[Document title]

LECTURE NOTES

A. Allowable Deductions, Defined

Deductions are items or amounts which the law allows to be deducted from gross income of certain taxpayers in order to
arrive at the taxable income

B. Kinds of Deductions
1. Itemized Deductions
2. Optional Standard Deduction
3. Personal Exemptions
4. Special Deductions allowed in special cases

Taxpayer Allowable Deductions

Individuals earning pure compensation income 1.) Basic Personal Exemption1
2.) Additional Personal Exemption2
3.) Premium Payments on health/hospitalization insurance 3
Individuals deriving income from trade, business or 1.) Basic Personal Exemption4
practice of profession 2.) Additional Personal Exemption5
3.) Premium Payments on health/hospitalization insurance 6
4.) Itemized deductions or Optional Standard deduction
Corporations Itemized deductions or Optional Standard deduction

C. Itemized Deductions(ExInTaLoBaChaRePenDepDep)

1. Ordinary and necessary business expenses in general

2. Interest
3. Taxes
4. Losses
5. Bad debts
6. Depreciation
7. Depletion
8. Charitable Contributions
9. Research and Development
10. Contributions to Pernsion Trust
11. Premium Payments on Health and/or Hospitalization Insurance

D. Expenses, in general

Definition of Terms:

Business Expense vs. Capital Expense

Business Expenses - refer to all the ordinary and necessary expenses paid or incurred during the taxable year in carrying
on or which are directly attributable to the development, management, operation and/or conduct of the trade, business
or the exercise of a profession.

Capital Expenses - are expenditures for the extraordinary repairs which are capitalized and subject to depreciation. These
are expenses which tend to increase the value or prolong the life of the taxpayer's property.

Ordinary & Necessary Expenses

Ordinary Expenses - refers to the expenses which are normal, usual or common to the business, trade or profession of
the taxpayer. An expense is ordinary when it is commonly incurred in the trade or business of the taxpayer as
distinguished from capital expenditures. The payments, however, need not be normal or habitual in the sense that the
taxpayer will have to make them often, The payment may be unique or non-recurring to the particular taxpayer affected.

Necessary Expenses - one which is useful and appropriate in the conduct of the taxpayer's trade or profession.

Extra-Ordinary Expenses - these are amortized or depreciated,

Requisites for deductibility:

a. Must be ordinary and necessary

1
This has been repealed by the TRAIN Law effective January 1, 2018.
2
This has been repealed by the TRAIN Law effective January 1, 2018.
3
This has already been repealed under the TRAIN Law effective January 1, 2018. No one avails of it anyway since the requirements are
too stringent for such a small amount of benefit.
4
Refer to note 1
5
Refer to note 2
6
Refer to note 3
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b. Paid or incurred during the taxable year
Exception: Net Operating Loss Carry-Over (NOLCO)
c. Connected with trade, business or profession of the taxpayer
d. Reasonable in amount
d. Supported by sufficient evidence such as official receipts and other official records; and
i. Official receipts
ii. Adequate Records
iii. Amount of Expense being deducted
iv. Date and place where such expense is paid or incurred
v. Nature of expense - direct connection or relation of the expense being deducted to the development,
management, operation and/or conduct of the trade, business or profession of the taxpayer.
e. Not against the law, morals, public order or public policy
f. Subjected to withholding tax, if applicable

Kinds of Ordinary & Necessary Expenses (CARTERS)

a. Compensation for services rendered, including the grossed-up monetary value of fringe benefit granted by the
employer to the employee
b. Advertising & promotional expenses
c. Rent expenses
d. Travelling expenses
e. Entertainment, Amusement and Recreation expenses
f. Repairs & maintenance expenses
g.Supplies and materials

Compensation for Services Rendered

Special Requisites for Deductibility of these Expenses:

i. This must be reasonable, meaning, this must not be ostensible; and
ii. This are, in fact, payments for personal services actually rendered,

Special Requisites for Deductibility of Bonuses to Employees:

1. The bonuses are made in good faith;
2. They are given for personal services actually rendered; and
3. They do not exceed a reasonable compensation for the services rendered, when added to the stipulated
salaries, measured by the amount and quality of services performed in relation to the taxpayer's business,
4. Bonuses must be given in good faith and in determining whether the bonuses will form part of the
compensation for services rendered, you have to consider the (1) nature of the business, (2) the financial
capacity of the taxpayer and (3) the extent of the services rendered.
5. General Economic Condition

Deductible expenses under compensation for personal services

1. Salaries, wages, commissions, professional fees, vacation-leave pay, retirement pay and other compensation.
2. Bonuses are deductible expenses if paid in-good faith as additional compensation for services rendered.
3. Pensions and compensation for injuries, if not compensated for by insurance or otherwise.
4. Grossed-up monetary value (GMV) of fringe benefit provided for, as long as the final tax imposed has been
paid.

Advertising and Promotional Expenses

It must be reasonable.

Classifications:
1. Advertising to stimulate the current sale of merchandise or use of services
2. Advertising to stimulate future sales of merchandise or use of services (General Foods Inc. v. CIR)
- If these advertising expenses are incurred to stimulate future sales and the amount involved is
inordinately large, these would be considered as a capital expenditure to be spread over a reasonable
period of time. This was the Supreme Court’s holding in Commissioner of Internal Revenue vs. General
Foods (Phils.), Inc. (G.R. No. 143672 dated April 24, 2003). If these are incurred to stimulate future
sales, it connotes expenditures to create or maintain some form of goodwill or protection of the brand
franchise.

Rental Expenses

Requisites:
i. The rental payment is required as a condition for continued use or possession;
ii. The purpose is for trade, business or profession; meaning the property is used in trade or business.
iii. The taxpayer must not be the owner of the property or he has no equitable title over the property. The
taxpayer must not be taking title to the property.
iv. This is subject to withholding tax. (5%)
Traveling Expenses

Special Requisites for Deductibility of Traveling Expenses;

i. The expenses must be reasonable and necessary;
ii. They must be incurred or paid "while away from home"; and "Home" does not refer to your residence but to
the station assignment or post/principal place of business regardless of where the family residence is maintained
i,e, business trips, This includes transportation, meals and lodging. (RR 2-40)
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iii. They must be paid or incurred in the conduct of trade or business,

Entertainment, Amusement and Recreation Expenses

Special Requisites for Deductibility of EAR Expenses:

i. Reasonable in amount;
ii. Incurred during the taxable period;
iii. Directly connected to the development, management and operation of the trade, business, or profession of the
taxpayer, or that are directly related to or in furtherance of the conduct of his or its trade, business or profession.
iv. Not to exceed such ceiling as the Secretary of Finance may, by rules and regulations, prescribe (Refer to
RR 10-2002);
Limit
Sale of goods or properties Net Sales x ½ of 1%
Sale of services Net Revenue x 1%

v. Any expense incurred for entertainment, amusement or recreation which is contrary to law, morals, public
policy, or public order shall in no case be allowed as a deduction.

Repairs and Maintenance Expenses

Expenses for repairs are deductible if such repairs are incidental or ordinary, that is, made to keep the property used in
the trade or business of the taxpayer in an ordinarily efficient operating condition. Repairs in the nature of replacement
to the extent that they arrest deterioration and prolong the life of the property are capital expenditures and should be
debited against the corresponding allowance for depreciation.

Note: If the cost of the repair increases the life of an asset for a period of more than one (1) year, that amount is
considered extra-ordinary repair. Otherwise, it is considered ordinary repair.

Supplies and Materials

This must be actually consumed during the taxable year.

Litigation Expenses

Litigation expenses defrayed by a taxpayer to collect apartment rentals and to delinquent tenants are ordinary and
necessary expenses in pursuing his business. However, litigation expenses that are incurred in the defense or protection
of title are capital in nature and not deductible.

Cost of defending a business in a civil suit i.e. damages on patent infringement, injuries, etc. irrespective of the judgment
is DEDUCTIBLE but it must have been ADJUDICATED and PAID already,

Option to Private Educational Institution

In addition to the allowable deductions, a private educational institution-may, at its option, elect either:
i. Deduct expenditures otherwise considered as capital outlays of depreciable assets incurred during the taxable
year for the expansion of school facilities ("Outright Method"); or
ii. To deduct allowance for depreciation thereof ("Spread-out Method").
c) Substantiation Rule vis-ir-vis Cohan Rule Principle

Organizational and Pre-operating Expenses

Organizational and pre-operating expenses are considered as capital expenditures. However, upon start of commerical
operations, it can be amortized over 60 months

E. Interest

The amount of interest paid or incurred within a taxable year on indebtedness in connection with the taxpayer's
profession, trade or business shall be allowed as deduction from gross income.

Requisites for deductibility:

a. There must be an indebtedness
b. The indebtedness must be that of the taxpayer
c. The indebtedness is connected with taxpayer’s trade, business or profession
d. Legal liability to pay interest
e. Interest must be paid or incurred during the taxable year

Reduction of interest expense by interest income (Arbitrage Rule)

a. Taxpayer’s interest expense shall be reduced by an amount equal to the following percentages of interest
income subjected to final tax:
42 % - effective November 1,2005
33% - effective January 1, 2009
b. Interest incurred or paid by the taxpayer on all unpaid business related taxes shall be fully deductible from
gross income and shall not be subject to the limitation on deduction
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3. Optional treatment of interest – at the option of the taxpayer, interest incurred to acquire property used in trade,
business or exercise of profession may be allowed as a deduction or as a capital expenditure

4. Interest Expenses which are Non-Deductible

i. Interest expense on preferred stock.
As a rule, interest on preferred stock is not deductible because there is no obligation to speak. It is in effect an
interest on dividend.
Reason: the payment is dependent upon the profits of the corporation. It will only be paid if the
corporation earns profits. BUT if it is not dependent upon corporate profits or earnings, it is deductible,
such that if it is payable on aparticular date of maturity without regard to the corporate profits, then the
same is allowed as adeductible expense.
ii. When there is no agreement in writing to pay interest.
iii. Interest expense on loan entered into between related taxpayers.
Related taxpayers (Section 36[8], NIRC):
a. members of the same family which includes:
- spouses
- brothers and sisters
- descendants and ascendants
b. between 2 corporations owned or controlled by one individual. He must have a controlling interest over
these 2 corporations. OR if one corporation is considered as personal holding company of another corp.
c. between a corporation and an individual; that individual owns or controls more than 50% of the
outstanding capital stock of the suchcorporation
d. parties to a trust;
- grant or fiduciary
- fiduciary of one trust and fiduciary of another trust but there is only one grantor
- beneficiary and fiduciary
iv. Interest paid or calculated for cost-keeping purposes,
v. Interest paid in advance through discount or otherwise by an individualtaxpayer reporting income on the cash
basis. Such interest shall beallowed as a deduction in the year the indebtedness is paid.
vi. Interest on obligation to finance petroleum exploration.
vii. Interest on unclaimed salaries of the employees.
viii. 33% of the interest income subjected to final tax.

F. Taxes
General Rule: All taxes, national or local, paid or incurred within the taxabte yearin connection with the taxpayer's trade,
business or profession are deductiblefrom gross income. (Tax Benefit Rule)

Exception:
i. Special Assessment and taxes assessed against local benefits of a kind that tends to increase the value of the property.
ii. Income Tax - includes foreign income tax.
iii, Estate Tax and Donor's Tax
iv. Final Taxes, being in the nature of income tax
v. Foreign income tax, if the taxpayer makes use of tax credit
vi. Stock transaction tax

Requisites for Deductibility of Taxes

i. This must be paid or incurred during the taxable year; and
ii. This must be taxes paid or incurred in connection with the trade, business or profession of the taxpayer

Tax Deductions vs. Tax Credits

Taxes, as deductions, include those taxes which are paid or incurred in connection with the trade, business or profession
of the taxpayer. However, the source of a tax credit is foreign income tax paid, war profit tax, excess profit tax paid to
the foreign country.

Taxes as deductions may be claimed as deductions from gross income in computing the net income WHILE tax credit is a
deduction from Philippine income tax.

The foreign income tax paid to the foreign country is not always the amount that may be claimed as tax credit because
under the limitation provided in the Tax Code, it must not be more than the ratio of foreign income to the total income
multiplied by the Philippine income tax.

Who may claim tax credits for taxes of foreign countries

i. Resident Citizens
ii. Domestic corporations
iii. Members of General Professional Partnerships
iv. Beneficiaries of estates and trusts

Limitations on credit
The amount of the credit taken shall be subject to the following limitations:
i. Per Country Limitation- the amount of the credit in respect to the tax paid or incurred to any country shall not exceed
the same proportion of the tax against which such credit is taken, which the taxpayers taxable income from sources
within such country bears to his entire taxable income for the same taxable year; and
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Net Income (per foreign country) x Philippine Income Tax
Total Net income

ii. Global Limitation- the total amount of the credit shall not exceed the same proportion of the tax against which such
credit is taken, which the taxpayer's taxable income from sources without (outside) the Philippines taxable under this
Title bears to his entire taxable income for the same taxable year,

Net Income all foreign countries x Philippine Income Tax

Total Net income

Proof of credits (Tax Credits)

The credits shall be allowed only if the taxpayer establishes to the satisfaction of the Commissioner the following:
i. The total amount of income from sources without the philippines;
ii. The amount of income derived from each country, the tax paid or incurred to which is claimed as a credit; and
iii, All other information necessary for the verifitation and computation ofsuch credits.

G. Losses

Classification of Losses
i. Ordinary Losses - losses sustained in the course of trade, business or profession of the taxpayer.

Net Operating Loss-the excess of allowable deduction over gross income of the business in a taxable year.

Net Operating Loss Carry Over (NOLCO) - shall be carried over as a deduction from the gross income for the next 3
consecutive taxable years immediately following the year of loss. Such loss shall be allowed as a deduction if it had not
been previously offset as deduction from gross income. However, any net loss incurred in a taxable year during which the
taxpayer was exempt from income tax shall not be allowed as a deduction. NOLCO shall be allowed only if there has been
no substantial change in the ownership of the business or enterprise. There is no substantial change when:
-Not less than 75% in nominal value of outstanding issued shares, if the business is in the name of a corporation,
is held by or on behalf of the same persons; or
-Not less than 75% of the paid up capital of the corporation, if the business is in the name of a corporation, is
held by.or on behalf of the same persons,

ii. Capital Losses - governed by rules on loss from the sale or exchange of capital assets. Losses from sales or exchanges
of capital assets shall be allowed only to the extent of the gains from such sales or exchanges.

Net Capital Loss - the excess of capital loss over capital gains

Net capital Loss carry over (NCLCO) - not available to corporate taxpayers.

Capital Losses include the following:

1. Loss arising from failure to exercise privilege to sell or buy property
2. Securities becoming worthless
3. Abandonment losses in the case of natural resources
4. Loss from wash sale or stock securities
Wash Sale - occurs where it appears that within a good period beginning 30 days before the date of the sale or
disposition of shares or stock or securities and ending 30 days after such date, the taxpayer has acquired (by
purchase of exchange) or has entered into a contract or option to so acquire, substantially identical stock or
securities. No deduction for loss shall be allowed for wash sales 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 or such dealer.

iii. Wagering or Gambling Losses - the amount that is deductible must not exceed the gains.
iv. Casualty Losses - include losses from fire, storm, shipwreck, other casualty losses, robbery, embezzlement and theft.
v. Abandonment Losses - in the event a contract area where petroleum are undertaken is partially or wholly abandoned,
all accumulated exploration and development expenditures pertaining thereto shall be allowed as a deduction.
vi. Special Losses- e.g. loss arising from voluntary removal of buildings as an incident to renewal or replacement

Common Requisites for Deductibility of Losses

1. The loss must be incurred in the trade, business or profession of the taxpayer;
2. Losses must be actually sustained and charged off within the taxable year, and not mere anticipated losses;
3. Must be evidenced by a closed and completed transaction;
4, Must not be compensated by insurance or other forms of indemnity;
5. If it is partly compensated, only the amount not compensated by insurance is deductible.
6. If it is casualty loss, the taxpayer has filed a sworn declaration of loss within 45 days after the date of discovery of the
casualty or robbery, theft or embezzlement.

H. Bad Debts

These are debts due to the taxpayer which are usually ascertained to be worthless and charged off within the taxable
year.
a.) Requisite for Deductibility of Bad Debts
i. Must be valid and subsisting indebtedness;
ii. Must be ascertained to be worthless;
iii. Must be charged off and uncollectible within the taxable year;
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iv. Must be uncollectible in the near future; and
v. Must arise from trade, business or profession of the taxpayer.

b.) Steps to Prove the Worthlessness

i. There must be a statement of account sent to the debtor;
ii. A collection letter;
iii. If he failed to pay, refer the case to a lawyer;
iv. If lawyer may send a demand letter to the debtor; and
v. If the debtor still fails to pay the same, file an action in court for collection.

c.) Bad Debts Charged Off Subsequently Collected

If the recovery of bad debts, resulted in a tax benefit to the taxpayer, that is taxable, If it did not result in any tax benefit
to the taxpayer, that is not taxable.

I. Charitable and Other Contributions

a. Kinds of Charitable Contributions

i. Ordinary - those subject to limitations as to the amount deductible from gross income (5%/10%)
ii. Special - deductible in full from gross income.

b. Requisites for deductibility:

1) The contribution or gift must be actually paid.
2) It must be given to the organizations specified in the code.
3) The net income of the institution must not inure to the benefit of any private stockholder or individual.
4) It must be made within the taxable years
5) It must be evidenced by adequate records or receipts.
6) Must not exceed 10% in the case of individuals and 5% in the case of a corporation, of the taxpayer's taxable income
(except where the donation isdeductible in full) to be determined without the benefit of the contribution.

A. Deductible in full B. Deductible, subject to limitation

1) Recipient is: 1) Recipient is:
Government of the Philippines; Government of the Philippines;
Any of its agencies or political subdivisions; or Any of its agencies or political
Any fully-owned government corporation subdivisions

For priority activity in: For a non-priority activity in any of the areas mentioned in
1. Science; A, and exclusively for a public purpose
2. Education
3. Culture;
4. Health;
5. Economic Development
6. Human Settlement
7. Youth and Sports Development

2. Recipient is an accredited non-government Recipient is an accredited nongovern

organization, ment orga nization,
organized/operated for (purposes) organized/operated for (purposes)
- Scientific - Scientific;
- Educational - Educational;
- Cultural - Cultural;
- Character building/youth and sports development - Character building/youth and sports development
- Charitable - Charitable
- Social welfare - Social welfare
- Health - Religious
- Research - Rehabilitation of Veterans
- Social welfare institutions
And satisfying the following conditions: If the conditions in Table A is not complied with,
1, The donation must be utilized not later than the 15th Subject to limitation:
day of the 3rd month following the close of its taxable a) Individual – 10% taxable income from trade business
year. or profession before contribution
2. The administrative expense must not exceed 30% of b) Corporation – 5% taxable income from trade business
total expenses. or profession before contribution
3, Upon dissolution, assets must be distributed to another
non-profit domestic corporation or to the state.
3. Recipient is a foreign or international organization with
an agreement with the Philippine Government on
deductibility, or in accordance with special law.

Deductible in Full under Special Laws

i. Integrated Bar of the Philippines (PD 81)
ii. Developments Academy of the Philippines (PD 205)
iii. Aquaculture Department of the Southeast Asian Fisheries and Development Center (SEAFDEC) PD 292
iv. National Social Action Council (PD 294)
v. National Museum, Library and Archives (PD 373)
vi. University of the Philippines and other state colleges and universities
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vii. Philippines Rural Reconstruction Movement
viii. Cultural Center of the Philippines
ix. Trustees of the Press Foundation of Asia
x. Humanitarian Science Foundation
xi. Artesian Well Fund (RA 1977)
xii. International Rice Research Institute
xiii. Department of Science and Technology (DOST) and its agencies and to public or recognized non-profit, non-stock
educational institutions (RA 3589)
xiv. Donations of prizes and awards to athletes (RA 7549)

J. Research and Development Programs

Research and development expenditures which are paid or incurred by a taxpayer during the taxable year in connection
with his trade, business, or profession may be treated as ordinary and necessary expenses which are not chargeable to
capital
account. The expenditures so treated shall be allowed as deduction during the taxable year when paid or incurred.

a) Amortization of certain Research and Development Expenditures

The taxpayer may also elect to treat the following research and developments expenditures as deferred expenses:
- Paid or incurred by the taxpayer in connection with his trade, business or profession;
- Not treated as expense; and
- Chargeable to capital account but not chargeable to property of a character which is subject to depreciation or
depletion

b.) Non-deductible Research and Development Expenditures

- Amount spent for the acquisition or improvements of land or for the improvement or development of natural
resources
- Amount paid or incurred for the purpose of ascertaining the existence, location, extent or quality of any natural
resources like deposits of ore or other minerals including oil or gas

K. Pension Trusts and Contributions

A deduction applicable only to the employer on account of its contribution to a private pension plan for the benefit of its
employee. This deduction is purely business in character.
a) Contributions
i. Current year- the contribution is considered ordinary and necessary expenses fully deductible.
ii. Past years- if it refers to the services rendered for the past 10 years, the contribution is deductible but
apportioned over the next 10 years, i.e. 1/10 deductible per year.

Requisites for Deductibility:

i. The employer must have established a pension or retirement plan to provide for the payment of reasonable pensions to
his employees;
ii. The pension plan is reasonable and actuarially sound;
iii. Contribution must be made by the employer to that pension fund;
iv. It must be funded by the employer;
v. The amount contributed must be no longer subject to the control and disposition of the employer;
vi. The payment has not yet been allowed as a deduction; and
vii. The deduction is apportioned in equal parts over a period of 10 consecutive years beginning with the year in which
the transfer or payment is made.

L. Depreciation
The gradual diminution of the useful value of the property used in trade, business or profession of the taxpayer, arising
from wear & tear or natural obsolescence. The term is also applied to amortization of the value of intangible assets, the
use of which in trade or business is definitely limited in duration.

a) Requisites for Deductibility of Depreciation

i. The property must be used in trade, business or profession of the taxpayer;
ii. There must be depreciable properties;
The non-depreciable properties are:
- Personal property not used in trade, business or profession of the taxpayer
- Inventoriable stock and securities
- Land
- Mining and other natural resources
iii. The allowance for depreciation must be reasonable;
iv. This must be charged off during the taxable year;
v. A statement on the allowance must be attached to the return; and
vi. The method in computing the allowance for depreciation must be in accordance with the method prescribed by the
Secretary of Finance upon the recommendation of the BIR Commissioner.

These prescribed methods include:

- Declining balance method
- Sum of the years digit method
- Straight line method
- Any other method as may be prescribed by the Secretary of Finance upon the recommendation of the BIR
Commissioner

Methods of Depreciation
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Kind Formula
Straight Line Cost-Salvage Value
Estimated Life
Declining Balance Cost – Depreciation x Rate
Estimated Life
Sum of the years digits (SYD) Nth period x (Cost-salvage)
SYD

Agreement as to Useful Life on which Depreciation Rate is based

Where the taxpayer and the CIR have entered into an agreement in writing specifically dealing with the useful life and
rate of depreciation of the property, the rate so agreed upon shall be binding on both the taxpayer and the National
Government in the absence of facts and circumstances not taken into consideration during the adoption of such
agreement. The responsibility of establishing the existence of such facts and circumstances shall rest with the party
initiating the modification.

Deduction for Obsolescence

If the whole or any portion of physical property is clearly shown by the taxpayer as being affected by economic conditions
that will result in its being abandoned at a future date prior to the end of its natural life, so that depreciation deduction
alone would be insufficient to return the cost at the end of its economic terms of usefulness, a reasonable deduction for
obsolescence, in addition to depreciation, may be allowed.

Depreciation of Patent or Copyright

In computing a depreciation allowance in the case of a patent or copyright, the capital sum to be replaced is the cost or
other basis of the patent or copyright. The allowance should be computed by an apportionment of the cost acquisition by
the taxpayer, or since March 1, 1913 as the case may be.

M. Depletion

Depletion is the exhaustion of natural resources like mines and oil and gas well as a result of production or severance
from such mines or wells. These are non-replaceable assets.

a) Requisites for Deductibility of Depreciation

Same as that of depreciation, except that the properties involved are natural resources.

Depletion v. Depreciation
Depletion and depreciation are predicated on the same basic premise of avoiding a tax on capital. Depletion is
based upon the concept of the exhaustion of a natural resource whereas depreciation is based upon the concept
production
income. Thus, depletion and depreciation are made applicable to different types of assets.

b) Determination of Amount of Depletion Cost

Essential factors:
i. The basis of the property;
ii. The estimated total recoverable units in the property; and
iii. The number of units recovered during the taxable year.

c.) Intangible Cost in Petroleum Operations

Any cost incurred in petroleum operations which in itself has no salvage value and which is incidental to and necessary
for the drilling of wells for the production of petroleum.

N. Optional Standard Deduction (OSD)

Optional Standard Deduction can be claimed in lieu of itemized deductions (except premium payments on health and
hospitalization insurance)

The following may be allowed to claim OSD:

1.) Individuals
a. RC
b. NRC
c. RA
d. Taxable estates and trusts

2.) Corporations
a. DC
b. RFC
Amount deductible

Individuals (Gross sales/Gross receipts)* x 40%

Corporations Gross Income** x 40%

* Gross sales/gross receipts = Gross sales – sales returns, allowances and discounts
** Gross Income = Gross sales – Cost of sales + Other Income

QUIZZER
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1. X Corp. had a net sales of P1M. The actual entertainment, amusement and recreation
expense amounted to P20,000. The deductible “EAR” expense is
A.P20,000 C.P10,000
B.P6,000 D.P5,000

2. Y Corp. had a net revenue of P1M. The actual entertainment, amusement and recreation
expense amounted to P20,000. The deductible “EAR” expense is
A.P20,000 C.P5,000
B.P6,000 D.P10,000

3. Z Corp. is engaged in the sale of goods and services with net sales and net revenue of P2M and P1M respectively.
The actual entertainment, amusement and recreation expense amounted to P18,000. The deductible “EAR”
expense is
A.P18,000 C.P12,000
B.P16,000 D.P6,000

4. This is not deductible from gross income

A.Transportation expenses from the main office to the branch
B.Transportation expenses from home to the office and from the office back to home
C.Travel expenses on business trips
D.Travel expenses while away from home in the pursuit of trade, business or profession

5. A revenue expenditure is
A.Usually incurred in the acquisition, betterment or permanent improvement of the asset
B.Capitalized and the cost is recovered through annual depreciation
C.Ordinarily to benefit more than one accounting period
D.To benefit one accounting period and is a deduction from gross income in the year paid or incurred.

6. The optional standard deduction for corporations is

A.10% of the gross income C.40% of the gross income
B.10% of the gross sales/ receipts D.40% of the gross sales/receipts

7. No deductions shall be allowed where the transaction is between “related taxpayers” for
1.Losses from sales or exchanges of property
2.Interest expense
3. Bad debts
A.1 and 2 only C.1 and 3 only
B.2 and 3 only D.1, 2 and 3

8. The phrase “related taxpayers” will apply to the following, except:

A.Between members of a family
B.Between the grantor and a fiduciary of any trust
C.Between a fiduciary of a trust and a beneficiary of such trust
D.Between an individual and a corporation more than 50% in value of the outstanding stock of whichis owned,
directly or indirectly for such individual, in case of distributions in liquidation.

9. For individuals, premiums paid during the taxable year for health and/or hospitalization insurance taken out byhim
on himself, including his family shall be allowed as deductions
from gross income, provided that the family has a gross income of
A.More than P250,000 C.Not more than P250,000
B.More than P500,000 D.Not more than P2,400

10. The deduction for premium payments on health and / or hospitalization insurance is not
available to:
A.An individual with gross compensation income only
B.An individual with gross income from business or practice profession, whether he is availing of the
optionalstandard deduction or itemized deduction
C.An individual with mixed income
D.Both husband and wife

11. - In case of married taxpayer, only the spouse claiming the additional exemptions for dependents shall beentitled
to the deduction on premium payments on health and / or hospitalization insurance.
- The deduction for premium payments on health and / or hospitalization insurance shall not exceed P2,400 for
the family or P200 a month

A.True; True C.False; True

B.True; False D.False; False

12. In 2009, Z, a resident citizen, engaged in business borrowed money from ABC Bank from which he had an interest
expense of P20,000. His deposit in XYZ bank yielded an interest income of P25,000. His deduction for interest
expense is
A.P20,000 C.P9,750
B.P 5,000 D.P10,250

13. Interest expense incurred to acquire property used in trade or business or exercise of a
.
profession is
A.Not allowed as a deduction against gross income
B.Required to be treated as a capital expenditure to form part of the cost of the asset
C.Allowed as a deduction or treated as a capital expenditure at the option of the taxpayer
D.Allowed as a deduction or treated as a capital expenditure at the option of the government

14. If an individual is on the cash basis of accounting, will interest paid in advance be allowed as a deduction?
First answer - No, it is a deduction in the year that the indebtedness was paid and not in the year that the interest was
paid.
Second answer – Yes, if the indebtedness is payable in periodic amortizations, the amount of the interest which
corresponds to the amount of the principal amortized or paid during the year shall be allowed as a deduction in such
taxable year.
A.True; True C.False; False
B.True; False D.False; True

15. May be deducted from gross income

A.Philippine income tax C.Estate or donor’s tax
B.Foreign income tax D.Special assessment

16. A taxpayer engaged in business incurred a partial loss of property as follows:

Asset 1 Asset 2
Book value of the asset at the time of loss P200,000 P200,000
Cost to restore the property back to its normal operating condition 120,000 300,000
Insurance recovery 50,000 None
Salvage None 40,000

The deductible loss for asset 1 is

A.P120,000 C.P30,000
B.P 70,000 D.P80,000

17. The deductible loss for asset 2 is

A.P300,000 C.P160,000
B.P200,000 D.P240,000

18.The operating loss, which had not been previously offset as deduction from gross income shall be carried over as
deduction from gross income for the next
A.2 consecutive taxable years immediately following such loss.
B.3 consecutive taxable years immediately following such loss.
C.4 consecutive taxable years immediately following such loss.
D.taxable year immediately following such loss.

19. A taxpayer had the following:

Year 1 Year2 Year 3 Year 4 Year 5
Gross income P450,000 P450,000 P440,000 P420,000 P490,000
Allowable Deductions 530,000 430,000 410,000 410,000 410,000

The income to be reported in year 2 is

A.P20,000 C.P450,000
B.P60,000 D.P 0

20.The income to be reported in year 5 is

A.P60,000 C.P80,000
B.P20,000 D.P 0

21. One of the following losses can not be deducted from gross income
A. To construct a bigger warehouse, a corporation demolished an old warehouse which had a construction cost of
P2M and a book value of P300,000.
B.Demolition of a building existing on a land purchased where the corporation has
no use for the building at the time of purchase and it was its intention to remove
the building in order to build its factory.
C. A corporation retired its machinery from the business because of the increase in the cost of production and the
failure of the machinery to meet the desired number of units of production.
D. A corporation ascertained that its B Corp. stocks are worthless because of the totalinsolvency of B Corp.
22. Examples of taxes that are deductible except
A.Occupation tax C.Documentary stamp tax
B.Privilege tax D. Philippine income tax

23. Non-deductible taxes, except

A.Special assessment C.Estate tax
B.Donor’s tax D.Business tax
24. X acquired a machine at a cost of P250,000. Scrap value is P20,000 and the estimated useful life was 25 years.
After depreciating the asset for 20 years using the straight-line method, it was determined that the remaining life
is not five years. The annual depreciation from the 21 st year assuming a remaining life of 10 years without scrap is
A.P10,000 C.P9,200
.
B.P11,500 D.P6,600
25.- An expense which is necessary but not ordinary, or ordinary but not necessary is Deductible from gross income.
- The taxpayer must signify his intention to elect the itemized deduction, otherwise, he isdeemed to have chosen
the optional standard deduction.
A.True; True C.False; True
B.True; False D.False; False
26.- Interest paid on preferred stock is deductible from gross income of the paying
corporation.
- A capital expenditure usually benefits more than one accounting period and is
deductible from gross income in the year it is paid or incurred.
A. True; True C.False; True
B. True; False D.False; False
27. - The cost of leasehold improvements shall be deductible from gross income of the paying
corporation.
- Contributions by the employer to a pension trust for past service cost is deductible in full
in the year that the employer made the contributions.
A.True; True C.False; True
B.True; False D.False; False
28. For individuals with gross compensation income, the following maybe deducted, except:
A.Personal exemptions
B.Additional Exemptions
C.Optional standard deduction
D.Premium payments on health and/or hospitalization insurance
29. For individuals with gross income from business or practice of profession, the following may be deducted
1.Optional standard deduction
2.Itemized deduction
3.Personal exemptions
4.Additional exemptions
5.Premium payments on health and / a hospitalization insurance
A.1, 2, 3 and 4 C.3, 4 and 5 and either 1 or 2
B.2, 3 and 4 D.1, 2, 3, 4 and 5
30. Any amount subsequently received on account of a bad debt previously charged off and allowed as a deduction from
gross income in prior years must be included in gross income in the taxable year in which received. This is
A.Severance test C.Destination of income test
B.Life-blood theory D.Equitable doctrine of tax benefit
31. X took out a life insurance policy of P1,000,000 naming his wife as beneficiary. The policy provides that theinsurance
company will pay X the amount of P1,000,000 after the 25th year of the policy and his beneficiary, should he die
before this date. The premiums paid on the policy is P700,000. If X outlived the policy and received the proceeds
of P1,000,000, such proceeds will be:
A.Taxable in full C.Exempt from income tax
B.Partly taxable, partly exempt D.Subject to final tax
32. Using the preceding no., if X dies and his beneficiary received the proceeds of P1,000,000, such proceeds will be
A.Taxable in full C.Exempt from income tax
B.Partly taxable, partly exempt D.Subject to final tax
33.Z, a dedicated and honest employee of RST Corp. for the past 20 years was advised that he is to be retrenched as the
company was losing heavily but that he would be given the separation pay provided by law. To avoid implication of
inefficiency Z was advised to file a letter of resignation instead of being retrenched. If Z files a letter of resignation
and receives the separation pay, such amount is
A.Taxable in full C.Exempt from income tax
B.Partly taxable , partly exempt D. Subject to final tax
34. Using the preceding no., If Z is retrenched and receives the separation pay, such amount is
A.Taxable in full C.Exempt from income tax
B.Partly taxable , partly exempt D.Subject to final tax
35. May consider capital expenditures as revenue expenditures
A.Resident citizen C.Private educational institutions
B.Domestic corporation D.Resident alien
36. May claim tax credit for income taxes paid to foreign country.
A.Resident citizen C.Non-resident citizen
B.Resident alien D.Non-resident alien
37. One of the following is not correct for deductibility of losses from gross income
A.Must arise from fire, storm or other casualty, robbery, theft or embezzlement
B.Must not be compensated by insurance or other form of indemnity
C.A declaration of loss by casualty should be filed with the Bureau of Internal Revenue
D.Must have been claimed as deduction in the estate return of the taxpayer
38. Which of the following statements is not correct?
A. The optional standard deduction is an amount equal to forty percent (40%) of the gross income from business
or practice of profession of the taxpayer.
B. The optional standard deduction is not available against compensation income arising out of an employer-
employee relationship
C. The election of Optional Standard Deduction is irrevocable for the taxable year for which the choice is made.
D. Unless the taxpayer signifies in his return his intention he shall be considered as havingavailed of the itemized
deduction.
39. The following may be allowed to claim optional standard deduction, except
A.Resident citizen C.Resident alien
B.Non-resident citizen D.Non-resident alien
.
40. The following may elect optional standard deduction or itemized deduction, except
A.Taxable estates and trusts C.General professional partnership
B.Domestic corporation D.Foreign corporation
41. The optional standard deduction for individuals is
A.10% of the gross income C.40% of the gross income
B.10% of the gross sales/receipts D.40% of the gross sales/receipts
42. May consider capital expenditures as revenue expenditures
A. Resident citizen
B. Domestic corporations
C. Private educational institutions
D. Resident alien
43. A building was partially destroyed by fire in 2010. The building had a book value of P10M. The insurance company
was willing to pay P5 M, which was refused by the owner. Finally, the claim was settled in 2011 for P9M. The
proceeds will be
A. Exempt from income tax
B. Part of taxable income
C. Subject to final tax
D. Partly exempt, partly taxable
44.Z took a life insurance policy of P2M naming his wife as beneficiary. The policy provides that the insurance company
will pay Z the amount of P2 M after the 25 th year of the policy and his beneficiary, should he die before this date. The
premiums paid on the policy is P1.5M. If Z outlived the policy and received the proceeds of P2M, such proceeds will be:
A. Taxable in full
B. Exempt from income tax
C. Partly taxable, partly exempt
D. Subject to final tax.
45. MDG Corporation is engaged in trading business. The reported income and expenses for taxable year 2010 show:
Sales P10,000,000
Cost of sales 6,000,000
General business expenses 1,000,000
Interest on time deposit (gross) 100,000
Interest expense on loans payable 180,000
The net taxable income is
A. P2,858,000 C. P3,000,000
B. P2,820,000 D. P2,862,000

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