1

I. Introduction computing taxable income for the taxable period in which falls the date of his death,
A. Income Tax Systems amounts accrued up to the date of his death if not otherwise properly includible in
1. Global Tax System respect of such period or a prior period.
2. Schedular Tax System SEC. 46. Change of Accounting Period. - If a taxpayer, other than an individual,
3. Semi-schedular or semi-global Tax System changes his accounting period from fiscal year to calendar year, from calendar year
B. Features of the PH Income Tax Law to fiscal year, or from one fiscal year to another, the net income shall, with the
1. Direct Tax approval of the Commissioner, be computed on the basis of such new accounting
2. Progressive Tax period, subject to the provisions of Section 47.
3. Comprehensive SEC. 47. Final or Adjustment Returns for a Period of Less than Twelve (12)
4. Semi-schedular or semi-global Tax System Months. -
C. Criteria in imposing PH Income Tax (A) Returns for Short Period Resulting from Change of Accounting Period. - If a
1. Citizenship principle taxpayer, other than an individual, with the approval of the Commissioner, changes
2. Residence principle the basis of computing net income from fiscal year to calendar year, a separate final
3. Source principle or adjustment return shall be made for the period between the close of the last fiscal
D. Types of PH Income Tax year for which return was made and the following December 31. If the change is
E. Taxable Period from calendar year to fiscal year, a separate final or adjustment return shall be made
1. Calendar Year (22P, NIRC) for the period between the close of the last calendar year for which return was made
2. Fiscal Year (22Q, 43, 44, 46, NIRC) and the date designated as the close of the fiscal year. If the change is from one
3. Short Period (Sec. 47, NIRC) fiscal year to another fiscal year, a separate final or adjustment return shall be made
for the period between the close of the former fiscal year and the date designated as
NIRC the close of the new fiscal year.
(B) Income Computed on Basis of Short Period. - Where a separate final or
TITLE II adjustment return is made under Subsection (A) on account of a change in the
TAX ON INCOME accounting period, and in all other cases where a separate final or adjustment return
(As Last Amended by RA No. 10653) [5] is required or permitted by rules and regulations prescribed by the Secretary of
CHAPTER I- DEFINITIONS Finance, upon recommendation of the Commissioner, to be made for a fractional
SEC. 22. Definitions. - When used in this Title: part of a year, then the income shall be computed on the basis of the period for
(P) The term 'taxable year' means the calendar year, or the fiscal year ending during which separate final or adjustment return is made.
such calendar year, upon the basis of which the net income is computed under this
Title. 'Taxable year' includes, in the case of a return made for a fractional part of a II. Concept of Income
year under the provisions of this Title or under rules and regulations prescribed by A. Income Tax Defined
the Secretary of Finance, upon recommendation of the commissioner, the period for
which such return is made. 1. Madrigal v Rafferty
(Q) The term 'fiscal year' means an accounting period of twelve (12) months ending 2. Fisher v Trinidad
on the last day of any month other than December.
CHAPTER VIII EN BANC
ACCOUNTING PERIODS AND METHODS OF ACCOUNTING G.R. No. L-12287 August 7, 1918
SEC. 43. General Rule. - The taxable income shall be computed upon the basis of VICENTE MADRIGAL and his wife, SUSANA PATERNO, plaintiffs-appellants,
the taxpayer's annual accounting period (fiscal year or calendar year, as the case vs.
may be) in accordance with the method of accounting regularly employed in keeping JAMES J. RAFFERTY, Collector of Internal Revenue, and VENANCIO
the books of such taxpayer, but if no such method of accounting has been so CONCEPCION, Deputy Collector of Internal Revenue, defendants-appellees.
employed, or if the method employed does not clearly reflect the income, the Gregorio Araneta for appellants.
computation shall be made in accordance with such method as in the opinion of the Assistant Attorney Round for appellees.
Commissioner clearly reflects the income. If the taxpayer's annual accounting period MALCOLM, J.:
is other than a fiscal year, as defined in Section 22(Q), or if the taxpayer has no This appeal calls for consideration of the Income Tax Law, a law of American origin,
annual accounting period, or does not keep books, or if the taxpayer is an individual, with reference to the Civil Code, a law of Spanish origin.
the taxable income shall be computed on the basis of the calendar year. STATEMENT OF THE CASE.
SEC. 44. Period in which Items of Gross Income Included.- The amount of all Vicente Madrigal and Susana Paterno were legally married prior to January 1, 1914.
items of gross income shall be included in the gross income for the taxable year in The marriage was contracted under the provisions of law concerning conjugal
which received by the taxpayer, unless, under methods of accounting permitted partnerships (sociedad de gananciales). On February 25, 1915, Vicente Madrigal filed
under Section 43, any such amounts are to be properly accounted for as of a sworn declaration on the prescribed form with the Collector of Internal Revenue,
different period. In the case of the death of a taxpayer, there shall be included in showing, as his total net income for the year 1914, the sum of P296,302.73.

Subsequently Madrigal submitted the claim that the said P296,302.73 did not represent
his income for the year 1914, but was in fact the income of the conjugal partnership
existing between himself and his wife Susana Paterno, and that in computing and
assessing the additional income tax provided by the Act of Congress of October 3,
1913, the income declared by Vicente Madrigal should be divided into two equal parts,
one-half to be considered the income of Vicente Madrigal and the other half of Susana
Paterno. The general question had in the meantime been submitted to the Attorney-
General of the Philippine Islands who in an opinion dated March 17, 1915, held with the
petitioner Madrigal. The revenue officers being still unsatisfied, the correspondence
together with this opinion was forwarded to Washington for a decision by the United
States Treasury Department. The United States Commissioner of Internal Revenue
reversed the opinion of the Attorney-General, and thus decided against the claim of
Madrigal.
After payment under protest, and after the protest of Madrigal had been decided
adversely by the Collector of Internal Revenue, action was begun by Vicente Madrigal
and his wife Susana Paterno in the Court of First Instance of the city of Manila against
Collector of Internal Revenue and the Deputy Collector of Internal Revenue for the
recovery of the sum of P3,786.08, alleged to have been wrongfully and illegally
collected by the defendants from the plaintiff, Vicente Madrigal, under the provisions of
the Act of Congress known as the Income Tax Law. The burden of the complaint was
that if the income tax for the year 1914 had been correctly and lawfully computed there
would have been due payable by each of the plaintiffs the sum of P2,921.09, which
taken together amounts of a total of P5,842.18 instead of P9,668.21, erroneously and
unlawfully collected from the plaintiff Vicente Madrigal, with the result that plaintiff
Madrigal has paid as income tax for the year 1914, P3,786.08, in excess of the sum
lawfully due and payable.
The answer of the defendants, together with an analysis of the tax declaration, the
pleadings, and the stipulation, sets forth the basis of defendants' stand in the following
way: The income of Vicente Madrigal and his wife Susana Paterno of the year 1914
was made up of three items: (1) P362,407.67, the profits made by Vicente Madrigal in
his coal and shipping business; (2) P4,086.50, the profits made by Susana Paterno in
her embroidery business; (3) P16,687.80, the profits made by Vicente Madrigal in a
pawnshop company. The sum of these three items is P383,181.97, the gross income of
Vicente Madrigal and Susana Paterno for the year 1914. General deductions were
claimed and allowed in the sum of P86,879.24. The resulting net income was
P296,302.73. For the purpose of assessing the normal tax of one per cent on the net
income there were allowed as specific deductions the following: (1) P16,687.80, the tax
upon which was to be paid at source, and (2) P8,000, the specific exemption granted to
Vicente Madrigal and Susana Paterno, husband and wife. The remainder, P271,614.93
was the sum upon which the normal tax of one per cent was assessed. The normal tax
thus arrived at was P2,716.15.
The dispute between the plaintiffs and the defendants concerned the additional tax
provided for in the Income Tax Law. The trial court in an exhausted decision found in
favor of defendants, without costs.
ISSUES.
The contentions of plaintiffs and appellants having to do solely with the additional
income tax, is that is should be divided into two equal parts, because of the conjugal
partnership existing between them. The learned argument of counsel is mostly based
upon the provisions of the Civil Code establishing the sociedad de gananciales. The
counter contentions of appellees are that the taxes imposed by the Income Tax Law are
as the name implies taxes upon income tax and not upon capital and property; that the
fact that Madrigal was a married man, and his marriage contracted under the provisions
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governing the conjugal partnership, has no bearing on income considered as income,
and that the distinction must be drawn between the ordinary form of commercial
partnership and the conjugal partnership of spouses resulting from the relation of
marriage.
DECISION.
From the point of view of test of faculty in taxation, no less than five answers have been
given the course of history. The final stage has been the selection of income as the
norm of taxation. (See Seligman, "The Income Tax," Introduction.) The Income Tax Law
of the United States, extended to the Philippine Islands, is the result of an effect on the
part of the legislators to put into statutory form this canon of taxation and of social
reform. The aim has been to mitigate the evils arising from inequalities of wealth by a
progressive scheme of taxation, which places the burden on those best able to pay. To
carry out this idea, public considerations have demanded an exemption roughly
equivalent to the minimum of subsistence. With these exceptions, the income tax is
supposed to reach the earnings of the entire non-governmental property of the country.
Such is the background of the Income Tax Law.
Income as contrasted with capital or property is to be the test. The essential
difference between capital and income is that capital is a fund; income is a flow.
A fund of property existing at an instant of time is called capital. A flow of
services rendered by that capital by the payment of money from it or any other
benefit rendered by a fund of capital in relation to such fund through a period of
time is called an income. Capital is wealth, while income is the service of wealth.
(See Fisher, "The Nature of Capital and Income.") The Supreme Court of Georgia
expresses the thought in the following figurative language: "The fact is that
property is a tree, income is the fruit; labor is a tree, income the fruit; capital is a
tree, income the fruit." (Waring vs. City of Savannah [1878], 60 Ga., 93.) A tax on
income is not a tax on property. "Income," as here used, can be defined as
"profits or gains." (London County Council vs. Attorney-General [1901], A. C., 26; 70
L. J. K. B. N. S., 77; 83 L. T. N. S., 605; 49 Week. Rep., 686; 4 Tax Cas., 265. See
further Foster's Income Tax, second edition [1915], Chapter IV; Black on Income Taxes,
second edition [1915], Chapter VIII; Gibbons vs. Mahon [1890], 136 U.S., 549; and
Towne vs. Eisner, decided by the United States Supreme Court, January 7, 1918.)
A regulation of the United States Treasury Department relative to returns by the
husband and wife not living apart, contains the following:
The husband, as the head and legal representative of the household and general
custodian of its income, should make and render the return of the aggregate income of
himself and wife, and for the purpose of levying the income tax it is assumed that he
can ascertain the total amount of said income. If a wife has a separate estate managed
by herself as her own separate property, and receives an income of more than $3,000,
she may make return of her own income, and if the husband has other net income,
making the aggregate of both incomes more than $4,000, the wife's return should be
attached to the return of her husband, or his income should be included in her return, in
order that a deduction of $4,000 may be made from the aggregate of both incomes. The
tax in such case, however, will be imposed only upon so much of the aggregate income
of both shall exceed $4,000. If either husband or wife separately has an income equal
to or in excess of $3,000, a return of annual net income is required under the law, and
such return must include the income of both, and in such case the return must be made
even though the combined income of both be less than $4,000. If the aggregate net
income of both exceeds $4,000, an annual return of their combined incomes must be
made in the manner stated, although neither one separately has an income of $3,000
per annum. They are jointly and separately liable for such return and for the payment of
the tax. The single or married status of the person claiming the specific exemption shall

be determined as one of the time of claiming such exemption which return is made,
otherwise the status at the close of the year."
With these general observations relative to the Income Tax Law in force in the
Philippine Islands, we turn for a moment to consider the provisions of the Civil Code
dealing with the conjugal partnership. Recently in two elaborate decisions in which a
long line of Spanish authorities were cited, this court in speaking of the conjugal
partnership, decided that "prior to the liquidation the interest of the wife and in case of
her death, of her heirs, is an interest inchoate, a mere expectancy, which constitutes
neither a legal nor an equitable estate, and does not ripen into title until there appears
that there are assets in the community as a result of the liquidation and settlement."
(Nable Jose vs. Nable Jose [1916], 15 Off. Gaz., 871; Manuel and
Laxamana vs. Losano [1918], 16 Off. Gaz., 1265.)
Susana Paterno, wife of Vicente Madrigal, has an inchoate right in the property of her
husband Vicente Madrigal during the life of the conjugal partnership. She has an
interest in the ultimate property rights and in the ultimate ownership of property
acquired as income after such income has become capital. Susana Paterno has no
absolute right to one-half the income of the conjugal partnership. Not being seized of a
separate estate, Susana Paterno cannot make a separate return in order to receive the
benefit of the exemption which would arise by reason of the additional tax. As she has
no estate and income, actually and legally vested in her and entirely distinct from her
husband's property, the income cannot properly be considered the separate income of
the wife for the purposes of the additional tax. Moreover, the Income Tax Law does not
look on the spouses as individual partners in an ordinary partnership. The husband and
wife are only entitled to the exemption of P8,000 specifically granted by the law. The
higher schedules of the additional tax directed at the incomes of the wealthy may not be
partially defeated by reliance on provisions in our Civil Code dealing with the conjugal
partnership and having no application to the Income Tax Law. The aims and purposes
of the Income Tax Law must be given effect.
The point we are discussing has heretofore been considered by the Attorney-General of
the Philippine Islands and the United States Treasury Department. The decision of the
latter overruling the opinion of the Attorney-General is as follows:
TREASURY
DEPARTMENT, Washington.
Income Tax.
FRANK MCINTYRE,
Chief, Bureau of Insular Affairs, War Department,
Washington, D. C.
SIR: This office is in receipt of your letter of June 22, 1915, transmitting copy
of correspondence "from the Philippine authorities relative to the method of
submission of income tax returns by marred person."
You advise that "The Governor-General, in forwarding the papers to the
Bureau, advises that the Insular Auditor has been authorized to suspend
action on the warrants in question until an authoritative decision on the points
raised can be secured from the Treasury Department."
From the correspondence it appears that Gregorio Araneta, married and living
with his wife, had an income of an amount sufficient to require the imposition
of the net income was properly computed and then both income and
deductions and the specific exemption were divided in half and two returns
made, one return for each half in the names respectively of the husband and
wife, so that under the returns as filed there would be an escape from the
additional tax; that Araneta claims the returns are correct on the ground under
the Philippine law his wife is entitled to half of his earnings; that Araneta has
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dominion over the income and under the Philippine law, the right to determine
its use and disposition; that in this case the wife has no "separate estate"
within the contemplation of the Act of October 3, 1913, levying an income tax.
It appears further from the correspondence that upon the foregoing
explanation, tax was assessed against the entire net income against Gregorio
Araneta; that the tax was paid and an application for refund made, and that the
application for refund was rejected, whereupon the matter was submitted to
the Attorney-General of the Islands who holds that the returns were correctly
rendered, and that the refund should be allowed; and thereupon the question
at issue is submitted through the Governor-General of the Islands and Bureau
of Insular Affairs for the advisory opinion of this office.
By paragraph M of the statute, its provisions are extended to the Philippine
Islands, to be administered as in the United States but by the appropriate
internal-revenue officers of the Philippine Government. You are therefore
advised that upon the facts as stated, this office holds that for the Federal
Income Tax (Act of October 3, 1913), the entire net income in this case was
taxable to Gregorio Araneta, both for the normal and additional tax, and that
the application for refund was properly rejected.
The separate estate of a married woman within the contemplation of the
Income Tax Law is that which belongs to her solely and separate and apart
from her husband, and over which her husband has no right in equity. It may
consist of lands or chattels.
The statute and the regulations promulgated in accordance therewith provide
that each person of lawful age (not excused from so doing) having a net
income of $3,000 or over for the taxable year shall make a return showing the
facts; that from the net income so shown there shall be deducted $3,000
where the person making the return is a single person, or married and not
living with consort, and $1,000 additional where the person making the return
is married and living with consort; but that where the husband and wife both
make returns (they living together), the amount of deduction from the
aggregate of their several incomes shall not exceed $4,000.
The only occasion for a wife making a return is where she has income from a
sole and separate estate in excess of $3,000, but together they have an
income in excess of $4,000, in which the latter event either the husband or
wife may make the return but not both. In all instances the income of husband
and wife whether from separate estates or not, is taken as a whole for the
purpose of the normal tax. Where the wife has income from a separate estate
makes return made by her husband, while the incomes are added together for
the purpose of the normal tax they are taken separately for the purpose of the
additional tax. In this case, however, the wife has no separate income within
the contemplation of the Income Tax Law.
Respectfully,
DAVID A. GATES.
Acting Commissioner.
In connection with the decision above quoted, it is well to recall a few basic ideas. The
Income Tax Law was drafted by the Congress of the United States and has been by the
Congress extended to the Philippine Islands. Being thus a law of American origin and
being peculiarly intricate in its provisions, the authoritative decision of the official who is
charged with enforcing it has peculiar force for the Philippines. It has come to be a well-
settled rule that great weight should be given to the construction placed upon a revenue
law, whose meaning is doubtful, by the department charged with its execution.
(U.S. vs. Cerecedo Hermanos y Cia. [1907], 209 U.S., 338; In re Allen [1903], 2 Phil.,

630; Government of the Philippine Islands vs. Municipality of Binalonan, and Roman
Catholic Bishop of Nueva Segovia [1915], 32 Phil., 634.) We conclude that the
judgment should be as it is hereby affirmed with costs against appellants. So ordered.
Torres, Johnson, Carson, Street and Fisher, JJ., concur.
EN BANC
G.R. No. L-17518 October 30, 1922
FREDERICK C. FISHER, plaintiff-appellant,
vs.
WENCESLAO TRINIDAD, Collector of Internal Revenue, defendant-appellee.
Fisher and De Witt and Antonio M. Opisso for appellants.
Acting Attorney-General Tuason for appellee.
JOHNSON, J.:
The only question presented by this appeal is: Are the "stock dividends" in the present
case "income" and taxable as such under the provisions of section 25 of Act No. 2833?
While the appellant presents other important questions, under the view which we have
taken of the facts and the law applicable to the present case, we deem it unnecessary
to discuss them now.
The defendant demurred to the petition in the lower court. The facts are therefore
admitted. They are simple and may be stated as follows:
That during the year 1919 the Philippine American Drug Company was a corporation
duly organized and existing under the laws of the Philippine Islands, doing business in
the City of Manila; that he appellant was a stockholder in said corporation; that said
corporation, as result of the business for that year, declared a "stock dividend"; that the
proportionate share of said stock divided of the appellant was P24,800; that the stock
dividend for that amount was issued to the appellant; that thereafter, in the month of
March, 1920, the appellant, upon demand of the appellee, paid under protest, and
voluntarily, unto the appellee the sum of P889.91 as income tax on said stock dividend.
For the recovery of that sum (P889.91) the present action was instituted. The defendant
demurred to the petition upon the ground that it did not state facts sufficient to constitute
cause of action. The demurrer was sustained and the plaintiff appealed.
To sustain his appeal the appellant cites and relies on some decisions of the Supreme
Court of the United States as will as the decisions of the supreme court of some of the
states of the Union, in which the questions before us, based upon similar statutes, was
discussed. Among the most important decisions may be mentioned the following:
Towne vs. Eisner, 245 U.S., 418; Doyle vs. Mitchell Bors. Co., 247 U.S., 179; Eisner vs.
Macomber, 252 U.S., 189; Dekoven vs Alsop, 205 Ill., 309; 63 L.R.A., 587; Kaufman vs.
Charlottesville Woolen Mills, 93 Va., 673.
In each of said cases an effort was made to collect an "income tax" upon "stock
dividends" and in each case it was held that "stock dividends" were capital and not an
"income" and therefore not subject to the "income tax" law.
The appellee admits the doctrine established in the case of Eisner vs. Macomber (252
U.S., 189) that a "stock dividend" is not "income" but argues that said Act No. 2833, in
imposing the tax on the stock dividend, does not violate the provisions of the Jones
Law. The appellee further argues that the statute of the United States providing for tax
upon stock dividends is different from the statute of the Philippine Islands, and therefore
the decision of the Supreme Court of the United States should not be followed in
interpreting the statute in force here.
For the purpose of ascertaining the difference in the said statutes ( (United States and
Philippine Islands), providing for an income tax in the United States as well as that in
the Philippine Islands, the two statutes are here quoted for the purpose of determining
the difference, if any, in the language of the two statutes.
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Chapter 463 of an Act of Congress of September 8, 1916, in its title 1 provides for the
collection of an "income tax." Section 2 of said Act attempts to define what is an
income. The definition follows:
That the term "dividends" as used in this title shall be held to mean any
distribution made or ordered to made by a corporation, . . . which stock
dividend shall be considered income, to the amount of its cash value.
Act No. 2833 of the Philippine Legislature is an Act establishing "an income tax."
Section 25 of said Act attempts to define the application of the income tax. The
definition follows:
The term "dividends" as used in this Law shall be held to mean any distribution
made or ordered to be made by a corporation, . . . out of its earnings or profits
accrued since March first, nineteen hundred and thirteen, and payable to its
shareholders, whether in cash or in stock of the corporation, . . . . Stock
dividend shall be considered income, to the amount of the earnings or profits
distributed.
It will be noted from a reading of the provisions of the two laws above quoted that the
writer of the law of the Philippine Islands must have had before him the statute of the
United States. No important argument can be based upon the slight different in the
wording of the two sections.
It is further argued by the appellee that there are no constitutional limitations upon the
power of the Philippine Legislature such as exist in the United States, and in support of
that contention, he cites a number of decisions. There is no question that the Philippine
Legislature may provide for the payment of an income tax, but it cannot, under the
guise of an income tax, collect a tax on property which is not an "income." The
Philippine Legislature can not impose a tax upon "property" under a law which provides
for a tax upon "income" only. The Philippine Legislature has no power to provide a tax
upon "automobiles" only, and under that law collect a tax upon a carretonor bull cart.
Constitutional limitations, that is to say, a statute expressly adopted for one purpose
cannot, without amendment, be applied to another purpose which is entirely distinct and
different. A statute providing for an income tax cannot be construed to cover property
which is not, in fact income. The Legislature cannot, by a statutory declaration, change
the real nature of a tax which it imposes. A law which imposes an important tax on rice
only cannot be construed to an impose an importation tax on corn.
It is true that the statute in question provides for an income tax and contains a further
provision that "stock dividends" shall be considered income and are therefore subject to
income tax provided for in said law. If "stock dividends" are not "income" then the law
permits a tax upon something not within the purpose and intent of the law.
It becomes necessary in this connection to ascertain what is an "income in order that
we may be able to determine whether "stock dividends" are "income" in the sense that
the word is used in the statute. Perhaps it would be more logical to determine first what
are "stock dividends" in order that we may more clearly understand their relation to
"income." Generally speaking, stock dividends represent undistributed increase in the
capital of corporations or firms, joint stock companies, etc., etc., for a particular period.
They are used to show the increased interest or proportional shares in the capital of
each stockholder. In other words, the inventory of the property of the corporation, etc.,
for particular period shows an increase in its capital, so that the stock theretofore issued
does not show the real value of the stockholder's interest, and additional stock is issued
showing the increase in the actual capital, or property, or assets of the corporation, etc.
To illustrate: A and B form a corporation with an authorized capital of P10,000 for the
purpose of opening and conducting a drug store, with assets of the value of P2,000,
and each contributes P1,000. Their entire assets are invested in drugs and put upon the
shelves in their place of business. They commence business without a cent in the

treasury. Every dollar contributed is invested. Shares of stock to the amount of P1,000
are issued to each of the incorporators, which represent the actual investment and
entire assets of the corporation. Business for the first year is good. Merchandise is sold,
and purchased, to meet the demands of the growing trade. At the end of the first year
an inventory of the assets of the corporation is made, and it is then ascertained that the
assets or capital of the corporation on hand amount to P4,000, with no debts, and still
not a cent in the treasury. All of the receipts during the year have been reinvested in the
business. Neither of the stockholders have withdrawn a penny from the business during
the year. Every peso received for the sale of merchandise was immediately used in the
purchase of new stock — new supplies. At the close of the year there is not a centavo
in the treasury, with which either A or B could buy a cup of coffee or a pair of shoes for
his family. At the beginning of the year they were P2,000, and at the end of the year
they were P4,000, and neither of the stockholders have received a centavo from the
business during the year. At the close of the year, when it is discovered that the assets
are P4,000 and not P2,000, instead of selling the extra merchandise on hand and
thereby reducing the business to its original capital, they agree among themselves to
increase the capital they agree among themselves to increase the capital issued and for
that purpose issue additional stock in the form of "stock dividends" or additional stock of
P1,000 each, which represents the actual increase of the shares of interest in the
business. At the beginning of the year each stockholder held one-half interest in the
capital. At the close of the year, and after the issue of the said stock dividends, they
each still have one-half interest in the business. The capital of the corporation increased
during the year, but has either of them received an income? It is not denied, for the
purpose of ordinary taxation, that the taxable property of the corporation at the
beginning of the year was P2,000, that at the close of the year it was P4,000, and that
the tax rolls should be changed in accordance with the changed conditions in the
business. In other words, the ordinary tax should be increased by P2,000.
Another illustration: C and D organized a corporation for agricultural purposes with an
authorized capital stock of P20,000 each contributing P5,000. With that capital they
purchased a farm and, with it, one hundred head of cattle. Every peso contributed is
invested. There is no money in the treasury. Much time and labor was expanded during
the year by the stockholders on the farm in the way of improvements. Neither received
a centavo during the year from the farm or the cattle. At the beginning of the year the
assets of the corporation, including the farm and the cattle, were P10,000, and at the
close of the year and inventory of the property of the corporation is made and it is then
found that they have the same farm with its improvements and two hundred head of
cattle by natural increase. At the end of the year it is also discovered that, by reason of
business changes, the farm and the cattle both have increased in value, and that the
value of the corporate property is now P20,000 instead of P10,000 as it was at the
beginning of the year. The incorporators instead of reducing the property to its original
capital, by selling off a part of its, issue to themselves "stock dividends" to represent the
proportional value or interest of each of the stockholders in the increased capital at the
close of the year. There is still not a centavo in the treasury and neither has withdrawn
a peso from the business during the year. No part of the farm or cattle has been sold
and not a single peso was received out of the rents or profits of the capital of the
corporation by the stockholders.
Another illustration: A, an individual farmer, buys a farm with one hundred head of cattle
for the sum of P10,000. At the end of the first year, by reason of business conditions
and the increase of the value of both real estate and personal property, it is discovered
that the value of the farm and the cattle is P20,000. A, during the year, has received
nothing from the farm or the cattle. His books at the beginning of the year show that he
had property of the value of P10,000. His books at the close of the year show that he
5
has property of the value of P20,000. A is not a corporation. The assets of his business
are not shown therefore by certificates of stock. His books, however, show that the
value of his property has increased during the year by P10,000, under any theory of
business or law, be regarded as an "income" upon which the farmer can be required to
pay an income tax? Is there any difference in law in the condition of A in this illustration
and the condition of A and B in the immediately preceding illustration? Can the increase
of the value of the property in either case be regarded as an "income" and be subjected
to the payment of the income tax under the law?
Each of the foregoing illustrations, it is asserted, is analogous to the case before us
and, in view of that fact, let us ascertain how lexicographers and the courts have
defined an "income." The New Standard Dictionary, edition of 1915, defines an income
as "the amount of money coming to a person or corporation within a specified time
whether as payment or corporation within a specified time whether as payment for
services, interest, or profit from investment." Webster's International Dictionary defines
an income as "the receipt, salary; especially, the annual receipts of a private person or
a corporation from property." Bouvier, in his law dictionary, says that an "income" in the
federal constitution and income tax act, is used in its common or ordinary meaning and
not in its technical, or economic sense. (146 Northwestern Reporter, 812) Mr. Black, in
his law dictionary, says "An income is the return in money from one's business, labor, or
capital invested; gains, profit or private revenue." "An income tax is a tax on the yearly
profits arising from property , professions, trades, and offices."
The Supreme Court of the United States, in the case o Gray vs. Darlington (82 U.S.,
653), said in speaking of income that mere advance in value in no sense constitutes the
"income" specified in the revenue law as "income" of the owner for the year in which the
sale of the property was made. Such advance constitutes and can be treated merely as
an increase of capital. (In re Graham's Estate, 198 Pa., 216; Appeal of Braun, 105 Pa.,
414.)
Mr. Justice Hughes, later Associate Justice of the Supreme Court of the United States
and now Secretary of State of the United States, in his argument before the Supreme
Court of the United States in the case of Towne vs. Eisner, supra, defined an "income"
in an income tax law, unless it is otherwise specified, to mean cash or its equivalent. It
does not mean choses in action or unrealized increments in the value of the property,
and cites in support of the definition, the definition given by the Supreme Court in the
case of Gray vs. Darlington, supra.
In the case of Towne vs. Eisner, supra, Mr. Justice Holmes, speaking for the court,
said: "Notwithstanding the thoughtful discussion that the case received below, we
cannot doubt that the dividend was capital as well for the purposes of the Income Tax
Law. . . . 'A stock dividend really takes nothing from the property of the corporation, and
adds nothing to the interests of the shareholders. Its property is not diminished and their
interest are not increased. . . . The proportional interest of each shareholder remains
the same. . . .' In short, the corporation is no poorer and the stockholder is no richer
then they were before." (Gibbons vs. Mahon, 136 U.S., 549, 559, 560; Logan County
vs. U.S., 169 U.S., 255, 261).
In the case of Doyle vs. Mitchell Bros. Co. (247 U.S., 179, Mr. Justice Pitney, speaking
for the court, said that the act employs the term "income" in its natural and obvious
sense, as importing something distinct from principal or capital and conveying the idea
of gain or increase arising from corporate activity.
Mr. Justice Pitney, in the case of Eisner vs. Macomber (252 U.S., 189), again speaking
for the court said: "An income may be defined as the gain derived from capital, from
labor, or from both combined, provided it be understood to include profit gained through
a sale or conversion of capital assets."

For bookkeeping purposes, when stock dividends are declared, the corporation or
company acknowledges a liability, in form, to the stockholders, equivalent to the
aggregate par value of their stock, evidenced by a "capital stock account." If profits
have been made by the corporation during a particular period and not divided, they
create additional bookkeeping liabilities under the head of "profit and loss," "undivided
profits," "surplus account," etc., or the like. None of these, however, gives to the
stockholders as a body, much less to any one of them, either a claim against the going
concern or corporation, for any particular sum of money, or a right to any particular
portion of the asset, or any shares sells or until the directors conclude that dividends
shall be made a part of the company's assets segregated from the common fund for
that purpose. The dividend normally is payable in money and when so paid, then
only does the stockholder realize a profit or gain, which becomes his separate
property, and thus derive an income from the capital that he has invested. Until that, is
done the increased assets belong to the corporation and not to the individual
stockholders.
When a corporation or company issues "stock dividends" it shows that the company's
accumulated profits have been capitalized, instead of distributed to the stockholders or
retained as surplus available for distribution, in money or in kind, should opportunity
offer. Far from being a realization of profits of the stockholder, it tends rather to
postpone said realization, in that the fund represented by the new stock has been
transferred from surplus to assets, and no longer is available for actual distribution. The
essential and controlling fact is that the stockholder has received nothing out of the
company's assets for his separate use and benefit; on the contrary, every dollar of his
original investment, together with whatever accretions and accumulations resulting from
employment of his money and that of the other stockholders in the business of the
company, still remains the property of the company, and subject to business risks which
may result in wiping out of the entire investment. Having regard to the very truth of the
matter, to substance and not to form, the stockholder by virtue of the stock dividend has
in fact received nothing that answers the definition of an "income." (Eisner vs.
Macomber, 252 U.S., 189, 209, 211.)
The stockholder who receives a stock dividend has received nothing but a
representation of his increased interest in the capital of the corporation. There has been
no separation or segregation of his interest. All the property or capital of the corporation
still belongs to the corporation. There has been no separation of the interest of the
stockholder from the general capital of the corporation. The stockholder, by virtue of the
stock dividend, has no separate or individual control over the interest represented
thereby, further than he had before the stock dividend was issued. He cannot use it for
the reason that it is still the property of the corporation and not the property of the
individual holder of stock dividend. A certificate of stock represented by the stock
dividend is simply a statement of his proportional interest or participation in the capital
of the corporation. For bookkeeping purposes, a corporation, by issuing stock dividend,
acknowledges a liability in form to the stockholders, evidenced by a capital stock
account. The receipt of a stock dividend in no way increases the money received of a
stockholder nor his cash account at the close of the year. It simply shows that there has
been an increase in the amount of the capital of the corporation during the particular
period, which may be due to an increased business or to a natural increase of the value
of the capital due to business, economic, or other reasons. We believe that the
Legislature, when it provided for an "income tax," intended to tax only the "income" of
corporations, firms or individuals, as that term is generally used in its common
acceptation; that is that the income means money received, coming to a person or
corporation for services, interest, or profit from investments. We do not believe that the
Legislature intended that a mere increase in the value of the capital or assets of a
6
corporation, firm, or individual, should be taxed as "income." Such property can be
reached under the ordinary from of taxation.
Mr. Justice Pitney, in the case of the Einer vs. Macomber, supra, said in discussing the
difference between "capital" and "income": "That the fundamental relation of 'capital' to
'income' has been much discussed by economists, the former being likened to the tree
or the land, the latter to the fruit or the crop; the former depicted as a reservoir supplied
from springs; the latter as the outlet stream, to be measured by its flow during a period
of time." It may be argued that a stockholder might sell the stock dividend which he had
acquired. If he does, then he has received, in fact, an income and such income, like any
other profit which he realizes from the business, is an income and he may be taxed
thereon.
There is a clear distinction between an extraordinary cash dividend, no matter when
earned, and stock dividends declared, as in the present case. The one is a
disbursement to the stockholder of accumulated earnings, and the corporation at once
parts irrevocably with all interest thereon. The other involves no disbursement by the
corporation. It parts with nothing to the stockholder. The latter receives, not an actual
dividend, but certificate of stock which simply evidences his interest in the entire capital,
including such as by investment of accumulated profits has been added to the original
capital. They are not income to him, but represent additions to the source of his income,
namely, his invested capital. (DeKoven vs. Alsop, 205, Ill., 309; 63 L.R.A. 587). Such a
person is in the same position, so far as his income is concerned, as the owner of
young domestic animal, one year old at the beginning of the year, which is worth P50
and, which, at the end of the year, and by reason of its growth, is worth P100. The
value of his property has increased, but has had an income during the year? It is true
that he had taxable property at the beginning of the year of the value of P50, and the
same taxable property at another period, of the value of P100, but he has had no
income in the common acceptation of that word. The increase in the value of the
property should be taken account of on the tax duplicate for the purposes of ordinary
taxation, but not as income for he has had none.
The question whether stock dividends are income, or capital, or assets has frequently
come before the courts in another form — in cases of inheritance. A is a stockholder in
a large corporation. He dies leaving a will by the terms of which he give to B during his
lifetime the "income" from said stock, with a further provision that C shall, at B's death,
become the owner of his share in the corporation. During B's life the corporation issues
a stock dividend. Does the stock dividend belong to B as an income, or does it finally
belong to C as a part of his share in the capital or assets of the corporation, which had
been left to him as a remainder by A? While there has been some difference of opinion
on that question, we believe that a great weight of authorities hold that the stock
dividend is capital or assets belonging to C and not an income belonging to B. In the
case of D'Ooge vs. Leeds (176 Mass., 558, 560) it was held that stock dividends in
such cases were regarded as capital and not as income (Gibbons vs. Mahon, 136 U.S.,
549.)
In the case of Gibbson vs. Mahon, supra, Mr. Justice Gray said: "The distinction
between the title of a corporation, and the interest of its members or stockholders in the
property of the corporation, is familiar and well settled. The ownership of that property is
in the corporation, and not in the holders of shares of its stock. The interest of each
stockholder consists in the right to a proportionate part of the profits whenever
dividends are declared by the corporation, during its existence, under its charter, and to
a like proportion of the property remaining, upon the termination or dissolution of the
corporation, after payment of its debts." (Minot vs. Paine, 99 Mass., 101; Greeff vs.
Equitable Life Assurance Society, 160 N. Y., 19.) In the case of Dekoven vs. Alsop (205
Ill ,309, 63 L. R. A. 587) Mr. Justice Wilkin said: "A dividend is defined as a corporate

profit set aside, declared, and ordered by the directors to be paid to the stockholders on
demand or at a fixed time. Until the dividend is declared, these corporate profits belong
to the corporation, not to the stockholders, and are liable for corporate indebtedness.
There is a clear distinction between an extraordinary cash dividend, no matter when
earned, and stock dividends declared. The one is a disbursement to the stockholders of
accumulated earning, and the corporation at once parts irrevocably with all interest
thereon. The other involves no disbursement by the corporation. It parts with nothing to
the stockholders. The latter receives, not an actual dividend, but certificates of stock
which evidence in a new proportion his interest in the entire capital. When a cash
becomes the absolute property of the stockholders and cannot be reached by the
creditors of the corporation in the absence of fraud. A stock dividend however, still
being the property of the corporation and not the stockholder, it may be reached by an
execution against the corporation, and sold as a part of the property of the corporation.
In such a case, if all the property of the corporation is sold, then the stockholder
certainly could not be charged with having received an income by virtue of the issuance
of the stock dividend. Until the dividend is declared and paid, the corporate profits still
belong to the corporation, not to the stockholders, and are liable for corporate
indebtedness. The rule is well established that cash dividend, whether large or small,
are regarded as "income" and all stock dividends, as capital or assets (Cook on
Corporation, Chapter 32, secs. 534, 536; Davis vs. Jackson, 152 Mass., 58; Mills vs.
Britton, 64 Conn., 4; 5 Am., and Eng. Encycl. of Law, 2d ed., p. 738.)
If the ownership of the property represented by a stock dividend is still in the
corporation and to in the holder of such stock, then it is difficult to understand how it can
be regarded as income to the stockholder and not as a part of the capital or assets of
the corporation. (Gibbsons vs. Mahon, supra.) the stockholder has received nothing but
a representation of an interest in the property of the corporation and, as a matter of fact,
he may never receive anything, depending upon the final outcome of the business of
the corporation. The entire assets of the corporation may be consumed by
mismanagement, or eaten up by debts and obligations, in which case the holder of the
stock dividend will never have received an income from his investment in the
corporation. A corporation may be solvent and prosperous today and issue stock
dividends in representation of its increased assets, and tomorrow be absolutely
insolvent by reason of changes in business conditions, and in such a case the
stockholder would have received nothing from his investment. In such a case, if the
holder of the stock dividend is required to pay an income tax on the same, the result
would be that he has paid a tax upon an income which he never received. Such a
conclusion is absolutely contradictory to the idea of an income. An income subject to
taxation under the law must be an actual income and not a promised or prospective
income.
The appelle argues that there is nothing in section 25 of Act No 2833 which
contravenes the provisions of the Jones Law. That may be admitted. He further argues
that the Act of Congress (U.S. Revenue Act of 1918) expressly authorized the
Philippine Legislatures to provide for an income tax. That fact may also be admitted.
But a careful reading of that Act will show that, while it permitted a tax upon income, the
same provided that income shall include gains, profits, and income derived from
salaries, wages, or compensation for personal services, as well as from interest, rent,
dividends, securities, etc. The appellee emphasizes the "income from dividends." Of
course, income received as dividends is taxable as an income but an income from
"dividends" is a very different thing from receipt of a "stock dividend." One is an actual
receipt of profits; the other is a receipt of a representation of the increased value of the
assets of corporation.
7
In all of the foregoing argument we have not overlooked the decisions of a few of the
courts in different parts of the world, which have reached a different conclusion from the
one which we have arrived at in the present case. Inasmuch, however, as appeals may
be taken from this court to the Supreme Court of the United States, we feel bound to
follow the same doctrine announced by that court.
Having reached the conclusion, supported by the great weight of the authority, that
"stock dividends" are not "income," the same cannot be taxes under that provision of
Act No. 2833 which provides for a tax upon income. Under the guise of an income tax,
property which is not an income cannot be taxed. When the assets of a corporation
have increased so as to justify the issuance of a stock dividend, the increase of the
assets should be taken account of the Government in the ordinary tax duplicates for the
purposes of assessment and collection of an additional tax. For all of the foregoing
reasons, we are of the opinion, and so decide, that the judgment of the lower court
should be revoked, and without any finding as to costs, it is so ordered.
Araullo, C.J. Avanceña, Villamor and Romualdez, JJ., concur.
B. When is income taxable?
1. Existence of income
2. Realization of income
a. Tests of realization (Fisher v Trinidad, ibid)
b. Actual v constructive receipt
3. Limpan v CIR
4. Republic v dela Rama
EN BANC
G.R. No. L-21570 July 26, 1966
LIMPAN INVESTMENT CORPORATION, petitioner,
vs.
COMMISSIONER OF INTERNAL REVENUE, ET AL., respondents.
Vicente L. San Luis for petitioner.
Office of the Solicitor General A. A. Alafriz, Assistant Solicitor General F. B. Rosete,
Solicitor A. B. Afurong and Atty. V. G. Saldajeno for respondents.
REYES, J.B.L., J.:
Appeal interposed by petitioner Limpan Investment Corporation against a decision of
the Court of Tax Appeals, in its CTA Case No. 699, holding and ordering it (petitioner)
to pay respondent Commissioner of Internal Revenue the sums of P7,338.00 and
P30,502.50, representing deficiency income taxes, plus 50% surcharge and 1%
monthly interest from June 30, 1959 to the date of payment, with cost.
The facts of this case are:
Petitioner, a domestic corporation duly registered since June 21, 1955, is engaged in
the business of leasing real properties. It commenced actual business operations on
July 1, 1955. Its principal stockholders are the spouses Isabelo P. Lim and Purificacion
Ceñiza de Lim, who own and control ninety-nine per cent (99%) of its total paid-up
capital. Its president and chairman of the board is the same Isabelo P. Lim.1äwphï1.ñët
Its real properties consist of several lots and buildings, mostly situated in Manila and in
Pasay City, all of which were acquired from said Isabelo P. Lim and his mother, Vicente
Pantangco Vda. de Lim.
Petitioner corporation duly filed its 1956 and 1957 income tax returns, reporting therein
net incomes of P3,287.81 and P11,098.36, respectively, for which it paid the
corresponding taxes therefor in the sums of P657.00 and P2,220.00.
 8

Sometime in 1958 and 1959, the examiners of the Bureau of Internal Revenue assessment of respondent Commissioner of Internal Revenue. It disclaimed having
conducted an investigation of petitioner's 1956 and 1957 income tax returns and, in the received or collected the amount of P20,199.00, as unreported rental income for 1956,
course thereof, they discovered and ascertained that petitioner had underdeclared its or any part thereof, reasoning out that 'the previous owners of the leased building has
rental incomes by P20,199.00 and P81,690.00 during these taxable years and had (have) to collect part of the total rentals in 1956 to apply to their payment of rental in the
claimed excessive depreciation of its buildings in the sums of P4,260.00 and land in the amount of P21,630.00" (par. 11, petition). It also denied having received or
P16,336.00 covering the same period. On the basis of these findings, respondent collected the amount of P81,690.00, as unreported rental income for 1957, or any part
Commissioner of Internal Revenue issued its letter-assessment and demand for thereof, explaining that part of said amount totalling P31,380.00 was not declared as
payment of deficiency income tax and surcharge against petitioner corporation, income in its 1957 tax return because its president, Isabelo P. Lim, who collected and
computed as follows: received P13,500.00 from certain tenants, did not turn the same over to petitioner
90-AR-C-348-58/56 corporation in said year but did so only in 1959; that a certain tenant (Go Tong)
deposited in court his rentals amounting to P10,800.00, over which the corporation had
Net income per audited return P 3,287.81 no actual or constructive control; and that a sub-tenant paid P4,200.00 which ought not
be declared as rental income.
Add: Unallowable deductions: Petitioner likewise alleged in its petition that the rates of depreciation applied by
Undeclared Rental Receipt respondent Commissioner of its buildings in the above assessment are unfair and
inaccurate.
(Sched. A) . . . . . . . . . . . . . . . . . . . . P20,199.00 Sole witness for petitioner corporation in the Tax Court was its Secretary-Treasurer,
Vicente G. Solis, who admitted that it had omitted to report the sum of P12,100.00 as
Excess Depreciation (Sched. B) . . . . . . . . . . . . . . . . .
P24,459.00 rental income in its 1956 tax return and also the sum of P29,350.00 as rental income in
4,260.00
its 1957 tax return. However, with respect to the difference between this omitted income
Net income per investigation P27,746.00 (P12,100.00) and the sum (P20,199.00) found by respondent Commissioner as
undeclared in 1956, petitioner corporation, through the same witness (Solis), tried to
Tax due thereon P5,549.00 establish that it did not collect or receive the same because, in view of the refusal of
Less: Amount already assessed 657.00 some tenants to recognize the new owner, Isabelo P. Lim and Vicenta Pantangco Vda.
de Lim, the former owners, on one hand, and the same Isabelo P. Lim, as president of
Balance P4,892.00 petitioner corporation, on the other, had verbally agreed in 1956 to turn over to
petitioner corporation six per cent (6%) of the value of all its properties, computed at
Add: 50% Surcharge 2,446.00 P21,630.00, in exchange for whatever rentals the Lims may collect from the tenants.
DEFICIENCY TAX DUE P7,338.00 And, with respect to the difference between the admittedly undeclared sum of
P29,350.00 and that found by respondent Commissioner as unreported rental income,
90-AR-C-1196-58/57 (P81,690.00) in 1957, the same witness Solis also tried to establish that petitioner
corporation did not receive or collect the same but that its president, Isabelo P. Lim,
Net income per audited return P11,098.00
collected part thereof and may have reported the same in his own personal income tax
Add: Unallowable deductions: return; that same Isabelo P. Lim collected P13,500.00, which he turned over to
petitioner in 1959 only; that a certain tenant (Go Tong deposited in court his rentals
Undeclared Rental Receipt (Sched. A) . . . . . . . . P81,690.00 (P10,800.00), over which the corporation had no actual or constructive control and
Excess Depreciation (Sched. B) . . . . . . . . . . . . . . . 16,338.00 P98,028.00 which were withdrawn only in 1958; and that a sub-tenant paid P4,200.00 which ought
not be declared as rental income in 1957.
Net income per investigation P109,126.00 With regard to the depreciation which respondent disallowed and deducted from the
returns filed by petitioner, the same witness tried to establish that some of its buildings
Tax due thereon P22,555.00 are old and out of style; hence, they are entitled to higher rates of depreciation than
Less: Amount already assessed 2,220.00 those adopted by respondent in his assessment.
Isabelo P. Lim was not presented as witness to corroborate the above testimony of
Balance 20,335.00 Vicente G. Solis.
On the other hand, Plaridel M. Mingoa, one of the BIR examiners who personally
Add: 50% Surcharge 10,167.50 conducted the investigation of the 1956 and 1957 income tax returns of petitioner
DEFICIENCY TAX DUE P30,502.50 corporation, testified for the respondent that he personally interviewed the tenants
of petitioner and found that these tenants had been regularly paying their rentals
Petitioner corporation requested respondent Commissioner of Internal Revenue to to the collectors of either petitioner or its president, Isabelo P. Lim, but these payments
reconsider the above assessment but the latter denied said request and reiterated its were not declared in the corresponding returns; and that in applying rates of
original assessment and demand, plus 5% surcharge and the 1% monthly interest from depreciation to petitioner's buildings, he adopted Bulletin "F" of the U.S. Federal Internal
June 30, 1959 to the date of payment; hence, the corporation filed its petition for review Revenue Service.
before the Tax Appeals court, questioning the correctness and validity of the above

On the basis of the evidence, the Tax Court upheld respondent Commissioner's
assessment and demand for deficiency income tax which, as above stated in the
beginning of this opinion, petitioner has appealed to this Court.
Petitioner corporation pursues, the same theory advocated in the court below and
assigns the following alleged errors of the trial court in its brief, to wit:
I. The respondent Court erred in holding that the petitioner had an unreported
rental income of P20,199.00 for the year 1956.
II. The respondent Court erred in holding that the petitioner had an unreported
rental income of P81,690.00 for the year 1957.
III. The respondent Court erred in holding that the depreciation in the amount
of P20,598.00 claimed by petitioner for the years 1956 and 1957 was
excessive.
and prays that the appealed decision be reversed.
This appeal is manifestly unmeritorious. Petitioner having admitted, through its own
witness (Vicente G. Solis), that it had undeclared more than one-half (1/2) of the
amount (P12,100.00 out of P20,199.00) found by the BIR examiners as unreported
rental income for the year 1956 and more than one-third (1/3) of the amount
(P29,350.00 out of P81,690.00) ascertained by the same examiners as unreported
rental income for the year 1957, contrary to its original claim to the revenue authorities,
it was incumbent upon it to establish the remainder of its pretensions by clear and
convincing evidence, that in the case is lacking.
With respect to the balance, which petitioner denied having unreported in the disputed
tax returns, the excuse that Isabelo P. Lim and Vicenta Pantangco Vda. de Lim retained
ownership of the lands and only later transferred or disposed of the ownership of the
buildings existing thereon to petitioner corporation, so as to justify the alleged verbal
agreement whereby they would turn over to petitioner corporation six percent (6%) of
the value of its properties to be applied to the rentals of the land and in exchange for
whatever rentals they may collect from the tenants who refused to recognize the new
owner or vendee of the buildings, is not only unusual but uncorroborated by the alleged
transferors, or by any document or unbiased evidence. Hence, the first assigned error is
without merit.
As to the second assigned error, petitioner's denial and explanation of the non-receipt
of the remaining unreported income for 1957 is not substantiated by satisfactory
corroboration. As above noted, Isabelo P. Lim was not presented as witness to confirm
accountant Solis nor was his 1957 personal income tax return submitted in court to
establish that the rental income which he allegedly collected and received in 1957 were
reported therein.
The withdrawal in 1958 of the deposits in court pertaining to the 1957 rental income is
no sufficient justification for the non-declaration of said income in 1957, since the
deposit was resorted to due to the refusal of petitioner to accept the same, and was not
the fault of its tenants; hence, petitioner is deemed to have constructively received such
rentals in 1957. The payment by the sub-tenant in 1957 should have been reported as
rental income in said year, since it is income just the same regardless of its source.
On the third assigned error, suffice it to state that this Court has already held that
"depreciation is a question of fact and is not measured by theoretical yardstick, but
should be determined by a consideration of actual facts", and the findings of the Tax
Court in this respect should not be disturbed when not shown to be arbitrary or in abuse
of discretion (Commissioner of Internal Revenue vs. Priscila Estate, Inc., et al., L-
18282, May 29, 1964), and petitioner has not shown any arbitrariness or abuse of
discretion in the part of the Tax Court in finding that petitioner claimed excessive
depreciation in its returns. It appearing that the Tax Court applied rates of depreciation
in accordance with Bulletin "F" of the U.S. Federal Internal Revenue Service, which this
9
Court pronounced as having strong persuasive effect in this jurisdiction, for having been
the result of scientific studies and observation for a long period in the United States,
after whose Income Tax Law ours is patterned (M. Zamora vs. Collector of internal
Revenue & Collector of Internal Revenue vs. M. Zamora; E. Zamora vs. Collector of
Internal Revenue and Collector of Internal Revenue vs. E. Zamora, Nos. L-15280, L-
15290, L-15289 and L-15281, May 31, 1963), the foregoing error is devoid of merit.
Wherefore, the appealed decision should be, as it is hereby, affirmed. With costs
against petitioner-appellant, Limpan Investment Corporation.
Concepcion, C.J., Barrera, Dizon, Regala, Makalintal, Bengzon, J.P., Zaldivar, Sanchez
and Castro, JJ., concur.
EN BANC
G.R. No. L-21108 November 29, 1966
REPUBLIC OF THE PHILIPPINES, plaintiff-appellant,
vs.
LEONOR DE LA RAMA, ET AL., respondents-appellees.
Office of the Solicitor General for plaintiff-appellant.
Meer, Meer and Meer for respondents-appellees.
ZALDIVAR, J.:
This is an appeal from the decision of the Court of First Instance of Manila, dated
December 23, 1961, in its Civil Case No. 46494, dismissing the complaint of the
Republic of the Philippines against the heirs of the late Esteban de la Rama from the
collection of P56,032.50 as deficiency income tax, inclusive of 50% surcharge, for the
year 1950.
The estate of the late Esteban de la Rama was the subject of Special Proceedings No.
401 of the Court of First Instance of Iloilo. The executor-administrator, Eliseo Hervas,
filed on March 12, 1951, income tax returns of the estate corresponding to the taxable
year 1950, declaring a net income of P22,796.59, on the basis of which the amount of
P3,919.00 was assessed and was paid by the estate as income tax. The Bureau of
Internal Revenue later claimed that it had found out that there had been received by the
estate in 1950 from the De la Rama Steamship Company, Inc. cash dividends
amounting to P86,800.00, which amount was not declared in the income tax return of
the estate for the year 1950. The Bureau of Internal Revenue then, on March 7, 1956,
made an assessment as deficiency income tax against the estate in the sum of
P56,032.50 of which amount P37,355.00 was the deficiency and P18,677.50 was the
50% surcharge.
The Collector of Internal Revenue wrote a letter, dated February 29, 1956, to Mrs.
Lourdes de la Rama-Osmeña informing her of the deficiency income tax and asking
payment thereof. On March 13, 1956 the latter's counsel wrote to the Collector
acknowledging receipt of the assessment but contended that Lourdes de la Rama-
Osmeña had no authority to represent the estate, and that the assessment should be
sent to Leonor de la Rama who was pointed to by said counsel as the administratrix of
the estate of her late father. On the basis of this information the Deputy Collector of
Internal Revenue, on November 22, 1956, sent a letter to Leonor de la Rama as
administratrix of the estate, asking payment. The tax, as assessed, not having been
paid, the Deputy Commissioner of Internal Revenue, on September 7, 1959, wrote
another letter to Mrs. Lourdes de la Rama-Osmeña demanding, through her, upon the
heirs, the payment of the deficiency income tax within the period of thirty days from
receipt thereof. The counsel of Lourdes de la Rama-Osmeña, in a letter dated
September 25, 1959, insisted that the letter should be sent to Leonor de la Rama. The
Deputy Commissioner of Internal Revenue wrote to Leonor de la Rama another letter,
dated February 11, 1960, demanding, through her as administratrix, upon the heirs of
Esteban de la Rama, the payment of the sum of P56,032.50, as deficiency income tax

including the 50% surcharge, to the City Treasurer of Pasay City within thirty days from
receipt thereof.
The deficiency income tax not having been paid, the Republic of the Philippines filed on
March 6, 1961 with the Court of First Instance of Manila a complaint against the heirs of
Esteban de la Rama, seeking to collect from each heir his/her proportionate share in
the income tax liability of the estate. An amended complaint dated August 31, 1961,
was admitted by the court.
The defendants-appellees, Lourdes de la Rama-Osmeña, Leonor de la Rama,
Estefania de la Rama-Pirovano, Dolores de la Rama-Lopez, Charles Miller, and Aniceta
de la Rama-Sian, thru counsel, filed their respective answers, the gist of their
allegations and/or defenses being (1) that no cash dividends of P86,800.00 had been
paid to the estate; (2) that the administration of the estate had been extended by the
probate court precisely for the purpose of collecting said dividends; (3) that Leonor dela
Rama had never been administratrix of the estate; (4) that the executor of the estate,
Eliseo Hervas, had never been given notice of the assessment, and consequently the
assessment had never become final; and (5) that the collection of the alleged deficiency
income tax had prescribed. Fausto F. Gonzales, Jr., one of the defendants, not having
filed an answer, was declared in default.
From the evidence introduced at the trial, both oral and documentary, the lower court
found that the dividends of P86,800.00 declared by the De la Rama Steamship Co. in
favor of the late Esteban de la Rama were applied to the obligation of the estate to the
company declaring the dividends; that Leonor de la Rama was not the administratrix of
the estate, but it was the late Eliseo Hervas who was the executor-administrator; that
the administration of the estate was extended for the purpose of recovering for the
estate said dividends from the De la Rama Steamship Co., Inc.; and that the question of
whether the deceased Esteban de la Rama was a debtor to the entity known as the
Hijos de I. de la Rama, which was also indebted to the De la Rama Steamship Co., Inc.,
was not a settled one.
After trial, the lower court rendered its decision, dated December 23, 1961, dismissing
the complaint. The Republic of the Philippines appealed from said decision to the Court
of Appeals, but the appeal was later certified to this Court because only questions of
law are involved.
Plaintiff-appellant contends that the trial court erred (1) in holding that there was no
basis for the assessment upon the ground that it was not proved that the income in
question was received by the estate of Esteban de la Rama or by his heirs; (2) in not
holding that the income was constructively received by the estate of the late Esteban de
la Rama; (3) in not holding that the heirs and legatees of the late Esteban de la Rama
were liable for the payment of the deficiency income tax; (4) in not holding that the
assessment involved in the case had long become final; (5) in not holding that the
service of the notice of assessment on Lourdes de la Rama-Osmeña and Leonor de la
Rama was proper and valid; and (6) in not holding that said court had no jurisdiction to
take cognizance of appellees' defense that the assessment in question was erroneous.
Plaintiff-appellant argues that the deficiency income tax in this case was assessed in
the sum of P86,800.00 representing cash dividends declared in ]1950 by the De la
Rama Steamship Co., Inc. in favor of the late Esteban de la Rama and was applied as
payment of the latter's account with the former. The application of payment appears in
the books of said creditor company as follows:
Against accounts receivable due from Esteban
de la Rama P25,255.24
10
Against the account due from Hijos de I. de la
Rama, Inc., of which Don Esteban de la Rama
was the principal owner P61,544.76
Total P86,800.00
The plaintiff-appellant maintains that this crediting of accounts in the books of the
company constituted a constructive receipt by the estate or the heirs of Esteban de la
Rama of the dividends, and this dividend was an income of the estate and was,
therefore, taxable.
It is not disputed that the dividends in question were not actually paid either to the
estate, or to the heirs, of the late Esteban de la Rama. The question to be resolved is
whether or not the said application of the dividends to the personal accounts of the
deceased Esteban de la Rama constituted constructive payment to, and hence,
constructively received by, the estate or the heirs. If the debts to which the dividends
were applied really existed, and were legally demandable and chargeable against the
deceased, there was constructive receipt of the dividends; if there were no such debts,
then there was no constructive receipt.
The first debt, as above indicated, had been contested by the executor-administrator of
the estate. It does not even appear that the De la Rama Steamship Co., Inc. had ever
filed a claim against the estate in connection with that indebtedness. The existence and
the validity of the debt is, therefore, in dispute, and there was no proof adduced to show
the existence and validity of the debt.
The second debt to which the dividends were partly applied were accounts "due from
Hijos de I. de la Rama, Inc." The alleged debtor here was an entity separate and distinct
from the deceased. If that was so, its debts could not be charged against the deceased,
even if the deceased was the principal owner thereof, in the absence of proof of
substitution of debtor. There is no evidence in the instant case that the late Esteban de
la Rama substituted the "Hijos de I. de la Rama" as debtor to the De la Rama
Steamship Co., Inc.; nor was there evidence that the estate of the late Esteban de la
Rama owned the "Hijos de I. de la Rama, Inc.," this fact being, as found by the lower
court, not a settled question because the same was denied by the administrator.
Under the National Internal Revenue Code, income tax is assessed on income that has
been received. Thus, Section 21 of the Code requires that the income must be received
by an individual before a tax can be levied thereon.
Sec. 21. Rates of tax on citizens or residents.—There shall be levied,
collected, and paid annually upon the entire net income received in the
preceding taxable year from all sources by every individual, a citizen or
resident of the Philippines, . . .
Section 56 also requires receipt of income by an estate before an income tax can be
assessed thereon. It provides:
Sec. 56. Imposition of tax.—(a) Application of tax.—The taxes imposed by this
Title upon individuals shall apply to the income of estates or of any kind of
property held in trust, including —
xxx xxx xxx
(3) Income received by estates of deceased persons during the period of
administration or settlement of the estate; . . .
Hence, if income has not been received, no income tax can be assessed thereon.
Inasmuch as, the income was not received either by the estate, or by the heirs, neither
the estate nor the heir can be liable for the payment of income tax therefor.
The trial court, therefore, did not err when it held in its decision that:
After a study of the proofs, the Court is constrained to sustain the position of
the defendants on the fundamental issue that there could have been no

correct and real basis for the assessment or that there is no proof that the
income in question had been received; it was not actually delivered unto the
Estate since it was retained by the De la Rama Steamship Co., Inc.; which
applied said dividends to certain accounts receivable due from the deceased
allegedly, Exh. A-1; now if truly there had been such indebtedness owing from
the deceased unto said De la Rama Steamship Co., Inc., the Court will agree
with plaintiff that the offsetting of the dividends against such indebtedness
amounted to constructive delivery; but here has not been presented any proof
to that effect, i.e., that there was such an indebtedness due from deceased; on
the contrary what the evidence shows is that the former administrator of the
Estate had challenged the validity of said indebtedness, Exh. D, motion of 4
June, 1951; that being the case, there is no clear showing that income in the
form of said dividends had really been received, which is the verb used in
Section 21 of the Internal Revenue Code, by the Estate whether actually or
constructively; and the income tax being collected by the Government on
income received, the Government's position is here without a clear basis; the
position becomes worse when it be considered that it is not even the Estate
that is being sued but the heirs themselves, who admittedly had not received
any of said dividends themselves; the fiction of transfer of ownership by
succession from the death of the decedent will have to give way to actual fact
that the dividends have not been adjudicated at all to the heirs up to now at
least so far as the evidence shows. This being the conclusion of the Court,
there will be no need to discuss the question of whether the action has or has
not prescribed.
The factual findings of the trial court, as stated in the above-quoted portion of the
decision, are decisive in the determination of the legal issues in this case.
Appellant cites the case of Herbert v. Commissioner of Internal Revenue, 81 F. (2d) 912
as authority that the crediting of dividends against accounts constitutes payment and
constructive receipt of the dividends. The citation of authority misses the point in issue.
In that case the existence of the indebtedness of Leon S. Herbert to the corporation that
declared the dividends and against which indebtedness the dividends were applied,
was never put in issue, and was admitted. In the instant case, the existence of the
obligations has been disputed and, as the trial court found, has not been proved. It
having been shown in the instant case that there was no basis for the assessment of
the income tax, the assessment itself and the sending of notices regarding the
assessment would neither have basis, and so that assessment and the notices
produced no legal effect that would warrant the collection of the tax.
The appellant also contends that the assessment had become final, because the
decision of the Collector of Internal Revenue was sent in a letter dated February 11,
1960 and addressed to the heirs of the late Esteban de la Rama, through Leonor de la
Rama as administratrix of the estate, and was not disputed or contested by way of
appeal within thirty days from receipt thereof to the Court of Tax Appeals. This
contention is untenable. The lower court found that Leonor de la Rama was not the
administratrix of the estate of Esteban de la Rama. The alleged deficiency income tax
for 1950 was chargeable against the estate of the deceased Esteban de la Rama. On
December 5, 1955, when the letter of notice for the assessment of the deficiency
income tax was first sent to Leonor de la Rama (See Annex "A" of Answer of defendant
Lourdes de la Rama-Osmeña, pp. 16-17, Record on Appeal, the administration
proceedings, in Special Proceedings No. 401 of the Court of First Instance of Iloilo,
were still open with respect to the controverted matter regarding the cash dividends
upon which the deficiency assessment was levied. This is clear from the order dated
June 21, 1951 (Exhibit "E") of the Court of First Instance of Iloilo which in part provides:
11
El albacea-administrador hace constar, sin embargo, que quedan por cobrar
ciertos dividendos declarados y devengados por las acciones del finado
Esteban de la Rama en The De la Rama Steamship Co., Inc., que los
funcionarios de dicha corporacion . . . no han pagado aun . . . y que por tales
motivos habria necesidad de prolongar la administracion, solamente para que
esta continue atendiendo con autorizacion, a tales menesteres.
xxx xxx xxx
Se ordena el cierre de la Administracion; pero se provee, sin embargo, la
extension de la misma, solamente para el proposito de iniciar y proseguir
hasta su terminacion una accion contra The De la Rama Steamship Co., Inc.
para el cobro de dividendos declarados por dicha corporacion en Diciembre
31, 1950 sobre las 869 acciones del finado Esteban de la Rama en la misma .
...
Y finalmente, queda relevado el Administrador Sr. Eliseo Hervas de toda
responsibilidad en relacion con su administracion, excepto en lo que respecta
al cobro de dividendos . . . .
The estate was still under the administration of Eliseo Hervas as regards the collection
of said dividends. The administrator was the representative of the estate, whose duty it
was to pay and discharge all debts and charges on the estate and to perform all orders
of the court by him to be performed (Rule 71, Section 1), and to pay the taxes and
assessments due to the Government or any branch or subdivision thereof (Section 7,
Rule 89, Old Rules of Court). The tax must be collected from the estate of the
deceased, and it is the administrator who is under obligation to pay such claim (Estate
of Claude E. Haygood.) (Collector of Internal Revenue v. Haygood, 65 Phil. 520). The
notice of assessment, therefore, should have been sent to the administrator. In this
case, notice was first sent to Lourdes de la Rama-Osmeña on February 29, 1956, and
later to Leonor de la Rama on November 27, 1956, neither of whom had authority to
represent the estate. As the lower court said in its decision: "Leonor de la Rama was
not the administratrix of the estate of the late Esteban de la Rama and as such the
demand unto her, Exh. Def. 8, p. 112, was not a correct demand before November 27,
1956, because the real administrator was the late Eliseo Hervas; . . . ." (p. 45, Record
on Appeal) The notice was not sent to the taxpayer for the purpose of giving effect to
the assessment, and said notice could not produce any effect. In the case of Bautista
and Corrales Tan v. Collector of Internal Revenue, L-12259, May 27, 1959, this Court
had occasion to state that "the assessment is deemed made when the notice to this
effect is released, mailed or sent to the taxpayer for the purpose of giving effect to said
assessment." It appearing that the person liable for the payment of the tax did not
receive the assessment, the assessment could not become final and executory (R. A.
1125, Section 11).
Plaintiff-appellant also contends that the lower court could not take cognizance of the
defense that the assessment was erroneous, this being a matter that is within the
exclusive jurisdiction of the Court of Tax Appeals. This contention has no merit.
According to Republic Act 1125, the Court of Tax Appeals has exclusive jurisdiction to
review by appeal decisions of the Collector of Internal Revenue in cases involving
disputed assessments, and the disputed assessment must be appealed by the person
adversely affected by the decision within thirty days after the receipt of the decision. In
the instant case, the person adversely affected should have been the administrator of
the estate, and the notice of the assessment should have been sent to him. The
administrator had not received the notice of assessment, and he could not appeal the
assessment to the Court of Tax Appeals within 30 days from notice. Hence the
assessment did not fall within the exclusive jurisdiction of the Court of Tax Appeals.

IN VIEW OF THE FOREGOING, the decision appealed from should be, as it is hereby,
affirmed, without costs.
Concepcion, C.J., Reyes, J.B.L., Barrera, Dizon, Regala, Makalintal, Bengzon, J.P.,
Sanchez and Castro, JJ.,concur.
3. Recognition of income
4. Methods of accounting for taxable income and deductible
expenses
a. Cash v accrual method of accounting (43,44,45, NIRC;
51,52,53 RR No. 2)
b. Installment v deferred payment v percentage of
completion (in long term contracts) (49,48, NIRC; 44, RR2)
c. Distinction between tax accounting and financial
accounting
NIRC
CHAPTER VIII
ACCOUNTING PERIODS AND METHODS OF ACCOUNTING
SEC. 43. General Rule. - The taxable income shall be computed upon the basis of
the taxpayer's annual accounting period (fiscal year or calendar year, as the case
may be) in accordance with the method of accounting regularly employed in keeping
the books of such taxpayer, but if no such method of accounting has been so
employed, or if the method employed does not clearly reflect the income, the
computation shall be made in accordance with such method as in the opinion of the
Commissioner clearly reflects the income. If the taxpayer's annual accounting period
is other than a fiscal year, as defined in Section 22(Q), or if the taxpayer has no
annual accounting period, or does not keep books, or if the taxpayer is an individual,
the taxable income shall be computed on the basis of the calendar year.
SEC. 44. Period in which Items of Gross Income Included.- The amount of all
items of gross income shall be included in the gross income for the taxable year in
which received by the taxpayer, unless, under methods of accounting permitted
under Section 43, any such amounts are to be properly accounted for as of a
different period. In the case of the death of a taxpayer, there shall be included in
computing taxable income for the taxable period in which falls the date of his death,
amounts accrued up to the date of his death if not otherwise properly includible in
respect of such period or a prior period.
SEC. 45. Period for which Deductions and Credits Taken. - The deductions
provided for in this Title shall be taken for the taxable year in which 'paid or accrued'
or 'paid or incurred', dependent upon the method of accounting upon the basis of
which the net income is computed, unless in order to clearly reflect the income, the
deductions should be taken as of a different period. In the case of the death of a
taxpayer, there shall be allowed as deductions for the taxable period in which falls
the date of his death, amounts accrued up to the date of his death if not otherwise
properly allowable in respect of such period or a prior period.
SEC. 48. Accounting for Long-term Contracts. - Income from long-term contracts
shall be reported for tax purposes in the manner as provided in this Section. As used
herein, the term 'long-term contracts' means building, installation or construction
contracts covering a period in excess of one (1) year. Persons whose gross income
is derived in whole or in part from such contracts shall report such income upon the
basis of percentage of completion. The return should be accompanied by a return
certificate of architects or engineers showing the percentage of completion during
12
the taxable year of the entire work performed under contract. There should be
deducted from such gross income all expenditures made during the taxable year on
account of the contract, account being taken of the material and supplies on hand at
the beginning and end of the taxable period for use in connection with the work
under the contract but not yet so applied. If upon completion of a contract, it is found
that the taxable [net] income arising thereunder has not been clearly reflected for any
year or years, the Commissioner may permit or require an amended return.
SEC. 49. Installment Basis. -
(A) Sales of Dealers in Personal Property. - Under rules and regulations
prescribed by the Secretary of Finance, upon recommendation of the Commissioner,
a person who regularly sells or otherwise disposes of personal property on the
installment plan may return as income therefrom in any taxable year that proportion
of the installment payments actually received in that year, which the gross profit
realized or to be realized when payment is completed, bears to the total contract
price.
(B) Sales of Realty and Casual Sales of Personality. - In the case (1) of a casual
sale or other casual disposition of personal property (other than 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), for a price exceeding One thousand pesos (P1,000), or (2)
of a sale or other disposition of real property, if in either case the initial payments do
not exceed twenty-five percent (25%) of the selling price, the income may, under the
rules and regulations prescribed by the Secretary of Finance, upon recommendation
of the Commissioner, be returned on the basis and in the manner above prescribed
in this Section. As used in this Section, the term 'initial payments' means the
payments received in cash or property other than evidences of indebtedness of the
purchaser during the taxable period in which the sale or other disposition is made.
(C) Sales of Real Property Considered as Capital Asset by Individuals. - An
individual who sells or disposes of real property, considered as capital asset, and is
otherwise qualified to report the gain therefrom under Subsection (B) may pay the
capital gains tax in installments under rules and regulations to be promulgated by the
Secretary of Finance, upon recommendation of the Commissioner.
(D) Change from Accrual to Installment Basis. - If a taxpayer entitled to the
benefits of Subsection (A) elects for any taxable year to report his taxable income on
the installment basis, then in computing his income for the year of change or any
subsequent year, amounts actually received during any such year on account of
sales or other dispositions of property made in any prior year shall not be excluded.
Revenue Regulation No. 2-40
SECTION 44. Long term contracts. — Income from long-term contracts is taxable for
the period in which the income is determined, such determination depending upon
the nature and terms of the particular contract. As used herein the term "long-term"
contracts means building, installation, or construction contracts covering a period in
excess of one year. Persons whose income is derived in whole or in part from such
contracts may, as to such income, prepare their returns upon the following bases:
(a) Gross income derived from such contracts may be reported upon the basis of
percentage of completion. In such case there should accompany the return
certificate of architects, or engineers showing the percentage of completion during
the taxable year of the entire work performed under contract. There should be
deducted from such gross income all expenditures made during the taxable year on
account of the contract, account being taken of the material and supplies on hand at
the beginning and end of the taxable period for use in connection with the work
under the contract but not yet so applied. If upon completion of a contract, it is found

that the taxable net income arising thereunder has not been clearly reflected for any
year or years, the Commissioner of Internal Revenue may permit or require an
amended return.
(b) Gross income may be reported in the taxable year in which the contract is finally
completed and accepted if the taxpayer elects as a consistent practice to so treat
such income, provided such method clearly reflects the net income. If this method is
adopted there should be deducted from gross income all expenditures during the life
of the contract which are properly allocated thereto, taking into consideration any
material and supplies charged to the work under the contract but remaining on hand
at the time of the completion.
Where a taxpayer has filed his return in accordance with the method of accounting
regularly employed by him in keeping his books and such method clearly reflects the
income, he will not be required to change to either of the methods above set forth. If
a taxpayer desires to change his method of accounting in accordance with
paragraphs (a) and (b) above, a statement showing the composition of all items
appearing upon his balance sheet and used in connection with the method of
accounting formerly employed by him, should accompany his return.
SECTION 51. When income is to be reported. — Gains, profits, and income are to
be included in the gross income for the taxable year in which they are received by
the taxpayer, unless they are included when they accrue to him in accordance with
the approved method of accounting followed by him. If a person sues in one year on
a pecuniary claim or for property, and money or property is recovered on a judgment
therefore in a later year, income is realized in that year, assuming that the money or
property would have been income in the earlier year if then received. This is true of a
recovery for patent infringement. Bad debts or accounts charged off subsequent to
March 1, 1913, because of the fact that they were determined to be worthless, which
are subsequently recovered, whether or not by suit, constitute income for the year in
which recovered, regardless of the date when amounts were charged off.
SECTION 52. Income constructively received. — Income which is credited to the
account of or set apart for a taxpayer and which may be drawn upon by him at any
time is subject to tax for the year during which so credited or set apart, although not
then actually reduced to possession. To constitute receipt in such a case the income
must be credited to the taxpayer without any substantial limitation or restriction as to
the time or manner of payment or condition upon which payment is to be made. A
book entry, if made, should indicate an absolute transfer from one account to
another. If the income is not credited, but is set apart, such income must be
unqualifiedly subject to the demand of the taxpayer. Where a corporation
contingently credits its employees with bonus stock, but the stock is not available to
such employees until some future date, the mere crediting on the books of the
corporation does not constitute receipt.
SECTION 53. Examples of constructive receipt. — When interest coupons have
matured and are payable, but have not been cashed, such interest payment though
not collected when due and payable, is nevertheless available to the taxpayer and
should therefore be included in his gross income for the year during which the
coupons matured. This is true if the coupons are exchanged for other property
instead of eventually being cashed. Defaulted coupons are income for the year in
which paid. The distributive share of the profits of a partner in a general co-
partnership duly registered is regarded as received by him, although not distributed.
Interest credited on savings bank deposits, even though the bank nominally has a
13
rule, seldom or never enforced, that it may require so many days' notice in advance
of cashing depositors' checks, is income to the depositor when credited. An amount
credited to shareholders of a building and loan association, when such credit passes
without restriction to the shareholder, has taxable status as income for the year of
the credit. When the amount of such accumulations has not become available to the
shareholder until the maturity of a share, the amount of any share in excess of the
aggregate amount paid in by the shareholder is income for the year of maturity of the
share.
C. Tests in determining income
1. Realization Test (+Fisher v Trinidad, ibid)
5. Eisner v Macomber
U.S. Supreme Court
Eisner v. Macomber, 252 U.S. 189 (1920)
Eisner v. Macomber
No. 318
Argued April 16, 1919
Restored to docket for reargument May 19, 1919
Reargued October 17, 20, 1919
Decided March 8, 1920
252 U.S. 189
ERROR TO THE DISTRICT COURT OF THE UNITED STATES
FOR THE SOUTHERN DISTRICT OF NEW YORK
Syllabus
Congress was not empowered by the Sixteenth Amendment to tax, as income of the
stockholder, without apportionment, a stock dividend made lawfully and in good faith
against profits accumulated by the corporation since March 1, 1913. P. 252 U. S.
201. Towne v. Eisner, 245 U. S. 418.
The Revenue Act of September 8, 1916, c. 463, 39 Stat. 756, plainly evinces the
purpose of Congress to impose such taxes, and is to that extent in conflict with Art. I, §
2, cl. 3, and Art. I, § 9, cl. 4, of the Constitution. Pp. 252 U. S. 199, 252 U. S. 217.
These provisions of the Constitution necessarily limit the extension, by construction, of
the Sixteenth Amendment. P. 252 U. S. 205.
What is or is not "income" within the meaning of the Amendment must be determined in
each case according to truth and substance, without regard to form. P. 252 U. S. 206.
Income may be defined as the gain derived from capital, from labor, or from both
combined, including profit gained through sale or conversion of capital. P. 252 U. S.
207.
Mere growth or increment of value in a capital investment is not income; income is
essentially a gain or profit, in itself, of exchangeable value, proceeding from capital,
severed from it, and derived or received by the taxpayer for his separate use, benefit,
and disposal. Id.
A stock dividend, evincing merely a transfer of an accumulated surplus to the capital
account of the corporation, takes nothing from the property of the corporation and adds
nothing to that of the shareholder; a tax on such dividends is a tax an capital increase,
and not on income, and, to be valid under the Constitution, such taxes must be
apportioned according to population in the several states. P. 252 U. S. 208.
Affirmed.
Page 252 U. S. 190
The case is stated in the opinion.

Page 252 U. S. 199
MR. JUSTICE PITNEY delivered the opinion of the Court.
This case presents the question whether, by virtue of the Sixteenth Amendment,
Congress has the power to tax, as income of the stockholder and without
apportionment, a stock dividend made lawfully and in good faith against profits
accumulated by the corporation since March 1, 1913.
It arises under the Revenue Act of September 8, 1916, 39 Stat. 756 et seq., which, in
our opinion (notwithstanding a contention of the government that will be
Page 252 U. S. 200
noticed), plainly evinces the purpose of Congress to tax stock dividends as income. *
The facts, in outline, are as follows:
On January 1, 1916, the Standard Oil Company of California, a corporation of that
state, out of an authorized capital stock of $100,000,000, had shares of stock
outstanding, par value $100 each, amounting in round figures to $50,000,000. In
addition, it had surplus and undivided profits invested in plant, property, and business
and required for the purposes of the corporation, amounting to about $45,000,000, of
which about $20,000,000 had been earned prior to March 1, 1913, the balance
thereafter. In January, 1916, in order to readjust the capitalization, the board of
directors decided to issue additional shares sufficient to constitute a stock dividend of
50 percent of the outstanding stock, and to transfer from surplus account to capital
stock account an amount equivalent to such issue. Appropriate resolutions were
adopted, an amount equivalent to the par value of the proposed new stock was
transferred accordingly, and the new stock duly issued against it and divided among the
stockholders.
Defendant in error, being the owner of 2,200 shares of the old stock, received
certificates for 1, 100 additional
Page 252 U. S. 201
shares, of which 18.07 percent, or 198.77 shares, par value $19,877, were treated as
representing surplus earned between March 1, 1913, and January 1, 1916. She was
called upon to pay, and did pay under protest, a tax imposed under the Revenue Act of
1916, based upon a supposed income of $19,877 because of the new shares, and, an
appeal to the Commissioner of Internal Revenue having been disallowed, she brought
action against the Collector to recover the tax. In her complaint, she alleged the above
facts and contended that, in imposing such a tax the Revenue Act of 1916 violated
article 1, § 2, cl. 3, and Article I, § 9, cl. 4, of the Constitution of the United States,
requiring direct taxes to be apportioned according to population, and that the stock
dividend was not income within the meaning of the Sixteenth Amendment. A general
demurrer to the complaint was overruled upon the authority of Towne v. Eisner, 245 U.
S. 418, and, defendant having failed to plead further, final judgment went against him.
To review it, the present writ of error is prosecuted.
The case was argued at the last term, and reargued at the present term, both orally and
by additional briefs.
We are constrained to hold that the judgment of the district court must be affirmed, first,
because the question at issue is controlled by Towne v. Eisner, supra; secondly,
because a reexamination of the question with the additional light thrown upon it by
elaborate arguments has confirmed the view that the underlying ground of that decision
is sound, that it disposes of the question here presented, and that other fundamental
considerations lead to the same result.
In Towne v. Eisner, the question was whether a stock dividend made in 1914 against
surplus earned prior to January 1, 1913, was taxable against the stockholder under the
Act of October 3, 1913, c. 16, 38 Stat. 114, 166, which provided (§ B, p. 167) that net
income should include "dividends," and also "gains or profits and income derived
14
Page 252 U. S. 202
from any source whatever." Suit having been brought by a stockholder to recover the
tax assessed against him by reason of the dividend, the district court sustained a
demurrer to the complaint. 242 F. 702. The court treated the construction of the act as
inseparable from the interpretation of the Sixteenth Amendment; and, having referred
to Pollock v. Farmers' Loan & Trust Co., 158 U. S. 601, and quoted the Amendment,
proceeded very properly to say (p. 704):
"It is manifest that the stock dividend in question cannot be reached by the Income Tax
Act and could not, even though Congress expressly declared it to be taxable as income,
unless it is in fact income."
It declined, however, to accede to the contention that, in Gibbons v. Mahon, 136 U. S.
549, "stock dividends" had received a definition sufficiently clear to be controlling,
treated the language of this Court in that case as obiter dictum in respect of the matter
then before it (p. 706), and examined the question as res nova, with the result stated.
When the case came here, after overruling a motion to dismiss made by the
government upon the ground that the only question involved was the construction of the
statute, and not its constitutionality, we dealt upon the merits with the question of
construction only, but disposed of it upon consideration of the essential nature of a
stock dividend disregarding the fact that the one in question was based upon surplus
earnings that accrued before the Sixteenth Amendment took effect. Not only so, but we
rejected the reasoning of the district court, saying (245 U.S. 245 U. S. 426):
"Notwithstanding the thoughtful discussion that the case received below we cannot
doubt that the dividend was capital as well for the purposes of the Income Tax Law as
for distribution between tenant for life and remainderman. What was said by this Court
upon the latter question is equally true for the former."
"A stock dividend really takes nothing from the property of the corporation, and adds
nothing to the
Page 252 U. S. 203
interests of the shareholders. Its property is not diminished, and their interests are not
increased. . . . The proportional interest of each shareholder remains the same. The
only change is in the evidence which represents that interest, the new shares and the
original shares together representing the same proportional interest that the original
shares represented before the issue of the new ones."
"Gibbons v. Mahon, 136 U. S. 549, 136 U. S. 559-560. In short, the corporation is no
poorer and the stockholder is no richer than they were before. Logan County v. United
States, 169 U. S. 255, 169 U. S. 261. If the plaintiff gained any small advantage by the
change, it certainly was not an advantage of $417,450, the sum upon which he was
taxed. . . . What has happened is that the plaintiff's old certificates have been split up in
effect and have diminished in value to the extent of the value of the new."
This language aptly answered not only the reasoning of the district court, but the
argument of the Solicitor General in this Court, which discussed the essential nature of
a stock dividend. And if, for the reasons thus expressed, such a dividend is not to be
regarded as "income" or "dividends" within the meaning of the Act of 1913, we are
unable to see how it can be brought within the meaning of "incomes" in the Sixteenth
Amendment, it being very clear that Congress intended in that act to exert its power to
the extent permitted by the amendment. In Towne v. Eisner, it was not contended that
any construction of the statute could make it narrower than the constitutional grant;
rather the contrary.
The fact that the dividend was charged against profits earned before the Act of 1913
took effect, even before the amendment was adopted, was neither relied upon nor
alluded to in our consideration of the merits in that case. Not only so, but had we

considered that a stock dividend constituted income in any true sense, it would have
been held taxable under the Act of 1913 notwithstanding it was
Page 252 U. S. 204
based upon profits earned before the amendment. We ruled at the same term, in Lynch
v. Hornby, 247 U. S. 339, that a cash dividend extraordinary in amount, and in Peabody
v. Eisner, 247 U. S. 347, that a dividend paid in stock of another company, were taxable
as income although based upon earnings that accrued before adoption of the
amendment. In the former case, concerning "corporate profits that accumulated before
the act took effect," we declared (pp. 247 U. S. 343-344):
"Just as we deem the legislative intent manifest to tax the stockholder with respect to
such accumulations only if and when, and to the extent that, his interest in them comes
to fruition as income, that is, in dividends declared, so we can perceive no constitutional
obstacle that stands in the way of carrying out this intent when dividends are declared
out of a preexisting surplus. . . . Congress was at liberty under the amendment to tax as
income, without apportionment, everything that became income, in the ordinary sense
of the word, after the adoption of the amendment, including dividends received in the
ordinary course by a stockholder from a corporation, even though they were
extraordinary in amount and might appear upon analysis to be a mere realization in
possession of an inchoate and contingent interest that the stockholder had in a surplus
of corporate assets previously existing."
In Peabody v. Eisner, 247 U. S. 349, 247 U. S. 350, we observed that the decision of
the district court in Towne v. Eisner had been reversed
"only upon the ground that it related to a stock dividend which in fact took nothing from
the property of the corporation and added nothing to the interest of the shareholder, but
merely changed the evidence which represented that interest,"
and we distinguished the Peabody case from the Towne case upon the ground that "the
dividend of Baltimore & Ohio shares was not a stock dividend but a distribution in
specie of a portion of the assets of the Union Pacific."
Therefore, Towne v. Eisner cannot be regarded as turning
Page 252 U. S. 205
upon the point that the surplus accrued to the company before the act took effect and
before adoption of the amendment. And what we have quoted from the opinion in that
case cannot be regarded as obiter dictum, it having furnished the entire basis for the
conclusion reached. We adhere to the view then expressed, and might rest the present
case there not because that case in terms decided the constitutional question, for it did
not, but because the conclusion there reached as to the essential nature of a stock
dividend necessarily prevents its being regarded as income in any true sense.
Nevertheless, in view of the importance of the matter, and the fact that Congress in the
Revenue Act of 1916 declared (39 Stat. 757) that a "stock dividend shall be considered
income, to the amount of its cash value," we will deal at length with the constitutional
question, incidentally testing the soundness of our previous conclusion.
The Sixteenth Amendment must be construed in connection with the taxing clauses of
the original Constitution and the effect attributed to them before the amendment was
adopted. In Pollock v. Farmers' Loan & Trust Co., 158 U. S. 601, under the Act of
August 27, 1894, c. 349, § 27, 28 Stat. 509, 553, it was held that taxes upon rents and
profits of real estate and upon returns from investments of personal property were in
effect direct taxes upon the property from which such income arose, imposed by reason
of ownership, and that Congress could not impose such taxes without apportioning
them among the states according to population, as required by Article I, § 2, cl. 3, and §
9, cl. 4, of the original Constitution.
15
Afterwards, and evidently in recognition of the limitation upon the taxing power of
Congress thus determined, the Sixteenth Amendment was adopted, in words lucidly
expressing the object to be accomplished:
"The Congress shall have power to lay and collect taxes on incomes, from whatever
source derived, without apportionment among
Page 252 U. S. 206
the several states and without regard to any census or enumeration."
As repeatedly held, this did not extend the taxing power to new subjects, but merely
removed the necessity which otherwise might exist for an apportionment among the
states of taxes laid on income. Brushaber v. Union Pacific R. Co., 240 U. S. 1, 240 U.
S. 17-19; Stanton v. Baltic Mining Co., 240 U. S. 103, 240 U. S. 112 et seq.; Peck & Co.
v. Lowe, 247 U. S. 165, 247 U. S. 172-173.
A proper regard for its genesis, as well as its very clear language, requires also that this
amendment shall not be extended by loose construction, so as to repeal or modify,
except as applied to income, those provisions of the Constitution that require an
apportionment according to population for direct taxes upon property, real and personal.
This limitation still has an appropriate and important function, and is not to be
overridden by Congress or disregarded by the courts.
In order, therefore, that the clauses cited from Article I of the Constitution may have
proper force and effect, save only as modified by the amendment, and that the latter
also may have proper effect, it becomes essential to distinguish between what is and
what is not "income," as the term is there used, and to apply the distinction, as cases
arise, according to truth and substance, without regard to form. Congress cannot by any
definition it may adopt conclude the matter, since it cannot by legislation alter the
Constitution, from which alone it derives its power to legislate, and within whose
limitations alone that power can be lawfully exercised.
The fundamental relation of "capital" to "income" has been much discussed by
economists, the former being likened to the tree or the land, the latter to the fruit or the
crop; the former depicted as a reservoir supplied from springs, the latter as the outlet
stream, to be measured by its flow during a period of time. For the present purpose, we
require only a clear definition of the term "income,"
Page 252 U. S. 207
as used in common speech, in order to determine its meaning in the amendment, and,
having formed also a correct judgment as to the nature of a stock dividend, we shall find
it easy to decide the matter at issue.
After examining dictionaries in common use (Bouv. L.D.; Standard Dict.; Webster's
Internat. Dict.; Century Dict.), we find little to add to the succinct definition adopted in
two cases arising under the Corporation Tax Act of 1909 (Stratton's Independence v.
Howbert, 231 U. S. 399, 231 U. S. 415; Doyle v. Mitchell Bros. Co., 247 U. S. 179, 247
U. S. 185), "Income may be defined as the gain derived from capital, from labor, or from
both combined," provided it be understood to include profit gained through a sale or
conversion of capital assets, to which it was applied in the Doyle case, pp. 247 U. S.
183-185.
Brief as it is, it indicates the characteristic and distinguishing attribute of income
essential for a correct solution of the present controversy. The government, although
basing its argument upon the definition as quoted, placed chief emphasis upon the
word "gain," which was extended to include a variety of meanings; while the
significance of the next three words was either overlooked or misconceived. "Derived
from capital;" "the gain derived from capital," etc. Here, we have the essential
matter: not a gain accruing to capital; not a growth or increment of value in the
investment; but a gain, a profit, something of exchangeable value, proceeding from the
property, severed from the capital, however invested or employed, and coming in, being

"derived" -- that is, received or drawn by the recipient (the taxpayer) for
his separate use, benefit and disposal -- that is income derived from property. Nothing
else answers the description.
The same fundamental conception is clearly set forth in the Sixteenth Amendment --
"incomes, fromwhatever source derived" -- the essential thought being expressed
Page 252 U. S. 208
with a conciseness and lucidity entirely in harmony with the form and style of the
Constitution.
Can a stock dividend, considering its essential character, be brought within the
definition? To answer this, regard must be had to the nature of a corporation and the
stockholder's relation to it. We refer, of course, to a corporation such as the one in the
case at bar, organized for profit, and having a capital stock divided into shares to which
a nominal or par value is attributed.
Certainly the interest of the stockholder is a capital interest, and his certificates of stock
are but the evidence of it. They state the number of shares to which he is entitled and
indicate their par value and how the stock may be transferred. They show that he or his
assignors, immediate or remote, have contributed capital to the enterprise, that he is
entitled to a corresponding interest proportionate to the whole, entitled to have the
property and business of the company devoted during the corporate existence to
attainment of the common objects, entitled to vote at stockholders' meetings, to receive
dividends out of the corporation's profits if and when declared, and, in the event of
liquidation, to receive a proportionate share of the net assets, if any, remaining after
paying creditors. Short of liquidation, or until dividend declared, he has no right to
withdraw any part of either capital or profits from the common enterprise; on the
contrary, his interest pertains not to any part, divisible or indivisible, but to the entire
assets, business, and affairs of the company. Nor is it the interest of an owner in the
assets themselves, since the corporation has full title, legal and equitable, to the whole.
The stockholder has the right to have the assets employed in the enterprise, with the
incidental rights mentioned; but, as stockholder, he has no right to withdraw, only the
right to persist, subject to the risks of the enterprise, and looking only to dividends for
his return. If he desires to dissociate himself
Page 252 U. S. 209
from the company, he can do so only by disposing of his stock.
For bookkeeping purposes, the company acknowledges a liability in form to the
stockholders equivalent to the aggregate par value of their stock, evidenced by a
"capital stock account." If profits have been made and not divided, they create
additional bookkeeping liabilities under the head of "profit and loss," "undivided profits,"
"surplus account," or the like. None of these, however, gives to the stockholders as a
body, much less to any one of them, either a claim against the going concern for any
particular sum of money or a right to any particular portion of the assets or any share in
them unless or until the directors conclude that dividends shall be made and a part of
the company's assets segregated from the common fund for the purpose. The dividend
normally is payable in money, under exceptional circumstances in some other divisible
property, and when so paid, then only (excluding, of course, a possible advantageous
sale of his stock or winding-up of the company) does the stockholder realize a profit or
gain which becomes his separate property, and thus derive income from the capital that
he or his predecessor has invested.
In the present case, the corporation had surplus and undivided profits invested in plant,
property, and business, and required for the purposes of the corporation, amounting to
about $45,000,000, in addition to outstanding capital stock of $50,000,000. In this, the
case is not extraordinary. The profits of a corporation, as they appear upon the balance
sheet at the end of the year, need not be in the form of money on hand in excess of
16
what is required to meet current liabilities and finance current operations of the
company. Often, especially in a growing business, only a part, sometimes a small part,
of the year's profits is in property capable of division, the remainder having been
absorbed in the acquisition of increased plant,
Page 252 U. S. 210
equipment, stock in trade, or accounts receivable, or in decrease of outstanding
liabilities. When only a part is available for dividends, the balance of the year's profits is
carried to the credit of undivided profits, or surplus, or some other account having like
significance. If thereafter the company finds itself in funds beyond current needs, it may
declare dividends out of such surplus or undivided profits; otherwise it may go on for
years conducting a successful business, but requiring more and more working capital
because of the extension of its operations, and therefore unable to declare dividends
approximating the amount of its profits. Thus, the surplus may increase until it equals or
even exceeds the par value of the outstanding capital stock. This may be adjusted upon
the books in the mode adopted in the case at bar -- by declaring a "stock dividend."
This, however, is no more than a book adjustment, in essence -- not a dividend, but
rather the opposite; no part of the assets of the company is separated from the common
fund, nothing distributed except paper certificates that evidence an antecedent increase
in the value of the stockholder's capital interest resulting from an accumulation of profits
by the company, but profits so far absorbed in the business as to render it impracticable
to separate them for withdrawal and distribution. In order to make the adjustment, a
charge is made against surplus account with corresponding credit to capital stock
account, equal to the proposed "dividend;" the new stock is issued against this and the
certificates delivered to the existing stockholders in proportion to their previous
holdings. This, however, is merely bookkeeping that does not affect the aggregate
assets of the corporation or its outstanding liabilities; it affects only the form, not the
essence, of the "liability" acknowledged by the corporation to its own shareholders, and
this through a readjustment of accounts on one side of the balance sheet only,
increasing "capital stock" at the expense of
Page 252 U. S. 211
"surplus"; it does not alter the preexisting proportionate interest of any stockholder or
increase the intrinsic value of his holding or of the aggregate holdings of the other
stockholders as they stood before. The new certificates simply increase the number of
the shares, with consequent dilution of the value of each share.
A "stock dividend" shows that the company's accumulated profits have been
capitalized, instead of distributed to the stockholders or retained as surplus available for
distribution in money or in kind should opportunity offer. Far from being a realization of
profits of the stockholder, it tends rather to postpone such realization, in that the fund
represented by the new stock has been transferred from surplus to capital, and no
longer is available for actual distribution.
The essential and controlling fact is that the stockholder has received nothing out of the
company's assets for his separate use and benefit; on the contrary, every dollar of his
original investment, together with whatever accretions and accumulations have resulted
from employment of his money and that of the other stockholders in the business of the
company, still remains the property of the company, and subject to business risks which
may result in wiping out the entire investment. Having regard to the very truth of the
matter, to substance and not to form, he has received nothing that answers the
definition of income within the meaning of the Sixteenth Amendment.
Being concerned only with the true character and effect of such a dividend when
lawfully made, we lay aside the question whether, in a particular case, a stock dividend
may be authorized by the local law governing the corporation, or whether the
capitalization of profits may be the result of correct judgment and proper business policy

on the part of its management, and a due regard for the interests of the stockholders.
And we are considering the taxability of bona fide stock dividends only.
Page 252 U. S. 212
We are clear that not only does a stock dividend really take nothing from the property of
the corporation and add nothing to that of the shareholder, but that the antecedent
accumulation of profits evidenced thereby, while indicating that the shareholder is the
richer because of an increase of his capital, at the same time shows he has not realized
or received any income in the transaction.
It is said that a stockholder may sell the new shares acquired in the stock dividend, and
so he may, if he can find a buyer. It is equally true that, if he does sell, and in doing so
realizes a profit, such profit, like any other, is income, and, so far as it may have arisen
since the Sixteenth Amendment, is taxable by Congress without apportionment. The
same would be true were he to sell some of his original shares at a profit. But if a
shareholder sells dividend stock, he necessarily disposes of a part of his capital
interest, just as if he should sell a part of his old stock, either before or after the
dividend. What he retains no longer entitles him to the same proportion of future
dividends as before the sale. His part in the control of the company likewise is
diminished. Thus, if one holding $60,000 out of a total $100,000 of the capital stock of a
corporation should receive in common with other stockholders a 50 percent stock
dividend, and should sell his part, he thereby would be reduced from a majority to a
minority stockholder, having six-fifteenths instead of six-tenths of the total stock
outstanding. A corresponding and proportionate decrease in capital interest and in
voting power would befall a minority holder should he sell dividend stock, it being in the
nature of things impossible for one to dispose of any part of such an issue without a
proportionate disturbance of the distribution of the entire capital stock and a like
diminution of the seller's comparative voting power -- that "right preservative of rights" in
the control of a corporation.
Page 252 U. S. 213
Yet, without selling, the shareholder, unless possessed of other resources, has not the
wherewithal to pay an income tax upon the dividend stock. Nothing could more clearly
show that to tax a stock dividend is to tax a capital increase, and not income, than this
demonstration that, in the nature of things, it requires conversion of capital in order to
pay the tax.
Throughout the argument of the government, in a variety of forms, runs the fundamental
error already mentioned -- a failure to appraise correctly the force of the term "income"
as used in the Sixteenth Amendment, or at least to give practical effect to it. Thus, the
government contends that the tax "is levied on income derived from corporate
earnings," when in truth the stockholder has "derived" nothing except paper certificates,
which, so far as they have any effect, deny him present participation in such earnings. It
contends that the tax may be laid when earnings "are received by the stockholder,"
whereas he has received none; that the profits are "distributed by means of a stock
dividend," although a stock dividend distributes no profits; that, under the Act of 1916,
"the tax is on the stockholder's share in corporate earnings," when in truth a stockholder
has no such share, and receives none in a stock dividend; that "the profits are
segregated from his former capital, and he has a separate certificate representing his
invested profits or gains," whereas there has been no segregation of profits, nor has he
any separate certificate representing a personal gain, since the certificates, new and
old, are alike in what they represent -- a capital interest in the entire concerns of the
corporation.
We have no doubt of the power or duty of a court to look through the form of the
corporation and determine the question of the stockholder's right in order to ascertain
17
whether he has received income taxable by Congress without apportionment. But,
looking through the form,
Page 252 U. S. 214
we cannot disregard the essential truth disclosed, ignore the substantial difference
between corporation and stockholder, treat the entire organization as unreal, look upon
stockholders as partners when they are not such, treat them as having in equity a right
to a partition of the corporate assets when they have none, and indulge the fiction that
they have received and realized a share of the profits of the company which in truth
they have neither received nor realized. We must treat the corporation as a substantial
entity separate from the stockholder not only because such is the practical fact, but
because it is only by recognizing such separateness that any dividend -- even one paid
in money or property -- can be regarded as income of the stockholder. Did we regard
corporation and stockholders as altogether identical, there would be no income except
as the corporation acquired it, and while this would be taxable against the corporation
as income under appropriate provisions of law, the individual stockholders could not be
separately and additionally taxed with respect to their several shares even when
divided, since, if there were entire identity between them and the company, they could
not be regarded as receiving anything from it, any more than if one's money were to be
removed from one pocket to another.
Conceding that the mere issue of a stock dividend makes the recipient no richer than
before, the government nevertheless contends that the new certificates measure the
extent to which the gains accumulated by the corporation have made him the richer.
There are two insuperable difficulties with this. In the first place, it would depend upon
how long he had held the stock whether the stock dividend indicated the extent to which
he had been enriched by the operations of the company; unless he had held it
throughout such operations, the measure would not hold true. Secondly, and more
important for present purposes, enrichment through increase in value
Page 252 U. S. 215
of capital investment is not income in any proper meaning of the term.
The complaint contains averments respecting the market prices of stock such as
plaintiff held, based upon sales before and after the stock dividend, tending to show that
the receipt of the additional shares did not substantially change the market value of her
entire holdings. This tends to show that, in this instance, market quotations reflected
intrinsic values -- a thing they do not always do. But we regard the market prices of the
securities as an unsafe criterion in an inquiry such as the present, when the question
must be not what will the thing sell for, but what is it in truth and in essence.
It is said there is no difference in principle between a simple stock dividend and a case
where stockholders use money received as cash dividends to purchase additional stock
contemporaneously issued by the corporation. But an actual cash dividend, with a real
option to the stockholder either to keep the money for his own or to reinvest it in new
shares, would be as far removed as possible from a true stock dividend, such as the
one we have under consideration, where nothing of value is taken from the company's
assets and transferred to the individual ownership of the several stockholders and
thereby subjected to their disposal.
The government's reliance upon the supposed analogy between a dividend of the
corporation's own shares and one made by distributing shares owned by it in the stock
of another company calls for no comment beyond the statement that the latter
distributes assets of the company among the shareholders, while the former does not,
and for no citation of authority except Peabody v. Eisner, 247 U. S. 347, 247 U. S. 349-
350.
Two recent decisions, proceeding from courts of high jurisdiction, are cited in support of
the position of the government.

Page 252 U. S. 216
Swan Brewery Co., Ltd. v. Rex, [1914] A.C. 231, arose under the Dividend Duties Act of
Western Australia, which provided that "dividend" should include "every dividend, profit,
advantage, or gain intended to be paid or credited to or distributed among any
members or directors of any company," except, etc. There was a stock dividend, the
new shares being allotted among the shareholders pro rata, and the question was
whether this was a distribution of a dividend within the meaning of the act. The Judicial
Committee of the Privy Council sustained the dividend duty upon the ground that,
although "in ordinary language the new shares would not be called a dividend, nor
would the allotment of them be a distribution of a dividend," yet, within the meaning of
the act, such new shares were an "advantage" to the recipients. There being no
constitutional restriction upon the action of the lawmaking body, the case presented
merely a question of statutory construction, and manifestly the decision is not a
precedent for the guidance of this Court when acting under a duty to test an act of
Congress by the limitations of a written Constitution having superior force.
In Tax Commissioner v. Putnam, (1917) 227 Mass. 522, it was held that the Forty-
Fourth amendment to the Constitution of Massachusetts, which conferred upon the
legislature full power to tax incomes, "must be interpreted as including every item which
by any reasonable understanding can fairly be regarded as income" (pp. 526, 531), and
that under it, a stock dividend was taxable as income, the court saying (p. 535):
"In essence, the thing which has been done is to distribute a symbol representing an
accumulation of profits, which, instead of being paid out in cash, is invested in the
business, thus augmenting its durable assets. In this aspect of the case, the substance
of the transaction is no different from what it would be if a cash dividend had been
declared with the privilege of subscription to an equivalent amount of new shares. "
Page 252 U. S. 217
We cannot accept this reasoning. Evidently, in order to give a sufficiently broad sweep
to the new taxing provision, it was deemed necessary to take the symbol for the
substance, accumulation for distribution, capital accretion for its opposite, while a case
where money is paid into the hand of the stockholder with an option to buy new shares
with it, followed by acceptance of the option, was regarded as identical in substance
with a case where the stockholder receives no money and has no option. The
Massachusetts court was not under an obligation, like the one which binds us, of
applying a constitutional amendment in the light of other constitutional provisions that
stand in the way of extending it by construction.
Upon the second argument, the government, recognizing the force of the decision
in Towne v. Eisner, supra,and virtually abandoning the contention that a stock dividend
increases the interest of the stockholder or otherwise enriches him, insisted as an
alternative that, by the true construction of the Act of 1916, the tax is imposed not upon
the stock dividend, but rather upon the stockholder's share of the undivided profits
previously accumulated by the corporation, the tax being levied as a matter of
convenience at the time such profits become manifest through the stock dividend. If so
construed, would the act be constitutional?
That Congress has power to tax shareholders upon their property interests in the stock
of corporations is beyond question, and that such interests might be valued in view of
the condition of the company, including its accumulated and undivided profits, is equally
clear. But that this would be taxation of property because of ownership, and hence
would require apportionment under the provisions of the Constitution, is settled beyond
peradventure by previous decisions of this Court.
The government relies upon Collector v. Hubbard, (1870)
Page 252 U. S. 218
18
12 Wall. 1, which arose under § 117 of the Act of June 30, 1864, c. 173, 13 Stat. 223,
282, providing that
"The gains and profits of all companies, whether incorporated or partnership, other than
the companies specified in that section, shall be included in estimating the annual
gains, profits, or income of any person, entitled to the same, whether divided or
otherwise."
The court held an individual taxable upon his proportion of the earnings of a corporation
although not declared as dividends and although invested in assets not in their nature
divisible. Conceding that the stockholder for certain purposes had no title prior to
dividend declared, the court nevertheless said (p. 79 U. S. 18):
"Grant all that, still it is true that the owner of a share of stock in a corporation holds the
share with all its incidents, and that among those incidents is the right to receive all
future dividends -- that is, his proportional share of all profits not then divided. Profits
are incident to the share to which the owner at once becomes entitled provided he
remains a member of the corporation until a dividend is made. Regarded as an incident
to the shares, undivided profits are property of the shareholder, and as such are the
proper subject of sale, gift, or devise. Undivided profits invested in real estate,
machinery, or raw material for the purpose of being manufactured are investments in
which the stockholders are interested, and when such profits are actually appropriated
to the payment of the debts of the corporation, they serve to increase the market value
of the shares, whether held by the original subscribers or by assignees."
Insofar as this seems to uphold the right of Congress to tax without apportionment a
stockholder's interest in accumulated earnings prior to dividend declared, it must be
regarded as overruled by Pollock v. Farmers' Loan & Trust Co., 158 U. S. 601, 158 U.
S. 627-628, 158 U. S. 637. Conceding Collector v. Hubbard was inconsistent with the
doctrine of that case, because it sustained a direct tax upon property not apportioned
Page 252 U. S. 219
among the states, the government nevertheless insists that the sixteenth Amendment
removed this obstacle, so that now the Hubbard case is authority for the power of
Congress to levy a tax on the stockholder's share in the accumulated profits of the
corporation even before division by the declaration of a dividend of any kind. Manifestly
this argument must be rejected, since the amendment applies to income only, and what
is called the stockholder's share in the accumulated profits of the company is capital,
not income. As we have pointed out, a stockholder has no individual share in
accumulated profits, nor in any particular part of the assets of the corporation, prior to
dividend declared.
Thus, from every point of view, we are brought irresistibly to the conclusion that neither
under the Sixteenth Amendment nor otherwise has Congress power to tax without
apportionment a true stock dividend made lawfully and in good faith, or the
accumulated profits behind it, as income of the stockholder. The Revenue Act of 1916,
insofar as it imposes a tax upon the stockholder because of such dividend, contravenes
the provisions of Article I, § 2, cl. 3, and Article I, § 9, cl. 4, of the Constitution, and to
this extent is invalid notwithstanding the Sixteenth Amendment.
Judgment affirmed.
2. Claim of right doctrine or doctrine of ownership, command, or
control
3. Economic benefit test/Doctrine of proprietary interest
4. Severance test
5. All events test

III. Kinds of Taxpayers
A. Individual taxpayers
1. Citizens
a. Resident citizens (RC) (23A, 24A1a, NIRC)
b. Non-resident citizens (NRC) (22E, 23C, 24A1b, NIRC)
CHAPTER II
GENERAL PRINCIPLES
SEC. 23. General Principles of Income Taxation in the Philippines. - Except
when otherwise provided in this Code:
(A) A citizen of the Philippines residing therein is taxable on all income derived from
sources within and without the Philippines;
(B) A nonresident citizen is taxable only on income derived from sources within the
Philippines;
(C) An individual citizen of the Philippines who is working and deriving income from
abroad as an overseas contract worker is taxable only on income derived from
sources within the Philippines: Provided, That a seaman who is a citizen of the
Philippines and who receives compensation for services rendered abroad as a
member of the complement of a vessel engaged exclusively in international trade
shall be treated as an overseas contract worker;
(D) An alien individual, whether a resident or not of the Philippines, is taxable only
on income derived from sources within the Philippines;
(E) A domestic corporation is taxable on all income derived from sources within and
without the Philippines; and
(F) A foreign corporation, whether engaged or not in trade or business in the
Philippines, is taxable only on income derived from sources within the Philippines.
CHAPTER III
TAX ON INDIVIDUALS
SEC. 24. Income Tax Rates. -
(A) Rates of Income Tax on Individual Citizen and Individual Resident Alien of the
Philippines.-
(1) An income tax is hereby imposed:
(a) On the taxable income defined in Section 31 of this Code, other than income
subject to tax under Subsections (B), (C) and (D) of this Section, derived for each
taxable year from all sources within and without the Philippines be every individual
citizen of the Philippines residing therein;
(b) On the taxable income defined in Section 31 of this Code, other than income
subject to tax under Subsections (B), (C) and (D) of this Section, derived for each
taxable year from all sources within the Philippines by an individual citizen of the
Philippines who is residing outside of the Philippines including overseas contract
workers referred to in Subsection(C) of Section 23 hereof; and
TITLE II
TAX ON INCOME
(As Last Amended by RA No. 10653) [5]
CHAPTER I- DEFINITIONS
SEC. 22. Definitions. - When used in this Title:
(E) The term 'nonresident citizen' means;
(1) A citizen of the Philippines who establishes to the satisfaction of the
Commissioner the fact of his physical presence abroad with a definite intention to
reside therein.
19
(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 a 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 as nonresident citizen and who
arrives in the Philippines at any time during the taxable year to reside permanently in
the Philippines shall likewise be treated as a nonresident citizen for the taxable year
in which he arrives in the Philippines with respect to his income derived from sources
abroad until the date of his arrival in the Philippines.
(5) The taxpayer shall submit proof to the Commissioner to show his intention of
leaving the Philippines to reside permanently abroad or to return to and reside in the
Philippines as the case may be for purpose of this Section.
2. Aliens
a. Resident aliens (RA) (22F, NIRC)
b. Non-resident aliens (NRA)
i. NRA engaged in trade or business in the PH
(NRA-ETB) (180-day Test) (25A1, NIRC)
ii. NRA not engaged in trade or business in the PH
(NRA-NETB) (25B, NIRC)
c. Special class of individual employees
i. Aliens employed by RHQs, AHQs, ROHQs of
MNC’s (22DD, 22EE, 25C, NIRC; RR11-2010)
ii. Aliens employed by OBUs (25D, NIRC)
iii. Aliens employed by petroleum service
contractors, subcontractors (25, NIRC)
NIRC
TITLE II
TAX ON INCOME
(As Last Amended by RA No. 10653) [5]
CHAPTER I- DEFINITIONS
SEC. 22. Definitions. - When used in this Title:
(F) The term 'resident alien' means an individual whose residence is within the
Philippines and who is not a citizen thereof.
(DD) The term 'regional or area headquarters' shall mean a branch established in
the Philippines by multinational companies and which headquarters do not earn or
derive income from the Philippines and which act as supervisory, communications
and coordinating center for their affiliates, subsidiaries, or branches in the Asia-
Pacific Region and other foreign markets.
(EE) The term 'regional operating headquarters' shall mean a branch established
in the Philippines by multinational companies which are engaged in any of the
following services: general administration and planning; business planning and
coordination; sourcing and procurement of raw materials and components; corporate
finance advisory services; marketing control and sales promotion; training and
personnel management; logistic services; research and development services and
product development; technical support and maintenance; data processing and
communications; and business development.
SEC. 25. Tax on Nonresident Alien Individual. -

(A) Nonresident Alien Engaged in trade or Business Within the Philippines. -
(1) In General. - A nonresident alien individual engaged in trade or business in the
Philippines shall be subject to an income tax in the same manner as an individual
citizen and a resident alien individual, on taxable income received from all sources
within the Philippines. A nonresident alien individual who shall come to the
Philippines and stay therein for an aggregate period of more than one hundred
eighty (180) days during any calendar year shall be deemed a 'nonresident alien
doing business in the Philippines'. Section 22 (G) of this Code notwithstanding.
(2) Cash and/or Property Dividends from a Domestic Corporation or Joint
Stock Company, or Insurance or Mutual Fund Company or Regional Operating
Headquarter or Multinational Company, or Share in the Distributable Net
Income of a Partnership (Except a General Professional Partnership), Joint
Account, Joint Venture Taxable as a Corporation or Association., Interests,
Royalties, Prizes, and Other Winnings. - Cash and/or property dividends from a
domestic corporation, or from a joint stock company, or from an insurance or mutual
fund company or from a regional operating headquarter of multinational company, or
the share of a nonresident alien individual in the distributable net income after tax of
a partnership (except a general professional partnership) of which he is a partner, or
the share of a nonresident alien individual in the net income after tax of an
association, a joint account, or a joint venture taxable as a corporation of which he is
a member or a co-venturer; interests; royalties (in any form); and prizes (except
prizes amounting to Ten thousand pesos (P10,000) or less which shall be subject to
tax under Subsection (B)(1) of Section 24) and other winnings (except Philippine
Charity Sweepstakes and Lotto winnings); shall be subject to an income tax of
twenty percent (20%) on the total amount thereof: Provided, however, that royalties
on books as well as other literary works, and royalties on musical compositions shall
be subject to a final tax of ten percent (10%) on the total amount thereof: Provided,
further, That cinematographic films and similar works shall be subject to the tax
provided under Section 28 of this Code: Provided, furthermore, That interest income
from long-term deposit or investment in the form of savings, common or individual
trust funds, deposit substitutes, investment management accounts and other
investments evidenced by certificates in such form prescribed by the Bangko Sentral
ng Pilipinas (BSP) shall be exempt from the tax imposed under this Subsection:
Provided, finally, that should the holder of the certificate pre-terminate the deposit or
investment before the fifth (5th) year, a final tax shall be imposed on the entire
income and shall be deducted and withheld by the depository bank from the
proceeds of the long-term deposit or investment certificate based on the remaining
maturity thereof:
Four (4) years to less than five (5) years - 5%;
Three (3) years to less than four (4) years - 12%; and
Less than three (3) years - 20%.
(3) Capital Gains. - Capital gains realized from sale, barter or exchange of shares of
stock in domestic corporations not traded through the local stock exchange, and real
properties shall be subject to the tax prescribed under Subsections (C) and (D) of
Section 24.
(B) Nonresident Alien Individual Not Engaged in Trade or Business Within the
Philippines. - There shall be levied, collected and paid for each taxable year upon
the entire income received from all sources within the Philippines by every
nonresident alien individual not engaged in trade or business within the Philippines
as interest, cash and/or property dividends, rents, salaries, wages, premiums,
annuities, compensation, remuneration, emoluments, or other fixed or determinable
annual or periodic or casual gains, profits, and income, and capital gains, a tax equal
20
to twenty-five percent (25%) of such income. Capital gains realized by a nonresident
alien individual not engaged in trade or business in the Philippines from the sale of
shares of stock in any domestic corporation and real property shall be subject to the
income tax prescribed under Subsections (C) and (D) of Section 24.
(C) Alien Individual Employed by Regional or Area Headquarters and Regional
Operating Headquarters of Multinational Companies. - There shall be levied,
collected and paid for each taxable year upon the gross income received by every
alien individual employed by regional or area headquarters and regional operating
headquarters established in the Philippines by multinational companies as salaries,
wages, annuities, compensation, remuneration and other emoluments, such as
honoraria and allowances, from such regional or area headquarters and regional
operating headquarters, a tax equal to fifteen percent (15%) of such gross income:
Provided, however, That the same tax treatment shall apply to Filipinos employed
and occupying the same position as those of aliens employed by these multinational
companies. For purposes of this Chapter, the term 'multinational company' means
a foreign firm or entity engaged in international trade with affiliates or subsidiaries or
branch offices in the Asia-Pacific Region and other foreign markets.
(D) Alien Individual Employed by Offshore Banking Units. - There shall be
levied, collected and paid for each taxable year upon the gross income received by
every alien individual employed by offshore banking units established in the
Philippines as salaries, wages, annuities, compensation, remuneration and other
emoluments, such as honoraria and allowances, from such off-shore banking units, a
tax equal to fifteen percent (15%) of such gross income: Provided, however, That the
same tax treatment shall apply to Filipinos employed and occupying the same
positions as those of aliens employed by these offshore banking units.
(E) Alien Individual Employed by Petroleum Service Contractor and
Subcontractor. [14] - An Alien individual who is a permanent resident of a foreign
country but who is employed and assigned in the Philippines by a foreign service
contractor or by a foreign service subcontractor engaged in petroleum operations in
the Philippines shall be liable to a tax of fifteen percent (15%) of the salaries, wages,
annuities, compensation, remuneration and other emoluments, such as honoraria
and allowances, received from such contractor or subcontractor: Provided, however,
That the same tax treatment shall apply to a Filipino employed and occupying the
same position as an alien employed by petroleum service contractor and
subcontractor.
Any income earned from all other sources within the Philippines by the alien
employees referred to under Subsections (C), (D) and (E) hereof shall be subject to
the pertinent income tax, as the case may be, imposed under this Code.
RR 11-2010 PDF
3. Estates and Trusts (60-66, NIRC)
CHAPTER X
ESTATES AND TRUSTS
SEC. 60. Imposition of Tax. -
(A) Application of Tax. - The tax imposed by this Title upon individuals shall apply
to the income of estates or of any kind of property held in trust, including:
(1) Income accumulated in trust for the benefit of unborn or unascertained person or
persons with contingent interests, and income accumulated or held for future
distribution under the terms of the will or trust;

(2) Income which is to be distributed currently by the fiduciary to the beneficiaries,
and income collected by a guardian of an infant which is to be held or distributed as
the court may direct;
(3) Income received by estates of deceased persons during the period of
administration or settlement of the estate; and
(4) Income which, in the discretion of the fiduciary, may be either distributed to the
beneficiaries or accumulated.
(B) Exception. - The tax imposed by this Title shall not apply to employee's trust
which forms part of a pension, stock bonus or profit-sharing plan of an employer for
the benefit of some or all of his employees (1) if contributions are made to the trust
by such employer, or employees, or both for the purpose of distributing to such
employees the earnings and principal of the fund accumulated by the trust in
accordance with such plan, and (2) if under the trust instrument it is impossible, at
any time prior to the satisfaction of all liabilities with respect to employees under the
trust, for any part of the corpus or income to be (within the taxable year or thereafter)
used for, or diverted to, purposes other than for the exclusive benefit of his
employees: Provided, That any amount actually distributed to any employee or
distributee shall be taxable to him in the year in which so distributed to the extent
that it exceeds the amount contributed by such employee or distributee.
(C) Computation and Payment. -
(1) In General. - The tax shall be computed upon the taxable income of the estate or
trust and shall be paid by the fiduciary, except as provided in Section 63 (relating to
revocable trusts) and Section 64 (relating to income for the benefit of the grantor).
(2) Consolidation of Income of Two or More Trusts. - Where, in the case of two or
more trusts, the creator of the trust in each instance is the same person, and the
beneficiary in each instance is the same, the taxable income of all the trusts shall be
consolidated and the tax provided in this Section computed on such consolidated
income, and such proportion of said tax shall be assessed and collected from each
trustee which the taxable income of the trust administered by him bears to the
consolidated income of the several trusts.
SEC. 61. Taxable Income. - The taxable income of the estate or trust shall be
computed in the same manner and on the same basis as in the case of an individual,
except that:
(A) There shall be allowed as a deduction in computing the taxable income of the
estate or trust the amount of the income of the estate or trust for the taxable year
which is to be distributed currently by the fiduciary to the beneficiaries, and the
amount of the income collected by a guardian of an infant which is to be held or
distributed as the court may direct, but the amount so allowed as a deduction shall
be included in computing the taxable income of the beneficiaries, whether distributed
to them or not. Any amount allowed as a deduction under this Subsection shall not
be allowed as a deduction under Subsection (B) of this Section in the same or any
succeeding taxable year.
(B) In the case of income received by estates of deceased persons during the period
of administration or settlement of the estate, and in the case of income which, in the
discretion of the fiduciary, may be either distributed to the beneficiary or
accumulated, there shall be allowed as an additional deduction in computing the
taxable income of the estate or trust the amount of the income of the estate or trust
for its taxable year, which is properly paid or credited during such year to any
legatee, heir or beneficiary but the amount so allowed as a deduction shall be
included in computing the taxable income of the legatee, heir or beneficiary.
(C) In the case of a trust administered in a foreign country, the deductions mentioned
in Subsections (A) and (B) of this Section shall not be allowed: Provided, That the
21
amount of any income included in the return of said trust shall not be included in
computing the income of the beneficiaries.
SEC. 62. Exemption Allowed to Estates and Trusts. - For the purpose of the tax
provided for in this Title, there shall be allowed an exemption of Twenty thousand
pesos (P20,000) [39] from the income of the estate or trust.
SEC. 63. Revocable trusts. - Where at any time the power to revest in the grantor
title to any part of the corpus of the trust is vested (1) in the grantor either alone or in
conjunction with any person not having a substantial adverse interest in the
disposition of such part of the corpus or the income therefrom, or (2) in any person
not having a substantial adverse interest in the disposition of such part of the corpus
or the income therefrom, the income of such part of the trust shall be included in
computing the taxable income of the grantor.
SEC. 64. Income for Benefit of Grantor. -
(A) Where any part of the income of a trust (1) is, or in the discretion of the grantor or
of any person not having a substantial adverse interest in the disposition of such part
of the income may be held or accumulated for future distribution to the grantor, or (2)
may, or in the discretion of the grantor or of any person not having a substantial
adverse interest in the disposition of such part of the income, be distributed to the
grantor, or (3) is, or in the discretion of the grantor or of any person not having a
substantial adverse interest in the disposition of such part of the income may be
applied to the payment of premiums upon policies of insurance on the life of the
grantor, such part of the income of the trust shall be included in computing the
taxable income of the grantor. `
(B) As used in this Section, the term 'in the discretion of the grantor' means in the
discretion of the grantor, either alone or in conjunction with any person not having a
substantial adverse interest in the disposition of the part of the income in question.
SEC. 65. Fiduciary Returns. - Guardians, trustees, executors, administrators,
receivers, conservators and all persons or corporations, acting in any fiduciary
capacity, shall render, in duplicate, a return of the income of the person, trust or
estate for whom or which they act, and be subject to all the provisions of this Title,
which apply to individuals in case such person, estate or trust has a gross income of
Twenty thousand pesos (P20,000) [40] or over during the taxable year. Such fiduciary
or person filing the return for him or it, shall take oath that he has sufficient
knowledge of the affairs of such person, trust or estate to enable him to make such
return and that the same is, to the best of his knowledge and belief, true and correct,
and be subject to all the provisions of this Title which apply to individuals: Provided,
That a return made by or for one or two or more joint fiduciaries filed in the province
where such fiduciaries reside; under such rules and regulations as the Secretary of
Finance, upon recommendation of the Commissioner, shall prescribe, shall be a
sufficient compliance with the requirements of this Section.
SEC. 66. Fiduciaries Indemnified Against Claims for Taxes Paid. - Trustees,
executors, administrators and other fiduciaries are indemnified against the claims or
demands of every beneficiary for all payments of taxes which they shall be required
to make under the provisions of this Title, and they shall have credit for the amount
of such payments against the beneficiary or principal in any accounting which they
make as such trustees or other fiduciaries.
4. Co-ownerships
5. General professional partnerships (26, NIRC)
SEC. 26. Tax Liability of Members of General Professional Partnerships. - A
general professional partnership as such shall not be subject to the income tax

imposed under this Chapter. Persons engaging in business as partners in a general
professional partnership shall be liable for income tax only in their separate and
individual capacities.
For purposes of computing the distributive share of the partners, the net income of
the partnership shall be computed in the same manner as a corporation.
Each partner shall report as gross income his distributive share, actually or
constructively received, in the net income of the partnership.
B. Corporations
1. Domestic corporation, defined (22B, 22C, NIRC)
2. Taxable partnership or business partnership (73D, NIRC)
3. Joint venture
a. Exempt JV (RR 10-2012)
b. Taxable JV
4. Foreign corporations
a. Resident foreign corporations (RFC) (22H, NIRC)
b. Non-residential foreign corporation (22I, NIRC)
c. Subsidiary v branch of a foreign corporation
TITLE II
TAX ON INCOME
(As Last Amended by RA No. 10653) [5]
CHAPTER I- DEFINITIONS
SEC. 22. Definitions. - When used in this Title:
(A) The term 'person' means an individual, a trust, estate or corporation.
(B) The term 'corporation' shall include partnerships, no matter how created or
organized, joint-stock companies, joint accounts (cuentas en participacion),
association, or insurance companies, but does not include general professional
partnerships and a joint venture or consortium formed for the purpose of undertaking
construction projects or engaging in petroleum, coal, geothermal and other energy
operations pursuant to an operating consortium agreement under a service contract
with the Government. 'General professional partnerships' are partnerships formed
by persons for the sole purpose of exercising their common profession, no part of the
income of which is derived from engaging in any trade or business.
(C) The term 'domestic', when applied to a corporation, means created or organized
in the Philippines or under its laws.
(H) The term 'resident foreign corporation' applies to a foreign corporation
engaged in trade or business within the Philippines.
(I) The term 'nonresident foreign corporation' applies to a foreign corporation not
engaged in trade or business within the Philippines.
SEC. 73. Distribution of Dividends or Assets by Corporations. -
(A) Definition of Dividends. - The term 'dividends' when used in this Title means
any distribution made by a corporation to its shareholders out of its earnings or
profits and payable to its shareholders, whether in money or in other property.
Where a corporation distributes all of its assets in complete liquidation or dissolution,
the gain realized or loss sustained by the stockholder, whether individual or
corporate, is a taxable income or a deductible loss, as the case may be.
(B) Stock Dividend. - A stock dividend representing the transfer of surplus to capital
account shall not be subject to tax. However, if a corporation cancels or redeems
stock issued as a dividend at such time and in such manner as to make the
distribution and cancellation or redemption, in whole or in part, essentially equivalent
to the distribution of a taxable dividend, the amount so distributed in redemption or
22
cancellation of the stock shall be considered as taxable income to the extent that it
represents a distribution of earnings or profits.
(C) Dividends Distributed are Deemed Made from Most Recently Accumulated
Profits. - Any distribution made to the shareholders or members of a corporation
shall be deemed to have been made from the most recently accumulated profits or
surplus, and shall constitute a part of the annual income of the distributee for the
year in which received.
(D) Net Income of a Partnership Deemed Constructively Received by
Partners. - The taxable income declared by a partnership for a taxable year which is
subject to tax under Section 27 (A) of this Code, after deducting the corporate
income tax imposed therein, shall be deemed to have been actually or constructively
received by the partners in the same taxable year and shall be taxed to them in their
individual capacity, whether actually distributed or not.
RR 10-2012 PDF
IV. GROSS INCOME
A. Gross Income Defined (32A, NIRC)
CHAPTER VI
COMPUTATION OF GROSS INCOME
SEC. 32. Gross Income. -
(A) General Definition. - Except when otherwise provided in this Title, gross income
means all income derived from whatever source, including (but not limited to) the
following items:
(1) Compensation for services in whatever form paid, including, but not limited to
fees, salaries, wages, commissions, and similar items;
(2) Gross income derived from the conduct of trade or business or the exercise of a
profession;
(3) Gains derived from dealings in property;
(4) Interests;
(5) Rents;
(6) Royalties;
(7) Dividends;
(8) Annuities;
(9) Prizes and winnings;
(10) Pensions; and
(11) Partner's distributive share from the net income of the general professional
partnership.
B. Gross Income v Net Income v Taxable Income (31, NIRC)
CHAPTER V
COMPUTATION OF TAXABLE INCOME
SEC. 31. Taxable Income Defined. -The term 'taxable income' [28] 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.
*Taxable income = GI – deductions AND/OR personal and additional exemptions
C. Sources of Income Subject to Tax
1. Compensation Income (32A, 32I, NIRC; 2.78, rr 2-98)
 23

CHAPTER VI 1950:
COMPUTATION OF GROSS INCOME Net Income P34,815.74
SEC. 32. Gross Income. - .......................................................
(A) General Definition. - Except when otherwise provided in this Title, gross income
means all income derived from whatever source, including (but not limited to) the Less:Personal Exemption .............................. 3,000.00
following items: Amount subject to tax P31,815.74
(1) Compensation for services in whatever form paid, including, but not limited to .......................................
fees, salaries, wages, commissions, and similar items; 1951:
RR 2-98
Net Income P32,605.83
........................................................
SECTION 2.78. Withholding Tax on Compensation. — The withholding of tax on
compensation income is a method of collecting the income tax at source upon Less:Personal Exemption .............................. 3,000.00
receipt of the income. It applies to all employed individuals whether citizens or aliens, Amount subject to tax P29,605.83
deriving income from compensation for services rendered in the Philippines. The .......................................
employer is constituted as the withholding agent. 1952:
1. Collector v Henderson Net Income P36,780.11
.......................................................
G.R. No. L-12954 February 28, 1961 Less:Personal Exemption .............................. 3,000.00
COLLECTOR OF INTERNAL REVENUE, petitioner, Amount subject to tax P33,780.11
vs. .......................................
ARTHUR HENDERSON, respondent. (Exhibits 1, 3, 5, 7, 9, A, F, J, N, R). In due time the taxpayers received from the Bureau
x---------------------------------------------------------x of Internal Revenue assessment notices Nos. 15804-48, 25450-49, 15255-50, 25705-
G.R. No. L-13049 February 28, 1961 51 and 22527-52 and paid the amounts assessed as follows:
ARTHUR HENDERSON, petitioner,
1948:
vs.
COLLECTOR OF INTERNAL REVENUE, respondent. 14 May 1949, O.R. No. 52991, Exhibit B ....……….. P2,068.12
Office of the Solicitor General for petitioner. 12 September 1950, O.R. No. 160473, Exhibit B-1 . 2,068.11
Formilleza & Latorre for respondent. Total Paid ......................................................... P4,136.23
PADILLA, J.:
These are petitioner filed by the Collector of Internal Revenue (G.R. No. L-12954) and 1949:
by Arthur Henderson (G.R. No. L-13049) under the provisions of section 18, Republic 13 May 1950, O.R. No. 232366, Exhibit G ...........… P2,314.95
Act No. 1125, for review of a judgment dated 26 June 1957 and a resolution dated 28 15 September 1950, O.R. No. 247918, Exhibit G-1 . 2,314.94
September 1957 rendered and adopted by the Court of Tax Appeals in Case No. 237.
Total Paid ......................................................... P4,629.89
The spouses Artuhur Henderson and Marie B. Henderson (later referred to as the
taxpayers) filed with the Bureau of Internal Revenue returns of annual net income for 1950:
the years 1948 to 1952, inclusive, where the following net incomes, personal 27 April 1951, O.R. No. 323173, Exhibit K ...………. P7,273.00
exemptions and amounts subject to tax appear: 1951:
1948:
Amount withheld from salary and paid by employer . P5,780.40
Net Income P29,573.79
15 May 1952, O.R. No. 33250, Exhibit O ................. 360.50
.......................................................
15 August 1952, O.R. No. 383318, Exhibit O-1 ..….. 361.20
Less:Personal Exemption .............................. 2,500.00
Total Paid ......................................................... P6,502.10
Amount subject to tax P27,073.79
....................................... 1952:
1949: Amount withheld from salary and paid by employer . P5,660.40
Net Income P31,817.66 18 May 1953, O.R. No. 438026, Exhibit T ..………… 1,160.30
....................................................... 13 August 1953, O.R. No. 443483, Exhibit T-1 ...….. 1,160.30
Less:Personal Exemption .............................. 2,500.00 Total Paid ......................................................... P7,981.00
Amount subject to tax P29,317.66
.......................................
 24

On 28 November 1953, after investigation and verification, the Bureay of Internal Tax due thereon ...............................................................………. P10,296.00
Revenue reassessed the taxpayers'income for the years 1948 to 1952, inclusive, as
Less: tax already paid per OR No. #323173 7,273.00
follows:
1948: Deficiency tax due & assessable .................…………………….. P3,023.00
Net income per return ..................................……………………… P29,573.79
1951:
Add:
Net income per return ..................................……………………… P32,605.83
Rent expense .........................................................…….. 7,200.00
Add: house rental allowance from AIU 5,782.91
Additional bonus for 1947 received May 13, 1948 .……… 6,500.00
Net income per investigation .........................................………... P83,388.74
Other income:
Less: Personal exemption ...............................................……….. 3,000.00
Manager's residential expense (2/29/48 a/c/#4.51) 1,400.00
Amount of income subject to tax ..................................………….. P35,388.74
Manager's residential expense (refer to 1948 P & L) .. 1,849.32
Tax due thereon ...............................................................………. P 8,560.00
Entrance fee — Marikina Gun & Country Club ..…….. 200.00
Less: tax already assessed and paid per O.R. Nos. A33250
Net income per investigation .........................................………... P46,723.11 & 383318 .......................……………………………………… 6,502.00
Less: Personal exemption ...............................................………. 2,500.00 Deficiency tax due .................………………………………………. P2,058.00
Net taxable income ..........................................................……… P44,223.11
Tax due thereon ...............................................................……… P8,562.47 1952:
Less: Amount of tax already paid per OR #52991 & 160473 Net income per return ..................................……………………… P36,780.11
..……………………………………………………… 4,136.23 Add:
Deficiency tax still due & assessable ............................ P4,426.24 Withholding tax paid by company ..................................... 600.00
Travelling allowances ....................................................... 3,247.40
1949:
Allowances for rent, telephone, water, electricity, etc. ..... 7,044.67
Net income per return ..................................……………………… P31,817.66
Net income per investigation .........................................………... P47,672.18
Add: disallowances —
Less: Personal exemption ...............................................……….. 3,000.00
Capital loss (no capital gain) ................... P3,248.84
Net taxable income ..................................………………………… P44,672.18
Undeclared bonus ...................………….. 3,857.75
Tax due thereon ...............................................................………. P12,089.00
Rental allowance from A.I.U. ................... 1,800.00
Less: Tax already withheld P5,660.40
Subsistence allowance from A.I.U. .…….. 6,051.30 14,958.09
Tax already paid per O.R. Nos. #438026, 443484 2,320.60 7,981.00
Net income per investigation .........................................………... P46,775.75
Deficiency tax still due & collectible ...............................………… P4,108.00
Less: Personal exemption ...............................................……….. 2,500.00
(Exhibits 2, 4, 6, 8, 10) and demanded payment of thedeficiency taxes on or before 28
Amount of income subject to tax ..................................…………. 43,275.75 February 1954 with respectto those due for the years 1948, 1949, 1950 and 1952and
Tax due thereon ...............................................................………. P8,292.21 on or before 15 February 1954 with respect to thatdue for the year 1951 (Exhibits B-2,
H, L, P, S).
Less: tax already assessed & paid per OR Nos. 232366 & 247918 4,629.89
In the foregoing assessments, the Bureau of InternalRevenue considered as part of
Deficiency tax due ............................................................………. P3,662.23 their taxable income thetaxpayer-husband's allowances for rental, residential
(Should be) ...................................................................... 3,662.32 expenses,subsistence, water, electricity and telephone; bonuspaid to him; withholding
tax and entrance fee to the Marikinagun and Country Bluc paid by his employer for
1950: hisaccount; and travelling allowance of his wife. On 26 and27 January 1954 the
taxpayers asked for reconsiderationof the foregoing assessment (pp. 29, 31, BIR rec.)
Net income per return ..................................……………………… P34,815.74 andon 11 Februayr 1954 and 28 February 1955 stated thegrounds and reasons in
Add: support of their request for reconsideration (pp. 36-38, 62-66, BIR rec.). The claimthat
Rent, electricity, water allowances .......................……….. 8,373.73 as regards the husband-taxpayer's allowances forrental and utilities such as water,
electricity and telephone,he did not receive the money for said allowances, but thatthey
Net income per investigation .........................................………... P43,189.47
lieved in the apartment furnished and paid for byhis employer for its convenience; that
Less: Personal exemption ...............................................……….. 3,000.00 they had no choicebut live in the said apartment furnished by his employer,otherwise
Net taxable income ..........................................................……….. P40,189.47 they would have lived in a less expensive one;that as regards his allowances for rental

of P7,200 andresidential expenses of P1,400 and P1,849.32 in 1948, rentalof P1,800
and subsistence of P6,051.50 (the latter merelyconsisting of allowances for rent and
utilities such as light,water, telephone, etc.) in 1949 rental, electricity and waterof
P8,373.73 in 1950, rental of P5,782.91 in 1951 and rental,telephone, water, electricity,
etc. of P7,044.67 in 1952, onlythe amount of P3,900 for each year, which is the
amountthey would have spent for rental of an apartment includingutilities, should be
taxed; that as regards the amount ofP200 representing entrance fee to the Marikina
Gun andCountry Club paid for him by his employer in 1948, thesame should not be
considered as part of their income forit was an expense of his employer and his
membershiptherein was merely incidental to his duties of increasingand sustaining the
business of his employer; and that asregards the wife-taxpayer's travelling allowance of
P3,247.40 in 1952, it should not be considered as part of theirincome because she
merely accompanied him in his businesstrip to New York as his secretary and, at the
behestof her husband's employer, to study and look into the detailsof the plans and
decorations of the building intendedto be constructed byn his employer in its property at
DeweyBoulevard. On 15 and 27 February 1954, the taxpayerspaid the deficiency taxes
assessed under Official ReceiptsNos. 451841, 451842, 451843, 451748 and 451844
(ExhibitsC, I, M, Q, and Y). After hearing conducted by theConference Staff of the
Bureau of Internal Revenue on5 October 1954 (pp. 74-85, BIR rec.), on 27 May
1955the Staff recommended to the Collector of Internal Revenuethat the assessments
made on 28 November 1953 (Exhibits2, 4, 6, 8, 10) be sustained except that the
amountof P200 as entrance fee to the Marikina Gun and CountryClub paid for the
husband-taxpayer's account by his employerin 1948 should not be considered as part
of thetaxpayers' taxable income for that year (pp. 95-107, BIRrec.). On 14 July 1955, in
line with the recommendationof the Conference Staff, the Collector of Internal
Revenuedenied the taxpayers' request for reconsideration, exceptas regards the
assessment of their income tax due for theyear 1948, which was modified as follows:
Net income per return P29,573.79
Add: Rent expense 7,200.00
Additional bonus for 1947 received on
May 13, 1948 6,500.00
Manager's residential expense (2/29/48
a/c #4.41) 1,400.00
Manager's residential expense (1948
profit and loss) 1,849.32
Net income per investigation P46,523.11
Less: Personal exemption 2,500.00
Net taxable income P44,023.11
Tax due thereon P 8,506.47
Less; Amount already paid 4,136.23
Deficiency tax still due P 4,370.24
and demanded payment of the deficiency taxes of P4,370.24for 1948, P3,662.23 for
1949, P3,023 for 1950, P2,058 for1951 and P4,108 for 1952, 5% surcharge and 1%
monthlyinterest thereon from 1 March 1954 to the date of paymentand P80 as
administrative penalty for late payment,to the City Treasurer of Manila not later than 31
July1955 (Exhibit 14). On 30 January 1956 the taxpayersagain sought a
reconsideration of the denial of their requestfor reconsideration and offered to settle the
case ona more equitable basis by increasing the amount of thetaxable portion of the
husband-taxpayer's allowances forrental, etc. from P3,000 yearly to P4,800 yearly,
25
which "isthe value to the employee of the benefits he derived therefrommeasured by
what he had saved on account thereof'in the ordinary course of his life ... for which
hewould have spent in any case'". The taxpayers also reiteratedtheir previous stand
regarding the transportationallowance of the wife-taxpayer of P3,247.40 in 1952
andrequested the refund of the amounts of P3,477.18, P569.33,P1,294, P354 and
P2,164, or a total of P7,858.51, (Exhibit Z). On 10 February 1956 the taxpayers again
requestedthe Collector of Internal Revenue to refund to them theamounts allegedly paid
in excess as income taxes for theyears 1948 to 1952, inclusive (Exhibit Z-1). The
Collectorof Internal Revenue did not take any action on the taxpayers'request for
refund.
On 15 February 1956 the taxpayers filed in the Courtof Tax Appeals a petition to review
the decision of theCollector of Internal Revenue (C.T.A. Case No. 237). Afterhearing,
on 26 June 1957 the Court rendered judgmentholding "that the inherent nature of
petitioner's(the husband-taxpayer) employment as president of theAmerican
International Underwriters as president of theAmerican International Underwriters of the
Philippines,Inc. does not require him to occupy the apartments suppliedby his
employer-corporation;" that, however, onlythe amount of P4,800 annually, the ratable
value to him ofthe quarters furnished constitutes a part of taxable income;that since the
taxpayers did not receive any benefitout of the P3,247.40 traveling expense allowance
grantedin 1952 to the wife-taxpayer and that she merely undertookthe trip abroad at the
behest of her husband's employer,the same could not be considered as income;
andthat even if it were considered as such, still it could not besubject to tax because it
was deductible as travel expense;and ordering the Collector of Internal Revenue to
refundto the taxpayers the amount of P5,109.33 with interestfrom 27 February 1954,
without pronouncement as tocosts. The taxpayers filed a motion for
reconsiderationclaiming that the amount of P5,986.61 is the amount refundableto them
because the amounts of P1,400 and P1,849.32 as manager's residential expenses in
1948 shouldnot be included in their taxable net income for the reasonthat they are of
the same nature as the rentals for theapartment, they being mainly expenses for utilities
aslight, water and telephone in the apartment furnished bythe husbant-taxpayer's
employer. The Collector of InternalRevenue filed an opposition to their motion for
reconsideration.He also filed a separate motion for reconsiderationof the decision
claiming that his assessmentunder review was correct and should have been
affirmed.The taxpayers filed an opposition to this motion for reconsiderationof the
Collector of Internal Revenue; thelatter, a reply thereto. On 28 September 1957 the
Courtdenied both motions for reconsideration. On 7 October1957 the Collector of
Internal Revenue filed a notice ofappeal in the Court of Tax Appeals and on 21
October1957, within the extension of time previously granted bythis Court, a petition for
review (G.R. No. L-12954). On29 October 1957 the taxpayers filed a notice of appealin
the Court of Tax Appeals and a petition for review inthis Court (G.R. No. L-13049).
The Collector of Internal Revenue had assigned the followingerrors allegedly committed
by the Court of TaxAppeals:
I. The Court of Tax Appeals erred in finding that theherein respondent did not
have any choice in the selection ofthe living quarters occupied by him.
II. The Court of Tax Appeals erred in not consideringthe fact that respondent is
not a minor company official butthe President of his employer-corporation, in
the appreciationof respondent's alleged lack of choice in the matter of the
selectionof the quarters occupied by him.
III. The Court of Tax Appeals erred in giving full weightand credence to
respondent's allegation, a self-serving and unsupported declaration that the
ratable value to him of the living quarters and subsistence allowance was only
P400.00 a month.

IV. The Court of Tax Appeals erred in holding that only the ratable value of
P4,800.00 per annum, or P400.00 a month constitutes income to respondent.
V. The Court of Tax Appeals erred in arbitrarily fixing the amount of P4,800.00
per annum, or P400.00 a month as the only amount taxable aganst
respondent during the five tax years in question.
VI. The Court of Tax Appeals erred in not finding that travelling allowance in
the amount of P3,247.40 constituted income to respondent and, therefore,
subject to the income tax.
VII. The Court of Tax Appeals erred in ordering the refund of the sum of
P5,109.33 with interest from February 17, 1954. (G.R. No. L-12954.)
The taxpayers have assigned the following errors allegedly committed by the Court of
Tax Appeals:
I. The Court of Tax Appeals erred in its computation of the 1948 income tax
and consequently in the amount that should be refunded for that year.
II. The Court of Tax Appeals erred in denying our motion for reconsideration as
contained in its resolution dated September 28, 1957. (G.R. No. L-13049.)
The Government's appeal:
The Collector of Internal Revenue raises questions of fact. He claims that the evidence
is not sufficient to support the findings and conclusion of the Court of Tax Appeals that
the quarters occupied by the taxpayers were not of their choice but that of the husband-
taxpayer's employer; that it did not take into consideration the fact that the husband-
taxpayer is not a mere minor company official, but the highest executive of his
employer-corporation; and that the wife-taxpayer's trip abroad in 1952 was not, as
found by the Court, a business but a vacation trip. In Collector of Internal Revenue vs.
Aznar, 56, Off. Gaz. 2386, this Court held that in petitions for review under section 18,
Republic Act No. 1125, it may review the findings of fact of the Court of Tax Appeals.
The determination of the main issue in the case requires a review of the evidence. Are
the allowances for rental of the apartment furnished by the husband-taxpayer's
employer-corporation, including utilities such as light, water, telephone, etc. and the
allowance for travel expenses given by his employer-corporation to his wife in 1952 part
of taxable income? Section 29, Commonwealth Act No. 466, National Internal Revenue
Code, provides:
"Gross income" includes gains, profits, and income derived from salaries,
wages, or compensation for personal service of whatever kind and in whatever
form paid, or from professions, vocations, trades, businesses, commerce,
sales, or dealings in property, whether real or personal, growing out of the
ownership or use of or interest in such property; also from interest, rents
dividend, securities, or the transaction of any business carried on for gain or
profit, or gains, profits, and income derived from any source whatever.
(Emphasis ours.)
The Court of Tax Appeals found that the husband-taxpayer "is the president of the
American International Underwriters for the Philippines, Inc., a domestic corporation
engaged in insurance business;" that the taxpayers "entertained officials, guests and
customers of his employer-corporation, in apartments furnished by the latter and
successively occupied by him as president thereof; that "In 1952, petitioner's wife, Mrs.
Marie Henderson, upon request o Mr. C. V. Starr, chairman of the parent corporation of
the American International Underwriters for the Philippines, Inc., undertook a trip to
New York in connection with the purchase of a lot in Dewey Boulevardby petitioner's
employer-corporatio, the construction of a building thereon, the drawing of prospectus
and plans for said building, and other related matters."
Arthur H. Henderson testified that he is the President of American International
Underwriters for the Philippines, Inc., which representa a group of American insurance
26
companies engagad in the business of general insurance except life insurance; that he
receives a basic annual salary of P30,000 and allowance for house rental and utilities
like light, water, telephone, etc.; that he and his wife are childless and are the only two
in the family; that during the years 1948 to 1952, they lived in apartments chosen by his
employer; that from 1948 to the early part of 1950, they lived at the Embassy
Apartments on Dakota Street, Manila, where they had a large sala, three bedrooms,
dining room, two bathrooms, kitchen and a large porch, and from the early part of 1950
to 1952, they lived at the Rosaria Apartments on the same street where they had a
kitchen, sala, dining room two bedrooms and bathroom; that despite the fact that they
were the only two in the family, they had to live in apartments of the size beyond their
personal needs because as president of the corporation, he and his wife had to
entertain and put up houseguests; that during all those years of 1948 to 1952, inclusive,
they entertained and put up houseguests of his company's officials, guests and
customers such as the president of C, V. Starr & Company, Inc., who spent four weeks
in his apartment, Thomas Cocklin, a lawyer from Washington, D.C., and Manuel
Elizalde, a stockholder of AIUPI; that were he not required by his employer to live in
those apartments furnished to him, he and his wife would have chosen an apartment
only large enough for them and spend from P300 to P400 monthly for rental; that of the
allowances granted to him, only the amount of P4,800 annually, the maximum they
would have spent for rental, should be considered as taxable income and the excess
treated as expense of the company; and that the trip to New York undertaken by his
wife in 1952, for which she was granted by his employer-corporation travelling expense
allowance of P3,247.40, was made at the behest of his employer to assist its architect
in the preparation of the plans for a proposed building in Manila and procurement of
supplies and materials for its use, hence the said amount should not be considered as
part of taxable income. In support of his claim, letters written by his wife while in New
York concerning the proposed building, inquiring about the progress made in the
acquisition of the lot, and informing him of the wishes of Mr. C. V. Starr, chairman of the
board of directors of the parent-corporation (Exhibits U-1, U-1-A, V, V-1 and W) and a
letter written by the witness to Mr. C. V. Starr concerning the proposed building
(Exhibits X, X-1) were presented in evidence.
Mrs. Marie Henderson testified that for almost three years, she and her husband gave
parties every Friday night at their apartment for about 18 to 20 people; that their guests
were officials of her husband's employer-corporation and other corporations; that during
those parties movies for the entertainment of the guests were shown after dinner; that
they also entertained during luncheons and breakfasts; that these involved and
necessitated the services of additional servants; and that in 1952 she was asked by Mr.
C. V. Starr to come to New York to take up problems concerning the proposed building
and entertainment because her husband could not make the trip himself, and because
"the woman of the family is closer to those problems."
The evidence presented at the hearing of the case substantially supports the findings of
the Court of Tax Appeals. The taxpayers are childless and are the only two in the
family. The quarters, therefore, that they occupied at the Embassy Apartments
consisting of a large sala, three bedrooms, dining room, two bathrooms, kitchen and a
large porch, and at the Rosaria Apartments consisting of a kitchen, sala dining room,
two bedrooms and a bathroom, exceeded their personal needs. But the exigencies of
the husband-taxpayer's high executive position, not to mention social standing,
demanded and compelled them to live in amore spacious and pretentious quarters like
the ones they had occupied. Although entertaining and putting up houseguests and
guests of the husbnad-taxpayer's employer-corporation were not his predominand
occupation as president, yet he and his wife had to entertain and put up houseguests in
their apartments. That is why his employer-corporation had to grant him allowances for

rental and utilities in addition to his annual basic salary to take care of those extra
expenses for rental and utilities in excess of their personal needs. Hence, the fact that
the taxpayers had to live or did not have to live in the apartments chosen by the
husband-taxpayer's employer-corporation is of no moment, for no part of the
allowances in question redounded to their personal benefit or was retained by them.
Their bills for rental and utilities were paid directly by the employer-corporation to the
creditors (Exhibit AA to DDD, inclusive; pp. 104, 170-193, t.s.n.). Neverthelss, as
correctly held by the Court of Tax Appeals, the taxpayers are entitled only to a ratable
value of the allowances in question, and only the amount of P4,800 annually, the
reasonable amount they would have spent for house rental and utilities such as light,
water, telephone, etc., should be the amount subject to tax, and the excess considered
as expenses of the corporation.
Likewise, the findings of the Court of Tax Appeals that the wife-taxpayer had to make
the trip to New York at the behest of her husband's employer-corporation to help in
drawing up the plans and specificatins of a proposed building, is also supported by the
evidence. The parts of the letters written by the wife-taxpayer to her husband while in
New York and the letter written by the husband-taxpayer to Mr. C. V. Starr support the
said findings (Exhibits U-2, V-1, W-1, X). No part of the allowance for travellking
expenses redounded to the benefit of the taxpayers. Neither was a part thereof retained
by them. The fact that she had herself operated on for tumors while in New York wsa
but incidental to her stay there and she must have merely taken advantage of her
presence in that city to undergo the operation.
The taxpayers' appeal:
The taxpayers claim that the Court of Tax Appeals erred in considering the amounts of
P1,400 and P1,849.32, or a total of P3,249.32, for "manager's residential expense" in
1948 as taxable income despite the fact "that they were of the same nature as the
rentals for the apartment, they being expenses for utilities, such as light, water and
telephone necessarily incidental to the apartment furnished to him by his employer."
Mrs. Crescencia Perez Ramos, an examiner of the Bureau of Internal Revenue who
examined the books of accound of the American International Underwriters for the
Philippines, Inc., testified that he total amount of P3,249.32 was reflected in its books as
"living expenses of Mr. and Mrs. Arthur Henderson in the quarters they occupied in
1948;" and that "the amount of P1,400 was included as manager's residential expense
while the amount of P1,849.32 was entered as profit and loss account."
Buenaventura Loberiza, acting head of the accouting department of the American
International Underwriters for the Philippines, Inc., testified that rentals, utilities, water,
telephone and electric bills of executives of the corporation were entered in the books of
account as "subsistence allowances and expenses;" that there was a separate account
for salaries and wages of employees and officers; and that expenses for rentals and
other utilities were not charged to salary accounts.
The taxpayers' claim is supported by the evidence. The total amount of P3,249.32 "for
manager's residential expense" in 1948 should be treated as rentals for apartments and
utilities and should not form part of the ratable value subject to tax.
The computation made by the taxpayers is correct. Adding to the amount of
P29,573.79, their net income per return, the amount of P6,500, the bonus received in
1948, and P4,800, the taxable ratable value of the allowances, brings up their gross
income to P40,873.79. Deducting therefrom the amount of P2,500 for personal
exemption, the amount of P38,373.79 is the amount subject to income tax. The income
tax due on this amount is P6,957.19 only. Deducting the amount of income tax due,
P6,957.19, from the amount already paid, P8,562.47 (Exhibits B, B-1, C), the amount of
P1,605.28 is the amount refundable to the taxpayers. Add this amount to P563.33,
27
P1,294.00, P354.00 and P2,154.00, refundable to the taxpayers for 1949, 1950, 1951
and 1952 and the total is P5,986.61.
The judgment under review is modified as above indicated. The Collector of Internal
Revenue is ordered to refund to the taxpayers the sum of P5,986.61, without
pronouncement as to costs.
Bengzon, Actg. C.J., Bautista Angelo, Labrador, Concepcion, Reyes, J.B.L., Barrera,
Paredes and Dizon, JJ.,concur.
i. Fringe Benefits (33, NIRC; rr 01-2015)
SEC. 33. Special Treatment of Fringe Benefit. -
(A) Imposition of Tax. - A final tax of thirty-four percent (34%) effective January 1,
1998; thirty-three percent (33%) effective January 1, 1999; and thirty-two percent
(32%) effective January 1, 2000 and thereafter, is hereby imposed on the grossed-
up monetary value of fringe benefit furnished or granted to the employee (except
rank and file employees as defined herein) by the employer, whether an individual or
a corporation (unless the fringe benefit is required by the nature of, or necessary to
the trade, business or profession of the employer, or when the fringe benefit is for
the convenience or advantage of the employer). The tax herein imposed is payable
by the employer which tax shall be paid in the same manner as provided for under
Section 57 (A) of this Code. The grossed-up monetary value of the fringe benefit
shall be determined by dividing the actual monetary value of the fringe benefit by
sixty-six percent (66%) effective January 1, 1998; sixty-seven percent (67%)
effective January 1, 1999; and sixty-eight percent (68%) effective January 1, 2000
and thereafter: Provided, however, That fringe benefit furnished to employees and
taxable under Subsections (B), (C), (D) and (E) of Section 25 shall be taxed at the
applicable rates imposed thereat: Provided, further, That the grossed -up monetary
value of the fringe benefit shall be determined by dividing the actual monetary value
of the fringe benefit by the difference between one hundred percent (100%) and the
applicable rates of income tax under Subsections (B), (C), (D), and (E) of Section 25.
(B) Fringe Benefit Defined. - For purposes of this Section, the term 'fringe benefit'
means any good, service or other benefit furnished or granted in cash or in kind by
an employer to an individual employee (except rank and file employees as defined
herein) such as, but not limited to, 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 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.
(C) Fringe Benefits Not Taxable. - The following fringe benefits are not taxable
under this Section:
(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; and
(4) De minimis benefits as defined in the rules and regulations to be promulgated by
the Secretary of Finance, upon recommendation of the Commissioner.
The Secretary of Finance is hereby authorized to promulgate, upon recommendation
of the Commissioner, such rules and regulations as are necessary to carry out
efficiently and fairly the provisions of this Section, taking into account the peculiar
nature and special need of the trade, business or profession of the employer.
RR 01-2015 PDF
ii. Bonuses, 13th month pay and other benefits unless
exempt under Sec. 32B, NIRC (RA 10653; rr 3-2015)
REPUBLIC ACT No. 10653
AN ACT ADJUSTING THE 13th MONTH PAY AND OTHER BENEFITS CEILING
EXCLUDED FROM THE COMPUTATION OF GROSS INCOME FOR PURPOSES
OF INCOME TAXATION, AMENDING FOR THE PURPOSE SECTION 32(B),
CHAPTER VI OF THE NATIONAL INTERNAL REVENUE CODE OF 1997, AS
AMENDED
Be it enacted by the Senate and House of Representatives of the Philippines in
Congress assembled:
Section 1. Section 32(B), Chapter VI of the National Internal Revenue Code of the
Philippines (Republic Act No. 8424) is hereby amended as follows:
"SEC. 32. Gross Income. —
"x x x
"(B) Exclusions from Gross Income. — The following items shall not be included in
gross income and shall be exempt from taxation under this Title:
"xxx
"(7) Miscellaneous Items. — "xxx
"(e) 13th Month Pay and Other Benefits. — Gross benefits received by officials and
employees of public and private entities: Provided, however, That the total exclusion
under this subparagraph shall not exceed eighty-two thousand pesos (P82,000)
which shall cover:
"xxx
"(iv) Other benefits such as productivity incentives and Christmas
bonus: Provided, That every three (3) years after the effectivity of this Act, the
President of the Philippines shall adjust the amount herein stated to its present value
using the Consumer Price Index (CPI), as published by the National Statistics Office
(NSO)."
RR 3-2015 PDF
iii. Excluded: De minimis Benefits (rr 3-98; rr 10-00; rr 5-08;
rr 10-08; rr 001-15)
May 21, 1998 January 1, 1998
REVENUE REGULATIONS NO. 03-98
SUBJECT : Implementing Section 33 of the National Internal Revenue
Code, as Amended by Republic Act No. 8424 Relative to the Special Treatment of
Fringe Benefits
TO : All Internal Revenue Officers and Others Concerned
Pursuant to Section 244, in relation to Section 33 of the National Internal Revenue
Code of 1997, these Regulations are hereby promulgated to govern the collection at
28
source of the tax on fringe benefits which have been furnished, granted or paid by
the employer beginning January 1, 1998.
SEC. 2.33. SPECIAL TREATMENT OF FRINGE BENEFITS
(A) Imposition of Fringe Benefits Tax — A final withholding tax is hereby imposed
on the grossed-up monetary value of fringe benefit furnished, granted or paid by the
employer to the employee, except rank and file employees as defined in these
Regulations, whether such employer is an individual, professional partnership or a
corporation, regardless of whether the corporation is taxable or not, or the
government and its instrumentalities except when: (1) the fringe benefit is required
by the nature of or necessary to the trade, business or profession of the employer; or
(2) when the fringe benefit is for the convenience or advantage of the employer. The
fringe benefit tax shall be imposed at the following rates:
Effective January 1, 1998 - 34%
Effective January 1, 1999 - 33%
Effective January 1, 2000 - 32%
The tax imposed under Sec. 33 of the Code shall be treated as a final income tax on
the employee which shall be withheld and paid by the employer on a calendar
quarterly basis as provided under Sec. 57 (A) (Withholding of Final Tax on certain
Incomes) and Sec. 58 A (Quarterly Returns and Payments of Taxes Withheld) of the
Code.
The grossed-up monetary value of the fringe benefit shall be determined by dividing
the monetary value of the fringe benefit by the following percentages and in
accordance with the following schedule:
Effective January 1, 1998 - 66%
Effective January 1, 1999 - 67%
Effective January 1, 2000 - 68%
The grossed-up monetary value of the fringe benefit represents the whole amount of
income realized by the employee which includes the net amount of money or net
monetary value of property which has been received plus the amount of fringe
benefit tax thereon otherwise due from the employee but paid by the employer for
and in behalf of his employee, pursuant to the provisions of this Section.
Coverage — These Regulations shall cover only those fringe benefits given or
furnished to managerial or supervisory employees and not to the rank and file.
The term, "RANK AND FILE EMPLOYEES" means all employees who are holding
neither managerial nor supervisory position. The Labor Code of the Philippines, as
amended, defines "managerial employee" as one who is vested with powers or
prerogatives to lay down and execute management policies and/or to hire, transfer,
suspend, lay-off, recall, discharge, assign or discipline employees. "Supervisory
employees" are those who, in the interest of the employer, effectively recommend
such managerial actions if the exercise of such authority is not merely routinary or
clerical in nature but requires the use of independent judgment.
Moreover, these regulations do not cover those benefits properly forming part of
compensation income subject to withholding tax on compensation in accordance
with Revenue Regulations No. 2-98.
Fringe benefits which have been paid prior to January 1, 1998 shall not be covered
by these Regulations.
Determination of the Amount Subject to the Fringe Benefit Tax — In general, the
computation of the fringe benefits tax would entail (a) valuation of the benefit granted
and (b) determination of the proportion or percentage of the benefit which is subject
to the fringe benefit tax. That the Tax Code allows for the cases where only a portion
(i.e. less than 100 per cent) of the fringe benefit is subject to the fringe benefit tax is
clearly stated in Section 33 (a) of R.A. 8424 which stipulates that fringe benefits

which are "required by the nature of, or necessary to the trade, business or
profession of the employer, or when the fringe benefit is for the convenience or
advantage of the employer" are not subject to the fringe benefit tax. Thus, in cases
where the fringe benefits entail joint benefits to the employer and employee, the
portion which shall be subject to the fringe benefits tax and the guidelines for the
valuation of fringe benefits are defined under these rules and regulations.
Unless otherwise provided in these regulations, the valuation of fringe benefits shall
be as follows:
(1) If the fringe benefit is granted in money, or is directly paid for by the
employer, then the value is the amount granted or paid for.
(2) If the fringe benefit is granted or furnished by the employer in property other
than money and ownership is transferred to the employee, then the value of the
fringe benefit shall be equal to the fair market value of the property as determined in
accordance with Sec. 6 (E) of the Code (Authority of the Commissioner to Prescribe
Real Property Values).
(3) If the fringe benefit is granted or furnished by the employer in property other
than money but ownership is not transferred to the employee, the value of the fringe
benefit is equal to the depreciation value of the property.
Taxation of fringe benefit received by a non-resident alien individual who is not
engaged in trade or business in the Philippines — A fringe benefit tax of twenty-five
percent (25%) shall be imposed on the grossed-up monetary value of the fringe
benefit. The said tax base shall be computed by dividing the monetary value of the
fringe benefit by seventy-five per cent (75%).
Taxation of fringe benefit received by (1) an alien individual employed by regional or
area headquarters of a multinational company or by regional operating headquarters
of a multinational company; (2) an alien individual employed by an offshore banking
unit of a foreign bank established in the Philippines; (3) an alien individual employed
by a foreign service contractor or by a foreign service subcontractor engaged in
petroleum operations in the Philippines; and (4) any of their Filipino individual
employees who are employed and occupying the same position as those occupied
or held by the alien employees. — A fringe benefit tax of fifteen per cent (15%) shall
be imposed on the grossed-up monetary value of the fringe benefit. The said tax
base shall be computed by dividing the monetary value of the fringe benefit by
eighty-five per cent (85%).
Taxation of fringe benefit received by employees in special economic zones —
Fringe benefits received by employees in special economic zones, including Clark
Special Economic Zone and Subic Special Economic and Free Trade Zone, are also
covered by these regulations and subject to the normal rate of fringe benefit tax or
the special rates of 25% or 15% as provided above.
(B) Definition of Fringe Benefit — In general, except as otherwise provided under
these regulations, for purposes of this Section, the term "FRINGE BENEFIT" means
any good, service, or other benefit furnished or granted by an employer in cash or in
kind, in addition to basic salaries, to an individual employee (except rank and file
employee as defined in these regulations) such as, but not limited to 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 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;
29
(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.
For this purpose, the guidelines for valuation of specific types of fringe benefits and
the determination of the monetary value of the fringe benefits are give below. The
taxable value shall be the grossed-up monetary value of the fringe benefit.
(1) Housing privilege —
(a) If the employer leases a residential property for the use of his employee and
the said property is the usual place of residence of the employee, the value of the
benefit shall be the amount of rental paid thereon by the employer, as evidenced by
the lease contract. The monetary value of the fringe benefit shall be fifty per cent
(50%) of the value of the benefit.
(b) If the employer owns a residential property and the same is assigned for the
use of his employee as his usual place of residence, the annual value of the benefit
shall be five per cent (5%) of the market value of the land and improvement, as
declared in the Real Property Tax Declaration Form, or zonal value as determined by
the Commissioner pursuant to Section 6(E) of the Code (Authority of the
Commissioner to Prescribe Real Property Values), whichever is higher. The
monetary value of the fringe benefit shall be fifty per cent (50%) of the value of the
benefit. cda
The monetary value of the housing fringe benefit is equivalent to the following:
MV = [5%(FMV or ZONAL VALUE] X 50%
WHERE:
MV = MONETARY VALUE
FMV = FAIR MARKET VALUE
(c) If the employer purchases a residential property on installment basis and
allows his employee to use the same as his usual place of residence, the annual
value of the benefit shall be five per cent (5%) of the acquisition cost, exclusive of
interest. The monetary value of fringe benefit shall be fifty per cent (50%) of the
value of the benefit.
(d) If the employer purchases a residential property and transfers ownership
thereof in the name of the employee, the value of the benefit shall be the employer's
acquisition cost or zonal value as determined by the Commissioner pursuant to
Section 6(E) of the Code (Authority of the Commissioner to Prescribe Real Property
Values), whichever is higher. The monetary value of the fringe benefit shall be the
entire value of the benefit.
(e) If the employer purchases a residential property and transfers ownership
thereof to his employee for the latter's residential use, at a price less than the
employer's acquisition cost, the value of the benefit shall be the difference between
the fair market value, as declared in the Real Property Tax Declaration Form, or
zonal value as determined by the Commissioner pursuant to Sec. 6(E) of the Code
(Authority of the Commissioner to Prescribe Real Property Values), whichever is
higher, and the cost to the employee. The monetary value of the fringe benefit shall
be the entire value of the benefit.
(f) Housing privilege of military officials of the Armed Forces of the Philippines
(AFP) consisting of officials of the Philippine Army, Philippine Navy and Philippine Air
Force shall not be treated as taxable fringe benefit in accordance with the existing
doctrine that the State shall provide its soldiers with necessary quarters which are
within or accessible from the military camp so that they can be readily on call to meet
the exigencies of their military service.

(g) A housing unit which is situated inside or adjacent to the premises of a
business or factory shall not be considered as a taxable fringe benefit. A housing unit
is considered adjacent to the premises of the business if it is located within the
maximum of fifty (50) meters from the perimeter of the business premises.
(h) Temporary housing for an employee who stays in a housing unit for three (3)
months or less shall not be considered a taxable fringe benefit.
(2) Expense account —
(a) In general, expenses incurred by the employee but which are paid by his
employer shall be treated as taxable fringe benefits, except when the expenditures
are duly receipted for and in the name of the employer and the expenditures do not
partake the nature of a personal expense attributable to the employee.
(b) Expenses paid for by the employee but reimbursed by his employer shall be
treated as taxable benefits except only when the expenditures are duly receipted for
and in the name of the employer and the expenditures do not partake the nature of a
personal expense attributable to the said employee.
(c) Personal expenses of the employee (like purchases of groceries for the
personal consumption of the employee and his family members) paid for or
reimbursed by the employer to the employee shall be treated as taxable fringe
benefits of the employee whether or not the same are duly receipted for in the name
of the employer.
(d) Representation and transportation allowances which are fixed in amounts and
are regular received by the employees as part of their monthly compensation income
shall not be treated as taxable fringe benefits but the same shall be considered as
taxable compensation income subject to the tax imposed under Sec. 24 of the Code.
(3) Motor vehicle of any kind —
(a) If the employer purchases the motor vehicle in the name of the employee,
the value of the benefit is the acquisition cost thereof. The monetary value of the
fringe benefit shall be the entire value of the benefit, regardless of whether the motor
vehicle is used by the employee partly for his personal purpose and partly for the
benefit of his employer.
(b) If the employer provides the employee with cash for the purchase of a motor
vehicle, the ownership of which is placed in the name of the employee, the value of
the benefits shall be the amount of cash received by the employee. The monetary
value of the fringe benefit shall be the entire value of the benefit regardless of
whether the motor vehicle is used by the employee partly for his personal purpose
and partly for the benefit of his employer, unless the same was subjected to a
withholding tax as compensation income under Revenue Regulations No. 2-98.
(c) If the employer purchases the car on installment basis, the ownership of
which is placed in the name of the employee, the value of the benefit shall be the
acquisition cost exclusive of interest, divided by five (5) years. The monetary value of
the fringe benefit shall be the entire value of the benefit regardless of whether the
motor vehicle is used by the employee partly for his personal purpose and partly for
the benefit of his employer.
(d) If the employer shoulders a portion of the amount of the purchase price of a
motor vehicle the ownership of which is placed in the name of the employee, the
value of the benefit shall be the amount shouldered by the employer. The monetary
value of the fringe benefit shall be the entire value of the benefit regardless of
whether the motor vehicle is used by the employee partly for his personal purpose
and partly for the benefit of his employer.
(e) If the employer owns and maintains a fleet of motor vehicles for the use of
the business and the employees, the value of the benefit shall be the acquisition cost
of all the motor vehicles not normally used for sales, freight, delivery service and
30
other non-personal used divided by five (5) years. The monetary value of the fringe
benefit shall be fifty per cent (50%) of the value of the benefit.
The monetary value of the motor vehicle fringe benefit is equivalent to the following:
MV = [(A)/5] X 50%
where:
MV = Monetary value
A = acquisition cost
(f) If the employer leases and maintains a fleet of motor vehicles for the use of
the business and the employees, the value of the benefit shall be the amount of
rental payments for motor vehicles not normally used for sales, freight, delivery,
service and other non-personal use. The monetary value of the fringe benefit shall
be fifty per cent (50%) of the value of the benefit.
(g) The use of aircraft (including helicopters) owned and maintained by the
employer shall be treated as business use and not be subject to the fringe benefits
tax.
(h) The use of yacht whether owned and maintained or leased by the employer
shall be treated as taxable fringe benefit. The value of the benefit shall be measured
based on the depreciation of a yacht at an estimated useful life of 20 years.
(4) Household expenses — Expenses of the employee which are borne by the
employer for household personnel, such as salaries of household help, personal
driver of the employee, or other similar personal expenses (like payment for
homeowners association dues, garbage dues, etc.) shall be treated as taxable fringe
benefits.
(5) Interest on loan at less than market rate
(a) If the employer lends money to his employee free of interest or at a rate
lower than twelve per cent (12%), such interest foregone by the employer or the
difference of the interest assumed by the employee and the rate of twelve per cent
(12%) shall be treated as a taxable fringe benefit.
(b) The benchmark interest rate of twelve per cent (12%) shall remain in effect
until revised by a subsequent regulation.
(c) This regulation shall apply to installment payments or loans with interest rate
lower than twelve per cent (12%) starting January 1, 1998.
(6) Membership fees, dues, and other expenses borne by the employer for his
employee, in social and athletic clubs or other similar organizations. — These
expenditures shall be treated as taxable fringe benefits of the employee in full.
(7) Expenses for foreign travel —
(a) Reasonable business expenses which are paid for by the employer for the
foreign travel of his employee for the purpose of attending business meetings or
conventions shall not be treated as taxable fringe benefits. In this instance, inland
travel expenses (such as expenses for food, beverages and local transportation)
except lodging cost in a hotel (or similar establishments) amounting to an average of
US$300.00 or less per day, shall not be subject to a fringe benefit tax. The expenses
should be supported by documents proving the actual occurrences of the meetings
or conventions.
The cost of economy and business class airplane ticket shall not be subject to a
fringe benefit tax. However, 30 percent of the cost of first class airplane ticket shall
be subject to a fringe benefit tax.
(b) In the absence of documentary evidence showing that the employee's travel
abroad was in connection with business meetings or conventions, the entire cost of
the ticket, including cost of hotel accommodations and other expenses incident
thereto shouldered by the employer, shall be treated as taxable fringe benefits. The
business meetings shall be evidenced by official communications from business

associates abroad indicating the purpose of the meetings. Business conventions
shall be evidenced by official invitations/communications from the host organization
or entity abroad. Otherwise, the entire cost thereof shouldered by the employer shall
be treated as taxable fringe benefits of the employee.
(c) Travelling expenses which are paid by the employer for the travel of the
family members of the employee shall be treated as taxable fringe benefits of the
employee.
(8) Holiday and vacation expenses — Holiday and vacation expenses of the
employee borne by his employer shall be treated as taxable fringe benefits.
(9) Educational assistance to the employee or his dependents —
(a) The cost of the educational assistance to the employee which are borne by
the employer shall, in general, be treated as taxable fringe benefit. However, a
scholarship grant to the employee by the employer shall not be treated as taxable
fringe benefit if the education or study involved is directly connected with the
employer's trade, business or profession, and there is a written contract between
them that the employee is under obligation to remain in the employ of the employer
for period of time that they have mutually agreed upon. In this case, the expenditure
shall be treated as incurred for the convenience and furtherance of the employer's
trade or business.
(b) The cost of educational assistance extended by an employer to the
dependents of an employee shall be treated as taxable fringe benefits of the
employee unless the assistance was provided through a competitive scheme under
the scholarship program of the company.
(10) Life or health insurance and other non-life insurance premiums or similar
amounts in excess of what the law allows — The cost of life or health insurance and
other non-life insurance premiums borne by the employer for his employee shall be
treated as taxable fringe benefit, except the following: (a) contributions of the
employer for the benefit of the employee, pursuant to the provisions of existing law,
such as under the Social Security System (SSS), (R.A. No. 8282, as amended) or
under the Government Service Insurance System (GSIS) (R.A. No. 8291), or similar
contributions arising from the provisions of any other existing law; and (b) the cost of
premiums borne by the employer for the group insurance of his employees.
(C) Fringe Benefits Not Subject to Fringe Benefits Tax — In general, the fringe
benefits tax shall not be imposed on the following fringe benefits:
(1) Fringe benefits which are authorized and exempted from income tax under
the Code or under any special law;
(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, whether granted under a collective
bargaining agreement or not;
(4) De minimis benefits as defined in these Regulations;
(5) If the grant of fringe benefits to the employee is required by the nature of, or
necessary to the trade, business or profession of the employer; or
(6) If the grant of the fringe benefit is for the convenience of the employer.
The exemption of any fringe benefit from the fringe benefit tax imposed under this
Section shall not be interpreted to mean exemption from any other income tax
imposed under the Code except if the same is likewise expressly exempt from any
other income tax imposed under the Code or under any other existing law. Thus, if
the fringe benefit is exempted from the fringe benefits tax, the same may, however,
still form part of the employee's gross compensation income which is subject to
income tax, hence, likewise subject to a withholding tax on compensation income
payment.
31
The term "DE MINIMIS" benefits which are exempt from the fringe benefit tax shall,
in general, be limited to facilities or privileges furnished or offered by an employer to
his employees that are of relatively small value and are offered or furnished by the
employer merely as a means of promoting the health, goodwill, contentment, or
efficiency of his employees such as the following:
(1) Monetized unused vacation leave credits of employees not exceeding ten
(10) days during the year;
(2) Medical cash allowance to dependents of employees not exceeding P750
per semester or P125 per month;
(3) Rice subsidy of P350 per month granted by an employer to his employees;
(4) Uniforms given to employees by the employer;
(5) Medical benefits given to the employees by the employer;
(6) Laundry allowance of P150 per month;
(7) Employee achievement awards, e.g. for length of service or safety
achievement, which must be in the form of a tangible personal property other than
cash or gift certificate, with an annual monetary value not exceeding one-half (½)
month of the basic salary of the employee receiving the award under an established
written plan which does not discriminate in favor of highly paid employees; dctai
(8) Christmas and major anniversary celebrations for employees and their
guests;
(9) Company picnics and sports tournaments in the Philippines and are
participated exclusively by employees; and
(10) Flowers, fruits, books or similar items given to employees under special
circumstances, e.g. on account of illness, marriage, birth of a baby, etc
(D) Tax Accounting for the Fringe Benefit Furnished to the Employee and the
Fringe Benefit Tax Due Thereon. — As a general rule, the amount of taxable fringe
benefit and the fringe benefits tax shall constitute allowable deductions from gross
income of the employer. However, if the basis for computation of the fringe benefits
tax is the depreciation value, the zonal value as determined by the Commissioner
pursuant to Section 6(E) of the Code or the fair market value as determined in the
current real property tax declaration of a certain property, only the actual fringe
benefits tax paid shall constitute a deductible expense for the employer. The value of
the fringe benefit shall not be deductible and shall be presumed to have been tacked
on or actually claimed as depreciation expense by the employer.
Provided, however, that if the aforesaid zonal value or fair market value of the said
property is greater than its cost subject to depreciation, the excess amount shall be
allowed as a deduction from the employer's gross income as fringe benefit expense.
Illustrations on fringe benefit furnished or granted by the employer to an employee
(other than a rank-and-file employee)
(1) During the year 1998, ABC Corporation paid for the monthly rental of a
residential house of its branch manager (Mr. Dela Cruz) amounting to P66,000.00.
In this case, the monthly taxable grossed-up monetary value of the said fringe
benefit furnished or granted to its branch manager (Mr. Dela Cruz) shall be
P50,000.00, computed as follows:
Monthly rental for the residential house P66,000.00
Grossed-up monetary benefit granted
(P66,000.00 divided by 66% factor for
calendar year 1998 times 50% taxable portion) P50,000.00
———––––
Fringe benefit tax due thereon (34%) P17,000.00
=========
 32

ABC Corporation shall take up in its books of accounts the P66,000.00 fringe benefit Monthly amortization (P3,000,000.00 divided by
furnished to Mr. Dela Cruz, under account title "Fringe Benefit Expense" and the 15 years divided by 12 months) P16,666.67
amount of 17,000.00 under the account title "Fringe Benefit Tax Expense". The In this case, XYZ Corporation shall take up the foregoing in its books of accounts as
aforesaid amounts shall be fully allowed as deductions from the gross income of follows:
ABC Corporation and shall be taken up in the said employer's books of accounts as Debit: Fringe benefit expense P16,666.67
follows: Debit: Fringe benefit tax P10,732.32
Debit: Fringe Benefit Expense P66,000 Credit: Income constructively realized P16,666.67
Debit: Fringe Benefit Tax Expense P17,000 Credit: Cash/Fringe benefit tax payable P10,732.32
Credit: Cash P83,000 To record fringe benefit and fringe benefit tax expenses and income constructively
To record fringe benefit expense and fringe benefit tax paid on rental of the realized from the use of company-owned residential property furnished to
residential property furnished to Mr. Dela Cruz for his residential use. (Note: If the employees.
fringe benefit expense of P66,000.00 has already accrued but not yet paid, use the REPEALING CLAUSE — All existing rules and regulations or parts thereof which are
account title "fringe benefit payable". If the fringe benefit tax has already accrued but inconsistent with the provisions of these regulations are hereby revoked. LibLex
not yet paid, use the account title "fringe benefit tax payable"). EFFECTIVITY — These regulations shall take effect on fringe benefits furnished,
(2) XYZ Corporation owns a condominium unit. During the year 1998, the said granted or paid beginning January 1, 1998.
corporation furnished and granted the said property for the residential use of its TRANSITORY PROVISIONS — No penalty shall be imposed for late payment of the
Assistant Vice-President. The fair market value of the said property as determined by fringe benefit tax for the first quarter ending March 1998: Provided, however, that the
the Commissioner pursuant to Section 6(E) of the Code amounts P10,000,000.00 withholding tax return for the first quarter shall be filed and the tax is paid not later
while its fair market value as shown in its current Real Property Tax Declaration than July 25, 1998.
amounts to P8,000,000.00. In this case, the higher fair market value of rr 10-00
P10,000,000.00 as determined by the Commissioner shall be used in computing the rr 5-08
monetary of the fringe benefit so furnished or granted to said employee and the rr 10-08
fringe benefit tax due thereon shall be computed as follows: rr 001-15
Monthly rental value of the property
(P10,000,000 times 5% thereof times 50% 2. Income from Business (32A, NIRC)
divided by 12 months) P20,833.33 3. Professional Income (*no ee-er relationship btw client and
Grossed-up monetary value thereof as fringe professional)
benefit (P20,833.33 divided by 66% factor for 4. Income from dealings in property (32A3, NIRC)
calendar year 1998) P31,565.66
Fringe Benefit tax due thereon (34%) P10,732.32 2. Rodriguez v Collector
========= 3. Gonzales v CTA
In general, under this illustration, the XYZ Corporation shall not further claim 4. Gutierrez v CTA
deduction for allowing its Assistant Vice-President the use of its residential property
since the cost for the use thereof has already been recovered as deduction from its G.R. No. L-23041 July 31, 1969
gross income under "Depreciation Expense". However, since the fringe benefit tax in E. RODRIGUEZ, INC., petitioner,
the amount of P10,732.32, assumed and paid by XYZ corporation has not as yet vs.
been recovered by way of deduction from gross income, the same shall be allowed THE COLLECTOR OF INTERNAL REVENUE and THE COURT OF TAX
as a deduction from its gross income. XYZ Corporation shall take up the foregoing in APPEALS, respondents.
its books of accounts, as follows: Tolentino and Garcia and D. R. Cruz for petitioner.
Debit: Fringe Benefit Tax Expense P10,732.32 Office of the Solicitor General Arturo A. Alafriz, Solicitor Alejandro B. Afurong and
Credit: Cash/Fringe Benefit Tax Payable P10,732.32 Special Attorney Salvador D. David for respondents.
To record fringe benefit tax expense for the BARREDO, J.:
residential property furnished to employees. This is a petition for review of the decision of the Court of Tax Appeals in its CTA Case
However, if the cost of the aforesaid condominium unit subject to depreciation No. 849, affirming the decision of the respondent Collector (now Commissioner) of
allowance (example: its acquisition cost is only P7,000,000.00) is lesser that its fair Internal Revenue holding petitioner E. Rodriguez, Inc. liable for deficiency income tax in
market value as determined by the Commissioner (i.e. P10,000,000.00), the excess the sum of P63,880.00 for the year 1950.
amount (i.e. P3,000,000.00) shall be amortized throughout the remaining estimated The records of the case show that on July 17, 1948, Congress enacted Republic Act
useful life of the residential property used in computing the said employer's No. 333, 1 pursuant to which the Republic of the Philippines sued the petitioner, among
depreciation expense and allowed as a deduction from the said employer's gross four other defendants, in Civil Case No. Q-54 of the Court of First Instance of Quezon
income as fringe benefit expense. Thus, if the remaining estimated useful life thereof City, for the expropriation of about 1,360,000 square meters of land owned by it and
during the year 1998 is fifteen (15) years, its monthly amortization shall be computed situated within the area delimited for the new capital city site. After due trial, the said
as follows:

court rendered a decision in the case, dated February 21, 1950, with the following
dispositive portion:
WHEREFORE, judgment is hereby rendered, declaring plaintiff entitled to
retain and appropriate the property involved in this proceeding, as site for the
development and establishment of the new capital city of the Philippines in
accordance with our condemnation order dated September 19, 1949; and
ordering plaintiff to pay defendants, as just compensation for the lands to be
taken from them, the following amounts, to wit: to defendant Eulogio
Rodriguez, Sr., the sum of THIRTY-NINE THOUSAND SEVEN HUNDRED
SEVENTY-SIX PESOS (P39,776.00); to defendant E. Rodriguez, Inc., the sum
of ONE MILLION FOUR HUNDRED EIGHTEEN THOUSAND SIX HUNDRED
FOUR (P1,418,604.00) PESOS; to defendant Luzon Investment &
Development Co., the sum of FIVE THOUSAND TWO HUNDRED EIGHTY
(P5,280.00) PESOS; and to defendants Enrique Manaloto and Canuto G.
Manuel, the sum of SIXTEEN THOUSAND SEVEN HUNDRED TWENTY
(P16,720.00) PESOS, with interest at the rate of 6% per annum on the said
amounts from September 19, 1949, the date the plaintiff entered upon the
possession of the lands in question until payment, plus the costs.
Following the issuance of the above-mentioned decision, however, a series of
negotiations were had between petitioner and the Government, represented by the
Capital City Planning Commission, after which, the said parties entered into a
compromise agreement under date of May 11, 1950, providing, inter alia, as follows:
(1) That the parties will accept the decision laid down in said case by the Court
of First Instance of Rizal (Quezon City Branch) with the following stipulations:
a. That the defendants mentioned above hereby waive all interest
due on the adjudged value of the expropriated properties;
b. That the defendants above-named hereby donate 207,006 square
meters out of Lots Nos. 41-C-3 and 39, object of expropriation in Civil
Case No. Q-54;
c. That defendant Eulogio Rodriguez, Inc. obligates itself to donate as
it hereby donates the land object of expropriation in Civil Case No. Q-
90, in favor of the Republic of the Philippines, containing an area of
15,200 square meters, which is a portion of Lot No. 41-C-3 as
indicated in the plan attached to the complaint therein; said defendant
Eulogio Rodriguez, Inc. binding itself to execute the necessary deed
of donation thereof;
d. That defendants named above agree to the payment of the price
awarded by the Court subject to the foregoing stipulations in the total
sum of ONE MILLION TWO HUNDRED FIFTY THOUSAND SIX
HUNDRED THIRTY-ONE PESOS and EIGHTY CENTAVOS
(P1,250,631.80) payable in the following manner:
1) SIX HUNDRED TWENTY-FIVE THOUSAND THREE
HUNDRED FIFTEEN PESOS AND NINETY CENTAVOS
(P625,315.90) in government bonds in favor of Eulogio
Rodriguez, Sr. and E. Rodriguez, Inc., payable within five (5)
years at not less than three percent (3%) per annum;
2) THREE HUNDRED THOUSAND PESOS (P300,000.00)
to be given to the Philippine National Bank in payment of the
mortgage indebtedness of defendants E. Rodriguez, Sr. and
E. Rodriguez, Inc.; and
3) the balance of THREE HUNDRED TWENTY-FIVE
THOUSAND TWO HUNDRED FIFTEEN PESOS AND
33
NINETY CENTAVOS (P325,215.90) in cash to be paid to all
defendants abovenamed, through Eulogio Rodriguez, Sr.,
within a reasonable time.
(2) That after approval of this compromise by the Court, the parties herein
agree not to interpose an approval from the judgment of the Court of First
Instance of Rizal (Quezon City Branch) which shall be considered final and
executory under the Rules of Court;
(3) And, finally, that the said parties will submit this compromise agreement to
the Court for its approval and/or its consideration in the decision rendered in
this case.
This compromise agreement was duly approved by the Court of First Instance of Rizal
(Quezon City Branch) on May 12, 1950, and pursuant to the terms thereof, the
Government paid to petitioner the sum of P1,238,204.00, of which P625,315.90 were in
Government Bonds.
On March 1, 1951, petitioner filed its income tax return for the year 1950, showing on
the face thereof a loss of P17,982.06. In said return, petitioner did not include the sum
of P625,315.90 received by it from the government in the form of bonds in payment of
its expropriated properties, in the belief that the said amount was free or exempt from
taxation. When this return was later examined by an agent of the Bureau of Internal
Revenue, the Collector of said bureau assessed against petitioner a deficiency income
tax of P63,880.00, computed as follows:
Net income per return (loss) .................................. P17,982.06
Amount received for property ..... P1,238,204.00
Less: Cost of Land ................... 827,279.82
Gain
P410,924.18
..............................................
Undeclared gain .............................................. P410,924.18
Accounts receivable charged off as bad debts but
not forming part of gross income .......................... 1,860.00
Miscellaneous expenses not connected with the
4,450.00
business
..................................................................
Net Income
P399,252.12
..............................................................
Tax due on P399,262.12
P63,980.00
.........................................
==========
A series of communications between petitioner and respondent Collector of Internal
Revenue followed the foregoing assessment, with the former protesting against and
requesting the cancellation of the deficiency income tax assessed against it, and the
latter maintaining its accuracy and demanding payment thereof. As petitioner, did not
past, on July 6, 1959, the Collector of Internal Revenue sought the collection of said
deficiency income tax of P63,880.00, plus 5% surcharge and 1% monthly interest
thereon from, March 11, 1956, by means of an action in the Court of First Instance of
Manila.
On June 8,k 1960, petitioner offered by way of compromise to pay the amount of
P30,676.25 in full settlement of its disputed deficiency income tax liability for 1950. This
offer was rejected by the Collector of Internal Revenue; whereupon, under date of June
24, 1960, petitioner filed a petition for review of the assessment in question before the

respondent Court of Tax Appeals which, after trial on the merits, rendered its decision
affirming the assessment in question. Hence, this appeal by petitioner thru the instant
petition for review of the said decision of respondent of Court of Tax Appeals, with the
following assigned errors:
I. THE RESPONDENT COURT ERRED IN HOLDING THAT THE
EXEMPTION CONTEMPLATED BY THE BONDS IN QUESTION APPLIES
ONLY TO DOCUMENTARY STAMP TAX AND TAX ON INTEREST DERIVED
FROM SUCH BONDS, AND THAT SUCH EXEMPTION CONSTITUTES
SUFFICIENT INDUCEMENT FOR PETITIONER TO ACCEPT SAID BONDS.
II. THE RESPONDENT COURT ERRED IN AFFIRMING THE ORDER OF
THE RESPONDENT COLLECTOR HOLDING PETITIONER LIABLE FOR
INCOME TAX ON THE EXCHANGE OF ITS PROPERTIES FOR
GOVERNMENT TAX-EXEMPT BONDS UNDER REPUBLIC ACT NO. 333.
As petitioner correctly puts it, the only question to decide here is whether or not in
determining the profit realized from the payment of the purchase price of its
(petitioner's) expropriated property, for income tax purposes portion of the purchase
price paid in the form of tax-exempt bonds issued under Republic Act No. 333 should
be included.
The pertinent provisions of law involved are found in Section 9 of the Act
abovementioned which reads as follows:1äwphï1.ñët
SEC. 9. The President of the Philippines is authorized to issue, in the name
and behalf of the Republic of the Philippines, bonds in an amount of twenty
million pesos, the proceeds of which shall be used as a revolving fund for the
acquisition of private estates, the subdivision of the area, and the construction
of streets, bridges, waterworks, sewerage and other municipal improvements
in the Capital City of the Philippines.
The bonds so authorized to be issued shall bear such date and in such form
as the President of the Philippines may determine and shall bear such rate of
interest and run for such length of time as may be determined by the
President. Both principal and interest shall be payable in Philippine currency or
its equivalent in the United States currency, in the discretion of the Secretary
of Finance, at the Treasury of the Philippines, and the interest shall be payable
at such periods as the President of the Philippines may determine.
Said bonds shall be exempt from taxation by the Government of the Republic
of the Philippines or by any political or municipal subdivisions thereof, which
fact shall be stated upon their face, in accordance with this Act, under which
the said bonds are issued. [Emphasis supplied]
Petitioner maintains that the portion (paid in tax-exempt Government Bonds) of the
profit it derived from the expropriation of its property should not be made subject to
income tax, for the reasons that: (1) the Republic of the Philippines gave no concession
to petitioner in the compromise agreement involved in this case except that, as testified
to by the lawyer who represented petitioner in the negotiations which led to the
compromise agreement in question, it was understood between the parties, and it was
precisely the only inducement, according to the witness, that made petitioner accept
payment of P625,315.90 in Government Bonds instead of cash, that said bonds would
be "tax-free"; now, it is argued that by "tax-free" is meant that by acceptance of the
bonds rather than cash, petitioner would not also have to pay income tax on the
exchange gain from said bonds; 2 (2) that the third paragraph of Section 9 of the Act
granting tax exemption on bonds issued thereunder was inserted in the law as a further
inducement to private land owners within the new capital site to part away with their
properties in favor of the Government other than for cash, which legislative history of
the law allegedly sustains the position of petitioner; and (3) Congress must have really
34
intended such income tax exemption under Republic Act No. 333, since, similar
provisions in Republic Act No. 1400, 3 likewise involving the expropriation of private
estates, expressly declare that the price paid by the Government for the lands acquired
for resale to tenants under the authority of said Act (Republic Act No. 1400) shall not be
considered as income of the landowner for purposes of the income tax. This reasoning
was brushed aside by the respondent Court of Tax Appeals in its decision under review,
on the following rationale:
Petitioner contends that since the Government bonds which it received as part
payment of the price of its lot were exempt from taxation, the deficiency
assessment made by respondent against it is not in order. On the other hand,
respondent claims that the exemption of Government bonds refers only the
documentary stamps on the bonds and does not include income tax on the
income derived by petitioner which was paid to him in the form of bonds.
The pertinent portion of Section 9 of Republic Act No. 333, which is the sole
basis of petitioner's claim for exemption, provides:1äwphï1.ñët
Said bonds shall be exempt from taxation by the Government of the
Republic of the Philippines or by any political or municipal subdivision
thereof, which fact shall be stated upon their face, in accordance with
this Act, under which the said bonds are issued.
There can be no question that petitioner is taxable on its income derived from
the sale of its property to the Government. The fact that a portion of the
purchase price of the property was paid by the Government in the form of tax
exempt bonds does not operate to exempt said income from income tax. The
income from the sale of the land in question and the bond are two different and
distinct taxable items so that the exemption of one does not operate to exempt
the other, unless the law expressly so provides.
It is alleged that to deny exemption from income tax on the amount
represented by the said bonds would be to nullify the purpose of the law in
granting exemption. The question has been asked: If income or gain derived
from the acceptance of such bonds in exchange for private estates would be
taxed, what inducement did such provision of Republic Act No. 333 give to
landowners to accept payment in bonds for their properties in the proposed
site of the Capital City? To our mind, there is sufficient inducement, and that is,
the exemption not only of the bonds from documentary stamp tax but also of
the interest derived from such bonds. Section 29(b) (4) of the National Internal
Revenue Code exempts interest derived from such bonds from income tax to
the extent provided in the law authorizing the issue thereof.
Counsel for petitioner also alleged that the prevailing rule obtaining in the
United States before removal of exemptions of government obligations was to
exempt such bonds from income tax both as to principal and interest. To quote
from the memorandum of counsel:
... Actually, most of the Federal Treasury Bonds issued by the U.S.
Government from 1921 to 1941, or before the Public Debt Acts of
1941 and 1942, that removed tax exemptions on obligations issued
by the United States and its agencies and its instrumentalities, were
—
'exempt, both as to principal and interest, from all taxation now or
hereafter imposed by the United States, any States, or any of the
possessions of the United States, or by any local taxing authority,
except (a) estate or inheritance taxes, and (b) graduated additional
income taxes, known as surtaxes and excess profits and war profits
taxes, now or hereafter imposed by the United States, upon the

income or profits of individuals, partnerships, associations, or
corporations. (I Mertens, Law of Federal Income Taxation, pp. 297-
313).' [See page 12, Memorandum of counsel for petitioner, March
20, 1963.]
Apparently the import of the ruling quoted above from the book of Mertens has
not been clearly understood. We think that the exemption referred to therein of
both principal and interest has reference to the exemption from income tax of
the income derived from the sale or exchange of the bonds and the interest
paid by the U.S. Government on such bonds. The opinion quoted from
Mertens is inapplicable to the instant case because it does not refer to any
income derived by petitioner from the sale or exchange of bonds received by
petitioner from the Government under Republic Act No. 333. The tax here
involved is on the income derived from the sale of petitioner's property to the
Government, not the income derived from the sale or exchange of the bonds.
Mention has been made of Republic Act No. 1400, Section 22 of which
provides that 'the purchase price paid by the Government for any agricultural
land acquired for resale to tenants under the authority of this Act, whether by
negotiation or expropriation, shall not be considered as income of the
landowner concerned for purposes of the income tax.' It is argued that since
Republic Acts Nos. 333 and 1400 are in pari materia both should be construed
together, and since Republic Act No. 1400 exempts income derived from the
sale of property to the Government under said Act, the same exemption
should also apply to income derived from the sale of property to the
Government under Republic Act No. 333. It is precisely because Republic Act
No. 1400 contains an express exemption from income tax of the income
derived by property owners from the sale of their lands under said Act and the
absence of a similarly provision in Republic Act No. 333 which indicates plainly
that Congress intended not to grant such exemption to landowners under
Republic Act No. 333. If Congress had intended to grant exemption from
income tax with respect to income derived by a person from the sale of his
property under Republic Act No. 333, it should have expressly made an
express provision to that effect as it did in Republic Act No. 1400; that it did
not, is a clear indication that its purpose was to withhold such exemption.
We find no cogent reasons to disturb the above holding of the Court of Tax Appeals. It
has been the constant and uniform holding of this Court that exemption from taxation is
not favored and is never presumed; in fact, if it is granted, the grant must be strictly
construed against the taxpayer. 4 Affirmatively put, the law requires courts to frown on
alleged exemptions from taxation, hence, an exempting provision in a legislative
enactment should be construed in strictissimi juris 5 against the taxpayer and liberally in
favor of the taxing authority. 6 This Court has been most consistent in this holding.
In Asiatic Petroleum Co. vs. Llanes, 7 it was explained beyond any possibility of
miscomprehension that: .
... Exemptions from taxation are highly disfavored, so much so that they may
almost be said to be odious to the law. He who claims an exemption must be
able to point to some positive provision of law creating the right. It cannot be
allowed to exist upon a vague implication ... The books are full of very strong
expressions on this point. As was said by the Supreme Court of Tennessee
in Memphis vs. U & P. Bank (91 Tenn. 546, 550), 'The right of taxation is
inherent in the State. It is a prerogative essential to the perpetuity of the
government; and he who claims an exemption from the common burden, must
justify his claim by the clearest grant of organic or statute law.' Other
utterances equally or more emphatic come readily to hand from the highest
35
authority. In Ohio Life Ins. and Trust Co. vs. Debolt (16 Howard 416), it was
said by Chief Justice Taney, that the right of taxation will not be held to have
been surrendered, 'unless the intention to surrender is manifested by words
too plain to be mistaken.' In the case of the Delaware Railroad Tax (18
Wallace 206, 226), the Supreme Court of the United States said that the
surrender, when claimed, must be shown by clear, unambiguous language,
which will admit of no reasonable construction consistent with the reservation
of the power. If a doubt arises as to the intent of the legislature, that doubt
must be resolved in favor of the State. In Erie Railway Company vs.
Commonwealth of Pennsylvania (21 Wallace 492, 499), Mr. Justice Hunt,
speaking of exemptions, observed that the State cannot strip itself of the most
essential power of taxation by doubtful words. 'It cannot by ambiguous
language, be deprived of this highest attribute of sovereignty.' In Tennessee
vs. Whitworth (117 U.S. 129, 136), it was said: 'In all cases of this kind the
question is as to the intent of the legislature, the presumption always being
against any surrender of the taxing power.' In Farrington vs. Tennessee and
County of Shelby (95 U.S. 679, 686), Mr. Justice Swayne said: '... When
exemption is claimed it must be shown indubitably to exist. At the outset every
presumption is against it. A well-founded doubt is fatal to the claim. It is only
when the terms of the concession are too explicit to admit fairly of any other
construction that the proposition can be supported.'
The above rules should be applied to the case at bar where the law invoked (Section 9
of Republic Act No. 333) does not make any reference whatsoever to exemption of
income derived from sale of expropriated property thereunder unlike under Republic Act
No. 1400 where relative to the price paid by the Government for any agricultural land
acquired for resale to tenants there is an express declaration that the same "shall not
be considered as income of the landowner concerned for purposes of the income tax."
Nor are We convinced by the argument that the particular provision of Republic Act No.
333 relied upon which grants exemption on bonds issued thereunder for purposes of
inducement to private landowners within the new capital site to part away with their
properties in favor of the Government other than for cash should be taken to mean that
said property owners need not pay income tax on their income derived from the sale of
such properties. The pertinent Congressional Record of the proceedings held during the
consideration of the bill which later became Republic Act No. 333, 8 does not show that
Congress had intended to exempt said property owners from the payment of income tax
on the proceeds of the sale of their properties when the same is paid in government
bonds issued under the said law. Likewise even were We to assume for the sake of
argument, that the Capital City Planning Commission and other officials of the
government did make some assurance or promise to herein petitioner that the portion of
the price of its expropriated property paid in tax-exempt government bonds would not
be made subject to income tax payment, such assurance or promise, made without
statutory sanction, cannot bind the Government. The same amounts to a surrender of
the State's power to require payment of income tax, which in this case is not explicitly
granted by Republic Act No. 333. It is a well-known rule that erroneous application and
enforcement of the law by public officers do not block subsequent correct application of
the statute, 9 and that the Government is never estopped by mistake or error on the part
of its agents. 10 In the present circumstances, the Collector of Internal Revenue is right
in assessing against petitioner the deficiency income tax in question, consonant with
the proposition that income from expropriation proceedings is income from sales or
exchange and therefore taxable. 11
FOR THE FOREGOING CONSIDERATIONS, the decision of the Court of Tax Appeals
under review is affirmed, with costs against herein petitioner.1äwphï1.ñët

Concepcion, C.J., Dizon, Sanchez, Castro, Fernando and Teehankee, JJ., concur.
Reyes, J.B.L., Makalintal and Zaldivar, JJ., took no part.
Capistrano, J., took no part.
G.R. No. L-14532 May 26, 1965
JOSE LEON GONZALES, petitioner-appellant,
vs.
THE HON. COURT OF TAX APPEALS and THE COLLECTOR OF INTERNAL
REVENUE, respondents-appellees.
-----------------------------
G.R. No. L-14533 May 26, 1965
JUANA G. GONZALES and FORTUNATO DE LEON, petitioners-appellants,
vs.
THE HON. COURT OF TAX APPEALS and THE COLLECTOR OF INTERAL
REVENUE, respondents-appellees.
Guillermo B. Ilagan and Delfin J. Hilario for petitioners-appellants.
Office of the Solicitor General for respondents-appellees.
BENGZON, C.J.:
Statement. — This is an appeal from the decision of the Court of Tax Appeals denying
the refund of income taxes imposed on, and paid by, Jose Leon Gonzales and Juana F.
Gonzales.
The Facts. — Jose Leon Gonzales and Juana F. Gonzales are brother and sister [the
latter being married to Atty. Fortunato de Leon 1]. Both petitioners are co-heirs and co-
owners, (one-sixth each) of a tract of land of 871, [982.] square meters which they,
along with four other co-heirs, inherited from their mother.
This realty, located at Caloocan, Rizal, was the object of expropriation proceedings,
which this Court finally decided in May 1954, in G.R. No.L-4918. Therein, we fixed the
just compensation for the property at P1.50 per square meter. We also ordered the
payment of interest at the legal rate of 6% from January 25, 1947 (when the
Government took possession of the property) to the date of payment, which payment
was actually made on October 31, 1954. Excluded from the payment of interest was the
sum of P28,850.00, the amount deposited by the Government upon taking possession
of the estate.
The total compensation paid the six heirs for the expropriated property amounted to
P1,307,973.00. Subtracting therefrom the amount of P28,850.00 just mentioned, there
remained a difference of P1,279,123.00, the interest on which, at the legal rate of 6%
per annum, totalled P535,587.70. Divided among the six heirs, this total gave a share of
P89,305.61 as interest to each of them.1äwphï1.ñët
Upon the amounts received from the Government, Jose Leon Gonzales and Juana F.
Gonzales, were each ascertained to have made a capital gain of P213,328.82
[P1,279,973.00 2 divided by 6 heirs], and each of them to have received the amount of
P89,309.61 as share in the interests of P535,857.70 (this, sum is divided by 6). A
tentative return for 1954 was thus prepared and filed for each of the two petitioners
describing the amounts of P213,328.82 as capital gain, and in addition, the amount of
P89,309.61 as ordinary income. On the basis of such income, each of the petitioners
was assessed P86,166.00.
The Government paid to petitioners the proceeds of the expropriation award and
interest through the People's Homesite and Housing Corporation sometime in October
1954 the last check having been delivered on November 4, 1954. However, the sum of
P532,234.70 was retained by the Housing Corporation; and on November 18, 1954, at
the request of respondent Collector, it turned over to the Bureau of Internal Revenue
the amount of P516,007.00 representing income taxes reportedly due and owing from
the six co-heirs of the estate. Therefore, petitioners Jose Leon Gonzales and his sister
36
Juana F. Gonzales were each credited the amount of P86,166.00 as payment of their
income tax. (Official Receipts Nos. 520491 and 520496 dated November 19, 1954)
On February 29, 1956, petitioner Juana F. Gonzales wrote the respondent Collector a
letter, seeking the refund of P24,426.00 allegedly representing excess payment of
income taxes for 1954. The letter pertinently stated:
We respectively contend that the assessment was erroneous in that the
amount of P89,309.61 representing interest, was considered as ordinary
income and not merely capital gain. If the interest was computed as capital
gain, there shall be due and owing from your office the amount of P24,426.00
assuming for argument's sake that your assessment was correct. (Exhs. H &
2, also par. 22, "Stifacts")
On November 5, 1956, petitioner Jose Leon Gonzales also wrote a letter to said
respondent requesting refund of a similar amount of P24,426.00 for the same reasons
as his co-petitioner. No action appears to have been taken on this refund claim.
On November 12, 1956, respondent Collector denied the request of Juana F. Gonzales
for refund of P24,426.00.
The Suits. — So on November 15, 1956, Jose Leon Gonzales and Juana F. Gonzales
submitted to the Court of Tax Appeals a joint petition seeking a refund, this time of the
amount of P86,166.00 for each of the two petitioners; but the next day, both petitioners
amended their petition by filing separate petitions which were docketed separately as
CTA Case No. 328 and CTA Case No. 329.
It appears that on November 24, 1956, Atty. Fortunato de Leon wrote the respondent
Collector the following letter:
Sir:
This is to acknowledge receipt today of your letter of
November 12, 1956, denying the claim of Mrs. Juana F.
Gonzales de Leon for refund, to which we take exception.
We are not only claiming the refund of P24,426.00 but the
entire amount of P86,166.00 for various reasons more
specifically contained in our petition before the Court of Tax
Appeals on November 16, 1956, Case No. 328. We had to
file the petition because we believe our claim is meritorious
and that the prescriptive period may run out.
For all legal purposes we shall consider your letter herein
referred to as a denial of the claim for refund of the total
amount of P86,166.00. And the difference in amount may be
considered for all purposes as variance only.
Respondent Collector, however, disclaims receipt of this second written claim for
refund.
On December 5, 1956, respondent Collector contested the amended petitions. Trial
ensued, and in the course thereof the parties signed a "Partial Stipulation of Facts."
Decision. — On July 16, 1958, a decision was rendered by the Court of Tax Appeals
denying petitioners' claim for refund, with costs against them. Their motion for
reconsideration and new trial having been denied, petitioners perfected this appeal and
now pray for reversal.
Issue. — A careful perusal of the debated issues will show that the resolution of this
appeal hinges decisively on two propositions:
(1) Whether or not petitioners' claim for refund of the total of P86,166.00 may
be properly entertained; and
(2) Whether or not the sum of P89,309.61 which each of the petitioners
received as interest on the value of the land expropriated is taxable as
ordinary income, and not as capital gain.

Discussion. — The record shows that on November 18, 1954, at the request of
respondent Collector, the People's Homesite and Housing Corporation turned over to
the Bureau of Internal Revenue the sum of P516,007.00 representing income taxes due
from the six co-owners of the expropriated property. Of this amount, the two appellants
Gonzales were each credited with the amount of P86,166.00 as income taxes for 1954.
(The receipts evidencing such payments are O.R. No. 520491, dated November 19,
1954 for P86,166.00 for Jose Leon Gonzales and O.R. No. 520496 dated November
19, 1954 for Juana F. Gonzales.)
It likewise appears that appellant Juana F. Gonzales in her letter of February 29, 1956,
requested for the refund of P24,426.00 (only), citing as sole ground therefor that the
amount of P89,309.61 which was her share in the interests paid on the expropriated
property was taxed by respondent Collector as ordinary income. She contended that it
should have been taxed as capital gain. Appellant Jose Leon Gonzales on his part, in
his letter of November 5, 1958, requested the refund of a similar amount of P24,426.00
only.
Then a joint petition was filed by both parties before the Court of Tax Appeals first on
November 15, 1956, but the next day, November 16, 1956, they filed separate petitions
containing similar allegations.
It would appear, therefore, that from November 19, 1954, when the payments for
income taxes were received from the appellants to February 29, 1956, when appellant
Juana Gonzales filed her claim for refund and to November 5, 1956, and appellant Jose
Leon Gonzales filed his own refund claim, less than two years had elapsed.
But, since their respective claims for refund were restricted to the amount of P24,426.00
only, it should be clear that any demand for the return of an amount in excess thereof
(P86,166.00) is not included.
Remarkedly, the so-called claim for refund of the amount of P86,166.00 was
made only on November 24, 1956, (after the complaints had been filed) without giving
the Collector "an opportunity to consider his mistake, if mistake has been committed."
(Kiener Co. vs. David, 92 Phil. 945) And it refers specifically and exclusively to
appellant Juana F. Gonzales' claim (Exh. "J"). Appellant Jose Leon Gonzales seems
not to have filed any refund claim for a similar amount.
Be that as it may, this later claim for refund for P86,166.00 made on November 24,
1956, by appellant Juana F. Gonzales has been definitely filed beyond the statutory
period of two year, from the date of payment, which was November 19, 1954.
A stringent requirement of the Tax Code is that before a suit or proceeding for the
refund of any internal revenue tax can be maintained in any court, a written claim for its
refund shall be filed with the Collector of Internal Revenue before filing the action in
court and before the expiration of two years from the date of payment of the taxes to be
refunded.3This requirement is mandatory and failure to comply therewith is fatal to the
action. 4 What is more, the claim for refund should set forth in detail the facts and the
grounds upon which it is based, so as to apprise the Collector accordingly. 5
Appellants maintain that it was not they who had paid the tax of P86,166.00 imposed
upon each of them, but that it was respondent Collector himself who paid those taxes
and issued receipts therefor without their knowledge and consent. And that even if the
receipts of payment were in fact sent by the respondent Collector to the People's
Homesite and Housing Corporation and were received by the latter on November 23,
1953, said receipts could not have been received by appellants earlier than November
28, 1954, considering that the Rules of Court treats a service as complete only upon the
expiration of five days from mailing.
We find no merit in these contentions. To begin with, there is no proof positive on
record that appellant Juana F. Gonzales' so-called refund claim for the amount of
P86,166.00 had been sent to, let alone received by, respondent Neither have they
37
protested against this payment by the Collector to the Collector. In the second place,
the refund letter of November 24, 1956, assuming that it was duly filed, referred to
Juana F. Gonzales' claim alone, and made no mention of Jose Leon Gonzales'. ln the
third place, the aforesaid refund claim does not set forth in detail the facts and grounds
upon which it was based and failed to apprise the respondent of her grounds for raising
her claim from P24,426.00 to P86,166.00 (see letter). Lastly, appellant Juana F.
Gonzales' eleventh-hour modification upping her refund claim from P24,426.00 to
P86,166.00 was made on November 24, 1956 or eight days after the filing of her
amended petition before the respondent court on November 16, 1956, and a few days
after the two-year period.
Obviously then, the requirement of prior timely claim for refund of the sum of
P86,166.00 had not been met in this case. The demand for refund must precede the
suit, and this requirement is mandatory; so much so that non-compliance therewith bars
the action. 6
Appellants insist that payment of the tax was not made by them but by the respondent
Collector himself, and that, therefore, the prescriptive period should begin not from the
date of such payment but from the date appellants learned of such payment.
This contention offers no help to appellants' cause. Assuming that appellants indeed
learned of their payments only on November 24, 1953, they should have claimed the
refund of P86,166.00 from said date and before they filled their petitions with the
respondent Court on November 15 or 16, 1956. Neither could they blame the
respondent Collector for failing to act on their refund claims sooner for it was incumbent
upon appellants to urge him to act expeditiously on their claims, knowing as they did
that the time for bringing an action for a refund of income tax, fixed by statute, is not
extended by the delay of the Collector of Internal Revenue in giving notice of the
rejection of their claim.
Moreover, the provisions of section 306 of the Tax Code are mandatory and not subject
to any qualification and, hence, they apply regardless of the conditions under which the
payment has been made.8
With respect, therefore, to the issue of whether or not appellants' claim for refund of
P86,166.00 (each) could now be entertained, we believe that the same has been barred
by prescription.
Anyway, it is mainly based on the proposition that our ruling in Gutierrez vs. Court of
Tax Appeals, L-9738 and L-9771, May 31, 1957, should be abandoned, a proposition
we are not disposed to encourage.
Thus, our decision will, therefore, address itself only to appellants' earlier claim for
refund in the sum of P24,426.00. Which brings us to the question of whether or not the
sum of P89,309.61 which each of the appellants had received as share in the interest
on the proceeds of the expropriation should be taxed as capital gain or as ordinary
income.
Appellants argue that the accessory follows the principal, that the amount paid in
expropriation proceedings (the principal, i.e., the profit thereon is admittedly capital
gain, not ordinary income, and that, therefore, the interest paid thereon (the accessory)
is capital gain, not ordinary income.
This contention may not be sustained. In a previous case, 9 we held that "the acquisition
by the Government of private properties through the exercise of the power of eminent
domain, said properties being justly compensated, is embraced within the meaning of
the term 'sale' or 'disposition of property'" and the definition of gross income laid down
by Section 29 of the Tax Code of the Philippines. We also adhered to the view that the
transfer of property through condemnation proceedings is a sale or exchange and that
profit from the transaction constitutes capital gain.

But to say that the proceeds of expropriation which is the return of capital and,
therefore, a capital gain, partakes of the same nature as interests paid thereon is far
from correct; because interest is compensation for the delay in the return of such
capital. In fact, the authorities support the conclusion that for income tax purposes,
interest does not form part of the price paid by the Government in condemnation
proceedings; and may not be treated as part of the capital gain. It was so held by the
United States Supreme Court in Kieselback v. Commissioner of Internal Revenue, 317
U.S. 399.
Borrowing the words and phrases of said Court, we could say now:
The sum paid these taxpayers above the award of P1,307,973.00 was paid
because of the failure to put the award in the taxpayer's hands on the day,
January 25, 1947, when the property was taken. This additional payment was
necessary to give the owners the full equivalent of the value of the property at
the time it was taken. Whether one calls it interest on the value or payments to
meet the constitutional requirement of just compensation is immaterial. It is
income paid to the taxpayers in lieu of what they might have earned on the
sum found to be the value of the property on the day the property was taken. It
is not a capital gain upon an asset sold. The sale price was the
P1,307,973.00.10
The property was turned over in January, 1947. This was the sale. Title then passed.
The subsequent earnings of the property went to the Government. The transaction was
as though a purchase money lien at legal interest was retained upon the property. Such
interest when paid would, of course, be ordinary income.
Incidentally, the above Supreme Court's decision disapproved the Seaside
Improvement case on which petitioners rely.
We see, therefore, no reason to impute error to the opinion of the Collector of Internal
Revenue and the Court of Tax Appeals that interest paid was ordinary income, bearing
in mind that the Tax Code provides:
SEC. 29. Gross Income. — General Definition. — "Gross income" includes
gains, profits, and income derived from ... interests, rents, dividends,
securities, or the transactions of any business carried on for gain or profit, or
gains, profits and income derived from any source whatever. 11
Having arrived at these conclusions, we deem it unnecessary to discuss the other
points extensively argued in the appellants' brief.
Judgment — Consequently, finding no error in the appealed decision, we hereby affirm
it, with costs. So ordered.
Bautista Angelo, Concepcion, Reyes, J.B.L., Barrera, Parades, Dizon, Regala,
Makalintal, Bengzon, J.P., and Zaldivar, JJ., concur.
EN BANC
G.R. Nos. L-9738 and L-9771 May 31, 1957
BLAS GUTIERREZ, and MARIA MORALES, petitioners,
vs.
HONORABLE COURT OF TAX APPEALS, and THE COLLECTOR OF INTERNAL
REVENUE, respondents.
COLLECTOR OF INTERNAL REVENUE, petitioner,
vs.
BLAS GUTIERREZ, MARIA MORALES, and COURT OF TAX
APPEALS, respondents.
Rafael Morales for petitioners.
Assistant Solicitor General Ramon L. Avanceña and Solicitor Jose P. Alejandro for
respondents.
FELIX, J.:
38
Maria Morales was the registered owner of an agricultural land designated as Lot No.
724-C of the cadastral survey of Mabalacat, Pampanga. The Republic of the
Philippines, at the request of the U.S. Government and pursuant to the terms of the
Military Bases Agreement of March 14, 1947, instituted condemnation proceedings in
the Court of the First Instance of Pampanga, docketed, as Civil Case No. 148, for the
purpose of expropriating the lands owned by Maria Morales and others needed for the
expansion of the Clark Field Air Base, which project is necessary for the mutual
protection and defense of the Philippines and the United States. Blas Gutierrez was
also made a party defendant in said Civil Case No. 148 for being the husband of the
landowner Maria Morales. At the commencement of the action, the Republic of the
Philippines, therein plaintiff deposited with the Clerk of the Court of First Instance of
Pampanga the sum of P156,960, which was provisionally fixed as the value of the lands
sought to be expropriated, in order that it could take immediate possession of the same.
On January 27, 1949, upon order of the Court, the sum of P34,580 (PNB Check
721520-Exh. R) was paid by the Provincial treasurer of Pampanga to Maria Morales out
of the original deposit of P156,960 made by therein plaintiff. After due hearing, the
Court of First Instance of Pampanga rendered decision dated November 29, 1949,
wherein it fixed as just compensation P2,500 per hectare for some of the lots and
P3,000 per hectare for the others, which values were based on the reports of the
Commission on Appraisal whose members were chosen by both parties and by the
Court, which took into consideration the different conditions affecting, the value of the
condemned properties in making their findings.
In virtue of said decision, defendant Maria Morales was to receive the amount of
P94,305.75 as compensation for Lot No. 724-C which was one of the expropriated
lands. But the Court disapproved defendants' claims for consequential damages
considering them amply compensated by the price awarded to their said properties. In
order to avoid further litigation expenses and delay inherent to an appeal, the parties
entered into a compromise agreement on January 7, 1950, modifying in part the
decision rendered by the Court in the sense of fixing the compensation for all the lands,
without distinction, at P2,500 per hectare, which compromise agreement was approved
by the Court on January 9, 1950. This reduction of the price to P2,500 per hectare did
not affect Lot No. 724-C of defendant Maria Morales. Sometime in 1950, the spouses
Blas Gutierrez and Maria Morales received the sum of P59.785.75 presenting the
balance remaining in their favor after deducting the amount of P34,580 already
withdrawn from the compensation to them.
In a notice of assessment dated January 28, 1953, the Collector of Internal Revenue
demanded of the petitioners the payment of P8,481 as alleged deficiency income tax for
the year 1950, inclusive of surcharges and penalties. On March 5, 1953, counsel for
petitioner sent a letter to the Collector of Internal Revenue requesting the letter to
withdraw and reconsider said assessment, contending among others, that the
compensation paid to the spouses by the Government for their property was not
"income derived from sale, dealing or disposition of property" referred to by section 29
of the Tax Code and therefore not taxable; that even granting that condemnation of
private properties is embraced within the meaning of the word "sale" or "dealing", the
compensation received by the taxpayers must be considered as income for 1948 and
not for 1950 since the amount deposited and paid in 1948 represented more than 25
per cent of the total compensation awarded by the court; that the assessment was
made after the lapse of the 3-year prescriptive period provided for in section 51-(d) of
the Tax Code; that the compensation in question should be exempted from taxation by
reason of the provision of section 29 (b)-6 of the Tax Code; that the spouses Blas
Gutierrez and Maria Morales did not realize any profit in said transaction as there were
improvements on the land already made and that the purchasing value of the peso at

the time of the expropriation proceeding had depreciated if compared to the value of the
pre-war peso; and that penalties should not be imposed on said spouses because
granting the assessment was correct, the emission of the compensation awarded
therein was due to an honest mistake.
This request was denied by the Collector of Internal Revenue, in a letter dated April 26,
1954, refuting point by point the arguments advanced by the taxpayers. The record
further shows that a warrant of distraint and levy was issued by the Collector of Internal
Revenue on the properties of Mr. & Mrs. Blas Gutierrez found in Mabalacat, Pampanga,
and a notice of tax lien was duly registered with the Register of Deeds of San
Fernando, Pampanga, on the same date Counsel for the spouses then requested that
the matter be referred to the Conference Staff of the Bureau of Internal Revenue for
proper hearing to which the Collector answered in a letter dated December 24, 1954,
stating that the request would be granted upon compliance by the taxpayers with the
requirements of Department of Finance order No. 213, i.e., the filing of a verified
petition to that effect and that one half of the total assessment should be guaranteed by
a bond, provided that the taxpayers would agree in writing to the suspension of the
running of the period of prescription.
The taxpayers then served notice that the case would be brought on appeal to the
Court of Tax Appeals, which they did by filing a petition with said Court to review the
assessment made by the Collector, of Internal Revenue, docketed as C.T.A. Case No.
65. In that instance, it was prayed that the Court render judgment declaring that the
taking of petitioners' land by the Government was not a sale or dealing in property; that
the amount paid to, petitioners as just compensation for their property should not be
dismissed by, way of taxation; that said compensation was by law exempt from taxation
and that the period to collect the income taxes by summary methods had prescribed;
that respondent Collector of Internal Revenue be enjoined from carrying out further
steps to collect from petitioners methods the said taxes which they alleged to be
erroneously assessed and for remedies which would serve the ends of law and justice.
The Solicitor General, in representation of the respondent Collector of Internal
Revenue, filed an answer on February 11, 1955, admitting some of the allegations of
petitioners and denying some of them, and as special defenses, he advanced the
contention that Court had no jurisdiction to entertain the petition; profit realized by
petitioners from the sale of the land in question was subject to income tax, that the full
compensation received by petitioners should be included in the income received in
1950, same having been paid in 1950 by the Government; that under the Bases
Agreement only residents of the United states are exempt from the payment of income
tax in the Philippines in respects to profits derived under a contract with the U.S.
Government in connection with the construction, maintenance and operation of the
bases; that in the determination of the gain or loss from the sale of property acquired on
or after March 1, 1913, the cost of acquisition and the selling price shall be taken into
account without qualification as to the purchasing power of the currency; that the
imposition of the 50 per cent surcharge was in accordance with the Tax Code, that the
Collector of Internal Revenue was empowered to collect petitioners' deficiency income
tax; and prayed that the petition for review be dismissed; petitioners be ordered to pay
the amount of P8,481 plus the delinquency penalty of 5 per cent for late payment and
monthly interest at the rate of 1 per cent from April 1, 1953, up to the date of actual
payment and for such other relief that may be deemed just and equitable in the
premises.
After due hearing and after the parties filed their respective memoranda, the Court of
Tax Appeals rendered decision on August 31, 1955, holding that it had jurisdiction to
hear and determine the case; that the gain derived by the petitioners from the
expropriation of their property constituted taxable income and as such was capital gain;
39
and that said gain was taxable in 1950 when it realized. It was also found by said Court
that the evidence did not warrant the imposition of the 50 per cent surcharge because
the petitioners acted in good faith and without intent to defraud the Government when
they failed to include in their gross income the proceeds they received from the
expropriated property, and, therefore, modified the assessment made by respondent,
requiring petitioners to pay only the sum of P5,654. From this decision, both parties
appealed to this Court and in this instance, petitioners Blas Gutierrez and Maria
Morales, as appellants in G.R. No. L-9738, made the following assessments of error:
1. That the Court of Tax Appeals erred in holding that, for income tax
purposes, income from expropriation should be deemed as income from sale,
any profit derived therefrom is subject to income tax as capital gain pursuant to
the provisions of Section 37-(a)-(5) in relation to Section 29-(a) of the Tax
Code;
2. That the Court of Tax Appeals erred in not holding that, under the particular
circumstances in which the property of the appellants was taken by the
Philippine Government, the amount paid to them as just compensation is
exempt from income tax pursuant to Section 29-(b)-(6) of the Tax Code;
3. That the Court of Tax Appeals erred in not holding that the respondent
Collector is definitely barred by the Statute of Limitations from collecting the
deficiency income tax in question, whether administratively thru summary
methods, or judicially thru the ordinary court procedures;
4. That the Court of Tax Appeals erred in not holding that the capital gain
found by the respondent Collector as have been derived by the petitioners-
appellants from the expropriation of their property is merely nominal not
subject to income tax, and in not holding that the pronouncement of the court
in the expropriation case in this respect is binding upon the respondent
Collector of Internal Revenue; and
5. That the Court of Tax Appeals erred in not pronouncing upon the pleadings
of the parties that the petitioners-appellants did not derive any capital gain
from the expropriation of their property.
The appeal of the respondent Collector of the Internal Revenue was docketed in this
Court as G.R. No. L-9771, and in this case the Solicitor General ascribed to the lower
court the commission of the following error:
That the Court of Tax Appeals erred in holding that respondents are not
subject to the payment of the 50 per cent surcharge in spite of the fact that the
latter's income tax return for the year 1950 is false and/or fraudulent.
The facts just narrated are not disputed and the controversy only arose from the
assertion by the Collector of Internal Revenue that petitioners-appellants failed to
include from their gross income, in filing their income tax return for 1950, the amount of
P94,305.75 which they had received as compensation for their land taken by the
Government by expropriation proceedings. It is the contention of respondent Collector
of Internal Revenue that such transfer of property, for taxation purposes, is "sale" and
that the income derived therefrom is taxable. The pertinent provisions of the National
Internal Revenue Code applicable to the instant cases are the following:
SEC. 29. GROSS INCOME. — (a) General definition. — "Gross income"
includes gains, profits, and income derived from salaries, wages, or
compensation for personal service of whatever kind and in whatever form paid,
or from professions, vocations, trades, businesses, commerce, sales or
dealings in property, whether real or personal, growing out of ownership or use
of or interest in such property; also from interests, rents, dividends, securities,
or the transactions of any business carried on for gain or profit, or gains,
profits, and income derived from any source whatsoever.

SEC. 37. INCOME FROM SOURCES WITHIN THE PHILIPPINES. —
(a) Gross income from sources within the Philippines. — The following items of
gross income shall be treated as gross income from sources within the
Philippines:
xxx xxx xxx
(5) SALE OF REAL PROPERTY. — Gains, profits, and income from
the sale of real property located in the Philippines;
xxx xxx xxx
There is no question that the property expropriated being located in the Philippines,
compensation or income derived therefrom ordinarily has to be considered as income
from sources within the Philippines and subject to the taxing jurisdiction of the
Philippines. However, it is to be remembered that said property was acquired by the
Government through condemnation proceedings and appellants' stand is, therefore,
that same cannot be considered as sale as said acquisition was by force, there being
practically no meeting of the minds between the parties. Consequently, the taxpayers
contend, this kind of transfer of ownership must perforce be distinguished from sale, for
the purpose of Section 29-(a) of the Tax Code. But the authorities in the United States
on the matter sustain the view expressed by the Collector of Internal Revenue, for it is
held that:
The transfer of property through condemnation proceedings is a sale or
exchange within the meaning of section 117 (a) of the 1936 Revenue Act
and profit from the transaction constitutes capital gain" (1942. Com. Int.
Revenue vs. Kieselbach (CCA 3) 127 F. (24) 359). "The taking of property by
condemnation and the, payment of just compensation therefore is a "sale" or
"exchange" within the meaning of section 117 (a) of the Revenue Act of
1936, and profits from that transaction is capital gain (David S. Brown vs.
Comm., 1942, 42 BTA 139).
The proposition that income from expropriation proceedings is income from sales or
exchange and therefore taxable has been likewise upheld in the case of Lapham vs.
U.S. (1949, 40 AFTR 1370) and in Kneipp vs. U.S. (1949, 85 F Suppl. 902). It appears
then that the acquisition by the Government of private properties through the exercise
of the power of eminent domain, said properties being JUSTLY compensated, is
embraced within the meaning of the term "sale" "disposition of property", and the
proceeds from said transaction clearly fall within the definition of gross income laid
down by Section 29 of the Tax Code of the Philippines.
Petitioners-appellants also averred that granting that the compensation thus received is
"income", same is exempted under Section 29-(b)-6 of the Tax Code, which reads as
follows:
SEC. 29. GROSS INCOME. —
xxx xxx xxx
(b) EXCLUSIONS FROM GROSS INCOME. — The following items shall not
be included in gross income and shall exempt from taxation under this Title;
xxx xxx xxx
(6) Income exempt under treaty. — Income of any kind, to the extent required
by any treaty obligation binding upon government of the Philippines.
The taxpayers maintain that since, at the of the U.S. Government, the proceeding to
expropriate the land in question necessary for the expansion of the Clark Field Air Base
was instituted by the Philippine Government as part of its obligation under the Military
Bases Agreement, the compensation accruing therefrom must necessarily fall under the
exemption provided for by Section 29-(b)-6 of the Tax Code. We find this stand
untenable, for the same Military Bases Agreement cited by appellants contains the
following:
40
ARTICLE XXII
CONDEMNATION OR EXPROPRIATION
1. Whenever it is necessary to acquire by condemnation or expropriation
proceedings real property belonging to private persons, association, or
corporations located in bases named in Annex "A" and Annex "B" in order to
carry out the purposes of this agreement, the Philippines, will institute and
prosecute such condemnation proceeding in accordance with the laws of the
Philippines. The United States agrees to reimburse the Philippines for all the
reasonable expenses, damages, and costs thereby incurred, including title
value of the property as determined by the Court. In addition, subject to mutual
agreements of the two governments, the United States shall reimburse the
Philippines for the reasonable costs of transportation and removal of any
occupants displaced or ejected by reason of the condemnation or
expropriation.
ARTICLE XII
INTERNAL REVENUE EXEMPTION
(1) No member of the United States Armed Forces except Filipino citizens,
serving in the Philippines in connection with the bases and residing in the
Philippines by reason only of such service, or his dependents, shall be liable to
pay income tax in the Philippines except in respect of income derived from
Philippine sources.
(2) No National of the United States serving in the Philippines in connection
with the construction, maintenance, operation or defense of the bases and
residing in the Philippines by reason only of such employment, or his spouse
and minor children and dependent parents of either spouse, shall be liable to
pay income tax in the Philippines except in respect of income derived from
Philippine sources or sources other than the United States.
(3) No person referred to in paragraphs 1 and 2 of this said Article shall be
liable to pay the government or local authorities of the Philippines any poll or
residence tax, or any imports or exports duties, or any other tax on personal
property imported for his own use provided, that private owned vehicles shall
be subject to payment of the following only: when certified as being used for
military purposes by appropriate United States Authorities, the normal license
plate fee; otherwise, the normal license and registration fees.
(4) No national of the United States, or corporation organized under the laws
of the United States, shall be liable to pay income tax in the Philippines in
respect of any profits derived under a contract made in the United States with
the government of the United States in connection with the construction,
maintenance, operation and defense of the bases, or any tax in the nature of a
license in respect of any service of work for the United, States in connection
with the construction, maintenance, operation and defense of the bases.
xxx xxx xxx
The facts brought about by the aforementioned terms of the said treaty need no further
elucidation. It is unmistakable that although the condemnation or expropriation of
properties was provided for, the exemption from tax of the compensation to be paid for
the expropriation of privately owned lands located in the Philippines was not given any
attention, and the internal revenue exemptions specifically taken care of by said
Agreement applies only to members of the U.S. Armed Forces serving in the
Philippines and U.S. nationals working in these Islands in connection with the
construction, maintenance, operation and defense of said bases.
Anent appellant taxpayers' allegation that the respondent Collector of Internal Revenue
was barred from collecting the deficiency income tax assessment, it having been made

beyond the 3-year period prescribed by section 51-(d) of the Tax Code, We have this
much to say. Although it is true that by order of the Court of First Instance of
Pampanga, the amount of P34,580 out of the original deposit made by the Government
was withdrawn in favor of appellants on January 27, 1949, the same cannot be
considered as income for 1950 when the balance of P59,785.75 was actually received.
Before that date (1950), appellant taxpayers were still the owners of their whole
property that was subject of condemnation proceedings and said amount of P34,580
was not paid to, but merely deposited in court and withdrawn by them. Therefore,
the payment of the value of Maria Morales' Lot 724-C was actually made by the
Republic of the Philippines in 1950 and it has to be credited as income for 1950 for it
was then when title over said property passed to the Republic of the Philippines.
Appellant taxpayers cannot say that the title over the property expropriated already
passed to the Government when the latter was placed in possession thereof, for in
condemnation proceedings, title to the land does not pass to the plaintiff until the
indemnity is paid (Calvo vs. Zandueta, 49 Phil. 605), and notwithstanding possession
acquired by the expropriator, title does not actually pass to him until payment of the
amount adjudged by the Court and the registration of the judgment with the Register of
Deeds (See Visayan Refining Company vs. Camus et al., 40 Phil. 550; Metropolitan
Water District vs. De los Angeles, 55 Phil. 783). Now, if said amount should have been
reported as income for 1950 in the return that must have been filed on or before March
1, 1951, the assessment made by the Collector on January 28, 1953, is still within the
3-year prescriptive period provided for by Section 51-d and could, therefore, be
collected either by the administrative methods of distraint and levy or by judicial action
(See Collector of Internal Revenue vs. A P. Reyes et al., 100 Phil., 872; Collector of
Internal Revenue vs. Zulueta et al., 100 Phil., 872; and Sambrano vs. Court of Tax
Appeals et al., supra, p. 1).
As to appellant taxpayers' proposition that the profit, derived by them from the
expropriation of their property is merely nominal and not subject to income tax, We find
Section 35 of the Tax Code illuminating. Said section reads as follows:
SEC. 35. DETERMINATION OF GAIN OR LOSS FROM THE SALE OR
OTHER DISPOSITION OF PROPERTY. — The gain derived or loss sustained
from the sale or other disposition of property, real or personal, or mixed, shall
be determined in accordance with the following schedule:
(a) xxx xxx xxx
(b) In the case of property acquired on or after March first, nineteen hundred
and thirteen, the cost thereof if such property was acquired by purchase or the
fair market price or value as of the date of the acquisition if the same was
acquired by gratuitous title.
xxx xxx xxx
The records show that the property in question was adjudicated to Maria Morales by
order of the Court of First Instance of Pampanga on March 23, 1929, and in accordance
with the aforequoted section of the National Internal Revenue Code, only the fair market
price or value of the property as of the date of the acquisition thereof should be
considered in determining the gain or loss sustained by the property owner when the
property was disposed, without taking into account the purchasing power of the
currency used in the transaction. The records placed the value of the said property at
the time of its acquisition by appellant Maria Morales P28,291.73 and it is a fact that
same was compensated with P94,305.75 when it was expropriated. The resulting
difference is surely a capital gain and should be correspondingly taxed.
As to the only question raised by appellant Collector of Internal Revenue in case L-
9771, assailing the lower Court's order exonerating petitioners from the 50 per cent
surcharge imposed on the latter, on the ground that the taxpayers' income tax return for
41
1950 is false and/or fraudulent, it should be noted that the Court of Tax Appeals found
that the evidence did not warrant the imposition of said surcharge because the
petitioners therein acted in good faith and without intent to defraud the Government.
The question of fraud is a question of fact which frequently requires a nicely
balanced judgement to answer. All the facts and circumstances surrounding
the conduct of the tax payer's business and all the facts incident to the
preparation of the alleged fraudulent return should be considered. (Mertens,
Federal Income Taxation, Chapter 55).
The question of fraud being a question of fact and the lower court having made the
finding that "the evidence of this case does not warrant the imposition of the 50 per cent
surcharge", We are constrained to refrain from giving any consideration to the question
raised by the Solicitor General, for it is already settled in this jurisdiction that in passing
upon petitions to review decisions of the Court of Tax Appeals, We have to confine
ourselves to questions of law.
WHEREFORE, the decision appealed from by both parties is hereby affirmed, without
pronouncement as to costs. It is so ordered.
Paras, C.J., Montemayor, Reyes, A., Bautista Angelo, Concepcion, Reyes, J.B.L. and
Endencia, JJ., concur.
i. Type of properties
aa. ordinary assets
bb. capital assets
 What is capital asset? (39A, 39I,
NIRC; rr 07-03)
 Distinction btw ordinary asset
and capital asset
 Long term capital gain v short
term capital gain (39B, NIRC)
SEC. 39. Capital Gains and Losses. -
(A) Definitions. - As used in this Title -
(1) Capital Assets. - The term 'capital assets' means property held by the
taxpayer (whether or not connected with his trade or business), but does not include
stock in trade of the taxpayer or other property of a kind which would properly be
included in the inventory of the taxpayer if on hand at the close of the taxable year or
property held by the taxpayer primarily for sale to customers in the ordinary course of
his trade or business, or property used in the trade or business, of a character which
is subject to the allowance for depreciation provided in Subsection (F) of Section 34;
or real property used in trade or business of the taxpayer.
(2) Net Capital Gain. - The term 'net capital gain' means the excess of the gains
from sales or exchanges of capital assets over the losses from such sales or
exchanges.
(3) Net Capital Loss. - The term 'net capital loss' means the excess of the losses
from sales or exchanges of capital assets over the gains from such sales or
exchanges.
(B) Percentage Taken into Account - In the case of a taxpayer, other than a
corporation, only the following percentages of the gain or loss recognized upon the
sale or exchange of a capital asset shall be taken into account in computing net
capital gain, net capital loss, and net income.
(1) One hundred percent (100%) if the capital asset has been held for not more
than twelve (12) months; and

(2) Fifty percent (50%) if the capital asset has been held for more than twelve (12)
months;
RR 07-03 PDF
ii. Types of gains from dealings in property
aa. Ordinary income v capital gain (39, 22Z, NIRC)
bb. Actual and presumed gain (6E, 24D, 27D5,
100, NIRC)
cc. Net capital gain (loss) (39A, NIRC)
5. Tuason v Lingad
6. Ferrer v Collector
7. Calasanz v Commissioner
8. Gonzales v CTA – SUPRA
SEC. 39. Capital Gains and Losses. -
(A) Definitions. - As used in this Title -
(1) Capital Assets. - The term 'capital assets' means property held by the
taxpayer (whether or not connected with his trade or business), but does not include
stock in trade of the taxpayer or other property of a kind which would properly be
included in the inventory of the taxpayer if on hand at the close of the taxable year or
property held by the taxpayer primarily for sale to customers in the ordinary course of
his trade or business, or property used in the trade or business, of a character which
is subject to the allowance for depreciation provided in Subsection (F) of Section 34;
or real property used in trade or business of the taxpayer.
(2) Net Capital Gain. - The term 'net capital gain' means the excess of the gains
from sales or exchanges of capital assets over the losses from such sales or
exchanges.
(3) Net Capital Loss. - The term 'net capital loss' means the excess of the losses
from sales or exchanges of capital assets over the gains from such sales or
exchanges.
(B) Percentage Taken into Account - In the case of a taxpayer, other than a
corporation, only the following percentages of the gain or loss recognized upon the
sale or exchange of a capital asset shall be taken into account in computing net
capital gain, net capital loss, and net income.
(1) One hundred percent (100%) if the capital asset has been held for not more
than twelve (12) months; and
(2) Fifty percent (50%) if the capital asset has been held for more than twelve (12)
months;
(C) Limitation on Capital losses. - Losses from sales or exchange capital assets
shall be allowed only to the extent of the gains from such sales or exchanges. If a
bank or trust company incorporated under the laws of the Philippines, a substantial
part of whose business is the receipt of deposits, sells any bond, debenture, note, or
certificate or other evidence of indebtedness issued by any corporation (including
one issued by a government or political subdivision thereof), with interest coupons or
in registered form, any loss resulting from such sale shall not be subject to the
foregoing limitation and shall not be included in determining the applicability of such
limitation to other losses.
(D) Net Capital Loss Carry-Over. - If any taxpayer, other than a corporation,
sustains in any taxable year a net capital loss, such loss (in an amount not in excess
of the net income for such year) shall be treated in the succeeding taxable year as a
42
loss from the sale or exchange of a capital asset held for not more than twelve (12)
months.
(E) Retirement of Bonds, Etc. - For purposes of this Title, amounts received by
the holder upon the retirement of bonds, debentures, notes or certificates or other
evidences of indebtedness issued by any corporation (including those issued by a
government or political subdivision thereof) with interest coupons or in registered
form, shall be considered as amounts received in exchange therefor.
(F) Gains or losses from Short Sales, Etc. - For purposes of this Title -
(1) Gains or losses from short sales of property shall be considered as gains or
losses from sales or exchanges of capital assets; and
(2) Gains or losses attributable to the failure to exercise privileges or options to buy
or sell property shall be considered as capital gains or losses.
SEC. 22. Definitions. - When used in this Title:
(Z) The term 'ordinary income' includes any gain from the sale or exchange of
property which is not a capital asset or property described in Section 39(A)(1). Any
gain from the sale or exchange of property which is treated or considered, under
other provisions of this Title, as 'ordinary income' shall be treated as gain from the
sale or exchange of property which is not a capital asset as defined in Section
39(A)(1). The term 'ordinary loss' includes any loss from the sale or exchange of
property which is not a capital asset. Any loss from the sale or exchange of property
which is treated or considered, under other provisions of this Title, as 'ordinary loss'
shall be treated as loss from the sale or exchange of property which is not a capital
asset.
SEC. 6. Power of the Commissioner to Make Assessments and Prescribe
Additional Requirements for Tax Administration and Enforcement. -
(E) Authority of the Commissioner to Prescribe Real Property Values. - The
Commissioner is hereby authorized to divide the Philippines into different zones or
areas and shall, upon consultation with competent appraisers both from the private
and public sectors, determine the fair market value of real properties located in each
zone or area. For purposes of computing any internal revenue tax, the value of the
property shall be, whichever is the higher of:
(1) The fair market value as determined by the Commissioner; or
(2) The fair market value as shown in the schedule of values of the Provincial and
City Assessors.
SEC. 24. Income Tax Rates. -
(D) Capital Gains from Sale of Real Property. -
(1) In General. - The provisions of Section 39(B) notwithstanding, a final tax of six
percent (6%) based on the gross selling price or current fair market value as
determined in accordance with Section 6(E) of this Code, whichever is higher, is
hereby imposed upon capital gains presumed to have been realized from the sale,
exchange, or other disposition of real property located in the Philippines, classified
as capital assets, including pacto de retro sales and other forms of conditional sales,
by individuals, including estates and trusts: Provided, That the tax liability, if any, on
gains from sales or other dispositions of real property to the government or any of its
political subdivisions or agencies or to government-owned or controlled corporations
shall be determined either under Section 24 (A) or under this Subsection, at the
option of the taxpayer;
(2) Exception. - The provisions of paragraph (1) of this Subsection to the contrary
notwithstanding, capital gains presumed to have been realized from the sale or
disposition of their principal residence by natural persons, the proceeds of which is
fully utilized in acquiring or constructing a new principal residence within eighteen
(18) calendar months from the date of sale or disposition, shall be exempt from the

capital gains tax imposed under this Subsection: Provided, That 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: Provided, further, That the Commissioner shall
have been duly notified by the taxpayer within thirty (30) days from the date of sale
or disposition through a prescribed return of his intention to avail of the tax
exemption herein mentioned: Provided, still further, That the said tax exemption can
only be availed of once every ten (10) years: Provided, finally, That if there is no full
utilization of the proceeds of sale or disposition, the portion of the gain presumed to
have been realized from the sale or disposition shall be subject to capital gains tax.
For this purpose, the gross selling price or fair market value at the time of sale,
whichever is higher, shall be multiplied by a fraction which the unutilized amount
bears to the gross selling price in order to determine the taxable portion and the tax
prescribed under paragraph (1) of this Subsection shall be imposed thereon.
SEC. 27. Rates of Income tax on Domestic Corporations. -
(D) Rates of Tax on Certain Passive Incomes. -
(5) Capital Gains Realized from the Sale, Exchange or Disposition of Lands
and/or Buildings. - Afinal tax of six percent (6%) is hereby imposed on the gain
presumed to have been realized on the sale, exchange or disposition of lands and/or
buildings which are not actually used in the business of a corporation and are treated
as capital assets, based on the gross selling price of fair market value as determined
in accordance with Section 6(E) of this Code, whichever is higher, of such lands
and/or buildings.
SEC. 39. Capital Gains and Losses. -
(A) Definitions. - As used in this Title -
(1) Capital Assets. - The term 'capital assets' means property held by the
taxpayer (whether or not connected with his trade or business), but does not include
stock in trade of the taxpayer or other property of a kind which would properly be
included in the inventory of the taxpayer if on hand at the close of the taxable year or
property held by the taxpayer primarily for sale to customers in the ordinary course of
his trade or business, or property used in the trade or business, of a character which
is subject to the allowance for depreciation provided in Subsection (F) of Section 34;
or real property used in trade or business of the taxpayer.
(2) Net Capital Gain. - The term 'net capital gain' means the excess of the gains
from sales or exchanges of capital assets over the losses from such sales or
exchanges.
(3) Net Capital Loss. - The term 'net capital loss' means the excess of the losses
from sales or exchanges of capital assets over the gains from such sales or
exchanges.
G.R. No. L-24248 July 31, 1974
ANTONIO TUASON, JR., petitioner,
vs.
JOSE B. LINGAD, as Commissioner of Internal Revenue, respondent.
Araneta, Mendoza & Papa for petitioner.
Office of the Solicitor General Arturo A. Alafriz, Assistant Solicitor General Felicisimo R.
Rosete and Special Attorney Antonio H. Garces for respondent.
CASTRO, J.:p
In this petition for review of the decision of the Court of Tax Appeals in CTA Case 1398,
the petitioner Antonio Tuason, Jr. (hereinafter referred to as the petitioner) assails the
Tax Court's conclusion that the gains he realized from the sale of residential lots
43
(inherited from his mother) were ordinary gains and not gains from the sale of capital
assets under section 34(1) of the National Internal Revenue Code.
The essential facts are not in dispute.
In 1948 the petitioner inherited from his mother several tracts of land, among which
were two contiguous parcels situated on Pureza and Sta. Mesa streets in Manila, with
an area of 318 and 67,684 square meters, respectively.
When the petitioner's mother was yet alive she had these two parcels subdivided into
twenty-nine lots. Twenty-eight were allocated to their then occupants who had lease
contracts with the petitioner's predecessor at various times from 1900 to 1903, which
contracts expired on December 31, 1953. The 29th lot (hereinafter referred to as Lot
29), with an area of 48,000 square meters, more or less, was not leased to any person.
It needed filling because of its very low elevation, and was planted to kangkong and
other crops.
After the petitioner took possession of the mentioned parcels in 1950, he instructed his
attorney-in-fact, J. Antonio Araneta, to sell them.
There was no difficulty encountered in selling the 28 small lots as their respective
occupants bought them on a 10-year installment basis. Lot 29 could not however be
sold immediately due to its low elevation.
Sometime in 1952 the petitioner's attorney-in-fact had Lot 29 filled, then subdivided into
small lots and paved with macadam roads. The small lots were then sold over the years
on a uniform 10-year annual amortization basis. J. Antonio Araneta, the petitioner's
attorney-in-fact, did not employ any broker nor did he put up advertisements in the
matter of the sale thereof.
In 1953 and 1954 the petitioner reported his income from the sale of the small lots
(P102,050.79 and P103,468.56, respectively) as long-term capital gains. On May 17,
1957 the Collector of Internal Revenue upheld the petitioner's treatment of his gains
from the said sale of small lots, against a contrary ruling of a revenue examiner.
In his 1957 tax return the petitioner as before treated his income from the sale of the
small lots (P119,072.18) as capital gains and included only ½ thereof as taxable
income. In this return, the petitioner deducted the real estate dealer's tax he paid for
1957. It was explained, however, that the payment of the dealer's tax was on account of
rentals received from the mentioned 28 lots and other properties of the petitioner. On
the basis of the 1957 opinion of the Collector of Internal Revenue, the revenue
examiner approved the petitioner's treatment of his income from the sale of the lots in
question. In a memorandum dated July 16, 1962 to the Commissioner of Internal
Revenue, the chief of the BIR Assessment Department advanced the same opinion,
which was concurred in by the Commissioner of Internal Revenue.
On January 9, 1963, however, the Commissioner reversed himself and considered the
petitioner's profits from the sales of the mentioned lots as ordinary gains. On January
28, 1963 the petitioner received a letter from the Bureau of Internal Revenue advising
him to pay deficiency income tax for 1957, as follows:
Net income per orig. investigation ............... P211,095.36
Add:
56% of realized profit on sale
of lots which was deducted in the
income tax return and allowed in
the original report of examination ................. 59,539.09 Net income per final
investigation ................. P270,824.70
Less: Personal exemption ..................................... 1,800.00
Amount subject to tax ................................. P269,024.70 Tax due thereon
.......................................... P98,551.00
Less: Amount already assessed .................... 72,199.00 Balance ......... P26,352.00

Add:
½% monthly interest from
6-20-59 to 6-29-62 .................................... 4,742.36
TOTAL AMOUNT DUE AND
COLLECTIBLE ......................................... P31,095.36
The petitioner's motion for reconsideration of the foregoing deficiency assessment was
denied, and so he went up to the Court of Tax Appeals, which however rejected his
posture in a decision dated January 16, 1965, and ordered him, in addition, to pay a 5%
Surcharge and 1% monthly interest "pursuant to Sec. 51(e) of the Revenue Code."
Hence, the present petition.
The petitioner assails the correctness of the opinion below that as he was engaged in
the business of leasing the lots he inherited from his mother as well other real
properties, his subsequent sales of the mentioned lots cannot be recognized as sales of
capital assets but of "real property used in trade or business of the taxpayer." The
petitioner argues that (1) he is not the one who leased the lots in question; (2) the lots
were residential, not commercial lots; and (3) the leases on the 28 small lots were to
last until 1953, before which date he was powerless to eject the lessees therefrom.
The basic issue thus raised is whether the properties in question which the petitioner
had inherited and subsequently sold in small lots to other persons should be regarded
as capital assets.
1. The National Internal Revenue Code (C.A. 466, as amended) defines the term
"capital assets" as follows:
(1) Capital assets. — The term "capital assets" means property held
by the taxpayer (whether or not connected with his trade or
business), but does not include stock in trade of the taxpayer or other
property of a kind which would properly be included in the inventory
of the taxpayer if on hand at the close of the taxable year, or property
held by the taxpayer primarily for sale to customers in the ordinary
course of his trade or business, or property, used in the trade or
business, of a character which is subject to the allowance for
depreciation provided in subsection (f) of section thirty; or real
property used in the trade or business of the taxpayer.
As thus defined by law, the term "capital assets" includes all the properties of a
taxpayer whether or not connected with his trade or business, except: (1) stock in trade
or other property included in the taxpayer's inventory; (2) property primarily for sale to
customers in the ordinary course of his trade or business; (3) property used in the trade
or business of the taxpayer and subject to depreciation allowance; and (4) real property
used in trade or business.1If the taxpayer sells or exchanges any of the properties
above-enumerated, any gain or loss relative thereto is an ordinary gain or an ordinary
loss; the gain or loss from the sale or exchange of all other properties of the taxpayer is
a capital gain or a capital loss.2
Under section 34(b) (2) of the Tax Code, if a gain is realized by a taxpayer (other than a
corporation) from the sale or exchange of capital assets held for more than twelve
months, only 50% of the net capital gain shall be taken into account in computing the
net income.
The Tax Code's provision on so-called long-term capital gains constitutes a statute of
partial exemption. In view of the familiar and settled rule that tax exemptions are
construed in strictissimi juris against the taxpayer and liberally in favor of the taxing
authority,3 the field of application of the term it "capital assets" is necessarily narrow,
while its exclusions must be interpreted broadly.4 Consequently, it is the taxpayer's
burden to bring himself clearly and squarely within the terms of a tax-exempting
statutory provision, otherwise, all fair doubts will be resolved against him. 5 It bears
44
emphasis nonetheless that in the determination of whether a piece of property is a
capital asset or an ordinary asset, a careful examination and weighing of all
circumstances revealed in each case must be made.6
In the case at bar, after a thoroughgoing study of all the circumstances relevant to the
resolution of the issue raised, this Court is of the view, and so holds, that the petitioner's
thesis is bereft of merit.
When the petitioner obtained by inheritance the parcels in question, transferred to him
was not merely the duty to respect the terms of any contract thereon, but as well the
correlative right to receive and enjoy the fruits of the business and property which the
decedent had established and maintained.7 Moreover, the record discloses that the
petitioner owned other real properties which he was putting out for rent, from which he
periodically derived a substantial income, and for which he had to pay the real estate
dealer's tax (which he used to deduct from his gross income). 8 In fact, as far back as
1957 the petitioner was receiving rental payments from the mentioned 28 small lots,
even if the leases executed by his deceased mother thereon expired in 1953. Under the
circumstances, the petitioner's sales of the several lots forming part of his rental
business cannot be characterized as other than sales of non-capital assets.
The sales concluded on installment basis of the subdivided lots comprising Lot 29 do
not deserve a different characterization for tax purposes. The following circumstances
in combination show unequivocally that the petitioner was, at the time material to this
case, engaged in the real estate business: (1) the parcels of land involved have in
totality a substantially large area, nearly seven (7) hectares, big enough to be
transformed into a subdivision, and in the case at bar, the said properties are located in
the heart of Metropolitan Manila; (2) they were subdivided into small lots and then sold
on installment basis (this manner of selling residential lots is one of the basic earmarks
of a real estate business); (3) comparatively valuable improvements were introduced in
the subdivided lots for the unmistakable purpose of not simply liquidating the estate but
of making the lots more saleable to the general public; (4) the employment of J. Antonio
Araneta, the petitioner's attorney-in-fact, for the purpose of developing, managing,
administering and selling the lots in question indicates the existence of owner-realty
broker relationship; (5) the sales were made with frequency and continuity, and from
these the petitioner consequently received substantial income periodically; (6) the
annual sales volume of the petitioner from the said lots was considerable, e.g.,
P102,050.79 in 1953; P103,468.56 in 1954; and P119,072.18 in 1957; and (7) the
petitioner, by his own tax returns, was not a person who can be indubitably adjudged as
a stranger to the real estate business. Under the circumstances, this Court finds no
error in the holding below that the income of the petitioner from the sales of the lots in
question should be considered as ordinary income.
2. This Court notes, however, that in ordering the petitioner to pay the deficiency
income tax, the Tax Court also required him to pay a 5% surcharge plus 1% monthly
interest. In our opinion this additional requirement should be eliminated because the
petitioner relied in good faith upon opinions rendered by no less than the highest
officials of the Bureau of Internal Revenue, including the Commissioner himself. The
following ruling in Connell Bros. Co. (Phil.) vs. Collector of Internal Revenue9 applies
with reason to the case at bar:
We do not think Section 183(a) of the National Internal Revenue
Code is applicable. The same imposes the penalty of 25% when the
percentage tax is not paid on time, and contemplates a case where
the liability for the tax is undisputed or indisputable. In the present
case the taxes were paid, the delay being with reference to the
deficiency, owing to a controversy as to the proper interpretation if
Circulars Nos. 431 and 440 of the office of respondent-appellee. The

controversy was generated in good faith, since that office itself
appears to have formerly taken the view that the inclusion of the
words "tax included" on invoices issued by the taxpayer was sufficient
compliance with the requirements of said circulars. 10
ACCORDINGLY, the judgment of the Court of Tax Appeals is affirmed, except the
portion thereof that imposes 5% surcharge and 1% monthly interest, which is hereby
set aside. No costs.
Makalintal, C.J., Makasiar, Esguerra and Muñoz Palma, JJ., concur.
Teehankee, J., took no part.
G.R. No. L-16021 August 31, 1962
ANTONIO PORTA FERRER, petitioner,
vs.
(COLLECTOR) now COMMISSIONER OF INTERNAL REVENUE, respondent.
Alberto Cacnio and Associates for petitioner.
Office of the Solicitor General for respondent.
REGALA, J.:
This is a petition to review the decision of the Court of Tax Appeals, denying petitioner's
claim for refund against respondent.
The petitioner was the sole proprietor of the "La Suiza Bakery" on R. Hidalgo, Quiapo,
Manila. He owned this bakery from October 16, 1951 up to September 15, 1955, when
he sold the same to Juan Pons for the sum of P100,000.00. The assets of the bakery
consisted of accounts receivable raw materials, wrapping supplies, firewood, unexpired
insurance, good-will, machinery and equipment, and furniture and fixtures, with a total
book value of P74,321.91. In selling the bakery, petitioner spent P5,000.00 for broker's
commission and P1,000.00 for accountant's fee, or a total of P6,000.00.
After deducting the total book value of the assets and the incidental expenses from the
gross selling price, petitioner filed on February 14, 1956 his income tax return, showing
a net profit of P19,678.09 as having been realized from the sale of the bakery. On the
basis of this amount, he paid P2,439.00 as income tax on February 15, 1956.
Petitioner later requested the respondent to refund to him the sum of P2,030.00,
claiming that the bakery was a capital asset which he had held for more than twelve
months, so that the profit from its sale was a long term capital gain, and therefore, only
50 per cent of it was taxable under the National Internal Revenue Code. When no
action was taken by respondent on his request, petitioner filed a petition for refund in
the Court of Tax Appeals.
The Tax Court held that the sale of the bakery did not constitute a sale of a single asset
but of individual assets, some of which were capital assets while others were ordinary
assets. But since petitioner failed to show what portion of the selling price of the bakery
was fairly attributable to each asset, the Tax Court held that it could not ascertain the
capital and/or ordinary gains taxes properly payable upon the sale of the business. For
this reason, it denied petitioner's claim for refund.
In his first assignment of error, the petitioner contends that the Tax Court erred in
holding that he had made a profit of P19,678.09 from the sale of the bakery, upon which
amount the income tax was based. The petitioner now claims that the business had
liabilities amounting to P19,183.01 which, if deducted along with the book value of the
assets and the incidental expenses from the selling price of P100,000.00, would show a
profit of P495.05 only.
We agree with the contention of the respondent that the matter of computation of profit
cannot be taken up in this appeal because the same was neither raised in the Tax
Court nor made within the issues of the pleadings of the parties. (Sec. 19, Rule 48,
Rules of Court.) There, the only issues were whether the Tax Court had jurisdiction over
this case and whether or not the sale of the bakery was a sale of capital asset or of
45
individual assets comprising the business. The rule is well settled that no question will
be considered by the appellate court which has not been raised in the court below.
When a party deliberately adopts a certain theory, and the case is tried and decided
upon the theory in the court below, he will not be permitted to change his theory on
appeal, cause to permit him to do so would be unfair to the adverse party. (Northern
Motors, Inc. v. Prince Line, et al., G.R. No. L-13884, February 29, 1960 citing Toribio v.
Decasa, 55 Phil. 461; San Agustin v. Barrios, 68 Phil. 475; Molina v. Somes, 24 Phil.
49; and Agoncillo and Mariño v. Javier, 38 Phil. 424.)
In his second assignment of error, petitioner contends that the sale of the business
known as "La Suiza Bakery" was a sale not of the individual assets comprising the
same but of an entire, single asset which, under the law, is a capital asset.
Section 34 of the Tax Code provides in part:
Capital gains and losses. — (a) Definitions. — As used in this Title —
(1) Capital assets.-The term "capital assets" means property held by the
taxpayer (whether or not connected with his trade or business), but does not
include, stock in trade of the taxpayer or other property of a kind which would
properly be included in the inventory of the taxpayer if on hand at the close of
the taxable year, or property held by the taxpayer primarily for sale to
customers in the ordinary course of his trade or business, of property used in
the trade or business, of a character which is subject to allowance for
depreciation provided in subsection (f) of section thirty; or real property used in
the trade or business of the taxpayer.
xxx xxx xxx
(b) Percentage taken into account. — In the case of a taxpayer, other than a
corporation, only the following percentage of the gain or loss recognized upon
the sale shall be taken into account in computing net capital gain, net capital
loss, and net income.
(1) One hundred per centum if the capital asset has been held for not more
than twelve months;
(2) Fifty per centum if the capital asset has been held for more than twelve
months.
Parenthetically, it may be noted that tax rates are graduated upwards as the total
amount of income increases. But capital assets are generally held for a period in
excess of a year. When held for more than a year, the profit or loss realized is reported
for tax purposes only in the year that the asset was sold or exchanged even though the
increment might have developed over several years or was the result of years of effort.
Since the gain is taxed all in one year, a higher rate of tax would necessarily be paid be
included; similarly, only a limited amount of any loss than if a part of the gain were
reported each year the asset was held. In an attempt to compensate for this, only a
percentage of the gain on such sales is required to can be deducted in the year in
which realized. (Alexander, Federal Tax Handbook, p. 411, 1959 ed.)
The issue then is whether or not the sale of the La Suiza Bakery was a sale of a capital
asset so that the profits derived from the sale is taxable up to 50 per cent only,
considering that petitioner owned it for more than twelve months, or whether the
business is to be comminuted into its component parts, each part to be tested against
the definition of a capital assets in the Tax Code.1äwphï1.ñët
We find that Section 34 (a) (1) of our Tax Code is patterned after Section 117 (a) (1) of
the U.S. Internal Revenue Code (26 USCA, Sec. 117 [a] [17]). In interpreting this latter
provision, the United States Circuit Court of Appeals held in the leading case
of Williams v. McGowan, 152 F2d 570, 162 ALR 1036 thus —
. . . We have to decide only whether upon the sale of a going business it is to
be comminuted into its fragments, and these are to be separately matched

against the definition in Section 117 (a) (1), or whether the whole business is
to be treated as if it were a single piece of property.
Our law has been sparing in the creation of juristic entities; it has never, for
example, taken over the Roman "universitas facti" and indeed for many years
it fumbled uncertainly with the concept of a corporation. One might have
supposed that partnership would have been an especially promising field in
which to raise up an entity, particularly since merchants have always kept their
accounts upon that basis. Yet there too our law resisted at the price of great
and continuing confusion; and even when it might be thought that a statute
admitted, if it did not demand, recognition of the firm as an entity, the old
concepts prevailed. Francis v. McNeal, 228 US 695, 33 S Ct 701, 57 L. ed.
1029, LRA 1915 E 706. And so, even though we might agree that under the
influence of the Uniform Partnership Act a partner's interest in the firm should
be treated as indivisible, and for that reason a "capital asset" within Section
117 (a) (1), we should be chary about extending further so exotic a jural
concept. Be that as it may, in this instance the section itself furnishes the
answer. It starts in the broadest way by declaring that all "property" is "capital
asset", and then makes three exceptions. The first is "stock in trade . . . or
other property of a kind which would properly be included in the inventory";
next comes "property held . . . primarily for sale to customers"; and finally
property "used in the trade or business of a character which is subject to . . .
allowance for depreciation." In the face of this language, although it may be
true that a "stock in trade," taken by itself should be treated as a "universitas
facti" by no possibility can a whole business be so treated; and the same is
true as to any property within the other exceptions. Congress plaintly did mean
to comminute the elements of a business; plainly it did not regard the whole as
"capital assets."
This ruling was cited with approval by the United State Supreme Court in Watson v.
Commissioner, 345 U.S. 544, 97 L. ed. 1232.
In line with this ruling, We hold that the sale of the "La Suiza Bakery" was a sale not of
a single asset but of individual assets that made up the business. And since petitioner
failed to point out what part of the price he had received could be fairly attributed to
each asset, the Tax Court correctly denied his claim.
While agreeing with the Tax Court that the good-will of the business is a capital asset,
petitioner nevertheless contends that there is neither factual nor legal basis for
concluding that the good-will of the bakery which he had acquired for P10,000.00 was
sold at the same price. The petitioner states that he sold the assets of the bakery at
their stated book value and that whatever amount of the selling price exceeded the total
book value of the assets minus the good-will should be attributed to the latter alone. In
short, it is urged that whatever profit was made from the sale came solely from the
bakery's good-will which the Tax Court held to be a capital asset, only 50 per cent of
which was taxable.
The Tax Court's finding that the petitioner acquired and sold the good-will of the bakery
for the same amount is supported by evidence (Exhibit "4" of respondent) which has not
been rebutted. Indeed, it is inconceivable how a business, which was heavily indebted
as petitioner contends can ever possess a good-will that can command so high a price.
For this reason, We believe that any profit which the petitioner may have gained in the
same must have come from the sale of the other assets of the business which must
have been sold for amounts other than their stated book value. As the Tax Court held,
in order to ascertain the capital and/or ordinary gains taxes properly payable on the sale
of a business, including its tangible assets, it is incumbent upon the taxpayer to show
46
not only the cost basis of each asset, but also what portion of the selling price is fairly
attributable to each asset. (Cohen v. Kelm, 119 F supp. 376.)
WHEREFORE, the decision of the Court of Tax Appeals is hereby affirmed, with costs
against the petitioner.
Bengzon, C.J., Bautista Angelo, Labrador, Paredes, Dizon and Makalintal, JJ., concur.
Concepcion and Barrera, JJ., concur in the result.
Padilla, J., took no part.
G.R. No. L-26284 October 8, 1986
TOMAS CALASANZ, ET AL., petitioners,
vs.
THE COMMISSIONER OF INTERNAL REVENUE and the COURT OF TAX
APPEALS, respondents.
San Juan, Africa, Gonzales & San Agustin Law Office for petitioners.
FERNAN, J.:
Appeal taken by Spouses Tomas and Ursula Calasanz from the decision of the Court of
Tax Appeals in CTA No. 1275 dated June 7, 1966, holding them liable for the payment
of P3,561.24 as deficiency income tax and interest for the calendar year 1957 and
P150.00 as real estate dealer's fixed tax.
Petitioner Ursula Calasanz inherited from her father Mariano de Torres an agricultural
land located in Cainta, Rizal, containing a total area of 1,678,000 square meters. In
order to liquidate her inheritance, Ursula Calasanz had the land surveyed and
subdivided into lots. Improvements, such as good roads, concrete gutters, drainage and
lighting system, were introduced to make the lots saleable. Soon after, the lots were
sold to the public at a profit.
In their joint income tax return for the year 1957 filed with the Bureau of Internal
Revenue on March 31, 1958, petitioners disclosed a profit of P31,060.06 realized from
the sale of the subdivided lots, and reported fifty per centum thereof or P15,530.03 as
taxable capital gains.
Upon an audit and review of the return thus filed, the Revenue Examiner adjudged
petitioners engaged in business as real estate dealers, as defined in Section 194 [s] 1 of
the National Internal Revenue Code, required them to pay the real estate dealer's
tax 2 and assessed a deficiency income tax on profits derived from the sale of the lots
based on the rates for ordinary income.
On September 29, 1962, petitioners received from respondent Commissioner of Internal
Revenue:
a. Demand No. 90-B-032293-57 in the amount of P160.00
representing real estate dealer's fixed tax of P150.00 and P10.00
compromise penalty for late payment; and
b. Assessment No. 90-5-35699 in the amount of P3,561.24 as
deficiency income tax on ordinary gain of P3,018.00 plus interest of P
543.24.
On October 17, 1962, petitioners filed with the Court of Tax Appeals a petition for
review contesting the aforementioned assessments.
On June 7, 1966, the Tax Court upheld the respondent Commissioner except for that
portion of the assessment regarding the compromise penalty of P10.00 for the reason
that in this jurisdiction, the same cannot be collected in the absence of a valid and
binding compromise agreement.
Hence, the present appeal.
The issues for consideration are:

a. Whether or not petitioners are real estate dealers liable for real
estate dealer's fixed tax; and
b. Whether the gains realized from the sale of the lots are taxable in
full as ordinary income or capital gains taxable at capital gain rates.
The issues are closely interrelated and will be taken jointly.
Petitioners assail their liabilities as "real estate dealers" and seek to bring the profits
from the sale of the lots under Section 34 [b] [2] 3 of the Tax Code.
The theory advanced by the petitioners is that inherited land is a capital asset within the
meaning of Section 34[a] [1] of the Tax Code and that an heir who liquidated his
inheritance cannot be said to have engaged in the real estate business and may not be
denied the preferential tax treatment given to gains from sale of capital assets, merely
because he disposed of it in the only possible and advantageous way.
Petitioners averred that the tract of land subject of the controversy was sold because of
their intention to effect a liquidation. They claimed that it was parcelled out into smaller
lots because its size proved difficult, if not impossible, of disposition in one single
transaction. They pointed out that once subdivided, certainly, the lots cannot be sold in
one isolated transaction. Petitioners, however, admitted that roads and other
improvements were introduced to facilitate its sale. 4
On the other hand, respondent Commissioner maintained that the imposition of the
taxes in question is in accordance with law since petitioners are deemed to be in the
real estate business for having been involved in a series of real estate transactions
pursued for profit. Respondent argued that property acquired by inheritance may be
converted from an investment property to a business property if, as in the present case,
it was subdivided, improved, and subsequently sold and the number, continuity and
frequency of the sales were such as to constitute "doing business." Respondent
likewise contended that inherited property is by itself neutral and the fact that the
ultimate purpose is to liquidate is of no moment for the important inquiry is what the
taxpayer did with the property. Respondent concluded that since the lots are ordinary
assets, the profits realized therefrom are ordinary gains, hence taxable in full.
We agree with the respondent.
The assets of a taxpayer are classified for income tax purposes into ordinary assets
and capital assets. Section 34[a] [1] of the National Internal Revenue Code broadly
defines capital assets as follows:
[1] Capital assets.-The term 'capital assets' means property held by
the taxpayer [whether or not connected with his trade or business],
but does not include, stock in trade of the taxpayer or other property
of a kind which would properly be included, in the inventory of the
taxpayer if on hand at the close of the taxable year, or property held
by the taxpayer primarily for sale to customers in the ordinary course
of his trade or business, or property used in the trade or business of a
character which is subject to the allowance for depreciation provided
in subsection [f] of section thirty; or real property used in the trade or
business of the taxpayer.
The statutory definition of capital assets is negative in nature. 5 If the asset is not
among the exceptions, it is a capital asset; conversely, assets falling within the
exceptions are ordinary assets. And necessarily, any gain resulting from the sale or
exchange of an asset is a capital gain or an ordinary gain depending on the kind of
asset involved in the transaction.
However, there is no rigid rule or fixed formula by which it can be determined with
finality whether property sold by a taxpayer was held primarily for sale to customers in
the ordinary course of his trade or business or whether it was sold as a capital
asset. 6 Although several factors or indices 7 have been recognized as helpful guides in
47
making a determination, none of these is decisive; neither is the presence nor the
absence of these factors conclusive. Each case must in the last analysis rest upon its
own peculiar facts and circumstances. 8
Also a property initially classified as a capital asset may thereafter be treated as an
ordinary asset if a combination of the factors indubitably tend to show that the activity
was in furtherance of or in the course of the taxpayer's trade or business. Thus, a sale
of inherited real property usually gives capital gain or loss even though the property has
to be subdivided or improved or both to make it salable. However, if the inherited
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 heir's
business. 9 Upon an examination of the facts on record, We are convinced that the
activities of petitioners are indistinguishable from those invariably employed by one
engaged in the business of selling real estate.
One strong factor against petitioners' contention is the business element of
development which is very much in evidence. Petitioners did not sell the land in the
condition in which they acquired it. While the land was originally devoted to rice and fruit
trees, 10 it was subdivided into small lots and in the process converted into a residential
subdivision and given the name Don Mariano Subdivision. Extensive improvements like
the laying out of streets, construction of concrete gutters and installation of lighting
system and drainage facilities, among others, were undertaken to enhance the value of
the lots and make them more attractive to prospective buyers. The audited financial
statements 11 submitted together with the tax return in question disclosed that a
considerable amount was expended to cover the cost of improvements. As a matter of
fact, the estimated improvements of the lots sold reached P170,028.60 whereas the
cost of the land is only P 4,742.66. There is authority that a property ceases to be a
capital asset if the amount expended to improve it is double its original cost, for
the extensive improvement indicates that the seller held the property primarily for sale
to customers in the ordinary course of his business. 12
Another distinctive feature of the real estate business discernible from the records is the
existence of contracts receivables, which stood at P395,693.35 as of the year ended
December 31, 1957. The sizable amount of receivables in comparison with the sales
volume of P446,407.00 during the same period signifies that the lots were sold on
installment basis and suggests the number, continuity and frequency of the sales. Also
of significance is the circumstance that the lots were advertised 13 for sale to the
public and that sales and collection commissions were paid out during the period in
question.
Petitioners, likewise, urge that the lots were sold solely for the purpose of liquidation.
In Ehrman vs. Commissioner,14 the American court in clear and categorical terms
rejected the liquidation test in determining whether or not a taxpayer is carrying on a
trade or business The court observed that the fact that property is sold for purposes of
liquidation does not foreclose a determination that a "trade or business" is being
conducted by the seller. The court enunciated further:
We fail to see that the reasons behind a person's entering into a
business-whether it is to make money or whether it is to liquidate-
should be determinative of the question of whether or not the gains
resulting from the sales are ordinary gains or capital gains. The sole
question is-were the taxpayers in the business of subdividing real
estate? If they were, then it seems indisputable that the property sold
falls within the exception in the definition of capital assets . . . that is,
that it constituted 'property held by the taxpayer primarily for sale to
customers in the ordinary course of his trade or business.
 48

Additionally, in Home Co., Inc. vs. Commissioner, 15 the court articulated on the matter
in this wise: CRUZ, J.:
One may, of course, liquidate a capital asset. To do so, it is Petition for review on certiorari of the decision of the Court of Tax Appeals absolving the
necessary to sell. The sale may be conducted in the most private respondents from liability for capital gains tax on the stocks received by them
advantageous manner to the seller and he will not lose the benefits of from the Eastern Theatrical Inc. These were originally four cages involving appeals from
the capital gain provision of the statute unless he enters the real the decision of the Commissioner of Internal Revenue dated July 11, 1966, holding the
estate business and carries on the sale in the manner in which such a said respondents, Vicente A. Rufino and Remedies S. Rufino, Ernesto D. Rufino and
business is ordinarily conducted. In that event, the liquidation Elvira B. Rufino, Rafael R. Rufino and Julieta A. Rufino, and Manuel S. Galvez and
constitutes a business and a sale in the ordinary course of such a Ester R. Galvez, liable for deficiency income tax, surcharge and interest in the sums of
business and the preferred tax status is lost. P44,294.88, P27,229.44, P58,082.60 and P58,074.24, respectively, for the year 1959.
In view of the foregoing, We hold that in the course of selling the subdivided lots, The facts, as narrated by the Court of Tax Appeals, are as follows:
petitioners engaged in the real estate business and accordingly, the gains from the sale The private respondents were the majority stockholders of the defunct Eastern
of the lots are ordinary income taxable in full. Theatrical Co., Inc., a corporation organized in 1934, for a period of twenty-five years
WHEREFORE, the decision of the Court of Tax Appeals is affirmed. No costs. terminating on January 25, 1959. It had an original capital stock of P500,000.00, which
SO ORDERED. was increased in 1949 to P2,000,000.00, divided into 200,000 shares at P10.00 per
Feria (Chairman), Alampay, Gutierrez, Jr. and Paras, JJ., concur. share, and was organized to engage in the business of operating theaters, opera
houses, places of amusement and other related business enterprises, more particularly
iii. Special rules pertaining to income/loss from dealings in the Lyric and Capitol Theaters in Manila. The President of this corporation (hereinafter
property referred to as the Old Corporation) during the year in question was Ernesto D. Rufino.
aa. Computation of the amount of the gain (loss) The private respondents are also the majority and controlling stockholders of another
(40A, NIRC) corporation, the Eastern Theatrical Co Inc., which was organized on December 8, 1958,
 Basis of property sold (40B, for a term of 50 years, with an authorized capital stock of P200,000.00, each share
NIRC) having a par value of P10.00. This corporation is engaged in the same kind of business
 Basis of property exchanged in as the Old Corporation. The General-Manager of this corporation (hereinafter referred
corporate readjustment (40C5, to as the New Corporation) at the time was Vicente A. Rufino.
NIRC) In a special meeting of stockholders of the Old Corporation on December 17, 1958, to
 Recognition of gain/loss in provide for the continuation of its business after the end of its corporate life, and upon
exchange of property the recommendation of its board of directors, a resolution was passed authorizing the
General Rule (40C1, NIRC) Old Corporation to merge with the New Corporation by transferring its business, assets,
Exceptions: goodwill, and liabilities to the latter, which in exchange would issue and distribute to the
o Where no gain/loss shareholders of the Old Corporation one share for each share held by them in the said
shall be recognized Corporation.
(40C2, NIRC; RMO 17- It was expressly declared that the merger of the Old Corporation with the New
2016) Corporation was necessary to continue the exhibition of moving pictures at the Lyric
Meaning of tax-free and Capitol Theaters even after the expiration of the corporate existence of the former,
exchange/merger/conso in view of its pending booking contracts, not to mention its collective bargaining
lidation/de facto merger agreements with its employees.
(40C6, NIRC; RMO 26- Pursuant to the said resolution, the Old Corporation, represented by Ernesto D. Rufino
92, 32-2001, 17-2002, as President, and the New Corporation, represented by Vicente A. Rufino as General
17-2016; rr 18-2001; Manager, signed on January 9, 1959, a Deed of Assignment providing for the
rmr 01-01, 01-02, 2- conveyance and transfer of all the business, property, assets and goodwill of the Old
2002) Corporation to the New Corporation in exchange for the latter's shares of stock to be
distributed among the shareholders on the basis of one stock for each stock held in the
Comm v Rufino Old Corporation except that no new and unissued shares would be issued to the
shareholders of the Old Corporation; the delivery by the New Corporation to the Old
G.R. Nos. L-33665-68 February 27, 1987 Corporation of 125,005-3/4 shares to be distributed to the shareholders of the Old
COMMISSIONER OF INTERNAL REVENUE, petitioner, Corporation as their corresponding shares of stock in the New Corporation; the
vs. assumption by the New Corporation of all obligations and liabilities of the Old
VICENTE A. RUFINO and REMEDIOS S. RUFINO, ERNESTO D. RUFINO and Corporation under its bargaining agreement with the Cinema Stage & Radio
ELVIRA B. RUFINO, RAFAEL R. RUFINO and JULIETA A. RUFINO, MANUEL S. Entertainment Free Workers (FFW) which included the retention of all personnel in the
GALVEZ and ESTER R. GALVEZ, and COURT OF TAX APPEALS, respondents. latter's employ; and the increase of the capitalization of the New Corporation in
Leonardo Abola for respondents.

compliance with their agreement. This agreement was made retroactive to January 1,
1959.
The aforesaid transfer was eventually made by the Old Corporation to the New
Corporation, which continued the operation of the Lyric and Capitol Theaters and
assumed all the obligations and liabilities of the Old Corporation beginning January 1,
1959.
The resolution of the Old Corporation of December 17, 1958, and the Deed of
Assignment of January 9, 1959, were approved in a resolution by the stockholders of
the New Corporation in their special meeting on January 12, 1959. In the same
meeting, the increased capitalization of the New Corporation to P2,000,000.00 was also
divided into 200,000 shares at P10.00 par value each share, and the said increase was
registered on March 5, 1959, with the Securities and Exchange Commission, which
approved the same on August 20,1959.
As agreed, and in exchange for the properties, and other assets of the Old Corporation,
the New Corporation issued to the stockholders of the former stocks in the New
Corporation equal to the stocks each one held in the Old Corporation, as follows:
Mr. & Mrs. Vicente A. Rufino............... 17,083 shares
Mr. & Mrs. Rafael R. Rufino ................. 16,881 shares
Mr. & Mrs. Ernesto D. Rufino .............. 18,347 shares
Mr. & Mrs. Manuel S. Galvez ............... 16,882 shares
It was this above-narrated series of transactions that the Bureau of Internal Revenue
examined later, resulting in the petitioner declaring that the merger of the aforesaid
corporations was not undertaken for a bona fide business purpose but merely to avoid
liability for the capital gains tax on the exchange of the old for the new shares of stock.
Accordingly, he imposed the deficiency assessments against the private respondents
for the amounts already mentioned. The private respondents' request for
reconsideration having been denied, they elevated the matter to the Court of Tax
Appeals, which reversed the petitioner.
We have given due course to the instant petition questioning the decision of the said
court holding that there was a valid merger between the Old Corporation and the New
Corporation and declaring that:
It is well established that where stocks for stocks were exchanged,
and distributed to the stockholders of the corporations, parties to the
merger or consolidation, pursuant to a plan of reorganization, such
exchange is exempt from capital gains tax . . .
In view of the foregoing, we are of the opinion and so hold that no
taxable gain was derived by petitioners from the exchange of their old
stocks solely for stocks of the New Corporation pursuant to Section
35(c) (2), in relation to (c) (5), of the National Internal Revenue Code,
as amended by Republic Act 1921. 1
The above-cited Section 35 of the Tax Code, on the proper interpretation and
application of which the resolution of this case depends, provides in material part as
follows:
Sec. 35. Determination of gain or loss from the sale or other
disposition of property. — The gain derived or loss sustained from the
sale or other disposition of property, real, personal or mixed, shall be
determined in accordance with the following schedule:
xxx xxx xxx
(c) Exchange of property-
(1) General Rule. — Except as herein provided
upon the sale or exchange of property, the entire
49
amount of the gain or loss, as the case may be,
shall be recognized.
(2) Exceptions. — No gain or loss shall be
recognized if in pursuance of a plan of merger or
consolidation (a) a corporation which is a party to a
merger or consolidation, exchanges property solely
for stock in a corporation which is a party to the
merger or consolidation, (b) a shareholder
exchanges stock in a corporation which is a party
to the merger or consolidation solely for the stock
of another corporation, also a party to the merger
or consolidation, or (c) a security holder of a
corporation which is a party to the merger or
consolidation exchanges his securities in such
corporation solely for stock or securities in another
corporation, a party to the merger or consolidation.
xxx xxx xxx
(5) Definitions.-(a) x x x (b) The term "merger" or
"consolidation," when used in this section, shall be
understood to mean: (1) The ordinary merger or
consolidation, or (2) the acquisition by one
corporation of all or substantially all the properties
of another corporation solely for stock; Provided,
That for a transaction to be regarded as a merger
or consolidation within the purview of this section, it
must be undertaken for a bona fide business
purpose and not solely for the purpose of escaping
the burden of taxation; Provided further, That in
determining whether a bona fide business purpose
exists, each and every step of the transaction shall
be considered and the whole transaction or series
of transactions shall be treated as a single unit: ...
In support of its position that the Deed of Assignment was concluded by the private
respondents merely to evade the burden of taxation, the petitioner points to the fact that
the New Corporation did not actually issue stocks in exchange for the properties of the
Old Corporation at the time of the supposed merger on January 9, 1959. The exchange,
he says, was only on paper. The increase in capitalization of the New Corporation was
registered with the Securities and Exchange Commission only on March 5, 1959, or 37
days after the Old Corporation expired on January 25, 1959. Prior to such registration, it
was not possible for the New Corporation to effect the exchange provided for in the said
agreement because it was capitalized only at P200,000.00 as against the capitalization
of the Old Corporation at P2,000,000.00. Consequently, as there was no merger, the
automatic dissolution of the Old Corporation on its expiry date resulted in its liquidation,
for which the respondents are now liable in taxes on their capital gains.
For their part, the private respondents insist that there was a genuine merger between
the Old Corporation and the New Corporation pursuant to a plan aimed at enabling the
latter to continue the business of the former in the operation of places of amusement,
specifically the Capitol and Lyric Theaters. The plan was evolved through the series of
transactions above narrated, all of which could be treated as a single unit in accordance
with the requirements of Section 35. Obviously, all these steps did not have to be
completed at the time of the merger, as there were some of them, such as the increase
and distribution of the stock of the New Corporation, which necessarily had to come

afterwards. Moreover, the Old Corporation was dissolved on January 1, 1959, pursuant
to the Deed of Assignment, and not on January 25, 1959, its original expiry date. As the
properties of the Old Corporation were transferred to the New Corporation before that
expiry date, there could not have been any distribution of liquidating dividends by the
Old Corporation for which the private respondents should be held liable in taxes.
We sustain the Court of Tax Appeals. We hold that it did not err in finding that no
taxable gain was derived by the private respondents from the questioned transaction.
Contrary to the claim of the petitioner, there was a valid merger although the actual
transfer of the properties subject of the Deed of Assignment was not made on the date
of the merger. In the nature of things, this was not possible. Obviously, it was necessary
for the Old Corporation to surrender its net assets first to the New Corporation before
the latter could issue its own stock to the shareholders of the Old Corporation because
the New Corporation had to increase its capitalization for this purpose. This required the
adoption of the resolution to this effect at the special stockholders meeting of the New
Corporation on January 12, 1959, the registration of such issuance with the SEC on
March 5, 1959, and its approval by that body on August 20, 1959. All these took place
after the date of the merger but they were deemed part and parcel of, and
indispensable to the validity and enforceability of, the Deed of Assignment.
The Court finds no impediment to the exchange of property for stock between the two
corporations being considered to have been effected on the date of the merger. That, in
fact, was the intention, and the reason why the Deed of Assignment was made
retroactive to January 1, 1959. Such retroaction provided in effect that all transactions
set forth in the merger agreement shall be deemed to be taking place simultaneously on
January 1, 1959, when the Deed of Assignment became operative.
The certificates of stock subsequently delivered by the New Corporation to the private
respondents were only evidence of the ownership of such stocks. Although these
certificates could be issued to them only after the approval by the SEC of the increase
in capitalization of the New Corporation, the title thereto, legally speaking, was
transferred to them on the date the merger took effect, in accordance with the Deed of
Assignment.
The basic consideration, of course, is the purpose of the merger, as this would
determine whether the exchange of properties involved therein shall be subject or not to
the capital gains tax. The criterion laid down by the law is that the merger" must be
undertaken for a bona fide business purpose and not solely for the purpose of escaping
the burden of taxation." We must therefore seek and ascertain the intention of the
parties in the light of their conduct contemporaneously with, and especially after, the
questioned merger pursuant to the Deed of Assignment of January 9, 1959.
It has been suggested that one certain indication of a scheme to evade the capital gains
tax is the subsequent dissolution of the new corporation after the transfer to it of the
properties of the old corporation and the liquidation of the former soon thereafter. This
highly suspect development is likely to be a mere subterfuge aimed at circumventing
the requirements of Section 35 of the Tax Code while seeming to be a valid corporate
combination. Speaking of such a device, Justice Sutherland declared for the United
States Supreme Court in Helvering v. Gregory:
When subdivision (b) speaks of a transfer of assets by one
corporation to another, it means a transfer made 'in pursuance of a
plan of reorganization' (Section 112[g]) of corporate business; and not
a transfer of assets by one corporation to another in pursuance of a
plan having no relation to the business of either, as plainly is the case
here. Putting aside, then, the question of motive in respect of taxation
altogether, and fixing the character of proceeding by what actually
occurred, what do we find? Simply an operation having no business
50
or corporate purpose — a mere devise which put on the form of a
corporate reorganization as a disguise for concealing its real
character, and the sole object and accomplishment of which was the
consummation of a preconceived plan, not to reorganize a business
or any part of a business, but to transfer a parcel of corporate shares
to the petitioner. No doubt, a new and valid corporation was created.
But that corporation was nothing more than a contrivance to the end
last described. It was brought into existence for no other purpose; it
performed, as it was intended from the beginning it should perform,
no other function. When that limited function had been exercised, it
immediately was put to death.
In these circumstances, the facts speak for themselves and are
susceptible of but one interpretation. The whole undertaking, though
conducted according to the terms of subdivision (b), was in fact an
elaborate and devious form of conveyance masquerading as a
corporate reorganization and nothing else. The rule which excludes
from consideration the motive of tax avoidance is not pertinent to the
situation, because the transaction upon its face lies outside the plain
intent of the statute. To hold otherwise would be to exalt artifice
above reality and to deprive the statutory provision in question of all
serious purpose. 2
We see no such furtive intention in the instant case. It is clear, in fact, that the purpose
of the merger was to continue the business of the Old Corporation, whose corporate life
was about to expire, through the New Corporation to which all the assets and
obligations of the former had been transferred. What argues strongly, indeed, for the
New Corporation is that it was not dissolved after the merger agreement in 1959. On
the contrary, it continued to operate the places of amusement originally owned by the
Old Corporation and transfered to the New Corporation, particularly the Capitol and
Lyric Theaters, in accordance with the Deed of Assignment. The New Corporation, in
fact, continues to do so today after taking over the business of the Old Corporation
twenty-seven years ago.
It may be recalled at this point that under the original provisions of the old Corporation
Law, which was in effect when the merger agreement was concluded in 1959, it was not
possible for a corporation, by mere amendment of its charter, to extend its life beyond
the time fixed in the original articles; in fact, this was specifically prohibited by Section
18, which provided that "any corporation may amend its articles of incorporation by a
majority vote of its board of directors or trustees and the vote or written assent of two-
thirds of its members, if it be a non-stock corporation, or if it be a stock corporation, by
the vote or written assent of the stockholders representing at least two-thirds of the
subscribed capital stock of the corporation ... : Provided, however, That the life of said
corporation shall not be extended by said amendment beyond the fixed in the original
articles ... "
This prohibition, which incidentally has since been deleted, made it necessary for the
Old and New Corporations to enter into the questioned merger, to enable the former to
continue its unfinished business through the latter.
The procedure for such merger was prescribed in Section 28 1/2 of the old Corporation
Law which, although not expressly authorizing a merger by name (as the new
Corporation Code now does in its Section 77), provided that "a corporation may, by
action taken at any meeting of its board of directors, sell, lease, exchange, or otherwise
dispose of all or substantially all of its property and assets, including its goodwill, upon
such terms and conditions and for such considerations, which may be money, stocks,
bond, or other instruments for the payment of money or other property or other

considerations, as its board of directors deem expedient." The transaction contemplated
in the old law covered the second type of merger defined by Section 35 of the Tax Code
as "the acquisition by one corporation of all or substantially all of the properties of
another corporation solely for stock," which is precisely what happened in the present
case.
What is also worth noting is that, as in the case of the Old Corporation when it was
dissolved on December 31, 1958, there has been no distribution of the assets of the
New Corporation since then and up to now, as far as the record discloses. To date, the
private respondents have not derived any benefit from the merger of the Old
Corporation and the New Corporation almost three decades earlier that will make them
subject to the capital gains tax under Section 35. They are no more liable now than they
were when the merger took effect in 1959, as the merger, being genuine, exempted
them under the law from such tax.
By this decision, the government is, of course, not left entirely without recourse, at least
in the future. The fact is that the merger had merely deferred the claim for taxes, which
may be asserted by the government later, when gains are realized and benefits are
distributed among the stockholders as a result of the merger. In other words, the
corresponding taxes are not forever foreclosed or forfeited but may at the proper time
and without prejudice to the government still be imposed upon the private respondents,
in accordance with Section 35(c) (4) of the Tax Code. Then, in assessing the tax, "the
basis of the property transferred in the hands of the transferee shall be the same as it
would be in the hands of the transferor, increased by the amount of gain recognized to
the transferor on the transfer." The only inhibition now is that time has not yet come.
The reason for this conclusion is traceable to the purpose of the legislature in adopting
the provision of law in question. The basic Idea was to correct the Tax Code which, by
imposing taxes on corporate combinations and expansions, discouraged the same to
the detriment of economic progress, particularly the promotion of local industry.
Speaking of this problem, HB No. 7233, which was subsequently enacted into R.A. No.
1921 embodying Section 35 as now worded, declared in the Explanatory Note:
The exemption from the tax of the gain derived from exchanges of
stock solely for stock of another corporation resulting from corporate
mergers or consolidations under the above provisions, as amended,
was intended to encourage corporations in pooling, combining or
expanding their resources conducive to the economic development of
the country. 3
Our ruling then is that the merger in question involved a pooling of resources aimed at
the continuation and expansion of business and so came under the letter and
intendment of the National Internal Revenue Code, as amended by the abovecited law,
exempting from the capital gains tax exchanges of property effected under lawful
corporate combinations.
WHEREFORE, the decision of the Court of Tax Appeals is affirmed in full, without any
pronouncement as to costs.
SO ORDERED.
Yap (Chairman), Narvasa, Melencio-Herrera, Feliciano, Gancayco and sarmiento, JJ.,
concur.
 Transaction where gain is
recognized but not the loss
Exchange not solely in kind
(40C3, 40C4, NIRC)
SEC. 40. Determination of Amount and Recognition of Gain or Loss. -
51
(A) Computation of Gain or Loss. - The gain from the sale or other disposition of
property shall be the excess of the amount realized therefrom over the basis or
adjusted basis for determining gain, and the loss shall be the excess of the basis or
adjusted basis for determining loss over the amount realized. The amount realized
from the sale or other disposition of property shall be the sum of money received
plus the fair market value of the property (other than money) received;
(B) Basis for Determining Gain or Loss from Sale or Disposition of Property. -
The basis of property shall be -
(1) The cost thereof in the case of property acquired on or after March 1, 1913, if
such property was acquired by purchase; or
(2) The fair market price or value as of the date of acquisition, if the same was
acquired by inheritance; or
(3) If the property was acquired by gift, the basis shall be the same as if it would be
in the hands of the donor or the last preceding owner by whom it was not acquired
by gift, except that if such basis is greater than the fair market value of the property
at the time of the gift then, for the purpose of determining loss, the basis shall be
such fair market value; or
(4) If the property was acquired for less than an adequate consideration in money or
money's worth, the basis of such property is the amount paid by the transferee for
the property; or
(5) The basis as defined in paragraph (C)(5) of this Section, if the property was
acquired in a transaction where gain or loss is not recognized under paragraph
(C)(2) of this Section.
(C) Exchange of Property. -
(1) General Rule. - Except as herein provided, upon the sale or exchange or
property, the entire amount of the gain or loss, as the case may be, shall be
recognized.
(2) Exception. - No gain or loss shall be recognized if in pursuance of a plan of
merger or consolidation -
(a) A corporation, which is a party to a merger or consolidation, exchanges property
solely for stock in a corporation, which is a party to the merger or consolidation; or
(b) A shareholder exchanges stock in a corporation, which is a party to the merger or
consolidation, solely for the stock of another corporation also a party to the merger or
consolidation; or
(c) A security holder of a corporation, which is a party to the merger or consolidation,
exchanges his securities in such corporation, solely for stock or securities in such
corporation, a party to the merger or consolidation.
No gain or loss shall also be recognized if property is transferred to a corporation by
a person in exchange for stock or unit of participation in such a corporation of which
as a result of such exchange said person, alone or together with others, not
exceeding four (4) persons, gains control of said corporation: Provided, That stocks
issued for services shall not be considered as issued in return for property.
(3) Exchange Not Solely in Kind. -
(a) If, in connection with an exchange described in the above exceptions, an
individual, a shareholder, a security holder or a corporation receives not only stock or
securities permitted to be received without the recognition of gain or loss, but also
money and/or property, the gain, if any, but not the loss, shall be recognized but in
an amount not in excess of the sum of the money and fair market value of such other
property received: Provided, That as to the shareholder, if the money and/or other
property received has the effect of a distribution of a taxable dividend, there shall be
taxed as dividend to the shareholder an amount of the gain recognized not in excess

of his proportionate share of the undistributed earnings and profits of the corporation;
the remainder, if any, of the gain recognized shall be treated as a capital gain.
(b) If, in connection with the exchange described in the above exceptions, the
transferor corporation receives not only stock permitted to be received without the
recognition of gain or loss but also money and/or other property, then (i) if the
corporation receiving such money and/or other property distributes it in pursuance of
the plan of merger or consolidation, no gain to the corporation shall be recognized
from the exchange, but (ii) if the corporation receiving such other property and/or
money does not distribute it in pursuance of the plan of merger or consolidation, the
gain, if any, but not the loss to the corporation shall be recognized but in an amount
not in excess of the sum of such money and the fair market value of such other
property so received, which is not distributed.
(4) Assumption of Liability. -
(a) If the taxpayer, in connection with the exchanges described in the foregoing
exceptions, receives stock or securities which would be permitted to be received
without the recognition of the gain if it were the sole consideration, and as part of the
consideration, another party to the exchange assumes a liability of the taxpayer, or
acquires from the taxpayer property, subject to a liability, then such assumption or
acquisition shall not be treated as money and/or other property, and shall not prevent
the exchange from being within the exceptions.
(b) If the amount of the liabilities assumed plus the amount of the liabilities to which
the property is subject exceed the total of the adjusted basis of the property
transferred pursuant to such exchange, then such excess shall be considered as a
gain from the sale or exchange of a capital asset or of property which is not a capital
asset, as the case may be.
(5) Basis -
(a) The basis of the stock or securities received by the transferor upon the exchange
specified in the above exception shall be the same as the basis of the property, stock
or securities exchanged, decreased by (1) the money received, and (2) the fair
market value of the other property received, and increased by (a) the amount treated
as dividend of the shareholder and (b) the amount of any gain that was recognized
on the exchange: Provided, That the property received as 'boot' shall have as basis
its fair market value: Provided, further, That if as part of the consideration to the
transferor, the transferee of property assumes a liability of the transferor or acquires
form the latter property subject to a liability, such assumption or acquisition (in the
amount of the liability) shall, for purposes of this paragraph, be treated as money
received by the transferor on the exchange: Provided, finally, That if the transferor
receives several kinds of stock or securities, the Commissioner is hereby authorized
to allocate the basis among the several classes of stocks or securities.
(b) The basis of the property transferred in the hands of the transferee shall be the
same as it would be in the hands of the transferor increased by the amount of the
gain recognized to the transferor on the transfer.
(6) Definitions. -
(a) The term "securities" means bonds and debentures but not 'notes' of whatever
class or duration.
(b) The term "merger" or "consolidation", when used in this Section, shall be
understood to mean: (i) the ordinary merger or consolidation, or (ii) the acquisition by
one corporation of all or substantially all the properties of another corporation solely
for stock: Provided, That for a transaction to be regarded as a merger or
consolidation within the purview of this Section, it must be undertaken for a bona fide
business purpose and not solely for the purpose of escaping the burden of taxation:
Provided, further, That in determining whether a bona fide business purpose exists,
52
each and every step of the transaction shall be considered and the whole transaction
or series of transaction shall be treated as a single unit: Provided, finally , That in
determining whether the property transferred constitutes a substantial portion of the
property of the transferor, the term "property" shall be taken to include the cash
assets of the transferor.
(c) The term "control", when used in this Section, shall mean ownership of stocks in
a corporation possessing at least fifty-one percent (51%) of the total voting power of
all classes of stocks entitled to vote.
(d) The Secretary of Finance, upon recommendation of the Commissioner, is hereby
authorized to issue rules and regulations for the purpose "substantially all" and for
the proper implementation of this Section.
Wash sales (38, 39F2 NIRC;
131, 149 rr 2-1940)
Transactions btw related
taxpayers (39B, NIRC)
SEC. 38. Losses from Wash Sales of Stock or Securities. -
(A) In the case of any loss claimed to have been sustained from any sale or other
disposition of shares of stock or securities where it appears that within a period
beginning thirty (30) days before the date of such sale or disposition and ending
thirty (30) days after such date, the taxpayer has acquired (by purchase or by
exchange upon which the entire amount of gain or loss was recognized by law), or
has entered into a contact or option so to acquire, substantially identical stock or
securities, then no deduction for the loss shall be allowed under Section 34 unless
the claim is made by a dealer in stock or securities and with respect to a transaction
made in the ordinary course of the business of such dealer.
(B) If the amount of stock or securities acquired (or covered by the contract or option
to acquire) is less than the amount of stock or securities sold or otherwise disposed
of, then the particular shares of stock or securities, the loss from the sale or other
disposition of which is not deductible, shall be determined under rules and
regulations prescribed by the Secretary of Finance, upon recommendation of the
Commissioner.
(C) If the amount of stock or securities acquired (or covered by the contract or option
to acquire which) is not less than the amount of stock or securities sold or otherwise
disposed of, then the particular shares of stock or securities, the acquisition of which
(or the contract or option to acquire which) resulted in the non-deductibility of the
loss shall be determined under rules and regulations prescribed by the Secretary of
Finance, upon recommendation of the Commissioner.
SEC. 39. Capital Gains and Losses. -
(A) Definitions. - As used in this Title -
(1) Capital Assets. - The term 'capital assets' means property held by the
taxpayer (whether or not connected with his trade or business), but does not include
stock in trade of the taxpayer or other property of a kind which would properly be
included in the inventory of the taxpayer if on hand at the close of the taxable year or
property held by the taxpayer primarily for sale to customers in the ordinary course of
his trade or business, or property used in the trade or business, of a character which
is subject to the allowance for depreciation provided in Subsection (F) of Section 34;
or real property used in trade or business of the taxpayer.
(2) Net Capital Gain. - The term 'net capital gain' means the excess of the gains
from sales or exchanges of capital assets over the losses from such sales or
exchanges.

(3) Net Capital Loss. - The term 'net capital loss' means the excess of the losses
from sales or exchanges of capital assets over the gains from such sales or
exchanges.
(B) Percentage Taken into Account - In the case of a taxpayer, other than a
corporation, only the following percentages of the gain or loss recognized upon the
sale or exchange of a capital asset shall be taken into account in computing net
capital gain, net capital loss, and net income.
(1) One hundred percent (100%) if the capital asset has been held for not more
than twelve (12) months; and
(2) Fifty percent (50%) if the capital asset has been held for more than twelve (12)
months;
(C) Limitation on Capital losses. - Losses from sales or exchange capital assets
shall be allowed only to the extent of the gains from such sales or exchanges. If a
bank or trust company incorporated under the laws of the Philippines, a substantial
part of whose business is the receipt of deposits, sells any bond, debenture, note, or
certificate or other evidence of indebtedness issued by any corporation (including
one issued by a government or political subdivision thereof), with interest coupons or
in registered form, any loss resulting from such sale shall not be subject to the
foregoing limitation and shall not be included in determining the applicability of such
limitation to other losses.
(D) Net Capital Loss Carry-Over. - If any taxpayer, other than a corporation,
sustains in any taxable year a net capital loss, such loss (in an amount not in excess
of the net income for such year) shall be treated in the succeeding taxable year as a
loss from the sale or exchange of a capital asset held for not more than twelve (12)
months.
(E) Retirement of Bonds, Etc. - For purposes of this Title, amounts received by
the holder upon the retirement of bonds, debentures, notes or certificates or other
evidences of indebtedness issued by any corporation (including those issued by a
government or political subdivision thereof) with interest coupons or in registered
form, shall be considered as amounts received in exchange therefor.
(F) Gains or losses from Short Sales, Etc. - For purposes of this Title -
(1) Gains or losses from short sales of property shall be considered as gains or
losses from sales or exchanges of capital assets; and
(2) Gains or losses attributable to the failure to exercise privileges or options to buy
or sell property shall be considered as capital gains or losses.
SEC. 36. Items not Deductible. -
(A) General Rule. - In computing net income, no deduction shall in any case be
allowed in respect to -
(1) Personal, living or family expenses;
(2) Any amount paid out for new buildings or for permanent improvements, or
betterments made to increase the value of any property or estate;
This Subsection shall not apply to intangible drilling and development costs incurred
in petroleum operations which are deductible under Subsection (G) (1) of Section 34
of this Code.
(3) Any amount expended in restoring property or in making good the exhaustion
thereof for which an allowance is or has been made; or
(4) Premiums paid on any life insurance policy covering the life of any officer or
employee, or of any person financially interested in any trade or business carried on
by the taxpayer, individual or corporate, when the taxpayer is directly or indirectly a
beneficiary under such policy.
53
(B) Losses from Sales or Exchanges of Property. - In computing net income, no
deductions shall in any case be allowed in respect of losses from sales or exchanges
of property directly or indirectly -
(1) Between members of a family. For purposes of this paragraph, the family of an
individual shall include only his brothers and sisters (whether by the whole or half-
blood), spouse, ancestors, and lineal descendants; or
(2) Except in the case of distributions in liquidation, between an individual and
corporation more than fifty percent (50%) in value of the outstanding stock of which
is owned, directly or indirectly, by or for such individual; or
(3) Except in the case of distributions in liquidation, between two corporations more
than fifty percent (50%) in value of the outstanding stock of which is owned, directly
or indirectly, by or for the same individual if either one of such corporations, with
respect to the taxable year of the corporation preceding the date of the sale of
exchange was under the law applicable to such taxable year, a personal holding
company or a foreign personal holding company;
(4) Between the grantor and a fiduciary of any trust; or
(5) Between the fiduciary of and the fiduciary of a trust and the fiduciary of another
trust if the same person is a grantor with respect to each trust; or
(6) Between a fiduciary of a trust and beneficiary of such trust.
Illegal Transactions (96, rr2)
RR 2
SECTION 96. Losses generally. — Losses must usually be evidenced by closed and
completed transactions. Proper adjustment must be made in each case for
expenditures or items of loss properly chargeable to capital account, and for
depreciation, obsolescence, amortization, or depletion. Moreover, the amount of the
loss must be reduced by the amount of any insurance or other compensation
received, and by the salvage value, if any, of the property. A loss on the sale of
residential property is not deductible unless the property was purchased or
constructed by the taxpayer with a view to its subsequent sale for pecuniary profit.
No loss is sustained by the transfer of property by gift or death. Losses sustained in
illegal transactions are not deductible.
 Short Sale (39F, 39I, NIRC; 135,
rr 2)
RR 2
SECTION 135.Gains and losses from short sales. — For income tax purposes, a
short sale is not deemed to be consummated until the delivery of property to cover
the short sale. If the short sale is made through a broker and the broker borrows
property to make delivery, the short sale is not deemed to be consummated until the
obligation of the seller created by the short sale is finally discharged by delivery of
property to the brokers to replace the property borrowed by such broker. (Section 35
of the Code)
 Gains and losses attributable to
the failure to exercise privileges
or options to buy/sell property
bb. Income tax treatment of capital loss

 Capital loss limitation rule
(applicable to both corporations
and individuals) (39C, NIRC)
iv. Income from dealings in capital asset subject to special
rules
aa. Dealings in real property situated in the PH (rr
07-03; rr 13-99; rr 8-98; rmc 45-02)
bb. Dealings in shares of stock of PH corporations
Definition of Shares (22L, 24C, 27D2, 28A7c, 127,
NIRC; 55, rr 2; rr 6-2008; rr 016-12; rr 6-2013; rmc
73-07)
 Shares listed and traded in the
stock exchange
 Shares not listed and traded in
the stock exchange
SEC. 22. Definitions. - When used in this Title:
(L) The term 'shares of stock' shall include shares of stock of a corporation,
warrants and/or options to purchase shares of stock, as well as units of participation
in a partnership (except general professional partnerships), joint stock companies,
joint accounts, joint ventures taxable as corporations, associations and recreation or
amusement clubs (such as golf, polo or similar clubs), and mutual fund certificates.
CHAPTER III
TAX ON INDIVIDUALS
SEC. 24. Income Tax Rates. -
(A) Rates of Income Tax on Individual Citizen and Individual Resident Alien of
the Philippines.-
(1) An income tax is hereby imposed:
(a) On the taxable income defined in Section 31 of this Code, other than income
subject to tax under Subsections (B), (C) and (D) of this Section, derived for each
taxable year from all sources within and without the Philippines be every individual
citizen of the Philippines residing therein;
(b) On the taxable income defined in Section 31 of this Code, other than income
subject to tax under Subsections (B), (C) and (D) of this Section, derived for each
taxable year from all sources within the Philippines by an individual citizen of the
Philippines who is residing outside of the Philippines including overseas contract
workers referred to in Subsection(C) of Section 23 hereof; and
(c) On the taxable income defined in Section 31 of this Code, other than income
subject to tax under Subsections (B), (C) and (D) of this Section, derived for each
taxable year from all sources within the Philippines by an individual alien who is a
resident of the Philippines.
(2) Rates of Tax on Taxable Income of Individuals. [11] - The tax shall be
computed in accordance with and at the rates established in the following schedule:
Not over 5%
P10,000 P500+10% of the
Over P10,000 excess over P10,000
but not over P2,500+15% of the
P30,000 excess over P30,000
Over P30,000 P8,500+20% of the
but not over excess over P70,000
P70,000 P22,500+25% of the
54
Over P70,000 excess over P140,000
but not over P50,000+30% of the
P140,000 excess over P250,000
Over P140,000 P125,000+32% of the
but not over excess over
P250,00 P500,000.[12]
Over P250,000
but not over
P500,000
Over P500,000
For married individuals, the husband and wife, subject to the provision of Section 51
(D) hereof, shall compute separately their individual income tax based on their
respective total taxable income: Provided, That if any income cannot be definitely
attributed to or identified as income exclusively earned or realized by either of the
spouses, the same shall be divided equally between the spouses for the purpose of
determining their respective taxable income.
Provided, That minimum wage earners as defined in Section 22(HH) of this Code
shall be exempt from the payment of income tax on their taxable income: provided,
further, That the holiday pay, overtime pay, night shift differential pay and hazard pay
received by such minimum wage earners shall likewise be exempt from income
tax. [13]
(B) Rate of Tax on Certain Passive Income: -
(1) Interests, Royalties, Prizes, and Other Winnings. -
A final tax at the rate of twenty percent (20%) is hereby imposed upon the amount of
interest from any currency bank deposit and yield or any other monetary benefit from
deposit substitutes and from trust funds and similar arrangements; royalties, except
on books, as well as other literary works and musical compositions, which shall be
imposed a final tax of ten percent (10%); prizes (except prizes amounting to Ten
thousand pesos (P10,000) or less which shall be subject to tax under Subsection (A)
of Section 24; and other winnings (except Philippine Charity Sweepstakes and Lotto
winnings), derived from sources within the Philippines: Provided, however, That
interest income received by an individual taxpayer (except a nonresident individual)
from a depository bank under the expanded foreign currency deposit system shall be
subject to a final income tax at the rate of seven and one-half percent (7 1/2%) of
such interest income: Provided, further, That interest income from long-term deposit
or investment in the form of savings, common or individual trust funds, deposit
substitutes, investment management accounts and other investments evidenced by
certificates in such form prescribed by the Bangko Sentral ng Pilipinas (BSP) shall
be exempt from the tax imposed under this Subsection: Provided, finally, That should
the holder of the certificate pre-terminate the deposit or investment before the fifth
(5th) year, a final tax shall be imposed on the entire income and shall be deducted
and withheld by the depository bank from the proceeds of the long-term deposit or
investment certificate based on the remaining maturity thereof:
Four (4) years to less than five (5) years - 5%;
Three (3) years to less than (4) years - 12%; and
Less than three (3) years - 20%
(2) Cash and/or Property Dividends. - A final tax at the following rates shall be
imposed upon the cash and/or property dividends actually or constructively received
by an individual from a domestic corporation or from a joint stock company,
insurance or mutual fund companies and regional operating headquarters of
multinational companies, or on the share of an individual in the distributable net
income after tax of a partnership (except a general professional partnership) of which

he is a partner, or on the share of an individual in the net income after tax of an
association, a joint account, or a joint venture or consortium taxable as a corporation
of which he is a member or co-venturer:
Six percent (6%) beginning January 1, 1998;
Eight percent (8%) beginning January 1, 1999;
Ten percent (10%) beginning January 1, 2000.
Provided, however, That the tax on dividends shall apply only on income earned on
or after January 1, 1998. Income forming part of retained earnings as of December
31, 1997 shall not, even if declared or distributed on or after January 1, 1998, be
subject to this tax.
(C) Capital Gains from Sale of Shares of Stock not Traded in the Stock
Exchange. - The provisions of Section 39(B) notwithstanding, a final tax at the rates
prescribed below is hereby imposed upon the net capital gains realized during the
taxable year from the sale, barter, exchange or other disposition of shares of stock in
a domestic corporation, except shares sold, or disposed of through the stock
exchange.
Not over P 100,000 5%
On any amount in excess of P 100,000 10%
(D) Capital Gains from Sale of Real Property. -
(1) In General. - The provisions of Section 39(B) notwithstanding, a final tax of six
percent (6%) based on the gross selling price or current fair market value as
determined in accordance with Section 6(E) of this Code, whichever is higher, is
hereby imposed upon capital gains presumed to have been realized from the sale,
exchange, or other disposition of real property located in the Philippines, classified
as capital assets, including pacto de retro sales and other forms of conditional sales,
by individuals, including estates and trusts: Provided, That the tax liability, if any, on
gains from sales or other dispositions of real property to the government or any of its
political subdivisions or agencies or to government-owned or controlled corporations
shall be determined either under Section 24 (A) or under this Subsection, at the
option of the taxpayer;
(2) Exception. - The provisions of paragraph (1) of this Subsection to the contrary
notwithstanding, capital gains presumed to have been realized from the sale or
disposition of their principal residence by natural persons, the proceeds of which is
fully utilized in acquiring or constructing a new principal residence within eighteen
(18) calendar months from the date of sale or disposition, shall be exempt from the
capital gains tax imposed under this Subsection: Provided, That 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: Provided, further, That the Commissioner shall
have been duly notified by the taxpayer within thirty (30) days from the date of sale
or disposition through a prescribed return of his intention to avail of the tax
exemption herein mentioned: Provided, still further, That the said tax exemption can
only be availed of once every ten (10) years: Provided, finally, That if there is no full
utilization of the proceeds of sale or disposition, the portion of the gain presumed to
have been realized from the sale or disposition shall be subject to capital gains tax.
For this purpose, the gross selling price or fair market value at the time of sale,
whichever is higher, shall be multiplied by a fraction which the unutilized amount
bears to the gross selling price in order to determine the taxable portion and the tax
prescribed under paragraph (1) of this Subsection shall be imposed thereon.
SEC. 27. Rates of Income tax on Domestic Corporations. -
(D) Rates of Tax on Certain Passive Incomes. -
(1) Interest from Deposits and Yield or any other Monetary Benefit from
Deposit Substitutes and from Trust Funds and Similar Arrangements, and
55
Royalties. - A final tax at the rate of twenty percent (20%) is hereby imposed upon
the amount of interest on currency bank deposit and yield or any other monetary
benefit from deposit substitutes and from trust funds and similar arrangements
received by domestic corporations, and royalties, derived from sources within the
Philippines: Provided, however, That interest income derived by a domestic
corporation from a depository bank under the expanded foreign currency deposit
system shall be subject to a final income tax at the rate of seven and one-half
percent (7 1/2%) of such interest income.
(2) Capital Gains from the Sale of Shares of Stock Not Traded in the Stock
Exchange. - A final tax at the rates prescribed below shall be imposed on net capital
gains realized during the taxable year from the sale, exchange or other disposition of
shares of stock in a domestic corporation except shares sold or disposed of through
the stock exchange:
Not over P 100,000 5%
Amount in excess of P 100,000 10%
SEC. 28. Rates of Income Tax on Foreign Corporations. - [21]
(A) Tax on Resident Foreign Corporations. -
(1) In General. - Except as otherwise provided in this Code, a corporation organized,
authorized, or existing under the laws of any foreign country, engaged in trade or
business within the Philippines, shall be subject to an income tax equivalent to thirty-
five percent (35%) of the taxable income derived in the preceding taxable year from
all sources within the Philippines: Provided, That effective January 1, 2009, the rate
of income tax shall be thirty percent (30%). [22]
In the case of corporations adopting the fiscal-year accounting period, the taxable
income shall be computed without regard to the specific date when sales, purchases
and other transactions occur. Their income and expenses for the fiscal year shall be
deemed to have been earned and spent equally for each month of the period.
The corporate income tax rate shall be applied on the amount computed by
multiplying the number of months covered by the new rate within the fiscal year by
the taxable income of the corporation for the period, divided by twelve. [23]
Provided, however, That a resident foreign corporation shall be granted the option to
be taxed at fifteen percent (15%) on gross income under the same conditions, as
provided in Section 27 (A).
(2) Minimum Corporate Income Tax on Resident Foreign Corporations. - A
minimum corporate income tax of two percent (2%) of gross income, as prescribed
under Section 27 (E) of this Code, shall be imposed, under the same conditions, on
a resident foreign corporation taxable under paragraph (1) of this Subsection.
(3) International Carrier. - An international carrier doing business in the Philippines
shall pay a tax of two and one-half percent (2 1/2 %) on its 'Gross Philippine Billings'
as defined hereunder:
(a) International Air Carrier. - 'Gross Philippine Billings' 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: Provided, That tickets revalidated, exchanged and/or indorsed to another
international airline form part of the Gross Philippine Billings if the passenger boards
a plane in a port or point in the Philippines: Provided, further, That for a flight which
originates from the Philippines, but transshipment of passenger takes place at any
part outside the Philippines on another airline, only the aliquot portion of the cost of
the ticket corresponding to the leg flown from the Philippines to the point of
transshipment shall form part of Gross Philippine Billings.

(b) International Shipping. - 'Gross Philippine Billings' means gross revenue
whether for passenger, cargo or mail originating from the Philippines up to final
destination, regardless of the place of sale or payments of the passage or freight
documents.
Provided, That international carriers doing business in the Philippines may avail of a
preferential rate or exemption from the tax herein imposed on their gross revenue
derived from the carriage of persons and their excess baggage on the basis of an
applicable tax treaty or international agreement to which the Philippines is a
signatory or on the basis of reciprocity such that an international carrier, whose
home country grants income tax exemption to Philippine carriers, shall likewise be
exempt from the tax imposed under this provision.
(4) Offshore Banking Units. - The provisions of any law to the contrary
notwithstanding, income derived by offshore banking units authorized by the Bangko
Sentral ng Pilipinas (BSP), from foreign currency transactions with nonresidents,
other offshore banking units, local commercial banks, including branches of foreign
banks that may be authorized by the Bangko Sentral ng Pilipinas (BSP) to transact
business with offshore banking units shall be exempt from all taxes except net
income from such transactions as may be specified by the Secretary of Finance,
upon recommendation of the Monetary Board which shall be subject to the regular
income tax payable by banks: Provided, however, That any interest income derived
from foreign currency loans granted to residents other than offshore banking units or
local commercial banks, including local, branches of foreign banks that may be
authorized by the BSP to transact business with offshore banking units, shall be
subject only to a final tax at the rate of ten percent (10%). [24]
Any income of nonresidents, whether individuals or corporations, from transactions
with said offshore banking units shall be exempt from income tax.
(5) Tax on Branch Profits Remittances. - Any profit remitted by a branch to its
head office shall be subject to a tax of fifteen (15%) which shall be based on the total
profits applied or earmarked for remittance without any deduction for the tax
component thereof (except those activities which are registered with the Philippine
Economic Zone Authority). The tax shall be collected and paid in the same manner
as provided in Sections 57 and 58 of this Code: Provided, that interests, dividends,
rents, royalties, including remuneration for technical services, salaries, wages
premiums, annuities, emoluments or other fixed or determinable annual, periodic or
casual gains, profits, income and capital gains received by a foreign corporation
during each taxable year from all sources within the Philippines shall not be treated
as branch profits unless the same are effectively connected with the conduct of its
trade or business in the Philippines.
(6) Regional or Area Headquarters and Regional Operating Headquarters of
Multinational Companies. -
(a) Regional or area headquarters as defined in Section 22(DD) shall not be subject
to income tax.
(b) Regional operating headquarters as defined in Section 22(EE) shall pay a tax of
ten percent (10%) of their taxable income.
(7) Tax on Certain Incomes Received by a Resident Foreign Corporation. -
(a) Interest from Deposits and Yield or any other Monetary Benefit from
Deposit Substitutes, Trust Funds and Similar Arrangements and
Royalties. - Interest from any currency bank deposit and yield or any other monetary
benefit from deposit substitutes and from trust funds and similar arrangements and
royalties derived from sources within the Philippines shall be subject to a final
income tax at the rate of twenty percent (20%) of such interest: Provided, however,
That interest income derived by a resident foreign corporation from a depository
56
bank under the expanded foreign currency deposit system shall be subject to a final
income tax at the rate of seven and one-half percent (7 1/2%) of such interest
income.
(b) Income Derived under the Expanded Foreign Currency Deposit
System. - Income derived by a depository bank under the expanded foreign
currency deposit system from foreign currency transactions with nonresidents,
offshore banking units in the Philippines, local commercial banks including branches
of foreign banks that may be authorized by the Bangko Sentral ng Pilipinas (BSP) to
transact business with foreign currency deposit system units, and other depository
banks under the expanded foreign currency deposit system shall be exempt from all
taxes, except net income from such transactions as may be specified by the
Secretary of Finance, upon recommendation by the Monetary Board to be subject to
the regular income tax payable by banks: Provided, however, That interest income
from foreign currency loans granted by such depository banks under said expanded
system to residents other than offshore banking units in the Philippines or other
depository banks under the expanded system shall be subject to a final tax at the
rate of ten percent (10%). [25]
Any income of nonresidents, whether individuals or corporations, from transactions
with depository banks under the expanded system shall be exempt from income tax.
(c) Capital Gains from Sale of Shares of Stock Not Traded in the Stock
Exchange. - A final tax at the rates prescribed below is hereby imposed upon the
net capital gains realized during the taxable year from the sale, barter, exchange or
other disposition of shares of stock in a domestic corporation except shares sold or
disposed of through the stock exchange:
Not over P 100,000 5%
On any amount in excess of P 100,000 10%
SEC. 127. Tax on Sale, Barter or Exchange of Shares of Stock Listed and
Traded through the Local Stock Exchange or through Initial Public Offering. -
(A) Tax on Sale, Barter or Exchange of Shares of Stock Listed and Traded
through the Local Stock Exchange.- There shall be levied, assessed and collected
on every sale, barter, exchange, or other disposition of shares of stock listed and
traded through the local stock exchange other than the sale by a dealer in securities,
a tax at the rate of one-half of one percent (1/2 of 1%) of the gross selling price or
gross value in money of the shares of stock sold, bartered, exchanged or otherwise
disposed which shall be paid by the seller or transferor.
(B) Tax on Shares of Stock Sold or Exchanged Through Initial Public Offering. -
There shall be levied, assessed and collected on every sale, barter, exchange or
other disposition through initial public offering of shares of stock in closely held
corporations, as defined herein, a tax at the rates provided hereunder based on the
gross selling price or gross value in money of the shares of stock sold, bartered,
exchanged or otherwise disposed in accordance with the proportion of shares of
stock sold, bartered, exchanged or otherwise disposed to the total outstanding
shares of stock after the listing in the local stock exchange:
Up to twenty-five percent (25%)
4%
Over twenty-five percent (25%) but not over thirty-three and one third
2%
percent (33 1/3%)
1 1%
Over thirty-three and one third percent (33 /3%)
The tax herein imposed shall be paid by the issuing corporation in primary offering or
by the seller in secondary offering.
For purposes of this Section, the term 'closely held corporation' means any
corporation at least fifty percent (50%) in value of outstanding capital stock or at
least fifty percent (50%) of the total combined voting power of all classes of stock
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entitled to vote is owned directly or indirectly by or for not more than twenty (20)  Percentage of gain or loss taken into
individuals. account (note: for individuals only);
For purposes of determining whether the corporation is a closely held corporation, holding period rule (39B, NIRC)
insofar as such determination is based on stock ownership, the following rules shall  Net loss Carry-Over Rule (applicable only
be applied: to individuals) (39D, NIRC)
(1) Stock Not Owned by Individuals. - Stock owned directly or indirectly by or for a v. Sale of Principal Residence (24D2, NIRC; rr 13-99; rr 14-
corporation, partnership, estate or trust shall be considered as being owned 2000)
proportionately by its shareholders, partners or beneficiaries.
(2) Family and Partnership Ownerships. - An individual shall be considered as
owning the stock owned, directly or indirectly, by or for his family, or by or for his
partner. For purposes of the paragraph, the 'family of an individual' includes only
his brothers and sisters (whether by whole or half-blood), spouse, ancestors and
lineal descendants.
(3) Option. - If any person has an option acquire stock, such stock shall be
considered as owned by such person. For purposes of this paragraph, an option to
acquire such an option and each one of a series of options shall be considered as an
option to acquire such stock.
(4) Constructive Ownership as Actual Ownership. - Stock constructively owned
by reason of the application of paragraph (1) or (3) hereof shall, for purposes of
applying paragraph (1) or (2), be treated as actually owned by such person; but
stock constructively owned by the individual by reason of the application of
paragraph (2) hereof shall not be treated as owned by him for purposes of again
applying such paragraph in order to make another the constructive owner of such
stock.
(C) Return on Capital Gains Realized from Sale of Shares of Stocks. -
(1) Return on Capital Gains Realized from Sale of Shares of Stock Listed and
Traded in the Local Stock Exchange. - It shall be the duty of every stock broker
who effected the sale subject to the tax imposed herein to collect the tax and remit
the same to the Bureau of Internal Revenue within five (5) banking days from the
date of collection thereof and to submit on Mondays of each week to the secretary of
the stock exchange, of which he is a member, a true and complete return which shall
contain a declaration of all the transactions effected through him during the
preceding week and of taxes collected by him and turned over to the Bureau Of
Internal Revenue.
(2) Return on Public Offerings of Shares of Stock. - In case of primary offering,
the corporate issuer shall file the return and pay the corresponding tax within thirty
(30) days from the date of listing of the shares of stock in the local stock exchange.
In the case of secondary offering, the provision of Subsection (C) (1) of this Section
shall apply as to the time and manner of the payment of the tax.
(D) Common Provisions. - any gain derived from the sale, barter, exchange or
other disposition of shares of stock under this Section shall be exempt from the tax
imposed in Sections 24(C), 27(D)(2), 28(A)(8)(c), and 28(B)(5)(c) of this Code and
from the regular individual or corporate income tax. Tax paid under this Section shall
not be deductible for income tax purposes.

cc. Other capital assets

Holding Period