GROSS IN CO M E

Part 2
Gross Income from
whatever source derived

The law imposes a tax on income from whatever source which

means that it includes income whether coming from legal or
illegal sources
Question

In 2018, Pedro sent his sister Ana $10,000 via a telegraphic transfer through the
Banko De Oro. Lorna , the bank’s remittance clerk made a mistake and credited Ana
with $100,000 which she promptly withdrew. The bank demanded the return of the
mistakenly credited excess, but Ana refused. The BIR entered the picture and
investigated Ana. Would the BIR be correct if it determines that Ana earned taxable
income under these facts?

A. No, she had no income because she had no right to the mistakenly credited funds.
B. Yes, income is taxable regardless of the source
C. No, it was not her fault that the funds in excess of $10,000 were credited to her
D. No, the funds in excess of $10,000 were in effect donated to her.

Ans. B
Recovery of Bad Debts
In order for recovery of bad debts to be considered income, the following must be complied:
1. Bad debts were written off in the previous year/s
2. Such bad debts were deducted in arriving at taxable income
3. There is a resulting tax benefit on the deduction

Note: In taxation Doubtful account expense is not an allowable deduction, the only allowed deduction
is the write-off
Problem
The following data on net income, bad debt , write-off and recovery show:
2017: Case A Case B Case C
Net income(loss) before write off 120,000 60,000 (40,000)
Less: Bad debt written off claimed as deduction 40,000 40,000 50,000
Net income(loss) after write off 80,000 20,000 (90,000)
2018:
Subsequent Recovery 40,000 10,000 50,000

The Taxable recovery in 2018 is:

Case A Case B Case C
40,000 10,000 0
The following were taken from the income statement of a
domestic corp for the taxable year 2018: Gross profit on Sales 800,000
Less:
Gross Profit on Sales 800,000 Deductible expenses 440,000
Less: Deductible expenses 440,000 Provision for Bad debts ND
Provision for Bad debts 80,000 (520,000) Written-off current year 50,000 (490,000)
Net income before tax 280,000 Net Income 310,000
Additional Info: Add: Other taxable income
•Accounts written of during the year and charged to Recovery of previously written of bad debts
allowance for bad debts 50,000
Allowed by the BIR as deductions 30,000
• Recoveries on accounts receivable previously written off
in 2016 and credited to allowance for bad debts. Taxable Net Income during 2018 340,000
Allowed as deduction by BIR 30,000
Disallowed by the BIR as deductions 20,000

The taxable income of the Corporation in 2018 should be:

 Refund of Taxes
The following are the requirements before refund of taxes be considered income
1. There is payment of tax in the previous year
2. The tax paid was deducted in arriving the taxable income
3. There is a resulting tax benefit on the deduction
Tax payments classified as Operational Expenses:
a. Local business related taxes
b. All Other percentage taxes except for Sect. 127 Stock transaction taxes
c. Fringe Benefit tax
d. Income tax paid abroad by DC’s and RC’s claimed by them as deductible expense
e. Excise taxes on sin products and non-essential goods
f. Custom duties
g. Documentary Stamp taxes
ANS. B
ANS. A
ANS. A
Problem
ABC Company paid the following taxes in 2017: Net income prior to tax refunds 1,200,000
Income tax 120,000 Taxable tax refunds:
Common carrier’s tax 150,000 Common’s carrier tax 150,000
Local business taxes 100,000 Local business taxes 100,000
Donor’s tax 60,000 Real estate tax 70,000
Real estate tax 70,000 Taxable Net Income 1,520,000
All of the aforementioned taxes were refunded
in the year 2018. If the income of ABC in 2018
was 1,200,000, the taxable income for the year
should be:
Forgiveness of Indebtedness
Type Tax Treatment
Debtor performs service to the creditor Compensation Income

Creditor desires to benefit the debtor Gift

without any consideration

Creditor is a corporation and the debtor Dividend Income

is a stockholder of such corporation
ANS. D
Life Insurance
General Rule: Exempt from tax since it is a mere reimbursement for the loss of life

Exception: The following shall be taxable:

1. The beneficiary was chosen for a valuable consideration
2. The interest earned on the insurance policy
Return of Premium
The amount received by the insured as a return of premiums paid by him
under life insurance, endowment or annuity contracts, either during the
term or at the maturity of the term or upon surrender of the contract
Return of Premium Exempt
Excess Taxable Income
Rules on proceed from life Insurance
• Insurance was taken out by the insured (Individual):
a. Proceeds resulted from death= non taxable
b. Insured person outlived the policy
Proceeds shall be treated as partly taxable and non-taxable
The return of capital= non-taxable
The return on capital= taxable

• Insurance was taken out by corporation (employed):

a. The beneficiary is the employee- non taxable income of the employee’s beneficiaries
b. The beneficiary is the corporation- taxable income of the employer
ANS. B
ANS. C
ANS. C
Pedro, received the following during the taxable year: Proceeds of his life insurance
Proceeds of his life insurance paid at Return of Capital
annual premium of 15,000 for 25 years 2,000,000
(15,000 x 25) 375,000
Proceeds of his mother’s life insurance
paid at an annual premium of 10,000 for Return on Capital
20 years 1,000,000 Excess (2m- 375,000)
House and lot inherited from his mother 4,000,000
Rent Income from inherited properties 200,000
Taxable proceeds from life insurance 1,625,000
For income tax purposes, how much of the above item Rent income from inherited properties 200,000
must be included in his gross income? Total 1,825,000
ANS. C
ANS. D
Gifts, Bequests and Devices

Property inherited or received as gift Exempt from income taxes

However it is subject to transfer taxes

Income of above properties Taxable income of the receiver

Compensation for Injuries or sickness
General Rule= Non-taxable

Exception= compensation for injuries given in consideration for lost income

Question
The following are examples of nontaxable compensation for injuries, except?
A. Actual damages for injuries suffered
B. Compensatory damages for unrealized profits
C. Moral damages for grief, anxiety and physical sufferings
D. Exemplary damages

Ans. B
Ans. D
Income exempt under treaty

Income of any kind to the extend required by

any treaty obligation binding upon the
Government of the Philippines shall be
exempt
Reading Assignment:

• Retirement benefits, pensions, gratuities etc

• Miscellaneous items

•Source of Income
DEALINGS IN PROPERTY
Classifications of Assets:
1. Ordinary Assets- assets used in the ordinary course of trade or business

2. Capital Assets- assets that will not classify as Ordinary Asset.

Ans. C
Determination of Amount and Recognition of gain or loss
Formula:
Selling Price XX
Basis or Adjusted Basis (XX)
Gain (Loss) XX

Selling Price includes the following:

1. The sum of money received
2. Fair value of non-cash property received

Basis or Adjusted Basis

Tax basis refer the cost, carrying amount or depreciated cost of an asset. The cost of an asset is the value foregone to
acquire it. Generally, it s the purchase price or the fair value of consideration paid to acquire the asset.
Ans. D
Special rules in determination of Adjusted Basis or Tax Basis
A. For assets acquired by Purchase, the tax basis is:
1. Acquisition cost for assets that are:
•Capital Assets
•Non-Depreciable Ordinary assets such as Land
•Or any asset purchased for an inadequate consideration or those acquired at less than fair value at the date
of acquisition.
Note: Acquisition cost includes the purchase price, tax assumed and acquisition related costs.

2. Depreciated Cost for assets that are:

•Depreciable Ordinary Assets
Problem
Veruela Corporation disposed of its old factory for 5,000,000. The lot where the factory building stands were acquired ten
years ago at 1,500,000. Veruela corp paid 3,000,000 for the construction of the factory building. The factory building has a
carry value net of depreciation of 1,200,000 at the date of sale.
The tax basis for income tax purposes is? The Gain on sale is?
Land 1,500,000 Selling Price 5,000,000
Building 1,200,000 Tax Basis (2,700,000)
Tax Basis 2,700,000 Gain on Sale 2,300,000
Problem
Mr. Monkayo purchased a car for his personal use, he believes would be useful for ten years for 800,000. Before the third
year, he sold the car for 900,000
The tax basis for income tax purposes is?
The Car being a capital asset the tax basis will be the acquisition cost of 800,000
Special rules in determination of Adjusted Basis or Tax Basis
B. Other assets received by exchange
Tax basis is equal to the fair value of asset received.

C. For assets received by way of Gratuitous title:

1. Donation- whichever is lower of:
a. The tax basis on the hand of the donor
b. Fair market value at the date of gift

2. Inheritance
Fair value of the property on the date of death of the decedent.
Problem (Donation)
Mr. A received a Volkswagen car as donation from his brother who bought the same in
1990 at a cost of 100,000. The car has a fair value of 1,000,000 at the date of donation but
has a current fair value of 1,500,000. Assuming Mr. A sold the car how much will be the tax
basis? Ans. 100,000

Problem (Inheritance)
Mr. Siasi inherited a used school bus from his grandfather who purchased the property
for 1,000,000 3 years ago. The bus has a depreciated basis of 800,000 in the business of
his grandfather, but has a fair value of 900,000 in the estate tax return of his grandfather.
How much would be the tax basis if Mr. Siasi sold the school bus?
Ans. 900,000
ORDINARY ASSETS
The following are classified as Ordinary Assets:
a. Stock in trade of a taxpayer or other property of a kind which would properly be included in the inventory of
the taxpayer.
b. Property held by the taxpayer primarily for sale to customers in the ordinary course of his trade or business.
c. Property used in the trade or business of character which is subject to allowance for deprecation or

d. Real property used in trade or business of the taxpayer

The sale of the above assets will result to either gain or loss.
a. The gain is subject to Regular Income Tax
b. The loss is fully deductible in computing for the net taxable income
Capital Assets
The following rules will not apply to capital assets that are real properties and domestic stocks

Tax treatment of Capital Gains and Losses

Capital losses are deductible only up to the extent of capital gains from dealings in capital assets.
A net capital gain is an item of gross income subject to regular income tax.
A net capital loss is only deductible only up to the extent of capital gains.

Determination of net capital gain or net capital loss

For Individuals
The holding period rule: if the capital asset is held by the individual for a period of:
a. Not more than 1 year (short-term holding period)- 100% of capital gain or loss is recognized
a. more than 1 year (long-term holding period)- 50% of capital gain or loss is recognized

For Corporations
Regardless of the length of the holding period, 100% of capital gain or capital loss is recognized.
The holding period rule does not apply to corporations
Ans. D
Ans. B
Mr. Makati sold various properties as follows in 2016:
Item Sold Date acquired Date Sold Gain/(Loss)
Car 8/14/2014 2/14/2016 100,000
Office Supplies 6/1/2015 12/5/2016 20,000
Laptop (personal) 4/5/2015 4/5/2016 80,000
Home Appliances 7/21/2015 8/24/2016 (160,000)
Books 12/28/2015 11/26/2016 (30,000)
Vacant Lot 2/14/2015 12/3/2016 250,000

Item Sold Holding Period Gain/ (Loss)

Car Long-term 50,000
Laptop Short-term 80,000
Home Appliance Long-term (80,000)
Books Short-term (30,000)
Net Capital Gains 20,000
 Compute for the Net capital gains
Mr. Tayabas, a self-employed resident citizen had the ff: Foreign Bonds 100,000
Gross Receipts 800,000
Domestic bonds (75,000)
Cost of services 300,000
Foreign stocks 20,000
Business Expenses 240,000
He also had the following dealing in properties: Net Capital gain 45,000
Computing for the net taxable income
Dealing in Properties Holding Period Gain/(Loss)
Gross Receipts 800,000
Ordinary Assets Cost of Services (300,000)
Equipment 8 mos 20,000 Gross Income from operations 500,000
Old Machines 18 mos (25,000) Add: non-operating income
Ordinary gain on equipment 20,000
Capital Assets Net Capital Gain 45,000
Foreign Bonds 4 mos 100,000
Total Gross Income 565,000
Domestic bonds 15 mos (150,000)
Domestic Stocks 8 mos 80,000 Less: Other Expenses
Foreign Stocks 18 mos 40,000 Business Expenses (240,000)
(25,000)
Ordinary loss on equipment
Compute for the net taxable income of Mr. Tayabas Net taxable income 300,000
Net Capital Loss Carry- Over

If any taxpayer, other than a corporation sustains in any taxable year a net
capital loss, such loss ( in amount not in excess of the net taxable income
for such year) shall be treated in the succeeding taxable year as a
deduction against net capital gain for not more than 12 months.
Subject to the following limits:
Limit 1: The amount of net income in the year the net capital loss was sustained
Limit 2: The available net capital gain of the following year.
Problem
Compute for the Net capital gain in 2016
Mr. Quintey reported the following in 2015 and 2016:
2015 2016 2015 2016
Net income before other income 70,000 300,000 Net Capital gain/loss (40,000) 50,000
Other Income: Net Capital Loss Carry- Over 0 (30,000)
Ordinary Gains 40,000 30,000 Net Capital 0 20,000
Ordinary Loss (80,000) (50,000)
Compute for the Net taxable Income for each year
Dealings in capital Assets 2015 2016
Capital Gains 20,000 80,000 Net income before
Capital Losses (60,000) (30,000) dealing in capital assets 30,000 280,000
Add: Net Capital Gain 0 20,000
Compute for the Taxable net income in 2016 Net taxable Income 30,000 300,000
Compute first for net income before dealing in capital assets
2015 2016
Net income before other income 70,000 300,000
Ordinary Gains 40,000 30,000
Ordinary Loss (80,000) (50,000)
Net income before dealing in capital assets 30,000 280,000
END OF GROSS INCOME