Tax - Income Tax

Table of Contents
HERNANDO B. CONWI, JAIME E. DY-LIACCO, VICENTE D. HERRERA, BENJAMIN T. ILDEFONSO,

ALEXANDER LACSON, JR., ADRIAN O. MICIANO, EDUARDO A. RIALP, LEANDRO G. SANTILLAN, and JAIME
A. SOQUES, petitioners, vs. THE HONORABLE COURT OF TAX APPEALS and COMMISSIONER OF INTERNAL
REVENUE, respondents. ................................................................................................................................ 2
FREDERICK C. FISHER, Plaintiff-Appellant, vs. WENCESLAO TRINIDAD, Collector of Internal Revenue,
Defendant-Appellee. ..................................................................................................................................... 7
VICENTE MADRIGAL and his wife, SUSANA PATERNO, plaintiffs-appellants, vs. JAMES J. RAFFERTY,
Collector of Internal Revenue, and VENANCIO CONCEPCION, Deputy Collector of Internal Revenue,
defendants-appellees. ................................................................................................................................ 25
COMMISSIONER OF INTERNAL REVENUE, petitioner, vs. THE COURT OF APPEALS, COURT OF TAX
APPEALS and A. SORIANO CORP., respondents. ......................................................................................... 31
EISNER V. MACOMBER ................................................................................................................................ 44
HELVERING V. HORST .................................................................................................................................. 74
COMMISSIONER OF INTERNAL REVENUE, petitioner, vs. MELCHOR J. JAVIER, JR. and THE COURT OF TAX
APPEALS, respondents. ............................................................................................................................... 81
COMMISSIONER OF INTERNAL REVENUE, Petitioner, vs. ISABELA CULTURAL CORPORATION, Respondent.
.................................................................................................................................................................... 87
COMMISSIONER OF INTERNAL REVENUE, petitioner, vs. BRITISH OVERSEAS AIRWAYS CORPORATION and
COURT OF TAX APPEALS, respondents. ...................................................................................................... 93
COMMISSIONER OF INTERNAL REVENUE, Petitioner, vs. ISABELA CULTURAL CORPORATION, Respondent.
....................................................................................................................... Error! Bookmark not defined.
ING BANK N.V., engaged in banking operations in the Philippines as ING BANK N.V. MANILA BRANCH,
Petitioner, vs. COMMISSIONER OF INTERNAL REVENUE, Respondent. ................................................... 118
CONFEDERATION FOR UNITY, RECOGNITION AND ADVANCEMENT OF GOVERNMENT EMPLOYEES
(COURAGE); JUDICIARY EMPLOYEES ASSOCIATION OF THE PHILIPPINES (JUDEA-PHILS); SANDIGANBAYAN
EMPLOYEES ASSOCIATION (SEA); SANDIGAN NG MGA EMPLEYADONG NAGKAKAISA SA ADHIKAIN NG
DEMOKRATIKONG ORGANISASYON (S.E.N.A.D.O.); ASSOCIATION OF COURT OF APPEALS EMPLOYEES
(ACAE); DEPARTMENT OF AGRARIAN REFORM EMPLOYEES ASSOCIATION (DAREA); SOCIAL WELFARE
EMPLOYEES ASSOCIATION OF THE PHILIPPINES-DEPARTMENT OF SOCIAL WELFARE AND DEVELOPMENT
(SWEAP-DSWD); DEPARTMENT OF TRADE AND INDUSTRY EMPLOYEES UNION (DTI-EU); KAPISANAN
PARA SA KAGALINGAN NG MGA KAWANI NG METRO MANILA DEVELOPMENT AUTHORITY (KKK-MMDA);
WATER SYSTEM EMPLOYEES RESPONSE (WATER); CONSOLIDATED UNION OF EMPLOYEES OF THE
NATIONAL HOUSING AUTHORITIES (CUE-NHA); AND KAPISANAN NG MGA MANGGAGAWA AT KAWANI
NG QUEZON CITY (KASAMA KA-QC), Petitioners, v. COMMISSIONER, BUREAU OF INTERNAL REVENUE
AND THE SECRETARY, DEPARTMENT OF FINANCE, Respondents. ........................................................... 137
G.R. No. 48532 August 31, 1992
HERNANDO B. CONWI, JAIME E. DY-LIACCO, VICENTE D. HERRERA,

BENJAMIN T. ILDEFONSO, ALEXANDER LACSON, JR., ADRIAN O. MICIANO,
EDUARDO A. RIALP, LEANDRO G. SANTILLAN, and JAIME A. SOQUES,
petitioners, vs. THE HONORABLE COURT OF TAX APPEALS and
COMMISSIONER OF INTERNAL REVENUE, respondents.
G.R. No. 48533 August 31, 1992
ENRIQUE R. ABAD SANTOS, HERNANDO B. CONWI, TEDDY L. DIMAYUGA,

JAIME E. DY-LIACCO, MELQUIADES J. GAMBOA, JR., MANUEL L. GUZMAN,
VICENTE D. HERRERA, BENJAMIN T. ILDEFONSO, ALEXANDER LACSON, JR.,
ADRIAN O. MICIANO, EDUARDO A. RIALP and JAIME A. SOQUES, petitioners,
vs. THE HONORABLE COURT OF TAX APPEALS and COMMISSIONER OF
INTERNAL REVENUE, respondents.
NOCON, J.:
Petitioners pray that his Court reverse the Decision of the public respondent
Court of Tax Appeals, promulgated September 26, 19771 denying petitioners'
claim for tax refunds, and order the Commissioner of Internal Revenue to refund
to them their income taxes which they claim to have been erroneously or illegally
paid or collected.
As summarized by the Solicitor General, the facts of the cases are as follows:
Petitioners are Filipino citizens and employees of Procter and Gamble, Philippine
Manufacturing Corporation, with offices at Sarmiento Building, Ayala Avenue,
Makati, Rizal. Said corporation is a subsidiary of Procter & Gamble, a foreign
corporation based in Cincinnati, Ohio, U.S.A. During the years 1970 and 1971
petitioners were assigned, for certain periods, to other subsidiaries of Procter &
Gamble, outside of the Philippines, during which petitioners were paid U.S.
dollars as compensation for services in their foreign assignments. (Paragraphs
III, Petitions for Review, C.T.A. Cases Nos. 2511 and 2594, Exhs. D, D-1 to D-
19). When petitioners in C.T.A. Case No. 2511 filed their income tax returns for
the year 1970, they computed the tax due by applying the dollar-to-peso
conversion on the basis of the floating rate ordained under B.I.R. Ruling No. 70-
027 dated May 14, 1970, as follows:
From January 1 to February 20, 1970 at the conversion rate of P3.90 to U.S.
$1.00;
From February 21 to December 31, 1970 at the conversion rate of P6.25 to U.S.
$1.00
Petitioners in C.T.A. Case No. 2594 likewise used the above conversion rate in
converting their dollar income for 1971 to Philippine peso. However, on February
8, 1973 and October 8, 1973, petitioners in said cases filed with the office of the
respondent Commissioner, amended income tax returns for the above-
mentioned years, this time using the par value of the peso as prescribed in
Section 48 of Republic Act No. 265 in relation to Section 6 of Commonwealth Act
No. 265 in relation to Section 6 of Commonwealth Act No. 699 as the basis for
converting their respective dollar income into Philippine pesos for purposes of
computing and paying the corresponding income tax due from them. The
aforesaid computation as shown in the amended income tax returns resulted in
the alleged overpayments, refund and/or tax credit. Accordingly, claims for
refund of said over-payments were filed with respondent Commissioner. Without
awaiting the resolution of the Commissioner of the Internal Revenue on their
claims, petitioners filed their petitioner for review in the above-mentioned cases.
Respondent Commissioner filed his Answer to petitioners' petition for review in

C.T.A. Case No. 2511 on July 31, 1973, while his Answer in C.T.A. Case No.
2594 was filed on August 7, 1974.
Upon joint motion of the parties on the ground that these two cases involve
common question of law and facts, that respondent Court of Tax Appeals heard
the cases jointly. In its decision dated September 26, 1977, the respondent Court
of Tax Appeals held that the proper conversion rate for the purpose of reporting
and paying the Philippine income tax on the dollar earnings of petitioners are
the rates prescribed under Revenue Memorandum Circulars Nos. 7-71 and 41-
71. Accordingly, the claim for refund and/or tax credit of petitioners in the above-
entitled cases was denied and the petitions for review dismissed, with costs
against petitioners. Hence, this petition for review on certiorari. 2
Petitioners claim that public respondent Court of Tax Appeals erred in holding:
1. That petitioners' dollar earnings are receipts derived from foreign exchange
transactions.
2. That the proper rate of conversion of petitioners' dollar earnings for tax
purposes in the prevailing free market rate of exchange and not the par value of
the peso; and
3. That the use of the par value of the peso to convert petitioners' dollar earnings
for tax purposes into Philippine pesos is "unrealistic" and, therefore, the
prevailing free market rate should be the rate used.
Respondent Commissioner of Internal Revenue, on the other hand, refutes

petitioners' claims as follows:
At the outset, it is submitted that the subject matter of these two cases are
Philippine income tax for the calendar years 1970 (CTA Case No. 2511) and 1971
(CTA Case No. 2594) and, therefore, should be governed by the provisions of the
National Internal Revenue Code and its implementing rules and regulations, and
not by the provisions of Central Bank Circular No. 42 dated May 21, 1953, as
contended by petitioners.
Section 21 of the National Internal Revenue Code, before its amendment by

Presidential Decrees Nos. 69 and 323 which took effect on January 1, 1973 and
January 1, 1974, respectively, imposed a tax upon the taxable net income
received during each taxable year from all sources by a citizen of the Philippines,
whether residing here or abroad.
Petitioners are citizens of the Philippines temporarily residing abroad by virtue

of their employment. Thus, in their tax returns for the period involved herein,
they gave their legal residence/address as c/o Procter & Gamble PMC, Ayala
Ave., Makati, Rizal (Annexes "A" to "A-8" and Annexes "C" to "C-8", Petition for
Review, CTA Nos. 2511 and 2594).
Petitioners being subject to Philippine income tax, their dollar earnings should
be converted into Philippine pesos in computing the income tax due therefrom,
in accordance with the provisions of Revenue Memorandum Circular No. 7-71
dated February 11, 1971 for 1970 income and Revenue Memorandum Circular
No. 41-71 dated December 21, 1971 for 1971 income, which reiterated BIR
Ruling No. 70-027 dated May 4, 1970, to wit:
For internal revenue tax purposes, the free marker rate of conversion (Revenue
Circulars Nos. 7-71 and 41-71) should be applied in order to determine the true
and correct value in Philippine pesos of the income of petitioners. 3
After a careful examination of the records, the laws involved and the
jurisprudence on the matter, We are inclined to agree with respondents Court of
Tax Appeals and Commissioner of Internal Revenue and thus vote to deny the
petition.
This basically an income tax case. For the proper resolution of these cases
income may be defined as an amount of money coming to a person or corporation
within a specified time, whether as payment for services, interest or profit from
investment. Unless otherwise specified, it means cash or its equivalent. 4 Income
can also be though of as flow of the fruits of one's labor. 5
Petitioners are correct as to their claim that their dollar earnings are not receipts
derived from foreign exchange transactions. For a foreign exchange transaction
is simply that — a transaction in foreign exchange, foreign exchange being "the
conversion of an amount of money or currency of one country into an equivalent
amount of money or currency of another." 6 When petitioners were assigned to
the foreign subsidiaries of Procter & Gamble, they were earning in their assigned
nation's currency and were ALSO spending in said currency. There was no
conversion, therefore, from one currency to another.
Public respondent Court of Tax Appeals did err when it concluded that the dollar
incomes of petitioner fell under Section 2(f)(g) and (m) of C.B. Circular No. 42. 7
The issue now is, what exchange rate should be used to determine the peso
equivalent of the foreign earnings of petitioners for income tax purposes.
Petitioners claim that since the dollar earnings do not fall within the
classification of foreign exchange transactions, there occurred no actual inward
remittances, and, therefore, they are not included in the coverage of Central
Bank Circular No. 289 which provides for the specific instances when the par
value of the peso shall not be the conversion rate used. They conclude that their
earnings should be converted for income tax purposes using the par value of the
Philippine peso.
Respondent Commissioner argues that CB Circular No. 289 speaks of receipts

for export products, receipts of sale of foreign exchange or foreign borrowings
and investments but not income tax. He also claims that he had to use the
prevailing free market rate of exchange in these cases because of the need to
ascertain the true and correct amount of income in Philippine peso of dollar
earners for Philippine income tax purposes.
A careful reading of said CB Circular No. 289 8 shows that the subject matters
involved therein are export products, invisibles, receipts of foreign exchange,
foreign exchange payments, new foreign borrowing and
investments — nothing by way of income tax payments. Thus, petitioners are in
error by concluding that since C.B. Circular No. 289 does not apply to them, the
par value of the peso should be the guiding rate used for income tax purposes.
The dollar earnings of petitioners are the fruits of their labors in the foreign
subsidiaries of Procter & Gamble. It was a definite amount of money which came
to them within a specified period of time of two yeas as payment for their services.
Section 21 of the National Internal Revenue Code, amended up to August 4,

1969, states as follows:
Sec. 21. Rates of tax on citizens or residents. — A tax is hereby imposed upon
the taxable net income received during each taxable year from all sources by
every individual, whether a citizen of the Philippines residing therein or abroad
or an alien residing in the Philippines, determined in accordance with the
following schedule:
xxx xxx xxx

And in the implementation for the proper enforcement of the National Internal
Revenue Code, Section 338 thereof empowers the Secretary of Finance to
"promulgate all needful rules and regulations" to effectively enforce its
provisions. 9
Pursuant to this authority, Revenue Memorandum Circular Nos. 7-71 10 and

41-71 11 were issued to prescribed a uniform rate of exchange from US dollars
to Philippine pesos for INTERNAL REVENUE TAX PURPOSES for the years 1970
and 1971, respectively. Said revenue circulars were a valid exercise of the
authority given to the Secretary of Finance by the Legislature which enacted the
Internal Revenue Code. And these are presumed to be a valid interpretation of
said code until revoked by the Secretary of Finance himself. 12
Petitioners argue that since there were no remittances and acceptances of their
salaries and wages in US dollars into the Philippines, they are exempt from the
coverage of such circulars. Petitioners forget that they are citizens of the
Philippines, and their income, within or without, and in these cases wholly
without, are subject to income tax. Sec. 21, NIRC, as amended, does not brook
any exemption.
Since petitioners have already paid their 1970 and 1971 income taxes under the
uniform rate of exchange prescribed under the aforestated Revenue
Memorandum Circulars, there is no reason for respondent Commissioner to
refund any taxes to petitioner as said Revenue Memorandum Circulars, being of
long standing and not contrary to law, are valid. 13
Although it has become a worn-out cliche, the fact still remains that "taxes are
the lifeblood of the government" and one of the duties of a Filipino citizen is to
pay his income tax.
WHEREFORE, the petitioners are denied for lack of merit. The dismissal by the
respondent Court of Tax Appeals of petitioners' claims for tax refunds for the
income tax period for 1970 and 1971 is AFFIRMED. Costs against petitioners.
SO ORDERED.
Narvasa, C.J., Padilla and Regalado, JJ., concur.
Melo, J., took no part.

G.R. No. L-17518 October 30, 1922
FREDERICK C. FISHER, Plaintiff-Appellant, vs. WENCESLAO TRINIDAD,

Collector of Internal Revenue, Defendant-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.chanroblesvirtualawlibrary
chanrobles virtual law library
The defendant demurred to the petition in the lower court. The facts are therefore
admitted. They are simple and may be stated as follows:chanrobles virtual law
library
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.chanroblesvirtualawlibrary chanrobles virtual law library
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.chanroblesvirtualawlibrary chanrobles virtual law library
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.chanroblesvirtualawlibrary chanrobles virtual law library
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.chanroblesvirtualawlibrary chanrobles virtual law library
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.chanroblesvirtualawlibrary chanrobles virtual law library
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.chanroblesvirtualawlibrary
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 carreton or 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.chanroblesvirtualawlibrary chanrobles virtual law
library
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.chanroblesvirtualawlibrary chanrobles virtual law library
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.chanroblesvirtualawlibrary chanrobles virtual law library
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.chanroblesvirtualawlibrary
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.chanroblesvirtualawlibrary chanrobles virtual law library
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 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?chanrobles
virtual law library
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."chanrobles virtual law library
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.)chanrobles virtual law
library
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.chanroblesvirtualawlibrary chanrobles virtual law library
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).chanroblesvirtualawlibrary chanrobles virtual law library
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.chanroblesvirtualawlibrary chanrobles virtual law library
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."chanrobles virtual
law library
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.chanroblesvirtualawlibrary chanrobles virtual law library
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 corporation, firm, or individual, should
be taxed as "income." Such property can be reached under the ordinary from of
taxation.chanroblesvirtualawlibrary chanrobles virtual law library
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.chanroblesvirtualawlibrary chanrobles virtual law library
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.chanroblesvirtualawlibrary chanrobles virtual law library
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.)chanrobles virtual law library
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.chanroblesvirtualawlibrary chanrobles virtual law library
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.)chanrobles virtual law library
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.chanroblesvirtualawlibrary chanrobles virtual law library
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.chanroblesvirtualawlibrary chanrobles virtual law library
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.chanroblesvirtualawlibrary chanrobles virtual law library
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.chanroblesvirtualawlibrary chanrobles virtual
law library
Araullo, C.J. Avanceña, Villamor and Romualdez, JJ., concur.
Separate Opinions

STREET, J., concurring:chanrobles virtual law library
I agree that the trial court erred in sustaining the demurrer, and the judgment
must be reversed. Instead of demurring the defendant should have answered
and alleged, if such be the case, that the stock dividend which was the subject
of taxation represents the amount of earnings or profits distributed by means of
the issuance of said stock dividend; and the case should have been tried on that
question of fact.chanroblesvirtualawlibrary chanrobles virtual law library
In this connection it will be noted that section 25 ( a) of Act No. 2833, of the
Philippine Legislature, under which this tax was imposed, does not levy a tax
generally on stock dividends to the extend of the part of the stock nor even to
the extend of its value, but declares that stock dividends shall be considered as
income to the amount of the earnings or profits distributed. Under provision,
before the tax can be lawfully assessed and collected, it must appear that he
stock dividend represents earning or profits distributed; and the burden of proof
is on the Collector of Internal Revenue to show this.chanroblesvirtualawlibrary
The case of Eisner vs. Macomber (252 U.S., 189; 64 L. ed., 521), has been cited
as authority for the proposition that it is incompetent for the Legislature to tax
as income any property which by nature is really capital - as a stock dividend is
there said to be. In that case the Supreme Court of the United States held that
a Congressional Act taxing stock dividends as income was repugnant to that
provision of the Constitution of the United States which required that direct
taxes upon property shall be apportioned for collection among the several states
according to population and that the Sixteenth Amendment, in authorizing the
imposition by Congress of taxes upon income, had not vested Congress with the
power to levy direct taxes, on property under the guise of income taxes. But the
resolution embodied in that decision was evidently reached because of the
necessity of harmonizing two different provisions of the Constitution of the
United States, as amended. In this jurisdiction our Legislature has full authority
to levy both taxes on property and income taxes; and there is no organic
provision here in force similar to that which, under the Constitution of the United
States, requires direct taxes on property to be levied in a particular
way.chanroblesvirtualawlibrary chanrobles virtual law library
It results, under the statute here in force, there being no constitutional

restriction upon the action of the law making body, that the case before us
presents merely a question of statutory construction. That the problem should
be viewed in this light, in a case where there is no restriction upon the legislative
body, is pointed our in Eisner vs. Macomber, supra, where in the course of his
opinion Mr. Justice Pitney refers to the cases of the Swan Brewery Co. vs. Rex
([1914] A. C. 231), and Tax Commissioner vs. Putnam (227 Mass., 522), as being
distinguished from Eisner vs. Macomber by the very circumstance that in those
cases the law making body, or bodies were under no restriction as to the method
of levying taxes. Such is the situation here.chanroblesvirtualawlibrary
OSTRAND, J., dissenting:chanrobles virtual law library
In its final analysis the opinion of the court rests principally, if not entirely on
the decision of the United States Supreme Court in the case of Eisner vs.
Macomber (252 U.S., 189), a decision which, for at least two reasons, is entirely
inapplicable to the present case.chanroblesvirtualawlibrary chanrobles virtual
law library
In the first place, there is a radical difference between the definition of a taxable
stock dividend given in the United States Income Tax Law of September 8, 1916,
construed in the case of Eisner vs. Macomber, and that given in Act No. 2833 of
the Philippine Legislature, the Act with which we are concerned in the present
case. The former provides that "stock dividend shall be considered income, to the
amount of its cash value;" the Philippine Act provides that "Stock dividend shall
be considered income, to the amount of the earnings or profits distributed." The
United State statute made stock dividends based upon an advance in the value
of the property or investment taxable as income whether resulting from earning
or not; our statute make stock dividends taxable only to the amount of the
earning and profits distributed, and stock dividends based on the increment
income and are not taxable. Though the difference would seem sufficiently
obvious, we will endeavor to make it still clearer by borrowing one of the
illustrations with which the opinion of the court is provided. The court says:
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 has property of the value of P20,000. A is not a
corporation. The assets of his business are not shown therefore by certificate of
stock. His books, however, show that the value of his property has increased
during the year by P10,000. Can the 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 conditions of A in this
illustration and the conditions 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?
I answer no. And while the increment if in the form of a stock dividend would
have been regarded as income under the United States statute and taxes as
such, it is not regarded as income and cannot be so taxes under our statute
because it is not based on earnings or profits. That is precisely the difference
between the two statutes and that is the reason the illustration is not in point in
this case, though it would have been entirely appropriate in the Eisner vs.
Macomber case. It is also one of the reasons why that case is inapplicable here
and why most of the arguments in the majority opinion are beside the
mark.chanroblesvirtualawlibrary chanrobles virtual law library
But let us suppose that A had sold the products of the farm during the year for
P10,000 over and above his expense, and had invested the money in buildings
and improvements on the farm, thus increasing its value to P20,000. Why would
not the P10,000 earned during the year and so invested in improvements still be
income for the year? And why would not a tax on these earnings be an income
tax under the definition given in Black's Law Dictionary, and quoted with
approval in the decision of the court, that "An income tax is a tax on the yearly
profits arising from the property, professions, trades, and offices?" There can be
but one answer. There is no reason whatever why the gains derived from the sale
of the products of the farm should not be regarded as income whether reinvested
in improvements upon the farm or not and there is no reason way a tax levied
thereon cannot be considered an income tax.chanroblesvirtualawlibrary
Moreover, to constitute income, profits, or earnings need not necessarily be

converted into cash. Black's Law Dictionary says - and I am again quoting from
the decision of the court - "An income is the return in money from one's business,
labor, or capital invested; gains profits, or private revenue." As will be seen in
the secondary sense of the word, income need not consist in money; upon this
point there is no divergence of view among the lexicographers. If a farmer stores
the gain produced upon his farm without selling, it may none the less be
regarded as income.chanroblesvirtualawlibrary chanrobles virtual law library
In the Eisner vs. Macomber case, the United States supreme Court felt bound to
give the word "income" a strict interpretation. Under article 1, paragraph 2,
clause 3, and paragraph 9, clause 4 of the original Constitution of the United
States, Congress could not impose direct taxes without apportioning them
among the States according to population. As it was thought desirable to impose
Federal taxes upon incomes and as a levy of such taxes by appointment among
the States in proportion to population would lead to an unequal distribution of
the tax with reference to the amount of taxable incomes, the Sixteenth
Amendment was adopted and which provided that "The Congress shall have
power to lay and collect taxes on incomes, from whatever source derived, without
apportionment among the several states, and without regard to any census or
enumeration."chanrobles virtual law library
The United States Supreme Court therefore says in the Eisner vs. Macomber
case:
A proper regard for its generis, 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
functions, and is not to be overridden by Congress or disregarded by the
courts.chanroblesvirtualawlibrary chanrobles virtual law library
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.
That, in the absence of the peculiar restrictions placed by the Constitution upon
taxing power of Congress, the decision of the court might have been different is
clearly indicated by the following language:
Two recent decisions, proceeding from courts of high jurisdiction, are cited in
support of the position of the Government.chanroblesvirtualawlibrary
Sean Brewery Co. vs. 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 director of any company," except etc. There
was a stock dividend, the new shares being alloted 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 distribution of a dividend," yet within the meaning of the
act, such new share 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.chanroblesvirtualawlibrary chanrobles virtual law library
In Tax Commissioner vs. Putnam (1917], 227 Mass., 522), it was held that the
44th 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. . . .
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 provisions that stand in the way of extending it by
construction.
The Philippine Legislature has full power to levy taxes both on capital or property
and on income, subject only to the provisions of the Organic Act that "the rule of
taxation shall be uniform." In providing for the income tax the Legislature is
therefore entirely free to employ the term "income" in its widest sense and is in
nowise limited or hampered by organic limitations such as those imposed upon
Congress by the Constitution of the United States. This is the second reason why
the rule laid down in Eisner vs. Macomber has no application
here.chanroblesvirtualawlibrary chanrobles virtual law library
The majority opinion in discussing this question, says:
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 cannot impose
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 carreton
or bull cart. Constitutional limitations upon the power of the Legislature are not
stronger than statutory 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 of a nature of a
tax which it imposes. A law which imposes an importation tax on rice only cannot
be construed to impose an importation tax on corn.
These assertions while in the main true are, perhaps, a little to broadly stated;
much will depend on the circumstances of each particular case. If the Legislature
cannot do the things enumerate it must be by reason of the limitation imposed
by the Organic Act, "That no bill which may be enacted into law shall embrace
more than on subject, and that subject shall be expressed in the title of the bill."
Similar provisions are contained in most State Constitutions, their object being
to prevent "log-rolling" and the passing of undesirable measures without their
being brought properly to the attention of the legislators. Where the prevention
of this mischief is not involved, the courts have uniformly given such provisions
a very liberal construction and there are few, if any, cases where a statute has
been declared unconstitutional for dealing with several cognate subjects in the
same Act and under the same title. (Lewis Sutherland on Statutory Construction,
2d ed., pars 109 et seq.: Government of the Philippine Island vs. Municipality of
Binalonan and Roman Catholic Bishop of Nueva Segovia, 32, Phil., 634).
Certainly no income tax statute would be declared unconstitutional on that
ground for treating dividends as income and providing for their taxation as
such.chanroblesvirtualawlibrary chanrobles virtual law library
Reverting to the question of the nature of income, it is argued that a stock

certificate has no intrinsic value and that, therefore, even it is based on earnings
instead of increment in capital it cannot be regarded as income. But neither has
a bank check or a time deposit certificate any intrinsic value, yet it may be
negotiated, or sold, or assigned and it represents a cash value. So also does a
stock certificate. A lawyer might take his fee in stock certificates instead of in
money. Would it be seriously contended that he had received no fee and that his
efforts had brought no income?chanrobles virtual law library
Some of the members of the court agree that stock dividends based on earnings
or profits may be taxed as income, but take the view that in an action against
the Collector of the Internal Revenue for recovering back taxes paid on non-
taxable stock dividends, the plaintiff need not allege that the stock dividends are
not base on earnings or profits distributed, but that question of the taxability or
non-taxability of the stock dividends is a matter of defense and should be set up
by the defendant by way of answer.chanroblesvirtualawlibrary chanrobles
virtual law library
I think this view is erroneous. If some stock dividends are taxable and others are
not, an allegation that stock dividends in general have been taxed is not sufficient
and does not state a cause of action. the presumption is that the tax has been
legally collected and the burden is upon the plaintiff both to allege and prove
facts showing that the collection is unlawfully or irregular. (Code of Civil
Procedure, sec. 334, subsec. 14 and 31.)chanrobles virtual law library
Malcolm, J., concurs.
----chanrobles virtual law library
JOHNS, J., dissenting:chanrobles virtual law library
We have studied and analyzed with care the able and exhaustive majority opinion
written by Mr. Justice Johnson.chanroblesvirtualawlibrary chanrobles virtual
law library
In the final analysis, the question involved is whether the words "which stock
dividend shall be considered income, to the amount of its cash value" are to be
construed as meaning the same things as the words "stock dividend shall be
considered income, to the amount of the earnings or profits distributed," as the
majority opinion says. The first is an Act of Congress defining what is a stock
dividend, and that the word dividend shall be construed as income to the amount
of its cash value. It is upon that construction and that definition that the majority
opinion is founded. That is the definition of the words as used in an Act of
Congress. The other is an Act defining the meaning of the words as used in an
Act of Congress. The other is an Act defining the meaning of the words by the
Legislature of the Philippine Islands, and it says: "Stock dividend shall be
considered income, to the amount of the earnings or profits
distributed."chanrobles virtual law library
It is true, as the majority opinion says, that in enacting the Income Tax Law of
the Philippine Islands, the Legislature had before it the Act of Congress. But it is
also true that by the Act of the Philippine Legislature "Stock dividend shall be
considered income, to the amount of the earnings or profits distributed." One
law is founded upon the actual cash value of the stock and the other is founded
upon distributed earnings and profits.chanroblesvirtualawlibrary chanrobles
virtual law library
Much is said in the textbooks and by the numerous decisions cited in the
majority opinion as to the meaning of the word income, and the decision in the
United States are founded upon the meaning of that word, as it is used in the
Act of Congress, and to the effect that the word is to be construed in its usual
and ordinary meaning. But assuming that to be true, it must also be conceded
that the Legislature of the Philippine Islands has a legal right to define the
meaning of the word "income" by a legislative act, and when its meaning is
defined by legislative act, it is the duty of the courts to follow that definition
regardless of whether it is the usual and ordinary meaning of the word, and
therein lies the distinction between the two acts and the reason why the
authorities cited in the majority opinion are not in point. Act No. 2833 of the
Philippine Legislature specifically says that "Stock dividend shall be considered
income, to the amount of the earnings or profits distributed." The Act of Congress
is founded upon the "cash value of the stock," and the Act in question is founded
upon "the amount of the earnings or profits distributed."chanrobles virtual law
library
Hence, then, we have the meaning of the words defined in the legislative act, and
it is very apparent that the purpose and intent of the legislative act was to avoid
the meaning and construction of such words which is now given to them in the
majority opinion. The Legislature had the power to define the meaning of the
words, did define them, and it is the duty of the courts to follow and adopt the
meaning and definition of the words given to them in the legislative
act.chanroblesvirtualawlibrary chanrobles virtual law library
As pointed out in the opinion of Mr. Justice Street, the constitutional limitations
upon the legislative power for taxation purposes, which exist in the United
States, does not exist in the Philippine Islands. There is no organic law here
similar to the provisions of the Constitution of the United States which require
direct taxes on property to be levied in a specific way, in other words, the
restrictions and limitations placed on the power to levy an income tax under the
Constitution of the United States do not exist in the Philippine Islands. Hence,
it must follow that the authorities cited in the majority opinion are not in point
the instant case. They are founded upon different language, different organic
powers, different conditions, and the different meaning of the same words as
defined in the different legislative acts. The Philippine Legislature had a legal
right to define the meaning of the words "dividend" and "income," and it expressly
says "Stock dividend shall be considered income, to the amount of the earnings
or profits distributed." In the instant case, the earnings and profits of the
corporation were distributed among the existing stockholders of the company
upon a pro rata basis, and they were made exclusively out of "distributed
earnings and profits." The declaring of the dividend was a matter in the sole
discretion of the stockholders, but when such a dividend is made from and out
of "earnings or profits distributed," it then becomes and is an income within the
meaning of Act No. 2833, and should be subject to an income
tax.chanroblesvirtualawlibrary chanrobles virtual law library
For such reason, I dissent.

G.R. No. L-12287 August 7, 1918
VICENTE MADRIGAL and his wife, SUSANA PATERNO, plaintiffs-appellants,

vs. JAMES J. RAFFERTY, Collector of Internal Revenue, and VENANCIO
CONCEPCION, Deputy Collector of Internal Revenue, defendants-appellees.
MALCOLM, J.:
This appeal calls for consideration of the Income Tax Law, a law of American
origin, with reference to the Civil Code, a law of Spanish origin.
STATEMENT OF THE CASE.
Vicente Madrigal and Susana Paterno were legally married prior to January 1,
1914. The marriage was contracted under the provisions of law concerning
conjugal partnerships (sociedad de gananciales). On February 25, 1915, Vicente
Madrigal filed sworn declaration on the prescribed form with the Collector of
Internal Revenue, 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 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 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.

G.R. No. 108576 January 20, 1999
COMMISSIONER OF INTERNAL REVENUE, petitioner, vs. THE COURT OF

APPEALS, COURT OF TAX APPEALS and A. SORIANO CORP., respondents.
MARTINEZ, J.:
Petitioner Commissioner of Internal Revenue (CIR) seeks the reversal of the

decision of the Court of Appeals (CA) 1 which affirmed the ruling of the Court of
Tax Appeals (CTA) 2 that private respondent A. Soriano Corporation's
(hereinafter ANSCOR) redemption and exchange of the stocks of its foreign
stockholders cannot be considered as "essentially equivalent to a distribution of
taxable dividends" under, Section 83(b) of the 1939 Internal Revenue Act. 3
The undisputed facts are as follows:
Sometime in the 1930s, Don Andres Soriano, a citizen and resident of the United
States, formed the corporation "A. Soriano Y Cia", predecessor of ANSCOR, with
a P1,000,000.00 capitalization divided into 10,000 common shares at a par value
of P100/share. ANSCOR is wholly owned and controlled by the family of Don
Andres, who are all non-resident aliens. 4 In 1937, Don Andres subscribed to
4,963 shares of the 5,000 shares originally issued. 5
On September 12, 1945, ANSCOR's authorized capital stock was increased to

P2,500,000.00 divided into 25,000 common shares with the same par value of
the additional 15,000 shares, only 10,000 was issued which were all subscribed
by Don Andres, after the other stockholders waived in favor of the former their
pre-emptive rights to subscribe to the new issues. 6 This increased his
subscription to 14,963 common shares. 7 A month later, 8 Don Andres
transferred 1,250 shares each to his two sons, Jose and Andres, Jr., as their
initial investments in ANSCOR. 9 Both sons are foreigners. 10
By 1947, ANSCOR declared stock dividends. Other stock dividend declarations

were made between 1949 and December 20, 1963. 11 On December 30, 1964
Don Andres died. As of that date, the records revealed that he has a total
shareholdings of 185,154 shares 12 — 50,495 of which are original issues and
the balance of 134.659 shares as stock dividend declarations. 13
Correspondingly, one-half of that shareholdings or 92,577 14 shares were
transferred to his wife, Doña Carmen Soriano, as her conjugal share. The other
half formed part of his estate. 15
A day after Don Andres died, ANSCOR increased its capital stock to P20M 16
and in 1966 further increased it to P30M. 17 In the same year (December 1966),
stock dividends worth 46,290 and 46,287 shares were respectively received by
the Don Andres estate 18 and Doña Carmen from ANSCOR. Hence, increasing
their accumulated shareholdings to 138,867 and 138,864 19 common shares
each. 20
On December 28, 1967, Doña Carmen requested a ruling from the United States
Internal Revenue Service (IRS), inquiring if an exchange of common with
preferred shares may be considered as a tax avoidance scheme 21 under Section
367 of the 1954 U.S. Revenue Act. 22 By January 2, 1968, ANSCOR reclassified
its existing 300,000 common shares into 150,000 common and 150,000
preferred shares. 23
In a letter-reply dated February 1968, the IRS opined that the exchange is only
a recapitalization scheme and not tax avoidance. 24 Consequently, 25 on March
31, 1968 Doña Carmen exchanged her whole 138,864 common shares for
138,860 of the newly reclassified preferred shares. The estate of Don Andres in
turn, exchanged 11,140 of its common shares, for the remaining 11,140
preferred shares, thus reducing its (the estate) common shares to 127,727. 26
On June 30, 1968, pursuant to a Board Resolution, ANSCOR redeemed 28,000

common shares from the Don Andres' estate. By November 1968, the Board
further increased ANSCOR's capital stock to P75M divided into 150,000
preferred shares and 600,000 common shares. 27 About a year later, ANSCOR
again redeemed 80,000 common shares from the Don Andres' estate, 28 further
reducing the latter's common shareholdings to 19,727. As stated in the Board
Resolutions, ANSCOR's business purpose for both redemptions of stocks is to
partially retire said stocks as treasury shares in order to reduce the company's
foreign exchange remittances in case cash dividends are declared. 29
In 1973, after examining ANSCOR's books of account and records, Revenue

examiners issued a report proposing that ANSCOR be assessed for deficiency
withholding tax-at-source, pursuant to Sections 53 and 54 of the 1939 Revenue
Code, 30 for the year 1968 and the second quarter of 1969 based on the
transactions of exchange 31 and redemption of stocks. 31 The Bureau of Internal
Revenue (BIR) made the corresponding assessments despite the claim of
ANSCOR that it availed of the tax amnesty under Presidential Decree
(P.D.) 23 32 which were amended by P.D.'s 67 and 157. 33 However, petitioner
ruled that the invoked decrees do not cover Sections 53 and 54 in relation to
Article 83(b) of the 1939 Revenue Act under which ANSCOR was assessed. 34
ANSCOR's subsequent protest on the assessments was denied in 1983 by
petitioner. 35
Subsequently, ANSCOR filed a petition for review with the CTA assailing the tax
assessments on the redemptions and exchange of stocks. In its decision, the Tax
Court reversed petitioner's ruling, after finding sufficient evidence to overcome
the prima facie correctness of the questioned assessments. 36 In a petition for
review the CA as mentioned, affirmed the ruling of the CTA. 37 Hence, this
petition.
The bone of contention is the interpretation and application of Section 83(b) of
the 1939 Revenue Act 38 which provides:
Sec. 83. Distribution of dividends or assets by corporations. —
(b) Stock dividends — 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 cancellation of the stock shall be considered as taxable income to
the extent it represents a distribution of earnings or profits accumulated after
March first, nineteen hundred and thirteen. (Emphasis supplied)
Specifically, the issue is whether ANSCOR's redemption of stocks from its

stockholder as well as the exchange of common with preferred shares can be
considered as "essentially equivalent to the distribution of taxable dividend"
making the proceeds thereof taxable under the provisions of the above-quoted
law.
Petitioner contends that the exchange transaction a tantamount to "cancellation"

under Section 83(b) making the proceeds thereof taxable. It also argues that the
Section applies to stock dividends which is the bulk of stocks that ANSCOR
redeemed. Further, petitioner claims that under the "net effect test," the estate
of Don Andres gained from the redemption. Accordingly, it was the duty of
ANSCOR to withhold the tax-at-source arising from the two transactions,
pursuant to Section 53 and 54 of the 1939 Revenue Act. 39
ANSCOR, however, avers that it has no duty to withhold any tax either from the
Don Andres estate or from Doña Carmen based on the two transactions, because
the same were done for legitimate business purposes which are (a) to reduce its
foreign exchange remittances in the event the company would declare cash
dividends, 40 and to (b) subsequently "filipinized" ownership of ANSCOR, as
allegedly, envisioned by Don Andres. 41 It likewise invoked the amnesty
provisions of P.D. 67.
We must emphasize that the application of Sec. 83(b) depends on the special
factual circumstances of each case. 42 The findings of facts of a special court
(CTA) exercising particular expertise on the subject of tax, generally binds this
Court, 43 considering that it is substantially similar to the findings of the CA
which is the final arbiter of questions of facts. 44 The issue in this case does not
only deal with facts but whether the law applies to a particular set of facts.
Moreover, this Court is not necessarily bound by the lower courts' conclusions
of law drawn from such facts. 45
AMNESTY:
We will deal first with the issue of tax amnesty. Section 1 of P.D. 67 46 provides:
1. In all cases of voluntary disclosures of previously untaxed income and/or

wealth such as earnings, receipts, gifts, bequests or any other acquisitions from
any source whatsoever which are taxable under the National Internal Revenue
Code, as amended, realized here or abroad by any taxpayer, natural or judicial;
the collection of all internal revenue taxes including the increments or penalties
or account of non-payment as well as all civil, criminal or administrative
liabilities arising from or incident to such disclosures under the National Internal
Revenue Code, the Revised Penal Code, the Anti-Graft and Corrupt Practices Act,
the Revised Administrative Code, the Civil Service laws and regulations, laws
and regulations on Immigration and Deportation, or any other applicable law or
proclamation, are hereby condoned and, in lieu thereof, a tax of ten (10%) per
centum on such previously untaxed income or wealth, is hereby imposed,
subject to the following conditions: (conditions omitted) [Emphasis supplied].
The decree condones "the collection of all internal revenue taxes including the
increments or penalties or account of non-payment as well as all civil, criminal
or administrative liable arising from or incident to" (voluntary) disclosures under
the NIRC of previously untaxed income and/or wealth "realized here or abroad
by any taxpayer, natural or juridical."
May the withholding agent, in such capacity, be deemed a taxpayer for it to avail
of the amnesty? An income taxpayer covers all persons who derive taxable
income. 47 ANSCOR was assessed by petitioner for deficiency withholding tax
under Section 53 and 54 of the 1939 Code. As such, it is being held liable in its
capacity as a withholding agent and not its personality as a taxpayer.
In the operation of the withholding tax system, the withholding agent is the
payor, a separate entity acting no more than an agent of the government for the
collection of the tax 48 in order to ensure its payments; 49 the payer is the
taxpayer — he is the person subject to tax impose by law; 50 and the payee is
the taxing authority. 51 In other words, the withholding agent is merely a tax
collector, not a taxpayer. Under the withholding system, however, the agent-
payor becomes a payee by fiction of law. His (agent) liability is direct and
independent from the taxpayer, 52 because the income tax is still impose on and
due from the latter. The agent is not liable for the tax as no wealth flowed into
him — he earned no income. The Tax Code only makes the agent personally
liable for the tax 53 arising from the breach of its legal duty to withhold as
distinguish from its duty to pay tax since:
the government's cause of action against the withholding is not for the collection
of income tax, but for the enforcement of the withholding provision of Section 53
of the Tax Code, compliance with which is imposed on the withholding agent and
not upon the taxpayer. 54
Not being a taxpayer, a withholding agent, like ANSCOR in this transaction is

not protected by the amnesty under the decree.
Codal provisions on withholding tax are mandatory and must be complied with
by the withholding agent. 55 The taxpayer should not answer for the non-
performance by the withholding agent of its legal duty to withhold unless there
is collusion or bad faith. The former could not be deemed to have evaded the tax
had the withholding agent performed its duty. This could be the situation for
which the amnesty decree was intended. Thus, to curtail tax evasion and give
tax evaders a chance to reform, 56 it was deemed administratively feasible to
grant tax amnesty in certain instances. In addition, a "tax amnesty, much like a
tax exemption, is never favored nor presumed in law and if granted by a statute,
the term of the amnesty like that of a tax exemption must be construed strictly
against the taxpayer and liberally in favor of the taxing authority.57 The rule on
strictissimi juris equally applies. 58 So that, any doubt in the application of an
amnesty law/decree should be resolved in favor of the taxing authority.
Furthermore, ANSCOR's claim of amnesty cannot prosper. The implementing

rules of P.D. 370 which expanded amnesty on previously untaxed income under
P.D. 23 is very explicit, to wit:
Sec. 4. Cases not covered by amnesty. — The following cases are not covered by
the amnesty subject of these regulations:
xxx xxx xxx
(2) Tax liabilities with or without assessments, on withholding tax at source

provided under Section 53 and 54 of the National Internal Revenue Code, as
amended; 59
ANSCOR was assessed under Sections 53 and 54 of the 1939 Tax Code. Thus,
by specific provision of law, it is not covered by the amnesty.
TAX ON STOCK DIVIDENDS
General Rule
Sec. 83(b) of the 1939 NIRC was taken from the Section 115(g)(1) of the U.S.
Revenue Code of 1928. 60 It laid down the general rule known as the
proportionate test 61 wherein stock dividends once issued form part of the
capital and, thus, subject to income tax.62 Specifically, the general rule states
that:
A stock dividend representing the transfer of surplus to capital account shall not
be subject to tax.
Having been derived from a foreign law, resort to the jurisprudence of its origin
may shed light. Under the US Revenue Code, this provision originally referred to
"stock dividends" only, without any exception. Stock dividends, strictly speaking,
represent capital and do not constitute income to its
recipient. 63 So that the mere issuance thereof is not yet subject to income tax
64 as they are nothing but an "enrichment through increase in value of capital
investment." 65 As capital, the stock dividends postpone the realization of profits
because the "fund represented by the new stock has been transferred from
surplus to capital and no longer available for actual distribution." 66 Income in
tax law is "an amount of money coming to a person within a specified time,
whether as payment for services, interest, or profit from investment." 67 It means
cash or its equivalent. 68 It is gain derived and severed from capital, 69 from
labor or from both combined 70 — so that to tax a stock dividend would be to
tax a capital increase rather than the income. 71 In a loose sense, stock
dividends issued by the corporation, are considered unrealized gain, and cannot
be subjected to income tax until that gain has been realized. Before the
realization, stock dividends are nothing but a representation of an interest in the
corporate properties. 72 As capital, it is not yet subject to income tax. It should
be noted that capital and income are different. Capital is wealth or fund; whereas
income is profit or gain or the flow of wealth. 73 The determining factor for the
imposition of income tax is whether any gain or profit was derived from a
transaction. 74
The Exception
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 cancellation of the
stock shall be considered as taxable income to the extent it represents a
distribution of earnings or profits accumulated after March first, nineteen
hundred and thirteen. (Emphasis supplied).
In a response to the ruling of the American Supreme Court in the case of Eisner
v. Macomber 75 (that pro rata stock dividends are not taxable income), the
exempting clause above quoted was added because provision corporation found
a loophole in the original provision. They resorted to devious means to
circumvent the law and evade the tax. Corporate earnings would be distributed
under the guise of its initial capitalization by declaring the stock dividends
previously issued and later redeem said dividends by paying cash to the
stockholder. This process of issuance-redemption amounts to a distribution of
taxable cash dividends which was lust delayed so as to escape the tax. It becomes
a convenient technical strategy to avoid the effects of taxation.
Thus, to plug the loophole — the exempting clause was added. It provides that
the redemption or cancellation of stock dividends, depending on the "time" and
"manner" it was made, is essentially equivalent to a distribution of taxable
dividends," making the proceeds thereof "taxable income" "to the extent it
represents profits". The exception was designed to prevent the issuance and
cancellation or redemption of stock dividends, which is fundamentally not
taxable, from being made use of as a device for the actual distribution of cash
dividends, which is taxable. 76 Thus,
the provision had the obvious purpose of preventing a corporation from avoiding
dividend tax treatment by distributing earnings to its shareholders in two
transactions — a pro rata stock dividend followed by a pro rata redemption —
that would have the same economic consequences as a simple dividend. 77
Although redemption and cancellation are generally considered capital

transactions, as such. they are not subject to tax. However, it does not
necessarily mean that a shareholder may not realize a taxable gain from such
transactions. 78 Simply put, depending on the circumstances, the proceeds of
redemption of stock dividends are essentially distribution of cash dividends,
which when paid becomes the absolute property of the stockholder. Thereafter,
the latter becomes the exclusive owner thereof and can exercise the freedom of
choice. 79 Having realized gain from that redemption, the income earner cannot
escape income tax. 80
As qualified by the phrase "such time and in such manner," the exception was
not intended to characterize as taxable dividend every distribution of earnings
arising from the redemption of stock dividend. 81 So that, whether the amount
distributed in the redemption should be treated as the equivalent of a "taxable
dividend" is a question of fact, 82 which is determinable on "the basis of the
particular facts of the transaction in question. 83 No decisive test can be used
to determine the application of the exemption under Section 83(b). The use of
the words "such manner" and "essentially equivalent" negative any idea that a
weighted formula can resolve a crucial issue — Should the distribution be treated
as taxable dividend. 84 On this aspect, American courts developed certain
recognized criteria, which includes the following: 85
1) the presence or absence of real business purpose,
2) the amount of earnings and profits available for the declaration of a regular
dividends and the corporation's past record with respect to the declaration of
dividends,
3) the effect of the distribution, as compared with the declaration of regular

dividend,
4) the lapse of time between issuance and redemption, 86
5) the presence of a substantial surplus 87 and a generous supply of cash which

invites suspicion as does a meager policy in relation both to current earnings
and accumulated surplus, 88
REDEMPTION AND CANCELLATION
For the exempting clause of Section, 83(b) to apply, it is indispensable that: (a)
there is redemption or cancellation; (b) the transaction involves stock dividends
and (c) the "time and manner" of the transaction makes it "essentially equivalent
to a distribution of taxable dividends." Of these, the most important is the third.
Redemption is repurchase, a reacquisition of stock by a corporation which issued

the stock 89 in exchange for property, whether or not the acquired stock is
cancelled, retired or held in the treasury. 90 Essentially, the corporation gets
back some of its stock, distributes cash or property to the shareholder in
payment for the stock, and continues in business as before. The redemption of
stock dividends previously issued is used as a veil for the constructive
distribution of cash dividends. In the instant case, there is no dispute that
ANSCOR redeemed shares of stocks from a stockholder (Don Andres) twice
(28,000 and 80,000 common shares). But where did the shares redeemed come
from? If its source is the original capital subscriptions upon establishment of the
corporation or from initial capital investment in an existing enterprise, its
redemption to the concurrent value of acquisition may not invite the application
of Sec. 83(b) under the 1939 Tax Code, as it is not income but a mere return of
capital. On the contrary, if the redeemed shares are from stock dividend
declarations other than as initial capital investment, the proceeds of the
redemption is additional wealth, for it is not merely a return of capital but a gain
thereon.
It is not the stock dividends but the proceeds of its redemption that may be
deemed as taxable dividends. Here, it is undisputed that at the time of the last
redemption, the original common shares owned by the estate were only 25,247.5
91 This means that from the total of 108,000 shares redeemed from the estate,
the balance of 82,752.5 (108,000 less 25,247.5) must have come from stock
dividends. Besides, in the absence of evidence to the contrary, the Tax Code
presumes that every distribution of corporate property, in whole or in part, is
made out of corporate profits 92 such as stock dividends. The capital cannot be
distributed in the form of redemption of stock dividends without violating the
trust fund doctrine — wherein the capital stock, property and other assets of the
corporation are regarded as equity in trust for the payment of the corporate
creditors. 93 Once capital, it is always capital. 94 That doctrine was intended for
the protection of corporate creditors. 95
With respect to the third requisite, ANSCOR redeemed stock dividends issued
just 2 to 3 years earlier. The time alone that lapsed from the issuance to the
redemption is not a sufficient indicator to determine taxability. It is a must to
consider the factual circumstances as to the manner of both the issuance and
the redemption. The "time" element is a factor to show a device to evade tax and
the scheme of cancelling or redeeming the same shares is a method usually
adopted to accomplish the end sought. 96 Was this transaction used as a
"continuing plan," "device" or "artifice" to evade payment of tax? It is necessary
to determine the "net effect" of the transaction between the shareholder-income
taxpayer and the acquiring (redeeming) corporation. 97 The "net effect" test is
not evidence or testimony to be considered; it is rather an inference to be drawn
or a conclusion to be reached. 98 It is also important to know whether the
issuance of stock dividends was dictated by legitimate business reasons, the
presence of which might negate a tax evasion plan. 99
The issuance of stock dividends and its subsequent redemption must be

separate, distinct, and not related, for the redemption to be considered a
legitimate tax scheme. 100 Redemption cannot be used as a cloak to distribute
corporate earnings. 101 Otherwise, the apparent intention to avoid tax becomes
doubtful as the intention to evade becomes manifest. It has been ruled that:
[A]n operation with no business or corporate purpose — is 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 a stockholder. 102
Depending on each case, the exempting provision of Sec. 83(b) of the 1939 Code
may not be applicable if the redeemed shares were issued with bona fide
business purpose, 103 which is judged after each and every step of the
transaction have been considered and the whole transaction does not amount to
a tax evasion scheme.
ANSCOR invoked two reasons to justify the redemptions — (1) the alleged
"filipinization" program and (2) the reduction of foreign exchange remittances in
case cash dividends are declared. The Court is not concerned with the wisdom
of these purposes but on their relevance to the whole transaction which can be
inferred from the outcome thereof. Again, it is the "net effect rather than the
motives and plans of the taxpayer or his corporation" 104 that is the
fundamental guide in administering Sec. 83(b). This tax provision is aimed at the
result. 105 It also applies even if at the time of the issuance of the stock dividend,
there was no intention to redeem it as a means of distributing profit or avoiding
tax on dividends. 106 The existence of legitimate business purposes in support
of the redemption of stock dividends is immaterial in income taxation. It has no
relevance in determining "dividend equivalence". 107 Such purposes may be
material only upon the issuance of the stock dividends. The test of taxability
under the exempting clause, when it provides "such time and manner" as would
make the redemption "essentially equivalent to the distribution of a taxable
dividend", is whether the redemption resulted into a flow of wealth. If no wealth
is realized from the redemption, there may not be a dividend equivalence
treatment. In the metaphor of Eisner v. Macomber, income is not deemed
"realize" until the fruit has fallen or been plucked from the tree.
The three elements in the imposition of income tax are: (1) there must be gain or
and profit, (2) that the gain or profit is realized or received, actually or
constructively, 108 and (3) it is not exempted by law or treaty from income tax.
Any business purpose as to why or how the income was earned by the taxpayer
is not a requirement. Income tax is assessed on income received from any
property, activity or service that produces the income because the Tax Code
stands as an indifferent neutral party on the matter of where income comes
from. 109
As stated above, the test of taxability under the exempting clause of Section 83(b)
is, whether income was realized through the redemption of stock dividends. The
redemption converts into money the stock dividends which become a realized
profit or gain and consequently, the stockholder's separate property. 110 Profits
derived from the capital invested cannot escape income tax. As realized income,
the proceeds of the redeemed stock dividends can be reached by income taxation
regardless of the existence of any business purpose for the redemption.
Otherwise, to rule that the said proceeds are exempt from income tax when the
redemption is supported by legitimate business reasons would defeat the very
purpose of imposing tax on income. Such argument would open the door for
income earners not to pay tax so long as the person from whom the income was
derived has legitimate business reasons. In other words, the payment of tax
under the exempting clause of Section 83(b) would be made to depend not on
the income of the taxpayer, but on the business purposes of a third party (the
corporation herein) from whom the income was earned. This is absurd, illogical
and impractical considering that the Bureau of Internal Revenue (BIR) would be
pestered with instances in determining the legitimacy of business reasons that
every income earner may interposed. It is not administratively feasible and
cannot therefore be allowed.
The ruling in the American cases cited and relied upon by ANSCOR that "the
redeemed shares are the equivalent of dividend only if the shares were not issued
for genuine business purposes", 111 or the "redeemed shares have been issued
by a corporation bona fide" 112 bears no relevance in determining the non-
taxability of the proceeds of redemption ANSCOR, relying heavily and applying
said cases, argued that so long as the redemption is supported by valid corporate
purposes the proceeds are not subject to tax. 113 The adoption by the courts
below 114 of such argument is misleading if not misplaced. A review of the cited
American cases shows that the presence or absence of "genuine business
purposes" may be material with respect to the issuance or declaration of stock
dividends but not on its subsequent redemption. The issuance and the
redemption of stocks are two different transactions. Although the existence of
legitimate corporate purposes may justify a corporation's acquisition of its own
shares under Section 41 of the Corporation Code, 115 such purposes cannot
excuse the stockholder from the effects of taxation arising from the redemption.
If the issuance of stock dividends is part of a tax evasion plan and thus, without
legitimate business reasons, the redemption becomes suspicious which
exempting clause. The substance of the whole transaction, not its form, usually
controls the tax consequences. 116
The two purposes invoked by ANSCOR, under the facts of this case are no excuse
for its tax liability. First, the alleged "filipinization" plan cannot be considered
legitimate as it was not implemented until the BIR started making assessments
on the proceeds of the redemption. Such corporate plan was not stated in nor
supported by any Board Resolution but a mere afterthought interposed by the
counsel of ANSCOR. Being a separate entity, the corporation can act only
through its Board of Directors. 117 The Board Resolutions authorizing the
redemptions state only one purpose — reduction of foreign exchange remittances
in case cash dividends are declared. Not even this purpose can be given credence.
Records show that despite the existence of enormous corporate profits no cash
dividend was ever declared by ANSCOR from 1945 until the BIR started making
assessments in the early 1970's. Although a corporation under certain
exceptions, has the prerogative when to issue dividends, yet when no cash
dividends was issued for about three decades, this circumstance negates the
legitimacy of ANSCOR's alleged purposes. Moreover, to issue stock dividends is
to increase the shareholdings of ANSCOR's foreign stockholders contrary to its
"filipinization" plan. This would also increase rather than reduce their need for
foreign exchange remittances in case of cash dividend declaration, considering
that ANSCOR is a family corporation where the majority shares at the time of
redemptions were held by Don Andres' foreign heirs.
Secondly, assuming arguendo, that those business purposes are legitimate, the
same cannot be a valid excuse for the imposition of tax. Otherwise, the taxpayer's
liability to pay income tax would be made to depend upon a third person who
did not earn the income being taxed. Furthermore, even if the said purposes
support the redemption and justify the issuance of stock dividends, the same
has no bearing whatsoever on the imposition of the tax herein assessed because
the proceeds of the redemption are deemed taxable dividends since it was shown
that income was generated therefrom.
Thirdly, ANSCOR argued that to treat as "taxable dividend" the proceeds of the
redeemed stock dividends would be to impose on such stock an undisclosed lien
and would be extremely unfair to intervening purchase, i.e. those who buys the
stock dividends after their issuance. 118 Such argument, however, bears no
relevance in this case as no intervening buyer is involved. And even if there is an
intervening buyer, it is necessary to look into the factual milieu of the case if
income was realized from the transaction. Again, we reiterate that the dividend
equivalence test depends on such "time and manner" of the transaction and its
net effect. The undisclosed lien 119 may be unfair to a subsequent stock buyer
who has no capital interest in the company. But the unfairness may not be true
to an original subscriber like Don Andres, who holds stock dividends as gains
from his investments. The subsequent buyer who buys stock dividends is
investing capital. It just so happen that what he bought is stock dividends. The
effect of its (stock dividends) redemption from that subsequent buyer is merely
to return his capital subscription, which is income if redeemed from the original
subscriber.
After considering the manner and the circumstances by which the issuance and
redemption of stock dividends were made, there is no other conclusion but that
the proceeds thereof are essentially considered equivalent to a distribution of
taxable dividends. As "taxable dividend" under Section 83(b), it is part of the
"entire income" subject to tax under Section 22 in relation to Section 21 120 of
the 1939 Code. Moreover, under Section 29(a) of said Code, dividends are
included in "gross income". As income, it is subject to income tax which is
required to be withheld at source. The 1997 Tax Code may have altered the
situation but it does not change this disposition.
EXCHANGE OF COMMON WITH PREFERRED SHARES 121
Exchange is an act of taking or giving one thing for another involving 122
reciprocal transfer 123 and is generally considered as a taxable transaction. The
exchange of common stocks with preferred stocks, or preferred for common or a
combination of either for both, may not produce a recognized gain or loss, so
long as the provisions of Section 83(b) is not applicable. This is true in a trade
between two (2) persons as well as a trade between a stockholder and a
corporation. In general, this trade must be parts of merger, transfer to controlled
corporation, corporate acquisitions or corporate reorganizations. No taxable gain
or loss may be recognized on exchange of property, stock or securities related to
reorganizations. 124
Both the Tax Court and the Court of Appeals found that ANSCOR reclassified its
shares into common and preferred, and that parts of the common shares of the
Don Andres estate and all of Doña Carmen's shares were exchanged for the whole
150.000 preferred shares. Thereafter, both the Don Andres estate and Doña
Carmen remained as corporate subscribers except that their subscriptions now
include preferred shares. There was no change in their proportional interest after
the exchange. There was no cash flow. Both stocks had the same par value.
Under the facts herein, any difference in their market value would be immaterial
at the time of exchange because no income is yet realized — it was a mere
corporate paper transaction. It would have been different, if the exchange
transaction resulted into a flow of wealth, in which case income tax may be
imposed. 125
Reclassification of shares does not always bring any substantial alteration in the
subscriber's proportional interest. But the exchange is different — there would
be a shifting of the balance of stock features, like priority in dividend declarations
or absence of voting rights. Yet neither the reclassification nor exchange per se,
yields realize income for tax purposes. A common stock represents the residual
ownership interest in the corporation. It is a basic class of stock ordinarily and
usually issued without extraordinary rights or privileges and entitles the
shareholder to a pro rata division of profits. 126 Preferred stocks are those which
entitle the shareholder to some priority on dividends and asset distribution. 127
Both shares are part of the corporation's capital stock. Both stockholders are no
different from ordinary investors who take on the same investment risks.
Preferred and common shareholders participate in the same venture, willing to
share in the profits and losses of the enterprise. 128 Moreover, under the
doctrine of equality of shares — all stocks issued by the corporation are
presumed equal with the same privileges and liabilities, provided that the Articles
of Incorporation is silent on such differences. 129
In this case, the exchange of shares, without more, produces no realized income
to the subscriber. There is only a modification of the subscriber's rights and
privileges — which is not a flow of wealth for tax purposes. The issue of taxable
dividend may arise only once a subscriber disposes of his entire interest and not
when there is still maintenance of proprietary interest. 130
WHEREFORE, premises considered, the decision of the Court of Appeals is

MODIFIED in that ANSCOR's redemption of 82,752.5 stock dividends is herein
considered as essentially equivalent to a distribution of taxable dividends for
which it is LIABLE for the withholding tax-at-source. The decision is AFFIRMED
in all other respects.
SO ORDERED.
Davide, Jr., C.J., Melo, Kapunan and Pardo, JJ., concur.

252 U.S. 189 (1920)
EISNER V. MACOMBER
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
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.
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, from whatever 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 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 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
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.
"Title I. -- Income Tax"
"Part I. -- On Individuals"
"Sec. 2. (a) That, subject only to such exemptions and deductions as are
hereinafter allowed, the net income of a taxable person shall include gains,
profits, and income derived, . . . also from interest, rent, dividends, securities, or
the transaction of any business carried on for gain or profit, or gains or profits
and income derived from any source whatever: Provided, that the term
'dividends' as used in this title 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, . . . which stock
dividend shall be considered income, to the amount of its cash value."
MR. JUSTICE HOLMES, dissenting.
I think that Towne v. Eisner, 245 U. S. 418, was right in its reasoning and result,
and that, on sound principles, the stock dividend was not income. But it was
clearly intimated in that case that the construction of the statute then before the
Court might be different from that of the Constitution. 245 U.S. 245 U. S. 425. I
think that the word "incomes" in the Sixteenth Amendment should be read in
Page 252 U. S. 220
"a sense most obvious to the common understanding at the time of its adoption."
Bishop v. State, 149 Ind. 223, 230; State v. Butler, 70 Fla. 102, 133. For it was
for public adoption that it was proposed. McCulloch v. Maryland, 4 Wheat. 316,
17 U. S. 407. The known purpose of this Amendment was to get rid of nice
questions as to what might be direct taxes, and I cannot doubt that most people
not lawyers would suppose when they voted for it that they put a question like
the present to rest. I am of opinion that the Amendment justifies the tax. See Tax
Commissioner v. Putnam, 227 Mass. 522, 532, 533.
MR. JUSTICE DAY concurs in this opinion.
MR. JUSTICE BRANDEIS delivered the following opinion, in which MR. JUSTICE
CLARKE concurred.
Financiers, with the aid of lawyers, devised long ago two different methods by
which a corporation can, without increasing its indebtedness, keep for corporate
purposes accumulated profits, and yet, in effect, distribute these profits among
its stockholders. One method is a simple one. The capital stock is increased; the
new stock is paid up with the accumulated profits, and the new shares of paid-
up stock are then distributed among the stockholders pro rata as a dividend. If
the stockholder prefers ready money to increasing his holding of the stock in the
company, he sells the new stock received as a dividend. The other method is
slightly more complicated. .arrangements are made for an increase of stock to be
offered to stockholders pro rata at par, and at the same time for the payment of
a cash dividend equal to the amount which the stockholder will be required to
pay to
Page 252 U. S. 221
the company, if he avails himself of the right to subscribe for his pro rata of the
new stock. If the stockholder takes the new stock, as is expected, he may endorse
the dividend check received to the corporation, and thus pay for the new stock.
In order to ensure that all the new stock so offered will be taken, the price at
which it is offered is fixed far below what it is believed will be its market value. If
the stockholder prefers ready money to an increase of his holdings of stock, he
may sell his right to take new stock pro rata, which is evidenced by an assignable
instrument. In that event the purchaser of the rights repays to the corporation,
as the subscription price of the new stock, an amount equal to that which it had
paid as a cash dividend to the stockholder.
Both of these methods of retaining accumulated profits while in effect

distributing them as a dividend had been in common use in the United States
for many years prior to the adoption of the Sixteenth Amendment. They were
recognized equivalents. Whether a particular corporation employed one or the
other method was determined sometimes by requirements of the law under
which the corporation was organized; sometimes it was determined by
preferences of the individual officials of the corporation, and sometimes by stock
market conditions. Whichever method was employed, the resultant distribution
of the new stock was commonly referred to as a stock dividend. How these two
methods have been employed may be illustrated by the action in this respect (as
reported in Moody's Manual, 1918 Industrial, and the Commercial and Financial
Chronicle) of some of the Standard Oil companies since the disintegration
pursuant to the decision of this Court in 1911. Standard Oil Co. v. United States,
221 U. S. 1.
(a) Standard Oil Co. (of Indiana), an Indiana corporation. It had on December 31,
1911, $1,000,000 capital stock (all common), and a large surplus. On May 15,
Page 252 U. S. 222
1912, it increased its capital stock to $30,000,000, and paid a simple stock
dividend of 2,900 percent in stock. [Footnote 1]
(b) Standard Oil Co. (of Nebraska), a Nebraska corporation. It had on December
31, 1911, $600,000 capital stock (all common), and a substantial surplus. On
April 15, 1912, it paid a simple stock dividend of 33 1/3 percent, increasing the
outstanding capital to $800,000. During the calendar year 1912, it paid cash
dividends aggregating 20 percent, but it earned considerably more, and had at
the close of the year again a substantial surplus. On June 20, 1913, it declared
a further stock dividend of 25 percent, thus increasing the capital to $1,000,000.
[Footnote 2]
(c) The Standard Oil Co. (of Kentucky), a Kentucky corporation. It had on
December 31, 1913, $1,000,000 capital stock (all common) and $3,701,710
surplus. Of this surplus, $902,457 had been earned during the calendar year
1913, the net profits of that year having been $1,002,457 and the dividends paid
only $100,000 (10 percent). On December 22, 1913, a cash dividend of $200 per
share was declared payable on February 14, 1914, to stockholders of record
January 31, 1914, and these stockholders were offered the right to subscribe for
an equal amount of new stock at par and to apply the cash dividend in payment
therefor. The outstanding stock was thus increased to $3,000,000. During the
calendar years 1914, 1915, and 1916, quarterly dividends were paid on this
stock at an annual rate of between 15 percent and 20 percent, but the company's
surplus increased by $2,347,614, so that, on December 31, 1916, it had a large
surplus over its $3,000,000 capital stock. On December 15, 1916, the company
issued a circular to the stockholders, saying:
"The company's business for this year has shown a
Page 252 U. S. 223
very good increase in volume and a proportionate increase in profits, and it is

estimated that, by January 1, 1917, the company will have a surplus of over
$4,000,000. The board feels justified in stating that, if the proposition to increase
the capital stock is acted on favorably, it will be proper in the near future to
declare a cash dividend of 100 percent and to allow the stockholders the privilege
pro rata according to their holdings, to purchase the new stock at par, the plan
being to allow the stockholders, if they desire, to use their cash dividend to pay
for the new stock."
The increase of stock was voted. The company then paid a cash dividend of 100
percent, payable May 1, 1917, again offering to such stockholders the right to
subscribe for an equal amount of new stock at par and to apply the cash dividend
in payment therefor.
Moody's Manual, describing the transaction with exactness, says first that the
stock was increased from $3,000,000 to $6,000,000, "a cash dividend of 100
percent, payable May 1, 1917, being exchanged for one share of new stock, the
equivalent of a 100 percent stock dividend." But later in the report giving, as
customary in the Manual, the dividend record of the company, the Manual says:
"A stock dividend of 200 percent was paid February 14, 1914, and one of 100
percent on May 1, 1197." And, in reporting specifically the income account of the
company for a series of years ending December 31, covering net profits, dividends
paid, and surplus for the year, it gives, as the aggregate of dividends for the year
1917, $660,000 (which was the aggregate paid on the quarterly cash dividend -
- 5 percent January and April; 6 percent July and October), and adds in a note:
"In addition, a stock dividend of 100 percent was paid during the year." [Footnote
3] The Wall Street Journal of
Page 252 U. S. 224
May 2, 1917, p. 2, quotes the 1917 "high" price for Standard Oil of Kentucky as
"375 ex stock dividend."
It thus appears that, among financiers and investors, the distribution of the
stock, by whichever method effected, is called a stock dividend; that the two
methods by which accumulated profits are legally retained for corporate
purposes and at the same time distributed as dividends are recognized by them
to be equivalents, and that the financial results to the corporation and to the
stockholders of the two methods are substantially the same, unless a difference
results from the application of the federal income tax law.
Mrs. Macomber, a citizen and resident of New York, was, in the year 1916, a
stockholder in the Standard Oil Company (of California), a corporation organized
under the laws of California and having its principal place of business in that
state. During that year, she received from the company a stock dividend
representing profits earned since March 1, 1913. The dividend was paid by direct
issue of the stock to her according to the simple method described above,
pursued also by the Indiana and Nebraska companies. In 1917, she was taxed
under the federal law on the stock dividend so received at its par value of $100
a share, as income received during the year 1916. Such a stock dividend is
income, as distinguished from capital, both under the law of New York and under
the law of California, because in both states every dividend representing profits
is deemed to be income, whether paid in cash or in stock. It had been so held in
New York, where the question arose as between life tenant and remainderman,
Lowry v. Farmers' Loan & Trust Co., 172 N.Y. 137; Matter of Osborne, 209 N.Y.
450, and also, where the question arose in matters of taxation, People v. Glynn,
Page 252 U. S. 225
130 App.Div. 332, 198 N.Y. 605. It has been so held in California, where the
question appears to have arisen only in controversies between life tenant and
remainderman. Estate of Duffill, 58 Cal.Dec. 97, 180 Cal. 748.
It is conceded that, if the stock dividend paid to Mrs. Macomber had been made
by the more complicated method pursued by the Standard Oil Company of
Kentucky -- that is, issuing rights to take new stock pro rata and paying to each
stockholder simultaneously a dividend in cash sufficient in amount to enable
him to pay for this pro rata of new stock to be purchased -- the dividend so paid
to him would have been taxable as income, whether he retained the cash or
whether he returned it to the corporation in payment for his pro rata of new
stock. But it is contended that, because the simple method was adopted of
having the new stock issued direct to the stockholders as paid-up stock, the new
stock is not to be deemed income, whether she retained it or converted it into
cash by sale. If such a different result can flow merely from the difference in the
method pursued, it must be because Congress is without power to tax as income
of the stockholder either the stock received under the latter method or the
proceeds of its sale, for Congress has, by the provisions in the Revenue Act of
1916, expressly declared its purpose to make stock dividends, by whichever
method paid, taxable as income.
The Sixteenth Amendment, proclaimed February 25, 1913, declares:
"The Congress shall have power to lay and collect taxes on incomes, from
whatever source derived, without apportionment among the several states, and
without regard to any census or enumeration."
The Revenue Act of September 8, 1916, c. 463, § 2a, 39 Stat. 756, 757, provided:
"That the term 'dividends' as used in this title shall
Page 252 U. S. 226
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, . . . which stock dividend shall be considered income, to the amount
of its cash value."
Hitherto, powers conferred upon Congress by the Constitution have been

liberally construed, and have been held to extend to every means appropriate to
attain the end sought. In determining the scope of the power, the substance of
the transaction, not its form, has been regarded. Martin v. Hunter, 1 Wheat. 304,
14 U. S. 326; McCulloch v. Maryland, 4 Wheat. 316, 17 U. S. 407, 17 U. S. 415;
Brown v. Maryland, 12 Wheat. 419, 25 U. S. 446; Craig v. Missouri, 4 Pet. 410,
29 U. S. 433; Jarrolt v. Moberly, 103 U. S. 580, 103 U. S. 585-587; Legal Tender
Case, 110 U. S. 421, 110 U. S. 444; Lithograph Co. v. Sarony, 111 U. S. 53, 111
U. S. 58; United States v. Realty Co., 163 U. S. 427, 163 U. S. 440-442; South
Carolina v. United States, 199 U. S. 437, 199 U. S. 448-449. Is there anything
in the phraseology of the Sixteenth Amendment or in the nature of corporate
dividends which should lead to a departure from these rules of construction and
compel this Court to hold that Congress is powerless to prevent a result so
extraordinary as that here contended for by the stockholder?
First. The term "income," when applied to the investment of the stockholder in a
corporation, had, before the adoption of the Sixteenth Amendment, been
commonly understood to mean the returns from time to time received by the
stockholder from gains or earnings of the corporation. A dividend received by a
stockholder from a corporation may be either in distribution of capital assets or
in distribution of profits. Whether it is the one or the other is in no way affected
by the medium in which it is paid, nor by the method or means through which
the particular thing distributed as a dividend was procured. If the
Page 252 U. S. 227
dividend is declared payable in cash, the money with which to pay it is ordinarily
taken from surplus cash in the treasury. But (if there are profits legally available
for distribution and the law under which the company was incorporated so
permits) the company may raise the money by discounting negotiable paper, or
by selling bonds, scrip or stock of another corporation then in the treasury, or
by selling its own bonds, scrip or stock then in the treasury, or by selling its own
bonds, scrip or stock issued expressly for that purpose. How the money shall be
raised is wholly a matter of financial management. The manner in which it is
raised in no way affects the question whether the dividend received by the
stockholder is income or capital, nor can it conceivably affect the question
whether it is taxable as income.
Likewise whether a dividend declared payable from profits shall be paid in cash
or in some other medium is also wholly a matter of financial management. If
some other medium is decided upon, it is also wholly a question of financial
management whether the distribution shall be, for instance, in bonds, scrip or
stock of another corporation or in issues of its own. And if the dividend is paid
in its own issues, why should there be a difference in result dependent upon
whether the distribution was made from such securities then in the treasury or
from others to be created and issued by the company expressly for that purpose?
So far as the distribution may be made from its own issues of bonds, or preferred
stock created expressly for the purpose, it clearly would make no difference, in
the decision of the question whether the dividend was a distribution of profits,
that the securities had to be created expressly for the purpose of distribution. If
a dividend paid in securities of that nature represents a distribution of profits,
Congress may, of course, tax it as income of the stockholder. Is the result
different where the security distributed is common stock?
Page 252 U. S. 228

Suppose that a corporation having power to buy and sell its own stock
purchases, in the interval between its regular dividend dates, with moneys
derived from current profits, some of its own common stock as a temporary
investment, intending at the time of purchase to sell it before the next dividend
date and to use the proceeds in paying dividends, but later, deeming it
inadvisable either to sell this stock or to raise by borrowing the money necessary
to pay the regular dividend in cash, declares a dividend payable in this stock;
can anyone doubt that, in such a case, the dividend in common stock would be
income of the stockholder and constitutionally taxable as such? See Green v.
Bissell, 79 Conn. 547; Leland v. Hayden, 102 Mass. 542. And would it not
likewise be income of the stockholder subject to taxation if the purpose of the
company in buying the stock so distributed had been from the beginning to take
it off the market and distribute it among the stockholders as a dividend, and the
company actually did so? And, proceeding a short step further, suppose that a
corporation decided to capitalize some of its accumulated profits by creating
additional common stock and selling the same to raise working capital, but after
the stock has been issued and certificates therefor are delivered to the bankers
for sale, general financial conditions make it undesirable to market the stock,
and the company concludes that it is wiser to husband, for working capital, the
cash which it had intended to use in paying stockholders a dividend, and,
instead, to pay the dividend in the common stock which it had planned to sell;
would not the stock so distributed be a distribution of profits, and hence, when
received, be income of the stockholder and taxable as such? If this be conceded,
why should it not be equally income of the stockholder, and taxable as such, if
the common stock created by capitalizing profits had been originally created for
the express purpose of being distributed
Page 252 U. S. 229
as a dividend to the stockholder who afterwards received it?
Second. It has been said that a dividend payable in bonds or preferred stock
created for the purpose of distributing profits may be income and taxable as
such, but that the case is different where the distribution is in common stock
created for that purpose. Various reasons are assigned for making this
distinction. One is that the proportion of the stockholder's ownership to the
aggregate number of the shares of the company is not changed by the
distribution. But that is equally true where the dividend is paid in its bonds or
in its preferred stock. Furthermore, neither maintenance nor change in the
proportionate ownership of a stockholder in a corporation has any bearing upon
the question here involved. Another reason assigned is that the value of the old
stock held is reduced approximately by the value of the new stock received, so
that the stockholder, after receipt of the stock dividend, has no more than he
had before it was paid. That is equally true whether the dividend be paid in cash
or in other property -- for instance, bonds, scrip, or preferred stock of the
company. The payment from profits of a large cash dividend, and even a small
one, customarily lowers the then market value of stock because the undivided
property represented by each share has been correspondingly reduced. The
argument which appears to be most strongly urged for the stockholders is that,
when a stock dividend is made, no portion of the assets of the company is thereby
segregated for the stockholder. But does the issue of new bonds or of preferred
stock created for use as a dividend result in any segregation of assets for the
stockholder? In each case, he receives a piece of paper which entitles him to
certain rights in the undivided property. Clearly, segregation of assets in a
physical sense is not an essential of income. The year's gains of a partner is
taxable as income although there likewise no
Page 252 U. S. 230
segregation of his share in the gains from that of his partners is had.
The objection that there has been no segregation is presented also in another
form. It is argued that, until there is a segregation, the stockholder cannot know
whether he has really received gains, since the gains may be invested in plant or
merchandise or other property, and perhaps be later lost. But is not this equally
true of the share of a partner in the year's profits of the firm or, indeed, of the
profits of the individual who is engaged in business alone? And is it not true also
when dividends are paid in cash? The gains of a business, whether conducted
by an individual, by a firm, or by a corporation are ordinarily reinvested in large
part. Many a cash dividend honestly declared as a distribution of profits proves
later to have been paid out of capital because errors in forecast prevent correct
ascertainment of values. Until a business adventure has been completely
liquidated, it can never be determined with certainty whether there have been
profits unless the returns at least exceeded the capital originally invested.
Businessmen, dealing with the problem practically, fix necessarily periods and
rules for determining whether there have been net profits -- that is, income or
gains. They protect themselves from being seriously misled by adopting a system
of depreciation charges and reserves. Then they act upon their own
determination whether profits have been made. Congress, in legislating, has
wisely adopted their practices as its own rules of action.
Third. The government urges that it would have been within the power of
Congress to have taxed as income of the stockholder his pro rata share of
undistributed profits earned even if no stock dividend representing it had been
paid. Strong reasons may be assigned for such a view. See Collector v. Hubbard,
12 Wall. 1. The undivided share of a partner in the year's undistributed profits
of his firm
Page 252 U. S. 231
is taxable as income of the partner although the share in the gain is not
evidenced by any action taken by the firm. Why may not the stockholder's
interest in the gains of the company? The law finds no difficulty in disregarding
the corporate fiction whenever that is deemed necessary to attain a just result.
Linn Timber Co. v. United States, 236 U. S. 574. See Morawetz on Corporations,
2d ed., §§ 227-231; Cook on Corporations, 7th ed., §§ 663, 664. The
stockholder's interest in the property of the corporation differs not
fundamentally, but in form only, from the interest of a partner in the property of
the firm. There is much authority for the proposition that, under our law, a
partnership or joint stock company is just as distinct and palpable an entity in
the idea of the law, as distinguished from the individuals composing it, as is a
corporations. [Footnote 4] No reason appears, why Congress, in legislating under
a grant of power so comprehensive as that authorizing the levy of an income tax,
should be limited by the particular view of the relation of the stockholder to the
corporation and its property which may, in the absence of legislation, have been
taken by this Court. But we have no occasion to decide the question whether
Congress might have taxed to the stockholder his undivided share of the
corporation's earnings. For Congress has in this act limited the income tax to
that share of the stockholder in the earnings which is, in effect, distributed by
means of the stock dividend paid. In other words, to render the stockholder
taxable, there must be both earnings made and a dividend paid. Neither earnings
without dividend nor a dividend without earnings subjects the
Page 252 U. S. 232
stockholder to taxation under the Revenue Act of 1916.
Fourth. The equivalency of all dividends representing profits, whether paid of all
dividends in stock, is so complete that serious question of the taxability of stock
dividends would probably never have been made if Congress had undertaken to
tax only those dividends which represented profits earned during the year in
which the dividend was paid or in the year preceding. But this Court, construing
liberally not only the constitutional grant of power but also the revenue Act of
1913, held that Congress might tax, and had taxed, to the stockholder dividends
received during the year, although earned by the company long before, and even
prior to the adoption of the Sixteenth Amendment. Lynch v. Hornby, 247 U. S.
339. [Footnote 5] That rule, if indiscriminatingly applied to all stock dividends
representing profits earned, might, in view of corporate practice, have worked
considerable hardship and have raised serious questions. Many corporations,
without legally capitalizing any part of their profits, had assigned definitely some
part or all of the annual balances remaining after paying the usual cash
dividends to the uses to which permanent capital is ordinarily applied. Some of
the corporations doing this transferred such balances on their books to "surplus"
account -- distinguishing between such permanent "surplus" and the "undivided
profits" account. Other corporations, without this formality, had assumed that
the annual accumulating balances carried as undistributed profits were to be
treated as capital permanently invested in the business. And still others, without
definite assumption of any kind, had
Page 252 U. S. 233
so used undivided profits for capital purposes. To have made the revenue law
apply retroactively so as to reach such accumulated profits, if and whenever it
should be deemed desirable to capitalize them legally by the issue of additional
stock distributed as a dividend to stockholders, would have worked great
injustice. Congress endeavored in the Revenue Act of 1916 to guard against any
serious hardship which might otherwise have arisen from making taxable stock
dividends representing accumulated profits. It did not limit the taxability to stock
dividends representing profits earned within the tax year or in the year
preceding, but it did limit taxability to such dividends representing profits earned
since March 1, 1913. Thereby stockholders were given notice that their share
also in undistributed profits accumulating thereafter was at some time to be
taxed as income. And Congress sought by § 3 to discourage the postponement
of distribution for the illegitimate purpose of evading liability to surtaxes.
Fifth. The decision of this Court that earnings made before the adoption of the
Sixteenth Amendment, but paid out in cash dividend after its adoption, were
taxable as income of the stockholder involved a very liberal construction of the
amendment. To hold now that earnings both made and paid out after the
adoption of the Sixteenth Amendment cannot be taxed as income of the
stockholder, if paid in the form of a stock dividend, involves an exceedingly
narrow construction of it. As said by Mr. Chief Justice Marshall in Brown v.
Maryland, 12 Wheat. 419, 25 U. S. 446:
"To construe the power so as to impair its efficacy would tend to defeat an object
in the attainment of which the American public took, and justly took, that strong
interest which arose from a full conviction of its necessity."
No decision heretofore rendered by this Court requires us to hold that Congress,

in providing for the taxation of
Page 252 U. S. 234
stock dividends, exceeded the power conferred upon it by the Sixteenth

Amendment. The two cases mainly relied upon to show that this was beyond the
power of Congress are Towne v. Eisner, 245 U. S. 418, which involved a question
not of constitutional power, but of statutory construction, and Gibbons v.
Mahon, 136 U. S. 549, which involved a question arising between life tenant and
remainderman. So far as concerns Towne v. Eisner, we have only to bear in mind
what was there said (p. 245 U. S. 425): "But it is not necessarily true that income
means the same thing in the Constitution and the [an] act." [Footnote 6] Gibbons
v. Mahon is even less an authority for a narrow construction of the power to tax
incomes conferred by the Sixteenth Amendment. In that case, the court was
required to determine how, in the administration of an estate in the District of
Columbia, a stock dividend, representing profits, received after the decedent's
death, should be disposed of as between life tenant and remainderman. The
question was, in essence, what shall the intention of the testator be presumed
to have been? On this question, there was great diversity of opinion and practice
in the courts of English-speaking countries. Three well defined rules were then
competing for acceptance. Two of these involves an arbitrary rule of distribution,
the third equitable apportionment. See Cook on Corporations, 7th ed., §§ 552-
558.
1. The so-called English rule, declared in 1799 by Brander v. Brander, 4 Ves. Jr.
800, that a dividend representing
Page 252 U. S. 235
profits, whether in cash, stock or other property, belongs to the life tenant if it
was a regular or ordinary dividend, and belongs to the remainderman if it was
an extraordinary dividend.
2. The so-called Massachusetts rule, declared in 1868 by Minot v. Paine, 99

Mass. 101, that a dividend representing profits, whether regular, ordinary, or
extraordinary, if in cash belongs to the life tenant, and if in stock belongs to the
remainderman.
3. The so-called Pennsylvania rule, declared in 1857 by Earp's Appeal, 28 Pa.

368, that, where a stock dividend is paid, the court shall inquire into the
circumstances under which the fund had been earned and accumulated out of
which the dividend, whether a regular, an ordinary, or an extraordinary one, was
paid. If it finds that the stock dividend was paid out of profits earned since the
decedent's death, the stock dividend belongs to the life tenant; if the court finds
that the stock dividend was paid from capital or from profits earned before the
decedent's death, the stock dividend belongs to the remainderman.
This Court adopted in Gibbons v. Mahon as the rule of administration for the
District of Columbia the so-called Massachusetts rule, the opinion being
delivered in 1890 by Mr. Justice Gray. Since then, the same question has come
up for decision in many of the states. The so-called Massachusetts rule, although
approved by this Court, has found favor in only a few states. The so-called
Pennsylvania rule, on the other hand, has been adopted since by so many of the
states (including New York and California) that it has come to be known as the
"American rule." Whether, in view of these facts and the practical results of the
operation of the two rules as shown by the experience of the 30 years which have
elapsed since the decision in Gibbons v. Mahon, it might be desirable for this
Court to reconsider the question there decided, as
Page 252 U. S. 236

some other courts have done (see 29 Harvard Law Review 551), we have no
occasion to consider in this case. For, as this Court there pointed out (p. 136 U.
S. 560), the question involved was one "between the owners of successive
interests in particular shares," and not, as in Bailey v. Railroad Co., 22 Wall.
604, a question
"between the corporation and the government, and [which] depended upon the
terms of a statute carefully framed to prevent corporations from evading payment
of the tax upon their earnings."
We have, however, not merely argument; we have examples which should

convince us that "there is no inherent, necessary and immutable reason why
stock dividends should always be treated as capital." Tax Commissioner v.
Putnam, 227 Mass. 522, 533. The Supreme Judicial Court of Massachusetts has
steadfastly adhered, despite ever-renewed protest, to the rule that every stock
dividend is, as between life tenant and remainderman, capital, and not income.
But, in construing the Massachusetts Income Tax Amendment, which is
substantially identical with the federal amendment, that court held that the
legislature was thereby empowered to levy an income tax upon stock dividends
representing profits. The courts of England have, with some relaxation, adhered
to their rule that every extraordinary dividend is, as between life tenant and
remainderman, to be deemed capital. But, in 1913, the Judicial Committee of
the Privy Council held that a stock dividend representing accumulated profits
was taxable like an ordinary cash dividend, Swan Brewery Co., Ltd. v. Rex, [1914]
A.C. 231. In dismissing the appeal, these words of the Chief Justice of the
Supreme Court of Western Australia were quoted (p. 236), which show that the
facts involved were identical with those in the case at bar:
"Had the company distributed the �101,450 among the shareholders, and had
the shareholders repaid such sums to the company as the price of the 81, 160
new shares, the duty on the �101,450
Page 252 U. S. 237
would clearly have been payable. Is not this virtually the effect of what was
actually done? I think it is."
Sixth. If stock dividends representing profits are held exempt from taxation
under the Sixteenth Amendment, the owners of the most successful businesses
in America will, as the facts in this case illustrate, be able to escape taxation on
a large part of what is actually their income. So far as their profits are
represented by stock received as dividends, they will pay these taxes not upon
their income, but only upon the income of their income. That such a result was
intended by the people of the United States when adopting the Sixteenth
Amendment is inconceivable. Our sole duty is to ascertain their intent as therein
expressed. [Footnote 7] In terse, comprehensive language befitting the
Constitution, they empowered Congress "to lay and collect taxes on incomes from
whatever source derived." They intended to include thereby everything which by
reasonable understanding can fairly be regarded as income. That stock dividends
representing profits are so regarded not only by the plain people, but by investors
and financiers and by most of the courts of the country, is shown beyond
peradventure by their acts and by their utterances. It seems to me clear,
therefore, that Congress possesses the power which it exercised to make
dividends representing profits taxable as income whether the medium in which
the dividend is paid be cash or stock, and that it may define, as it has done, what
dividends representing
Page 252 U. S. 238
profits shall be deemed income. It surely is not clear that the enactment exceeds
the power granted by the Sixteenth Amendment. And, as this Court has so often
said, the high prerogative of declaring an act of Congress invalid should never
be exercised except in a clear case. [Footnote 8]
"It is but a decent respect due to the wisdom, the integrity, and the patriotism of
the legislative body by which any law is passed to presume in favor of its validity
until its violation of the Constitution is proved beyond all reasonable doubt."
Ogden v. Saunders, 12 Wheat. 213, 25 U. S. 269.
MR. JUSTICE CLARKE concurs in this opinion.
[Footnote 1]
Moody's p. 1544; Commercial and Financial Chronicle, Vol. 94, p. 831; Vol. 98,
pp. 1005, 1076.
[Footnote 2]
Moody's, p. 1548; Commercial and Financial Chronicle, Vol. 94, p. 771; Vol. 96,
p. 1428; Vol. 97, p. 1434; Vol. 98, p. 1541.
[Footnote 3]
Moody's, p. 1547; Commercial and Financial Chronicle, Vol. 97, pp. 1589, 1827,
1903; Vol. 98, pp. 76, 457; Vol. 103, p. 2348. Poor's Manual of Industrials (1918),
p. 2240, in giving the "comparative income account" of the company, describes
the 1914 dividend as "stock dividend paid (200 percent) -- $2,000,000," and
describes the 1917 dividend as "$3,000,000 special cash dividend."
[Footnote 4]
See Some Judicial Myths, by Francis M. Burdick, 22 Harvard Law Review, 393,
394-396; The Firm as a Legal Person, by William Hamilton Cowles, 57 Cent.L.J.
343, 348; The Separate Estates of Non-Bankrupt Partners, by J. D. Brannan, 20
Harvard Law Review, 589-592. Compare Harvard Law Review, Vol. 7, p. 426; Vol.
14, p. 222; Vol. 17, p. 194.
[Footnote 5]
The hardship supposed to have resulted from such a decision has been removed
in the Revenue Act of 1916 as amended, by providing in § 31b that such cash
dividends shall thereafter be exempt from taxation if, before they are made, all
earnings made since February 28, 1913, shall have been distributed. Act Oct. 3,
1917, c. 63, § 1211, 40 Stat. 338, Act Feb. 24, 1919, c. 18, § 201(b), 40 Stat.
1059.
[Footnote 6]
Compare Rugg, C.J., in Tax Commissioner v. Putnam, 227 Mass. 522, 533:
"However strong such an argument might be when urged as to the interpretation

of a statute, it is not of prevailing force as to the broad considerations involved
in the interpretation of an amendment to the Constitution adopted under the
conditions preceding and attendant upon the ratification of the forty-fourth
amendment."
[Footnote 7]
Compare Rugg, C.J., Tax Commissioner v. Putnam, 227 Mass. 522, 524:
"It is a grant from the sovereign people, and not the exercise of a delegated power.
It is a statement of general principles, and not a specification of details.
Amendments to such a charter of government ought to be construed in the same
spirit and according to the same rules as the original. It is to be interpreted as
the Constitution of a state, and not as a statute or an ordinary piece of
legislation. Its words must be given a construction adapted to carry into effect
its purpose."
[Footnote 8]
"It is our duty, when required in the regular course of judicial proceedings, to
declare an act of Congress void if not within the legislative power of the United
States; but this declaration should never be made except in a clear case. Every
possible presumption is in favor of the validity of a statute, and this continues
until the contrary is shown beyond a rational doubt. One branch of the
government cannot encroach on the domain of another without danger. The
safety of our institutions depends in no small degree on a strict observance of
this salutary rule."
The Sinking Fund Cases, 99 U. S. 700, 99 U. S. 718 (1878). See also Legal Tender
Cases, 12 Wall. 457, 79 U. S. 531 (1870); Trade-Mark Cases, 100 U. S. 82, 100
U. S. 96 (1879). See American Doctrine of Constitutional Law by James B.
Thayer, 7 Harvard Law Review 129, 142.
"With the exception of the extraordinary decree rendered in the Dred Scott case,
. . . all of the acts or the portions of the acts of Congress invalidated by the courts
before 1868 related to the organization of courts. Denying the power of Congress
to make notes legal tender seems to be the first departure from this rule."
Haines, American Doctrine of Judicial Supremacy, p. 288. The first legal tender
decision was overruled in part two years later (1870), Legal Tender Cases, 12
Wall. 457, and again in 1883, Legal Tender Case, 110 U. S. 421.
311 U.S. 112 (1940)
HELVERING V. HORST
Syllabus
1. Where, in 1934 and 1935, an owner of negotiable bonds, who reported income
on the cash receipts basis, detached from the bonds negotiable interest coupons
before their due date and delivered them as a gift to his son, who, in the same
year, collected them at maturity, held that, under § 22 of the Revenue Act of
1934, and in the year that the interest payments were made, there was a
realization of income, in the amount of such payments, taxable to the donor. P.
311 U. S. 117.
2. The dominant purpose of the income tax laws is the taxation of income to
those who earn or otherwise create the right to receive it and who enjoy the
benefit of it when paid. P. 311 U. S. 119.
3. The tax laid by the 1934 Revenue Act upon income "derived from . . . wages
or compensation for personal service, of whatever kind and in whatever form
paid . . . ; also from interest . . . " cannot fairly be interpreted as not applying to
income derived from interest or compensation when he who is entitled to receive
it makes use of his power to dispose of it in procuring satisfactions which he
would otherwise procure only by the use of the money when received. P. 311 U.
S. 119.
4. This case distinguished from Blair v. Commissioner, 300 U. S. 5, and

compared with Lucas v. Earl, 281 U. S. 111, and Burnet v. Leininger, 285 U. S.
136. Pp. 311 U. S. 118-120.
107 F.2d 906, reversed.
Certiorari, 309 U.S. 650, to review the reversal of an order of the Board of Tax
Appeals, 39 B.T.A. 757, sustaining a determination of a deficiency in income tax.
Page 311 U. S. 114
MR. JUSTICE STONE delivered the opinion of the Court.
The sole question for decision is whether the gift, during the donor's taxable year,
of interest coupons detached from the bonds, delivered to the donee and later in
the year paid at maturity, is the realization of income taxable to the donor.
In 1934 and 1935, respondent, the owner of negotiable bonds, detached from
them negotiable interest coupons shortly before their due date and delivered
them as a gift to his son, who, in the same year, collected them at maturity. The
Commissioner ruled that, under the applicable § 22 of the Revenue Act of 1934,
48 Stat. 680, 686, the interest payments were taxable, in the years when paid,
to the respondent donor, who reported his income on the cash receipts basis.
The circuit court of appeals reversed the order of the Board of Tax Appeals
sustaining the tax. 107 F.2d 906; 39 B.T.A. 757. We granted certiorari, 309 U.S.
650, because of the importance of the question in the administration of the
revenue laws and because of an asserted conflict in principle of the decision
below with that of Lucas v. Earl, 281 U. S. 111, and with that of decisions by
other circuit courts of appeals. See Bishop v. Commissioner, 54 F.2d 298; Dickey
v. Burnet, 56 F.2d 917, 921; Van Meter v. Commissioner, 61 F.2d 817.
The court below thought that, as the consideration for the coupons had passed
to the obligor, the donor had, by the gift, parted with all control over them and
their payment, and for that reason the case was distinguishable
Page 311 U. S. 115
from Lucas v. Earl, supra, and Burnet v. Leininger, 285 U. S. 136, where the
assignment of compensation for services had preceded the rendition of the
services, and where the income was held taxable to the donor.
The holder of a coupon bond is the owner of two independent and separable
kinds of right. One is the right to demand and receive at maturity the principal
amount of the bond representing capital investment. The other is the right to
demand and receive interim payments of interest on the investment in the
amounts and on the dates specified by the coupons. Together, they are an
obligation to pay principal and interest given in exchange for money or property
which was presumably the consideration for the obligation of the bond. Here
respondent, as owner of the bonds, had acquired the legal right to demand
payment at maturity of the interest specified by the coupons and the power to
command its payment to others which constituted an economic gain to him.
Admittedly not all economic gain of the taxpayer is taxable income. From the
beginning, the revenue laws have been interpreted as defining "realization" of
income as the taxable event, rather than the acquisition of the right to receive it.
And "realization" is not deemed to occur until the income is paid. But the
decisions and regulations have consistently recognized that receipt in cash or
property is not the only characteristic of realization of income to a taxpayer on
the cash receipts basis. Where the taxpayer does not receive payment of income
in money or property, realization may occur when the last step is taken by which
he obtains the fruition of the economic gain which has already accrued to him.
Old Colony Trust Co. v. Commissioner, 279 U. S. 716; Corliss v. Bowers, 281 U.
S. 376, 281 U. S. 378. Cf. Burnet v. Wells, 289 U. S. 670.
In the ordinary case the taxpayer who acquires the right to receive income is
taxed when he receives it, regardless of the time when his right to receive
payment
Page 311 U. S. 116
accrued. But the rule that income is not taxable until realized has never been
taken to mean that the taxpayer, even on the cash receipts basis, who has fully
enjoyed the benefit of the economic gain represented by his right to receive
income can escape taxation because he has not himself received payment of it
from his obligor. The rule, founded on administrative convenience, is only one of
postponement of the tax to the final event of enjoyment of the income, usually
the receipt of it by the taxpayer, and not one of exemption from taxation where
the enjoyment is consummated by some event other than the taxpayer's personal
receipt of money or property. Cf. Aluminum Castings Co. v. Routzahn, 282 U. S.
92, 282 U. S. 98. This may occur when he has made such use or disposition of
his power to receive or control the income as to procure in its place other
satisfactions which are of economic worth. The question here is whether,
because one who in fact receives payment for services or interest payments is
taxable only on his receipt of the payments, he can escape all tax by giving away
his right to income in advance of payment. If the taxpayer procures payment
directly to his creditors of the items of interest or earnings due him, see Old
Colony Trust Co. v. Commissioner, supra; Bowers v. Kerbaugh-Empire Co., 271
U. S. 170; United States v. Kirby Lumber Co., 284 U. S. 1, or if he sets up a
revocable trust with income payable to the objects of his bounty, §§ 166, 167,
Corliss v. Bowers, supra; cf. Dickey v. Burnet, 56 F.2d 917, 921, he does not
escape taxation because he did not actually receive the money. Cf. Douglas v.
Willcuts, 296 U. S. 1; Helvering v. Clifford, 309 U. S. 331.
Underlying the reasoning in these cases is the thought that income is "realized"
by the assignor because he, who owns or controls the source of the income, also
controls the disposition of that which he could have
Page 311 U. S. 117
received himself and diverts the payment from himself to others as the means of
procuring the satisfaction of his wants. The taxpayer has equally enjoyed the
fruits of his labor or investment and obtained the satisfaction of his desires
whether he collects and uses the income to procure those satisfactions or
whether he disposes of his right to collect it as the means of procuring them. Cf.
Burnet v. Wells, supra.
Although the donor here, by the transfer of the coupons, has precluded any
possibility of his collecting them himself, he has nevertheless, by his act,
procured payment of the interest, as a valuable gift to a member of his family.
Such a use of his economic gain, the right to receive income, to procure a
satisfaction which can be obtained only by the expenditure of money or property
would seem to be the enjoyment of the income whether the satisfaction is the
purchase of goods at the corner grocery, the payment of his debt there, or such
nonmaterial satisfactions as may result from the payment of a campaign or
community chest contribution, or a gift to his favorite son. Even though he never
receives the money, he derives money's worth from the disposition of the coupons
which he has used as money or money's worth in the procuring of a satisfaction
which is procurable only by the expenditure of money or money's worth. The
enjoyment of the economic benefit accruing to him by virtue of his acquisition of
the coupons is realized as completely as it would have been if he had collected
the interest in dollars and expended them for any of the purposes named. Burnet
v. Wells, supra.
In a real sense, he has enjoyed compensation for money loaned or services

rendered, and not any the less so because it is his only reward for them. To say
that one who has made a gift thus derived from interest or earnings paid to his
donee has never enjoyed or realized the fruits of his investment or labor because
he has assigned
Page 311 U. S. 118
them instead of collecting them himself and then paying them over to the donee
is to affront common understanding and to deny the facts of common experience.
Common understanding and experience are the touchstones for the
interpretation of the revenue laws.
The power to dispose of income is the equivalent of ownership of it. The exercise
of that power to procure the payment of income to another is the enjoyment, and
hence the realization, of the income by him who exercises it. We have had no
difficulty in applying that proposition where the assignment preceded the
rendition of the services, Lucas v. Earl, supra; Burnet v. Leininger, supra, for it
was recognized in the Leininger case that, in such a case, the rendition of the
service by the assignor was the means by which the income was controlled by
the donor, and of making his assignment effective. But it is the assignment by
which the disposition of income is controlled when the service precedes the
assignment, and, in both cases, it is the exercise of the power of disposition of
the interest or compensation, with the resulting payment to the donee, which is
the enjoyment by the donor of income derived from them.
This was emphasized in Blair v. Commissioner, 300 U. S. 5, on which respondent

relies, where the distinction was taken between a gift of income derived from an
obligation to pay compensation and a gift of income-producing property. In the
circumstances of that case, the right to income from the trust property was
thought to be so identified with the equitable ownership of the property from
which alone the beneficiary derived his right to receive the income and his power
to command disposition of it that a gift of the income by the beneficiary became
effective only as a gift of his ownership of the property producing it. Since the
gift was deemed to be a gift of the property, the income from it was held to be the
income of the owner of the property,
Page 311 U. S. 119
who was the donee, not the donor, a refinement which was unnecessary if
respondent's contention here is right, but one clearly inapplicable to gifts of
interest or wages. Unlike income thus derived from an obligation to pay interest
or compensation, the income of the trust was regarded as no more the income of
the donor than would be the rent from a lease or a crop raised on a farm after
the leasehold or the farm had been given away. Blair v. Commissioner, supra,
300 U. S. 12-13, and cases cited. See also Reinecke v. Smith, 289 U. S. 172, 289
U. S. 177. We have held without deviation that, where the donor retains control
of the trust property, the income is taxable to him although paid to the donee.
Corliss v. Bowers, supra. Cf. Helvering v. Clifford, supra.
The dominant purpose of the revenue laws is the taxation of income to those who
earn or otherwise create the right to receive it and enjoy the benefit of it when
paid. See Corliss v. Bowers, supra, 281 U. S. 378; Burnet v. Guggenheim, 288
U. S. 280, 288 U. S. 283. The tax laid by the 1934 Revenue Act upon income
"derived from . . . wages, or compensation for personal service, of whatever kind
and in whatever form paid . . . ; also from interest . . ." therefore cannot fairly be
interpreted as not applying to income derived from interest or compensation
when he who is entitled to receive it makes use of his power to dispose of it in
procuring satisfactions which he would otherwise procure only by the use of the
money when received.
It is the statute which taxes the income to the donor although paid to his donee.
Lucas v. Earl, supra; Burnet v. Leininger, supra. True, in those cases, the service
which created the right to income followed the assignment, and it was arguable
that, in point of legal theory, the right to the compensation vested
instantaneously in the assignor when paid, although he never received it, while
here, the right of the assignor to receive the income
Page 311 U. S. 120
antedated the assignment which transferred the right, and thus precluded such
an instantaneous vesting. But the statute affords no basis for such "attenuated
subtleties." The distinction was explicitly rejected as the basis of decision in
Lucas v. Earl. It should be rejected here, for no more than in the Earl case can
the purpose of the statute to tax the income to him who earns or creates and
enjoys it be escaped by "anticipatory arrangements . . . however skilfully devised"
to prevent the income from vesting even for a second in the donor.
Nor is it perceived that there is any adequate basis for distinguishing between
the gift of interest coupons here and a gift of salary or commissions. The owner
of a negotiable bond and of the investment which it represents, if not the lender,
stands in the place of the lender. When, by the gift of the coupons, he has
separated his right to interest payments from his investment and procured the
payment of the interest to his donee, he has enjoyed the economic benefits of the
income in the same manner and to the same extent as though the transfer were
of earnings, and, in both cases, the import of the statute is that the fruit is not
to be attributed to a different tree from that on which it grew. See Lucas v. Earl,
supra, 281 U. S. 115.
Reversed.
The separate opinion of MR. JUSTICE McREYNOLDS.
The facts were stipulated. In the opinion of the court below (107 F.2d 907), the
issues are thus adequately stated:
"The petitioner owned a number of coupon bonds. The coupons represented the
interest on the bonds and were payable to bearer. In 1934, he detached
unmatured coupons of face value of $25,182.50 and transferred them by manual
delivery to his son as a gift. The coupons matured later on in the same year, and
the son collected the face amount, $25,182.50, as his own property. There
Page 311 U. S. 121
was a similar transaction in 1935. The petitioner kept his books on a cash basis.
He did not include any part of the moneys collected on the coupons in his income
tax returns for these two years. The son included them in his returns. The
Commissioner added the moneys collected on the coupons to the petitioner's
taxable income and determined a tax deficiency for each year. The Board of Tax
Appeals, three members dissenting, sustained the Commissioner, holding that
the amounts collected on the coupons were taxable as income to the petitioner."
The decision of the Board of Tax Appeals was reversed, and properly so, I think.
The unmatured coupons given to the son were independent negotiable

instruments, complete in themselves. Through the gift, they became at once the
absolute property of the donee, free from the donor's control and in no way
dependent upon ownership of the bonds. No question of actual fraud or purpose
to defraud the revenue is presented.
Neither Lucas v. Earl, 281 U. S. 111, nor Burnet v. Leininger, 285 U. S. 136,
supports petitioner's view. Blair v. Commissioner, 300 U. S. 5, 300 U. S. 11-12,
shows that neither involved an unrestricted completed transfer of property.
Helvering v. Clifford, 309 U. S. 331, 309 U. S. 335-336, decided after the opinion
below, is much relied upon by petitioner, but involved facts very different from
those now before us. There, no separate thing was absolutely transferred and
put beyond possible control by the transferor. The court affirmed that Clifford,
both conveyor and trustee,
"retained the substance of full enjoyment of all the rights which previously he
had in the property. . . . In substance, his control over the corpus was in all
essential respects the same after the trust was created, as before. . . . With that
control in his hands, he would keep direct
Page 311 U. S. 122
command over all that he needed to remain in substantially the same financial
situation as before."
The general principles approved in Blair v. Commissioner, 300 U. S. 5, are

applicable and controlling. The challenged judgment should be affirmed.
THE CHIEF JUSTICE and MR. JUSTICE ROBERTS concur in this opinion.
G.R. No. 78953 July 31, 1991
COMMISSIONER OF INTERNAL REVENUE, petitioner, vs. MELCHOR J.

JAVIER, JR. and THE COURT OF TAX APPEALS, respondents.
SARMIENTO, J.:
Central in this controversy is the issue as to whether or not a taxpayer who

merely states as a footnote in his income tax return that a sum of money that he
erroneously received and already spent is the subject of a pending litigation and
there did not declare it as income is liable to pay the 50% penalty for filing a
fraudulent return.
This question is the subject of the petition for review before the Court of the
portion of the Decision1 dated July 27, 1983 of the Court of Tax Appeals (CTA)
in C.T.A. Case No. 3393, entitled, "Melchor J. Javier, Jr. vs. Ruben B. Ancheta,
in his capacity as Commissioner of Internal Revenue," which orders the deletion
of the 50% surcharge from Javier's deficiency income tax assessment on his
income for 1977.
The respondent CTA in a Resolution2 dated May 25, 1987, denied the
Commissioner's Motion for Reconsideration3 and Motion for New Trial4 on the
deletion of the 50% surcharge assessment or imposition.
The pertinent facts as are accurately stated in the petition of private respondent
Javier in the CTA and incorporated in the assailed decision now under review,
read as follows:
xxx xxx xxx
2. That on or about June 3, 1977, Victoria L. Javier, the wife of the petitioner
(private respondent herein), received from the Prudential Bank and Trust
Company in Pasay City the amount of US$999,973.70 remitted by her sister,
Mrs. Dolores Ventosa, through some banks in the United States, among which
is Mellon Bank, N.A.
3. That on or about June 29, 1977, Mellon Bank, N.A. filed a complaint with the
Court of First Instance of Rizal (now Regional Trial Court), (docketed as Civil
Case No. 26899), against the petitioner (private respondent herein), his wife and
other defendants, claiming that its remittance of US$1,000,000.00 was a clerical
error and should have been US$1,000.00 only, and praying that the excess
amount of US$999,000.00 be returned on the ground that the defendants are
trustees of an implied trust for the benefit of Mellon Bank with the clear,
immediate, and continuing duty to return the said amount from the moment it
was received.
4. That on or about November 5, 1977, the City Fiscal of Pasay City filed an
Information with the then Circuit Criminal Court (docketed as CCC-VII-3369-
P.C.) charging the petitioner (private respondent herein) and his wife with the
crime of estafa, alleging that they misappropriated, misapplied, and converted to
their own personal use and benefit the amount of US$999,000.00 which they
received under an implied trust for the benefit of Mellon Bank and as a result of
the mistake in the remittance by the latter.
5. That on March 15, 1978, the petitioner (private respondent herein) filed his
Income Tax Return for the taxable year 1977 showing a gross income of
P53,053.38 and a net income of P48,053.88 and stating in the footnote of the
return that "Taxpayer was recipient of some money received from abroad which
he presumed to be a gift but turned out to be an error and is now subject of
litigation."
6. That on or before December 15, 1980, the petitioner (private respondent

herein) received a letter from the acting Commissioner of Internal Revenue dated
November 14, 1980, together with income assessment notices for the years 1976
and 1977, demanding that petitioner (private respondent herein) pay on or before
December 15, 1980 the amount of P1,615.96 and P9,287,297.51 as deficiency
assessments for the years 1976 and 1977 respectively. . . .
7. That on December 15, 1980, the petitioner (private respondent herein) wrote
the Bureau of Internal Revenue that he was paying the deficiency income
assessment for the year 1976 but denying that he had any undeclared income
for the year 1977 and requested that the assessment for 1977 be made to await
final court decision on the case filed against him for filing an allegedly fraudulent
return. . . .
8. That on November 11, 1981, the petitioner (private respondent herein)

received from Acting Commissioner of Internal Revenue Romulo Villa a letter
dated October 8, 1981 stating in reply to his December 15, 1980 letter-protest
that "the amount of Mellon Bank's erroneous remittance which you were able to
dispose, is definitely taxable." . . .5
The Commissioner also imposed a 50% fraud penalty against Javier.
Disagreeing, Javier filed an appeal6 before the respondent Court of Tax Appeals
on December 10, 1981.
The respondent CTA, after the proper proceedings, rendered the challenged
decision. We quote the concluding portion:
We note that in the deficiency income tax assessment under consideration,

respondent (petitioner here) further requested petitioner (private respondent
here) to pay 50% surcharge as provided for in Section 72 of the Tax Code, in
addition to the deficiency income tax of P4,888,615.00 and interest due thereon.
Since petitioner (private respondent) filed his income tax return for taxable year
1977, the 50% surcharge was imposed, in all probability, by respondent
(petitioner) because he considered the return filed false or fraudulent. This
additional requirement, to our mind, is much less called for because petitioner
(private respondent), as stated earlier, reflected in as 1977 return as footnote
that "Taxpayer was recipient of some money received from abroad which he
presumed to be gift but turned out to be an error and is now subject of litigation."
From this, it can hardly be said that there was actual and intentional fraud,
consisting of deception willfully and deliberately done or resorted to by petitioner
(private respondent) in order to induce the Government to give up some legal
right, or the latter, due to a false return, was placed at a disadvantage so as to
prevent its lawful agents from proper assessment of tax liabilities. (Aznar vs.
Court of Tax Appeals, L-20569, August 23, 1974, 56 (sic) SCRA 519), because
petitioner literally "laid his cards on the table" for respondent to examine. Error
or mistake of fact or law is not fraud. (Insular Lumber vs. Collector, L-7100, April
28, 1956.). Besides, Section 29 is not too plain and simple to understand. Since
the question involved in this case is of first impression in this jurisdiction, under
the circumstances, the 50% surcharge imposed in the deficiency assessment
should be deleted.7
The Commissioner of Internal Revenue, not satisfied with the respondent CTA's
ruling, elevated the matter to us, by the present petition, raising the main issue
as to:
WHETHER OR NOT PRIVATE RESPONDENT IS LIABLE FOR THE 50% FRAUD

PENALTY?8
On the other hand, Javier candidly stated in his Memorandum,9 that he "did not
appeal the decision which held him liable for the basic deficiency income tax
(excluding the 50% surcharge for fraud)." However, he submitted in the same
memorandum "that the issue may be raised in the case not for the purpose of
correcting or setting aside the decision which held him liable for deficiency
income tax, but only to show that there is no basis for the imposition of the
surcharge." This subsequent disavowal therefore renders moot and academic the
posturings articulated in as Comment10 on the non-taxability of the amount he
erroneously received and the bulk of which he had already disbursed. In any
event, an appeal at that time (of the filing of the Comments) would have been
already too late to be seasonable. The petitioner, through the office of the
Solicitor General, stresses that:
xxx xxx xxx

The record however is not ambivalent, as the record clearly shows that private
respondent is self-convinced, and so acted, that he is the beneficial owner, and
of which reason is liable to tax. Put another way, the studied insinuation that
private respondent may not be the beneficial owner of the money or income
flowing to him as enhanced by the studied claim that the amount is "subject of
litigation" is belied by the record and clearly exposed as a fraudulent ploy, as
witness what transpired upon receipt of the amount.
Here, it will be noted that the excess in the amount erroneously remitted by
MELLON BANK for the amount of private respondent's wife was $999,000.00
after opening a dollar account with Prudential Bank in the amount of
$999,993.70, private respondent and his wife, with haste and dispatch, within a
span of eleven (11) electric days, specifically from June 3 to June 14, 1977,
effected a total massive withdrawal from the said dollar account in the sum of
$975,000.00 or P7,020,000.00. . . .11
In reply, the private respondent argues:
xxx xxx xxx
The petitioner contends that the private respondent committed fraud by not
declaring the "mistaken remittance" in his income tax return and by merely
making a footnote thereon which read: "Taxpayer was the recipient of some
money from abroad which he presumed to be a gift but turned out to be an error
and is now subject of litigation." It is respectfully submitted that the said return
was not fraudulent. The footnote was practically an invitation to the petitioner
to make an investigation, and to make the proper assessment.
The rule in fraud cases is that the proof "must be clear and convincing" (Griffiths
v. Comm., 50 F [2d] 782), that is, it must be stronger than the "mere
preponderance of evidence" which would be sufficient to sustain a judgment on
the issue of correctness of the deficiency itself apart from the fraud penalty.
(Frank A. Neddas, 40 BTA 672). The following circumstances attendant to the
case at bar show that in filing the questioned return, the private respondent was
guided, not by that "willful and deliberate intent to prevent the Government from
making a proper assessment" which constitute fraud, but by an honest doubt as
to whether or not the "mistaken remittance" was subject to tax.
First, this Honorable Court will take judicial notice of the fact that so-called
"million dollar case" was given very, very wide publicity by media; and only one
who is not in his right mind would have entertained the idea that the BIR would
not make an assessment if the amount in question was indeed subject to the
income tax.
Second, as the respondent Court ruled, "the question involved in this case is of
first impression in this jurisdiction" (See p. 15 of Annex "A" of the Petition). Even
in the United States, the authorities are not unanimous in holding that similar
receipts are subject to the income tax. It should be noted that the decision in the
Rutkin case is a five-to-four decision; and in the very case before this Honorable
Court, one out of three Judges of the respondent Court was of the opinion that
the amount in question is not taxable. Thus, even without the footnote, the
failure to declare the "mistaken remittance" is not fraudulent.
Third, when the private respondent filed his income tax return on March 15,
1978 he was being sued by the Mellon Bank for the return of the money, and
was being prosecuted by the Government for estafa committed allegedly by his
failure to return the money and by converting it to his personal benefit. The basic
tax amounted to P4,899,377.00 (See p. 6 of the Petition) and could not have been
paid without using part of the mistaken remittance. Thus, it was not
unreasonable for the private respondent to simply state in his income tax return
that the amount received was still under litigation. If he had paid the tax, would
that not constitute estafa for using the funds for his own personal benefit? and
would the Government refund it to him if the courts ordered him to refund the
money to the Mellon Bank?12
xxx xxx xxx
Under the then Section 72 of the Tax Code (now Section 248 of the 1988 National
Internal Revenue Code), a taxpayer who files a false return is liable to pay the
fraud penalty of 50% of the tax due from him or of the deficiency tax in case
payment has been made on the basis of the return filed before the discovery of
the falsity or fraud.
We are persuaded considerably by the private respondent's contention that there

is no fraud in the filing of the return and agree fully with the Court of Tax
Appeals' interpretation of Javier's notation on his income tax return filed on
March 15, 1978 thus: "Taxpayer was the recipient of some money from abroad
which he presumed to be a gift but turned out to be an error and is now subject
of litigation that it was an "error or mistake of fact or law" not constituting fraud,
that such notation was practically an invitation for investigation and that Javier
had literally "laid his cards on the table."13
In Aznar v. Court of Tax Appeals,14 fraud in relation to the filing of income tax
return was discussed in this manner:
. . . The fraud contemplated by law is actual and not constructive. It must be

intentional fraud, consisting of deception willfully and deliberately done or
resorted to in order to induce another to give up some legal right. Negligence,
whether slight or gross, is not equivalent to the fraud with intent to evade the
tax contemplated by law. It must amount to intentional wrong-doing with the
sole object of avoiding the tax. It necessarily follows that a mere mistake cannot
be considered as fraudulent intent, and if both petitioner and respondent
Commissioner of Internal Revenue committed mistakes in making entries in the
returns and in the assessment, respectively, under the inventory method of
determining tax liability, it would be unfair to treat the mistakes of the petitioner
as tainted with fraud and those of the respondent as made in good faith.
Fraud is never imputed and the courts never sustain findings of fraud upon
circumstances which, at most, create only suspicion and the mere
understatement of a tax is not itself proof of fraud for the purpose of tax
evasion.15
A "fraudulent return" is always an attempt to evade a tax, but a merely "false

return" may not be, Rick v. U.S., App. D.C., 161 F. 2d 897, 898.16
In the case at bar, there was no actual and intentional fraud through willful and
deliberate misleading of the government agency concerned, the Bureau of
Internal Revenue, headed by the herein petitioner. The government was not
induced to give up some legal right and place itself at a disadvantage so as to
prevent its lawful agents from proper assessment of tax liabilities because Javier
did not conceal anything. Error or mistake of law is not fraud. The petitioner's
zealousness to collect taxes from the unearned windfall to Javier is highly
commendable.1âwphi1 Unfortunately, the imposition of the fraud penalty in this
case is not justified by the extant facts. Javier may be guilty of swindling charges,
perhaps even for greed by spending most of the money he received, but the
records lack a clear showing of fraud committed because he did not conceal the
fact that he had received an amount of money although it was a "subject of
litigation." As ruled by respondent Court of Tax Appeals, the 50% surcharge
imposed as fraud penalty by the petitioner against the private respondent in the
deficiency assessment should be deleted.
WHEREFORE, the petition is DENIED and the decision appealed from the Court
of Tax Appeals is AFFIRMED. No costs.
SO ORDERED.
G.R. No. 172231 February 12, 2007
COMMISSIONER OF INTERNAL REVENUE, Petitioner, vs. ISABELA

CULTURAL CORPORATION, Respondent.
YNARES-SANTIAGO, J.:
Petitioner Commissioner of Internal Revenue (CIR) assails the September 30,

2005 Decision1 of the Court of Appeals in CA-G.R. SP No. 78426 affirming the
February 26, 2003 Decision2 of the Court of Tax Appeals (CTA) in CTA Case No.
5211, which cancelled and set aside the Assessment Notices for deficiency
income tax and expanded withholding tax issued by the Bureau of Internal
Revenue (BIR) against respondent Isabela Cultural Corporation (ICC).
The facts show that on February 23, 1990, ICC, a domestic corporation, received
from the BIR Assessment Notice No. FAS-1-86-90-000680 for deficiency income
tax in the amount of P333,196.86, and Assessment Notice No. FAS-1-86-90-
000681 for deficiency expanded withholding tax in the amount of P4,897.79,
inclusive of surcharges and interest, both for the taxable year 1986.
The deficiency income tax of P333,196.86, arose from:
(1) The BIR’s disallowance of ICC’s claimed expense deductions for professional
and security services billed to and paid by ICC in 1986, to wit:
(a) Expenses for the auditing services of SGV & Co.,3 for the year ending
December 31, 1985;4
(b) Expenses for the legal services [inclusive of retainer fees] of the law firm
Bengzon Zarraga Narciso Cudala Pecson Azcuna & Bengson for the years 1984
and 1985.5
(c) Expense for security services of El Tigre Security & Investigation Agency for
the months of April and May 1986.6
(2) The alleged understatement of ICC’s interest income on the three promissory
notes due from Realty Investment, Inc.
The deficiency expanded withholding tax of P4,897.79 (inclusive of interest and

surcharge) was allegedly due to the failure of ICC to withhold 1% expanded
withholding tax on its claimed P244,890.00 deduction for security services.7
On March 23, 1990, ICC sought a reconsideration of the subject assessments.

On February 9, 1995, however, it received a final notice before seizure
demanding payment of the amounts stated in the said notices. Hence, it brought
the case to the CTA which held that the petition is premature because the final
notice of assessment cannot be considered as a final decision appealable to the
tax court. This was reversed by the Court of Appeals holding that a demand letter
of the BIR reiterating the payment of deficiency tax, amounts to a final decision
on the protested assessment and may therefore be questioned before the CTA.
This conclusion was sustained by this Court on July 1, 2001, in G.R. No.
135210.8 The case was thus remanded to the CTA for further proceedings.
On February 26, 2003, the CTA rendered a decision canceling and setting aside
the assessment notices issued against ICC. It held that the claimed deductions
for professional and security services were properly claimed by ICC in 1986
because it was only in the said year when the bills demanding payment were
sent to ICC. Hence, even if some of these professional services were rendered to
ICC in 1984 or 1985, it could not declare the same as deduction for the said
years as the amount thereof could not be determined at that time.
The CTA also held that ICC did not understate its interest income on the subject
promissory notes. It found that it was the BIR which made an overstatement of
said income when it compounded the interest income receivable by ICC from the
promissory notes of Realty Investment, Inc., despite the absence of a stipulation
in the contract providing for a compounded interest; nor of a circumstance, like
delay in payment or breach of contract, that would justify the application of
compounded interest.
Likewise, the CTA found that ICC in fact withheld 1% expanded withholding tax
on its claimed deduction for security services as shown by the various payment
orders and confirmation receipts it presented as evidence. The dispositive portion
of the CTA’s Decision, reads:
WHEREFORE, in view of all the foregoing, Assessment Notice No. FAS-1-86-90-

000680 for deficiency income tax in the amount of P333,196.86, and Assessment
Notice No. FAS-1-86-90-000681 for deficiency expanded withholding tax in the
amount of P4,897.79, inclusive of surcharges and interest, both for the taxable
year 1986, are hereby CANCELLED and SET ASIDE.
SO ORDERED.9
Petitioner filed a petition for review with the Court of Appeals, which affirmed the
CTA decision,10 holding that although the professional services (legal and
auditing services) were rendered to ICC in 1984 and 1985, the cost of the services
was not yet determinable at that time, hence, it could be considered as
deductible expenses only in 1986 when ICC received the billing statements for
said services. It further ruled that ICC did not understate its interest income
from the promissory notes of Realty Investment, Inc., and that ICC properly
withheld and remitted taxes on the payments for security services for the taxable
year 1986.
Hence, petitioner, through the Office of the Solicitor General, filed the instant
petition contending that since ICC is using the accrual method of accounting,
the expenses for the professional services that accrued in 1984 and 1985, should
have been declared as deductions from income during the said years and the
failure of ICC to do so bars it from claiming said expenses as deduction for the
taxable year 1986. As to the alleged deficiency interest income and failure to
withhold expanded withholding tax assessment, petitioner invoked the
presumption that the assessment notices issued by the BIR are valid.
The issue for resolution is whether the Court of Appeals correctly: (1) sustained
the deduction of the expenses for professional and security services from ICC’s
gross income; and (2) held that ICC did not understate its interest income from
the promissory notes of Realty Investment, Inc; and that ICC withheld the
required 1% withholding tax from the deductions for security services.
The requisites for the deductibility of ordinary and necessary trade, business, or
professional expenses, like expenses paid for legal and auditing services, are: (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.11
The requisite that it must have been paid or incurred during the taxable year is
further qualified by Section 45 of the National Internal Revenue Code (NIRC)
which states that: "[t]he deduction 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 x x
x".
Accounting methods for tax purposes comprise a set of rules for determining
when and how to report income and deductions.12 In the instant case, the
accounting method used by ICC is the accrual method.
Revenue Audit Memorandum Order No. 1-2000, provides that under the accrual
method of accounting, expenses not being claimed as deductions by a taxpayer
in the current year when they are incurred cannot be claimed as deduction from
income for the succeeding year. Thus, a taxpayer who is authorized to deduct
certain expenses and other allowable deductions for the current year but failed
to do so cannot deduct the same for the next year.13
The accrual method relies upon the taxpayer’s right to receive amounts or its
obligation to pay them, in opposition to actual receipt or payment, which
characterizes the cash method of accounting. Amounts of income accrue where
the right to receive them become fixed, where there is created an enforceable
liability. Similarly, liabilities are accrued when fixed and determinable in
amount, without regard to indeterminacy merely of time of payment.14
For a taxpayer using the accrual method, the determinative question is, when
do the facts present themselves in such a manner that the taxpayer must
recognize income or expense? 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 all-events test requires the right to income or liability be fixed, and the
amount of such income or liability be determined with reasonable accuracy.
However, the test does not demand that the amount of income or liability be
known absolutely, only that a taxpayer has at his disposal the information
necessary to compute the amount with reasonable accuracy. The all-events test
is satisfied where computation remains uncertain, if its basis is unchangeable;
the test is satisfied where a computation may be unknown, but is not as much
as unknowable, within the taxable year. The amount of liability does not have to
be determined exactly; it must be determined with "reasonable accuracy."
Accordingly, the term "reasonable accuracy" implies something less than an
exact or completely accurate amount.[15]
The propriety of an accrual must be judged by the facts that a taxpayer knew, or
could reasonably be expected to have known, at the closing of its books for the
taxable year.[16] Accrual method of accounting presents largely a question of
fact; such that the taxpayer bears the burden of proof of establishing the accrual
of an item of income or deduction.17
Corollarily, it is a governing principle in taxation that tax exemptions must be

construed in strictissimi juris against the taxpayer and liberally in favor of the
taxing authority; and one who claims an exemption must be able to justify the
same by the clearest grant of organic or statute law. An exemption from the
common burden cannot be permitted to exist upon vague implications. And since
a deduction for income tax purposes partakes of the nature of a tax exemption,
then it must also be strictly construed.18
In the instant case, the expenses for professional fees consist of expenses for
legal and auditing services. The expenses for legal services pertain to the 1984
and 1985 legal and retainer fees of the law firm Bengzon Zarraga Narciso Cudala
Pecson Azcuna & Bengson, and for reimbursement of the expenses of said firm
in connection with ICC’s tax problems for the year 1984. As testified by the
Treasurer of ICC, the firm has been its counsel since the 1960’s.19 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 as well as the compensation for its legal services. The failure
to determine the exact amount of the expense during the taxable year when they
could have been claimed as deductions cannot thus be attributed solely to the
delayed billing of these liabilities by the firm. For one, ICC, in the exercise of due
diligence could have inquired into the amount of their obligation to the firm,
especially so that it is using the accrual method of accounting. For another, it
could have reasonably determined the amount of legal and retainer fees owing
to its familiarity with the rates charged by their long time legal consultant.
As previously stated, the accrual method presents largely a question of fact and
that the taxpayer bears the burden of establishing the accrual of an expense or
income. However, ICC failed to discharge this burden. As to when the firm’s
performance of its services in connection with the 1984 tax problems were
completed, or whether ICC exercised reasonable diligence to inquire about the
amount of its liability, or whether it does or does not possess the information
necessary to compute the amount of said liability with reasonable accuracy, are
questions of fact which ICC never established. It simply relied on the defense of
delayed billing by the firm and the company, which under the circumstances, is
not sufficient to exempt it from being charged with knowledge of the reasonable
amount of the expenses for legal and auditing services.
In the same vein, the professional fees of SGV & Co. for auditing the financial
statements of ICC for the year 1985 cannot be validly claimed as expense
deductions in 1986. This is so because ICC failed to present evidence showing
that even with only "reasonable accuracy," as the standard to ascertain its
liability to SGV & Co. in the year 1985, it cannot determine the professional fees
which said company would charge for its services.
ICC thus failed to discharge the burden of proving that the claimed expense
deductions for the professional services were allowable deductions for the
taxable year 1986. Hence, per Revenue Audit Memorandum Order No. 1-2000,
they cannot be validly deducted from its gross income for the said year and were
therefore properly disallowed by the BIR.
As to the expenses for security services, the records show that these expenses
were incurred by ICC in 198620 and could therefore be properly claimed as
deductions for the said year.
Anent the purported understatement of interest income from the promissory

notes of Realty Investment, Inc., we sustain the findings of the CTA and the Court
of Appeals that no such understatement exists and that only simple interest
computation and not a compounded one should have been applied by the BIR.
There is indeed no stipulation between the latter and ICC on the application of
compounded interest.21 Under Article 1959 of the Civil Code, unless there is a
stipulation to the contrary, interest due should not further earn interest.
Likewise, the findings of the CTA and the Court of Appeals that ICC truly
withheld the required withholding tax from its claimed deductions for security
services and remitted the same to the BIR is supported by payment order and
confirmation receipts.22 Hence, the Assessment Notice for deficiency expanded
withholding tax was properly cancelled and set aside.
In sum, Assessment Notice No. FAS-1-86-90-000680 in the amount of

P333,196.86 for deficiency income tax should be cancelled and set aside but only
insofar as the claimed deductions of ICC for security services. Said Assessment
is valid as to the BIR’s disallowance of ICC’s expenses for professional services.
The Court of Appeal’s cancellation of Assessment Notice No. FAS-1-86-90-
000681 in the amount of P4,897.79 for deficiency expanded withholding tax, is
sustained.
WHEREFORE, the petition is PARTIALLY GRANTED. The September 30, 2005

Decision of the Court of Appeals in CA-G.R. SP No. 78426, is AFFIRMED with
the MODIFICATION that Assessment Notice No. FAS-1-86-90-000680, which
disallowed the expense deduction of Isabela Cultural Corporation for
professional and security services, is declared valid only insofar as the expenses
for the professional fees of SGV & Co. and of the law firm, Bengzon Zarraga
Narciso Cudala Pecson Azcuna & Bengson, are concerned. The decision is
affirmed in all other respects.
The case is remanded to the BIR for the computation of Isabela Cultural
Corporation’s liability under Assessment Notice No. FAS-1-86-90-000680.
SO ORDERED.
G.R. No. L-65773-74 April 30, 1987
COMMISSIONER OF INTERNAL REVENUE, petitioner, vs. BRITISH

OVERSEAS AIRWAYS CORPORATION and COURT OF TAX APPEALS,
respondents.
MELENCIO-HERRERA, J.:
Petitioner Commissioner of Internal Revenue (CIR) seeks a review on certiorari

of the joint Decision of the Court of Tax Appeals (CTA) in CTA Cases Nos. 2373
and 2561, dated 26 January 1983, which set aside petitioner's assessment of
deficiency income taxes against respondent British Overseas Airways
Corporation (BOAC) for the fiscal years 1959 to 1967, 1968-69 to 1970-71,
respectively, as well as its Resolution of 18 November, 1983 denying
reconsideration.
BOAC is a 100% British Government-owned corporation organized and existing

under the laws of the United Kingdom It is engaged in the international airline
business and is a member-signatory of the Interline Air Transport Association
(IATA). As such it operates air transportation service and sells transportation
tickets over the routes of the other airline members. During the periods covered
by the disputed assessments, it is admitted that BOAC had no landing rights for
traffic purposes in the Philippines, and was not granted a Certificate of public
convenience and necessity to operate in the Philippines by the Civil Aeronautics
Board (CAB), except for a nine-month period, partly in 1961 and partly in 1962,
when it was granted a temporary landing permit by the CAB. Consequently, it
did not carry passengers and/or cargo to or from the Philippines, although
during the period covered by the assessments, it maintained a general sales
agent in the Philippines — Wamer Barnes and Company, Ltd., and later Qantas
Airways — which was responsible for selling BOAC tickets covering passengers
and cargoes. 1
G.R. No. 65773 (CTA Case No. 2373, the First Case)
On 7 May 1968, petitioner Commissioner of Internal Revenue (CIR, for brevity)

assessed BOAC the aggregate amount of P2,498,358.56 for deficiency income
taxes covering the years 1959 to 1963. This was protested by BOAC. Subsequent
investigation resulted in the issuance of a new assessment, dated 16 January
1970 for the years 1959 to 1967 in the amount of P858,307.79. BOAC paid this
new assessment under protest.
On 7 October 1970, BOAC filed a claim for refund of the amount of P858,307.79,
which claim was denied by the CIR on 16 February 1972. But before said denial,
BOAC had already filed a petition for review with the Tax Court on 27 January
1972, assailing the assessment and praying for the refund of the amount paid.
G.R. No. 65774 (CTA Case No. 2561, the Second Case)
On 17 November 1971, BOAC was assessed deficiency income taxes, interests,

and penalty for the fiscal years 1968-1969 to 1970-1971 in the aggregate amount
of P549,327.43, and the additional amounts of P1,000.00 and P1,800.00 as
compromise penalties for violation of Section 46 (requiring the filing of
corporation returns) penalized under Section 74 of the National Internal Revenue
Code (NIRC).
On 25 November 1971, BOAC requested that the assessment be countermanded

and set aside. In a letter, dated 16 February 1972, however, the CIR not only
denied the BOAC request for refund in the First Case but also re-issued in the
Second Case the deficiency income tax assessment for P534,132.08 for the years
1969 to 1970-71 plus P1,000.00 as compromise penalty under Section 74 of the
Tax Code. BOAC's request for reconsideration was denied by the CIR on 24
August 1973. This prompted BOAC to file the Second Case before the Tax Court
praying that it be absolved of liability for deficiency income tax for the years 1969
to 1971.
This case was subsequently tried jointly with the First Case.
On 26 January 1983, the Tax Court rendered the assailed joint Decision
reversing the CIR. The Tax Court held that the proceeds of sales of BOAC passage
tickets in the Philippines by Warner Barnes and Company, Ltd., and later by
Qantas Airways, during the period in question, do not constitute BOAC income
from Philippine sources "since no service of carriage of passengers or freight was
performed by BOAC within the Philippines" and, therefore, said income is not
subject to Philippine income tax. The CTA position was that income from
transportation is income from services so that the place where services are
rendered determines the source. Thus, in the dispositive portion of its Decision,
the Tax Court ordered petitioner to credit BOAC with the sum of P858,307.79,
and to cancel the deficiency income tax assessments against BOAC in the
amount of P534,132.08 for the fiscal years 1968-69 to 1970-71.
Hence, this Petition for Review on certiorari of the Decision of the Tax Court.
The Solicitor General, in representation of the CIR, has aptly defined the issues,
thus:
1. Whether or not the revenue derived by private respondent British Overseas

Airways Corporation (BOAC) from sales of tickets in the Philippines for air
transportation, while having no landing rights here, constitute income of BOAC
from Philippine sources, and, accordingly, taxable.
2. Whether or not during the fiscal years in question BOAC s a resident foreign
corporation doing business in the Philippines or has an office or place of business
in the Philippines.
3. In the alternative that private respondent may not be considered a resident

foreign corporation but a non-resident foreign corporation, then it is liable to
Philippine income tax at the rate of thirty-five per cent (35%) of its gross income
received from all sources within the Philippines.
Under Section 20 of the 1977 Tax Code:
(h) the term resident foreign corporation engaged in trade or business within the
Philippines or having an office or place of business therein.
(i) The term "non-resident foreign corporation" applies to a foreign corporation

not engaged in trade or business within the Philippines and not having any office
or place of business therein
It is our considered opinion that BOAC is a resident foreign corporation. There

is no specific criterion as to what constitutes "doing" or "engaging in" or
"transacting" business. Each case must be judged in the light of its peculiar
environmental circumstances. The term implies a continuity of commercial
dealings and arrangements, and contemplates, to that extent, the performance
of acts or works or the exercise of some of the functions normally incident to,
and in progressive prosecution of commercial gain or for the purpose and object
of the business organization. 2 "In order that a foreign corporation may be
regarded as doing business within a State, there must be continuity of conduct
and intention to establish a continuous business, such as the appointment of a
local agent, and not one of a temporary character. 3
BOAC, during the periods covered by the subject - assessments, maintained a

general sales agent in the Philippines, That general sales agent, from 1959 to
1971, "was engaged in (1) selling and issuing tickets; (2) breaking down the whole
trip into series of trips — each trip in the series corresponding to a different
airline company; (3) receiving the fare from the whole trip; and (4) consequently
allocating to the various airline companies on the basis of their participation in
the services rendered through the mode of interline settlement as prescribed by
Article VI of the Resolution No. 850 of the IATA Agreement." 4 Those activities
were in exercise of the functions which are normally incident to, and are in
progressive pursuit of, the purpose and object of its organization as an
international air carrier. In fact, the regular sale of tickets, its main activity, is
the very lifeblood of the airline business, the generation of sales being the
paramount objective. There should be no doubt then that BOAC was "engaged
in" business in the Philippines through a local agent during the period covered
by the assessments. Accordingly, it is a resident foreign corporation subject to
tax upon its total net income received in the preceding taxable year from all
sources within the Philippines. 5
Sec. 24. Rates of tax on corporations. — ...
(b) Tax on foreign corporations. — ...
(2) Resident corporations. — A corporation organized, authorized, or existing

under the laws of any foreign country, except a foreign fife insurance company,
engaged in trade or business within the Philippines, shall be taxable as provided
in subsection (a) of this section upon the total net income received in the
preceding taxable year from all sources within the Philippines. (Emphasis
supplied)
Next, we address ourselves to the issue of whether or not the revenue from sales
of tickets by BOAC in the Philippines constitutes income from Philippine sources
and, accordingly, taxable under our income tax laws.
The Tax Code defines "gross income" thus:
"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 profession, vocations, trades, business, 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 interests, rents, dividends, securities, or the
transactions of any business carried on for gain or profile, or gains, profits, and
income derived from any source whatever (Sec. 29[3]; Emphasis supplied)
The definition is broad and comprehensive to include proceeds from sales of

transport documents. "The words 'income from any source whatever' disclose a
legislative policy to include all income not expressly exempted within the class
of taxable income under our laws." Income means "cash received or its
equivalent"; it is the amount of money coming to a person within a specific time
...; it means something distinct from principal or capital. For, while capital is a
fund, income is a flow. As used in our income tax law, "income" refers to the flow
of wealth. 6
The records show that the Philippine gross income of BOAC for the fiscal years
1968-69 to 1970-71 amounted to P10,428,368 .00. 7
Did such "flow of wealth" come from "sources within the Philippines",
The source of an income is the property, activity or service that produced the
income. 8 For the source of income to be considered as coming from the
Philippines, it is sufficient that the income is derived from activity within the
Philippines. In BOAC's case, the sale of tickets in the Philippines is the activity
that produces the income. The tickets exchanged hands here and payments for
fares were also made here in Philippine currency. The site of the source of
payments is the Philippines. The flow of wealth proceeded from, and occurred
within, Philippine territory, enjoying the protection accorded by the Philippine
government. In consideration of such protection, the flow of wealth should share
the burden of supporting the government.
A transportation ticket is not a mere piece of paper. When issued by a common

carrier, it constitutes the contract between the ticket-holder and the carrier. It
gives rise to the obligation of the purchaser of the ticket to pay the fare and the
corresponding obligation of the carrier to transport the passenger upon the terms
and conditions set forth thereon. The ordinary ticket issued to members of the
traveling public in general embraces within its terms all the elements to
constitute it a valid contract, binding upon the parties entering into the
relationship. 9
True, Section 37(a) of the Tax Code, which enumerates items of gross income
from sources within the Philippines, namely: (1) interest, (21) dividends, (3)
service, (4) rentals and royalties, (5) sale of real property, and (6) sale of personal
property, does not mention income from the sale of tickets for international
transportation. However, that does not render it less an income from sources
within the Philippines. Section 37, by its language, does not intend the
enumeration to be exclusive. It merely directs that the types of income listed
therein be treated as income from sources within the Philippines. A cursory
reading of the section will show that it does not state that it is an all-inclusive
enumeration, and that no other kind of income may be so considered. " 10
BOAC, however, would impress upon this Court that income derived from
transportation is income for services, with the result that the place where the
services are rendered determines the source; and since BOAC's service of
transportation is performed outside the Philippines, the income derived is from
sources without the Philippines and, therefore, not taxable under our income tax
laws. The Tax Court upholds that stand in the joint Decision under review.
The absence of flight operations to and from the Philippines is not determinative
of the source of income or the site of income taxation. Admittedly, BOAC was an
off-line international airline at the time pertinent to this case. The test of
taxability is the "source"; and the source of an income is that activity ... which
produced the income. 11 Unquestionably, the passage documentations in these
cases were sold in the Philippines and the revenue therefrom was derived from
a activity regularly pursued within the Philippines. business a And even if the
BOAC tickets sold covered the "transport of passengers and cargo to and from
foreign cities", 12 it cannot alter the fact that income from the sale of tickets was
derived from the Philippines. The word "source" conveys one essential idea, that
of origin, and the origin of the income herein is the Philippines. 13
It should be pointed out, however, that the assessments upheld herein apply
only to the fiscal years covered by the questioned deficiency income tax
assessments in these cases, or, from 1959 to 1967, 1968-69 to 1970-71. For,
pursuant to Presidential Decree No. 69, promulgated on 24 November, 1972,
international carriers are now taxed as follows:
... Provided, however, That international carriers shall pay a tax of 2-½ per cent
on their cross Philippine billings. (Sec. 24[b] [21, Tax Code).
Presidential Decree No. 1355, promulgated on 21 April, 1978, provided a

statutory definition of the term "gross Philippine billings," thus:
... "Gross Philippine billings" includes gross revenue realized from uplifts
anywhere in the world by any international carrier doing business in the
Philippines of passage documents sold therein, whether for passenger, excess
baggage or mail provided the cargo or mail originates from the Philippines. ...
The foregoing provision ensures that international airlines are taxed on their
income from Philippine sources. The 2-½ % tax on gross Philippine billings is an
income tax. If it had been intended as an excise or percentage tax it would have
been place under Title V of the Tax Code covering Taxes on Business.
Lastly, we find as untenable the BOAC argument that the dismissal for lack of
merit by this Court of the appeal in JAL vs. Commissioner of Internal Revenue
(G.R. No. L-30041) on February 3, 1969, is res judicata to the present case. The
ruling by the Tax Court in that case was to the effect that the mere sale of tickets,
unaccompanied by the physical act of carriage of transportation, does not render
the taxpayer therein subject to the common carrier's tax. As elucidated by the
Tax Court, however, the common carrier's tax is an excise tax, being a tax on the
activity of transporting, conveying or removing passengers and cargo from one
place to another. It purports to tax the business of transportation. 14 Being an
excise tax, the same can be levied by the State only when the acts, privileges or
businesses are done or performed within the jurisdiction of the Philippines. The
subject matter of the case under consideration is income tax, a direct tax on the
income of persons and other entities "of whatever kind and in whatever form
derived from any source." Since the two cases treat of a different subject matter,
the decision in one cannot be res judicata to the other.
WHEREFORE, the appealed joint Decision of the Court of Tax Appeals is hereby
SET ASIDE. Private respondent, the British Overseas Airways Corporation
(BOAC), is hereby ordered to pay the amount of P534,132.08 as deficiency
income tax for the fiscal years 1968-69 to 1970-71 plus 5% surcharge, and 1%
monthly interest from April 16, 1972 for a period not to exceed three (3) years in
accordance with the Tax Code. The BOAC claim for refund in the amount of
P858,307.79 is hereby denied. Without costs.
SO ORDERED.
Paras, Gancayco, Padilla, Bidin, Sarmiento and Cortes, JJ., concur.
Fernan, J., took no part.
Separate Opinions
TEEHANKEE, C.J., concurring:
I concur with the Court's majority judgment upholding the assessments of

deficiency income taxes against respondent BOAC for the fiscal years 1959-1969
to 1970-1971 and therefore setting aside the appealed joint decision of
respondent Court of Tax Appeals. I just wish to point out that the conflict
between the majority opinion penned by Mr. Justice Feliciano as to the proper
characterization of the taxable income derived by respondent BOAC from the
sales in the Philippines of tickets foe BOAC form the issued by its general sales
agent in the Philippines gas become moot after November 24, 1972. Booth
opinions state that by amendment through P.D. No.69, promulgated on
November 24, 1972, of section 24(b) (2) of the Tax Code providing dor the rate of
income tax on foreign corporations, international carriers such as respondent
BOAC, have since then been taxed at a reduced rate of 2-½% on their gross
Philippine billings. There is, therefore, no longer ant source of substantial
conflict between the two opinions as to the present 2-½% tax on their gross
Philippine billings charged against such international carriers as herein
respondent foreign corporation.
FELICIANO, J., dissenting:
With great respect and reluctance, i record my dissent from the opinion of Mme.
Justice A.A. Melencio-Herrera speaking for the majority . In my opinion, the joint
decision of the Court of Tax Appeals in CTA Cases Nos. 2373 and 2561, dated
26 January 1983, is correct and should be affirmed.
The fundamental issue raised in this petition for review is whether the British
Overseas Airways Corporation (BOAC), a foreign airline company which does not
maintain any flight operations to and from the Philippines, is liable for Philippine
income taxation in respect of "sales of air tickets" in the Philippines through a
general sales agent, relating to the carriage of passengers and cargo between two
points both outside the Philippines.
1. The Solicitor General has defined as one of the issue in this case the question
of:
2. Whether or not during the fiscal years in question 1 BOAC [was] a resident
foreign corporation doing business in the Philippines or [had] an office or place
of business in the Philippines.
It is important to note at the outset that the answer to the above-quoted issue is
not determinative of the lialibity of the BOAC to Philippine income taxation in
respect of the income here involved. The liability of BOAC to Philippine income
taxation in respect of such income depends, not on BOAC's status as a "resident
foreign corporation" or alternatively, as a "non-resident foreign corporation," but
rather on whether or not such income is derived from "source within the
Philippines."
A "resident foreign corporation" or foreign corporation engaged in trade or

business in the Philippines or having an office or place of business in the
Philippines is subject to Philippine income taxation only in respect of income
derived from sources within the Philippines. Section 24 (b) (2) of the National
Internal Revenue CODE ("Tax Code"), as amended by Republic Act No. 2343,
approved 20 June 1959, as it existed up to 3 August 1969, read as follows:
(2) Resident corporations. — A foreign corporation engaged in trade or business

with in the Philippines (expect foreign life insurance companies) shall be taxable
as provided in subsection (a) of this section.
Section 24 (a) of the Tax Code in turn provides:
Rate of tax on corporations. — (a) Tax on domestic corporations. — ... and a like
tax shall be livied, collected, and paid annually upon the total net income
received in the preceeding taxable year from all sources within the Philippines
by every corporation organized, authorized, or existing under the laws of any
foreign country: ... . (Emphasis supplied)
Republic Act No. 6110, which took effect on 4 August 1969, made this even
clearer when it amended once more Section 24 (b) (2) of the Tax Code so as to
read as follows:
(2) Resident Corporations. — A corporation, organized, authorized or existing

under the laws of any foreign counrty, except foreign life insurance company,
supplied)
Exactly the same rule is provided by Section 24 (b) (1) of the Tax Code upon non-
resident foreign corporations. Section 24 (b) (1) as amended by Republic Act No.
3825 approved 22 June 1963, read as follows:
(b) Tax on foreign corporations. — (1) Non-resident corporations. — There shall

be levied, collected and paid for each taxable year, in lieu of the tax imposed by
the preceding paragraph upon the amount received by every foreign corporation
not engaged in trade or business within the Philippines, from all sources within
the Philippines, as interest, dividends, rents, salaries, wages, premium,
annuities, compensations, remunerations, emoluments, or other fixed or
determinative annual or periodical gains, profits and income a tax equal to thirty
per centum of such amount: provided, however, that premiums shall not include
reinsurance premiums. 2
Clearly, whether the foreign corporate taxpayer is doing business in the

Philippines and therefore a resident foreign corporation, or not doing business
in the Philippines and therefore a non-resident foreign corporation, it is liable to
income tax only to the extent that it derives income from sources within the
Philippines. The circumtances that a foreign corporation is resident in the
Philippines yields no inference that all or any part of its income is Philippine
source income. Similarly, the non-resident status of a foreign corporation does
not imply that it has no Philippine source income. Conversely, the receipt of
Philippine source income creates no presumption that the recipient foreign
corporation is a resident of the Philippines. The critical issue, for present
purposes, is therefore whether of not BOAC is deriving income from sources
within the Philippines.
2. For purposes of income taxation, it is well to bear in mind that the "source of
income" relates not to the physical sourcing of a flow of money or the physical
situs of payment but rather to the "property, activity or service which produced
the income." In Howden and Co., Ltd. vs. Collector of Internal Revenue, 3 the
court dealt with the issue of the applicable source rule relating to reinsurance
premiums paid by a local insurance company to a foreign reinsurance company
in respect of risks located in the Philippines. The Court said:
The source of an income is the property, activity or services that produced the
income. The reinsurance premiums remitted to appellants by virtue of the
reinsurance contract, accordingly, had for their source the undertaking to
indemnify Commonwealth Insurance Co. against liability. Said undertaking is
the activity that produced the reinsurance premiums, and the same took place
in the Philippines. — [T]he reinsurance, the liabilities insured and the risk
originally underwritten by Commonwealth Insurance Co., upon which the
reinsurance premiums and indemnity were based, were all situated in the
Philippines. —4
The Court may be seen to be saying that it is the underlying prestation which is
properly regarded as the activity giving rise to the income that is sought to be
taxed. In the Howden case, that underlying prestation was the indemnification
of the local insurance company. Such indemnification could take place only in
the Philippines where the risks were located and where payment from the foreign
reinsurance (in case the casualty insured against occurs) would be received in
Philippine pesos under the reinsurance premiums paid by the local insurance
companies constituted Philippine source income of the foreign reinsurances.
The concept of "source of income" for purposes of income taxation originated in

the United States income tax system. The phrase "sources within the United
States" was first introduced into the U.S. tax system in 1916, and was
subsequently embodied in the 1939 U.S. Tax Code. As is commonly known, our
Tax Code (Commonwealth Act 466, as amended) was patterned after the 1939
U.S. Tax Code. It therefore seems useful to refer to a standard U.S. text on federal
income taxation:
The Supreme Court has said, in a definition much quoted but often debated,
that income may be derived from three possible sources only: (1) capital and/or
(2) labor and/or (3) the sale of capital assets. While the three elements of this
attempt at definition need not be accepted as all-inclusive, they serve as useful
guides in any inquiry into whether a particular item is from "source within the
United States" and suggest an investigation into the nature and location of the
activities or property which produce the income. If the income is from labor
(services) the place where the labor is done should be decisive; if it is done in this
counrty, the income should be from "source within the United States." If the
income is from capital, the place where the capital is employed should be
decisive; if it is employed in this country, the income should be from "source
within the United States". If the income is from the sale of capital assets, the
place where the sale is made should be likewise decisive. Much confusion will be
avoided by regarding the term "source" in this fundamental light. It is not a place;
it is an activity or property. As such, it has a situs or location; and if that situs
or location is within the United States the resulting income is taxable to
nonresident aliens and foreign corporations. The intention of Congress in the
1916 and subsequent statutes was to discard the 1909 and 1913 basis of taxing
nonresident aliens and foreign corporations and to make the test of taxability
the "source", or situs of the activities or property which produce the income . . .
. Thus, if income is to taxed, the recipient thereof must be resident within the
jurisdiction, or the property or activities out of which the income issue or is
derived must be situated within the jurisdiction so that the source of the income
may be said to have a situs in this country. The underlying theory is that the
consideration for taxation is protection of life and property and that the income
rightly to be levied upon to defray the burdens of the United States Government
is that income which is created by activities and property protected by this
Government or obtained by persons enjoying that protection. 5
3. We turn now to the question what is the source of income rule applicable in
the instant case. There are two possibly relevant source of income rules that
must be confronted; (a) the source rule applicable in respect of contracts of
service; and (b) the source rule applicable in respect of sales of personal property.
Where a contract for the rendition of service is involved, the applicable source
rule may be simply stated as follows: the income is sourced in the place where
the service contracted for is rendered. Section 37 (a) (3) of our Tax Code reads as
follows:
Section 37. Income for 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
(3) Services. — Compensation for labor or personal services performed in the

Philippines;... (Emphasis supplied)
Section 37 (c) (3) of the Tax Code, on the other hand, deals with income from
sources without the Philippines in the following manner:
(c) Gross income from sources without the Philippines. — The following items of
gross income shall be treated as income from sources without the Philippines:
(3) Compensation for labor or personal services performed without the

Philippines; ... (Emphasis supplied)
It should not be supposed that Section 37 (a) (3) and (c) (3) of the Tax Code apply
only in respect of services rendered by individual natural persons; they also
apply to services rendered by or through the medium of a juridical person. 6
Further, a contract of carriage or of transportation is assimilated in our Tax Code
and Revenue Regulations to a contract for services. Thus, Section 37 (e) of the
Tax Code provides as follows:
(e) Income form sources partly within and partly without the Philippines. — Items
of gross income, expenses, losses and deductions, other than those specified in
subsections (a) and (c) of this section shall be allocated or apportioned to sources
within or without the Philippines, under the rules and regulations prescribed by
the Secretary of Finance. ... Gains, profits, and income from (1) transportation
or other services rendered partly within and partly without the Philippines, or (2)
from the sale of personnel property produced (in whole or in part) by the taxpayer
within and sold without the Philippines, or produced (in whole or in part) by the
taxpayer without and sold within the Philippines, shall be treated as derived
partly from sources within and partly from sources without the Philippines. ...
(Emphasis supplied)
It should be noted that the above underscored portion of Section 37 (e) was
derived from the 1939 U.S. Tax Code which "was based upon a recognition that
transportation was a service and that the source of the income derived therefrom
was to be treated as being the place where the service of transportation was
rendered. 7
Section 37 (e) of the Tax Code quoted above carries a strong well-nigh irresistible,
implication that income derived from transportation or other services rendered
entirely outside the Philippines must be treated as derived entirely from sources
without the Philippines. This implication is reinforced by a consideration of
certain provisions of Revenue Regulations No. 2 entitled "Income Tax
Regulations" as amended, first promulgated by the Department of Finance on 10
February 1940. Section 155 of Revenue Regulations No. 2 (implementing Section
37 of the Tax Code) provides in part as follows:
Section 155. Compensation for labor or personnel services. — Gross income from
sources within the Philippines includes compensation for labor or personal
services within the Philippines regardless of the residence of the payer, of the
place in which the contract for services was made, or of the place of payment —
(Emphasis supplied)
Section 163 of Revenue Regulations No. 2 (still relating to Section 37 of the Tax
Code) deals with a particular species of foreign transportation companies — i.e.,
foreign steamship companies deriving income from sources partly within and
partly without the Philippines:
Section 163 Foreign steamship companies. — The return of foreign steamship

companies whose vessels touch parts of the Philippines should include as gross
income, the total receipts of all out-going business whether freight or passengers.
With the gross income thus ascertained, the ratio existing between it and the
gross income from all ports, both within and without the Philippines of all
vessels, whether touching of the Philippines or not, should be determined as the
basis upon which allowable deductions may be computed, — . (Emphasis
supplied)
Another type of utility or service enterprise is dealt with in Section 164 of

Revenue Regulations No. 2 (again implementing Section 37 of the Tax Code) with
provides as follows:
Section 164. Telegraph and cable services. — A foreign corporation carrying on

the business of transmission of telegraph or cable messages between points in
the Philippines and points outside the Philippines derives income partly form
source within and partly from sources without the Philippines.
... (Emphasis supplied)
Once more, a very strong inference arises under Sections 163 and 164 of
Revenue Regulations No. 2 that steamship and telegraph and cable services
rendered between points both outside the Philippines give rise to income wholly
from sources outside the Philippines, and therefore not subject to Philippine
income taxation.
We turn to the "source of income" rules relating to the sale of personal property,
upon the one hand, and to the purchase and sale of personal property, upon the
other hand.
We consider first sales of personal property. Income from the sale of personal
property by the producer or manufacturer of such personal property will be
regarded as sourced entirely within or entirely without the Philippines or as
sourced partly within and partly without the Philippines, depending upon two
factors: (a) the place where the sale of such personal property occurs; and (b) the
place where such personal property was produced or manufactured. If the
personal property involved was both produced or manufactured and sold outside
the Philippines, the income derived therefrom will be regarded as sourced
entirely outside the Philippines, although the personal property had been
produced outside the Philippines, or if the sale of the property takes place outside
the Philippines and the personal was produced in the Philippines, then, the
income derived from the sale will be deemed partly as income sourced without
the Philippines. In other words, the income (and the related expenses, losses and
deductions) will be allocated between sources within and sources without the
Philippines. Thus, Section 37 (e) of the Tax Code, although already quoted above,
may be usefully quoted again:
(e) Income from sources partly within and partly without the Philippines. ...
Gains, profits and income from (1) transportation or other services rendered
partly within and partly without the Philippines; or (2) from the sale of personal
property produced (in whole or in part) by the taxpayer within and sold without
the Philippines, or produced (in whole or in part) by the taxpayer without and
sold within the Philippines, shall be treated as derived partly from sources within
and partly from sources without the Philippines. ... (Emphasis supplied)
In contrast, income derived from the purchase and sale of personal property —
i. e., trading — is, under the Tax Code, regarded as sourced wholly in the place
where the personal property is sold. Section 37 (e) of the Tax Code provides in
part as follows:
(e) Income from sources partly within and partly without the Philippines ...
Gains, profits and income derived from the purchase of personal property within
and its sale without the Philippines or from the purchase of personal property
without and its sale within the Philippines, shall be treated as derived entirely
from sources within the country in which sold. (Emphasis supplied)
Section 159 of Revenue Regulations No. 2 puts the applicable rule succinctly:
Section 159. Sale of personal property. Income derived from the purchase and
sale of personal property shall be treated as derived entirely from the country in
which sold. The word "sold" includes "exchange." The "country" in which "sold"
ordinarily means the place where the property is marketed. This Section does
not apply to income from the sale personal property produced (in whole or in
part) by the taxpayer within and sold without the Philippines or produced (in
whole or in part) by the taxpayer without and sold within the Philippines. (See
Section 162 of these regulations). (Emphasis supplied)
4. It will be seen that the basic problem is one of characterization of the

transactions entered into by BOAC in the Philippines. Those transactions may
be characterized either as sales of personal property (i. e., "sales of airline
tickets") or as entering into a lease of services or a contract of service or carriage.
The applicable "source of income" rules differ depending upon which
characterization is given to the BOAC transactions.
The appropriate characterization, in my opinion, of the BOAC transactions is

that of entering into contracts of service, i.e., carriage of passengers or cargo
between points located outside the Philippines.
The phrase "sale of airline tickets," while widely used in popular parlance, does
not appear to be correct as a matter of tax law. The airline ticket in and of itself
has no monetary value, even as scrap paper. The value of the ticket lies wholly
in the right acquired by the "purchaser" — the passenger — to demand a
prestation from BOAC, which prestation consists of the carriage of the
"purchaser" or passenger from the one point to another outside the Philippines.
The ticket is really the evidence of the contract of carriage entered into between
BOAC and the passenger. The money paid by the passenger changes hands in
the Philippines. But the passenger does not receive undertaken to be delivered
by BOAC. The "purchase price of the airline ticket" is quite different from the
purchase price of a physical good or commodity such as a pair of shoes of a
refrigerator or an automobile; it is really the compensation paid for the
undertaking of BOAC to transport the passenger or cargo outside the Philippines.
The characterization of the BOAC transactions either as sales of personal

property or as purchases and sales of personal property, appear entirely
inappropriate from other viewpoint. Consider first purchases and sales: is BOAC
properly regarded as engaged in trading — in the purchase and sale of personal
property? Certainly, BOAC was not purchasing tickets outside the Philippines
and selling them in the Philippines. Consider next sales: can BOAC be regarded
as "selling" personal property produced or manufactured by it? In a popular or
journalistic sense, BOAC might be described as "selling" "a product" — its
service. However, for the technical purposes of the law on income taxation, BOAC
is in fact entering into contracts of service or carriage. The very existance of
"source rules" specifically and precisely applicable to the rendition of services
must preclude the application here of "source rules" applying generally to sales,
and purchases and sales, of personal property which can be invoked only by the
grace of popular language. On a slighty more abstract level, BOAC's income is
more appropriately characterized as derived from a "service", rather than from
an "activity" (a broader term than service and including the activity of selling) or
from the here involved is income taxation, and not a sales tax or an excise or
privilege tax.
5. The taxation of international carriers is today effected under Section 24 (b) (2)
of the Tax Code, as amended by Presidential Decree No. 69, promulgated on 24
November 1972 and by Presidential Decree No. 1355, promulgated on 21 April
1978, in the following manner:

under the laws of any foreign country, engaged in trade or business within the
Philippines, shall be taxable as provided in subsection (a) of this section upon
the total net income received in the preceeding taxable year from all sources
within the Philippines: Provided, however, That international carriers shall pay
a tax of two and one-half per cent on their gross Philippine billings. "Gross
baggege or mail, provide the cargo or mail originates from the Philippines. The
gross revenue realized from the said cargo or mail shall include the gross freight
charge up to final destination. Gross revenues from chartered flights originating
from the Philippines shall likewise form part of "gross Philippine billings"
regardless of the place of sale or payment of the passage documents. For
purposes of determining the taxability to revenues from chartered flights, the
term "originating from the Philippines" shall include flight of passsengers who
stay in the Philippines for more than forty-eight (48) hours prior to embarkation.
(Emphasis supplied)
Under the above-quoted proviso international carriers issuing for compensation

passage documentation in the Philippines for uplifts from any point in the world
to any other point in the world, are not charged any Philippine income tax on
their Philippine billings (i.e., billings in respect of passenger or cargo originating
from the Philippines). Under this new approach, international carriers who
service port or points in the Philippines are treated in exactly the same way as
international carriers not serving any port or point in the Philippines. Thus, the
source of income rule applicable, as above discussed, to transportation or other
services rendered partly within and partly without the Philippines, or wholly
without the Philippines, has been set aside. in place of Philippine income
taxation, the Tax Code now imposes this 2½ per cent tax computed on the basis
of billings in respect of passengers and cargo originating from the Philippines
regardless of where embarkation and debarkation would be taking place. This 2-
½ per cent tax is effectively a tax on gross receipts or an excise or privilege tax
and not a tax on income. Thereby, the Government has done away with the
difficulties attending the allocation of income and related expenses, losses and
deductions. Because taxes are the very lifeblood of government, the resulting
potential "loss" or "gain" in the amount of taxes collectible by the state is
sometimes, with varying degrees of consciousness, considered in choosing from
among competing possible characterizations under or interpretation of tax
statutes. It is hence perhaps useful to point out that the determination of the
appropriate characterization here — that of contracts of air carriage rather than
sales of airline tickets — entails no down-the-road loss of income tax revenues
to the Government. In lieu thereof, the Government takes in revenues generated
by the 2-½ per cent tax on the gross Philippine billings or receipts of
international carriers.
I would vote to affirm the decision of the Court of Tax Appeals.
Separate Opinions
TEEHANKEE, C.J., concurring:
I concur with the Court's majority judgment upholding the assessments of

deficiency income taxes against respondent BOAC for the fiscal years 1959-1969
to 1970-1971 and therefore setting aside the appealed joint decision of
respondent Court of Tax Appeals. I just wish to point out that the conflict
between the majority opinion penned by Mr. Justice Feliciano as to the proper
characterization of the taxable income derived by respondent BOAC from the
sales in the Philippines of tickets foe BOAC form the issued by its general sales
agent in the Philippines gas become moot after November 24, 1972. Booth
opinions state that by amendment through P.D. No.69, promulgated on
November 24, 1972, of section 24(b) (2) of the Tax Code providing dor the rate of
income tax on foreign corporations, international carriers such as respondent
BOAC, have since then been taxed at a reduced rate of 2-½% on their gross
Philippine billings. There is, therefore, no longer ant source of substantial
conflict between the two opinions as to the present 2-½% tax on their gross
Philippine billings charged against such international carriers as herein
respondent foreign corporation.
FELICIANO, J., dissenting:

With great respect and reluctance, i record my dissent from the opinion of Mme.
Justice A.A. Melencio-Herrera speaking for the majority . In my opinion, the joint
decision of the Court of Tax Appeals in CTA Cases Nos. 2373 and 2561, dated
26 January 1983, is correct and should be affirmed.
The fundamental issue raised in this petition for review is whether the British
Overseas Airways Corporation (BOAC), a foreign airline company which does not
maintain any flight operations to and from the Philippines, is liable for Philippine
income taxation in respect of "sales of air tickets" in the Philippines through a
general sales agent, relating to the carriage of passengers and cargo between two
points both outside the Philippines.
1. The Solicitor General has defined as one of the issue in this case the question
of:
2. Whether or not during the fiscal years in question 1 BOAC [was] a resident
foreign corporation doing business in the Philippines or [had] an office or place
of business in the Philippines.
It is important to note at the outset that the answer to the above-quoted issue is
not determinative of the lialibity of the BOAC to Philippine income taxation in
respect of the income here involved. The liability of BOAC to Philippine income
taxation in respect of such income depends, not on BOAC's status as a "resident
foreign corporation" or alternatively, as a "non-resident foreign corporation," but
rather on whether or not such income is derived from "source within the
Philippines."
A "resident foreign corporation" or foreign corporation engaged in trade or

business in the Philippines or having an office or place of business in the
Philippines is subject to Philippine income taxation only in respect of income
derived from sources within the Philippines. Section 24 (b) (2) of the National
Internal Revenue CODE ("Tax Code"), as amended by Republic Act No. 2343,
approved 20 June 1959, as it existed up to 3 August 1969, read as follows:
(2) Resident corporations. — A foreign corporation engaged in trade or business

with in the Philippines (expect foreign life insurance companies) shall be taxable
as provided in subsection (a) of this section.
Section 24 (a) of the Tax Code in turn provides:
Rate of tax on corporations. — (a) Tax on domestic corporations. — ... and a like
tax shall be livied, collected, and paid annually upon the total net income
received in the preceeding taxable year from all sources within the Philippines
by every corporation organized, authorized, or existing under the laws of any
foreign country: ... . (Emphasis supplied)
Republic Act No. 6110, which took effect on 4 August 1969, made this even
clearer when it amended once more Section 24 (b) (2) of the Tax Code so as to
read as follows:
(2) Resident Corporations. — A corporation, organized, authorized or existing

under the laws of any foreign counrty, except foreign life insurance company,
supplied)
Exactly the same rule is provided by Section 24 (b) (1) of the Tax Code upon non-
resident foreign corporations. Section 24 (b) (1) as amended by Republic Act No.
3825 approved 22 June 1963, read as follows:
(b) Tax on foreign corporations. — (1) Non-resident corporations. — There shall

be levied, collected and paid for each taxable year, in lieu of the tax imposed by
the preceding paragraph upon the amount received by every foreign corporation
not engaged in trade or business within the Philippines, from all sources within
the Philippines, as interest, dividends, rents, salaries, wages, premium,
annuities, compensations, remunerations, emoluments, or other fixed or
determinative annual or periodical gains, profits and income a tax equal to thirty
per centum of such amount: provided, however, that premiums shall not include
reinsurance premiums. 2
Clearly, whether the foreign corporate taxpayer is doing business in the

Philippines and therefore a resident foreign corporation, or not doing business
in the Philippines and therefore a non-resident foreign corporation, it is liable to
income tax only to the extent that it derives income from sources within the
Philippines. The circumtances that a foreign corporation is resident in the
Philippines yields no inference that all or any part of its income is Philippine
source income. Similarly, the non-resident status of a foreign corporation does
not imply that it has no Philippine source income. Conversely, the receipt of
Philippine source income creates no presumption that the recipient foreign
corporation is a resident of the Philippines. The critical issue, for present
purposes, is therefore whether of not BOAC is deriving income from sources
within the Philippines.
2. For purposes of income taxation, it is well to bear in mind that the "source of
income" relates not to the physical sourcing of a flow of money or the physical
situs of payment but rather to the "property, activity or service which produced
the income." In Howden and Co., Ltd. vs. Collector of Internal Revenue, 3 the
court dealt with the issue of the applicable source rule relating to reinsurance
premiums paid by a local insurance company to a foreign reinsurance company
in respect of risks located in the Philippines. The Court said:
The source of an income is the property, activity or services that produced the
income. The reinsurance premiums remitted to appellants by virtue of the
reinsurance contract, accordingly, had for their source the undertaking to
indemnify Commonwealth Insurance Co. against liability. Said undertaking is
the activity that produced the reinsurance premiums, and the same took place
in the Philippines. — [T]he reinsurance, the liabilities insured and the risk
originally underwritten by Commonwealth Insurance Co., upon which the
reinsurance premiums and indemnity were based, were all situated in the
Philippines. —4
The Court may be seen to be saying that it is the underlying prestation which is
properly regarded as the activity giving rise to the income that is sought to be
taxed. In the Howden case, that underlying prestation was the indemnification
of the local insurance company. Such indemnification could take place only in
the Philippines where the risks were located and where payment from the foreign
reinsurance (in case the casualty insured against occurs) would be received in
Philippine pesos under the reinsurance premiums paid by the local insurance
companies constituted Philippine source income of the foreign reinsurances.
The concept of "source of income" for purposes of income taxation originated in

the United States income tax system. The phrase "sources within the United
States" was first introduced into the U.S. tax system in 1916, and was
subsequently embodied in the 1939 U.S. Tax Code. As is commonly known, our
Tax Code (Commonwealth Act 466, as amended) was patterned after the 1939
U.S. Tax Code. It therefore seems useful to refer to a standard U.S. text on federal
income taxation:
The Supreme Court has said, in a definition much quoted but often debated,
that income may be derived from three possible sources only: (1) capital and/or
(2) labor and/or (3) the sale of capital assets. While the three elements of this
attempt at definition need not be accepted as all-inclusive, they serve as useful
guides in any inquiry into whether a particular item is from "source within the
United States" and suggest an investigation into the nature and location of the
activities or property which produce the income. If the income is from labor
(services) the place where the labor is done should be decisive; if it is done in this
counrty, the income should be from "source within the United States." If the
income is from capital, the place where the capital is employed should be
decisive; if it is employed in this country, the income should be from "source
within the United States". If the income is from the sale of capital assets, the
place where the sale is made should be likewise decisive. Much confusion will be
avoided by regarding the term "source" in this fundamental light. It is not a place;
it is an activity or property. As such, it has a situs or location; and if that situs
or location is within the United States the resulting income is taxable to
nonresident aliens and foreign corporations. The intention of Congress in the
1916 and subsequent statutes was to discard the 1909 and 1913 basis of taxing
nonresident aliens and foreign corporations and to make the test of taxability
the "source", or situs of the activities or property which produce the income . . .
. Thus, if income is to taxed, the recipient thereof must be resident within the
jurisdiction, or the property or activities out of which the income issue or is
derived must be situated within the jurisdiction so that the source of the income
may be said to have a situs in this country. The underlying theory is that the
consideration for taxation is protection of life and property and that the income
rightly to be levied upon to defray the burdens of the United States Government
is that income which is created by activities and property protected by this
Government or obtained by persons enjoying that protection. 5
3. We turn now to the question what is the source of income rule applicable in
the instant case. There are two possibly relevant source of income rules that
must be confronted; (a) the source rule applicable in respect of contracts of
service; and (b) the source rule applicable in respect of sales of personal property.
Where a contract for the rendition of service is involved, the applicable source
rule may be simply stated as follows: the income is sourced in the place where
the service contracted for is rendered. Section 37 (a) (3) of our Tax Code reads as
follows:
Section 37. Income for 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
(3) Services. — Compensation for labor or personal services performed in the

Philippines;... (Emphasis supplied)
Section 37 (c) (3) of the Tax Code, on the other hand, deals with income from
sources without the Philippines in the following manner:
(c) Gross income from sources without the Philippines. — The following items of
gross income shall be treated as income from sources without the Philippines:
(3) Compensation for labor or personal services performed without the

Philippines; ... (Emphasis supplied)
It should not be supposed that Section 37 (a) (3) and (c) (3) of the Tax Code apply
only in respect of services rendered by individual natural persons; they also
apply to services rendered by or through the medium of a juridical person. 6
Further, a contract of carriage or of transportation is assimilated in our Tax Code
and Revenue Regulations to a contract for services. Thus, Section 37 (e) of the
Tax Code provides as follows:
(e) Income form sources partly within and partly without the Philippines. — Items
of gross income, expenses, losses and deductions, other than those specified in
subsections (a) and (c) of this section shall be allocated or apportioned to sources
within or without the Philippines, under the rules and regulations prescribed by
the Secretary of Finance. ... Gains, profits, and income from (1) transportation
or other services rendered partly within and partly without the Philippines, or (2)
from the sale of personnel property produced (in whole or in part) by the taxpayer
within and sold without the Philippines, or produced (in whole or in part) by the
taxpayer without and sold within the Philippines, shall be treated as derived
partly from sources within and partly from sources without the Philippines. ...
(Emphasis supplied)
It should be noted that the above underscored portion of Section 37 (e) was
derived from the 1939 U.S. Tax Code which "was based upon a recognition that
transportation was a service and that the source of the income derived therefrom
was to be treated as being the place where the service of transportation was
rendered. 7
Section 37 (e) of the Tax Code quoted above carries a strong well-nigh irresistible,
implication that income derived from transportation or other services rendered
entirely outside the Philippines must be treated as derived entirely from sources
without the Philippines. This implication is reinforced by a consideration of
certain provisions of Revenue Regulations No. 2 entitled "Income Tax
Regulations" as amended, first promulgated by the Department of Finance on 10
February 1940. Section 155 of Revenue Regulations No. 2 (implementing Section
37 of the Tax Code) provides in part as follows:
Section 155. Compensation for labor or personnel services. — Gross income from
sources within the Philippines includes compensation for labor or personal
services within the Philippines regardless of the residence of the payer, of the
place in which the contract for services was made, or of the place of payment —
(Emphasis supplied)
Section 163 of Revenue Regulations No. 2 (still relating to Section 37 of the Tax
Code) deals with a particular species of foreign transportation companies — i.e.,
foreign steamship companies deriving income from sources partly within and
partly without the Philippines:
Section 163 Foreign steamship companies. — The return of foreign steamship

companies whose vessels touch parts of the Philippines should include as gross
income, the total receipts of all out-going business whether freight or passengers.
With the gross income thus ascertained, the ratio existing between it and the
gross income from all ports, both within and without the Philippines of all
vessels, whether touching of the Philippines or not, should be determined as the
basis upon which allowable deductions may be computed, — . (Emphasis
supplied)
Another type of utility or service enterprise is dealt with in Section 164 of

Revenue Regulations No. 2 (again implementing Section 37 of the Tax Code) with
provides as follows:
Section 164. Telegraph and cable services. — A foreign corporation carrying on

the business of transmission of telegraph or cable messages between points in
the Philippines and points outside the Philippines derives income partly form
source within and partly from sources without the Philippines.
... (Emphasis supplied)
Once more, a very strong inference arises under Sections 163 and 164 of
Revenue Regulations No. 2 that steamship and telegraph and cable services
rendered between points both outside the Philippines give rise to income wholly
from sources outside the Philippines, and therefore not subject to Philippine
income taxation.
We turn to the "source of income" rules relating to the sale of personal property,
upon the one hand, and to the purchase and sale of personal property, upon the
other hand.
We consider first sales of personal property. Income from the sale of personal
property by the producer or manufacturer of such personal property will be
regarded as sourced entirely within or entirely without the Philippines or as
sourced partly within and partly without the Philippines, depending upon two
factors: (a) the place where the sale of such personal property occurs; and (b) the
place where such personal property was produced or manufactured. If the
personal property involved was both produced or manufactured and sold outside
the Philippines, the income derived therefrom will be regarded as sourced
entirely outside the Philippines, although the personal property had been
produced outside the Philippines, or if the sale of the property takes place outside
the Philippines and the personal was produced in the Philippines, then, the
income derived from the sale will be deemed partly as income sourced without
the Philippines. In other words, the income (and the related expenses, losses and
deductions) will be allocated between sources within and sources without the
Philippines. Thus, Section 37 (e) of the Tax Code, although already quoted above,
may be usefully quoted again:
(e) Income from sources partly within and partly without the Philippines. ...
Gains, profits and income from (1) transportation or other services rendered
partly within and partly without the Philippines; or (2) from the sale of personal
property produced (in whole or in part) by the taxpayer within and sold without
the Philippines, or produced (in whole or in part) by the taxpayer without and
sold within the Philippines, shall be treated as derived partly from sources within
and partly from sources without the Philippines. ... (Emphasis supplied)
In contrast, income derived from the purchase and sale of personal property —
i. e., trading — is, under the Tax Code, regarded as sourced wholly in the place
where the personal property is sold. Section 37 (e) of the Tax Code provides in
part as follows:
(e) Income from sources partly within and partly without the Philippines ...
Gains, profits and income derived from the purchase of personal property within
and its sale without the Philippines or from the purchase of personal property
without and its sale within the Philippines, shall be treated as derived entirely
from sources within the country in which sold. (Emphasis supplied)
Section 159 of Revenue Regulations No. 2 puts the applicable rule succinctly:
Section 159. Sale of personal property. Income derived from the purchase and
sale of personal property shall be treated as derived entirely from the country in
which sold. The word "sold" includes "exchange." The "country" in which "sold"
ordinarily means the place where the property is marketed. This Section does
not apply to income from the sale personal property produced (in whole or in
part) by the taxpayer within and sold without the Philippines or produced (in
whole or in part) by the taxpayer without and sold within the Philippines. (See
Section 162 of these regulations). (Emphasis supplied)
4. It will be seen that the basic problem is one of characterization of the

transactions entered into by BOAC in the Philippines. Those transactions may
be characterized either as sales of personal property (i. e., "sales of airline
tickets") or as entering into a lease of services or a contract of service or carriage.
The applicable "source of income" rules differ depending upon which
characterization is given to the BOAC transactions.
The appropriate characterization, in my opinion, of the BOAC transactions is

that of entering into contracts of service, i.e., carriage of passengers or cargo
between points located outside the Philippines.
The phrase "sale of airline tickets," while widely used in popular parlance, does
not appear to be correct as a matter of tax law. The airline ticket in and of itself
has no monetary value, even as scrap paper. The value of the ticket lies wholly
in the right acquired by the "purchaser" — the passenger — to demand a
prestation from BOAC, which prestation consists of the carriage of the
"purchaser" or passenger from the one point to another outside the Philippines.
The ticket is really the evidence of the contract of carriage entered into between
BOAC and the passenger. The money paid by the passenger changes hands in
the Philippines. But the passenger does not receive undertaken to be delivered
by BOAC. The "purchase price of the airline ticket" is quite different from the
purchase price of a physical good or commodity such as a pair of shoes of a
refrigerator or an automobile; it is really the compensation paid for the
undertaking of BOAC to transport the passenger or cargo outside the Philippines.
The characterization of the BOAC transactions either as sales of personal

property or as purchases and sales of personal property, appear entirely
inappropriate from other viewpoint. Consider first purchases and sales: is BOAC
properly regarded as engaged in trading — in the purchase and sale of personal
property? Certainly, BOAC was not purchasing tickets outside the Philippines
and selling them in the Philippines. Consider next sales: can BOAC be regarded
as "selling" personal property produced or manufactured by it? In a popular or
journalistic sense, BOAC might be described as "selling" "a product" — its
service. However, for the technical purposes of the law on income taxation, BOAC
is in fact entering into contracts of service or carriage. The very existance of
"source rules" specifically and precisely applicable to the rendition of services
must preclude the application here of "source rules" applying generally to sales,
and purchases and sales, of personal property which can be invoked only by the
grace of popular language. On a slighty more abstract level, BOAC's income is
more appropriately characterized as derived from a "service", rather than from
an "activity" (a broader term than service and including the activity of selling) or
from the here involved is income taxation, and not a sales tax or an excise or
privilege tax.
5. The taxation of international carriers is today effected under Section 24 (b) (2)
of the Tax Code, as amended by Presidential Decree No. 69, promulgated on 24
November 1972 and by Presidential Decree No. 1355, promulgated on 21 April
1978, in the following manner:

under the laws of any foreign country, engaged in trade or business within the
Philippines, shall be taxable as provided in subsection (a) of this section upon
the total net income received in the preceeding taxable year from all sources
within the Philippines: Provided, however, That international carriers shall pay
a tax of two and one-half per cent on their gross Philippine billings. "Gross
baggege or mail, provide the cargo or mail originates from the Philippines. The
gross revenue realized from the said cargo or mail shall include the gross freight
charge up to final destination. Gross revenues from chartered flights originating
from the Philippines shall likewise form part of "gross Philippine billings"
regardless of the place of sale or payment of the passage documents. For
purposes of determining the taxability to revenues from chartered flights, the
term "originating from the Philippines" shall include flight of passsengers who
stay in the Philippines for more than forty-eight (48) hours prior to embarkation.
(Emphasis supplied)
Under the above-quoted proviso international carriers issuing for compensation
passage documentation in the Philippines for uplifts from any point in the world
to any other point in the world, are not charged any Philippine income tax on
their Philippine billings (i.e., billings in respect of passenger or cargo originating
from the Philippines). Under this new approach, international carriers who
service port or points in the Philippines are treated in exactly the same way as
international carriers not serving any port or point in the Philippines. Thus, the
source of income rule applicable, as above discussed, to transportation or other
services rendered partly within and partly without the Philippines, or wholly
without the Philippines, has been set aside. in place of Philippine income
taxation, the Tax Code now imposes this 2½ per cent tax computed on the basis
of billings in respect of passengers and cargo originating from the Philippines
regardless of where embarkation and debarkation would be taking place. This 2-
½ per cent tax is effectively a tax on gross receipts or an excise or privilege tax
and not a tax on income. Thereby, the Government has done away with the
difficulties attending the allocation of income and related expenses, losses and
deductions. Because taxes are the very lifeblood of government, the resulting
potential "loss" or "gain" in the amount of taxes collectible by the state is
sometimes, with varying degrees of consciousness, considered in choosing from
among competing possible characterizations under or interpretation of tax
statutes. It is hence perhaps useful to point out that the determination of the
appropriate characterization here — that of contracts of air carriage rather than
sales of airline tickets — entails no down-the-road loss of income tax revenues
to the Government. In lieu thereof, the Government takes in revenues generated
by the 2-½ per cent tax on the gross Philippine billings or receipts of
international carriers.
I would vote to affirm the decision of the Court of Tax Appeals.
Narvasa, Gutierrez, Jr., and Cruz, JJ., dissent.

G.R. No. 167679 July 22, 2015
ING BANK N.V., engaged in banking operations in the Philippines as ING

BANK N.V. MANILA BRANCH, Petitioner, vs. COMMISSIONER OF INTERNAL
REVENUE, Respondent.
LEONEN, J.:
Qualified taxpayers with pending tax cases may still avail themselves of the tax
amnesty program under Republic Act No. 9480,1 otherwise known as the 2007
Tax Amnesty Act. Thus, the provision in BIR Revenue Memorandum Circular No.
19-2008 excepting "[i]ssues and cases which were ruled by any court (even
without finality) in favor of the BIR prior to amnesty availment of the taxpayer"
from the benefits of the law is illegal, invalid, and null and void.2 The duty to
withhold the tax on compensation arises upon its accrual.
This is a Petition for Review3 appealing the April 5, 2005 Decision4 of the Court
of Tax Appeals En Banc, which in turn affirmed the August 9, 2004 Decision5
and November 12, 2004 Resolution6 of the Court of Tax Appeals Second Division.
The August 9, 2004 Decision held petitioner ING Bank, N.V. Manila Branch (ING
Bank) liable for (a) deficiency documentary stamp tax for the taxable years 1996
and 1997 in the total amount of ₱238,545,052.38 inclusive of surcharges; (b)
deficiency onshore tax for the taxable year 1996 in the total amount of
₱997,333.89 inclusive of surcharges and interest; and (c) deficiency withholding
tax on compensation for the taxable years 1996 and 1997 in the total amount of
₱564,542.67 inclusive of interest. The Resolution denied ING Bank’s Motion for
Reconsideration.7
While this case was pending before this court, ING Bank filed a Manifestation
and Motion8 stating that it availed itself of the government’s tax amnesty
program under Republic Act No. 9480 with respect to its deficiency documentary
stamp tax and deficiency onshore tax liabilities.9 What is at issue now is whether
ING Bank is entitled to the immunities and privileges under Republic Act No.
9480,and whether the assessment for deficiency withholding tax on
compensation is proper.
ING Bank, "the Philippine branch of Internationale Nederlanden Bank N.V., a

foreign banking corporation incorporated in the Netherlands[,] is duly authorized
by the Bangko Sentral ng Pilipinas to operate as a branch with full banking
authority in the Philippines."10
On January 3, 2000, ING Bank received a Final Assessment Notice11 dated

December 3, 1999.12 The Final Assessment Notice also contained the Details of
Assessment13 and 13 Assessment Notices "issued by the Enforcement Service
of the Bureau of Internal Revenue through its Assistant Commissioner Percival
T. Salazar[.]"14 The Final Assessment Notice covered the following deficiency tax
assessments for taxable years 1996 and 1997:15
Particulars Basic Tax( ) Surcharge( ) Interest( ) Total( )

Deficiency Income Tax
1996 (ST-INC-96-0174-99) 20,916,785.03 11,346,639.55 32,263,424.58
1997 (ST-INC-97-0185-99) 133,533,114.54 45,730,518.68 179,263,633.22
Deficiency Withholding Tax
on Compensation
1996 (ST-WC-96-0175-99) 1,027,267.20 602,288.17 1,629,555.37
1997 (ST-WC-97-0184-99) 2,505,925.25 968,042.36 3,473,967.61
Deficiency Onshore Tax
1996 (ST-OT-96-0176-99) 8,267,437.54 4,847,209.95 13,114,647.49
Deficiency Branch Profit
Remittance Tax
1996 (ST-RT-96-0177-99) 39,215,700.00 22,992,218[.]63 62,207,918.63
1997 (ST-RT-97-0181-99) 92,587,381.60 6,729,180.18 40,799,690.39 140,116,252.17
Deficiency Documentary
Stamp Tax
1996 (ST-DST-96-0178-99 3,838,753.06 959,688.27 4,798,441.33
1997 (ST-DST-97-0181-99) 1,569,990.18 392,497.55 1,962,487.73
1997 (ST-DST-97-0180-99) 186,997,288.84 46,749,322.21 233,746,611.05
Compromise Penalty
1996 (ST-CP-96-0179-99) 1,000.00 1,000.00
1997 (ST-CP-97-0186-99) 1,000.00 1,000.00
Deficiency Final Tax
1997 (ST-FT-97-0183-99) 53,200.89 20,551.58 73,752.47
TOTALS 490,514,844.13 54,830,688.21 127,307,159.31 672,652,691.65

============= ============= ============= =============
On February 2, 2000, ING Bank "paid the deficiency assessments for [the] 1996
compromise penalty, 1997 deficiency documentary stamp tax and 1997
deficiency final tax in the respective amounts of ₱1,000.00, ₱1,000.00 and
₱75,013.25 [the original amount of ₱73,752.47 plus additional interest]."16 ING
Bank, however, "protested [on the same day] the remaining ten (10) deficiency
tax assessments in the total amount of ₱672,576,939.18."17
ING Bank filed a Petition for Review before the Court of Tax Appeals on October
26, 2000. This case was docketed as C.T.A. Case No. 6187.18 The Petition was
filed to seek "the cancellation and withdrawal of the deficiency tax assessments
for the years 1996 and 1997, including the alleged deficiency documentary
stamp tax on special savings accounts, deficiency onshore tax, and deficiency
withholding tax on compensation mentioned above."19
After trial, the Court of Tax Appeals Second Division rendered its Decision on
August 9, 2004, with the following disposition:
WHEREFORE, the assessments for 1996 and 1997 deficiency income tax, 1996
and 1997 deficiency branch profit remittance tax and 1997 deficiency
documentary stamp tax on IBCLs exceeding five days are hereby CANCELLED
and WITHDRAWN. However, the assessments for 1996 and 1997 deficiency
withholding tax on compensation, 1996 deficiency onshore tax and 1996 and
1997 deficiency documentary stamp tax on special savings accounts are hereby
UPHELD in the following amounts:
Particulars Basic Tax Surcharge Interest Total

on Compensation
1996 (ST-WC-96-0175-99) P 105,939.86 P 61,445.11 P 167,384.97
1997 (ST-WC-97-0184-99) 287,795.44 109,362.26 397,157.70
Deficiency Onshore Tax
1996 (ST-OT-96-0176-99) 544,991.20 P 136,247.80 316,094.89 997,333.89
Deficiency Documentary
Stamp Tax
1996 (ST-DST-96-0178-99) 3,838,753.06 959,688.27 4,798,441.33
1997 (ST-DST-97-0180-99) 186,997,288.84 46,749,322.21 233,746,611.05
TOTALS ₱191,774,768.40 ₱47,845,258.28 P 486,902.26 ₱240,106,928.94
Accordingly, petitioner is ORDERED to PAY the respondent the aggregate

amount of ₱240,106,928.94, plus 20% delinquency interest per annum from
February 3, 2000 until fully paid, pursuant to Section 249(C) of the National
Internal Revenue Code of 1997.
SO ORDERED.20 (Emphasis in the original)
Both the Commissioner of Internal Revenue and ING Bank filed their respective
Motions for Reconsideration.21 Both Motions were denied through the Second
Division’s Resolution dated November 12, 2004, as follows:
WHEREFORE, the respondent’s Motion for Partial Reconsideration and the

petitioner’s Motion for Reconsideration are hereby DENIED for lack of merit. The
pronouncement reached in the assailed decision is REITERATED.
SO ORDERED.22
On December 8, 2004, ING Bank filed its appeal before the Court of Tax Appeals
En Banc.23 The Court of Tax Appeals En Banc denied due course to ING Bank’s
Petition for Review and dismissed the same for lack of merit in the Decision
promulgated on April 5, 2005.24
Hence, ING Bank filed its Petition for Review25 before this court. The
Commissioner of Internal Revenue filed its Comment26 on October 5, 2005 and
ING Bank its Reply27 on December 14, 2005. Pursuant to this court’s
Resolution28 dated January 25, 2006, the Commissioner of Internal Revenue
filed its Manifestation and Motion29 on February 14, 2006, stating that it is
adopting its Comment as its Memorandum, and ING Bank filed its
Memorandum30 on March 9, 2006.
On December 20, 2007, ING Bank filed a Manifestation and Motion31 informing
this court that it had availed itself of the tax amnesty authorized and granted
under Republic Act No. 9480 covering "all national internal revenue taxes for the
taxable year 2005 and prior years, with or without assessments duly issued
therefor, that have remained unpaid as of December 31, 2005[.]"32 ING Bank
stated that it filed before the Bureau of Internal Revenue its Notice of Availment
of Tax Amnesty Under Republic Act No. 948033 on December 14, 2007, together
with the following documents:
(1) Statement of Assets, Liabilities and Net Worth (SALN) as of December 31,
2005 (original and amended declarations);34
(2) Tax Amnesty Return For Taxable Year 2005 and Prior Years (BIR Form No.
2116);35 and (3) Tax Amnesty Payment Form (Acceptance of Payment Form) for
Taxable Year 2005 and Prior Years (BIR Form No. 0617)36 showing payment of
the amnesty tax in the amount of ₱500,000.00.
ING Bank prayed that this court issue a resolution taking note of its availment
of the tax amnesty, and confirming its entitlement to all the immunities and
privileges under Section 6 of Republic Act No. 9480, particularly with respect to
the "payment of deficiency documentary stamp taxes on its special savings
accounts for the taxable years 1996 and 1997 and deficiency tax on onshore
interest income derived under the foreign currency deposit system for taxable
year 1996[.]"37
Pursuant to this court’s Resolution38 dated January 23, 2008, the

Commissioner of Internal Revenue filed its Comment39 and ING Bank, its
Reply.40
Originally, ING Bank raised the following issues in its pleadings:

First, whether "[t]he Court of Tax Appeals En Banc erred in concluding that
petitioner’s Special Saving Accounts are subject to documentary stamp tax (DST)
as certificates of deposit under Section 180 of the 1977 Tax Code";41
Second, whether "[t]he Court of Tax Appeals En Banc erred in holding petitioner
liable for deficiency onshore tax considering that under the 1977 Tax Code and
the pertinent revenue regulations, the obligation to pay the ten percent (10%)
final tax on onshore interest income rests on the payors-borrowers and not on
petitioner as payee-lender";42 and
Third, whether "[t]he Court of Tax Appeals En Banc erred in holding petitioner
liable for deficiency withholding tax on compensation for the accrued bonuses in
the taxable years 1996 and 1997 considering that these were not distributed to
petitioner’s officers and employees during those taxable years, hence, were not
yet subject to withholding tax."43
However, ING Bank availed itself of the tax amnesty under Republic Act No.
9480, with respect to its liabilities for deficiency documentary stamp taxes on its
special savings accounts for the taxable years 1996 and 1997 and deficiency tax
on onshore interest income under the foreign currency deposit system for taxable
year 1996.
Consequently, the issues now for resolution are:
First, whether petitioner ING Bank may validly avail itself of the tax amnesty
granted by Republic Act No. 9480; and
Second, whether petitioner ING Bank is liable for deficiency withholding tax on
accrued bonuses for the taxable years 1996 and 1997.
Tax amnesty availment
Petitioner ING Bank asserts that it is "qualified to avail of the tax amnesty under
Section 5 [of Republic Act No. 9480] and . . . not disqualified under Section 8 [of
the same law]."44 Respondent Commissioner of Internal Revenue, for its part,
does not deny the authenticity of the documents submitted by petitioner ING
Bank or dispute the payment of the amnesty tax. However, respondent
Commissioner of Internal Revenue claims that petitioner ING Bank is not
qualified to avail itself of the tax amnesty granted under Republic Act No. 9480
because both the Court of Tax Appeals En Banc and Second Division ruled in its
favor that confirmed the liability of petitioner ING Bank for deficiency
documentary stamp taxes, onshore taxes, and withholding taxes.45
Respondent Commissioner of Internal Revenue asserts that BIR Revenue

Memorandum Circular No. 19-2008 specifically excludes "cases which were
ruled by any court (even without finality) in favor of the BIR prior to amnesty
availment of the taxpayer" from the coverage of the tax amnesty under Republic
Act No. 9480.46 In any case, respondent Commissioner of Internal Revenue
argues that petitioner ING Bank’s availment of the tax amnesty is still subject to
its evaluation,47 that it is "empowered to exercise [its] sound discretion . . . in
the implementation of a tax amnesty in favor of a taxpayer,"48 and "petitioner
cannot presume that its application . . . would be granted[.]"49 Accordingly,
respondent Commissioner of Internal Revenue prays that "petitioner [ING
Bank’s] motion be denied for lack of merit."50
Petitioner ING Bank counters that BIR Revenue Memorandum Circular No. 19-
2008 cannot override Republic Act No. 9480 and its Implementing Rules and
Regulations, which only exclude from tax amnesty "tax cases subject of final and
[executory] judgment by the courts."51 Petitioner ING Bank asserts that its full
compliance with the conditions prescribed in Republic Act No. 9480 (the
conditions being submission of the requisite documents and payment of the
amnesty tax), which respondent Commissioner of Internal Revenue does not
dispute, confirms that it is "qualified to avail itself, and has actually availed itself,
of the tax amnesty."52 It argues that there is nothing in the law that gives
respondent Commissioner of Internal Revenue the discretion to rescind or erase
the legal effects of its tax amnesty availment.53 Thus, the issue is no longer
about whether "[it] is entitled to avail itself of the tax amnesty[,]"54 but rather
whether the effects of its tax amnesty availment extend to the assessments of
deficiency documentary stamp taxes on its special savings accounts for 1996
and 1997 and deficiency tax on onshore interest income for 1996.55
Petitioner ING Bank points out the Court of Tax Appeals’ ruling in Metropolitan
Bank and Trust Company v. Commissioner of Internal Revenue,56 to the effect
that full compliance with the requirements of the tax amnesty law extinguishes
the tax deficiencies subject of the amnesty availment.57 Thus, with its availment
of the tax amnesty and full compliance with all the conditions prescribed in the
statute, petitioner ING Bank asserts that it is entitled to all the immunities and
privileges under Section 6 of Republic Act No. 9480.58
Withholding tax on compensation
Petitioner ING Bank claims that it is not liable for withholding taxes on bonuses
accruing to its officers and employees during taxable years 1996 and 1997.59 It
maintains its position that the liability of the employer to withhold the tax does
not arise until such bonus is actually distributed. It cites Section 72 of the 1977
National Internal Revenue Code, which states that "[e]very employer making
payment of wages shall deduct and withhold upon such wages a tax," and BIR
Ruling No. 555-88 (November 23, 1988) declaring that "[t]he withholding tax on
the bonuses should be deducted upon the distribution of the same to the officers
and employees[.]"60 Since the supposed bonuses were not distributed to the
officers and employees in 1996 and 1997 but were distributed in the succeeding
year when the amounts of the bonuses were finally determined, petitioner ING
Bank asserts that its duty as employer to withhold the tax during these taxable
years did not arise.61
Petitioner ING Bank further argues that the Court of Tax Appeals’ discussion on
Section 29(j) of the 1993 National Internal Revenue Code and Section 3 of
Revenue Regulations No. 8-90 is not applicable because the issue in this case
"is not whether the accrued bonuses should be allowed as deductions from
petitioner’s taxable income but, rather, whether the accrued bonuses are subject
to withholding tax on compensation in the respective years of accrual[.]"62
Respondent Commissioner of Internal Revenue counters that petitioner ING
Bank’s application of BIR Ruling No. 555-88 is misplaced because as found by
the Second Division of the Court of Tax Appeals, the factual milieu is different:63
In that ruling, bonuses are determined and distributed in the succeeding year
"[A]fter [sic] the audit of each company is completed (on or before April 15 of the
succeeding year)". The withholding and remittance of income taxes were also
made in the year they were distributed to the employees. . . .
In petitioner’s case, bonuses were determined during the year but were
distributed in the succeeding year. No withholding of income tax was effected
but the bonuses were claimed as an expense for the year. . . .
Since the bonuses were not subjected to withholding tax during the year they
were claimed as an expense, the same should be disallowed pursuant to the
above-quoted law.64
Respondent Commissioner of Internal Revenue contends that petitioner ING

Bank’s act of "claim[ing] [the] subject bonuses as deductible expenses in its
taxable income although it has not yet withheld and remitted the [corresponding
withholding] tax"65 to the Bureau of Internal Revenue contravened Section 29(j)
of the 1997 National Internal Revenue Code, as amended.66 Respondent
Commissioner of Internal Revenue claims that "subject bonuses should also be
disallowed as deductible expenses of petitioner."67
Taxpayers with pending tax cases may avail themselves of the tax amnesty
program under Republic Act No. 9480.
In CS Garment, Inc. v. Commissioner of Internal Revenue,68 this court has

"definitively declare[d] . . . the exception ‘[i]ssues and cases which were ruled by
any court (even without finality) in favor of the BIR prior to amnesty availment
of the taxpayer’ under BIR [Revenue Memorandum Circular No.] 19-2008 [as]
invalid, [for going] beyond the scope of the provisions of the 2007 Tax Amnesty
Law."69 Thus:
[N]either the law nor the implementing rules state that a court ruling that has
not attained finality would preclude the availment of the benefits of the Tax
Amnesty Law. Both R.A. 9480 and DOF Order No. 29-07 are quite precise in
declaring that "[t]ax cases subject of final and executory judgment by the courts"
are the ones excepted from the benefits of the law. In fact, we have already
pointed out the erroneous interpretation of the law in Philippine Banking
Corporation (Now: Global Business Bank, Inc.) v. Commissioner of Internal
Revenue, viz:
The BIR’s inclusion of "issues and cases which were ruled by any court (even
without finality) in favor of the BIR prior to amnesty availment of the taxpayer"
as one of the exceptions in RMC 19-2008 is misplaced. RA 9480 is specifically
clear that the exceptions to the tax amnesty program include "tax cases subject
of final and executory judgment by the courts." The present case has not become
final and executory when Metrobank availed of the tax amnesty program.70
(Emphasis in the original, citation omitted)
Moreover, in the fairly recent case of LG Electronics Philippines, Inc. v.

Commissioner of Internal Revenue,71 we confirmed that only cases that involve
final and executory judgments are excluded from the tax amnesty program as
explicitly provided under Section 8 of Republic Act No. 9480.72
Thus, petitioner ING Bank is not disqualified from availing itself of the tax
amnesty under the law during the pendency of its appeal before this court.
II
Petitioner ING Bank showed that it complied with the requirements set forth
under Republic Act No. 9480. Respondent Commissioner of Internal Revenue
never questioned or rebutted that petitioner ING Bank fully complied with the
requirements for tax amnesty under the law. Moreover, the contestability period
of one (1) year from the time of petitioner ING Bank’s availment of the tax
amnesty law on December 14, 2007 lapsed. Correspondingly, it is fully entitled
to the immunities and privileges mentioned under Section 6 of Republic Act No.
9480. This is clear from the following provisions:
SEC. 2. Availment of the Amnesty. - Any person, natural or juridical, who wishes
to avail himself of the tax amnesty authorized and granted under this Act shall
file with the Bureau of Internal Revenue (BIR) a notice and Tax Amnesty Return
accompanied by a Statement of Assets, Liabilities and Networth (SALN) as of
December 31, 2005, in such form asmay be prescribed in the implementing rules
and regulations (IRR) of this Act, and pay the applicable amnesty tax within six
months from the effectivity of the IRR.
....
SEC. 4. Presumption of Correctness of the SALN. - The SALN as of December 31,
2005 shall be considered as true and correct except where the amount of
declared networth is understated to the extent of thirty percent (30%) or more as
may be established in proceedings initiated by, or at the instance of, parties other
than the BIR or its agents: Provided, That such proceedings must be initiated
within one year following the date of the filing of the tax amnesty return and the
SALN. Findings of or admission in congressional hearings, other administrative
agencies of government, and/or courts shall be admissible to prove a thirty
percent (30%) under-declaration. . . . .
SEC. 6. Immunities and Privileges. - Those who availed themselves of the tax
amnesty under Section 5 hereof, and have fully complied with all its conditions
shall be entitled to the following immunities and privileges:
a. The taxpayer shall be immune from the payment of taxes, as well as addition
thereto, and the appurtenant civil, criminal or administrative penalties under
the National Internal Revenue Code of 1997, as amended, arising from the failure
to pay any and all internal revenue taxes for taxable year 2005 and prior years.
b. The taxpayer’s Tax Amnesty Returns and the SALN as of December 31, 2005
shall not be admissible as evidence in all proceedings that pertain to taxable year
2005 and prior years, insofar as such proceedings relate to internal revenue
taxes, before judicial, quasi-judicial or administrative bodies in which he is a
defendant or respondent, and except for the purpose of ascertaining the networth
beginning January 1, 2006, the same shall not be examined, inquired or looked
into by any person or government office. However, the taxpayer may use this as
a defense, whenever appropriate, in cases brought against him.
c. The books of accounts and other records of the taxpayer for the years covered
by the tax amnesty availed of shall not be examined: Provided, That the
Commissioner of Internal Revenue may authorize in writing the examination of
the said books of accounts and other records to verify the validity or correctness
of a claim for any tax refund, tax credit (other than refund or credit of taxes
withheld on wages), tax incentives, and/or exemptions under existing laws.
(Emphasis supplied)
Contrary to respondent Commissioner of Internal Revenue’s stance, Republic Act

No. 9480 confers no discretion on respondent Commissioner of Internal
Revenue. The provisions of the law are plain and simple. Unlike the power to
compromise or abate a taxpayer’s liability under Section 20473 of the 1997
National Internal Revenue Code that is within the discretion of respondent
Commissioner of Internal Revenue,74 its authority under Republic Act No. 9480
is limited to determining whether (a) the taxpayer is qualified to avail oneself of
the tax amnesty; (b) all the requirements for availment under the law were
complied with; and (c) the correct amount of amnesty tax was paid within the
period prescribed by law. There is nothing in Republic Act No. 9480 which can
be construed as authority for respondent Commissioner of Internal Revenue to
introduce exceptions and/or conditions to the coverage of the law nor to
disregard its provisions and substitute his own personal judgment.
Republic Act No. 9480 provides a general grant of tax amnesty subject only to
the cases specifically excepted by it. A tax amnesty "partakes of an absolute. . .
waiver by the Government of its right to collect what otherwise would be due
it[.]"75 The effect of a qualified taxpayer’s submission of the required documents
and the payment of the prescribed amnesty tax was immunity from payment of
all national internal revenue taxes as well as all administrative, civil, and
criminal liabilities founded upon or arising from non-payment of national
internal revenue taxes for taxable year 2005 and prior taxable years.76
Finally, the documentary stamp tax and onshore income tax are covered by the
tax amnesty program under Republic Act No. 9480 and its Implementing Rules
and Regulations.77 Moreover, as to the deficiency tax on onshore interest
income, it is worthy to state that petitioner ING Bank was assessed by
respondent Commissioner of Internal Revenue, not as a withholding agent, but
as one that was directly liable for the tax on onshore interest income and failed
to pay the same.
Considering petitioner ING Bank’s tax amnesty availment, there is no more issue
regarding its liability for deficiency documentary stamp taxes on its special
savings accounts for 1996 and 1997 and deficiency tax on onshore interest
income for 1996, including surcharge and interest. III.
The Court of Tax Appeals En Banc affirmed the factual finding of the Second
Division that accrued bonuses were recorded in petitioner ING Bank’s books as
expenses for taxable years 1996 and 1997, although no withholding of tax was
effected:
With the preceding defense notwithstanding, petitioner now maintained that the
portion of the disallowed bonuses in the amounts of ₱3,879,407.85 and
₱9,004,402.63 for the respective years 1996 and 1997, were actually payments
for reimbursements of representation, travel and entertainment expenses of its
officers. These expenses according to petitioner are not considered compensation
of employees and likewise not subject to withholding tax.
In order to prove that the discrepancy in the accrued bonuses represents

reimbursement of expenses, petitioner availed of the services of an independent
CPA pursuant to CTA Circular No. 1-95, as amended. As a consequence, Mr.
Ruben Rubio was commissioned by the court to verify the accuracy of petitioner’s
position and to check its supporting documents.
In a report dated January 29, 2002, the commissioned independent CPA noted
the following pertinent findings:
Findings and Observations 1997 1996
Supporting document is under the P 930,307.56 P 1,849,040.70
name of the employee
Supporting document is not under 537,456.37 53,384.80
the name of the Bank nor its
employees (addressee is
"cash"/blank)
Supporting document is under the 7,039,976.36 1,630,292.14
name of the Bank
Supporting document is in the name 362,919.59 62,615.91
of another person (other than the
employee claiming the expense)
Supporting document is not dated 13,404.00 423,199.07
within the period (i.e., 1996 and
1997)
Date/year of transaction is not 31,510.00 26,126.49
Indicated
Amount is not supported by 313,319.09 935,044.28
liquidation document(s)
TOTAL ₱9,228,892.97 ₱4,979,703.39
Based on the above report, only the expenses in the name of petitioner’s
employee and those under its name can be given credence. Therefore, the
following expenses are valid expenses for income tax purposes:
1996 1997
Supporting document is under the ₱1,849,040.70 P 930,307.56
name of the employee
Supporting document is under the 1,630,292.14 7,039,976.36
name of the Bank
TOTAL ₱3,479,332.84 P 7,970,283.92
Consequently, petitioner is still liable for the amounts of ₱167,384.97 and

₱397,157.70 representing deficiency withholding taxes on compensation for the
respective years of 1996 and 1997, computed as follows:
1996 1997
Total Disallowed Accrued P 3,879,407.85 P 9,004,402.63

Bonus
Less: Substantiated
Reimbursement of Expense 3,479,332.84 7,970,283.92
Unsubstantiated P 400,075.01 P 1,034,119.43
Tax Rate 26.48% 27.83%
Basic Withholding Tax Due
Thereon P 105,939.86 P 287,795.44
Interest (Sec. 249) 61,445.11 109,362.26

on
78
Compensation P 167,384.97 P 397,157.70
An expense, whether the same is paid or payable, "shall be allowed as a

deduction only if it is shown that the tax required to be deducted and withheld
therefrom [was] paid to the Bureau of Internal Revenue[.]"79
Section 29(j) of the 1977 National Internal Revenue Code80 (now Section 34(K)
of the 1997 National Internal Revenue Code) provides:
Section 29. Deductions from gross income. — In computing taxable income

subject to tax under Sec. 21(a); 24(a), (b) and (c); and 25(a) (1), there shall be
allowed as deductions the items specified in paragraphs (a) to (i) of this section:
....
....
(a) Expenses. — (1) Business expenses. — (A) In general. — All ordinary and
necessary expenses paid or incurred during the taxable year in carrying on any
trade or business, including a reasonable allowance for salaries or other
compensation for personal services actually rendered; travelling expenses while
away from home in the pursuit of a trade, profession or business, rentals or other
payments required to be made as a condition to the continued use or possession,
for the purpose of the trade, profession or business, of property to which the
taxpayer has not taken or is not taking title or in which he has no equity.
....
(j) Additional requirement for deductibility of certain payments. — Any amount

paid or payable which is otherwise deductible from, or taken into account in
computing gross income for which depreciation or amortization may be allowed
under this section, shall be allowed as a deduction only if it is shown that the
tax required to be deducted and withheld therefrom has been paid to the Bureau
of Internal Revenue in accordance with this section, Sections 5181 and 7482 of
this Code. (Emphasis supplied)
Section 3 of Revenue Regulations No. 8-90 (now Section 2.58.5 of Revenue

Regulations No. 2-98) provides:
Section 3. Section 9 of Revenue Regulations No. 6-85 is hereby amended to read

as follows:
Section 9. (a) Requirement for deductibility. Any income payment, which is

otherwise deductible under Sections 29 and 54 of the Tax Code, as amended,
shall be allowed as a deduction from the payor’s gross income only if it is shown
that the tax required to be withheld has been paid to the Bureau of Internal
Revenue in accordance with Sections 50, 51, 72, and 74 also of the Tax
Code.(Emphasis supplied)
Under the National Internal Revenue Code, every form of compensation for
personal services is subject to income tax and, consequently, to withholding tax.
The term "compensation" means all remunerations paid for services performed
by an employee for his or her employer, whether paid in cash or in kind, unless
specifically excluded under Sections 32(B)83 and 78(A)84 of the 1997 National
Internal Revenue Code.85 The name designated to the remuneration for services
is immaterial. Thus, "salaries, wages, emoluments and honoraria, bonuses,
allowances (such as transportation, representation, entertainment, and the like),
[taxable] fringe benefits[,] pensions and retirement pay, and other income of a
similar nature constitute compensation income"86 that is taxable.
Hence, petitioner ING Bank is liable for the withholding tax on the bonuses since
it claimed the same as expenses in the year they were accrued.
Petitioner ING Bank insists, however, that the bonus accruals in 1996 and 1997
were not yet subject to withholding tax because these bonuses were actually
distributed only in the succeeding years of their accrual (i.e., in 1997 and 1998)
when the amounts were finally determined.
Petitioner ING Bank’s contention is untenable.
The tax on compensation income is withheld at source under the creditable

withholding tax system wherein the tax withheld is intended to equal or at least
approximate the tax due of the payee on the said income. It was designed to
enable (a) the individual taxpayer to meet his or her income tax liability on
compensation earned; and (b) the government to collect at source the appropriate
taxes on compensation.87 Taxes withheld are creditable in nature.88 Thus, the
employee is still required to file an income tax return to report the income and/or
pay the difference between the tax withheld and the tax due on the income.89
For over withholding, the employee is refunded.90 Therefore, absolute or exact
accuracy in the determination of the amount of the compensation income is not
a prerequisite for the employer’s withholding obligation to arise.
It is true that the law and implementing regulations require the employer to
deduct and pay the income tax on compensation paid to its employees, either
actually or constructively.
Section 72 of the 1977 National Internal Revenue Code, as amended,91 states:
SECTION 72. Income tax collected at source. — (a) Requirement of withholding.

— Every employer making payment of wages shall deduct and withhold upon
such wages a tax determined in accordance with regulations to be prepared and
promulgated by the Minister of Finance. (Emphasis supplied)
Sections 7 and 14 of Revenue Regulations No. 6-82,92 as amended,93 relative

to the withholding of tax on compensation income, provide:
Section 7. Requirement of withholding.— Every employer or any person who pays

or controls the payment of compensation to an employee, whether resident
citizen or alien, non-resident citizen, or nonresident alien engaged in trade or
business in the Philippines, must withhold from such compensation paid, an
amount computed in accordance with these regulations.
I. Withholding of tax on compensation paid to resident employees. – (a)In general,

every employer making payment of compensation shall deduct and withhold
from such compensation income for the entire calendar year, a tax determined
in accordance with the prescribed new Withholding Tax Tables effective January
1, 1992 (ANNEX "A").
....
Section 14. Liability for the Tax.— The employer is required to collect the tax by
deducting and withholding the amount thereof from the employee’s
compensation as when paid, either actually or constructively. An employer is
required to deduct and withhold the tax notwithstanding that the compensation
is paid in something other than money (for example, compensation paid in stocks
or bonds) and to pay the tax to the collecting officer. If compensation is paid in
property other than money, the employer should make necessary arrangements
to ensure that the amount of the tax required to be withheld is available for
payment to the collecting officer.
Every person required to deduct and withhold the tax from the compensation of
an employee is liable for the payment of such tax whether or not collected from
the employee. If, for example, the employer deducts less than the correct amount
of tax, or if he fails to deduct any part of the tax, he is nevertheless liable for the
correct amount of the tax. However, if the employer in violation of the provisions
of Chapter XI, Title II of the Tax Code fails to deduct and withhold and thereafter
the employee pays the tax, it shall no longer be collected from the employer. Such
payment does not, however, operate to relieve the employer from liability for
penalties or additions to the tax for failure to deduct and withhold within the
time prescribed by law or regulations. The employer will not be relieved of his
liability for payment of the tax required to be withheld unless he can show that
the tax has been paid by the employee.
The amount of any tax withheld/collected by the employer is a special fund in

trust for the Government of the Philippines.
When the employer or other person required to deduct and withhold the tax
under this Chapter XI, Title II of the Tax Code has withheld and paid such tax
to the Commissioner of Internal Revenue or to any authorized collecting officer,
then such employer or person shall be relieved of any liability to any person.
(Emphasis supplied)
Constructive payment of compensation is further defined in Revenue Regulations

No. 6-82:
Section 25. Applicability; constructive receipt of compensation.
—....
Compensation is constructively paid within the meaning of these regulations

when it is credited to the account of or set apart for an employee so that it may
be drawn upon by him at any time although not then actually reduced to
possession. To constitute payment in such a case, the compensation must be
credited or set apart for the employee without any substantial limitation or
restriction as to the time or manner of payment or condition upon which
payment is to be made, and must be made available to him so that it may be
drawn upon at any time, and its payment brought within his control and
disposition. (Emphasis supplied)
On the other hand, it is also true that under Section 45 of the 1997 National
Internal Revenue Code (then Section 39 of the 1977 National Internal Revenue
Code, as amended), deductions from gross income are taken for the taxable year
in which "paid or accrued" or "paid or incurred" is dependent upon the method
of accounting income and expenses adopted by the taxpayer.
In Commissioner of Internal Revenue v. Isabela Cultural Corporation,94 this

court explained the accrual method of accounting, as against the cash method:
Accounting methods for tax purposes comprise a set of rules for determining
when and how to report income and deductions. . . .
Revenue Audit Memorandum Order No. 1-2000, provides that under the accrual
method of accounting, expenses not being claimed as deductions by a taxpayer
in the current year when they are incurred cannot be claimed as deduction from
income for the succeeding year. Thus, a taxpayer who is authorized to deduct
certain expenses and other allowable deductions for the current year but failed
to do so cannot deduct the same for the next year.
The accrual method relies upon the taxpayer’s right to receive amounts or its
obligation to pay them, in opposition to actual receipt or payment, which
characterizes the cash method of accounting. Amounts of income accrue where
the right to receive them become fixed, where there is created an enforceable
liability. Similarly, liabilities are accrued when fixed and determinable in
amount, without regard to indeterminacy merely of time of payment.
For a taxpayer using the accrual method, the determinative question is, when
do the facts present themselves in such a manner that the taxpayer must
recognize income or expense? 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 all-events test requires the right to income or liability be fixed, and the
amount of such income or liability be determined with reasonable
accuracy.1âwphi1 However, the test does not demand that the amount of income
or liability be known absolutely, only that a taxpayer has at his disposal the
information necessary to compute the amount with reasonable accuracy. The
all-events test is satisfied where computation remains uncertain, if its basis is
unchangeable; the test is satisfied where a computation may be unknown, but
is not as much as unknowable, within the taxable year. The amount of liability
does not have to be determined exactly; it must be determined with "reasonable
accuracy. "Accordingly, the term "reasonable accuracy" implies something less
than anex act or completely accurate amount.95 (Emphasis supplied, citations
omitted)
Thus, if the taxpayer is on cash basis, he expense is deductible in the year it was
paid, regardless of the year it was incurred. If he is on the accrual method, he
can deduct the expense upon accrual thereof. An item that is reasonably
ascertained as to amount and acknowledged to be due has "accrued"; actual
payment is not essential to constitute "expense."
Stated otherwise, an expense is accrued and deducted for tax purposes when (1)
the obligation to pay is already fixed; (2) the amount can be determined with
reasonable accuracy; and (3) it is already knowable or the taxpayer can
reasonably be expected to have known at the closing of its books for the taxable
year.
Section 29(j) of the 1977 National Internal Revenue Code96 (Section 34(K) of the
1997 National Internal Revenue Code) expressly requires, as a condition for
deductibility of an expense, that the tax required to be withheld on the amount
paid or payable is shown to have been remitted to the Bureau of Internal Revenue
by the taxpayer constituted as a withholding agent of the government.
The provision of Section 72 of the 1977 National Internal Revenue Code (Section
79 of the 1997 National Internal Revenue Code) regarding withholding on wages
must be read and construed in harmony with Section 29(j) of the 1977 National
Internal Revenue Code (Section 34(K) of the 1997 National Internal Revenue
Code) on deductions from gross income. This is in accordance with the rule on
statutory construction that an interpretation is to be sought which gives effect
to the whole of the statute, such that every part is made effective, harmonious,
and sensible,97 if possible, and not defeated nor rendered insignificant,
meaningless, and nugatory.98 If we go by the theory of petitioner ING Bank, then
the condition imposed by Section 29(j) would have been rendered nugatory, or
we would in effect have created an exception to this mandatory requirement
when there was none in the law.
Reading together the two provisions, we hold that the obligation of the
payor/employer to deduct and withhold the related withholding tax arises at the
time the income was paid or accrued or recorded as an expense in the
payor’s/employer’s books, whichever comes first.
Petitioner ING Bank accrued or recorded the bonuses as deductible expense in

its books. Therefore, its obligation to withhold the related withholding tax due
from the deductions for accrued bonuses arose at the time of accrual and not at
the time of actual payment.
In Filipinas Synthetic Fiber Corporation v. Court of Appeals,99 the issue was
raised on "whether the liability to withhold tax at source on income payments to
non-resident foreign corporations arises upon remittance of the amounts due to
the foreign creditors or upon accrual thereof."100 In resolving this issue, this
court considered the nature of the accounting method employed by the
withholding agent, which was the accrual method, wherein it was the right to
receive income, and not the actual receipt, that determined when to report the
amount as part of the taxpayer’s gross income.101 It upheld the lower court’s
finding that there was already a definite liability on the part of petitioner at the
maturity of the loan contracts.102 Moreover, petitioner already deducted as
business expense the said amounts as interests due to the foreign
corporation.103 Consequently, the taxpayer could not claim that there was "no
duty to withhold and remit income taxes as yet because the loan contract was
not yet due and demandable."104 Petitioner, "[h]aving ‘written-off’ the amounts
as business expense in its books, . . . had taken advantage of the benefit provided
in the law allowing for deductions from gross income."105
Here, petitioner ING Bank already recognized a definite liability on its part
considering that it had deducted as business expense from its gross income the
accrued bonuses due to its employees. Underlying its accrual of the bonus
expense was a reasonable expectation or probability that the bonus would be
achieved. In this sense, there was already a constructive payment for income tax
purposes as these accrued bonuses were already allotted or made available to
its officers and employees.
We note petitioner ING Bank's earlier claim before the Court of Tax Appeals that
the bonus accruals in 1996 and 1997 were disbursed in the following year of
accrual, as reimbursements of representation, travel, and entertainment
expenses incurred by its employees.106 This shows that the accrued bonuses in
the amounts of ₱400,075.0l (1996) and Pl,034,119.43 (1997) on which deficiency
withholding taxes of Pl67,384.97 (1996) and ₱397,157.70 (1997) were imposed,
respectively, were already set apart or made available to petitioner ING Bank's
officers and employees. To avoid any tax issue, petitioner ING Bank should
likewise have recognized the withholding tax liabilities associated with the
bonuses at the time of accrual.
WHEREFORE, the Petition is PARTLY GRANTED. The assessments with respect

to petitioner ING Bank's liabilities for deficiency documentary stamp taxes on its
special savings accounts for the taxable years 1996 and 1997 and deficiency tax
on onshore interest income under the foreign currency deposit system for taxable
year 1996 are hereby SET ASIDE solely in view of petitioner ING Bank's
availment of the tax amnesty program under Republic Act No. 9480. The April 5,
2005 Decision of the Court of Tax Appeals En Banc, which affirmed the August
9, 2004 Decision and November 12, 2004 Resolution of the Court of Tax Appeals
Second Division holding petitioner ING Bank liable for deficiency withholding tax
on compensation for the taxable years 1996 and 1997 in the total amount of
₱564,542.67 inclusive of interest, is AFFIRMED.
SO ORDERED.
G.R. No. 213446 July 03, 2018
CONFEDERATION FOR UNITY, RECOGNITION AND ADVANCEMENT OF

GOVERNMENT EMPLOYEES (COURAGE); JUDICIARY EMPLOYEES
ASSOCIATION OF THE PHILIPPINES (JUDEA-PHILS); SANDIGANBAYAN
EMPLOYEES ASSOCIATION (SEA); SANDIGAN NG MGA EMPLEYADONG
NAGKAKAISA SA ADHIKAIN NG DEMOKRATIKONG ORGANISASYON
(S.E.N.A.D.O.); ASSOCIATION OF COURT OF APPEALS EMPLOYEES (ACAE);
DEPARTMENT OF AGRARIAN REFORM EMPLOYEES ASSOCIATION
(DAREA); SOCIAL WELFARE EMPLOYEES ASSOCIATION OF THE
PHILIPPINES-DEPARTMENT OF SOCIAL WELFARE AND DEVELOPMENT
(SWEAP-DSWD); DEPARTMENT OF TRADE AND INDUSTRY EMPLOYEES
UNION (DTI-EU); KAPISANAN PARA SA KAGALINGAN NG MGA KAWANI NG
METRO MANILA DEVELOPMENT AUTHORITY (KKK-MMDA); WATER
SYSTEM EMPLOYEES RESPONSE (WATER); CONSOLIDATED UNION OF
EMPLOYEES OF THE NATIONAL HOUSING AUTHORITIES (CUE-NHA); AND
KAPISANAN NG MGA MANGGAGAWA AT KAWANI NG QUEZON CITY
(KASAMA KA-QC), Petitioners, v. COMMISSIONER, BUREAU OF INTERNAL
REVENUE AND THE SECRETARY, DEPARTMENT OF FINANCE,
Respondents.
NATIONAL FEDERATION OF EMPLOYEES ASSOCIATIONS OF THE

DEPARTMENT OF AGRICULTURE (NAFEDA), REPRESENTED BY ITS
EXECUTIVE VICE PRESIDENT ROMAN M. SANCHEZ, DEPARTMENT OF
AGRICULTURE EMPLOYEES ASSOCIATION OFFICE OF THE SECRETARY
(DAEA-OSEC), REPRESENTED BY ITS ACTING PRESIDENT ROWENA GENETE,
NATIONAL AGRICULTURAL AND FISHERIES COUNCIL EMPLOYEES
ASSOCIATION (NAFCEA), REPRESENTED BY ITS PRESIDENT SOLIDAD B.
BERNARDO, COMMISSION ON ELECTIONS EMPLOYEES UNION (COMELEC
EU), REPRESENTED BY ITS PRESIDENT MARK CHRISTOPHER D. RAMIREZ,
MINES AND GEOSCIENCES BUREAU EMPLOYEES ASSOCIATION CENTRAL
OFFICE (MGBEA CO), REPRESENTED BY ITS PRESIDENT MAYBELLYN A.
ZEPEDA, LIVESTOCK DEVELOPMENT COUNCIL EMPLOYEES ASSOCIATION
(LDCEA), REPRESENTED BY ITS PRESIDENT JOVITA M. GONZALES,
ASSOCIATION OF CONCERNED EMPLOYEES OF PHILIPPINE FISHERIES
DEVELOPMENT AUTHORITY (ACE OF PFDA), REPRESENTED BY ITS
PRESIDENT ROSARIO DEBLOIS, Intervenors.
G.R. No. 213658 July 3, 2018
JUDGE ARMANDO A. YANGA, IN HIS PERSONAL CAPACITY AND IN HIS

CAPACITY AS PRESIDENT OF THE RTC JUDGES ASSOCIATION OF MANILA,
AND MA. CRISTINA CARMELA I. JAPZON, IN HER PERSONAL CAPACITY AND
IN HER CAPACITY AS PRESIDENT OF THE PHILIPPINE ASSOCIATION OF
COURT EMPLOYEES-MANILA CHAPTER, Petitioners, v. HON. COMMISSIONER
KIM S. JACINTO-HENARES, IN HER CAPACITY AS COMMISSIONER OF THE
BUREAU OF INTERNAL REVENUE, Respondent.
CAGUIOA, J.:
G.R. Nos. 213446 and 213658 are petitions for Certiorari, Prohibition and/or
Mandamus under Rule 65 of the Rules of Court, with Application for Issuance of
Temporary Restraining Order and/or Writ of Preliminary Injunction, uniformly
seeking to: (a) issue a Temporary Restraining Order to enjoin the implementation
of Revenue Memorandum Order (RMO) No. 23- 2014 dated June 20, 2014 issued
by the Commissioner of Internal Revenue (CIR); and (b) declare null, void and
unconstitutional paragraphs A, B, C, and D of Section III, and Sections IV, VI
and VII of RMO No. 23-2014. The petition in G.R. No. 213446 also prays for the
issuance of a Writ of Mandamus to compel respondents to upgrade the
P30,000.00 non-taxable ceiling of the 13th month pay and other benefits for the
concerned officials and employees of the government.
The Antecedents
On June 20, 2014, respondent CIR issued the assailed RMO No. 23-2014, in
furtherance of Revenue Memorandum Circular (RMC) No. 23-2012 dated
February 14, 2012 on the "Reiteration of the Responsibilities of the Officials and
Employees of Government Offices for the Withholding of Applicable Taxes on
Certain Income Payments and the Imposition of Penalties for Non-Compliance
Thereof," in order to clarify and consolidate the responsibilities of the public
sector to withhold taxes on its transactions as a customer (on its purchases of
goods and services) and as an employer (on compensation paid to its officials
and employees) under the National Internal Revenue Code (NIRC or Tax Code) of
1997, as amended, and other special laws.
The Petitions
G.R. No. 213446
On August 6, 2014, petitioners Confederation for Unity, Recognition and

Advancement of Government Employees (COURAGE), et al.,
organizations/unions of government employees from the Sandiganbayan, Senate
of the Philippines, Court of Appeals, Department of Agrarian Reform,
Department of Social Welfare and Development, Department of Trade and
Industry, Metro Manila Development Authority, National Housing Authority and
local government of Quezon City, filed a Petition for Prohibition and Mandamus,1
imputing grave abuse of discretion on the part of respondent CIR in issuing RMO
No. 23-2014. According to petitioners, RMO No. 23-2014 classified as taxable
compensation, the following allowances, bonuses, compensation for services
granted to government employees, which they alleged to be considered by law as
non-taxable fringe and de minimis benefits, to wit:
I. Legislative Fringe Benefits
Anniversary Bonus
Additional Food Subsidy
13th Month Pay
Food Subsidy
Cash Gift
Cost of Living Assistance
Efficiency Incentive Bonus
Financial Relief Assistance
Grocery Allowance
Hospitalization
Inflationary Assistance Allowance
Longevity Service Pay
Medical Allowance
Mid-Year Eco. Assistance
Productivity Incentive Benefit
Transition Allowance
Uniform Allowance
II. Judiciary Benefits
Additional Compensation Income

Extraordinary & Miscellaneous Expenses
Monthly Special Allowance
Additional Cost of Living Allowance (from Judiciary Development Fund)
Productivity Incentive Benefit
Grocery Allowance
Clothing Allowance
Emergency Economic Assistance
Year-End Bonus (13th Month Pay)
Cash Gift
Loyalty Cash Award (Milestone Bonus)
Christmas Allowance m. Anniversary Bonus2
Petitioners further assert that the imposition of withholding tax on these
allowances, bonuses and benefits, which have been allotted by the Government
to its employees free of tax for a long time, violates the prohibition on non-
diminution of benefits under Article 100 of the Labor Code;3 and infringes upon
the fiscal autonomy of the Legislature, Judiciary, Constitutional Commissions
and Office of the Ombudsman granted by the Constitution.4
Petitioners also claim that RMO No. 23-2014 (1) constitutes a usurpation of
legislative power and diminishes the delegated power of local government units
inasmuch as it defines new offenses and prescribes penalty therefor, particularly
upon local government officials;5 and (2) violates the equal protection clause of
the Constitution as it discriminates against government officials and employees
by imposing fringe benefit tax upon their allowances and benefits, as opposed to
the allowances and benefits of employees of the private sector, the fringe benefit
tax of which is borne and paid by their employers.6
Further, the petition also prays for the issuance of a writ of mandamus ordering
respondent CIR to perform its duty under Section 32(B)(7)(e)(iv) of the NIRC of
1997, as amended, to upgrade the ceiling of the 13th month pay and other
benefits for the concerned officials and employees of the government, including
petitioners.7
G.R. No. 213658
On August 19, 2014, petitioners Armando A. Yanga, President of the Regional

Trial Court (RTC) Judges Association of Manila, and Ma. Cristina Carmela I.
Japzon, President of the Philippine Association of Court Employees – Manila
Chapter, filed a Petition for Certiorari and Prohibition8 as duly authorized
representatives of said associations, seeking to nullify RMO No. 23-2014 on the
following grounds: (1) respondent CIR is bereft of any authority to issue the
assailed RMO. The NIRC of 1997, as amended, expressly vests to the Secretary
of Finance the authority to promulgate all needful rules and regulations for the
effective enforcement of tax provisions;9 and (2) respondent CIR committed grave
abuse of discretion amounting to lack or excess of jurisdiction in the issuance of
RMO No. 23-2014 when it subjected to withholding tax benefits and allowances
of court employees which are tax-exempt such as: (a) Special Allowance for
Judiciary (SAJ) under Republic Act (RA) No. 9227 and additional cost of living
allowance (AdCOLA) granted under Presidential Decree (PD) No. 1949 which are
considered as non-taxable fringe benefits under Section 33(A) of the NIRC of
1997, as amended; (b) cash gift, loyalty awards, uniform and clothing allowance
and additional compensation (ADCOM) granted to court employees which are
considered de minimis under Section 33(C)(4) of the same Code; (c) allowances
and benefits granted by the Judiciary which are not taxable pursuant to Section
32(7)(E) of the NIRC of 1997, as amended; and (d) expenses for the Judiciary
provided under Commission on Audit (COA) Circular 2012-001.10
Petitioners further assert that RMO No. 23-2014 violates their right to due
process of law because while it is ostensibly denominated as a mere revenue
issuance, it is an illegal and unwarranted legislative action which sharply
increased the tax burden of officials and employees of the Judiciary without the
benefit of being heard.11
On October 21, 2014, the Court resolved to consolidate the foregoing cases.12
Respondents, through the Office of the Solicitor General (OSG), filed their
Consolidated Comment13 on December 23, 2014. They argue that the petitions
are barred by the doctrine of hierarchy of courts and petitioners failed to present
any special and important reasons or exceptional and compelling circumstance
to justify direct recourse to this Court.14
Maintaining that RMO No. 23-2014 was validly issued in accordance with the
power of the CIR to make rulings and opinion in connection with the
implementation of internal revenue laws, respondents aver that unlike Revenue
Regulations (RRs), RMOs do not require the approval or signature of the
Secretary of Finance, as these merely provide directives or instructions in the
implementation of stated policies, goals, objectives, plans and programs of the
Bureau.15 According to them, RMO No. 23-2014 is in fact a mere reiteration of
the Tax Code and previous RMOs, and can be traced back to RR No. 01-87 dated
April 2, 1987 implementing Executive Order No. 651 which was promulgated by
then Secretary of Finance Jaime V. Ongpin upon recommendation of then CIR
Bienvenido A. Tan, Jr. Thus, the CIR never usurped the power and authority of
the legislature in the issuance of the assailed RMO.16 Also, contrary to
petitioners' assertion, the due process requirements of hearing and publication
are not applicable to RMO No. 23-2014.17
Respondents further argue that petitioners' claim that RMO No. 23-2014 is
unconstitutional has no leg to stand on. They explain that the constitutional
guarantee of fiscal autonomy to Judiciary and Constitutional Commissions does
not include exemption from payment of taxes, which is the lifeblood of the
nation.18 They also aver that RMO No. 23-2014 never intended to diminish the
powers of local government units. It merely reiterates the obligation of the
government as an employer to withhold taxes, which has long been provided by
the Tax Code.19
Moreover, respondents assert that the allowances and benefits enumerated in

Section III A, B, C, and D, are not fringe benefits which are exempt from taxation
under Section 33 of the Tax Code, nor de minimis benefits excluded from
employees' taxable basic salary. They explain that the SAJ under RA No. 9227
and AdCOLA under PD No. 1949 are additional allowances which form part of
the employee's basic salary; thus, subject to withholding taxes.20
Respondents also claim that RMO No. 23-2014 does not violate petitioners' right
to equal protection of laws as it covers all employees and officials of the
government. It does not create a new category of taxable income nor make
taxable those which are not taxable but merely reflect those incomes which are
deemed taxable under existing laws.21
Lastly, respondents aver that mandamus will not lie to compel respondents to
increase the ceiling for tax exemptions because the Tax Code does not impose a
mandatory duty on the part of respondents to do the same.22
The Petitions-in-Intervention
Meanwhile, on September 11, 2014, the National Federation of Employees
Associations of the Department of Agriculture (NAFEDA) et al., duly registered
union/association of employees of the Department of Agriculture, National
Agricultural and Fisheries Council, Commission on Elections, Mines and
Geosciences Bureau, and Philippine Fisheries Development Authority, claiming
similar interest as petitioners in G.R. No. 213446, filed a Petition-in-
Intervention23 seeking the nullification of items III, VI and VII of RMO No. 23-
2014 based on the following grounds: (1) that respondent CIR acted with grave
abuse of discretion and usurped the power of the Legislature in issuing RMO No.
23-2014 which imposes additional taxes on government employees and
prescribes penalties for government official's failure to withhold and remit the
same;24 (2) that RMO No. 23-2014 violates the equal protection clause because
the Commission on Human Rights (CHR) was not included among the
constitutional commissions covered by the issuance and the ADCOM of
employees of the Judiciary was subjected to withholding tax but those received
by employees of the Legislative and Executive branches are not;25 and (3) that
respondent CIR failed to upgrade the tax exemption ceiling for benefits under
Section 32(B)(7) of the NIRC of 1997, as amended.26
In its Comment,27 respondents, through the OSG, sought the denial of the
Petition-in-Intervention for failure of the intervenors to seek prior leave of Court
and to demonstrate that the existing consolidated petitions are not sufficient to
protect their interest as parties affected by the assailed RMO.28 They further
contend that, contrary to the intervenors' position, the CHR is not exempt from
the applicability of RMO No. 23-2014.29 They explain that the enumeration of
government offices and constitutional bodies covered by RMO No. 23-2014 is not
exclusive; Section III thereof in fact states that RMO No. 23-2014 covers all
employees of the public sector.30 They also allege that the ADCOM referred to
in Section III(B) of the assailed RMO is unique to the Judiciary; employees and
officials in the executive and legislative do not receive this specific type of ADCOM
enjoyed by the employees and officials of the Judicial branch.31
On October 10, 2014, a Motion for Intervention with attached Complaint in

Intervention32 was filed, in G.R. No. 213658, by the Members of the Association
of Regional Trial Court Judges in Iloilo City. Claiming that they are similarly
situated with petitioners, said intervenors pray that the Court declare null and
void RMO No. 23-2014 and direct the Bureau of Internal Revenue (BIR) to refund
the amount illegally exacted from the salaries/compensations of the judges by
virtue of the implementation of RMO No. 23-2014.33 The intervenors claim that
RMO No. 23-2014 violates their right to due process as it takes away a portion
of their salaries and compensation without giving them the opportunity to be
heard.34 They also aver that the implementation of RMO No. 23-2014 resulted
in the diminution of their salaries/compensation in violation of Sections 3 and
10, Article VIII of the Constitution.35
In their Comment36 to the Motion, respondents adopted the arguments in their
Consolidated Comment and further stated that: (1) RMO No. 23-2014 does not
diminish the salaries and compensation of members of the judiciary as it has
been judicially settled that the imposition of taxes on salaries and compensation
of judges and justices is not equivalent to diminution of the same;37 (2) the
allowances and benefits enumerated under Section III(B) of RMO No. 23-2014
are not fringe benefits exempt from taxation;38 (3) the AdCOLA and SAJ are not
fringe benefits as these are considered part of the basic salary of government
employees subject to income tax;39 and (4) there is no valid ground for the
refund of the taxes withheld pursuant to RMO No. 23-2014.40
In sum, petitioners and intervenors (collectively referred to as petitioners) argue

that:
RMO No. 23-2014 is ultra vires insofar as:
Sections III and IV of RMO No. 23-2014, for subjecting to withholding taxes non-
taxable allowances, bonuses and benefits received by government employees;
Sections VI and VII, for defining new offenses and prescribing penalties therefor,
particularly upon government officials;
RMO No. 23-2014 violates the equal protection clause as it discriminates against
government employees;
RMO No. 23-2014 violates fiscal autonomy enjoyed by government agencies;
The implementation of RMO No. 23-2014 results in diminution of benefits of

government employees, a violation of Article 100 of the Labor Code; and
Respondents may be compelled through a writ of mandamus to increase the tax-

exempt ceiling for 13th month pay and other benefits.
On the other hand, respondents counter that:
The instant consolidated petitions are barred by the doctrine of hierarchy of

courts;
The CIR did not abuse its discretion in the issuance of RMO No. 23-2014
because:
It was issued pursuant to the CIR's power to interpret the NIRC of 1997, as
amended, and other tax laws, under Section 4 of the NIRC of 1997, as amended;
RMO No. 23-2014 does not discriminate against government employees. It does
not create a new category of taxable income nor make taxable those which are
exempt;
RMO No. 23-2014 does not result in diminution of benefits;
The allowances, bonuses or benefits listed under Section III of the assailed RMO
are not fringe benefits;
The fiscal autonomy granted by the Constitution does not include tax exemption;
and
Mandamus does not lie against respondents because the NIRC of 1997, as
amended, does not impose a mandatory duty upon them to increase the tax-
exempt ceiling for 13th month pay and other benefits.
Incidentally, in a related case docketed as A.M. No. 16-12-04-SC, the Court, on
July 11, 2017, issued a Resolution directing the Fiscal Management and Budget
Office of the Court to maintain the status quo by the non-withholding of taxes
from the benefits authorized to be granted to judiciary officials and personnel,
namely, the Mid-year Economic Assistance, the Year-end Economic Assistance,
the Yuletide Assistance, the Special Welfare Assistance (SWA) and the Additional
SWA, until such time that a decision is rendered in the instant consolidated
cases.
The Court's Ruling
I.
Procedural
Non-exhaustion of administrative remedies.
It is an unquestioned rule in this jurisdiction that certiorari under Rule 65 will

only lie if there is no appeal, or any other plain, speedy and adequate remedy in
the ordinary course of law against the assailed issuance of the CIR.41 The plain,
speedy and adequate remedy expressly provided by law is an appeal of the
assailed RMO with the Secretary of Finance under Section 4 of the NIRC of 1997,
as amended, to wit:
SEC. 4. Power of the Commissioner to Interpret Tax Laws and to Decide Tax
Cases. – The power to interpret the provisions of this Code and other tax laws
shall be under the exclusive and original jurisdiction of the Commissioner,
subject to review by the Secretary of Finance.
The power to decide disputed assessments, refunds of internal revenue taxes,

fees or other charges, penalties imposed in relation thereto, or other matters
arising under this Code or other laws or portions thereof administered by the
Bureau of Internal Revenue is vested in the Commissioner, subject to the
exclusive appellate jurisdiction of the Court of Tax Appeals.42
The CIR's exercise of its power to interpret tax laws comes in the form of revenue
issuances, which include RMOs that provide "directives or instructions;
prescribe guidelines; and outline processes, operations, activities, workflows,
methods and procedures necessary in the implementation of stated policies,
goals, objectives, plans and programs of the Bureau in all areas of operations,
except auditing."43 These revenue issuances are subject to the review of the
Secretary of Finance. In relation thereto, Department of Finance Department
Order No. 007-0244 issued by the Secretary of Finance laid down the procedure
and requirements for filing an appeal from the adverse ruling of the CIR to the
said office. A taxpayer is granted a period of thirty (30) days from receipt of the
adverse ruling of the CIR to file with the Office of the Secretary of Finance a
request for review in writing and under oath.45
In Asia International Auctioneers, Inc. v. Parayno, Jr.,46 the Court dismissed

the petition seeking the nullification of RMC No. 31-2003 for failing to exhaust
administrative remedies. The Court held:
x x x It is settled that the premature invocation of the court's intervention is fatal

to one's cause of action. If a remedy within the administrative machinery can
still be resorted to by giving the administrative officer every opportunity to decide
on a matter that comes within his jurisdiction, then such remedy must first be
exhausted before the court's power of judicial review can be sought. The party
with an administrative remedy must not only initiate the prescribed
administrative procedure to obtain relief but also pursue it to its appropriate
conclusion before seeking judicial intervention in order to give the administrative
agency an opportunity to decide the matter itself correctly and prevent
unnecessary and premature resort to the court.47
The doctrine of exhaustion of administrative remedies is not without practical

and legal reasons. For one thing, availment of administrative remedy entails
lesser expenses and provides for a speedier disposition of controversies. It is no
less true to state that courts of justice for reasons of comity and convenience will
shy away from a dispute until the system of administrative redress has been
completed and complied with so as to give the administrative agency concerned
every opportunity to correct its error and to dispose of the case.48 While there
are recognized exceptions to this salutary rule, petitioners have failed to prove
the presence of any of those in the instant case.
Violation of the rule on hierarchy of courts.
Moreover, petitioners violated the rule on hierarchy of courts as the petitions

should have been initially filed with the CTA, having the exclusive appellate
jurisdiction to determine the constitutionality or validity of revenue issuances.
In The Philippine American Life and General Insurance Co. v. Secretary of
Finance,49 the Court held that rulings of the Secretary of Finance in its exercise
of its power of review under Section 4 of the NIRC of 1997, as amended, are
appealable to the CTA.50 The Court explained that while there is no law which
explicitly provides where rulings of the Secretary of Finance under the adverted
to NIRC provision are appealable, Section 7(a)51 of RA No. 1125, the law creating
the CTA, is nonetheless sufficient, albeit impliedly, to include appeals from the
Secretary's review under Section 4 of the NIRC of 1997, as amended.
Moreover, echoing its pronouncements in City of Manila v. Grecia-Cuerdo,52

that the CTA has the power of certiorari within its appellate jurisdiction, the
Court declared that "it is now within the power of the CTA, through its power of
certiorari, to rule on the validity of a particular administrative rule or regulation
so long as it is within its appellate jurisdiction. Hence, it can now rule not only
on the propriety of an assessment or tax treatment of a certain transaction, but
also on the validity of the revenue regulation or revenue memorandum circular
on which the said assessment is based."53
Subsequently, in Banco de Oro v. Republic,54 the Court, sitting En Banc, further

held that the CTA has exclusive appellate jurisdiction to review, on certiorari, the
constitutionality or validity of revenue issuances, even without a prior issuance
of an assessment. The Court En Banc reasoned:
We revert to the earlier rulings in Rodriguez, Leal, and Asia International

Auctioneers, Inc. The Court of Tax Appeals has exclusive jurisdiction to
determine the constitutionality or validity of tax laws, rules and regulations, and
other administrative issuances of the Commissioner of Internal Revenue.
Article VIII, Section 1 of the 1987 Constitution provides the general definition of
judicial power:
ARTICLE [VIII]
JUDICIAL DEPARTMENT
Section 1. The judicial power shall be vested in one Supreme Court and in such
lower courts as may be established by law.
Judicial power includes the duty of the courts of justice to settle actual
controversies involving rights which are legally demandable and enforceable, and
to determine whether or not there has been a grave abuse of discretion
amounting to lack or excess of jurisdiction on the part of any branch or
instrumentality of the Government. (Emphasis supplied)
Based on this constitutional provision, this Court recognized, for the first time,
in The City of Manila v. Hon. Grecia-Cuerdo, the Court of Tax Appeals'
jurisdiction over petitions for certiorari assailing interlocutory orders issued by
the Regional Trial Court in a local tax case. Thus:
[W]hile there is no express grant of such power, with respect to the CTA, Section
1, Article VIII of the 1987 Constitution provides, nonetheless, that judicial power
shall be vested in one Supreme Court and in such lower courts as may be
established by law and that judicial power includes the duty of the courts of
justice to settle actual controversies involving rights which are legally
demandable and enforceable, and to determine whether or not there has been a
grave abuse of discretion amounting to lack or excess of jurisdiction on the part
of any branch or instrumentality of the Government.
On the strength of the above constitutional provisions, it can be fairly interpreted

that the power of the CTA includes that of determining whether or not there has
been grave abuse of discretion amounting to lack or excess of jurisdiction on the
part of the RTC in issuing an interlocutory order in cases falling within the
exclusive appellate jurisdiction of the tax court. It, thus, follows that the CTA, by
constitutional mandate, is vested with jurisdiction to issue writs of certiorari in
these cases. (Emphasis in the original)
This Court further explained that the Court of Tax Appeals' authority to issue
writs of certiorari is inherent in the exercise of its appellate jurisdiction:
A grant of appellate jurisdiction implies that there is included in it the power

necessary to exercise it effectively, to make all orders that will preserve the
subject of the action, and to give effect to the final determination of the appeal.
It carries with it the power to protect that jurisdiction and to make the decisions
of the court thereunder effective. The court, in aid of its appellate jurisdiction,
has authority to control all auxiliary and incidental matters necessary to the
efficient and proper exercise of that jurisdiction. For this purpose, it may, when
necessary, prohibit or restrain the performance of any act which might interfere
with the proper exercise of its rightful jurisdiction in cases pending before it.
Lastly, it would not be amiss to point out that a court which is endowed with a
particular jurisdiction should have powers which are necessary to enable it to
act effectively within such jurisdiction. These should be regarded as powers
which are inherent in its jurisdiction and the court must possess them in order
to enforce its rules of practice and to suppress any abuses of its process and to
defeat any attempted thwarting of such process.
In this regard, Section 1 of RA 9282 states that the CTA shall be of the same
level as the CA and shall possess all the inherent powers of a court of justice.
Indeed, courts possess certain inherent powers which may be said to be implied
from a general grant of jurisdiction, in addition to those expressly conferred on
them. These inherent powers are such powers as are necessary for the ordinary
and efficient exercise of jurisdiction; or are essential to the existence, dignity and
functions of the courts, as well as to the due administration of justice; or are
directly appropriate, convenient and suitable to the execution of their granted
powers; and include the power to maintain the court's jurisdiction and render it
effective in behalf of the litigants.
Thus, this Court has held that "while a court may be expressly granted the
incidental powers necessary to effectuate its jurisdiction, a grant of jurisdiction,
in the absence of prohibitive legislation, implies the necessary and usual
incidental powers essential to effectuate it, and, subject to existing laws and
constitutional provisions, every regularly constituted court has power to do all
things that are reasonably necessary for the administration of justice within the
scope of its jurisdiction and for the enforcement of its judgments and mandates."
Hence, demands, matters or questions ancillary or incidental to, or growing out
of, the main action, and coming within the above principles, may be taken
cognizance of by the court and determined, since such jurisdiction is in aid of
its authority over the principal matter, even though the court may thus be called
on to consider and decide matters which, as original causes of action, would not
be within its cognizance. (Citations omitted)
Judicial power likewise authorizes lower courts to determine the

constitutionality or validity of a law or regulation in the first instance. This is
contemplated in the Constitution when it speaks of appellate review of final
judgments of inferior courts in cases where such constitutionality is in issue.
On June 16, 1954, Republic Act No. 1125 created the Court of Tax Appeals not
as another superior administrative agency as was its predecessor — the former
Board of Tax Appeals — but as a part of the judicial system with exclusive
jurisdiction to act on appeals from:
(1)
Decisions of the Collector of Internal Revenue in cases involving disputed
assessments, refunds of internal revenue taxes, fees or other charges, penalties
imposed in relation thereto, or other matters arising under the National Internal
Revenue Code or other law or part of law administered by the Bureau of Internal
Revenue;
(2)
Decisions of the Commissioner of Customs in cases involving liability for
customs duties, fees or other money charges; seizure, detention or release of
property affected fines, forfeitures or other penalties imposed in relation thereto;
or other matters arising under the Customs Law or other law or part of law
administered by the Bureau of Customs; and
(3)
Decisions of provincial or city Boards of Assessment Appeals in cases involving
the assessment and taxation of real property or other matters arising under the
Assessment Law, including rules and regulations relative thereto.
Republic Act No. 1125 transferred to the Court of Tax Appeals jurisdiction over
all matters involving assessments that were previously cognizable by the
Regional Trial Courts (then courts of first instance).
In 2004, Republic Act No. 9282 was enacted. It expanded the jurisdiction of the
Court of Tax Appeals and elevated its rank to the level of a collegiate court with
special jurisdiction. Section 1 specifically provides that the Court of Tax Appeals
is of the same level as the Court of Appeals and possesses "all the inherent
powers of a Court of Justice."
Section 7, as amended, grants the Court of Tax Appeals the exclusive jurisdiction
to resolve all tax-related issues:
Section 7. Jurisdiction. — The CTA shall exercise:
(a)
Exclusive appellate jurisdiction to review by appeal, as herein provided:
1)
Decisions of the Commissioner of Internal Revenue in cases involving disputed
in relation thereto, or other matters arising under the National Internal Revenue
Code or other laws administered by the Bureau of Internal Revenue;
2)
Inaction by the Commissioner of Internal Revenue in cases involving disputed
in relation thereto, or other matters arising under the National Internal Revenue
Code or other laws administered by the Bureau of Internal Revenue, where the
National Internal Revenue Code provides a specific period of action, in which
case the inaction shall be deemed a denial;
3)
Decisions, orders or resolutions of the Regional Trial Courts in local tax cases
originally decided or resolved by them in the exercise of their original or appellate
jurisdiction;
4)
Decisions of the Commissioner of Customs in cases involving liability for
customs duties, fees or other money charges, seizure, detention or release of
property affected, fines, forfeitures or other penalties in relation thereto, or other
matters arising under the Customs Law or other laws administered by the
Bureau of Customs;
5)
Decisions of the Central Board of Assessment Appeals in the exercise of its
appellate jurisdiction over cases involving the assessment and taxation of real
property originally decided by the provincial or city board of assessment appeals;
6)
Decisions of the Secretary of Finance on customs cases elevated to him
automatically for review from decisions of the Commissioner of Customs which
are adverse to the Government under Section 2315 of the Tariff and Customs
Code;
7)
Decisions of the Secretary of Trade and Industry, in the case of nonagricultural
product, commodity or article, and the Secretary of Agriculture in the case of
agricultural product, commodity or article, involving dumping and
countervailing duties under Section 301 and 302, respectively, of the Tariff and
Customs Code, and safeguard measures under Republic Act No. 8800, where
either party may appeal the decision to impose or not to impose said duties.
The Court of Tax Appeals has undoubted jurisdiction to pass upon the
constitutionality or validity of a tax law or regulation when raised by the taxpayer
as a defense in disputing or contesting an assessment or claiming a refund. It is
only in the lawful exercise of its power to pass upon all matters brought before
it, as sanctioned by Section 7 of Republic Act No. 1125, as amended.
This Court, however, declares that the Court of Tax Appeals may likewise take
cognizance of cases directly challenging the constitutionality or validity of a tax
law or regulation or administrative issuance (revenue orders, revenue
memorandum circulars, rulings).
Section 7 of Republic Act No. 1125, as amended, is explicit that, except for local
taxes, appeals from the decisions of quasi-judicial agencies (Commissioner of
Internal Revenue, Commissioner of Customs, Secretary of Finance, Central
Board of Assessment Appeals, Secretary of Trade and Industry) on tax-related
problems must be brought exclusively to the Court of Tax Appeals.
In other words, within the judicial system, the law intends the Court of Tax
Appeals to have exclusive jurisdiction to resolve all tax problems. Petitions for
writs of certiorari against the acts and omissions of the said quasi-judicial
agencies should, thus, be filed before the Court of Tax Appeals.
Republic Act No. 9282, a special and later law than Batas Pambansa Blg. 129
provides an exception to the original jurisdiction of the Regional Trial Courts over
actions questioning the constitutionality or validity of tax laws or regulations.
Except for local tax cases, actions directly challenging the constitutionality or
validity of a tax law or regulation or administrative issuance may be filed directly
before the Court of Tax Appeals.
Furthermore, with respect to administrative issuances (revenue orders, revenue

memorandum circulars, or rulings), these are issued by the Commissioner under
its power to make rulings or opinions in connection with the implementation of
the provisions of internal revenue laws. Tax rulings, on the other hand, are
official positions of the Bureau on inquiries of taxpayers who request clarification
on certain provisions of the National Internal Revenue Code, other tax laws, or
their implementing regulations. Hence, the determination of the validity of these
issuances clearly falls within the exclusive appellate jurisdiction of the Court of
Tax Appeals under Section 7(1) of Republic Act No. 1125, as amended, subject
to prior review by the Secretary of Finance, as required under Republic Act No.
8424.55
A direct invocation of this Court's jurisdiction should only be allowed when there
are special, important and compelling reasons clearly and specifically spelled out
in the petition.56
Nevertheless, despite the procedural infirmities of the petitions that warrant

their outright dismissal, the Court deems it prudent, if not crucial, to take
cognizance of, and accordingly act on, the petitions as they assail the validity of
the actions of the CIR that affect thousands of employees in the different
government agencies and instrumentalities. The Court, following recent
jurisprudence, avails itself of its judicial prerogative in order not to delay the
disposition of the case at hand and to promote the vital interest of justice. As the
Court held in Bloomberry Resorts and Hotels, Inc. v. Bureau of Internal
Revenue:57
From the foregoing jurisprudential pronouncements, it would appear that in

questioning the validity of the subject revenue memorandum circular, petitioner
should not have resorted directly before this Court considering that it appears
to have failed to comply with the doctrine of exhaustion of administrative
remedies and the rule on hierarchy of courts, a clear indication that the case
was not yet ripe for judicial remedy. Notably, however, in addition to the
justifiable grounds relied upon by petitioner for its immediate recourse (i.e., pure
question of law, patently illegal act by the BIR, national interest, and prevention
of multiplicity of suits), we intend to avail of our jurisdictional prerogative in
order not to further delay the disposition of the issues at hand, and also to
promote the vital interest of substantial justice. To add, in recent years, this
Court has consistently acted on direct actions assailing the validity of various
revenue regulations, revenue memorandum circulars, and the likes, issued by
the CIR. The position we now take is more in accord with latest jurisprudence. x
x x 58
II.
Substantive
The petitions assert that the CIR's issuance of RMO No. 23-2014, particularly
Sections III, IV, VI and VII thereof, is tainted with grave abuse of discretion. "By
grave abuse of discretion is meant, such capricious and whimsical exercise of
judgment as is equivalent to lack of jurisdiction."59 It is an evasion of a positive
duty or a virtual refusal to perform a duty enjoined by law or to act in
contemplation of law as when the judgment rendered is not based on law and
evidence but on caprice, whim and despotism.60
As earlier stated, Section 4 of the NIRC of 1997, as amended, grants the CIR the
power to issue rulings or opinions interpreting the provisions of the NIRC or
other tax laws. However, the CIR cannot, in the exercise of such power, issue
administrative rulings or circulars inconsistent with the law sought to be
applied. Indeed, administrative issuances must not override, supplant or modify
the law, but must remain consistent with the law they intend to carry out.61 The
courts will not countenance administrative issuances that override, instead of
remaining consistent and in harmony with the law they seek to apply and
implement.62 Thus, in Philippine Bank of Communications v. Commissioner of
Internal Revenue,63 the Court upheld the nullification of RMC No. 7-85 issued
by the Acting Commissioner of Internal Revenue because it was contrary to the
express provision of Section 230 of the NIRC of 1977.
Also, in Banco de Oro v. Republic,64 the Court nullified BIR Ruling Nos. 370-
2011 and DA 378-2011 because they completely disregarded the 20 or more-
lender rule added by Congress in the NIRC of 1997, as amended, and created a
distinction for government debt instruments as against those issued by private
corporations when there was none in the law.65
Conversely, if the assailed administrative rule conforms with the law sought to
be implemented, the validity of said issuance must be upheld. Thus, in The
Philippine American Life and General Insurance Co. v. Secretary of Finance,66
the Court declared valid Section 7 (c.2.2) of RR No. 06-08 and RMC No. 25-11,
because they merely echoed Section 100 of the NIRC that the amount by which
the fair market value of the property exceeded the value of the consideration
shall be deemed a gift; thus, subject to donor's tax.67
In this case, the Court finds the petitions partly meritorious only insofar as
Section VI of the assailed RMO is concerned. On the other hand, the Court
upholds the validity of Sections III, IV and VII thereof as these are in fealty to the
provisions of the NIRC of 1997, as amended, and its implementing rules.
Sections III and IV of RMO No. 23-2014 are valid.

Compensation income is the income of the individual taxpayer arising from
services rendered pursuant to an employer-employee relationship.68 Under the
NIRC of 1997, as amended, every form of compensation for services, whether
paid in cash or in kind, is generally subject to income tax and consequently to
withholding tax.69 The name designated to the compensation income received
by an employee is immaterial.70 Thus, salaries, wages, emoluments and
honoraria, allowances, commissions, fees, (including director's fees, if the
director is, at the same time, an employee of the employer/corporation), bonuses,
fringe benefits (except those subject to the fringe benefits tax under Section 33
of the Tax Code), pensions, retirement pay, and other income of a similar nature,
constitute compensation income71 that are taxable and subject to withholding.
The withholding tax system was devised for three primary reasons, namely: (1)
to provide the taxpayer a convenient manner to meet his probable income tax
liability; (2) to ensure the collection of income tax which can otherwise be lost or
substantially reduced through failure to file the corresponding returns; and (3)
to improve the government's cash flow.72 This results in administrative savings,
prompt and efficient collection of taxes, prevention of delinquencies and
reduction of governmental effort to collect taxes through more complicated
means and remedies.73
Section 79(A) of the NIRC of 1997, as amended, states:
SEC. 79. Income Tax Collected at Source. –
(A) Requirement of Withholding - Except in the case of a minimum wage earner

as defined in Section 22(HH) of this Code, every employer making payment of
wages shall deduct and withhold upon such wages a tax determined in
accordance with the rules and regulations to be prescribed by the Secretary of
Finance, upon recommendation of the Commissioner.74
In relation to the foregoing, Section 2.78 of RR No. 2-98,75 as amended, issued

by the Secretary of Finance to implement the withholding tax system under the
NIRC of 1997, as amended, provides:
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
receipt of the income. It applies to all employed individuals whether citizens or
aliens, deriving income from compensation for services rendered in the
Philippines. The employer is constituted as the withholding agent.76
Section 2.78.3 of RR No. 2-98 further states that the term employee "covers all
employees, including officers and employees, whether elected or appointed, of
the Government of the Philippines, or any political subdivision thereof or any
agency or instrumentality"; while an employer, as Section 2.78.4 of the same
regulation provides, "embraces not only an individual and an organization
engaged in trade or business, but also includes an organization exempt from
income tax, such as charitable and religious organizations, clubs, social
organizations and societies, as well as the Government of the Philippines,
including its agencies, instrumentalities, and political subdivisions."
The law is therefore clear that withholding tax on compensation applies to the
Government of the Philippines, including its agencies, instrumentalities, and
political subdivisions. The Government, as an employer, is constituted as the
withholding agent, mandated to deduct, withhold and remit the corresponding
tax on compensation income paid to all its employees.
However, not all income payments to employees are subject to withholding tax.
The following allowances, bonuses or benefits, excluded by the NIRC of 1997, as
amended, from the employee's compensation income, are exempt from
withholding tax on compensation:
Retirement benefits received under RA No. 7641 and those received by officials
and employees of private firms, whether individual or corporate, under a
reasonable private benefit plan maintained by the employer subject to the
requirements provided by the Code [Section 32(B)(6)(a) of the NIRC of 1997, as
amended and Section 2.78.1(B)(1)(a) of RR No. 2-98];
Any amount received by an official or employee or by his heirs from the employer
due to death, sickness or other physical disability or for any cause beyond the
control of the said official or employee, such as retrenchment, redundancy, or
cessation of business [Section 32(B)(6)(b) of the NIRC of 1997, as amended and
Section 2.78.1(B)(1)(b) of RR No. 2-98];
Social security benefits, retirement gratuities, pensions and other similar

benefits received by residents or non-resident citizens of the Philippines or aliens
who come to reside permanently in the Philippines from foreign government
agencies and other institutions private or public [Section 32(B)(6)(c) of the NIRC
of 1997, as amended and Section 2.78.1(B)(1)(c) of RR No. 2-98];
Payments of benefits due or to become due to any person residing in the

Philippines under the law of the United States administered by the United States
Veterans Administration [Section 32(B)(6)(d) of the NIRC of 1997, as amended
and Section 2.78.1(B)(1)(d) of RR No. 2-98];
Payments of benefits made under the Social Security System Act of 1954 as
amended [Section 32(B)(6)(e) of the NIRC of 1997, as amended and Section
2.78.1(B)(1)(e) of RR No. 2-98];
Benefits received from the GSIS Act of 1937, as amended, and the retirement
gratuity received by government officials and employees [Section 32(B)(6)(f) of the
NIRC of 1997, as amended and Section 2.78.1(B)(1)(f) of RR No.2- 98];
Thirteenth (13th) month pay and other benefits received by officials and
employees of public and private entities not exceeding P82,000.00 [Section
32(B)(7)(e) of the NIRC of 1997, as amended, and Section 2.78.1(8)(11) of RR No.
2-98, as amended by RR No. 03-15];
GSIS, SSS, Medicare and Pag-Ibig contributions, and union dues of individual
employees [Section 32(B)(7)(f) of the NIRC of 1997, as amended and Section
2.78.1(8)(12) of RR No. 2-98];
Remuneration paid for agricultural labor [Section 2.78.1 (B)(2) of RR No. 2-98];
Remuneration for domestic services [Section 28, RA No. 10361 and Section
2.78.1 (B)(3) of RR No. 2-98];
Remuneration for casual labor not in the course of an employer's trade or

business [Section 2.78.1(8)(4) of RR No. 2-98];
Remuneration not more than the statutory minimum wage and the holiday pay,
overtime pay, night shift differential pay and hazard pay received by Minimum
Wage Earners [Section 24(A)(2) of the NIRC of 1997, as amended];
Compensation for services by a citizen or resident of the Philippines for a foreign

government or an international organization [Section 2.78.1(8)(5) of RR No. 2-
98];
Actual, moral, exemplary and nominal damages received by an employee or his

heirs pursuant to a final judgment or compromise agreement arising out of or
related to an employer-employee relationship [Section 32(B)(4) of the NIRC of
1997, as amended and Section 2.78.1 (B)(6) of RR No. 2-98];
The proceeds of life insurance policies paid to the heirs or beneficiaries upon the
death of the insured, whether in a single sum or otherwise, provided however,
that interest payments agreed under the policy for the amounts which are held
by the insured under such an agreement shall be included in the gross income
[Section 32(B)(1) of the NIRC of 1997, as amended and Section 2.78.1 (B)(7) of
RR No. 2-98];
The amount received by the insured, as a return of premium or premiums paid
by him under life insurance, endowment, or annuity contracts either during the
term or at the maturity of the term mentioned in the contract or upon surrender
of the contract [Section 32(8)(2) of the NIRC of 1997, as amended and Section
2.78.1(B)(8) of RR No. 2-98];
Amounts received through Accident or Health Insurance or under Workmen's

Compensation Acts, as compensation for personal injuries or sickness, plus the
amount of any damages received whether by suit or agreement on account of
such injuries or sickness [Section 32(8)(4) of the NIRC of 1997, as amended and
Section 2.78.1(8)(9) of RR No. 2-98];
Income of any kind to the extent required by any treaty obligation binding upon
the Government of the Philippines [Section 32(8)(5) of the NIRC of 1997, as
amended and Section 2.78.1(B)(10) of RR No. 2-98];
Fringe and De minimis Benefits. [Section 33(C) of the NIRC of 1997, as amended);
and
Other income received by employees which are exempt under special laws (RATA
granted to public officers and employees under the General Appropriations Act
and Personnel Economic Relief Allowance granted to government personnel).
Petitioners assert that RMO No. 23-2014 went beyond the provisions of the NIRC
of 1997, as amended, insofar as Sections III and IV thereof impose new or
additional taxes to allowances, benefits or bonuses granted to government
employees. A closer look at the assailed Sections, however, reveals otherwise.
For reference, Sections III and IV of RMO No. 23-2014 read, as follows:
III. OBLIGATION TO WITHHOLD ON COMPENSATION PAID TO GOVERNMENT

OFFICIALS AND EMPLOYEES
As an employer, government offices including government-owned or controlled

corporations (such as but not limited to the Bangko Sentral ng Pilipinas,
Metropolitan Waterworks and Sewerage System, Philippine Deposit Insurance
Corporation, Government Service Insurance System, Social Security System), as
well as provincial, city and municipal governments are constituted as
withholding agents for purposes of the creditable tax required to be withheld
from compensation paid for services of its employees.
Under Section 32(A) of the NIRC of 1997, as amended, compensation for services,
in whatever form paid and no matter how called, form part of gross income.
Compensation income includes, among others, salaries, fees, wages,
emoluments and honoraria, allowances, commissions (e.g. transportation,
representation, entertainment and the like); fees including director's fees, if the
director is, at the same time, an employee of the employer/corporation; taxable
bonuses and fringe benefits except those which are subject to the fringe benefits
tax under Section 33 of the NIRC; taxable pensions and retirement pay; and
other income of a similar nature.
The foregoing also includes allowances, bonuses, and other benefits of similar
nature received by officials and employees of the Government of the Republic of
the Philippines or any of its branches, agencies and instrumentalities, its
political subdivisions, including government-owned and/or controlled
corporations (herein referred to as officials and employees in the public sector)
which are composed of (but are not limited to) the following:
Allowances, bonuses, honoraria or benefits received by employees and officials

in the Legislative Branch, such as anniversary bonus, Special Technical
Assistance Allowance, Efficiency Incentive Benefits, Additional Food Subsidy,
Eight[h] (8th) Salary Range Level Allowance, Hospitalization Benefits, Medical
Allowance, Clothing Allowance, Longevity Pay, Food Subsidy, Transition
Allowance, Cost of Living Allowance, Inflationary Adjustment Assistance, Mid-
Year Economic Assistance, Financial Relief Assistance, Grocery Allowance,
Thirteenth (13th Month Pay, Cash Gift and Productivity Incentive Benefit and
other allowances, bonuses and benefits given by the Philippine Senate and
House of Representatives to their officials and employees, subject to the
exemptions enumerated herein.

in the Judicial Branch, such as the Additional Compensation (ADCOM),
Extraordinary and Miscellaneous Expenses (EME), Monthly Special Allowance
from the Special Allowance for the Judiciary, Additional Cost of Living Allowance
from the Judiciary Development Fund, Productivity Incentive Benefit, Grocery
Allowance, Clothing Allowance, Emergency Economic Allowance, Year-End
Bonus, Cash Gift, Loyalty Cash Award (Milestone Bonus), SC Christmas
Allowance, anniversary bonuses and other allowances, bonuses and benefits
given by the Supreme Court of the Philippines and all other courts and offices
under the Judicial Branch to their officials and employees, subject to the
Compensation for services in whatever form paid, including, but not limited to
allowances, bonuses, honoraria or benefits received by employees and officials
in the Constitutional bodies (Commission on Election, Commission on Audit,
Civil Service Commission) and the Office of the Ombudsman, subject to the

in the Executive Branch, such as the Productivity Enhancement Incentive (PEI),
Performance-Based Bonus, anniversary bonus and other allowances, bonuses
and benefits given by the departments, agencies and other offices under the
Executive Branch to their officials and employees, subject to the exemptions
enumerated herein.
Any amount paid either as advances or reimbursements for expenses incurred
or reasonably expected to be incurred by the official and employee in the
performance of his/her duties are not compensation subject to withholding, if
the following conditions are satisfied:
The employee was duly authorized to incur such expenses on behalf of the
government; and
Compliance with pertinent laws and regulations on accounting and liquidation

of advances and reimbursements, including, but not limited to withholding tax
rules. The expenses should be duly receipted for and in the name of the
government office concerned.
Other than those pertaining to intelligence funds duly appropriated and
liquidated, any amount not in compliance with the foregoing requirements shall
be considered as part of the gross taxable compensation income of the taxpayer.
Intelligence funds not duly appropriated and not properly liquidated shall form
part of the compensation of the government officials/personnel concerned,
unless returned.
IV. NON-TAXABLE COMPENSATION INCOME – Subject to existing laws and

issuances, the following income received by the officials and employees in the
public sector are not subject to income tax and withholding tax on compensation:
Thirteenth (13th Month Pay and Other Benefits not exceeding Thirty Thousand
Pesos (P30,000.00) paid or accrued during the year. Any amount exceeding
Thirty Thousand Pesos (P30,000.00) are taxable compensation. This includes:
Benefits received by officials and employees of the national and local government
pursuant to Republic Act no. 6686 ("An Act Authorizing Annual Christmas
Bonus to National and Local Government Officials and Employees Starting CY
1998");
Benefits received by employees pursuant to Presidential Decree No. 851

("Requiring All Employers to Pay Their Employees a 13th Month Pay"), as
amended by Memorandum Order No. 28, dated August 13, 1986;
Benefits received by officials and employees not covered by Presidential Decree

No. 851, as amended by Memorandum Order No. 28, dated August 19, 1986;
Other benefits such as Christmas bonus, productivity incentive bonus, loyalty

award, gift in cash or in kind and other benefits of similar nature actually
received by officials and employees of government offices, including the
additional compensation allowance (ACA) granted and paid to all officials and
employees of the National Government Agencies (NGAs) including state
universities and colleges (SUCs), government-owned and/or controlled
corporations (GOCCs), government financial institutions (GFIs) and Local
Government Units (LGUs).
Facilities and privileges of relatively small value or "De Minimis Benefits" as

defined in existing issuances and conforming to the ceilings prescribed therein;
Fringe benefits which are subject to the fringe benefits tax under Section 33 of
the NIRC, as amended;
Representation and Transportation Allowance (RATA) granted to public officers

and employees under the General Appropriations Act;
Personnel Economic Relief Allowance (PERA) granted to government personnel;
The monetized value of leave credits paid to government officials and employees;
Mandatory/compulsory GSIS, Medicare and Pag-Ibig Contributions, provided

that, voluntary contributions to these institutions in excess of the amount
considered mandatory/compulsory are not excludible from the gross income of
the taxpayer and hence, not exempt from Income Tax and Withholding Tax;
Union dues of individual employees;
Compensation income of employees in the public sector with compensation

income of not more than the Statutory Minimum Wage (SMW) in the non-
agricultural sector applicable to the place where he/she is assigned;
Holiday pay, overtime pay, night shift differential pay, and hazard pay received
by Minimum Wage Earners (MWEs);
Benefits received from the GSIS Act of 1937, as amended, and the retirement
gratuity/benefits received by government officials and employees under
pertinent retirement laws;
All other benefits given which are not included in the above enumeration but are
exempted from income tax as well as withholding tax on compensation under
existing laws, as confirmed by BIR.77
Clearly, Sections III and IV of the assailed RMO do not charge any new or
additional tax. On the contrary, they merely mirror the relevant provisions of the
NIRC of 1997, as amended, and its implementing rules on the withholding tax
on compensation income as discussed above. The assailed Sections simply
reinforce the rule that every form of compensation for personal services received
by all employees arising from employer-employee relationship is deemed subject
to income tax and, consequently, to withholding tax,78 unless specifically
exempted or excluded by the Tax Code; and the duty of the Government, as an
employer, to withhold and remit the correct amount of withholding taxes due
thereon.
While Section III enumerates certain allowances which may be subject to

withholding tax, it does not exclude the possibility that these allowances may
fall under the exemptions identified under Section IV – thus, the phrase, "subject
to the exemptions enumerated herein." In other words, Sections III and IV
articulate in a general and broad language the provisions of the NIRC of 1997,
as amended, on the forms of compensation income deemed subject to
withholding tax and the allowances, bonuses and benefits exempted therefrom.
Thus, Sections III and IV cannot be said to have been issued by the CIR with
grave abuse of discretion as these are fully in accordance with the provisions of
the NIRC of 1997, as amended, and its implementing rules.
Furthermore, the Court finds untenable petitioners' contention that the assailed
provisions of RMO No. 23-2014 contravene the equal protection clause, fiscal
autonomy, and the rule on non-diminution of benefits.
The constitutional guarantee of equal protection is not violated by an executive

issuance which was issued to simply reinforce existing taxes applicable to both
the private and public sector. As discussed, the withholding tax system embraces
not only private individuals, organizations and corporations, but also covers
organizations exempt from income tax, including the Government of the
Philippines, its agencies, instrumentalities, and political subdivisions. While the
assailed RMO is a directive to the Government, as a reminder of its obligation as
a withholding agent, it did not, in any manner or form, alter or amend the
provisions of the Tax Code, for or against the Government or its employees.
Moreover, the fiscal autonomy enjoyed by the Judiciary, Ombudsman, and

Constitutional Commissions, as envisioned in the Constitution, does not grant
immunity or exemption from the common burden of paying taxes imposed by
law. To borrow former Chief Justice Corona's words in his Separate Opinion in
Francisco, Jr. v. House of Representatives,79 "fiscal autonomy entails freedom
from outside control and limitations, other than those provided by law. It is the
freedom to allocate and utilize funds granted by law, in accordance with law and
pursuant to the wisdom and dispatch its needs may require from time to time."80
It bears to emphasize the Court's ruling in Nitafan v. Commissioner of Internal

Revenue81 that the imposition of taxes on salaries of Judges does not result in
diminution of benefits. This applies to all government employees because the
intent of the framers of the Organic Law and of the people adopting it is "that all
citizens should bear their aliquot part of the cost of maintaining the government
and should share the burden of general income taxation equitably."82
Determination of existence of fringe benefits is a question of fact.

Petitioners, nonetheless, insist that the allowances, bonuses and benefits
enumerated in Section III of the assailed RMO are, in fact, fringe and de minimis
benefits exempt from withholding tax on compensation. The Court cannot,
however, rule on this issue as it is essentially a question of fact that cannot be
determined in this petition questioning the constitutionality of the RMO.
To be sure, settled is the rule that exemptions from tax are construed strictissimi
juris against the taxpayer and liberally in favor of the taxing authority.83 One
who claims tax exemption must point to a specific provision of law conferring, in
clear and plain terms, exemption from the common burden84 and prove,
through substantial evidence, that it is, in fact, covered by the exemption so
claimed.85 The determination, therefore, of the merits of petitioners' claim for
tax exemption would necessarily require the resolution of both legal and factual
issues, which this Court, not being a trier of facts, has no jurisdiction to do; more
so, in a petition filed at first instance.
Among the factual issues that need to be resolved, at the first instance, is the
nature of the fringe benefits granted to employees. The NIRC of 1997, as
amended, does not impose income tax, and consequently a withholding tax, on
payments to employees which are either (a) required by the nature of, or
necessary to, the business of the employer; or (b) for the convenience or
advantage of the employer.86 This, however, requires proper documentation.
Without any documentary proof that the payment ultimately redounded to the
benefit of the employer, the same shall be considered as a taxable benefit to the
employee, and hence subject to withholding taxes.87
Another factual issue that needs to be confirmed is the recipient of the alleged
fringe benefit. Fringe benefits furnished or granted, in cash or in kind, by an
employer to its managerial or supervisory employees, are not considered part of
compensation income; thus, exempt from withholding tax on compensation.88
Instead, these fringe benefits are subject to a fringe benefit tax equivalent to 32%
of the grossed-up monetary value of the benefit, which the employer is legally
required to pay.89 On the other hand, fringe benefits given to rank and file
employees, while exempt from fringe benefit tax,90 form part of compensation
income taxable under the regular income tax rates provided in Section 24(A)(2)
of the NIRC, of 1997, as amended;91 and consequently, subject to withholding
tax on compensation.
Furthermore, fringe benefits of relatively small value furnished by the employer

to his employees (both managerial/supervisory and rank and file) as a means of
promoting health, goodwill, contentment, or efficiency, otherwise known as de
minimis benefits, that are exempt from both income tax on compensation and
fringe benefit tax; hence, not subject to withholding tax,92 are limited and
exclusive only to those enumerated under RR No. 3-98, as amended.93 All other
benefits given by the employer which are not included in the said list, although
of relatively small value, shall not be considered as de minimis benefits; hence,
shall be subject to income tax as well as withholding tax on compensation
income, for rank and file employees, or fringe benefits tax for managerial and
supervisory employees, as the case may be.94
Based on the foregoing, it is clear that to completely determine the merits of

petitioners' claimed exemption from withholding tax on compensation, under
Section 33 of the NIRC of 1997, there is a need to confirm several factual issues.
As such, petitioners cannot but first resort to the proper courts and
administrative agencies which are better equipped for said task.
All told, the Court finds Sections III and IV of the assailed RMO valid. The NIRC
of 1997, as amended, is clear that all forms of compensation income received by
the employee from his employer are presumed taxable and subject to withholding
taxes. The Government of the Philippines, its agencies, instrumentalities, and
political subdivisions, as an employer, is required by law to withhold and remit
to the BIR the appropriate taxes due thereon. Any claims of exemption from
withholding taxes by an employee, as in the case of petitioners, must be brought
and resolved in the appropriate administrative and judicial proceeding, with the
employee having the burden to prove the factual and legal bases thereof.
Section VII of RMO No. 23-2014 is valid; Section VI contravenes, in part, the
provisions of the NIRC of 1997, as amended, and its implementing rules.
Petitioners claim that RMO No. 23-2014 is ultra vires insofar as Sections VI and
VII thereof define new offenses and prescribe penalties therefor, particularly
upon government officials.
The NIRC of 1997, as amended, clearly provides the offenses and penalties
relevant to the obligation of the withholding agent to deduct, withhold and remit
the correct amount of withholding taxes on compensation income, to wit:
TITLE X
Statutory Offenses and Penalties
CHAPTER I
Additions to the Tax
SEC. 247. General Provisions. –
(a) The additions to the tax or deficiency tax prescribed in this Chapter shall
apply to all taxes, fees and charges imposed in this Code. The amount so added
to the tax shall be collected at the same time, in the same manner and as part
of the tax.
(b) If the withholding agent is the Government or any of its agencies, political
subdivisions or instrumentalities, or a government- owned or -controlled
corporation, the employee thereof responsible for the withholding and remittance
of the tax shall be personally liable for the additions to the tax prescribed herein.
(c) The term "person", as used in this Chapter, includes an officer or employee of
a corporation who as such officer, employee or member is under a duty to
perform the act in respect of which the violation occurs.
SEC. 248. Civil Penalties. — x x x95
SEC. 249. Interest. – x x x96
xxxx
SEC. 251. Failure of a Withholding Agent to Collect and Remit Tax. – Any person
required to withhold, account for, and remit any tax imposed by this Code or
who willfully fails to withhold such tax, or account for and remit such tax, or
aids or abets in any manner to evade any such tax or the payment thereof, shall,
in addition to other penalties provided for under this Chapter, be liable upon
conviction to a penalty equal to the total amount of the tax not withheld, or not
accounted for and remitted.97
SEC. 252. Failure of a Withholding Agent to Refund Excess Withholding Tax. –

Any employer/withholding agent who fails or refuses to refund excess
withholding tax shall, in addition to the penalties provided in this Title, be liable
to a penalty equal to the total amount of refunds which was not refunded to the
employee resulting from any excess of the amount withheld over the tax actually
due on their return.
CHAPTER II
Crimes, Other Offenses and Forfeitures
xxxx
SEC. 255. Failure to File Return, Supply Correct and Accurate Information, Pay
Tax, Withhold and Remit Tax and Refund Excess Taxes Withheld on
Compensation. – Any person required under this Code or by rules and
regulations promulgated thereunder to pay any tax, make a return, keep any
record, or supply correct and accurate information, who willfully fails to pay such
tax, make such return, keep such record, or supply such correct and accurate
information, or withhold or remit taxes withheld, or refund excess taxes withheld
on compensation, at the time or times required by law or rules and regulations
shall, in addition to other penalties provided by law, upon conviction thereof, be
punished by a fine of not less than Ten thousand pesos (P10,000) and suffer
imprisonment of not less than one (l) year but not more than ten (10) years.
CHAPTER III
Penalties Imposed on Public Officers
xxxx
SEC. 272. Violation of Withholding Tax Provision. – Every officer or employee of

the Government of the Republic of the Philippines or any of its agencies and
instrumentalities, its political subdivisions, as well as government-owned or -
controlled corporations, including the Bangko Sentral ng Pilipinas (BSP), who,
under the provisions of this Code or rules and regulations promulgated
thereunder, is charged with the duty to deduct and withhold any internal
revenue tax and to remit the same in accordance with the provisions of this Code
and other laws is guilty of any offense hereinbelow specified shall, upon
conviction for each act or omission be punished by a fine of not less than Five
thousand pesos (P5,000) but not more than Fifty thousand pesos (P50,000) or
suffer imprisonment of not less than six (6) months and one day (1) but not more
than two (2) years, or both:
(a) Failing or causing the failure to deduct and withhold any internal revenue tax
under any of the withholding tax laws and implementing rules and regulations;
(b) Failing or causing the failure to remit taxes deducted and withheld within the
time prescribed by law, and implementing rules and regulations; and
(c) Failing or causing the failure to file return or statement within the time
prescribed, o rendering or furnishing a false or fraudulent return or statement
required under the withholding tax laws and rules and regulations.98
Based on the foregoing, and similar to Sections III and IV of the assailed RMO,
the Court finds that Section VII thereof was issued in accordance with the
provisions of the NIRC of 1997, as amended, and RR No. 2-98. For easy reference,
Section VII of RMO No. 23-2014 states:
VII. PENALTY PROVISION
In case of non-compliance with their obligation as withholding agents, the

abovementioned persons shall be liable for the following sanctions:
Failure to Collect and Remit Taxes (Section 251, NIRC) "Any person required to
withhold, account for, and remit any tax imposed by this Code or who willfully
fails to withhold such tax, or account for and remit such tax, or aids or abets in
any manner to evade any such tax or the payment thereof, shall, in addition to
other penalties provided for under this Chapter, be liable upon conviction to a
penalty equal to the total amount of the tax not withheld, or not accounted for
and remitted."
Failure to File Return, Supply Correct and Accurate Information, Pay Tax
Withhold and Remit Tax and Refund Excess Taxes Withheld on Compensation
(Section 255, NIRC) "Any person required under this Code or by rules and
regulations promulgated thereunder to pay any tax make a return, keep any
record, or supply correct the accurate information, who willfully fails to pay such
tax, make such return, keep such record, or supply correct and accurate
information, or withhold or remit taxes withheld, or refund excess taxes withheld
on compensation, at the time or times required by law or rules and regulations
shall, in addition to other penalties provided by law, upon conviction thereof, be
punished by a fine of not less than Ten thousand pesos (P10,000) and suffer
imprisonment of not less than one (1) year but not more than ten (10) years.
Any person who attempts to make it appear for any reason that he or another
has in fact filed a return or statement, or actually files a return or statement and
subsequently withdraws the same return or statement after securing the official
receiving seal or stamp of receipt of internal revenue office wherein the same was
actually filed shall, upon conviction therefor, be punished by a fine of not less
than Ten thousand pesos (P10,000) but not more than Twenty thousand pesos
(P20,000) and suffer imprisonment of not less than one (1) year but not more
than three (3) years."
Violation of Withholding Tax Provisions (Section 272, NIRC)

"Every officer or employee of the Government of the Republic of the Philippines
or any of its agencies and instrumentalities, its political subdivisions, as well as
government-owned or controlled corporations, including the Bangko Sentral ng
Pilipinas (BSP), who is charged with the duty to deduct and withhold any internal
revenue tax and to remit the same is guilty of any offense herein below specified
shall, upon conviction for each act or omission be punished by a fine of not less
than Five thousand pesos (P5,000) but not more than Fifty thousand pesos
(P50,000) or suffer imprisonment of not less than six (6) months and one (1) day
but not more than two (2) years, or both:
Failing or causing the failure to deduct and withhold any internal revenue tax
under any of the withholding tax laws and implementing rules and regulations;
or
Failing or causing the failure to remit taxes deducted and withheld within the
time prescribed by law, and implementing rules and regulations; or
Failing or causing the failure to file return or statement within the time
prescribed, or rendering or furnishing a false or fraudulent return or statement
required under the withholding tax laws and rules and regulations."
All revenue officials and employees concerned shall take measures to ensure the
full enforcement of the provisions of this Order and in case of any violation
thereof, shall commence the appropriate legal action against the erring
withholding agent.
Verily, tested against the provisions of the NIRC of 1997, as amended, Section
VII of RMO No. 23-2014 does not define a crime and prescribe a penalty therefor.
Section VII simply mirrors the relevant provisions of the NIRC of 1997, as
amended, on the penalties for the failure of the withholding agent to withhold
and remit the correct amount of taxes, as implemented by RR No. 2-98.
However, with respect to Section VI of the assailed RMO, the Court finds that the
CIR overstepped the boundaries of its authority to interpret existing provisions
of the NIRC of 1997, as amended.
Section VI of RMO No. 23-2014 reads:
VI. PERSONS RESPONSIBLE FOR WITHHOLDING
The following officials are duty bound to deduct, withhold and remit taxes:
a)
For Office of the Provincial Government-province- the Chief Accountant,
Provincial Treasurer and the Governor;
b)
For Office of the City Government-cities- the Chief Accountant, City Treasurer
and the City Mayor;
c)
For Office of the Municipal Government-municipalities- the Chief Accountant,
Municipal Treasurer and the Mayor;
d)
Office of the Barangay-Barangay Treasurer and Barangay Captain
e)
For NGAs, GOCCs and other Government Offices, the Chief Accountant and the
Head of Office or the Official holding the highest position (such as the President,
Chief Executive Officer, Governor, General Manager).
To recall, the Government of the Philippines, or any political subdivision or
agency thereof, or any GOCC, as an employer, is constituted by law as the
withholding agent, mandated to deduct, withhold and remit the correct amount
of taxes on the compensation income received by its employees. In relation
thereto, Section 82 of the NIRC of 1997, as amended, states that the return of
the amount deducted and withheld upon any wage paid to government
employees shall be made by the officer or employee having control of the
payments or by any officer or employee duly designated for such purpose.99
Consequently, RR No. 2-98 identifies the Provincial Treasurer in provinces, the
City Treasurer in cities, the Municipal Treasurer in municipalities, Barangay
Treasurer in barangays, Treasurers of government-owned or -controlled
corporations (GOCCs), and the Chief Accountant or any person holding similar
position and performing similar function in national government offices, as
persons required to deduct and withhold the appropriate taxes on the income
payments made by the government.100
However, nowhere in the NIRC of 1997, as amended, or in RR No. 2-98, as

amended, would one find the Provincial Governor, Mayor, Barangay Captain and
the Head of Government Office or the "Official holding the highest position (such
as the President, Chief Executive Officer, Governor, General Manager)" in an
Agency or GOCC as one of the officials required to deduct, withhold and remit
the correct amount of withholding taxes. The CIR, in imposing upon these
officials the obligation not found in law nor in the implementing rules, did not
merely issue an interpretative rule designed to provide guidelines to the law
which it is in charge of enforcing; but instead, supplanted details thereon — a
power duly vested by law only to respondent Secretary of Finance under Section
244 of the NIRC of 1997, as amended.
Moreover, respondents' allusion to previous issuances of the Secretary of

Finance designating the Governor in provinces, the City Mayor in cities, the
Municipal Mayor in municipalities, the Barangay Captain in barangays, and the
Head of Office (official holding the highest position) in departments, bureaus,
agencies, instrumentalities, government-owned or -controlled corporations, and
other government offices, as officers required to deduct and withhold,101 is
bereft of legal basis. Since the 1977 NIRC and Executive Order No. 651, which
allegedly breathed life to these issuances, have already been repealed with the
enactment of the NIRC of 1997, as amended, and RR No. 2-98, these previous
issuances of the Secretary of Finance have ceased to have the force and effect of
law.
Accordingly, the Court finds that the CIR gravely abused its discretion in issuing
Section VI of RMO No. 23-2014 insofar as it includes the Governor, City Mayor,
Municipal Mayor, Barangay Captain, and Heads of Office in agencies, GOCCs,
and other government offices, as persons required to withhold and remit
withholding taxes, as they are not among those officials designated by the 1997
NIRC, as amended, and its implementing rules.
Petition for Mandamus is moot and academic.

As regards the prayer for the issuance of a writ of mandamus to compel
respondents to increase the P30,000.00 non-taxable income ceiling, the same
has already been rendered moot and academic due to the enactment of RA No.
10653.102
The Court takes judicial notice of RA No. 10653, which was signed into law on
February 12, 2015, which increased the income tax exemption for 13th month
pay and other benefits, under Section 32(B)(7)(e) of the NIRC of 1997, as
amended, from P30,000.00 to P82,000.00.103 Said law also states that every
three (3) years after the effectivity of said Act, the President of the Philippines
shall adjust the amount stated therein to its present value using the Consumer
Price Index, as published by the National Statistics Office.104
Recently, RA No. 10963,105 otherwise known as the "Tax Reform for Acceleration
and Inclusion (TRAIN)" Act, further increased the income tax exemption for 13th
month pay and other benefits to P90,000.00.106
A case is considered moot and academic if it ceases to present a justiciable

controversy by virtue of supervening events, so that an adjudication of the case
or a declaration on the issue would be of no practical value or use. Courts
generally decline jurisdiction over such case or dismiss it on the ground of
mootness.107
With the enactment of RA Nos. 10653 and 10963, which not only increased the
tax exemption ceiling for 13th month pay and other benefits, as petitioners
prayed, but also conferred upon the President the power to adjust said amount,
a supervening event has transpired that rendered the resolution of the issue on
whether mandamus lies against respondents, of no practical value. Accordingly,
the petition for mandamus should be dismissed for being moot and academic.
As a final point, the Court cannot turn a blind eye to the adverse effects of this
Decision on ordinary government employees, including petitioners herein, who
relied in good faith on the belief that the appropriate taxes on all the income they
receive from their respective employers are withheld and paid. Nor does the Court
ignore the situation of the relevant officers of the different departments of
government that had believed, in good faith, that there was no need to withhold
the taxes due on the compensation received by said ordinary government
employees. Thus, as a measure of equity and compassionate social justice, the
Court deems it proper to clarify and declare, pro hac vice, that its ruling on the
validity of Sections III and IV of the assailed RMO is to be given only prospective
effect.108
WHEREFORE, premises considered, the Petitions and Petitions-in- Interventions

are PARTIALLY GRANTED. Section VI of Revenue Memorandum Order No. 23-
2014 is DECLARED null and void insofar as it names the Governor, City Mayor,
Municipal Mayor, Barangay Captain, and Heads of Office in government
agencies, government-owned or -controlled corporations, and other government
offices, as persons required to withhold and remit withholding taxes.
Sections III, IV and VII of RMO No. 23-2014 are DECLARED valid inasmuch as
they merely mirror the provisions of the National Internal Revenue Code of 1997,
as amended. However, the Court cannot rule on petitioners' claims of exemption
from withholding tax on compensation income because these involve issues that
are essentially factual or evidentiary in nature, which must be raised in the
appropriate administrative and/or judicial proceeding.
The Court's Decision upholding the validity of Sections III and IV of the assailed
RMO is to be applied only prospectively.
Finally, the Petition for Mandamus in G.R. No. 213446 is hereby DENIED on the
ground of mootness.
SO ORDERED.

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Table of Contents

HERNANDO B. CONWI, JAIME E. DY-LIACCO, VICENTE D. HERRERA, BENJAMIN T. ILDEFONSO,

HERNANDO B. CONWI, JAIME E. DY-LIACCO, VICENTE D. HERRERA,

G.R. No. 48533 August 31, 1992

ENRIQUE R. ABAD SANTOS, HERNANDO B. CONWI, TEDDY L. DIMAYUGA,

Respondent Commissioner filed his Answer to petitioners' petition for review in

Respondent Commissioner of Internal Revenue, on the other hand, refutes

Section 21 of the National Internal Revenue Code, before its amendment by

Petitioners are citizens of the Philippines temporarily residing abroad by virtue

Respondent Commissioner argues that CB Circular No. 289 speaks of receipts

Section 21 of the National Internal Revenue Code, amended up to August 4,

xxx xxx xxx

Pursuant to this authority, Revenue Memorandum Circular Nos. 7-71 10 and

Narvasa, C.J., Padilla and Regalado, JJ., concur.

Melo, J., took no part.

FREDERICK C. FISHER, Plaintiff-Appellant, vs. WENCESLAO TRINIDAD,

Chapter 463 of an Act of Congress of September 8, 1916, in its title 1 provides

It is further argued by the appellee that there are no constitutional limitations

It becomes necessary in this connection to ascertain what is an "income in order

To illustrate: A and B form a corporation with an authorized capital of P10,000

Another illustration: C and D organized a corporation for agricultural purposes

Each of the foregoing illustrations, it is asserted, is analogous to the case before

When a corporation or company issues "stock dividends" it shows that the

There is a clear distinction between an extraordinary cash dividend, no matter

There is a clear distinction between an extraordinary cash dividend, no matter

If the ownership of the property represented by a stock dividend is still in the

Araullo, C.J. Avanceña, Villamor and Romualdez, JJ., concur.

chanrobles virtual law library

It results, under the statute here in force, there being no constitutional

OSTRAND, J., dissenting:chanrobles virtual law library

Moreover, to constitute income, profits, or earnings need not necessarily be

The majority opinion in discussing this question, says:

Reverting to the question of the nature of income, it is argued that a stock

Malcolm, J., concurs.

----chanrobles virtual law library

JOHNS, J., dissenting:chanrobles virtual law library

For such reason, I dissent.

VICENTE MADRIGAL and his wife, SUSANA PATERNO, plaintiffs-appellants,

STATEMENT OF THE CASE.

The contentions of plaintiffs and appellants having to do solely with the

Income as contrasted with capital or property is to be the test. The essential

A regulation of the United States Treasury Department relative to returns by the

TREASURY DEPARTMENT, Washington.

By paragraph M of the statute, its provisions are extended to the Philippine

The statute and the regulations promulgated in accordance therewith provide

Torres, Johnson, Carson, Street and Fisher, JJ., concur.

COMMISSIONER OF INTERNAL REVENUE, petitioner, vs. THE COURT OF

Petitioner Commissioner of Internal Revenue (CIR) seeks the reversal of the

The undisputed facts are as follows:

On September 12, 1945, ANSCOR's authorized capital stock was increased to

By 1947, ANSCOR declared stock dividends. Other stock dividend declarations

On June 30, 1968, pursuant to a Board Resolution, ANSCOR redeemed 28,000

In 1973, after examining ANSCOR's books of account and records, Revenue

Sec. 83. Distribution of dividends or assets by corporations. —

(b) Stock dividends — A stock dividend representing the transfer of surplus to

Specifically, the issue is whether ANSCOR's redemption of stocks from its

Petitioner contends that the exchange transaction a tantamount to "cancellation"

1. In all cases of voluntary disclosures of previously untaxed income and/or

Not being a taxpayer, a withholding agent, like ANSCOR in this transaction is

Furthermore, ANSCOR's claim of amnesty cannot prosper. The implementing

xxx xxx xxx

(2) Tax liabilities with or without assessments, on withholding tax at source

TAX ON STOCK DIVIDENDS

However, if a corporation cancels or redeems stock issued as a dividend at such