Tax Laws for MSMEs

Atty. Luis Gerardo C. Manabat, C.P.A., F.I.C.D.

De La Salle University
The Tax Code
Concept of Taxable Income
Module 5b
INCOME TAXATION
Income tax is referred to as tax on all yearly
profits arising from property, profession, trades,
offices.
Or

A Tax on a person’s income, emoluments, profits

and the like.

Income Tax is an excise tax or a tax on the right to earn

income and not a poll or property tax.
INCOME TAXATION
Functions of Income Tax
 To provide large amounts of revenues for the
government
 To offset regressive sales and consumption taxes
together with estate taxes.
 To mitigate the evils arising from inequalities in
the distribution of income and wealth which are
considered deterrents to social progress.
WHAT IS INCOME?
Income is any inflow of wealth other than a
return on capital.
Elements of the definition of income:
 Inflow – Means that the flow of the resource should be
towards the taxpayer.
 Wealth – The resource does not have to be in terms of
money but of any resource that has financial value.
 Not a return on Capital – The flow of the resources is not
a result of recovering the investment previously made by
the taxpayer.
WHAT IS INCOME?
Requisites for Taxable Income

 There must be a gain – if there is no income, then there

cannot be any income tax
 The gain must be realized or received - the gain of the
taxpayer must be sure to come about and not just
expected or speculated.
 The gain must not be excluded from taxation by law –
not all income are subject to tax but such exclusion or
exemption must be provided for by law.
WHAT IS INCOME?
Distinction of Income from other terms.

 Capital – Is the accumulation of wealth.

 Receipts – All inflows of wealth

 Revenue – Refers to all inflow of weath into the

government
WHAT IS INCLUDED AS TAXABLE INCOME?
Definition of Gross Income
Gross income is all income of a taxpayer derived from whatever source, including
(but not limited to) the following:
(1) (1) Compensation for services in whatever form paid, including, but not limited
to fees, salaries, wages, commissions, and similar items;
(2) Gross income derived from the conduct of trade or business or the exercise
of a profession;
(3) Gains derived from dealings in property;
(4) Interests;
(5) Rents;
(6) Royalties;
(7) Dividends;
(8) Annuities;
(9) Prizes and winnings;
(10) Pensions; and
(11) Partner's distributive share from the net income of the general professional
partnership.

Provided the income is not excluded/exempted by law.

EXCLUSIONS FROM TAXABLE INCOME
The following are not included as Taxable Income
 Proceeds of life Insurance
 Amounts received as returns on Premiums
 Gifts, bequests and devises
 Compensation for sickness or injuries
 Income exempt from treaties (exemption)
 Retirement benefits, pesions, gratuities, etc. (exemption) and
 Other exempted items (income of foreign governments and any of its subsidiaries, income of the
Philippine government or any of its political subdivisions, Prizes and Awards, 13th month pay and other benefits to the extent of
the first 90,000, GSIS/SSS contributions, Gains from sale of bonds, debentures and other certificates of indebtedness as
prescribed by the NIRC and Gains from redeption of shares in mutual funds) (exemption)
COMPENSATION INCOME
Compensation for services, in whatever form paid,
including but not limited to fees, salaries, wages,
commissions and similar items
 This pertains to any compensation arising from the
employment of the taxpayer.
 This includes allowances, privileges and facilities provided
in connection with the employment.
 However, there are some allowances, privileges and
facilities that are exempted by law if such facilities or
privileges are of relatively small value and are offered to
promote health, goodwill, contentment or efficiency of the
employees. (de minimis)
COMPENSATION INCOME
 Tax base is Gross Compensation Income
 Note that 13th month pay and bonuses up to P90,000 are
exempt from taxes.
 There are no more deductions from gross compensation
income. (i.e. exemptions and additional exemptions)
 Examples:
 Jose, an employee getting a monthly salary of P25,000 a
month.
 Maria, an employee getting a monthly salary of P25,000 who
has two quarterly bonus over the Christmas bonus
Would have the same amount of taxes to pay.
COMPENSATION INCOME
DE MINIMIS BENEFITS
 Monetized unused vacation leaves of private employees not exceeding
10 days during the year.
 Monetized unused vacation and sick leaves of public officials and
employees.
 Medical Cash Allowance to dependents of employees not exceeding
P1,500 per semester or P250 per month.
 Rice subsidy of P2,000 or one sack of 50kg rice per month.
 Uniform and clothing allowance not exceeding P6,000 a year
 Actual medical assistance not exceeding P10,000 a year
 Laundry allowance not exceeding P300 per month.
 Gifts given during Christmas and major anniversary celebration not
exceeding P5,000 per employee per year.
COMPENSATION INCOME
DE MINIMIS BENEFITS
 Employee achievement awards (i.e. length of service, safety
achievement awards) which must be in the form of a tangible personal
property other than cash or gift certificates, with an annual monetary
value not exceeding P10,000, received by the employee under an
established written plan which does not discriminate in favor of highly
paid employees.
 Daily meal allowances for overtime work and night/graveyard shift, not
exceeding 25% of the basic minimum wage per region.
 Benefits received by an employee by virtue of a CBA and productivity
incentive schemes provided these do not exceed P10,000 per
employee per taxable year.
These De Minimis Benefits do not form part of the P90,000.00
bonuses that are exempted under income tax. These benefits are
separately exempted from tax by the De Minimis provision
COMPENSATION INCOME
FRINGE BENEFITS
For purposes of the Tax Code, Fringe Benefits means any goods,
services or other benefit furnished or granted in cash or kind by an
employer to an individual employee (except rank and file employees)
such as, but not limited to the following:
 Housing;
 Expense Account
 Vehicle of any kind
 Household personnel
 Interest on leans less than market value
 Membership fees, dues and other expenses in social and athletic clubs
and other similar organizations
 Expenses for foreign travel
COMPENSATION INCOME
FRINGE BENEFITS(continued)
 Holiday and vacation expenses
 Educational assistance to the employee or his dependent
 Life or health insurance and other non-life insurance premiums or
similar in amount of what the law allows (i.e. de minimis)

However, the fringe benefit is not subject to tax if:

 The “fringe benefit” is required by the nature of or necessary to the
trade, business or profession of the employer. Or
 The “fringe benefit” is more for the convenience or advantage of the
employer.
COMPENSATION INCOME
FRINGE BENEFITS
Fringe Benefits are subjected to a final tax of 35% based on the grossed up
value of the fringe benefit.
Example:
Philip, a VP in a bank, gets a fixed representation allowance of P10,000 a
month that he can use at his convenience.
Net Fringe Benefit P10,000.00
Gross up by 65% divided by 65%
Grossed up Benefit P15,384.61
Multiplied by 35% FBT Rate x35%
Fringe Benefit Tax P5,384.61
BUSINESS INCOME
Gross income derived from the conduct of trade or
business or the exercise of a profession
 The initial Tax base is Gross Business Income
 Less: Cost of Sales equals Gross Taxable Income
 Less: Allowable Deductions equals Net Taxable Income

 Example:
Mario, a custom figure maker, averages a monthly sale of P1M. He
spends about 60% of the same to produce the figures he sells in raw
materials and pays every month salaries of his helpers that amounts
to P40,000, utilities of P30,000, Rentals of P15,000 and finally
groceries for his home of another P15,000.
BUSINESS INCOME
Allowable deductions
 Business Expenses
 Interest Expenses
 Taxes
 Losses
 Bad Debts
 Depreciation
 Depletion
 Charitable and other Contributions
 Research and Development
 Pension Trusts
BUSINESS INCOME
Allowable deductions
 Business Expenses
 Must be ordinary and necessary
 Paid or incurred during the taxable year
 Paid or incurred in the carrying on of business or trade or
profession
 Must be reasonable in amount
 Must be substantiated by adequate proof
 Must not be against law, morals, public policy or public order.
BUSINESS INCOME
Allowable deductions
 Interest Expenses – Cost for the forbearance of Money
 The taxpayer must have an indebtedness
 Indebtedness must be connected with the trade, business or
profession of the taxpayer
 The interest must have been paid or incurred during the taxable
year
 The interest must be legally due
 The interest must have been stipulated in writing.
BUSINESS INCOME
Allowable deductions
 Taxes – refers to taxes proper and does not include such
amounts that refer to surcharges, penalties and/or fines and
penalties.
 Taxes that are not deductible from taxable income:
 Income Taxes (Philippine or foreign)
 Estate and Donor’s Taxes
 Special Assessments or levies (which are not really taxes)
 Non-business related taxes
 Taxes which are final
BUSINESS INCOME
Allowable deductions
 Losses
 The loss must be that of the taxpayer
 It must have actually been sustained and charged off within the
taxable year
 It must have been incurred in trade, business or profession
 It must be evidenced by a closed and completed transaction.
 It must not have been compensated for by insurance or other
forms of indemnity.
BUSINESS INCOME
Allowable deductions
 Bad Debts – debts that cannot be collected anymore and
ascertained to be worthless
 There must have been an existing indebtedness due to the
taxpayer that is valid and legally demandable
 The same must be connected with the taxpayer’s trade,
business or profession.
 The indebtedness is not between related parties
 The same must have actually be ascertained to be worthless
and uncollectible at the end of the year.
 The same must have actually been written off in the books of
accounts of the taxpayer.
BUSINESS INCOME
Allowable deductions
 Depreciation – the gradual reduction in the value of an asset
due to wear and tear of the same.

 The allowance for depreciation must be reasonable

 It must be for property that is used in business, trade or
profession.
 It must be charged off during the taxable year.
BUSINESS INCOME
Allowable deductions
 Depletion – the gradual reduction in the value of a natural
resource due to its exhaustion due to production or severance
fro such mines or wells.

 Depletion is available only to businesses who are into resource

extraction of Oil, Metal and other minerals
 For most of these businesses, the depletion constitutes as the
main bulk of the cost of production of the business.
BUSINESS INCOME
Allowable deductions
 Charitable and other Contributions
 Kinds:
 Ordinary Contributions – subject to a maximum limits
 Special Contributions – not subject to a maximum limit
 Requisites:
 To or for use of the government of the Philippines or any political
subdivision thereof or any of the domestic corporations or
associations specified by the tax code.
 Made within the taxable year
 Does not exceed 10% of individual taxable income or 5% of corporate
taxable income before deducting the contribution
 Must be supported by adequate records/receipt
BUSINESS INCOME
Allowable deductions
 Charitable and other Contributions
 Special Contributions, which are not subject to the 10%/5% limitations,
 Donations to the Government of the Philippines or to any of its agencies or
political subdivisions including fully-owned government corporations
exclusively to finance, to provide for, or to be used in undertaking priority
activities in education, health youth and sports development, human
settlements, science and culture, and in economic development according to
the national priority plan determined by NEDA, in consultation with appropriate
government agencies.
 Donations to certain foreign institutions or international organizations.
 Donations to certain accredited NGOs
BUSINESS INCOME
Allowable deductions
 Charitable and other Contributions
 Ordinary Contributions which are subject to the 10%/5% limitations, are as
follows:
 Donations to the Government of the Philippines or to any of its agencies or
political subdivisions not qualifying as a special contribution.
 Donations to accredited domestic corporations or associations organized and
operated exclusively for (1) religious, (2) charitable, (3) scientific, (4) youth
and sports development, (5) cultural, (6) educational purposes, or (7) for the
rehabilitation of veterans;
BUSINESS INCOME
Allowable deductions
 Research and Development Expenditures – in order to
promote expenditures by businesses in making its products
and services more competitive and of better quality. Cost of
R&D may be amortized provided:

 It is paid or incurred by the taxpayer in connection with his

trade, business or profession.
 Not treated as an ordinary and necessary business expense.
 Chargeable to a capital account and not to property which is
subject to depreciation or depletion.
BUSINESS INCOME
Allowable deductions
 Pension Trusts – or funds to provide for the post employment
benefits of its employees, provided:
 The employer must have established a pension or retirement plan
to provide for the payment of reasonable pensions to its
employees
 The plan is reasonable and actuarially sound.
 It must be funded by the employer
 The amount contributed must no longer be subject to the
employer’s control or disposition
 The contribution has not been deducted previously
 The initial contribution is amortized over 10 years.
BUSINESS INCOME
Allowable deductions
 Optional Standard Deductions – In lieu of the making specific
or itemized deductions which must be substantiated by the
appropriate records and receipts, the law provides taxpayers
with the option to make a single standard deduction of 40% of
taxable business income and pay the appropriate tax thereon
 Taxpayers availing of the 40% Optional Deduction has the
advantage of being exempt from subsequent tax audits unless
they committed tax fraud. (See simplified optional Computation of
Tax)
BUSINESS INCOME
Net Operating Loss Carry-over
 The Tax Code (Sec. 224) provides for the instance when a
taxpayer has sustained losses in a taxable year due to more
allowable deductions than taxable income.
 In this case, the taxpayer is allowed to carry over the loss it has
sustain for the next three (3)consecutive taxable years and
allows it to be deductible from the taxable income of the
taxpayer provided there has been no substantial change in
ownership in the taxpayer’s business or enterprise.
GAINS DERIVED FROM DEALING IN PROPERTIES
Types of gains in properties:
 Tangible properties sold by taxpayer
 Selling price less the cost of the property(net of depreciation if
any)
 Intangible properties
 Selling price of the Intangible less any applicable deduction.
 Sale of real properties
 Selling price less Cost or Assessed Value or Fair Market Value
(whichever is lower)
DIVIDENDS
Dividends are income distributions to the shareholders of a
corporation. There are various forms of dividends that are
taxed differently from each other.
 Cash Dividends – Taxed based on the amount of dividend
received.
 Property Dividends – Taxed based on the Fair Market Value of
the property received.
 Stock Dividends – Are not taxed as of yet and will be taxed
when the stocks are subsequently sold by the stockholder
taxpayer.
PARTNER’S DISTRIBUTIVE SHARE
Partner’s distributive share in the profits of a partnership is treated
much like the dividends of shareholders in a corporation.
However, it should be noted that:
 Only the distribution of profits be a General Commercial
Partnerships (GCP) is subject to income taxes. Hence GCPs
are taxed as a corporation and the partners of the same are
also taxed as individual.
 General Professional Partnerships (GPP) are not taxed and
neither is the distribution of the profits of the GPP to its
partners. Only the individual partners are the ones subject to
income taxes. The reason for this is because GPPs are not
organized to generate profits but to practice a profession.
 End of Module 5b

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