
 During the periods covered by the disputed
assessments, it is admitted that BOAC had no
landing rights for traffic purposes in the
Philippines and was not granted a certificate
of public convenience and necessity to
operate in the Philippines by the CAB except
for a 9-month period, partly in 1961 and partly
in 1962, when it was granted a temporary
landing permit by the CAB.
 Consequently, it did not carry passengers
and/or cargo to or from the Philippines,
although during the period covered by the
assessments, it maintained a general sales
agent in the Philippines – Warner Barnes and
Comm. Ltd. and later Qantas Airways – which
was responsible for selling BOAC tickets
covering passenger and cargo.
 CIR assessed BOAC of deficiency income
taxes (1959-1963), which was paid under
protest. BOAC filed a claim for refund.
Issue:
(a) Whether or not income derived from sales of
tickets in the Philippines for air transportation,
while having no landing rights here constitute
income of BOAC from Philippine sources and
accordingly, taxable.
47
 (b) Whether during the fiscal year in question,
BOAC is a RFC doing business in the
Philippines.
Ruling:
(a) An international airline, like BOAC, which has
appointed a ticket sales agent in the Philippines,
although BOAC does not operate any airplane in the
Philippines and no landing rights is a RFC, subject to
tax on income received from Philippine sources, hence
liable to pay the FIT of 2 ½% of GPB.
(b) There is no specific criterion as to what constitutes
“doing” or engaging in or transacting business. Each
case must be judged in the light of its peculiar
circumstances. In order that a FC may be regarded as
doing business within a State, there must be continuity
of conduct and intention to establish a continuous
business such as the appointment of a local agent and
not one of a temporary one.
The source of an income is the property, activity or
service that produced the income. For the source of
the income_____________, it is sufficient that the
income is derived from activities within the Philippines.
In this case, the sale of tickets in the Philippines is the
activity that produces the income. The flow of wealth
proceeded from and occurred within the Philippine
territory, enjoying the protection accorded by the
Philippine government. In consideration of such
protection, the flow of wealth should share the burden
of supporting the government.
And even if BOAC tickets sold covered the transport of
passengers and cargo to and from the cities, “it cannot
alter the fact that income from sales of tickets was
derived from the Philippines.
The absence of flight operations to and from the
Philippines is not determinative of the source of income
or the situs of income taxation. The test of taxability is
“the source” and the source of income is that “activity”
which produced the income.
The 2 ½% tax on GPB is an income tax. If it had been
intended as an excise or percentage tax, it would have
been placed under Title V of Tax Code covering tax on
business.
CIR vs. AMERICAN AIRLINES
(180 SCRA 274)
Facts:
 American Airlines was duly organized under the laws
of the USA. It is an offline international carrier without
any flight originating from the Philippines.
 However, by virtue of BOI Certificate of Authority No.
267 and a license issued by the SEC, a liaison office
was established by it in this country for passenger and
flight information and reservation and to render
ticketing services.
 CIR assessed the company for deficiency income tax
of 2 ½% GPB.
 The company protested contending that it was not
doing business in the Philippines and that selling
tickets is not an activity subject to the assessed tax on
GPB.
Issue :
Whether American Airlines, Inc. which is an offline
international carrier without flight operations in this country, but
48
rendering ticketing services herein, is liable to pay the 2 ½%
tax on its GPB.
Ruling:
Same ruling on BOAC and Air India.
Foreign airline companies which sold tickets in the
Philippines through their local agents, whether called liaison
offices, agencies or business has considered FRC engaged in
trade or business in the country and hence, liable to pay the 2
½% tax on its GPB.
The 2 ½% tax on GPB imposed under the proviso
added by PD 69 to Section 24 (b) (2) is an income tax levied
on the presumed gain of the airline companies.
CIR vs. AIR INDIA
(157 SCRA 648)
Facts:
 Air India, an off-line international carrier, is a FC
organized under the laws of India.
 It is not licensed to do business in the Philippines as an
international carrier. Its airplanes do not operate within
Philippine territory nor service passengers embarking
from Philippine ports.
 The firm is represented in the Philippines by its general
sales agent, PAL. Air India sells airplane tickets in the
Philippines through this agent. These tickets are
serviced by Air India outside the Philippines.
 CIR held Air India liable for the payment of 2 ½%
income tax on the company’s GPB.
 Private respondent protested alleging that it cannot be
held liable to pay said imposition because it did not
derive any income from sources within the Philippines
during the said year.
Issue:
Whether or not the revenue derived by an international
air carrier from sales of tickets in the Philippines for air
transportation, while having no landing rights in the country,
constitutes income of the said international air carrier from
Philippine sources, and accordingly, taxable.
Ruling:
(Decision based on the BOAC case)
 The absence of flight operations to and from the
Philippines is not determinative of the source of income
or the situs of income taxation.
 The test of taxability is the “source” and the source of
income is that “activity” which produced the income.
 For the source of income to be considered from coming
from the Philippines, it is sufficient that the income is
derived from activity within the Philippines
 On the basis of the doctrine announced in BOAC, the
revenue derived by the private respondent, Air India,
from the sales of airplane tickets through its agent,
PAL, here in the Philippines, must be considered
taxable income and thus, subject to the 2 ½% tax on
the GPB.
Cases :
In Japan = NIT applied
In BOAC, Air India, American Airlines = FIT applied.
Common to the 4 cases: No landing rights in the
Philippines, but they have an office in the Philippines for selling
tickets; FIT no longer applied because 2.5% is applicable only
if the passenger originated in the Philippines.
Q: Is it possible that the fees paid by the passenger are
subjected to NIT in RFC?
A: Yes, if the requirements for the imposition of 2.5% FIT for
GPB was not complied with, RFC shall be liable for income
49
within the Philippines (Section 42 A)(3) GI from sources within
the Philippines – services for labor or personal services
performed in the Philippines).
Q: A passenger boarded in HK, but bought the ticket in
the Philippines. Will 2.5% still apply?
A: For corporate income tax, yes, but with respect to GPB,
not applicable because the passenger boarded in HK.
Note: Section 28 (A)(3) – an international carrier doing
business in the Philippines shall pay a tax of 2 ½% on its GPB.
Gross Philippine Billings (International Air Carrier)-
refers to the amount of gross revenue 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.
Gross Philippine Billings (International Shipping) – means
gross revenue whether for passenger, cargo or mail originating
from the Philippines up to its final destination, regardless of the
place of sale or payment of the passage or freight documents.
Q: Situation: With respect to BOAC, the passenger
boarded in HK, the ticket was sold in the Philippines, the
plane had no landing rights in the Philippines. Was the 2
½% applied?
A: Yes, because the act of selling tickets was covered by the
old rule as an act which produces income from sources within
the Philippines.
Q: Going to the new law, will it be covered by 2½ %?
A: No, since the passenger boarded in HK.
Q: Suppose there was exchange of ticket or revalidation.
Will the 2 ½% be imposed?
A: Yes. If the taxpayer boarded in a port or point in the
Philippines
Note: OLD RULE – GPB – applied to revenue derived
from the uplift of passengers anywhere in the world and
excess baggage, cargo and mail originating from the
Philippines, covered by passage documents sold in the
Philippines.
OLD RULE – GPB – apply to carriage of persons, the
passenger – like the excess baggage, cargo and mail –must
likewise originate from the Philippines in a continuous and
uninterrupted flight, regardless however, of the place of sale or
issue of the tickets.
For International Shipping – we follow the Old Rule.
 OFFSHORE BANKING UNITS
Section 28 (A) (4)
Q: Was it modified from the Old Rule?
A: Yes. Income of OBUs in transacting business with:
1. local commercial banks
2. branches of foreign banks authorized by the BSP to
transact business with OBUs
3. including any interest income derived from foreign
currency loans granted to residents used to be exempt.
Now, it is subject to the preferential rate of 10% - FIT
Rule: A FIT of 10% is imposed on income derived by
OBUs authorized by BSP from foreign currency transactions
with banking institutions.
50
 Note: Any income of non-residents (NRA, NRFC) whether foreign currencies not with the former.
individual or corporation, from transaction with OBUs shall be 3. is authorized to transact 3. can transact business in
exempt from income tax. business only with acceptable other currencies.
foreign currency or authorized
First paragraph – refers to income of OBU from foreign by the BSP.
currency transactions
Note: OBU – generally, NIT because it is a RFC.
Second paragraph – refers to income of non-resident,
individual or corporation. Exception: FIT if transaction with (3) entities on foreign
currencies
Q: What do you understand by OBU?

A: OBU is a foreign corporation authorized by the Central

Bank of the Philippines to transact business in the Philippines
but only with foreign currencies.

Differences between OBU and EFCDS:
OBU EFCDS
1. always a RFC 1. either a DC or a RFC
2. can transact business only 2. can transact business with
with three (3) entities: (4) entities:
a. local commercial banks a. local commercial banks
b. branches of foreign b. branches of foreign
banks that may be banks that may be
authorized by the BSP authorized by the BSP to
to transact business transact with the EFCDS
with the OBUs units.
c. including any interest c. Other depository banks
derived from foreign under the EFCDS
currency loans granted d. Interest income earned
to residents from foreign currency
loans granted by such
depository banks under
the EFCDS with to
residents
Suppose – interest on foreign Note: a depository bank
loans under the EFCDS can
- applicable because it maintain a foreign currency
is also a transaction with transaction with the latter but
Similarities between OBU and EFCDS:
1. their income is subject to a FIT of 10%
2. the income of the non-resident individual or corporation
transacting with them is exempt from tax.
Q: What is the income tax?
A: FIT of 10% if OBU earned income form foreign currency
transaction with local commercial banks and branches of
foreign banks (3 entities)
Q: What kind of income is derived by OBUs?
A: FIT. Income from foreign currency transaction.
TAX ON BRANCH PROFIT REMITTANCES
Section 28 (A)(5)
A 15% tax based on total profits applied or earmarked
for remittance is imposed on any profit remitted by a branch to
its head office.

51
 For this tax to apply, the profit remitted by a branch to
its head office must be effectively connected with the conduct
of its trade or business in the Philippines.
Note: The new tax law expressly states that the 15%
tax is based on the amount applied or earmarked for
remittance, not on the amount actually remitted.
Before the enactment of RA 8424 on December 11,
1987, CTA ruling, and SC decisions are conflicting on
computations of FIT of 15%.
Q: How would you compute 15%?
A: Remember the very simple rule that the 15% would be
computed on the basis of the total profits applied or earmarked
for remittance with the Bangko Sentral to avoid debate or
arguments.
Q: What does the last paragraph of Section 28 (A)(5)
mean?
A: Requirement for the imposition of 15%
For this tax to apply, the profits remitted by a branch to
its head office must be effectively connected with the conduct
of its trade or business in the Philippines and the branch
should be engaged in the same line of business.
Ex. If a motor corporation is selling motor vehicles and
they have a branch here in the Philippines, in order for 15%
(branch profit remittance tax) to apply, the branch must also
sell motor vehicles here.
Now, if it invests in some shares of stock on which
dividends are subsequently received, the dividends thus
earned are not considered “effectively connected” with its trade
or business in this country.
Note: For other income derived from sources within,
NIT.
MARUBENI vs. CIR
(177 SCRA 500)
Facts :
 Marubeni Corporation of Japan is duly organized and
existing under the laws of Japan and duly licensed to
engage in business under Philippine laws. It has a
branch office at Intramuros, Manila.
 It has equity investments in AG&P, Manila.
 It claimed for the alleged overpayment of branch profit
remittance tax withheld from dividends by AG&P
Q: What did Marubeni do?
A: It established a branch here in the Philippines, invested
with a DC and became a stockholder of AG&P.
Q: Did the branch or Marubeni actively participate in the
negotiation of AG&P?
A: No. Marubeni entered into a transaction with AG&P with its
head office in Japan by purchasing stocks and became a SH
of AG&P.
Marubeni thought that it is a RFC because it has a
branch here in the Philippines so it paid 10% intercorporate
final tax on dividend received from a DC and 15% BFRT.
Q: What is the status of Marubeni as a taxpayer?
A: Since the branch of Marubeni here in the Philippines did
not participate or intervene in the investments and in the
receipts of the dividends from AG&P. So, the status of
Marubeni is a NRFC.
52
Q: Being a NRFC, what is the income tax then?
 REGIONAL AREA HEADQUARTERS OF
A: 35% - now, 32% Gross Income – income earned from MULTINATIONAL COMPANIES
Philippine sources. Section 28 (A)(6)(a)

Ruling: Shall not be subject to income tax.

 Marubeni is not liable for the payment of 15% branch
profit remittance tax because the dividends received by
Marubeni from AG&P are not income arising from the
business activity in which Marubeni is engaged.
 Accordingly, said dividends if remitted abroad are not
considered branch profits for purposes of the branch
profit remittance tax imposed by Section 24 (b)(2) of
the Tax Code, as amended.
 However, being a NRFC, it is liable to pay income tax
of 35%, now 32%, of its gross income from all sources
within the Philippines.
 However, under the Philippines-Japan Treaty of 1980, it
is liable to pay the special rate of 25% of the gross
amounts of the dividends.
 This however was offset by the 15% branch profit
remittance tax and the 10% intercorporate dividend tax
Note: Under the Old Law, for a taxable dividend issued by
AG&P, there is a FIT of 10%
Q: To be exempt, what are the requisites?
A: The following are the requisites:
1. a branch established in the Philippines by a
multinational company
2. headquarters do not earn income in the Philippines
3. has supervisory functions only
- acts as supervisory, communications and
coordinating center for their affiliates,
subsidiaries or branches in the Asia-Pacific
Region and other foreign markets
- only with regard to NIT (also with VAT, Section
109 (p))

Under the new law, it is not subject to tax, therefore, Note: Distinctions between RAH and ROH
exempt.
RAH ROH
Claim of 10% is wrong, it should be 35% because it is a Does not earn an income. Engaged in services
NRFC. But under the treaty = 25% It acts only as supervisory mentioned in law – 10%
or communications taxable income
A discounted rate of 15% is given to petitioner on coordinating center for its
dividends received from a DC (AG&P) on the condition that affiliates – exempt
its domicile state (Japan) extends in favor of petitioner
(Marubeni), a tax credit of not less than 20% of the  REGIONAL OPERATING HEADQUARTERS OF
dividend received. This 20% represents the difference MULTINATIONAL CORPORATIONS
between the regular tax of 35% on NRFC, which petitioner Section 28 (A)(6)(b)
would have ordinarily paid and the 15% special rate on
dividends received from a DC.

53
 This refers to the NIT because the law says (Section
31) taxable income.
ROH – shall pay a tax of 10% of their taxable income
A branch established in the Philippines by multinational
companies, which are engaged in any of the following services
(Section 22, CTRP):
1. general administration and planning
2. business planning and coordination
3. marketing control and sales promotion
4. logistic services, etc.
5. advertising/promoting – liable by way of NIT
 TAX ON CERTAIN INCOMES RECEIVED BY A RFC
Section 28 (A)(7)
Interests from deposit and yield of any other monetary
benefit form deposit substitutes, trust funds, and similar
arrangements and royalties.
Section 27 (A)(7)(a)
Derived from sources within the Philippines (passive
income) shall be subject to a FIT at the rate of 20% of such
income. However, the interest income derived from EFCDS is
subject to a FIT of 7.5% = individual, RFC
Note: The exception on long-term deposit shall not
apply and there are no exceptions in terms of lowered or
preferential tax rate with respect to royalty received by a RFC.
Prizes and other winnings, when received by a RFC,
do not constitute passive income and are not subject to the
FIT. They are included in the gross income of said
corporation, subject to the NIT of 32%.
Q: If the taxpayer earns/derives income from sources
within the Philippines as a NRFC?
A: Gross Income Tax of 32%
INCOME DERIVED UNDER THE EFCDS
Section 28 (A)(7)(b)
Q: What is the distinction between Section 27(3) and
Section 28 (7)(b)
A: Section 27 (D)(3)= DC
Section 28 (A)(7)(b) = RFC
Same with Section 24 (D)(3)
Q: In both paragraphs, what is the income referred to?
A: FIT of 10%.
Q: In the first paragraph, who earns the income?
A: Depository bank under the EFCDS.
Q: In the second paragraph, who earns the income?
A: Non-residents either individual or corporation.
Q: What is the relevance of the 1 st paragraph of Section
27 (D)(3) if the bank under the EFCDS earns income other
than those enumerated? What is the significance of that?
A: If other than those enumerated, the FIT of 10% shall not
apply. NIT applies (RR10-98)
54
Q: Who are the parties here (for currency transactions)?
RA 7717 – in lieu of NIT, FIT
A: The parties are as follows:
Q: Is it possible that shares listed apply NIT?
1. local commercial banks
2. branches of foreign banks that may be authorized by A: Yes, if issued by a FC; ordinary asset
the BSP to transact with the EFCDS units
3. other depository banks under the EFCDS  INTERCORPORATE DIVIDENDS
4. interest income earned from foreign currency loans Section 28 (A)(7)(d)
granted by such depository banks under the EFCDS to
residents. Intercorporate Dividends received by a RFC from a DC is
liable to tax under this Title.
Q: In these (4) cases, what is the income of the bank
there? Corporations Involved and Tax Liability from Intercorporate
Dividends
A; It refers to foreign currency transaction.
Dividend Dividend
Note: If foreign currency transaction but not one of issued received
those (4) enumerated, FIT does not apply. by by
DC DC Exempt from tax (Section 27 (D)(4)
Second paragraph – if the party engaged in foreign DC RFC Exempt (Section 28 (A)(7)(d)
currency transaction is a non-resident either individual or DC NRFC Generally, the dividend income is
corporation, income of said NR is exempt from income tax. subject to FIT of 32% (final
withholding tax) (Section 28 (B)(1))
Except:
 CAPITAL GAINS FROM SALE OF SHARES OF STOCK Cash/property dividends subject only
NOT TRADED IN THE STOCK EXCHANGE to the condition that the country in
Section 28 (A)(7)(c) refer to Section 24 (c) which the NRFC is domiciled shall
allow a credit against the tax due
Q: What are the requirement of Section 28(A)(7)(c)? from the NRFC taxes deemed to
have been paid in the Philippines
A: The requirements are: equivalent to 18% for 1999 and 17%
thereafter
1. shares of stock in a DC FC DC Stock Dividend – exempt
2. it is a capital asset Cash/Property Dividend – subject to
3. not listed or traded in the local stock exchange NIT (Section 27(A))
See: Case of Marubeni vs. CIR where the SC held,
Note: Share of stock traded in the local stock exchange, being a NRFC, Marubeni is liable for 35% (now 33% for 1999
the rate of ½ of 1% of the gross selling price. and 32% thereafter) tax rate on gross income (including

55
dividends) from the Philippines unless its country of domicile
allows a “deemed credit” of 20% (now 18% for 1999 and 17%
thereafter) in which case the tax on dividends shall be reduced
to 15%.
Under the Philippines-Japan Treaty, Marubeni should
have been subjected to 25% tax. This, however, was offset by
the 15% branch profit remittance tax and the 10%
intercorporate dividend tax.
Q: Is there any instance when the cash or property
dividend issued by a DC to a NRFC is subject to a lower
rate of 15% FIT?
A: Income received by:
1. NR cinematographic film owner, lessor or distributor =
25% (Section 28 (B)(2))
2. NR owner or lessor of vessel chartered by Philippine
nationals = 4.5% of gross rentals, lease or charter fees
(Section 28 (B)(3))
3. NR owner or lessor of aircraft, machineries, and other
equipment = 7.5% gross rentals or fees (Section 28 (B)
(4))
No. 3 applies only if NRFC is a lessor, distributor or owner.

A: Yes, such lower tax rate applies, provided that, the country
in which the NRFC is domiciled shall allow a credit against the
tax due from the NRFC taxed deemed to have been paid.
The tax credits in this case is 18% in 1999 and 17% in
2000 onwards.
Sababan says: If a tax treaty between the RP and the
country of the NRFC provides for a lower rate, apply the said
lower rate.
 TAX ON NRFC
Section 28 (B)
 TAX ON CERTAIN INCOMES RECEIVED BY A NRFC
Section 28 (B)(5)
 INTEREST ON FOREIGN LOANS
Section 28 (B)(5)(a)
A FIT of 20% is imposed on the amount of interest
received by a NRFC on foreign loans contracted on or after
August 1, 1986. The lender is a NRFC, while the borrower is a
DC. The tax is imposed on the interest income received by a
NRFC from the loan granted to the DC.

Q: What is the synonym of NRFC?

Distinctions between :
A: Foreign corporation not engaged in trade or business.
Section 32 (B)(7)(a) Section 28 (B)(5)(a)
Q: What is the income tax to be paid by a NRFC? Exclusions from Gross
Income – exempt from tax
A: Interests, dividends, royalties, prizes and other winnings a. “Income derived from
when received by a NRFC are not subject to FIT but to GIT. investments in the
Philippines in loans,
Q: Rates lower than 32% (Exceptions to the General GIT stocks, bonds and other
rate of 32% on NRFC) domestic securities or
from interest on deposits

56
 in banks in the A: The instances are where the lender is:
Philippines by:
1) foreign government 1. foreign government
2) financial institutions 2. financing institution owned and controlled and enjoying
owned and controlled financing from a foreign government
or enjoying 3. international or regional financing institution established
refinancing from by a foreign government.
foreign governments
3) international or CIR vs. MITSUBISHI METAL
regional financial (181 SCRA 214)
institutions
established by a Japanese corporation licensed to engage in business
foreign government. in the Philippines.
1. about a contract of loan 1. about a contract of loan
2. income of foreign 2. income by NFRC
government
3. lender is a foreign 3. lender is a NRFC
government Facts:
 Atlas, a DC, borrowed money ($20M) from Mitsubishi
Q: What are the kinds of FIT which a NRFC liable for? for purposes of the projected expansion of its mines in
Cebu.
A: The following are the FIT, which a NRFC is liable for:  Mitsubishi, in turn, borrowed money from Eximbank of
Japan obviously for the purpose of its obligation under
1. Interests on Foreign Loans its contract with Atlas.
NRFC is the lender, while the DC is the borrower, 20% FIT  Mitsubishi claimed exemption from paying the FIT of
on amount of interest received by a NRFC on foreign loans 20% on the interest payments on the loan on the
contracted on or after August 1, 1986 ground that Mitsubishi was mere agent of Eximbank,
which is a financial institution owned, controlled and
2. Intercorporate Dividend Tax financed by the Japanese government, and hence,
3. Capital Gains from the Sale of Shares of Stock not exempt from tax.
traded in the Stock Exchange
Issues:
a. 5% for income earned up to P100,000 (a) Whether or not the interest income from the loans
b. 10% for income above or in excess of extended to Atlas by Mitsubishi is excludible from GIT
P100,000. under the Tax Code, and therefore, exempt from tax.
(b) Whether or not Mitsubishi is a mere conduit of
Q: What are the instances when the NRFC is exempt from Eximbank which will then be considered as the creditor
income tax? whose investments in the Philippines on loans are
exempt from taxes under the Code.

57
 EXIMBANK MITSUBISHI
Ruling: Owned by the government Simple, private corporation
Exempt from tax Liable to pay 20% FIT
 Applying the principle of res inter alios acta, since
the contract is between Mitsubishi and Atlas ad Q: Is the case still applicable?
Mitsubishi is not a mere agent in said transaction, it is
not owned by the Japanese government. A: Yes. The old provisions are still the same, only the section
 While it is true that it is a FC, it must pay a 20% FIT as numbers have changed.
a lender of money.
 Mitsubishi is classified as a simple NRFC liable to pay  INTERCORPORATE DIVIDENDS
FIT. Section 28 (B)(5)(b)
 The loans and sales contract between Mitsubishi and
Atlas does not contain any direct or inferential Rule:
reference to Eximbank whatsoever. DC DC Exempt
 The agreement is strictly between Mitsubishi as DC RFC Exempt
creditor in the contract of loan and Atlas as the seller of DC NRFC FIT
the copper concentrates.
 When Mitsubishi secured the loans, it was in its own Generally, the dividend income is subject to 32% final
independent capacity as a private entity and not as a withholding tax (Section 28 (B)(1))
conduit of Eximbank.
 Thus, the transaction between Mitsubishi and Except: Cash/Property dividend subject only to 15%
Eximbank of Japan was a distinct and separate FIT, subject to the condition that the country in which the
contract from that entered into by Mitsubishi and Atlas. NRFC is domiciled shall allow a credit against the tax due from
the NRFC tax deemed to have been paid in the Philippines
Note: The loan of Eximbank to Mitsubishi was subject to equivalent to 18% for 1999 and 17% thereafter, which
the condition that Mitsubishi would use the amount as a represents the difference between the regular income tax of
loan to Atlas and as a consideration for importing copper 32% on corporations and 15% tax on dividends.
concentrates from Atlas.
CAPITAL GAINS FROM SALE OF SHARE OF STOCK NOT
Q: Who is the lender of Mitsubishi? TRADED IN THE STOCK EXCHANGE
Section 28 (A)(7)(c)
A: Eximbank, a financing institution owned, controlled and
financed by the Japanese government. CIR vs. PROCTER AND GAMBLE
(160 SCRA 560)
Q: What is the difference between Eximbank and
Mitsubishi? Facts:
 Procter and Gamble, Philippines, a corporation duly
A: Difference between : Eximbank and Mitsubishi organized and existing under and by virtue of Philippine
laws, is engaged in business in the Philippines and is a

58
 wholly-owned subsidiary of Procter and Gamble, USA,
a NRFC in the Philippines.
 PG, Philippines declared cash dividend in favor of its
parent-corporation, PG USA, which was subjected to
35% tax (now 32%).
 PG Philippines discovered that there was an
overpayment because 15% should only be paid based
on the tax sparing rule.
 So, it filed a claim for refund 0f 20% (now, 17%).
Issue:
Whether or not PR is entitled to the preferential rate of
15% tax rate on dividends declared and remitted to its parent
corporation
Ruling:
(a) The claim for refund is denied. PG Philippines is not the
proper party to claim reimbursement of the alleged overpaid
taxes
The real party in interest is PG USA being the mother
corporation in the US. It is only a mere withholding agent of
the government.
(b) No complete requirements were submitted in order that the
tax sparing rule may be applied. It failed to present actual
receipts showing the dividends received by PG USA from PG
USA and failed to present the income tax return of its mother
corporation when the dividend were received.
On a Motion for Reconsideration, the SC sitting en
banc reversed itself:
Note: Taxpayer – “any person subject to tax imposed
by the Code”.
CIR vs. PG PHILIPPINES
(204 SCRA 877)
1. On the issue of proper party – Withholding agent is a
proper party to claim refund because it is he who is
liable to pay the tax (who is required to deduct and
withhold any tax. PG USA, the taxpayer, does not pay.
Hence, the withholding agent having sufficient legal
interest can bring a suit for refund of taxes he believes
were illegally collected from him.
2. On the rules of evidence – NIRC does not require
actual proof of payment as long as there is payment.
What is necessary is that the other country recognizes
or allows tax credit in the amount equivalent to 20%
(now 17%)
Requires only that USA “shall allow” a credit against the
tax due. PG USA is “deemed to have paid” tax credit in
amount equivalent to the 20% waived by the Philippines.
Q: Did US law comply with the above requirement?
A: US Tax Code shows:
1. US law grants PG USA a tax credit for the amount of
the dividend-tax actually paid from the dividend
remittances to PG USA.
2. US law grants to PG USA a “deemed paid” tax credit
for a proportionate part of the corporate income tax
actually paid to the Philippines by PG Philippines.
Q: In the PG cases, are the principles still applicable?
A: Yes, because of the rule on reciprocity (Section 28(B)(5)
(b). What has been changed is the method of computing the
34%. 33% and 32%.
If subject to the rule on reciprocity, it is subject to a flat
rate of 15%.
From the notes: Distinction between NIT and FIT:
1. If you fail to pay NIT, you are liable
59
 2. If you fail to pay FIT, not liable except in 2 cases
because the liability to pay is not with the withholding
agent.
CIR vs. WANDER PHILIPPINES
(160 SCRA 573)
Facts:
 Wander, Philippines is a DC organized under Philippine
laws and is a wholly-owned subsidiary of the Glaro S.A.
Ltd, a Swiss corporation not engaged in trade or
business in the Philippines.
Q: What did the DC (Wander) do that became the primary
cause of the controversy?
A: Wander declared cash dividends to its parent company,
Glaro, which may be subjected to 35% withholding tax.
Wander filed a claim for refund and/or tax credit
contending that it is liable for 15% withholding tax in
accordance with Section 24(b)(1) of the Tax Code as amended
by PD 369 and 778.
Q: What is the issue?
A: Issue: Whether or not Wander is entitled to the
preferential rate of 15% withholding tax on dividends declared
and remitted to its parent company, Glaro.
Q: Why is it the issue?
A: Swiss law did not impose an income tax on such
transactions. BIR said it should be 35% because there is no
provision in the Swiss law that allows it a preferential rate.
The SC said, since it is exempt, with more reason that
reciprocity should apply.
Two (2) questions were posed by petitioner:
1. Whether or not Wander is the proper party to claim
refund?
SC: Yes, because being a withholding agent, he is
liable to pay the tax and not its parent company. As a
Philippine counterpart, Wander is the proper party who
should claim for the refund or credit of overpaid
withholding tax on dividends paid on remitted by Glaro.
2. Whether or not Switzerland allows as tax credit the
“deemed paid” 20% Philippine tax on such dividends
-or-
Whether or not Switzerland, the FC where Glaro is
domiciled grants to Glaro a tax credit against the tax
due it, equivalent to 20% or the difference between the
regular 35% rate of the 15% preferential rate.
The SC said, Switzerland does not impose any income
tax on dividends received by Glaro, Swiss corporation from
corporations domiciled in foreign countries.
Accordingly, Wander claims that full credit is granted
and not merely credits equivalent to 20%.
Petitioner CIR avers that the tax sparing credit is
applicable if the country of the parent corporation allows
foreign tax credit equivalent to 20% tax deemed paid in the
Philippines.
The SC said the fact that Switzerland did not impose
any tax on the dividends received by Glaro from the
Philippines should be considered as a full satisfaction
(substantial compliance) of the given condition.
To deny Wander, Philippines the privilege to withhold
15% would run counter to the very spirit and intent of said law
60
and definitely will adversely affect a foreign corporation’s
interests here and discourage them from investing capital in
our country.
MARUBENI vs. CIR
(177 SCRA 500)
Facts:
 Marubeni head office in Japan invested in the equity of
AG&P without coursing the investment through its
branch office in the Philippines when AG&P declared
dividends.
 It withheld 15% branch profit remittance tax of 10%
intercorporate dividend tax before remitting the
dividend directly to Japan.
 Marubeni sought the refund of the 15% branch profit
remittance tax, claiming that the investment was made
directly by the Japan Head office and was therefore
“not effectively connected” to its branch operation on
the Philippines.
 However, it accepted liability for the 10% intercorporate
dividend tax because of its resident status.
 The CIR denied the claim for refund.
Ruling:
 The SC held that a NRFC is liable for 35% (now 32%)
tax rate on gross income including dividend from the
Philippines, unless its country of domicile allows a
“deemed credit” of 20% (now 17%) in which case the
tax on dividend shall be reduced to 15%.
 If a tax treaty between the Philippines and the country
of the foreign corporation provides for a lower rate,
then the lower rate may be applied.
 Under the Philippines- Japan Treaty, Marubeni should
have been subjected to 25% tax.
 The 15% branch profit remittance tax and the 10%
intercorporate dividend tax, however, offset this.
 IMPOSITION OF IMPROPERLY ACCUMULATED
EARNINGS TAX
Section 29
See RR 2-2001 (“Immediacy Test”)
Penalty tax to the corporation for the improper
accumulation of its earnings and as a form of deterrent to
the avoidance of tax upon shareholders who are supposed
to pay dividend tax on the earnings distributed to them by
the corporation.
Income tax of 10% imposed on a corporation with
improperly accumulated earnings.
This used to be Section 25 of the old law, but was
abolished in 1986 by virtue of EO 37. It has been revived
under the new law.
Q: Why abolished?
A: It was abolished because the FIT on dividends was
also abolished.
Q: What is the reason for this rule?
A: To oblige corporations to declare dividends. To
discourage the practice of accumulating earning and profits
in order to avoid the payment of income tax on the part of
the shareholders.
Q: When a corporation is obliged to declare
dividends, what is that?
A: A stock profit corporation.
Note: There are corporations that do not declare
dividends in order to get away with not paying any tax. As
stated in the case of CIR vs. Manning, what is declared is
the profit or gain made by a corporation. So, if no
61
 dividends are declared, then no FIT on dividends can be
imposed.
With the imposition of this IAET, what happens now if
corporations will not declare dividends? A tax of 10% will
be imposed on the accumulated earnings.
 TAX ON CORPORATIONS SUBJECT TO IMPROPERLY
ACCUMULATED EARNINGS TAX
Section 29 (B)(2)
Exceptions: The improperly accumulated earnings tax shall
not apply to:
1. publicly held corporations
2. banks and other non-bank financial intermediaries
3. insurance companies
4. taxable partnership (under RR 2-2001)
Q: Is it possible that it shall not apply even if it is not one
of those enumerated?
A: Yes, if pursuant to the reasonable needs of the corporation.
 EVIDENCE OF PURPOSE TO AVOID INCOME TAX
Section 29 (C)(1)
The fact that the earnings or profits of a corporation are
permitted to accumulate beyond the reasonable needs of the
business shall be determinative of the purpose to avoid the tax
upon its shareholders or members unless the corporation by
clear preponderance of evidence, shall prove the contrary.
 IMPROPERLY ACCUMULATED TAXABLE INCOME
Section 29(D)
For the purposes of this Section, the term IATI means
taxable income adjusted by:
1. income exempt from tax
2. income excluded from gross income (exclusions)
3. income subject to FIT
Rationale: Because it does not affect the computation of
gross income of the corporation having already been
subjected to withholding tax.
Adopted (3) doctrines of in a separate case – March 2001
(RR 2-2001). For corporations found to be subject to the tax,
the IATI for a particular year is first determined by adding to
that year the taxable income. The ff: The IATI x 10% to get the
IAET
4. amount of net operating loss carry over deducted
(Section 39)
And the taxable income as thus determined shall be
reduced by the sum of:
1. dividends actually or constructively paid
2. income tax paid for the taxable year
3. amount reserved for the reasonable needs of the
business
“Reasonable needs of the business” – includes the
reasonably anticipated needs of the business.
Note: The touchstone of the liability is the purpose behind
the accumulation of the income and not the consequences of
the accumulation. Thus, if the failure to pay dividends due to
some other causes such as the use of undistributed earnings
and profits for the “reasonable needs of the business, such
purpose would not generally make the accumulated earnings
subject to tax. However, if the accumulation is beyond the
reasonable needs of the business, the 10% IAET shall be
imposed.
62
 MANILA WINE MERCHANTS vs. CIR
(127 SCRA 483)
Facts:
 Manila Wine Merchant is a DC principally engaged in
the importation and sale of whiskey, wines and liquor,
and distilled spirits.
 It invested its money to the purchase of USA Treasury
Bonds, which is not related to its business of importing
and selling wines
 Note: As to its investment in Acme Commercial Co.
Union Insurance Society, and Wack Wack Golf and
Country Club are harmless accumulation of surplus –
not subject to IAET.
 The BIR assessed the company and demanded the
payment of 25% tax on the latter’s improperly
accumulated earnings for the year 1957.
 It claims for exemption because its accumulated
earnings and profits were used to serve the reasonable
needs of the firm.
Issue:
Whether or not the purchase of the USA Treasury
Bonds by Manila Merchant Wine in 1951 can be construed as
an investment to an unrelated business and hence, liable to
pay the penalty tax of 25% on the improperly accumulated
earnings.
Ruling:
 The claim for exemption was denied.
 The purchase of the USA Treasury Bonds were in no
way related to Manila Wine’s business of importing and
selling wines and thus, construed as an investment
beyond the reasonable needs of the business, and
liable for the payment of 25% improperly accumulated
earnings tax.
 Note: Manila Wine contended that its purpose of
buying USA Treasury Bonds was for aiding or financing
its importation and of buying lots and constructing
buildings thereon in the near future. The SC held that
the purpose is dependent upon various future
contingencies.
 The SC held : that to determine the “reasonable needs
of the business”, in order to justify the accumulation of
earnings, the Courts of the US have invented the so-
called “immediacy test”--- which construed the words
“reasonable needs of the business” to mean the
immediate needs of the business and it was generally
held that if the corporation did not prove an immediate
need for the accumulation of the earnings and profits,
the accumulation was not for the reasonable needs of
the business and the penalty tax would apply.
 In other words, investment of the earning s and profits
in unrelated business indicates an accumulation
beyond the reasonable needs of the business.
CIR vs. TUASON
(173 SCRA 397)
Q: Tuason is engaged in what?
A: Sale of realty.
Q: What did the BIR discover?
A: Tuason has accumulated surplus profits amounting to P3M
for 1975 up to 1978. He claims that he will use the money for
its expansion program, which included the construction in
1979-1981 of an apartment building and the purchase in 1980
of a condominium unit, which was intended for resale or lease.
However, the BIR found out that the corporation did not
use up its surplus profits
Ruling: Hence, its remaining accumulated surplus profits are
subject to the 25% tax.
63
 It is liable to pay IAET.
Since the P3M was not used, hence, the remaining
profits are subject to 25% IAET. It is plain to see that the
company’s failure to distribute dividends to its stockholders in
1975-1978 was for reasons other than the reasonable needs
of the business, thereby falling within the interdiction of
Section 25 of the Tax Code of 1977.
CYANAMID PHILS. vs. CA
(322 SCRA 639)
Facts:
 Cyanamid Philippines is a DC organized under
Philippine laws and is a wholly-owned subsidiary of
American Cyanamid Co. based in Maine, USA.
 It is engaged in the manufacture of pharmaceutical
products and chemicals, a wholesaler of imported
finished goods.
 The BIR sent an assessment letter and demanded from
it the payment of deficiency income tax and the 25%
improperly accumulated earnings tax.
 It protested the assessment of the IAET alleging that
the tax was not proper because the said profits were
retained to increase petitioners’ working capital and it
would be used for reasonable business needs of the
company.
 The CIR refused.
Ruling:
 There was no need for petitioner Cyanamid to set aside
a portion of its retained earnings as working capital
reserve as its claim since it had considerable liquid
funds to meet the normal needs of the business. (It
can be determined by computing the current asset to
liability ratio of the company).
 The accumulated profits must be used within a
reasonable time after the close of the taxable year.
 In the instant case, Cyanamid did not establish, by
clear and convincing evidence that such accumulation
of profit was for the immediate needs of the business.
 In the Manila Wine case, under the “IMMEDIACY
TEST”, the reasonable needs of the business means
immediate needs of the business and it was held that if
the corporation did not prove an immediate need for
the accumulation of the earnings and profits, the
accumulation was not for the reasonable needs of the
business and the penalty tax would apply.
Note: The IAET is essentially a penalty tax designed to
compel corporations to distribute earnings so that the said
earnings by shareholders could, in turn, be taxed.
“Bardahi” Formula – allowed the retention as working
capital reserve, sufficient amounts of liquid assets to carry the
company through one operating cycle. It is a well-established
formula, but it is not a precise rule – it is only for administrative
convenience.
Operating Cycle – is the period of time it takes to convert
cash into raw materials, raw materials into inventory and
inventory into sales, including the time it takes to collect
payment for the sales.
 EXEMPTIONS FROM TAX ON CORPORATIONS
Section 30
Note: Section 22 (B), GPP and JV under service
contract with the government are not included in Section 30
but they are also exempt.
On Section 27 ©, GOCCs such as
1. GSIS
2. SSS
3. PHIC
4. PCSO
5. PAGCOR
64

are exempt.
ON SECTION 30
Q: What is the relevance if exempt and included in
Section 22 (B) and what is the relevance if included in
Section 30 or not?
A: In Section 22 (B), it lays down the conditions when the
GPP and JV under service contract with the government are
exempt and when they are not. The nature of their exemption
is conditional.
Under Section 27 (C), the exemption granted to GOCC
is specific and unconditional. Specific because the
corporations are named specifically and unconditional
because exemption is not subject to any condition.
The exemption granted to corporations under Section
30 is uniform and generally unconditional subject only to the
exception laid down under the last paragraph. (conducted for
profit – income taxable)
Under Section 30, the corporations that are exempt
from tax are the following:
1. (3) organizations – labor, agricultural or horticultural
organizations not organized principally for profit
2. mutual savings bank not having a capital stock
represented by shares and cooperative bank without
capital stock organized and operated for mutual
purposes without profit.
3. a beneficiary society, order or association operating
for the exclusive benefit of the members such as a
fraternal organization operating under the lodge
system or a mutual aid association or non-stock
corporation organized by employees providing for the
payment of life, sickness, accident or other benefits
exclusively to the members of such society, order or
association or non-stock corporation or their
dependents.
4. cemetery company owned and operated exclusively
for the benefit of its members. Whatever income is
received by the cemetery, it is exempt (if somebody is
to be buried there) but let’s see last paragraph,
income of real property or activity conducted for profit.
Ex. Cemetery operator, establishment as fast food
chain, that an income activity conducted for profit, so
subject to income tax
ALF – private educational institution but non-stock,
non-profit. The income of this as an entity of the
school, tuition fee, etc. are exempt from income tax
But income from real property regardless of the
disposition made of the proceeds, the income is not
exempt.
Department Circular 1-97 – dormitory, hospital
located within the school is also exempt, provided
such dorm is within the premises of the school. But
circular 1-97 has been suspended because of Section
30 (H) – non-stock, non-profit educational institution
5. What are the requirements?
The following are the requirements:
1. non-stock corporation or association
2. organized and operated exclusively for religious,
charitable, scientific, athletic or cultural purposes of for
the rehabilitation of veterans
65
 3. no part of its net income or asset shall belong to or
inure to the benefit of any member, organizer, officer or
any specific person.
Note: In the second requirement of exclusive operation,
there are instances when religion is used as a camouflage to
earn profit, like the Catholic religion is the majority stockholder
of SMC; operates school, shares in banks.
Church – common concept is exempt on income tax but
subject to certain requirements.
CIR vs. CA (YMCA)
298 SCRA 83
Facts:
 YMCA is a non-stock, non-profit institution, which
conducts various programs and activities that are
beneficial to the public, especially to the young people,
pursuant to its religious, educational and charitable
objectives
 It earned income from leasing out a portion of its
premises to small shop owners, like restaurants and
canteen operators, and from parking fees collected
from non-members.
 The BIR collected income tax from such income.
 YMCA protested and appealed to the CA.
Q: Did the CTA agree with the BIR?
A: No. It ruled that the leasing of YMCA’s facilities are
reasonably incidental to and reasonably necessary for the
accomplishment of its purpose.
Q: On review, what is the CA ruling?
A: At first, it ruled in favor of the BIR, but on a motion for
reconsideration, it reversed itself and ruled that the little
income from small shops and parking fees helps YMCA to
survive and operate the entity.
On review, the SC held that the exemption claimed by
the YMCA is expressly disallowed by the very wording of the
last paragraph of Section 30 of the NIRC which mandates that
the income of exempt organizations (such as YMCA) from any
of their properties, real or personal, or any activity conducted
for profit, be subject to the tax imposed by the same Code.
Because the last paragraph of said section
unequivocally subjects to tax the rent income of the YMCA
from its real property, the court is duty bound to abide strictly
by its literal meaning and to refrain from resorting to any
convoluted attempt at construction.
YMCA is exempt from the payment of property tax BUT
NOT INCOME TAX on the rentals from its property.
6. business league, chamber of commerce or board of
trade not organized for profit and no part of the net
income of which inures to the benefit of any private
shareholder or individual.
7. civil league or organization not organized for profit but
operated exclusively for the promotion of social
welfare.
8. a non-stock and non-profit private educational
institution recognized and permitted by DECS or
TESDA.
9. government educational institution
10. farmers’, fruit growers or like associations organized
and operated as a sales ___
11. farmers’ or other mutual typhoon or fire insurance
company, mutual ditch or irrigation co., mutual or
66
 cooperative telephone company, or like organization
of a pure local character, the income of which
consists solely of assessments, dues and fees
collected from members for the sole purpose of its
expenses, and
note, that we have other terms for gross income for payment
of FIT, GIT, Minimum Corporate Income Tax, Optional Income
Tax.
Q: What should be the income in GI? Is it Section 32 (A)?

12. farmers’, fruit growers or like associations organized A: GI for filing NIT Return for the payment of NIT.
and operated as a sales agent for the purpose of
marketing the products of its members and turning Distinguish:
back to them the proceeds of sales, less the
necessary selling expenses on the basis of the NIT FIT
quantity of produce finished by them. To arrive at NIT: To arrive at FIT:

Last paragraph – “The income of whatever kind and GI Income

character of the foregoing organizations from any of their - X Rate
properties, real or personal, or from any of their activities Deductions -----------------
conducted for profit regardless of the disposition made of such X Rate FIT
income, shall be subject to tax imposed under this Code.” ----------------------
Note: This all-embracing provision applies to the entire NIT
enumeration from (A) to (K) (1-12) above. Hence, the Exemptions/deductions not
corporations enumerated above are always exempt from allowed
corporate income tax, but income of whatever kind and Taxpayer accomplishes the Separate return is
character of these corporations: return accomplished by the
withholding agent in behalf of
1. from any of their property, real or personal and the taxpayer
2. from their activities conducted for profit regardless of Law is silent Applicable only when the law
the disposition made of such income, are subject to tax expressly provides
under Section 30.
 GROSS INCOME
 TAXABLE INCOME Section 32
Section 31
Enumeration is not exclusive.
Taxable income – means the pertinent items of gross
income specified in this Code, less the deductions and/or Considering the all-encompassing scope of the definition
personal and additional exemptions, if any, authorized for such we would like to well begin with the items expressly excluded
types of income by this Code or other special laws. from Gross Income (not included in the computation of GI):

Gross Income – generally, you are referring to gross 1. Passive Income (subject to FIT)
income for the purpose of computing the NIT. But please, take 2. Income that are exempt under the income tax law, and

67
 3. Income classified as exclusions under Section 32 (b).
All income derived from whatever sources, “including but
not limited to the following items:
Since the enumeration in Section 32 are not exclusive,
any other income not found thereunder and at the same time
not falling under the (3) classes of income stated above
likewise forms part of gross income.
GI includes the following:
1. Compensation for services in whatever form paid,
including but not limited to fees, salaries, wages,
commissions, and similar items
Q: Can there be an instance where compensation is not
subject to NIT?
A: Yes. If the taxpayer is an alien individual or his Filipino
counterpart employed in multinational companies, OBUs or
petroleum service contractor or subcontractor, the tax
applicable is the FIT of 15% based on the GI he received from
his employer.
They should occupy managerial and technical positions
(RR 2-98).
In this case, the income tax return is accomplished and
the tax payable by his employer as withholding agent. The FIT
on his employment compensation having been paid by the
withholding agent, the same is no longer included in his
computation in the GI of his alien employee or his Filipino
counterpart for the purpose of paying the net income tax.
Only if this alien employee or his Filipino counterpart
receives income from other sources is he required to
accomplish an income tax return for the purpose of paying the
net income tax thereon.
2. Gross income derived from the conduct of trade or
business or the exercise of a profession
3. Gains derived from dealing is property
The law does not specify the kind of property referred
to here – real, personal or both?
As a general rule, income derived from sale, exchange
or other disposition of real property is subject to FIT, hence,
not included in the computation of income.
For FIT to apply, the sale of real property must be:
1. capital asset
2. located in the Philippines
3. sold by an individual, estate, trust or a DC
FIT is 6% based on the GSP or FMV, whichever is
higher.
Seller: individual – real property is under Article 415,
NCC.
Seller: corporation – real property refers to land and
buildings
Note: Where the sale of real property does not meet
any of the requirements, the income therefrom is not subject to
FIT, hence, included in the computation of Gross Income
subject to the NIT.
If the real property is an ordinary asset or a capital
asset, the taxpayer is a RFC, the creditable withholding tax is
applicable, subject to the amendments by RR 2-98 and 8-98.
The tax depends on the GSP and whether or not the
seller is habitually engaged in the business of realty. To be
engaged in the business of realty, one must be registered in
the HLURB.
68

If the seller is habitually engaged in the business of
realty, rate is:
1. 0.5% if GSP is below 200T
2. 3% if above 200T but not above 5M
3. 5% if above 5M
If the seller is an individual or corporation not engaged
in the business of realty, rate is 7.5%.
Q: If the taxpayer is an individual, estate, trust or DC, the
real property sold is a parcel of land classified as capital
asset, should the income derived from the sale be
included in the computation of gross income?
A: No, if the income is located in the Philippines. The
proceeds from the sale are subject to a FIT of 6% of the selling
price of the FMC, whichever is higher.
Q: Is there an instance where the proceeds from the sale
of real property are included in the computation of GI?
A: Yes, if the property is classified as ordinary asset,
meaning:
1. it is held by the taxpayer and sold to a customer in the
ordinary course of trade or business; or
2. if it is used in trade or business of the taxpayer. In this
instance, the FIT does not apply.
Q: Is there an instance where the proceeds from the sale
of real property classified as capital asset is included in
the computation of GI?
A: Yes. The proceeds from the sale of real property classified
as capital asset is included in the computation of GI in the
following instances:
1. if the real property is located abroad
2. if the seller is a RFC or NRFC
Q: Is there a sale of real property subject to FIT?
A: Yes. The sale of shares of stock in a DC, which shares are
classified as capital asset not listed and transacted in a local
stock exchange, regardless of the status of the taxpayer. The
proceeds thereform are subject to FIT.
So, the “gains” referred to herein is gains from dealings
in real property where any of the above-stated requirements
are not met; and “gains” from dealings in personal property
subject matter of the formula under Section 40 (B) provided
the proceeds realized therefrom are neither exempt from tax
nor subject to FIT.
4. Interest – 20% - if passive
The interest that is included in the computation of GI is
interest earned from lending money and interest from bank
deposit which does not constitute passive income.
Note: bank interests constitute passive income if it is
derived from sources within the Philippines in which case, it is
subject to FIT.
Q: Money is deposited in Hong Kong and earns interest.
Is the interest included in the computation of GI?
A: Yes. It is included in the computation of GI. The interest is
not passive, having been earned from a source outside the
Philippines.
Remember:
1. If the depositor is an individual, the bank interest is
exempt, whether net or final
2. if the depositor is a DC or a RFC, the interest from time
deposit which matures in more than (5) years is not
exempt.
69

5) Rents
6) Royalties
The royalty that is included in the computation of GI is
royalty that does not constitute passive income. (Those
derived from sources outside the Philippines).
Note: Royalty constitutes passive income if it is
derived from sources within the Philippines regardless of
whether the taxpayer is an individual or a corporation, in which
case it is subject to FIT.
7) Dividends
The dividend that is included in the computation of GI is
dividend that does not constitute passive income.
Note: Dividend constitutes passive income if a DC
issues it to an individual taxpayer in which case it is subject to
FIT.
Dividend issued by a DC – DC or RFC – is exempt
from tax. When issued to a NRFC, dividend is subject to FIT.
8) Annuities
Annuities that are not exempt from tax are included in
the computation of GI. If exempt, not included.
Note: If it fails to comply with the requirements of a
tax-exempt annuity, then the sane is taxable and included in
the computation of GI.
9) Prizes and Winnings
Included if they do not constitute passive income and
are not exempt.
Included if derived outside the Philippines.
Prizes – passive income if:
1. derived from sources within the Philippines and
2. over P10,000
Winnings – passive income if:
1. derived from sources within
Prizes and awards made primarily in recognition of
religious, charitable, scientific, educational, artistic, literary or
civic achievement is exempt from income tax if the following
conditions are met:
1. the recipient is selected without any action on his part
to enter the contest or proceeding; and
2. the recipient is not required to render substantial future
services as a condition to receiving the prize or award.
Prizes and awards are also exempt from income tax if:
1. granted to athletes in local and international sports
competition and tournaments
2. whether held in the Philippines or abroad
3. sanctioned by their national sports association
10) Pensions
Forms part of the GI if the same is not exempt.
Under RA 4917, retirement benefits are exempt from
income tax if the following conditions concur:
1. the retiring official or employee has been in the service
of the same employer for the last (10) years
70
 2. he is not less than (50) years old at the time of his
retirement
3. the official or employee avails of the benefits only once
4. the private benefit plan is approved by the BIR (RR 2-
98, last requirement)
Under RA 7641 – grants retirement benefits to
employees of private firms if the following conditions concur:
 EXCLUSIONS
Section 32 (B)
Exclusions are income but the law treats them
otherwise. Hence, they are not included in the computation of
GI and are exempt from tax.
Q: When you say exclusion, what do you mean by that?

1. the firm has no private retirement trust fund A: It is exempt.

2. the retiring official or employee is at least (60) years old
3. the benefits are equivalent to (15) days salary and ½ Q: Why exempt?
of the 13th month pay for every year of service.
A: Because the law treats them as such.
Note: The retirement benefits received under RA 4917
and RA 7641 are exclusions and therefore, are exempt from Q: The term of GI in paragraphs A and B, it refers to what
income tax. Now, if the retirement benefits granted to kind of income tax?
employees are outside the foregoing retirement plans, or even
pursuant thereto, but without strict compliance with the above- A: It refers to NIT.
stated requirements, are not exempt and therefore, forms part
of the taxpayers GI. Q: What is GI?

11) Partners’ distributive share from the Net Income of the A: It refers to the payment of NIT.
GPP. You will note that deductions, exemptions and
exclusions (included but deducted) connote the same
GPP Exempt from tax The partners’ share is meaning.
included in the GI if
the partnership of 1. Life Insurance – the proceeds of life insurance policies
which he is a partner paid to the heirs of beneficiaries upon the death of the
is a GPP insured whether in a single sum or otherwise, but if
Ordinary Taxable as a corporation The share of a such amounts are held by the insurer under an
Partnership partner here is agreement to pay interest thereon, the interest
exempt from tax payments shall be included in the GI.

Note: The share of a partner in the distributable Note: This speaks of proceeds of life insurance
income after tax of an ordinary or taxable partnership of which
he is a partner is subject to FIT, hence not included in the Q: If you insure the life of your parents, is it the one
computation of GI. referred to?

71
A: No.
Q: So, what is the one referred to?
A: The insured must be the taxpayer himself or the taxpayer
insures his own life.
Note: Proceeds thereform which is payable upon the
death of the insured are excluded from GI.
However, if in the meantime, the proceeds earn
interest, the interest is not an exclusion.
Q: Does it matter whether to your benefit or complete
stranger? Lump sum or installment?
A: No, because the Code says, “heirs or beneficiaries” so
long as payable upon death.
Q: What if payable after 10 years? Will the rule be the
same, that it is exempt?
A: For example, you insure your life. After 10 years, you will
receive P500T. You only paid P100T. The P400T shall be
subject to tax. Only that part which corresponds to the return
of premiums is exempt, the excess is taxable.
Q: What should be included?
A: Section 85 (A). Proceeds of life insurance are subject to
estate tax payable upon death of the insured. This depends
on who is the beneficiary.
1. estate – subject to estate tax
2. others – subject to estate tax if the appointment of
beneficiary under the estate is irrevocable.
2. Amount Received by Insured as Return of Premium
Paid by him under life insurance, endowment or
annuity contracts, either:
a. under the term
b. at the maturity of the term mentioned in the
contract
c. or upon surrender of the contract.
Note: The amount of premium received by the insured
during his lifetime.
The interest thereon, however, is not an exclusion and
is included in the computation of GI.
Ex. Mr. A insures his life for P100T. After (5) years the
insurance contract matures and the amount of P150T is given
back to him as return of premium. Only P100T is an exclusion;
the rest of the amount is taxable.
3. Gifts, Bequests and Devises
Are gratuitous in nature, hence, excluded from the
computation of GI.
However, that income from such property, as well as
gifts, bequests or devise or descent of income from any
property, in cases of transfers of dividend, interest, shall be
included in the GI.
Note: Donation whether real, personal, devise, legacy
is not subject to income tax. It is an exclusion that is why it is
exempt.
4. Compensation for Injuries or Sickness
Q: What are the exclusions provided for in this paragraph
(Section 32 (B)(4)?
A: The following are the exclusions:
72
 1. amounts received through Accident or Health
Insurance
2. amounts received under Workmen’s Compensation Act
as compensation for personal injuries or sickness.
3. amounts of any damages received, whether by suit or
agreement on account of such injuries or sickness.
4. and damages by virtue of employer-employee
relationship on account of such injury or illness
These amounts are exclusions without any condition.
Q: Due to what?
A: Injury or sickness.
Q: Does it matter whether it is a court settlement or an
out of court settlement?
A: No.
5. Income Exempt under Treaty
6. Retirement benefits, pensions, gratuities, etc.
a. Retirement pay
Q: How would you describe retirement pay?
A: The sum of money/benefits received upon reaching the
maximum age or employment.
PNP = 56
Judge = 70
Government = 55 or 60
Private = 50, depending upon CBA
Q: How about separation pay?
A: The amount received by an employee who was separated
from employment due to death, sickness or any other reason
beyond the control of the employee.
Q: How about terminal leave?
A: Commutation or monetization of an employee’s vacation/
sick leave. It may be received by a retiring/retired or
separated employee.
Q: How about terminal leave benefits?
A: It refers to vacation and sick leave benefits monetized
 RETIREMENT BENEFITS, PENSIONS, GRATUITIES,
ETC.
Section 32 (B)(6)
Speaks of (2) things:
Subsection a, c, d, f – all about retirement pay
b - separation pay
The following retirement benefits are exempt from tax:
1. retirement benefits received under RA 7641 pertains to
private firms without retirement trust plan
2. retirement benefits pursuant to RA 4917 – received by
officials and employees of private firms whether
individual or corporate, in accordance with a
reasonable private benefit plan maintained by the
employer provided the following are met:
a. retiring employee has been in the service of the
same employer for the last (10) years
b. he is not less than (50) years old at the time of
his retirement
c. the official or employee avails of the benefits
only once
73
 d. the private benefit plan is approved by the BIR
(RR 2-98)
In the absence of a retirement plan, the following
requirements must concur:
1. firm has no retirement trust plan
2. retiring official or employee is at least (60) years old but
not more than (65)
3. the benefits are equivalent to (15) days salary and ½ of
the 13th month pay for every year of service
4. employee has been in the service for (5) years.
Retirement – whether or not taxable
First, you have to determine the source/ origin of
retirement pay
Q: If retirement pay is given by a foreign government to
RC, NRC or alien who came to and permanently resided in
the Philippines, Section 32(c)?
A: It is automatically an exclusion, no issue on no. of years of
service (???)
Q: If given by a foreign corporation or other institutions,
is there a requirement?
A: None. It doesn’t matter if the retiring employee is below
(50) or above. The number of years of service is of no
importance. No further requirement because it is an exclusion.
These include:
1. retirement benefits
2. pensions
3. other similar benefits
Q: if granted by PVAO, SSS,GSIS?
A: No other requirement; it is an automatic exclusion.
Q: If you received retirement pay within the Philippines,
do you have to determine if received from a government
or a private institution?
A: Yes, because if given by a private corporation by virtue of
B 6 (9), you have to determine if there is a private retirement
plan.
There are requirements for exemption. Take note of them: RA
7641; RA 4917
Situation: SMC engineer will retire. He can claim
retirement pay only once. Later on, same SMC Engineer after
retirement became a consultant of SMC. Then he retired
again. This time he cannot claim the exemption anymore.
Q: If there is no retirement plan, what are the
requirements to be exempt?
A: The following are the requirements to be exempt:
1. no private retirement plan
2. the retiring official or employee is at least (60) years old
3. the benefits are equivalent to (15) days’ salary and ½
of the 13th month pay for every year of service.
4. he has been in the service for (5) years.
Note: Please take note on the question of whether the
source is foreign or in the Philippines. If given by a
government or the private sector.
 Separation Pay
Section 32 (B)(6)
74

Note: If terminal because of justifiable cause, NO
SEPARATION PAY.
Q: Is it important to know if the separation pay is derived
from a foreign government?
Q: Is the employee still entitled to separation pay?
A: Yes. It is still beyond his control – an exclusion. Therefore,
exempt.
Note: Take note of the term “within the control”

A: Yes. Q: Management laid off employees because of

bankruptcy.
Q: Why do you think it is not included in Section 32 (B)(6)
(c)? A: It is beyond the employee’s control.

A: Because the phrase “other similar benefits”. The 1997 BAR

separation pay is deemed included.
Q: If received in the Philippines, what are the
requirements to be classified as an exclusion?
A: It doesn’t matter if given by the government or a private
institution. If the separation pay is given due to causes such
as:
1. death, sickness or other physical disability
2. or any cause beyond the control of the employee
no further requirement.
Note: So, the moment you receive separation pay on
account of death, sickness or other physical disability, or for
causes beyond your control, it is automatically excluded. No
more other qualifications. It is an automatic exclusion.
Ex. For failing eyesight, the corporation terminated
you.
Not subject to income tax; it is an illness.
 RULE ON TERMINAL LEAVE BENEFITS
Given on a yearly basis, upon retirement
If given on a yearly basis, determine whether sick leave
or vacation leave.
The RULE is:
If sick leave, it is given on a yearly basis –
subject to income tax.
If vacation leave, GR = it is subject to income
tax except, if it is (10) days or less, in which case it is
exempt.

If ground is other than the (3), you have to qualify if

whether or not it is beyond the control of the employee. REVENUE REGULATION 2-98
Q: Does this matter if the worker received from the
1995 BAR government or private sector?
Ex. The management installed a labor saving devise
for cost cutting. And the personnel manager said to you A: Yes.
“voluntary resignation” na lang. Retrenchment. If private sector, vacation leave – regardless of number
of days = not subject to tax

75

If government sector, vacation leave – regardless of
number of days = not subject to tax
Q: How about if given after retirement?
A: We have three (3) rulings/ cases:
RE: ZIALCITA (190 SCRA 851)
Q: He is a retiree of what?
A: DOJ
Q: Did the management of the DOJ withhold the sum of
money?
A: Yes.
Q: Did Zialcita agree with that?
A: No.
Q: What are the grounds cited by the counsel of Zialcita
to state that it is an exclusion?
A: PD 220 – which provides that terminal leave benefits
received by employees of the government and the private
sectors are exempt from tax. It falls under the phrase, “other
similar benefits received by a retiring employee” – similar to
retirement pay.
Q: Did the SC agree?
A: Yes. It held that it is in the nature of retirement pay. Ruling
is based on the old law but it is still relevant in the new law
because what was changed is only the section number.
The SC committed a mistake in saying it is in the
nature of retirement pay, Section 28. But the ruling is still
incorrect. However, it added that the exemption applies only
to DOJ employees stated in the dispositive portion.
Q: Was this ruling modified in the case of Borromeo?
A: Yes.
BOROMEO vs. CSC
(199 SCRA 911)
Q: Officer of what office?
A: Civil Service Commission
Q: How about Castaneda?
A: He is the Revenue attaché in the Philippine Embassy,
London.
Q: In this case, what was the issue?
A: Whether or not the terminal leave benefits of Borromeo is
subject to tax and whether or not his terminal leave pay
computed on the basis of his highest monthly salary including
allowances or on the basis of his highest salary without said
allowances should be subject to tax.
It should not be subject to tax. The SC reiterated the
ruling in Zialcita. It should be exempt from tax.
This case, however, modified the ruling in Zialcita in the
sense that the income tax exemption granted to DOJ
employees was applied to workers of the other branches of
government.
CIR vs. CASTANEDA
76
Q: What is the issue in this case?
A: Whether or not terminal leave pay received by a
government official or employee or his retirement from
government service is subject to income tax.
The SC held that the terminal leave pay received by retiring
government officers or employees is TAX EXEMPT, not being
part of the gross salary or income but a retirement benefit,
citing the case of Zialcita.
Note: Notice, however, that in all the (3) cases,
petitioners were all government employees.
Q: Suppose a worker from a private corporation receives
the terminal leave benefit, is it exempt from tax?
A: Yes. Under PD 220, it is provided that terminal leave
benefits received by a worker in the private as well as in the
public sector are exempt from income tax.
Note: PD 220 argued in Zialcita is not abandoned or
superseded, it still forms part of the law of the land.
 MONETIZATION OF LEAVE CREDITS OF
GOVERNMENT OFFICIALS AND EMPLOYEES
EO 291 – Erap administration, adopted in RMC 16-2000
with respect to TLB received by government employees is
always exempt; no qualification.
 MISCELLANEOUS ITEMS
Section 32 B (7)
 INCOME DERIVED BY FOREIGN GOVERNMENT
Section 32 (B) (7) (a)
Transactions, contracts not only on loan but also on
bonds, stocks, other domestic securities, interest from deposit
of money in the Philippines by 3 parties/ entities.
They are not subject to income tax because they are
excluded.
Q: Who are the parties here?
A: They are the following:
1. foreign government
2. financial institutions owned and controlled or enjoying
refinancing from foreign government
3. international or regional financing institutions
established by the foreign government
Case of Mitsubishi – interest on loan not subject to
income tax because the law deems it an exclusion.
Situation: The foreign government of Brunei is a
stockholder of a DC, Development Bank of the Philippines. It
deposited money in a Makati Bank.
Q: Is it subject to income tax?
A: No. It is exempt; it is an exclusion.
Q: What about the taxable dividend?
A: Exempt, because it is an exclusion.
 INCOME DERIVED BY THE GOVERNMENT OR ITS
POLITICAL SUBDIVISIONS – Income derived from any
public utility or from the exercise of any essential
governmental function accruing to the Government of
the Philippines or to a political subdivision thereof.
Section 32 (B)(7)(b)
The exemption from income tax under this section
pertains only to income derived by the government or any of
its political subdivisions from:
77
 A: Prizes and awards made primarily in recognition of
1. public utility; and religious, scientific, educational, artistic, literary, or civic
2. the exercise of any essential governmental function achievement but only if:

Consequently, income from sources other than those 1. the recipient was selected without any action on his
mentioned are subject to income tax. part to enter the contest or proceeding; and
Note: Do not confuse this provision with Section 27 2. the recipient is not required to render substantial future
(C), which states that, “all GOCCs, agencies and services as a condition to receiving the prize or award.
instrumentalities are taxable, with the exception of:
Otherwise, not exempt from tax.
1. GSIS
2. SSS  PRIZES AND AWARDS IN SPORTS COMPETITIONS
3. PHIC Section 32 (B) (7) (d)
4. PCSO
5. PAGCOR Q: On subsection (d), what are the requirements for
exemption?
Note: Even if they are not one among the five (5)
specifically enumerated, a GOCC can still be exempt if it A: The requirements for exemption are the following:
derived its income from:
1. granted to athletes in local/ international sports
1. public utility competitions and tournaments.
2. for the exercise of essential governmental function 2. whether held in the Philippines or abroad; and
3. sanctioned by the national sports associations
no conflict between the two.
Q: What is this prize that is subject to income tax?
Also, on the issue of whether or not the government
may tax itself, correlate this provision with Section 133 (o) of A: Ex. Case of Grandmaster Antonio
RA 7160 (LGC) which states that a LGU cannot impose taxes - sanctioned by the National Sports Association
on the National Government or any of its political subdivisions (before, it was the Philippine Olympic
or agencies. Committee
- if asked answer that it is, provided sanctioned
by National Sports Association.
Ex. Whether or not Onyok’s prize is subject to income
tax
 PRIZES AND AWARDS - the proper answer that time is if it is
Section 32 (B)(7)(c) sanctioned by the Philippine Olympic
Committee (changed to NSA).
Q: What are the requirements to be exempt?
Ruling: The BIR said it is subject to FIT = 20%

78

Q: Why not exempt?
A: It is not exempt because it is not one of those sanctioned
by the NSA.
Q: Is the amendment important, from POC to NSA?
A: Yes, because it covers all associations under the umbrella
of NSA
 13TH MONTH PAY AND OTHER BENEFITS
Section 32 (B) (7) (a)
Received by officials and employees of public and
private entities provided that the total exclusion shall not
exceed P30T which shall cover:
1. benefits received by officials and employees of the
national or local government pursuant to RA 6686.
 GSIS, SSS, MEDICARE AND OTHER CONTRIBUTIONS
Section 32 (B) (7)(f)
First, deduct this from the GI.
Not included in the GI for the purpose of computing the
NIT.
Q: What does this mean?
A: Your contribution in the GSIS, SSS, Pag-ibig, should not be
included in your gross income.
GAINS FROM THE SALE OF BONDS, DEBENTURES AND
OTHER CERTIFICATE OF INDEBTEDNESS
Section 32 (G)
Gains realized from the sale or exchange or retirement
of bonds, debentures or other certificate of indebtedness with
a maturity of more than (5) years.
If lower than (5) years, subject to FIT.
GAINS FROM REDEMPTION OF SHARE IN MUTUAL FUND
Section 32 (H)
Gains realized by the investor upon redemption of
shares of stocks in a mutual fund company as defined in
Section 22 (BB) of this Code.
Note: Interest on government securities is now
taxable.
FRINGE BENEFITS
Section 33
Means any good, service or other benefit furnished or
granted in cash or in kind by an employer, individual or
corporation, to an individual employee, except rank and file. It
is either taxable or exempt.
Applicable only to supervisory and managerial
employees, not rank and file.
Managerial employee – is one who is vested with
powers or prerogatives to lay down and execute management
policies and/or hire, transfer, suspend, lay-off, recall, or
discharge, assign or discipline employees.
Supervisory employee – is one who in the interest of
the employer, effectively recommends managerial actions if
the exercise of such authority is not merely routinary or clerical
in nature but requires the use of independent judgment.
79
 All employees not falling under these definitions are
called “rank and file” employees.
Fringe Benefit Tax – another from of FIT (FIT on fringe
benefit)
A lot of things should be clarified here:
1. who is liable to pay
2. what is the rate
3. what are the exceptions
Primarily, this refers to benefits received by managerial
and supervisory (take note of the definition under the Labor
Code)
A: Under the Revenue Audit Memorandum Order modified by
RR 3-98 and RR 2-98:
1. when fringe benefit is required by the nature and
necessary to a trade/business of the employer
2. when the fringe benefit is for the convenience of the
employer Section 33 (A)
Q: If the worker receives FREE HOUSING, is he exempt?
A: You have to qualify if:
1. rank and file employees
2. managerial employees

Q: There are how many rates of FIT? What are these?
A: The following are the rates, and these are:
1. 32%, generally it is 32% except:
2. 25% NRANETB
3. 15% aliens employed in multinational companies,
offshore banking units and petroleum service
contractors.
Q: There are how many ways of multiplying the tax?
Two (2) Cases:
1. If he is a managerial employee and he receives free
housing, he is exempt if free housing is:
a. for the convenience of the employer or
management and
b. within (50) meters from the perimeter of the
business premises
2. If he is a rank and file employee and he receives free
housing, he is exempt if it is for the convenience of the
management

A: There are (2) ways, either 100% or 50% 1999 BAR

Ex. Only ½ of the FB will be subject to FIT
Q: Suppose it is received by Rank and File Employees?
A: It is not exempt, you pay by way of the NIT.
A security guard received FB, is he subject to income
tax?
Q: A security guard is not a managerial employee subject
to income tax?

Note: Take note of Section 33, last paragraph. A: If the security guard is a supervisor, hence, a managerial
employee, he is exempt.
Q: What are the (2) cases when fringe benefit tax does not
apply? HENDERSON case – “CONVENIENCE RULE”

80
 Husband and wife, American spouses, are officers of a
DC here in the Philippines. They receive free housing
allowance for the rental of apartment. The ruling here is
modified by RAMO Section 33.
Since it is for the convenience of the management, the
spouses should be exempted from income tax.
Under Section 33 (A) – A FIT is imposed on the
grossed-up monetary value of fringe benefit granted to
supervisory and managerial employees, except:
1. where such fringe benefit is required by the nature of or
necessary to the trade or business or profession of the
employer; or
2. when the fringe benefit is for the convenience or
advantage of the employer
1987 Revenue Audit 1-87
Housing, free food, exempt if condition of employment
No distinction of employers
Free housing, free meals, in old law – condition of
employment. But in Section 33, only managerial employees.
In case of R and F employees, we have RR 2-98 (rank and file
exempted from income tax if it is for the convenience of the
employer).
Q: What if a rank and file employee receives the fringe
benefit?
A: Yes. NIT unless it is exempt under Section 33 (C). Rank
and file workers are exempt from FIT but are subject to NIT.
Q: If received by a managerial or rank and file employee,
is it subject to the withholding tax?
A: Managerial employee = Final Withholding Tax = FIT
Rank and File employee = Creditable withholding Tax = NIT
Q: What are de minimis benefits?
A: De minimis benefits are facilities or privileges
furnished/given by an employer to his employees that are of
relatively small value as a means of promoting the health,
goodwill, entertainment or efficiency of his employees.
Q: Who is liable to pay?
A: Payable by employer as withholding agent (Section 57 (A))
Q: What are the fringe benefits enumerated in Section 33?
A: They are the following:
1. Housing
2. Expense account
3. Vehicle of any kind
4. Household personnel, such as maid, driver and others
5. Interest on loan (12%) at less than market rate to the
extent of the difference between the market rate and
actual rate granted
6. Membership fees, dues and other expenses borne by
the employer for the employee in social and athletic
clubs or other similar organizations
7. Expenses for foreign travel
8. Holiday and vacation expenses
9. Educational assistance to the employee or his
dependents, and
10. Life or health insurance and other non-life insurance
premiums or similar amounts in excess of what the law
allows
Ex. On interest loans:
81
 A borrowed money from the management and the rate
is only 5%, while the market rate is 12%.
Q: The premiums paid by the management, Section 34 (A)
are these deductible?
A: Yes, provided that the FIT on FB has been paid.
Under the Sababan Reviewer:
The fringe benefit tax does not apply to fringe benefits
granted by an employer to an employee under the following
circumstances:
1. if it is received by a rank and file employee
2. even if it is received by a supervisory or managerial
employee, if the fringe benefit is required by the nature
of, or necessary to the trade or business or profession
of the employer, when granted for the convenience of
the employer himself.
3. if it is exempt under Section 33 (C)
Fringe Benefits NOT Taxable
1. fringe benefits which are authorized and exempted
from tax under special laws
2. contributions of the employer for the benefit of the
employee to retirement, insurance and hospitalization
benefit plans
3. benefits given to the rank and file employees, whether
granted under a collective bargaining agreement or not
4. de minimis benefits as defined in the rules and
regulations to be promulgated by the Secretary of
Finance.
Note: Fringe benefit tax is a Final Income Tax. It is
computed by simply multiplying the grossed-up monetary
value of the fringe benefit received by the
supervisory/managerial employee with the applicable tax
rate. No deductions/exemptions allowed.
But where a R and F employee receive the fringe
benefit, he pays income tax thereon by way of the net.
Hence, he includes it in the computation of his gross
income, subject to the exemptions and allowed by law.
Q: Under Section 33 (B) (10) and Section 36 (A) (4), what
kinds of insurance are referred to?
A: Section 33 (B)(10) refers to life or health insurance and
other non-life insurance premiums or similar amounts.
Section 36 (A)(4) refers to life insurance.
INCOME FROM SOURCES WITHIN THE PHILIPPINES
Section 42
Relevant only to some kind of taxpayers
Q: Give an example where Section 42 is totally irrelevant
and immaterial.
A: Section 42 is totally irrelevant and immaterial with respect
to the following:
1. resident citizen
2. domestic corporation
It is irrelevant and immaterial because whether or not the
income is within and without, still they are liable to pay tax.
Q: With respect to other taxpayers, why is this section
important?
82
A: It is important because in the event that the taxpayer NDC promised to pay the Japanese Shipbuilders
proved that the income is derived from sources without, they promissory notes, the balance of the contract price of the (12)
are not liable for payment of tax ocean going vessels purchased from it, including the interest
on the principal sum at the rate of 5%per annum.
1. NRC
2. OCW AND SEAMEN Q: For the payment of interest, what happened now? Did
3. RA the Japanese and NDC agree upon it?
4. NRAE
5. NRANE A: Yes. Payment of interest on the principal sum at the rate of
6. RFC 5% per annum.
7. NRFC
Q: What is the issue?

A: Issue: Whether or not said interest is income derived from

Q: Section 42 speaks of (3) things:
1. income within
2. income without
3. income partly within and partly without
SECTION 42 (A)(1)
Q: This should be divided into (2)parts, what are these?
A: These are:
1. interest from sources within the Philippines, and
2. interests on bonds, notes, or other interest-bearing
obligations of residents, corporate or otherwise.
sources within or without the Philippines.
Q: What is the ruling of the SC?
A: RULING: The SC held that “the interest paid by petitioner
(NDC) which is admittedly a resident of the Philippines is
interest derived from sources within the Philippines subject to
income tax.”
The rule is that “the residence of the obligor who pays
the interest rather than the physical location of the securities,
bonds or notes or the place of payment, is the determining
factor of the source of interest income.

NDC vs. CIR (151 SCRA 472) Accordingly, if the obligor is a resident of the
Philippines, the interest payment paid by him can have no
A DC entered into a contract with a Japanese firm other source than within the Philippines.
(Japanese shipbuilders)
Q: Is this case still relevant (This was the old Section 37)
Q: Where was the contract made? The payments
thereto? A: YES. What was changed was only the section number.
So , this case is very much relevant.
A: The contract was negotiated and agreed upon in Japan,
signed and delivered to NDC in Tokyo, Japan. RULE: A FC deriving income from sources within the
Philippines is liable to pay tax.

83

Q: With respect to sale of shares of stocks by other
taxpayers (not RC or DC) are the proceeds of the sale,
income from sources within or without?
A: Sale of Shares of Stocks in a DC, the gain derived
therefrom shall be treated as derived entirely from sources
within the Philippines regardless of where the said shares are
sold. Hence, liable to pay tax.
Q: How about a FC? What is the rule?
A: In case of sale of shares of stocks in a FC, it will depend
on the place of sale of the shares of stocks. If sold within the
Philippines, liable. If not sold within the Philippines, not liable.
DIVIDENDS
Section 42 (A) (2)
Q: Supposing the DC and RFC before the sale of shares
of stocks declared dividends?
A: With respect to cash dividends declared by a DC, and the
recipient is a RFC, it is exempt from income tax. If the
recipient is a NRFC, cash dividend is subject to FIT but subject
to the reciprocity rule of 15%
Note: Dividends issued by a DC are always income
derived from sources within the Philippines.
As to dividends issued by a FC, it is considered gross
income derived from sources within the Philippines only if at
least 50% of its gross income for at least (3) taxable years
preceding the declaration of such dividends was derived from
sources within the Philippines. Otherwise, such dividends
constitute income derived from sources outside the
Philippines.
SERVICES
Section 42 (A) (3)
Compensation for labor or personal services performed
in the Philippines is always income derived from sources
WITHIN the Philippines.
The determining factor is: THE PLACE OF
PERFORMANCE. The place of payment is irrelevant.
1999 BAR:
Situation: A DC in Manila has a branch in Hong Kong.
Management decided that one of the officers shall be sent to
Hong Kong. He was given two (2) salaries, HK and Manila.
He leased his house and lot in Manila. His family also lives in
HK. He is a Filipino citizen.
Q: Is he liable to pay income tax on the (2) salaries?
A: No, because the services were done/performed in HK.
The determining factor is the place of performance. He
(officer) qualifies as a NRC because he leaves the Philippines
for employment requiring him to be physically present abroad
most of the time during the taxable year. A NRC is taxable
only on income from sources within the Philippines.
The salaries received from being employed abroad are
income from sources without because these are compensation
for services rendered outside of the Philippines.
He is also taxable on rental income for the lease of his
Philippine residence because this is an income derived from
sources within the Philippines, the leased property being
located in the Philippines.
1990 or 1991 BAR
Situation: SMC, a DC, hired the services of a FC in
Singapore. The agreement is that the FC in Singapore will be
84
paid the services provided that the FC in Singapore will
promote or advertise the product of SMC.
Q: Is it subject to the withholding tax system? If income
earner is a FC
A: No, since the performance of services was made in
Singapore, FC is not liable.
It is not subject to withholding tax because it is exempt
from income tax.
Q: The CORRS performing in PICC provided, “you pay us
here in Ireland”. They were paid there. Are they liable?
A: Yes, it is income from within because the determining
factor is the place of performance.
Q: BOAC case, Air India, American Airlines, JAL – these
cases were decided prior the new law, are they still
relevant to Section 42 (A) (3)?
A: Yes. In these cases, although they have no landing rights
in the Philippines, they have sales agent who sold tickets here.
The act of selling of tickets was done in the Philippines.
Hence it is an income derived from sources within.
Q: What made the SC apply this provision (Section 42 (A)
(3))?
A: The SC held that the act of selling tickets in the Philippines
by the sales agent if the RFC is the determining factor.
Q: A passenger boarded in Singapore but bought the
ticket in the Philippines, is the rule still applicable?
A: An income tax, yes (included in the income from sources
within) but with respect to GPB, it is not applicable because
the passenger boarded in Singapore.
Q: What are the most common events in these (4) cases?
A: All of them have no landing rights in the Philippines but it
was proven that there was an office in the Philippines for
selling of tickets. GPB will no longer apply because FIT of
2.5% is applicable only if the passenger originated in the
Philippines.
In these (4) cases, the source of an income is the
property, activity or service that produced the income. For the
source of income to be considered as coming from the
Philippines, it is sufficient that the income is derived from
activities within the Philippines – sale of tickets.
Q: Is there an instance when the FIT was not applied?
A: Yes. In the case of JAL because the event happened
before the enactment of GPB.
NIT may also be applicable to a RFC which are
common carriers if it did not originate in the Philippines but
sold tickets here in the Philippines.
RENTALS AND ROYALTIES
Section 42 (A) (4)
From property located in the Philippines or from any
interest in such property, including rentals or royalties for:
1. the use of or the right or privilege to use in the
Philippines any copyright, patent, design or model,
plan, secret formula or process, goodwill, trademark,
trade brand of other life, property or right.
Q: Can taxes be imposed on a FC advertising products in
the Philippines?
85
A: Yes. It is possible that income tax may be imposed
because of the phrase “other like property” (Section 42 (A) (4)
(a)).
A FC has a franchise holder in the Philippines, ADF,
using (5) star hotel abroad. The FC is an income earner of
loyalty and cannot avoid payment of income tax. FC is liable to
pay.
2. the use of, or the right to use in the Philippines any
industrial, commercial or scientific equipment.
3. the supply of scientific, technical, industrial or
commercial or scientific equipment.
You supply knowledge, so liable here.
Hollywood movies shown in the Philippines is
considered as income within.
Use of videotapes in the Philippines is considered as
income within.
SALE OF REAL PROPERTY
Section 42 (5)
SALE OF PERSONAL PROPERTY
Section 42 (6)
Sale of Real Property – the source of income depends
on the location of the property. If the real property is located in
the Philippines, income derived from such sale is income
derived from sources within the Philippines.
Sale or Personal Property – the determination of the
source of income is subject to the following qualifications:
1. if the personal property was produced, partly or wholly
by the taxpayer in the Philippines and sold abroad and
vice versa, the income from such sale is considered
income derived partly from sources within and partly
from sources without the Philippines.
2. if the personal property was purchased by the taxpayer
in the Philippines and sold abroad or purchased abroad
and sold in the Philippines, the income from such sale
is considered income derived entirely from sources
within the country in which it is sold.
Q: With respect to seller who merely purchases property?
A: Depends on where the property was sold.
Q: Wives of cabinet members purchased abroad RTW and
sold them here. Are they taxable?
A: Yes, they are taxable as they are sold here; considered as
income within.
COMMISSIONER vs. CA
(127 SCRA 9)
FC has a branch here in the Philippines. FC can no
longer determine whether certain itemized expenses were
incurred in HK, USA or the Philippines.
It claimed for overpayment and is asking for refund.
The BIR denied the claim.
Q: How to determine gross income of FC in the
Philippines?
A: Gross income of Philippine branch shall be determined
upon the basis of the ratio of the local branch’s gross income
to the total gross income worldwide of the multinational
corporation.
Let us assume that GI in the Philippines is 100T
Let us assume that GI abroad is IM
1/10 of 100T is 10T
86
 3. Alien individuals employed by multinational companies,
ALLOWABLE DEDUCTIONS OBU and petroleum service contractors – as a general
Section 34 rule, but except from their “income from other sources”
– so they may be liable to pay by way of NIT,
Deductions are allowed because they are necessary to depending on the source of income.
generate income. 4. When paying the FIT, no deductions allowed
Ex. If you are a RC and all your income is passive, you
Section 34 speaks of deductions but you will not in the do not avail of those deductions because you pay by
first paragraph, it refers to many sections. way of FIT.

Q: What does this mean, Section 24 (A), Section 25 (A) A case where one is a RC but cannot claim
(1)? deductions

A: It means that these deductions are applicable only to Numbers 1-3 above are liable by way of GI.
taxpayers paying by way of Net Income Tax only.
Note: As a general rule, deductions are available only
They are the following: to taxpayers paying the NIT. Hence, deductions are allowed
not only to individuals (with the exception of compensation
1. Section 24 (A)(1)(a), (b), (c) – Individual citizen income taxpayer) but also to corporations.
(resident, non-resident and OCW including seamen) Compensation Income Taxpayer paying the NIT can
and resident alien. avail only of the deduction under:
2. Section 25 (A)(1) – Non-resident alien engaged in trade
or business in the Philippines 1. Section 34 (M). This itemized deduction pertains to
3. Section 26 – Members of GPP premium payments on health and/or hospitalization
4. Section 27 (A) – DC insurance for himself, including his family, not to
(B) – Proprietary educational institutions exceed 2,400 per family or 200 a month; provided that
and hospitals the family has a GI of not more than P250T for the
(C) – Taxable GOCCs, agencies and taxable year.
instrumentalities 2. In case of married taxpayer, only the spouse claiming
the additional exemption for dependents shall be
5. Section 28 (A)(1) – RFC entitled to this deduction.
3. Other personal exemptions available to him are the
Q: Who are the taxpayers not allowed deductions? personal exemptions enumerated under Section 35 of
this Code.
A: They are the following:

1. NRANETB – Section 25 (B) Allowable Deductions:

2. NRFC or FC not engaged – Section 28 (B)

87
 1. Business Expenses – as deductions are available to
individuals, corporations and estates and trust
a. Ordinary and necessary to the trade, business
or professional expenses
“ordinary” – normal or usual
“necessary” – useful
Note: Only business expenses incurred during the
taxable year are allowed as deduction for the particular taxable
year. So, one who is paying, using the calendar year, can
deduct those business expenses incurred from January 1 –
December 31. Expenses incurred after the close of the
taxable year cannot be allowed as deductions.
Individual Taxpayer = use only the calendar year
Corporation = may use either:
1. calendar year – covers the period from January 1 to
December 31
2. fiscal year – begins at any date except in the month of
January and ends (12) months thereafter.
A taxpayer using the calendar year may file his ITR on
or before April 15.
So, a taxpayer can file beginning:
1. January 2 to April 14 (before)
2. On April 15 itself (on)
Since the calendar year ends on December 31, a
taxpayer can file his ITR only after December 31 when the
taxable year has ended.
Q: A taxpayer using the calendar year files his ITR on
April 15, 1999. Can he deduct business expenses
incurred on February 14, 1999?
A: No, because February 14, 1999 is already outside the
taxable year (January 1 to December 31, 1998)
Q: Would your answer be the same if the taxpayer were
using the fiscal year?
A: No. The fiscal year begins on any date except on the
month of January and ends 12 months thereafter. If February
14 is still within the fiscal year, the business expenses are
deductible; otherwise, not deductible.
A. EXPENSES
(1) Itemized Deductions on Business Expenses
1. a reasonable allowance for salaries, wages and
other forms of compensation for personal
services actually rendered including the
grossed-up monetary value of fringe benefits.
Note: The grossed-up monetary value of fringe
benefits is allowed as deductions only if the FIT thereon has
been paid (Section 33)
If the FIT has not been paid as where the fringe benefit
is granted to a rank and file employee, the employer as
taxpayer cannot avail of this deduction.
“Other forms of compensation” must be pursuant to
services “actually rendered” in order to be claimed as
deductions.
Q: What about bonus? Is it deductible too?
A: On the part of the worker, bonus is an exclusion and
therefore, tax-free (Section 32(B))
But on the part of the employer, the taxability of the
bonus granted to workers depends on whether or not the
worker had “actually rendered” services therefore. If the
88
employer grants the bonus to the worker by reason of services
actually rendered by the latter, the bonus is a deduction on the
part of the employer; otherwise, it is not a deduction.
AGUINALDO vs. CIR
(112 SCRA 136)
Facts:
 Aguinaldo Industries Corporation is a DC engaged in
(2) lines of business: (1) the manufacture of fishing
nets and (2) the manufacture of furniture. It sold its
parcel of land in Muntinlupa, Rizal – the site of its
fishing net factory when it fond another parcel of land in
Marikina Heights, which was more suitable for the
needs of the company
 The BIR found out that the company deducted from its
gross income an amount of P61T as additional
remuneration paid to its officers. It was reported as
part of the selling expenses.
 The BIR disallowed it but the petitioner claims that it
should be allowed as a deduction because it was paid
to its officers as bonus pursuant to its by laws.
Issue:
Whether or not the bonus given to its officers of the company
upon the sale of its Muntinlupa land is an ordinary and
necessary business expense deductible from income tax
purposes.
Ruling:
 It cannot be allowed as a deduction.
 There is absolutely no evidence of any service actually
rendered by the company’s officers, which could be the
basis of a grant to them of a bonus out of the profit
derived from the sale.
 Hence, it cannot be deemed a reasonable and
necessary expense so as to make it deductible for tax
purposes.
2. a reasonable allowance for travel expenses,
here and abroad, while away from home, in the
pursuit of trade, business or profession
Ex. Seminar in connection with the trade or
business.
Fringe benefits given to manager can be claimed under
this section provided FIT is paid not in case of fringe benefit
given to rank and file employees.
Note: “Travel expenses” is also found under Section
33 (B)(7) as a type of fringe benefit.
Ex. You live in a faraway place. Management gives
you special travel allowance. This is not the one referred to
because it must be in the pursuit of trade or business.
Q: Is there any distinction between travel expenses under
Section 34 (A)(1)(a)(ii) and travel expenses under Section
33 (B)(7)?
A: Travel expense as a type of fringe benefit under Section 33
(B)(7) in relation to Section 34 (A)(1)(a)(ii) is the one granted
to an employee who is not rank and file on account of a foreign
trip and the final income tax which has been withheld and paid
by the employer.
In this case, the employer can claim the amount paid
as deduction.
89
 On the other hand, travel expense as deduction under
business expense refers to the amount granted to an
employee who goes on a trip here and abroad in pursuit of
trade, business or profession. Here, there is no qualification
as to the status of the employee nor the destination (here and
abroad). It is sufficient that the employee away from home in
pursuit of trade, business or profession undertakes the travel.
If these conditions are present, the employer can later
claim the travel expense granted to his employee as
deductions.
3. a reasonable allowance for rentals and/or other
payments which are required as a condition for the
continued use or possession, for the purposes of
the trade, business or profession, of property to
which the taxpayer has not taken or is not taking
title or in which he has no equity other than that of a
lessee, user or possessor.
4. a reasonable allowance for entertainment,
amusement or recreation expense during the
taxable year that is directly connected to the
operation of trade or business or profession of the
taxpayer. Provided, that the expense incurred for
the entertainment, amusement and recreation
expense during the taxable year that is directly
connected to the operation of trade or business or
profession of the taxpayer. Provided, that the
expense incurred for the entertainment,
amusement and recreation to be deductible must
not be contrary to law, morals, public policy and
public order.
Q: What are the three (3) conditions imposed in order for
the business expense to be deductible?
A: They are the following:
1. it must be ordinary and necessary
2. it must be paid or incurred within the taxable year
3. it must be paid or incurred in carrying on a trade or
business
In addition, the taxpayer must not only meet the above-
mentioned conditions, he must substantially prove by evidence
or records the deductions claimed under the law, otherwise,
the same will be disallowed. The mere allegation of the
taxpayer that an item of expense is ordinary and necessary
does not justify its deduction.
Note: Bribes, kickbacks and Other Similar Payments –
not deductible.
(2) Expenses Allowable to Private Educational
Institutions
A private educational institution can either (this is a
special rule):
1. deduct expenditures considered as capital outlays of
depreciable assets incurred during the taxable year of
the expansion of school facilities.
2. deduct allowance for depreciation thereof.
Normally, for capital outlays, the taxpayer cannot claim
that as business expense because this is expressly prohibited
under Section 36paragraph A (2) and (3). Paragraph 2,
amounts paid out for new buildings and permanent
improvements and paragraph 3, amounts paid out for
restoration of facilities.
Now, by way of exception, here is a special rule
promulgated during the time of Pres. Aquino under EO 37, this
is an incentive for private educational institutions to expand
and improve its facilities.
The rule therefore is that Section 36 (A) (2) and (3) is
the general rule and Section 34 (A)(2) is the exception.
90
 General Rule: Expenditures for capital outlays not
deductible as business expense.
Exception: Private educational institutions can claim as
business expense cost of depreciation.
B. INTEREST
Allowable deductions: rates 38% beginning January 1,
2000.
following interest:
Q: Who claims this?
A: The debtor
Q: What kind of interest is this?
A: Interest on debts – when you borrow money to finance
your business; interest in connection with the taxpayers’
profession, trade or business.
Q: What is the meaning of the phrase, “within a taxable
year”?
A: Assumes a modified meaning.
Ex. A taxpayer using the cash basis method of
accounting borrows money in which interest is paid in advance
through a discount. He obtains a loan of P1M in October 1998
subject to 20% interest, hence, after paying the advance
interest of P200T, he receives only P800T.
Q: Now, can the borrower/taxpayer claim the P200T
interest paid in advance as itemized deduction when he
files his ITR in April 1999?
A: It depends on whether or not the principal obligation had
been paid.
1. If the entire principal obligation had been paid, then the
entire amount of interest can be claimed as itemized
deduction
2. If only ½ of the obligation has been paid, only ½ of the
interest can be claimed as deduction.
3. If no payment had been paid on the principal
obligation, the advance interest paid cannot be claimed
as deduction on the year that it was paid.
No deductions shall be allowed in respect to the
1. if within the taxable year, an individual taxpayer
reporting income on the cash basis incurs an
indebtedness on which an interest is paid in advance
through a discount or otherwise, provided that such
interest shall be allowed as a deduction in the year the
indebtedness is paid and that if the indebtedness is
payable in periodic amortizations, the amount of
interest which corresponds to the amount of the
principal amortized or paid during the year shall be
allowed as deduction in such taxable year.
2. if both taxpayer and the person to whom the payment
has been made or is to be made are persons specified
under Section 36 (B) namely:
a. members of a family
b. between an individual and a corporation, more
than 50% in value of the outstanding stock of
which is owned directly or indirectly, by or for
such individual
c. between (2) corporations, more than 50% in
value of the outstanding stock of each of which
is owned, directly or indirectly, by or for the
same individual
3. if the indebtedness is incurred to finance petroleum
exploration
91
 a. between the grantor and a fiduciary of any trust
b. between the fiduciary of a trust and the fiduciary
of another trust if the same person is a grantor
with respect to each trust, or
c. between a fiduciary of a trust and a beneficiary
of such trust (RR 13-200)
RR 13-200 Requisites for Deductibility of Interest Expense
1. there just be an indebtedness
2. there should be an interest expense paid or incurred
upon such indebtedness
3. the indebtedness must be that of the taxpayer
4. the indebtedness must be connected with the
taxpayers’ trade or business or exercise of a profession
5. the interest expense must have been paid or incurred
during the taxable year
6. the interest must have been stipulated in writing
7. the interest must be legally due
8. the interest payment arrangement must not be between
related taxpayers
9. the interest must not be incurred to finance petroleum
operations; and
10. in case of interest incurred to acquire property used in
trade, business, or the exercise of a profession, the
same was not treated as capital expenditures.
Minimize taxes through:
1. tax deductions – itemized deductions
2. tax credit
Taxes paid or incurred within the taxable year in
connection with the taxpayers’ profession, trade or business,
shall be allowed as deductions except:
1. income tax
2. income taxes imposed by authority of a foreign country
(but this deduction shall be allowed in the case of a
taxpayer who does not signify in his return his intention
to avail of the benefits of tax credits for taxes paid to
foreign countries
3. estate and donors’ taxes
4. taxes assessed against local benefits of a kind tending
to increase the value of the property assessed.
Taxes that may be claimed as Tax Credit are:
1. income subject to withholding tax system where the
withholding is not final
2. income tax paid to foreign country
3. input tax under the VAT

Rules on Deductibility of Interest Expense: Taxpayers allowed to claim taxes as Deductions (under
Section 34):
1. General Rule: the amount of interest expense
paid/incurred within a taxable year on indebtedness 1. RC
in connection with the taxpayers’ trade, business, or 2. NRC
exercise of profession shall be allowed as deduction 3. OCW and Seamen
from the taxpayers’ gross income. 4. RA
2. Limitation: reduced by an amount = 38% of the 5. NRAE
bank interest subject to FIT beginning January 1, 6. Members of GPP
2000 7. DC
8. RFC
C. Taxes

92
Taxpayers allowed to claim taxes as Tax Credit: Rule: So when you say “tax deductions”, it should be
deducted from the GI and if “tax credit”, it should be deducted
1. RC from the income tax due.
2. DC
Q: What are these taxes to be claimed as itemized
Q: Paragraph C – on taxes is very unusual, why unusual? deductions of taxes?

A: Because in paragraph A on business expenses and A: Taxes incurred during the taxable year, which are
paragraph B on interest, these (2) you can only minimize or necessary to the conduct of the trade or business?
lessen your tax liability by way of deduction, whereas in
paragraph C, you could minimize your tax liability in (2) ways, Q: Could you give me a tax, which is necessary to the
tax deduction and tax credit. conduct of the trade or the business of the taxpayer and
therefore, be allowed to claim that as an itemized
Q: Under Paragraph A and B, the formula is, deduction?
Gross Income
- Deductions A: The classic example would be the business taxes incurred
-------------------- within the taxable year in the conduct of trade or business
Net Income except
X Rate (32% DC)
-------------------- Q: What is this Tax Credit System under Paragraph C?
Income Tax Due What is it? What kind of tax?

Is this formula applicable in Paragraph C on tax A: Income tax

credit?
Q: Paid where?
A: No. The formula is:
A: Paid in a foreign country.
Gross Income
- Deductions Q: Who are allowed to claim this one?
--------------------
Net Income A: The RC and DC only.
X Rate
------------------- Ex. You pay income tax, you are a RC, but because of
Income Tax Due your business in other countries, you pay income tax. This is
- Tax Credit the one referred to here as tax credit.
-------------------
Tax Due Note: Notice, however, that the case of Lednicky vs.
Commissioner, is no longer applicable considering that a RC

93
is no longer taxable on income derived from sources outside
the Philippines.
Note: Suppose the tax that had been allowed as
deduction is later refunded.
Q: What happens to the itemized deduction of taxes?
A: Deduction is not cancelled or disturbed. Refund is treated
as part of GI during the year that it is received.
D. Losses
Losses actually sustained during the taxable year and
not compensated for by insurance or other forms of indemnity
shall be allowed as deductions provided:
1. If incurred in connection with the trade, business or
profession
2. of property connected with the trade, business or
profession if the loss arises from fire, storms,
shipwreck or other casualties or from robbery, theft or
embezzlement
3. also business
Q: With respect to losses, the law mandates or obliges
the Secretary of Finance to provide what rule?
A: The time and manner by which the taxpayer shall submit a
declaration of loss sustained from casualty or from robbery,
theft, embezzlement during the taxable year.
Q: So by way of a regulation the Secretary will determine
this and the loss shall be reported at what time/period?
A: Not less than (30) days nor more than (90) days from the
date of discovery of the casualty or robbery, theft or
embezzlement giving rise to the loss.
Note: The itemized deduction of losses, however, is
not confined to Section 34(B). It is also found under Section
86 (A)(1)(e), which pertains to deductions available under the
estate tax law.
Losses within (6) months after the death of the
decedent can be claimed as itemized deduction of losses
under Section 34(B). This however may be claimed as
deduction under estate tax return provided that the same are
not claimed as itemized deduction of losses under Section 34
(B). This however may be claimed as deduction under estate
tax return provided that the same are not claimed as itemized
deduction of losses under Section 34(B).
Q: If the loss has been claimed as a deduction under the
estate tax law, what does the law say?
A: The loss cannot be claimed as a deduction under Section
34(B).
The (2) deductions cannot be claimed simultaneously.
It is either of the two.
Q: Suppose the loss is recovered, what happens to the
itemized deduction of losses allowed by the BIR?
A: The itemized deduction will not be cancelled or disturbed.
The loss recovered will be treated as part of GI during the year
that it is recovered.
The Net Operating Loss Carry Over Rule
Stats that the net operating loss of the business or
enterprise for any taxable year immediately proceeding the
current taxable year can be carried over as a deduction from
GI for the next (3) consecutive taxable years immediately
following the year of such loss.
94
Q: Can it be (5) years?
A: Yes, provided it is not…. (Ngek. Putol…)
E. BAD DEBTS
Debts due to the taxpayer actually ascertained to be
worthless and charged off within the taxable year – connected
to business, trade or profession, except:
1. those not connected with the trade, business or
profession
2. those sustained in a transaction entered into between
related taxpayers (Section 36 (B)).
Distinction Between Losses and Bad Debts
There must be a contract of indebtedness or loan;
without it, no bad debt.
Q: Suppose the bad debt is likewise recovered?
A: The itemized deduction will not be cancelled or disturbed.
The bad debt recovered will be treated as part of GI during the
year that it is recovered.
Q: Is it necessary to prove that it cannot be collected
within the taxable year?
A: Yes. The claimant is the creditor because if the amount is
recovered, it is taxable as an ordinary income.
F. DEPRECIATION
There shall be allowed as depreciation deduction a
reasonable allowance for the exhaustion, wear and tear
(including reasonable allowance or obsolescence) of property
used in the trade or business.
Note: Every real property used in business except
piece of land, can be depreciated.
In other words, depreciation does not apply to real
property classified as parcel of land.
This depreciation is also unusual because of the term
“within the taxable year”. Normally, a deduction can only be
obtained if incurred within the taxable year.
Q: Is this true with this depreciation? Can you claim this
for several?
A: Yes. You can claim this as deduction depending upon the
length of the use. This method is being employed to property
real or personal (but not to parcel of land) which are used in
the conduct of the trade or business of the taxpayer.
Q: Now, the Code speaks of how many methods of
computing reasonable allowance for depreciation. How
may are there?
A: There are only (3):
1. straight line method
2. declining balance method
3. the sum-of-the-years method
Q: How is the straight line method done?
A: In the straight line method, the cost of the asset is divided
with the estimated life span of the asset.
Formula: Cost of Asset
------------------------------------------
Estimated life span of the asset
Ex. For instance, the cost is 500T, and the life span of
that machine to be used in the trade or business is (5) years.
95

500
----- = 100
5
You are allowed to claim this deduction for (5) years
and each year, you will be allowed to claim 100T.
Q: How about the declining balance method? Using the
same example, how is that?
A: The annual depreciation is not the same for the 1st year
and the subsequent years.
Q: Which is higher, the 1st or the 2nd?
A: The first.
In the example of 500T, to be divided in (5) years using
the same, let us say the 1st year, it should be made P150T and
then P100T and so on.
Q: How about the sum of the years digit method?
Q: Is there depreciation for mining operation and oil
exploration?
A: Yes. The new law provides for that. For equipment or
machines being used in mining and oil exploration, paragraph
(F) in its last paragraph, speaks of mining and oil. So, to avoid
the notion that depreciation cannot be claimed in mining
operation, so it could be.
G. DEPLETION OF OIL AND GAS WELLS AND MINES
Q: So what is the method to be used in computing
allowance for depreciation?
A: The cost depletion method which shall be granted under
rules and regulations prescribed by the Secretary of Finance
under recommendation of the Commissioner.
Q: What happens when the allowance for depletion shall
equal the capital invested?
A: No other allowance for depletion shall be granted.
Q: Does it follow that machines used in mines can claim
depreciation?
A: Yes. Machine is subject to depreciation
H. CHARITABLE AND OTHER CONTRIBUTIONS
Q: This is one of the most favorite in the BAR. In the 1994
BAR, this was asked (4) times, and what is that?
A: Charitable and other Contributions
Q: Now, before we go any further on donation, there are
how many ways of deducting this one?
A: For individuals 10% of the Net Income, and for
corporations 5% of the Net Income.
Q: This is again a very unusual deduction. Normally,
deductions are made from the gross income. Is this true
under this provision?
A: No. Deductions here are made not from the GI but from
the taxable or net income of the taxpayer.
(3) kinds of Deductions
1. partial deduction
2. full deduction
3. (… asan ang number 3??? Ewan…)
96

Note: This provision is applicable if the donation is
made out to the following (Partial Deduction):
1. for the use of the Government of the Philippines or any
of its agencies or any of the political subdivision thereof
exclusively for public purpose.
2. to accredited DCs or associations organized and
operated exclusively for religious, charitable, scientific,
youth and sports development, cultural or educational
purposes.
3. for the rehabilitation of veterans
4. to social welfare institutions
5. to non-governmental organizations no part of the net
income of which inures to the benefit of any private
stockholder or individual
Ex. A corporation with a taxable income (NI) of P1M
donates to the Government a parcel of land worth P500T.
Said corporation can claim as itemized deduction of
contribution the amount of P50T, which is 5% of its taxable
income.
If the donor is an individual, given the same taxable
income and donee, he is entitled to claim an itemized
deduction of contribution up to the extent of P100T, which is
10% of his taxable income
Note: To make this deduction, the taxpayers’ taxable
income has to be ascertained first.
Full Deduction
The following contributions are deductible in FULL:
1. donations to the Government of the Philippines or to
any of its agencies or political subdivisions, including
fully-owned government corporations exclusively to
finance, to provide for, or to be used in undertaking
priority activities in education, health, youth, and sports
development, human settlement, science and culture
and in economic development according to a National
Priority Plan determined by the NEDA. Provided, that
any donation which is made to the Government or to
any of its agencies or political subdivisions not
according with the said annual priority plan shall be
subject to the limitations prescribed in paragraph (1) of
this subsection.
2. donations to foreign institutions or international
organizations which are fully deductible in pursuance of
or in compliance with agreements, treaties or
commitments entered into by the Government of the
Philippines.
3. donations to accredited non-governmental
organizations
Note: If the donee or transferee is not one of those
mentioned above, deduction cannot be claimed.
If the contribution is made to a priority activity
according to a National Priority Plan determined by the NEDA,
the contribution is deductible in full regardless of the amount of
taxable income of the donor; otherwise, deduction is only up to
the extent of 10% for individual and 5% if a corporation, of the
taxpayers/ donors taxable income.
Q: If donee is a city, partial or total?
A: TOTAL – donation to government in accordance with the
Priority Plan as provided for in NEDA; if for partial deduction,
use for public purpose.
Ex. You donate jewelry to your honey. Could you
claim this as deduction. Assume that you are a businessman.
A: NO, because it does not fall in any of the enumeration.
97
I. RESEACH AND DEVELOPMENT A: NRA

Research and development expenditures which are Q: How much is the rate?
paid for or incurred during the taxable year in connection with
his trade, business or profession. A: 10% of the GI

Note: Unless the taxpayer signifies in his return his g

J. PENSION TRUSTS intention to elect the OSD, he shall be considered as having
availed himself of the deductions allowed in the preceding
Q: Who will claim this one? subsections.

A: It is the employer. L. PREMIUM PAYMENTS ON HEALTH

So, in private retirement trust, the employer contributed
a certain sum of money. Such contribution shall be allowed as
deduction not for business expense because it is not ordinary
or necessary but because of this.
AND/OR HOSPITALIZATION INSURANCE OF AN
INDIVIDUAL TAXPAYER
This could be claimed by a compensation earner in
addition of those deductions under Section 35

K. ADDITIONAL REQUIREMENTS FOR It can be claimed by individuals. It is applicable to both

DEDUCTIBILITY OF CERTAIN PAYMENTS businessmen and individuals.

In lieu of the itemized deductions. Amount of premium must not exceed P2,400 per family
or P200 a month paid during the taxable year.
When availed of, it cannot be claimed simultaneously
with the other deductions under Section 34. In case of married taxpayers, only the spouse claiming
additional exemption for dependents shall be entitled to this
Q: Who may claim this one? The corporation or the deduction.
individual?

A: Available only to individual taxpayers who are citizens and ALLOWANCE OF PERSONAL EXEMPTION FOR
residents of the Philippines. Corporations are not allowed. INDIVIDUAL TAXPAYERS
Section 35
Q: Is this an addition with the other itemized deductions?
Q: Nowadays, there are how many kinds of exemptions
A: It is not, because the law says, “in lieu of the deduction provided by law?
allowed under the preceding subsections.”
A: There are (2) kinds:
Q: Who are the individuals not allowed to claim this one?
1. personal

98
 2. additional A: Below (21), with respect to claiming additional exemption.

Q: When you say personal, it refers to you as what? Q: How much shall be allowed as an additional exemption
for each dependent?
A: As:
A: P8,000 for each dependent not exceeding (4)
1. single
2. head of the family Q: Now, it says there living with the taxpayer. Suppose
3. married the minor children are studying in a faraway place, can
you claim?
Q: For additional, it refers to?
A: Yes, it can be claimed.
A: It refers to the dependents - children
Q: Now, what about his wife? How much can ach claim?
Q: What kind of dependents? Brothers, sisters, parents?
A: Each can claim P32,000. The total is P64,000 for both.
A: No,children.
If you are married, the exception that could be claimed
Q: What is the meaning of dependents? is 64 + 32 = 96.

A: It means legitimate, illegitimate or legally adopted child
chiefly dependent upon and living with the taxpayer if such
dependent is:
1. not more than (21) years of age
2. unmarried
3. not gainfully employed
4. if such dependent, regardless of age, is incapable of
self support because of mental or physical defect.
Q: So, do you claim additional exemption in behalf of say,
your minor brother or sister or parents?
A: No. You give only additional exemption in behalf of your
children who are… (putol na naman!!!)
Q: What about the Family Code, which says below (18).
Which should be followed now, below (21) or below (18)?
Note: Only one of the spouses in case of married
individuals may claim additional exemption for dependents. If
the spouses are legally separated, additional exemptions may
be claimed, only the spouses who has custody of the
child/children, provided, that the total amount of additional
exemptions that may be claimed by both spouses does not
exceed the maximum additional exemption herein allowed.
Q: Now, with respect to parents, brothers and sister,
those are only important in classifying the taxpayers as
what?
A: Head of the family – means an unmarried or legally
separated man or woman with one or both parents, or with one
or more brothers and sisters or with one or more legitimate,
recognized natural or legally adopted children living with and
dependent upon him for support.

99
Q: What about children, could they be qualified as head
of the family?
Rates:
A: Yes, they can be. 1. single individual or married individual P20,000
judicially decreed as legally separated with no
Note: Brothers and sisters must be: qualified dependents
2. head of the family P 25,000
1. below 21 3. each Married Individual P 32,000
2. unmarried
3. not gainfully employed Q: If you are judicially declared separated, can you claim
4. regardless of age are incapable of self-support deduction?
because of mental or physical defect
A: Yes, if you have qualified dependents.
RR 2-98: Senior citizens aged (60) and above can be
classified as dependents, qualify a taxpayer as head of the Q: If you are legally married, can you claim personal
family. exemptions?

Note: Under Section 35 (A), a head of the family A: Yes.

cannot claim personal exemption for illegitimate children. But
RR 2-98 corrected this in Section 35 (B) which provides that a
head of the family can claim additional exemption, even for
illegitimate children.
Q: Who are the taxpayers who can avail of personal
exemptions?
Q: What about the foreigners? For resident aliens, are
they allowed to claim that?
A: A RA can claim this exemption. AE and PE because they
are going to pay income tax the same as citizens and
residents of the Philippines.

A: They are the following: Q: With respect to NRAE, are they exempted from this?

1. RA A: Only on personal exemptions but not with additional

2. RA exemptions.
3. NRA
4. OCW including SEAMEN Q: What are the qualifications/ requirements?
5. NRAE
A: They are as follows:
Those paying by way of NIT.
1. he is only allowed to claim personal exemption
2. the amount must be equal to the exemptions allowed in
the income tax law in the country of which he is a
subject or citizen.

100
 3. not to exceed the amount allowed under Philippine
laws.
4. he must file a true and accurate return of the total
income received by him from all sources within the
Philippines
Q: With respect to NRANE, is he allowed to claim this
one?
A: No, because a NRANE is liable to pay only by way of GIT
and RIT. And when paying by way of the gross, they are not
allowed to claim exemptions and deductions.
Q: Now, how about the aliens employed in MCs, OBUs
and PSCs?
A: As a rule, they are not allowed because they pay income
tax by way of the so-called final income tax of 15% of their
wages, allowance or salaries.
Since they have paid by way of the FIT, they could not
claim this exemption.
Q: Is there an exemption to that?
A: Yes. If they are classified as RA or NRA, they could claim
exemption.
CHANGE OF STATUS
Note: Reckoning Point: January 1 – December 31
1. If the taxpayer marries or should have additional
dependents during the taxable year, he can claim the
corresponding additional exemption in full for such
year.
Ex. Let us say an individual is using the calendar
year, the taxpayer entered into a marriage contract in
the month of June in the middle of the year, let us say
June 1997. Will he be classified as married or
single?
He will be classified as married as of the close of the
taxable year.
Q: You are legally married, your husband died in the
middle of the year 2000. On April 15, 2000, how would you
classify yourself?
A: Still married, as if your husband died on December 31.
Though your husband died on July 2000, it is as if he died on
December 31, 2000
Q: The wife gave birth to an additional baby on July 2000.
There is a change of status, you delivered a baby boy in
July 2000 but you are single. What will be the reckoning
point?
A: Whichever is advantageous to the taxpayer. This is the
formula: (… asan???)
2. if the taxpayer dies during the taxable year, his estate
may still claim the personal and additional
exemptions for himself and his dependents as if he
died at the close of such year.
3. if the spouse or any of the dependent dies or if any of
such dependent marries, becomes (21) years old or
becomes gainfully employed during the taxable year,
the taxpayer may still claim the same exemptions as
if the spouse or any of the dependents died or as if
such dependents married, became (21) years old or
became gainfully employed at the close of such year.
ITEMS NOT DEDUCTIBLE
Section 36
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The following items are not deductible from the GI:
1. personal, living or family expenses
2. any amount paid out for new buildings or for permanent
improvements or betterment made to increase the
value of any property or estate.
3. any amount expended in restoring property or in
making good the exhaustion, thereof for which an
allowance is or has been made.
This is known as capital outlays (numbers 2 and 3
above). As a rule, taxpayers both individual and corporate are
not allowed to claim this one because this is prohibited by law.
You cannot say this is necessary to the business to restore the
equipment, to construct a new building because our company
is growing. No, because of the express provision of law, which
could not be claimed, except in only one instance and that is
with respect to private educational institutions only.
Q: A super typhoon destroyed a building, can you claim
that as a deduction?
A: No. However, if it is a private educational institution, you
can.
Q: Are all taxpayers allowed to deduct capital outlays?
A: No. It is only in case of a private educational institution
under Section 34 (A) (2) wherein it can claim this either as:
1. depreciation, or
2. business expense
------------------------------------------------------
4. premiums paid on any life insurance policy covering the life
of any officer or employee or for any person financially
interested in any trade or business carried on by the taxpayer,
individual or corporation, when the taxpayer is directly or
indirectly a beneficiary under such policy
Construed to cover rank and file employees.
Q: Can the payment of premium be claimed as a
deduction by the management?
A: Yes, provided the FIT has been paid and not in excess of
what the law allows.
Q: If you inure the life of your employee or your creditor,
can you claim this as a deduction?
A: It depends. If the taxpayer is directly or indirectly a
beneficiary under such policy, then it cannot be deducted,
otherwise, it can be claimed as deductions.
5. losses from sales or exchanges of property directly or
indirectly
a. between members of a family
Q: Who are those included in “family” of an individual?
A: Brothers and sisters, whether of the whole or half blood,
spouse, ancestors and lineal descendants.
b. except in the case of distribution or liquidation,
between an individual and a corporation, more
than 50% in value of the OCS of which is aimed
directly or indirectly by or for such individual
or…
Transaction is sale and exchange between a
corporation and individual and majority is owned by individual.
c. between (2) corporations, more than 50% in
value of the OCS of each of which is owned
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 directly and indirectly by or for the same
individual
d. transactions in a “trust” where losses are not
deductible:
1) between the grantor and fiduciary of
any trust
2) between a fiduciary of a trust and the
fiduciary of another trust if the same
person is a grantor with respect to
each other, or
3) between a fiduciary of a trust and a
beneficiary of such trust
Note: Take note of the parties named. If the loss
sustained by any combination of parties other than those
specified above, the same may be claimed as deduction.
SPECIAL PROVISIONS REGARDING INCOME AND
DEDUCTIONS OF INSURANCE COMPANIES, WHETHER
DOMESTIC OR FOREIGN
Section 37
LOSSES FROM WASH SALES OF STOCK OR SECURITIES
Section 38
Wash sale – has been described as a “60-day sale”
because here, (30) days before the sale, and (30) days after
the sale, he acquired identical or substantially the same stocks
or security.
Q: In case of wash sales, is the loss deductible? Why?
A: No, because normally, in a wash sale, you will make it
appear that there was a sale – it is merely speculative. Hence,
the law does not allow deductions, except…
Q: What about transaction in wash sale, is it taxable?
A: Yes. Losses incurred.
Q: Is the gain taxable?
A: Yes, it is subject to income tax.
Q: Is there any exception?
A: Yes, with respect to wash sale conducted by a dealer of
shares of stock or securities and with respect to a transaction
made in the ordinary course of the business of such dealer.
He can claim deductions.
CAPITAL GAINS AND LOSSES
Section 39
Q: How does the Code define capital asset?
A: It defines it by way of exclusion. The enumeration
constitutes ordinary asset; anything that does not fall
thereunder is capital asset.
CAPITAL ASSET – is property held by the taxpayer,
whether or not connected with the trade or business except
the following, which constitutes ordinary asset:
1. 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.
2. property held by the taxpayer primarily for sale to
customers in the ordinary course of his trade or
business.
3. property used in the trade or business of a character
which is subject to the allowance for depreciation
4. real property used in trade or business.
CAPITAL GAIN – gains realized from transaction
involving capital asset.
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 CAPITAL LOSS – loss incurred from transaction
involving capital asset
ORDINARY GAIN – gains realized from transaction
involving ordinary asset
ORDINARY LOSS – loss incurred from transaction
involving ordinary asset
Q: If you derive a capital gain, is it subject to NIT or FIT?
A: NIT, except Section 24 (C) Capital Gains from sale of
share of stock not traded and Section 24 (D)(1) Capital Gains
from sale of real property = FIT
Q: What is the importance of knowing whether an asset is
capital or not?
A: This is important with respect to the application of the:
1. holding period rule
2. loss limitation rule
3. net capital loss carry-over rule
Note: These rules apply only to individual income
taxpayers except the loss limitation rule, which applies as well
to corporate income taxpayers.
Rules on Capital Gains and Losses
1. Holding period
Q: What is “holding period”
A: It states that if capital asset is sold or exchanged by an
individual taxpayer, only the following percentage of the
gain is subject to income tax:
1. 100% if the capital asset was held by the taxpayer for
(12) months or less prior to the date of sale (short term)
2. 50% if held for more than (12) months (long term)
Q: Mr. A sells a piece of jewelry for P20,000 and realizes a
gain of P10,000. How much income tax should be paid
thereon?
A: If the jewelry is a capital asset and was held by the
taxpayer for (12) months or less prior to the sale, the entire
P10,000 is taxable.
But if it was held for more than (12) months prior to the
sale, only 50% thereof or P5,000 is taxable.
Q: What happens to the other half?
A: Exempt, not subject to income.
Note: Now, if the piece of jewelry is an ordinary asset,
the entire amount of gain is taxable, regardless of the holding
period.
Always remember that the holding period rule applies
only to:
1. transactions involving capital asset, and
2. where the taxpayer is an individual
It does not apply to transactions where the taxpayer is
a corporation and the transactions involve ordinary asset.
Therefore, in the example above, if the piece of jewelry
is:
1. an ordinary asset
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 2. even if capital asset, if the taxpayer is a corporation,
the entire amount of gains is subject to income tax,
regardless of the holding period
Note: Even if the asset is capital and the taxpayer is
an individual, the holding period does not apply to the following
transactions:
1. sale of shares of stock not traded in the stock
exchange
2. sale, exchange or other disposition of real property
located in the Philippines
Q: Does the rule on holding period apply to the sale of
real property classified as capital asset?
A: No. Where the property sold is a real property classified
as capital asset, the basis of the income tax regardless of the
holding period, is the selling price or the FMV, whichever is
higher as determined by the Commissioner.
Q: Does the rule on holding period apply to the sale of
real property classified as ordinary assets?
A: No. The rule on holding period does not apply to
transactions involving ordinary asset.
2. Loss Limitation Rule
Q: What is the “loss limitation rule”
A: It states that losses from sales or exchange of capital
assets may be deducted only from capital gains.
But losses from sales or exchange of ordinary assets
can be deducted from capital or ordinary gains.
Note: This rule applies to both individual and
corporate taxpayers.
Losses from sale and exchange of capital assets –
deducted from capital gain only
Losses from sale and exchange of ordinary asset –
deducted from capital or ordinary gain
3. Net Capital Loss Carry Over Rule
Section 34 (D) (3)
a. provided it shall be paid in the succeeding year
b. capital loss should not exceed net income in the
year that it was incurred
c. applies only to short term capital gain
Q: What is the “net capital loss carry over rule”?
A: It states that if an individual incurs a loss during a taxable
year, such loss may be treated in the succeeding taxable year
as loss from sale or exchange of capital asset held for not
more than (12) months, provided that the loss to be deducted
does not exceed the net income during the said taxable year.
This rule applies only to short term capital gain where
the taxpayer is an individual.
Ex. For the year 2000, a taxpayer realizes a net
income of P80,000 and at the same time incurs a loss of
P100,000. Under the “net capital loss carry over rule”, he is
allowed to deduct the amount of P80,000as capital loss from
his income for the year 2001.
Q: How does this rule differ from the net operating loss
carry over rule under Section 34 (D)(3)?
A: Under the net capital loss carry over rule (Section 39 (C)),
the capital loss can be carried over to the immediate
succeeding year.
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 But under the net operating carry over rule (Section 34
(D) (3)), the capital loss can be carried over to the next (3)
succeeding taxable year immediately following the year when
such loss was incurred.
Q: Under Section 39 (F), why is there a need to classify
short sales as capital?
A: This is because in short sales, the taxpayer is a dealer in
securities, hence, without this specific provision, it will be
classified as an ordinary asset.
Q: Why is it considered as capital asset?
A: It is considered as capital asset because the holder is
engaged in business.
Note: In a contract of sale of a parcel of land, there is
option money so that the seller will not sell the property.
Assume that after the lapse of (1) year, the buyer fails to buy.
On the part of the prospective buyer, it is capital loss. On the
part of the seller, it is a capital gain.
CALAZANS vs. CIR
(144 SCRA 664)
Facts:
 Petitioner Calazans inherited from her father an
agricultural land located in Cainta, Rizal.
 In order to liquidate her inheritance, Calazans had the
land surveyed and subdivided into lots, introduced
improvements such as good roads, concrete gutters,
drainage and lighting system to make the land
saleable.
 The lots were sold to the public for profit… It became
Don Mariano Subdivision.
 The BIR required her to pay the real estate dealers’ tax
and income tax on the profits derived from the sale of
the lots based on the rates for ordinary income.
Issue:
Whether or not the gains realized from the sale of the
lots are taxable in full as ordinary income on capital gains
taxable at capital gain rates.
Ruling:
 There is a conversion of the inherited lot, which is
considered as capital asset to ordinary asset.
 If the inherited real property is substantially improved or
very actively sold or both, it may be treated as held
primarily for sale to customers in the ordinary course of
the heirs’ business.
 The selling of subdivided lot, petitioner engaged in real
estate business and accordingly, the gains from the
sale of the lots are ordinary income taxable in full.
Note: Calazans alleged that inherited land is capital
asset under Section 34.
Q: In this case, what did Calazans do with the inherited
property?
A: She converted it into a subdivision. Conversion from
capital asset to ordinary asset.
Inherited land which an heir subdivides and wherein he
makes improvement s several times higher than the original
cost of the land, are not capital asset but an ordinary asset.
Inherited land, which is subdivided and sold on
installments and advertised for sale is not anymore a capital
asset.
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CHINA BANKING CORPORATION vs. CA
(336 SCRA 178)
Facts:
 Petitioner China Bank made a 53% equity investment
in the First CBC Capital, a Hong Kong subsidiary
engaged in financing and investment.
 Later, Bangko Sentral declared First CBC Capital
insolvent. And so, with the approval of the Bangko
Sentral, petitioner China Bank wrote off as being
“worthless” its investment in First CBC Capital.
 In its ITR, China Bank treated its equity investment as
bad debt or as an ordinary loss deductible from its
gross income.
 BIR disallowed the deduction on the ground that the
investment should be classified as “capital loss” and
not as bad debt expense, there being no indebtedness
to speak of between petitioner and its subsidiary.
 Assuming that the equity investment of CBC has
indeed become “worthless” the loss sustained is
capital, not ordinary.
 Hence, the capital loss sustained by CBC can only be
deducted from capital gains if any
 Shares of stock would be ordinary assets only to a
dealer in securities or a person engaged in the
purchase and sale of, or an active trader in securities.
 When securities become “worthless”,
1. there is a sale/ exchange
2. the thing sold/ exchanged is a capital asset
When securities become “worthless”, there is NO sale/
exchange but the law deems the loss as from sale/
exchange of capital asset.

Issue:
Whether or not the equity investment is considered bad
debts or capital loss.

Ruling:
 First CBC Capital, as the investee capital, is a
subsidiary corporation of petitioner bank whose shares
in said investee corporation are not intended for
purchase or sale but as an investment.
 Unquestionably then, any loss thereform would be
capital loss, not an ordinary loss to the investor.
 An equity investment is a capital, not ordinary asset of
the investor, the sale or exchange of which results in
either a capital gain or a capital loss.
 Equity investment in shares of stock of China Bank
does not constitute a loan or bad debt but a long term
investment, a capital asset, not ordinary.

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