PHILIPPINE TAX SYSTEM AND INCOME TAXATION

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MODULE 5:CONCEPT OF INCOME-PART 1

Concept of Income-Part 1

LEARNING OBJECTIVES
At the end of this module you are expected
to:
1. What are the inclusions in gross income?
2. Which of the inclusions in gross income
are taxable and nontaxable?
3. What are the classification of gross compensation income?
4. What is the treatment of fringe benefits for taxation purposes?

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 INCOME

Non-
Taxable
Taxable

Section 32A Section 32B

of Tax Code of Tax Code

Gross Income
- Pertinent items of income referred to in Section 32(A) of the Tax Code.
- Includes all income from whatever sources (unless exempt by law) including, but not
limited to, the following items

Compensation
1. Compensation for services in whatever form paid including fees, salaries and
Income wages, commissions and similar items

2. Gross income derived from:

Profession or a. the conduct of trade or business
Business Income
b. the exercise of a profession
3. Rent Income

Capital Gain 4. Gains from dealings in property

5. Interest Income
6. Royalty Income
Passive Income 7. Dividend Income
8. Annuity Income
9. Prizes and winning
Profession Income 10. Partner’s distributive share from the net income of general professional
partnership
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MODULE 5:CONCEPT OF INCOME-PART 1

GROSS COMPENSATION INCOME

- Any remuneration for rendering personal services
- Obtained from an employer-employee relationship
- May be paid on:
 Piecework basis
 Percentage of sales or profits
 Hourly, daily, weekly, monthly or annually

Classification of Gross Compensation Income:

Revenue Regulations (RR) No.2 – 98, Section 2.78.1A and Section 8 of NIRC classify the
gross compensation income as follows:
1. Basic salary or wage
2. Honoraria (Honorarium)
3. Fixed or variable allowances
4. Commission
5. Fees
6. Tips and gratuities
7. Hazard or emergency pay
8. Retirement pay
9. Separation pay
10. Pension
11. Vacation and sick leave
12. Thirteenth month pay and other benefits
13. Overtime pay
14. Profit sharing
15. Awards for special services
16. Beneficial payments
17. Other forms of compensation

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1. Basic Salary or wage
 Basic Salary
- This refers to earnings received periodically for a regular work.
Example: monthly salary of an employee of at least P13,632.83
 Wages
- This refers to earnings received which is in accordance to intervals of
work, such as per hour, day or week.
- Example: construction worker’s daily wage, hourly rate of a professor,
hourly rate of a private tutor

2. Honoraria (Honorarium)
- This isa payment given to a person as arecognition for services performed for
which fees are not essentially required.
- Example: honorarium of a guest speaker

3. Fixed or variable allowances

- Received by:
 Public officer
 Public employee
 Private employee
- Addition to regular compensation (basic salary)
- Examples:
 transportation allowance,
 representation allowance
 cost of living allowance (COLA)
 living away from home allowance (LAFHA)
 other allowances

If these allowances are not part of the compensation package, but

merely incurred by the employee in the performance of his duties
(either as advances or reimbursements), such allowances are not
part of the taxable gross compensation income if the following
conditions are satisfied:(RR No. 2-98, Section2.78-1(A)(6)(a); RR 6-82, Section 2c)
a. It is for ordinary and necessary travelling and representation
or entertainment expenses paid or incurred by the employee in
the pursuit of the employer’s trade, business or profession,
AND
b. The employee is required to account or liquidate for the
foregoing expenses

The excess of actual expenses over advances made shall constitute

taxable incomeif such excess amount is not returned to the employer
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MODULE 5:CONCEPT OF INCOME-PART 1

4. Commission
- This is a fee paid based on a percentage of sales or based on the achieved
quota of sales volume.
Example: sales commission

5. Fees
- These are the amounts received on top of the regular salaries of an employee
for the services rendered to the employerin the performance of their official
duties.
Example:director’s fee of the company

6. Tips and gratuities

- These are the amounts paid directly to an employee which are not accounted
for by the employee to the employer.
Example: tips being given by customers to waiters

7. Hazard or emergency pay

- Additional payment received due to employee’s exposure to danger while
working
- Usually added to the basic salary,which is composedof overtime pay and
night differential pay,in order to arrive at total gross salary
Example: payment to those employees working in hazardous workplace such as
frayed electrical cords, unguarded machinery, exposed moving parts, constant
loud noise, vibrations, working from ladders, scaffolding or heights, spills

8. Retirement pay
- Refers to lump sum payment received by an employee who has served
theemployer or the company for a certain period of time.
- As a general rule to its taxability,retirement pay is taxable except in the
following instances:
a. Payment of SSS or GSIS retirement benefit
b. Retirement payment (in accordance with R.A. 7641) due to old age
provided that all of following requisites are met:
i. The retirement program of the employer to its employees are
approved by the BIR Commissioner
ii. It must be a reasonable benefit plan. Its implementation must
be fair and equitable for the benefit of all employees
iii. The retiree should have been employed for 10 years in the
said company
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 iv. The retiree should have been at least 50 years old at the time
of retirement
v. It should have been availed of for the first time

9. Separation pay
- Taxable if voluntarily availed
- Not taxable if involuntarily availed
 Examples of involuntary separation (any cause beyond the control of
an employee)
 Death
 Sickness
 Disability
 Reorganization/merger of company
 Company at the brink of bankruptcy

10. Pension
- Stated allowance paid regularly to
 a person on his retirement or
 to his dependents on his death, in consideration of past services,
meritorious work, age, loss, or injury
- Generally taxable unless the law states otherwise, or unless the BIR
approves pension plan of a private company.

11. Vacation and sick leave

- The following rules shall be observed in determining its taxability:
a. If paid as salary of an employee who is on vacation or on sick leave
notwithstanding his absence from work -------- TAXABLE
b. Monetized value of unutilized vacation leave credits of ten days (10
days) which were paid to private employees, government employees
and government officials during the year are not subject to income tax --
-------- NOT TAXABLE
c. Terminal leave or money value of accumulated vacation and sick leave
benefits received by heir upon death of employee -- NOT TAXABLE

12. Thirteenth month pay and other benefits

- As a general rule, 13th month pay and other benefits are NOT TAXABLE, if
the amount received is P82,000 or less.
- Any amount exceeding P82,000 is TAXABLE

13. Overtime Pay

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MODULE 5:CONCEPT OF INCOME-PART 1

- Refers to premium payment received for working beyond regular hours of

work which is included in the computation of gross salary of employee

14. Profit sharing

- It is the proportionate share in the profits of the business received by the
employee in addition to basic salary and/or wages

15. Awards for special services

- The amount received as an award for special services of employee, or
suggestions to employer resulting in the prevention of theft or robbery.

16. Beneficial payments

- The employer pays income tax owed by an employee

17. Other forms of compensation

- Other forms received due to service rendered which are paid in kind
- Example : fringe benefits paid in kind to rank and file employees

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 ILLUSTRATION
Miss Maria Dela Cruz, single, reported the following income for the taxable year 2017.
Salary for the year 1,104,000
13th month pay 92,000
Honorarium as speaker 2,000
Commissions 5,000
Fees as a director 50,000
Availed vacation leave pay 12,000
Cost of living allowance 16,000
Miss Dela Cruz retired at the age of forty five as of December 01, 20xx, receiving a
retirement pay of P1,000,000. What is the gross taxable compensation income of Miss
Maria Dela Cruz for 2017?

ANSWER
Taxable Non Taxable Gross Income
Salary for the year P 1,104,000 P - P 1,104,000
13th month pay 10,000 82,000 92,000
Honorarium as speaker 2,000 - 2,000
Commissions 5,000 - 5,000
Fees as a director 50,000 - 50,000
Availed vacation leave pay 12,000 - 12,000
Cost of living allowance 16,000 - 16,000
Retirement Pay 1,000,000 - 1,000,000

Gross Taxable Income P 2,199,000 P 82,000 P 2,281,000

To easily compute the gross income on compensation, it is much better to present your
computation by having a tabulation of taxable and non-taxable to each item of income
earned.

Among the list of income earned by the taxpayer, only the 13th month pay has the portion
of taxable and non-taxable since that is the income that is subject to an P82,000 exemption.
All other items are treated as generally taxable.

As for the retirement pay, such amount has been included in the computation of taxable
income and part of gross income since it did not meet the pre-requisite prescribed by the
Tax Code for it to be excluded in the gross income. As per tax code, the retiree should be at
least fifty five (55) years old at the year the retirement pay has availed.
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MODULE 5:CONCEPT OF INCOME-PART 1

Fringe Benefits
- Any good, service or other benefit granted in cash or in kind by an employer to an employee as an
addition to basic salary.
1. Housing
2. Expense account
3. Vehicle of any kind
4. Household personnel, such as maid, driver, and other
5. Interest on loan at less than the market rate to the extent of the difference between the
market rate and the actual rate granted
6. Membership fees, dues and other expenses borne by the employer for the employee in
social and athletic clubs or other similar organizations
7. Expenses for foreign travel
8. Holiday and vacation expenses
9. Educational assistance to the employee or his/her dependents
10. Life or health insurance and other non-life insurance premiums or similar amounts in
excess of what the law allows
- Tax treatment:

FRINGE
BENEFITS

Rank-and-File Managerial/
Employees Supervisory

PARTof NOT PART of

subject to subject to fringe
GROSS schedular rate GROSS benefits tax
TAXABLE TAXABLE
(BASIC TAX) (FINAL TAX)
INCOME INCOME

ILLUSTRATION
During the taxable year, Mr. Juan Dela Cruz, an employee of ABC Company, received the following:
monthly salary of P40,000 ; Monthly allowance of P5,000 for household expenses; and a car with a
fair market value of P800,000
Required: Determine the compensation income and fringe benefits subject to fringe benefits for
each of the following assumption:
1. Mr. Juan Dela Cruz is a rank and file employee
2. Mr. Juan Dela Cruz is handling a supervisory position
Answer #1:

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 Fringe Benefits,
Compensatio subject to Final
n Income Tax
Salary (P40,000*12mos) P 480,000 P -
Allowance (P5,000*12mos) 60,000 -
Car 800,000 -
Total P 1,340,000 P -

Since the fringe benefit is received by a rank-and-file employee, the monetary value of such benefits will
form part of the compensation income that is subject to basic tax.
Answer #2:
Fringe Benefits,
Compensatio subject to Final
n Income Tax
Salary (P40,000*12mos) P 480,000 P -
Allowance (P5,000*12mos) - 60,000
Car - 800,000
Total P 480,000 P 860,000

Since the fringe benefit is received by an employee holding a supervisory position, such benefits will not
form part of the compensation income but will be subjected to final tax, called the “fringe benefits tax”
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MODULE 5:CONCEPT OF INCOME-PART 1

FRINGE
BENEFITS

Rank-and-File Employees Managerial/Supervisory

subject to fringe benefits

PARTof subject to schedular rate NOT PART of
tax
GROSS TAXABLE INCOME (BASIC TAX) GROSS TAXABLE INCOME
(FINAL TAX)

Grossed-Up Monetary Value (GUMV) of the fringe benefits

Fringe Benefits Tax Rate (FBTR)

Monetary Value of Fringe Benefits Classification of Taxpayer FBTR

(actual value received) RC, NRC, RA, NRAETB 32%
NRANETB 25%
SAFE 15%
Grossed-Up Monetary Rate (GUMR)

Classification of Taxpayer GUMR

RC, NRC, RA, NRAETB 68%
NRANETB 75%
SAFE 85%

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 ILLUSTRATION
During the taxable year, Mr. Uzumaki Naruto, an area manager of Ninja Council
Academy, received the following in addition to his annual salary of P800,000:
Cash of P120,000 for the educational assistance of his dependent children
Cash of P600,000 for a car in his own name
Free living quarters and meals with an annual value of P250,000
Required: Compute the fringe benefits tax if Mr. Uzumaki Naruto is:
1. A resident citizen
2. A NRAETB
3. An alien individual employed by an offshore banking unit

Answer #1:
Educational Assistance P 120,000
Car 600,000
Living quarters and meal 250,000
Total Fringe Benefit P 970,000
Gross Up Monetary Rate 68%
Gross Up Monetary Value P 1,426,470.59
Fringe Benefit Tax Rate 32%
Fringe Benefit Tax P 456,471

Since the taxpayer holds a managerial position, all of the fringe benefits received will be
subjected to fringe benefits tax, which is a final tax.

The manner of computation is evenly the same. The only difference are the rates to be
used since it differ depending on the classification of the taxpayer.
Answer #2:
Educational Assistance P 120,000
Car 600,000
Living quarters and meal 250,000
Total Fringe Benefit P 970,000
Gross Up Monetary Rate 75%
Gross Up Monetary Value P 1,293,333.33
Fringe Benefit Tax Rate 25%
Fringe Benefit Tax P 323,333

Answer #3:
Educational Assistance P 120,000
Car 600,000
Living quarters and meal 250,000
Total Fringe Benefit P 970,000
Gross Up Monetary Rate 85%
Gross Up Monetary Value P 1,141,176.47
Fringe Benefit Tax Rate 15%
Fringe Benefit Tax P 171,176
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MODULE 5:CONCEPT OF INCOME-PART 1

End of Module 5

Links to Supplemental Readings

1. http://www.chanrobles.com/legal6nircmain.htm#.WW14qRUrLIU
2. https://www.bir.gov.ph/index.php/tax-code.html#title1
3. https://www.bir.gov.ph/index.php/tax-code.html#title2

Links to Other Video Lectures

1. https://www.youtube.com/watch?v=KGlt4rP-Gvs
2. https://www.youtube.com/watch?v=fACOZo7hTaQ

References
National Internal Revenue Code of 1997 . (n.d.). Retrieved from https://www.bir.gov.ph/index.php/tax-
code.html.
Aduana, N. L. (2012). Simplified and procedural handbook on income taxation (2nd Edition ed.). Quezon
City: C & E Publishing Inc.
Garcia, E. R., & Tabag, E. D. (2014). Income Taxation (3rd Edition ed.). Quezon City: Good Dreams
Publishing .
Valencia, E. G. (2016). Income Taxation (7th Edition ed.). Baguio City: Valencia Educational Supply .

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