Gains for sale of bonds, debentures and other certificate of indebtedness;

1. Banco de Oro vs. Republic of the Philippines, G.R. No. 198756, August 16, 2016 (Resolution on
Motion for Reconsideration

FACTS: The Bureau of Treasury (BTr) auctioned 10- year Zero-Coupon Bonds denominated the PEACE
Bonds, which the BTr states shall not be subject to 20% final withholding tax. At the auction, RCBC
participated on behalf of Caucus of Development NGO Networks (CODE-NGO) and won the bid. The
Bureau of Treasury then issued ₱35 billion worth of Bonds at yield-to-maturity of 12.75% to RCBC for
approximately ₱10.17 billion, resulting in a discount of approximately ₱24.83 billion.
On October 7, 2011, 11 days before maturity of the PEACe Bonds, the BIR made a reversal of its
previous ruling and ruled that PEACe Bonds should be treated as deposit substitutes subject to the 20%
FWT. Thus, the Php 24.3 billion discount on the issuance of the PEACe Bonds became subject to 20%
Final Tax on interest income from deposit substitutes as provided in Section 27(D)(1) of the Tax Code of
1997.
Petitioners argue that their income from the Bonds is a "trading gain”. This is not the same with
the ‘interest income or yield’ subject to the 20% FWT as contemplated under Section 27 (D)(1) of the
1997 NIRC. 4) Also, CODE-NGO argues that when it sold the PEACe Bonds in the secondary market
instead of holding them until maturity, it derived long-term trading gain[s], (not interest income), which are
exempt under Section 32(B)(7)(g) of the 1997 NIRC

ISSUE: Whether or not the gains earned from the PEACE bonds fall under the exemption of Section
32(B)(7)(g) of the 1997 NIRC.

RULING: YES. The term "gain" as used in Section 32(B)(7)(g) does not include interest, which represents
forbearance for the use of money. Gains from sale or exchange or retirement of bonds or other certificate
of indebtedness fall within the general category of "gains derived from dealings in property" under Section
32(A)(3), while interest from bonds or other certificate of indebtedness falls within the category of
"interests" under Section 32(A)(4).
The use of the term "gains from sale" in Section 32(B)(7)(g) shows the intent of Congress not to
include interest as referred under Sections 24, 25, 27, and 28 in the exemption. Hence, the "gains"
contemplated in Section 32(B)(7)(g) refers to: (1) gain realized from the trading of the bonds before
their maturity date, which is the difference between the selling price of the bonds in the secondary
market and the price at which the bonds were purchased by the seller; and (2) gain realized by the last
holder of the bonds when the bonds are redeemed at maturity, which is the difference between the
proceeds from the retirement of the bonds and the price at which such last holder acquired the bonds. For
discounted instruments, like the zero-coupon bonds, the trading gain shall be the excess of the selling
price over the book value or accreted value (original issue price plus accumulated discount from the time
of purchase up to the time of sale) of the instruments.

Section 32(B)(7)(g): Exclusion from Gross Income: Miscellaneous items Gains realized from the
same or exchange or retirement of bonds, debentures or other certificate of indebtedness with a maturity
of more than five (5) years. Note: Petitioner’s contention: under Section 32, Gains are exempted CIR’s
contention: under Section 24, interest is a passive income subject to 20% FWT

Who are legally permitted to claim deductions? (1st Par., ibid.); Rationale;
2. Sison, Jr. vs. Ancheta, G.R. No. L-59431, July 25, 1984;

FACTS: The challenge posed in this suit for declaratory relief or prohibition proceeding is the validity of
Section I of Batas Pambansa Blg. 135. It amended Section 21 of the National Internal Revenue Code of
1977. Petitioner as taxpayer alleged that "he would be unduly discriminated against by the imposition of
higher rates of tax upon his income arising from the exercise of his profession vis-a-vis those which are
imposed upon fixed income or salaried individual taxpayers." He characterizes the above section as
arbitrary amounting to class legislation, oppressive and capricious in character. For petitioner, therefore,
there is a transgression of both the equal protection and due process clauses of the Constitution as well
as of the rule requiring uniformity in taxation. The OSG prayed for dismissal of the petition due to lack of
merit.

ISSUE: Whether the imposition of a higher tax rate on taxable net income derived from business or
profession than on compensation is constitutionally infirm.

RULING: No. Apparently, what misled petitioner is his failure to take into consideration the distinction
between a tax rate and a tax base. There is no legal objection to a broader tax base or taxable income by
eliminating all deductible items and at the same time reducing the applicable tax rate. Taxpayers may be
classified into different categories. To repeat, it. is enough that the classification must rest upon
substantial distinctions that make real differences. In the case of the gross income taxation embodied in
Batas Pambansa Blg. 135, the, discernible basis of classification is the susceptibility of the income to the
application of generalized rules removing all deductible items for all taxpayers within the class and fixing a
set of reduced tax rates to be applied to all of them. Taxpayers who are recipients of compensation
income are set apart as a class. As there is practically no overhead expense, these taxpayers are e not
entitled to make deductions for income tax purposes because they are in the same situation more or less.
On the other hand, in the case of professionals in the practice of their calling and businessmen, there is
no uniformity in the costs or expenses necessary to produce their income. It would not be just then to
disregard the disparities by giving all of them zero deduction and indiscriminately impose on all alike the
same tax rates on the basis of gross income. There is ample justification then for the Batasang
Pambansa to adopt the gross system of income taxation to compensation income, while continuing the
system of net income taxation as regards professional and business income.

Difference between allowable deduction and tax credit

3. CIR vs. Central Luzon Drug Corporation, G.R. No. 159647, April 15, 2005

FACTS: Respondents operated six drugstores under the business name Mercury Drug. From January to
December 1996 respondent granted 20% sales discount to qualified senior citizens on their purchases of
medicines pursuant to RA 7432 for a total of ₱ 904,769. On April 15, 1997, respondent filed its annual
Income Tax Return for taxable year 1996 declaring therein net losses. On Jan. 16, 1998 respondent filed
with petitioner a claim for tax refund/credit of ₱ 904,769.00 allegedly arising from the 20% sales discount.
Unable to obtain affirmative response from petitioner, respondent elevated its claim to the Court of Tax
Appeals. The court dismissed the same but upon reconsideration, the latter reversed its earlier ruling and
ordered petitioner to issue a Tax Credit Certificate in favor of respondent citing CA GR SP No. 60057
(May 31, 2001, Central Luzon Drug Corp. vs. CIR) citing that Sec. 229 of RA 7432 deals exclusively with
illegally collected or erroneously paid taxes but that there are other situations which may warrant a tax
credit/refund.
CA affirmed Court of Tax Appeal's decision reasoning that RA 7432 required neither a tax liability
nor a payment of taxes by private establishments prior to the availment of a tax credit. Moreover, such
credit is not tantamount to an unintended benefit from the law, but rather a just compensation for the
taking of private property for public use.

ISSUE: Whether or not respondent, despite incurring a net loss, may still claim the 20% sales discount as
a tax credit.

RULING: Yes, it is clear that Sec. 4a of RA 7432 grants to senior citizens the privilege of obtaining a 20%
discount on their purchase of medicine from any private establishment in the country. The latter may then
claim the cost of the discount as a tax credit. Such credit can be claimed even if the establishment
operates at a loss.
A distinguishing feature of the implementing rules of RA 7432 is the private establishment’s
outright deduction of the discount from the invoice price of the medicine sold to the senior citizen. What
RA 7432 grants the senior citizen is a mere discount privilege, not a sales discount or any of the above
discounts in particular. To be sure, the privilege enjoyed by the senior citizen must be equivalent to the
tax credit benefit enjoyed by the private establishment granting the discount. Yet, under the revenue
regulations promulgated by our tax authorities, this benefit has been erroneously likened and confined to
a sales discount. To stress, the effect of a sales discount on the income statement and income tax return
of an establishment covered by RA 7432 is different from that resulting from the availment or use of its tax
credit benefit. While the former is a deduction before, the latter is a deduction after, the income tax is
computed.
Sections 2.i and 4 of Revenue Regulations No. (RR) 2-94 define tax credit as the 20 percent
discount deductible from gross income for income tax purposes, or from gross sales for VAT or other
percentage tax purposes. In effect, the tax credit benefit under RA 7432 is related to a sales discount.
This contrived definition is improper, considering that the latter has to be deducted from gross sales in
order to compute the gross income in the income statement and cannot be deducted again, even for
purposes of computing the income tax.
When the law says that the cost of the discount may be claimed as a tax credit, it means that the
amount -- when claimed -- shall be treated as a reduction from any tax liability, plain and simple. The
option to avail of the tax credit benefit depends upon the existence of a tax liability, but to limit the benefit
to a sales discount -- which is not even identical to the discount privilege that is granted by law -- does not
define it at all and serves no useful purpose. The definition must, therefore, be stricken down.

Tax credit generally refers to an amount that is "subtracted directly from one’s total tax liability." It
is an "allowance against the tax itself" or "a deduction from what is owed" by a taxpayer to the
government. Examples of tax credits are withheld taxes, payments of estimated tax, and investment tax
credits.
Tax credit should be understood in relation to other tax concepts. One of these is tax deduction --
defined as a subtraction "from income for tax purposes," or an amount that is "allowed by law to reduce
income prior to [the] application of the tax rate to compute the amount of tax which is due." An example of
a tax deduction is any of the allowable deductions enumerated in Section 3420 of the Tax Code.
A tax credit differs from a tax deduction. On the one hand, a tax credit reduces the tax due,
including -- whenever applicable -- the income tax that is determined after applying the corresponding tax
rates to taxable income. A tax deduction, on the other, reduces the income that is subject to tax in order
to arrive at taxable income. To think of the former as the latter is to avoid, if not entirely confuse, the
issue. A tax credit is used only after the tax has been computed; a tax deduction, before.

Ordinary and necessary expenses (Section 34(A)(1)(a)(i) to (v) and (b) in relation to 34(K), and
36(A)(2) and (3) of the NIRC, as amended); a. Requisites;
4. H. Tambunting Pawnshop, Inc., G.R. No. 173373, July 29, 2013;

FACTS: Petitioner Tambunting Pawnshop assails the decisin of CTA EN Banc, affirming the order of the
CTA division in ordering it to pay deficiency income taxes in the amount of ₱4,536,687.15 for taxable yaar
1997, plus 20% delinquency interest. It was in 2000 when the Bureau of Internal Revenue (BIR) issued
assessment notices and demand letters assessing Tambunting for deficiency percentage tax, income tax
and compromise penalties. On July 26, 2000, Tambunting instituted an administrative protest against the
assessment notices and demand letters with the Commissioner of Internal Revenue. However, the CTA
decided that the claimed deductions by the petitioner must be disallowed because it failed to substantiate
those claims. Hence, the petition with an argument by the petitioner that the CTA had previously allowed
deductions for ordinary and necessary expenses on the basis of cash vouchers issued by the taxpayer or
certifications issued by the payees. Petitioner argues that it proved its entitlement to the deductions
through all the documentary and testimonial evidence presented in court.

ISSUE: Whether or not the petitioner has duly substantiated its claims for deductions as to its necessary
and ordinary expenses

RULING: NO. Petitioner should have presented the official receipts or invoices to prove its claim. As to
business expenses, Section 29 (a) (1) (A) of the NIRC of 1977 provides the requisites for the deductibility
of ordinary and necessary trade or business expenses, like those paid for security and janitorial services,
management and professional fees, and rental expenses, are that: (a) the expenses must be ordinary and
necessary; (b) they must have been paid or incurred during the taxable year; (c) they must have been
paid or incurred in carrying on the trade or business of the taxpayer; and (d) they must be supported by
receipts, records or other pertinent papers.
 Contrary to petitioner’s contention, the security/janitorial expenses paid to Pathfinder Investigation
were not duly substantiated. The certification issued by Mr. Balisado was not the proper document
required by law to substantiate its expenses. Petitioner should have presented the official receipts or
invoices to prove its claim as provided for under Section 238 of the National Internal Revenue Code of
1977.
Petitioner's statements were self-serving, likewise it failed to substantiate its allegations by clear
and convincing evidence as provided under the foregoing provision of law. Bearing in mind the principle in
taxation that deductions from gross income partake the nature of tax exemptions which are construed in
strictissimi juris against the taxpayer, the Court en banc is not inclined to believe the self-serving
statements of petitioner regarding the misclassified items of office supplies, advertising and rents.
While the rental payments were subjected to the applicable expanded withholding taxes, such
returns are not the documents required by law to substantiate the rental expense. Petitioner should have
submitted official receipts to support its claim.
And on the issue on the submission of cash vouchers as evidence to prove expenses incurred,
the Court clarified that the NIRC provides that a person who is subject to an internal revenue tax shall
issue receipts, sales or commercial invoices, prepared at least in duplicate. So that when their books of
accounts are subjected to a tax audit examination, all entries therein could be shown as adequately
supported and proven as legitimate business transactions.
Tambunting did not discharge its burden of substantiating its claim for deductions due to the
inadequacy of its documentary support of its claim. Its reliance on withholding tax returns, cash vouchers,
lessor’s certifications, and the contracts of lease was futile because such documents had scant probative
value.

5. CIR vs. Isabela Cultural Corporation, G.R. No. 172231, February 12, 2007

FACTS: Isabela Cultural Corporation (ICC), a domestic corporation, received an assessment notice for
deficiency income tax and expanded withholding tax from BIR. It arose from the disallowance of ICC’s
claimed expense for professional and security services paid by ICC to wit: (a) Expenses for the auditing
services of SGV & Co for 1985; (b) Expenses for the legal services [inclusive of retainer fees] of a law firm
for 1984 and 1985 and (c) Expense for security services of El Tigre Security for April and May 1986; as
well as the alleged understatement of interest income on the three promissory notes due from Realty
Investment Inc. The CTA rendered a decision canceling and setting aside the assessment notices issued
holding that the claimed deductions for professional and security services were properly claimed by ICC
in 1986 because it was only in the said year when the bills demanding payment were sent to ICC. Hence,
even ifsome of these professional services were rendered to ICC in 1984 or 1985, it could not declare the
same as deduction for the said years as the amount thereof could not be determined at that time. It
likewise found that it is the BIR which overstate the interest income, when it applied compounding absent
any stipulation in the contract providing for compounding. CIR appealed to the CA, who affirmed CTA’s
ruling. Hence, the petition.

ISSUE: Whether the expenses for professional and security services are deductible.

RULING: No. The requisites for the deductibility of ordinary and necessary trade, business, or
professional expenses, like expenses paid for legal and auditing services, are: (a) the expense must be
ordinary and necessary; (b) it must have been paid or incurred during the taxable year; (c) it must have
been paid or incurred in carrying on the trade or business of the taxpayer; and (d) it must be supported by
receipts, records or other pertinent papers. The requisite that it must have been paid or incurred during
the taxable year is further qualified by Section 45 of the NIRC: the deduction provided for in this Title shall
be taken for the taxable year in which ‘paid or accrued’ or ‘paid or incurred’, dependent upon the method
of accounting upon the basis of which the net income is computed x x x"
In this case, ICC is using the accrual method of accounting. Under a Revenue Audit
Memorandum, when the method of accounting is accrual, expenses not being claimed as deductions by a
taxpayer in the current year when they are incurred cannot be claimed in the succeeding year. Thus, a
taxpayer who is authorized to deduct certain expenses and other allowable deductions for the current
year but failed to do so cannot deduct the same for the next year. The accrual of income and expense is
permitted when the all-events test has been met. This test requires: (1) fixing of a right to income or
liability to pay; and (2) the availability of the reasonable accurate determination of such income or liability.
The all-events test requires the right to income or liability be fixed, and the amount of such income or
liability be determined with reasonable accuracy. The test does not demand that the amount of income or
liability be known absolutely, only that a taxpayer has at its disposal the information necessary to compute
the amount with reasonable accuracy. The all-events test is satisfied where computation remains
uncertain, if its basis is unchangeable; the test is satisfied where a computation may be unknown, but is
not as much as unknowable, within the taxable year. In this case, the nature of the claimed deductions
and the span of time during which the firm was retained, ICC can be expected to have reasonably known
the retainer fees charged by the firm as well as the compensation for its legal services. The failure to
determine the exact amount of the expense during the taxable year when they could have been claimed
as deductions cannot thus be attributed solely to the delayed billing of these liabilities by the firm. The
accrual method presents largely a question of fact and that the taxpayer bears the burden of establishing
the accrual of an expense or income. However, ICC failed to discharge this burden. It simply relied on the
defense of delayed billing by the firm and the company, which under the circumstances, is not sufficient to
exempt it from being charged with knowledge of the reasonable amount of the expenses for legal and
auditing services. As to the expenses for security services, the records show that these expenses were
incurred by ICC in 1986 and could therefore be properly claimed as deductions for the said year. Petition
partially granted.

6. Hospital de San Juan de Dios vs. CIR, G.R. No. 31305, May 10, 1990;

FACTS: Petitioner is engaged in both taxable and non-taxable operations. The income derived from the
operations of the hospital and the nursing school are exempt from income tax while the rest of petitioner’s
income are subject thereto. Its taxable or non-operating income consists of rentals, interests and
dividends received from its properties and investments. In the computation of its taxable income for the
years 1952 to 1955, petitioner allowed all its taxable income to share in the allocation of administrative
expenses. Respondent, Commissioner of Internal Revenue disallowed, however, the interests and
dividends from sharing in the allocation of administrative expense on the ground that the expenses
incurred in the administration or management of petitioner’s investments are not allowable business
expenses inasmuch as they were not incurred in ‘carrying on any trade or business’ within the
contemplation of Section 30 (a) (1) of the Revenue Code. Consequently, petitioner was assessed
deficiency income taxes for the years in question
Petitioner protested in this, and requested the Commissioner to cancel and withdraw the said
findings. After reviewing, the deficiency was reduced to only P16,852.41. Still the petitioner, through its
auditors, insisted on the cancellation of the revised assessment. The request was, however, denied.

ISSUE: WON dividends and interests are expenses incurred in carrying on any trade or business, hence,
deductible as business expense under Section 30 (A) (I) of the Revenue Code.

RULING: Supreme Court ruled in the negative. The CTA found that petitioner failed to establish by
competent proof that its receipt of interests and dividends constituted the carrying on of a trade or
business so as to warrant the deductibility of the expenses incurred in their realization. Petitioner could
have easily required any of its responsible officials to testify on this regard but it failed to do so. Under
these circumstances and coupled with the fact that the interests and dividends here in question are
merely incidental income to petitioner’s main activity, which is the operation of its hospital and nursing
schools, the conclusion becomes inevitable that petitioner’s activities never go beyond that of a passive
investor, which under existing jurisprudence do not come within the purview of carrying on any “trade or
business”.
That factual finding is binding on this Court. And, as the principle of allocating expenses is
grounded on the premise that the taxable income was derived from carrying on a trade or business, as
distinguished from mere receipt of interests and dividends from one’s investments, the CTA correctly
ruled that said income should not share in the allocation of administrative expenses.
Hospital de San Juan De Dios, Inc., according to its Articles of Incorporation, was established for
purposes “Which are benevolent, charitable and religious, and not for financial gain”. It is not carrying on
a trade or business for the word “business” in its ordinary and common use means “human efforts which
have for their end living or reward; it is not commonly used as descriptive of charitable, religious,
educational or social agencies” or “any particular occupation or employment habitually engaged in
especially for livelihood or gain” or “activities where profit is the purpose or livelihood is the motive.”

Ordinary and Necessary Expense vs. Capital Expenditure;

7. Gutierrez vs. CIR, G.R. No. L-19537, May 20, 1965;

FACTS: Lino Gutierrez was primarily engaged in the business of leasing real property for which he paid
real estate broker’s privilege tax. On July 10, 1956, the Commissioner (formerly Collector) of Internal
Revenue assessed against Gutierrez a deficiency income tax amounting to P11,841.
The deficiency tax came about by the disallowance of deductions from gross income representing
depreciation, expenses Gutierrez allegedly incurred in carrying on his business, and the addition to gross
income of receipts which he did not report in his income tax returns. The disallowed business expenses
which were considered by the Commissioner either as personal or capital expenditures consisted of the
following:
1. Personal expenses such as transportation expenses to attend funeral of various persons, Car
expenses, salary of driver, car depreciation, Expenses in attending National Convention of
Filipino Businessmen in Baguio, Alms to indigent family, and more.
2. Capital expenditures such as Electrical fixtures and supplies, Transportation and other
expenses to watch laborers in construction work, Realty tax not paid by former owner of property
acquired by Gutierrez, Litigation expenses to collect rental and eject lessee, Cost of one set of
Comments on the Rules of Court by Moran, Painting of rental apartments and more.
3. Other disallowed deductions such as Fines and penalties for late payment of taxes.

Having unsuccessfully questioned the legality and correctness of the aforesaid assessment,
Gutierrez instituted on February 17, 1958, the Commissioner issued a warrant of distraint and levy on one
of Gutierrez' real properties but desisted from enforcing the same when Gutierrez filed a bond to assure
payment of his tax liability.
In a decision dated January 28, 1962, the Court of Tax Appeals upheld in toto the assessment of
the Commissioner of Internal Revenue. Hence, the appeal.

ISSUE(s) OF THE CASE:

1. Whether or not the deductions claimed by Gutierrez are allowable?
2. What expenses are considered ordinary and capital assets?

RULING OF THE COURT:

1. YES. Section 30(a) of the Tax Code allows business expenses to be deducted from gross
income. SEC. 30. Deductions from gross income. — In computing net income there shall be
allowed as deductions — (a) Expenses: (1) In general. — All the ordinary and necessary
expenses paid or incurred during the taxable year in carrying on any trade or business, including
a reasonable allowance for salaries or other compensation for personal services actually
rendered; travelling expenses while away from home in the pursuit of a trade or business; and
rentals or other payments required to be made as a condition to be continued use of possession,
for the purposes of the trade or business, or property to which the taxpayer has not taken or is
not taking title or in which he has no equity. To be deductible, therefore, an expense must be (1)
ordinary and necessary;(2) paid or incurred within the taxable year; and, (3) paid or incurred in
carrying on a trade or business.

2. Ordinary Expenses – Deductible business expense

a. Commissions given in consideration for bringing about a profitable transaction are part
of the cost of the business transaction and are deductible. (The cost of furniture given by
 the taxpayer as commission in furtherance of a business transaction, the expenses
incurred in attending the National Convention of Filipino Businessmen, luncheon meeting
and cruise to Corregidor of the Homeowners' Association)
b. Expenses in attending National Convention of Filipino Businessmen in Baguio, Having
proved that his membership thereof and activities in connection therewith were solely to
enhance his business.
c. One-half of the driver's salary, car expenses and depreciation because there is no
clear showing, that the car was devoted more for the taxpayer's business than for his
personal and business needs.
d. The electrical supplies, paint, lumber, plumbing, cement, tiles, gravel, masonry and
labor used to repair the taxpayer's rental apartments
e. The litigation expenses defrayed by Gutierrez to collect apartment rentals and to eject
delinquent tenants are ordinary and necessary expenses in pursuing his business.
Capital Assets – Not deductible business expenses
a. Expenses in watching over laborers in construction work
b. Real estate tax which remained unpaid by the former owner of Gutierrez' rental
property but which the latter paid
c. The iron bars, venetian blind and water pump augmented the value of the, apartments
where they were installed
d. Expenses for the relocation, survey and registration of property tend to strengthen title
over the property
e. The set of "Comments on the Rules of Court" having a life span of more than one year
should be depreciated ratably during its whole life span instead of its total cost being
deducted in one year.

All the ordinary and necessary expenses paid or incurred during the taxable year in carrying on
any trade or business, including a reasonable allowance for salaries or other compensation for personal
services actually rendered; travelling expenses while away from home in the pursuit of a trade or
business; and rentals or other payments required to be made as a condition to be continued use of
possession, for the purposes of the trade or business, or property to which the taxpayer has not taken or
is not taking title or in which he has no equity.

8. Atlas Consolidated Mining Co. vs. CIR, G.R. No. L-20911, January 27, 1981;

FACTS: Atlas is a corporation engaged in the mining industry registered under the laws of the
Philippines. On August 1962, Commissioner assessed against Atlas a total of P761,789.12 as deficiency
income taxes for the years 1957 and 1958. It was the opinion of the Commissioner that Atlas is not
entitled to exemption from the income tax under Section 4 of Republic Act 909 1 because same covers
only gold mines. For the year 1958, the assessment of deficiency income tax of P761,789.12 covers the
disallowance of items claimed by Atlas as deductible from gross income. Atlas protested the assessment
asking for its reconsideration and cancellation so the Commissioner conducted a reinvestigation of the
case. The Secretary of Finance ruled that the exemption provided in Republic Act 909 embraces all new
mines and old mines whether gold or other minerals. Accordingly, the Commissioner recomputed Atlas
deficiency income tax liabilities in the light of the ruling of the Secretary of Finance. The Court of Tax
Appeals rendered a decision on allowing the disallowed items, except the items denominated by Atlas as
stockholders relation service fee and suit expenses. Atlas appealed only that portion of the Court of Tax
Appeals' decision disallowing the deduction from gross income of the so-called stockholders relation
service fee amounting to P25,523.14. It is the contention of Atlas that the amount paid in 1958 as annual
public relations expenses is a deductible expense from gross income under Section 30 (a) (1) of the
National Internal Revenue Code. Atlas claimed that it was paid for services of a public relations firm, P.K
Macker & Co., a reputable public relations consultant in New York City, U.S.A., hence, an ordinary and
necessary business expense in order to compete with other corporations also interested in the investment
market in the United States.
ISSUE: Whether or not the expenses paid for the services rendered by a public relations firm P.K MacKer
& Co. labelled as stockholders relation service fee is an allowable deduction as business expense under
Section 30 (a) (1) of the National Internal Revenue Code as ordinary and necessary expense.

RULING: No. The Court sustained the ruling of the tax court that the expenditure paid to P.K. Macker &
Co. as compensation for services carrying on the selling campaign in an effort to sell Atlas' additional
capital stock is not an ordinary expense (in line with the decision of U.S. Board of Tax Appeals in the case
of Harrisburg Hospital Inc. vs. Commissioner of Internal Revenue.)
Their contention that the expense in question was incurred to create a favorable image of the
corporation in order to gain or maintain the public's and its stockholders' patronage, does not make it
deductible as business expense. (As held in the case of Welch vs. Helvering) Efforts to establish
reputation are similar to the acquisition of capital assets and, therefore, expenses related thereto are not
business expense but capital expenditures.
The Court ruled that it does not agree with the contention of Atlas that the conclusion of the Court
of Tax Appeals in holding that the expense for acquisition of additional capital is not supported by the
evidence. The burden of proof that the expenses incurred are ordinary and necessary is on the taxpayer
16 and does not rest upon the Government.
To avail of the claimed deduction under Section 30(a) (1) of the National Internal Revenue Code,
it falls to the taxpayer to adduce substantial evidence to prove that the expenses are for the ordinary
conduct of the business. A reasonable link between the expense and the taxpayer's business must be
established by the taxpayer.
We come, then, to the statutory test of deductibility. To be deductible as a business expense,
three conditions are imposed, namely: (1) the expense must be ordinary and necessary, (2) it must be
paid or incurred within the taxable year, and (3) it must be paid or incurred in carrying in a trade or
business. In addition, not only must the taxpayer meet the business test, he must substantially prove by
evidence or records the deductions claimed under the law. otherwise, the same will be disallowed. The
mere allegation of the taxpayer that an item of expense is ordinary and necessary does not justify its
deduction.
DISPOSITIVE PORTION: WHEREFORE, judgment appealed from is hereby affirmed with
modification that the amount of P17,499.98 (3/4 of P23,333.00) representing suit expenses be disallowed
as deduction instead of P6,666.65 only. With this amount as part of the net income, the corresponding
income tax shall be paid thereon, with interest of 6% per annum from June 20, 1959 to June 20,1962.

To be deductible as a business expense, three conditions are imposed, namely: (1) the expense
must be ordinary and necessary, (2) it must be paid or incurred within the taxable year, and (3) it must be
paid or incurred in carrying in a trade or business.

OTHER DOCTRINES: Accordingly, as found by the Court of Tax Appeals, the said expense is not
deductible from Atlas gross income in 1958 because expenses relating to recapitalization and
reorganization of the corporation, the cost of obtaining stock subscription, promotion expenses, and
commission or fees paid for the sale of stock reorganization are capital expenditures. That the expense in
question was incurred to create a favorable image of the corporation in order to gain or maintain the
public's and its stockholders' patronage, does not make it deductible as business expense. As held in the
case of Welch vs. Helvering, efforts to establish reputation are akin to acquisition of capital assets and,
therefore, expenses related thereto are not business expense but capital expenditures.

9. CIR vs. General Foods [Phils.], Inc., G.R. No. 143672, April 24,

FACTS: In its 1985 ITR, General Foods Inc. claimed that the costs of its media advertisement for Tang
qualified as a business expense that is deductible from its gross income. a. Amount claimed as deductible
= P9,461,246.
CIR disallowed the deduction and assessed a deficiency in income taxes paid by General Foods.
Commissioner disallowed 50% or P4,730,623 of the deduction claimed by respondent corporation.
Consequently, respondent corporation was assessed deficiency income taxes in the amount of
P2,635,141.42.
 CTA Ruling → The costs of the media advertisement is NOT an ordinary expense as it does NOT
pass the “reasonableness test” → It does NOT qualify as a deductible → Ordered to pay deficiency in
income taxes
a. With such a gargantuan expense for the advertisement of a singular product, which even
excludes "other advertising and promotions" expenses, we are not prepared to accept that such
amount is reasonable "to stimulate the current sale of merchandise" regardless of Petitioner's
explanation that such expense "does not connote unreasonableness considering the grave
economic situation taking place after the Aquino assassination characterized by capital flight,
strong deterioration of the purchasing power of the Philippine peso and the slacking demand for
consumer products
b. The staggering expense... was incurred "to create or maintain some form of good will for the
taxpayer's trade or business or for the industry or profession of which the taxpayer is a member."
c. As held in the case of Welch vs. Helvering, efforts to establish reputation are akin to acquisition
of capital assets and, therefore, expenses related thereto are not business expenses but capital
expenditures... Such expenditure was meant not only to generate present sales but more for
future and prospective benefits. Hence, "abnormally large expenditures for advertising are usually
to be spread over the period of years during which the benefits of the expenditures are received."
CA reversed CTA and ruled in favor of General Foods. CIR assailed the CA decision.

ISSUE: WON media advertising expense for "Tang" incurred by respondent corporation was an ordinary
and necessary expense which makes it fully deductible from its gross income.

RULING: No, it does NOT pass the test of reasonableness. Hence, it does NOT qualify as an ordinary
expense and is NOT deductible.

(Question stated alternatively)

Was the media advertising expense for "Tang" paid or incurred by respondent corporation for the fiscal
year ending February 28, 1985 "necessary and ordinary," hence, fully deductible under the NIRC?
Or was it a capital expenditure, paid in order to create "goodwill and reputation" for respondent
corporation and/or its products, which should have been amortized over a reasonable period?

Test of Reasonableness
a. No fixed or clear-cut criteria
b. Right to a deduction depends on a number of factors such as but not limited to:
i. the type and size of business in which the taxpayer is engaged;
ii. the volume and amount of its net earnings;
iii. the nature of the expenditure itself;
iv. the intention of the taxpayer and the general economic conditions.

It is the interplay of these, among other factors and properly weighed, that will yield a proper
evaluation.
SC: The expense for the Tang media advertisement did not pass the reasonableness test → It is
not an ordinary expense.
ITCAB, the P9,461,246 claimed as media advertising expense for "Tang" alone was almost one-
half of its total claim for "marketing expenses." Aside from that, respondent-corporation also claimed
P2,678,328 as "other advertising and promotions expense" and another P1,548,614, for consumer
promotion Furthermore, the subject P9,461,246 media advertising expense for "Tang" was almost double
the amount of respondent corporation's P4,640,636 general and administrative expenses.
We find the subject expense for the advertisement of a single product to be inordinately large.
Therefore, even if it is necessary, it cannot be considered an ordinary expense deductible under then
Section 29 (a) (1) (A) of the NIRC.

Tax deductions for income taxes are construed in strictissimi juris against the taxpayer and liberally in
favor of the taxing authority.
a. He who claims an exemption must be able to justify his claim by the clearest grant of organic or
statute law
2. The Elements Required for an Expense to be Deductible from the Gross Income
a. The expense must be ordinary and necessary;
b. It must have been paid or incurred during the taxable year;
c. It must have been paid or incurred in carrying on the trade or business of the taxpayer;
d. It must be supported by receipts, records or other pertinent papers.

10. C.M. Hoshkins & Co. vs. CIR, G.R. No. L-24059, November 28, 1969;

FACTS: Petitioner is a corporation engaged in real estate business. Petitioner Hoskins owns 99.6% of the
total shares of the corporation and other 4 shares are held by other four officers. Hoskins is also the
chairman of the board of directors during the taxable period in question. He received a salary of 3750 a
month and a bonus of 40K a year.
In September 1957, petitioner filed its ITR showing a net income of 92K and a tax liability of 18K.
Upon verification, the CIR disallowed 4 items of deduction and assessed an income tax deficiency of 28K
plus interests. The Court of Tax Appeals upheld the CIR's disallowance of the principal item of petitioner's
payment to Hoskins amounting to 99K , which represents 50% supervision fees earned by it. The Tax
Court ordered petitioner to pay 27K for its deficiency.

ISSUE: Whether the disallowed payment to Hoskins was an inordinately large one, which bore a close
relationship to the recipient's dominant stockholdings and therefore amounted in law to a distribution of its
earnings and profits.

RULING: YES, the Tax Court correctly ruled that the payment by petitioner to Hoskins of the additional
sum of P99,977.91 as his equal or 50% share of the 8% supervision fees received by petitioner as
managing agents of the real estate, subdivision projects of Paradise Farms, Inc. and Realty Investments,
Inc. was inordinately large and could not be accorded the treatment of ordinary and necessary expenses
allowed as deductible items within the purview of Section 30 (a) of the Tax Code.
Considering that in addition to being Chairman of the board of directors of petitioner corporation,
which bears his name, Hoskins, who owned 99.6% of its total authorized capital stock while the four other
officers-stockholders of the firm owned a total of four-tenths of 1%, or one-tenth of 1% each, with their
respective nominal shareholdings of one share each was also salesman-broker for his company,
receiving a 50% share of the sales commissions earned by petitioner, besides his monthly salary of
P3,750.00 amounting to an annual compensation of P45,000.00 and an annual salary bonus of
P40,000.00, plus free use of the company car and receipt of other similar allowances and benefits
If such payment of P99,977.91 were to be allowed as a deductible item, then Hoskins would
receive on these three items alone (salary, bonus and supervision fee) a total of P184,977.91, which
would be double the petitioner's reported net income for the year of P92,540.25.

As far as petitioner's contention that as employer it has the right to fix the compensation of its
officers and employees and that it was in the exercise of such right that it deemed proper to pay the
bonuses in question, all that We need say is this: that right may be conceded, but for income tax
purposes the employer cannot legally claim such bonuses as deductible expenses unless they are shown
to be reasonable. To hold otherwise would open the gate of rampant tax evasion.

11. Aguinaldo Industries Corporation vs. CIR, G.R. No. L-29790, February 25, 1982;

FACTS: Petitioner is a domestic corporation engaged in 2 lines of business (a) the manufacture of fishing
nets, a tax-exempt industry, and (b) the manufacture of furniture. Petitioner acquired a parcel of land in
Muntinglupa, , as site of the fishing net factory. Later, when another parcel of land in Marikina Heights
was found supposedly more suitable for the needs of petitioner, it sold the Muntinglupa property,
Petitioner derived profit from this sale which was entered in the books of the Fish Nets Division as
miscellaneous income to distinguish it from its tax-exempt income.
 After investigation of returns, the examiners of BIR found that the Fish Nets Division deducted
from its gross income for that year the amount of additional remuneration paid to the officers of petitioner.
The examiner further found that this amount was taken from the net profit of an isolated transaction (sale
of aforementioned land) not in the course of or carrying on of petitioner's trade or business. Upon
recommendation of examiner that the said sum 48 be disallowed as deduction from gross income,
petitioner asserted in its letter, that said amount should be allowed as deduction because it was paid to its
officers as allowance or bonus.
Petitioner argues that the profit derived from the sale of its Muntinglupa land is not taxable for it is
tax-exempt income, considering that its Fish Nets Division enjoys tax exemption as a new and necessary
industry. Petitioner implicitly admitted that the profit it derived from the sale of its Muntinglupa land, a
capital asset, was a taxable gain — which was precisely the reason why for tax purposes the petitioner
deducted therefrom the questioned bonus to its corporate officers as a supposed item of expense
incurred for the sale of the said land, apart from the commission paid by the petitioner to the real estate
agent who indeed effected the sale.

ISSUE: WON bonus given to the officers of the petitioner upon the sale of its Muntinglupa land is an
ordinary and necessary business expense deductible for income tax purposes.

RULING: No. Bonus given to the officers of the petitioner as their share of the profit realized from the sale
of petitioner's Muntinglupa land cannot be deemed a deductible expense for tax purposes.
The records show that the sale was effected through a broker who was paid by petitioner a
commission for his services. On the other hand, there is absolutely no evidence of any service actually
rendered by petitioner's officers which could be the basis of a grant to them of a bonus out of the profit
derived from the sale. This being so, the payment of a bonus to them out of the gain realized from the
sale cannot be considered as a selling expense; nor can it be deemed reasonable and necessary so as to
make it deductible for tax purposes.
In Alhambra vs. CIR: . . . whenever a controversy arises on the deductibility, for purposes of
income tax, of certain items for alleged compensation of officers of the taxpayer, two (2) questions
become material, namely: (a) Have personal services been actually rendered by said officers? (b) In the
affirmative case, what is the reasonable allowance. Extraordinary and unusual amounts paid by petitioner
to these directors in the guise and form of compensation for their supposed services as such, without any
relation to the measure of their actual services, cannot be regarded as ordinary and necessary expenses
within the meaning of the law.

In computing net income there shall be allowed as deductions —

a. Expenses: 1. In general. All the Ordinary and necessary expenses paid or incurred during the
taxable year in carrying on any trade or business, including a reasonable allowance for personal
services actually rendered. ...

Requisites; Relate with Article 1956, CC; and Section 36(B), NIRC, as amended
12. CIR vs. Prieto, G.R. No. L-11976, September 26, 1961;

FACTS: Doña. Teresa Tuazon y de la Paz died in Manila leaving a last will and testament, subsequently
admitted to probate in the Court of First Instance of said city. It provided that, with the exception of five
specific legacies amounting to P80,800.00, all her property be distributed in equal shares among 14 heirs,
respondents Antonio, Benito and Mauro, all surnamed Prieto, being amongst them.
The probate court approved the project of partition submitted by the Executrix, according to which
the value of the inventoried estate amounted to P3,513,073.63. Deducting therefrom the five specific
legacies amounting to a total of P80,800.00, the resulting net estate to be divided equally among the 14
heirs was P3,432,273.63, this entitling each heir to a share with a value of P245,162.40.
For purposes of estate and inheritance taxes, however, petitioner CIR evaluated the net estate in
the total sum of P3,757,286.22. Deducting therefrom the total value of the specific legacies, the residual
estate to be divided equally among the 14 heirs.
However, because of the impossibility of dividing the real properties of the testatrix equally among
the 14 heir, to respondents Antonio, Benito and Mauro Prieto were allotted properties with a total value
greater than that of the properties allotted to the other 11 heirs. It was, therefore, agreed that, to equalize
the shares of the heirs, the three respondents should reimburse in case to their co-heirs the resulting
difference in value.
The Executrix filed with petitioner the corresponding estate and inheritance tax return. The
corresponding assessment notice was issued by petitioner, but after an investigation of the decedent's
estate, petitioner appraised the same at a total of P5,855,400.24. The estate tax, as per original
assessment notice, in the sum of P447,491.04 was paid by the Executrix. Upon receipt of the revised
assessment the heirs moved for a reconsideration. The reinvestigation of the matter, however, resulted in
a new or revised assessment notice. After further investigation, petitioner issued a revised assessment
calling for the payment on an unpaid balance of P673,193.51. Pursuant thereto, petitioner issued the final
revised assessment notice on February 18, 1953 calling for the payment of an unpaid balance of
P594,920.82.
In the final analysis, therefore, Antonio Prieto, has paid on account of the estate and inheritance
taxes assessed against him, Benito Prieto, and Mauro Prieto. Claiming that the amounts thus collected
from them were excess of the taxes and penalties lawfully due, they asked petitioner to refund the
overpayments, but their petition was denied.
Petitioner contends that the CTA erred:(1) in holding that the cash payments made by
respondents to their coheirs were made to equalize the shares of all the 14 heirs; (2) in concluding that,
for the purpose of computing the estate and inheritance taxes due from respondents, said cash payments
should be deducted from the value of the properties respectively received by them from the estate by way
of inheritance and (3) in ordering the refund of the amount claimed, with interests.

ISSUE: WON there has been an overpayment in connection with respondents' respective inheritance tax
liability.

RULING: YES. It shows conclusively that the cash payments demanded from and made by respondents
were for the purpose of making equal the share of each one of the fourteen heirs instituted in the last will
of the deceased. But petitioner contends that the individual share of each heir in the net estate is what
appears in the project of partition, and that the cash payments made by respondents are immaterial in the
determination of their respective inheritance tax because the money paid did not form part of the estate of
the decedent. We find no merits in these contentions.
It cannot be disputed that the inheritance tax should be paid on the basis of the value of the
properties inherited by an heir.
On the other hand, it is clear in this case that what each of the respondents really and actually
received as his share in the inheritance is the value of the properties allotted to them minus what they had
to pay to their coheirs to compensate the latter for the difference in value existing between the properties
allotted to respondents, on the one hand, and those allotted to the other heirs, on the other. To claim
otherwise would be closing one's eyes to the realities of the case. The resulting amount, therefore, is the
just and fair basis for the determination of the tax liability of respondents. On the other hand, the ruling of
the CTA to the effect that petitioner should pay legal interest on the amounts improperly collected from
respondents is in accord with our decision in Carcar Electric & Ice Plant Co., Inc. vs. CIR.
Under the present Internal Revenue Code the CIR may be made to answer for interest at the
legal rate on taxes improperly collected. Such liability serves as additional safeguard in favor of the
taxpayer against arbitrariness in the exaction or collection of taxes and imposts.
As stated, when petitioner made his final assessment notice on February 18, 1953, the estate tax
assessed under the third assessment notice — P681,692.02 — had already been paid in full.
Consequently, when the aforesaid last assessment reduced the estate tax to P613,674.04, there was a
resulting overpayment of the estate tax in the sum of P68,018.02 which petitioner credited to the unpaid
inheritance taxes due from the heirs. From February 18, 1953, therefore, there was no longer any
question of payment or overpayment of the estate tax — which explains the fact that respondents claim
refund of inheritance tax only.
Premises considered, the decision appealed from is affirmed.

Options on how to treat interest expense (Section 34(B)(2), NIRC, as amended);

13. Paper Industries Corporation of the Philippines (PICOP) vs. CA, G.R. No. 106949, December 1,
1995;

FACTS: In 1969, 1972 and 1977, Picop obtained loans from foreign creditors in order to finance the
purchase of machinery and equipment needed for its operations. In its 1977 Income Tax Return, Picop
claimed interest payments made in 1977, amounting to P42,840,131.00, on these loans as a deduction
from its 1977 gross income. The CIR disallowed this deduction upon the ground that, because the loans
had been incurred for the purchase of machinery and equipment, the interest payments on those loans
should have been capitalized instead and claimed as a depreciation deduction taking into account the
adjusted basis of the machinery and equipment (original acquisition cost plus interest charges) over the
useful life of such assets. Both the CTA and the Court of Appeals sustained the position of Picop and held
that the interest deduction claimed by Picop was proper and allowable.

ISSUE: Whether Picop is entitled to deductions against income of interest payments on loans for the
purchase of machinery and equipment.

RULING: The general rule is that interest expenses are deductible against gross income and this
certainly includes interest paid under loans incurred in connection with the carrying on of the business of
the taxpayer.
In the instant case, the CIR does not dispute that the interest payments were made by Picop on
loans incurred in connection with the carrying on of the registered operations of Picop. Neither does the
CIR deny that such interest payments were legally due and demandable under the terms of such loans,
and in fact paid by Picop during the tax year 1977.
The CIR has been unable to point to any provision of the 1977 Tax Code or any other Statute that
requires the disallowance of the interest payments made by Picop. The CIR invokes Section 79 of
Revenue Regulations No. 2 as amended which reads as follows:
Sec. 79. Interest on Capital. — Interest calculated for cost-keeping or other purposes on account
of capital or surplus invested in the business, which does not represent a charge arising under an
interest-bearing obligation, is not allowable deduction from gross income.

The provision of Revenue Regulations No. 2 as referring to so called "theoretical interest," that is
to say, interest "calculated" or computed (and not incurred or paid) for the purpose of determining the
"opportunity cost" of investing funds in a given business. Such "theoretical" or imputed interest does not
arise from a legally demandable interest-bearing obligation incurred by the taxpayer who however wishes
to find out, e.g., whether he would have been better off by lending out his funds and earning interest
rather than investing such funds in his business. One thing that Section 79 quoted above makes clear is
that interest which does constitute a charge arising under an interest-bearing obligation is an allowable
deduction from gross income.
The Internal Revenue Code, and the Regulations promulgated thereunder provide that "No
deduction shall be allowed for amounts paid or accrued for such taxes and carrying charges as, under
regulations prescribed by the Secretary or his delegate, are chargeable to capital account with respect to
property, if the taxpayer elects, in accordance with such regulations, to treat such taxes or charges as so
chargeable."
At the same time, under the adjustment of basis provisions, it is provided that adjustment shall be
made for all "expenditures, receipts, losses, or other items" properly chargeable to a capital account, thus
including taxes and carrying charges; however, an exception exists, in which event such adjustment to
the capital account is not made, with respect to taxes and carrying charges which the taxpayer has not
elected to capitalize but for which a deduction instead has been taken.
The "carrying charges" which may be capitalized under the above quoted provisions of the U.S.
Internal Revenue Code include, as the CIR has pointed out, interest on a loan "(but not theoretical
interest of a taxpayer using his own funds)." What the CIR failed to point out is that such "carrying
charges" may, at the election of the taxpayer, either be (a) capitalized in which case the cost basis of the
capital assets, e.g., machinery and equipment, will be adjusted by adding the amount of such interest
payments or alternatively, be (b) deducted from gross income of the taxpayer. Should the taxpayer elect
to deduct the interest payments against its gross income, the taxpayer cannot at the same time capitalize
the interest payments. In other words, the taxpayer is not entitled to both the deduction from gross income
and the adjusted (increased) basis for determining gain or loss and the allowable depreciation charge.
The 1977 NIRC does not prohibit the deduction of interest on a loan incurred for acquiring
machinery and equipment. Neither does the 1977 NIRC compel the capitalization of interest payments on
such a loan. The 1977 Tax Code is simply silent on a taxpayer's right to elect one or the other tax
treatment of such interest payments. Accordingly, the general rule that interest payments on a legally.
So far as the records of the instant cases show, Picop has not claimed to be entitled to double
deduction of its 1977 interest payments. The CIR has neither alleged nor proved that Picop had
previously adjusted its cost basis for the machinery and equipment purchased with the loan proceeds by
capitalizing the interest payments here involved. The Court will not assume that the CIR would be unable
or unwilling to disallow "a double deduction" should Picop, having deducted its interest cost from its gross
income, also attempt subsequently to adjust upward the cost basis of the machinery and equipment
purchased and claim, e.g., increased deductions for depreciation. We conclude that the CTA and the
Court of Appeals did not err in allowing the deductions of Picop's 1977 interest payments on its loans for
capital equipment against its gross income for 1977.

Losses (Section 34(D), NIRC, as amended; RR No. 12-77); Requisites (in general) (Par. 1 and 2,
ibid.);
14. Marcelo Steel Corporation vs. CIR, G.R. No. L-12401, October 31, 1960

FACTS: Petitioner Marcelo Steel Corporation is a corporation duly organized and existing under and by
virtue of the laws of the Philippines, with offices at Malabon, Rizal. It is engaged in three (3) industrial
activities, namely, (1) manufacture of wire fence, (2) manufacture of nails, and (3) manufacture of steel
bars, rods and other allied steel products.
The manufacture of nails and the manufacture of steel bars, rods and other allied steel products,
enjoyed the benefits of tax exemption under Republic Act No. 35, which provides:
“SECTION 1. Any person, partnership, company, or corporation who or which shall engage in a
new and necessary industry shall, for a period of four years from the date of the organization of
such industry, be entitled to exemption from the payment of all internal revenue taxes directly
payable by such person, partnership, company, or corporation in respect to said industry.

SEC. 2. The President of the Philippines, shall, upon recommendation of the Secretary of
Finance, periodically determine the qualifications that the industries should possess to be entitled
to the benefits of this Act.

SEC. 3. This Act shall take effect upon its approval. (Approved, September 30, 1946.)”

On May 21, 1953, the petitioner filed an income tax return for the years 1952 and 1953 which did
not reflect the financial results of its tax exempt business activities but those realized solely from its
business of manufacturing wire fence. On October 1, 1954, the petitioner filed amended income tax
returns for taxable years 1952 and 1953, showing that it suffered a net loss of P871,407.37 in 1952, and
P104,956.29 in 1953. The said losses were arrived at by consolidating the gross income and expenses
and/or deductions of the petitioner in all its business activities, On October 1, 1954, the petitioner,
claiming that instead of earning the net income shown in its original income tax returns for 1952 and
1953, it sustained the losses shown in its amended income tax returns for the same years, filed its
request for refund of the income taxes which it allegedly erroneously paid to the respondent.
CTA ruled that the petitioner cannot deduct from the profits realized from its taxable industries,
the losses sustained by its tax exempt business activities, . . . "
The petitioner argues that since it is a corporation organized with a single capital that answers for
all its financial obligations including those incurred in the tax-exempt industries, the gross income derived
from both its taxable or non-exempt and tax- exempt industries, and the allowable deductions from said
incomes, should be consolidated and its income tax liability should be based on the difference between
the consolidated gross incomes and the consolidated allowable deductions. It relies on the provisions of
section 24, Commonwealth Act No.466, as amended, and of section 30, subsection (d), paragraph (2), of
the same Act.
ISSUE: WON the petitioner may be allowed to deduct from the profits realized from its taxable business
activities.

RULING: No. The purpose or aim of Republic Act No. 35 is to encourage the establishment or
exploitation of new and necessary industries to promote the economic growth of the country. It is a form
of subsidy granted by the Government to courageous entrepreneurs staking their capital in an unknown
venture.
An entrepreneur engaging in a new and necessary industry faces uncertainty and assumes a risk
bigger than one engaging in a venture already known and developed. Like a settler in an unexplored land
who is just blazing a trail in a virgin forest, he needs all the encouragement and assistance from the
Government. He needs capital to buy his implements, to pay his laborers and to sustain him and his
family. Comparable to the farmer who has just planted the seeds of fruit bearing trees in his orchard, he
does not expect an immediate return on his investment. Usually loss is incurred rather than profit made. It
is for these reasons that the law grants him tax exemption — to lighten onerous financial burdens and
reduce losses. However these may be, Republic Act No. 35 has confined the privilege of tax exemption
only to new and necessary industries. It did not intend to grant the tax exemption benefit to an
entrepreneur engaged at the same time in a taxable or non-exempt industry and a new and necessary
industry, by allowing him to deduct his gains or profits derived from the operation of the first from the
losses incurred in the operation of the second. Unlike a new and necessary industry, a taxable or non-
exempt industry is already a going concern, deriving profits from its operation, and deserving no subsidy
from the Government. It is but fair that it be required to give to the Government a share in its profits in the
form of taxes. The fact that the petitioner is a corporation organized with a single capital that answers for
all its financial obligations including those incurred in the tax exempt industries is of no moment. The
intent of the law is to treat taxable or non-exempt industries as separate and distinct from new and
necessary industries which are tax- exempt for purposes of taxation.

Requisites (in general) (Par. 1 and 2, ibid.);

15. Plaridel Surety & Insurance Co. vs. CIR, G.R. No. L-21520, December 11, 1967;

FACTS: Petitioner Plaridel Surety & Insurance Co., is a domestic corporation engaged in the bonding
business. On November9, 1950, petitioner, as surety, and Constancio San Jose, as principal, solidarily
executed a performance bond in the penal sum of P30,600.00 in favor of the P. L. Galang Machinery Co.,
Inc., to secure the performance of San Jose's contractual obligation to produce and supply logs to the
latter. To afford itself adequate protection against loss or damage on the performance bond, petitioner
required San Jose and one Ramon Cuervo to execute an indemnity agreement obligating themselves,
solidarily, to indemnify petitioner for whatever liability it may incur by reason of said performance bond.
Accordingly, San Jose constituted a chattel mortgage on logging machineries and other movables
in petitioner’s favor while Ramon Cuervo executed a real estate mortgage. San Jose later failed to deliver
the logs to Galang Machinery and the latter sued on the performance bond. CA affirmed the judgment of
the lower court and held the petitioner liable and it also directed San Jose and Cuervo to reimburse the
amount of whatever the petitioner would pay to Galang Machinery. The Commissioner disallowed the
claimed deduction of P44,490.00 and assessed against petitioner the sum of P8,898.00, plus interest, as
deficiency income tax for the year 1957.Petitioner filed its protest which was denied. An appeal was taken
to the Tax Court, petitioner insisting that theP44,490.00 which it paid to Galang Machinery was a
deductible loss. CTA dismissed the appeal, ruling that petitioner was duly compensated for otherwise
than by insurance—thru the mortgages in its favor executed by San Jose and Cuervo — and it had not
yet exhausted all its available remedies, especially as against Cuervo, to minimize its loss.

ISSUE: Whether the amount of P44,490.00 is a deductible loss frompetitioner’s gross income for 1957.

RULING: NO. Of the sum of P44,490.00, the amount of P30,600.00 — which is the principal sum
stipulated in the performance bond — is being claimed as loss deduction under Sec. 30 (d) (2) of the Tax
Code and P10,000.00 — which is the interest that had accrued on the principal sum — is now being
claimed as interest deduction under Sec. 30 (b) (1).
 Loss is deductible only in the taxable year it actually happens or is sustained. However, if
it is compensable by insurance or otherwise, deduction for the loss suffered is postponed to a
subsequent year, which, to be precise, is that year in which it appears that no compensation at all
can be had, or that there is a remaining or net loss, i.e., no full compensation.
There is no question that the year in which the petitioner Insurance Co. effected payment to
Galang Machinery pursuant to a final decision occurred in 1957. However, under the same court decision,
San Jose and Cuervo were obligated to reimburse petitioner for whatever payments it would make to
Galang Machinery. Clearly, petitioner's loss is compensable otherwise (than by insurance). It should
follow, then, that the loss deduction cannot be claimed in 1957.

Petitioner's submission is that its case is an exception. The pronouncement, however to this effect in
the Cu Unjieng case is not as authoritative as petitioner would have it since it was there found that the
taxpayer had no legal right to compensation either by insurance or otherwise. And the American cases
cited are not in point. None of them involved a taxpayer who had, as in the present case, obtained a final
judgment against third persons for reimbursement of payments made. In those cases, there was either no
legally enforceable right at all or such claimed right was still to be, or being, litigated.
On the other hand, the rule is that loss deduction will be denied if there is a measurable right to
compensation for the loss, with ultimate collection reasonably clear. So where there is reasonable ground
for reimbursement, the taxpayer must seek his redress and may not secure a loss deduction until he
establishes that no recovery may be had. In other words, as the Tax Court put it, the taxpayer (petitioner)
must exhaust his remedies first to recover or reduce his loss.
It is on record that petitioner had not exhausted its remedies, especially against Ramon Cuervo
who was solidarily liable with San Jose for reimbursement to it. Upon being prodded by the Tax Court to
go after Cuervo, Hermogenes Dimaguiba, president of petitioner corporation, said that they would but no
evidence was submitted that anything was really done on the matter. Moreover, petitioner's evidence on
remote possibility of recovery is fatally wanting. Its right to reimbursement is not only secured by the
mortgages executed by San Jose and Cuervo but also by a final and executory judgment in the civil case
itself. Thus, other properties of San Jose and Cuervo were subject to levy and execution. But no writ of
execution, satisfied or unsatisfied, was ever submitted. Neither has it been established that Cuervo was
insolvent. The only evidence on record on the point is Dimaguiba's testimony that he does not really know
if Cuervo has other properties. This is not substantial proof of insolvency. Thus, it was too premature for
petitioner to claim a loss deduction.

Losses (Section 34(D), NIRC, as amended: RR No. 12-77): Requisites (in general) (Par. 1 and 2,
ibid.);
16. H. Tambunting Pawnshop, Inc., G.R. No. 173373, July 29, 2013;

FACTS: Petitioner H. Tambunting Pawnshop, Inc. is a domestic corporation duly licensed and authorized
to engage in the pawnshop business. The BIR issued assessment notices and demand letters assessing
Tambunting for deficiency percentage tax, income tax and compromise penalties. Tambunting then
instituted administrative protest against said assessment notices and demand letter with respondent CIR.
Due to CIR’s inaction on its protest, Tambunting brought a petition for review with the CTA. Consequently,
CTA First Division rendered judgment ordering Tambunting to pay deficiency income tax for the year
1997 plus 20% delinquency interest. Upon denial of its motion for reconsideration, Tambunting filed a
petition for review with the CTA En Banc which was also denied. Hence, the present petition.
Tambunting argued that the CTA should have allowed its deductions because it had been able to
point out the provisions of law authorizing the deductions; that it proved its entitlement to the deductions
through all the documentary and testimonial evidence presented in court; that the provisions of Section 34
(A)(1)(b) of the 1997 National Internal Revenue Code, governing the types of evidence to prove a claim
for deduction of expenses, were applicable because the law took effect during the pendency of the case
in the CTA; that the CTA had allowed deductions for ordinary and necessary expenses on the basis of
cash vouchers issued by the taxpayer or certifications issued by the payees evidencing receipt of interest
on loans as well as agreements relating to the imposition of interest; that it had thus shown beyond doubt
that it had incurred the losses in its auction sales; and that it substantially complied with the requirements
of Revenue Regulations No. 12-77 on the deductibility of its losses. While the CIR provided that the
conclusions of the CTA were entitled respect, due to its being a highly specialized body specifically for the
purpose of reviewing tax cases.

ISSUE: Whether or not Tambunting’s petition has merit.

RULING: No. The Court ruled that the petition has no merit. As to the loss on auction sale, the Court
affirmed the CTA En Banc’s ruling that Tambunting did not properly prove that it had incurred losses. The
subasta books it presented were not the proper evidence of such losses from the auctions because they
did not reflect the true amounts of the proceeds of the auctions due to certain items having been left
unsold after the auctions. The rematado books did not also prove the amounts of capital because the
figures reflected therein were only the amounts given to the pawnees. It is interesting to note, too, that the
amounts received by the pawnees were not the actual values of the pawned articles but were only
fractions of the real values.
As to the business expenses, the security/janitorial expenses paid to Pathfinder Investigation
were not duly substantiated. Tambunting should have presented the official receipts or invoices to prove
its claim as provided for under Section 238 of the National Internal Revenue Code of 1977, as amended.
The requisites for the deductibility of ordinary and necessary trade or business expenses, like those paid
for security and janitorial services, management and professional fees, and rental expenses, are that: (a)
the expenses must be ordinary and necessary; (b) they must have been paid or incurred during the
taxable year; (c) they must have been paid or incurred in carrying on the trade or business of the
taxpayer; and (d) they must be supported by receipts, records or other pertinent papers

As to the proof of loss due to fire, the CTA En Banc aptly rejected Tam bunting's claim for deductions due
to losses from fire and theft. The documents it had submitted to support the claim, namely: (a) the
certification from the Bureau of Fire Protection in Malolos; (b) the certification from the Police Station in
Malolos; (c) the accounting entry for the losses; and (d) the list of properties lost, were not enough. What
were required were for Tambunting to submit the sworn declaration of loss mandated by Revenue
Regulations 12-77. Its failure to do so was prejudicial to the claim because the sworn declaration of loss
was necessary to forewarn the BIR that it had suffered a loss whose extent it would be claiming as a
deduction of its tax liability, and thus enable the BIR to conduct its own investigation of the incident
leading to the loss. Indeed, the documents Tambunting submitted to the BIR could not serve the purpose
of their submission without the sworn declaration of loss.