INCOME TAX; WHEN INCOME TAXABLE

CIR v. JOHN L. MANNING, W.D. McDONALD, E.E. SIMMONS and CTA

G.R. No. L-28398August 6, 1975

Facts:
- Mantrasco had an authorized capital stock of P2.5M divided into 25,000 common shares.
24,700 of these shares are owned by Julius Reese while the rest, at 100 each, are owned
by Manning, McDonald & Simmons.
- A trust agreement was executed between Reese, Mantrasco, Ross, Selph, Carrascoso &
Janda law firm, Manning, McDonald and Simmons. Said agreement was entered into
because of Reese’s desire that Mantrasco and Mantrasco’s 2 subsidiaries, Mantrasco
Guam and Port Motors, to continue under the management of Manning, McDonald and
Simmons upon his [Reese] death.
- Reese died. However, the projected transfer of his shares in the name of Mantrasco could
not be immediately effected for lack of sufficient funds to cover the initial payment on the
shares.
- After Mantrasco made a partial payment of Reese's shares, the certificate for the 24,700
shares in Reese's name was cancelled and a new certificate was issued in the name of
Mantrasco. Also, new certificate was endorsed to the law firm of Ross, Selph, Carrascoso
and Janda, as trustees for and in behalf of Mantrasco.
- A resolution was passed during a special meeting of Mantrasco stockholders. The entire
purchase price of Reese's interest in Mantrasco was finally paid in full by Mantrasco.
- A trust agreement was terminated and the trustees delivered to Mantrasco all the shares
which they were holding in trust.
- BIR ordered an examination of Mantrasco’s books. This examination disclosed that:
1. as of December 31, 1958 the 24,700 shares declared as dividends had been
proportionately distributed to Manning, McDonald & Simmons, representing a total book
value or acquisition cost of P7,973,660
2. Manning, McDonald & Simmons failed to declare the said stock dividends as part
of their taxable income for the year 1958
- Thus, BIR examiners concluded that the distribution of Reese's shares as stock dividends
was in effect a distribution of the "asset or property of the corporation as may be gleaned
from the payment of cash for the redemption of said stock and distributing the same as
stock dividend."
- Commissioner of Internal Revenue issued notices of assessment for deficiency income
taxes to Manning, McDonald & Simmons for the year 1958. Manning, McDonald &
Simmons opposed said assessments. BIR still held them liable for these assessments.
- Manning, McDonald & Simmons appealed to the CTA.
- CTA: absolved Manning, McDonald & Simmons from any liability on the ground that their
respective 1/3 interest in Mantrasco remained the same before and after the declaration
of stock dividends and only the number of shares held by each of them changed.

Issues:
WON Manning, McDonald & Simmons should pay for deficiency income taxes—YES

Held:

The ultimate purpose which the parties to the trust agreement aimed to realize is to make
Manning, McDonalds & Simmons the sole owners of Reese’s interest in Mantrasco by utilizing
the periodic earnings of Mantrasco and its subsidiaries to directly subsidize their purchase of said
INCOME TAX; WHEN INCOME TAXABLE

interests and by making it appear that they have not received any income from those firms when,
in fact, by the formal declaration of non-existent stock dividends in the treasury they secured to
themselves the means to turn around as full owners of Reese’s shares.

- Manning, McDonald & Simmons, using the trust instrument as a convenient technical
device, bestowed unto themselves the full worth and value of Reese's corporate holdings
with the use of the very earnings of the companies.
- Such package device, obviously not designed to carry out the usual stock dividend
purpose of corporate expansion reinvestment, e.g., the acquisition of additional facilities
and other capital budget items but exclusively for expanding the capital base of Manning,
McDonald & Simmons in Mantrasco, cannot be allowed to deflect their responsibilities
toward our income tax laws.
- All these amounts are subject to income tax as being a flow of cash benefits to Manning,
McDonald & Simmons.
o WHEN INCOME IS TAXABLE; REQUISITES:
1. Gain must be realized or received;
2. Gain must not be excluded by law or treaty from taxation; and
3. There must be gain whether in cash or its equivalent.

Dispositive: CTA judgment set aside. Case remanded to the CTA for further proceedings for the
recomputation of the income tax liabilities of Manning, McDonald & Simmons.