EA 26: INCOME TAXATION INTRODUCTION TO TAXATION

GOVERNMENT EXPENDITURES
RE-CURRENT EXPENDITURES - refer to the day-to-day cost of running the government.
DEVELOPMENT EXPENDITURES – pertain to cost of capital projects.
EXPENSES OF THE GOVERNMENT
Construction and maintenance of:
◦ 1. Roads and bridges
◦ 2. Communication and power facilities
◦ 3. Educational and health services
◦ 4. Peace and order
Government must raise revenue to finance these activities
SOURCES OF REVENUES
•CAPITAL REVENUES cover proceeds from sales of fixed capital asset or scraps like sales of public
bonds, buildings and other structures.
•EXTRAORDINARY INCOME are re-payment of loans and advances made by government corporations
and local governments.
•GRANTS cover voluntary contributions and aids given to the government for its operation on specific
purpose.
•PUBLIC BORROWING covers proceeds of re-payable obligations generally with interest from domestic
and foreign creditors of government.
•DOMESTIC BORROWINGS are government issued bonds.
•TAX REVENUES are either direct or indirect tax.
Definition of Taxation
•The act of levying a tax;
•the process or means by which the sovereign, through its law-making body, raises revenue to defray the
necessary expenses of the government.
DEFINITION OF TAXES
Enforced proportional contributions levied by the state’s law-making body by virtue of its sovereignty upon
the persons or properties within its jurisdiction for the support of the government and all its public needs.
NATURE AND SCOPE OF THE POWER OF TAXATION
The power of taxation is comprehensive, plenary, unlimited and supreme. It is essentially legislative in
character and is inherent in the state.
THEORIES OF TAXATION
1. LIFEBLOOD THEORY
Taxes are what we pay for civilized society. Without taxes, the government would be paralyzed for lack of
the motive power to activate and operate it. Hence, despite the natural reluctance to surrender part of one's
hard-earned income to the taxing authorities, every person who is able to must contribute his share in the
running of the government. (CIR v. Algue, Inc.)
2. NECESSITY THEORY
The power to tax is an attribute of sovereignty emanating from necessity. It is a necessary burden to
preserve the State's sovereignty and a means to give the citizenry an army to resist an aggression, a navy to
defend its shores from invasion, a corps of civil servants to serve, public improvements designed for the
enjoyment of the citizenry and those which come within the State's territory, and facilities and protection
which a government is supposed to provide. (Phil. Guaranty Co., Inc. v. CIR)
3. BENEFITS-PROTECTION / RECIPROCITY THEORY
Taxation is described as a symbiotic relationship whereby in exchange of the benefits and protection that
the citizens get from the Government, taxes are paid. (CIR v. Algue, Inc.)

PRIMARY PURPOSE OF TAXATION

Generate funds or property with which to promote the general welfare and afford protection to its citizens
SECONDARY OR NON-REVENUE PURPOSES OF TAXATION
• Reduce excessive inequalities in the distribution of wealth and means by using the progressive
scheme of income taxation and imposing estate taxes to equalize wealth;
• Protect local industries against foreign competitors by imposing protective tariff on imported goods;
• Encourage the growth of home industries through the proper use of tax exemptions and tax
incentives;
• Implement the police power of the state in promoting the general welfare
 • Use as bargaining tool in trade negotiations with other countries;
• Curb spending power and halt inflation by increasing taxes in periods of prosperity and expand
business. It also wards-off depression by lowering taxes in periods of slump.
• Promote science and invention; and
• Finance activities to improve efficiency of military or local police forces in the maintenance of
peace and order through the grant of subsidies.

OTHER ASPECTS OF TAXATION

• LEVYING OR IMPOSITION OF THE TAX – this refers to the process of determining the
persons or property to be taxed; the purpose of the tax as long as it is a public purpose; the sum/s to
be raised; the rate, manner, means and agencies of tax collection. It is a legislative act with powers
vested in Congress.
• COLLECTION OF THE TAX – this refers to the manner of enforcing the tax obligation on the
part of those required to pay the tax. It is essentially administrative in character with powers vested
in the Department of Finance especially BIR, Bureau of Customs (BOC) and local government
units.

ESSENTIAL CHARACTERISTICS OF TAX

• An enforced contribution
• Levied pursuant to legislative authority
• Proportionate in character
• Generally payable in money
• Levied by the state which has jurisdiction over the persons or property
• Levied and collected for public purpose/s
• Commonly required to be paid at regular periods or intervals
• An involuntary contribution and revenue to the government for public purpose
• Compulsory government exaction or levy on persons, property, income and business

BASIC PRINCIPLES OF A SOUND TAX SYSTEM

FISCAL ADEQUACY – sources of revenues should be sufficient to meet expenditures of government
regardless of business conditions.
EQUALITY OR THEORETICAL JUSTICE – taxes must be imposed with equity, certainty,
convenience, and consideration of the taxpayer’s ability to pay.
ADMINISTRATIVE FEASIBILITY AND COMPLIANCE – the law must reasonable, just and effective
administration. Moreover, taxpayers should find it easy and convenient to comply.
CONSISTENCY OR COMPATIBILITY WITH ECONOMIC OBJECTIVES OR
GOALS – economic effects of taxation extend far beyond the matter of incidence, allocation of resources to
the public sector and re- distribution of income.

INHERENT POWERS OF THE STATE

TAXATION – the power by which the sovereign raises revenue to defray the necessary expenses of the
government.
EMINENT DOMAIN – the power of the state or those to whom the power has been delegated to take
private property for public use upon payment of just compensation to be ascertained according to law. It is
sometimes called the power of expropriation.
POLICE POWER – the power of the state to enact laws, in relation to persons and property, that may
promote public health, morals, safety and the general welfare and prosperity of its inhabitants

SIMILARITIES AMONG THE POWERS OF THE STATE

• Rest upon necessity because there can be no effective government without them.
• Underlie and exist independently under the Constitution although the conditions for their exercise
may be prescribed by the statutes or laws.
• The state lawfully interferes with private rights and property.
• Exercise of the powers is given to the executive authorities (national or local) although legislative in
nature and character.
• Presuppose an equivalent compensation received, directly or indirectly, by the persons affected in
the exercise of these governmental powers

DIFFERENCES AMONG THE POWERS OF THE STATE

The purpose of the non-impairment clause of the Constitution is to safeguard the integrity of
contracts against unwarranted interference by the State. As a rule, contracts should not be
tampered with by subsequent laws that would change or modify the rights and obligations
of the parties. Impairment is anything that diminishes the efficacy of the contract. There is an
impairment if a subsequent law changes the terms of a contract between the parties, imposes new
conditions, dispenses with those agreed upon or withdraws remedies for the enforcement of the
rights of the parties.
CLASSIFICATION OF TAXES
(AS TO SUBJECT MATTER OR OBJECT)
1. TAXES ON PERSONS
a. Individual Income Tax – is the tax or imposition on:
• The Gross Compensation Income of a person based on a graduated scale. Income tax is based
on the gross compensation income less premium on health and/or hospital insurance as the case
maybe.
• The net income from the exercise of a profession or other income derived from business.
B. Poll or Residence Tax – refers to per capita or poll tax.
c. Privilege or Professional Tax – levied in the practice of profession. All professionals like
lawyers, CPAs, doctors are required to pay their Professional Tax before they can practice.
2. TAXES ON PROPERTY
A.Transfer Tax – vary depending on the manner in which property may be transferred. Kinds of
Transfer Tax under the NIRC:
 Estate Tax – levied on property transferred by way of succession. It is based on the gross
value of the estate of a deceased person.
 Donor's Tax – refers to the gratuitous transfer of property by one person to another
during the former's lifetime. This is called “donation intervivos" which means that the
terms of the donation will take effect during the lifetime of the donor.
B. Taxes on Real Property
• Real Property Tax – imposed on a property owner based on the assessed value of his
property. Percentage tax varies depending on the classification of the property whether
classified as commercial or residential. It is also based on the current fair market value or
zonal value of the property, whichever is higher.
 • Capital Gains Tax (CGT) – a property owner who sells, exchanges or transfers his real
property must pay this CGT based on the selling price; fair market or zonal value,
whichever is higher.

3. KINDS OF BUSINESS TAXES

 Value-Added Tax (VAT) – is a business tax imposed and collected from the seller in the
course of trade or business on every sale of properties (real or personal), lease of goods or
properties (real or personal) or vendors of services. It is an indirect tax, thus, it can be
passed on to the buyer.
• Percentage Tax – is a business tax imposed on persons or entities who sell or lease
goods, properties or services in the course of trade or business with gross annual sales or
receipts that do not exceed P3, 000,000 and are not VAT-registered.
Excise Tax – an internal tax imposed on the manufacture, sale or consumption of an item
within a country, or paid for a license to carry on certain callings or occupations. Two (2)
most common kinds of excise tax:
• Specific Tax - based on weight or volume, capacity, or any other physical unit of
measurement of the subject goods.
• Ad Valorem Tax - based on the selling price or on other specified value of the goods.
Classification of Taxes (As to who bears the burden)
• Direct – demanded from persons who shoulder the burden of the tax which the taxpayer
is directly liable, for which he cannot shift to another.
• Indirect – demanded from one person in the expectation and intention that he shall
indemnify himself at the expense of another, and the burden of such tax falling finally
upon the ultimate purchaser or consumer.
Classification of Taxes (As to determination of Amount)
• Specific – fixed amount that is imposed based on physical unit of measurement, as by
head or number, weight or length or volume.
• Ad valorem – fixed amount in proportion to the value of property with respect to which
the tax is assessed.
CLASSIFICATION OF TAXES (AS TO PURPOSE)
• General, fiscal or revenue – imposed for the general purposes of the government to
raise revenues for government needs.
• Special or regulatory – imposed for a special purpose, regardless of whether revenue is
raised or not, and is intended to achieve some social or economic end.
CLASSIFICATION OF TAXES (AS TO SCOPE OR AUTHORITY IMPOSING THE TAX)

• National – imposed by the national government.

• Municipal or local – imposed by municipal or local government
CLASSIFICATION OF TAXES (AS TO GRADUATION OR RATE)
• Proportional – based on a fixed percentage of the amount of property, receipts, or other
basis to be taxed.
• Progressive or graduated – the rate increases as the tax base or bracket increases.
• Regressive – the rate decreases as the tax base or bracket increases.
• Degressive – the increase in rates is not proportionate to the increase of tax base.