Corporation Law: Atty.

Grace Hicban
A.2. Disadvantages of Corporate Form
Avy Buyuccan, Fritze Ann Cristobal, Mary Ruth David, Kimsey Clyde Devoma, Carlston Brix Doddo,
Monica Feril, Joseph Gamboa, Tristan Lazo, Ezequiel Longui, Diazmean Sotelo

DISADVANTAGES OF CORPORATE FORM as provided in Philippine Corporate Law by

CLV

1. Abuse of Corporate Management;

2. Abuse of Limited Liability Feature;
3. High Cost of the Maintenance of the Corporate Medium; and
4. Double Taxation

I. Abuse or Corporate Management; Breach of Trust

Management and control are separated from ownership in large corporations; there is a
severance of control and ownership. The board of directors has complete authority.1
In a practical sense therefore, investors have very little voice over the conduct of business
of the corporation.
Shareholders can elect and remove directors, vote to amend, adopt, or repeal bylaws, and
exercise a veto power over fundamental corporate changes proposed by the corporation's
board of directors, such as charter amendments, mergers and consolidations, sales of
substantially all the corporation's assets, and liquidations. As a general rule, however, the
standard form does not permit shareholders to control corporate business decisions.2
Abuse of corporate management committed by a member of the board of directors is also
countered by Section 33 of the Revised Corporation Code which provides that where a
director, by virtue of such office, acquires a business opportunity which should belong to
the corporation, thereby obtaining profits to the prejudice of such corporation, the
director must account for and refund to the latter all such profits, unless the act has been
ratified by a vote of the stockholders owning or representing at least two-thirds (2/3) of
the outstanding capital stock.3
“In a corporation, the management of its business is generally vested in its board of
directors, not its stockholders. Stockholders are basically investors in a corporation.
1
Sec. 23 of Revised Corporation Code
2
Shareholder Voice and the Market for Corporate Control (P. Letsou, 1992)
3
Sec. 33 of the Revised Corporation Code

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 They do not have a hand in running the day-to-day business operations of the
corporation unless they are at the same time directors or officers of the corporation.4”

II. Abuse of Limited Liability Feature

The limited liability feature of the corporation has often been abused by businesses to
avoid having adequate protection and compensation for victims of the business ventures
they undertake.
In addition, the limited liability feature has tended to increase transaction cost by the
parties being forced to enter contractual schemes skirting the limited liability of the
corporation when it is a party to a transaction. Limited liability hits innocent people.

a) Separate Juridical Personality

The doctrine of separate juridical personality, which provides that a corporation
has a legal personality separate and distinct from that of people comprising it. By
virtue of that doctrine, stockholders of a corporation enjoy the principle of limited
liability: the corporate debt is not the debt of the stockholder. Thus, being an
officer or a stockholder of a corporation does not make one's property the
property also of the corporation.5

b) Corporate Officers, personal liability for damages:

A corporate officer of a Philippine corporation becomes personally liable for
certain corporate acts under the following circumstances:
1. When he willfully and knowingly votes or assents to patently unlawful
acts.
2. When he is guilty of gross negligence or bad faith in the conduct of the
corporate affairs; or
3. When he acquires personal or pecuniary interest which conflicts with his
duty as such officer.6

c) Stockholders, limited liability:

4
Espiritu v. Petron Corp., G.R. No. 170891
5
Bustos vs. Register of Deeds Marikina City, G.R. No. 185024
6
Sec. 30 of the Revised Corporation Code

2
 The liability of stockholders in Philippine corporations is limited only to the extent of
their capital contribution thereto. Other properties, holdings or assets of stockholders
are not within the reach of corporate creditors. To discourage abuse of this privilege,
the Securities and Exchange Commission [SEC] imposes certain reportorial
requirements which should be complied with on a regular basis.

III. High Cost of Maintenance of the Corporate Medium

The formation and maintenance of corporations are complicated and costly. Furthermore,
there is a greater degree of governmental control and supervision to corporations.

a) Formation of Corporation
“Establishing a corporation in the Philippines can approximately take 29 days
for a total cost of PHP 7,630.00. Compared to sole proprietorship or
unregistered entities corporations entails a more significant amount.”7

The SEC filing fees for the incorporation of a domestic corporation are as
follows:
1. Basic Filing Fee for the Articles of Incorporation - ⅕ of 1% of the
authorized capital stock or the subscription price of the subscribed capital
stock, but not less than P2,000.00.
2. Legal Research - 1% of the filing fee.
3. Examining and Filing Fee for the By-Laws - P1,010.00.
4. Cost and registration of the Stock & Transfer Book - P470.00

More than P500M to less than P750M: P500,000.00 plus 0.075% of the excess
over P500M +LRF (1% of Filing Fee)

More than P750M to not more than P1B: P687,500.00 + 0.05% of the excess over
P750M + LRF (1% of Filing Fee)

More than P1B: P812,500.00 plus 0.025% of the excess over P1 Billion + LRF
(1% of Filing Fee)

7
Shield GEO (Global Employment Organization)

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 b) Maintenance of Corporate Medium
There is a greater degree of government control and supervision than in other
forms of business organizations such as being subjected to more record-keeping
and reportorial obligations under the Money Laundering Act.8

Memorandum Circular No. 3, s. 2017 of the Securities and Exchange Commission

(Credit Rating Agencies has an Annual Monitoring Fee of PHP 15,000.00 paid yearly at
least 45 days prior to the anniversary date of its accreditation.) 9

IV. Double Taxation

The corporation has traditionally been subjected to heavier taxation as compared to other
business organizations.

The profits of the corporation which are already subjected to corporate income tax when
declared and distributed as dividends to the stockholders are again subjected to the
further income tax.

a) Section 24 (B)(2) of the National Internal Revenue Code (1997) states that:
(B) Rate of Tax on Certain Passive Income
(2) Cash and/or Property Dividends - A final tax at the following rates
shall be imposed upon the cash and/or property dividends actually or
constructively received by an individual from a domestic corporation or
from a joint stock company, insurance or mutual fund companies and
regional operating headquarters of multinational companies, or on the
share of an individual in the distributable net income after tax of a
partnership (except a general professional partnership) of which he is a
partner, or on the share of an individual in the net income after tax of an
association, a joint account, or a joint venture or consortium taxable as a
corporation of which he is a member or co-venturer:

8
Republic Act No. 10365
9
Memorandum Circular No. 3, s. 2017 of the Securities and Exchange Commission

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 xxx
Ten percent (10%) beginning January 1, 2000.
xxx

b) According to Section 27 (D)(4), 1997 National Internal Revenue Code:

(D) Rates of Tax on Certain Passive Incomes. -
(4) Intercorporate Dividends. - Dividends received by a domestic
corporation from another domestic corporation shall not be subject to
tax.

● Section 28 (A)(7)(d). Intercorporate dividends received by a resident

foreign corporation from a domestic corporation liable to tax under this
Code shall not be subject to tax under this Title.
● Section 28(B)(5)(b). Intercorporate dividends paid by a domestic
corporation to a nonresident foreign corporation (NRFC) are subject to
income tax of 15% provided that the country of residence of the NRFC
shall allow a credit against taxes deemed to have been paid in the
Philippines equivalent to 15%, which represents the difference between
the regular tax of 30% on corporations and the reduced tax of 15% on
dividends.

c) Section 29 of the National Internal Revenue Code (NIRC) of 1997, as

amended, imposes Improperly Accumulated Earnings Tax (IAET) on
corporations for each taxable year on the improperly accumulated taxable income
of such corporations. It is a form of penalty tax which is equal to 10 percent of the
improperly accumulated taxable income. The dividends must be declared and paid
or issued not later than one year following the close of the taxable year, otherwise,
the IAET, if any, should be paid within 15 days thereafter.10

Rationale for the Imposition of the 10% IAET:

10
Section 6 of Revenue Regulations (RR) 2-2001

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 The IAET is imposed to discourage tax avoidance through corporate surplus
accumulation. When corporations do not declare dividends, income taxes are not
paid on the undeclared dividends received by the shareholders. The tax on
improper accumulation of surplus is essentially a penalty tax designed to compel
corporations to distribute earnings so that the said earnings by shareholders could,
in turn, be taxed.11

i) Exemptions from the 10% IAET:

If retention of the profits is justifiable, such as the use of undistributed
profits for the reasonable needs of the business, such purpose would not
generally make the retention improper and subject to the penalty tax. The
Bureau of Internal Revenue (BIR) considered the accumulation of
earnings up to 100% of the paid-up capital of a corporation as falling
within the “reasonable needs of the business.” Moreover, earnings that
are reserved for a justified purpose (e.g., definite corporate expansion,
compliance with any loan covenants, earnings reserve subject to the
legal prohibition against its distribution) were also considered within
the purview of “reasonable needs of the business.”
ii) The Tax Code also exempted from the imposition of the 10% IAET,
certain companies, including publicly-held corporations. Publicly-held
companies refer to those, where the top 20 ultimate individual
shareholders hold less than 50% of the value of the outstanding capital
stock or the voting power of the corporation pursuant to Revenue
Regulations (RR) No. 2-2001. The IAET does not also apply to banks
and other nonbank financial intermediaries, and to insurance
companies. RR 2-2001 likewise included taxable partnerships, general
professional partnerships, nontaxable joint ventures and enterprises
duly registered under special economic zones as exempt from the
coverage of IAET.
iii) Tax rate is 10% based on improperly accumulated earnings.

11
Cyanamid Philippines, Inc. v. CTA, GR No. - 108067. January 20, 2000

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 As a mechanism to recover lost revenue, the tax rate is patterned after the
rate that the government should have earned. Since tax on dividends to
resident individuals is 10%, then, the tax rate imposed is the same. Thus,
Section 29 of the National Internal Revenue Code of the Philippines
imposes a 10% improperly accumulated earnings tax.
iv) Imposition is not outright upon the mere improper accumulation.
The mere fact that the retained earnings exceed 100% of the paid up
capitalization at the end of a taxable year does not mean an outright tax
liability for IAET. What is being taxed is the improper accumulation and
not the mere accumulation.

As a rule, the corporate taxpayer has within one (1) year or twelve months from
the end of the taxable year within which to dispose of or remedy the excess
retained earnings. Under the rules of the Securities and Exchange Commission
(SEC), such corporate taxpayer must come up with a concrete plan as to the
disposition of such excess. It is the failure to dispose of such excess upon the
lapse of one (1) year that is being penalized and subjected to improperly
accumulated earnings tax in the Philippines.