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,

1
Sec. 23 of Revised Corporation Code
2
Shareholder Voice and the Market for Corporate Control (P. Letsou, 1992)

1
 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. 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:

3
Sec. 33 of the Revised Corporation Code
4
Espiritu v. Petron Corp., G.R. No. 170891
5
Bustos vs. Register of Deeds Marikina City, G.R. No. 185024

2
 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:

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

6
Sec. 30 of the Revised Corporation Code
7
Shield GEO (Global Employment Organization)

3
 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)

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

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

4
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:
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. -

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 (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

6
 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

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

7
 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.
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.