)!2.f~;J}'),';, 'Jt r.r.

:--:~- -
. . Gross 1nconie
· n tn
. . rax: 1nc1us10
.. 9 Regutar Income
Chapter -

CHAPTER 9 TAX'
~R;EGiu~LA~-~R~•N~c:.f;oG~:£~s~s~J!i_N£Co~M~
!!CLUSION IN
- E
~-----~-........._
. d Objectives - --- -- - --- ----- ----- --- --· · -·· -...
Ch apter OvervteW an_. _______________________ ------------------
__________ sub}.ect to the . ~
. re gular rncome 7~"'1 .
----------------- . l . n in gross income . -
This chapter discusses inc us10 .
ected to demonstrate. . . .
After this chapter, readers are ex_p f ross income subJect to I egular tax a.::.:
1. Mastery of the NIRC list of items o g
their measurement rules . come subject to final tax or rap:~_
2 Knowledge of the boundary betwee~ m
.
3. ~ : : : ; :
d h
of\::~i:~
b'ect to regular mcome tax
~etween items of exempt income and income subject :
regular income tax . l ., \.
4. Comprehension of the effect of accounting methods and situs ru ·es on u-. :
reportable amount of gross income
s. Knowledge of the treatment of creditable withholding tax
6. Understanding the treatment of income from pass-through entities
7. Mastery of the rules on recoveries of past deductions
8. Appreciation of the essence and purposes of transfer pricing regulatio n
-
ITEMS OF GROSS INCOME
The ~~ items ~f gross income or inclusions in gross income is a broad catego0
pertammg.to all items of income subject to taxation na . I .
b. , me y.
1. Gross mcome su Ject to final tax
2. Gross ~ncome subject to capital gains tax
3. Gross mcome subject to regular tax

Items of gross income subject to fi1 .

capital gains tax are respectivel ~~1 tax a nd items of gross incon1e sub ject tt'
chapter focuses on the items of y i_scussed in Chapter 5 and Chapter 6. Th1~.
gross income subject to regular tax
ITEM~ OF GR~SS INCOME SUBJECT T .
Gross mcome mdudes but is not . . O REGULAR TAX
. ' 11m1ted to th f
1. Com p~nsat1on for services in wh • e allowing items:
2. Gross mcotne from the conct atever form paid
•· d . d f uct of
3. Gams enve romEealings in _trade.' b usmess, .
.e rest ____:i::: properties ,:. ~J . or Lexercise . ·•
of , _ ·ion
a pro1ess
4 • Int ' ~ Cf. f f\.\''\ p.,,.\ \
5. Rents .· ( £.': \.:, j" . --
. 6. Royalties -.. - ; "" -, c\\ . ~- c<t
l

l
j
 ter 9 - Regular Income Tax: Inclusion in Gross Income
cnaP
~ owidends . ~ ,.
/, Annuities . . ; .
~· Prizes and wmnmgs ~ Z..._ S '.,.
10 pensions ~ pt~ ➔ ~, .·•. : F- . •
✓
· Partner's distnbut1ve share from the net income of general professional ' ·~

11. h.
partners 1p
compensation for services in whatever form paid
Under current tax rules, the term "compensation income" technicalJy pertains to
the types of employee b_enefits that are subject to regular tax. The fringe benefits
of managerial or supervisory employees are not considered compensation income
and are subject to final tax.

To minimize the complexity of this section, compensation income is separately

discussed in Chapter 10.
Gross income from the conduct of trade, business or exercise of a profession
This includes income from any trade or business, legal or illegal, and whether
registered or unregistered.
Gross income from business or profession is determined as follows:
Sales/Revenues/Receipts/Fees P xxx,xxx
Less: Cost of sales or services xxx.xxx
Gross income from operations P xxx,xxx
The following business income shall not be included in gross income subject to
regular income tax:
1. Business income exempt from income tax such as: ,..
a. Gross income from a Barangay Micr~~B~siness Ent~rpri~e (BM_~!~ uun:;;r~;;;~
b. Gross income from enterprises enJoymg tax hohd~y i~centi .
which have not yet graduated to t h eir• · come tax hohday mcentwes
m
2. B · . . · I tax regime such as:
usmess income subject to spec,a . ZA)- . t red enterprises subject to 5%
a. Philippine Economic Zone Authority (PE regis e
gross income tax . Z Authority (TIEZA)-registered
b. Tourism Infrastructure and Enterprise one
enterprises subject to 5% gross i~co~~ :ls (SE/P) who opted to be taxed under
c. Income of self-employed and or mdivid
3 the 8% income tax t ubJ'ected to final taX by the payor
mess income subject to Ji nal tax. when
. 8.us· no s l
ontractors subject to 8% fi.na tax .
a. Su bcontr actors of petroleum service c ·t nits (FCDUs) and offshore bankmg
b . . . rrency depos1 u
. · 8•usmess income of foreign cu . . bject to 10% final tax
. >i, Units (OBUs) from Philippine residents su . . oss income subject to
· 1xpa . . . . ome shall report -their gr . . he Annual
T'!1cF111 Y_~rs With _multi ple _type of busmes~ mhc mputation of tax per regime m t
· · ·• :Jr ttjx under the column " Reg ula r'' 10 t e co ·
 r •

Chapter 9 . Regular income Tax: Inclusion in Gross Income

. cia l rate and those exempt are pr
Income Tax Return. Gross income subject '.? 5
P~, . 1£ t,, esent,d ·
respectively under the columns "Total Special and Tota xemp. .

Gains from Dealings in pro·perties .. .

The gains or losses in dealing in ordinary assets are subJect to regular mcorne ta
Dealings in capital assets other than domestic stocks and real properties are al~
subject to regular income tax.
Ordinary gains are included as items of gross income. Ordinary losses are itern
deductions against gross income. The net capital gain from other capital as:eof
after deducting capital losses is also included as an item of gross income. A ~
capital loss is not an item of deduction against gross income. net

To avoid comp1icating this section, the tax rules on measurement and recogn · .
-
· f rom d.ea mgs
of gams . are discussed in detail in Chapter 12.
• properties 1t1on
1 m

Interest income
This particuJas.!Y refers to interest income oth th . . .
subject tef final tax, A taxable interest inco er an passive mterest;ncome
an agreement' fo pay interest. It cannot be: must have been.~_£tually @i51) ut ol
Corporation, GR 163653 and 167689) puted. (CIR vs. F,lmvest Development

Examples of inteTest income sub ·ect .

nterest income from I . ~d~ J t~ .~e_gula~ mcome ts1x:
1. l_ .
f en mg act1v1t1es to i d · ·d
2 mance companies and other lenders n 1v1 uals and corporations by banks,
3. lnterest
I income from bon d sand promi
· · nterest income fr b ssory notes
om ank deposits abroad
Exempt interest income
The foJJowing are exempt f
·
. . rest ·mcome earned b
1. Inte . . income taxation:
rom regular
tenants . Y landown •
2. lmpute:.ursuant to the Comprehensiv=~~n _disposing their lands to their
Im interest income anan Reform Law
puted interest i
an actual income·, hncome _(the opportunity cost of mo
ence 1t is ) · te
The power f ' exempt from inc ney does not consutu
• o the c . ome tax
include the Pow o_mm1ssioner to I) . .
.. er to 1mput ,, a ocate inc .
Illustration e theoretical int ~.me and deduction does not , '
Sapphire Bank ha erest. (/bid)
. Interest income . s the followin ir , .
Inte_rest in ... -.. ·. fr_om loans g lcorne in 2014·
... .- .. - come fr .. . .
:_ -.!~t~!estJnt<)m~ fr~~ deposits With . P 3 ,000,000
. ' ln!e-rt~t. .il\,(:Othe fro~notes tedisco·ot~er banks .
. . . , - .- . · . n 1'reasur . unting 400,000
_ · . .... _. . . · .
: .
Y notes . 100,000
" ·: ,

)7Q so,ooo
 ter g - Regular Income Tax- Incl . .
cnaP . us,on in Gross Income

. the interest income from loans a d

onYI I ·
a:
bject to regu income tax. The interest
su
n notes redisco
s income subject to final income tax
d
· . ,
. untmg are items of gross income
. on epos1ts and treasury notes are items or
gros · . 'I

Rents .
Rent income anses from leasing properties of an . . .
.~ubject to final tax u1_1der the NIRC· h . Y_ km d .. It 1s a P~~~1ve in come but
l ence, It IS subject to regu lar income tax.
I

Special co~siderations on rent , ·1/ · ··c, ·'- ... -~

1 0bligat10ns of the lessor that are assum d b th
· income to the lessor. e Y e lessee are ~dditional rental
z. Advance rentals are i ,
a. Item of gross income upon receipt if:
i. Unrestricted or ~ ~ -"° ~ .
~sl~_!~ Jto ~e applied in .future years or upon the termination of the
ii.
lease •\At VvJ •j V"' J , ,./ 1 ~ ; 1\ft•~ , <
b. Not an item of gross income if:
i. It constitutes a loan
ii. It is a security deposit to guarantee payment or rent subject to
contingency which may or may not happen.
3. Leasehold improvements made by the lessee on the leased property are
recognized by the lessor as income using the spread-out method or outright
method discussed in Chapter 4. .
Lu.~~ · -15 lr·t,J"\' - ~ •~ ~?>O"l ... ~,.,tAf i t\'"- lrF-
lllustration
Under the Iba Leasing Corporation's standard lease contract, leases shall run for a
non-preterminable 12-month period for a monthly rental of P25,000. The lessee shall
Pay three months rental in advance plus one month security deposit. The r~nt for th_e
last two months of the lease shall be taken from the advance while the security deposit
Will be returned if there are no damages sustained by the property during the lease
terrn.
The . th and the advanced rental for
th ,entire P75,000 rental payments for the current mon I tax. The P25 000 security
e QSt two months is an item of income subject to regu ar '
depos·t ·
1 15
not an income.
Royalties b · ct t final
Roya} . . . . . h Philippines are generally su Je J_ __
inc .· ties earned from s~v..rces w1thm t e - t- e Active royalty income ancl
r .oltle tax . . . ,.,.h . th ey are_ act1~~ ~ na_ ur . - . re \Jlar inco~~ . ..
-.o.. Yaltf~ \. ..~~.~ . ,t .~ "~.~~,
J "d th. e Ph.mppmes are subJe£!_tp__., g•-_c, •.,.r ,· .....
b",.. .\! .
es e<1'fned Jtom sources_
~. ---_.,~ -
outsL..~ ~---·" .. .~
~...·-">;,d.
·

279
 c

5
ti
C

m ~trati on 2
.. us. . . ,. h ' - th :l f0H l1Wiil.g {"fl\
_ ·
,11th~ .
:1 - ·
5
Mang 'Dami;,n ·"'~ c . . . .) •
p 550,000 f
.. - . - . . ~ ~r\., rti t>s in tht' Ph1hpprn t s
Roya:~es ~om ~~:,no~tp~1M~,~i: in d1~ Philipµi nt'S 200 ,000 V
Roya1ues l\ (-im vt ""~ .~ ~
300,000 i
Rovalties from bo0k~ pubh~heJ .1b, (_,Jd
400,000
·· i.,i-,;.. .:...om
Rova,ues u. rr·,:,:~·..,. u·-i.n i,..,..:-t3. cX.t.,,rdst'ti
The ;avaltres j .n'i:'? 1nt:
• · -
.

- • - ~ ••
Jbru ..1d
i r;,._.i _!Tv _!k:, i J C-~ l 111 (
fina l uix The ruvcJ.ties ;ircrn wt~lY~.s ,rbro~1d <199regat1n9 ? 7001~00 ar~ items of gros:i
f Jn1m
l
tiooks in
.
the Philippines
.
are subject to.
.
, j

1 t
-
income · b'
SU yet·t. t-·
.0 rep .. ).<,.u . ..- ,..,._p•• ..:- r-w :).::nt?mb-ff that the fin al w1thholdmg tax does not
, ~ v♦ 11 ...., •, .u ..... ""'

apply to fore;gr. incon:i.

Divi dends
These pertain to ruv1demis de,da.red by foreign corporations. It should be recalled
that dtvidends de-darerl by don:estic corporations are generally subject to 10~·'.:
final tax if the recipient is an indj\iduaI taxpayer and exempt if the recipient is a
domestic or a res1dent fore1gn corporation. Cash, property, and script dividends
from foreign corporanons are items of gross income subject to regular income tax,
Stock dividend
It sh~uJd be_ 'recalled ·that stodk dividends are exempt from income tax, but wher
tlJe_oeclaranon ronfcrs to the recipient a differen t interest or right after the stock
~1v1d~nd decla,a~t'r or when~ di\i dends are subsequently redeemed sucti
1.~a~ h. amounts LO µaymem m cash dividend. the t . .k l . f the stoc~
d1v1dends recen-ed 15 ::ax-able. a1 r mar et va ue o
Liquidati119 dividends
Liquidating dividend is !!Ot incorr: o Th» 1. . . . d a' . .
I
'
amount in excbano::a for fL --nn.-estment
· -- --~ ... lqUJdattng dividends are considere ·· ·
... ~· ~~ • • • LH~ of th . · . . . . rules
of dealings in propertJ-es in Chan~.:); '} ' LL € tnvestor and are subject to the .
J- ...... .. 1 ,4. _-::. i >

Illustration
-·.-- - - . -
Cuhao Gompam··, a dome.;;tfr· \.1.!..:
~ .. - ...,'lt\_;- ~ r ' r-1!""'
, ... · - t t.., iT"'~~ - - .
&"...A .· ·
ct• ·• . r,. -
11 w1n;;.•. . "
~ t;',._,c ]\'cu_ ('·
. . . .
- . '"" ·-• •,l '
.
Dome.stir. t:orporaoons · ~:asn 1v1dends from the fo o ·
· · . ~esident foreigflt c0:'J)or2~ons: P 400,000
J.;.~~- rpc; i: ,-;e:¥(•· .i ,.• :r ,a. .
.· ~
--o
/- . . n.·.o·oo·
• ,.,., :1..... .< • t d):;. -~
dlJ.''i.n.'t: .
-- ~ , . , . ,,,,,,,.... IP;
JcO'!}
. ~i,- " ,1 ¥ ·u ran V ns
rornr1 V

•. . 300,000
 rhaPter· g _Regular Income Tax: Inclusion · G
V
in ross Income
p oo 000 inter-co orate divide
The fi4 . I tax. Thereforrp nds de
e, it is not an ite ,Fclared b. ~ a .
from ina do me St; c corporation is exempted
m 01 gross mcome subjec t to regular income tax.
he P5 00 00 0 tot al div ide nd s fro m
' the ·
1 ..
are items of regula1 mc om e sub . res i d en t and no n-r esi.de nt for
1ect to reg ula r income tax eign corporations
ronows: an d sha ll be reported as
scenario ~: As su mi ng ~u ba o is a
do m: sti c co rpo rat ion , the PS
from foreign co rp or ati on s sh 00,000 total dividends
all
be inc lud ed in gross incom
corporations are tax ab le on e because domestic
wo rld inc om e.
Scenario Z: As su mi ng Cu ba o is
a res ide nt foreign corporat
PZ00,000 div ide nd s fro m the ion, only a portion of the
res ide nt foreign corporation determined as
within by the Pre-dominanc earned
e test dis cu sse d in Chapter 3
income. The sit us of div ide nd s shall be included in gross
fro m the no n-r esi de nt foreig
n corporation is abroad.
• Annuities
'l'neexcess of an nu ity pa ym en ts rec eiv ed . . .
by the rec ipi en t over premmm paid
taxable inc om e in th e ye ar of 1s
re ce ip t
lllustration
An drew pu rch as ed an an nu ity .h h n
s a pay im P10,ooo
co ntr ac t for Pl0 0,0 00 whic h'
annually until he die s.
The receipt of the first 10 an~u . ments is a return of capital. Any
al ~n nw ty pay income subject to regular further
receipt from year 11 onwards 1s incom e tax.
an 1tem ofgross
Prizes and wi nn in gs
Prizes an d wi nn ing s th at d f final tax are no t items of
ar e ex em pte rom gross
income su bje ct to re gu lar inc
i om e tax .
\ Exempt prizes and winnings:
1. Prizes rec eiv ed wi th ou t eff . . co nte st
\
l
I
2· Prizes in ath - - • ·
or t to 1om ~ d
let ic co mp eti tio ns san cti on e
by
the ir res pe cti ve na
.
tio na 1
spo
rts

l association
\ 3 . di·ng p'l 0 00 0 in am ou nt
\ · Winnings fro m PCSO or 1Ott no t excee t- '
S o, . . ·ct
.
Utnmary ru les of pr ize s an d wm . ·n s for mdiv1 ua1taxpayers:
ni g d from sources
Earne d
=- Within - Abroa
hizes:
Regular tax Regular tax
P10.ooo an d be low Final tax Regular tax
More tha n Pl 0,000
N/A
:~~ a\Jd lotto, exceeding :JP~ fin al tax
. Exempt N/A
"'·
vv1n. .and .lot to ' no t ex ce ed ing 1
00 0
• ' Final tax Regular tax
· . ll.lngs from oth er so urc
es
281
 . in Gross income
. 10 c1us1on
_Regular 1nco
me ra,c.
ChaPter 9 ration
s is not contemplate•i
f r co rpo
. f rizes an d
winnings O . of corporati.on s are subjee1 ir.' .· <..1

d
The final taxation o p xable prizes an winnings , t:J
the NlRC. Hence , the ta
· come tax.
regularm
. . ·
mustratton
flower festival. ou nn g t he f"estt· VIt
· ··
ies, M,
. h ld its panagbenga the pS 00 ,000 sec on
The City of Bagui_o e f Mr. sexy
Body G~rn, won the p600,000 fir st d pnze in t};.
Erorita , the propne~~r o J hn Hay prize. ,
Corporat10n won
flower t1oatcompet1t1on. 0
. the winnings of Mr. Erorita. The priz,,.
The Cityo[Baguioshal_lw1thho Id 20% final tax on
t be subjected to a 20% Jm . . ..
·
al tax but_to
of John Hay Corporatwn shall ~o d
the prize in its gross income subject credit.ab/,
withholding tax. John Hay shall ,nclu to regu/cr·
e
income tax.

). Pensions
These pertlln to pensions and retireme
nt benefits t hat fa1'lto mee tth
_ e exclus1u·~,-
criteria and hence subject to regular
.., ,..,,-. .... tax .
~~~·

.,. Partner's distributable share

from the net inc om e of
professional partnership ► r~ the gener~
~t should be. recalled that general
~ fhr v uw~ l11-k,J, '7 ____
professional pa rtn ers hip s are 'n
mcome t~ (1.e., Dnal t~ . ca i~l__g-?i~s 9)' subject t:
~':'. or_~~g':l~_r i~co_i:!}~ ~~~~ ) bec au r
t merely viewed as a s- roug en se theyar~ 1
1 1e . The pa rtn ers are the
regular tax . on the1 . on es sub ject u
I partners h ip.
· , net mc
~ -ow~ ._ !k...,
• ome of the
ge ne ral pro1es'" s 10· na:
2
. .Jo V •N J..vr,.
For this purpose, the net uJ, 0
include items of incom"e whinc ome ·of h
ich-
are exetmp e g~neral pro fes sio na l partners . 5ha: 1.
t h e general professional partner~h ted" fi hip . ..
i . . _~~lll__!_n~ l tax 9r ~t ta l _g~.ms ta,\ ,. 2.
Illu stra tio n
Zef and Siegfried pra cti·
\ t'l
share profits 60:40. Th ce
. TT
t h'eir proi: .
. .
eir firm reportiess ed1on
the in a . . 3.
f g~neral pro fes sio nal par tne rs hiP af.·
Gross rec eip ts
ollowmg:
4.
Less: Professional exp
N t.
: s.
ens
e mcome from ope rati ons es 6,
p 20
Int ere st from bank d , 00 ,00 0
n·is tr·b .
.
1 ut1ve net incom epo sits 1.2 00 ,00 0
e -
P 80 0,0 00
The sha re of the . . . .
. Par tne rs in the net . 20 .00 0
. .inc orn O f :e_ 82 0,000
Tot al dis trib utio n . . 5.
e the pa
Total_distfibu tio u: ~: i?% "P8~o.ooo . . ed ~·
rtnersh1p sha ll be com put
Dis tnb utiv e net · · &. .led (400ft
.· .• . :1ncorne . . . · ox Paz)o.
.· · · .
,O00)
,,· .. . . · . : . . . · p 49 2,0 00
- 32 8,0 00
282 I;, 820,000
 . ...,., . ~~~.:--~·--:2:..1!~'§£~\:!~i jf .:•.:--· . ... "

h pter 9 - Regular Income Tax· In 1 . .

Ca . c us,on in Gross Income

n,e partners shall include their respect'

gu lar income tax. ive shares in their gross incom b'
re e s u Ject to
Nrite that this rule applies to other pas -th_
/ Ex~!,llQU~lnt y_e_utures s l ough entities such as:
z. F,xe,,mp_t co-ownership .

Business partnership and taxable joint ventu

These entities are subject to corporate i·nc re or co-ownership
Prize
. ct·is t n'but1ve
· share of a
! tax · The
ome
'itab/e partner, venturer, or co-owner from the net .
?gu/ar within the Philippines, is subject to 10% final 1:c1·tohmhelod~ these entities, if organized
o mgtax.
However, if these entities are organized or consti·tut d b d h h
· fi · b' e a roa , t e s are from
their pro 1t 1s su Ject to ~egular income tax for taxpayers taxable on global income.
~ion It should be recalled
. agam that the final income taxation is territorial and does no t
. mcome.
app ly to ,,ore1gn

~neral GENERAL CRITERIA FOR ITEMS OF GROSS INCOME

Items of gross income subject to regular income tax are not limited to the
ject to aforementioned NIRC list. Under the NIRC, the regular income tax has a catch-all
,ey are provision for all income derived from whatever sources that are:
ject to 1. not subject to final tax, capital gains tax, and special tax regime, and
;sional 2. not excluded or exempted by law, treaty, or contract from taxation.

OTHER SOURCES OF GROSS INCOME SUBJECT TO REGULAR INCOME TAX

p shall
1. Income distributions from taxable estates or tru sts
. tax to
I
2· Share from the net income of other pass-through entities:
a. Exempt joint venture ..-t ----~--- ~-~- -
b. Exempt co-ownership -f>
11
·p and
3
4· Farming income -t CN'"f' J
5· Recovery of past deductions
6· Reimbursement of expenses ·
' Cancellation of indebtedness for a consideratwn
Inc or trusts
ti. orne Distribution from taxable estate~ b neficiary from a taxable estate
1
•1.1 :y in . d b n heir orubJ. eect to regular tax, provi·ded that
or t . come distribution receive Y a
rust h . incomes . . tax
such . s all be incJuded in his gros~ ted to final tax or capital gams ·
income must not have been s ubJeC
lllustr . . . . which is under
~Otna a~on: Estates . business estate of lus fa~her. come for the
th
illcti .n ls one of several heirs to e d' tributed the following m
suht1a1 settlement The administrator is
. PPOrt 0 .
· · fRoman:
283
· ·
. ,.
Tax· 1nc1us1on in Gro ss Incorne
Chapter 9 - Regular in com
e .
P 22,s oo
Domestic diVideod s
Bu sin ess in co me 70.000
. . b. ·t to reuular inco
'i'

Roman shall include 111 .. • . • •• cv me su 1 me tax the P7o, 000 ,

/11., g" '5-' Tl e~tal,1e
111 c, :J
c shall present th e sa ~
··
distri bution from busin ess m e am ount as o
. ,~come. ~,e , ~/J22 500 divid . '.
. . . en d sh all no t be re ported b,1
dedu ctwn agaz ~1st its 91·os~s, ,ncome. 1 1£ . ,. 6
' . ,b ·cc ted to Jina/ ta x at
Roman since tlu s wa s alreaq st sou rce. '
J
p
Illustration: Trusts
Horace receiv ed th e fol\owr
. . , r t ~ibutions in hi s ca pa g
ng rn comc c 15 1 city as be ne fi ciary to an
irrevocable trust design at
ed by his grat1<lmo th er : 10
· ,

Net capital gain s on sale of p 9, 50 0

do m es tic sto ck s
Rental income 12 ,0 00
Horace shall report only the P1
2,000 rental income in his gr
income tax. The net gain on oss income su bj ec t to regula
the sale of stocks is subject r
to capital ga in s ta x to the
tru st
Share from the net incom
e of exem pt joint ve nt ur es an d co Not
The same tax tre at m en t -o w ne rs hi ps 1.
on re co gn iti on of sh ar
professional pa rtn er sh ip e in th e ne t in co m e
ap pl ie s to th e sh ar e fro of a general :
ventures an d co -o wn er sh m th e ne t in co m e of ex em pt joi nt ·
ip s.
:; Farming income 2.
Farming op er ati on s can be
cla ss ifi ed as:
1. Raise and sell operat
ion lllu:
Th e pr oc ee ds
income sub1·ectontoth e sal les f 1·
. o iv es to k or fa rm pr A ta
as items of de du ctire gu ar m co m e ta xc An im
od uc ts is in cl ud ed in
gr oss teco
on s a . .· al · ·
ra is in g ex pe ns es ar e
ga m st gr os s m co m e. pr es en ted
2. Purchase an d se ll op
eration
Th e
income. gr os s pr of it fro m th e sa le ( sa l l
es es s coS t of pu rc ha se
) is in cl ud ed in gross
~~ :~ :y er s may follow ac
ofck or farm pr od uc tscr ua l or ca sh
Th e cr o- p .... . b ab~.ls
. .
use d or reco · · m .
gmzmg income· for Iong -teye ar as is d ac co un tin g fo r inventor
·isc us ies .ot
It should be recalled th t se d in Ch ap te r 4 inaYbf
. rm ·.
taxable item of r . . a th cr op s.
. g oss mcomeebe pr oc ee ds of cro or r
~ ca us e th . p iv es to ck in su ra nc e co
/lfl(ECOVERlES OF PAST ey a1e re co v f ns titute J.
W he n pa st year ded '?E er y o lo st pr of its .
DU CT IO NS .
. tax pa ye r or h
. a . .. · w . et1 acuc tions from g
..... R am. ol.· Ul tless l;han crthue de .
. ro ss in co m
... no~~ y resulted in iax b!
e .. xpe~se previous e ar e s b
! u se qu en tly re co ve red bYt11'1
~u ct io n claimed, ih ~e du .
· >r-·. ,-_-: -j '"~~ t>.:-1~f -'"'""--. ct ed ar e subs eq ue nt !)' pa
·. tt. ot he ta xp ay er . y sh ou ld id ~-
.. . .. -.
,·
. . :. • ,,.., .. ~,(,.\ { J be an al yz ed whether
,..··· • - . .~ .- ✓ • - 28 4
 ter g _Regular Income Tax: lnclus· .
chaP ion tn Gross tncome
\es
StaITlP of recfove ries .
of pas t d edu ctio n ~.
l
Recovery o pre vio us y ~lai.m ed bad . .. s.
deb t ex
1. Refund of local tax ex12~11s e .' .,
· pcn sc _
2, Refund of foreign tax pre vio usly claim
3 . . . ed ~ d d . , , ·
· Recomm1ss10nmg of aba ndo n ed pet role as e nct1o n :11,

4· Rele um Serv i , _· . .
ase of res erv e fun ds of ins ura nce c >
5. . , cc ( on tracts or m111i ng te
c mpani es nem ent s
6. Interest exp ens e wh ich we re sub seq u
ently cond one d by th e lend er
past deductio~s tha t cre ate d tax ben efit to
the taxpay er mu st be reverte d bac k to
gross income m the .yea r of rec ove ry so tha t the gov ern me nt
lost from the ded uct 10n . w,·11 reco
.
ver t he tax
Tax benefit
There are two wa ys a tax pay er ma y ben efit
from a ded uct ion :
a. Directly, thr oug h red uct ion of tax abl e inc
om e in the yea r ded uct ion is mad e
b. Indirectly, thr oug h red uct ion of futu
re tax abl e income thro ugh carry-o ver of
net ope rati ng los s
Note:
1. Under our tax laws, the exc ess of ded
ucti ons ove r gross income in a taxable year
as a deduction aga inst the net inco me of is carried over
the next three years of operation. This is
operating loss carr y-ov er or NOLCO. Because called net
of this, alm ost all prio r yea r deductions
benefit; hence, the ir rec ove ry is taxable. hav e tax
2. NOLCO will be disc usse d in Cha pter 13-B
. It is partially discussed here because of its
the topic at hand. relevant to

Illustration 1: With Net inc om e in the yea

r of ded ion uct
Ataxpayer inc urr ed P60 ,00 0 bad deb
t exp ens e in 201 8 out of which P35,000
recovered in 20 2 O: was
20 18 201 9 2020
N
et income bef ore bad deb t exp ens e 000 p 80 000 P 120 ,000
(B P l0O, '
ad debt exp ens e )/R eco ver ies ( 60·000 ) 35,000
Net income afte r bad deb t exp ens e ---- 1 n 1 trt'-""
p 40.000 P 80.000 p . . . . ~11
The . .
rec entire P60,000 ded uct ion in 201 8 15 fit to the taxpayer. Hen th e PJS,000
a tax bene 1. h must b ,verted ce, back to gross
in ove,y from this ded uct ion is a tax
ben efit wh~~ b f 000.

I
come in 2020. The tax abl e net inc ome in 202 0 5
sha '
lllu . .
At strat1on 2: With ope rat ing los s & NOL 0 carry-over before recovery .
r axpayer inc urre d a P90
C . 201 8 out of whi ch P60 ,000 wa~-
-ecov 000 bad deb t exp ens e in
erect in 2020. '
·
201 8
201 9 - 2920
Net in . __.! :~:;_ -.-, p 120 000
0 . 70 ooo P 100 ,000 . ,
(11ad ~ tne bef ore bad deb t exp ens e
Neqllcebt exp ens e)/R eco ver ies
P 90 :ooQ) ?,f
0 °_Q
20 _0 ooJ P
1
(-;- 100 ,000 .• 7: -~
less:~ .ea.f terb add ebt exp ens e
Cl C ♦( 20,0 00 ) ....~~ ,..,-- ,.
. . ~a pp lic ati on
Net inco me £ 80,0011
. .· . · ·..L.
·.·tti·
_.· -~ ., ,~ 3 .\t. rS'
I
,.: ~ f tN.1j~,l
Chapter 9 .; Regular Income Tax: Inclusion in Gross Income

. . Tl :, taxpayer bene
· ,r; jitml l~y the Pi l ' .
The tmtirt' P90>000 dedu ct~on is a tax bene1 1t ie . r -over of NOLCO. 1'he P J.r!oo . .
Tl . M,oo
N'ti'urtion in 2018 taxable mcome plus the P20, 000 ca 'Y c
i· portah/e n,0
,e
.~;wry.• fro m the deduction in 2020 is a tax benef it subje ct to tax. 1
inctlme in 2020 shall be Pl 80,000.

. .c . ·
Illus trati on 3: With expi red NOLCO befo re reco very . 1 '> ·,y .
ial )ed to t ( the ·
· . 201 6 ,but
t expense m
Suppose a taxpa yer dedu cted a P500 dmteres don ed th e inte
. ZOZ(
rest m . .
"'
same due to financial . ulty. The 1en er con
. diffic

2016 2017 2018 2019 2020

100 (P 130) P 80 (P 160) (P 70)
inrom e before interest p
Less; Inter est expense ( 500) - - 500
Net incom t? (NOLCO) (P 400) (P 130) P P=
80 (P 160) ~· · 'J
=")?
=· ,

NOLCO application ,_---- rlll l (,._P_B_0J ~p== ??=?

Net income p 0
the 2018 PBO net incom
n u: inrrrest expen se saved the 2016 Pl 00 pre-tax incom e and
from taxation. Note that NOLCO can be dedu cted only
agai nst net incom e in the nexi ,
thll!,e ,,rears. The P320 remaining NOLCO expired in 2019
with out tax bene fit. The PSOO f
only P180 of the PSOO L
inftrest deduction only benefited the taxpayer PlB0 . Hence,
rt7·rov?1y· in 2020 shall be reverted back to the 2020 gross
income. ~

Wu.strati on 4: With operating loss in the year of reco very j

h p45 000 was
yer incur red a P90,0 00 bad debt expe nse in 2019 out of whic
..\ taxpa~~' I

~v-erc:-u m 2020 .
2019 2020
~et inrom e/ Ooss) before bad debts / recov ery p 70,00 0 (P 15,00 0)
l~de bt ex~n se)/ Recovery (
(P 9 0.0 0QJ 45,000
Neun oune after bad debt expe nse ???
20.00Q) p
== ==== . , ' in<
An fa..::r~{!Se in NOLCO which h . •
>r!:r.:h die n>covery takes place ~;~t /xp1 red before the begin
ning of the taxable yearI'.
oJ ro,; ilenefitto die tt1Xpayer H he treated astax beneftt Thus, the en tire P90,OO0 I; 011,

n,~ be- feW-n-erJ be l . t ., . . ~nee, te e P45,000 recovered out of it is a tax benefit wh1tn ,. kaJ
· c1i. o gross Incom i n 2020.
:~
~o~

(P 15100 0)
45,0QQ
p
30,00 0
20.0QQ
E 10 Q[}_Q
 ter 9- Regular Income Tax: Incl . .
chaP us1on in Gross Income
ation 5: Without benefit of NO Leo .
!llllstr h d h carry-over
. ~orporate ta~payer a a c ange in 80% of it , . . .,
Al,rating loss mcurred before 2019 is not allo s shareholders m 2020. Thu s, any net
ope write-off was made in 2019 out of which pwed to be carried over. A P90,000 bad
debt 6 0,000 was recovered in 2021.

Net 1•ncome before bad debt expense

2019 2020 2021
Bad debt expense)/Recoveries p 70,000 P 100,000
P 120,000
( 90.000 )
~et income after bad debt expense 60,000 ; to
...
;y:; ,
-
(P 20.00Q.) P 100,000 .
???? u,, ,
th 9
The tax benefi~ of e P 0,000 bad debt expense to the corporation in this case shall be
determined usmg the As-IfApproach.

Re-compute the net inc?me in the ye_ar of deduction by adjusting the deduction as if
the subsequent deduction recovery 1s known. The computed net income is compared
to what was previously reported to determine the income that is saved from taxation.
Assuming the future recovery is known, the 2019 net income should have been:

Net income before bad debt expense

P 70,000 \
Less: Bad debt expense if recovery is known (P 90,000 - P60,000) 30,000
Net income if recovery known P 40.000

The tax benefit is the income that escaped taxation in 2019 computed as:

Net income if subsequent recovery is known P 40,000

Less: Net income as reported in 2019 (recovery is unknown) 0
Tax benefit of the bad debt expense P 40.000

. stitutes tax be~ts which must be

P40,0O0 out of the P60,000 recovery m 2021 co~ me shall b~
included in the 2021 gross income. The 20 21 net mco

I • h ear of deduction
llustration 6· Taxpayer is exempt int eY · • 2019 but became a taxa bl e
Ka!inga Corp~ration is an exempt BMBE ~x::r;~~~ bad debt expense in zoi 9. In
regular income taxpayer in 2020. It deducte '
2020 , it recovered P40,000 out of the bad debts.
2019 2020
N ..
{:~ income before bad debt expense
p 10,000 P
( 120,000)
JJW"~
~
..-t, ""°+~ ~L, ~i
N. ~ debt expense)/Recovery p so.OOO.) P '
µ. •

et tncorne after bad debt expense (_ tax Future recoven~s

D. . er who is exempt from P40 000 recovery is
r eductfons have no tax benefit to a taxpay1-1on are non-taxable. The '
1rorti d d O
1exemp,,,
~ot i e uctions made in the year be P1fL0J!!lO.
· ·ncorne. The 2020 net income sha II ; ,_, , ;, , ·
. 287
 . . in Gross income
. . . me Tax: 1nctus1on
. Regular tnco .
Chapter 9 - ·
e expenses . . it le ag·ainst gross in co me in -
f -dedUCtibl -deduct o h th,.
Refund o. non . . . 1ts· whi ch are non .. cr·e·~te tax b ene fit to t e taxpayer .( :.
· • payme1 • 'tl never •
Expenses or . . l net in come wt .
C~
. .. incom e.
'1\ 1
•.: .
computation ot tixa~ e lrl not bt' included 111 gt oss
·h . . e ·twerv shou
such, t eu r t · . items is not taxa ble: :
. . fo llowi ng non~ded uct1ble .
Hence, the refund of the .
1. Philippine income tax
2 Estate or donor's tax . . d fo reign country if t h e taxpayer clairn<!d1
· . . ·d or rncut re to a
3. Income tax pai , . . 1·t was paid or incurred.
credit for such tax m the _ yea~. ·ng stocks through th e Philippine Str>t,
4. S tock transactio n tax lll ispos1
Exchange
s. Special assessmen t
~IMBURSEMENTS OF EXPENSES .
Expenses of the taxpayer that are reimburs ed or Qa ld by the custom er or cl1cr:.
constitute additional income to the taxp ayer .

Examples:
1. When the lessee pays the ownersh,iQ SQSj_s of the less_o r. such as _r_e~l pIQp~rty t2 ·
and insurance.on the properti t he payment constitut es income to the lessor.
2. When a client reimburse s the out-of- pocket e~peo~ " of a profession2 .
practitione r, the reimburse ments are income to the practitio ner.

CANCELLA TION OF INDEBTEDNESS

The cancellation of indebtedn ess may amount to gratuity or payment of income. '
The cancellation of debt:
a. In consideration of service or goods - treated .
b. Asa t ,r . as income
n a~ 01 gratwty - treated as gift; not as income
c. As capital transaction such as fi -r. . . d
exchange of the debt- treated as d?r!d'e1t1nd9_ the right to receive dividen 5
. iv1 en income
SPECIAL CONSIDERATIONS IN R
1. Accounting methods EPORTING OF GROSS INCOME
2. Situs rules
. 3. Effec~ of value added tax . 1.v•> J . .
4. Creditable Withholding ta t f. ✓ ! -- . .. ., . ._.· ,-.
• ~-~ ..;,
:.r /. r -( <.J \, 1._.

5. Power of the CIR to re<11· trx·b ,.

· s I ute inc
. ·. . , . . ome and expense s

288
 cnapter 9 - Regular lr"l'con·le Tax: lnclusio1~ ln Gross tncome

ACCOUNTING METHOD
The accoun ting method illlopted by th t' t ,xpayer h:1s a direct effect on the
reportable amoun t of gross inco m~ subj ed t t) rt•guk1r income ta x.
For ins tance, cash~basis taxpny~rs wit.I repo rt th ei r gross re ce ipts or co llect ion as
gross income while accrual basis taxpayers \'v iii repo rt their revenue consisti ng of
collected and uncollect ed incomt• as gross inro me.
It must be recalled also tha t rega rdl ess of the acco un ting methods of the taxpaye r,
advanced income must be included in gross in co me in the pe ri od rece ived.

SITUS RULES
The situs of taxation als o affects the extent of income included as items of gross
income of the taxpa~ r;J t must be recalled tha t all taxpayers are taxable only on
Philippine incom( e~c~ J;r esident citi~ and do~ stic corpora~~ ns which are
taxable on global income. .-- ·

For taxpayers taxable only on Philippine income, only their items of gross income
subject to regular tax from sources within the Philippines are included in gross
income.

For taxpayers taxable on global income, their items of gross income subject to
regular tax from sources within and without the Philippines are included in gross
income.

Integrative Illustration 1
Nomisma, a finance corporation, lends to various clients:
Interest income from loans to Philippine residents P 400,000
Interest income from loans to non-resident clients 500,000
Interest income from bank deposits in the Philippines 20,000
Interest income from bank deposits abroad 10,000

Required:
Determine the total amount of gross income subject to final tax and the reportable
amount of gross income subject to regular income tax assuming the taxpayer is a:
1. Non~resident foreign corporation
2. Resident foreign corporation
3. Domestic corporation
Solution:
An analysis of the situs of the above income is shown below:
Within Without
Lo.an interest income p 400,000 P 500,000
· Bank interest income 2Q,Q00 10.000
Total £_12..{l.QQ.Q P ~ t QJl~
289
 . I I sion in Gross Income
Chapter 9 ~ Regular Income Tax. nc u · • ·
. . . al tax and the amounts to be repol'tt1u . -
Tl,c following arc the amounts sub1ect to fin 111 .
gross income subject to regular income tax: ·
Sub ject to
Final tax_ Re£!ular tax
p 420,000 P O
1. Non ~resident foreign corporation 20,000 400,000
2. Resident foreign corporation 20,000 910,000
3. Domestic corporation
Note: . ,
l. Non-resident foreign corporations are subject to final •_ncome :ax on gross mcome Within.
Philippine residents shall withhold 30% final tax on thetr gross mcome.
2. The interest income from banks in the Philippines is an item of gross income subject to
20% final tax. The gross income subject to regular income tax of resident foreign
corporations includes only those earned from sources within.
3. Income from sources abroad, passive or active, are subject to regular income tax for
taxpayers subject to tax on global income. The gross income of domestic corporations
includes items of gross income subject to regular tax from sources within and ou tside the
Philippines. Thus, P400K + PS00K + Pl0K.

Integrative Illustration 2
A certain taxpayer had the following details of income during the year:

Service fees from Philippine clients

P 400,000
Service fees from foreign clients
500,000
G~i~ on sale of domestic stocks directly to a buyer
D1v1den~s from domestic corporations
150,000
Interest income on bank deposits abroad 5,000
30,000
Required:
Determine the amount . ·.
capital ·
~ams tax assuming that the taxpayer itct
of gross income sub· ·
to regular income tax, final tax and ..
1. an individual .
a.
b Non.resident
N a1·ien not en d. .
· on-reside t r gage m trade O b •
(RA) n a ien engaged int d r _usmess (NRA-NETB) -
or a non-resid .. ra e or busmes (N .
c. Resident c·,·ti ent citizen (NRC) s · · RA-ETB) a resident alien ·
zen (RC) '
2.. a corporation
a. Non-residenH .
b. Resident forei ore1gn corporation
c. . Domestic corp:~~:':i°r ation

290 ·
"'lot!}l'\ttH 9 . ReguJar fn COfl)e Tax. f11 cl~16lc:>ll in (>I() :$~ lnc.t.Jthtt
L H• Y

StllutioJt: ~ ,
All JU<:tlysis of rhe situs or lh P fo 1··t\g1 >i Hg •tn , dtlw lt• .1 •. tnl lo wif ·

WllJilu WHJ1u11L
\ t:,r'(ltt ft•{'S
1 jl 111)() ,lH )<J ft I ,O(Jll)f)CJ
~;;in on sale of domes ti, · st, •t ks I .';(), (}(Jf)
!\1mtstic dh•tde nds \ IHltJ
}nrer,est inc,}fne from /OJ't'(qn hunk J {),!}f)()
T0ul r 11~1:1.,1Joq J' ', 'J(J,()CJ(J

f/n ;JJ ,r,,,r) w <:

Th~ f~Howi n~ are r~e anwu nt_s t'o he: fnclud r d 111 grow: 1,., .,>1 11 , , ·,ubj,-
,t 1,,
Hl'l'J :
a -.; (F IT), cap ital gams ta-x (CG f), and r,•gular ln,·,> 11 w i. 1x (

T11x1)a)'l'rs i:n·. CJ /f lfl'f

Jndiridua/s
1. NRA-NETB P 405,0 00 ,. I ri 0,000 Ji
')
NRA-ETB, RA, or NRC S,000 1!W,000 '1,0() ,0()(1
3. RC ~),()0 0 150,0 00 'J:1(),()()(J

Corporations
4. NRFC
,.
P 40 5,000 f> I '. j (),000 ,,
). RFC 150,0 00 400,0 00
6. DC 150,000 930,00()

Note:
pin,: irwom e.
1. NRFCs and NRA-NETBs are suhj ect to fln ;1I t;_ix on Phillp
2 in t<Jxation tha t appllen to all
· Th~ ~-10 % capital gains tax is the most univer sal rul e
taxpayers I ega t dless of class1fi ca tio11.
t;1x, exn•p l wh en th<! red pient is i-J non -
3. Inter-corporate divid ends are exem pt from final
resident foreign corporation.

EFFECTS OF VALUE ADDED TAX ON REPORTABLE GROSS

INCOME
ter a.<; ;
Remember that busin ess taxp ayer s are requ ired to eithe r regis
P1,00 0,000 in the la.st
a. VAT taxpa yers - if their sales or recei pts exce eds
consecutive 12-m onth perio d
the VAT thres hold
b. Non-VAT taxpa yers - if their sales or gros s rece ipLs is below
or are speci ficall y desig nated by the law to pay perce ntage taxes

Every VAT taxpayer is mand atori ly requ ired to

charge 12% outp ut tax on the~r
charg ed to custome~s is
~ales or recei pt. The regu latio ns presu me that the amc~ unt
tndusive of the lZ% VAT. The outp ut VAT will be
paid to the gove rnme nt net of
the amount of
the
i
VAT
. · · . a1
v·
. as. es. As such,
p ·dby t h. e taxp ayer ('mpu t. AT) on. his purch
.· eportable gross income shall not include the output VAT.

291
t h}\i1t~(' l) HtlQll\Hl \{'COl1\t). "rax
~. -. " . · -- · - Gross Income
. \nd u$10n tn

Uustn1Uon \ : V.
· ·J\1' ·· -yors "~ .,lt,{
. tt:lXl'"-. ~- ; , .\ 7f
A \l\'r -f t'~\ s\,.'r""l h\~\MYV l d ,~l\ ~t:d 400 to a client for ren tal
...
\ . i. . . ' .
TlH \i 1\T•\.lK\-'•\Y t· r ~h~\\l. . sph..t t1-,e b'llingr a~ follows:
t '.,

H~' n\i.,l \n( O \Ut ' l,\"7t.\A 00 /'"\ 12· ()l10 ) , ..,. p 70,000
V\\ls: Or\tpnl VAT lPr;tlAOOx \ 2/ 11 2
,
R40Q
)
h wn i ~~- pr\ n• r. 78.400
. · . t · ., t to income tax. •r·he ou tpu t VAT sha ll be rec ord ed asa ,
•
F

tlw n\n t :\l hwo~n

l)11\y r lS _n 1}~ C -. .. • • ord ed in acc
lfahH\r)1. Th ~ (·u\ kc tt0n ot stht ~i cnt<ll is t ec
ou nti ng as fol low s..

Co:- h P78,400
R,•nt i 11t"dl1lc' 70,000
() uqw r Vr\T 8,400

l\lustration 2: Non-VAT tax pa yer

s
A n,m -VAT taxpayer charged P78,400
to a cli ent for ren tal .
Non ·\!AT raxpayt-'rs are not subject to VAT. The entire am ou
of goods or services is gross incom e sub nt the y charge for their sales ·
ject to income tax.,,
CREDITABLEWlTHHOLDINGTAX
1-.{J w-~
Creditable withholding tax es (CW
T) de du cte d by inc om e pa yo rs •· ·
income of the tax pay er are no t exc ag ain st the gross
lus ion s in
gro ss inc om e. Th ese sh ou ld
back to the repoctable am ou nt be added
of gro ss inc om e. CW Ts are
deductible against the ann ual inc om tax cre dit s that are
e tax du e of the tax pa ye r.
Illustration
Denzo Inc., a non-VAT domestic cor
por ati on, rep ort ed the fol low ing
:
Rent income, net of 5% or P25 ,00
0 CWT
Professional fees, net of 10% or P4 P 47 5,0 00
0,0 00 CWT
Interest income, net of 20% final tax
36 0,0 00
Dividends from a domestic cor por
ati on 40 ,00 0
Business expenses
10 ,00 0
Required: 50 0,0 00
Determine the total rep ort e
under the regular income taxabl
.
gro ss income a
nd the inc. . doe ·
om e tax du e and still
Th e total rep ort abl e gross incom
' e shall be·
.

p soo.ooo
400 -.00Q
£ 9Qo ooo
Chapter 9 - Regular Income Tax: Inclusion in Gross Income

Note: The interest income and. the dividend income are subject to final tax. They should not be
induded in the item of gross income subject to regular income tax.

The income tax due and still due shall be determined as:

Total gross income P 900,000

Less: Allowable deductions (business expenses) 500,000
Taxable net income P 400,000
MuJtiply: Corporate tax rate 30%
Incom e tax due P 120,000
Less: Creditable withholding tax
Rent P 25,000
Professional fees 40,000 65,000
Inco me tax still due P 55,0 00
Note:
1. The C"Wfs are actually advances to the annual income tax due of corporations and
individuals and are deductible (i.e. creditable) thereto. Same procedures are applied with
individuals except that their income tax dues are determined by progressive tax rates.
2, The final taxes should not be credited against the annual income tax due.

Creditable withholdin g tax and VAT

VAT taxpayers shall revert back to gross income amounts of withholding tax but
excludes therefrom the amount of VAT charged to customers or clients.

IUustration 1
A VAT taxpayer collected a total of PSS,000 cash for services rendered, net of Pl,000
withheld tax by the client evidenced by a BIR Form 2307.

The VAT taxpayer shall compute his service income subject to regular tax as follows:
Ca5h received
Plus: 'W ithholding tax (BIR Form 2307)
P 55,000
1,000
j
l nvoice price (inclusive of VAT) P 5 6,000
Less: Outpu t VAT (PS6,000 x 12/112) 6 ,000
Service fees (Gross income) P SO,OOO

Ulustration 2 . •
" ·vA"f. . . d PSS tal from a lessee who withheld 5 01/o creditable
n .·· taxpayer collecte ,600 ren
~Ni thholding tax.
. .. . • me subject to regular tax as follows:
i h:e VAT taxpayer shall compute his rent mco
r, _ . . • f SOAO CWT) p 85,600
.-.,;1s h rec:erved (mdus1ve of 12% but net
O
107%
TJiVlde by: (1 00% + 12% - 5%) p so,ooo
kem income (Gross income)

293
 aL r

Chapter 9 - Regular Incom cl" pt

e Tax: Inclusion in Gross
Income

Th e VAT an d wi thh old ing ~e'1

tax are as follow s:
(t f1 (
Re nt inc om e
p
fifla f
80,000 t,~os
Plu s: Ou tpu t VAT (PS0 ,00 0
x 12 %) 9,600
Less: Wi thh old ing tax (P8 0 w~at 1
,000 x 5% ) 4,000
Cash pa ym en ts to the les so
r !:_ US.60.0 u11der
► POWER OF THE CIR TO REDI d,rect1
STRIBUTE INCOME AND DEDUCTIONS same
\n the ca se of tw o or mo
re o rga niz ati on s, tra de s or
inc orp ora ted an d wh eth bu sin ess es (w he the r or not capita
er or no t org an ize d in
co ntr oll ed dir ect ly or ind the Ph ili pp ine s) own ed or
ire ctl y by the sam e int ~ ,np
au tho riz ed to dis tri bu te, ere sts , the Co mm ission er is
ap po rti on or all oc ate gro 1. Pa
be tw ee n or am on g suc h ss inc om e or de du ctions
org an iza tio n, tra de or bu 2. Si!
su ch dis tri bu tio n, ap po rti sin ess , if he de ter mi ne d
on me nt or all oc ati on is ne that 3. All
ev asi on of tax es or cle arl y ce ssa ry in or de r to preven
to ref lec t the inc om e of an t 4. Bu
bu sin ess . (Sec. 50, NIRC) y su ch org an iza tio n, trade
or
The Problem of Unfair Prici TIie al
ng be tw ee n As so cia ted En Under
Th ere is a ris k tha t the pri ter pr ise s
cin g of the tra ns fer of go
ass oci ate d en ter pri ses will od s an d ser vic es between under
be co ntr oll ed in su ch a wa
the ass oci ate d en ter pri ses y to fu rth er the int ere sts of indepE
as a wh ole in dis reg ard of
taxes. the ir soc ial res po nsi bil ity transa
on
Examples: betwe,
1. A domestic_ c?r po rat ion In otht
wh ich is sub jec t to 30% co
~as a subsidiary tha t op era rpo rat e tax in the Philippine
tes in a tax ha ve n co un try s al5o ca
imposed. T~e. domestic co rpo wh ere no inc om e tax is
transfe~ pn~mg based on
rat ion tra nsf ers go od s to its
for eig n sub sid iar y at a taxpay
recognized m the Philipp· pro du cti on co st so tha t no gro ss inc om e will be income
ab road wh ere no tax is impomes w h"lI e t h e en ttr · e gro ss
sed . inc om e wi ll be recognize d
2
· ~r~~~t~: t~o;~~~ttio~ sub
The ari
The f .
je~ to l0% co rpo rat e tax
in its ho me co un 1. Crt
, tpp,_nes which is sub jec t
ore1gn cor po rat ion tra nsf ers to the 30 % co rpo rat e inc om try has a 2· Do
minimal profit for the Ph T good t . . e tax herein.
. b s a a pn cm g me tho d tha t wil
~
tax. l ipp me ran ch to
mi nim ize ex po su re to higl allow very
3. Mr. Wais has a bu sin ess
he r incorne
enj oy in a t h . lcl\,Q~
law. Mr. Wais also has a b
d . g ax oh da y un de r an inv est
me nt promotion
. IJ)J)ly f,
or ers his taxable bu sin ess usm ess tha t is sub ,·e t t
t c O reg ula r inc om e tax. Mr Wais
business thereby shift' th 11 go
tax. o se od s an d sup pli es at co st to his . · ~o u
mg e profits to the ex em
pt bu sin ess to sav e from inc
exernPt th~ ta>c1
om e th~ lh,,c,
The transfer . i
Th pn c ng gu ide lin
ose en um era e
ab ou t by f ted. s_cenanos. )
un air pn cm g pra cti are jus t a few
ces T 1· . o f th e pro
ble
. .
. o 1m1t the se un fai r prams m tax ati on broug I
ht
cti ce s an d to proper y ~"''
l,n ~t\ l
. ttn 1
294
 ih.,:
-~; :·/.;.. .

.- . ,•,t-·,
·; '1
. ~ ~~ . '-..''-
•.• ·~ ,..
r _ Regular Income Tax: lnclu . .
cnapte 9
. . ~~
s1on in Gross Income •,,'ii \1

t the income of associated enter .

refleCce promulgated Revenue Regulat· PnseNs, the BIR and th e Department of
f1nan . ions O 2 . ·
fer pricing. · sen es of 2013 (R R2 -2013) on
trans
¥hat are associated enterprises?
I der RRZ-2013, two or more enterprises
U_n ctly or indirectly in the management c t a7 . .
associ_ated if one partici pates
5
d~:e persons partic~pate directly or indi:e:t~o ·i~r capital of the other; or if the
th e management,
ital of the enterprises. Associated enterp . Y control, or
cap . nses are also called "related parties."
Examples of assocta~ed ente~prises:
1. Parent corpor~t10n and ~ts subsidiary corporation
2. Sister compames. or businesses owned by the same paren t corporat10n
.
3 _ All corporations controlled under the same holding company
4. Businesses owned by the same person

The arm's length principle

Under RR2-2013, transfer pricing between associated enterprises shall be made
under comparable conditions and circumstances as those entered into between
independent parties where market forces drive the terms and conditions of the
transaction rather than being controlled solely by reason of special relationship
between the associated enterprises.
In other words, an uncontrolled pricing method determined by free market forces,
also called arm's length pricing, is preferred. The failure to comply may expose the
taxpayer to a transfer pricing adjustment where the BIR re-computes the proper
income of the associated enterprises.
The arm's length principle shall be applied to: .
' 1. Cross-border transactions between associated ent~rpnses
2· Domestic transactions between associated enterpnses t
Wh b d r the taxpayer may enter into an
,. en operations are conducted ~ross- orR e h e a pricing rate is pre-agreed to
advanced pricing agreement" with the 81 w er
apply for a period of time.

'
. may serve as a safety net for
h is
A.Ith ough quirement, t • strnen t d
this is not a mandatory re . .
th e taxpayer to avoid the risk of transfer pncmg ex
amination and adJu an i
lhe inconvenience it may possibly cause.
lransri . . d not reflect arm's
Wh .. er Pricing methods ssociated enterpr~ses o h ·r arm's length
I .en the pricing methods between a lled transactions to t e1
ength Pricing, the BIR will adjust the contro

295
Chapter 9 - Regular Income Tax: Inclusion in Gross
Income
ffltf!
valu es using the mos t appr opri ate of the following
me th0 d considering the f~e
circu msta nce of the taxpayer: poW
II
1. Com para ble unco ntro lled price (CUP) meth od
- The trans actio n is valued i fi~e'
refer ence to the amo unt char ged in a com para ble unco
ntrol led trans actio n uncte~
com para ble circu msta nces . cros
This meth od work s best for stand ard tang ible good
s sold i? ~n open market. It
does not apply to prod ucts cont ainin g uniq ue
char acte nstic s such as those
pate nted prod ucts or those cont ainin g trade secre ts. 50Je5
sales
2. Resale price method (RPM ) - The trans actio n is
valu ed base d on the functions 1,ess:
perfo rmed by the resel ling party to the prod uct.
This is used when products Gros:
purc hase d from a relat ed party are resol d to an inde
pend ent party .
3. Cost plus method (CPM) - The trans actio n is Sales
meas ured by valu ing the function
perfo rmed by the supp lier of the prop erty or servi ces.
Sales
4. Profit split method (PSM) - The profi t or loss on Less:
the trans actio n is split based on
the division of profi ts ( or losse s) that inde pend Gros~
ent ente rpris es woul d have
expe cted to reali ze from enga ging in the trans actio n
or trans actio ns. Total
a. Residual profit split approach - Profi t is first alloc ated to
prov ide a basic return Appl)
appr opria te for the type of trans actio n the parti cipa nt
is enga ged in. shall ;
The resid ual profi t after such alloc ation is furth er alloc
ated amo ng the parties
based on an analy sis of how the resid ual woul d have
been divid ed between
inde pend ent parti es.
Safes ,
b. Contribution profit split approach - The comb ined profi Sales
ts from controlled
trans actio ns are divid ed betw een assoc iated ente rpris
es in a single stage Less: 1
based upon the parti es' relat ive cont ribut ion to the prof
?f the functions perfo rmed by each of the asso ciate d enteit rpris
or the relative value
es participating
Gross
m the contr olled trans actio ns.
5
· Tran~actiona~ net marg in meth od (TNMM) - This is simi
lar to the cost plus and
the I esale pnce meth ods in the sens e that it uses
the marg in approach by
refer ence to the oper ating profi t earn ed in comp arab le
unco ntrol led transactions.
When no comp arativ es can b d · d • .
BIR may cons1.der: e enve with m the indu stry of the sub1·ect taxpayer, the
a. Extension of the trans fer •.
anoth er indus try .
th0 ds usmg . fr n1
segm ent pncm g me comp arati ves deriv ed 0
b. Use a comb inatio n of th t f . .
e rans er pncm g meth ods or othe r meth ods

296
 . t r 9 ~ Regular Income Tax: Inclusion in Gross
· Income
C~p e

llfustrcition 1: With an a_dvanced prlc_lng a~r~emen_t .

The Crosby Manufactur ing Corporatio n . usudlly bill s It~ foreign bran ch at cost;

j !,
. .. .

iqt, :
~
f
~::\:s
ver, it entered mto an advanced pnctng agreement (A PA) with the BIR which
cross-borde r pricing to its fore ign bra nch at 1 SO% of cost ·

Crosby compiled the following costs and sales during the year:
, I

f . ·.
l, ::
·, l Philippin es Branch
t½;
I Sales through the branch (intra-comp any sales):
Sales P 7,000,000 P12,000,000
Less: cost of sales 7,000,000 7.000,000
Gross income P O
P 5,000.0 00
Sales to unassociated ·d omestic enterprises:
Sales P 3,000,000
Less: cost of sales 1,200,000
Gross income P 1.800,000
if ;
I Tot.al gross income P 5,300,000

fJ ) Applying the APA, the gross income earned from within and outside the Philippines
shall be computed as:

Within Outside Total

Sales through the branch (intra-comp any sales):
Sales *Pl0,500,0 00 P12,000,000 P12,000,000
Less: cost of sales 7,000,000 10.500,000 7,000,000
Gross income p 3.500,000 P 1,500,000 P 5,000,000

Sales to unassociated domestic enterprises:

Sales p 3,000,000 p 0 P 3,000,000
Less: cost of sales 1.200,000 0 l.Z00,000
Gross income p 1,800,000 .Lp_ _ _~0 P 1.S00,000
Total gross income p 5,300,000 P 1,500,000 P 6,B00,000

Note: Ph·t· . . d
I
· The _total inco~e on the P~Z,000,000 sales is
·
ihe
lit between the 1 1ppme gross mcome an
Philippine sales shall be measured as:
Id x lS0% = Pl0,500,000. The amount
foreign gross mcome usmg the APA rate.
P7,000,000 cost of goods transferred an: so ed cost of sales of the foreign branch.*
2 determined as Philippines sales shall be th e eem f ons with unrelated parties.
· The transfer pricing rule does not apply to transac 1

297
 .' ': ]_f'f;tJ~-~';•'~ '_
~;,;--,--~-
-, -'..,,1:-;-~ -'9 . n in Gross 1ncorne
-. - . . rax: 1nc1us10
uiar income
Chapter 9- ReQ
-•tic corporatl
·on - . ,
Crosby is taxable on global inc 0
· a domes since 111e
scenario 1: Crosby rs . 0 000 gross inco'.'1e ortant in the measuremen~ of the Pro~· .,,
Crosby shall report p6,8r~c\ng rule is only Jlllfrhe computation of the foreign tax trecti(
Note that the transfer p for purposes o
income from for eign sources . .
and the foreign . is not
operatwn
~~~~~~ Q
Scenario Z: Crosby is a d~~es 1ncorporated abroad . .
h but toreign subs1d1ary . The income of the foreign subsidiary , .
bronc O,, ross income. . . is ·
by shall report PS,300,0 00 g . . on-resident foreign corporation. Note the
ro . . 5 as 1t 1s a n
C
not StaXable in the Phihppme I . measuring the fair an d proper amount of the.
importance of the trans fer pricing
. h'rueThm profits on
the sa Ies o f Cros by t o t he foreign
reportable gross income from wit_ m. . e this rule.
affiliates could have escaped taxation without .
· thi·s scenario will be applied if Crosby is a resident foreign
The same procedures m
corporation. •• I

Illustration 2: Without an advanced pricing agreement

Hot Corporation, a foreign corporation, sells cosmetics products in the Philippines ·
through its branch. The Philippine branch filed an income. tax return reflecting the
following gross income:
Sales P 4,000,000
Less: Cost of goods sold 3,500,000
Gross income
P 500.000
Scenario 1: The BIR determined that H . .
of cost Meanwhile other c . ot Corporat,on is billing its branch at 200% '
product I"mes are billing
, ompet1tors
their Ph.,. of H0 t Corporation which offer s11nl O
. '/r ·
of 150% of cost , ippine independent distributors at an averane .

The gross income of th

be restated b e Hot Corporation f II
Y re-measuring the cost of goo~r purposes of Philippine income taJ' sha .
Cost of sales at 200% bill' s sold as follows:
Cost to the sellin a mg rate (i.e. 200o/c
Cost at arm' lenJt ~ (P3,S00,000/200 ~ )x Cost) p 3,500,000
pnce (150'¾ p o
Thus, th . ox 1,750,000) 1,750,000
e gross income of H 2,625 000
. ot Corp . '
Sales - oration shall b
Less: Cost ofgo.ods e restated as follows:
Gross income sold (arm's lenyth .
.. - . cost) p 4,000,000
Note: Hot Co 2
penalties that rporation Will be . ,62 5,000
may be due fro g~ven an as £ l ,375,000 ,:
_. . . mthis rest sessrnent b lit'
-_-.. . ,· · . · : aternent Y the BIR
for the incrementaI ta~ P

.._.:
298
 · 9 _Regular Income Tax: Inclusion in G
chapter ross Income

.10 z: Hot Corporation bills Its branch at t bJ··

sce,ior . es a •shed market prices
the transfer price of Hot Corporation refl e , . .
Sine~ d"ustment shall be made. cts arms length pn cmg, no transfer
pricing a1

tton of Transfer Pricing Method

selec . · · e the risks of transfer · · ct·
ro rn101miz . . pncmg a Justments, taxpayers may also
pncmg methods used by the BIR m . pncmg .
. . t heir
cons•·der using. the transfer
. .
transactions with associated enterprises. The taxpayer must support the propriety
ofthe method adopted through proper documentation.

PERIOD IN WHICH ITEMS OF GROSS INCOME ARE INCLUDED

The amount of all items of gross income shall be included in the gross income for
the taxable year in which received by the taxpayer, unless, under methods of
accounting permitted, any such amounts are to be properly accounted for as of a
different period.

299