CIR V GENERAL FOODS

GR No. 143672| April 24, 2003 | J. Corona

Test of Reasonableness

Facts:
Respondent corporation General Foods (Phils), which is engaged in the manufacture of “Tang”,
“Calumet” and “Kool-Aid”, filed its income tax return for the fiscal year ending February 1985
and claimed as deduction, among other business expenses, P9,461,246 for media advertising for
“Tang”.
The Commissioner disallowed 50% of the deduction claimed and assessed deficiency income
taxes of P2,635,141.42 against General Foods, prompting the latter to file an MR which was
denied.
General Foods later on filed a petition for review at CA, which reversed and set aside an earlier
decision by CTA dismissing the company’s appeal.

Issue:
W/N the subject media advertising expense for “Tang” was ordinary and necessary expense fully
deductible under the NIRC

Held:
No. Tax exemptions must be construed in stricissimi juris against the taxpayer and liberally in
favor of the taxing authority, and he who claims an exemption must be able to justify his claim
by the clearest grant of organic or statute law. Deductions for income taxes partake of the nature
of tax exemptions; hence, if tax exemptions are strictly construed, then deductions must also be
strictly construed.
To be deductible from gross income, the subject advertising expense must comply with the
following requisites: (a) the expense must be ordinary and necessary; (b) it must have been paid
or incurred during the taxable year; (c) it must have been paid or incurred in carrying on the trade
or business of the taxpayer; and (d) it must be supported by receipts, records or other pertinent
papers.
While the subject advertising expense was paid or incurred within the corresponding taxable year
and was incurred in carrying on a trade or business, hence necessary, the parties’ views conflict
as to whether or not it was ordinary. To be deductible, an advertising expense should not only be
necessary but also ordinary.
The Commissioner maintains that the subject advertising expense was not ordinary on the
ground that it failed the two conditions set by U.S. jurisprudence: first, “reasonableness” of the
amount incurred and second, the amount incurred must not be a capital outlay to create
“goodwill” for the product and/or private respondent’s business. Otherwise, the expense must be
considered a capital expenditure to be spread out over a reasonable time.
There is yet to be a clear-cut criteria or fixed test for determining the reasonableness of an
advertising expense. There being no hard and fast rule on the matter, the right to a deduction
depends on a number of factors such as but not limited to: the type and size of business in which
the taxpayer is engaged; the volume and amount of its net earnings; the nature of the expenditure
itself; the intention of the taxpayer and the general economic conditions. It is the interplay of
these, among other factors and properly weighed, that will yield a proper evaluation.
The Court finds the subject expense for the advertisement of a single product to be inordinately
large. Therefore, even if it is necessary, it cannot be considered an ordinary expense deductible
under then Section 29 (a) (1) (A) of the NIRC.
Advertising is generally of two kinds: (1) advertising to stimulate the current sale of
merchandise or use of services and (2) advertising designed to stimulate the future sale of
merchandise or use of services. The second type involves expenditures incurred, in whole or in
part, to create or maintain some form of goodwill for the taxpayer’s trade or business or for the
industry or profession of which the taxpayer is a member. If the expenditures are for the
advertising of the first kind, then, except as to the question of the reasonableness of amount,
there is no doubt such expenditures are deductible as business expenses. If, however, the
expenditures are for advertising of the second kind, then normally they should be spread out over
a reasonable period of time.
The company’s media advertising expense for the promotion of a single product is doubtlessly
unreasonable considering it comprises almost one-half of the company’s entire claim for
marketing expenses for that year under review.Petition granted, judgment reversed and set
aside.
[G.R. No. 125704. August 28, 1998]

PHILEX MINING CORPORATION

vs.
COMMISSIONER OF INTERNAL REVENUE,FACTS:

On August 5, 1992, the BIR sent a letter to Philex asking it to settle its excise taxliabilities amounting to
P123,821,982.52. Philex protested the demand for payment of the tax liabilities stating that it has pending
claims for VAT input credit/refund for thetaxes it paid for the years 1989 to 1991 in the amount of
P119,977,037.02 plus interest.Therefore, these claims for tax credit/refund should be applied against the tax
liabilities.In reply, the BIR held that since these pending claims have not yet been established or determined
with certainty, it follows that no legal compensation can take place. Hence,the BIR reiterated its demand that
Philex settle the amount plus interest within 30 daysfrom the receipt of the letter.

Philex raised the issue to the Court of Tax Appeals and in the course of theproceedings, the BIR issued a Tax
Credit Certificate SN 001795 in the amount of P13,144,313.88 which, applied to the total tax liabilities of
Philex of P123,821,982.52;
effectively lowered the latter’s tax obligation of
P110,677,688.52.

Despite the reduction of its tax liabilities, the CTA still ordered Philex to pay theremaining balance of
P110,677,688.52 plus interest, elucidating its reason

t
hat “taxes
cannot be subject to set-off on compensation since claim for taxes is not a debt or contract.

Philex appealed the case before the Court of Appeals. Nonetheless, the Court of Appeals affirmed
the Court of Tax Appeals observation.

Philex filed a motion for reconsideration which was again denied. However, a few days after the denial of
itsmotion for reconsideration, Philex was able to obtain its VAT input credit/refund not onlyfor the taxable year
1989 to 1991 but also for 1992 and 1994, computed amounting to205,595,289.20.

In view of the grant of its VAT input credit/refund, Philex now contends that the sameshould,
ipso jure
, off-set its excise tax liabilities
since both had already become “dueand demandable, as well as fully liquidated;”
hence, legal compensation can properlytake place.

ISSUE:
Whether or not the petitioner is correct in its contention that tax liability and VATinput credit/refund can be
subjected to legal compensation.
HELD:

The Supreme Court has already made the pronouncement that taxes cannot be subjectto compensation for the
simple reason that the government and the taxpayer are notcreditors and debtors of each other. There is a
material distinction between a tax anddebt. Debts are due to the Government in its corporate capacity, while
taxes are due tothe Government in its sovereign capacity.
Philex’s
claim is an outright disregard of the basic principle in tax law that taxes are thelifeblood of the government and
so should be collected without unnecessary hindrance.
Evidently, to countenance Philex’s whimsical reason would render ineffective our tax
collection system.Philex is not allowed to refuse the payment of its tax liabilities on the ground that it has
apending tax claim for refund or credit against the government which has not yet beengranted. It must be noted
that a distinguishing feature of a tax is that it is compulsoryrather than a matter of bargain. Hence, a tax does not
depend upon the consent of thetaxpayer.If any payer can defer the payment of taxes by raising the defense that it
stillhas a pending claim for refund or credit, this would adversely affect the governmentrevenue system. A
taxpayer cannot refuse to pay his taxes when they fall due simplybecause he has a claim against the government
or that the collection of the tax iscontingent on the result of the lawsuit it filed against the government.
Moreover, Philex'stheory that would automatically apply its VAT input credit/refund against its tax liabilitiescan
easily give rise to confusion and abuse, depriving the government of authority over the manner by which
taxpayers credit and offset their tax liabilities.

"The power of taxation is sometimes called also the power to destroy. Therefore itshould be exercised with
caution to minimize injury to the proprietary rights of ataxpayer. It must be exercised fairly, equally and
uniformly, lest the tax collector kill the'hen that lays the golden egg.' And, in the order to maintain the general
public's trustand confidence in the Government this power must be used justly and nottreacherously."

The petition is hereby dismissed

 CIR vs. Isabela Cultural Corporation
Post under case digests, Taxation at Friday, March 02, 2012 Posted by Schizophrenic Mind

Facts: Isabela Cultural Corporation (ICC), a domestic corporation received an assessment notice for deficiency
income tax and expanded withholding tax from BIR. It arose from the disallowance of ICC’s claimed expense for
professional and security services paid by ICC; as well as the alleged understatement of interest income on the
three promissory notes due from Realty Investment Inc. The deficiency expanded withholding tax was allegedly due
to the failure of ICC to withhold 1% e-withholding tax on its claimed deduction for security services.

ICC sought a reconsideration of the assessments. Having received a final notice of assessment, it brought the case
to CTA, which held that it is unappealable, since the final notice is not a decision. CTA’s ruling was reversed by CA,
which was sustained by SC, and case was remanded to CTA. CTA rendered a decision in favor of ICC. It ruled that the
deductions for professional and security services were properly claimed, it said that even if services were rendered
in 1984 or 1985, the amount is not yet determined at that time. Hence it is a proper deduction in 1986. It likewise
found that it is the BIR which overstate the interest income, when it applied compounding absent any stipulation.
Petitioner appealed to CA, which affirmed CTA, hence the petition.

Issue: Whether or not the expenses for professional and security services are deductible.

Held: No. One of the requisites for the deductibility of ordinary and necessary expenses is that it must have been
paid or incurred during the taxable year. This requisite is dependent on the method of accounting of the taxpayer.
In the case at bar, ICC is using the accrual method of accounting. Hence, under this method, an expense is
recognized when it is incurred. Under a Revenue Audit Memorandum, when the method of accounting is accrual,
expenses not being claimed as deductions by a taxpayer in the current year when they are incurred cannot be
claimed in the succeeding year.

The accrual of income and expense is permitted when the all-events test has been met. This test requires: 1) fixing
of a right to income or liability to pay; and 2) the availability of the reasonable accurate determination of such
income or liability. The test does not demand that the amount of income or liability be known absolutely, only that
a taxpayer has at its disposal the information necessary to compute the amount with reasonable accuracy.

From the nature of the claimed deductions and the span of time during which the firm was retained, ICC can be
expected to have reasonably known the retainer fees charged by the firm. They cannot give as an excuse the
delayed billing, since it could have inquired into the amount of their obligation and reasonably determine the
amount.