TAX Loss

1.
CIR VS CENTRAL LUZON DRUG CORP

The 20 percent discount required by the law to be given to senior citizens is a tax credit, not merely a tax deduction from the gross income or gross sale of the
establishment concerned. A tax credit is used by a private establishment only after the tax has been computed; a tax deduction, before the tax is computed. RA 7432
unconditionally grants a tax credit to all covered entities. Thus, the provisions of the revenue regulation that withdraw or modify such grant are void. Basic is the rule
that administrative regulations cannot amend or revoke the law.

The Case
Before us is a Petition for Review [1] under Rule 45 of the Rules of Court, seeking to set aside the August 29, 2002 Decision [2] and the August 11, 2003
Resolution[3] of the Court of Appeals (CA) in CA-GR SP No. 67439. The assailed Decision reads as follows:

WHEREFORE, premises considered, the Resolution appealed from is AFFIRMED in toto. No costs.[4]
The assailed Resolution denied petitioners Motion for Reconsideration.

The Facts
The CA narrated the antecedent facts as follows:

Respondent is a domestic corporation primarily engaged in retailing of medicines and other pharmaceutical products. In 1996, it operated six
(6) drugstores under the business name and style Mercury Drug.

From January to December 1996, respondent granted twenty (20%) percent sales discount to qualified senior citizens on their purchases of
medicines pursuant to Republic Act No. [R.A.] 7432 and its Implementing Rules and Regulations. For the said period, the amount allegedly
representing the 20% sales discount granted by respondent to qualified senior citizens totaled P904,769.00.

On April 15, 1997, respondent filed its Annual Income Tax Return for taxable year 1996 declaring therein that it incurred net losses from its
operations.

On January 16, 1998, respondent filed with petitioner a claim for tax refund/credit in the amount of P904,769.00 allegedly arising from the 20%
sales discount granted by respondent to qualified senior citizens in compliance with [R.A.] 7432. Unable to obtain affirmative response from
petitioner, respondent elevated its claim to the Court of Tax Appeals [(CTA or Tax Court)] via a Petition for Review.

On February 12, 2001, the Tax Court rendered a Decision[5] dismissing respondents Petition for lack of merit. In said decision, the [CTA] justified
its ruling with the following ratiocination:

x x x, if no tax has been paid to the government, erroneously or illegally, or if no amount is due and collectible from the
taxpayer, tax refund or tax credit is unavailing. Moreover, whether the recovery of the tax is made by means of a claim
for refund or tax credit, before recovery is allowed[,] it must be first established that there was an actual collection and
receipt by the government of the tax sought to be recovered. x x x.
xxxxxxxxx
Prescinding from the above, it could logically be deduced that tax credit is premised on the existence of tax liability on the
part of taxpayer. In other words, if there is no tax liability, tax credit is not available.

Respondent lodged a Motion for Reconsideration. The [CTA], in its assailed resolution, [6] granted respondents motion for reconsideration and
ordered herein petitioner to issue a Tax Credit Certificate in favor of respondent citing the decision of the then Special Fourth Division of [the
CA] in CA G.R. SP No. 60057 entitled Central [Luzon] Drug Corporation vs. Commissioner of Internal Revenue promulgated on May 31, 2001, to
wit:

However, Sec. 229 clearly does not apply in the instant case because the tax sought to be refunded or credited by
petitioner was not erroneously paid or illegally collected. We take exception to the CTAs sweeping but unfounded
statement that both tax refund and tax credit are modes of recovering taxes which are either erroneously or illegally paid
to the government. Tax refunds or credits do not exclusively pertain to illegally collected or erroneously paid taxes as
they may be other circumstances where a refund is warranted. The tax refund provided under Section 229 deals
exclusively with illegally collected or erroneously paid taxes but there are other possible situations, such as the refund of
excess estimated corporate quarterly income tax paid, or that of excess input tax paid by a VAT-registered person, or that
of excise tax paid on goods locally produced or manufactured but actually exported. The standards and mechanics for the
grant of a refund or credit under these situations are different from that under Sec. 229. Sec. 4[.a)] of R.A. 7432, is yet
another instance of a tax credit and it does not in any way refer to illegally collected or erroneously paid taxes, x x x. [7]

Ruling of the Court of Appeals

The CA affirmed in toto the Resolution of the Court of Tax Appeals (CTA) ordering petitioner to issue a tax credit certificate in favor of respondent in the reduced
amount of P903,038.39. It reasoned that Republic Act No. (RA) 7432 required neither a tax liability nor a payment of taxes by private establishments prior to the
availment of a tax credit. Moreover, such credit is not tantamount to an unintended benefit from the law, but rather a just compensation for the taking of private
property for public use.
Hence this Petition.[8]

The Issues
Petitioner raises the following issues for our consideration:
Whether the Court of Appeals erred in holding that respondent may claim the 20% sales discount as a tax credit instead of as a deduction from
gross income or gross sales.

Whether the Court of Appeals erred in holding that respondent is entitled to a refund. [9]
These two issues may be summed up in only one: whether respondent, despite incurring a net loss, may still claim the 20 percent sales discount as a tax credit.

The Courts Ruling
The Petition is not meritorious.
Sole Issue:
Claim of 20 Percent Sales Discount
as Tax Credit Despite Net Loss
Section 4a) of RA 7432[10] grants to senior citizens the privilege of obtaining a 20 percent discount on their purchase of medicine from any private establishment in the
country.[11] The latter may then claim the cost of the discount as a tax credit.[12] But can such credit be claimed, even though an establishment operates at a loss?
We answer in the affirmative.

Tax Credit versus
Tax Deduction
Although the term is not specifically defined in our Tax Code, [13] tax credit generally refers to an amount that is subtracted directly from ones total tax liability. [14] It is
an allowance against the tax itself [15] or a deduction from what is owed [16] by a taxpayer to the government. Examples of tax credits are withheld taxes, payments of
estimated tax, and investment tax credits.[17]

Tax credit should be understood in relation to other tax concepts. One of these is tax deduction -- defined as a subtraction from income for tax purposes, [18] or an
amount that is allowed by law to reduce income prior to [the] application of the tax rate to compute the amount of tax which is due. [19] An example of a tax
deduction is any of the allowable deductions enumerated in Section 34[20] of the Tax Code.

A tax credit differs from a tax deduction. On the one hand, a tax credit reduces the tax due, including -- whenever applicable -- the income tax that is determined after
applying the corresponding tax rates to taxable income.[21] A tax deduction, on the other, reduces the income that is subject to tax [22] in order to arrive at taxable
income.[23] To think of the former as the latter is to avoid, if not entirely confuse, the issue. A tax credit is used only after the tax has been computed; a tax
deduction, before.

Tax Liability Required
for Tax Credit
Since a tax credit is used to reduce directly the tax that is due, there ought to be a tax liability before the tax credit can be applied. Without that liability, any tax
creditapplication will be useless. There will be no reason for deducting the latter when there is, to begin with, no existing obligation to the government. However, as
will be presented shortly, the existence of a tax credit or its grant by law is not the same as the availment or use of such credit. While the grant is mandatory, the
availment or use is not.

If a net loss is reported by, and no other taxes are currently due from, a business establishment, there will obviously be no tax liability against which any tax credit can
be applied.[24] For the establishment to choose the immediate availment of a tax credit will be premature and impracticable. Nevertheless, the irrefutable fact remains
that, under RA 7432, Congress has granted without conditions a tax credit benefit to all covered establishments.

Although this tax credit benefit is available, it need not be used by losing ventures, since there is no tax liability that calls for its application. Neither can it be reduced
to nil by the quick yet callow stroke of an administrative pen, simply because no reduction of taxes can instantly be effected. By its nature, the tax credit may still be
deducted from a future, not a present, tax liability, without which it does not have any use. In the meantime, it need not move. But it breathes.
Prior Tax Payments Not
Required for Tax Credit
While a tax liability is essential to the availment or use of any tax credit, prior tax payments are not. On the contrary, for the existence or grant solely of such credit,
neither a tax liability nor a prior tax payment is needed. The Tax Code is in fact replete with provisions granting or allowing tax credits, even though no taxes have
been previously paid.

For example, in computing the estate tax due, Section 86(E) allows a tax credit -- subject to certain limitations -- for estate taxes paid to a foreign country. Also found
in Section 101(C) is a similar provision for donors taxes -- again when paid to a foreign country -- in computing for the donors tax due. The tax credits in both instances
allude to the prior payment of taxes, even if not made to our government.

Under Section 110, a VAT (Value-Added Tax)- registered person engaging in transactions -- whether or not subject to the VAT -- is also allowed a tax credit that
includes a ratable portion of any input tax not directly attributable to either activity. This input tax may either be the VAT on the purchase or importation of goods or
services that is merely due from -- not necessarily paid by -- such VAT-registered person in the course of trade or business; or the transitional input tax determined in
accordance with Section 111(A). The latter type may in fact be an amount equivalent to only eight percent of the value of a VAT-registered persons beginning
inventory of goods, materials and supplies, when such amount -- as computed -- is higher than the actual VAT paid on the said items. [25] Clearly from this provision,
the tax credit refers to an input tax that is either due only or given a value by mere comparison with the VAT actually paid -- then later prorated. No tax is actually
paid prior to the availment of such credit.

In Section 111(B), a one and a half percent input tax credit that is merely presumptive is allowed. For the purchase of primary agricultural products used as inputs --
either in the processing of sardines, mackerel and milk, or in the manufacture of refined sugar and cooking oil -- and for the contract price of public work contracts
entered into with the government, again, no prior tax payments are needed for the use of the tax credit.

More important, a VAT-registered person whose sales are zero-rated or effectively zero-rated may, under Section 112(A), apply for the issuance of a tax
credit certificate for the amount of creditable input taxes merely due -- again not necessarily paid to -- the government and attributable to such sales, to the extent
that the input taxes have not been applied against output taxes. [26] Where a taxpayer is engaged in zero-rated or effectively zero-rated sales and also in taxable or
exempt sales, the amount of creditable input taxes due that are not directly and entirely attributable to any one of these transactions shall be proportionately
allocated on the basis of the volume of sales. Indeed, in availing of such tax credit for VAT purposes, this provision -- as well as the one earlier mentioned -- shows
that the prior payment of taxes is not a requisite.

It may be argued that Section 28(B)(5)(b) of the Tax Code is another illustration of a tax credit allowed, even though no prior tax payments are not required.
Specifically, in this provision, the imposition of a final withholding tax rate on cash and/or property dividends received by a nonresident foreign corporation from a
domestic corporation is subjected to the condition that a foreign tax credit will be given by the domiciliary country in an amount equivalent to taxes that are merely
deemed paid.[27]Although true, this provision actually refers to the tax credit as a condition only for the imposition of a lower tax rate, not as a deduction from the
corresponding tax liability. Besides, it is not our government but the domiciliary country that credits against the income tax payable to the latter by the foreign
corporation, the tax to be foregone or spared.[28]

In contrast, Section 34(C)(3), in relation to Section 34(C)(7)(b), categorically allows as credits, against the income tax imposable under Title II, the amount of income
taxes merely incurred -- not necessarily paid -- by a domestic corporation during a taxable year in any foreign country. Moreover, Section 34(C)(5) provides that for
such taxes incurred but not paid, a tax credit may be allowed, subject to the condition precedent that the taxpayer shall simply give a bond with sureties satisfactory
to and approved by petitioner, in such sum as may be required; and further conditioned upon payment by the taxpayer of any tax found due, upon petitioners
redetermination of it.

In addition to the above-cited provisions in the Tax Code, there are also tax treaties and special laws that grant or allow tax credits, even though no prior tax
payments have been made.

Under the treaties in which the tax credit method is used as a relief to avoid double taxation, income that is taxed in the state of source is also taxable in the state of
residence, but the tax paid in the former is merely allowed as a credit against the tax levied in the latter. [29] Apparently, payment is made to the state of source, not
the state of residence. No tax, therefore, has been previously paid to the latter.

Under special laws that particularly affect businesses, there can also be tax credit incentives. To illustrate, the incentives provided for in Article 48 of Presidential
Decree No. (PD) 1789, as amended by Batas Pambansa Blg. (BP) 391, include tax credits equivalent to either five percent of the net value earned, or five or ten
percent of the net local content of exports.[30] In order to avail of such credits under the said law and still achieve its objectives, no prior tax payments are necessary.

From all the foregoing instances, it is evident that prior tax payments are not indispensable to the availment of a tax credit. Thus, the CA correctly held that the
availment under RA 7432 did not require prior tax payments by private establishments concerned. [31] However, we do not agree with its finding [32] that the carry-over
of tax creditsunder the said special law to succeeding taxable periods, and even their application against internal revenue taxes, did not necessitate the existence of a
tax liability.

The examples above show that a tax liability is certainly important in the availment or use, not the existence or grant, of a tax credit. Regarding this matter, a private
establishment reporting a net loss in its financial statements is no different from another that presents a net income. Both are entitled to the tax credit provided for
under RA 7432, since the law itself accords that unconditional benefit. However, for the losing establishment to immediately apply such credit, where no tax is due,
will be an improvident usance.

Sections 2.i and 4 of Revenue
Regulations No. 2-94 Erroneous
RA 7432 specifically allows private establishments to claim as tax credit the amount of discounts they grant.[33] In turn, the Implementing Rules and Regulations,
issued pursuant thereto, provide the procedures for its availment. [34] To deny such credit, despite the plain mandate of the law and the regulations carrying out that
mandate, is indefensible.

First, the definition given by petitioner is erroneous. It refers to tax credit as the amount representing the 20 percent discount that shall be deducted by the said
establishments from their gross income for income tax purposes and from their gross sales for value-added tax or other percentage tax purposes. [35] In ordinary
business language, the tax credit represents the amount of such discount. However, the manner by which the discount shall be credited against taxes has not been
clarified by the revenue regulations.

By ordinary acceptation, a discount is an abatement or reduction made from the gross amount or value of anything. [36] To be more precise, it is in business parlance a
deduction or lowering of an amount of money; [37] or a reduction from the full amount or value of something, especially a price. [38] In business there are many kinds of
discount, the most common of which is that affecting the income statement[39] or financial report upon which the income tax is based.

Business Discounts
Deducted from Gross Sales
A cash discount, for example, is one granted by business establishments to credit customers for their prompt payment.[40] It is a reduction in price offered to the
purchaser if payment is made within a shorter period of time than the maximum time specified. [41] Also referred to as a sales discount on the part of the seller and
a purchase discount on the part of the buyer, it may be expressed in such terms as 5/10, n/30.[42]

A quantity discount, however, is a reduction in price allowed for purchases made in large quantities, justified by savings in packaging, shipping, and handling. [43] It is
also called a volume or bulk discount.[44]

A percentage reduction from the list price x x x allowed by manufacturers to wholesalers and by wholesalers to retailers [45] is known as a trade discount. No entry for
it need be made in the manual or computerized books of accounts, since the purchase or sale is already valued at the net price actually charged the buyer. [46] The
purpose for the discount is to encourage trading or increase sales, and the prices at which the purchased goods may be resold are also suggested. [47] Even a chain
discount -- a series of discounts from one list price -- is recorded at net. [48]

Finally, akin to a trade discount is a functional discount. It is a suppliers price discount given to a purchaser based on the [latters] role in the [formers] distribution
system.[49]This role usually involves warehousing or advertising.

Based on this discussion, we find that the nature of a sales discount is peculiar. Applying generally accepted accounting principles (GAAP) in the country, this type of
discount is reflected in the income statement[50] as a line item deducted -- along with returns, allowances, rebates and other similar expenses -- from gross sales to
arrive at net sales.[51] This type of presentation is resorted to, because the accounts receivable and sales figures that arise from sales discounts, -- as well as
from quantity, volume or bulk discounts-- are recorded in the manual and computerized books of accounts and reflected in the financial statements at the gross
amounts of the invoices.[52] This manner of recording credit sales -- known as the gross method -- is most widely used, because it is simple, more convenient to apply
than the net method, and produces no material errors over time.[53]

However, under the net method used in recording trade, chain or functional discounts, only the net amounts of the invoices -- after the discounts have been
deducted -- are recorded in the books of accounts [54] and reflected in the financial statements. A separate line item cannot be shown, [55] because the transactions
themselves involving bothaccounts receivable and sales have already been entered into, net of the said discounts.

The term sales discounts is not expressly defined in the Tax Code, but one provision adverts to amounts whose sum -- along with sales returns, allowances and cost of
goods sold[56] -- is deducted from gross sales to come up with the gross income, profit or margin[57] derived from business.[58] In another provision therein, sales
discounts that are granted and indicated in the invoices at the time of sale -- and that do not depend upon the happening of any future event -- may be excluded from
the gross sales within the same quarter they were given. [59] While determinative only of the VAT, the latter provision also appears as a suitable reference point for
income tax purposes already embraced in the former. After all, these two provisions affirm that sales discounts are amounts that are always deductible from gross
sales.

Reason for the Senior Citizen Discount: The Law, Not Prompt Payment
A distinguishing feature of the implementing rules of RA 7432 is the private establishments outright deduction of the discount from the invoice price of the medicine
sold to the senior citizen.[60] It is, therefore, expected that for each retail sale made under this law, the discount period lasts no more than a day, because such
discount is given -- and the net amount thereof collected -- immediately upon perfection of the sale. [61] Although prompt payment is made for an arms-length
transaction by the senior citizen, the real and compelling reason for the private establishment giving the discount is that the law itself makes it mandatory.

What RA 7432 grants the senior citizen is a mere discount privilege, not a sales discount or any of the above discounts in particular. Prompt payment is not the reason
for (although a necessary consequence of) such grant. To be sure, the privilege enjoyed by the senior citizen must be equivalent to the tax credit benefit enjoyed by
the private establishment granting the discount. Yet, under the revenue regulations promulgated by our tax authorities, this benefit has been erroneously likened and
confined to asales discount.

To a senior citizen, the monetary effect of the privilege may be the same as that resulting from a sales discount. However, to a private establishment, the effect is
different from a simple reduction in price that results from such discount. In other words, the tax credit benefit is not the same as a sales discount. To repeat from our
earlier discourse, this benefit cannot and should not be treated as a tax deduction.

To stress, the effect of a sales discount on the income statement and income tax return of an establishment covered by RA 7432 is different from that resulting from
the availmentor use of its tax credit benefit. While the former is a deduction before, the latter is a deduction after, the income tax is computed. As mentioned earlier,
a discount is not necessarily a sales discount, and a tax credit for a simple discount privilege should not be automatically treated like a sales discount. Ubi lex non
distinguit, nec nos distinguere debemus. Where the law does not distinguish, we ought not to distinguish.

Sections 2.i and 4 of Revenue Regulations No. (RR) 2-94 define tax credit as the 20 percent discount deductible from gross income for income tax purposes, or
from gross salesfor VAT or other percentage tax purposes. In effect, the tax credit benefit under RA 7432 is related to a sales discount. This contrived definition is
improper, considering that the latter has to be deducted from gross sales in order to compute the gross income in the income statement and cannot be deducted
again, even for purposes of computing theincome tax.

When the law says that the cost of the discount may be claimed as a tax credit, it means that the amount -- when claimed -- shall be treated as a reduction from any
tax liability, plain and simple. The option to avail of the tax credit benefit depends upon the existence of a tax liability, but to limit the benefit to a sales discount --
which is not even identical to the discount privilege that is granted by law -- does not define it at all and serves no useful purpose. The definition must, therefore, be
stricken down.

Laws Not Amended by Regulations
Second, the law cannot be amended by a mere regulation. In fact, a regulation that operates to create a rule out of harmony with the statute is a mere nullity; [62] it
cannot prevail.

It is a cardinal rule that courts will and should respect the contemporaneous construction placed upon a statute by the executive officers whose duty it is to enforce it
x x x.[63] In the scheme of judicial tax administration, the need for certainty and predictability in the implementation of tax laws is crucial. [64] Our tax authorities fill in
the details that Congress may not have the opportunity or competence to provide. [65] The regulations these authorities issue are relied upon by taxpayers, who are
certain that these will be followed by the courts.[66] Courts, however, will not uphold these authorities interpretations when clearly absurd, erroneous or improper.

In the present case, the tax authorities have given the term tax credit in Sections 2.i and 4 of RR 2-94 a meaning utterly in contrast to what RA 7432 provides. Their
interpretation has muddled up the intent of Congress in granting a mere discount privilege, not a sales discount. The administrative agency issuing these regulations
may not enlarge, alter or restrict the provisions of the law it administers; it cannot engraft additional requirements not contemplated by the legislature. [67]

In case of conflict, the law must prevail. [68] A regulation adopted pursuant to law is law.[69] Conversely, a regulation or any portion thereof not adopted pursuant to law
is no law and has neither the force nor the effect of law.[70]

Availment of Tax Credit Voluntary
Third, the word may in the text of the statute [71] implies that the availability of the tax credit benefit is neither unrestricted nor mandatory. [72] There is no absolute
right conferred upon respondent, or any similar taxpayer, to avail itself of the tax credit remedy whenever it chooses; neither does it impose a duty on the part of the
government to sit back and allow an important facet of tax collection to be at the sole control and discretion of the taxpayer. [73] For the tax authorities to compel
respondent to deduct the 20 percent discount from either its gross income or its gross sales[74] is, therefore, not only to make an imposition without basis in law, but
also to blatantly contravene the law itself.

What Section 4.a of RA 7432 means is that the tax credit benefit is merely permissive, not imperative. Respondent is given two options -- either to claim or not to
claim the cost of the discounts as a tax credit. In fact, it may even ignore the credit and simply consider the gesture as an act of beneficence, an expression of its social
conscience.
Granting that there is a tax liability and respondent claims such cost as a tax credit, then the tax credit can easily be applied. If there is none, the credit cannot be used
and will just have to be carried over and revalidated [75] accordingly. If, however, the business continues to operate at a loss and no other taxes are due, thus
compelling it to close shop, the credit can never be applied and will be lost altogether.

In other words, it is the existence or the lack of a tax liability that determines whether the cost of the discounts can be used as a tax credit. RA 7432 does not give
respondent the unfettered right to avail itself of the credit whenever it pleases. Neither does it allow our tax administrators to expand or contract the legislative
mandate.The plain meaning rule or verba legis in statutory construction is thus applicable x x x. Where the words of a statute are clear, plain and free from ambiguity,
it must be given its literal meaning and applied without attempted interpretation.[76]

Tax Credit Benefit Deemed Just Compensation
Fourth, Sections 2.i and 4 of RR 2-94 deny the exercise by the State of its power of eminent domain. Be it stressed that the privilege enjoyed by senior citizens does
not come directly from the State, but rather from the private establishments concerned. Accordingly, the tax credit benefit granted to these establishments can be
deemed as their just compensation for private property taken by the State for public use.[77]

The concept of public use is no longer confined to the traditional notion of use by the public, but held synonymous with public interest, public benefit, public welfare,
and public convenience.[78] The discount privilege to which our senior citizens are entitled is actually a benefit enjoyed by the general public to which these citizens
belong. The discounts given would have entered the coffers and formed part of the gross sales of the private establishments concerned, were it not for RA 7432. The
permanent reduction in their total revenues is a forced subsidy corresponding to the taking of private property for public use or benefit.

As a result of the 20 percent discount imposed by RA 7432, respondent becomes entitled to a just compensation. This term refers not only to the issuance of a tax
creditcertificate indicating the correct amount of the discounts given, but also to the promptness in its release. Equivalent to the payment of property taken by the
State, such issuance -- when not done within a reasonable time from the grant of the discounts -- cannot be considered as just compensation. In effect, respondent is
made to suffer the consequences of being immediately deprived of its revenues while awaiting actual receipt, through the certificate, of the equivalent amount it
needs to cope with the reduction in its revenues.[79]

Besides, the taxation power can also be used as an implement for the exercise of the power of eminent domain. [80] Tax measures are but enforced contributions
exacted on pain of penal sanctions [81] and clearly imposed for a public purpose.[82] In recent years, the power to tax has indeed become a most effective tool to realize
social justice,public welfare, and the equitable distribution of wealth.[83]

While it is a declared commitment under Section 1 of RA 7432, social justice cannot be invoked to trample on the rights of property owners who under our
Constitution and laws are also entitled to protection. The social justice consecrated in our [C]onstitution [is] not intended to take away rights from a person and give
them to another who is not entitled thereto.[84] For this reason, a just compensation for income that is taken away from respondent becomes necessary. It is in
the tax credit that our legislators find support to realize social justice, and no administrative body can alter that fact.

To put it differently, a private establishment that merely breaks even [85] -- without the discounts yet -- will surely start to incur losses because of such discounts. The
same effect is expected if its mark-up is less than 20 percent, and if all its sales come from retail purchases by senior citizens. Aside from the observation we have
already raised earlier, it will also be grossly unfair to an establishment if the discounts will be treated merely as deductions from either its gross income or its gross
sales. Operating at a loss through no fault of its own, it will realize that the tax credit limitation under RR 2-94 is inutile, if not improper. Worse, profit-generating
businesses will be put in a better position if they avail themselves of tax credits denied those that are losing, because no taxes are due from the latter.

Grant of Tax Credit Intended by the Legislature
Fifth, RA 7432 itself seeks to adopt measures whereby senior citizens are assisted by the community as a whole and to establish a program beneficial to them.
[86]
These objectives are consonant with the constitutional policy of making health x x x services available to all the people at affordable cost [87] and of giving priority
for the needs of the x x x elderly.[88] Sections 2.i and 4 of RR 2-94, however, contradict these constitutional policies and statutory objectives.

Furthermore, Congress has allowed all private establishments a simple tax credit, not a deduction. In fact, no cash outlay is required from the government for
the availmentor use of such credit. The deliberations on February 5, 1992 of the Bicameral Conference Committee Meeting on Social Justice, which finalized RA 7432,
disclose the true intent of our legislators to treat the sales discounts as a tax credit, rather than as a deduction from gross income. We quote from those deliberations
as follows:

"THE CHAIRMAN (Rep. Unico). By the way, before that ano, about deductions from taxable income. I think we incorporated there a provision na
- on the responsibility of the private hospitals and drugstores, hindi ba?
SEN. ANGARA. Oo.
THE CHAIRMAN. (Rep. Unico), So, I think we have to put in also a provision here about the deductions from taxable income of that private
hospitals, di ba ganon 'yan?
MS. ADVENTO. Kaya lang po sir, and mga discounts po nila affecting government and public institutions, so, puwede na po nating hindi isama
yung mga less deductions ng taxable income.
THE CHAIRMAN. (Rep. Unico). Puwede na. Yung about the private hospitals. Yung isiningit natin?
MS. ADVENTO. Singit na po ba yung 15% on credit. (inaudible/did not use the microphone).
SEN. ANGARA. Hindi pa, hindi pa.
THE CHAIRMAN. (Rep. Unico) Ah, 'di pa ba naisama natin?
SEN. ANGARA. Oo. You want to insert that?
THE CHAIRMAN (Rep. Unico). Yung ang proposal ni Senator Shahani, e.
SEN. ANGARA. In the case of private hospitals they got the grant of 15% discount, provided that, the private hospitals can claim the expense as
a tax credit.
REP. AQUINO. Yah could be allowed as deductions in the perpetrations of (inaudible) income.
SEN. ANGARA. I-tax credit na lang natin para walang cash-out ano?
REP. AQUINO. Oo, tax credit. Tama, Okay. Hospitals ba o lahat ng establishments na covered.
THE CHAIRMAN. (Rep. Unico). Sa kuwan lang yon, as private hospitals lang.
REP. AQUINO. Ano ba yung establishments na covered?
SEN. ANGARA. Restaurant lodging houses, recreation centers.
REP. AQUINO. All establishments covered siguro?
SEN. ANGARA. From all establishments. Alisin na natin 'Yung kuwan kung ganon. Can we go back to Section 4 ha?
REP. AQUINO. Oho.
SEN. ANGARA. Letter A. To capture that thought, we'll say the grant of 20% discount from all establishments et cetera, et cetera, provided that
said establishments - provided that private establishments may claim the cost as a tax credit. Ganon ba 'yon?
REP. AQUINO. Yah.
SEN. ANGARA. Dahil kung government, they don't need to claim it.
THE CHAIRMAN. (Rep. Unico). Tax credit.
SEN. ANGARA. As a tax credit [rather] than a kuwan - deduction, Okay.
REP. AQUINO Okay.
SEN. ANGARA. Sige Okay. Di subject to style na lang sa Letter A". [89]

Special Law Over General Law
Sixth and last, RA 7432 is a special law that should prevail over the Tax Code -- a general law. x x x [T]he rule is that on a specific matter the special law shall prevail
over the general law, which shall
be resorted to only to supply deficiencies in the former. [90] In addition, [w]here there are two statutes, the earlier special and the later general -- the terms of the
general broad enough to include the matter provided for in the special -- the fact that one is special and the other is general creates a presumption that the special is
to be considered as remaining an exception to the general, [91] one as a general law of the land, the other as the law of a particular case. [92] It is a canon of statutory
construction that a later statute, general in its terms and not expressly repealing a prior special statute, will ordinarily not affect the special provisions of such earlier
statute.[93]

RA 7432 is an earlier law not expressly repealed by, and therefore remains an exception to, the Tax Code -- a later law. When the former states that a tax credit may
be claimed, then the requirement of prior tax payments under certain provisions of the latter, as discussed above, cannot be made to apply. Neither can the instances
of or references to a tax deduction under the Tax Code[94] be made to restrict RA 7432. No provision of any revenue regulation can supplant or modify the acts of
Congress.

WHEREFORE, the Petition is hereby DENIED. The assailed Decision and Resolution of the Court of Appeals AFFIRMED. No pronouncement as to costs.
Commissioner of Internal Revenue vs. Central Luzon Drug CorporationGR No. 159647, April 15, 2005Facts:
Respondent is a domestic corporation engaged in the retailing of medicines and other pharmaceutical products. In 1996 it operated six (6) drugstores under the
business name and style “Mercury Drug.” From January to December 1996 respondent granted 20% sales discount to qualified senior citizens on their purchases of
medicines pursuant to RA 7432. For said period respondent granted a total of ₱ 904,769. On April 15, 1997, respondent filed its annual ITR for taxable year 1996
declaring therein net losses. On Jan. 16, 1998 respondent filed with petitioner a claim for tax refund/credit of ₱ 904,769.00 alledgedly arising from the 20% sales
discount. Unable to obtain affirmative response from petitioner, respondent elevated its claim to the CTA viaPetition for Review. CTA dismissed the same but on MR,
CTA reversed its earlier ruling and ordered petitioner to issue a Tax Credit Certificate in favor of respondent citing CAGR SP No. 60057 (May 31, 2001, Central Luzon
Drug Corp. vs. CIR) citing that Sec.229 of RA 7432 deals exclusively with illegally collected or erroneously paid taxes butthat there are other situations which may
warrant a tax credit/refund.CA affirmed CTA decision reasoning that RA 7432 required neither a tax liability nor apayment of taxes by private establishments prior to
the availment of a tax credit. Moreover, such credit is not tantamount to an unintended benefit from the law, but rather a just compensation for the taking of private
property for public use.
ISSUE: W/N respondent, despite incurring a net loss, may still claim the 20% sales discount as a tax credit.
RULING:
Yes, it is clear that Sec. 4a of RA 7432 grants to senior citizens the privilege ofobtaining a 20% discount on their purchase of medicine from any private establishment
in the country. The latter may then claim the cost of the discount as a tax credit . Such credit can be claimed even if the establishment operates at a loss. A tax
credit generally refers to an amount that is “subtracted directly from one’s total tax liability.” It is an “allowance against the tax itself” or “a deduction from what is
owed” by a taxpayer to the government. A tax credit should be understood in relation to other tax concepts.
One of these is tax deduction–which is subtraction “from income for tax purposes,” or an amount that is “allowed by law to reduce income prior to the application of
the tax rate to compute the amount of tax which is due.” In other words, whereas a tax credit reduces the tax due, tax deduction reduces the income subject to tax in
order to arrive at the taxable income. Since a tax credit is used to reduce directly the tax that is due, there ought to be a tax liability before the tax
credit can be applied. Without that liability, any tax credit application will be useless. There will be no reason for deducting the latter when there is, to begin with, no
existing obligation to the government. However, as will be presented shortly, the existence of a tax credit or its grant by law is not the same as the availment or use of
such credit. While the grant is mandatory, the availment or use is not. If a net loss is reported by, and no other taxes are currently due from, a business
establishment, there will obviously be no tax liability against which any tax credit can be applied. For the establishment to choose the immediate availment of a tax
credit will be premature and impracticable. Nevertheless, the irrefutable fact remains that, under RA7432, Congress has granted without conditions a tax credit
benefit to all covered establishments. However, for the losing establishment to immediately apply such credit, where no tax is due, will be an improvident usance.
In addition, while a tax liability is essential to the availment or use of any tax credit, prior tax payments are not. On the contrary, for the existence or grant solely of
such credit, neither a tax liability nor a prior tax payment is needed. The Tax Code is in fact replete with provisions granting or allowing tax credits, even though no
taxes have been previously paid. Petition is denied.
2. CIR VS CENTRAL LUZON DRUG CORP 2006

This is a petition for review under Rule 45 of the Rules of Court seeking the nullification of the Decision, dated May 31, 2001, of the Court of Appeals (CA) in CA-G.R.
SP No. 60057, entitled Central Luzon Drug Corporation v. Commissioner of Internal Revenue, granting herein respondent Central Luzon Drug Corporations claim for
tax credit equal to the amount of the 20% discount that it extended to senior citizens on the latters purchase of medicines pursuant to Section 4(a) of Republic Act
(R.A.) No. 7432, entitled An Act to Maximize the Contribution of Senior Citizens to Nation Building, Grant Benefits and Special Privileges and for other Purposes
otherwise known as the Senior Citizens Act.

The antecedents are as follows:
Central Luzon Drug Corporation has been a retailer of medicines and other pharmaceutical products since December 19, 1994. In 1995, it opened three (3) drugstores
as a franchisee under the business name and style of Mercury Drug.

For the period January 1995 to December 1995, in conformity to the mandate of Sec. 4(a) of R.A. No. 7432, petitioner granted a 20% discount on the sale
of medicines to qualified senior citizens amounting to P219,778.

Pursuant to Revenue Regulations No. 2-94[1] implementing R.A. No. 7432, which states that the discount given to senior citizens shall be deducted by the
establishment from its gross sales for value-added tax and other percentage tax purposes, respondent deducted the total amount of P219,778 from its gross income
for the taxable year 1995. For said taxable period, respondent reported a net loss of P20,963 in its corporate income tax return. As a consequence, respondent did
not pay income tax for 1995.

Subsequently, on December 27, 1996, claiming that according to Sec. 4(a) of R.A. No. 7432, the amount of P219,778 should be applied as a tax credit,
respondent filed a claim for refund in the amount of P150,193, thus:
Net Sales P 37,014,807.00
Add: Cost of 20% Discount
to Senior Citizens 219,778.00
Gross Sales P 37,234,585.00
Less: Cost of Sales
Merchandise Inventory, beg P 1,232,740.00
Purchases 41,145,138.00
Merchandise Inventory, end 8,521,557.00 33,856,621.00
Gross Profit P 3,377,964.00
Miscellaneous Income 39,014.00
Total Income 3,416,978.00
Operating Expenses 3,199,230.00
Net Income Before Tax P 217,748.00
Income Tax (35%) 69,585.00
Less: Tax Credit
(Cost of 20% Discount
to Senior Citizens) 219,778.00
Income Tax Payable (P 150,193.00)
Income Tax Actually Paid -0-
Tax Refundable/Overpaid Income Tax (P 150,193.00)

As shown above, the amount of P150,193 claimed as a refund represents the tax credit allegedly due to respondent under R.A. No. 7432. Since the Commissioner of
Internal Revenue was not able to decide the claim for refund on time,[2] respondent filed a Petition for Review with the Court of Tax Appeals (CTA) on March 18, 1998.
On April 24, 2000, the CTA dismissed the petition, declaring that even if the law treats the 20% sales discounts granted to senior citizens as a tax credit, the
same cannot apply when there is no tax liability or the amount of the tax credit is greater than the tax due. In the latter case, the tax credit will only be to the extent
of the tax liability. [3] Also, no refund can be granted as no tax was erroneously, illegally and actually collected based on the provisions of Section 230, now Section 229,
of the Tax Code. Furthermore, the law does not state that a refund can be claimed by the private establishment concerned as an alternative to the tax credit.
Thus, respondent filed with the CA a Petition for Review on August 3, 2000.

On May 31, 2001, the CA rendered a Decision stating that Section 229 of the Tax Code does not apply in this case. It concluded that the 20% discount given to senior
citizens which is treated as a tax credit pursuant to Sec. 4(a) of R.A. No. 7432 is considered just compensation and, as such, may be carried over to the next taxable
period if there is no current tax liability. In view of this, the CA held:

WHEREFORE, the instant petition is hereby GRANTED and the decision of the CTA dated 24 April 2000 and its resolution dated 06 July 2000 are
SET ASIDE. A new one is entered granting petitioners claim for tax credit in the amount of Php: 150,193.00. No costs.
SO ORDERED.[4]

Hence, this petition raising the sole issue of whether the 20% sales discount granted by respondent to qualified senior citizens pursuant to Sec. 4(a) of R.A. No. 7432
may be claimed as a tax credit or as a deduction from gross sales in accordance with Sec. 2(1) of Revenue Regulations No. 2-94.
Sec. 4(a) of R.A. No. 7432 provides:
Sec. 4. Privileges for the Senior citizens. The senior citizens shall be entitled to the following:
(a) the grant of twenty percent (20%) discount from all establishments relative to utilization of transportations services,
hotels and similar lodging establishments, restaurants and recreation centers and purchase of medicines anywhere in the
country: Provided, That private establishments may claim the cost as tax credit.

The CA and the CTA correctly ruled that based on the plain wording of the law discounts given under R.A. No. 7432 should be treated as tax credits, not
deductions from income.

It is a fundamental rule in statutory construction that the legislative intent must be determined from the language of the statute itself especially when the
words and phrases therein are clear and unequivocal. The statute in such a case must be taken to mean exactly what it says. [5] Its literal meaning should be followed;
[6]
to depart from the meaning expressed by the words is to alter the statute. [7]

The above provision explicitly employed the word tax credit. Nothing in the provision suggests for it to mean a deduction from gross sales. To construe it
otherwise would be a departure from the clear mandate of the law.

Thus, the 20% discount required by the Act to be given to senior citizens is a tax credit, not a deduction from the gross sales of the establishment
concerned. As a corollary to this, the definition of tax credit found in Section 2(1) of Revenue Regulations No. 2-94 is erroneous as it refers to tax credit as the amount
representing the 20% discount that shall be deducted by the said establishment from their gross sales for value added tax and other percentage tax purposes. This
definition is contrary to what our lawmakers had envisioned with regard to the treatment of the discount granted to senior citizens.

Accordingly, when the law says that the cost of the discount may be claimed as a tax credit, it means that the amount -- when claimed shall be treated as a
reduction from any tax liability. [8] The law cannot be amended by a mere regulation. The administrative agencies issuing these regulations may not enlarge, alter or
restrict the provisions of the law they administer.[9] In fact, a regulation that operates to create a rule out of harmony with the statute is a mere nullity. [10]

Finally, for purposes of clarity, Sec. 229 [11] of the Tax Code does not apply to cases that fall under Sec. 4 of R.A. No. 7432 because the former provision
governs exclusively all kinds of refund or credit of internal revenue taxes that were erroneously or illegally imposed and collected pursuant to the Tax Code while the
latter extends the tax credit benefit to the private establishments concerned even before tax payments have been made. The tax credit that is contemplated under
the Act is a form of just compensation, not a remedy for taxes that were erroneously or illegally assessed and collected. In the same vein, prior payment of any tax
liability is not a precondition before a taxable entity can benefit from the tax credit. The credit may be availed of upon payment of the tax due, if any. Where there is
no tax liability or where a private establishment reports a net loss for the period, the tax credit can be availed of and carried over to the next taxable year.

It must also be stressed that unlike in Sec. 229 of the Tax Code wherein the remedy of refund is available to the taxpayer, Sec. 4 of the law speaks only of a
tax credit, not a refund.

As earlier mentioned, the tax credit benefit granted to the establishments can be deemed as their just compensation for private property taken by the
State for public use. The privilege enjoyed by the senior citizens does not come directly from the State, but rather from the private establishments concerned. [12]

WHEREFORE, the petition is DENIED. The Decision of the Court of Appeals in CA-G.R. SP No. 60057, dated May 31, 2001, is AFFIRMED.
3. BICOLANDIA DRUG CORP VS CIR

This is a petition for review[1] by Bicolandia Drug Corporation, formerly known as Elmas Drug Corporation, seeking the nullification of the Decision and Resolution of
the Court of Appeals, dated October 19, 1999 and February 18, 2000, respectively, in CA-G.R SP No. 49946 entitled Commissioner of Internal Revenue v. Elmas Drug
Corporation.

The controversy primarily involves the proper interpretation of the term cost in Section 4 of Republic Act (R.A.) No. 7432, otherwise known as An Act to
Maximize the Contribution of Senior Citizens to Nation Building, Grant Benefits and Special Privileges and for Other Purposes.

The facts[2] of the case are as follows:
Petitioner Bicolandia Drug Corporation is a domestic corporation principally engaged in the retail of pharmaceutical products. Petitioner has a drugstore located
in Naga City under the name and business style of Mercury Drug.
Pursuant to the provisions of R.A. No. 7432, entitled An Act to Maximize the Contribution of Senior Citizens to Nation Building, Grant Benefits and Special Privileges
and for Other Purposes, also known as the Senior Citizens Act, and Revenue Regulations No. 2-94, petitioner granted to qualified senior citizens a 20% sales discount
on their purchase of medicines covering the period from July 19, 1993 to December 31, 1994.

When petitioner filed its corresponding corporate annual income tax returns for taxable years 1993 and 1994, it claimed as a deduction from its gross income the
respective amounts ofP80,330 and P515,000 representing the 20% sales discount it granted to senior citizens.

On March 28, 1995, however, alleging error in the computation and claiming that the aforementioned 20% sales discount should have been treated as a tax credit
pursuant to R.A. No. 7432 instead of a deduction from gross income, petitioner filed a claim for refund or credit of overpaid income tax for 1993 and 1994, amounting
to P52,215 and P334,750, respectively. Petitioner computed the overpayment as follows:
Income tax benefit of tax credit 100%

Income tax benefit of tax deduction 35%
Differential 65%

For 1993
20% discount granted in 1993 P80,330
Multiply by 65% x 65%
Overpaid corporate income tax P52,215

For 1994
20% discount granted in 1993 P515,000
Multiply by 65% x 65%
Overpaid corporate income tax P334,750

On December 29, 1995, petitioner filed a Petition for Review with the Court of Tax Appeals (CTA) in order to toll the running of the two-year prescriptive period for
claiming for a tax refund under Section 230, now Section 229, of the Tax Code.

It contended that Section 4 of R.A. No. 7432 provides in clear and unequivocal language that discounts granted to senior citizens may be claimed as a tax
credit. Revenue Regulations No. 2-94, therefore, which is merely an implementing regulation cannot modify, alter or depart from the clear mandate of Section 4 of
R.A. No. 7432, and, thus, is null and void for being inconsistent with the very statute it seeks to implement.

The Commissioner of Internal Revenue, on the other hand, maintained that the aforesaid section providing for a 20% sales discount to senior citizens is a misnomer as
it runs counter to the solemn duty of the government to collect taxes. The Commissioner likewise pointed out that the provision in question employs the word may,
thereby implying that the availability of the remedy of tax credit is not absolute and mandatory and it does not confer an absolute right on the taxpayer to avail of the
tax credit scheme if he so chooses. The Commissioner further stated that in statutory construction, the contemporaneous construction of a statute by executive
officers of the government whose duty is to execute it is entitled to great respect and should ordinarily control in its interpretation.

Thus, addressing the matter of the proper construction of Section 4(a) of R.A. No. 7432 regarding the treatment of the 20% sales discount given to senior citizens on
their medicine purchases, the CTA ruled on the issue of whether or not the discount should be deductible from gross sales of value-added tax or other percentage tax
purposes as prescribed under Revenue Regulations No. 2-94 or as a tax credit deductible from the tax due.

In its Decision, dated August 27, 1998, the CTA declared that:

x x x
Revenue Regulations No. 2-94 gave a new meaning to the phrase tax credit, interpreting it to mean that the 20% discount granted to
qualified senior citizens is an amount deductible from the establishments gross sales, which is completely contradictory to the literal or widely
accepted meaning of the said phrase, as an amount subtracted from an individuals or entitys tax liability to arrive at the total tax liability (Blacks
Law Dictionary).

In view of such apparent discrepancy in the interpretation of the term tax credit, the provisions of the law under R.A. 7432 should
prevail over the subordinate regulation issued by the respondent under Revenue Regulation No. 2-94. x x x

Having settled the legal issue involved in the case at bar, We are now tasked to resolve the factual issues of whether or not
petitioner is entitled to the claim for refund of its overpaid income taxes for the years 1993 and 1994 based on the evidence at hand.

Contrary to the findings of the independent CPA, aside from the unverifiable 20% sales discounts in the amount of P18,653.70 (Exh.
R-3), the Court noted some material discrepancies. Not all the details listed in the 1994 Summary of Sales and Discounts Given to Senior Citizens
correspond with the cash slips presented. There are various sales discounts granted which were not properly computed and there were also
some cash slips left unsigned by the buyers.

x x x
After a careful scrutiny of the documents presented, the Court, allows only the amount of sales discounts duly supported by the pre-
marked cash slips x x x.

Hence, only the above amounts which are properly documented can be used as base in computing for the cost of 20% discount as
tax credit. The overpaid income tax therefore is computed as follows: [3]

For 1993
Net Sales P31,080,508.00
Add: 20% Discount to Senior Citizens 80,330.00
Gross Sales P31,160,838.00
Less: Cost of Sales
Merchandise Inventory, beg. P 4,226,588.00
Add Purchases 29,234,361.00
Total Goods available for Sale P33,460,947.00
Less: Merchandise Inventory, End P 4,875.944.00 P28,585,003.00
Gross Income P 2,575,835.00
Less: Operating Expenses 1,706,491.00
Net Operating Income P 869,344.00
Add: Miscellaneous Income 72,680.00
Net Income P 942,024.00
Less: Interest Income Subject to Final Tax 21,140.00
Net Taxable Income P 920,884.00

Tax Due (P920,884 x 35%) P 322,309.40
Less: 1) Tax Credit (Cost of 20% Discount)
[(28,585,003.00/31,160,838.00)
x 80,330.34] P 73,690.03
2) Income Tax Payment for the Year 294,194.00 P 367,884.03
AMOUNT REFUNDABLE P 45,574.63

For 1994
Net Sales P 29,904,734.00
Add: 20% Discount to Senior Citizens 515,000.00
Gross Sales P 30,419,734.00
Less: Cost of Sales
Merchandise Inventory, beg. P 4,875,944.00
Add Purchases 28,138,103.00
Total Goods available for Sales P 33,014,047.00
Less: Merchandise Inventory, End 5,036.117.00 27,977,930.00

Gross Income P 2,441,804.00
Less: Operating Expenses 1,880,153.00
Net Operating Income P 561,651.00
Add: Miscellaneous Income 82,207.00
Less: Interest Income Subject to Final Tax 30,618.00

Tax Due (613,240 x 35%) P 214,634.00
Less: 1) Tax Credit (Cost of 20% Discount)
[(28,585,003.00/31,160,838.00) x
80,330.34] P316,156.48
2) Income Tax Payment for the Year 34,384.00 P 350,540.48
AMOUNT REFUNDABLE P 135,906.48

WHEREFORE, in view of all the foregoing, petitioners claim for refund is hereby partially GRANTED. Respondent is hereby ORDERED
to REFUND, or in the alternative, to ISSUE a tax credit certificate in favor of the petitioner the amounts of P45,574.63 and P135,906.48,
representing overpaid income tax for the years 1993 and 1994, respectively.
SO ORDERED.[4]

Both the Commissioner and petitioner moved for a reconsideration of the above decision. Petitioner, in its Motion for Partial Reconsideration, claimed
that the cost that private establishments may claim as tax credit under Section 4 of R.A. No. 7432 should be construed to mean the full amount of the 20% sales
discount granted to senior citizens instead of the formula --[Tax Credit = Cost of Sales/Gross Sales x 20% discount] used by the CTA in computing for the amount of
the tax credit. In view of this, petitioner prayed for the refund of the amount of income tax it allegedly overpaid in the aggregate amount of P45,574.63
and P135,906.48, respectively, for the taxable years 1993 and 1994 as a result of treating the sales discount of 20% as a tax deduction rather than as a tax credit.

The Commissioner, on the other hand, moved for a re-computation of petitioners tax liability averring that the sales discount of 20% should be deducted
from gross income to arrive at the taxable income. Such discount cannot be considered a tax credit because the latter, being in the nature of a tax refund, is treated
as a return of tax payments erroneously or excessively
assessed and collected as provided under Section 204(3) of the Tax Code, to wit:
(3) x x x No credit or refund of taxes or penalties shall be allowed unless the taxpayer files in writing with the Commissioner a claim
for credit or refund within two (2) years after the payment of the tax or penalty.

In its Resolution, dated December 7, 1998, the CTA modified its earlier decision, thus:

ACCORDINGLY, the petitioners Motion for Partial Reconsideration is hereby GRANTED. Respondent is hereby ORDERED to ISSUE tax
credit certificates in favor of petitioner [in] the amounts of P45,574.63 and P135,906.48 representing overpaid income tax for the years 1993
and 1994, as prayed for in its motion. On the other hand, the Respondents Motion for Reconsideration is DENIED for lack of merit.
SO ORDERED.[5]

Consequently, the Commissioner filed a petition for review with the Court of Appeals asking for the reversal of the CTA Decision and Resolution.

The Court of Appeals rendered its assailed Decision on October 19, 1999, the dispositive portion of which reads:

WHEREFORE, in view of the foregoing premises, the petition is hereby GRANTED IN PART. The resolution issued by the Court of Tax Appeals
dated December [7], 1998 is SET ASIDE and the Decision rendered by the latter is AFFIRMED IN TOTO.
No costs.
SO ORDERED.[6]

Hence, this petition positing that:
THE COURT OF APPEALS ERRED IN RULING THAT IN COMPUTING THE TAX CREDIT TO BE ALLOWED PETITIONER FOR DISCOUNTS GRANTED TO
SENIOR CITIZENS ON THEIR PURCHASE OF MEDICINES, THE ACQUISITION COST RATHER THAN THE ACTUAL DISCOUNT GRANTED TO SENIOR
CITIZENS SHOULD BE THE BASIS.[7]

Otherwise stated, the matter to be determined is the amount of tax credit that may be claimed by a taxable entity which grants a 20% sales discount to qualified
senior citizens on their purchase of medicines pursuant to Section 4(a) of R.A. No. 7432 which states:

Sec. 4. Privileges for the Senior citizens. The senior citizens shall be entitled to the following:
a) the grant of twenty percent (20%) discount from all establishments relative to utilization of transportation services, hotels and
similar lodging establishments, restaurants and recreation centers and purchase of medicines anywhere in the
country: Provided, That private establishments may claim the cost[8] as tax credit.

The term cost in the above provision refers to the amount of the 20% discount extended by a private establishment to senior citizens in their purchase of
medicines. This amount shall be applied as a tax credit, and may be deducted from the tax liability of the entity concerned. If there is no current tax due or the
establishment reports a net loss for the period, the credit may be carried over to the succeeding taxable year. This is in line with the interpretation of this Court
in Commissioner of Internal Revenue v. Central Luzon Drug Corporation [9] wherein it affirmed that R.A. No. 7432 allows private establishments to claim as tax credit
the amount of discounts they grant to senior citizens.

The Court notes that petitioner, while praying for the reinstatement of the CTA Resolution, dated December 7, 1998, directing the issuance of tax
certificates in favor of petitioner for the respective amounts of P45,574.63 and P135,906.48 representing overpaid income tax for 1993 and 1994, asks for the refund
of the same.[10]

In this regard, petitioners claim for refund must be denied. The law expressly provides that the discount given to senior citizens may be claimed as a tax
credit, and not a refund. Thus, where the words of a statute are clear, plain and free from ambiguity, it must be given its literal meaning and applied without
attempted interpretation.[11]

WHEREFORE, the petition is PARTLY GRANTED. The Decision and Resolution of the Court of Appeals, dated October 19, 1999 and February 18, 2000,
respectively, in CA-G.R SP No. 49946 are REVERSED and SET ASIDE. The Resolution of the Court of Tax Appeals, dated December 7, 1998, directing the issuance of tax
credit certificates in favor of petitioner in the amounts of P45,574.63 and P135,906.48 is hereby REINSTATED. No costs.
SO ORDERED.
4. CIR VS CENTRAL LUZON DRUG CORP

The Case
This petition for review on certiorari [1] assails the 13 August 2003 Decision[2] of the Court of Appeals in CA-G.R. SP No. 70480. The Court of Appeals dismissed the
appeal filed by the Commissioner of Internal Revenue (petitioner) questioning the 15 April 2002 Decision [3] of the Court of Tax Appeals (CTA) in CTA Case No. 6054
ordering petitioner to issue, in favor of Central Luzon Drug Corporation (respondent), a tax credit certificate in the amount of P2,376,805.63, arising from the alleged
erroneous interpretation of the term tax credit used in Section 4(a) of Republic Act No. (RA) 7432. [4]

The Facts
Respondent is a domestic corporation engaged in the retail of medicines and other pharmaceutical products. [5] In 1997, it operated eight drugstores under the
business name and style Mercury Drug.[6]

Pursuant to the provisions of RA 7432 and Revenue Regulations No. (RR) 2-94[7] issued by the Bureau of Internal Revenue (BIR), respondent granted 20% sales
discount to qualified senior citizens on their purchases of medicines covering the calendar year 1997. The sales discount granted to senior citizens
totaled P2,798,508.00.

On 15 April 1998, respondent filed its 1997 Corporate Annual Income Tax Return reflecting a nil income tax liability due to net loss incurred from business
operations of P2,405,140.00.[8] Respondent filed its 1997 Income Tax Return under protest. [9]

On 19 March 1999, respondent filed with the petitioner a claim for refund or credit of overpaid income tax for the taxable year 1997 in the amount of P2,660,829.00.
[10]
Respondent alleged that the overpaid tax was the result of the wrongful implementation of RA 7432. Respondent treated the 20% sales discount as a deduction
from gross sales in compliance with RR 2-94 instead of treating it as a tax credit as provided under Section 4(a) of RA 7432.

On 6 April 2000, respondent filed a Petition for Review with the CTA in order to toll the running of the two-year statutory period within which to file a judicial claim.
Respondent reasoned that RR 2-94, which is a mere implementing administrative regulation, cannot modify, alter or amend the clear mandate of RA 7432.
Consequently, Section 2(i) of RR 2-94 is without force and effect for being inconsistent with the law it seeks to implement. [11]

In his Answer, petitioner stated that the construction given to a statute by a specialized administrative agency like the BIR is entitled to great respect and should be
accorded great weight. When RA 7432 allowed senior citizens discounts to be claimed as tax credit, it was silent as to the mechanics of availing the same. For
clarification, the BIR issued RR 2-94 and defined the term tax credit as a deduction from the establishment's gross income and not from its tax liability in order to
avoid an absurdity that is not intended by the law. [12]

The Ruling of the Court of Tax Appeals
On 15 April 2002, the CTA rendered a Decision ordering petitioner to issue a tax credit certificate in the amount of P2,376,805.63 in favor of respondent.

The CTA stated that in a number of analogous cases, it has consistently ruled that the 20% senior citizens discount should be treated as tax credit instead of a mere
deduction from gross income.[13] In quoting its previous decisions, the CTA ruled that RR 2-94 engraved a new meaning to the phrase tax credit as deductible from
gross income which is a deviation from the plain intendment of the law. An administrative regulation must not contravene but should conform to the standards that
the law prescribes.[14]

The CTA also ruled that respondent has properly substantiated its claim for tax credit by documentary evidence. However, based on the examination conducted by
the commissioned independent certified public accountant (CPA), there were some material discrepancies due to missing cash slips, lack of senior citizens ID number,
failure to include the cash slips in the summary report and vice versa. Therefore, between the Summary Report presented by respondent and the audited amount
presented by the independent CPA, the CTA deemed it proper to consider the lesser of two amounts.

The re-computation of the overpaid income tax[15] for the year 1997 is as follows:
Sales, Net P176,742,607.00
Add: 20% Sales Discount to Senior Citizens 2,798,508.00
Sales, Gross P179,541,115.00

Less: Cost of Sales
Merchandise inventory, beg. P 20,905,489.00
Purchases 168,762,950.00
Merchandise inventory, end ( 27,281,439.00) 162,387,000.00
Gross Profit P 17,154,115.00

Add: Miscellaneous income 402,124.00
Total Income P 17,556,239.00

Less: Operating expenses 16,913,699.00

[16]
Less: Income subjected to final tax (Interest Income ) 249,172.00
Income Tax Due (35%) P 137,679.00

[17]
Less: Tax Credit (Cost of 20% discount as adjusted ) 2,514,484.63
Income Tax Payable (P 2,376,805.63)

Income Tax Actually Paid 0.00
Income Tax Refundable (P 2,376,805.63)

Aggrieved by the CTAs decision, petitioner elevated the case before the Court of Appeals.

The Ruling of the Appellate Court
On 13 August 2003, the Court of Appeals affirmed the CTAs decision in toto.
The Court of Appeals disagreed with petitioners contention that the CTA's decision applied a literal interpretation of the law. It reasoned that under
the verba legis rule, if the statute is clear, plain, and free from ambiguity, it must be given its literal meaning and applied without interpretation. This principle rests
on the presumption that the words used by the legislature in a statute correctly express its intent and preclude the court from construing it differently. [18]

The Court of Appeals distinguished tax credit as an amount subtracted from a taxpayers total tax liability to arrive at the tax due while a tax deduction reduces the
taxpayers taxable income upon which the tax liability is computed. A credit differs from deduction in that the former is subtracted from tax while the latter is
subtracted from income before the tax is computed.[19]

The Court of Appeals found no legal basis to support petitioners opinion that actual payment by the taxpayer or actual receipt by the government of the tax sought to
be credited or refunded is a condition sine qua non for the availment of tax credit as enunciated in Section 229 [20] of the Tax Code. The Court of Appeals stressed that
Section 229 of the Tax Code pertains to illegally collected or erroneously paid taxes while RA 7432 is a special law which uses the method of tax credit in the context
of just compensation. Further, RA 7432 does not require prior tax payment as a condition for claiming the cost of the sales discount as tax credit.
Hence, this petition.

The Issues

Petitioner raises two issues[21] in this Petition:

1. Whether the appellate court erred in holding that respondent may claim the 20% senior citizens sales discount as a tax credit deductible from future
income tax liabilities instead of a mere deduction from gross income or gross sales; and
2. Whether the appellate court erred in holding that respondent is entitled to a refund.
The Ruling of the Court
The petition lacks merit.

The issues presented are not novel. In two similar cases involving the same parties where respondent lodged its claim for tax credit on the senior citizens discount
granted in 1995[22] and 1996,[23] this Court has squarely ruled that the 20% senior citizens discount required by RA 7432 may be claimed as a tax credit and not merely
a tax deduction from gross sales or gross income. Under RA 7432, Congress granted the tax credit benefit to all covered establishments without conditions. The net
loss incurred in a taxable year does not preclude the grant of tax credit because by its nature, the tax credit may still be deducted from a future, not a present, tax
liability. However, the senior citizens discount granted as a tax credit cannot be refunded.

RA 7432 expressly allows private establishments to claim the amount of discounts they grant to senior citizens as tax credit.
Section 4(a) of RA 7432 states:
SECTION 4. Privileges for the Senior Citizens. - The senior citizens shall be entitled to the following:
a) the grant of twenty percent (20%) discount from all establishments relative to the utilization of transportation services, hotels and similar
lodging establishments, restaurants and recreation centers and purchase of medicines anywhere in the country: Provided, That private
establishments may claim the cost as tax credit; (Emphasis supplied)

However, RR 2-94 interpreted the tax credit provision of RA 7432 in this wise:
Sec. 2. DEFINITIONS. - For purposes of these regulations:
x x x
i. Tax Credit refers to the amount representing 20% discount granted to a qualified senior citizen by all establishments relative to their
utilization of transportation services, hotels and similar lodging establishments, restaurants, drugstores, recreation centers, theaters, cinema
houses, concert halls, circuses, carnivals and other similar places of culture, leisure and amusement, which discount shall be deducted by the
said establishments from their gross income for income tax purposes and from their gross sales for value-added tax or other percentage tax
purposes. (Emphasis supplied).

x x x
Sec. 4. Recording/Bookkeeping Requirement for Private Establishments
x x x
The amount of 20% discount shall be deducted from the gross income for income tax purposes and from gross sales of the business enterprise
concerned for purposes of the VAT and other percentage taxes. (Emphasis supplied)

Tax credit is defined as a peso-for-peso reduction from a taxpayers tax liability. It is a direct subtraction from the tax payable to the government. On the other hand,
RR 2-94 treated the amount of senior citizens discount as a tax deduction which is only a subtraction from gross income resulting to a lower taxable income. RR 2-94
treats the senior citizens discount in the same manner as the allowable deductions provided in Section 34, Chapter VII of the National Internal Revenue Code. RR 2-94
affords merely a fractional reduction in the taxes payable to the government depending on the applicable tax rate.

In Commissioner of Internal Revenue v. Central Luzon Drug Corporation,[24] the Court ruled that petitioners definition in RR 2-94 of a tax credit is clearly erroneous. To
deny the tax credit, despite the plain mandate of the law, is indefensible. In Commissioner of Internal Revenue v. Central Luzon Drug
Corporation, the Court declared, When the law says that the cost of the discount may be claimed as a tax credit, it means that the amount when claimed ― shall be
treated as a reduction from any tax liability, plain and simple. The Court further statedthat the law cannot be amended by a mere regulation because administrative
agencies in issuing these regulations may not enlarge, alter or restrict the provisions of the law it administers; it cannot engraft additional requirements not
contemplated by the legislature. Hence, there being a dichotomy in the law and the revenue regulation, the definition provided in Section 2(i) of RR 2-94 cannot be
given effect.

The tax credit may still be deducted from a future, not a present, tax liability.
In the petition filed before this Court, petitioner alleged that respondent incurred a net loss from its business operations in 1997; hence, it did not pay any income tax.
Since no tax payment was made, it follows that no tax credit can also be claimed because tax credits are usually applied against a tax liability. [25]

In Commissioner of Internal Revenue v. Central Luzon Drug Corporation,[26] the Court stressed that prior payment of tax liability is not a pre-condition before a taxable
entity can avail of the tax credit. The Court declared, Where there is no tax liability or where a private establishment reports a net loss for the period, the tax credit
can be availed of and carried over to the next taxable year. [27] It is irrefutable that under RA 7432, Congress has granted the tax credit benefit to all covered
establishments without conditions. Therefore, neither a tax liability nor a prior tax payment is required for the existence or grant of a tax credit. [28] The applicable law
on this point is clear and without any qualifications. [29]
Hence, respondent is entitled to claim the amount of P2,376,805.63 as tax credit despite incurring net loss from business operations for the taxable year 1997.

The senior citizens discount may be claimed as a tax credit and not a refund.
Section 4(a) of RA 7432 expressly provides that private establishments may claim the cost as a tax credit. A tax credit can only be utilized as payment for future
internal revenue tax liabilities of the taxpayer while a tax refund, issued as a check or a warrant, can be encashed. A tax refund can be availed of immediately while a
tax credit can only be utilized if the taxpayer has existing or future tax liabilities.

If the words of the law are clear, plain, and free of ambiguity, it must be given its literal meaning and applied without any interpretation. Hence, the senior citizens
discount may be claimed as a tax credit and not as a refund.[30]
RA 9257 now specifically provides that all covered establishments
may claim the senior citizens discount as tax deduction.

On 26 February 2004, RA 9257, otherwise known as the Expanded Senior Citizens Act of 2003, was signed into law and became effective on 21 March 2004. [31]

RA 9257 has amended RA 7432. Section 4(a) of RA 9257 reads:

Sec. 4. Privileges for the Senior Citizens. - The senior citizens shall be entitled to the following:
(a) the grant of twenty percent (20%) discount from all establishments relative to the utilization of services in hotels and similar lodging
establishments, restaurants and recreation centers, and purchase of medicines in all establishments for the exclusive use or enjoyment of
senior citizens, including funeral and burial services for the death of senior citizens;
x x x
The establishment may claim the discounts granted under (a), (f), (g) and (h) as tax deduction based on the net cost of the goods sold or
services rendered: Provided, That the cost of the discount shall be allowed as deduction from gross income for the same taxable year that the
discount is granted. Provided, further, That the total amount of the claimed tax deduction net of value added tax if applicable, shall be included
in their gross sales receipts for tax purposes and shall be subject to proper documentation and to the provisions of the National Internal
Revenue Code, as amended. (Emphasis supplied)

Contrary to the provision in RA 7432 where the senior citizens discount granted by all covered establishments can be claimed as tax credit, RA 9257 now specifically
provides that this discount should be treated as tax deduction.

With the effectivity of RA 9257 on 21 March 2004, there is now a new tax treatment for senior citizens discount granted by all covered establishments. This discount
should be considered as a deductible expense from gross income and no longer as tax credit. [32] The present case, however, covers the taxable year 1997 and is thus
governed by the old law, RA 7432.

WHEREFORE, we DENY the petition. We AFFIRM the assailed Decision of the Court of Appeals dated 13 August 2003 in CA-G.R. SP No. 70480.
No pronouncement as to costs.
SO ORDERED.
5. CARLOS SUPERDRUG CORP VS DSWD

This is a petition[1] for Prohibition with Prayer for Preliminary Injunction assailing the constitutionality of Section 4(a) of Republic Act (R.A.) No. 9257,
[2]
otherwise known as the Expanded Senior Citizens Act of 2003.

Petitioners are domestic corporations and proprietors operating drugstores in the Philippines.

Public respondents, on the other hand, include the Department of Social Welfare and Development (DSWD), the Department of Health (DOH), the Department of
Finance (DOF), the Department of Justice (DOJ), and the Department of Interior and Local Government (DILG) which have been specifically tasked to monitor the
drugstores compliance with the law; promulgate the implementing rules and regulations for the effective implementation of the law; and prosecute and revoke the
licenses of erring drugstore establishments.

The antecedents are as follows:

On February 26, 2004, R.A. No. 9257, amending R.A. No. 7432, [3] was signed into law by President Gloria Macapagal-Arroyo and it became effective
on March 21, 2004. Section 4(a) of the Act states:

SEC. 4. Privileges for the Senior Citizens. The senior citizens shall be entitled to the following:
(a) the grant of twenty percent (20%) discount from all establishments relative to the utilization of services in hotels and similar
lodging establishments, restaurants and recreation centers, and purchase of medicines in all establishments for the exclusive use or enjoyment
of senior citizens, including funeral and burial services for the death of senior citizens;
. . .
The establishment may claim the discounts granted under (a), (f), (g) and (h) as tax deduction based on the net cost of the goods
sold or services rendered: Provided, That the cost of the discount shall be allowed as deduction from gross income for the same taxable year
that the discount is granted. Provided, further, That the total amount of the claimed tax deduction net of value added tax if applicable, shall be
included in their gross sales receipts for tax purposes and shall be subject to proper documentation and to the provisions of the National
Internal Revenue Code, as amended.[4]

On May 28, 2004, the DSWD approved and adopted the Implementing Rules and Regulations of R.A. No. 9257, Rule VI, Article 8 of which states:

Article 8. Tax Deduction of Establishments. The establishment may claim the discounts granted under Rule V, Section 4 Discounts for
Establishments;[5] Section 9, Medical and Dental Services in Private Facilities[,] [6] and Sections 10[7] and 11[8] Air, Sea and Land Transportation as
tax deduction based on the net cost of the goods sold or services rendered. Provided, That the cost of the discount shall be allowed as
deduction from gross income for the same taxable year that the discount is granted; Provided, further, That the total amount of the claimed tax
deduction net of value added tax if applicable, shall be included in their gross sales receipts for tax purposes and shall be subject to proper
documentation and to the provisions of the National Internal Revenue Code, as amended; Provided, finally, that the implementation of the tax
deduction shall be subject to the Revenue Regulations to be issued by the Bureau of Internal Revenue (BIR) and approved by the Department of
Finance (DOF).[9]
On July 10, 2004, in reference to the query of the Drug Stores Association of the Philippines (DSAP) concerning the meaning of a tax deduction under the
Expanded Senior Citizens Act, the DOF, through Director IV Ma. Lourdes B. Recente, clarified as follows:

1) The difference between the Tax Credit (under the Old Senior Citizens Act) and Tax Deduction (under the Expanded Senior Citizens
Act).

1.1. The provision of Section 4 of R.A. No. 7432 (the old Senior Citizens Act) grants twenty percent (20%) discount from all
establishments relative to the utilization of transportation services, hotels and similar lodging establishment, restaurants and
recreation centers and purchase of medicines anywhere in the country, the costs of which may be claimed by the private
establishments concerned as tax credit.

Effectively, a tax credit is a peso-for-peso deduction from a taxpayers tax liability due to the government of the amount
of discounts such establishment has granted to a senior citizen. The establishment recovers the full amount of discount given to a
senior citizen and hence, the government shoulders 100% of the discounts granted.

It must be noted, however, that conceptually, a tax credit scheme under the Philippine tax system, necessitates that
prior payments of taxes have been made and the taxpayer is attempting to recover this tax payment from his/her income tax due.
The tax credit scheme under R.A. No. 7432 is, therefore, inapplicable since no tax payments have previously occurred.

1.2. The provision under R.A. No. 9257, on the other hand, provides that the establishment concerned may claim
the discounts under Section 4(a), (f), (g) and (h) as tax deduction from gross income, based on the net cost of goods sold or services
rendered.

Under this scheme, the establishment concerned is allowed to deduct from gross income, in computing for its tax liability,
the amount of discounts granted to senior citizens. Effectively, the government loses in terms of foregone revenues an amount
equivalent to the marginal tax rate the said establishment is liable to pay the government. This will be an amount equivalent to 32%
of the twenty percent (20%) discounts so granted. The establishment shoulders the remaining portion of the granted discounts.

It may be necessary to note that while the burden on [the] government is slightly diminished in terms of its percentage
share on the discounts granted to senior citizens, the number of potential establishments that may claim tax deductions, have
however, been broadened. Aside from the establishments that may claim tax credits under the old law, more establishments were
added under the new law such as: establishments providing medical and dental services, diagnostic and laboratory services,
including professional fees of attending doctors in all private hospitals and medical facilities, operators of domestic air and sea
transport services, public railways and skyways and bus transport services.

A simple illustration might help amplify the points discussed above, as follows:

Tax Deduction Tax Credit
Gross Sales x x x x x x x x x x x x
Less : Cost of goods sold x x x x x x x x x x
Net Sales x x x x x x x x x x x x
Less: Operating Expenses:
Tax Deduction on Discounts x x x x --
Other deductions: x x x x x x x x
Net Taxable Income x x x x x x x x x x
Tax Due x x x x x x
Less: Tax Credit -- ______x x
Net Tax Due -- x x
As shown above, under a tax deduction scheme, the tax deduction on discounts was subtracted from Net Sales together with other
deductions which are considered as operating expenses before the Tax Due was computed based on the Net Taxable Income. On the other
hand, under a tax credit scheme, the amount of discounts which is the tax credit item, was deducted directly from the tax due amount.[10]

Meanwhile, on October 1, 2004, Administrative Order (A.O.) No. 171 or the Policies and Guidelines to Implement the Relevant Provisions of Republic Act
9257, otherwise known as the Expanded Senior Citizens Act of 2003[11] was issued by the DOH, providing the grant of twenty percent (20%) discount in the purchase of
unbranded generic medicines from all establishments dispensing medicines for the exclusive use of the senior citizens.
On November 12, 2004, the DOH issued Administrative Order No 177 [12] amending A.O. No. 171. Under A.O. No. 177, the twenty percent discount shall not be limited
to the purchase of unbranded generic medicines only, but shall extend to both prescription and non-prescription medicines whether branded or generic. Thus, it
stated that [t]he grant of twenty percent (20%) discount shall be provided in the purchase of medicines from all establishments dispensing medicines for the exclusive
use of the senior citizens.

Petitioners assail the constitutionality of Section 4(a) of the Expanded Senior Citizens Act based on the following grounds: [13]

1) The law is confiscatory because it infringes Art. III, Sec. 9 of the Constitution which provides that private property shall not be taken
for public use without just compensation;

2) It violates the equal protection clause (Art. III, Sec. 1) enshrined in our Constitution which states that no person shall be deprived of
life, liberty or property without due process of law, nor shall any person be denied of the equal protection of the laws; and

3) The 20% discount on medicines violates the constitutional guarantee in Article XIII, Section 11 that makes essential goods, health
and other social services available to all people at affordable cost.[14]

Petitioners assert that Section 4(a) of the law is unconstitutional because it constitutes deprivation of private property. Compelling drugstore owners and
establishments to grant the discount will result in a loss of profit

and capital because 1) drugstores impose a mark-up of only 5% to 10% on branded medicines; and 2) the law failed to provide a scheme whereby drugstores will be
justly compensated for the discount.

Examining petitioners arguments, it is apparent that what petitioners are ultimately questioning is the validity of the tax deduction scheme as a
reimbursement mechanism for the twenty percent (20%) discount that they extend to senior citizens.
Based on the afore-stated DOF Opinion, the tax deduction scheme does not fully reimburse petitioners for the discount privilege accorded to senior
citizens. This is because the discount is treated as a deduction, a tax-deductible expense that is subtracted from the gross income and results in a lower taxable
income. Stated otherwise, it is an amount that is allowed by law [15] to reduce the income prior to the application of the tax rate to compute the amount of tax which is
due.[16] Being a tax deduction, the discount does not reduce taxes owed on a peso for peso basis but merely offers a fractional reduction in taxes owed.

Theoretically, the treatment of the discount as a deduction reduces the net income of the private establishments concerned. The discounts given would
have entered the coffers and formed part of the gross sales of the private establishments, were it not for R.A. No. 9257.
The permanent reduction in their total revenues is a forced subsidy corresponding to the taking of private property for public use or benefit. [17] This
constitutes compensable taking for which petitioners would ordinarily become entitled to a just compensation.

Just compensation is defined as the full and fair equivalent of the property taken from its owner by the expropriator. The measure is not the takers gain
but the owners loss. The wordjust is used to intensify the meaning of the word compensation, and to convey the idea that the equivalent to be rendered for the
property to be taken shall be real, substantial, full and ample.[18]

A tax deduction does not offer full reimbursement of the senior citizen discount. As such, it would not meet the definition of just compensation. [19]

Having said that, this raises the question of whether the State, in promoting the health and welfare of a special group of citizens, can impose upon private
establishments the burden of partly subsidizing a government program.

The Court believes so.

The Senior Citizens Act was enacted primarily to maximize the contribution of senior citizens to nation-building, and to grant benefits and privileges to
them for their improvement and well-being as the State considers them an integral part of our society. [20]

The priority given to senior citizens finds its basis in the Constitution as set forth in the law itself. Thus, the Act provides:

SEC. 2. Republic Act No. 7432 is hereby amended to read as follows:
SECTION 1. Declaration of Policies and Objectives. Pursuant to Article XV, Section 4 of the Constitution, it is the duty of the family to
take care of its elderly members while the State may design programs of social security for them. In addition to this, Section 10 in the
Declaration of Principles and State Policies provides: The State shall provide social justice in all phases of national development. Further, Article
XIII, Section 11, provides: The State shall adopt an integrated and comprehensive approach to health development which shall endeavor to
make essential goods, health and other social services available to all the people at affordable cost. There shall be priority for the needs of the
underprivileged sick, elderly, disabled, women and children. Consonant with these constitutional principles the following are the declared
policies of this Act:
...
(f) To recognize the important role of the private sector in the improvement of the welfare of senior citizens and to actively seek
their partnership.[21]
To implement the above policy, the law grants a twenty percent discount to senior citizens for medical and dental services, and diagnostic and laboratory fees;
admission fees charged by theaters, concert halls, circuses, carnivals, and other similar places of culture, leisure and amusement; fares for domestic land, air and sea
travel; utilization of services in hotels and similar lodging establishments, restaurants and recreation centers; and purchases of medicines for the exclusive use or
enjoyment of senior citizens. As a form of reimbursement, the law provides that business establishments extending the twenty percent discount to senior citizens
may claim the discount as a tax deduction.

The law is a legitimate exercise of police power which, similar to the power of eminent domain, has general welfare for its object. Police power is not capable of an
exact definition, but has been purposely veiled in general terms to underscore its comprehensiveness to meet all exigencies and provide enough room for an efficient
and flexible response to conditions and circumstances, thus assuring the greatest benefits. [22] Accordingly, it has been described as the most essential, insistent and
the least limitable of powers, extending as it does to all the great public needs. [23] It is [t]he power vested in the legislature by the constitution to make, ordain, and
establish all manner of wholesome and reasonable laws, statutes, and ordinances, either with penalties or without, not repugnant to the constitution, as they shall
judge to be for the good and welfare of the commonwealth, and of the subjects of the same. [24]

For this reason, when the conditions so demand as determined by the legislature, property rights must bow to the primacy of police power because
property rights, though sheltered by due process, must yield to general welfare. [25]

Police power as an attribute to promote the common good would be diluted considerably if on the mere plea of petitioners that they will suffer loss of
earnings and capital, the questioned provision is invalidated. Moreover, in the absence of evidence demonstrating the alleged confiscatory effect of the provision in
question, there is no basis for its nullification in view of the presumption of validity which every law has in its favor. [26]

Given these, it is incorrect for petitioners to insist that the grant of the senior citizen discount is unduly oppressive to their business, because petitioners
have not taken time to calculate correctly and come up with a financial report, so that they have not been able to show properly whether or not the tax deduction
scheme really works greatly to their disadvantage. [27]

In treating the discount as a tax deduction, petitioners insist that they will incur losses because, referring to the DOF Opinion, for every P1.00 senior citizen
discount that petitioners would give, P0.68 will be shouldered by them as only P0.32 will be refunded by the government by way of a tax deduction.

To illustrate this point, petitioner Carlos Super Drug cited the anti-hypertensive maintenance drug Norvasc as an example. According to the latter, it
acquires Norvasc from the distributors at P37.57 per tablet, and retails it at P39.60 (or at a margin of 5%). If it grants a 20% discount to senior citizens or an amount
equivalent to P7.92, then it would have to sellNorvasc at P31.68 which translates to a loss from capital of P5.89 per tablet. Even if the government will allow a tax
deduction, only P2.53 per tablet will be refunded and not the full amount of the discount which is P7.92. In short, only 32% of the 20% discount will be reimbursed to
the drugstores.[28]

Petitioners computation is flawed. For purposes of reimbursement, the law states that the cost of the discount shall be deducted from gross income, [29] the
amount of income derivedfrom all sources before deducting allowable expenses, which will result in net income. Here, petitioners tried to show a loss on a per
transaction basis, which should not be the case. An income statement, showing an accounting of petitioners sales, expenses, and net profit (or loss) for a given period
could have accurately reflected the effect of the discount on their income. Absent any financial statement, petitioners cannot substantiate their claim that they will
be operating at a loss should they give the discount. In addition, the computation was erroneously based on the assumption that their customers consisted wholly of
senior citizens. Lastly, the 32% tax rate is to be imposed on income, not on the amount of the discount.

Furthermore, it is unfair for petitioners to criticize the law because they cannot raise the prices of their medicines given the cutthroat nature of the players
in the industry. It is a business decision on the part of petitioners to peg the mark-up at 5%. Selling the medicines below acquisition cost, as alleged by petitioners, is
merely a result of this decision. Inasmuch as pricing is a property right, petitioners cannot reproach the law for being oppressive, simply because they cannot afford to
raise their prices for fear of losing their customers to competition.

The Court is not oblivious of the retail side of the pharmaceutical industry and the competitive pricing component of the business. While the Constitution
protects property rights, petitioners must accept the realities of business and the State, in the exercise of police power, can intervene in the operations of a business
which may result in an impairment of property rights in the process.

Moreover, the right to property has a social dimension. While Article XIII of the Constitution provides the precept for the protection of property, various
laws and jurisprudence, particularly on agrarian reform and the regulation of contracts and public utilities, continuously serve as a reminder that the right to property
can be relinquished upon the command of the State for the promotion of public good.[30]

Undeniably, the success of the senior citizens program rests largely on the support imparted by petitioners and the other private establishments
concerned. This being the case, the means employed in invoking the active participation of the private sector, in order to achieve the purpose or objective of the law,
is reasonably and directly related. Without sufficient proof that Section 4(a) of R.A. No. 9257 is arbitrary, and that the continued implementation of the same would
be unconscionably detrimental to petitioners, the Court will refrain from quashing a legislative act.[31]
WHEREFORE, the petition is DISMISSED for lack of merit.
No costs. SO ORDERED.
6. CIR VS ISABELA CULTURAL CORPORATION

Petitioner Commissioner of Internal Revenue (CIR) assails the September 30, 2005 Decision [1] of the Court of Appeals in CA-G.R. SP No. 78426 affirming the
February 26, 2003 Decision [2] 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 BIRs disallowance of ICCs 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 ICCs 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 CTAs 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
ICCs 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 taxpayers 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 ICCs tax problems for the year 1984. As testified by the Treasurer of ICC, the firm has been its counsel since the 1960s. [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 firms 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 1986 [20] 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 BIRs disallowance of ICCs expenses for professional services. The Court
of Appeals 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
theMODIFICATION 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 Corporations liability under Assessment Notice No. FAS-1-86-90-000680.
SO ORDERED.
Facts: Isabela Cultural Corporation (ICC), a domestic corporation received an assessment notice for deficiency income tax and expanded withholding tax from BIR. It
arose from the disallowance of ICC’s claimed expense for professional and security services paid by ICC; as well as the alleged understatement of interest income on
the three promissory notes due from Realty Investment Inc. The deficiency expanded withholding tax was allegedly due to the failure of ICC to withhold 1% e-
withholding tax on its claimed deduction for security services.
ICC sought a reconsideration of the assessments. Having received a final notice of assessment, it brought the case to CTA, which held that it is unappealable, since the
final notice is not a decision. CTA’s ruling was reversed by CA, which was sustained by SC, and case was remanded to CTA. CTA rendered a decision in favor of ICC. It
ruled that the deductions for professional and security services were properly claimed, it said that even if services were rendered in 1984 or 1985, the amount is not
yet determined at that time. Hence it is a proper deduction in 1986. It likewise found that it is the BIR which overstate the interest income, when it applied
compounding absent any stipulation.
Petitioner appealed to CA, which affirmed CTA, hence the petition.
Issue: Whether or not the expenses for professional and security services are deductible.
Held: No. One of the requisites for the deductibility of ordinary and necessary expenses is that it must have been paid or incurred during the taxable year. This
requisite is dependent on the method of accounting of the taxpayer. In the case at bar, ICC is using the accrual method of accounting. Hence, under this method, an
expense is recognized when it is incurred. Under a Revenue Audit Memorandum, when the method of accounting is accrual, expenses not being claimed as
deductions by a taxpayer in the current year when they are incurred cannot be claimed in the succeeding year.
The accrual of income and expense is permitted when the all-events test has been met. This test requires: 1) fixing of a right to income or liability to pay; and 2) the
availability of the reasonable accurate determination of such income or liability. The test does not demand that the amount of income or liability be known
absolutely, only that a taxpayer has at its disposal the information necessary to compute the amount with reasonable accuracy.
From the nature of the claimed deductions and the span of time during which the firm was retained, ICC can be expected to have reasonably known the retainer fees
charged by the firm. They cannot give as an excuse the delayed billing, since it could have inquired into the amount of their obligation and reasonably determine the
amount.
7. CIR VS GENERAL FOODS

Petitioner Commissioner of Internal Revenue (Commissioner) assails the resolution [1] of the Court of Appeals reversing the decision [2] of the Court of Tax
Appeals which in turn denied the protest filed by respondent General Foods (Phils.), Inc., regarding the assessment made against the latter for deficiency taxes.
The records reveal that, on June 14, 1985, respondent corporation, which is engaged in the manufacture of beverages such as Tang, Calumet and Kool-Aid,
filed its income tax return for the fiscal year ending February 28, 1985. In said tax return, respondent corporation claimed as deduction, among other business
expenses, the amount of P9,461,246 for media advertising for Tang.
On May 31, 1988, the Commissioner disallowed 50% or P4,730,623 of the deduction claimed by respondent corporation. Consequently, respondent
corporation was assessed deficiency income taxes in the amount of P2,635, 141.42. The latter filed a motion for reconsideration but the same was denied.
On September 29, 1989, respondent corporation appealed to the Court of Tax Appeals but the appeal was dismissed:
With such a gargantuan expense for the advertisement of a singular product, which even excludes other advertising and promotions expenses, we are not
prepared to accept that such amount is reasonable to stimulate the current sale of merchandise regardless of Petitioners explanation that such expense does
not connote unreasonableness considering the grave economic situation taking place after the Aquino assassination characterized by capital fight, strong
deterioration of the purchasing power of the Philippine peso and the slacking demand for consumer products (Petitioners Memorandum, CTA Records, p.
273). We are not convinced with such an explanation. The staggering expense led us to believe that such expenditure was incurred to create or maintain some
form of good will for the taxpayers trade or business or for the industry or profession of which the taxpayer is a member. The term good will can hardly be said
to have any precise signification; it is generally used to denote the benefit arising from connection and reputation (Words and Phrases, Vol. 18, p. 556 citing
Douhart vs. Loagan, 86 III. App. 294). As held in the case of Welch vs. Helvering, efforts to establish reputation are akin to acquisition of capital assets and,
therefore, expenses related thereto are not business expenses but capital expenditures. (Atlas Mining and Development Corp. vs. Commissioner of Internal
Revenue, supra). For sure such expenditure was meant not only to generate present sales but more for future and prospective benefits. Hence, abnormally
large expenditures for advertising are usually to be spread over the period of years during which the benefits of the expenditures are received (Mertens, supra,
citing Colonial Ice Cream Co., 7 BTA 154).
WHEREFORE, in all the foregoing, and finding no error in the case appealed from, we hereby RESOLVE to DISMISS the instant petition for lack of merit and ORDER the
Petitioner to pay the respondent Commissioner the assessed amount of P2,635,141.42 representing its deficiency income tax liability for the fiscal year ended
February 28, 1985.[3]
Aggrieved, respondent corporation filed a petition for review at the Court of Appeals which rendered a decision reversing and setting aside the decision of the
Court of Tax Appeals:
Since it has not been sufficiently established that the item it claimed as a deduction is excessive, the same should be allowed.
WHEREFORE, the petition of petitioner General Foods (Philippines), Inc. is hereby GRANTED. Accordingly, the Decision, dated 8 February 1994 of respondent Court of
Tax Appeals is REVERSED and SET ASIDE and the letter, dated 31 May 1988 of respondent Commissioner of Internal Revenue is CANCELLED.
SO ORDERED.[4]
Thus, the instant petition, wherein the Commissioner presents for the Courts consideration a lone issue: whether or not the subject media advertising expense
for Tang incurred by respondent corporation was an ordinary and necessary expense fully deductible under the National Internal Revenue Code (NIRC).
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;[5] and he who claims an exemption must be able to justify his claim by the clearest grant of organic or statute law. An exemption from the common burden
cannot be permitted to exist upon vague implications.[6]
Deductions for income tax purposes partake of the nature of tax exemptions; hence, if tax exemptions are strictly construed, then deductions must also be
strictly construed.
We then proceed to resolve the singular issue in the case at bar. Was the media advertising expense for Tang paid or incurred by respondent corporation for
the fiscal year ending February 28, 1985 necessary and ordinary, hence, fully deductible under the NIRC? Or was it a capital expenditure, paid in order to create
goodwill and reputation for respondent corporation and/or its products, which should have been amortized over a reasonable period?
Section 34 (A) (1), formerly Section 29 (a) (1) (A), of the NIRC provides:
(A) Expenses.-
(1) Ordinary and necessary trade, business or professional expenses.-
(a) In general.- There shall be allowed as deduction from gross income all ordinary and necessary expenses paid or incurred during the taxable
year in carrying on, or which are directly attributable to, the development, management, operation and/or conduct of the trade,
business or exercise of a profession.
Simply put, to be deductible from gross income, the subject advertising expense must comply with the following requisites: (a) the expense must be ordinary
and necessary; (b) it must have been paid or incurred during the taxable year; (c) it must have been paid or incurred in carrying on the trade or business of the
taxpayer; and (d) it must be supported by receipts, records or other pertinent papers. [7]
The parties are in agreement that the subject advertising expense was paid or incurred within the corresponding taxable year and was incurred in carrying on a
trade or business. Hence, it was necessary. However, their views conflict as to whether or not it was ordinary. To be deductible, an advertising expense should not
only be necessary but also ordinary. These two requirements must be met.
The Commissioner maintains that the subject advertising expense was not ordinary on the ground that it failed the two conditions set by U.S. jurisprudence:
first, reasonableness of the amount incurred and second, the amount incurred must not be a capital outlay to create goodwill for the product and/or private
respondents business. Otherwise, the expense must be considered a capital expenditure to be spread out over a reasonable time.
We agree.
There is yet to be a clear-cut criteria or fixed test for determining the reasonableness of an advertising expense. There being no hard and fast rule on the
matter, the right to a deduction depends on a number of factors such as but not limited to: the type and size of business in which the taxpayer is engaged; the volume
and amount of its net earnings; the nature of the expenditure itself; the intention of the taxpayer and the general economic conditions. It is the interplay of these,
among other factors and properly weighed, that will yield a proper evaluation.
In the case at bar, the P9,461,246 claimed as media advertising expense for Tang alone was almost one-half of its total claim for marketing expenses. Aside
from that, respondent-corporation also claimed P2,678,328 as other advertising and promotions expense and another P1,548,614, for consumer promotion.
Furthermore, the subject P9,461,246 media advertising expense for Tang was almost double the amount of respondent corporations P4,640,636 general and
administrative expenses.
We find the subject expense for the advertisement of a single product to be inordinately large. Therefore, even if it is necessary, it cannot be considered an
ordinary expense deductible under then Section 29 (a) (1) (A) of the NIRC.
Advertising is generally of two kinds: (1) advertising to stimulate the current sale of merchandise or use of services and (2) advertising designed to stimulate
the future sale of merchandise or use of services. The second type involves expenditures incurred, in whole or in part, to create or maintain some form of goodwill for
the taxpayers trade or business or for the industry or profession of which the taxpayer is a member. If the expenditures are for the advertising of the first kind, then,
except as to the question of the reasonableness of amount, there is no doubt such expenditures are deductible as business expenses. If, however, the expenditures
are for advertising of the second kind, then normally they should be spread out over a reasonable period of time.
We agree with the Court of Tax Appeals that the subject advertising expense was of the second kind. Not only was the amount staggering; the respondent
corporation itself also admitted, in its letter protest [8] to the Commissioner of Internal Revenues assessment, that the subject media expense was incurred in order to
protect respondent corporations brand franchise, a critical point during the period under review.
The protection of brand franchise is analogous to the maintenance of goodwill or title to ones property. This is a capital expenditure which should be spread
out over a reasonable period of time.[9]
Respondent corporations venture to protect its brand franchise was tantamount to efforts to establish a reputation. This was akin to the acquisition of capital
assets and therefore expenses related thereto were not to be considered as business expenses but as capital expenditures. [10]
True, it is the taxpayers prerogative to determine the amount of advertising expenses it will incur and where to apply them. [11] Said prerogative, however, is
subject to certain considerations. The first relates to the extent to which the expenditures are actually capital outlays; this necessitates an inquiry into the nature or
purpose of such expenditures.[12] The second, which must be applied in harmony with the first, relates to whether the expenditures are ordinary and necessary.
Concomitantly, for an expense to be considered ordinary, it must be reasonable in amount. The Court of Tax Appeals ruled that respondent corporation failed to
meet the two foregoing limitations.
We find said ruling to be well founded. Respondent corporation incurred the subject advertising expense in order to protect its brand franchise. We consider
this as a capital outlay since it created goodwill for its business and/or product. The P9,461,246 media advertising expense for the promotion of a single product,
almost one-half of petitioner corporations entire claim for marketing expenses for that year under review, inclusive of other advertising and promotion expenses
of P2,678,328 and P1,548,614 for consumer promotion, is doubtlessly unreasonable.
It has been a long standing policy and practice of the Court to respect the conclusions of quasi-judicial agencies such as the Court of Tax Appeals, a highly
specialized body specifically created for the purpose of reviewing tax cases. The CTA, by the nature of its functions, is dedicated exclusively to the study and
consideration of tax problems. It has necessarily developed an expertise on the subject. We extend due consideration to its opinion unless there is an abuse or
improvident exercise of authority.[13] Since there is none in the case at bar, the Court adheres to the findings of the CTA.
Accordingly, we find that the Court of Appeals committed reversible error when it declared the subject media advertising expense to be deductible as an
ordinary and necessary expense on the ground that it has not been established that the item being claimed as deduction is excessive. It is not incumbent upon the
taxing authority to prove that the amount of items being claimed is unreasonable. The burden of proof to establish the validity of claimed deductions is on the
taxpayer.[14] In the present case, that burden was not discharged satisfactorily.
WHEREFORE, premises considered, the instant petition is GRANTED. The assailed decision of the Court of Appeals is hereby REVERSED and SET ASIDE. Pursuant
to Sections 248 and 249 of the Tax Code, respondent General Foods (Phils.), Inc. is hereby ordered to pay its deficiency income tax in the amount of P2,635,141.42,
plus 25% surcharge for late payment and 20% annual interest computed from August 25, 1989, the date of the denial of its protest, until the same is fully paid.
SO ORDERED.
Test of Reasonableness
Facts:
Respondent corporation General Foods (Phils), which is engaged in the manufacture of “Tang”, “Calumet” and “Kool-Aid”, filed its income tax return for the fiscal year
ending February 1985 and claimed as deduction, among other business expenses, P9,461,246 for media advertising for “Tang”.
The Commissioner disallowed 50% of the deduction claimed and assessed deficiency income taxes of P2,635,141.42 against General Foods, prompting the latter to
file an MR which was denied.
General Foods later on filed a petition for review at CA, which reversed and set aside an earlier decision by CTA dismissing the company’s appeal.

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

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

We uphold in this taxpayer's appeal the Tax Court's ruling that payment by the taxpayer to its controlling stockholder of 50% of its supervision fees or the amount of
P99,977.91 is not a deductible ordinary and necessary expense and should be treated as a distribution of earnings and profits of the taxpayer.
Petitioner, a domestic corporation engaged in the real estate business as brokers, managing agents and administrators, filed its income tax return for its fiscal year
ending September 30, 1957 showing a net income of P92,540.25 and a tax liability due thereon of P18,508.00, which it paid in due course. Upon verification of its
return, respondent Commissioner of Internal Revenue, disallowed four items of deduction in petitioner's tax returns and assessed against it an income tax deficiency
in the amount of P28,054.00 plus interests. The Court of Tax Appeals upon reviewing the assessment at the taxpayer's petition, upheld respondent's disallowance of
the principal item of petitioner's having paid to Mr. C. M. Hoskins, its founder and controlling stockholder the amount of P99,977.91 representing 50% of supervision
fees earned by it and set aside respondent's disallowance of three other minor items. The Tax Court therefore determined petitioner's tax deficiency to be in the
amount of P27,145.00 and on November 8, 1964 rendered judgment against it, as follows:
WHEREFORE, premises considered, the decision of the respondent is hereby modified. Petitioner is ordered to pay to the latter or his representative the
sum of P27,145.00, representing deficiency income tax for the year 1957, plus interest at 1/2% per month from June 20, 1959 to be computed in
accordance with the provisions of Section 51(d) of the National Internal Revenue Code. If the deficiency tax is not paid within thirty (30) days from the date
this decision becomes final, petitioner is also ordered to pay surcharge and interest as provided for in Section 51 (e) of the Tax Code, without costs.
Petitioner questions in this appeal the Tax Court's findings that the disallowed payment to Hoskins was an inordinately large one, which bore a close relationship to
the recipient's dominant stockholdings and therefore amounted in law to a distribution of its earnings and profits.
We find no merit in petitioner's appeal.
As found by the Tax Court, "petitioner was founded by Mr. C. M. Hoskins in 1937, with a capital stock of 1,000 shares at a par value of P1.00 each share; that of these
1,000 shares, Mr. C. M. Hoskins owns 996 shares (the other 4 shares being held by the other four officers of the corporation), which constitute exactly 99.6% of the
total authorized capital stock (p. 92, t.s.n.); that during the first four years of its existence, Mr. C. M. Hoskins was the President, but during the taxable period in
question, that is, from October 1, 1956 to September 30, 1957, he was the chairman of the Board of Directors and salesman-broker for the company (p. 93, t.s.n.);
that as chairman of the Board of Directors, he received a salary of P3,750.00 a month, plus a salary bonus of about P40,000.00 a year (p. 94, t.s.n.); that he was also a
stockholder and officer of the Paradise Farms, Inc. and Realty Investments, Inc., from which petitioner derived a large portion of its income in the form of supervision
fees and commissions earned on sales of lots (pp. 97-99, t.s.n.; Financial Statements, attached to Exhibit '1', p. 11, BIR rec.); that as chairman of the Board of Directors
of petitioner, his duties were: "To act as a salesman; as a director, preside over meetings and to get all of the real estate business I could for the company by
negotiating sales, purchases, making appraisals, raising funds to finance real estate operations where that was necessary' (p. 96, t.s.n.); that he was familiar with the
contract entered into by the petitioner with the Paradise Farms, Inc. and the Realty Investments, Inc. by the terms of which petitioner was 'to program the
development, arrange financing, plan the proposed subdivision as outlined in the prospectus of Paradise Farms, Inc., arrange contract for road constructions, with the
provision of water supply to all of the lots and in general to serve as managing agents for the Paradise Farms, Inc. and subsequently for the Realty Investment, Inc."
(pp. 96-97. t.s.n.)
Considering that in addition to being Chairman of the board of directors of petitioner corporation, which bears his name, Hoskins, who owned 99.6% of its total
authorized capital stock while the four other officers-stockholders of the firm owned a total of four-tenths of 1%, or one-tenth of 1% each, with their respective
nominal shareholdings of one share each was also salesman-broker for his company, receiving a 50% share of the sales commissions earned by petitioner, besides his
monthly salary of P3,750.00 amounting to an annual compensation of P45,000.00 and an annual salary bonus of P40,000.00, plus free use of the company car and
receipt of other similar allowances and benefits, the Tax Court correctly ruled that the payment by petitioner to Hoskins of the additional sum of P99,977.91 as his
equal or 50% share of the 8% supervision fees received by petitioner as managing agents of the real estate, subdivision projects of Paradise Farms, Inc. and Realty
Investments, Inc. was inordinately large and could not be accorded the treatment of ordinary and necessary expenses allowed as deductible items within the purview
of Section 30 (a) (i) of the Tax Code.
If such payment of P99,977.91 were to be allowed as a deductible item, then Hoskins would receive on these three items alone (salary, bonus and supervision fee) a
total of P184,977.91, which would be double the petitioner's reported net income for the year of P92,540.25. As correctly observed by respondent. If independently,
a one-time P100,000.00-fee to plan and lay down the rules for supervision of a subdivision project were to be paid to an experienced realtor such as Hoskins, its
fairness and deductibility by the taxpayer could be conceded; but here 50% of the supervision fee of petitioner was being paid by it to Hoskins every year since 1955
up to 1963 and for as long as its contract with the subdivision owner subsisted, regardless of whether services were actually rendered by Hoskins, since his services to
petitioner included such planning and supervision and were already handsomely paid for by petitioner.
The fact that such payment was authorized by a standing resolution of petitioner's board of directors, since "Hoskins had personally conceived and planned the
project" cannot change the picture. There could be no question that as Chairman of the board and practically an absolutely controlling stockholder of petitioner,
holding 99.6% of its stock, Hoskins wielded tremendous power and influence in the formulation and making of the company's policies and decisions. Even just as
board chairman, going by petitioner's own enumeration of the powers of the office, Hoskins, could exercise great power and influence within the corporation, such as
directing the policy of the corporation, delegating powers to the president and advising the corporation in determining executive salaries, bonus plans and pensions,
dividend policies, etc.1
Petitioner's invoking of its policy since its incorporation of sharing equally sales commissions with its salesmen, in accordance with its board resolution of June 18,
1946, is equally untenable. Petitioner's Sales Regulations provide:
Compensation of Salesmen
8. Schedule I — In the case of sales to prospects discovered and worked by a salesman, even though the closing is done by or with the help of the Sales
Manager or other members of the staff, the salesmen get one-half (1/2) of the total commission received by the Company, but not exceeding five percent
(5%). In the case of subdivisions, when the office commission covers general supervision, the 1/2-rule does not apply, the salesman's share being stipulated
in the case of each subdivision. In most cases the salesman's share is 4%. (Exh. "N-1").2
It will be readily seen therefrom that when the petitioner's commission covers general supervision, it is provided that the 1/2 rule of equal sharing of the sales
commissions does not apply and that the salesman's share is stipulated in the case of each subdivision. Furthermore, what is involved here is not Hoskins' salesman's
share in the petitioner's 12% sales commission, which he presumably collected also from petitioner without respondent's questioning it, but a 50% share besides in
petitioner's planning and supervision fee of 8% of the gross sales, as mentioned above.
This is evident from petitioner's board's resolution of July 14, 1953 (Exhibit 7), wherein it is recited that in addition to petitioner's sales commission of 12% of gross
sales, the subdivision owners were paying to petitioner 8% of gross sales as supervision fee, and a collection fee of 5% of gross collections, or total fees of 25% of
gross sales.
The case before us is similar to previous cases of disallowances as deductible items of officers' extra fees, bonuses and commissions, upheld by this Court as not being
within the purview of ordinary and necessary expenses and not passing the test of reasonable compensation. 3 In Kuenzle & Streiff, Inc. vs. Commissioner of Internal
Revenue decided by this Court on May 29, 1969,4 we reaffirmed the test of reasonableness, enunciated in the earlier 1967 case involving the same parties, that: "It is
a general rule that 'Bonuses to employees made in good faith and as additional compensation for the services actually rendered by the employees are deductible,
provided such payments, when added to the stipulated salaries, do not exceed a reasonable compensation for the services rendered' (4 Mertens Law of Federal
Income Taxation, Sec. 25.50, p. 410). The conditions precedent to the deduction of bonuses to employees are: (1) the payment of the bonuses is in fact
compensation; (2) it must be for personal services actually rendered; and (3) the bonuses, when added to the salaries, are 'reasonable . . . when measured by the
amount and quality of the services performed with relation to the business of the particular taxpayer' (Idem., Sec. 25, 44, p. 395).
"There is no fixed test for determining the reasonableness of a given bonus as compensation. This depends upon many factors, one of them being 'the amount and
quality of the services performed with relation to the business.' Other tests suggested are: payment must be 'made in good faith'; 'the character of the taxpayer's
business, the volume and amount of its net earnings, its locality, the type and extent of the services rendered, the salary policy of the corporation'; 'the size of the
particular business'; 'the employees' qualifications and contributions to the business venture'; and 'general economic conditions' (4 Mertens, Law of Federal Income
Taxation, Secs. 25.44, 25.49, 25.50, 25.51, pp. 407-412). However, 'in determining whether the particular salary or compensation payment is reasonable, the situation
must be considered as whole. Ordinarily, no single factor is decisive. . . . it is important to keep in mind that it seldom happens that the application of one test can
give satisfactory answer, and that ordinarily it is the interplay of several factors, properly weighted for the particular case, which must furnish the final answer."
Petitioner's case fails to pass the test. On the right of the employer as against respondent Commissioner to fix the compensation of its officers and employees, we
there held further that while the employer's right may be conceded, the question of the allowance or disallowance thereof as deductible expenses for income tax
purposes is subject to determination by respondent Commissioner of Internal Revenue. Thus: "As far as petitioner's contention that as employer it has the right to fix
the compensation of its officers and employees and that it was in the exercise of such right that it deemed proper to pay the bonuses in question, all that We need
say is this: that right may be conceded, but for income tax purposes the employer cannot legally claim such bonuses as deductible expenses unless they are shown to
be reasonable. To hold otherwise would open the gate of rampant tax evasion.
"Lastly, We must not lose sight of the fact that the question of allowing or disallowing as deductible expenses the amounts paid to corporate officers by way of bonus
is determined by respondent exclusively for income tax purposes. Concededly, he has no authority to fix the amounts to be paid to corporate officers by way of basic
salary, bonus or additional remuneration — a matter that lies more or less exclusively within the sound discretion of the corporation itself. But this right of the
corporation is, of course, not absolute. It cannot exercise it for the purpose of evading payment of taxes legitimately due to the State."
Finally, it should be noted that we have here a case practically of a sole proprietorship of C. M. Hoskins, who however chose to incorporate his business with himself
holding virtually absolute control thereof with 99.6% of its stock with four other nominal shareholders holding one share each. Having chosen to use the corporate
form with its legal advantages of a separate corporate personality as distinguished from his individual personality, the corporation so created, i.e., petitioner, is bound
to comport itself in accordance with corporate norms and comply with its corporate obligations. Specifically, it is bound to pay the income tax imposed by law on
corporations and may not legally be permitted, by way of corporate resolutions authorizing payment of inordinately large commissions and fees to its controlling
stockholder, to dilute and diminish its corresponding corporate tax liability.
ACCORDINGLY, the decision appealed from is hereby affirmed, with costs in both instances against petitioner.
Facts:
Hoskins, a domestic corporation engaged in the real estate business as broker, managing agents and administrators, filed its income tax return (ITR) showing a net
income of P92,540.25 and a tax liability of P18,508 which it paid.
CIR disallowed 4 items of deductions in the ITR. Court of Tax Appeals upheld the disallowance of an item which was paid to Mr. C. Hoskins representing 50% of
supervision fees earned and set aside the disallowance of the other 3 items.
Issue:
Whether or not the disallowance of the 4 items were proper.
Held:
NOT deductible. It did not pass the test of reasonableness which is:
General rule, bonuses to employees made in good faith and as additional compensation for services actually rendered by the employees are deductible, provided
such payments, when added to the salaries do not exceed the compensation for services rendered.
The conditions precedent to the deduction of bonuses to employees are:

· Payment of bonuses is in fact compensation
· Must be for personal services actually rendered
· Bonuses when added to salaries are reasonable when measured by the amount and quality of services performed with relation to the business of the particular
taxpayer.
There is no fixed test for determining the reasonableness of a given bonus as compensation. This depends upon many factors.
In the case, Hoskins fails to pass the test. CTA was correct in holding that the payment of the company to Mr. Hoskins of the sum P99,977.91 as 50% share of
supervision fees received by the company was inordinately large and could not be treated as an ordinary and necessary expenses allowed for deduction.
9. SANTIAGO GANCAYCO, vs.THE COLLECTOR OF INTERNAL REVENUE,

Petitioner Santiago Gancayco seeks the review of a decision of the Court of Tax Appeals, requiring him to pay P16,860.31, plus surcharge and interest, by way of
deficiency income tax for the year 1949.
On May 10, 1950, Gancayco filed his income tax return for the year 1949. Two (2) days later, respondent Collector of Internal Revenue issued the corresponding
notice advising him that his income tax liability for that year amounted P9,793.62, which he paid on May 15, 1950. A year later, on May 14, 1951, respondent wrote
the communication Exhibit C, notifying Gancayco, inter alia, that, upon investigation, there was still due from him, a efficiency income tax for the year 1949, the sum
of P29,554.05. Gancayco sought a reconsideration, which was part granted by respondent, who in a letter dated April 8, 1953 (Exhibit D), informed petitioner that his
income tax defendant efficiency for 1949 amounted to P16,860.31. Gancayco urged another reconsideration (Exhibit O), but no action taken on this request, although
he had sent several communications calling respondent's attention thereto.
On April 15, 1956, respondent issued a warrant of distraint and levy against the properties of Gancayco for the satisfaction of his deficiency income tax liability, and
accordingly, the municipal treasurer of Catanauan, Quezon issued on May 29, 1956, a notice of sale of said property at public auction on June 19, 1956. Upon petition
of Gancayco filed on June 16, 1956, the Court of Tax Appeal issued a resolution ordering the cancellation of the sale and directing that the same be readvertised at a
future date, in accordance with the procedure established by the National Internal Revenue Code. Subsequently, or on June 22, 1956, Gancayco filed an amended
petition praying that said Court:
(a) Issue a writ of preliminary injunction, enjoining the respondents from enforcing the collection of the alleged tax liability due from the petitioner
through summary proceeding pending determination of the present case;
(b) After a review of the present case adjudge that the right of the government to enforce collection of any liability due on this account had already
prescribed;
(c) That even assuming that prescription had not set in the objections of petitioner to the disallowance of the entertainment, representation and farming
expenses be allowed;
xxx xxx xxx
In his answer respondent admitted some allegations the amended petition, denied other allegations thereof an set up some special defenses. Thereafter Gancayco
received from the municipal treasurer of Catanauan, Quezon, another notice of auction sale of his properties, to take place on August 29, 1956. On motion of
Gancayco, the Court of Tax Appeals, by resolution dated August 27, 1956, "cancelled" the aforementioned sale and enjoined respondent and the municipal treasurer
of Catanauan, Quezon, from proceeding with the same. After appropriate proceedings, the Court of Tax Appeals rendered, on November 14, 1957, the decision
adverted to above.
Gancayco maintains that the right to collect the deficiency income tax in question is barred by the statute of limitations. In this connection, it should be noted,
however, that there are two (2) civil remedies for the collection of internal revenue taxes, namely: (a) by distraint of personal property and levy upon real property;
and (b) by "judicial action" (Commonwealth Act 456, section 316). The first may not be availed of except within three (3) years after the "return is due or has been
made ..." (Tax Code, section 51 [d] ). After the expiration of said Period, income taxes may not be legally and validly collected by distraint and/or levy (Collector of
Internal Revenue v. Avelino, L-9202, November 19, 1956; Collector of Internal Revenue v. Reyes, L-8685, January 31, 1957; Collector of Internal Revenue v. Zulueta, L-
8840, February 8, 1957; Sambrano v. Court of Tax Appeals, L-8652, March 30, 1957). Gancayco's income tax return for 1949 was filed on May 10, 1950; so that the
warrant of distraint and levy issued on May 15, 1956, long after the expiration of said three-year period, was illegal and void, and so was the attempt to sell his
properties in pursuance of said warrant.
The "judicial action" mentioned in the Tax Code may be resorted to within five (5) years from the date the return has been filed, if there has been no assessment, or
within five (5) years from the date of the assessment made within the statutory period, or within the period agreed upon, in writing, by the Collector of Internal
Revenue and the taxpayer. before the expiration of said five-year period, or within such extension of said stipulated period as may have been agreed upon, in writing,
made before the expiration of the period previously situated, except that in the case of a false or fraudulent return with intent to evade tax or of a failure to file a
return, the judicial action may be begun at any time within ten (10) years after the discovery of the falsity, fraud or omission (Sections 331 and 332 of the Tax Code).
In the case at bar, respondent made three (3) assessments: (a) the original assessment of P9,793.62, made on May 12, 1950; (b) the first deficiency income tax
assessment of May 14, 1951, for P29,554.05; and (c) the amended deficiency income tax assessment of April 8, 1953, for P16,860.31.
Gancayco argues that the five-year period for the judicial action should be counted from May 12, 1950, the date of the original assessment, because the income tax
for 1949, he says, could have been collected from him since then. Said assessment was, however, not for the deficiency income tax involved in this proceedings, but
for P9,793.62, which he paid forthwith. Hence, there never had been any cause for a judicial action against him, and, per force, no statute of limitations to speak of, in
connection with said sum of P9,793.62.
Neither could said statute have begun to run from May 14, 1951, the date of the first deficiency income tax assessment or P29,554.05, because the same was, upon
Gancayco's request, reconsidered or modified by the assessment made on April 8, 1953, for P16,860.31. Indeed, this last assessment is what Gancayco contested in
the amended petition filed by him with the Court of Tax Appeals. The amount involved in such assessment which Gancayco refused to pay and respondent tried to
collect by warrant of distraint and/or levy, is the one in issue between the parties. Hence, the five-year period aforementioned should be counted from April 8, 1953,
so that the statute of limitations does not bar the present proceedings, instituted on April 12, 1956, if the same is a judicial action, as contemplated in section 316 of
the Tax Code, which petitioner denies, upon the ground that
a. "The Court of Tax Appeals does not have original jurisdiction to entertain an action for the collection of the tax due;
b. "The proper party to commence the judicial action to collect the tax due is the government, and
c. "The remedies provided by law for the collection of the tax are exclusive."
Said Section 316 provides:

The civil remedies for the collection of internal revenue taxes, fees, or charges, and any increment thereto resulting from delinquency shall be (a) by
distraint of goods, chattels, or effects, and other personal property of whatever character, including stocks and other securities, debts, credits, bank
accounts, and interest in and rights to personal property, and by levy upon real property; and (b) by judicial action. Either of these remedies or both
simultaneously may be pursued in the discretion of the authorities charged with the collection of such taxes.
No exemption shall be allowed against the internal revenue taxes in any case.
Petitioner contends that the judicial action referred to in this provision is commenced by filing, with a court of first instance, of a complaint for the collection of taxes.
This was true at the time of the approval of Commonwealth Act No. 456, on June 15, 1939. However, Republic Act No. 1125 has vested the Court of Tax Appeals, not
only with exclusive appellate jurisdiction to review decisions of the Collector (now Commissioner) of Internal Revenue in cases involving disputed assessments, like
the one at bar, but, also, with authority to decide "all cases involving disputed assessments of Internal Revenue taxes or customs duties pending determination before
the court of first instance" at the time of the approval of said Act, on June 16, 1954 (Section 22, Republic Act No. 1125). Moreover, this jurisdiction to decide all cases
involving disputed assessments of internal revenue taxes and customs duties necessarily implies the power to authorize and sanction the collection of the taxes and
duties involved in such assessments as may be upheld by the Court of Tax Appeals. At any rate, the same now has the authority formerly vested in courts of first
instance to hear and decide cases involving disputed assessments of internal revenue taxes and customs duties. Inasmuch as those cases filed with courts of first
instance constituted judicial actions, such is, likewise, the nature of the proceedings before the Court of Tax Appeals, insofar as sections 316 and 332 of the Tax Code
are concerned.
The question whether the sum of P16,860.31 is due from Gancayco as deficiency income tax for 1949 hinges on the validity of his claim for deduction of two (2) items,
namely: (a) for farming expenses, P27,459.00; and (b) for representation expenses, P8,933.45.
Section 30 of the Tax Code partly reads:

(a) Expenses:
(1) In General — All the ordinary and necessary expenses paid or incurred during the taxable year incarrying on any trade or business, including a
reasonable allowance for salaries or other compensation for personal services actually rendered; traveling expenses while away from home in the pursuit
of a trade or business; and rentals or other payments required to be made as a condition to the continued use or possession, for the purposes of the trade
or business, of property to which the taxpayer has not taken or is not taking title or in which he has no equity. (Emphasis supplied.)
Referring to the item of P27,459, for farming expenses allegedly incurred by Gancayco, the decision appealed from has the following to say:
No evidence has been presented as to the nature of the said "farming expenses" other than the bare statement of petitioner that they were spent for the
"development and cultivation of (his) property". No specification has been made as to the actual amount spent for purchase of tools, equipment or
materials, or the amount spent for improvement. Respondent claims that the entire amount was spent exclusively for clearing and developing the farm
which were necessary to place it in a productive state. It is not, therefore, an ordinary expense but a capitol expenditure. Accordingly, it is not deductible
but it may be amortized, in accordance with section 75 of Revenue Regulations No. 2, cited above. See also, section 31 of the Revenue Code which
provides that in computing net income, no deduction shall in any case be allowed in respect of any amount paid out for new buildings or for permanent
improvements, or betterments made to increase the value of any property or estate. (Emphasis supplied.)
We concur in this view, which is a necessary consequence of section 31 of the Tax Code, pursuant to which:
(a) General Rule — In computing net income no deduction shall in any case be allowed in respect of —
(1) Personal, living, or family expenses;
(2) Any amount paid out for new buildings or for permanent improvements, or betterments made toincrease the value of any property or estate;
(3) Any amount expended in restoring property or in making good the exhaustion thereof for which an allowance is or has been made; or
(4) Premiums paid on any life insurance policy covering the life of any officer or employee, or any person financially interested in any trade or business
carried on by the taxpayer, individual or corporate, when the taxpayer is directly or indirectly a beneficiary under such policy. (Emphasis supplied.)
Said view is, likewise, in accord with the consensus of the authorities on the subject.
Expenses incident to the acquisition of property follow the same rule as applied to payments made as direct consideration for the property. For example,
commission paid in acquiring property are considered as representing part of the cost of the property acquired. The same treatment is to be accorded to
amounts expended for maps, abstracts, legal opinions on titles, recording fees and surveys. Other non-deductible expenses include amounts paid in
connection with geological explorations, development and subdividing of real estate; clearing and grading; restoration of soil, drilling wells, architects's
fees and similar types of expenditures. (4 Merten's Law of Federal Income Taxation, Sec. 25.20, pp. 348-349; see also sec. 75 of the income Regulation of
the B.I.R.; Emphasis supplied.)
The cost of farm machinery, equipment and farm building represents a capital investment and is not an allowable deduction as an item of expense.
Amounts expended in the development of farms, orchards, and ranches prior to the time when the productive state is reached may be regarded as
investments of capital. (Merten's Law of Federal Income Taxation, supra, sec. 25.108, p. 525.)
Expenses for clearing off and grading lots acquired is a capital expenditure, representing part of the cost of the land and was not deductible as an expense.
(Liberty Banking Co. v. Heiner 37 F [2d] 703 [8AFTR 100111] [CCA 3rd]; The B.L. Marble Chair Company v. U.S., 15 AFTR 746).
An item of expenditure, in order to be deductible under this section of the statute providing for the deduction of ordinary and necessary business
expenses, must fall squarely within the language of the statutory provision. This section is intended primarily, although not always necessarily, to cover
expenditures of a recurring nature where the benefit derived from the payment is realized and exhausted within the taxable year. Accordingly, if the result
of the expenditure is the acquisition of an asset which has an economically useful life beyond the taxable year, no deduction of such payment may be
obtained under the provisions of the statute. In such cases, to the extent that a deduction is allowable, it must be obtained under the provisions of the
statute which permit deductions for amortization, depreciation, depletion or loss. (W.B. Harbeson Co. 24 BTA, 542; Clark Thread Co., 28 BTA 1128 aff'd 100
F [2d] 257 [CCA 3rd, 1938]; 4 Merten's Law of Federal Income Taxation, Sec. 25.17, pp. 337-338.)
Gancayco's claim for representation expenses aggregated P31,753.97, of which P22,820.52 was allowed, and P8,933.45 disallowed. Such disallowance is justified by
the record, for, apart from the absence of receipts, invoices or vouchers of the expenditures in question, petitioner could not specify the items constituting the same,
or when or on whom or on what they were incurred. The case of Cohan v. Commissioner, 39 F (2d) 540, cited by petitioner is not in point, because in that case there
was evidence on the amounts spent and the persons entertained and the necessity of entertaining them, although there were no receipts an vouchers of the
expenditures involved therein. Such is not the case of petitioner herein.
Being in accordance with the facts and law, the decision of the Court of Tax Appeals is hereby affirmed therefore, with costs against petitioner Santiago Gancayco. It is
so ordered.
Facts: Appellee Santiago Gancayco was assessed by the Collector of Internal Revenue for P11,203.19, for various taxes corresponding to the first quarter of the year
1946. Despite demand for payment of such amount, appellee failed to pay. Hence, the Collector issued a warrant of Distraint and Levy to enforce the same.
In a letter (first letter) to the CIR, appellee asked for a reinvestigation as to the amount due from him alleging that his records show that his obligation is not as high as
P11, 203.19. The letter was answered by the CIR more than a year later, stating that after a reinvestigation of the case, two items would have to be revised. From P11,
203.19, the assessment was reduced to P10, 982.30, plus P100 as compromise penalty.
Appellee sent another letter (second letter) to the Collector, claiming that he found additional evidence supporting his objection and asking for some time to prepare
and submit such evidence. One day before the deadline, appellee wrote the Collector (third letter), asking for another thorough reinvestigation of his case, on the
ground that he has in his possession books and documents that will support his objection to the taxes assessed against him.
No reinvestigation was conducted by the Collector or any of his agents or representatives. However, more than ten years after the third letter of appellee, the
Collector wrote him, saying that his repeated request for the cancellation of said assessments on the ground of prescription is untenable because the statute of
limitations is suspended upon the request of the taxpayer for reinvestigation or reconsideration of its tax liability. Appellee was requested that the amounts of
P10,370.19 and P612.11 be paid to the City Treasurer of Manila, otherwise, judicial action will be instituted against him.
Appellee failed to pay the amount in question, thus a case was filed against him. He moved to dismiss the complaint on the ground of prescription, invoking Sec. 332
of the Revenue Code. The CFI granted the motion to dismiss.
Issues:
(1) Whether or not the right of the State to collect the taxes due from appellee has prescribed
(2) Whether or not an extra-judicial demand suspends the period of prescription
Held:
(1) YES. Sec. 332 of the Revenue Code, among others, provides:
(c) Where the assessment of any internal revenue tax has been made within the period of limitation above prescribed such tax may be collected by distraint or levy or
by a proceeding in court, but only if begun (1) within five years after the assessment of the tax, ...
Under the circumstances, it is evident that the right of the State to collect the taxes due from appellee has prescribed.
Whether the computation of time starts from June 13, 1946 (1st assessment) or March 3, 1949 (revised assessment), the filing of the tax collection case on July 19,
1960, is far beyond the period (more than 5 years).
The act of requesting a reinvestigation alone does not suspend the period. The request should first be granted in order to effect suspension.
While it is true that on March 31, 1949, appellee requested a thorough reinvestigation of his case, he, at the same time, placed at the disposal of the Collector all the
evidence he had for such purpose. Apparently, the Collector ignored the request, for the records and documents were not at all examined.
(2) NO. The only agreement that can suspend the running of the prescriptive period for the collection of taxes by court action is a written agreement between the
taxpayer and the CIR, entered into before the expiration of the five-year prescriptive period of limitation prescribed by law.
Manifestly, therefore, the extra-judicial demands made, if any, did not serve to suspend or toll the period of prescription, the provisions of the Civil Code
notwithstanding. It should be noted, in this connection, that the Internal Revenue Code being a special law, prevails over a general law.
10. PLARIDEL SURETY VS COLLECTOR

Petitioner Plaridel Surety & Insurance Co., is a domestic corporation engaged in the bonding business. On November 9, 1950, petitioner, as surety, and Constancio
San Jose, as principal, solidarily executed a performance bond in the penal sum of P30,600.00 in favor of the P. L. Galang Machinery Co., Inc., to secure the
performance of San Jose's contractual obligation to produce and supply logs to the latter.
To afford itself adequate protection against loss or damage on the performance bond, petitioner required San Jose and one Ramon Cuervo to execute an indemnity
agreement obligating themselves, solidarily, to indemnify petitioner for whatever liability it may incur by reason of said performance bond. Accordingly, San Jose
constituted a chattel mortgage on logging machineries and other movables in petitioner's favor 1 while Ramon Cuervo executed a real estate mortgage. 2
San Jose later failed to deliver the logs to Galang Machinery3 and the latter sued on the performance bond. On October 1, 1952, the Court of First Instance adjudged
San Jose and petitioner liable; it also directed San Jose and Cuervo to reimburse petitioner for whatever amount it would pay Galang Machinery. The Court of
Appeals, on June 17, 1955, affirmed the judgment of the lower court. The same judgment was likewise affirmed by this Court 4 on January 11, 1957 except for a slight
modification apropos the award of attorney's fees.
On February 19 and March 20, 1957, petitioner effected payment in favor of Galang Machinery in the total sum of P44,490.00 pursuant to the final decision.
In its income tax return for the year 1957, petitioner claimed the said amount of P44,490.00 as deductible loss from its gross income and, accordingly, paid the
amount of P136.00 as its income tax for 1957.
The Commissioner of Internal Revenue disallowed the claimed deduction of P44,490.00 and assessed against petitioner the sum of P8,898.00, plus interest, as
deficiency income tax for the year 1957. Petitioner filed its protest which was denied. Whereupon, appeal was taken to the Tax Court, petitioner insisting that the
P44,490.00 which it paid to Galang Machinery was a deductible loss.
The Tax Court dismissed the appeal, ruling that petitioner was duly compensated for otherwise than by insurance— thru the mortgages in its favor executed by San
Jose and Cuervo — and it had not yet exhausted all its available remedies, especially as against Cuervo, to minimize its loss. When its motion to reconsider was
denied, petitioner elevated the present appeal.
Of the sum of P44,490.00, the amount of P30,600.00 — which is the principal sum stipulated in the performance bond — is being claimed as loss deduction under
Sec. 30 (d) (2) of the Tax Code and P10,000.00 — which is the interest that had accrued on the principal sum — is now being claimed as interest deduction under Sec.
30 (b) (1).
Loss is deductible only in the taxable year it actually happens or is sustained. However, if it is compensable by insurance or otherwise, deduction for the loss suffered
is postponed to a subsequent year, which, to be precise, is that year in which it appears that no compensation at all can be had, or that there is a remaining or net
loss, i.e., no full compensation.5
There is no question that the year in which the petitioner Insurance Co. effected payment to Galang Machinery pursuant to a final decision occurred in 1957.
However, under the same court decision, San Jose and Cuervo were obligated to reimburse petitioner for whatever payments it would make to Galang Machinery.
Clearly, petitioner's loss is compensable otherwise (than by insurance).itc-alf It should follow, then, that the loss deduction can not be claimed in 1957.
Now, petitioner's submission is that its case is an exception. Citing Cu Unjieng Sons, Inc. v. Board of Tax Appeals,6 and American cases also, petitioner argues that even
if there is a right to compensation by insurance or otherwise, the deduction can be taken in the year of actual loss where the possibility of recovery is remote. The
pronouncement, however to this effect in the Cu Unjieng case is not as authoritative as petitioner would have it since it was there found that the taxpayer had no
legal right to compensation either by insurance or otherwise.7And the American cases cited8 are not in point. None of them involved a taxpayer who had, as in the
present case, obtained a final judgment against third persons for reimbursement of payments made. In those cases, there was either no legally enforceable right at all
or such claimed right was still to be, or being, litigated.
On the other hand, the rule is that loss deduction will be denied if there is a measurable right to compensation for the loss, with ultimate collection reasonably clear.
So where there is reasonable ground for reimbursement, the taxpayer must seek his redress and may not secure a loss deduction until he establishes that no recovery
may be had.9 In other words, as the Tax Court put it, the taxpayer (petitioner) must exhaust his remedies first to recover or reduce his loss.
It is on record that petitioner had not exhausted its remedies, especially against Ramon Cuervo who was solidarily liable with San Jose for reimbursement to it. Upon
being prodded by the Tax Court to go after Cuervo, Hermogenes Dimaguiba, president of petitioner corporation, said that they would 10 but no evidence was
submitted that anything was really done on the matter. Moreover, petitioner's evidence on remote possibility of recovery is fatally wanting. Its right to
reimbursement is not only secured by the mortgages executed by San Jose and Cuervo but also by a final and executory judgment in the civil case itself. Thus, other
properties of San Jose and Cuervo were subject to levy and execution. But no writ of execution, satisfied or unsatisfied, was ever submitted. Neither has it been
established that Cuervo was insolvent. The only evidence on record on the point is Dimaguiba's testimony that he does not really know if Cuervo has other
properties.11 This is not substantial proof of insolvency.itc-alf Thus, it was too premature for petitioner to claim a loss deduction.
But assuming that there was no reasonable expectation of recovery, still no loss deduction can be had. Sec. 30 (d) (2) of the Tax Code requires a charge-off as one of
the conditions for loss deduction:
In the case of a corporation, all losses actually sustained and charged-off within the taxable year and not compensated for by insurance or otherwise.
(Emphasis supplied)
Mertens12 states only four (4) requisites because the United States Internal Revenue Code of 1939 13 has no charge-off requirement.itc-alf Sec. 23(f) thereof provides
merely:
In the case of a corporation, losses sustained during the taxable year and not compensated for by insurance or otherwise.
Petitioner, who had the burden of proof14 failed to adduce evidence that there was a charge-off in connection with the P44,490.00—or P30,600.00 — which it paid to
Galang Machinery.
In connection with the claimed interest deduction of P10,000.00, the Solicitor General correctly points out that this question was never raised before the Tax Court.
Petitioner, thru counsel, had admitted before said court15 and in the memorandum it filed16 that the only issue in the case was whether the entire P44,490.00 paid by
it was or was not a deductible loss under Sec. 30 (d) (2) of the Tax Code. Even in petitioner's return, the P44,490.00 was claimed wholly as losses on its bond.17 The
alleged interest deduction not having been properly litigated as an issue before the Tax Court, it is now too late to raise and assert it before this Court.
WHEREFORE, the appealed decision is, as it is hereby, affirmed. Costs against petitioner Plaridel Surety & Insurance Co. So ordered.
Petitioner Plaridel Surety is a domestic corporation engaged in the bonding business.

Petitioner surety and Constancio San Jose (principal), solidarily executed a performance bond in favor of the PL Galang Machinery to secure the performance of San
Jose contractual obligation to produce and supply logs. To afford itself adequate protection against loss or damages on the performance, petitioner required San Jose
and Ramon Cuervo to execute an indemnity agreement obligating themselves, solidarity to indemnify petitioner for whatever liability it may incur by reason of said
performance bond. San Jose constituted a chattel mortgage on logging machineries and other movables in petitioners favor while Ramon Cuervo executed a real
estate mortgage.
San Jose failed to deliver the logs to Galang Machinery and sued on the performance bond. The lower court directed San Jose and Cuervo to reimburse petitioner for
whatever amount it would pay Galang Machinery.
Petitioner in his income tax claimed that the amount P44,490 as deductible loss from its gross income.
CIR disallowed the claimed deductions and assessed against petitioner the sum P8,898, plus interest, as deficiency income tax for the year 1957.
ISSUE: WON petitioner can claim P44,490 as a deductible loss from its gross income.
Held:
NO
Petitioner was duly compensated for otherwise than by insurance- thru the mortgage in its favor executed by San Jose and Cuervo and it had not yet exhausted all its
available remedies, especially as against Cuervo to minimize its loss.
LOSS is deductible only in the taxable year it actually happens or is sustained. However, if it is compensable by insurance or otherwise deductions for the loss
suffered is postponed to a subsequent year, with, to be precise, is that year in which it appears that no compensation at all can be had, on that there is a remaining or
net loss.
11. CITY LUMBER VS DOMINGO

Petitioner seeks the review of a decision of the Court Tax Appeals, upholding an assessment by respondent on an additional income of P16,678.63 representing minor
deductions from the alleged expenses, on undisclosed sales of plywood, nails and GI sheets amounting to P7,902.07, and on a cash credit balance of P7,896.80.
Petitioner claims that the respondent court erred in not holding that plywood and GI sheets were actually lost in a fire occuring in the city and in not considering the
credit cash balance as a loan secured by petitioner.
On the first issue petitioner introduced as a witnesses in his favor the Chief of Police of the City of Dumaguete to testify on the existence of a fire in the city by reason
of which the store of petitioner was looted of plywood and kegs of nails. But said witness declared that they recovery only 100 pieces of plywood and 5 kegs of nails,
but these were returned to petitioner. The Court below, however, rejected the alleged loss of plywood because said loss was never reported in the books of
petitioner; and neither was such loss reported in the income tax return of petitioner for the year, submitted some months after the alleged loss.
We hold that the conduct of petitioner in not reporting said loss in his book of account or in his income tax turn proves that the alleged loss had not been suffered.
On the alleged loan of the sum of around P8,000.00 which petitioner claims to be the cash credit balance appearing petitioner claims to be his book of account,
petitioner's book of account failed to show such a loan also. Neither were any receipts or other evidence produced to show that said amount was a loan secured by
petitioner, or that a loan was ever secured. In view of these We find that the respondent court did commit the error charged.
The third error is the alleged violation of an order of Commissioner granting Regional Directors authority close tax cases involving deficiency assessments not
exceeding P10,000.00 in taxes and penalties for it appears that after a re-investigation of the tax liability of petitioner by the corresponding regional director the latter
reviewed the case and reduced the assessment from P5,028.00 to P176.00. The order in question (Memorandum Order No. V-634 dated July 3, 1956) was applicable
only to subordinate officers of the Bureau of Internal Revenue and could not bind the Commissioner himself, who has been entrusted by law to make final
assessments. The Commissioner cannot delegate this power to make a final assessment to his subordinate. Delegatus non potest delegare; the person to whom an
office or duty is delegated cannot lawfully devolve the duty on another. The existence of the alleged error is, therefore, denied.1äwphï1.ñët
WHEREFORE, the decision is hereby affirmed, with costs. So ordered.
12. CHINA BANKING CORPORATION VS CA

The Commissioner of Internal Revenue denied the deduction from gross income of "securities becoming worthless" claimed by China Banking Corporation
(CBC). The Commissioners disallowance was sustained by the Court of Tax Appeals ("CTA"). When the ruling was appealed to the Court of Appeals ("CA"), the
appellate court upheld the CTA. The case is now before us on a Petition for Review on Certiorari.
Sometime in 1980, petitioner China Banking Corporation made a 53% equity investment in the First CBC Capital (Asia) Ltd., a Hongkong subsidiary engaged in
financing and investment with "deposit-taking" function. The investment amounted to P16,227,851.80, consisting of 106,000 shares with a par Value of P100 per
share.
In the course of the regular examination of the financial books and investment portfolios of petitioner conducted by Bangko Sentral in 1986, it was shown that
First CBC Capital (Asia), Ltd., has become insolvent. With the approval of Bangko Sentral, petitioner wrote-off as being worthless its investment in First CBC Capital
(Asia), Ltd., in its 1987 Income Tax Return and treated it as a bad debt or as an ordinary loss deductible from its gross income.
Respondent Commissioner of internal Revenue disallowed the deduction and assessed petitioner for income tax deficiency in the amount of P8,533,328.04,
inclusive of surcharge, interest and compromise penalty. The disallowance of the deduction was made on the ground that the investment should not be classified as
being "worthless" and that, although the Hongkong Banking Commissioner had revoked the license of First CBC Capital as a "deposit-taping" company, the latter
could still exercise, however, its financing and investment activities. Assuming that the securities had indeed become worthless, respondent Commissioner of Internal
Revenue held the view that they should then be classified as "capital loss," and not as a bad debt expense there being no indebtedness to speak of between
petitioner and its subsidiary.
Petitioner contested the ruling of respondent Commissioner before the CTA. The tax court sustained the Commissioner, holding that the securities had not
indeed become worthless and ordered petitioner to pay its deficiency income tax for 1987 of P8,533,328.04 plus 20% interest per annum until fully paid. When the
decision was appealed to the Court of Appeals, the latter upheld the CTA.In its instant petition for review on certiorari, petitioner bank assails the CA decision.
The petition must fail.
The claim of petitioner that the shares of stock in question have become worthless is based on a Profit and Loss Account for the Year-End 31 December 1987,
and the recommendation of Bangko Sentral that the equity investment be written-off due to the insolvency of the subsidiary. While the matter may not be
indubitable (considering that certain classes of intangibles, like franchises and goodwill, are not always given corresponding values in financial statements [1], there
may really be no need, however, to go of length into this issue since, even to assume the worthlessness of the shares, the deductibility thereof would still be nil in this
particular case. At all events, the Court is not prepared to hold that both the tax court and the appellate court are utterly devoid of substantial basis for their own
factual findings.
Subject to certain exceptions, such as the compensation income of individuals and passive income subject to final tax, as well as income of non-resident aliens
and foreign corporations not engaged in trade or business in the Philippines, the tax on income is imposed on the net income allowing certain specified deductions
from gross income to be claimed by the taxpayer. Among the deductible items allowed by the National Internal Revenue Code ("NIRC") are bad debts and losses.[2]
An equity investment is a capital, not ordinary, asset of the investor the sale or exchange of which results in either a capital gain or a capital loss. The gain or
the loss is ordinary when the property sold or exchanged is not a capital asset.[3] A capital asset is defined negatively in Section 33(1) of the NIRC; viz:
(1) Capital assets. - The term 'capital assets' means property held by the taxpayer (whether or not connected with his trade or business), but does not include stock in
trade of the taxpayer or other property of a kind which would properly be included in the inventory of the taxpayer if on hand at the close of the taxable year, or
property held by the taxpayer primarily for sale to customers in the ordinary course of his trade or business, or property used in the trade or business, of a character
which is subject to the allowance for depreciation provided in subsection (f) of section twenty-nine; or real property used in the trade or business of the taxpayer.
Thus, shares of stock; like the other securities defined in Section 20(t) [4] of the NIRC, would be ordinary assets only to a dealer in securities or a person
engaged in the purchase and sale of, or an active trader (for his own account) in, securities. Section 20(u) of the NIRC defines a dealer in securities thus:
"(u) The term 'dealer in securities' means a merchant of stocks or securities, whether an individual, partnership or corporation, with an established place of
business, regularly engaged in the purchase of securities and their resale to customers; that is, one who as a merchant buys securities and sells them to
customers with a view to the gains and profits that may be derived therefrom."
In the hands, however, of another who holds the shares of stock by way of an investment, the shares to him would be capital assets. When the shares held by such
investor become worthless, the loss is deemed to be a loss from the sale or exchange of capital assets. Section 29(d)(4)(B) of the NIRC states:
"(B) Securities becoming worthless. - If securities as defined in Section 20 become worthless during the tax" year and are capital assets, the loss resulting
therefrom shall, for the purposes of his Title, be considered as a loss from the sale or exchange, on the last day of such taxable year, of capital assets."
The above provision conveys that the loss sustained by the holder of the securities, which are capital assets (to him), is to be treated as a capital loss as if incurred
from a sale or exchange transaction. A capital gain or a capital loss normally requires the concurrence of two conditions for it to result: (1) There is a sale or
exchange; and (2) the thing sold or exchanged is a capital asset.When securities become worthless, there is strictly no sale or exchange but the law deems the loss
anyway to be "a loss from the sale or exchange of capital assets. [5]A similar kind of treatment is given, by the NIRC on the retirement of certificates of indebtedness
with interest coupons or in registered form, short sales and options to buy or sell property where no sale or exchange strictly exists. [6] In these cases, the NIRC
dispenses, in effect, with the standard requirement of a sale or exchange for the application of the capital gain and loss provisions of the code.
Capital losses are allowed to be deducted only to the extent of capital gains, i.e., gains derived from the sale or exchange of capital assets, and not from any
other income of the taxpayer.
In the case at bar, First CBC Capital (Asia), Ltd., the investee corporation, is a subsidiary corporation of petitioner bank whose shares in said investee
corporation are not intended for purchase or sale but as an investment. Unquestionably then, any loss therefrom would be a capital loss, not an ordinary loss, to the
investor.
Section 29(d)(4)(A), of the NIRC expresses:

"(A) Limitations. - Losses from sales or exchanges of capital assets shall be allowed only to the extent provided in Section 33."
The pertinent provisions of Section 33 of the NIRC referred to in the aforesaid Section 29(d)(4)(A), read:
"Section 33. Capital gains and losses. -

x x x x x x x x x.
"(c) Limitation on capital losses. - Losses from sales or exchange of capital assets shall be allowed only to the extent of the gains from such sales or exchanges. If a
bank or trust company incorporated under the laws of the Philippines, a substantial part of whose business is the receipt of deposits, sells any bond, debenture, note,
or certificate or other evidence of indebtednessissued by any corporation (including one issued by a government or political subdivision thereof), with interest
coupons or in registered form, any loss resulting from such sale shall not be subject to the foregoing limitation an shall not be included in determining the
applicability of such limitation to other losses.
The exclusionary clause found in the foregoing text of the law does not include all forms of securities but specifically covers only bonds, debentures, notes,
certificates or other evidence of indebtedness, with interest coupons or in registered form , which are the instruments of credit normally dealt with in the usual
lending operations of a financial institution. Equity holdings cannot come close to being, within the purview of "evidence of indebtedness" under the second
sentence of the aforequoted paragraph. Verily, it is for a like thesis that the loss of petitioner bank in itsequity in vestment in the Hongkong subsidiary cannot also be
deductible as a bad debt. The shares of stock in question do not constitute a loan extended by it to its subsidiary (First CBC Capital) or a debt subject to obligatory
repayment by the latter, essential elements to constitute a bad debt, but a long term investment made by CBC.
One other item. Section 34(c)(1) of the NIRC , states that the entire amount of the gain or loss upon the sale or exchange of property, as the case may be, shall
be recognized. The complete text reads:
SECTION 34. Determination of amount of and recognition of gain or loss.-
"(a) Computation of gain or loss. - The gain from the sale or other disposition of property shall be the excess of the amount realized therefrom over the basis or
adjusted basis for determining gain and the loss shall be the excess of the basis or adjusted basis for determining loss over the amount realized. The amount
realized from the sale or other disposition of property shall be to sum of money received plus the fair market value of the property (other than money)
received. (As amended by E.O. No. 37)
"(b) Basis for determining gain or loss from sale or disposition of property. - The basis of property shall be - (1) The cost thereof in cases of property acquired
on or before March 1, 1913, if such property was acquired by purchase; or
"(2) The fair market price or value as of the date of acquisition if the same was acquired by inheritance; or
"(3) If the property was acquired by gift the basis shall be the same as if it would be in the hands of the donor or the last preceding owner by whom it was not
acquired by gift, except that if such basis is greater than the fair market value of the property at the time of the gift, then for the purpose of determining loss
the basis shall be such fair market value; or
"(4) If the property, other than capital asset referred to in Section 21 (e), was acquired for less than an adequate consideration in money or moneys worth, the
basis of such property is (i) the amount paid by the transferee for the property or (ii) the transferor's adjusted basis at the time of the transfer whichever is
greater.
"(5) The basis as defined in paragraph (c) (5) of this section if the property was acquired in a transaction where gain or loss is not recognized under paragraph
(c) (2) of this section. (As amended by E.O. No. 37)
(c) Exchange of property.

"(1) General rule.- Except as herein provided, upon the sale or exchange of property, the entire amount of the gain or loss, as the case may be, shall be
recognized.
"(2) Exception. - No gain or loss shall be recognized if in pursuance of a plan of merger or consolidation (a) a corporation which is a party to a merger or
consolidation exchanges property solely for stock in a corporation which is, a party to the merger or consolidation, (b) a shareholder exchanges stock in a
corporation which is a party to the merger or consolidation solely for the stock in another corporation also a party to the merger or consolidation, or (c) a
security holder of a corporation which is a party to the merger or consolidation exchanges his securities in such corporation solely for stock or securities in
another corporation, a party to the merger or consolidation.
"No gain or loss shall also be recognized if property is transferred to a corporation by a person in exchange for stock in such corporation of which as a result of such
exchange said person, alone or together with others, not exceeding four persons, gains control of said corporation: Provided, That stocks issued for services shall not
be considered as issued in return of property."
The above law should be taken within context on the general subject of the determination, and recognition of gain or loss; it is not preclusive of, let alone
renders completely inconsequential, the more specific provisions of the code. Thus, pursuant, to the same section of the law, no such recognition shall be made if the
sale or exchange is made in pursuance of a plan of corporate merger or consolidation or, if as a result of an exchange of property for stocks, the exchanger, alone or
together with others not exceeding four, gains control of the corporation. [7] Then, too, how the resulting gain might be taxed, or whether or not the loss would be
deductible and how, are matters properly dealt with elsewhere in various other sections of the NIRC. [8] At all events, it may not be amiss to once again stress that the
basic rule is still that any capital loss can be deducted only from capital gains under Section 33(c) of the NIRC.
In sum -
(a) The equity investment in shares of stock held by CBC of approximately 53% in its Hongkong subsidiary, the First CBC Capital (Asia), Ltd., is not an
indebtedness, and it is a capital, not an ordinary, asset.[9]
(b) Assuming that the equity investment of CBC has indeed become "worthless," the loss sustained is a capital, not an ordinary, loss.[10]
(c) The capital loss sustained by CBC can only be deducted from capital gains if any derived by it during the same taxable year that the securities have become
"worthless."[11]
WHEREFORE, the Petition is DENIED. The decision of the Court of Appeals disallowing the claimed deduction of P16,227,851.80 is AFFIRMED.
SO ORDERED.
Facts: China Banking Corporation made a 53% equity investment (P16,227,851.80) in the First CBC Capital – a Hongkong subsidiary engaged in financing and
investment with “deposit-taking” function.
It was shown that CBC has become insolvent so China Banking wrote-off its investment as worthless and treated it as a bad debt or as an ordinary loss deductible
from its gross income.
CIR disallowed the deduction on the ground that the investment should not be classified as being worthless. It also held that assuming that the securities were
worthless, then they should be classified as a capital loss and not as a bad debt since there was no indebtedness between China Banking and CBC.
Issue:
Whether or not the investment should be classified as a capital loss.
Held:
Yes. Section 29.d.4.B of the NIRC contains provisions on securities becoming worthless. It conveys that capital loss normally requires the concurrence of 2 conditions:
a. there is a sale or exchange
b. the thing sold or exchanges is a capital asset.
When securities become worthless, there is strictly no sale or exchange but the law deems it to be a loss. These are allowed to be deducted only to the extent of
capital gains and not from any other income of the taxpayer. A similar kind of treatment is given by the NIRC on the retirement of certificates of indebtedness with
interest coupons or in registered form, short sales and options to buy or sell property where no sale or exchange strictly exists. In these cases, The NIRC dispenses
with the standard requirements.
There is ordinary loss when the property sold is not a capital asset.
In the case, CBC as an investee corporation, is a subsidiary corporation of China Banking whose shares in CBC are not intended for purchase or sale but as an
investment. An equity investment is a capital asset of the investor. Unquestionably, any loss is a capital loss to the investor.
--
Additional notes:
*The loss cannot be deductible as bad debt since the shares of stock do not constitute a loan extended by it to its subsidiary or a debt subject to obligatory repayment
by the latter.
13. PICOP VS CIR

The Paper Industries Corporation of the Philippines ("Picop"), which is petitioner in G.R. Nos. 106949-50 and private respondent in G.R. Nos. 106984-
85, is a Philippine corporation registered with the Board of Investments ("BOI") as a preferred pioneer enterprise with respect to its integrated pulp and
paper mill, and as a preferrednon-pioneer enterprise with respect to its integrated plywood and veneer mills.
On 21 April 1983, Picop received from the Commissioner of Internal Revenue ("CIR") two (2) letters of assessment and demand both dated 31 March
1983: (a) one for deficiency transaction tax and for documentary and science stamp tax; and (b) the other for deficiency income tax for 1977, for an
aggregate amount ofP88,763,255.00. These assessments were computed as follows:
Transaction Tax
Interest payments on
money market
borrowings P 45,771,849.00
———————
35% Transaction tax due
thereon 16,020,147.00
Add: 25% surcharge 4,005,036.75
——————
T o t a l P 20,025,183.75
Add:
14% int. fr.
1-20-78 to
7-31-80 P 7,093,302.57
20% int, fr.
8-1-80 to
3-31-83 10,675,523.58
——————
17,768,826.15
——————
P 37,794,009.90
Documentary and Science Stamps Tax
Total face value of
debentures P100,000,000.00
Documentary Stamps
Tax Due
(P0.30 x P100,000.000 )
( P200 ) P 150,000.00
Science Stamps Tax Due
(P0.30 x P100,000,000 )
( P200 ) P 150,000.00
——————
T o t a l P 300,000.00
Add: Compromise for
non-affixture 300.00
——————
300,300.00
——————
TOTAL AMOUNT DUE AND COLLECTIBLE P 38,094,309.90
===========
Deficiency Income Tax for 1977
Net income per return P 258,166.00
Add: Unallowable deductions
1) Disallowed deductions
availed of under
R.A. No. 5186 P 44,332,980.00
2) Capitalized interest
expenses on funds
used for acquisition
of machinery & other
equipment 42,840,131.00
3) Unexplained financial
guarantee expense 1,237,421.00
4) Understatement
of sales 2,391,644.00
5) Overstatement of
cost of sales 604,018.00
——————
P91,406,194.00
Net income per investigation P91,664,360.00
Income tax due thereon 34,734,559.00
Less: Tax already assessed per return 80,358.00
——————
Deficiency P34,654,201.00
Add:
14% int. fr.
4-15-78 to
7-31-81 P 11,128,503.56
20% int. fr.
8-1-80 to
4-15-81 4,886,242.34
——————
P16,014,745.90
——————
TOTAL AMOUNT DUE AND COLLECTIBLE P 50,668,946.90 1
===========
On 26 April 1983, Picop protested the assessment of deficiency transaction tax and documentary and science stamp taxes. Picop also protested on 21
May 1983 the deficiency income tax assessment for 1977. These protests were not formally acted upon by respondent CIR. On 26 September 1984, the
CIR issued a warrant of distraint on personal property and a warrant of levy on real property against Picop, to enforce collection of the contested
assessments; in effect, the CIR denied Picop's protests.
Thereupon, Picop went before the Court of Tax Appeals ("CTA") appealing the assessments. After trial, the CTA rendered a decision dated 15 August
1989, modifying the findings of the CIR and holding Picop liable for the reduced aggregate amount of P20,133,762.33, which was itemized in the
dispositive portion of the decision as follows:
35% Transaction Tax P 16,020,113.20
Documentary & Science
Stamp Tax 300,300.00
Deficiency Income Tax Due 3,813,349.33
——————
TOTAL AMOUNT DUE AND PAYABLE P 20,133,762.53 2
===========
Picop and the CIR both went to the Supreme Court on separate Petitions for Review of the above decision of the CTA. In two (2) Resolutions dated 7
February 1990 and 19 February 1990, respectively, the Court referred the two (2) Petitions to the Court of Appeals. The Court of Appeals consolidated
the two (2) cases and rendered a decision, dated 31 August 1992, which further reduced the liability of Picop to P6,338,354.70. The dispositive portion
of the Court of Appeals decision reads as follows:
WHEREFORE, the appeal of the Commissioner of Internal Revenue is denied for lack of merit. The judgment against PICOP is
modified, as follows:
1. PICOP is declared liable for the 35% transaction tax in the amount of P3,578,543.51;
2. PICOP is absolved from the payment of documentary and science stamp tax of P300,000.00 and the compromise penalty of
P300.00;
3. PICOP shall pay 20% interest per annum on the deficiency income tax of P1,481,579.15, for a period of three (3) years from 21
May 1983, or in the total amount of P888,947.49, and a surcharge of 10% on the latter amount, or P88,984.75.
SO ORDERED.
Picop and the CIR once more filed separate Petitions for Review before the Supreme Court. These cases were consolidated and, on 23 August 1993,
the Court resolved to give due course to both Petitions in G.R. Nos. 106949-50 and 106984-85 and required the parties to file their Memoranda.
Picop now maintains that it is not liable at all to pay any of the assessments or any part thereof. It assails the propriety of the thirty-five percent (35%)
deficiency transaction tax which the Court of Appeals held due from it in the amount of P3,578,543.51. Picop also questions the imposition by the Court
of Appeals of the deficiency income tax of P1,481,579.15, resulting from disallowance of certain claimed financial guarantee expenses and claimed year-
end adjustments of sales and cost of sales figures by Picop's external auditors. 3
The CIR, upon the other hand, insists that the Court of Appeals erred in finding Picop not liable for surcharge and interest on unpaid transaction tax and
for documentary and science stamp taxes and in allowing Picop to claim as deductible expenses:
(a) the net operating losses of another corporation (i.e., Rustan Pulp and Paper Mills, Inc.); and
(b) interest payments on loans for the purchase of machinery and equipment.
The CIR also claims that Picop should be held liable for interest at fourteen percent (14%) per annum from 15 April 1978 for three (3) years,
and interest at twenty percent (20%) per annum for a maximum of three (3) years; and for a surcharge of ten percent (10%), on Picop's
deficiency income tax. Finally, the CIR contends that Picop is liable for the corporate development tax equivalent to five percent (5%) of its
correct 1977 net income.
The issues which we must here address may be sorted out and grouped in the following manner:
I. Whether Picop is liable for:
(1) the thirty-five percent (35%) transaction tax;
(2) interest and surcharge on unpaid transaction tax; and
(3) documentary and science stamp taxes;
II. Whether Picop is entitled to deductions against income of:
(1) interest payments on loans for the purchase of machinery and equipment;
(2) net operating losses incurred by the Rustan Pulp and Paper Mills, Inc.; and
(3) certain claimed financial guarantee expenses; and
III. (1) Whether Picop had understated its sales and overstated its cost of sales for 1977; and
(2) Whether Picop is liable for the corporate development tax of five percent (5%) of its net
income for 1977.
We will consider these issues in the foregoing sequence.
I.
(1) Whether Picop is liable
for the thirty-five percent
(35%) transaction tax.
With the authorization of the Securities and Exchange Commission, Picop issued commercial paper consisting of serially numbered promissory notes
with the total face value of P229,864,000.00 and a maturity period of one (1) year, i.e., from 24 December 1977 to 23 December 1978. These
promissory notes were purchased by various commercial banks and financial institutions. On these promissory notes, Picop paid interest in the
aggregate amount of P45,771,849.00. In respect of these interest payments, the CIR required Picop to pay the thirty-five percent (35%) transaction tax.
The CIR based this assessment on Presidential Decree No. 1154 dated 3 June 1977, which reads in part as follows:
Sec. 1. The National Internal Revenue Code, as amended, is hereby further amended by adding a new section thereto to read as
follows:
Sec. 195-C. Tax on certain interest. — There shall be levied, assessed, collected and paid on every commercial paper issued in the
primary market as principal instrument, a transaction tax equivalent to thirty-five percent (35%) based on the gross amount of
interest thereto as defined hereunder, which shall be paid by the borrower/issuer: Provided, however, that in the case of a long-term
commercial paper whose maturity exceeds more than one year, the borrower shall pay the tax based on the amount of interest
corresponding to one year, and thereafter shall pay the tax upon accrual or actual payment (whichever is earlier) of the untaxed
portion of the interest which corresponds to a period not exceeding one year.
The transaction tax imposed in this section shall be a final tax to be paid by the borrower and shall be allowed as a deductible item
for purposes of computing the borrower's taxable income.
For purposes of this tax —
(a) "Commercial paper" shall be defined as an instrument evidencing indebtedness of any person or entity, including banks and non-
banks performing quasi-banking functions, which is issued, endorsed, sold, transferred or in any manner conveyed to another
person or entity, either with or without recourse and irrespective of maturity. Principally, commercial papers are promissory
notesand/or similar instruments issued in the primary market and shall not include repurchase agreements, certificates of
assignments, certificates of participations, and such other debt instruments issued in the secondary market.
(b) The term "interest" shall mean the difference between what the principal borrower received and the amount it paid upon maturity
of the commercial paper which shall, in no case, be lower than the interest rate prevailing at the time of the issuance or renewal of
the commercial paper. Interest shall be deemed synonymous with discount and shall include all fees, commissions, premiums and
other payments which form integral parts of the charges imposed as a consequence of the use of money.
In all cases, where no interest rate is stated or if the rate stated is lower than the prevailing interest rate at the time of the issuance
or renewal of commercial paper, the Commissioner of Internal Revenue, upon consultation with the Monetary Board of the Central
Bank of the Philippines, shall adjust the interest rate in accordance herewith, and assess the tax on the basis thereof.
The tax herein imposed shall be remitted by the borrower to the Commissioner of Internal Revenue or his Collection Agent in the
municipality where such borrower has its principal place of business within five (5) working days from the issuance of the
commercial paper. In the case of long term commercial paper, the tax upon the untaxed portion of the interest which corresponds to
a period not exceeding one year shall be paid upon accrual payment, whichever is earlier. (Emphasis supplied)
Both the CTA and the Court of Appeals sustained the assessment of transaction tax.
In the instant Petition, Picop reiterates its claim that it is exempt from the payment of the transaction tax by virtue of its tax exemption under R.A. No.
5186, as amended, known as the Investment Incentives Act, which in the form it existed in 1977-1978, read in relevant part as follows:
Sec. 8. Incentives to a Pioneer Enterprise. In addition to the incentives provided in the preceding section, pioneer enterprises shall
be granted the following incentive benefits:
(a) Tax Exemption. Exemption from all taxes under the National Internal Revenue Code, except income tax, from the date the area
of investment is included in the Investment Priorities Plan to the following extent:
(1) One hundred per cent (100%) for the first five years;
(2) Seventy-five per cent (75%) for the sixth through the eighth years;
(3) Fifty per cent (50%) for the ninth and tenth years;
(4) Twenty per cent (20%) for the eleventh and twelfth years; and
(5) Ten per cent (10%) for the thirteenth through the fifteenth year.
xxx xxx xxx 4
We agree with the CTA and the Court of Appeals that Picop's tax exemption under R.A. No. 5186, as amended, does not include exemption from the
thirty-five percent (35%) transaction tax. In the first place, the thirty-five percent (35%) transaction tax 5 is an income tax, that is, it is a tax on the interest
income of the lenders or creditors. InWestern Minolco Corporation v. Commissioner of Internal Revenue, 6 the petitioner corporation borrowed funds
from several financial institutions from June 1977 to October 1977 and paid the corresponding thirty-five (35%) transaction tax thereon in the amount of
P1,317,801.03, pursuant to Section 210 (b) of the 1977 Tax Code. Western Minolco applied for refund of that amount alleging it was exempt from the
thirty-five (35%) transaction tax by reason of Section 79-A of C.A. No. 137, as amended, which granted new mines and old mines resuming operation
"five (5) years complete tax exemptions, except income tax, from the time of its actual bonafide orders for equipment for commercial production." In
denying the claim for refund, this Court held:
The petitioner's contentions deserve scant consideration. The 35% transaction tax is imposed on interest income from commercial
papers issued in the primary money market. Being a tax on interest, it is a tax on income.
As correctly ruled by the respondent Court of Tax Appeals:
Accordingly, we need not and do not think it necessary to discuss further the nature of the transaction tax more
than to say that the incipient scheme in the issuance of Letter of Instructions No. 340 on November 24, 1975
(O.G. Dec. 15, 1975), i.e., to achieve operational simplicity and effective administration in capturing the interest-
income "windfall" from money market operations as a new source of revenue, has lost none of its animating
principle in parturition of amendatory Presidential Decree No. 1154, now Section 210 (b) of the Tax Code. The
tax thus imposed is actually a tax on interest earnings of the lenders or placers who are actually the taxpayers
in whose income is imposed. Thus "the borrower withholds the tax of 35% from the interest he would have to
pay the lender so that he (borrower) can pay the 35% of the interest to the Government." (Citation omitted) . . . .
Suffice it to state that the broad consensus of fiscal and monetary authorities is that "even if nominally, the
borrower is made to pay the tax, actually, the tax is on the interest earning of the immediate and all prior
lenders/placers of the money. . . ." (Rollo, pp. 36-37)
The 35% transaction tax is an income tax on interest earnings to the lenders or placers. The latter are actually the taxpayers.
Therefore, the tax cannot be a tax imposed upon the petitioner. In other words, the petitioner who borrowed funds from several
financial institutions by issuing commercial papers merely withheld the 35% transaction tax before paying to the financial institutions
the interests earned by them and later remitted the same to the respondent Commissioner of Internal Revenue. The tax could have
been collected by a different procedure but the statute chose this method. Whatever collecting procedure is adopted does not
change the nature of the tax.
xxx xxx xxx 7
(Emphasis supplied)
Much the same issue was passed upon in Marinduque Mining Industrial Corporation v. Commissioner of Internal Revenue 8 and resolved in
the same way:
It is very obvious that the transaction tax, which is a tax on interest derived from commercial paper issued in the money market, is
not a tax contemplated in the above-quoted legal provisions. The petitioner admits that it is subject to income tax. Its tax exemption
should be strictly construed.
We hold that petitioner's claim for refund was justifiably denied. The transaction tax, although nominally categorized as a business
tax, is in reality a withholding tax as positively stated in LOI No. 340. The petitioner could have shifted the tax to the lenders or
recipients of the interest. It did not choose to do so. It cannot be heard now to complain about the tax. LOI No. 340 is an extraneous
or extrinsic aid to the construction of section 210 (b).
xxx xxx xxx 9
(Emphasis supplied)
It is thus clear that the transaction tax is an income tax and as such, in any event, falls outside the scope of the tax exemption granted to registered
pioneer enterprises by Section 8 of R.A. No. 5186, as amended. Picop was the withholding agent, obliged to withhold thirty-five percent (35%) of the
interest payable to its lenders and to remit the amounts so withheld to the Bureau of Internal Revenue ("BIR"). As a withholding agent, Picop is
madepersonally liable for the thirty-five percent (35%) transaction tax 10 and if it did not actually withhold thirty-five percent (35%) of the interest monies
it had paid to its lenders, Picop had only itself to blame.
Picop claims that it had relied on a ruling, dated 6 October 1977, issued by the CIR, which held that Picop was not liable for the thirty-five (35%)
transaction tax in respect of debenture bonds issued by Picop. Prior to the issuance of the promissory notes involved in the instant case, Picop had also
issued debenture bonds P100,000,000.00 in aggregate face value. The managing underwriter of this debenture bond issue, Bancom Development
Corporation, requested a formal ruling from the Bureau of Internal Revenue on the liability of Picop for the thirty-five percent (35%) transaction tax in
respect of such bonds. The ruling rendered by the then Acting Commissioner of Internal
Revenue, Efren I. Plana, stated in relevant part:
It is represented that PICOP will be offering to the public primary bonds in the aggregate principal sum of one hundred million pesos
(P100,000,000.00); that the bonds will be issued as debentures in denominations of one thousand pesos (P1,000.00) or
multiples, to mature in ten (10) years at 14% interest per annum payable semi-annually; that the bonds are convertible into
common stock of the issuer at the option of the bond holder at an agreed conversion price; that the issue will be covered by a "Trust
Indenture" with a duly authorized trust corporation as required by the Securities and Exchange Commission, which trustee will act
for and in behalf of the debenture bond holders as beneficiaries; that once issued, the bonds cannot be preterminated by the holder
and cannot be redeemed by the issuer until after eight (8) years from date of issue; that the debenture bonds will besubordinated to
present and future debts of PICOP; and that said bonds are intended to be listed in the stock exchanges, which will place them
alongside listed equity issues.
In reply, I have the honor to inform you that although the bonds hereinabove described are commercial papers which will be issued
in the primary market, however, it is clear from the abovestated facts that said bonds will not be issued as money market
instruments. Such being the case, and considering that the purposes of Presidential Decree No. 1154, as can be gleaned from
Letter of Instruction No. 340, dated November 21, 1975, are (a) to regulate money market transactions and (b) to ensure the
collection of the tax on interest derived from money market transactions by imposing a withholding tax thereon, said bonds do not
come within the purview of the"commercial papers" intended to be subjected to the 35% transaction tax prescribed in Presidential
Decree No. 1154, as implemented by Revenue Regulations No. 7-77. (See Section 2 of said Regulation) Accordingly, PICOP is not
subject to 35% transaction tax on its issues of the aforesaid bonds. However, those investing in said bonds should be made aware
of the fact that the transaction tax is not being imposed on the issuer of said bonds by printing or stamping thereon, in bold letters,
the following statement: "ISSUER NOT SUBJECT TO TRANSACTION TAX UNDER P.D. 1154. BONDHOLDER SHOULD
DECLARE INTEREST EARNING FOR INCOME TAX." 11 (Emphases supplied)
In the above quoted ruling, the CIR basically held that Picop's debenture bonds did not constitute "commercial papers" within the meaning of P.D. No.
1154, and that, as such, those bonds were not subject to the thirty-five percent (35%) transaction tax imposed by P.D. No. 1154.
The above ruling, however, is not applicable in respect of the promissory notes which are the subject matter of the instant case. It must be noted that the
debenture bonds which were the subject matter of Commissioner Plana's ruling were long-term bonds maturing in ten (10) years and which could not be
pre-terminated and could not be redeemed by Picop until after eight (8) years from date of issue; the bonds were moreover subordinated to present and
future debts of Picop and convertible into common stock of Picop at the option of the bondholder. In contrast, the promissory notes involved in the
instant case are short-term instruments bearing a one-year maturity period. These promissory notes constitute the very archtype of money market
instruments. For money market instruments are precisely, by custom and usage of the financial markets, short-term instruments with a tenor of one (1)
year or less. 12 Assuming, therefore, (without passing upon) the correctness of the 6 October 1977 BIR ruling, Picop's short-term promissory notes must
be distinguished, and treated differently, from Picop's long-term debenture bonds.
We conclude that Picop was properly held liable for the thirty-five percent (35%) transaction tax due in respect of interest payments on its money market
borrowings.
At the same time, we agree with the Court of Appeals that the transaction tax may be levied only in respect of the interest earnings of Picop's money
market lenders accruing after P.D. No. 1154 went into effect, and not in respect of all the 1977 interest earnings of such lenders. The Court of Appeals
pointed out that:
PICOP, however contends that even if the tax has to be paid, it should be imposed only for the interests earned after 20 September
1977 when PD 1154 creating the tax became effective. We find merit in this contention. It appears that the tax was levied on interest
earnings from January to October, 1977. However, as found by the lower court, PD 1154 was published in the Official Gazette only
on 5 September 1977, and became effective only fifteen (15) days after the publication, or on 20 September 1977, no other
effectivity date having been provided by the PD. Based on the Worksheet prepared by the Commissioner's office, the interests
earned from 20 September to October 1977 was P10,224,410.03. Thirty-five (35%) per cent of this is P3,578,543.51 which is all
PICOP should pay as transaction tax. 13 (Emphasis supplied)
P.D. No. 1154 is not, in other words, to be given retroactive effect by imposing the thirty-five percent (35%) transaction tax in respect of interest earnings
which accrued before the effectivity date of P.D. No. 1154, there being nothing in the statute to suggest that the legislative authority intended to bring
about such retroactive imposition of the tax.
(2) Whether Picop is liable
for interest and surcharge
on unpaid transaction tax.
With respect to the transaction tax due, the CIR prays that Picop be held liable for a twenty-five percent (25%) surcharge and for interest at the rate of
fourteen percent (14%) per annum from the date prescribed for its payment. In so praying, the CIR relies upon Section 10 of Revenue Regulation 7-77
dated 3 June 1977, 14 issued by the Secretary of Finance. This Section reads:
Sec. 10. Penalties. — Where the amount shown by the taxpayer to be due on its return or part of such payment is not paid on or
before the date prescribed for its payment, the amount of the tax shall be increased by twenty-five (25%) per centum, the increment
to be a part of the tax and theentire amount shall be subject to interest at the rate of fourteen (14%) per centum per annum from the
date prescribed for its payment.
In the case of willful neglect to file the return within the period prescribed herein or in case a false or fraudulent return is willfully
made, there shall be added to the tax or to the deficiency tax in case any payment has been made on the basis of such return
before the discovery of the falsity or fraud, asurcharge of fifty (50%) per centum of its amount. The amount so added to any tax shall
be collected at the same time and in the same manner and as part of the tax unless the tax has been paid before the discovery of
the falsity or fraud, in which case the amount so added shall be collected in the same manner as the tax.
In addition to the above administrative penalties, the criminal and civil penalties as provided for under Section 337 of the Tax Code
of 1977 shall be imposed for violation of any provision of Presidential Decree No. 1154. 15 (Emphases supplied)
The 1977 Tax Code itself, in Section 326 in relation to Section 4 of the same Code, invoked by the Secretary of Finance in issuing Revenue
Regulation 7-77, set out, in comprehensive terms, the rule-making authority of the Secretary of Finance:
Sec. 326. Authority of Secretary of Finance to Promulgate Rules and Regulations. — The Secretary of Finance, upon
recommendation of the Commissioner of Internal Revenue, shall promulgate all needful rules and regulations for the effective
enforcement of the provisions of this Code. (Emphasis supplied)
Section 4 of the same Code contains a list of subjects or areas to be dealt with by the Secretary of Finance through the medium of an exercise
of his quasi-legislative or rule-making authority. This list, however, while it purports to be open-ended, does not include the imposition of
administrative or civil penalties such as the payment of amounts additional to the tax due. Thus, in order that it may be held to be legally
effective in respect of Picop in the present case, Section 10 of Revenue Regulation 7-77 must embody or rest upon some provision in the Tax
Code itself which imposes surcharge and penalty interest for failure to make a transaction tax payment when due.
P.D. No. 1154 did not itself impose, nor did it expressly authorize the imposition of, a surcharge and penalty interest in case of failure to pay the thirty-
five percent (35%) transaction tax when due. Neither did Section 210 (b) of the 1977 Tax Code which re-enacted Section 195-C inserted into the Tax
Code by P.D. No. 1154.
The CIR, both in its petition before the Court of Appeals and its Petition in the instant case, points to Section 51 (e) of the 1977 Tax Code as its source of
authority for assessing a surcharge and penalty interest in respect of the thirty-five percent (35%) transaction tax due from Picop. This Section needs to
be quoted in extenso:
Sec. 51. Payment and Assessment of Income Tax. —
(c) Definition of deficiency. — As used in this Chapter in respect of a tax imposed by this Title, the term "deficiency" means:
(1) The amount by which the tax imposed by this Title exceeds the amount shown as the tax by the taxpayer upon his return; but
the amount so shown on the return shall first be increased by the amounts previously assessed (or collected without assessment)
as a deficiency, and decreased by the amount previously abated, credited, returned, or otherwise in respect of such tax; . . .
xxx xxx xxx
(e) Additions to the tax in case of non-payment. —
(1) Tax shown on the return. — Where the amount determined by the taxpayer as the tax imposed by this Title or any installment
thereof, or any part of such amount or installment is not paid on or before the date prescribed for its payment, there shall be
collected as a part of the tax, interest upon such unpaid amount at the rate of fourteen per centum per annum from the date
prescribed for its payment until it is paid: Provided, That the maximum amount that may be collected as interest on deficiency shall
in no case exceed the amount corresponding to a period of three years, the present provisions regarding prescription to the contrary
notwithstanding.
(2) Deficiency. — Where a deficiency, or any interest assessed in connection therewith under paragraph (d) of this section, or any
addition to the taxes provided for in Section seventy-two of this Code is not paid in full within thirty days from the date of notice and
demand from the Commissioner of Internal Revenue, there shall be collected upon the unpaid amount as part of the tax, interest at
the rate of fourteen per centum per annum from the date of such notice and demand until it is paid:Provided, That the maximum
amount that may be collected as interest on deficiency shall in no case exceed the amount corresponding to a period of three years,
the present provisions regarding prescription to the contrary notwithstanding.
(3) Surcharge. — If any amount of tax included in the notice and demand from the Commissioner of Internal Revenue is not paid in
full within thirty days after such notice and demand, there shall be collected in addition to the interest prescribed herein and in
paragraph (d) above and as part of the tax a surcharge of five per centum of the amount of tax unpaid. (Emphases supplied)
Section 72 of the 1977 Tax Code referred to in Section 51 (e) (2) above, provides:
Sec. 72. Surcharges for failure to render returns and for rendering false and fraudulent returns. — In case of willful neglect to file the
return or list required by this Title within the time prescribed by law, or in case a false or fraudulent return or list is wilfully made, the
Commissioner of Internal Revenue shall add to the tax or to the deficiency tax, in case any payment has been made on the basis of
such return before the discovery of the falsity or fraud, as surcharge of fifty per centum of the amount of such tax or deficiency tax.
In case of any failure to make and file a return or list within the time prescribed by law or by the Commissioner or other Internal
Revenue Officer, not due to willful neglect, the Commissioner of Internal Revenue shall add to the tax twenty-five per centum of its
amount, except that, when a return is voluntarily and without notice from the Commissioner or other officer filed after such time, and
it is shown that the failure to file it was due to a reasonable cause, no such addition shall be made to the tax. The amount so added
to any tax shall be collected at the same time, in the same manner and as part of the tax unless the tax has been paid before the
discovery of the neglect, falsity, or fraud, in which case the amount so added shall be collected in the same manner as the tax.
(Emphases supplied)
It will be seen that Section 51 (c) (1) and (e) (1) and (3), of the 1977 Tax Code, authorize the imposition of surcharge and interest only in respect of a
"tax imposed by this Title," that is to say, Title II on "Income Tax." It will also be seen that Section 72 of the 1977 Tax Code imposes a surcharge only in
case of failure to file a return or list "required by this Title," that is, Title II on "Income Tax." The thirty-five percent (35%) transaction tax is, however,
imposed in the 1977 Tax Code by Section 210 (b) thereof which Section is embraced in Title V on"Taxes on Business" of that Code. Thus, while the
thirty-five percent (35%) transaction tax is in truth a tax imposed on interest income earned by lenders or creditors purchasing commercial paper on the
money market, the relevant provisions, i.e., Section 210 (b), were not inserted in Title II of the 1977 Tax Code. The end result is that the thirty-five
percent (35%) transaction tax is not one of the taxes in respect of which Section 51 (e) authorized the imposition of surcharge and interest and Section
72 the imposition of a fraud surcharge.
It is not without reluctance that we reach the above conclusion on the basis of what may well have been an inadvertent error in legislative draftsmanship,
a type of error common enough during the period of Martial Law in our country. Nevertheless, we are compelled to adopt this conclusion. We consider
that the authority to impose what the present Tax Code calls (in Section 248) civil penalties consisting of additions to the tax due, must be expressly
given in the enabling statute, in language too clear to be mistaken. The grant of that authority is not lightly to be assumed to have been made to
administrative officials, even to one as highly placed as the Secretary of Finance.
The state of the present law tends to reinforce our conclusion that Section 51 (c) and (e) of the 1977 Tax Code did not authorize the imposition of a
surcharge and penalty interest for failure to pay the thirty-five percent (35%) transaction tax imposed under Section 210 (b) of the same Code. The
corresponding provision in the current Tax Code very clearly embraces failure to pay all taxes imposed in the Tax Code, without any regard to the Title
of the Code where provisions imposing particular taxes are textually located. Section 247 (a) of the NIRC, as amended, reads:
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. . . .
Sec. 248. Civil Penalties. — (a) There shall be imposed, in addition to the tax required to be paid, penalty equivalent to twenty-five
percent (25%) of the amount due, in the following cases:
xxx xxx xxx
(3) failure to pay the tax within the time prescribed for its payment; or
xxx xxx xxx
(c) the penalties imposed hereunder shall form part of the tax and the entire amount shall be subject to the interest prescribed in
Section 249.
Sec. 249. Interest. — (a) In General. — There shall be assessed and collected on any unpaid amount of tax, interest at the rate
of twenty percent (20%) per annum or such higher rate as may be prescribed by regulations, from the date prescribed for payment
until the amount is fully paid. . . . (Emphases supplied)
In other words, Section 247 (a) of the current NIRC supplies what did not exist back in 1977 when Picop's liability for the thirty-five percent
(35%) transaction tax became fixed. We do not believe we can fill that legislative lacuna by judicial fiat. There is nothing to suggest that
Section 247 (a) of the present Tax Code, which was inserted in 1985, was intended to be given retroactive application by the legislative
authority. 16
(3) Whether Picop is Liable
for Documentary and
Science Stamp Taxes.
As noted earlier, Picop issued sometime in 1977 long-term subordinated convertible debenture bonds with an aggregate face value of P100,000,000.00.
Picop stated, and this was not disputed by the CIR, that the proceeds of the debenture bonds were in fact utilized to finance the BOI-registered
operations of Picop. The CIR assessed documentary and science stamp taxes, amounting to P300,000.00, on the issuance of Picop's debenture bonds.
It is claimed by Picop that its tax exemption — "exemption from all taxes under the National Internal Revenue Code, except income tax" on a declining
basis over a certain period of time — includes exemption from the documentary and science stamp taxes imposed under the NIRC.
The CIR, upon the other hand, stresses that the tax exemption under the Investment Incentives Act may be granted or recognized only to the extent that
the claimant Picop was engaged in registered operations, i.e., operations forming part of its integrated pulp and paper project. 17 The borrowing of funds
from the public, in the submission of the CIR, was not an activity included in Picop's registered operations. The CTA adopted the view of the CIR and
held that "the issuance of convertible debenture bonds [was] not synonymous [with] the manufactur[ing] operations of an integrated pulp and paper
mill." 18
The Court of Appeals took a less rigid view of the ambit of the tax exemption granted to registered pioneer enterprises. Said the Court of Appeals:
. . . PICOP's explanation that the debenture bonds were issued to finance its registered operation is logical and is unrebutted. We
are aware that tax exemptions must be applied strictly against the beneficiary in order to deter their abuse. It would indeed be
altogether a different matter if there is a showing that the issuance of the debenture bonds had no bearing whatsoever on the
registered operations PICOP and that they were issued in connection with a totally different business undertaking of PICOP other
than its registered operation. There is, however, a dearth of evidence in this regard. It cannot be denied that PICOP needed funds
for its operations. One of the means it used to raise said funds was to issue debenture bonds. Since the money raised thereby was
to be used in its registered operation, PICOP should enjoy the incentives granted to it by R.A. 5186, one of which is the exemption
from payment of all taxes under the National Internal Revenue Code, except income taxes, otherwise the purpose of the incentives
would be defeated. Documentary and science stamp taxes on debenture bonds are certainly not income taxes. 19 (Emphasis
supplied)
Tax exemptions are, to be sure, to be "strictly construed," that is, they are not to be extended beyond the ordinary and reasonable intendment of the
language actually used by the legislative authority in granting the exemption. The issuance of debenture bonds is certainly conceptually distinct from
pulping and paper manufacturing operations. But no one contends that issuance of bonds was a principal or regular business activity of Picop; only
banks or other financial institutions are in the regular business of raising money by issuing bonds or other instruments to the general public. We consider
that the actual dedication of the proceeds of the bonds to the carrying out of Picop's registered operations constituted a sufficient nexus with such
registered operations so as to exempt Picop from stamp taxes ordinarily imposed upon or in connection with issuance of such bonds. We agree,
therefore, with the Court of Appeals on this matter that the CTA and the CIR had erred in rejecting Picop's claim for exemption from stamp taxes.
It remains only to note that after commencement of the present litigation before the CTA, the BIR took the position that the tax exemption granted by
R.A. No. 5186, as amended, does include exemption from documentary stamp taxes on transactions entered into by BOI-registered enterprises. BIR
Ruling No. 088, dated 28 April 1989, for instance, held that a registered preferred pioneer enterprise engaged in the manufacture of integrated circuits,
magnetic heads, printed circuit boards, etc., is exempt from the payment of documentary stamp taxes. The Commissioner said:
You now request a ruling that as a preferred pioneer enterprise, you are exempt from the payment of Documentary Stamp Tax
(DST).
In reply, please be informed that your request is hereby granted. Pursuant to Section 46 (a) of Presidential Decree No. 1789,
pioneer enterprises registered with the BOI are exempt from all taxes under the National Internal Revenue Code, except from all
taxes under the National Internal Revenue Code, except income tax, from the date the area of investment is included in the
Investment Priorities Plan to the following extent:
xxx xxx xxx
Accordingly, your company is exempt from the payment of documentary stamp tax to the extent of the percentage aforestated on
transactions connected with the registered business activity. (BIR Ruling No. 111-81) However, if said transactions conducted by
you require the execution of a taxable document with other parties, said parties who are not exempt shall be the one directly liable
for the tax. (Sec. 173, Tax Code, as amended; BIR Ruling No. 236-87) In other words, said parties shall be liable to the same
percentage corresponding to your tax exemption. (Emphasis supplied)
Similarly, in BIR Ruling No. 013, dated 6 February 1989, the Commissioner held that a registered pioneer enterprise producing polyester
filament yarn was entitled to exemption "from the documentary stamp tax on [its] sale of real property in Makati up to December 31, 1989." It
appears clear to the Court that the CIR, administratively at least, no longer insists on the position it originally took in the instant case before the
CTA.
II
(1) Whether Picop is entitled
to deduct against current
income interest payments
on loans for the purchase
of machinery and equipment.
In 1969, 1972 and 1977, Picop obtained loans from foreign creditors in order to finance the purchase of machinery and equipment needed for its
operations. In its 1977 Income Tax Return, Picop claimed interest payments made in 1977, amounting to P42,840,131.00, on these loans as a deduction
from its 1977 gross income.
The CIR disallowed this deduction upon the ground that, because the loans had been incurred for the purchase of machinery and equipment, the
interest payments on those loans should have been capitalized instead and claimed as a depreciation deduction taking into account the adjusted basis
of the machinery and equipment (original acquisition cost plus interest charges) over the useful life of such assets.
Both the CTA and the Court of Appeals sustained the position of Picop and held that the interest deduction claimed by Picop was proper and allowable.
In the instant Petition, the CIR insists on its original position.
We begin by noting that interest payments on loans incurred by a taxpayer (whether BOI-registered or not) are allowed by the NIRC as deductions
against the taxpayer's gross income. Section 30 of the 1977 Tax Code provided as follows:
Sec. 30. Deduction from Gross Income. — The following may be deducted from gross income:
(a) Expenses:
xxx xxx xxx
(b) Interest:
(1) In general. — The amount of interest paid within the taxable year on indebtedness, except on indebtedness
incurred or continued to purchase or carry obligations the interest upon which is exempt from taxation as
income under this Title: . . . (Emphasis supplied)
Thus, the general rule is that interest expenses are deductible against gross income and this certainly includes interest paid under loans
incurred in connection with the carrying on of the business of the taxpayer. 20 In the instant case, the CIR does not dispute that the interest
payments were made by Picop on loansincurred in connection with the carrying on of the registered operations of Picop, i.e., the financing of
the purchase of machinery and equipment actually used in the registered operations of Picop. Neither does the CIR deny that such interest
payments were legally due and demandable under the terms of such loans, and in fact paid by Picop during the tax year 1977.
The CIR has been unable to point to any provision of the 1977 Tax Code or any other Statute that requires the disallowance of the interest payments
made by Picop. The CIR invokes Section 79 of Revenue Regulations No. 2 as amended which reads as follows:
Sec. 79. Interest on Capital. — Interest calculated for cost-keeping or other purposes on account of capital or surplus invested in the
business, which does not represent a charge arising under an interest-bearing obligation, is not allowable deduction from gross
income. (Emphases supplied)
We read the above provision of Revenue Regulations No. 2 as referring to so called "theoretical interest," that is to say, interest "calculated" or
computed (and not incurred or paid) for the purpose of determining the "opportunity cost" of investing funds in a given business. Such
"theoretical" or imputed interest does notarise from a legally demandable interest-bearing obligation incurred by the taxpayer who however
wishes to find out, e.g., whether he would have been better off by lending out his funds and earning interest rather than investing such funds in
his business. One thing that Section 79 quoted above makes clear is that interest which does constitute a charge arising under an interest-
bearing obligation is an allowable deduction from gross income.
It is claimed by the CIR that Section 79 of Revenue Regulations No. 2 was "patterned after" paragraph 1.266-1 (b), entitled "Taxes and Carrying
Charges Chargeable to Capital Account and Treated as Capital Items" of the U.S. Income Tax Regulations, which paragraph reads as follows:
(B) Taxes and Carrying Charges. — The items thus chargeable to capital accounts are —
(11) In the case of real property, whether improved or unimproved and whether productive or nonproductive.
(a) Interest on a loan (but not theoretical interest of a taxpayer using his own funds). 21
The truncated excerpt of the U.S. Income Tax Regulations quoted by the CIR needs to be related to the relevant provisions of the U.S. Internal Revenue
Code, which provisions deal with the general topic of adjusted basis for determining allowable gain or loss on sales or exchanges of property and
allowable depreciation and depletion of capital assets of the taxpayer:
Present Rule. The Internal Revenue Code, and the Regulations promulgated thereunder provide that "No deduction shall be
allowed for amounts paid or accrued for such taxes and carrying charges as, under regulations prescribed by the Secretary or his
delegate, are chargeable to capital account with respect to property, if the taxpayer elects, in accordance with such regulations, to
treat such taxes orcharges as so chargeable."
At the same time, under the adjustment of basis provisions which have just been discussed, it is provided that adjustment shall be
made for all "expenditures, receipts, losses, or other items" properly chargeable to a capital account, thus including taxes and
carrying charges; however, an exception exists, in which event such adjustment to the capital account is not made, with respect to
taxes and carrying charges which the taxpayer has not elected to capitalize but for which a deduction instead has been
taken. 22 (Emphasis supplied)
The "carrying charges" which may be capitalized under the above quoted provisions of the U.S. Internal Revenue Code include, as the CIR
has pointed out, interest on a loan "(but not theoretical interest of a taxpayer using his own funds)." What the CIR failed to point out is
that such "carrying charges" may, at the election of the taxpayer, either be (a) capitalized in which case the cost basis of the capital assets,
e.g., machinery and equipment, will be adjusted by adding the amount of such interest payments or alternatively, be (b) deducted from gross
income of the taxpayer. Should the taxpayer elect to deduct the interest payments against its gross income, the taxpayer cannot at the same
time capitalize the interest payments. In other words, the taxpayer is not entitled to both the deduction from gross income and the adjusted
(increased) basis for determining gain or loss and the allowable depreciation charge. The U.S. Internal Revenue Code does not prohibit the
deduction of interest on a loan obtained for purchasing machinery and equipment against gross income, unless the taxpayer has also or
previously capitalized the same interest payments and thereby adjusted the cost basis of such assets.
We have already noted that our 1977 NIRC does not prohibit the deduction of interest on a loan incurred for acquiring machinery and equipment.
Neither does our 1977 NIRC compel the capitalization of interest payments on such a loan. The 1977 Tax Code is simply silent on a taxpayer's right to
elect one or the other tax treatment of such interest payments. Accordingly, the general rule that interest payments on a legally demandable loan are
deductible from gross income must be applied.
The CIR argues finally that to allow Picop to deduct its interest payments against its gross income would be to encourage fraudulent claims to double
deductions from gross income:
[t]o allow a deduction of incidental expense/cost incurred in the purchase of fixed asset in the year it was incurred would invite tax
evasion through fraudulent application of double deductions from gross income. 23 (Emphases supplied)
The Court is not persuaded. So far as the records of the instant cases show, Picop has not claimed to be entitled to double deduction of its
1977 interest payments. The CIR has neither alleged nor proved that Picop had previously adjusted its cost basis for the machinery and
equipment purchased with the loan proceeds by capitalizing the interest payments here involved. The Court will not assume that the CIR
would be unable or unwilling to disallow "a double deduction" should Picop, having deducted its interest cost from its gross income, also
attempt subsequently to adjust upward the cost basis of the machinery and equipment purchased and claim, e.g., increased deductions for
depreciation.
We conclude that the CTA and the Court of Appeals did not err in allowing the deductions of Picop's 1977 interest payments on its loans for capital
equipment against its gross income for 1977.
income net operating losses
incurred by Rustan Pulp
and Paper Mills, Inc.
On 18 January 1977, Picop entered into a merger agreement with the Rustan Pulp and Paper Mills, Inc. ("RPPM") and Rustan Manufacturing
Corporation ("RMC"). Under this agreement, the rights, properties, privileges, powers and franchises of RPPM and RMC were to be transferred,
assigned and conveyed to Picop as the surviving corporation. The entire subscribed and outstanding capital stock of RPPM and RMC would be
exchanged for 2,891,476 fully paid up Class "A" common stock of Picop (with a par value of P10.00) and 149,848 shares of preferred stock of Picop
(with a par value of P10.00), to be issued by Picop, the result being that Picop would wholly own both RPPM and RMC while the stockholders of RPPM
and RMC would join the ranks of Picop's shareholders.
In addition, Picop paid off the obligations of RPPM to the Development Bank of the Philippines ("DBP") in the amount of P68,240,340.00, by issuing
6,824,034 shares of preferred stock (with a par value of P10.00) to the DBP. The merger agreement was approved in 1977 by the creditors and
stockholders of Picop, RPPM and RMC and by the Securities and Exchange Commission. Thereupon, on 30 November 1977, apparently the effective
date of merger, RPPM and RMC were dissolved. The Board of Investments approved the merger agreement on 12 January 1978.
It appears that RPPM and RMC were, like Picop, BOI-registered companies. Immediately before merger effective date, RPPM had over preceding years
accumulated losses in the total amount of P81,159,904.00. In its 1977 Income Tax Return, Picop claimed P44,196,106.00 of RPPM's accumulated
losses as a deduction against Picop's 1977 gross income. 24
Upon the other hand, even before the effective date of merger, on 30 August 1977, Picop sold all the outstanding shares of RMC stock to San Miguel
Corporation for the sum of P38,900,000.00, and reported a gain of P9,294,849.00 from this transaction. 25
In claiming such deduction, Picop relies on section 7 (c) of R.A. No. 5186 which provides as follows:
Sec. 7. Incentives to Registered Enterprise. — A registered enterprise, to the extent engaged in a preferred area of investment, shall
be granted the following incentive benefits:
xxx xxx xxx
(c) Net Operating Loss Carry-over. — A net operating loss incurred in any of the first ten years of operations may be carried over as
a deduction from taxable income for the six years immediately following the year of such loss. The entire amount of the loss shall be
carried over to the first of the six taxable years following the loss, and any portion of such loss which exceeds the taxable income of
such first year shall be deducted in like manner from the taxable income of the next remaining five years. The net operating loss
shall be computed in accordance with the provisions of the National Internal Revenue Code, any provision of this Act to the contrary
notwithstanding, except that income not taxable either in whole or in part under this or other laws shall be included in gross income.
(Emphasis supplied)
Picop had secured a letter-opinion from the BOI dated 21 February 1977 — that is, after the date of the agreement of merger but before the
merger became effective — relating to the deductibility of the previous losses of RPPM under Section 7 (c) of R.A. No. 5186 as amended. The
pertinent portions of this BOI opinion, signed by BOI Governor Cesar Lanuza, read as follows:
2) PICOP will not be allowed to carry over the losses of Rustan prior to the legal dissolution of the latter because at that time the two
(2) companies still had separate legal personalities;
3) After BOI approval of the merger, PICOP can no longer apply for the registration of the registered capacity of Rustan because
with the approved merger, such registered capacity of Rustan transferred to PICOP will have the same registration date as that of
Rustan. In this case, the previous losses of Rustan may be carried over by PICOP, because with the merger, PICOP assumes all
the rights and obligations of Rustan subject, however, to the period prescribed for carrying over of such
losses. 26 (Emphasis supplied)
Curiously enough, Picop did not also seek a ruling on this matter, clearly a matter of tax law, from the Bureau of Internal Revenue. Picop
chose to rely solely on the BOI letter-opinion.
The CIR disallowed all the deductions claimed on the basis of RPPM's losses, apparently on two (2) grounds. Firstly, the previous losses were incurred
by "another taxpayer," RPPM, and not by Picop in connection with Picop's own registered operations. The CIR took the view that Picop, RPPM and
RMC were merged into one (1) corporate personality only on 12 January 1978, upon approval of the merger agreement by the BOI. Thus, during the
taxable year 1977, Picop on the one hand and RPPM and RMC on the other, still had their separate juridical personalities. Secondly, the CIR alleged
that these losses had been incurred by RPPM "from the borrowing of funds" and not from carrying out of RPPM's registered operations. We focus on the
first ground. 27
The CTA upheld the deduction claimed by Picop; its reasoning, however, is less than crystal clear, especially in respect of its view of what the U.S. tax
law was on this matter. In any event, the CTA apparently fell back on the BOI opinion of 21 February 1977 referred to above. The CTA said:
Respondent further averred that the incentives granted under Section 7 of R.A. No. 5186 shall be available only to the extent in
which they are engaged in registered operations, citing Section 1 of Rule IX of the Basic Rules and Regulations to Implement the
Intent and Provisions of the Investment Incentives Act, R.A. No. 5186.
We disagree with respondent. The purpose of the merger was to rationalize the container board industry and not to take advantage
of the net losses incurred by RPPMI prior to the stock swap. Thus, when stock of a corporation is purchased in order to take
advantage of the corporation's net operating loss incurred in years prior to the purchase, the corporation thereafter entering into a
trade or business different from that in which it was previously engaged, the net operating loss carry-over may be entirely lost. [IRC
(1954), Sec. 382(a), Vol. 5, Mertens, Law of Federal Income Taxation, Chap. 29.11a, p. 103]. 28 Furthermore, once the BOI
approved the merger agreement, the registered capacity of Rustan shall be transferred to PICOP, and the previous losses of Rustan
may be carried over by PICOP by operation of law. [BOI ruling dated February 21, 1977 (Exh. J-1)] It is clear therefrom, that the
deduction availed of under Section 7(c) of R.A. No. 5186 was only proper." (pp. 38-43,Rollo of SP No. 20070) 29 (Emphasis
supplied)
In respect of the above underscored portion of the CTA decision, we must note that the CTA in fact overlooked the statement made by
petitioner's counsel before the CTA that:
Among the attractions of the merger to Picop was the accumulated net operating loss carry-over of RMC that it might possibly use
to relieve it (Picop) from its income taxes, under Section 7 (c) of R.A.5186. Said section provides:
xxx xxx xxx
With this benefit in mind, Picop addressed three (3) questions to the BOI in a letter dated November 25, 1976. The BOI replied on
February 21, 1977 directly answering the three (3) queries. 30 (Emphasis supplied)
The size of RPPM's accumulated losses as of the date of the merger — more than P81,000,000.00 — must have constituted a powerful
attraction indeed for Picop.
The Court of Appeals followed the result reached by the CTA. The Court of Appeals, much like the CTA, concluded that since RPPM was dissolved on
30 November 1977, its accumulated losses were appropriately carried over by Picop in the latter's 1977 Income Tax Return "because by that time
RPPMI and Picop were no longer separate and different taxpayers." 31
After prolonged consideration and analysis of this matter, the Court is unable to agree with the CTA and Court of Appeals on the deductibility of RPPM's
accumulated losses against Picop's 1977 gross income.
It is important to note at the outset that in our jurisdiction, the ordinary rule — that is, the rule applicable in respect of corporations not registered with the
BOI as a preferred pioneer enterprise — is that net operating losses cannot be carried over. Under our Tax Code, both in 1977 and at present, losses
may be deducted from gross income only if such losses were actually sustained in the same year that they are deducted or charged off. Section 30 of
the 1977 Tax Code provides:
Sec. 30. Deductions from Gross Income. — In computing net income, there shall be allowed as deduction —
xxx xxx xxx
(d) Losses:
(1) By Individuals. — In the case of an individual, losses actually sustained during the taxable yearand not compensated for by an
insurance or otherwise —
(A) If incurred in trade or business;
xxx xxx xxx
(2) By Corporations. — In a case of a corporation, all losses actually sustained and charged off within the taxable year and not
compensated for by insurance or otherwise.
(3) By Non-resident Aliens or Foreign Corporations. — In the case of a non-resident alien individual or a foreign corporation, the
losses deductible are those actually sustained during the year incurred in business or trade conducted within the
Philippines, . . . 32 (Emphasis supplied)
Section 76 of the Philippine Income Tax Regulations (Revenue Regulation No. 2, as amended) is even more explicit and detailed:
Sec. 76. When charges are deductible. — Each year's return, so far as practicable, both as to gross income and deductions
therefrom should be complete in itself, and taxpayers are expected to make every reasonable effort to ascertain the facts necessary
to make a correct return. The expenses, liabilities, or deficit of one year cannot be used to reduce the income of a subsequent year.
A taxpayer has the right to deduct all authorized allowances and it follows that if he does not within any year deduct certain of his
expenses, losses, interests, taxes, or other charges,
he can not deduct them from the income of the next or any succeeding year. . . .
xxx xxx xxx
. . . . If subsequent to its occurrence, however, a taxpayer first ascertains the amount of a loss sustained during a prior taxable
year which has not been deducted from gross income, he may render an amended return for such preceding taxable year including
such amount of loss in the deduction from gross income and may in proper cases file a claim for refund of the excess paid by
reason of the failure to deduct such loss in the original return. A loss from theft or embezzlement occurring in one year and
discovered in another is ordinarily deductible for the year in which sustained. (Emphases supplied)
It is thus clear that under our law, and outside the special realm of BOI-registered enterprises, there is no such thing as a carry-over of net
operating loss. To the contrary, losses must be deducted against current income in the taxable year when such losses were incurred.
Moreover, such losses may be charged offonly against income earned in the same taxable year when the losses were incurred.
Thus it is that R.A. No. 5186 introduced the carry-over of net operating losses as a very special incentive to be granted only to registered pioneer
enterprises and only with respect to their registered operations. The statutory purpose here may be seen to be the encouragement of the establishment
and continued operation of pioneer industries by allowing the registered enterprise to accumulate its operating losses which may be expected during the
early years of the enterprise and to permit the enterprise to offset such losses against income earned by it in later years after successful establishment
and regular operations. To promote its economic development goals, the Republic foregoes or defers taxing the income of the pioneer enterprise until
after that enterprise has recovered or offset its earlier losses. We consider that the statutory purpose can be served only if the accumulated operating
losses are carried over and charged off against income subsequently earned and accumulated by the same enterprise engaged in the same registered
operations.
In the instant case, to allow the deduction claimed by Picop would be to permit one corporation or enterprise, Picop, to benefit from the operating losses
accumulated by another corporation or enterprise, RPPM. RPPM far from benefiting from the tax incentive granted by the BOI statute, in fact gave up
the struggle and went out of existence and its former stockholders joined the much larger group of Picop's stockholders. To grant Picop's claimed
deduction would be to permit Picop to shelter its otherwise taxable income (an objective which Picop had from the very beginning) which had not been
earned by the registered enterprise which had suffered the accumulated losses. In effect, to grant Picop's claimed deduction would be to permit Picop to
purchase a tax deduction and RPPM to peddle its accumulated operating losses. Under the CTA and Court of Appeals decisions, Picop would benefit by
immunizing P44,196,106.00 of its income from taxation thereof although Picop had not run the risks and incurred the losses which had been
encountered and suffered by RPPM. Conversely, the income that would be shielded from taxation is not income that was, after much effort, eventually
generated by the same registered operations which earlier had sustained losses. We consider and so hold that there is nothing in Section 7 (c) of R.A.
No. 5186 which either requires or permits such a result. Indeed, that result makes non-sense of the legislative purpose which may be seen clearly to be
projected by Section 7 (c), R.A. No. 5186.
The CTA and the Court of Appeals allowed the offsetting of RPPM's accumulated operating losses against Picop's 1977 gross income, basically
because towards the end of the taxable year 1977, upon the arrival of the effective date of merger, only one (1) corporation, Picop, remained. The
losses suffered by RPPM's registered operations and the gross income generated by Picop's own registered operations now came under one and the
same corporate roof. We consider that this circumstance relates much more to form than to substance. We do not believe that that single purely
technical factor is enough to authorize and justify the deduction claimed by Picop. Picop's claim for deduction is not only bereft of statutory basis; it does
violence to the legislative intent which animates the tax incentive granted by Section 7 (c) of R.A. No. 5186. In granting the extraordinary privilege and
incentive of a net operating loss carry-over to BOI-registered pioneer enterprises, the legislature could not have intended to require the Republic to
forego tax revenues in order to benefit a corporation which had run no risks and suffered no losses, but had merely purchased another's losses.
Both the CTA and the Court of Appeals appeared much impressed not only with corporate technicalities but also with the U.S. tax law on this matter. It
should suffice, however, simply to note that in U.S. tax law, the availability to companies generally of operating loss carry-overs and of operating loss
carry-backs is expressly provided and regulated in great detail by statute. 33 In our jurisdiction, save for Section 7 (c) of R.A. No. 5186, no statute
recognizes or permits loss carry-overs and loss carry-backs. Indeed, as already noted, our tax law expressly rejects the very notion of loss carry-overs
and carry-backs.
We conclude that the deduction claimed by Picop in the amount of P44,196,106.00 in its 1977 Income Tax Return must be disallowed.
income certain claimed
financial guarantee expenses.
In its Income Tax Return for 1977, Picop also claimed a deduction in the amount of P1,237,421.00 as financial guarantee expenses.
This deduction is said to relate to chattel and real estate mortgages required from Picop by the Philippine National Bank ("PNB") and DBP as guarantors
of loans incurred by Picop from foreign creditors. According to Picop, the claimed deduction represents registration fees and other expenses incidental to
registration of mortgages in favor of DBP and PNB.
In support of this claimed deduction, Picop allegedly showed its own vouchers to BIR Examiners to prove disbursements to the Register of Deeds of
Tandag, Surigao del Sur, of particular amounts. In the proceedings before the CTA, however, Picop did not submit in evidence such vouchers and
instead presented one of its employees to testify that the amount claimed had been disbursed for the registration of chattel and real estate mortgages.
The CIR disallowed this claimed deduction upon the ground of insufficiency of evidence. This disallowance was sustained by the CTA and the Court of
Appeals. The CTA said:
No records are available to support the abovementioned expenses. The vouchers merely showed that the amounts were paid to the
Register of Deeds and simply cash account. Without the supporting papers such as the invoices or official receipts of the Register of
Deeds, these vouchers standing alone cannot prove that the payments made were for the accrued expenses in question.The best
evidence of payment is the official receipts issued by the Register of Deeds. The testimony of petitioner's witness that the official
receipts and cash vouchers were shown to the Bureau of Internal Revenue will not suffice if no records could be presented in court
for proper marking and identification. 34 Emphasis supplied)
The Court of Appeals added:
The mere testimony of a witness for PICOP and the cash vouchers do not suffice to establish its claim that registration fees were
paid to the Register of Deeds for the registration of real estate and chattel mortgages in favor of Development Bank of the
Philippines and the Philippine National Bank as guarantors of PICOP's loans. The witness could very well have been merely
repeating what he was instructed to say regardless of the truth, while the cash vouchers, which we do not find on file, are not said to
provide the necessary details regarding the nature and purpose of the expenses reflected therein. PICOP should have presented,
through the guarantors, its owner's copy of the registered titles with the lien inscribed thereon as well as an official receipt from the
Register of Deeds evidencing payment of the registration fee. 35 (Emphasis supplied)
We must support the CTA and the Court of Appeals in their foregoing rulings. A taxpayer has the burden of proving entitlement to a claimed
deduction. 36 In the instant case, even Picop's own vouchers were not submitted in evidence and the BIR Examiners denied that such vouchers and
other documents had been exhibited to them. Moreover, cash vouchers can only confirm the fact of disbursement but not necessarily the purpose
thereof. 37 The best evidence that Picop should have presented to support its claimed deduction were the invoices and official receipts issued by the
Register of Deeds. Picop not only failed to present such documents; it also failed to explain the loss thereof, assuming they had existed before. 38 Under
the best evidence rule, 39 therefore, the testimony of Picop's employee was inadmissible and was in any case entitled to very little, if any, credence.
We consider that entitlement to Picop's claimed deduction of P1,237,421.00 was not adequately shown and that such deduction must be disallowed.
III
(1) Whether Picop had understated
its sales and overstated its
cost of sales for 1977.
In its assessment for deficiency income tax for 1977, the CIR claimed that Picop had understated its sales by P2,391,644.00 and, upon the other hand,
overstated its cost of sales by P604,018.00. Thereupon, the CIR added back both sums to Picop's net income figure per its own return.
The 1977 Income Tax Return of Picop set forth the following figures:
Sales (per Picop's Income Tax Return):
Paper P 537,656,719.00
Timber P 263,158,132.00
———————
Total Sales P 800,814,851.00
============
Upon the other hand, Picop's Books of Accounts reflected higher sales figures:
Sales (per Picop's Books of Accounts):
Paper P 537,656,719.00
Timber P 265,549,776.00
———————
Total Sales P 803,206,495.00
============
The above figures thus show a discrepancy between the sales figures reflected in Picop's Books of Accounts and the sales figures reported in
its 1977 Income Tax Return, amounting to: P2,391,644.00.
The CIR also contended that Picop's cost of sales set out in its 1977 Income Tax Return, when compared with the cost figures in its Books of Accounts,
was overstated:
Cost of Sales
(per Income Tax Return) P607,246,084.00
Cost of Sales
(per Books of Accounts) P606,642,066.00
———————
Discrepancy P 604,018.00
============
Picop did not deny the existence of the above noted discrepancies. In the proceedings before the CTA, Picop presented one of its officials to explain the
foregoing discrepancies. That explanation is perhaps best presented in
Picop's own words as set forth in its Memorandum before this Court:
. . . that the adjustment discussed in the testimony of the witness, represent the best and most objective method of determining in
pesos the amount of the correct and actual export sales during the year. It was this correct and actual export sales and costs of
sales that were reflected in the income tax return and in the audited financial statements. These corrections did not result in
realization of income and should not give rise to any deficiency tax.
xxx xxx xxx
What are the facts of this case on this matter? Why were adjustments necessary at the year-end?
Because of PICOP's procedure of recording its export sales (reckoned in U.S. dollars) on the basis of a fixed rate, day to day and
month to month, regardless of the actual exchange rate and without waiting when the actual proceeds are received. In other words,
PICOP recorded its export sales at a pre-determined fixed exchange rate. That pre-determined rate was decided upon at the
beginning of the year and continued to be used throughout the year.
At the end of the year, the external auditors made an examination. In that examination, the auditors determined with accuracy the
actual dollar proceeds of the export sales received. What exchange rate was used by the auditors to convert these actual dollar
proceeds into Philippine pesos? They used the average of the differences between (a) the recorded fixed exchange rate and (b) the
exchange rate at the time the proceeds were actually received. It was this rate at time of receipt of the proceeds that determined the
amount of pesos credited by the Central Bank (through the agent banks) in favor of PICOP. These accumulated differences were
averaged by the external auditors and this was what was used at the year-end for income tax and other government-report
purposes. (T.s.n., Oct. 17/85, pp. 20-25) 40
The above explanation, unfortunately, at least to the mind of the Court, raises more questions than it resolves. Firstly, the explanation assumes that all of
Picop's sales were export sales for which U.S. dollars (or other foreign exchange) were received. It also assumes that the expenses summed up as "cost
of sales" were all dollar expenses and that no peso expenses had been incurred. Picop's explanation further assumes that a substantial part of Picop's
dollar proceeds for its export sales were not actually surrendered to the domestic banking system and seasonably converted into pesos; had all such
dollar proceeds been converted into pesos, then the peso figures could have been simply added up to reflect the actual peso value of Picop's export
sales. Picop offered no evidence in respect of these assumptions, no explanation why and how a "pre-determined fixed exchange rate" was chosen at
the beginning of the year and maintained throughout. Perhaps more importantly, Picop was unable to explain why its Books of Accounts did not pick up
the same adjustments that Picop's External Auditors were alleged to have made for purposes of Picop's Income Tax Return. Picop attempted to explain
away the failure of its Books of Accounts to reflect the same adjustments (no correcting entries, apparently) simply by quoting a passage from a case
where this Court refused to ascribe much probative value to the Books of Accounts of a corporate taxpayer in a tax case. 41 What appears to have
eluded Picop, however, is that its Books of Accounts, which are kept by its own employees and are prepared under its control and supervision, reflect
what may be deemed to be admissions against interest in the instant case. For Picop's Books of Accounts precisely show higher sales figures
andlower cost of sales figures than Picop's Income Tax Return.
It is insisted by Picop that its Auditors' adjustments simply present the "best and most objective" method of reflecting in pesos the "correct
and ACTUAL export sales" 42 and that the adjustments or "corrections" "did not result in realization of [additional] income and should not give rise to any
deficiency tax." The correctness of this contention is not self-evident. So far as the record of this case shows, Picop did not submit in evidence the
aggregate amount of its U.S. dollar proceeds of its export sales; neither did it show the Philippine pesos it had actually received or been credited for
such U.S. dollar proceeds. It is clear to this Court that the testimonial evidence submitted by Picop fell far short of demonstrating the correctness of its
explanation.
Upon the other hand, the CIR has made out at least a prima facie case that Picop had understated its sales and overstated its cost of sales as set out in
its Income Tax Return. For the CIR has a right to assume that Picop's Books of Accounts speak the truth in this case since, as already noted, they
embody what must appear to be admissions against Picop's own interest.
Accordingly, we must affirm the findings of the Court of Appeals and the CTA.
(2) Whether Picop is liable for
the corporate development
tax of five percent (5%)
of its income for 1977.
The five percent (5%) corporate development tax is an additional corporate income tax imposed in Section 24 (e) of the 1977 Tax Code which reads in
relevant part as follows:
(e) Corporate development tax. — In addition to the tax imposed in subsection (a) of this section, an additional tax in an amount
equivalent to 5 per cent of the same taxable net income shall be paid by a domestic or a resident foreign corporation; Provided, That
this additional tax shall be imposed only if the net income exceeds 10 per cent of the net worth, in case of a domestic corporation, or
net assets in the Philippines in case of a resident foreign corporation: . . . .
The additional corporate income tax imposed in this subsection shall be collected and paid at the same time and in the same
manner as the tax imposed in subsection (a) of this section.
Since this five percent (5%) corporate development tax is an income tax, Picop is not exempted from it under the provisions of Section 8 (a) of
R.A. No. 5186.
For purposes of determining whether the net income of a corporation exceeds ten percent (10%) of its net worth, the term "net worth" means the
stockholders' equity represented by the excess of the total assets over liabilities as reflected in the corporation's balance sheet provided such balance
sheet has been prepared in accordance with generally accepted accounting principles employed in keeping the books of the corporation. 43
The adjusted net income of Picop for 1977, as will be seen below, is P48,687,355.00. Its net worth figure or total stockholders' equity as reflected in its
Audited Financial Statements for 1977 is P464,749,528.00. Since its adjusted net income for 1977 thus exceeded ten percent (10%) of its net worth,
Picop must be held liable for the five percent (5%) corporate development tax in the amount of P2,434,367.75.
Recapitulating, we hold:
(1) Picop is liable for the thirty-five percent (35%) transaction tax in the amount of P3,578,543.51.
(2) Picop is not liable for interest and surcharge on unpaid transaction tax.
(3) Picop is exempt from payment of documentary and science stamp taxes in the amount of P300,000.00 and the compromise penalty of P300.00.
(4) Picop is entitled to its claimed deduction of P42,840,131.00 for interest payments on loans for, among other things, the purchase of machinery and
equipment.
(5) Picop's claimed deduction in the amount of P44,196,106.00 for the operating losses previously incurred by RPPM, is disallowed for lack of merit.
(6) Picop's claimed deduction for certain financial guarantee expenses in the amount P1,237,421.00 is disallowed for failure adequately to prove such
expenses.
(7) Picop has understated its sales by P2,391,644.00 and overstated its cost of sales by P604,018.00, for 1977.
(8) Picop is liable for the corporate development tax of five percent (5%) of its adjusted net income for 1977 in the amount of P2,434,367.75.
Considering conclusions nos. 4, 5, 6, 7 and 8, the Court is compelled to hold Picop liable for deficiency income tax for the year 1977 computed as
follows:
Deficiency Income Tax
Net Income Per Return P 258,166.00
Add:
Unallowable Deductions
(1) Deduction of net
operating losses
incurred by RPPM P 44,196,106.00
(2) Unexplained financial
guarantee expenses P 1,237,421.00
(3) Understatement of
Sales P 2,391,644.00
(4) Overstatement of
Cost of Sales P 604,018.00
——————
Total P 48,429,189.00
——————
Net Income as Adjusted P 48,687,355.00
===========
Income Tax Due Thereon 44 P 17,030,574.00
Less:
Tax Already Assessed per
Return 80,358.00
——————
Deficiency Income Tax P 16,560,216.00
Add:
Five percent (5%) Corporate
Development Tax P 2,434,367.00
Total Deficiency Income Tax P 18,994,583.00
===========
Add:
Five percent (5%) surcharge 45 P 949,729.15
——————
Total Deficiency Income Tax
with surcharge P 19,944,312.15
Add:
Fourteen percent (14%)
interest from 15 April
1978 to 14 April 1981 46 P 8,376,610.80
Fourteen percent (14%)
interest from 21 April
1983 to 20 April 1986 47 P 11,894,787.00
——————
Total Deficiency Income Tax
Due and Payable P 40,215,709.00
===========
WHEREFORE, for all the foregoing, the Decision of the Court of Appeals is hereby MODIFIED and Picop is hereby ORDERED to pay the CIR the
aggregate amount of P43,794,252.51 itemized as follows:
(1) Thirty-five percent (35%)
transaction tax P 3,578,543.51
(2) Total Deficiency Income
Tax Due 40,215,709.00
———————
Aggregate Amount Due and Payable P 43,794,252.51
============
SO ORDERED.
Facts: Paper Industries Corporation of the Philippines (PICOP) is a Philippine corporation registered with the Board of Investments (BOI) as a preferred pioneer
enterprise with respect to its integrated pulp and paper mill, and as a preferred non-pioneer enterprise with respect to its integrated plywood and veneer
mills. Petitioner received from the Commissioner of Internal Revenue (CIR) two (2) letters of assessment and demand (a) one for deficiency transaction tax and for
documentary and science stamp tax; and (b)the other for deficiency income tax for 1977, for an aggregate amount of PhP88,763,255.00.PICOP protested the
assessment of deficiency transaction tax , the documentary and science stamp taxes, and the deficiency income tax assessment. CIR did not formally act upon these
protests, but issued a warrant of distraint on personal property and a warrant of levy on real property against PICOP,to enforce collection of the contested
assessments, thereby denying PICOP's protests. Thereupon, PICOP went before (CTA) appealing the assessments. On 15 August 1989, CTA rendered a decision,
modifying the CIR’s findings and holding PICOP liable for the reduced aggregate amount of P20,133,762.33. Both parties went to the Supreme Court, which referred
the case to the Court of Appeals (CA).CA denied the appeal of the CIR and modified the judgment against PICOP holding it liable for transaction tax and absolved it
from payment of documentary and science stamp tax and compromise penalty. It also held PICOP liable for deficiency of income tax.
Issues:
1. Whether PICOP is liable for transaction tax
2. Whether PICOP is liable for documentary and science stamp tax
3. Whether PICOP is liable for deficiency income tax
Held:
1. YES.
PICOP reiterates that it is exempt from the payment of the transaction tax by virtue of its tax exemption under R.A. No. 5186, as amended, known as the Investment
Incentives Act, which in the form it existed in 1977-1978, read in relevant part as follows: "SECTION 8. Incentives to a Pioneer Enterprise.— In addition to the
incentives provided in the preceding section, pioneer enterprises shall be granted the following incentive benefits: (a) Tax Exemption. Exemption from all taxes under
the National Internal Revenue Code, except income tax, from the date of investment is included in the Investment Priorities Plan x x x”.
The Supreme Court holds that PICOP's tax exemption under R.A. No. 5186, as amended, does not include exemption from the thirty-five percent (35%) transaction
tax. In the first place, the thirty-five percent (35%)transaction tax is an income tax, a tax on the interest income of the lenders or creditors as held by the Supreme
Court in the case of Western Minolco Corporation v. Commissioner of Internal Revenue. The 35% transaction tax is an income tax on interest earnings to the lenders
or placers. The latter are actually the taxpayers. Therefore, the tax cannot be a tax imposed upon the petitioner. In other words, the petitioner who borrowed funds
from several financial institutions by issuing commercial papers merely withheld the 35% transaction tax before paying to the financial institutions the interest earned
by them and later remitted the same to the respondent CIR. The tax could have been collected by a different procedure but the statute chose this method. Whatever
collecting procedure is adopted does not change the nature of the tax. It is thus clear that the transaction tax is an income tax and as such, in any event, falls outside
the scope of the tax exemption granted to registered pioneer enterprises by Section 8 of R.A. No. 5186, as amended. PICOP was the withholding agent, obliged to
withhold thirty-five percent (35%) of the interest payable to its lenders and to remit the amounts so withheld to the Bureau of Internal Revenue ("BIR"). As a
withholding, agent, PICOP is made personally liable for the thirty-five percent (35%) transaction tax 10 and if it did not actually withhold thirty-five percent (35%) of
the interest monies it had paid to its lenders, PICOP had only itself to blame.

2. NO.
The CIR assessed documentary and science stamp taxes, amounting to PhP300,000.00, on the issuance of PICOP's debenture bonds. Tax exemptions are, to be sure,
to be "strictly construed," that is, they are not to be extended beyond the ordinary and reasonable intendment of the language actually used by the legislative
authority in granting the exemption. The issuance of debenture bonds is certainly conceptually distinct from pulping and paper manufacturing operations. But no one
contends that issuance of bonds was a principal or regular business activity of PICOP; only banks or other financial institutions are in the regular business of raising
money by issuing bonds or other instruments to the general public. The actual dedication of the proceeds of the bonds to the carrying out of PICOP's registered
operations constituted a sufficient nexus with such registered operations so as to exempt PICOP from taxes ordinarily imposed upon or in connection with issuance of
such bonds. The Supreme Court agrees with the Court of Appeals on this matter that the CTA and the CIR had erred in rejecting PICOP's claim for exemption
from stamp taxes.3.

3. YES.
PICOP did not deny the existence of discrepancy in their Income Tax Return and Books of Account owing to their procedure of recording its export sales (reckoned in
U.S. dollars) on the basis of a fixed rate, day to day and month to month, regardless of the actual exchange rate and without waiting when the actual proceeds are
received. In other words, PICOP recorded its export sales at a pre-determined fixed exchange rate. That pre-determined rate was decided upon at the beginning of
the year and continued to be used throughout the year. Because of this, the CIR has made out at least a prima facie case that PICOP had understated its sales and
overstated its cost of sales as set out in its Income Tax Return. For the CIR has a right to assume that PICOP's Books of Accounts speak the truth in this case since, as
already noted, they embody what must appear to be admissions against PICOP's own interest.
12. PHILEX MINING CORPORATION, vs. COMMISSIONER OF INTERNAL REVENUE

This is a petition for review on certiorari of the June 30, 2000 Decision1 of the Court of Appeals in CA-G.R. SP No. 49385, which affirmed the
Decision2 of the Court of Tax Appeals in C.T.A. Case No. 5200. Also assailed is the April 3, 2001 Resolution 3 denying the motion for reconsideration.
The facts of the case are as follows:
On April 16, 1971, petitioner Philex Mining Corporation (Philex Mining), entered into an agreement 4 with Baguio Gold Mining Company ("Baguio Gold")
for the former to manage and operate the latter’s mining claim, known as the Sto. Nino mine, located in Atok and Tublay, Benguet Province. The parties’
agreement was denominated as "Power of Attorney" and provided for the following terms:
4. Within three (3) years from date thereof, the PRINCIPAL (Baguio Gold) shall make available to the MANAGERS (Philex Mining) up to
ELEVEN MILLION PESOS (P11,000,000.00), in such amounts as from time to time may be required by the MANAGERS within the said 3-
year period, for use in the MANAGEMENT of the STO. NINO MINE. The said ELEVEN MILLION PESOS (P11,000,000.00) shall be deemed,
for internal audit purposes, as the owner’s account in the Sto. Nino PROJECT. Any part of any income of the PRINCIPAL from the STO. NINO
MINE, which is left with the Sto. Nino PROJECT, shall be added to such owner’s account.
5. Whenever the MANAGERS shall deem it necessary and convenient in connection with the MANAGEMENT of the STO. NINO MINE, they
may transfer their own funds or property to the Sto. Nino PROJECT, in accordance with the following arrangements:
(a) The properties shall be appraised and, together with the cash, shall be carried by the Sto. Nino PROJECT as a special fund to
be known as the MANAGERS’ account.
(b) The total of the MANAGERS’ account shall not exceed P11,000,000.00, except with prior approval of the PRINCIPAL; provided,
however, that if the compensation of the MANAGERS as herein provided cannot be paid in cash from the Sto. Nino PROJECT, the
amount not so paid in cash shall be added to the MANAGERS’ account.
(c) The cash and property shall not thereafter be withdrawn from the Sto. Nino PROJECT until termination of this Agency.
(d) The MANAGERS’ account shall not accrue interest. Since it is the desire of the PRINCIPAL to extend to the MANAGERS the
benefit of subsequent appreciation of property, upon a projected termination of this Agency, the ratio which the MANAGERS’
account has to the owner’s account will be determined, and the corresponding proportion of the entire assets of the STO. NINO
MINE, excluding the claims, shall be transferred to the MANAGERS, except that such transferred assets shall not include mine
development, roads, buildings, and similar property which will be valueless, or of slight value, to the MANAGERS. The MANAGERS
can, on the other hand, require at their option that property originally transferred by them to the Sto. Nino PROJECT be re-
transferred to them. Until such assets are transferred to the MANAGERS, this Agency shall remain subsisting.
xxxx
12. The compensation of the MANAGER shall be fifty per cent (50%) of the net profit of the Sto. Nino PROJECT before income tax. It is
understood that the MANAGERS shall pay income tax on their compensation, while the PRINCIPAL shall pay income tax on the net profit of
the Sto. Nino PROJECT after deduction therefrom of the MANAGERS’ compensation.
xxxx
16. The PRINCIPAL has current pecuniary obligation in favor of the MANAGERS and, in the future, may incur other obligations in favor of the
MANAGERS. This Power of Attorney has been executed as security for the payment and satisfaction of all such obligations of the PRINCIPAL
in favor of the MANAGERS and as a means to fulfill the same. Therefore, this Agency shall be irrevocable while any obligation of the
PRINCIPAL in favor of the MANAGERS is outstanding, inclusive of the MANAGERS’ account. After all obligations of the PRINCIPAL in favor
of the MANAGERS have been paid and satisfied in full, this Agency shall be revocable by the PRINCIPAL upon 36-month notice to the
MANAGERS.
17. Notwithstanding any agreement or understanding between the PRINCIPAL and the MANAGERS to the contrary, the MANAGERS may
withdraw from this Agency by giving 6-month notice to the PRINCIPAL. The MANAGERS shall not in any manner be held liable to the
PRINCIPAL by reason alone of such withdrawal. Paragraph 5(d) hereof shall be operative in case of the MANAGERS’ withdrawal.
x x x x5
In the course of managing and operating the project, Philex Mining made advances of cash and property in accordance with paragraph 5 of the
agreement. However, the mine suffered continuing losses over the years which resulted to petitioner’s withdrawal as manager of the mine on January
28, 1982 and in the eventual cessation of mine operations on February 20, 1982. 6
Thereafter, on September 27, 1982, the parties executed a "Compromise with Dation in Payment" 7 wherein Baguio Gold admitted an indebtedness to
petitioner in the amount of P179,394,000.00 and agreed to pay the same in three segments by first assigning Baguio Gold’s tangible assets to petitioner,
transferring to the latter Baguio Gold’s equitable title in its Philodrill assets and finally settling the remaining liability through properties that Baguio Gold
may acquire in the future.
On December 31, 1982, the parties executed an "Amendment to Compromise with Dation in Payment" 8 where the parties determined that Baguio Gold’s
indebtedness to petitioner actually amounted to P259,137,245.00, which sum included liabilities of Baguio Gold to other creditors that petitioner had
assumed as guarantor. These liabilities pertained to long-term loans amounting to US$11,000,000.00 contracted by Baguio Gold from the Bank of
America NT & SA and Citibank N.A. This time, Baguio Gold undertook to pay petitioner in two segments by first assigning its tangible assets for
P127,838,051.00 and then transferring its equitable title in its Philodrill assets for P16,302,426.00. The parties then ascertained that Baguio Gold had a
remaining outstanding indebtedness to petitioner in the amount of P114,996,768.00.
Subsequently, petitioner wrote off in its 1982 books of account the remaining outstanding indebtedness of Baguio Gold by charging P112,136,000.00 to
allowances and reserves that were set up in 1981 and P2,860,768.00 to the 1982 operations.
In its 1982 annual income tax return, petitioner deducted from its gross income the amount of P112,136,000.00 as "loss on settlement of receivables
from Baguio Gold against reserves and allowances." 9 However, the Bureau of Internal Revenue (BIR) disallowed the amount as deduction for bad debt
and assessed petitioner a deficiency income tax of P62,811,161.39.
Petitioner protested before the BIR arguing that the deduction must be allowed since all requisites for a bad debt deduction were satisfied, to wit: (a)
there was a valid and existing debt; (b) the debt was ascertained to be worthless; and (c) it was charged off within the taxable year when it was
determined to be worthless.
Petitioner emphasized that the debt arose out of a valid management contract it entered into with Baguio Gold. The bad debt deduction represented
advances made by petitioner which, pursuant to the management contract, formed part of Baguio Gold’s "pecuniary obligations" to petitioner. It also
included payments made by petitioner as guarantor of Baguio Gold’s long-term loans which legally entitled petitioner to be subrogated to the rights of the
original creditor.
Petitioner also asserted that due to Baguio Gold’s irreversible losses, it became evident that it would not be able to recover the advances and payments
it had made in behalf of Baguio Gold. For a debt to be considered worthless, petitioner claimed that it was neither required to institute a judicial action for
collection against the debtor nor to sell or dispose of collateral assets in satisfaction of the debt. It is enough that a taxpayer exerted diligent efforts to
enforce collection and exhausted all reasonable means to collect.
On October 28, 1994, the BIR denied petitioner’s protest for lack of legal and factual basis. It held that the alleged debt was not ascertained to be
worthless since Baguio Gold remained existing and had not filed a petition for bankruptcy; and that the deduction did not consist of a valid and subsisting
debt considering that, under the management contract, petitioner was to be paid fifty percent (50%) of the project’s net profit. 10
Petitioner appealed before the Court of Tax Appeals (CTA) which rendered judgment, as follows:
WHEREFORE, in view of the foregoing, the instant Petition for Review is hereby DENIED for lack of merit. The assessment in question, viz:
FAS-1-82-88-003067 for deficiency income tax in the amount of P62,811,161.39 is hereby AFFIRMED.
ACCORDINGLY, petitioner Philex Mining Corporation is hereby ORDERED to PAY respondent Commissioner of Internal Revenue the amount
of P62,811,161.39, plus, 20% delinquency interest due computed from February 10, 1995, which is the date after the 20-day grace period
given by the respondent within which petitioner has to pay the deficiency amount x x x up to actual date of payment.
SO ORDERED.11
The CTA rejected petitioner’s assertion that the advances it made for the Sto. Nino mine were in the nature of a loan. It instead characterized the
advances as petitioner’s investment in a partnership with Baguio Gold for the development and exploitation of the Sto. Nino mine. The CTA held that the
"Power of Attorney" executed by petitioner and Baguio Gold was actually a partnership agreement. Since the advanced amount partook of the nature of
an investment, it could not be deducted as a bad debt from petitioner’s gross income.
The CTA likewise held that the amount paid by petitioner for the long-term loan obligations of Baguio Gold could not be allowed as a bad debt deduction.
At the time the payments were made, Baguio Gold was not in default since its loans were not yet due and demandable. What petitioner did was to pre-
pay the loans as evidenced by the notice sent by Bank of America showing that it was merely demanding payment of the installment and interests due.
Moreover, Citibank imposed and collected a "pre-termination penalty" for the pre-payment.
The Court of Appeals affirmed the decision of the CTA.12 Hence, upon denial of its motion for reconsideration, 13petitioner took this recourse under Rule
45 of the Rules of Court, alleging that:
I.
The Court of Appeals erred in construing that the advances made by Philex in the management of the Sto. Nino Mine pursuant to the Power of
Attorney partook of the nature of an investment rather than a loan.
II.
The Court of Appeals erred in ruling that the 50%-50% sharing in the net profits of the Sto. Nino Mine indicates that Philex is a partner of
Baguio Gold in the development of the Sto. Nino Mine notwithstanding the clear absence of any intent on the part of Philex and Baguio Gold to
form a partnership.
III.
The Court of Appeals erred in relying only on the Power of Attorney and in completely disregarding the Compromise Agreement and the
Amended Compromise Agreement when it construed the nature of the advances made by Philex.
IV.
The Court of Appeals erred in refusing to delve upon the issue of the propriety of the bad debts write-off. 14
Petitioner insists that in determining the nature of its business relationship with Baguio Gold, we should not only rely on the "Power of Attorney", but also
on the subsequent "Compromise with Dation in Payment" and "Amended Compromise with Dation in Payment" that the parties executed in 1982. These
documents, allegedly evinced the parties’ intent to treat the advances and payments as a loan and establish a creditor-debtor relationship between
them.
The petition lacks merit.
The lower courts correctly held that the "Power of Attorney" is the instrument that is material in determining the true nature of the business relationship
between petitioner and Baguio Gold. Before resort may be had to the two compromise agreements, the parties’ contractual intent must first be
discovered from the expressed language of the primary contract under which the parties’ business relations were founded. It should be noted that the
compromise agreements were mere collateral documents executed by the parties pursuant to the termination of their business relationship created
under the "Power of Attorney". On the other hand, it is the latter which established the juridical relation of the parties and defined the parameters of their
dealings with one another.
The execution of the two compromise agreements can hardly be considered as a subsequent or contemporaneous act that is reflective of the parties’
true intent. The compromise agreements were executed eleven years after the "Power of Attorney" and merely laid out a plan or procedure by which
petitioner could recover the advances and payments it made under the "Power of Attorney". The parties entered into the compromise agreements as a
consequence of the dissolution of their business relationship. It did not define that relationship or indicate its real character.
An examination of the "Power of Attorney" reveals that a partnership or joint venture was indeed intended by the parties. Under a contract of partnership,
two or more persons bind themselves to contribute money, property, or industry to a common fund, with the intention of dividing the profits among
themselves.15 While a corporation, like petitioner, cannot generally enter into a contract of partnership unless authorized by law or its charter, it has been
held that it may enter into a joint venture which is akin to a particular partnership:
The legal concept of a joint venture is of common law origin. It has no precise legal definition, but it has been generally understood to mean an
organization formed for some temporary purpose. x x x It is in fact hardly distinguishable from the partnership, since their elements are similar
– community of interest in the business, sharing of profits and losses, and a mutual right of control. x x x The main distinction cited by most
opinions in common law jurisdictions is that the partnership contemplates a general business with some degree of continuity, while the joint
venture is formed for the execution of a single transaction, and is thus of a temporary nature. x x x This observation is not entirely accurate in
this jurisdiction, since under the Civil Code, a partnership may be particular or universal, and a particular partnership may have for its object a
specific undertaking. x x x It would seem therefore that under Philippine law, a joint venture is a form of partnership and should be governed
by the law of partnerships. The Supreme Court has however recognized a distinction between these two business forms, and has held that
although a corporation cannot enter into a partnership contract, it may however engage in a joint venture with others. x x x (Citations
omitted) 16
Perusal of the agreement denominated as the "Power of Attorney" indicates that the parties had intended to create a partnership and establish a
common fund for the purpose. They also had a joint interest in the profits of the business as shown by a 50-50 sharing in the income of the mine.
Under the "Power of Attorney", petitioner and Baguio Gold undertook to contribute money, property and industry to the common fund known as the Sto.
Niño mine.17 In this regard, we note that there is a substantive equivalence in the respective contributions of the parties to the development and
operation of the mine. Pursuant to paragraphs 4 and 5 of the agreement, petitioner and Baguio Gold were to contribute equally to the joint venture
assets under their respective accounts. Baguio Gold would contribute P11M under its owner’s account plus any of its income that is left in the project, in
addition to its actual mining claim. Meanwhile, petitioner’s contribution would consist of its expertise in the management and operation of mines, as
well as the manager’s account which is comprised of P11M in funds and property and petitioner’s "compensation" as manager that cannot be paid in
cash.
However, petitioner asserts that it could not have entered into a partnership agreement with Baguio Gold because it did not "bind" itself to contribute
money or property to the project; that under paragraph 5 of the agreement, it was only optional for petitioner to transfer funds or property to the Sto. Niño
project "(w)henever the MANAGERS shall deem it necessary and convenient in connection with the MANAGEMENT of the STO. NIÑO MINE." 18
The wording of the parties’ agreement as to petitioner’s contribution to the common fund does not detract from the fact that petitioner transferred its
funds and property to the project as specified in paragraph 5, thus rendering effective the other stipulations of the contract, particularly paragraph 5(c)
which prohibits petitioner from withdrawing the advances until termination of the parties’ business relations. As can be seen, petitioner became bound by
its contributions once the transfers were made. The contributions acquired an obligatory nature as soon as petitioner had chosen to exercise its option
under paragraph 5.
There is no merit to petitioner’s claim that the prohibition in paragraph 5(c) against withdrawal of advances should not be taken as an indication that it
had entered into a partnership with Baguio Gold; that the stipulation only showed that what the parties entered into was actually a contract of agency
coupled with an interest which is not revocable at will and not a partnership.
In an agency coupled with interest, it is the agency that cannot be revoked or withdrawn by the principal due to an interest of a third party that depends
upon it, or the mutual interest of both principal and agent.19 In this case, the non-revocation or non-withdrawal under paragraph 5(c) applies to
the advances made by petitioner who is supposedly the agent and not the principal under the contract. Thus, it cannot be inferred from the stipulation
that the parties’ relation under the agreement is one of agency coupled with an interest and not a partnership.
Neither can paragraph 16 of the agreement be taken as an indication that the relationship of the parties was one of agency and not a partnership.
Although the said provision states that "this Agency shall be irrevocable while any obligation of the PRINCIPAL in favor of the MANAGERS is
outstanding, inclusive of the MANAGERS’ account," it does not necessarily follow that the parties entered into an agency contract coupled with an
interest that cannot be withdrawn by Baguio Gold.
It should be stressed that the main object of the "Power of Attorney" was not to confer a power in favor of petitioner to contract with third persons on
behalf of Baguio Gold but to create a business relationship between petitioner and Baguio Gold, in which the former was to manage and operate the
latter’s mine through the parties’ mutual contribution of material resources and industry. The essence of an agency, even one that is coupled with
interest, is the agent’s ability to represent his principal and bring about business relations between the latter and third persons. 20 Where representation
for and in behalf of the principal is merely incidental or necessary for the proper discharge of one’s paramount undertaking under a contract, the latter
may not necessarily be a contract of agency, but some other agreement depending on the ultimate undertaking of the parties. 21
In this case, the totality of the circumstances and the stipulations in the parties’ agreement indubitably lead to the conclusion that a partnership was
formed between petitioner and Baguio Gold.
First, it does not appear that Baguio Gold was unconditionally obligated to return the advances made by petitioner under the agreement. Paragraph 5 (d)
thereof provides that upon termination of the parties’ business relations, "the ratio which the MANAGER’S account has to the owner’s account will be
determined, and the corresponding proportion of the entire assets of the STO. NINO MINE, excluding the claims" shall be transferred to petitioner. 22As
pointed out by the Court of Tax Appeals, petitioner was merely entitled to a proportionate return of the mine’s assets upon dissolution of the parties’
business relations. There was nothing in the agreement that would require Baguio Gold to make payments of the advances to petitioner as would be
recognized as an item of obligation or "accounts payable" for Baguio Gold.
Thus, the tax court correctly concluded that the agreement provided for a distribution of assets of the Sto. Niño mine upon termination, a provision that is
more consistent with a partnership than a creditor-debtor relationship. It should be pointed out that in a contract of loan, a person who receives a loan or
money or any fungible thing acquires ownership thereof and is bound to pay the creditor an equal amount of the same kind and quality.23 In this case,
however, there was no stipulation for Baguio Gold to actually repay petitioner the cash and property that it had advanced, but only the return of an
amount pegged at a ratio which the manager’s account had to the owner’s account.
In this connection, we find no contractual basis for the execution of the two compromise agreements in which Baguio Gold recognized a debt in favor of
petitioner, which supposedly arose from the termination of their business relations over the Sto. Nino mine. The "Power of Attorney" clearly provides that
petitioner would only be entitled to the return of a proportionate share of the mine assets to be computed at a ratio that the manager’s account had to the
owner’s account. Except to provide a basis for claiming the advances as a bad debt deduction, there is no reason for Baguio Gold to hold itself liable to
petitioner under the compromise agreements, for any amount over and above the proportion agreed upon in the "Power of Attorney".
Next, the tax court correctly observed that it was unlikely for a business corporation to lend hundreds of millions of pesos to another corporation with
neither security, or collateral, nor a specific deed evidencing the terms and conditions of such loans. The parties also did not provide a specific maturity
date for the advances to become due and demandable, and the manner of payment was unclear. All these point to the inevitable conclusion that the
advances were not loans but capital contributions to a partnership.
The strongest indication that petitioner was a partner in the Sto Niño mine is the fact that it would receive 50% of the net profits as "compensation" under
paragraph 12 of the agreement. The entirety of the parties’ contractual stipulations simply leads to no other conclusion than that petitioner’s
"compensation" is actually its share in the income of the joint venture.
Article 1769 (4) of the Civil Code explicitly provides that the "receipt by a person of a share in the profits of a business is prima facie evidence that he is
a partner in the business." Petitioner asserts, however, that no such inference can be drawn against it since its share in the profits of the Sto Niño project
was in the nature of compensation or "wages of an employee", under the exception provided in Article 1769 (4) (b). 24
On this score, the tax court correctly noted that petitioner was not an employee of Baguio Gold who will be paid "wages" pursuant to an employer-
employee relationship. To begin with, petitioner was the manager of the project and had put substantial sums into the venture in order to ensure its
viability and profitability. By pegging its compensation to profits, petitioner also stood not to be remunerated in case the mine had no income. It is hard to
believe that petitioner would take the risk of not being paid at all for its services, if it were truly just an ordinary employee.
Consequently, we find that petitioner’s "compensation" under paragraph 12 of the agreement actually constitutes its share in the net profits of the
partnership. Indeed, petitioner would not be entitled to an equal share in the income of the mine if it were just an employee of Baguio Gold. 25 It is not
surprising that petitioner was to receive a 50% share in the net profits, considering that the "Power of Attorney" also provided for an almost equal
contribution of the parties to the St. Nino mine. The "compensation" agreed upon only serves to reinforce the notion that the parties’ relations were
indeed of partners and not employer-employee.
All told, the lower courts did not err in treating petitioner’s advances as investments in a partnership known as the Sto. Nino mine. The advances were
not "debts" of Baguio Gold to petitioner inasmuch as the latter was under no unconditional obligation to return the same to the former under the "Power
of Attorney". As for the amounts that petitioner paid as guarantor to Baguio Gold’s creditors, we find no reason to depart from the tax court’s factual
finding that Baguio Gold’s debts were not yet due and demandable at the time that petitioner paid the same. Verily, petitioner pre-paid Baguio Gold’s
outstanding loans to its bank creditors and this conclusion is supported by the evidence on record. 26
In sum, petitioner cannot claim the advances as a bad debt deduction from its gross income. Deductions for income tax purposes partake of the nature
of tax exemptions and are strictly construed against the taxpayer, who must prove by convincing evidence that he is entitled to the deduction
claimed.27 In this case, petitioner failed to substantiate its assertion that the advances were subsisting debts of Baguio Gold that could be deducted from
its gross income. Consequently, it could not claim the advances as a valid bad debt deduction.
WHEREFORE, the petition is DENIED. The decision of the Court of Appeals in CA-G.R. SP No. 49385 dated June 30, 2000, which affirmed the decision
of the Court of Tax Appeals in C.T.A. Case No. 5200 is AFFIRMED. Petitioner Philex Mining Corporation is ORDERED to PAY the deficiency tax on its
1982 income in the amount of P62,811,161.31, with 20% delinquency interest computed from February 10, 1995, which is the due date given for the
payment of the deficiency income tax, up to the actual date of payment.
SO ORDERED.

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1.

CIR VS CENTRAL LUZON DRUG CORP

We answer in the affirmative.

2. CIR VS CENTRAL LUZON DRUG CORP 2006

3. BICOLANDIA DRUG CORP VS CIR

Income tax benefit of tax credit 100%

4. CIR VS CENTRAL LUZON DRUG CORP

Sales, Gross P179,541,115.00

Gross Profit P 17,154,115.00

Total Income P 17,556,239.00

Net Income P 642,540.00

Net Taxable Income P 393,368.00

Income Tax Due (35%) P 137,679.00

Income Tax Payable (P 2,376,805.63)

Income Tax Refundable (P 2,376,805.63)

5. CARLOS SUPERDRUG CORP VS DSWD

6. CIR VS ISABELA CULTURAL CORPORATION

Petitioner appealed to CA, which affirmed CTA, hence the petition.

7. CIR VS GENERAL FOODS

8. C. M. HOSKINS & CO., INC., vs.COMMISSIONER OF INTERNAL REVENUE

We find no merit in petitioner's appeal.

The conditions precedent to the deduction of bonuses to employees are:

9. SANTIAGO GANCAYCO, vs.THE COLLECTOR OF INTERNAL REVENUE,

Said Section 316 provides:

Section 30 of the Tax Code partly reads:

10. PLARIDEL SURETY VS COLLECTOR

Petitioner Plaridel Surety is a domestic corporation engaged in the bonding business.

11. CITY LUMBER VS DOMINGO

WHEREFORE, the decision is hereby affirmed, with costs. So ordered.

12. CHINA BANKING CORPORATION VS CA

The petition must fail.

Section 29(d)(4)(A), of the NIRC expresses:

"Section 33. Capital gains and losses. -

(c) Exchange of property.

13. PICOP VS CIR

12. PHILEX MINING CORPORATION, vs. COMMISSIONER OF INTERNAL REVENUE

The facts of the case are as follows:

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