GROSS INCOME General Rule: Allowances received by employee is

included in compensation income.

Definition  means all gains, profits, and income,
except income subject to final tax and exempt Exception:
income, derived during a taxable ear by a taxpayer 1. The allowance is a necessary and ordinary
from whatever source, whether legal or illegal, and expense of the employer  these are
in whatever form (money, property, or service). It incurred during the taxable year in carrying
includes but not limited to: on or which are directly attributable to the
development, management, operation
1. Compensation for services and/or conduct of the trade, business or
2. Gross income from trade, business or exercise of a profession.
profession
3. Gains from dealing in property 2. De minimis benefits
4. Interest 3. Allowance given in kind  means facilities
5. Rents or compliments given by the ER to EE for
6. Royalties the convenience of the employee.
7. Dividends (convenience of the employer rule)
8. Annuities 4. Non-taxable fringe benefits
9. Prizes and winnings 5. Fringe benefits since it is subjected to final
10. Pensions tax but only with respect to managerial and
11. Partner’s distributive share for the net supervisory employees.
income of GPP.
When income from compensation for services is
Keyword: CGG-RRD-A3P taxable:
 It is determination depends on the accounting
A. Compensation for services method, if:
 Renumeration for services performed by an a. Cash method  income for services is
employee for his employer under an EER unless taxable in the year it was received.
excepted under the provisions of the NIRC. b. Accrual method  this is when no
determination for compensation is had until
The compensations mean renumeration paid for the completion of services, the
services performed by an employee for his or her compensation is ordinarily taxable income
employer, whether paid in cash or in kind, unless for the taxable year of its determination.
specified by law.
Forms of compensation
The important thing to remember is that services Money The full amount is
were rendered and the payment must be made for subject to tax
such services. Something other than The fair market value
money of the thing is the
Supplementary income is included  overtime pay, amount subject to tax
hazard pay, etc. Rendered at a The price shall be
stipulated price presumed to be the
A-1 Allowances fair market value of the
All kinds of allowances (living, clothing) whether in compensation
cash or in kind and other fringe benefits are received.
includible as part of taxable gross income. Payment made in stock It is to be treated as if
of corporation the corporation sold its
stock for the market
 value and paid the Draw vs. Commission of payment
employee in cash. The A draw is a guaranteed compensation, which is
fair market value of the usually offered short term to provide new
stock is the income representatives income stability during the time
received. required to establish their territory; commission is
Payment made in living The rental value of the contingency remuneration directly based on sales
quarters in addition to quarters is the income success. Commissions are calculated; if they are
cash salary less than the agreed compensation, the draw is
Payment in meals The value of the meals activated to make up the difference.
Promissory notes or When received as
other evidences of payment for services Both are taxable.
indebtedness and not as security for
the payment of 2. Income from business or exercise of profession
compensation  the  These are gains, returns and revenue derived
amount is the fair from a trade or that of a commercial activity
market value of the regularly engaged as a means of livelihood or with
note at the time. view to profit.
Individual performing The income to that
services for a creditor, amount is that which is Two types of general businesses:
who cancels the debt realized by the debtor a. Incase of a manufacturing, merchandising,
as compensation for or mining business  gross income means
his services. (The value total sales less the cost of goods plus any
of the debt) income from investments and from
incidental or outside operations or sources.
But if the creditor b. Income from long-term contracts or selling
desires to benefit the of services  is taxable for the period in
creditor without any which the income is determined, and such
consideration thereof determination depending upon the nature
cancels the debt, the and terms of the particular contract. Long
amount of the debt is a term means contracts for a period in excess
gift and need not be of 1 year. Gross income derived from such
included in the contracts shall be reported upon the basis
debtor’s gross income. of percentage of completion or in the
Subjected to donor’s taxable year in which the contract is finally
tax. completed.
Director’s fee who is at If the fees are paid to
the same time an the director whose If the income is from farming  The method of
employee or officer of duties are confined to reporting the gross income depends on their
a corporation attendance of accounting method.
meetings of BOD, not
compensation income Cash basis Cash received from
because of the absence sale of farm products
of an EER. But it falls (cash sales)
under “… derived from
conduct of TBP…” Value of merchandise
received from sale of
livestock (barter)

Gross profit from sale

 of livestock or other (ex: merchandise inventory such as vehicle
items which were parts for manufacturing, finished goods,
purchased. (Sales – raw materials)
Cost of sales = Profit) 2. Property held by the taxpayer primarily for
sale to customers in the ordinary course of
Gains from sale of his trade or business (ex. Subdivision lots
work animals, breeding for sale by subd. Owner.)
animals or diary 3. Property used in the trade or business and
animals. subject to depreciation (office equipment)
Accrual basis An inventory is used to 4. Real property used in trade or business
determine profits. (land used in the business)
Crop basis The entire cost of
producing the crop Net gain shall be reported as part of ordinary gain
must be taken as as part of gross income and subject to regular
deduction in the year income tax (Sec. 32)
in which the gross
income from the crop B. Capital Gains  They are derived from the
is realized. sale, exchange or barter of capital assets.

3. Income from dealings in property
 The refers to income derived from sale,
exchange or barter of assets which results to a
gain. It is income from dealing in property, real or
personal, which is the excess of the selling price or
the market value of the property received in
exchange over the cost or other basis of the
property sold.
Capital assets – are those which are not used in
business. A reading of the law would show that
they are assets which are not connected with the
trade and business.
The definition under the law is negative in nature.
Thus, if the asset does not belong to the above
enumeration, it is a capital asset.

Types of gains: Taxability of capital gains: Generally, it is included

a. Ordinary gains
b. Capital gain
c. Actual gain
d. Presumed gain
e. Net capital gain
A. Ordinary gain  it includes any gain from
the sale or exchange of property which is
not a capital asset or property. It is derived
from ordinary assets.
Rule on taxability of ordinary gain: Ordinary gains
form part of the gross income.
Ordinary assets – are all the property held by a
taxpayer in connection with his trade and business.
Under Sec. 39, A, 1 these are:
1. Stock in trade of the taxpayer or other
properties of a kind which would be
included in the inventory of the taxpayer
in the gross income, except when it is excluded by
law and when it is subject to final tax.
c. Actual gain  determined by taking what
was received from the disposition of the
capital asset and subtracting the acquisition
cost or cost basis. This gain is then the tax
base upon which the capital gains is to be
imposed.
d. Presumed gain  usually a fixed value of
the capital asset irrespective of whether
there is an actual capital gain or a loss. It is
at a fixed value as determined by statute.
e. Net capital gain  the excess of the gains
from sales or changes assets over the losses
from such sales or changes.
*Guidelines to determine real property (Ordinary
or Capital) is on separate sheet*
 4. Interest income
 is only such interest as arises from
indebtedness, compensation for the use of money
or forbearance for its use. It matters not whether
the said interest is usurious or not.
Rule on taxability of interest income: It is taxable
and forms part of gross income.
Exception to the rule 
1. If excluded by law
2. if subject to final tax rate.
 Those subject to 20% Final Tax Rate are any
currency bank deposit and yield or any other
monetary benefit from deposit substitutes and
from trust funds and similar arrangements. They
must be derived from sources within the
Philippines earned either by individual citizen,
resident alien.
The following are tax exempt:
 Those interest income received from depositary
banks under the Expanded Foreign Currency
Deposit System are either subjected to final tax or
are tax exempt (those received by NRI or NRC.
 Long term deposits with a maturity period of not
less than 5 years. If they are terminated before the
5-year period, they shall be subjected to a
graduated rate.
 Income earned by members of cooperative. (In a
case, it was held that deposit with cooperatives are
not currency bank deposits nor deposit
substitutes.)
Case on syllabus: CIR vs. Filinvest, 2011
 Theoretical Interest was not allowed because
there must be proof of the actual or, at the very
least, probable receipt or realization by the
controlled taxpayer of the item of gross income
sought to be distributed, apportioned or allocated
by the CIR. Moreover, the absence of stipulation as
to interest was discussed, the court applied the
provisions of the civil code that the rule “no interest
shall be due unless expressly stipulated in writing”.
5. Rental Income
 It is the amount paid for the use of the property,
whether real or personal.
Any additional amount paid directly or indirectly by
the lessee in consideration for the lease is
considered rental.
RR no. 2, (Idk what year) taxes paid by the lessee
on leased property are part of the rental income of
the landlord.
As to leasehold improvements  A lease contract
may provide that a certain improvement can be
made on the leased property and the said property
will be acquired by the lessor at the end of the
lease. In such a case, it is necessary to discuss the
method of recognition of income:
a. Outright method – fair market value of the
improvement at the time of the completion.
b. Spread out method – lessor spreads over
the life of the lease the estimated value and
reports as income for each year of the lease
an aliquot part thereof.
As to prepaid rent  These are rents paid in
advance. They are considered as claim of right and
are without restrictions as to use, thus they are
treated as income.
As to Security deposit  They are paid to answer
for the unpaid rents and other charges such as
damages to the rented property thus they are not
considered income. They can be considered as
income only when there are violations in the
contract and their value is then realized thus they
become income.
When lease contract is terminated  the lessor
comes into possession before the termination of
the lease contract, aside from the reason of
purchase by lessee from lessor, the lessor receives
additional income for the year in which the lease is
so terminated to the extent that the value of the
improvement made when it came to his possession
exceeds the amount already reported as income on
account of the erection of such building. Thus, it
will be added as income in the year in which the
lease was prematurely terminated.
When the improvement made was destroyed
before lease expires  the lessor is entitled to
deduct as loss for the year in when such
destruction takes place, the amount previously
reported as income because of the erection of the
improvement less any salvage value subject of the
lease to the extent that such loss was not
compensated for by insurance.
Where a corporation leased its properties and in
lieu of rental, an amount equivalent to a certain
rate of dividend on the lessor corporations  Such
payment by lessee shall be returned by lessor corp
as income notwithstanding that such is paid by the
lessee directly to the stockholders or bondholders
of the lessor.
6. Royalty income
 Compensation for the use of intellectual
property and supply technical know-how as a
means of enabling the application or enjoyment of
any such property or right.
Royalties must be domestically earned passive
income. Two categories are:
1. Active royalties – those not technically
considered as passive income and as such
forms part of the gross income.
2. Passive royalties – those which is
contemplated to be for the payment of the
use or enjoyment or right over an article
which is covered by a final tax.
Service fees are paid for the maintenance of the
article is not subject to final tax but forms part of
the gross income as it is not considered as royalty.
Taxability on passive royalties (final tax)
General Rule on individuals and corporations: 20%
final tax on the tax base amount of the royalties.
Exception for individuals only: Books, literary works
and musical compositions (tax rate here is 10%
only)
7. Dividends
 these refers to any distribution made by a
corporation to its shareholders out of its earnings
or profits and payable to stockholders, whether in
money or in other properties.
Rule on taxability of dividends: Generally, taxable
as part of gross income.
Exception: Stipulated by law or when subject to
final tax.
Types of Dividends
1.) Cash dividends  one where money is
distributed to the stockholders as share in
corporate profits.
Taxability: Taxable as gross income
2.) Property dividend  dividend payable in
something of economic value other than
money or shares of stocks of the
corporation
Taxability: Taxable as gross income
3.) Stock dividend  dividend payable in
reserved or increased or additional stock of
the issuing corporation.
Taxability: Generally, not taxable as gross income
because they represent transfer of surplus to
capital thus not subject to tax.
Exception: It is taxable in cases of
cancellation or redemption stock. However, there
must be a redemption or cancellation which
involves a stock dividend and the time and manner
makes it essentially equivalent to a distribution of
taxable dividends. In such case, it is not the stock
dividends itself which is taxable but the proceeds
of such redemption.
Case under the syllabus: CIR vs. CA and A Soriano
Corp
 it is necessary to determine the net effect of the
transaction between the shareholder-income
taxpayer and the acquiring corporation. The test of
taxability under the exempting clause, when it
provides "such time and manner" as would make
the redemption "essentially equivalent to the
distribution of a taxable dividend", is whether the
redemption resulted into a flow of wealth. If no
wealth is realized from the redemption, there may
not be a dividend equivalence treatment. In the
metaphor of Eisner v. Macomber, income is not
deemed "realize" until the fruit has fallen or been
plucked from the tree.
CIR vs. Manning (1975)
 A stock dividend constitutes income if it gives
the shareholder an interest different from that
which his former stockholdings represent. On the
other hand, it does not constitute income if the new
shares confer no different right or interest than did
the other shares.
4.) Liquidating dividend  Dividend paid to the
stockholders in proportion to their
investments after all the assets of the
corporation, after deducting its assets and
liabilities, are converted into cash or
equivalents.
Taxability: Generally, not taxable as it is a return of
capital. It is taxable when there is a gain realized
from the liquidation such as when the value of the
dividend exceeds the value of the investment.
Case under the syllabus: Wise and CO vs. Meer
 If the distribution is in the nature of a recurring
return on stock it is an ordinary dividend. However,
if the corporation is really winding up its business
or recapitalizing and narrowing its activities, the
distribution may properly be treated as in complete
or partial liquidation and as payment by the
corporation to the stockholder for his stock. The
corporation is, in the latter instances, wiping out all
parts of the stockholders' interest in the company.
Amounts distributed in the liquidation of a
corporation shall be treated as payments in
exchange for the stock or share, and any gain or
profit realized thereby shall be taxed to the
distributee as other gains or profits.
8. Prizes and winnings
 Prizes are those which are won because of skill
or in a competition while Winnings are those
proceeds by chance.
Requisites for prizes and winnings to be subject to
final tax:
a. The prize must be derived from sources
within the PH.
b. The prize exceeds 10,000 pesos from lotto
or others.
c. The winner is a natural person, either
resident or alien.
As to prizes  Generally, taxable as gross income
Exception is when it is subjected to final tax or
when exempted by law.
Prizes that are tax exempt:
a. Prizes and awards made primarily in
recognition of religious, charitable,
scientific, educational, etc. achievement.
( but only if the recipient was selected
without any action on his part to enter the
contest and he is not required to render
substantial future services in the future are
a condition for the prize)
b. Prizes and awards in sports competitions
whether national or international as long as
sanctioned by their national sports
associations.
As to winnings  General rule, part of gross
income. Exception is when it is subject to final tax
or is tax exempt.
Winnings that are tax exempt:
1. 10,000 or less winning in lotto.
2. NRAETB’s winning from lotto are tax
exempt regardless of amount.
NOTE:
 If the prize or winning is made in sources
without the PH  Part of gross income.
 If prize or winning is made in sources within
the PH  take note of the 10,000 limits. If it
exceeds 10,000 then the excess is subject to
20% final tax. (thus not part of gross income
kay subject to final tax man)
9. Pensions, Annuities and Life Insurance
 Generally, it is part of the gross income.
As to pensions  They are taxable because they
are in the nature of payment for the services
rendered. They are not taxable only upon
compliance with the requisites for exclusions.
As to annuities  this periodic payment there is a
fund set up and such funds earn or generates
income in the form of annuities. They are taxable in
the hands of the beneficiaries.
As to life insurance  The proceeds of the life
insurance policies paid to the heirs upon the death
of the insured are deemed excluded, but if the
amounts are held by the insurer under an
agreement to pay an interest, the interest
payments thereon shall be included in the gross
income.
10. Share in the GPP income
 a GPP shall not be liable for income tax. The
members of the GPP shall be liable for income tax
only in their separate and individual capacities.
(Iyang bahin sa partnership and iyang I report as
gross income from the distributive share received
from the net income of the partnership.
not receive a “tax benefit” for the loss in a
prior year.
c. Excess/unutilized campaign funds - shall be
considered as subject to income tax, and as
such, must be included in the candidate’s
taxable income in the income tax return
filed for the subject taxable year. Unless, it
is claimed as deduction by the candidate or
political party.
d. Subsidies – considered as income and
subject to income tax.
e. Condoned or cancelled debt – if the
discharge is made without consideration, it
is not part of the gross income but may be
subjected to donor’s tax or gift tax.
Otherwise, if made with consideration,
forms part of gross income.

11. Others
a. Tax Refund  part of gross income but only
to the extent of the income tax benefit
which was derived therefrom.
b. Bad debts recovered  it is the payment of
debts already written off and considered
uncollectible. A debt considered written off
would generate loss, thus bad debt
recovery would produce income. Payment
made after debt is considered written of is
considered as income in the year the
recovery was made.

tax benefit rule - Recovery of bad debts

previously allowed as deduction in the
preceding years shall be included as part of
the gross income in the year of recovery to
the extent of the income tax benefit of said
deduction.

A taxpayer need not include in his gross

income (and therefore need not pay tax on
it) amounts recovered for his loss if he did
 EXCLUSIONS FROM GROSS INCOME
Exclusion refers to income received or earned but
is not taxable as income because it is exempted by
law or by treaty.
As compared to reductions by the application of
allowable deductions, the exclusion is simply not
taken into account in determining the gross
income, deduction are subtracted from gross
income to arrive at net income.
Exclusions under the Tax Code:
1. Life Insurance
2. Amount received by insured as return or
premiums
3. Gifts, bequests and devises
4. Compensation for injuries or sickness
5. Income exempt under treaty
6. Retirement benefits, pensions, gratuities,
etc.
7. Miscellaneous items
a. Income derived by foreign government
b. Income derived by foreign government
or its political subdivisions
c. Prizes and awards
d. Prizes and awards in sports competition
e. 13th month pay and other benefits.
Basis and rationale for the law  The definition of
gross income is broad enough to include all passive
incomes subject to specific rates or final taxes.
However, since these passive incomes are already
subject to different rates and taxed finally at
source, they are no longer included in the
computation of gross income, which determines
taxable income.
Construction and interpretation of exclusions 
the primary rule of construction is to ascertain and
give effect to the intent.
No. 1-4 are not considered as incomes.
No. 5-7 are tax exempt and
No. 8 is already subjected to final tax.
Excluded items:
1. Proceeds of life insurance 
General Rule: proceeds paid to heirs or
beneficiaries upon the death of the insured shall be
excluded from gross income computation.
Exception: When there is an agreement to pay
interest on the amount held by the insurer, the
interest payment shall be included in the gross
income.
Reason for the rule: The proceeds are considered
as indemnity than as gain or profit. The contract of
insurance is a contract of indemnity.
2. Amounts received as return of premium 
It is a type of life insurance policy that returns the
premiums paid for coverage if the insured party
survives the policy's term, or includes a portion of
the premiums paid to the beneficiary upon the
death of the insured.
If however such amounts exceed the aggregate
periods paid then the excess shall be included in
the gross income.
Take note that the excess of the premium shall be
part of the gross income computation.
Reason for the rule: They are not income but are
return of capital.
In case of transfer for valuable consideration: only
the actual value of such consideration and the
amount of the premiums and the sums
subsequently paid by the transferee are exempt
from taxation. (Ex. The life insurance is transferred
for a consideration)
As to the “Key man life insurance”: Key man
insurance is simply life insurance on the key person
in a business. In a small business, this is usually the
owner, the founders or perhaps a key employee or
two. These are the people who are crucial to a
business; the ones whose absence would sink the
company. Only deductible if considered to be part
of the employee’s taxable income

3. Gifts, bequests, devises 
General rule: the property acquired by gift, devise,
bequest is excluded.
Exception: The income from such property
donated, devised or bequeathed shall be part of
the gross income.
Note that the property acquired here is subject to
donor’s tax or estate tax. But the reason for the
exclusion is that they are not income.
4. Compensation for injuries and sickness 
Items of compensation:
a. Thru accident or health insurance – because
expressly provided by law.
b. Compensation paid out of Workmen’s
Compensation Act – ER shall be required to
compensate for work related injuries.
c. Damages received by suit or agreement or
account of such injury or sickness – the
damages here may be Actual, Moral,
Nominal, Temperate or Liquidated damages
(AMNTL)
As to loss of expected profits –
taxable.
5. Income exempt under treaty 
This type of exclusion proceeds from international
comity.
Examples:
a. Salaries of officials of the UN assigned in the
PH if such are paid by the UN and certified
by the Secretary General of the UN (BIR
Ruling 1-30-62)
b. Citizens of the USA working in consular
offices are tax exempt (Consular Convention
betw. PH and US)
c. Salaries of diplomatic officials and agents
are exempt from income tax (BIR ruling 26-
99)
6. Retirement benefits, pensions, gratuities,
etc 
The following are not included in the computation
of gross income as they are exempt:
a. Retirement benefits under RA 7541 and
those received by officials and employees of
private firms whether individual or
corporate, in accordance with the
reasonable private benefit plan.
b. Amount received by reason of separation
from service because of death, sickness,
disability. and others beyond the control of
the employee or official
c. Social security benefits, retirement
gratuities, pension, and other similar
benefits, received by a resident or non-
resident pnoy or alien from a foreign
government
d. Payment of benefits due or to become due
to any person residing in the PH under the
laws of the USA administered by the United
states veteran’s administration.
e. Payment benefits from or enjoyed under
the SSS
f. Benefits received from GSIS
g. Employees contribution together with
earnings thereof returned to the employee
if for any reason their retirement plan is
terminated.
h. Employees’ trust fund which forms part of a
pension, stock bonus or profit sharing plan
of the employer for the benefit of some or
all of his employees.
Reasonable private benefit plan  means a
pension, gratuity, stock bonus or profit sharing plan
maintained by an employer for the benefit of some
or all of his officials and employees, wherein
contributions are made by such employer or
officials and employees, or both, for the purpose of
distributing to such officials and employees the
earnings and principal of the fund thus
accumulated, and wherein it is provided in said
plan that at no time shall any part of the corpus or
income of the fund be used for, or be diverted to,
any purpose other than for the exclusive benefit of
the said officials and employees.
A. Retirement benefit under RA 7541 
Minimum requirement in order that the
retirement benefit can be given:
1. Retiring has been in continuous service
for at least 10 years.
 2. He is at the age of 50 years old at the
time of retirement.
3. Suh benefit be availed of only once.
4. There is a qualified funding source.
The retirement plan of the company may however
provide that the normal retirement date or early
optional retirement date be more than what was
required by the tax code. In case of conflict
between tax code and such rules and regulations, it
is the latter which will prevail.
B. Separation fee by reason of death,
sickness, or disability or other beyond the
control of the employee
Two conditions necessary for this to apply: (BIR
RUL.)
1. The employee is separated from service by
reason of death, sickness, or other physical
disability or for cause beyond the control of
the employee.
2. The employer pays benefits to the official or
employee or heir as consequence of
separation.
BIR Ruling no. 143-98: This includes a coterminous
employee who lost their employment on account
of the expiration of the term of office of the
appointing authority. This is embraced within the
term “any cause beyond the control …”
General rule with regard to Separation Pay: It is a
compensation income and forms part of the gross
income.
Exception: If it was received by an official,
employee or by his heir from the employer as
consequence of separation by reason of D-S-PD-
Any other cause beyond the control of the
employee such as Retrenchment, Redundancy and
Cessation of business (RR 2-92)
 Note that it must be “Beyond the control of the
employee” so if he resigned by reason of DSPDA,
then his separation pay shall be included in the
computation of the Gross Income. Likewise is
separation from service by reason of illegal
termination. (If for a legal termination, then it
becomes voluntary on the part of the employee)
Involuntariness must be present.
Rule with Terminal Leave Pay  it is the
commutation of leave credits, not part of the gross
salary or income of official but a retirement benefit,
is not subject to income tax and withholding tax.
C. Pensions, and Gratuities from foreign
government.  no need to comply with
the 10 year service requirement.
D. SSS Benefits  The following are excluded
from gross income:
a. Monthly pensions
b. Dependent’s pension
c. Retirement benefits
d. Death benefits
e. Permanent disability benefit
E. GSIS benefits  The following are excluded
from gross income:
a. Basic monthly pension
b. Separation benefits
c. Unemployment or involuntary separation
benefits
d. Permanent disability benefit
e. Retirement benefit
7. Miscellaneous Items  They are exempt
from taxation.
a. Income from foreign government – the
reason for the rule is international
reciprocity and comity. They include income
from investment in the PH in loans, stocks,
bonds or other domestic securities, or
interest on deposit in banks in the PH by
foreign government, financing institutions
OWE refinancing from foreign government
and international or regional financing
institutions established by foreign
government.
Foreign government includes agencies.
The interest on such loan constitutes income of a
foreign government from its investments in
domestic securities. Such being the case, the said
interest is exempt from PH income tax (BIR Ruling
529-1959)
Case under syllabus: CIR vs. Mitsubishi Metal Corp:

The signatories on the loans and sales contract
were Mitsubishi and Atlas, nowhere in the contract
can it be inferred that Mitsubishi acted for and
behalf of Eximbank of Japan nor of any entity,
private or public, for that matter. When Mitsubishi
obtained the loan of USD 20M from Eximbank of
Japan said amount ceased to be the property of the
bank and become property of Mitsubishi.
Mitsubishi and not Eximbank is the sole creditor of
Atlas, the former being the owner of the USD 20M
upon completion of its loan contract with Eximbank
of Japan. The interest income of the loan paid by
Atlas to Mitsubishi is therefore entirely different
from the interest income paid by Mitsubishi to
Eximbank of Japan. What was the subject of the
15% withholding tax is not the interest income paid
by Mitsubishi to Eximbank, but the interest income
earned by Mitsubishi from the loan to Atlas.
When Mitsubishi secured the loan, it was in its own
independent capacity as a private entity and not as
a conduit of the consortium of Japanese banks or
the Eximbank of Japan. While loans were secured
by Mitsubishi primarily “as a loan to and in
consideration for importing copper concentrates
from Atlas, the fact remains that it was a loan by
Eximbank of Japan to Mitsubishi and not to Atlas.
Income derived by Government or Political
Subdivisions  based on the principle that the
government cannot tax itself.
It applies to income derived from any public utility
or from the exercise of any essential governmental
function accruing to the Government of the PH or
to any political subdivision.
Coverage of the exclusion:
a. Public utility – supply to the public a
commodity or service of public
consequence.
b. Exercise of any essential governmental
function by the gov’t or its political
subdivision.
Prizes and awards  Refer to past discussion na
lang.
General rule: Part of gross income.
Exception: Refer to past discussion
13th month pay and other benefits  This
exclusion applies to 13th month pay and other
benefits received by public and private entities
which shall cover:
1. Christmas bonus and cash gift of 5,000 to
the employees of the National government.
2. Rank and file employees entitled to 13th
month pay who worked at least 1 month
during the calendar year.
3. Those not covered by PD 851
4. Other benefits such as productivity
incentives and Christmas bonuses.
GSIS, SSS, Philhealth and other contributions 
the contributions made as well as union dues.
Only mandatory contributions are deemed
excluded from gross income. Thus, voluntary
contributions to these institutions that are in
excess of the amount considered as compulsory
rate are not excluded from the gross income and
thus are not exempt from taxation (RMC 53-2011)
Gains from sale of bonds, debentures or other
certificate of indebtedness  these refers to gains
and not interest, realized from the sail or exchange
of bonds, debentures, or other certificate of
indebtedness with a maturity of more than 5 years.
Gains from redemption of shares in mutual
fund these are gains realized by the investor
upon redemption shares of stock in a mutual fund
company.
Note: Gains mean an increase in the value of an
asset or property. A gain arises if the selling price of
the asset is higher than the original purchase price.
*Fringe benefits tax and De minimis benefit on
separate sheet*
DEDUCTIONS FROM GROSS INCOME
Deductions – are items or amount which the law
allows to be deducted from the gross income of a
taxpayer in order to arrive at a taxable income.
Nature and construction of deductions  the items
claimed as deductions represent the expenses of
the taxpayer in earning the income subject tot ax
as well as reasonable living expenses. As it partakes
the nature of a tax exemption, it must be strictly
construed against the taxpayer and cannot be
allowed unless granted in the most explicit and
categorial language too plain to be mistaken.
Deduction vs. Exclusion
 Deduction is something the taxpayer has spent
and that there is an outlay. Exclusion is income due
received by the taxpayer but due to provisions of
law shall not be included in determining the gross
income.
Deduction vs. Tax credit
 They are expenses made by the taxpayer and
are subtracted from the gross income. Tax credit
are deductions on tax liabilities and subtracted
from the total tax liabilities.
Deduction vs. Exemption
 Deduction is something that the taxpayer has
spent in order to earn income and therefore
deductible from the gross income. Exemption is a
legislative act of grace where a particular individual
or item is not taxed.
Time for availing the deductions: During the
taxable year. As a rule, if he does not within any
year deduct the items, he cannot deduct them
from the income of the next year or any succeeding
year.
Kinds of deductions:
1. Itemized deductions
2. Optional standard deduction
3. Special deductions
Additional requirements for deductibility of
certain payments  If it is shown that the tax
required to be deducted and withheld therefrom
has been paid to the BIR (sec 34-j, NIRC) So para
maka claim kag deductions, needed nga mag
perform sa iyang task and withholding agent.
Taxpayers entitled to avail of deductions:
1. Citizens of the PH
2. Resident Aliens
3. Nonresident aliens engaged in TB in the PH
4. Domestic corporations
5. Resident foreign corporation engage in TB
in PH
6. Taxable co-partnership and GPPs
7. Estate and trusts
Taxpayers not entitled to deductions:
1. Nonresident alien not engaged in TB in PH
2. Nonresident foreign corporation not
engaged in TB in PH (This is because they
are taxed on their gross income received
from sources within the PH)
3. Purely compensation earners (Sec 34, NIRC)
General requisites of deductibility:
1. The deductions must be paid or incurred in
connection to the taxpayer’s trade,
business or exercise of profession.
2. The deductions must be incurred or paid
during the taxable year.
3. The deductions must be supported by
adequate receipts or invoices.
4. Deductions must not be contrary to law,
morals, public policy or good customs.
5. If the deductible expense is subject to
withholding tax, then such tax must be
withheld and paid to the BIR.
“Matching principle “ the deduction must as a
general rule “match” the income or meaning that it
must have helped to earn the income.
CIR vs. Isabela Cultural Corp  The
expenses are to be reported in the same period
that the related revenues are earned. It attempts to
match revenue with the expenses that helped earn
it. Otherwise, it can no longer be deducted in the
next year.
Substantiation requirement – substantiate the
claim with sufficient evidence such as official
receipts or adequate records.
Itemized deductions
1. Expenses
2. Interest
3. Taxes
4. Losses
5. Bad debts
6. Depreciation
7. Depletion
8. Charitable and other contributions
9. Research and development
10. Pension trusts
EXPENSES  Under expenses, there are two.
a. Ordinary and necessary trade, business or
professional expenses
b. Expenses allowable to private educational
institutions.
Business expenses – they are the ordinary or
necessary expense 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 taxpayer’s trade,
business or exercise of profession.
Requisites for deductibility:
1. They shall be ordinary and necessary
2. They are of reasonable amount
3. They are paid or incurred during the taxable
year
4. They are supported by adequate proof
5. Not contrary to law, morals, public policy or
public order
6. Must be withheld and paid to the BIR if
subject to withholding tax.
“Ordinary and necessary expense”
 expenses that are directly connected with and
approximately resulting from carrying on the
business and must be shown to be appropriate and
helpful in the development of the taxpayer’s
business for the acquisition or pursuit of income or
profit.
These refer to expenses that are commonly
incurred in the trade or business of the taxpayer.
Ordinary means normal, usual or customary.
An expense is necessary when the expenditure is
appropriate and helpful in the development of the
taxpayer’s business.
An expense is ordinary when it connotes payment
which is normal in relation to the business of the
taxpayer and the surrounding circumstances.
- note here that if the expense will benefit
not only the current year but also the succeeding
taxable years, they could not be claimed as
deductions since they are no longer ordinary. (The
taxpayer can apportion it or amortize the amount
and claim it as deduction but not outright under
this article – Claimable as Depreciation under Sec.
34-F)
Business or Statutory test  For an item to be
deductible as a business expense, the expense
must be ordinary and necessary; it must be paid or
incurred within the taxable year; and it must be
paid or incurred in carrying on a trade or business.
In addition, the taxpayer must substantially prove
by evidence or records the deductions claimed
under law, otherwise, the same will be disallowed.
Capital expenditure Ordinary expenditure
An expenditure that Are recurring costs
entails a large amount from time to tome
of expense that will within the taxable year
benefit the current the taxpayer must have
period but at the same to spend for and that it
time benefit future would benefit the
periods. current taxable year.
Like ongoing
They represent major operational expenses.
capital of investment
that one makes or
maintain to expand the
business or to generate
additional profits.
Cannot be claimed as Can be allowed as
deductions but can deduction.
 later be claimed under
depreciation expenses
or amortization
expense.
Substantiation requirement:
 No deduction is allowed unless the taxpayer
shall substantiate with sufficient evidence such as
official receipts and other adequate records the
amount of the expense being deducted and the
direct connection or relation of the expense being
deducted to the development, management,
operation or conduct of the TBP of the taxpayer.
Primary purpose test
 Woodward vs. Commissioner 1970: The
contention that current deductibility is justified on
the ground that the "primary purpose" of the
litigation was not for defense or perfection of title
(a nondeductible capital expenditure) but to
determine the stock's value was not sustained
because defending title to ownership should be
treated as a capital expense.
 any lawsuit brought against a taxpayer may
affect his title to property -- money or other assets
subject to lien. The courts, not believing that
Congress meant all litigation expenses to be
capitalized, have created the rule that such
expenses are capital in nature only where the
taxpayer's "primary purpose" in incurring them is
to defend or perfect title.
Origin of Claim Doctrine
 the controlling test of whether an expense is
“business” or “personal” is to consider the origin
and character of the claim with respect to which an
expense was incurred, rather than its potential
consequences upon the fortunes of the taxpayer.
It is the examination of the origin and character of
the claim with respect to which a settlement is
made, rather than the estimation of the potential
consequences of the claim upon the business
operations of the taxpayer, is the controlling test in
determining whether a settlement payment
constitutes a deductible business expense or a
nondeductible capital outlay.
Under the origin of the claim test, the character of
a particular expenditure is determined by the
transaction or activity from which the taxable event
proximately resulted. The purpose, consequence,
or result of the expenditure is irrelevant in
determining the origin of the claim, and therefore,
the character of the litigation cost for tax purposes.
Cohan’s Rule
 It allows taxpayers to deduct expenses for
business even if they do not have the receipts to
document them. The ruling says that the expenses
must be reasonable and credible. This rule can be
deemed as an exception to the Substantiation
requirement.
Expenses under the term Ordinary and Necessary
expenses:
1. A reasonable allowance for salaries,
wages, and other forms of compensation
for personal services.
2. Reasonable allowance for travel expenses,
here and abroad
3. Reasonable allowance for rentals
4. Reasonable allowance for entertainment,
amusement, and recreation expense.
Salaries, Wages, other forms of compensation 
This includes the gumv.
Requirements for deductibility:
1. The recipient rendered services that are
ordinary and necessary to the business.
2. The aggregate renumeration paid is
reasonable or more or less
commensurate to the services rendered.
Travel and transportation expenses 
Additional requirements for deductibility:
1. Expense is reasonable
2. Incurred away from home
3. Paid for in the conduct of the business
4. Substantiated by receipts.
Entertainment, Amusement, Recreation Expense 
It shall include representation expenses and or
depreciation or rental expense to entertainment
facilities.
Requisites for deductability:
1. Incurred during the taxable year
2. Reasonable in amount
3. Not constitute a bribe
4. Substantiated
5. Appropriate withholding tax is withheld
6. Made connected to the business
7. Must not exceed the ceiling
Ceiling on the EAR Expense  the amount
equivalent to the actual Ear expense within the
taxable year by the taxpayer but in no case exceed:
Selling goods: 12% of 1% of total net sales
Sale of services: 1% of net revenue
If both: apportionment formula? (Idk)
Advertising expense: Two types:
1. Advertisement to boost current sales 
business expenditure. Ordinary and
necessary expenditure.
2. Advertisement to boost future sales 
Capital expenditure since it is said to be an
investment on the good will of the company
Cost of materials and supplies  2 methods of
deduction:
a. Actual consumption method – method is
applicable when the taxpayer keeps a
record of consumption of materials at the
beginning and end of the year. He should
include as expenses the cost of materials
and supplies actually consumed and used
during the year.
b. Direct purchase method – if taxpayer
carries incidental materials or supplies on
hand which no record of consumption is
kept or of which no physical inventories are
taken, it is permissible for him to include in
his expenses and deduct from gross income,
the total of such supplies and materials
purchased during the year, provided the net
income is reflected.
Expenses for repairs 
When repair is ordinary and necessary: If such
repair is made to keep the property used in the
trade or business in an ordinarily efficient operating
condition. They do not add to the value of the
property nor appreciably prolong its life.
When repair is a capital expenditure: the repairs
are in the nature of replacement to the extent that
they arrest deterioration and prolong the life of the
property.
Rentals  Generally deductible when payment is
made for the use of property by the lessee for its trade
or business.
When leasehold is for a specific sum – the purchaser
make take as deduction an aliquot part of the sum of
each year based on the number of years the lease has
to run.
Taxes paid by lessee – considered as additional rent and
as such, constitute deductible item to the tenant and
taxable to the landlord.
Repairs and improvements made by lessee – capital
investment.
Additional requirement for deductability:
1. Must be ordinary and necessary
expense
2. Incurred during the taxable year
3. Related to the TBP
4. Substantiated by receipts
5. Rentals subject to 5% withholding tax.
Note: If it is a “rent to own” then it is no longer a
business expense but a capital expenditure.
(Financing lease) IF operating lease, it is a ordinary
and necessary expense.
“Private Educational Institutions”
 In addition to the expenses allowable under this
chapter, a private educational institution may elect
either:
1. Deduct expenditures considered as capital
outlays of depreciable assets – deduct it
outright
2. Deduct allowance for depreciation – spread
it our evenly until the useful life of such
depreciable asset.
Note: IF it is an expansion of school facilities is
claimed as deduction, no further claim for yearly
depreciation of the school facilities are allowed
(BIR Ruling 046-1984)
INTEREST  The general rule is that any amount of
interest paid or incurred during the taxable year on
indebtedness in connection with the taxpayer’s TBP
may be deducted from gross income.
Only interest on business debts are deductible,
thus personal loans are not allowed.
Requisites for deductability:
1. Connected with trade or business
2. Paid during the taxable year
3. Debt is that of the taxpayer
4. Interest is stipulated in writing
5. The interest is legally due
6. The debt must not be within related
taxpayers
7. Debt must not be for financing petroleum
operations
8. Incase debt was incurred to procure a
depreciable asset.
Case under syllabus: Kuenzle vs. CIR:
 interest paid by corporation on unpaid salaries
and bonuses of non-resident officers are not
deductible from gross income since it did not
appear that the interest has been contracted by the
corporation for use or forbearance of the unpaid
salaries which were merely not paid or claimed at
the time they were placed at the disposal of the
recipients.
Sambrano vs. CTA
 Interest on unpaid taxes for tax delinquency is
deductible although taxes are not considered as
debts because it is well settled that taxes constitute
indebtedness for purpose of deduction of gross
income of the amount of interest paid on
indebtedness.
CIR vs. Vda de Prieto
 Interest paid on account of delinquency in the
payment of taxes is deductible because a tax
obligation is considered an indebtedness to the
government.
Rule under the Civil Code  no interest shall be
due unless it has been in expressly stipulated in
writing. Hence if interest is paid but not stipulated
in writing, it is not deductible.
Tax arbitrage rule
It is a rule wherein the taxpayer borrows money
and uses it to invest in securities or some forms of
investment wherein it will earn interest income.
The interest expense for the borrowing cannot be
deducted at 100% rather it shall be subject to the
deduction of 33%.
Requisites for application:
1. Taxpayer has interest expense deductible
under the NIRC
2. Taxpayer also has interest income
3. The interest income is subject to final tax.
It does not apply in interest expense paid due to
delinquent taxes.
Related taxpayers:
1. Between members of the family (include
only brother and sister, spouse, ancestor
and lineal descendants)
2. Between an individual and corporation
more than 50% value of outstanding stock is
owned directly or indirectly by such
individual.
3. Between two corporations more than 50%
of the value of outstanding stock of which is
owned by the same individual if either one
of such corporation is a personal holding
company or a foreign personal holding
company.
4. Between grantor and fiduciary of any trust
5. Between fiduciary of and the fiduciary of a
trust and the fiduciary of another trust if
the same grantor with respect to each trust.
6. Between fiduciary and beneficiary of a trust.
- In this case, interest expense is not deductible.
Interest incurred to acquire property used in TBP
 may be allowed as deduction in full as such in
the year incurred treated as capital expenditure on
depreciable assets for which the taxpayer may
claim only as a deduction the periodic amortization
of such expenditure.
MINIMUM WAGE EARNER  Refers to a worker in
the private sector paid the statutory minimum
wage or to an employee in the public sector with
compensation income of not more than the
statutory minimum wage in the non-agricultural
sector where he/she is assigned.
They are exempt from payment of income tax on
their taxable income. Holiday pay, overtime pay,
night shift differentials and hazard pay received by
them are likewise exempt from taxation. (BHONH)
Soriano vs. Secretary 
The law imposes taxes on the taxable income on
the excess of the minimum wage but MWE do not
lose their exemption as such. The receipt of any
other income aside from their BHONH does not
disqualify them from being a MWE. They remain as
MWE but the taxable income they receive other
than MWE may be subjected to appropriate taxes.
MARRIED SPOUSES  their taxes are computed
separately based on total respective taxable
income but income not attributable to either of the
spouses shall be divided among them equally.
OPTIONAL 8% ON GROSS SALES/RECEIPTS AND
OTHER NON-OPERATING INCOME  this applies
to self-employed individuals and professionals and
mixed income earners. They have an option to avail
of 8% tax on gross sales or gross receipt and other
nonoperating income in excess of the 250,000
pesos graduated income tax.
CAPITAL GAINS TAX
Capital Gain – are gains derived from the sale,
exchange or barter of capital assets. (assets that
are not connected with the taxpayer’s trade or
business)
Types of properties sold or traded in relation to
CGT:
1. Stocks (domestic corporation)
2. Real Properties
3. Others
STOCKS  Shares of stocks in the hands of any
taxpayer are capital assets with the exception of
those held by dealers in securities (stock dealers
because in this case, the stocks are treated as
ordinary assets)
Stocks not traded thru local stock exchange
Capital gains realized from sale, exchange or bater
of stocks in domestic corporations not traded thru
the local stock exchange shall be subjected to a
15% final tax rate imposed on the net capital gains
realized during the SEB of shares of stocks.
Stocks traded thru local stock exchange  a
percentage stock transaction tax of 6/10 of 1%
shall be imposed on the gross selling price or gross
value in money of the share of stocks SET thru local
stock exchange.
REAL PROPERTIES  These are real properties
within the meaning of the Civil Code and must be
located within the Philippines and is treated as
capital asset.
A final tax rate of 6% is imposed on the Gross
Selling Price or the Current Fair Market Value,
whichever is higher.
It is shouldered by the seller but should the buyer
shoulder it, it forms part of the consideration.
In pacto de retro sales: the act of redemption is no
longer covered by the capital gains tax because it is
an act or exercise of the right of redemption under
the contract.
In case of foreclosure: the CGT accrues only after
the lapse of the redemption period because it is
the only time when there exists a transfer of
property. Thus, if redeemed before foreclosure, it
is not a taxable event.
In case of expropriation: the taxpayer can choose to
include it in his gross income and subject it to
allowable deduction or to subject it to a capital
gains tax on the presumed capital gain.
What re exempt from CGT?
1. Sale of real property located abroad
2. Sale of principal residence under Sec. 24 of
the NIRC
Principal residence – refers to the dwelling house,
including the land on which it is situated where the
husband and wife or unmarried individual, or
members of his family reside.

Its sale is exempt from Capital gains tax.

Requirements for the sale of principal residence to

be exempted:
1. Taxpayer is an individual
2. The principal residence is disposed
3. The proceeds of the sale must be fully
utilized to purchase or construct another
principal residence
4. The said purchase must be made within 18
months from sale or disposition
5. The commissioner must be informed within
30 days thru prescribed return of his
intention to avail of the tax exemption.
6. It can be availed of only once every 10
years.

In case of partial utilization – the taxpayer can avail

of the tax exemption to the extent of that amount
utilized for the purchase or construction of new
principal residence. The unused portion shall be
subject to CGT.