Tax+1+Income+Taxation+Digests - Copy

TAX 1 INCOME TAXATION Prof. Dina D. Lucenario 1ST Sem A.Y. 2010-2011 DIGESTS

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OVERVIEW AND GENERAL PRINCIPLES; INCOME HERNANDO CONWI, ET AL VS. CTA AND CIR Facts: Petitioners are employees of Procter and Gamble (Philippine Manufacturing Corporation, subsidiary of Procter & Gamble, a foreign corporation).During the years 1970 and 1971, petitioners were assigned to other subsidiaries of Procter & Gamble outside the Philippines, for which petitioners were paid US dollars as compensation. Petitioners filed their ITRs for 1970 and 1971, computing tax due by applying the dollar-to-peso conversion based on the floating rate under BIR Ruling No. 70-027. In 1973, petitioners filed amened ITRs for 1970 and 1971, this time using the par value of the peso as basis. This resulted in the alleged overpayments, refund and/or tax credit, for which claims for refund were filed. CTA held that the proper conversion rate for the purpose of reporting and paying the Philippine income tax on the dollar earnings of petitioners are the rates prescribed under Revenue Memorandum Circulars Nos. 7-71 and 41-71. The refund claims were denied. Issues: 1. WON petitioners' dollar earnings are receipts derived from foreign

exchange transactions; NO. 2. WON the proper rate of conversion of petitioners' dollar earnings for

tax purposes in the prevailing free market rate of exchange and not the par value of the peso; YES.

Held: For the proper resolution of income tax cases, income may be defined as an amount of money coming to a person or corporation within a specified time, whether as payment for services, interest or profit from investment. Unless otherwise specified, it means cash or its equivalent. Income can also be though of as flow of the fruits of one's labor. Petitioners are correct as to their claim that their dollar earnings are not receipts derived from foreign exchange transactions. For a foreign exchange transaction is simply that — a transaction in foreign exchange, foreign exchange being "the conversion of an amount of money or currency of one country into an equivalent amount of money or currency of another." When petitioners were assigned to the foreign subsidiaries of Procter & Gamble, they were earning in their assigned nation's

currency and were ALSO spending in said currency. There was no conversion, therefore, from one currency to another. The dollar earnings of petitioners are the fruits of their labors in the foreign subsidiaries of Procter & Gamble. It was a definite amount of money which came to them within a specified period of time of two years as payment for their services. And in the implementation for the proper enforcement of the National Internal Revenue Code, Section 338 thereof empowers the Secretary of Finance to "promulgate all needful rules and regulations" to effectively enforce its provisionsPursuant to this authority, Revenue Memorandum Circular Nos. 7-71 and 41-71 were issued to prescribed a uniform rate of exchange from US dollars to Philippine pesos for INTERNAL REVENUE TAX PURPOSES for the years 1970 and 1971, respectively. Said revenue circulars were a valid exercise of the authority given to the Secretary of Finance by the Legislature which enacted the Internal Revenue Code. And these are presumed to be a valid interpretation of said code until revoked by the Secretary of Finance himself. Petitioners are citizens of the Philippines, and their income, within or without, and in these cases wholly without, are subject to income tax. Sec. 21, NIRC, as amended, does not brook any exemption. DENIED FOR LACK OF MERIT. CIR V BRITISH OVERSEAS AIRWAYS CORPORATION AND CTA Facts: BOAC is UK-owned corporation which, during the periods covered by CIR's assessments of deficiency income taxes against it, had no landing rights for traffic purposes in the Philippiens, and was not granted a CPC by the Civil Aeronautics Board (except for a 9-month period, partly in 1961 and partly in 1962, when it was granted a temporary landing permit by the CAB). BOAC did not carry passengers and/or cargo to or from the Philippines during such period, but it maintained a general sales agent inthe Philippines - Wamer Barnes and Company, Ltd., and later Qantas Airways - which was responsible for selling BOAC tickets covering passenges and cargo.


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First CTA case: 1. CIR assessed deficiency income taxes for the years 1959 to 1963 -

protested by BOAC. 2. Subsequent investigation resulted in the issuance of a new

assessment for the years 1959 to 1967 - BOAC paid this new assessment under protest.

3. BOAC filed a claim for refund – denied by the CIR, for which a petition for review was filed with the CTA.

Second CTA case: 4. BOAC was assessed deficiency income taxes, interests and penalty

for fiscal years 1968-1969 and 1970-1971, and additional amounts of compromise penalties for violation of the NIRC provision on the filing of corporation returns.

5. BOAC requested that the assessment be countermanded and set aside – denied by the CIR, for which another petition for review was filed with the CTA.

CTA reversed the CIR, saying: the proceeds of sales of BOAC passage tickets in the Philippines do not constitute BOAC income from Philippine sources "since no service of carriage of passengers or freight was performed by BOAC within the Philippines" and, therefore, said income is not subject to Philippine income tax. (The place where services are rendered determines the source.) Issue: WON the revenue derived by private respondent British Overseas Airways Corporation (BOAC) from sales of tickets in the Philippines for air transportation, while having no landing rights here, constitute income of BOAC from Philippine sources, and, accordingly, taxable; YES. Held: There should be no doubt then that BOAC was "engaged in" business in the Philippines through a local agent during the period covered by the assessments. Accordingly, it is a resident foreign corporation subject to tax upon its total net income received in the preceding taxable year from all sources within the Philippines. The source of an income is the property, activity or service that produced the income. For the source of income to be considered as coming from the Philippines, it is sufficient that the income is derived from activity within the Philippines. In BOAC's case, the sale of tickets in the Philippines is the activity that produces the income. The tickets exchanged hands here and payments for fares were also made here in

Philippine currency. The site of the source of payments is the Philippines. The flow of wealth proceeded from, and occurred within, Philippine territory, enjoying the protection accorded by the Philippine government. In consideration of such protection, the flow of wealth should share the burden of supporting the government. True, Section 37(a) of the Tax Code, which enumerates items of gross income from sources within the Philippines, namely: (1) interest, (21) dividends, (3) service, (4) rentals and royalties, (5) sale of real property, and (6) sale of personal property, does not mention income from the sale of tickets for international transportation. However, that does not render it less an income from sources within the Philippines. Section 37, by its language, does not intend the enumeration to be exclusive. It merely directs that the types of income listed therein be treated as income from sources within the Philippines. A cursory reading of the section will show that it does not state that it is an all-inclusive enumeration, and that no other kind of income may be so considered. " The absence of flight operations to and from the Philippines is not determinative of the source of income or the site of income taxation. Admittedly, BOAC was an off-line international airline at the time pertinent to this case. The test of taxability is the "source"; and the source of an income is that activity ... which produced the income. Unquestionably, the passage documentations in these cases were sold in the Philippines and the revenue therefrom was derived from a activity regularly pursued within the Philippines. business a And even if the BOAC tickets sold covered the "transport of passengers and cargo to and from foreign cities", it cannot alter the fact that income from the sale of tickets was derived from the Philippines. The word "source" conveys one essential idea, that of origin, and the origin of the income herein is the Philippines. CTA DECISION SET ASIDE. MADRIGAL V RAFFERTY Facts: Vicente Madrigal and Susana Paterno were legally married prior to January 1, 1914, contracted under the provisions of law concerning conjugal partnerships. In 1915, Madrigal filed a sworn declaration with the CIR showing that his total net income for the year 1914 was P296,302.73. Subsequently Madrigal submitted the claim that the said


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P296,302.73 did not represent his income for the year 1914, but was in fact the income of the conjugal partnership existing between himself and his wife Susana Paterno, and that in computing and assessing the additional income tax provided by the Act of Congress of October 3, 1913, the income declared by Vicente Madrigal should be divided into two equal parts, one-half to be considered the income of Vicente Madrigal and the other half of Susana Paterno. After payment under protest, and after the protest of Madrigal had been decided adversely by the CIR, action was begun by Madrigal and his wife Paterno in the CFI of Manila against Collector of Internal Revenue and the Deputy Collector of Internal Revenue. CFI decided against Madrigal and Paterno. Appellees contend that the taxes imposed by the Income Tax Law are as the name implies taxes upon income tax and not upon capital and property; that the fact that Madrigal was a married man, and his marriage contracted under the provisions governing the conjugal partnership, has no bearing on income considered as income, and that the distinction must be drawn between the ordinary form of commercial partnership and the conjugal partnership of spouses resulting from the relation of marriage. Issue: WON the additional income tax should be divided into two equal parts because of the conjugal partnership Held: Income as contrasted with capital or property is to be the test. The essential difference between capital and income is that capital is a fund; income is a flow. A fund of property existing at an instant of time is called capital. A flow of services rendered by that capital by the payment of money from it or any other benefit rendered by a fund of capital in relation to such fund through a period of time is called an income. Capital is wealth, while income is the service of wealth. Susana Paterno, wife of Vicente Madrigal, has an inchoate right in the property of her husband Vicente Madrigal during the life of the conjugal partnership. She has an interest in the ultimate property rights and in the ultimate ownership of property acquired as income after such income has become capital. Susana Paterno has no absolute right to one-half the income of the conjugal partnership. Not being seized of a separate estate, Susana Paterno cannot make a separate return in order to receive the benefit of the exemption which would arise by reason of the

additional tax. As she has no estate and income, actually and legally vested in her and entirely distinct from her husband's property, the income cannot properly be considered the separate income of the wife for the purposes of the additional tax. Moreover, the Income Tax Law does not look on the spouses as individual partners in an ordinary partnership. The husband and wife are only entitled to the exemption of P8,000 specifically granted by the law. The higher schedules of the additional tax directed at the incomes of the wealthy may not be partially defeated by reliance on provisions in our Civil Code dealing with the conjugal partnership and having no application to the Income Tax Law. The aims and purposes of the Income Tax Law must be given effect. JUDGMENT AFFIRMED.

INTERNATIONAL FREIGHTING vs COMMISSIONER

Facts: As employee bonuses, IFC, a subsidiary of DuPont, gave out shares of the latter's stock, which was worth $24,858 at the time it was distributed, but which only cost $16,153 to acquire from DuPont. IFC contended that it was entitled to a deduction of the full amount ($24,858) because the employees who received the stock had to pay tax on the said full amount. The IRS contended that the deduction should only be the cost of the stock as acquired from DuPont, arguing that the value should be calculated as the cost to IFC, not the market value. The Tax Court found for IFC; the Appellate Court affirmed.

Issue: WON the taxpayer is entitled to a deduction of $24,858 (the fair market value of the stock) or only of $16,153 (the cost) Held: IFC had a net gain of $8,705 (from paying only $16,153 for something which had a final market value of $24,858), which they should pay taxes on. The fair market value of the stock at the time of delivery to the employees was properly deducted by the taxpayer as compensation expenses; the distribution of stock resulted in taxable gain to the taxpayer because it is not a gift; delivery of the shares was a ‘disposition’ of the stock for valid consideration [the services]; even though no ‘money’ or ‘property’ was received on the taxpayer’s disposition of the stock, the taxpayer received “money’s worth” consideration – the services.


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ANDERSON V POSADAS Facts: William H. Anderson had purchased the business of Erlanger & Galinger. In 1915, he incorporated said partnership under the firm name of Erlanger & Galinger, Inc., with an authorized capital of P600,000, divided into 1,200 shares at the par value of P500 each. All of said shares were subscribed by the incorporator Anderson, who paid in cash, on different dates, the total amount of P70,000. The unpaid balance of P530,000 was entered in an intermediary account, called underwriting account, which was opened in the corporation in Anderson's name, in place of his personal account. On January 1, 1918, there was opened in Anderson's name a good will account, upon the debit side of which was entered the sum of P300,000. On the same date, the sum of P300,000 was entered upon the credit side of Anderson's underwriting account, thereby reducing the balance thereof from P530,000 to P230,000. On said date, January 1, 1918, Anderson sold to Simon Feldstein 200 shares at the rate of 2 to 1, receiving in payment thereof the sum of P 50,000 with a loss of P50,000. On January 2d of the same year, Anderson sold 300 more shares to Feldstein at the rate of 3 to 1, and received in payment thereof the sum of P50,000, having lost P100,000 in the transaction. In view of said losses, Anderson deducted the sum of P50,000 from the taxable income stated by him in his return for the year 1918, and the sum of P75,000 from his return for the year 1919, or a total amount of P125,000. Said deductions were approved by the Bureau of Internal Revenue. As the Collector of Internal Revenue attempted to collect tax on the P300,000 at which Anderson assessed the good will of the business' the latter, on December 29, 1923, agreed with the former to eliminate said good will, which in effect was so done by debiting said sum in his capital account and crediting it in the good will account. With said elimination, Anderson's debt of P530,000 was restored. To Feldstein's account was debited the sum of P125,007 which, together with the P100,000 paid by him for the 500 shares which he had bought of Anderson, to the latter's loss, amounts to P225,007. Said sum of P125,007 was the proportional part of the P300,000 which correspondent to Feldstein, for the above-stated 500 shares, at the rate of 7/12 for Anderson and 5/12 for

Feldstein. On January 2, 1924, the sum of P134,169 was debited in Anderson's personal account and that of P95,831 in Feldstein's capital account, in the same proportion of 7/12 for the former and 5/12 for the latter, that is, the amount of P230,000, thereby eliminating the underwriting account. It appears, therefore, that with the P100,00 paid by Feldstein on account of the 500 shares bought by him Anderson, plus the sum of P125,007 debited to Feldstein's account, which is equivalent to 5/12 of the good will of P300,000, which corresponds to Feldstein for his participation in the share of the corporation, and the above-stated sum of P95,831, the total amount debited in Simon Feldstein's account is P320,838. This amount exceeds the sum of P250,000, which represents the value, at the rate of P500 each, of the 500 shares sold to Feldstein by Anderson. Therefore, as the total of the 500 shares, at the par value of P500 each, has been debited in Feldstein's account, the loss of P125,000 suffered by Anderson at the hearing, by reason of the sale of said 500 shares, has been recovered, and it is but just that the sum of P125,000, deducted from the profits by reason of losses suffered temporarily on the capital, be restored thereto. Issues:

1.) WON lower court erred in holding that the amount of P125,000, found by the appellant as losses recovered, is not subject to income tax; YES

2.) WON lower court erred in holding that the amount of P155,000, found by the appellant as proceeds from the sale of good will, is not subject to income tax; YES

Held: Goodwill is the reputation of good name of an establishment. If the goodwill, that is, the good reputation of the business is acquired in the course of its management and operation, it does form part of the capital with which it was established. It is an intangible moral profit, susceptible of valuation in money, acquired by the business by reason of the confidence reposed in it by the public, due to the efficiency and honesty shown by the manager and personnel thereof in conducting the same on account of the courtesy accorded its customers, which moral profit, once it is valuated and used, becomes a part of the assets. The good will of P155,000 created by Anderson has been beneficial not only to him but also to Feldstein in the proportion of 7/12 for Anderson and 5/12 for Feldstein, which is the proportion of the participation of each in the


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shares of the corporation Erlanger & Galinger, Inc., that is, P90,412 for Anderson and P64,588 for Feldstein, inasmuch as Anderson's personal debt for the balance of the unpaid shares, was dismissed by said sum of P90,412 and Feldstein's capital account increased by P64,588. The benefit received by Anderson does not consist merely in the sum of P90,412. He also realized a gain of P70,838 from the sale of 500 shares to Feldstein. Said benefits, added to gather, make a total of P161,250, that is, P6,250 more than the sum of P155,000 on which the defendant and appellant Collector of Internal Revenue is attempting to collect tax from him. JUDGMENT IS REVERSED

OVERVIEW AND GENERAL PRINCIPLES; WHEN IS INCOME TAXABLE LIMPAN vs CIR Facts: Limpan is engaged in the business of leasing real properties. It commenced actual business operations on July 1, 1955. Its real properties consist of several lots and buildings, mostly situated in Manila and in Pasay City. Limpan duly filed its 1956 and 1957 income tax returns, reporting therein net incomes of P3,287.81 and P11,098.36, respectively, for which it paid the corresponding taxes therefor in the sums of P657.00 and P2,220.00. Sometime in 1958 and 1959, the examiners of the BIR conducted an investigation of petitioner's 1956 and 1957 income tax returns and, in the course thereof, they discovered and ascertained that petitioner had underdeclared its rental incomes by P20,199.00 and P81,690.00 during these taxable years and had claimed excessive depreciation of its buildings in the sums of P4,260.00 and P16,336.00 covering the same period. CIR demanded for payment of deficiency income tax and surcharge against Limpan amounting to P30,502. Defense 1: Limpan disclaimed having received or collected the amount of P20,199.00, as unreported rental income for 1956, or any part thereof, reasoning out that the previous owners of the leased building has to collect part of the total rentals in 1956 to apply to their payment of rental in the land in the amount of P21,630.00.

Defense 2: Amount totalling P31,380.00 was not declared as income in its 1957 tax return because its president, Isabelo P. Lim, who collected and received P13,500.00 from certain tenants, did not turn the same over to petitioner corporation in said year but did so only in 1959. Defense 3: (TOPIC) Tenant Go Tong deposited in court his rentals amounting to P10,800.00, over which the corporation had no actual or constructive control. Defense 4: Limpan likewise alleged in its petition that the rates of depreciation applied by respondent Commissioner of its buildings in the above assessment are unfair and inaccurate. CTA sided with CIR; hence, this case. Issue: WON Limpan understated its income. Held: This appeal is manifestly unmeritorious. Limpan understated its income. RATIO (DEFENSE 1): The excuse that previous land owners retained ownership of the lands and only later transferred or disposed of the ownership of the buildings existing thereon to Limpan, so as to justify the turn over to Limpan a certain value of its properties to be applied to the rentals of the land and in exchange for whatever rentals they may collect from the tenants who refused to recognize the new owner or vendee of the buildings, is not only unusual but uncorroborated by the alleged transferors, or by any document or unbiased evidence. Hence, without merit. RATIO (DEFENSE 2): Limpan’s denial and explanation of the non-receipt of the remaining unreported income for 1957 is not substantiated by satisfactory corroboration. As above noted, Isabelo P. Lim was not presented as witness to confirm accountant Solis nor was his 1957 personal income tax return submitted in court to establish that the rental income which he allegedly collected and received in 1957 were reported therein. RATIO (DEFENSE 3 – WHEN IS INCOME TAXABLE): Since deposit by Tenant Go Tong was resorted by him to due to the refusal of Limpan to accept the same, Limpan is deemed to have constructively received such rentals in 1957. The payment by the sub-tenant in 1957 should


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have been reported as rental income in said year, since it is income just the same regardless of its source. RATIO (DEFENSE 4) : Depreciation is a question of fact and is not measured by theoretical yardstick, but should be determined by a consideration of actual facts, and the findings of the Tax Court in this respect should not be disturbed when not shown to be arbitrary or in abuse of discretion. REPUBLIC vs DELA RAMA Facts: In 1951, the estate of the late Esteban dela Rama filed its income tax return (ITR) for the year 1950. Later, the BIR claims that the estate had received in 1950 cash dividend from the Dela Rama Steamship Co., Inc, which was not declared in the ITR. BIR claims that the cash dividends were applied in the deceased’s account and this constituted constructive receipt by the estate or by the heirs. Issue: WON there was constructive payment of dividends and thus constructive receipt by the estate or by the heirs. Held: No, there was no constructive receipt for the dividends. Income tax is assessed on income tax is assessed on income that has been received. In this case, income was not received due to failure to deliver – either actually or constructively. The debts to which they were applied were not proven to have existed. The first debt was not proven to exist and the second debt was due from Hijos de I. dela Rama, an entity separate and distinct from the owner thereof. Constructive delivery occurs only when it is shown that the debts to which the dividends were applied actually existed and were legally demandable and chargeable to the deceased. When an estate is under administration, notice must be sent to the administrator of the estate, since it is the said administrator, as representative of the estate, who has the legal obligation to pay and discharge all debts of the estate and to perform all orders of the court. In this case, legal notice of the assessment was sent to two heirs, neither one of whom had any authority to represent the estate. The notice was not sent to the taxpayer for the purpose of giving effect to the assessment, and said notice could not produce any effect.

When the notice to this effect is released, mailed or sent to the taxpayer for the purpose of giving effect to said assessment. It appearing that the person liable for the payment of the tax did not receive the assessment, the assessment could not become final and executory. EISNER vs MACOMBER Facts: Standard Oil Company of California, had surplus and undivided profits amounting to $45,000,000, of which about $20,000,000 had been earned prior to March 1, 1913. In order to readjust the capitalization, the board of directors decided to issue stock dividend of 50 percent of the outstanding stock, and to transfer from surplus account to capital stock account an amount equivalent to such issue. Macomber,being the owner of 2,200 shares of the old stock, received certificates for 1,100 additional shares, of which 18.07 per cent., or 198.77 shares, par value $19,877, were treated as representing surplus earned between March 1, 1913, and January 1, 1916. She was called upon to pay, and did pay under protest, a tax imposed based upon a supposed income of $ 19,877 because of the new shares. MACOMBER: Revenue Act of 1916 , in so far as it considers stock dividends as income, violated the Constitution of the United States. Issue: WON Congress has the power to tax, as income of the stockholder and without apportionment, a stock dividend made lawfully and in good faith against profits accumulated by the corporation. Held: No, stock dividend is not taxable. Income may be defined as the gain derived from capital, from labor, or from both combined, provided it be understood to include profit gained through a sale or conversion of capital assets and not a gain accruing to capital; not a growth or increment of value in the investment; but a gain, a profit, something of exchangeable value, proceeding from the property, severed from the capital, however invested or employed, and coming in, being 'derived'-that is, received or drawn by the recipient (the taxpayer) for his separate use, benefit and disposal- that is income derived from property. A 'stock dividend' shows that the company's accumulated profits have been capitalized, instead of distributed to the stockholders or retained as surplus available for distribution in money or in kind should opportunity


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offer. Far from being a realization of profits of the stockholder, it tends rather to postpone such realization, in that the fund represented by the new stock has been transferred from surplus to capital, and no longer is available for actual distribution. The essential and controlling fact is that the stockholder has received nothing out of the company's assets for his separate use and benefit; on the contrary, every dollar of his original investment, together with whatever accretions and accumulations have resulted from employment of his money and that of the other stockholders in the business of the company, still remains the property of the company, and subject to business risks which may result in wiping out the entire investment. Having regard to the very truth of the matter, to substance and not to form, he has recived nothing that answers the definition of income within the meaning of the Sixteenth Amendment. We are clear that not only does a stock dividend really take nothing from the property of the corporation and add nothing to that of the shareholder, but that the antecedent accumulation of profits evidenced thereby, while indicating that the shareholder is the richer because of an increase of his capital, at the same time shows he has not realized or received any income in the transaction. RAYTHEON PRODUCTION V CIR Facts: Raytheon built up business good will on a rectifier tube that it developed, patented, and licensed to manufacturers. RCA licensed a competing tube to many of the same manufacturers, with a clause requiring the licensee to only buy from RCA. These antitrust practices caused a significant decline in Raytheon’s market share, eventually leading to the complete destruction of Raytheon’s business good will in this product market. RCA paid $410,000 to settle Raytheon's claims under the Federal Anti-Trust Laws, but in the same transaction also acquired rights to some 30 patents, and declined to state how much of its payment should be allocated between the patent license rights versus the settlement of the suit. In its tax return, Raytheon chose to allocate $60,000 of the settlement to the value of the patents, thus claiming only this amount as income and excluding the remaining $350,000 as damages. The Commissioner determined that the $350,000 constituted income. It did not immediately argue that any damage recovery for loss of good will is always taxable as

income; rather, it protested that "[t]here exists no clear evidence of what the amount was paid for so that an accurate apportionment can be made." At trial, Raytheon gave evidence to support its valuation of the patents; it also assessed the value of its lost business good will (at $3,000,000) by introducing evidence of its profitability. Issues: First: Are damages for the destruction of business good will taxable income -- or a return of capital, of which any recovery of basis is non-taxable? Second: If the recovery is non-taxable, did the Tax Court err in holding that there was insufficient evidence to enable it to determine what part of the lump sum payment was properly allocable to the settlement?\ Held: Tax law treats recoveries as "income" when they represent compensation for loss of profits. Thus, the test for taxability is: What loss were the damages designed to compensate for? -- "In lieu of what were the damages awarded?" Tax law treats business good will not as future profits (which are fully taxable when recovered as damages), but as present capital -- even though evidence of future profitability must be introduced to evaluate it. Thus, damages for its destruction are designed to compensate for the destruction of a capital asset -- they are a "return" of this capital. However, tax law does not exempt compensatory damages just because they are a return of capital -- exemption applies only to the portion that recovers the cost basis of that capital; any excess damages serve to realize prior appreciation, and should be taxed as income. In this case, the record is devoid of evidence as to the amount of that basis. This Court agrees with the Tax Court that "in the absence of evidence of the basis ... the amount of any nontaxable capital recovery cannot be ascertained." Since Raytheon could not establish the cost basis of its good will, its basis will be treated as zero. The Court concludes that the $350,000 of the $410,000 attributable to the suit is thus taxable income. (Thus, the second question as to allocation between this and the ordinary income from patent licenses is not present.) In this case, the Court treated the basis as zero because Raytheon was unable to establish it. Generally, the basis of goodwill is zero because it consists of costs that are themselves immediately deductible -- expenses


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for advertising, PR, etc. However, goodwill can acquire a basis, e.g. as a portion of the cost of purchasing another business.

Notes: Raytheon Production Corp. v. Commissioner, 144 F.2d 110, 113 (1st Cir. 1943), cert. denied, 323 U.S. 779 (1944) is a United States income tax case which discusses the tax deductibility of damages for loss of business good will. It included the following holdings:

Under the tax code, business good will is not the present value of future profits, but present capital.

Thus, damages for the destruction of goodwill (rewarded under the Federal Anti-Trust Laws) are compensating for the destruction of a capital asset -- they are a "return" of this capital.

It is settled law that, while a recovery (as court-ordered damages) of future profits is taxable, a recovery (as damages) of present capital is not.

However, it is also settled law that compensatory damages are not tax-exempt just because they are a return of capital. Exemption applies only to the portion of these damages that recovers the cost basis of that capital; any excess damages serve to realize prior appreciation, and should be taxed as income.

In this case, the basis is treated as zero because Raytheon is unable to establish it.

CIR vs TOURS SPECIALIST

Facts: For the years 1974 to 1976,Tours Specialists, Inc. had derived income from its activities as a travel agency by servicing the needs of foreign tourists and travelers and Filipino "Balikbayans" during their stay in this country, from lodging to transport. In order to ably supply these services to the foreign tourists, petitioner and its correspondent counterpart tourist agencies abroad have agreed to offer a package fee for the tourists. Although the fee to be paid by said tourists is quoted by Tours, the payments of the hotel room accommodations, food and other personal expenses of said tourists, as a rule, are paid directly either by

tourists themselves, or by their foreign travel agencies to the local hotels or shops, as the case may be.It is also the case that some tour agencies abroad request the local tour agencies, such as Tours in the case, that the hotel room charges, in some specific cases, be paid through them. By this arrangement, the foreign tour agency entrusts to the petitioner Tours Specialists, Inc., the fund for hotel room accommodation, which in turn is paid by petitioner tour agency to the local hotel when billed. The procedure observed is that the billing hotel sends the bill to the petitioner. The local hotel identifies the individual tourist, or the particular groups of tourists by code name or group designation and also the duration of their stay for purposes of payment. Upon receipt of the bill, the petitioner then pays the local hotel with the funds entrusted to it by the foreign tour correspondent agency.Despite this arrangement, respondent Commissioner of Internal Revenue assessed petitioner for deficiency 3% contractor's tax as independent contractor by including the entrusted hotel room charges in its gross receipts from services for the years 1974 to 1976. Consequently, on December 6, 1979, petitioner received from respondent the 3% deficiency independent contractor's tax assessment in the amount of P122,946.93 for the years 1974 to 1976, with total amount due P 122,946.93. In addition to the deficiency contractor's tax of P122,946.93, petitioner was assessed to pay a compromise penalty of P500.00. Issue: WON the money entrusted to private respondent Tours Specialists, Inc., earmarked and paid for hotel room charges of tourists, travelers and/or foreign travel agencies does not form part of its gross receipts subject to the 3% independent contractor's tax under the National Internal Revenue Code of 1977. Held: NO. As quoted earlier, the Court of Tax Appeals sufficiently explained the services of a local travel agency, like the herein private respondent, rendered to foreign customers. The respondent differentiated between the package fee — offered by both the local travel agency and its correspondent counterpart tourist agencies abroad and the requests made by some tour agencies abroad to local tour agencies wherein the hotel room charges in some specific cases, would be paid to the local hotels through them. Moreover, evidence presented by the private respondent shows that the amounts entrusted to it by the foreign tourist agencies to pay the room charges of foreign tourists in local hotels were not diverted to its funds; this arrangement was only an act of accommodation on the part of the private respondent. This evidence was not refuted.


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In essence, the petitioner's assertion that the hotel room charges entrusted to the private respondent were part of the package fee paid by foreign tourists to the respondent is not correct. The evidence is clear to the effect that the amounts entrusted to the private respondent were exclusively for payment of hotel room charges of foreign tourists entrusted to it by foreign travel agencies. As demonstrated in the above-mentioned case, gross receipts subject to tax under the Tax Code do not include monies or receipts entrusted to the taxpayer which do not belong to them and do not redound to the taxpayer's benefit; and it is not necessary that there must be a law or regulation which would exempt such monies and receipts within the meaning of gross receipts under the Tax Code. Parenthetically, the room charges entrusted by the foreign travel agencies to the private respondent do not form part of its gross receipts within the definition of the Tax Code. The said receipts never belonged to the private respondent. The private respondent never benefited from their payment to the local hotels. As stated earlier, this arrangement was only to accommodate the foreign travel agencies.

COMMISSIONER OF INTERNAL REVENUE v. JAVIER

Facts: Victoria L. Javier, the wife of Melchor received from the Prudential Bank and Trust Company in Pasay City the amount of US$999,973.70 remitted by her sister, Mrs. Dolores Ventosa, through some banks in the United States, among which is Mellon Bank, N.A. The bank, filed a complaint with the CFI against Javier, his wife and other defendants, claiming that its remittance of US$1,000,000.00 was a clerical error and should have been US$1,000.00 only, and praying that the excess amount of US$999,000.00 be returned on the ground that the defendants are trustees of an implied trust for the benefit of Mellon Bank with the clear, immediate, and continuing duty to return the said amount from the moment it was received. The Fiscal of Pasay City filed an Information with the then Circuit Criminal Court Javier and his wife with the crime of estafa, alleging that they misappropriated, misapplied, and converted to their own personal use and benefit the amount. Javier filed his Income Tax Return for the taxable year 1977 showing a gross income of P53,053.38 and a net income of P48,053.88 and stating in the footnote of the return that "Taxpayer was recipient of some money received from

abroad which he presumed to be a gift but turned out to be an error and is now subject of litigation." He however received a letter from the acting Commissioner of Internal Revenue together with income assessment notices for the years 1976 and 1977, demanding that petitioner (private respondent herein) pay on or before December 15, 1980 the amount of P1,615.96 and P9,287,297.51 as deficiency assessments for the years 1976 and 1977 respectively. He wrote the BIR saying that he was paying the deficiency income assessment for the year 1976 but denying that he had any undeclared income for the year 1977 and requested that the assessment for 1977 be made to await final court decision on the case filed against him for filing an allegedly fraudulent return. The CIR wrote back saying that "the amount of Mellon Bank's erroneous remittance which you were able to dispose, is definitely taxable."The Commissioner also imposed a 50% fraud penalty against Javier.

Issue: WON a taxpayer who merely states as a footnote in his income tax return that a sum of money that he erroneously received and already spent is the subject of a pending litigation and there did not declare it as income is liable to pay the 50% penalty for filing a fraudulent return Held: NO. Under the Tax Code, a taxpayer who files a false return is liable to pay the fraud penalty of 50% of the tax due from him or of the deficiency tax in case payment has been made on the basis of the return filed before the discovery of the falsity or fraud. We are persuaded considerably by the private respondent's contention that there is no fraud in the filing of the return and agree fully with the Court of Tax Appeals' interpretation of Javier's notation on his income tax return filed on March 15, 1978 thus: "Taxpayer was the recipient of some money from abroad which he presumed to be a gift but turned out to be an error and is now subject of litigation that it was an "error or mistake of fact or law" not constituting fraud, that such notation was practically an invitation for investigation and that Javier had literally "laid his cards on the table." In the case at bar, there was no actual and intentional fraud through willful and deliberate misleading of the government agency concerned, the Bureau of Internal Revenue, headed by the herein petitioner. The government was not induced to give up some legal right and place itself at a disadvantage so as to prevent its lawful agents from proper assessment of tax liabilities because Javier did not conceal anything. Error or mistake of law is not fraud. The petitioner's zealousness to collect taxes from the unearned windfall to Javier is highly commendable. Unfortunately, the imposition of the fraud penalty in this case is not justified by the extant facts. Javier may be guilty of swindling charges,


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perhaps even for greed by spending most of the money he received, but the records lack a clear showing of fraud committed because he did not conceal the fact that he had received an amount of money although it was a "subject of litigation." As ruled by respondent Court of Tax Appeals, the 50% surcharge imposed as fraud penalty by the petitioner against the private respondent in the deficiency assessment should be deleted. OVERVIEW AND GENERAL PRINCIPLES; INCOME TAX SYSTEMS; SCHEDULAR TAX SYSTEM SISON VS. ANCHETA Facts: Batas Pambansa 135 was enacted. Sison, as taxpayer, alleged that its provision (Section 1) unduly discriminated against him by the imposition of higher rates upon his income as a professional, that it amounts to class legislation, and that it transgresses against the equal protection and due process clauses of the Constitution as well as the rule requiring uniformity in taxation. Issue: Whether BP 135 violates the due process and equal protection clauses, and the rule on uniformity in taxation. Held: There is a need for proof of such persuasive character as would lead to a conclusion that there was a violation of the due process and equal protection clauses. Absent such showing, the presumption of validity must prevail. Equality and uniformity in taxation means that all taxable articles or kinds of property of the same class shall be taxed at the same rate. The taxing power has the authority to make reasonable and natural classifications for purposes of taxation. Where the differentitation conforms to the practical dictates of justice and equity, similar to the standards of equal protection, it is not discriminatory within the meaning of the clause and is therefore uniform. Taxpayers may be classified into different categories, such as recipients of compensation income as against professionals. Recipients of compensation income are not entitled to make deductions for income tax purposes as there is no practically no overhead expense, while professionals and businessmen have no uniform costs or expenses necessaryh to produce their income. There is ample justification 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. TAXPAYERS; CORPORATIONS CIR V BATANGAS TAYABAS BUS CO.

Facts: To economize their expenses, BTC and LTBC entered into a joint management called Joint Emergency Operation. Because of such operation the two companies had been able to save the salaries of one manager, one assistant manager, fifteen inspectors, special agents, and one set of office of clerical force, the savings in one year amounting to about P200,000 or about P100,000 for each company. At the end of each calendar year, all gross receipts and expenses of both companies were determined and the net profits were divided fifty-fifty, and transferred to the book of accounts of each company, and each company "then prepared its own income tax return from this fifty per centum of the gross receipts and expenditures, assets and liabilities thus transferred to it from the `Joint Emergency Operation' and paid the corresponding income taxes thereon separately". Under the theory that the two companies had pooled their resources in the establishment of the Joint Emergency Operation, thereby forming a joint venture, the Collector wrote the bus companies that there was due from them the amount of P422,210.89 as deficiency income tax and compromise for the years 1946 to 1949, inclusive. The theory of the Collector is the Joint Emergency Operation was a corporation distinct from the two respondent companies, as defined in section 84 (b), and so liable to income tax under section 24, both of the National Internal Revenue Code. Issue: Whether the two transportation companies herein involved are liable to the payment of income tax as a corporation on the theory that the Joint Emergency Operation organized and operated by them is a corporation within the meaning of Section 84 of the Revised Internal Revenue Code. Held: Yes, the Joint Emergency Operation involved in the present is a corporation within the meaning of section 84 (b) of the Internal Revenue Code, and so is liable to income tax under section 24 of the code


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The court citing the case of Eufemia Evangelista et al., vs. Collector of Internal Revenue et al said, “when the Tax Code includes "partnerships" among the entities subject to the tax on corporations, it must refer to organizations which are not necessarily partnerships in the technical sense of the term, and that furthermore, said law defined the term "corporation" as including partnerships no matter how created or organized, thereby indicating that "a joint venture need not be undertaken in any of the standard forms, or in conformity with the usual requirements of the law on partnerships, in order that one could be deemed constituted for purposes of the tax on corporations"; that besides, said section 84 (b) provides that the term "corporation" includes "joint accounts" (cuentas en participacion) and "associations", none of which has a legal personality independent of that of its members.” In view of this, and considering that the Batangas Transportation and the Laguna Bus operated different lines, sometimes in different provinces or territories, under different franchises, with different equipment and personnel, it cannot possibly be true and correct to say that the end of each year, the gross receipts and income in the gross expenses of two companies are exactly the same for purposes of the payment of income tax. What was actually done in this case was that, although no legal personality may have been created by the Joint Emergency Operation, nevertheless, said Joint Emergency Operation joint venture, or joint management operated the business affairs of the two companies as though they constituted a single entity, company or partnership, thereby obtaining substantial economy and profits in the operation. TAXPAYERS; CORPORATIONS; PARTNERSHIP; CO-OWNERSHIP; GPP ONA VS. COMMISION OF INTERNAL REVENUE Facts: Julia Bunales died on March 23, 1944 leaving as heirs her surviving spouse Lorenzo T. Oña and her five children. A civil case was instituted in the CFI of Manila for the settlement of her estate. Lorenzo was appointed administrator of the deceased’s estate. A project of partition shows that the heirs have undivided ½ interest in 10 parcels of land, 6 houses and an undetermined amount to be collected from the War Damage Commission. Although the court approved the project of partition, no attempt was made to divide the properties listed

therein. Instead, the properties remained under the management of Lorenzo who used the said properties in business by leasing or telling them and investing the income derived therefrom and the proceeds from the sales thereof in real properties and securities. As a result, petitioner’s properties and investment gradually increased from P 105,405.00 in 1949 to P 480,0005.20 in 1956. Respondent CIR decided that petitioners formed an unregistered partnership and therefore, subject to the corporate income tax pursuant to Section 24, in relation to Section 84(b) of the Tax Code. Petitioners protested against the assessment and asked for reconsideration of the ruling that they have formed an unregistered partnership. Issue: Did petitioners constitute an unregistered partnership, and are, therefore, subject to the payment of the deficiency corporate income taxes assessed against them by respondent CIR. Held: From the moment petitioners allowed not only the incomes from their respective shares of the inheritance but even the inherited properties themselves to be used by Lorenzo T. Oña as a common fund in undertaking several transactions or in business, with the intention of deriving profit to be shared by them proportionately, such act was tantamount to actually contributing such incomes to a common fund and, in effect, they thereby formed an unregistered partnership within the purview of the provisions of the Tax Code. OBILLOS JR. V. CIR Jose Obillos Sr. purchased to lots located in Greenhills, San Juan and transferred the rights to the same to his four children, the petitioners, to enable them to build their residences. After having held the lots for more than a year, the petitioners sold them to the Walled City Securities Corporation and Olga Canda. They treated the profit derived from the sale as capital gain and paid and income tax on one-half thereof.


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The CIR required the petitioners to pay corporate income tax on the total profit in addition to individual income tax on their shares thereof. The Commissioner also considered the share of the profits of each petitioner in the sum as distributive dividend taxable in full and required them to pay deficiency income taxes. The Commissioner acted on the theory that the petitioners had formed an unregistered partnership or joint venture within the meaning Sections 24a and 84b of the Tax Code. Issue: Whether the petitioners have formed a taxable unregistered partnership Held: NO. The Court held that it was an error to consider the petitioners as having formed a partnership under Article 1767 NCC simply because they allegedly contributed money to buy the two lots, sold the same and divided the profit among themselves. Their original purpose was to divide the lots for residential purposes. If later on they found it not feasible to build their residences on the lots because of the high cost of construction, then they had no choice but to sell the lots to dissolve the co-ownership. The division of the profit was merely incidental to the dissolution of the co-ownership. “The sharing of gross returns does not of itself establish a partnership, whether or not the persons sharing them have a joint or common right or interest in a property from which the returns are derived (Article 1769.3).” There must be an unmistakable intention to form a partnership or joint venture. REYES V. COMMISSIONER Facts: Petitioners, father and son, purchased a lot and a building (Gibbs Bldg.) situated in Manila. The initial payment of P 375 000.00 was shared equally by the petitioners. At the time of the purchase, the building was leased to various tenants, whose rights under the lease contracts with the original owners, the purchasers (the petitioners) agreed to respect. The administration of the building was entrusted to an administrator, who collected the rents, negotiated leases, made necessary repairs and performed such other functions necessary for the

conservation and preservation of the building. The petitioners divided the income of operation and maintenance equally among themselves. The respondent CIR assessed the petitioners in two separate occasion income tax for the years 1) 1951-1954, and 2) 1955-1956. The petitioners failed to have the assessments reconsidered. They took the matter to the Court of Tax Appeals, where the two cases were heard jointly. The respondent CTA reduced the tax liability of the petitioners for both periods and held the same as income tax due “from the partnership formed” by the petitioners. Hence this petition for review. Issue: Whether the petitioners are subject to the tax on corporations provided for in Sec. 24 of Commonwealth Act 466 (The National Internal Revenue Code) Held: YES. The petitioners constitute a partnership, insofar as the NIRC is concerned, and are therefore subject to the income tax for corporations. The essential elements of a partnership are:

(i) an agreement to contribute money, property or industry to a common fund; and (ii) the intent to divide the profits among the contracting parties.

The first element is present. The petitioners have agreed to, and did, contribute money and property to a common fund. The second element is likewise present. It can be deduced from the facts surrounding the case that the purpose of the petitioners was to engage in real estate transactions for monetary gain and divide the same among themselves, which they in fact did. On petitioners’ defense that they are co-owners, not partners: For purposes of taxation, the NIRC included partnerships, with the exception only of duly registered general co-partnerships, within the purview of the term ‘corporation’. A corporation is, strictly speaking, distinct from a partnership. But when the NIRC included ‘partnerships’ among the entities subject to the tax on ‘corporations’, said Code must have alluded to organizations, which are not necessarily ‘partnerships’ in the technical sense of the term. The Code likewise states that “the term corporation includes partnerships, no matter how created or organized”. This qualifying expression clearly


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indicates that a joint venture need not be undertaken in any of the standard forms, or in conformity with the legal requirements on partnerships, in order that one could be deemed constituted for the purposes of the tax on corporations GATCHALIAN V. CIR Facts: The plaintiffs contributed money to purchase a sweepstakes ticket, which was registered in the name of Gatchalian and Company. The ticket won one of the prizes amounting to P 50 000.00 and the corresponding check was drawn in favor of Gatchalian and Company. Gatchalian was required by the income tax examiner to file the corresponding income tax return covering the prize won. The CIR made an assessment against Gatchalian and Company. The plaintiffs requested exemption from payment but was denied. The plaintiffs paid under protest then brought an action to recover their payment. Issue: Whether the plaintiffs formed a partnership and therefore liable for the payment of income tax Held: YES. The plaintiffs organized a partnership of civil nature because each of them put up money to buy a sweepstakes ticket for the sole purpose of dividing equally the prize, which they may win. The partnership was not only formed but upon the organization thereof and the winning of the prize, Gatchalian personally claimed the prize in his capacity as co-partner. Having organized and constituted a partnership of a civil nature, the said entity is the one bound to pay the income tax, which the defendant collected. EVANGELISTA v. CIR Facts: The Evangelistas purchased various lands using the money they borrowed from their father. These lands were leased. CIR claims income tax (on corporations, real estate dealer, corporation residence) from them. Issue: WON Evangelistas are liable to pay income tax

Held: Yes. They are liable to pay income tax.Petitioners are liable for to pay income tax on corporations. They have formed a partnership which is taxable as a corporation under the NIRC. The proof of real estate business are: i) Common fund is created purposely, borrowed from father, ii) Invested money in series of transactions, iii) Lots are not used for residential purposes, iv) Properties are managed by one person, v) Condition (business) existing for 10 years, vi) Petitioners did not give evidence contrary to purpose of a business. CIR vs. BATANGAS TRANSPORTATION COMPANY Batangas Transportation and Laguna-Tayabas Bus were placed under joint management (“Joint Emergency Operation”) to economize overhead expenses. CIR claims tax deficiencies from the two companies on the basis that the Joint Emergency Operation is a corporation distinct from the two companies. Issue: WON the Joint Emergency Operation is liable to pay for deficiency income tax Held: Yes. They are liable because it is a separate entity from the two companies. The Joint Emergency Operation operates as a single entity, company or partnership obtaining profits from operations. Two companies contributed money to a common fund to pay for operational expenses. Expenses and income are merged. The Joint Emergency Operation falls under the definition of a corporation (Sec 84(b)The term 'corporation' includes partnerships, no matter how created or organized, joint-stock companies, joint accounts, associations or insurance companies, but does not include duly registered general co-partnerships) under the NIRC, hence is liable to pay income tax. TAN v. CIR Facts: Tan bought knitting materials that he used to make undershirts. He was assessed with percentage tax on the sale of undershirts. The defense was that he was not liable to pay the tax because RA 901 grants tax exemption to the knitting industry. Issue: WON tan is liable to pay for percentage tax on sale of undershirts.


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Held: Yes. Tan is liable. The sales tax exemption granted for cotton knitting materials under RA 901 prevents the deduction of this cost from the value of gross sales of undershirts. The purpose of authorizing the deduction of the costs of materials manufactured from the gross selling price under the NIRC, is to avoid or prevent double taxation. It prevents a second assessment of the percentage tax on the material that went into the production of the manufactured articles. Here, since the knitting materials used in making the undershirts were not subjected to sales tax, it need not be deducted from the gross selling price of the undershirts, as there would be no double taxation. MANUEL PASCUAL AND RENATO DRAGON PETITIONERS VS. CIR AND CTA Facts: Petitioners Pascual and Dragon bought two (2) parcels of land on June 22, 1965 and another three (3) parcels of land on May 28, 1966. They sold the first two parcels in 1968 and the three parcels in 1970. They paid the corresponding capital gains taxes in 1973 and 1974 by availing of the tax amnesties granted in the said years. However, in 1979, they were assessed and required to pay deficiency corporate income taxes for the years 1968 and 1970.

The respondent Commissioner informed petitioners that in 1968 and 1970, petitioners as co-owners in real estate transactions formed an unregistered partnership or joint venture taxable as a corporation under Sec. 20(b) and its income was subject to the taxes prescribed under Sec. 24, both of the NIRC. Issue: WON the co-ownership between the petitioners constitutes an unregistered partnership/joint venture which is taxable as a corporation. Held:: The co-ownership between the petitioners does not constitute an unregistered partnership. The petitioners shall be relieved of the corporate tax liability. There is no evidence that petitioners entered into an agreement to contribute money, property or industry to a common fund, and that they intended to divide the profits among themselves. Respondent commissioner and/or his representatives just assumed these conditions

to be present on the basis of the fact that petitioners purchased certain parcels of land and became co-owners thereof. The purchase of the lands and the subsequent sale thereof were isolated transactions. In this case, the character of habituality peculiar to business transactions for the purpose of gain was not present. In Evangelista vs CIR, the court stated that there are two essential elements of a partnership: (a) an agreement to contribute money, property or industry to a common fund; and (b) intent to divide the profits among the contracting parties. In the said case, there was a series of transactions where petitioners purchased 24 lots which demonstrate the character of habituality peculiar to business transactions. The court also held that that the sharing of returns does not in itself establish a partnership whether or not the persons sharing therein have a joint or common right or interest in the property. There must be a clear intent to form a partnership, the existence of a juridical personality different from the individual partners, and the freedom of each party to transfer or assign the whole property. In the present case, there is no adequate basis to support the proposition that the petitioners formed an unregistered partnership on the basis of their co-ownership. The two isolated transactions did not make them partners. They shared in the gross profits as co-owners and paid their capital gains taxes on their net profits and availed of tax amnesty. Under these circumstances, they cannot be considered to have formed an unregistered partnership. AFISCO INSURANCE CORP. ET AL. VS. CA, CTA AND CIR Facts: The petitioners are 41 local insurance firms which entered into Reinsurance Treaties with Munich, a non-resident foreign insurance corporation. The reinsurance treaties required them to form an “insurance pool” or “clearing house” in order to facilitate the handling of the business they contracted with Munich. The CIR assessed the insurance pool deficiency corporate taxes and withholding taxes on dividends paid on Munich and to the petitioners respectively. The assessments were protested by the petitioners.


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The CA ruled that the insurance pool was a partnership taxable as a corporation and that the latter’s collection of premiums on behalf of its members was taxable income. The petitioners belie the existence of a partnership because, according to them, the reinsurers did not share the same risk or solidary liability, there was no common fund, the executive board of the pool did not exercise control and management of its funds and the pool was not engaged in business of reinsurance from which it could have derived income for itself. Issues:

1. May the insurance pool be deemed a partnership or an association that is taxable as a corporation? 2. Should the pool’s remittances to member companies and to Munich be taxable as dividends?

Held: The pool is taxable as a corporation. In the present case, the ceding companies entered into a Pool Agreement or an association that would handle all the insurance businesses covered under their quota-sharing reinsurance treaty and surplus reinsurance treaty with Munich. There are unmistakable indicators that it is a partnership or an association covered by NIRC.

a. The pool has a common fund, consisting of money and other

valuables that are deposited in the name and credit of the pool. b. The pool functions through an executive board which resembles

the BOD of a corporation. c. Though the pool itself is not a reinsurer, its work is

indispensable, beneficial and economically useful to the business of the ceding companies and Munich because without it they would not have received their premiums. Profit motive or business is therefore the primordial reason for the pool’s formation.

The fact that the pool does not retain any profit or income does not obliterate an antecedent fact that of the pool is being used in the transaction of business for profit. It is apparent, and petitioners admit that their association or co-action was indispensable to the transaction of the business. If together they have conducted business, profit must have been the object as indeed, profit was earned. Though the profit was

apportioned among the members, this is one a matter of consequence as it implies that profit actually resulted. Petitioners' reliance on Pascual v. Commissioner is misplaced, because the facts obtaining therein are not on all fours with the present case. In Pascual, there was no unregistered partnership, but merely a co-ownership which took up only 2 isolated transactions. The CA did not err in applying Evangelista, which involved a partnership that engaged in a series of transactions spanning more than 10 years, as in the case before us. SOLIDBANK CORPORATION VS. CIR Facts: Solidbank and Susana Realty, Inc. became co-owners of three (3) parcels of land with a four-storey building thereon when Solidbank acquired ½ ownership and interest of Susana Realty. Years after, Solidbank filed a complaint for partition. It demanded the portion of the property owned in common pursuant to Art. 494 of the Civil Code and asserted that a “Buy-Out” of the share of one to the other co-owner is a more practical solution. The parties agreed to settle amicably and the court rendered judgment approving the compromise agreement. The title of the property was awarded to Solidbank. A former employee of Susana Realty filed an information against Solidbank and Susana Realty stating that as a result of the amicable settlement, Solidbank and Susana Realty waived their claims against each other and are therefore subject to and liable for donor’s tax. The CIR denied the letter of protest of the petitioners and held that they were unregistered partners of the subject property and are subject to corporate income tax. The CIR said that since the purpose and activities that arose from the transaction was a leasing business activity, it follows that the petitioners did not merely enter into a co-ownership agreement; rather, they in fact entered into a joint venture and engaged in leasing business, hence, formed a taxable corporation. Susana Realty, on the other hand, pointed out that the true intention of the parties are not to become parties and to operate the acquired property for profit but for it to ultimately sell and convey the acquired


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property in favor of Solidbank in the future since the latter was using the building as its head office in its banking operations. Issue: WON Solidbank and Susana Realty formed an unregistered partnership which is subject to corporate income tax. Held: What Solidbank and Susana Realty had entered into under the “Deed of Sale with Option and Agreement for Administration of Property” (Deed) is a transaction resulting in co-ownership and not unregistered partnership. The agreement for administration of property is but a mere incident of the co-ownership and not an act reflective of their intention to engage in a mutual fund for profit or business. There are two essential elements of a partnership: (a) an agreement to contribute money, property or industry to a common fund, and (b) intent to divide the profits among the contracting parties. At first glance, the petitioners would seem to be covered by the essential elements. CIR has alleged that they contributed capital to engage in a leasing business activity. However, a more exhaustive scrutiny of the facts and jurisprudence led the court to believe that no agreement, direct or implied, was reached by the petitioners to purposely contribute money, property or industry to a common fund and that no intent to divide the profits arising from the use of the common fund in a business activity was ever contemplated by the parties. It is manifest from the wordings of the Deed that the real intention was to sell petitioner Susana Realty’s share to Solidbank. It is also important to note that Solidbank demolished the ½ portion of the building and constructed a new 10-storey building without the prior approval and consent of Susana Realty. These facts established the absence of intent to form a partnership over the property in question. Solidbank acted on its own in handling its business affairs. The fact that those who agree to form a co-ownership share or do not share any profits made by the use of the property held in common does not convert their venture into a partnership. The sharing of the gross returns does not of itself establish a partnership whether or not the persons sharing therein have a joint or common right or interest in the property. Aside from the circumstance of profit, the presence of other elements constituting partnership is necessary such as the clear intent to form a partnership, the existence of a juridical personality different from that of

the individual partners, and the freedom to transfer or assign any interest in the property by one with the consent of the others. An isolated transaction whereby two or more persons contribute funds to buy certain real estate for profit in the absence of other circumstances showing a contrary intention cannot be considered a partnership. The existence of a juridical personality different from that of the individual partners is absent in this case for the following reasons:

1. Although petitioners realized net income or profit from the lease of their building, such fact does not per se mean that they are engaged in partnership. Aside from the circumstance of profit, the presence of other elements constituting partnership must be considered.

2. Petitioners did not create a common fund to engage in leasing business.

3. Solidbank occupied more than half of the two buildings for its own business needs. The intent is evident that it bought the ½ of the property for its own personal use.

4. The act of Solidbank in constructing the building without Susana Realty’s consent negates any mutual agreement between them to form a partnership.

There is no authority given to Solidbank to transfer or assign any interest in the property which may be construed as indicative of partnership. The Deed only granted it administration. TAXPAYER; CORPORATIONS; RESIDENT FOREIGN CORPORATIONS WINSHIP V.PHIL. TRUST CO. Facts: Eastern Isles Import Corp and Eastern Isles Inc. were corporations organized under the laws of the Philippines whose capital stocks, save for one or two shares, were owned by American citizens. Both companies held current account deposits with Philippine Trust Corporation. On October 4, 1943, the Japanese Military Administration in the Philippines issued an order requiring all deposit accounts of the hostile people (including corporations) to be transferred to the Bank of Taiwan. In compliance with said order, the Philippine Trust Company transferred and paid the credit balances of the current account deposits


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of the two corporations to the Bank of Taiwan. The pre-war current deposit accounts of the corporations were subsequently transferred to S. Davis Winship who insituted an action against Phil. Trust Company to recover the sums of deposited money after his request was refused in 1947. Issue: WON there was a valid transfer of deposit to Bank of Taiwan releasing Phil Trust Co from any obligation to its depositors. Held: Valid. When Phil Trust Co. transferred the deposits in question to the Bank of Taiwan in compliance with the order of the Japanese Military Administration, it was released from any obligation to the depositors or their transferee. In the case of Filipinas Compañia de Seguros vs. Christern Henefeld and Co., Inc., Phil., 54, the court held that the nationality of a private corporation is determined by the character or citizenship of its controlling stockholders. This pronouncement is of course decisive as to the hostile character of the 2 corporations was concerned, it being conceded that the controlling stockholders of said corporations were American citizens. MARUBENI V CIR Facts: Marubeni Corporation, a foreign corporation duly organized and existing under the laws of Japan with a branch office in Manila seeks the reversal of a CTA decision which denied its claim for refund or tax credit in the amount of P229,424.40 representing an alleged overpayment of branch profit remittance tax withheld from dividends by Atlantic Gulf and Pacific Co. of Manila (AG&P). Petitioners argue that following the principal-agent relationship theory, Marubeni Japan is a resident foreign corporation subject only to the 10 % intercorporate final tax on dividends received from a domestic corporation. The Court of Tax Appeals view that Marubeni, Japan, being a non-resident foreign corporation and not engaged in trade or business in the Philippines, is subject to tax on income earned from Philippine sources at the rate of 35 % of its gross income but expressly made subject to the special rate of 25% under Article 10(2) (b) of the Tax Treaty of 1980 concluded between the Philippines and Japan. Issue: WON Marubeni is a resident or a non-resident foreign corporation under Philippine laws.

Held: Petitioner is a non-resident foreign corporation and thus taxed 35 % of its gross income from all sources within the Philippines. The alleged overpaid taxes were incurred for the remittance of dividend income to the head office in Japan. The investment of Marubeni Japan to its Phillipine branch was made for purposes peculiarly germane to the conduct of the corporate affairs of Marubeni Japan, and not of the Philippine branch. The independent investment, and income arising from such, is attributable only to the head office. The Philippine branch cannot now claim the increments as ordinary consequences of its trade or business in the Philippines and avail itself of the lower tax rate of 10 %. The CIR is ordered to refund or grant as tax credit in favor of petitioner the amount representing overpayment of taxes on dividends received. TAXPAYER; CORPORATIONS; NON-RESIDENT FOREIGN CORPORATIONS CIR VS BOAC Facts: BOAC is a foreign corporation/airline without landing rights in the Philippines. For the years 1959 to 1967, it was assessed taxes by the CIR on its sale of tickets within the Philippines, although contract of carriage was performed outside the country. Issues: WON BOAC was a resident corporation or a corporation doing business in the Philippines. If BOAC is a non-resident, whether or not revenue from said sales are considered taxable income from within the Philippines. Held: BOAC is a resident corporation. Under the 1977 Tax code: a resident corporation is one doing business in the Philippines or having an office or place of business within the country. BOAC sold tickets and received the fare within the country. “Those activities were in exercise of the functions which are normally incident to, and are in progressive pursuit of, the purpose and object of its organization as an international air carrier. In fact, the regular sale of tickets, its main activity, is the very lifeblood of the airline business, the generation of sales being the paramount objective. There should be no doubt then that BOAC was


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"engaged in" business in the Philippines through a local agent during the period covered by the assessments.” The definition of gross income is broad enough to cover sales of tickets. Income refers to flow of wealth (as opposed to capital which refers to a fund). “The source of an income is the property, activity or service that produced the income. 8 For the source of income to be considered as coming from the Philippines, it is sufficient that the income is derived from activity within the Philippines. In BOAC's case, the sale of tickets in the Philippines is the activity that produces the income.” The enumeration in the tax code regarding income is not an exclusive enumeration. JAL vs CIR case stating that sale of tickets without physical act of transportation is not taxable under carrier’s tax is inapplicable. What was under question in that case was an excise tax as opposed to the instant case where income tax is at issue. MARUBENI VS. CIR Facts: Marubeni is a Japanese corporation, licensed to do business in the Philippines, with a branch office operating in the country, and with shares of stock in Atlantic Gulf (AG&P). The latter remitted dividends to Marubeni, but withheld 10% as dividend tax and 15% as profit remittance tax. Marubeni now seeks refund or tax credit for overpayment of branch remittance tax withheld from dividends by Atlantic Gulf, basing their arguments on a BIR ruling on their query that only profits remitted abroad that are “effectively connected” with the business of the company should be subject to profit remittance tax. CIR denied the claim for refund stating that while the dividends was not income made by Marubeni’s Philippine branch, it is still income made by Marubeni corporation, a non-resident corporation, within the Philippines and thus taxable at 25% of gross income and since 10% dividend tax and 15% profit remittance tax was already paid, there is no refund forthcoming. Marubeni countered that it is a resident foreign corporation subject only to 10% tax on dividends based on the principal-agent relationship theory and the fact that it has a branch office in the country.

Issue: WON Marubeni is a resident or non-resident foreign corporation. Held: A resident foreign corporation is one that is "engaged in trade or business" within the Philippines. While Marubeni has a branch in the Philippines, the principal-agent relationship does not apply in this case. While generally, a foreign corporation is the same juridical entity when doing business in the country through a branch, when the foreign corporation transacts business in the country independently of its branch office, that relationship is set aside. The foreign corporation becomes liable as a distinct taxpayer from its branch office. Thus, Marubeni is a non-resident foreign corporation as regards its investments in AG&P. The CIR however erred in merely adding the 10% and 15% taxes already paid together, and concluding that it was equivalent to the 25% tax imposable. These taxes have different tax bases. Under our tax treaty with Japan, we have agreed that the 25% is only the maximum rate imposable. Generally, under the code, 35% tax on gross income is imposed on non-resident foreign corporations for sources within the country. A discounted rate of 15% on dividends received from a domestic corporation is given to Marubeni on condition that Japan will extend a tax credit to it of 20%. Thus, Marubeni could still claim refund of Php 144,000 approximately. CIR VS. PROCTER AND GAMBLE

Facts: For taxable year 1974-1975, Procter and Gamble remitted dividends to its parent company in the US, withholding 35% on gross income. In 1977, it claimed for refund or tax credit arguing that under PD 369, the applicable tax rate on it was 15% and not 35%. It raised this issue to the CTA which held that the US does not allow tax credit for P&G, P&G Phil failed to meet requirements to avail of the 15%, and even if it did, it was P&G USA that was entitled to claim the refund, not P&G Phil.

Issue: Whether P&G Phil could be considered a taxpayer? Whether 15% tax rate is applicable to P&G?

Held: Vis. Authority of P&G Phil to claim a refund: Under the NIRC, "taxpayer" is defined as "any person subject to tax imposed by the Title [on Tax on Income]". The withholding agent, as the entity liable for payment of the tax, is considered a taxpayer. More specifically, with


19

regard to the collection of tax, it is the agent of the government, while also acting as the agent of the taxpayer in filing and payment. The withholding agent is also the agent of the beneficial owner of the dividends vis. payment such that there is an implied authority to also claim for a refund, particularly in this case where the agent is a subsidiary of the beneficial owner.

Vis. 15% tax rate: The ordinary thirty-five percent (35%) tax rate applicable to dividend remittances to non-resident corporate stockholders of a Philippine corporation, goes down to fifteen percent (15%) if the country of domicile of the foreign stockholder corporation "shall allow" such foreign corporation a tax credit for "taxes deemed paid in the Philippines," applicable against the tax payable to the domiciliary country by the foreign stockholder corporation. The Court reviewed the US tax laws and found that the US does credit Philippine corporate income tax paid by US corporations in the Philippines against its own taxes.

In answering the issue, the Court looked at 1) the amount of dividend tax waived by the Philippine government 2) the amount deemed paid tax credit which the US allows P&G USA 3) to see whether the amount of tax waived is at least equal to the amount of tax credit. After computations, the Court found that since the tax credit was actually higher than the tax waived, the US does comply with the provision for at least 20% crediting of taxes paid in the Philippines and thus, P&G USA may avail of the 15% tax rate instead of the 35% tax rate.

COMPUTATIONS BY THE COURT BELOW:

Amount (1), i.e., the amount of the dividend tax waived by the Philippine government is arithmetically determined in the following manner:

P100.00— Pretax net corporate income earned by P&G-Phil.

x 35%— Regular Philippine corporate income tax rate

————

P35.00— Paid to the BIR by P&G-Phil. as Philippine

corporate income tax.

P100.00

— 35.00

————

P65.00— Available for remittance as dividends to P&G-USA.

P65.00— Dividends remittable to P&G-USA

x 35%— Regular Philippine dividend tax rate under Section

———— 24 (b) (1), NIRC

P 22.75— Regular dividend tax.


x 15%— Reduced dividend tax rate under Section 24 (b)

———— (1), NIRC

P 9.75— Reduced dividend tax

P22.75— Regular dividend tax under Section 24 (b) (1), NIRC

— 9.75— Reduced dividend tax under Section 24 (b) (1),

———— NIRC

P13.00— Amount of dividend tax waived by Philippine

government under Section 24 (b) (1), NIRC

Amount (2), i.e., the amount of the "deemed paid" tax credit which US tax law allows under Section 902, Tax Code, may be computed arithmetically as follows:



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— 9.75— Dividend tax withheld at the reduced (15%) rate

————

P55.25— Dividends actually remitted to P&G-USA

P35.00— Philippine corporate income tax paid by P&G-Phil.

to the BIR.

Dividends actually

remitted by P&G-Phil.

to P&G-USA P 55.25

————————— ———— x P35.00 = P29.75 10

Amount of accumulated P 65.00

profits earned by P&G-Phil. in excess of income tax.

Since P29.75 is much higher than P13.00 (the amount of dividend tax waived by the Philippine government), Section 902, US Tax Code, specifically and clearly complies with the requirements of Section 24 (b) (1), NIRC.

Vis. CIR requiring that P&G show that it was indeed given the tax credit: That is a matter of administration, not covered by the legal issue of what tax rate to apply. Plus, the NIRC does not require that the tax credit shall have been granted before applying the 15% tax rate instead of the 35%.

TAXPAYERS; ESTATES AND TRUSTS CIR V. VISAYAN ELECTRIC CO. Facts: Visayan Electric Co. (Visayan) holds a legislative franchise to operate and maintain an electric light, heat, and power system in Cebu City, some municipalities in the Province of Cebu and other surrounding places. It established a pension fund known as the Employees’ Reserve for Pensions for the benefit of its present and future employees in the

event of a retirement, accident, and disability. An amount is set aside for this purpose every month and is taken from the gross operating receipts of the company. This reserve fund was later invested by the company in stocks of San Miguel Brewery, Inc. for which dividends have been regularly received but these dividends were not declared for tax purposes. The Auditor General sent Visayan a letter in 1949, informing them that since the company retained full control of the fund, the dividends are therefore not tax exempt but that such dividends may be excluded from gross receipts for franchise tax purposes provided that they are declared for income tax purposes. Because of this, the Provincial Auditor of Cebu allowed the company the option to declare the dividends either as part of the company’s income for income tax purposes or as part of its income for franchise tax purposes. The company chose the latter. The Revenue Examiner of Cebu conducted a separate investigation for the BIR and also discovered that the company is the custodian or has complete control of the fund but disagreed with the Provincial Auditor and instead considered the dividends as subject to the corporate income tax under Sec. 24 of the NIRC. The Examiner also concluded that Visayan violated Sec. 259 of the Tax Code which imposes a 25% surcharge of the franchise taxes remain unpaid for fifteen days and Sec. 2 of Act 465 for not paying additional residence tax. With the Examiner’s report as the basis, the Commissioner of Internal Revenue assessed P2,443.30 as deficiency income tax for 1953 to 1958 plus interest and 50% surcharge, P3,850 as additional residence tax from 1954 to 1959, and P35,419.05 as 25% surcharge for late payment of franchise taxes for the years 1957, 1958, and 1959. Visayan appealed to the CA which sustained the additional residence tax but freed the company from liability for deficiency income tax and the 25% surcharge for late payment of franchise taxes and cited Sec. 8, Act 3499 as basis. Issues: 1. Is Visayan Electric Company liable for deficiency income tax on dividends from the stock investment of its employees' reserve fund for pensions? 2. Is it also liable for 25% surcharge on alleged late payment of franchise tax? Held: 1. The disputed income are not receipts, revenues or profits of the

company. They do not go to the general fund of the company. They


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are dividends from the San Miguel Brewery, Inc. investment which form part of and are added to the reserve pension fund which is solely for the benefit of the employees to be distributed among them. Visayan is merely acting, with respect to the reserve fund, as trustee for its employees when it sets aside monthly amounts from its gross operating receipts for that fund. And for tax purposes, the employees’ reserve fund is a separate taxable entity. Visayan then, while retaining legal title and custody over the property, holds it in trust for the beneficiaries mentioned in the resolution creating the trust, in the absence of any condition therein which would, in effect, destroy the intention to create a trust. And there is no such condition because nothing in the company’s act suggests that it reserved the power to revoke the fund or appropriate it for itself. The fund may not be diverted for any other purpose and the trust created is irrevocable. Therefore, the CIR misconceived the import of the law when he assessed such dividends as part of the income of the company. But the trust fund is still subject to tax under individuals under Sec. 56 (a) of the Tax Code. But under Sec. 331 of the Tax Code, internal revenue taxes should be assessed within 5 years after the return is filed and since the Company was in good faith and the CIR made the honest mistake of assessing income tax based on corporate tax and not on income tax, then Sec. 332 applies and thus, the tax on the employees’ reserve fund as individual income tax may still be collected within 10 years. But the 50% surcharge cannot be imposed on Visayan because there was no willful or fraudulent neglect to file a return. 2. Sec. 183 provides that taxes shall be paid within 20 days after

the end of each month while the franchise extended to Visayan states that the taxes are due and payable quarterly. The due and payable quarterly in the franchise only indicates the frequency of payment of the franchise tax, that is, every three months. It does not refer to the time limit or the date on which the taxes must be paid. There is no conflict between Sec. 183 and the franchise payment period given to Visayan in the franchise. If there is no period, then Sec. 183 is controlling, which gives the taxed entity 15 days to pay the tax. But where there is a period, then the period is controlling. In this case, Visayan’s franchise indicated that franchise tax shall be due and payable quarterly or every 3 months. Since Sec. 183 grants 20 days after the last day of each quarter and Sec. 259 grants another 15 days grace period after that, before imposing the 25% surcharge, then the period for

Visayan to pay the franchise tax is within 20 days after the end of each quarter and if such tax remains unpaid for 15 days after that 20 days, then the 25% surcharge shall be imposed upon them. The tax cannot be immediately demandable at the end of each calendar quarter because the transactions on the last day of the quarter must have to be included in the computation of the taxpayer’s return for each particular quarter. It is well impossible for the taxpayer to add up his income, write down the deductions, and compute the net amount taxable as of the last working hour of the last day of the quarter, and at the same time go to the nearest revenue office, submit the quarterly return and pay the tax.

CIR v CA Facts: Don Andres Soriano (DAS), a citizen and resident of the United States, formed the corporation "A. Soriano y Cia", predecessor of ANSCOR. ANSCOR is wholly owned and controlled by the family of DAS, who are all non-resident aliens. When DAS’ shares was at 14,963 common shares he transferred 1,250 shares each to his two sons, Jose and Andres, Jr. (both foreigners), as their initial investments in ANSCOR. When DAS died, he had 185,154 shares - 50,495 of which are original issues and the balance of 134,659 shares as stock dividend declarations. Correspondingly, one-half of that shareholdings or 92,577[14] shares were transferred to his wife, Doña Carmen Soriano, as her conjugal share. The other half formed part of his estate. Stock dividends worth 46,290 and 46,287 shares were respectively received by the Don Andres estate and Doña Carmen from ANSCOR. Doña Carmen requested a ruling from the United States Internal Revenue Service (IRS), inquiring if an exchange of common with preferred shares may be considered as tax avoidance scheme under Section 367 of the 1954 U.S. Revenue Act. IRS: exchange is only a recapitalization scheme and not tax avoidance. Doña Carmen exchanged her whole 138,864 common shares for 138,860 of the newly reclassified preferred shares. The estate of Don Andres exchanged 11,140 of its common shares for remaining 11,140 preferred shares, thus reducing its common shares to 127,727.


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Pursuant to several board resolutions, ANSCOR redeemed common shares from the Don Andres’ estate reducing the latter’s common shareholdings to 19,727. As stated in the board Resolutions, ANSCOR’s business purpose for both redemptions of stocks is to partially retire said stocks as treasury shares in order to reduce the company’s foreign exchange remittances in case cash dividends are declared. BIR: ANSCOR should be assessed for deficiency withholding tax-at-source, pursuant to Sections 53 and 54 of the 1939 Revenue Code,[30] based on the transactions of exchange and redemption of stocks despite the claim of ANSCOR that it availed of the tax amnesty under Presiential Decree (P.D.) 23 which were amended by P.D.’s 67 and 157. The invoked decrees do not cover Sections 53 and 54 in relation to Article 83(b) of the 1939 Revenue Act under which ANSCOR was assessed. CTA and CA:IFO BIR. Issue: Whether ANSCOR’s redemption of stocks from its stockholder as well as the exchange of common with preferred shares can be considered as "essentially equivalent to the distribution of taxable dividend," making the proceeds thereof taxable under the provisions of the above-quoted law. Held: ANSCOR’s redemption of stock dividends is considered as essentially equivalent to a distribution of taxable dividends while the exchange of stocks are not considered as such. ANSCOR is liable for the withholding tax-at-source for its redemption of stock dividends. Section 83(b) of the 1939 Revenue Act provides: "Sec. 83. Distribution of dividends or assets by corporations. – (b) Stock dividends – A stock dividend representing the transfer of surplus to capital account shall not be subject to tax. However, if a corporation cancels or redeems stock issued as a dividend at such time and in such manner as to make the distribution and cancellation or redemption, in whole or in part, essentially equivalent to the distribution of a taxable dividend, the amount so distributed in redemption or cancellation of the stock shall be considered as taxable income to the extent it represents a distribution of earnings or pofits accumulated after March first, nineteen hundred and thirteen." TAX ON STOCK DIVIDENDS: GENERAL RULE: Proportionate Test: stock dividends once issued form part of the capital and, thus, subject to income tax such that: "A stock dividend representing the transfer of surplus to capital account shall not be subject to tax."

Stock dividends issued by the corporation, are considered unrealized gain, and cannot be subjected to income tax until that gain has been realized. It should be noted that capital and income are different. (CAPITAL = wealth or fund ; INCOME = income is profit or gain or the flow of wealth.) The determining factor for the imposition of income tax is whether any gain or profit was derived from a transaction. EXCEPTION (TEST OF TAXABILITY): "However, if a corporation cancels or redeems stock issued as a dividend at such time and in such manner as to make the distribution and cancellation or redemption, in whole or in part, essentially equivalent to the distribution of a taxable dividend, the amount so distributed in redemption or cancellation of the stock shall be considered as taxable income to the extent it represents a distribution of earnings or profits accumulated after March first, nineteen hundred and thirteen." PURPOSE OF EXCEPTION: prevent the issuance and cancellation or redemption of stock dividends, which is fundamentally not taxable, from being made use of as a device for the actual distribution of cash dividends, which is taxable. Depending on the circumstances, the proceeds of redemption of stock dividends are essentially distribution of cash dividends, which when paid becomes the absolute property of the stockholder. Having realized gain from that redemption, the income earner cannot escape income tax. REDEMPTION CANCELLATION: For the exempting clause of Section 83(b) to apply, it is indispensable that: (a) there is redemption or cancellation; (b) the transaction involves stock dividends and (c) the "time and manner" of the transaction makes it "essentially equivalent to a distribution of taxable dividends." Of these, the most important is the third. REDEMPTION = repurchase, a reacquisition of stock by a corporation which issued the stock In exchange for property, whether or not the acquired stock is cancelled, retired or held in the treasury. With respect to the third requisite, ANSCOR redeemed stock dividends issued just 2 to 3 years earlier. The time alone that lapsed from the issuance to the redemption is not a sufficient indicator to determine


23

taxability It is a must to consider the factual circumstances as to the manner of both the issuance and the redemption. TIME ELEMENT= factor to show a device to evade tax and the scheme of cancelling or redeeming the same shares is a method usually adopted to accomplish the end sought. Was this transaction used as a "continuing plan," "device" or "artifice" to evade payment of tax? NET EFFECT (in the transaction):= not evidence or testimony to be considered but an interference to be drawn or a conclusion to be reached. It is also important to know whether the issuance of stock dividends was dictated by legitimate business reasons, the presence of which might negate a tax evasion plan. It is the net effect rather than the motive and plans of the taxpayer that guides the implementation of Sec 83(b). The issuance of stock dividends and its subsequent redemption must be separate, distinct, and not related, for the redemption to be considered a legitimate tax scheme THREE ELEMENTS in IMPOSING INCOME TAX:

(1) there must be gain or profit, (2) that the gain or profit is realized or received, actually or

constructively,and (3) it is not exempted by law or treaty from income tax.

The test of taxability under the exempting clause of Section 83(b) is, whether income was realized through the redemption of stock dividends. After considering the manner and the circumstances by which the issuance and redemption of stock dividends were made, there is no other conclusion but that the proceeds thereof are essentially considered equivalent to a distribution of taxable dividends. EXCHANGE OF COMMON WITH PREFERRED SHARES: EXCHANGE = act of taking or giving one thing for another involving reciprocal transfer and is generally considered as a taxable transaction. Both the Tax Court and the Court of Appeals found that ANSCOR reclassified its shares into common and preferred and that parts of the common shares of the Don Andres estate and all of Doña Carmen’s

shares were exchanged for the whole 150, 000 preferred shares. There was no change in their proportional interest after the exchange. In this case, the exchange of shares, without more, produces no realized income to the subscriber. There is only a modification of the subscriber’s rights and privileges - which is not a flow of wealth for tax purposes. The issue of taxable dividend may arise only once a subscriber disposes of his entire interest and not when there is still maintenance of proprietary interest. EXEMPT TAX PAYERS; EXEMPT INDIVIDUALS; UNDER TAX TREATY

REAGAN vs CIR

Facts: William C. Reagan, a civilian employee of an American corporation providing technical assistance to the United States Air Force in the Philippines pursuant to the Military Bases Agreement. He disputes the payment of the income tax assessed on him by on an amount realized by him on a sale of his automobile to another American, the transaction having taken place at the Clark Field Air Base at Pampanga.

CONTENTION OF REAGAN: Clark Air Force is foreign soil or territory for purposes of income tax legislation. Since the sale was made in Clark, the sale is considered outside Philippine territory and therefore beyond the Philippines’ jurisdictional power to tax.

CTA: The sale having taken place on what indisputably is Philippine territory, Reagan’s liability for the income tax due as a result thereof was unavoidable.

Issue 1: WON Clark Air Force Field is a foreign territory.

Decision 1: No. There is nothing in the Military Bases Agreement that lends support to such an assertion. It has not become foreign soil or territory. This country's jurisdictional rights in the said place, certainly not excluding the power to tax, have been preserved. Nothing is better settled than that the Philippines being independent and sovereign, its


24

authority may be exercised over its entire domain. The jurisdiction of the nation within its own territory is necessarily exclusive and absolute. Any restriction upon it, deriving validity from an external source, would imply a diminution of its sovereignty to the extent of the restriction.All exceptions, therefore, to the full and complete power of a nation within its own territories, must be traced up to the consent of the nation itself. They can flow from no other legitimate source.

CONTENTION OF REAGAN: A national of the United States serving in the Philippines in connection with the construction, maintenance, operation or defense of the military bases and residing in the Philippines only by reason of such employment is not to be taxed on his income unless derived from Philippine source or sources other than the United States sources.

Issue 2: WON Reagan, as a US national, is exempt from paying income tax under Militaty Bases Agreement.

Decision: No. Reagan was liable for the income tax arising from a sale of his automobile in the Clark Field Air Base, which clearly is and cannot otherwise be other than, within our territorial jurisdiction to tax.

By the Military Bases Agreement, the Philippine Government merely consents that the United States exercise jurisdiction in certain cases. The consent was given purely as a matter of comity, courtesy, or expediency over the bases as part of the Philippine territory or divested itself completely of jurisdiction over offenses committed therein. It is not and can not on principle or authority be construed as a limitation upon the rights of the Philippine Government.

NOTE (from digestor): The liability arose out of the fact that the income was earned in the Philippines and not that Reagan was not exempted under the Military Bases Agreement.

CIR vs ROBERTSON

Consolidated Facts: The “AMERICANS” are as follows:

Frank and James Robertson were American citizens born in the Philippines. They resided in the Philippines until repatriated to the United States and took residence their. Soon after, Frank was employed by the U.S. Federal Government with a job at the Navy. James was employed by the U.S. Federal Government for the U.S. Navy Shipguard. Their work brought them to the U.S. Navy's various installations overseas with eventual assignment at Subic Bay, Olongapo.

Robert Cathey is a United States born citizen who first came to the Philippines with the U.S. liberation force, and upon discharge from the military service, turned a U.S. Navy's civilian employee with station at Makati.

John Garrison is a Philippine born American citizen also repatriated to the United States. Soon after he was employed by the U.S. Federal Government in its military installations. He returned to the Philippines in assigned at the U.S. Naval Base, Subic Bay.

All told, the aforementioned are citizens of the United States; civilian employees in the U.S. Military Base in the Philippines in connection with the bases’ construction, maintenance, operation, and defense; Their incomes are solely derived from salaries from the U.S. government by reason of their employment in the U.S. Bases in the Philippines.

CIR wanted to collect income taxes of the Americans for the taxable years 1969-1972, inclusive of interests and penalties.

CONTENTION OF THE AMERICANS: No national of the United States serving in or employed in the Philippines in connection with the construction, maintenance, operation or defense of the bases and residing in the Philippines by reason only of such employment, or his spouse and minor children and dependent parents of either spouse, shall be liable to pay income tax in the Philippines except in respect of income derived from Philippine sources or sources other than the United States sources. (Basis: Article XII, Par. 2 of the RP-US Military Bases Agreement).

CONTENTION OF CIR: Frank Robertson and James Robertson, own residential properties and that James Robertson is now a retired Federal Civil Service employee and presently living with his family in Olongapo


25

City, which circumstance indicate that respondents' residence in this country is not by reason only of his employment in the U.S. naval base.

Cathey owns the house at Quezon City where he presently resides.

Garrison lived in the Philippines uninterrupted except for a two-year stint in Okinawa.

CTA ruled in favor of the American Citizens.

Issue: WON the Americans are tax exempt.

Held: Yes. In order to avail oneself of the tax exemption under the RP-US Military Bases Agreement: he must be a national of the United States employed in connection with the construction, maintenance, operation or defense, of the bases, residing in the Philippines by reason of such employment, and the income derived is from the U.S. Said circumstances are all present in the case at bar.

The basic intendment of the law was to exempt all U.S. citizens working in the Military Bases from the burden of paying Philippine Income Tax without distinction as to whether born locally or born in their country of origin.

It bears repeating as so disclosed in the records that the Americans together with families upon repatriation had since acquired domicile and residency in the United States. And, obtained employment with the United States Federal Service. Not until after several years of a hiatus, the Americans did return to the Philippines not so much of honoring a pledge nor of sentimental journey but by reason of taking up assigned duties with the United States military bases in the Philippines where they were gainfully employed by the U.S. Federal Government.

CASE VIS-A-VIS REAGAN vs CIR: The circumstances in the case of Reagan vs. Commissioner of Internal Revenue are different from the circumstances of the case herein and the ruling obtained in the former case cannot be invoked or applied in support of CIR’s contention. A cursory reading of said case shows that Reagan was at one time a civilian employee of an American corporation providing technical assistance to the U.S. Air Force in the Philippines. He questioned the

payment of the income tax assessed on him by respondent Commissioner of Internal Revenue on an amount realized by him on a sale of his automobile to a member of the US Marine Corps., the transaction having taken place at the Clark Field Air Base in Pampanga. It was his contention that in legal contemplation the sale was made outside Philippine territory and therefore beyond our jurisdictional power to tax. Clearly, the facts in said case are different from those obtaining in the present suit.

EXEMPT TAXPAYERS; EXEMPT CORPORATIONS COLLLECTOR V SINCO Facts: Vicente G. Sinco established and operated an educational institution known as. Sinco Educational Institution was organized. Sinco Educational Corporation is non-stock and was capitalized by V. G. Sinco and members of his immediate family. This corporation continued the operations of Foundation College of Dumaguete. The college derived profits by way of tuition fees.The Collector of Internal Revenue assessed against the college an income tax for the years 1950 and 1951 in the aggregate sum of P5,364.77, which was paid by the college. CONTENTION OF SINCO Corp: We are exempted from income tax under section 27 (it is organized and maintained exclusively for the educational purposes and no part of its net income inures to the benefit of any private individual) of the NIRC. CTA ruled in favor of Sinco.

CONTENTION OF COLLECTOR: A great portion of the net profits realized by the corporation was channeled and redounded to the personal benefit of V. G. Sinco, who was its founder and president.

V. G. Sinco is also the largest owner of Community Publishers, Inc., which Sinco Corp paid most of its accounts payables.

(TOPIC) Limit the benefits of the exemption, under said section 27 (e), to institutions which do not hope, or propose, to have such surplus.

(TOPIC) Proof of exemption required by section 24, Regulation No. 2, Department of Finance which is a condition precedent before an educational institution can avail itself of the exemption under consideration not provided by Sinco Educational Corporation.


26

CONTENTION OF V. G. SINCO: With regard to funds going to my accounts, these are my salary for the reason that I never collected this salary for which reason it was carried in the books as accrued expenses.

With regard to the account of the Community Publishers, Inc., Sinco said that this is a distinct and separate corporation although he is one of its stockholders.

Issue: WON Sinco Educational Corporation is exempted.

Held: No. Collectors contention would limit the benefits of the exemption, under said section 27, to institutions which do not hope, or propose, to have such surplus. Under this view, the exemption would apply only to schools which are on the verge of bankruptcy.. The final result of Collectorâ€™s contention, if adopted, would be to discourage the establishment of colleges in the Philippines, which is precisely the opposite of the objective consistently sought by our laws. While the acquisition of additional facilities, may redound to the benefit of the institution itself, it cannot be positively asserted that the same will redound to the benefit of its stockholders, for no one can predict the financial condition of the institution upon its dissolution. At any rate, it has been held by several authorities that the mere provision for the distribution of its assets to the stockholders upon dissolution does not remove the right of an educational institution from tax exemption.

It cannot be said that the failure to observe the proof of exemption requirement called for constitutes a waiver of the right to enjoy the exemption. To hold otherwise would be tantamount to incorporating into our tax laws some legislative matter by administrative regulation.

JESUS SACRED HEART COLLEGE V COLLECTOR Facts: Jesus Sacred Heart College is an educational organization operating in Lucena, Quezon, offering elementary, secondary and collegiate courses to the public. On December 15, 1950 assessment notices for the deficiency income tax for the years 1947, 1948 and 1949 were forwarded by the CIR to the college. The CIR assessed the sum of P2,241.86 in income tax for realized net incomes from tuition and other fees. The amount was paid by the plaintiff on August 13, 1951. On Aug 16, 1951, the college filed a claim for refund which was denied on August 24, 1951. On appeal, the college maintained, and the lower court held, that it is exempt from taxation under NIRC Sec 27 (e) which provides:

SEC. 27. Exemptions from tax on corporations. — The following organizations shall not be taxed under this Title in respect to income received by them as such —

x x x x x x x x x

(f) Corporation or association organized and operated exclusively for religious, charitable, scientific, athletic, cultural, or educational purposes, no part of the net income of which is distributed to any private stockholder or individual: Provided, however, That the income of whatever kind and character from any of its properties, real or personal, except income expressly exempted by this title, shall be liable to the tax imposed under this Code.

The CIR asserts that the income in question was derived form an "activity conducted for profit,"

Issue: WON the net income from tuition and other fees collected and received by an educational institution from its students is subject to income tax.

Held: Not subject to income tax

(1) The court noted that the CIR has not even tried to demonstrate the presence of the college's purpose to make a profit over and above the cost of instruction. The main evidence of the purpose of a corporation should be its articles of incorporation and by-laws. Article 21 of the college's by-laws states that it is a non-profit corporation

(2) To hold that an educational Institution is subject to income tax whenever it is so administered as to reasonably assure that it will not incur in deficit, is to nullify and defeat the aforementioned exemption. Indeed, the effect, in general, of the interpretation advocated by the CIR would be to deny the exemption whenever there is net income.

(3) Every responsible organization must be run ... by operating within the limits of its own resources, especially its regular income. In other words, it should always strive, whenever possible, to have a surplus. The CIR's pretense would limit the benefits of the exemption to institutions which do not hope, or propose, to have such surplus. Under this view, the exemption would apply only to schools which are on the verge of bankruptcy


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CIR V CA and YMCA (1998) Facts: YMCA is a non-stock, non-profit institution, which conducts various programs and activities that are beneficial to the public, especially the young people, pursuant to its religious, educational and charitable objectives. In 1980, the YMCA earned an income of P676,829.80 from leasing out a portion of its premises to small shop owners and P44,259.00 from parking fees collected from non-members. On July 2, 1984, the CIR issued an assessment in the amount of P415,615.01 including surcharge and interest, for deficiency income tax. YMCA formally protested the assessment which was denied by the CIR. The YMCA filed a petition for review at the Court of Tax Appeals who issued a ruling in favor of the YMCA, stating that the YMCA should not be subject to income tax. The leasing of facilities and the operation of the parking lot were reasonably incidental to and reasonably necessary for the accomplishment of the objectives of the YMCA. The rentals and parking fees were just enough to cover the costs of operation and maintenance only. As pointed out earlier, the membership dues are very insufficient to support its program. Earnings from rentals parking charges constitute the bulk of its income which is channeled to support its many activities and attainment of its objectives. The CIR elevated the case to the Court of Appeals. The CA 6 initially decided in favor of the CIR but later on reversed its decision stating that the little income from small shops and parking fees helps to keep YMCA's head above the water, so to speak, and allow it to continue with its laudable work. Not satisfied with the decision, the CIR elevated the case to the SC.

Issue: WON the rental income of the YMCA from its real estate subject to tax.

Is the YMCA an educational instutution?

Held: Not tax-exempt and not an educational institution

(1) The exemption claimed by the YMCA is expressly disallowed by the very wording of the last paragraph of then Section 27 of the NIRC which mandates that the income of exempt organizations (such as the YMCA) from any of their properties, real or personal, be subject to the tax imposed by the same Code. Because the last paragraph of said section unequivocally subjects to tax the rent income of the YMCA from its real property, 20 the Court is duty-bound to abide strictly by its literal meaning

and to refrain from resorting to any convoluted attempt at construction. The rental income is taxable regardless of whence such income is derived and how it is used or disposed of. Where the law does not distinguish, neither should we.

Sec. 27. Exemptions from tax on corporations. — The following organizations shall not be taxed under this Title in respect to income received by them as such —

xxx xxx xxx

(g) Civic league or organization not organized for profit but operated exclusively for the promotion of social welfare;

(h) Club organized and operated exclusively for pleasure, recreation, and other non-profitable purposes, no part of the net income of which inures to the benefit of any private stockholder or member;

xxx xxx xxx

Notwithstanding the provisions in the preceding paragraphs, the income of whatever kind and character of the foregoing organizations from any of their properties, real or personal, or from any of their activities conducted for profit, regardless of the disposition made of such income, shall be subject to the tax imposed under this Code.

(2) For the YMCA to be granted the exemption it claims under the aforecited provision, it must prove with substantial evidence that (1) it falls under the classification non-stock, non-profit educational institution; and (2) the income it seeks to be exempted from taxation is used actually, directly, and exclusively for educational purposes. However, the Court notes that not a scintilla of evidence was submitted by private respondent to prove that it met the said requisites. The Court has examined the "Amended Articles of Incorporation" and "By-Laws" of the YMCA, but found nothing in them that even hints that it is a school or an educational institution. The term "educational institution" or "institution of learning" has acquired a well-known technical meaning, of which the members of the Constitutional Commission are deemed cognizant. Under the Education Act of 1982, such term refers to schools. The school system is synonymous with formal education which "refers to the hierarchically structured and chronologically graded learnings organized


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and provided by the formal school system and for which certification is required in order for the learner to progress through the grades or move to the higher levels.

Bellosillo, J: Dissenting

The word "income" as used in tax statutes is to be taken in its ordinary sense as gain or profit. In the instant case, there is no question that in leasing its facilities to small shop owners and in operating parking spaces, YMCA does not engage in any profit-making business. Both the Court of Tax Appeals, and the Court of Appeals in its resolution of 25 September 1995, categorically found that these activities conducted on YMCA's property were aimed not only at fulfilling the needs and requirements of its members as part of YMCA's youth program but, more importantly, at raising funds to finance the multifarious projects of the Association. In YMCA of Manila v. Collector of Internal Revenue 17 this Court categorically held and found YMCA to be an educational institution exclusively devoted to educational and charitable purposes and not operated for profit. CIR V CA and Ateneo (1997)

Facts: Ateneo de Manila University is a non-stock, non-profit educational institution with auxiliary units and branches all over the Philippines. One such auxiliary unit is the Institute of Philippine Culture (IPC), which has no legal personality separate and distinct from that of ADMU. The IPC is a Philippine unit engaged in social science studies of Philippine society and culture. Occasionally, it accepts sponsorships for its research activities from international organizations, private foundations and government agencies. On July 8, 1983, ADMU received from petitioner Commissioner of Internal Revenue a demand letter dated June 3, 1983, assessing it the sum of P174,043.97 for alleged deficiency in contractor's tax on the services rendered by IPC. ADMU filed a protest contesting the validity of the assessment.The CA ruled in favor of ADMU.

Issue:

(1) WON the ADMU though IPC is an independent contractor pursuant to sec 205 of the tax code

(2) WON ADMU is subject to 3% contractor's tax under the same section.

Held: ADMU is not an independent contractor and therefore, not subject to the 3% contractor's tax.

To fall under its coverage, Section 205 of the National Internal Revenue Code requires that the independent contractor be engaged in the business of selling its services. The court finds no evidence that Ateneo's Institute of Philippine Culture ever sold its services for a fee to anyone or was ever engaged in a business apart from and independently of the academic purposes of the university. For one, the established facts show that IPC, as a unit of the private respondent, is not engaged in business. Undisputedly, private respondent is mandated by law to undertake research activities to maintain its university status. For another, it bears stressing that private respondent is a non-stock, non-profit educational corporation. The fact that it accepted sponsorship for IPC's unfunded projects is merely incidental. It is also well to stress that the questioned transactions of Ateneo's Institute of Philippine Culture cannot be deemed either as a contract of sale or a contract of a piece of work. By its very nature, a contract of sale requires a transfer of ownership. There was no sale either of objects or services because, as adverted to earlier, there was no transfer of ownership over the research data obtained or the results of research projects undertaken by the Institute of Philippine Culture.

ADMU is not a contractor selling its services for a fee but an academic institution conducting these researches pursuant to its commitments to education and, ultimately, to public service. XAVIER SCHOOL V CIR C.T.A. CASE NO. 1682. October 8, 1969 Petitioner is a duly organized private non-stock corporation for educational purposes. On December15, 1955, Xavier school purchased the Echague property in Quiapo, Manila to be used as a school side. The consideration was for P778,475.00 payable on 32 quarterly installments plus interest of 6% per annum. Xavier School realized however that the property they bought was inadequate and inappropriately situated to meet the expanding needs of an educational institution. They transfered to another site in Manila soon after. On September 12, 1958, the school purchased from Ortigas and Company parcels of land in San Juan


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P421,392.00. The money used by Xavier to purchase the new school lot was borrowed from the Jesuit Central Procure, Kowloon, Hongkong, with the agreement that the loan is payable as soon as the Echague property is sold. On February 13, 1959, Xavier agreed to sell the Echague property to Continental Oil Co., Inc. for P1,840,403.18. For income tax purposes, the sale of the Echague property was considered by respondent as a cash sale in 1959 because 25% or more of the purchase price was paid by the vendee in that year. Hence, the gain from the sale of the property in question was realized by petitioner in 1959. It appears that from the proceeds of the sale, Xavier deposited the amount of P120,000.00 with interest of 9% per annum to a depositary which was later on organized into Filipinas Investment & Finance Corporation. The said amount of P120,000.00 was deposited ast it was allegedly not needed in the construction of the San Juan property. By December of 1959, as the construction work progressed, the said deposit was reduced to P40,000.00 and it was left with Filipinas as a revolving fund for the retirement pay of petitioner's faculty members and other employees. On July 15, 1963, respondent demanded from petitioner payment of the deficiency income taxes for 1959, 1960 and 1962 amounting to P134,052.41 which assessment was disputed by petitioner. Issue: The principal issue to be resolved by this Court is whether or not petitioner is exempt from income tax under the provisions of Section 27(e) of the Tax Code on income derived from the following sources: (a) Gain of P896,029.47 derived from the sale of Echague property in 1959; (b) Interests earned in 1960 and 1962 on the unpaid balance of the selling price of said property due from Continental Oil Co., Inc.; (c) Interest earned in 1959 and 1960 from Filipinas Investment & Finance Corp. Petitioner contends that as a non-profit educational institution, it is exempt from the income tax under Section 27(e) of the Tax Code, Held: (1) On the gain on real estate - exempt The sale of the Echague property and the acquisition and improvements of the San Juan property are isolated and incidental transactions devoid of any profit motive. We hold, therefore, that the incidental gain from the sale of the Echague property and the replacement thereof by the more

expensive San Juan property are covered by the statutory exemption prescribed by Section 27(e) (2) On interest earned - taxable we are convinced that the interests and dividend realized by petitioner for a number of years were not incidental to its educational activities because a private educational institution which deviates from its purely educational purposes and activities shall be treated like any private domestic corporation engaged in business for profit with respect to income derived therefrom. The protective mantle of income tax benefit or exemption cannot be extended to a private educational institution which chooses to descend from its high pedestal of tax preference or immunity to the level of an ordinary private corporation engaged in profitable undertaking or business.

GROSS INCOME AND EXCLUSIONS; INCOME FROM WHATEVER SOURCE

GUTIERREZ V COLLECTOR Facts: Gutierrez, real estate broker, paid real estate broker’s privilege tax for the years 1951 through 1954. In 1956 the CIR assessed deficiency income tax against Gutierrez due to disallowances of claimed deductions (discussed in greater detail in the HELD portion). The CIR also claimed that Gutierrez under-reported profits made for sale of real property. Gutierrez had bought real estate in 1943 using Commonwealth pesos at Php 35,000 and claimed that he sold it in 1953 for Php 30,400. Therefore, he argues, he obtained a loss instead of a gain from the said sale. On the other hand, the CIR argued that Japanese military notes were used to acquire the property such that under the Ballantyne Scale of Values, the purchase price was only Php 26,293. Gutierrez, therefore, gained from the sale, which gain was taxable. Finally, in four other sales, Gutierrez only declared 50% of the profit claiming that the lots were capital assets. The CIR claimed that they were ordinary assets instead, thus 100% of the profits was deductible


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Issue: Whether Gutierrez’ claimed deductions were proper and allowable? Whether the Ballantyne Scale of Values should be used in determining the taxable income? Whether the four lots sold were capital assets on which only 50% of profit is taxable? Held: Vis. the deductions: Deductions from gross income are an act of legislative grace; what is not expressly granted by Congress is withheld The Tax Code allows the deduction of business expenses from gross income. To be deductible, they must be 1) ordinary and necessary 2) paid or incurred within the taxable year 3) paid or incurred in carrying on a trade or business CLAIMED DEDUCTION RATIO FOR (DIS) ALLOWANCE Transportation expenses for funeral of friends; opera tickets; iron door for residence; Depreciation of residence

Personal, living or family expenses are not deductible

X

Furniture given as commission; expenses in attending National Convention of Filipino Businessmen; lunch and corregidor cruise of Homeowners’ Association

Gutierrez was an officer of the chamber of commerce which sponsored the National Convention; he was also president of the Homeowners’ Assn. These were made in pursuit of or in enhancement of business. Commissions given in consideration for bringing about a profitable transaction are part of the cost of business transactions

√

Car expenses, salary of driver, car depreciation

1/3 disallowed by CIR; SC: 50% deductible, car was used for both personal and business purpose, 50% was deemed reasonable

50% √

Repair of rental apartments

The repair did not increase their value or prolong their life. Maintenance expenses are deductible

√

Litigation expenses to collect rent

Ordinary and necessary expense √

Expenses in watching over laborers (part of construction costs), real estate tax unpaid by former owner (part of costs of acquiring property), iron bars etc (augmented value of apartments), relocation, survey, and registration (strengthened title over property); price of comments on the rules of court, depreciated ratably over lifespan

Not deductible but integrated into the cost of capital assets for which incurred and depreciated yearly

x

Alms to indigent family, contributions, donation

Not deductible unless shown to be among those specified in law: government, pol. subd., religious, charitable, scientific, athletic, cultural, educational organizations, rehabilitation of veterans, societies for the prevention of cruelty to children or animals

x

Vis. use of Ballantyne Scale of Values: no showing that Gutierrez used Commonwealth pesos to acquire property. In determining the gain or loss from sale of property, the purchase price and selling price must be in the same currency, so the purchase price in Japanese notes have to be converted to Commonwealth pesos, and the recognized rate is the Ballantyne Scale Vis. whether real estate is capital or ordinary assets: The property sold was used in the ordinary course of business, therefore, it is considered as ordinary assets and fully taxable. CIR V BOAC Facts: BOAC is a foreign corporation/airline without landing rights in the Philippines. For the years 1959 to 1967, it was assessed taxes by the


31

CIR on its sale of tickets within the Philippines, although contract of carriage was performed outside the country.

Issues: Whether BOAC was a resident corporation or a corporation doing business in the Philippines. If BOAC is a non-resident, whether or not revenue from said sales are considered taxable income from within the Philippines.

Held: BOAC is a resident corporation. Under the 1977 Tax code: a resident corporation is one doing business in the Philippines or having an office or place of business within the country. BOAC sold tickets and received the fare within the country. “Those activities were in exercise of the functions which are normally incident to, and are in progressive pursuit of, the purpose and object of its organization as an international air carrier. In fact, the regular sale of tickets, its main activity, is the very lifeblood of the airline business, the generation of sales being the paramount objective. There should be no doubt then that BOAC was "engaged in" business in the Philippines through a local agent during the period covered by the assessments.”

The definition of gross income is broad enough to cover sales of tickets. Income refers to flow of wealth (as opposed to capital which refers to a fund).

“The source of an income is the property, activity or service that produced the income. 8 For the source of income to be considered as coming from the Philippines, it is sufficient that the income is derived from activity within the Philippines. In BOAC's case, the sale of tickets in the Philippines is the activity that produces the income.”

The enumeration in the tax code regarding income is not an exclusive enumeration.

JAL vs CIR case stating that sale of tickets without physical act of transportation is not taxable under carrier’s tax is inapplicable. What was under question in that case was an excise tax as opposed to the instant case where income tax is at issue.

EISNER V MACOMBER Facts: Mrs. Macomber owned 2,200 shares in Standard Oil. The said company declared a 50% stock dividend. Thus, Mrs. Macomber was

given 1,100 additional shares. The Collector of Internal Revenue assessed income tax on the said shares, which Mrs. Macomber paid. This case involves her action for refund of said payment. Issue: Whether stock dividends representing accumulated company earnings reinvested into the corporation is taxable income? Held: NO. Stock dividends are not taxable income. Where a shareholder received no actual cash or other property from the corporation, retaining the same proportionate share in the corporation before the distribution of stock dividends, there is no taxable income to speak of. “…A stock dividend really take(s) nothing from the property of the corporation and add(s) nothing to that of the shareholder, but that the antecedent accumulation of profits evidenced thereby, while indicating that the shareholder is richer because of an increase of his capital, at the same time shows he has not realized or received any income in the transaction.” Stock dividends are not income because the shareholder received nothing of value from the corporation. DISSENT: Justice Brandeis: Congress can tax “income from whatever source”, which would include anything which may be regarded as income, regardless of the medium (e.g. cash or stocks). A stock dividend is really a cash dividend that is used to acquire additional shares. Standard Oil Company of California, had surplus and undivided profits amounting to $45,000,000, of which about $20,000,000 had been earned prior to March 1, 1913. In order to readjust the capitalization, the board of directors decided to issue stock dividend of 50 percent of the outstanding stock, and to transfer from surplus account to capital stock account an amount equivalent to such issue.

Macomber, being the owner of 2,200 shares of the old stock, received certificates for 1,100 additional shares, of which 18.07 per cent., or 198.77 shares, par value $19,877, were treated as representing surplus earned between March 1, 1913, and January 1, 1916. She was called upon to pay, and did pay under protest, a tax imposed based upon a supposed income of $ 19,877 because of the new shares.

CONTENTION OF MACOMBER: Revenue Act of 1916 , in so far as it considers stock dividends as income, violated the Constitution of the United States.


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Issue: WON Congress has the power to tax, as income of the stockholder and without apportionment, a stock dividend made lawfully and in good faith against profits accumulated by the corporation.

Decision: No, stock dividend is not taxable.

Income may be defined as the gain derived from capital, from labor, or from both combined, provided it be understood to include profit gained through a sale or conversion of capital assets and not a gain accruing to capital; not a growth or increment of value in the investment; but a gain, a profit, something of exchangeable value, proceeding from the property, severed from the capital, however invested or employed, and coming in, being 'derived'-that is, received or drawn by the recipient (the taxpayer) for his separate use, benefit and disposal- that is income derived from property.

A 'stock dividend' shows that the company's accumulated profits have been capitalized, instead of distributed to the stockholders or retained as surplus available for distribution in money or in kind should opportunity offer. Far from being a realization of profits of the stockholder, it tends rather to postpone such realization, in that the fund represented by the new stock has been transferred from surplus to capital, and no longer is available for actual distribution.

The essential and controlling fact is that the stockholder has received nothing out of the company's assets for his separate use and benefit; on the contrary, every dollar of his original investment, together with whatever accretions and accumulations have resulted from employment of his money and that of the other stockholders in the business of the company, still remains the property of the company, and subject to business risks which may result in wiping out the entire investment. Having regard to the very truth of the matter, to substance and not to form, he has recived nothing that answers the definition of income within the meaning of the Sixteenth Amendment.

We are clear that not only does a stock dividend really take nothing from the property of the corporation and add nothing to that of the shareholder, but that the antecedent accumulation of profits evidenced thereby, while indicating that the shareholder is the richer because of an increase of his capital, at the same time shows he has not realized or received any income in the transaction.

HELVERING V BRUUN Facts: Bruun, a landlord, entered into a 99-year lease with a tenant who defaulted on rental payments. The lease agreement included a stipulation that the tenant may tear down buildings and improvements on the leased property and add new ones, but at the end of the lease, these improvements, along with the leased property, will be forfeited in favor of Bruun, the landlord. Before the breach of the lease contract, the tenant tore down a building valued at $12,811.43 and built another, valued at $64,245.68. The CIR assessed Bruun for the difference between the value of the old improvements and the value of the new ones. Bruun argues that the gain was not taxable income, drawing from the ruling in Eisner, he argues that gain to be taxable must be severable from the capital which gave rise to it Issue: Whether or not the gain derived from the increased value of the improvements is taxable income? Held: Yes. “Gain may occur as a result of exchange of property, payment of the taxpayer's indebtedness, relief from a liability, or other profit realized from the completion of a transaction. The fact that the gain is a portion of the value of property received by the taxpayer in the transaction does not negative its realization.” For gain to be taxable, separability from the original capital is not a requisite. The primary requirement is that the taxpayer acquired valuable assets, regardless of the medium of exchange, whether cash or property. Realization of gain need not be in cash. CIR V JAVIER Facts: In 1977, Victoria Javier received from the Prudential Bank and Trust Co. US$999,973.70 remitted by her sister, Dolores Ventosa, through Mellon Bank NA. The latter filed a claim for the return of the amount, alleging it had committed a clerical error in the remittance since only US $1,000 should have been remitted. A year after, Melchor Javier, Victoria’s husband filed his income tax return for 1977showing a gross income of P53,053.38 and a net income of P48,053.38 but stating in the footnote that he received money from abroad, the same money received by his wife, which he thought was a


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gift by mistake and is now the subject of a court action. The CIR made a deficiency assessment against Javier, arguing that the money received from Mellon Bank was part of his taxable income. A 50% fraud penalty was also assessed against Javier. Issue: Whether Javier is liable for the 50% fraud penalty. Held: No. To merit the penalty, the fraud must be intentional, consisting of deception willfully and deliberately done or resorted to in order to induce another to give up some legal right. Javier did not conceal anything from the government. Error or mistake of law is not fraud.

GROSS INCOME AND EXCLUSIONS; INCOME FROM WHATEVER SOURCE; SITUS OF INCOME; FROM SOURCES WITHIN THE PHILIPPINES

CIR V JAPAN AIRLINES 202 SCRA 450

Facts: Japan Air Lines, Inc. (JAL), is a foreign corporation engaged in the business of international air carriage which did not hold transporting operations in the Phillippines as it did not have a license to do so. JAL constituted the Philippine Air Lines (PAL), as its general sales agent in the Philippines to sell JAL plane tickets and reservations for cargo spaces which were used by the passengers or customers on the facilities of JAL.

CIR sent JAL deficiency income tax assessment notices and a demand letter for a total amount of P2,099,687.52

JAL: as a non-resident foreign corporation, it was taxable only on income from Philippine sources as determined under Section 37 of the Tax Code, and there being no such income during the period in question, it was not liable for the deficiency income tax liabilities assessed

CTA: reversed CIR ruling

Issues: 1. WON proceeds from JAL tickets sold in the Phil are taxable income from sources within the Philippines (yes) 2. WON JAL is engaged in trade or business in the Philippines (yes)

Held: JAL tickets sold in the Phil are taxable sources within the Phil and JAL is engaged in trade or business in the Phil, JAL to pay the deficiency income taxes. SAL E OF TICKETS IN PHIL TAXABLE SOURCE WITHIN PHIL: Several cases including CIR v BOAC have already ruled on the issue stating that "The source of an income is the property, activity or service that produced the income. For the source of income to be considered as coming from the Philippines, it is sufficient that the income is derived from activity within the Philippines.” Since the source of income in case at bar was the sales of JAL tickets in the Philippines, the flow of wealth proceeded from, and occurred within, Philippine territory, enjoying the protection accorded by the Philippine government, and is thus taxable as income tax.

DOING BUSINESS IN THE PHIL: JAL is a resident foreign corporation under Section 84 (g) of the National Internal Revenue Code of 1939. In the BOAC case, it was stated that in order that a foreign corporation may be regarded as doing business within a State, there must be continuity of conduct and intention to establish a continuous business, such as the appointment of a local agent, and not one of a temporary character. Since JAL constituted PAL as local agent to sell its airline tickets, there can be no conclusion other than that JAL is a resident foreign corporation, doing business in the Philippines.

CIR v BOAC Facts: BOAC is a British airline corporation with no landing rights for traffic purposes in the Philippines. It did not carry passengers and/or cargo to or from the country. However, during the period covered by the assessments in this case, it maintained general sales agents in the Philippines, Warner Barnes and Company, Ltd (Warner), and later Qantas Airways (Qantas) who sold BOAC tickets covering passengers and cargoes.

On two separate occasions, it was assessed by the CIR for deficiency income tax with interest. BOAC filed two separate cases with the CTA protesting these assessments.

CTA: IFO of BOAC. The CTA decision on the joined 1st and 2nd cases reversed the CIR decision stating that the proceeds of sales of BOAC passage tickets in the Philippines by Warner and Qantas do not


34

constitute BOAC income from Philippine sources "since no service of carriage of passengers or freight was performed by BOAC within the Philippines" and, therefore, said income is not subject to Philippine income tax. Income from transportation is income from services so that the place where services are rendered determines the source.

Issue: (Related to topic FROM SOURCES WITHIN THE PHIL) WON the revenue derived by BOAC from sales of tickets in the Philippines for air transportation constitute income of BOAC from Philippine sources, and, thus subject to income tax (YES) Held: CTA ruling reversed, BOAC liable for the deficiency taxes. FROM SOURCES WITHIN THE PHILIPPINES: The definition of GROSS INCOME is broad and includes proceeds from sales of transport documents. Meanwhile, the SOURCE OF INCOME is the property, activity or service that produced the income.

TEST OF TAXABILITY: The test of taxability is the "source"; and the source of an income is that activity which produced the income.

For the source of income to be considered as coming from the Philippines, it is sufficient that the income is derived from activity within the Philippines.

In BOAC's case, the sale of tickets in the Philippines is the activity that produces the income. The tickets exchanged hands here and payments for fares were also made here in Philippine currency. The situs of the source of payments is the Philippines. The flow of wealth proceeded from, and occurred within, Philippine territory, enjoying the protection accorded by the Philippine government. In consideration of such protection, the flow of wealth should share the burden of supporting the government thus revenue from BOAC tickets sales in the Philippines is subject to income tax. Even if the BOAC tickets sold covered the "transport of passengers and cargo to and from foreign cities", it cannot alter the fact that income from the sale of tickets was derived from the Philippines.

NDC v CIR 151 SCRA 395

Facts: The National Development Company (NDC) entered into contracts in Tokyo with several Japanese shipbuilding companies for the construction of twelve ocean-going vessels. The purchase price was to come from the proceeds of bonds issued by the Central Bank. Initial payments were made in cash and through irrevocable letters of credit. 14 promissory notes were signed for the balance by the NDC and, as required by the shipbuilders. Pursuant thereto, the remaining payments and the interests thereon were remitted in due time by the NDC to Tokyo. The vessels were eventually completed and delivered to the NDC in Tokyo.

The NDC remitted to the shipbuilders in Tokyo the total amount of US$4,066,580.70 as interest on the balance of the purchase price. No tax was withheld.

CIR: held the NDC liable for deficiency taxes for taxes it did not withhold from the interest it paid the Japanese shipbuilders in the total sum of P5,115,234.74.

NDC: Japanese shipbuilders were not subject to tax under the above provision because all the related activities — the signing of the contract, the construction of the vessels, the payment of the stipulated price, and their delivery to the NDC — were done in Tokyo.

CTA: IFO of BIR except for a slight reduction of the tax deficiency in the sum of P900.00, representing the compromise penalty.

Issue: WON the Japanese shipbuilders were liable for (withholding) tax on the interest remitted to them under Section 37 of the Tax Code (Yes.) Held: SC affirmed the CTA ruling. INCOME FROM SOURCE WITHIN THE PHIL: NDC is a domestic corporation and a resident of the Philippines. The interest it paid is on the promissory notes issued by it. Clearly, therefore, the interest remitted to the Japanese shipbuilders in Japan on the unpaid balance of the purchase price of the vessels acquired by petitioner is interest derived from sources within the Philippines subject to income tax under the then Section 24(b)(1) of the National Internal Revenue Code.

ACTIVITY VS. INCOME SOURCE: The Tax Code does not speak of activity but of "source," which in this case is the NDC.


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"SEC. 37. Income from sources within the Philippines. — (a) Gross income from sources within the Philippines. — The following items of gross income shall be treated as gross income from sources within the Philippines:

(1) Interest. — Interest derived from sources within the Philippines, and interest on bonds, notes, or other interest-bearing obligations of residents, corporate or otherwise;

The law specifies: `Interest derived from sources within the Philippines, and interest on bonds, notes, or other interest-bearing obligations of residents, corporate or otherwise.'

Nothing there speaks of the `act or activity' of non-resident corporations in the Philippines, or place where the contract is signed. The residence of the obligor who pays the interest rather than the physical location of the securities, bonds or notes or the place of payment, is the determining factor of the source of interest income. Accordingly, if the obligor is a resident of the Philippines the interest payment paid by the obligor can have no other source than within the Philippines.

PENALTY: The imposition of the deficiency taxes on the NDC is a penalty for its failure to withhold the same from the Japanese shipbuilders. Such liability is imposed by Section 53(c) of the Tax Code. NDC was remiss in the discharge of its obligation as the withholding agent of the government and so should be held liable for its omission.

AIR CANADA V CIR

Facts: Air Canada (AC), a Canadian corporation, was granted an authority to operate as an off-line carrier by the Civil Aeronautics Board (CAB) subject to certain conditions. It entered into an agreement with Aerotel Ltd., Corporation (Aerotel), whereby Aerotel was appointed as AC’s Passenger General Sales Agent for the territory defined in the agreement.

For the taxable quarters covering the 3rd Quarter of the taxable year 2000 up to the 2nd Quarter of the taxable year 2002, petitioner filed and paid its Quarterly and Annual Income Tax Returns. On November 28, 2002, petitioner filed its administrative claim for income tax refund with the BIR.

AC: revenue derived from sales of tickets in the Philippines on its off-line flights through Aerotel cannot be subject to income tax because the same is not sourced within the Philippines.

BIR: no response. So AC appealed to the SC.

SC: IFO of BIR, AC was a resident foreign corporation earning income through its ticket sales agent in the Philippines and this income is subject to income tax. AC filed a motion for reconsideration.

Issue: WON revenue derived by an international air carrier from sales of tickets in the Philippines for air transportation, while having no landing rights in the country, constitutes income from a Philippine source, and accordingly, taxable for income tax under Section 24(b)(2) of the NIRC. (YES.)

Held: Affirmed its original judgment and dismissed AC’s case. An international airline which has appointed a ticket sales agent in the Philippines and which allocates fares received to various airlines on the basis of their participation in the services rendered, although it does not operate any airplane in the Philippines, is a resident foreign corporation subject to tax on income received from Philippine sources.

SOURCE OF INCOME: The source of an income is the property, activity or service that produced the income. In both the BOAC case and the case at bar, the sale of tickets in the Philippines is the activity that produces the income. The tickets exchanged hands here and payments for fares were also made here in Philippine currency. The situs of the source of payments is the Philippines.

AC is a resident foreign corporation under Section 22 of the NIRC of 1997, which. AC maintained Aerotel as its General Sales Agent in the Philippines, tasked, among others, to sell AC services. Pursuant to Section 28(A)(1) of the NIRC of 1997, as amended, it shall be subject to an income tax equivalent to 32% of the taxable income derived from its sale of passage documents here in the Philippines.

TREATY: Moreover, under the RP-Canada Tax Treaty, AC’s gross revenues sourced within the Philippines are taxable. It states that 'an enterprise carrying on a business or enterprise in the Philippines through a permanent establishment' is subject to tax in the Philippines. Through Aerosol, AC has an outlet where sales of tickets are made, and thus is


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deemed to have had established a permanent establishment carrying on a business covered under the RP-Canada Tax Treaty.

COMMISSIONER OF INTERNAL REVENUE vs.COURT OF TAX APPEALS and SMITH KLINE & FRENCH OVERSEAS CO. (PHILIPPINE BRANCH)

Facts: Smith Kline and French Overseas Company (Smith Kline) is a multinational firm domiciled in Philadelphia licensed to do business in the Philippines. It is engaged in the importation, manufacture and sale of pharmaceuticals drugs and chemicals. In its 1971 income tax return, Smith Kline declared a net taxable income of P1,489,277 and paid P511,247 as tax due. Among the deductions claimed from gross income was P501,040 as its share of its head office overhead expenses.

However, in its amended return, there was an overpayment of P324,255 "arising from underdeduction of home office overhead". They made a formal claim for the refund of the alleged overpayment stating that they received from their international independent auditors, an authenticated certification to the effect that the Philippine share in the unallocated overhead expenses of the main office was actually $219,547 (P1,427,484). It was further stated in the certification that the allocation was made on the basis of the percentage of gross income in the Philippines to the gross income of the corporation as a whole. By reason of the new adjustment, Smith Kline's tax liability was greatly reduced from P511,247 to P186,992 resulting in an overpayment of P324,255.

Smith Kline made a formal claim for an income tax refund alleging that it had overpaid the amount of P324,255 from underdeduction of home office overhead". Without awaiting the action of the Commissioner of Internal Revenue on its claim, Smith Kline filed a petition for review with the Court of Tax Appeals.

CTA: CIR to refund the overpayment or grant a tax credit to Smith Kline.

Issue: WON there was an overpayment of income tax. (YES) Held: CTA ruling affirmed, Smith Kline’s amended return is conformity with law.

Section 37 of the old National Internal Revenue Code, Commonwealth Act No. 466, which is reproduced in Presidential Decree No. 1158, the National Internal Revenue Code of 1977 and reads:

SEC. 37. Income form sources within the Philippines. —

xxx xxx xxx

(b) Net income from sources in the Philippines. — From the items of gross income specified in subsection (a) of this section there shall be deducted the expenses, losses, and other deductions properly apportioned or allocated thereto and a ratable part of any expenses, losses, or other deductions which cannot definitely be allocated to some item or class of gross income. The remainder, if any, shall be included in full as net income from sources within the Philippines.

xxx xxx xxx

While Revenue Regulations No. 2 of the Department of Finance contains the following provisions on the deductions to be made to determine the net income from Philippine sources:

SEC. 160. Apportionment of deductions. — From the items specified in section 37(a), as being derived specifically from sources within the Philippines there shall be deducted the expenses, losses, and other deductions properly apportioned or allocated thereto and a ratable part of any other expenses, losses or deductions which can not definitely be allocated to some item or class of gross income. The remainder shall be included in full as net income from sources within the Philippines. The ratable part is based upon the ratio of gross income from sources within the Philippines to the total gross income.

Example: A non-resident alien individual whose taxable year is the calendar year, derived gross income from all sources for 1939 of P180,000, including therein:

Interest on bonds of a domestic corporation P9,000


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Dividends on stock of a domestic corporation 4,000

Royalty for the use of patents within the Philippines 12,000

Gain from sale of real property located within the Philippines 11,000

Total P36,000

that is, one-fifth of the total gross income was from sources within the Philippines. The remainder of the gross income was from sources without the Philippines, determined under section 37(c).

The expenses of the taxpayer for the year amounted to P78,000. Of these expenses the amount of P8,000 is properly allocated to income from sources within the Philippines and the amount of P40,000 is properly allocated to income from sources without the Philippines.

The remainder of the expense, P30,000, cannot be definitely allocated to any class of income. A ratable part thereof, based upon the relation of gross income from sources within the Philippines to the total gross income, shall be deducted in computing net income from sources within the Philippines. Thus, these are deducted from the P36,000 of gross income from sources within the Philippines expenses amounting to P14,000 [representing P8,000 properly apportioned to the income from sources within the Philippines and P6,000, a ratable part (one-fifth) of the expenses which could not be allocated to any item or class of gross income.] The remainder, P22,000, is the net income from sources within the Philippines.

FROM SOURCES WITHIN THE PHIL: Based on the aforementioned laws, where an expense is clearly related to the production of Philippine-derived income or to Philippine operations (e.g. salaries of Philippine personnel, rental of office building in the Philippines), that expense can be deducted from the gross income acquired in the Philippines without resorting to apportionment.

RATABLE PARTS: However, the overhead expenses incurred by the parent company in connection with finance, administration, and research and development, all of which direct benefit its branches all over the

world, including the Philippines cannot be definitely allocated or identified with the operations of the Philippine branch. Under section 37(b) of the Revenue Code and section 160 of the regulations, Smith Kline can claim as its deductible share a ratable part of such expenses based upon the ratio of the local branch's gross income to the total gross income, worldwide, of the multinational corporation.

CIR VS MARUBENI [G.R. No. 137377. December 18, 2001.]

Facts: Marubeni Corporation (Marubeni) is a Japanese corporation engaged in general import and export trading, financing and the construction business. It is duly registered to engage in such business in the Philippines and maintains a branch office in Manila.

CIR : Marubeni has an undeclared income from two (2) contracts in the Philippines. One of the contracts was with the National Development Company (NDC) in connection with the construction and installation of a wharf/port complex at the Leyte Industrial Development Estate in the municipality of Isabel, province of Leyte. The other contract was with the Philippine Phosphate Fertilizer Corporation (Philphos) for the construction of an ammonia storage complex also at the Leyte Industrial Development Estate. Each contract was for a piece of work and since the projects called for the construction and installation of facilities in the Philippines, the entire income therefrom constituted income from Philippine sources, hence, subject to internal revenue taxes. Marubeni is liable for deficiency income, branch profit remittance, contractor's and commercial broker's taxes.

CTA and CA: Marubeni had properly availed of the tax amnesty under E.O. Nos. 41 and 64 and declared the deficiency taxes subject of said case as deemed cancelled and withdrawn.

CIR: Marubeni is disqualified from availing of the amnesties because the latter falls under the exception in Sec. 4(b) of E.O. No. 41. Work performed on the contracts were done in the Philippines and therefore income derived is subject to Philippine income tax.

Issue: WON Marubeni properly availed the tax exemption


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(Related to SITUS) WON the work done on the two contracts were done in the Philippines and WON they are subject to income tax.

Held: Yes tax exemption properly availed. No work done were not done in the Philippines and are not subject to income tax. Case dismissed, CA decision affirmed.

Marubeni’s contracts did not fall under the exception in Sec. 4(b) of E.O. No. 41. However, insofar as the contractor's tax which is a tax on business covered by E.O. No. 64 is concerned, respondent already fell under the exception in Sec. 4(b) of E.O. Nos. 41 and 64 and was disqualified from availing the business tax amnesty granted therein.

SITUS: A contractor's tax is a tax imposed upon the privilege of engaging in business. It is generally in the nature of an excise tax on the exercise of a privilege of selling services or labor rather than a sale on products; and is directly collectible from the person exercising the privilege. While Marubeni was an independent contractor under the terms of the two contracts, the work therein were not all performed in the Philippines because some of them were completed in Japan in accordance with the provisions of the contracts.

The service of "design and engineering, supply and delivery, construction, erection and installation, supervision, direction and control of testing and commissioning, coordination. . . " of the two projects involved two taxing jurisdictions. These acts occurred in two countries — Japan and the Philippines. While the construction and installation work were completed within the Philippines, the evidence is clear that some pieces of equipment and supplies were completely designed and engineered in Japan. The two sets of ship unloader and loader, the boats and mobile equipment for the NDC project and the ammonia storage tanks and refrigeration units were made and completed in Japan. They were already finished products when shipped to the Philippines.

The other construction supplies listed under the Offshore Portion such as the steel sheets, pipes and structures, electrical and instrumental apparatus, these were not finished products when shipped to the Philippines. They, however, were likewise fabricated and manufactured by the sub-contractors in Japan.

All services for the design, fabrication, engineering and manufacture of the materials and equipment under Japanese Yen Portion I were made and completed in Japan. These services were rendered outside the

taxing jurisdiction of the Philippines and are therefore not subject to contractor's tax.

ALEXANDER HOWDEN V COLLECTOR

Facts: The Commonwealth Insurance Co. (CIC), a domestic corporation, entered into reinsurance contracts with 32 British insurance companies not engaged in trade or business in the Philippines, whereby the former agreed to cede to them a portion of the premiums on insurance on risks it has underwritten in the Philippines. Alexander Howden & Co., Ltd., (AHCL) also a British corporation not engaged in business in this country, represented the aforesaid British insurance companies. The reinsurance contracts were prepared and signed by the foreign reinsurers in England and sent to Manila where CIC. signed them.

Pursuant to the aforesaid contracts, CIC., remitted P798,297.47 to AHCL, as reinsurance premiums. In behalf of AHCL, CIC. filed in April 1952 an income tax return declaring the sum of P798,297.47, with accrued interest thereon in the amount of P4,985.77, as AHCL's gross income for calendar year 1951. It also paid the BIR P66,112.00 as income tax thereon.

AHCL: instituted an action in the CFI of Manila for the recovery of the amount claims. Reinsurance premiums came from sources outside the Philippines! (1) The contracts of reinsurance, out of which the reinsurance premiums were earned, were prepared and signed abroad, so that their situs lies outside the Philippines; (2) The reinsurers, not being engaged in business in the Philippines, received the reinsurance premiums as income from their business conducted in England and, as such, taxable in England; and, (3) Section 37 of the Tax Code, enumerating what are income from sources within the Philippines, does not include reinsurance premiums.

CTA (after CFI referred to the case to it): denied the claim.

Issue (related to SITUS OF INCOME): Are portions of premiums earned from insurances locally underwritten by a domestic corporation, ceded to and received by non- resident foreign reinsurance companies, thru a non-resident foreign insurance broker,pursuant to reinsurance contracts signed by the reinsurers abroad


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but signed by the domestic corporation in the Philippines, subject to income tax or not? (YES) Held: SOURCES WITHIN THE PHILIPPINES: Reinsurance premiums remitted by domestic insurance corporations to foreign reinsurance companies are considered income of the latter derived from sources within the Philippines. Activities that create income and business in the course of which an income is realized are two different things. An activity may consist of a single act; while business implies continuity of transactions. An income may be earned by a corporation in the Philippines although such corporation conducts all its business abroad. Precisely, Section 24 of the Tax Code does not require a foreign corporation to be engaged in business in the Philippines, in order for its income from sources within the Philippines to be taxable. It subjects foreign corporations not doing business in the Philippines to tax for income from sources within the Philippines. If by source of income is meant the business of the taxpayer, foreign corporations not engaged in business in the Philippines would be exempt from taxation on their income from sources within the Philippines.

REINSURANCE PREMIUM IS AN ITEM OF GROSS INCOME: Section 37 of the Tax Code is not an all-inclusive enumeration.

GROSS INCOME: “gross receipts" of amounts that do not constitute return of capital, such as reinsurance premiums, are part of the gross income of a taxpayer. At any rate, the tax actually collected in this case was computed not on the basis of gross premium receipts but on the net premium income that is, after deducting general expenses, payment of policies and taxes.

MANILA ELECTRIC COMPANY vs. YATCO 69 Phil 89 Facts: In 1935, plaintiff Manila Electric Company, a domestic corporation, insured with the city of New York Insurance Company and the United States Guaranty Company, certain real and personal properties situated in the Philippines . The insurance was entered into in behalf of said plaintiff by its broker in New York City . The insurance companies are foreign corporations not licensed to do business in the Philippines and having no agents therein. Plaintiff through its broker paid, in New York , to said insurance company premiums in the sum of

P91,696. The Collector of Internal Revenue, under the authority of section 192 of act No. 2427, as amended, assessed and levied a tax of one per centum on said premiums, which plaintiff paid under protest. Issue: WON MERALCO is liable to pay the tax on the insurance premiums. Held: YES. The New York Insurance Company and the United States Guaranty Company by issuing said policies cover risks on properties within the Philippines , which may require adjustment and the activities of agents in the Philippines with respect to the settlement of losses arising thereunder.

The rule therefore is: Where the insured against is within the Philippines, and the risk insured against is also within the Philippines, and certain incidents of the contract are to be attended to in the Philippines, such as payment of dividends when received in cash, sending of an adjuster into the Philippines in case of dispute, or making of proof of loss, the Commonwealth of the Philippines has the power to impose the tax upon the insured, regardless of whether the contract is executed in a foreign country and with a foreign corporation.

After all, the Commonwealth of the Philippines , by protecting the properties insured, benefits the foreign corporation, and it is but reasonable that the latter should pay a just contribution.

THE PHILIPPINE GUARANTY CO., INC. vs. CIR Facts: The Philippine Guaranty moves for the reconsideration of SC decision holding it liable for the payment of income tax which it should have withheld and remitted to the BIR in the total sum of P375,345.00. The grounds raised spring from movant's view that the CTA as well as the SC, found it "innocent of the charges of violating, willfully or negligently, subsection (c) of Section 53 and Section 54 of the National Internal Revenue Code." Hence, it argues that it cannot be held liable for the said assessment.

Issue: WON petitioner violated Sec 53 (c) of the Tax Code.


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Held: YES. Movant was found by the CTA and the SC to have violated Section 53(c) by failing to file the necessary withholding tax return and to pay tax due. Still, finding that movant's violation was due to a reasonable cause — namely, reliance on the advice of its auditors and opinion of the Commissioner of Internal Revenue — it is exempted from paying the surcharge (but not the tax due). Section 72 of the Tax Code provides:

SEC. 72. Surcharges for failure to render returns and for rendering false and fraudulent returns. — The Commissioner of Internal Revenue shall assess all income taxes. In case of willful neglect to file the return or list within the time prescribed by law or in case a false or fraudulent return or list is willfully made, the Commissioner of Internal Revenue shall add to the tax or to the deficiency tax, in case any payment has been made on the basis of such return before the discovery of the falsity or fraud, a surcharge of fifty per centum of the amount of such tax or deficiency tax. In case of any failure to make and file a return or list within the time prescribed by law or by the Commissioner or other internal-revenue officer, not due to willful neglect, the Commissioner of Internal Revenue shall add to the tax twenty-five per centum of its amount, except that, when a return is voluntarily and without notice from the Commissioner or other officer filed after such time, and it is shown that the failure to file it was due to a reasonable cause, no such addition shall be made to the tax ... .

GROSS INCOME AND EXCLUSIONS; COMPENSATION INCOME CIR vs. HENDERSON Facts: The spouses Arthur Henderson—President of American International Underwriters for the Philippines, Inc.—and Marie Henderson filed with the BIR returns of annual net income for the years 1948 to 1952. In due time, the BIR sent them assessment notices, and the Hendersons accordingly paid their tax dues.

In November 1953, after investigation, the BIR reassessed the spouses' income and came up with deficiency taxes. The BIR considered as part of their taxable income the taxpayer-husband' s allowances for rental, residential expenses, subsistence, water, electricity and telephone; bonus paid to him; withholding tax and entrance fee to the Marikina Gun

and Country Club paid by his employer for his account; and travelling allowance of his wife.

The spouses asked for reconsideration of the foregoing assessment. They claim that as regards the husband-taxpayer' s allowances for rental and utilities, he did not receive the money for said allowances, but that they lived in the apartment paid for by his employer for its convenience (the spouses entertained corporate guests there) and that they had no choice but to live there; that as regards the entrance fee to the Marikina Gun and Country Club, it was paid for him by his employer, the same should not be considered as part of their income for it was an expense of his employer and his membership therein was merely incidental to his duties; and that as regards the wife-taxpayer' s travelling allowance, it should not be considered as part of their income because she merely accompanied him in his business trip to New York as his secretary at the behest of his employer.

Issue: WON the said allowances are part of the spouses’ taxable income. Held: NO. The evidence substantially supports the findings of the CTA. The Hendersons are childless and are the only two in the family. The large quarters, therefore, that they occupied at the Embassy Apartments, exceeded their personal needs. Hence, the fact that the taxpayers had to live or did not have to live in the apartments chosen by the husband-taxpayer' s employer-corporatio n is of no moment, for no part of the allowances in question redounded to their personal benefit or was retained by them. Nevertheless, as correctly held by CTA, the taxpayers are entitled only to a ratable value of the allowances in question, and only the amount of P4,800 annually, the reasonable amount they would have spent for house rental and utilities such as light, water, telephone, etc., should be the amount subject to tax, and the excess considered as expenses of the corporation.

Likewise, the findings of the CTA that the wife-taxpayer had to make the trip to New York at the behest of her husband's employer-corporatio n to help in drawing up the plans and specifications of a proposed building, is also supported by the evidence. No part of the allowance for travelling expenses redounded to the benefit of the taxpayers. Neither was a part thereof retained by them. The fact that she had herself operated on for tumors while in New York was but incidental to her stay there and she


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must have merely taken advantage of her presence in that city to undergo the operation.

Judgment under review is modified. CIR ordered to refund the sum of P5,986.61.

CIR vs. CASTANEDA

Facts: Private respondent Efren Castaneda retired from the government service as Revenue Attache in the Philippine Embassy in London , England , on 10 December 1982 under the provisions of Section 12 [c] of Commonwealth Act 186, as amended. Upon retirement, he received, among other benefits, terminal leave pay from which CIR withheld P12,557.13 allegedly representing income tax thereon.

Issue: WON terminal leave pay received by a government official or employee on the occasion of his compulsory retirement from the government service is subject to withholding [income] tax.

Held: NO. The Court has already ruled that the terminal leave pay received by a government official or employee is not subject to withholding [income] tax. In the recent case of Jesus N. Borromeo vs. The Hon. Civil Service Commission, the Court explained the rationale behind the employee's entitlement to an exemption from withholding [income] tax on his terminal leave pay as follows:

Commutation of leave credits, more commonly known as terminal leave, is applied for by an officer or employee who retires, resigns or is separated from the service through no fault of his own. [Manual on Leave Administration Course for Effectiveness published by the Civil Service Commission, pages 16-17]. In the exercise of sound personnel policy, the Government encourages unused leaves to be accumulated. The Government recognizes that for most public servants, retirement pay is always less than generous if not meager and scrimpy. A modest nest egg which the senior citizen may look forward to is thus avoided. Terminal leave payments are given not only at the same time but also for the same policy considerations governing retirement benefits.

NITAFAN vs. CIR (G.R. No. 78780) Facts: Petitioners David Nitafan, Wenceslao Polo and Maximo Savellano Jr., were duly appointed and qualified Judges of the RTC National Capital Judicial Region. They seek to prohibit and/or perpetually enjoin respondents, (CIR and the Financial Officer of the Supreme Court) from making any deduction of withholding taxes from their salaries. They submit that “any tax withheld from their emoluments or compensation as judicial officers constitutes a decreased or diminution of their salaries, contrary to Section 10, Article VIII of the 1987 Constitution.” Issue: WON a deduction of withholding tax a diminuition of the salaries of Judges/Justices. Held: The SC hereby makes of record that it had then discarded the ruling in Perfecto v Meer and Endencia v David, that declared the salaries of members of the Judiciary exempt from payment of the income tax and considered such payment as a diminution of their salaries during their continuance in office. The Court hereby reiterates that the salaries of Justices and Judges are property subject to general income tax applicable to all income earners and that the payment of such income tax by Justices and Judges does not fall within the constitution protection against decrease of their salaries during their continuance in office. The debates, interpellations and opinions expressed regarding the constitutional provision in question until it was finally approved by the Commission disclosed that the true intent of the framers of the 1987 Constitution, in adopting it, was to make the salaries of members of the Judiciary taxable.

ENDENCIA vs. DAVID

Facts: This is a joint appeal from the decision of the CFI Manila declaring section 13 of Republic Act No. 590 which legalizes the collection of income tax on the salary of judicial officers unconstitutional, and ordering the appellant Saturnino David as Collector of Internal Revenue to make a refund to petitioners who are judicial officers.

Issue: WON taxing the salary of a judicial officer in the Philippines is a diminution of such salary and so violates the Constitution.


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Held: YES. Section 9, Article VIII of our Constitution states that:

SEC. 9. The members of the Supreme Court and all judges of inferior courts shall hold office during good behavior, until they reach the age of seventy years, or become incapacitated to discharge the duties of their office. They shall receive such compensation as may be fixed by law, which shall not be diminished during their continuance in office. Until the Congress shall provide otherwise, the Chief Justice of the Supreme Court shall receive an annual compensation of sixteen thousand pesos, and each Associate Justice, fifteen thousand pesos.

By legislative fiat as enunciated in section 13, Republic Act No. 590, Congress says that taxing the salary of a judicial officer is not a decrease of compensation. This act of interpreting the Constitution or any part thereof by the Legislature is an invasion of the well-defined and established province and jurisdiction of the Judiciary.

The tax exemption was not primarily intended to benefit judicial officers, but was grounded on public policy. As said by Justice Van Devanter of the US Supreme Court in the case of Evans vs. Gore: “The primary purpose of the prohibition against diminution was not to benefit the judges, but, like the clause in respect of tenure, to attract good and competent men to the bench and to promote that independence of action and judgment which is essential to the maintenance of the guaranties, limitations and pervading principles of the Constitution and to the administration of justice without respect to person and with equal concern for the poor and the rich. Such being its purpose, it is to be construed, not as a private grant, but as a limitation imposed in the public interest; in other words, not restrictively, but in accord with its spirit and the principle on which it proceeds.”

GROSS INCOME AND EXCLUSIONS; COMPENSATION INCOME; 13TH MONTH PAY AND OTHER BENEFITS

CIR V CASTANEDA 203 SCRA 72

Facts: Efren Castaneda worked as Revenue Attache in the Philippine Embassy in London, England. Upon his retirement from service, he

received a terminal leave pay. The CIR withheld P12, 557 from his terminal leave pay as income tax.

Private Respondent Castaneda filed a formal claim with petitioner CIR and later on with the CTA asking for a tax refund contending that the cash equivalent of his terminal leave pay is exempt from income tax.

The CIR through the Office of the Solicitor General argued that a terminal leave pay is incomed derived from employer-employee relationship citing section 28 of the NIRC.

CTA ruled in favor of Castaneda. The CA affirmed.

Issue: Whether or not terminal leave pay received by a government official or employee on the occasion of his compulsory retirement from the government service is subject to income tax?

Held: NO. A terminal leave pay is not part of income of the government official or employee but actually a retirement benefit and hence is exempted from income tax.

The Court cited Borromeo v Civil Service Commission wherein the Court ruled that the commutation of leave credits is encouraged by the government in order to augment the meager retirement benefit that government employees receive. A terminal leave pay is hence considered part of retirement benefit since it is given not only at the same point in time in the employment of an employee but also for the same policy considerations governing retirement benefits.

GROSS INCOME AND EXCLUSIONS; COMPENSATION INCOME; INCOME EXEMPT UNDER TREATY

REAGAN V CIR 30 SCRA 968

Facts: Petitioner William Reagan, a US citizen, sold his automobile to a member of the United States Marine Corps at the Clark Field Air Base at Pampanga. The CIR assessed income tax on the amount he realized for the sale. He filed a claim for tax refund with the CTA contending that the sale was made outside of the Philippine territory and pursuant to the


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Military Bases Agreement exempting US nationals residing in the Philippines and employed in the military bases from income tax.

CTA ruled in favor of the CIR.

Issue: WON Clark Air base is a base outside of Philippine jurisdiction and hence the sale actually took place in a foreign country? Held: NO. For purposes of income taxation, Clark Air Base is deemed a Philippine territory.

In response to the cases cited by the Petitioner declaring as “importation” the acquisition of goods from the US military and hence is subject to taxation, the Court held that these pronouncements were merely obiter and do not control. Moreover, these decisions were made to prevent tax evasion.

What is controlling is the decision in People v Acierto: “By the Military Bases Agreement, it should be noted, the Philippine Government merely consents that the United States exercise jurisdiction in certain cases. The consent was given purely as a matter of comity, courtesy, or expediency over the bases as part of the Philippine territory or divested itself completely of jurisdiction over offenses committed therein…All jurisdictional rights granted to the United States and not exercised by the latter are reserved by the Philippine itself.”

GROSS INCOME AND EXCLUSIONS; COMPENSATION INCOME; PENSIONS/RETIREMENT BENEFITS/SEPARATION PAY CIR v CA 203 SCRA 72 supra Held: Terminal leave pay is not part of income but of retirement benefits and hence exempted from income tax. A terminal leave pay is given to the employee at the same time and for the same policy consideration as a retirement benefit.

CIR V GCL RETIREMENT PLAN 207 SCRA 487

Facts: GLC Retirement Plan is an employees’ trust maintained by employer, GCL, Inc. to provide retirement, pension, disability and death benefits to its employees. RA 4917 exempts GCL Retirement Plan from income tax. GCL made investments which earned and later on subjected to income tax by the CIR. GCL filed a claim for refund.

According to CIR, PD 1959 (amended section 21(d) and 24 (cc) of the NIRC), a decree governing the rules on withholding interests on bank deposits, abolished the exemption previously enjoyed by individual and corporations exempted from income taxation.

GCL contends that the exemption they enjoy is derived from Section 56 (b) NIRC and not from the provisions amended by PD 1959.

CTA ordered the refund. CA affirmed.

Held: GCL is exempted.

The tax exemption privilege of GCL is derived from RA no. 4917 and Sec 56(b) (now 53(b) of the tax code) which categorically exempts employees’ trust from income taxation.

The tax advantage was given to employees’ trust or benefit plans to encourage private plans to provide economic assistance to employees in times of contingencies. Taxation of employees’ trust would result in the diminution of accumulated income of the employee contrary to the law.

The deletion of the tax exemption and preferential tax rates under the old law by PD 1959 is deemed not extended to employees’ trusts. PD 1959 being a general law cannot repeal by implication specific provisions in RA 4917 and section 56 of the NIRC.

Moreover, the provisions on final tax and withholding thereof amended by PD 1959 are embraced within the title on “Income Tax”. Since Section 56 explicitly exempts employees’ trust from “the taxes imposed by this Title”, it follows that employees’ trust are exempt even from income tax covered by sec 21, 24 and 53


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Furthermore, final withholding tax is collected from income. There is no logic in withholding income tax of employees’ trust when it is not supposed to pay income tax at all.

IN RE ZIALCITA AM No. 90-6-015-SC

Facts: Atty. Bernardo Zialcita was a former employee of the Court who filed a motion for reconsideration on the decision of the Fiscal Management and Budget Office to tax his terminal leave pay and leave credits.

The Court en Banc ruled in favor of Zialcita ordering the Fiscal Management and Budget Office to refund Zialcita and further declared that henceforth no terminal leave pay of any retirees of the Court shall be subjected to withholding tax.

The CIR filed a motion for reconsideration and clarification. The Financial Management and Budget Office asked the court to clarify the Zialcita ruling.

Issue No.1. WON Zialcita's accumulated leave credits are exempted from income tax.

Held: The Court gave five reasons upholding their earlier ruling:

a. Commonwealth Act No.186 Sections 12 (c) and 28 (C) provide that a retiree is entitled to the commutation of the unused vacation and sick leave and such benefit shall be exempted from all types of taxes.

b. Terminal leave pay is not part of salary since it accrues during and as a consequence of severance from service.

c. Zialcita’s discharge from service is without his fault. This entitles him to the benefit of commutation under EO1077 and a corresponding exemption under Section 28(b) 7(b) of the NIRC.

d.a terminal leave pay is a retirement gratuity which is also exempted under section 28 (b), 7 (f) of the NIRC since it is given upon retirement and in consideration of the retirees' meritorious services.

e. taxing terminal leave pay would amount to DOUBLE TAXATION. Income tax has already been paid by the employee during her employment.WON the employee used her vacation or sick leave, she is still deemed to have worked on that day entitling her to a salary which is taxed on its entirety without any deductions for any leaves not utilized.

Issue No. 2. The CIR would like the Court to clarify the applicability of the Zialcita Resolution to other government officials and employees and WON a written request for refund from the taxpayer-retiree is still necessary for those who have already retired and from whose retirement benefits withholding taxes have been deducted.

Held: The Zialcita resolution applies only to employees of the Judiciary. It is not extended to other government employees absent an actual case and controversy. The Court also said that the authorities concerned will have to determine the rules on each case as it arises.

Moreover, SC ruled that Zialcita need not file a formal request for refund since the aforementioned ruling is binding on the CIR as intervenor-movant. However, other retirees from whom withholding taxes on terminal leave pay have been deducted, should file a written request for refund within two years from the date of the promulgation of this resolution.

Issue No.3. The Chief of the Finance Division of the Court likewise asked the Court WON the Zialcita ruling is applicable to those who avail of optional retirement and to those who are separated from the service through no fault of their own.

Held: YES .In accordance with Section 286 of the Revised Administrative Code, the terminal leave pay is a benefit given after and as a direct consequence of retirement. Taxing terminal leave pay would result to double taxation. Terminal leave pay is exempted even regardless of the manner of discharge of the employee from service.

The motion for reconsideration is denied.

GROSS INCOME AND EXCLUSIONS; PASSIVE INCOME; INTEREST INCOME; EXCLUSIONS


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CIR v Mitsubishi Metal 181 SCRA 214

Facts: Atlas Consolidated Mining and Development Corp. entered into a loan and sales contract with Mitsubishi Corp., a Japanese corporation. In the said contract, Mitsubishi agreed to loan US $ 20 M to Atlas in order for the latter to purchase a new concentrator for copper production. Atlas, in turn, will sell to Mitsubishi all the copper concentrates produced from said machine.

To finance Altas’ loan, Mitsubishi applied for a loan with the Eximbank, a financing institution owned, controlled and finance by the Japanese Government. Such loan was granted. When interest payments were paid by Atlas to Mitsubishi, a 15% withholding tax was assessed by the CIR.

Mitsubishi asked filed a claim for tax credit arguing that it should not have been taxed as it was merely acting as an agent of Eximbank, pursuant to Section 29 (b)(7)(A) which excludes from gross income investments in loans by financing institutions owned, controlled, or enjoying refinancing by foreign governments.

Issue: WON Mitsubishi is a mere conduit of Eximbank.

Held: NO. The loan and sale contract is strictly an agreement between Mitsubishi and Atlas. The two are the only signatories in the said contract. On the other hand, the transaction between Eximbank and Mitsubishi was executed in the latter’s own independent capacity. In this distinct and separate contract, the loan was granted to Mitsubishi and not to Atlas.

Moreover, construing tax exemptions grant strictly, Mitsubishi is not among the entities enumerated under Section 29 (b)(7)(A) entitled to tax exemption.

NDC v CIR 151 SCRA 395 - SUPRA

Held: There is no basis for saying that the interest payments were obligations of the Republic of the Philippines and that the promissory notes of the NDC were government securities exempt from taxation under Section 29(b)[4] of the Tax Code, reading as follows:

"SEC. 29. Gross Income. — . . .

(b) Exclusions from gross income. — The following items shall not be included in gross income and shall be exempt from taxation under this Title:

xxx xxx xxx

(4) Interest on Government Securities. — Interest upon the obligations of the Government of the Republic of the Philippines or any political subdivision thereof, but in the case of such obligations issued after approval of this Code, only to the extent provided in the act authorizing the issue thereof. (As amended by Section 6, R.A. No. 82; emphasis supplied).

The law invoked by the petitioner as authorizing the issuance of securities is R.A. No. 1407, which in fact is silent on this matter. C.A. No. 182 as amended by C.A. No. 311 does carry such authorization but, like R.A. No. 1407, does not exempt from taxes the interests on such securities. LLpr

GROSS INCOME AND EXCLUSIONS; PASSIVE INCOME; RENTALS/LEASES

LIMPAN vs CIR

Facts: Limpan is engaged in the business of leasing real properties. It commenced actual business operations on July 1, 1955. Its real properties consist of several lots and buildings, mostly situated in Manila and in Pasay City. Limpan duly filed its 1956 and 1957 income tax returns, reporting therein net incomes of P3,287.81 and P11,098.36, respectively, for which it paid the corresponding taxes therefor in the sums of P657.00 and P2,220.00.

Sometime in 1958 and 1959, the examiners of the BIR conducted an investigation of petitioner's 1956 and 1957 income tax returns and, in the course thereof, they discovered and ascertained that petitioner had underdeclared its rental incomes by P20,199.00 and P81,690.00 during these taxable years and had claimed excessive depreciation of its buildings in the sums of P4,260.00 and P16,336.00 covering the same


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period. CIR demanded for payment of deficiency income tax and surcharge against Limpan amounting to P30,502.

Defense 1: Limpan disclaimed having received or collected the amount of P20,199.00, as unreported rental income for 1956, or any part thereof, reasoning out that the previous owners of the leased building has to collect part of the total rentals in 1956 to apply to their payment of rental in the land in the amount of P21,630.00.

Defense 2: Amount totalling P31,380.00 was not declared as income in its 1957 tax return because its president, Isabelo P. Lim, who collected and received P13,500.00 from certain tenants, did not turn the same over to petitioner corporation in said year but did so only in 1959.

Defense 3: (TOPIC) Tenant Go Tong deposited in court his rentals amounting to P10,800.00, over which the corporation had no actual or constructive control.

Defense 4: Limpan likewise alleged in its petition that the rates of depreciation applied by respondent Commissioner of its buildings in the above assessment are unfair and inaccurate. CTA sided with CIR; hence, this case.

Issue: WON appeal is meritorious – whether Limpan understated its income.

DECISION: This appeal is manifestly unmeritorious. Limpan understated its income.

RATIO (DEFENSE 1): The excuse that previous land owners retained ownership of the lands and only later transferred or disposed of the ownership of the buildings existing thereon to Limpan, so as to justify the turn over to Limpan a certain value of its properties to be applied to the rentals of the land and in exchange for whatever rentals they may collect from the tenants who refused to recognize the new owner or vendee of the buildings, is not only unusual but uncorroborated by the alleged transferors, or by any document or unbiased evidence. Hence, without merit.

RATIO (DEFENSE 2): Limpan’s denial and explanation of the non-receipt of the remaining unreported income for 1957 is not substantiated by satisfactory corroboration. As above noted, Isabelo P. Lim was not presented as witness to confirm accountant Solis nor was his 1957 personal income tax return submitted in court to establish that the rental income which he allegedly collected and received in 1957 were reported therein.

RATION (DEFENSE 3 - TOPIC): Since deposit by Tenant Go Tong was resorted by him to due to the refusal of Limpan to accept the same, Limpan is deemed to have constructively received such rentals in 1957. The payment by the sub-tenant in 1957 should have been reported as rental income in said year, since it is income just the same regardless of its source.

RATIO (DEFENSE 4) : Depreciation is a question of fact and is not measured by theoretical yardstick, but should be determined by a consideration of actual facts, and the findings of the Tax Court in this respect should not be disturbed when not shown to be arbitrary or in abuse of discretion.

GROSS INCOME AND EXCLUSIONS; PASSIVE INCOME; ROYALTIES

CIR V SC JOHNSON

Facts: S.C. JOHNSON AND SON, INC., a domestic corporation organized and operating under the Philippine laws, entered into a license agreement with SC Johnson and Son, United States of America (USA), a non-resident foreign corporation based in the U.S.A. pursuant to which the [respondent] was granted the right to use the trademark, patents and technology owned by the latter including the right to manufacture, package and distribute the products covered by the Agreement and secure assistance in management, marketing and production from SC Johnson and Son, U. S. A.


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The said License Agreement was duly registered with the Technology Transfer Board of the Bureau of Patents, Trade Marks and Technology Transfer under Certificate of Registration No. 8064.For the use of the trademark or technology, [respondent] was obliged to pay SC Johnson and Son, USA royalties based on a percentage of net sales and subjected the same to 25% withholding tax on royalty payments which [respondent] paid for the period covering July 1992 to May 1993 in the total amount of P1,603,443.00

On October 29, 1993, [respondent] filed with the International Tax Affairs Division (ITAD) of the BIR a claim for refund of overpaid withholding tax on royalties arguing that, “the antecedent facts attending [respondent's] case fall squarely within the same circumstances under which said MacGeorge and Gillete rulings were issued. Since the agreement was approved by the Technology Transfer Board, the preferential tax rate of 10% should apply to the [respondent]. We therefore submit that royalties paid by the [respondent] to SC Johnson and Son, USA is only subject to 10% withholding tax pursuant to the most-favored nation clause of the RP-US Tax Treaty [Article 13 Paragraph 2 (b) (iii)] in relation to the RP-West Germany Tax Treaty [Article 12 (2) (b)]” (Petition for Review [filed with the Court of Appeals]

The RP-US Tax Treaty states that:

1) Royalties derived by a resident of one of the Contracting States from sources within the other Contracting State may be taxed by both Contracting States.

2) However, the tax imposed by that Contracting State shall not exceed.

a) In the case of the United States, 15 percent of the gross amount of the royalties, and

b) In the case of the Philippines, the least of:

(i) 25 percent of the gross amount of the royalties;

(ii) 15 percent of the gross amount of the royalties, where the royalties are paid by a corporation registered with the Philippine Board of Investments and engaged in preferred areas of activities; and

(iii) the lowest rate of Philippine tax that may be imposed on royalties of the same kind paid under similar circumstances to a resident of a third State.

The RP-Germany Tax Treaty provides:

(2) However, such royalties may also be taxed in the Contracting State in which they arise, and according to the law of that State, but the tax so charged shall not exceed:

b) 10 percent of the gross amount of royalties arising from the use of, or the right to use, any patent, trademark, design or model, plan, secret formula or process, or from the use of or the right to use, industrial, commercial, or scientific equipment, or for information concerning industrial, commercial or scientific experience.

For as long as the transfer of technology, under Philippine law, is subject to approval, the limitation of the tax rate mentioned under b) shall, in the case of royalties arising in the Republic of the Philippines, only apply if the contract giving rise to such royalties has been approved by the Philippine competent authorities.

The Commissioner did not act on said claim for refund. Private respondent S.C. Johnson & Son, Inc. (S.C. Johnson) then filed a petition for review before the Court of Tax Appeals (CTA).The Court of Tax Appeals rendered its decision in favor of S.C. Johnson and ordered the Commissioner of Internal Revenue to issue a tax credit certificate in the amount of P963,266.00 representing overpaid withholding tax on royalty payments, beginning July, 1992 to May, 1993.2

The Commissioner of Internal Revenue thus filed a petition for review with the Court of Appeals which rendered the decision finding no merit in the petition and affirming in toto the CTA ruling.

Thus, this petition.

Issue: Whether the Court of Appeals erred in ruling that SC Johnson and Son, USA is entitled to the “Most Favored Nation” Tax rate of 10% on Royalties as provide in the RP-US Tax Treaty in relation to the RP-West Germany Tax Treaty?


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Held: Under Article 24 of the RP-West Germany Tax Treaty, the Philippine tax paid on income from sources within the Philippines is allowed as a credit against German income and corporation tax on the same income. In the case of royalties for which the tax is reduced to 10 or 15 percent according to paragraph 2 of Article 12 of the RP-West Germany Tax Treaty, the credit shall be 20% of the gross amount of such royalty. To illustrate, the royalty income of a German resident from sources within the Philippines arising from the use of, or the right to use, any patent, trade mark, design or model, plan, secret formula or process, is taxed at 10% of the gross amount of said royalty under certain conditions. The rate of 10% is imposed if credit against the German income and corporation tax on said royalty is allowed in favor of the German resident. That means the rate of 10% is granted to the German taxpayer if he is similarly granted a credit against the income and corporation tax of West Germany. The clear intent of the “matching credit” is to soften the impact of double taxation by different jurisdictions.

The RP-US Tax Treaty contains no similar “matching credit” as that provided under the RP-West Germany Tax Treaty. Hence, the tax on royalties under the RP-US Tax Treaty is not paid under similar circumstances as those obtaining in the RP-West Germany Tax Treaty. Therefore, the “most favored nation” clause in the RP-West Germany Tax Treaty cannot be availed of in interpreting the provisions of the RP-US Tax Treaty.5

The rationale for the most favored nation clause, the concessional tax rate of 10 percent provided for in the RP-Germany Tax Treaty should apply only if the taxes imposed upon royalties in the RP-US Tax Treaty and in the RP-Germany Tax Treaty are paid under similar circumstances. This would mean that private respondent must prove that the RP-US Tax Treaty grants similar tax reliefs to residents of the United States in respect of the taxes imposable upon royalties earned from sources within the Philippines as those allowed to their German counterparts under the RP-Germany Tax Treaty.

The RP-US and the RP-West Germany Tax Treaties do not contain similar provisions on tax crediting. Article 24 of the RP-Germany Tax Treaty expressly allows crediting against German income and corporation tax of 20% of the gross amount of royalties paid under the law of the Philippines. On the other hand, Article 23 of the RP-US Tax Treaty, which is the counterpart provision with respect to relief for double

taxation, does not provide for similar crediting of 20% of the gross amount of royalties paid.

Since the RP-US Tax Treaty does not give a matching tax credit of 20 percent for the taxes paid to the Philippines on royalties as allowed under the RP-West Germany Tax Treaty, private respondent cannot be deemed entitled to the 10 percent rate granted under the latter treaty for the reason that there is no payment of taxes on royalties under similar circumstances.

PHIL. AM. LIFE V CIR DETAILS: CA-G.R. SP No. 31283, April 25, 1995, CTA Case # 3504, 3743, J. Tayao-Jaguros FACTS: Philippine American Life Insurance Co., Inc. (PHILAMLIFE) a domestic corporation entered into a Management Services Agreement with American International Reinsurance Co., Inc. (AIRCO), a non-resident foreign corporation with principal place of business in Pembroke, Bermuda, whereby, effective January 1, 1972, for a fee of not exceeding $250,000.00 per annum, AIRCO shall perform for PHILAMLIFE Investment, Underwriting and Marketing, Education and Training, Accounting and Auditing Services and Corporate and Personnel Services for PHILAMLIFE’s US Branch in the field of monetary and investment trading. On September 30, 11978, AIRCO merged with American International Group, Inc. (AIGI) with the latter as the surviving corporation and successor-in-interest in AIRCO's Management Services Agreement with PHILAMLIFE. On November 18, 1980, the CIR issued in favor of PHILAMLIFE a Tax Credit Memo (T.R. No. 141-80) in the amount of P643,125.00 representing erroneous payment of withholding tax at source on remittances to AIGI for services rendered abroad in 1979. On the basis of the aforesaid issuance of tax credit, PHILAMLIFE, in a letter dated March 12, 1981, filed with respondent a claim for the refund of a second erroneous tax payment of P643,125.00 made on December 16, 1980. Said claim was followed up by another letter dated July 6, 1982 wherein PHILAMLIFE alleged that the claim for refund of the amount paid in 1980 is exactly the same subject matter as in the previous claim for refund in 1979. Without waiting for respondent to resolve the claim for refund, PHILAMLIFE filed with the Honorable Court on July 29, 1982 the petition docketed as CTA


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Case # 3540, seeking said refund. During the pendency of C.T.A Case No. 3540, the CIR, in a letter dated April 15, 1985, denied PHILAMLIFE's claim for refund of P643,125.00 as withholding tax at source for 1980. Moreover, the CIR cancelled the Tax Credit Memo (T.R. No. 141-80) in the amount of P643,125.00 previously issued to PHILAMLIFE on November 18, 1980 and requested the latter to pay the amount of P643,125.00 as deficiency withholding tax at source for 1979 plus increments. Without protesting the assessment for the amount of P643,125.00 as deficiency withholding tax at source for 1979, PHILAMLIFE filed with this Honorable Court on June 14, 1985 the petition, docketed as C.T.A. Case No. 3943, seeking the annulment of said assessment. The CTA ordered PHILAMLIFE to pay the CIR the amount of P643,125.00 with interest at the rate of 20% per annum from March 9, 1981 until it is paid. ISSUE/S: The issues presented to the Court are the ff.: (1) Whether or not compensation for advisory services admittedly performed abroad by the personnel of a non-resident foreign corporation not doing business in the Philippines (AIGI) are subject to Philippine withholding income tax; (2) Whether or not the CIR is barred by prescription, laches, estoppel, or equitable considerations in cancelling the previous approval of petitioner's claim for refund more than 5 years thereafter, after it has determined, after investigation, that the advisory services were rendered/performed abroad by the personnel of AIGI, a non-resident foreign corporation not doing business in the Philippines; (3) Whether or not CTA can amend its decision, on a motion for reconsideration by the CIR, ordering PHILAMLIFE to pay P643,125.00 with interest at 20% per annum until paid on the presumption that it has utilized the tax credit memo already issued. RULING: Yes, compensation for advisory services performed abroad by the personnel of a non-resident foreign corporation not doing business in the Philippines are subject to Philippine withholding income tax. PHILAMLIFE’s contention that AIGI is not covered by Sec. 37 (a) (4) of the NIRC’s meaning of rentals and royalties from properties located in the Philippines since it does not have properties located in the Philippines from which rentals and royalties can be derived is untenable. Sec. 37 (a) (4) states that those enumerated therein shall be treated as gross income from source within the Philippines including rentals and royalties for the supply of scientific, technical, industrial or commercial

knowledge or informations; the supply of any assistance that is auxiliary and subsidiary to, and is furnished as a means of enabling the application or enjoyment of, any property, or right as is mentioned in paragraph (a), any such equipment as is mentioned in paragraph (b) or any such knowledge or information as is mentioned in paragraph (c); or technical advice, assistance or services rendered in connection with the technical management and administration of any scientific, industrial or commercial undertaking, venture, project of scheme. A reading of the various management services enumerated in the said Management Services Agreement will show that they can easily fall under any of the aforequoted expanded meaning of royalties. Basically, from the heading 'Investments' to 'Personnel', the services call for the supply by the non-resident foreign corporation of technical and commercial information, knowledge, advice, assistance or services in connection with technical management or administration of an insurance business — a commercial undertaking. Therefore, the income derived for the services performed by AIGI for PHILAMLIFE under the said management contract shall be considered as income from services within the Philippines. AIGI being a non-resident foreign corporation not engaged in trade or business in the Philippines shall pay a tax equal to 35% of the gross income received during each taxable year from all sources within the Philippines as interest, dividends, rents, royalties (including remuneration for technical services), salaries, premiums, annuities, emoluments or other fixed or determinable annual, periodical or casual gains, profits and income and capital gains. Thus while it is true petitioner AIGI has no properties in the Philippines, the agreement with PHILAMLIFE is necessary for the latter company's efficient operation and growth, with AIGI deriving income from said agreement, AIGI is well-within the ambit of Section 37 (a)(7) of the Tax Code. In our jurisprudence, the test of taxability is the 'source', and the source of an income is "that activity . . . which produced the income". It is not the presence of any property from which one derives rentals and royalties that is controlling, but rather as expressed under the expanded meaning of "royalties", it includes " royalties for the supply of scientific, technical, industrial, or commercial knowledge or information; and the technical advice, assistance or services rendered in connection with the technical management and administration of any scientific, industrial or commercial undertaking, venture, project or scheme", and others (Sec. 37 (a) (7) as amended by P.D. 1457)

As to the second issue, the SC held that the rule on prescription of assessment and the filing of formal protest will not apply in the C.T.A. Case No. 3943. The decision of the CIR revoking the tax credit memo he has issued and issuing an assessment accordingly was actually a denial


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of the claim for refund covering the 1979 withholding tax at source which was previously granted. Therefore, the rules on prescription of action in the case of recovery of tax erroneously or illegally collected shall apply. But justice and equity demand that the period during which the CIR approved the herein claim for refund up to the time it was subsequently cancelled should be deducted from the counting of the two year prescriptive period. To interpret otherwise, will be opening an avenue for respondent to technically deprive any legitimate claimant-taxpayer of his erroneously or illegally paid taxes by simply granting the same at the start but only to be revoked later upon the expiration of the two year period. By deducting the period when PHILAMLIFE received the tax credit memo on March 9, 1981 to May 15, 1985 when the same was cancelled by the respondent only one year and four months had elapsed from the two year period of prescription when Petitioner filed CTA 3943 on June 4, 1985.

As to the third issue, the CTA did not err in amending its March 10, 1993 decision acting upon the timely motion for reconsiderations filed by both PHILAMLIFE and the CIR. Said decision having not attained its finality, the same may still be amended, corrected or modified by the Court. GROSS INCOME AND EXCLUSIONS; PASSIVE INCOME; DIVIDENDS REPUBLIC V DELA RAMA

Facts: In 1951, the estate of the late Esteban dela Rama filed its income tax return (ITR) for the year 1950. Later, the BIR claims that the estate had received in 1950 cash dividend from the Dela Rama Steamship Co., Inc, which was not declared in the ITR. BIR claims that the cash dividends were applied in the deceased’s account and this constituted constructive receipt by the estate or by the heirs.

Issue: WON there was constructive payment of dividends and thus constructive receipt by the estate or by the heirs.

Held: No, there was no constructive receipt for the dividends.

Ratio: Income tax is assessed on income tax is assessed on income that has been received. In this case, income was not received due to failure to deliver – either actually or constructively. The debts to which they

were applied were not proven to have existed. The first debt was not proven to exist and the second debt was due from Hijos de I. dela Rama, an entity separate and distinct from the owner thereof. Constructive delivery occurs only when it is shown that the debts to which the dividends were applied actually existed and were legally demandable and chargeable to the deceased.

When an estate is under administration, notice must be sent to the administrator of the estate, since it is the said administrator, as representative of the estate, who has the legal obligation to pay and discharge all debts of the estate and to perform all orders of the court. In this case, legal notice of the assessment was sent to two heirs, neither one of whom had any authority to represent the estate. The notice was not sent to the taxpayer for the purpose of giving effect to the assessment, and said notice could not produce any effect. When the notice to this effect is released, mailed or sent to the taxpayer for the purpose of giving effect to said assessment. It appearing that the person liable for the payment of the tax did not receive the assessment, the assessment could not become final and executory. CIR V MANNING DETAILS: G.R. No. L-28398, August 6, 1975, J. Castro FACTS: In 1952, the MANTRASCO had an authorized capital stock of P2,500,000 divided into 25,000 common shares; 24,700 of these were owned by Julius S. Reese, and the rest, at 100 shares each, by John L. Manning, W.D. McDonald, and E.E. Simmons (Respondents). On February 29, 1952, in view of Reese's desire that upon his death MANTRASCO and its two subsidiaries, MANTRASCO (Guam), Inc. and the Port Motors, Inc., would continue under the management of the respondents, a trust agreement on his and the respondents' interests in MANTRASCO was executed by and among Reese, MANTRASCO, the law firm of Ross, Selph, Carrascoso and Janda as Trustees, and the respondents. The CIR sent income tax assessments to the 3 Respondents for alleged undeclared stock dividends received in 1958 from the Manila Trading and Supply Co. (MANTRASCO) valued at P7,973,660. On October 19, 1954 Reese died. The projected transfer of his shares in the name of MANTRASCO could not, however, be immediately effected for lack of sufficient funds to cover initial payment on the shares. On February 2, 1955, after MANTRASCO made a partial


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payment of Reese's shares, the certificate for the 24,700 shares in Reese's name was cancelled and a new certificate was issued in the name of MANTRASCO. On the same date, and in the meantime that Reese's interest had not been fully paid, the new certificate was endorsed to the law firm of Ross, Selph, Carrascoso and Janda, as trustees for and in behalf of MANTRASCO. On December 22, 1958, at a special meeting of MANTRASCO stockholders, a resolution was passed authorizing the reversion of the 24,700 shares in the Treasury to be reverted back to the capital account of the company as a stock dividend to be distributed to shareholders of record on December 22, 1958. On November 25, 1963 the entire purchase price of Reese's interest in MANTRASCO was finally paid in full by the latter, On May 4, 1964 the trust agreement was terminated and the trustees delivered to MANTRASCO all the shares which they were holding in trust. Meanwhile, on September 14, 1962, an examination of MANTRASCO's books was ordered by the BIR. The examination disclosed that (a) as of December 31, 1958 the 24,700 shares declared as dividends had been proportionately distributed to the respondents, representing a total book value or acquisition cost of P7,973,660; (b) the respondents failed to declare the said stock dividends as part of their taxable income for the year 1958; and (c) from 1956 to 1961 several amounts were paid by MANTRASCO to Reese’s estate by virtue of the trust agreement. On the basis of their examination, the BIR examiners concluded that the distribution of Reese's shares as stock dividends was in effect a distribution of the "asset or property of the corporation as may be gleaned from the payment of cash for the redemption of said stock and distributing the same as stock dividend." On April 14, 1965 the Commissioner of Internal Revenue issued notices of assessment for deficiency income taxes to the respondents for the year 1958, as follows: J.L. Manning PhP 2,430,067.92; W.D. McDonald PhP 2,423,767.92; E.E. Simmons PhP 2,436,729.12. Respondents challenged the assessments but was denied by CIR so it appealed to the CTA which rendered judgment absolving the respondents from any liability for receiving the questioned stock dividends on the ground that their respective one-third interest in MANTRASCO remained the same before and after the declaration of stock dividends and only the number of shares held by each of them had changed. CIR appealed to the SC contending that the full value (P7,973,660) of the shares redeemed from Reese by MANTRASCO which were subsequently distributed to the respondents as stock dividends in 1958 should be taxed as income of the respondents for that year, the said distribution being in effect a distribution of cash. The respondents' interests in MANTRASCO, he

further argues, were only .4% prior to the declaration of the stock dividends in 1958, but rose to 33 1/3% each after the said declaration. It is the assumption of both parties that the 24,700 shares declared as stock dividends were treasury shares. ISSUE: Whether or not the 24,700 shares declared as stock dividends were treasury shares. RULING: No. They weren’t treasury shares. Treasury shares are stocks issued and fully paid for and re-acquired by the corporation either by purchase, donation, forfeiture or other means. They are therefore issued shares, but being in the treasury they do not have the status of outstanding shares. Consequently, although a treasury share, not having been retired by the corporation re-acquiring it, may be re-issued or sold again, such share, as long as it is held by the corporation as a treasury share, participates neither in dividends, because dividends cannot be declared by the corporation to itself, nor in the meetings of the corporation as voting stock, for otherwise equal distribution of voting powers among stockholders will be effectively lost and the directors will be able to perpetuate their control of the corporation, though it still represents a paid-for interest in the property of the corporation. The foregoing essential features of a treasury stock are lacking in the questioned shares. A reading of the Trust Agreement will reveal that the manifest intention of the parties was to treat the 24,700 shares of Reese as absolutely outstanding shares of Reese's estate until they were fully paid. Such being the true nature of the 24,700 shares, their declaration as treasury stock dividend in 1958 was a complete nullity and plainly violative of public policy. The 24,700 shares are stock dividends. Dividend means any distribution made by a corporation to its shareholders, whether in money or in other property, out of its earnings or profits. A stock dividend, being one payable in capital stock, cannot be declared out of outstanding corporate stock, but only from retained earnings. It is a conversion of surplus or undivided profits into capital stock, which is distributed to stockholders in lieu of a cash dividend. The essence of a stock dividend was the segregation out of surplus account of a definite portion of the corporate earnings as part of the permanent capital resources of the corporation by the device of capitalizing the same, and the issuance to the stockholders of additional shares of stock representing the profits so capitalized. The declaration by the respondents and Reese's trustees of MANTRASCO's alleged treasury stock dividends in favor of the former is actually the respondents’ way of using the trust instrument as a convenient technical device to bestow upon themselves the full worth and value of Reese’s corporate holdings with the use of the very earnings of the companies. Since such package


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device was not designed to carry out the usual stock dividend purpose of corporate expansion reinvestment, e.g. the acquisition of additional facilities and other capital budget items, but to exclusively expand the capital base of the respondents in MANTRASCO, they cannot be allowed to deflect their income tax responsibilities. There was, in effect, a distribution of earnings to the respondents. Such is consequently subject to income tax as being, in truth and in fact, a flow of cash benefits to the respondents. However, the CIR should not assess the total acquisition cost of the alleged treasury stock dividends in one lump sum. Since the earnings of MANTRASCO over a period of years were used to gradually wipe out the holdings therein of Reese. Consequently, those earnings, as in effect having been distributed to the respondents, should be taxed for each of the corresponding years when payments were made to Reese's estate on account of his 24,700 shares. With regard to payments made with MANTRASCO earnings in 1958 and the years before, while indeed those earnings were utilized in those years to gradually pay off the value of Reese's holdings in MANTRASCO, there is no evidence from which it can be inferred that prior to the passage of the stockholders' resolution of December 22, 1958 the contributed equity of each of the respondents rose correspondingly. It was only by virtue of the authority contained in the said resolution that the respondents actually, albeit illegally, appropriated and partitioned among themselves the stockholders' equity representing Reese's interests in MANTRASCO. As those payments accrued in favor of the respondents in 1958 they are and should be liable, for income tax purposes, to the extent of the aggregate amount paid, from 1955 to 1958, by MANTRASCO to buy off Reese's shares. Thus, the CIR’s assessment of fraud penalty and imposition of interest charges are in accordance with law. Case is remanded to the CTA for the recomputation of the income tax liabilities of the respondents in accordance with this decision and with the Tax Code. FISHER V TRINIDAD Facts: In 1919 the Philippine American Drug Company declared stock dividends and Fisher’s share as a stockholder was P24,800. He paid under protest, upon demand of CIR Trinidad the sum of P889.91 as income tax on said stock dividend. Fisher instituted an action for the recovery of that sum. Trial court ruled in favor of CIR, hence this appeal.

Issue: Are the stock dividends in the present case “income" and taxable as such under the provisions of section 25 of Act No. 2833?

Held: Stock dividends are not "income," and as such cannot be taxed under Act No. 2833 which provides for a tax upon income.

Ratio: Stock dividends represent undistributed increase in the capital of corporations for a particular period. They are used to show the increased interest or proportional shares in the capital of each stockholder. The stockholder who receives a stock dividend has received nothing but a representation of his increased interest in the capital of the corporation. There has been no separation or segregation of his interest. All the property or capital of the corporation still belongs to the corporation. He cannot use it for the reason that it is still the property of the corporation and not the property of the individual holder of stock dividend. A certificate of stock represented by the stock dividend is simply a statement of his proportional interest or participation in the capital of the corporation.

The Legislature, when it provided for an "income tax," intended to tax only the "income" of corporations, firms or individuals, as that term is generally used in its common acceptation; that is that the income means money received, coming to a person or corporation for services, interest, or profit from investments.

Note the distinction between extraordinary cash dividend and stock dividends declared:

CM HOSKINS V CIR

Facts: Petitioner is a domestic corporation engaged in the real estate business as brokers, managing agents and administrators. It filed its income tax return for its fiscal year ending September 30, 1957. Upon


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verification of its return, CIR, disallowed four items of deduction and assessed against it an income tax deficiency plus interests. The CTA upheld CIR's disallowance of one of the items of deduction, the payment to Mr. Hoskins, (founder and controlling stockholder) the amount of P99,977.91 representing 50% of supervision fees earned. Petitioner appeals the CTA’s ruling arguing that payment of the same was allowed via a resolution of the Petitioner’s Board of directors.

Issue: w/n the payment of Mr. Hoskin’s supervision fees may be deductible from the company’s income tax

Held: CTA decision affirmed. Mr. Hoskins owned 99.6% of petitioner’s total authorized capital stock and was also a salesman-broker, receiving a 50% share of the sales commissions earned apart from his monthly salary, bonuses and allowances. CTA correctly ruled that the additional payment of P99,977.91 could not be accorded the treatment of ordinary and necessary expenses allowed as deductible items within the purview of the Tax Code.

Conditions precedent to the deduction of bonuses to employees: (1) payment of the bonuses is in fact compensation; (2) must be for personal services actually rendered; and (3) bonuses, when added to the salaries, are 'reasonable when measured by the amount and quality of the services performed with relation to the business of the particular taxpayer'. (Kuenzle v. CIR)

Factors in determining the reasonableness of a given bonus as compensation: (1) amount and quality of the services performed with relation to the business (2) payment must be 'made in good faith' (3) character of the taxpayer's business, the volume and amount of its net earnings, its locality, the type and extent of the services rendered (4) salary policy of the corporation (5) size of the particular business (6); 'the employees' qualifications and contributions to the business venture' (7) general economic conditions'. (Kuenzle v. CIR)

Allowing or disallowing as deductible expenses the amounts paid to corporate officers by way of bonus is determined by the CIR exclusively for income tax purposes.

Mr. Hoskins is practically the sole owner of C. M. Hoskins, but he chose to incorporate his business with himself holding virtually absolute control thereof with 99.6% of its stock with four other nominal shareholders holding one share each. Having chosen to use the corporate form with its legal advantages of a separate corporate personality as distinguished from his individual personality, the corporation so created, i.e., petitioner, is bound to conduct itself in accordance with corporate norms and comply with its corporate obligations. Specifically, it is bound to pay the income tax imposed by law on corporations and may not legally be permitted, by way of corporate resolutions authorizing payment of inordinately large commissions and fees to its controlling stockholder, to dilute and diminish its corresponding corporate tax liability.

KUENZLE V CIR

Facts: Petitioner, a domestic corporation, filed its income tax returns for the taxable years 1953, 1954 and 1955, declaring net losses. Upon a verification of the returns, the CIR, assessed against it deficiency income taxes. CIR disallowed as deductions, amounts paid by petitioner as bonuses to its officers and staff members. The total of said bonuses resulted in a net taxable income. Petitioner filed with a CTA a petition contesting the assessments. CTA affirmed CIR, ruling that bonuses in question were not reasonable within the purview of the Tax Code. Hence this appeal.

Issue: w/n the bonuses paid may be deductible.

Held: No. CTA Decision affirmed. The amounts it paid to its top officers as bonus or "additional remuneration" were taken either from operating funds from the year's business operations, or from its general reserve. Normally, the amounts taken from the first source should have constituted profits of the corporation distributable as dividends amongst its shareholders. Instead it would appear that they were diverted from this purpose and used to pay the bonuses. In the case of the amounts taken from the general reserve it seems clear that the company had to resort to the use of such reserve funds because the item of expense to be met could not be considered as ordinary or necessary — and was


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therefore beyond the purview of the provisions of Section 30(a) (1) of the National Internal Revenue Code

Petitioner also contend that payment of these is its general salary policy: low salary but with substantial bonuses at the end of each year. However the application of such policy should not result in producing a net loss for the employer at the end of the year, for if that were to be the case, the scheme may be utilized to freely achieve some other purpose — evade payment of taxes.

WISE & CO V MEER

Facts: Wise & Co., Inc. et. al (Plaintiff-appellants) were stockholders of Manila Wine Merchants, Ltd., a foreign corporation duly authorized to do business in the Philippines. The Board of Directors of Manila Wine Merchants, Ltd., (HK Co.), recommended to the stockholders that they adopt resolutions necessary to sell its business and assets to Manila Wine Merchants, Inc., a Philippine corporation, (PH Co.), for the sum of P400,000. The HK Co. made a distribution from its earnings for the year 1937 to its stockholders. As a result of the sale of its business and assets to PH Co., a surplus was realized and the HK Co. distributed this surplus to the shareholders (Appellants included).

Philippine income tax had been paid by HK Co. on the said surplus from which the said distributions were made. At a special general meeting of the shareholders of the HK Co., the stockholders by resolution directed that the company be voluntarily liquidated and its capital distributed among the stockholders. The Appellants duly filed Income Tax Returns, on which the defendant, Meer (CIR) made deficiency assessments. Plantiffs paid under written protest and sought recovery. CFI ruled in favor of CIR hence the appeal.

Held: CFI judgment affirmed. (Subsequent Motion for Reconsideration by Wise, et. al. denied)

ISSUES and RULINGS:

1.) Appellants contend that the amounts received by them and on which the taxes in question were assessed and collected were ordinary dividends; CIR contends that they were liquidating dividends.

SC: The distributions under consideration were not ordinary dividends. Therefore, they are taxable as liquidating dividends. It was stipulated in the deed of sale that the sale and transfer of the HK Co. shall take effect on June 1, 1937. Distribution took place on June 8. They could not consistently deem all the business and assets of the corporation sold as of June 1, 1937, and still say that said corporation, as a going concern, distributed ordinary dividends to them thereafter.

2.) Are such liquidating dividends taxable income?

SC: Income tax law states that “Where a corporation, partnership, association, joint-account, or insurance company distributes all of its assets in complete liquidation or dissolution, the gain realized or loss sustained by the stockholder, whether individual or corporation, is a taxable income or a deductible loss as the case may be.”

Appellants received the distributions in question in exchange for the surrender and relinquishment by them of their stock in the HK Co. which was dissolved and in process of complete liquidation. That money in the hands of the corporation formed a part of its income and was properly taxable to it under the Income Tax Law. When the corporation was dissolved and in process of complete liquidation and its shareholders surrendered their stock to it and it paid the sums in question to them in exchange, a transaction took place. The shareholder who received the consideration for the stock earned that much money as income of his own, which again was properly taxable to him under the Income Tax Law.

3.) Non-resident alien individual appellants contend that if the distributions received by them were to be considered as a sale of their stock to the HK Co., the profit realized by them does not constitute income from Philippine sources and is not subject to Philippine taxes, "since all steps in the carrying out of this so-called sale took place outside the Philippines."

SC: This contention is untenable. The HK Co. was at the time of the sale of its business in the Philippines, and the PH Co. was a domestic corporation domiciled and doing business also in the Philippines. The HK Co. was incorporated for the purpose of carrying on in the Philippine Islands the business of wine, beer, and spirit merchants and the other objects set out in its memorandum of association. Hence, its earnings,


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profits, and assets, including those from whose proceeds the distributions in question were made, the major part of which consisted in the purchase price of the business, had been earned and acquired in the Philippines. As such, it is clear that said distributions were income "from Philippine sources."

CIR V CA (1999)

Facts: Don Andres Soriano formed ANSCOR, wholly owned and controlled by him and his family. He subscribed to 4,963 shares of the 5,000 shares originally issued in 1937. ANSCOR’s capital stock was increased, and stock dividend declarations were made. Don Andres died, and his shareholdings went to his estate and to his wife. ANSCOR further increased its capital stock and proceeded with reclassification of common shares into preferred shares. Pursuant to a Board Resolution, ANSCOR successively redeemed shares from the Don Andres estate in effect, reducing the estate’s shareholdings. After examining ANSCOR’s books of account and records, Revenue examiners issued a report proposing that ANSCOR be assessed for deficiency withholding tax-at-source, based on the transactions of exchange and redemption of stocks. Subsequently, ANSCOR filed a petition for review with the CTA assailing the tax assessments on the redemptions and exchange of stocks. In its decision, the Tax Court reversed CIR’s ruling. In a petition for review, the CA, affirmed the ruling of the CTA. Hence, this petition. Issue: Whether ANSCOR’s redemption of stocks from its stockholder as well as the exchange of common with preferred shares can be considered as "essentially equivalent to the distribution of taxable dividend," making the proceeds thereof taxable under the provisions of the above-quoted law.

Held: CA decision modified. ANSCOR’s redemption stock dividends is considered as essentially equivalent to a distribution of taxable dividends for which it is LIABLE for the withholding tax-at-source.

RATIO: On Tax on Stock Dividends:

General Rule: Stock dividends issued by the corporation are considered unrealized gain, and cannot be subjected to income tax until that gain has been realized. Before the realization, stock dividends are nothing but a representation of an interest in the corporate properties. As capital, it is not yet subject to income tax. The determining factor for the imposition of income tax is whether any gain or profit was derived from a transaction. Exception: If a corporation cancels or redeems stock issued as a dividend at such time and in such manner as to make the distribution and cancellation or redemption, in whole or in part, essentially equivalent to the distribution of a taxable dividend, the amount so distributed in redemption or cancellation of the stock shall be considered as taxable income to the extent it represents a distribution of earnings or profits accumulated. On Redemption and Cancellation: Redemption is repurchase, a reacquisition of stock by a corporation which issued the stock in exchange for property, whether or not the acquired stock is cancelled, retired or held in the treasury. Essentially, the corporation gets back some of its stock, distributes cash or property to the shareholder in payment for the stock, and continues in business as before. The issuance of stock dividends and its subsequent redemption must be separate, distinct, and not related, for the redemption to be considered a legitimate tax scheme. Redemption cannot be used as a cloak to distribute corporate earnings. Otherwise, the apparent intention to avoid tax becoms doubtful as the intention to evade becomes manifest.

The test of taxability under the exempting clause of is, whether income was realized through the redemption of stock dividends. The redemption converts into money the stock dividends which become a realized profit or gain and consequently, the stockholder’s separate property. Profits derived from the capital invested cannot escape income tax. As realized income, the proceeds of the redeemed stock dividends can be reached by income taxation regardless of the existence of any business purpose for the redemption.

On Exchange of Common With Preferred Shares: Reclassification of shares does not always bring any substantial alteration in the subscriber’s proportional interest. But the exchange is different – there would be a shifting of the balance of stock features, like priority in dividend declarations or absence of voting rights yet neither the


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reclassification nor exchange per se, yields realize income for tax purposes. In this case, the exchange of shares, without more, produces no realized income to the subscriber. There is only a modification of the subscriber’s rights and privileges - which is not a flow of wealth for tax purposes. YUCHENGCO V CIR Facts: Appeal seeking redetermination of a deficiency income tax which CIR assessed against Yuchengco for the year 1974. The deficiency of Yuchengco arose from disallowance by the CIR of certain deductions he claimed from his income tax return and the addition of incomes he allegedly earned in the same year. Issues: 1.) whether the advances taken by Yuchengco from Pan Malayan Management Investment Corporation and ET Yuchengco, Inc. are disguised dividends; 2.) whether dividend income from Rizal Commercial Banking Corporation are taxable income; Held: 1.) The advances made by Yuchengco from PMMIC in the amount of P 1,890,000.00 were not bona fide loans but were in reality, informal dividends, taxable as income to Yuchengco. Yuchengco and his family owned 99.99% of the total outstanding shares of PMMIC. In the year 1974, he received the total of P 1,890,000.00 at regular intervals during the year. Yuchengco’s contention that such amount are loans, since he “paid” them off by assigning his shares in a certain Mico Equities, to PMMIC is unavailing. The mere effect of such assignment is the offsetting of the “loans” but such is not enough evidence that the amount was a bona fide loan. Moreover, there is no evidence that Yuchengco gave a note or any containing fixed terms for repayment, or that he paid interest, or that he gave any security for such “loans”. The burden of proving that such amount was a loan is upon Yuchengco, and he failed to prove such. However, as to the advances from ET Yuchengco, petitioner was able to prove through the accounts payable ledger of ET Yuchengco Inc that the

amount of P126,000 which he advanced are indeed loans and that he has the intent to repay. 2.) The court found that Yuchengco was only a nominal holder of some of the shares, that although the shares were in his name, he was merely holding such shares in trust for the corporations and that all dividends were paid to these corporations which declared and paid the taxes due thereon. Certifications were issued as evidence of Yuchengco’s nominal holdings. However the certifications only accounted for part of the shares in Yuchengco’s name (only 16, 102 shares out of 38,106) which he held in trust for various corporations. The court held that the dividend income pertaining to the remaining shares should be taxable income to him for the year.

PHILIPPINE TELEPHONE & TELEGRAPH COMPANY v. CIR

Facts: Plaintiff is a domestic corporation transacting the business of furnishing telephone service in the Island of Luzon, in the Philippine Islands, under and by virtue of a special franchise granted by the Philippine Commission under which the grantee, their successors or assigns, should pay to the Insular Treasurer each year, two per centum (2%) of their gross receipts from the telephone, telegraph or other electrical transmission business transacted under said franchise, and that said percentage should be in lieu of all taxes on the franchise or earnings thereof. During the years 1927, 1928 and 1929, as well as during the years prior thereto, the corporation duly paid to the Insular Treasurer the full percentages corresponding of the franchise referred to in the last preceding paragraph. Among the stockholders holding stock in the plaintiff corporation during the said years 1927, 1928 and 1929, and who received dividends from the plaintiff out of its operations under said franchise, were the Philippine Islands Telephone & Telegraph Company and the Telephone Investment Corporation, both of which stockholders are foreign corporations

During the aforesaid years 1927, 1928 and 1929, plaintiff paid to the stockholder corporations as dividends duly and lawfully declared by the plaintiff for said years the aggregate sum of P1,014,055. The defendant, acting under the provisions of sections 9 (b) and 13 (f) of the Income Tax Law (Act No. 2833 as amended), levied and assessed against the plaintiff, and demanded of the latter the payment of the sum of


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P30,421.65 as income taxes on the aforesaid amount of P1,014,055, the dividends paid by the plaintiff as stated in paragraph 6 hereof, notwithstanding the tax exemption or commutation granted to plaintiff by its charter stated in paragraph 3 hereof. Corporation paid under protest. At the beginning of the year 1923 the plaintiff purchased and acquired all the assets, liabilities and franchises of the said Philippine Islands Telephone & Telegraph Company, and has since, during all time covered by the complaint, been operating a telephone system on the Island of Luzon under the franchise granted by Act No. 1368 of the Philippine Commission.

Issue: WON the appellant is bound to pay said taxes in view of the exemption granted in its favor by section 5 of Act No. 1368 of the Philippine Commission establishing said franchise.

Held: YES. There seems to be no question that the dividends of a domestic corporation, which are paid and delivered in cash to foreign corporations as stockholders, are subject to the payment of said tax.

An ordinary dividend on corporate stock, paid in money or its equivalent, and representing a distribution to stockholders of profits of the corporation, as distinguished from a stock dividends representing a capitalization of profits or of an increase in the value of corporate assets, and from distributions of capital and liquidating dividends, is income of the recipients, within the meaning of a statute imposing a tax upon incomes, and accordingly is taxable statute; and the taxability of a dividend is not affected by the fact that the profits out or been accumulated by the corporation during a long period of time or even before taxes on income were imposed by law, since corporate profit first become income of the stockholders when they are distributed as dividends. (61 C.J., pp. 1572, 1573 and cases cited therein.)

The same rule applies to dividends which are paid and delivered to the stockholders in the form of stock dividends:

Except where a statute imposing a tax upon incomes otherwise specifically provides, it has been held that a stock dividends in the ordinary sense, being a dividend on corporate stock paid in newly issued stock of the corporation, as distinguished from one paid in treasury stock or in stock of a

subsidiary or other corporation, is income, within the meaning of the statute, and so is subject to taxation thereupon, whether it represents earnings or profits of the corporation or an increase in the value of corporate assets, although on the latter point there is also authority to the contrary. (61 C.J., 1573 and cases therein cited.)

In the cases of Posadas vs. Warner, Barnes & Co., and Posadas vs. Menzi (73 Law. ed., 339 et seq.) the Supreme Court of the United States, among other things, said:

. . . The Philippine Legislature has power to lay a tax in respect of the advantage resulting to recipients from the allotment and delivery of such dividends shares. (Swan Brewing Co. vs. Rex [1914], A. C., 231-P. C.) Respondent rightly concedes that, there being no constitutional restriction, such dividends may be taxed and that the statute discloses a purpose to tax them. . . . .

Reference is herein made to said cases, coming from this court, only for the purpose of showing that if stock dividends are subject to income tax, a fortiori the dividends paid and delivered in cash to stockholders should be subject thereto.

As the law clearly provides, the exemption only relates to the income and earnings of the franchise and it should not be construed as including those which cease to belong to the franchise or to the corporation holding it, for they have been delivered to its stockholders as their own. The law did not exempt from the payment of said tax those dividends paid and delivered to stockholders, because they ceased to be the property of the corporation and became of the stockholders; and evidently it was not the intention of the Philippine Commission to extend such privilege to parties other than the original holders of the franchise and their grantee.

GROSS INCOME AND EXCLUSIONS; PASSIVE INCOME ; ANNUITIES AND INSURANCE PROCEEDS; EXCLUSIONS; PROCEEDS FROM LIFE INSURANCE


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EL ORIENTE FABRICA DE TABACOS, INC V. JUAN POSADA

Facts: Plaintiff, in order to protect itself against the loss that it might suffer by reason of the death of its manager, A. Velhagen, procured from the Manufacturers Life Insurance Co., of Toronto, Canada, thru its local agent E.E. Elser, an insurance policy on the life of the said A. Velhagen for the sum of $50,000. El Oriente, Fabrica de Tabacos, Inc., designated itself as the sole beneficiary of said policy on the life of its said manager. The plaintiff charged as expenses of its business all the said premiums and deducted the same from its gross incomes as reported in its annual income tax returns, which deductions were allowed by the defendant upon a showing made by the plaintiff that such premiums were legitimate expenses of its (plaintiff's) business. Upon the death of said A. Velhagen in the year 1929, the plaintiff received all the proceeds of the said life insurance policy, together with the interests and the dividends accruing thereon, aggregating P104,957.88. The defendant Collector of Internal Revenue assessed and levied the sum of P3,148.74 as income tax on the proceeds of the insurance policy mentioned in the preceding paragraph, which tax the plaintiff paid under instant protest on July 2, 1930; and that defendant overruled said protest on July 9, 1930.

Issue: WON the proceeds of insurance taken by a corporation on the life of an important official to indemnify it against loss in case of his death, are taxable as income under the Philippine Income Tax Law

Held: NO. It is sufficient for our purposes to direct attention to the anomalous and vague condition of the law. It is certain that the proceeds of life insurance policies are exempt. It is not so certain that the proceeds of life insurance policies paid to corporate beneficiaries upon the death of the insured are likewise exempt. But at least, it may be said that the law is indefinite in phraseology and does not permit us unequivocally to hold that the proceeds of life insurance policies received by corporations constitute income which is taxable. It will be recalled that El Oriente, Fabrica de Tabacos, Inc., took out the insurance on the life of its manager, who had had more than thirty-five years' experience in the manufacture of cigars in the Philippines, to protect itself against the loss it might suffer by reason of the death of its manager. We do not believe that this fact signifies that when the plaintiff received P104,957.88 from the insurance on the life of its manager, it thereby realized a net profit in this amount. It is true that the Income Tax Law, in exempting individual beneficiaries, speaks of the proceeds of life insurance policies as

income, but this is a very slight indication of legislative intention. In reality, what the plaintiff received was in the nature of an indemnity for the loss which it actually suffered because of the death of its manager.

Considering, therefore, the purport of the stipulated facts, considering the uncertainty of Philippine law, and considering the lack of express legislative intention to tax the proceeds of life insurance policies paid to corporate beneficiaries, particularly when in the exemption in favor of individual beneficiaries in the chapter on this subject, the clause is inserted "exempt from the provisions of this law," we deem it reasonable to hold the proceeds of the life insurance policy in question as representing an indemnity and not taxable income.

GROSS INCOME AND EXCLUSIONS; PASSIVE INCOME ; WINNINGS/AWARDS/REWARDS THE COMMISSIONER OF INTERNAL REVENUE v THE COMMISSION ON AUDIT

Facts: Petitioner Tirso B. Savellano furnished the Bureau of Internal Revenue (BIR) with a confidential affidavit of information denouncing the National Coal Authority (NCA) and the Philippine National Oil Company (PNOC) for non-payment of taxes totalling P234 Million on interest earnings of their respective money placements with the Philippine National Bank (PNB) since October 15, 1984 to said date.

By a letter dated November 28, 1986, then BIR Commissioner Bienvenido Tan, Jr. recommended to the Minister of Finance payment to petitioner Savellano of an informer's reward equivalent to 15% of the amount of P15,986,165.00 paid by NCA, or P2,397,924.75. Respondent Commission on Audit (COA) rendered COA Decision No. 740 disallowing in audit the payment of informer's reward to petitioner Savellano in the NCA case on the ground that payment of an informer's reward under Section 281 of the National Internal Revenue Code is conditioned upon the actual recovery or collection of revenues, and no such revenue or income was actually realized or recovered on any benefit accrued to the government, since two (2) government agencies were involved. The income realized by the BIR out of the withholding taxes paid by the NCA was a reduction of the income of the latter, resulting in a zero effect in revenues realized or recovered. Respondent


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COA also impugned the propriety of the claim for informer's reward based on inter-governmental violations.

Issue: Whether or not the COA’s position as to the infiormer’s reward is correct

Held: No.One of the reasons for respondent COA's disallowance of the informer's reward under consideration is that there was actually no revenue realized or recovered as two (2) government agencies were involved. This view is simplistic and merits no concurrence. It overlooks the fact that the two (2) government agencies involved, NCA and PNOC, possess legal personalities separate and distinct from the Philippine government. Although both are government-owned and controlled corporations, NCA and PNOC perform proprietary functions. Their revenues do not automatically devolve to the general coffers of the government. Unless transferred to the Philippine government through the vehicle of taxation, no part of their revenues is available for appropriation by the Legislature for expenditure in government projects; such revenues remain said agencies' in their entirety, to be applied to and expended for their own exclusive purpose. Clearly, then, when said revenues are subjected to tax, the portion thereof corresponding to such tax becomes, in its own, revenue for the government accruing to the General Fund. That the informer's reward was sought and given in relation to tax delinquencies of government agencies provides no reason for disallowance. The law on the matter makes no distinction whatsoever between delinquent taxpayers in this regard, whether private persons or corporations, or public or quasi-public agencies, it being sufficient for its operation that the person or entity concerned is subject to, and violated, revenue laws, and the informer's report thereof resulted in the recovery of revenues. GROSS INCOME AND EXCLUSIONS; PASSIVE INCOME ; OTHER TYPES OF PASSIVE INCOME; DAMAGES

ISHWAR JETHMAL RAMNANI AND SONYA JETHMAL RAMNANI, petitioners, vs. THE COMMISSIONER OF INTERNAL REVENUE, respondent. [C.T.A. CASE NO. 5108. September 13, 1996.]

Facts: The petitioner was awarded the following as money judgments

1) rental income of subject properties and improvements from 1967 up to the time of the satisfaction of the judgment;

2) payment of the cash value of the subject two parcels of land and their improvements;

3) moral damages of P500,000.00;

4) exemplary damages of P200,000.00;

5) Attorney's fees equal to 10% of total award; and

6) Legal interest of 6% per annum from the time this Judgment becomes final until they are fully paid.

Thereafter the Regional Trial Court (Branch 119) of Pasay City, issued an Order for the partial writ of execution . However, on July 19, 1993 a Tripartite Agreement was entered into by the parties to finally settle the award for money judgment at P65 Million, under the following terms:

a. P40 Million upon the signing hereof by the Parties;

b. P10 Million within thirty (30) days from July 5, 1993 or on or before August 4, 1993;

c. P15 Million within sixty (60) days from July 5, 1993 or on or before September 3, 1993.

The BIR in a letter that 30% shall be held from the payment of the 65M which represents the final income tax on the receipt of the income by non-resident American citizen, such as rents, casual gains, profits, and income. Inasmuch as the compromise settlement arose from a money judgment involving ownership over real property, the income is taxable in the Philippines notwithstanding the fact that the recipients thereof are American citizens, as provided in Article 7(1) of the RP-US Tsx Treaty where the location of the real property is the situs of income taxation and not the residence of the alienator.

Issue: WON petitioners are resident alien

Held: Yes. The establishment of a home even temporarily here in the Philippines for the accomplishment of a purpose even if he has the intention to return to his domicile abroad categorizes an individual as a


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resident. There is no doubt that petitioner Ishwar Ramnani is an American citizen who frequently comes to the Philippines for the most part of the year to oversee his various investments as shown by his passport entries. The then Commissioner of Immigration even approved the change of his status of admission from temporary visitor to immigrant/resident alien under Section 13(e) of the Philippine Immigration Act (Exhibit "B"). Petitioner has paid his Community Residence Certificates for the years 1987, 1988, 1989, 1990, 1991, 1992, 1993 and 1994 (Exhibits R, R-1 to R-7, inclusive). The statement of respondent in her Ruling, dated October 20, 1993, that "since you just came to the Philippines last September 10, 1993 and you are set to leave the country very soon, it is very clear that you are a non-resident alien not engaged in trade or business in the Philippines" is not supported by evidence and the records of this case.

Issue: WON the money judgment issued in their favor are subject to income tax.

Held: Yes. The amount of P24,879,265.00, representing rental income, should be subject to the 5% withholding tax pursuant to Section 50(b) of the NIRC, in relation to Section 1(c) of Revenue Regulations No. 6-85. The capital investment of P600,000.00 (US$150,000.00) should not therefore form part of the taxable base for income tax purposes since this is not income but a mere return Or capital. the moral and exemplary damages as well as the attorney's fees are not subject to income tax. The moral and exemplary damages as well as the attorney's fees are not subject to income tax.

DEDUCTIONS AND EXEMPTIONS; DEDUCTIONS IN GENERAL

ZAMORA v. COLLECTOR [G.R. No. L-15290. May 31, 1963.]

FACTS: Mariano Zamora, owner of the Bay View Hotel and Farmacia Zamora, Manila, filed his income tax returns. The Collector of Internal Revenue found that the promotion expenses incurred by his wife for the promotion of the Bay View Hotel and Farmacia Zamora were not allowable deductions. Mariano Zamora contends that the whole amount of the promotion expenses in his income tax returns, should be allowed and not merely one-half of it, on the ground that, while not all the itemized expenses are supported by receipts, the absence of some supporting receipts has been sufficiently and satisfactorily established.

ISSUE: In the absence of receipts, WON to allow as deduction all or merely one-half of the promotion expenses of Mrs. Zamora claimed in Mariano Zamora's income tax returns

HELD: One-half only. Claims for the deduction of promotion expenses or entertainment expenses must also be substantiated or supported by record showing in detail the amount and nature of the expense incurred. Considering that the application of Mrs. Zamora for dollar allocation shows that she went abroad on a combined medical and business trip, not all of her expenses came under the category of ordinary and necessary expenses; part thereof constituted her personal expenses. There having been no means by which to ascertain which expense was incurred by her in connection with the business of Mariano Zamora and which was incurred for her personal benefit, the Collector and the CTA in their decisions, considered 50% of the said amount as business expense and the other 50%, as her personal expenses. While in situations like the present, absolute certainty is usually not possible, the CTA should make as close an approximate as it can, bearing heavily, if it chooses, upon the taxpayer whose inexactness is of his own making.

ESSO STANDARD v. CIR [G.R. Nos. 28508-9. July 7, 1989.]

FACTS: Petitioner ESSO claimed as ordinary and necessary expenses in the same return the margin fees it paid to the Central Bank on its profit remittances to its New York head office. ISSUE: WON the margin fees were deductible from gross income either as a tax or as an ordinary and necessary business expense

HELD: Neither. The margin fees were imposed by the State in the exercise of its police power and not the power of taxation. Neither are they necessary and ordinary business expenses. To be deductible as a business expense, the expense must be paid or incurred in carrying on a trade or business. The fees were paid for the remittance by ESSO as part of the profits to the head office in the United States, which is already another distinct and separate income taxpayer. Such remittance was an expenditure necessary and proper for the conduct of its corporate affairs.


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CIR v. GENERAL FOODS [G.R. No. 143672. April 24, 2003.]

FACTS: In its income tax return, respondent corporation claimed as deduction, among other business expenses, the amount for media advertising for ‘Tang,’ one of its products. ISSUE: WON the subject media advertising expense for ‘Tang’ incurred by respondent was an ordinary and necessary expense fully deductible under the NIRC

HELD: Not deductible. Deductions for income tax purposes partake of the nature of tax exemptions; hence, must be strictly construed. To be deductible from gross income, the subject advertising expense must be ordinary and necessary. There being no hard and fast rule on the reasonableness of an advertising expense, the right to a deduction depends on a number of factors such as but not limited to: the type and size of business in which the taxpayer is engaged; the volume and amount of its net earnings; the nature of the expenditure itself; the intention of the taxpayer and the general economic conditions. The amount claimed as media advertising expense for ‘Tang’ alone was almost one-half of its total claim for marketing expenses. Furthermore, it was almost double the amount of respondent corporation's general and administrative expenses. The subject expense for the advertisement of a single product is inordinately large. Said venture of respondent to protect its brand franchise was tantamount to efforts to establish a reputation, and should not, therefore, be considered as business expense but as capital expenditure, which normally should be spread out over a reasonable period of time.

C.M. HOSKINS v. CIR G.R. No. L-28383. June 22, 1976.]

FACTS: Petitioner-appellant, a domestic corporation engaged in the development and management of subdivisions, sale of subdivision lots and collection of installments due for a fee which the real estate owners pay as compensation for each of the services rendered, failed to pay the real estate broker's tax on its income derived from the supervision and collection fees. Consequently, the Commissioner of Internal Revenue demanded the payment of the percentage tax plus surcharge,

contending that said income is subject to the real estate broker's percentage tax. On the other hand, petitioner-appellant claimed that the supervision and collection fees do not form part of its taxable gross compensation. ISSUE: WON the supervision and collection fees received by a real estate broker are deductible from its gross compensation

HELD: No. With respect to the collection fees, the services rendered by Hoskins in collecting the amounts due on the sales of lots on the installment plan are incidental to its brokerage service in selling the lots. If the broker's commissions on the cash sales of lots are subject to the brokerage percentage tax, its commissions on installment sales should likewise be taxable. As to the supervision fees for the development and management of the subdivisions, which fees were paid out of the proceeds of the sales of the subdivision lots, they, too, are subject to the real estate broker's percentage tax. The development, management and supervision services were necessary to bring about the sales of the lots and were inseparably linked thereto. Hence, there is basis for holding that the operation of subdivisions is really incidental to the main business of the broker, which is the sale of the lots on commission.

GANCAYCO v. COLLECTOR [G.R. No. L-13325. April 20, 1961.]

FACTS: Petitioner Santiago Gancayco seeks the review of a decision of the Court of Tax Appeals, requiring him to pay deficiency income tax. The question whether the sum is due from Gancayco as deficiency income tax hinges on the validity of his claim for deduction of two (2) items, namely: (a) for farming expenses; and (b) for representation expenses. ISSUE: WON the two claimed deductions are allowable

HELD: No. In computing net income, no deduction shall be allowed in respect of any amount paid out for new buildings or for permanent improvements, or betterments made to increase the value of any property or estate. The cost of farm machinery, equipment and farm building represents a capital investment and is not an allowable


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deduction as an item of expense. Hence, the farming expenses allegedly incurred for clearing and developing the farm which were necessary to place it in a productive state, were not an ordinary expense but a capital expenditure. Accordingly, they are not deductible. As for Gancayco's claim for representation expenses, a fraction was disallowed. Such disallowance is justified by the record, for, apart from the absence of receipts, invoices or vouchers of the expenditures, petitioner could not specify the items constituting the same, or when or on whom or on what they were incurred.

WESTERN MINOLCO v. CIR [G.R. No. L-61632. August 16, 1983.]

FACTS: Petitioner is a domestic corporation engaged in mining, particularly copper concentrates for export mined from mineral lands. It was granted by the Securities and Exchange Commission, under Certificate of Renewal No. R-1056, authority to borrow money and issue commercial papers. Pursuant to this authority, the petitioner borrowed funds from several financial institutions and paid the corresponding 35% transaction tax due thereon. Petitioner applied for a refund alleging that it was not liable to pay the 35% transaction tax. ISSUE: WON the 35% transaction tax is a business tax that constitutes an allowable deduction from gross income

HELD: No. The 35% transaction tax is imposed on interest income from commercial papers issued in the primary money market. Being a tax on interest, it is a tax on income. The petitioner who borrowed funds from several financial institutions by issuing commercial papers merely withheld the 35% transaction tax before paying to the financial institutions the interests earned by them and later remitted the same to the respondent Commissioner of Internal Revenue. Whatever collecting procedure is adopted does not change the nature of the tax. Furthermore, whether or not certain taxes are on income is not necessarily determined by their deductibility or non-deductibility from gross income. Income in the form of dividends, capital gains on real property, shares of stock, and interests on savings in bank accounts are incomes, yet they are not included in the gross income when income taxes are paid because these are subject to final withholding taxes.

COMMISSIONER OF CUSTOMS VS PHILIPPINE ACETYLENE COMPANY

Facts: Philippine Acetylene Company is engaged in the manufacture of oxygen, acetylene and nitrogen, and packaging of liquefied petroleum gas in cylinders and tanks. It imported from the United States a custom-built liquefied petroleum gas tank. For the said importation, the company was assessed a special import tax amounting to PhP 3,683.00. The company paid the tax under protest.

Philippine Acetylene Company argues that it is exempt from the payment of the special import tax. It cites as basis for its exemption Sec 6 of RA No.1394 which states that special import taxes shall not be imposed on machinery, equipment, accessories and spare parts, imported into the Philippines, for the use of industries. The company maintains that it is an industry as defined in Sec 6 of RA No. 1394.

The Court of Tax Appeals sustained Philippine Acetylene Company’s contention and declared the latter exempt from the payment of the special import tax.

Issue: Whether or not Philippine Acetylene Company may be considered engaged in an industry as contemplated in Sec 6 of RA No. 1394 and, therefore, exempt from the payment of the special import tax.

Held: Philippine Acetylene Company is not an industry as defined in Sec 6 of RA No. 1394. To be an industry, the company must be engaged in some productive enterprise, not in merely packaging an already finished product. The operation for which the company employs the gas tank in question does not involve manufacturing or production. It is nothing but packaging; the liquefied gas, when obtained from the refinery, has to be placed in some kind of container to facilitate its transportation. When sold to consumers, it undergoes no change or transformation, but is merely placed in smaller cylinders for convenience. The process is certainly not production in any sense.

The decision of the CTA is reversed and Philippine Acetylene Company is held liable for the payment of the special import tax, as it is not an industry exempt from the payment of such tax.


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COMMISSIONER OF INTERNAL REVENUE VS ARNOLDUS CARPENTRY SHOP, INC.

Facts: Arnoldus Carpentry Shop, Inc. is a domestic corporation engaged in the business of preparing, processing, buying, selling, exporting, importing, manufacturing, trading and dealing in cabinet shop products, wood and metal home and office furniture, cabinets, doors, windows, etc., including their component parts and materials, of any and all nature and description.

The Commissioner of Internal Revenue conducted an investigation of the business tax liabilities of Arnoldus Carpentry Shop, Inc. After the examination, the CIR concluded that Arnoldus Carpentry Shop, Inc. is an independent contractor under Sec 205 (16) [now Sec 169 (q)] of the Tax Code. As a result of this classification, Arnoldus Carpentry Shop, Inc. was assessed deficiency tax (PhP 88,972.23) plus charges and interest. This tax deficiency was a consequence of the 3% tax imposed on the company’s gross export sales which, in turn, resulted from the CIR’s finding that categorized the company as a contractor.

Arnoldus Carpentry Shop, Inc. protested the assessment maintaining that it is a manufacturer and therefore entitled to tax exemption on its gross export sales under Sec 202 (e) of the National Internal Revenue Code.

The CIR stood by its initial finding that Arnoldus Carpentry Shop, Inc. is a contractor, not a manufacturer. Arnoldus Carpentry Shop, Inc. appealed to the Court of Tax Appeals. The CTA held that Arnoldus Carpentry Shop, Inc. is a manufacturer, effectively reversing the decision of the CIR.

Issue: Whether Arnoldus Carpentry Shop, Inc. is a manufacturer or contractor. If found a manufacturer, the company is, therefore, not liable for the amount assessed as deficiency contractor’s tax.

Held: Arnoldus Carpentry Shop, Inc. is a manufacturer as defined in the Tax Code and not a contractor. A contractor under Sec 205 (16) [now Sec 170 (q)] of the Tax Code is one whose activity consists essentially of the sale of all kinds of services. The business of Arnoldus Carpentry Shop, Inc. does not fall under this definition. The company sells goods which it keeps in stock and not services. On the other hand, a

manufacturer, under Sec 187 (x) [now Sec 157 (x)] of the Tax Code, is one who by physical or chemical process alters the exterior texture or form or inner substance of any raw material or manufactured or partially manufactured product. The term manufacturer had been considered in its ordinary and general usage, and Arnoldus Carpentry Shop, Inc. falls under this definition.

The Court affirmed the decision of the CTA holding that Arnoldus Carpentry Shop, Inc. is a manufacturer. The company is entitled to the tax exemption under Sec 202 (d) and (e) [now Sec 167 (d) and (e)] of the Tax Code. It is not liable for the deficiency contractor’s tax assessed by the CIR.

BANK OF THE PHILIPPINE ISLANDS VS TRINIDAD

Facts: Bank of the Philippine Islands is a domestic banking corporation, operating under a special charter granted by the Philippine Legislature through Act No. 1790. The charter contains a clause to the effect that no law shall be made or enforced imposing a charge or taxation upon BPI which shall not apply equally to other banks of a similar type operating under similar conditions.

The Collector of Internal Revenue collected internal revenue taxes upon BPI’s circulating notes issued by the bank for the years 1919-1921.

The Philippine Legislature, through Act No. 2612, created the Philippine National Bank. Under Sec 18 of the PNB Charter, it is provided that the circulating notes of PNB shall be exempt from any and all taxes.

The CIR did not collect taxes upon the circulating notes of PNB because of the exemption granted to the latter by Sec 18 of Act No. 2612.

BPI contends that BPI and PNB are banks of similar type and operating under similar conditions. Thus, BPI should also be entitled to the same exemptions and privileges granted to PNB. Essentially, BPI argues that it should also be exempt from the payment or taxes upon its circulating notes.

Issue: Whether or not BPI and PNB are banks of similar type and operating under similar conditions. Whether or not BPI is exempt from the payment or taxes upon its circulating notes


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Held: The Court noted that subsequent to the filing of the action, PNB paid to the CIR PhP 519,043.03 as taxes upon its circulating notes. This development, according to the Court, rendered it unnecessary to decide the question as to whether BPI and PNB are of similar type or operating under similar conditions.

BPI is not exempt from the payment of taxes upon its circulating notes. It is not entitled to a refund of the payments it made for that purpose. The Court used Sec 1499 of the Administrative Code of 1917 in ruling that BPI is not tax exempt. This Section allows the collection from banks of taxes on capitals, deposits, and circulation. Exemptions are strictly construed against the taxpayer, so unless BPI can show clearly that it has been granted the status of exemption, then it cannot avail itself of such entitlement. The fact that one person may not have paid or been required to pay his taxes does not exempt another from the payment of his legal taxes, or legally entitle him to a refund of any taxes which he has paid.

DEDUCTIONS AND EXEMPTIONS; DEDUCTIONS IN GENERAL; ALLOCATION

YUTIVO SONS HARDWARE CO. VS COURT OF TAX APPEALS

Facts: Yutivo Sons Hardware Co. is a domestic corporation engaged in the importation and sale of hardware supplies and equipment. It bought a number of cars and trucks from General Motors Overseas Corporation, an American corporation licensed to do business in the Philippines. As importer, GM paid sales tax prescribed by sections 184, 185 and 186 of the Tax Code on the basis of its selling price to Yutivo. Said tax being collected only once on original sales, Yutivo paid no further sales tax on its sales to the public.

Southern Motors, Inc. was organized to engage in the business of selling cars, trucks and spare parts. Its shares were subscribed in five equal proportions by the descendants of the founders of Yutivo. When GM withdrew from the Philippines, the cars and trucks purchased by Yutivo from GM were sold by Yutivo to SM which, in turn, sold them to the public in the Visayas and Mindanao. GM appointed Yutivo as importer for the Visayas and Mindanao, and Yutivo continued its previous arrangement of selling exclusively to SM. In the same way that GM used to pay sales taxes based on its sales to Yutivo, the latter, as importer,

paid sales tax on the basis of its selling price to SM, and since such sales tax, as already stated, is collected only once on original sales, SM paid no sales tax on its sales to the public.

Yutivo was investigated by the CIR and was assessed deficiency sales tax plus surcharge. The CIR claimed that the taxable sales were the retail sales by SM to the public and not the sales at wholesale made by Yutivo to the latter inasmuch as SM and Yutivo were one and the same corporation, the former being the subsidiary of the latter.

Yutivo alleged the following before the Court of Tax Appeals: (1) that there is no valid ground to disregard the corporate personality of SM and to hold that it is an adjunct of petitioner Yutivo; (2) that assuming that the separate personality of SM may be disregarded, the sales tax already paid by Yutivo should first be deducted from the selling price of SM in computing the sales tax due on each vehicle; and (3) that the surcharge has been erroneously imposed by the CIR. The CTA ruled in favor of CIR and ruled that the creation of SM is for Yutivo to evade taxes, as it is owned and controlled by Yutivo and is a mere subsidiary, branch, adjunct conduit, instrumentality or alter ego of the latter. Issue: Whether or not SM has a personality separate and distinct from Yutivo. Held: It is an elementary and fundamental principle of corporation law that a corporation is an entity separate and distinct from its stockholders and from other corporations to which it may be connected. However, "when the notion of legal entity is used to defeat public convenience, justify wrong, protect fraud, or defend crime," the law will regard the corporation as an association of persons, or in the case of two corporations merge them into one. When the corporation is the "mere alter ego or business conduit of a person, it may be disregarded." However, SM was not organized purposely as a tax evasion device. Moreover, it runs counter to the fact that there was no tax to evade. The intention to minimize taxes, when used in the context of fraud, must be proved to exist by clear and convincing evidence amounting to more than mere preponderance, and cannot be justified by a mere speculation. This is because fraud is never lightly to be presumed.


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The SC however agreed that SM was actually owned and controlled by petitioner as to make it a mere subsidiary or branch of the latter created for the purpose of selling the vehicles at retail and maintaining stores for spare parts as well as service repair shops.

Consideration of various other circumstances, especially when taken together, indicates that Yutivo treated SM merely as its department or adjunct. For one thing, the accounting system maintained by Yutivo shows that it maintained a high degree of control over SM accounts. All transactions between Yutivo and SM are recorded and effected by mere debit or credit entries against the reciprocal account maintained in their respective books of accounts and indicate the dependency of SM as branch upon Yutivo.

DEDUCTIONS AND EXEMPTIONS; ALLOWABLE DEDUCTIONS; ORDINARY/NECESSARY BUSINESS EXPENSES

ATLAS CONSOLIDATED MINING & DEVT CORP VS COMMISSIONER OF INTERNAL REVENUE

Facts: Atlas Consolidated Mining & Devt Corp is a corporation engaged in the mining industry. It was assessed deficiency income tax for the year 1958 as a result of the disallowance of certain items claimed by the company as deductions from its gross income.

Atlas claimed the following items as deductible from its gross income: (1) transfer agent’s fee, (2) stockholders relation service fee, (3) US stock listing expenses, (4) suit expenses, (5) provision for contingencies. The Commissioner of Internal Revenue disallowed all these items. Atlas elevated the issue to the Court of Tax Appeals. The CTA rendered a decision allowing the said items, except for the stockholders relation service fee and the suit expenses.

Both Atlas and the CIR went to the Supreme Court to appeal the CTA decision.

In GR No. L-26911, Atlas argues that the CTA should not have disallowed the stockholders relation service fee. The corporation

contends that such fee constitutes an ordinary and necessary business expense, and should, therefore, be allowed as a deductible expense from the company’s gross income.

In GR No. L-26924, the CIR argues that the transfer agent’s fee and the US stock listing fee should not have been allowed as deductions from gross income in the absence of proof of payment for such expenses. The CIR also argues that the US stock listing expenses should be disallowed for not being ordinary and necessary and not incurred in trade or business, as required under Sec 30 (a) (1) of the National Internal Revenue Code. The CIR also contends that the correct amount of disallowance for suit expenses should be PhP 17,499.98 and not PhP 6,666.65.

Issue: In GR No. L-26911, whether or not the expenses paid for the services rendered by a public relations firm, P. K. Macker & Co., labeled as stockholders relation service fee is an allowable deduction as business expense.

In GR No. L-26924, whether or not the transfer agent’s fee and the US stock listing fee should have been allowed as deduction in the absence of proof of payments. Whether or not the US stock listing expenses should be disallowed for not being ordinary and necessary and not incurred in trade or business. Whether PhP 17,499.98 or PhP 6,666.65 is the correct amount of disallowance for suit expenses.

Held: GR No. L-26911. Under Sec 30 (a) (1) of the Tax Code, three conditions have to be complied with before a business expense is allowed as a deduction from gross income: (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 a trade or business. The Court sustained the ruling of the CTA that the expenditure paid to P. K. Macker & Co. denominated as stockholders relation service fee is not an ordinary expense. The fee was paid to the PR firm as compensation for services carrying on the selling campaign in an effort to sell Atlas’ additional capital stock. Such is not an ordinary expense because, according to the Court, expenses relating to the recapitalization and reorganization of a corporation, the cost of obtaining stock subscription, promotion expenses, and commission or fees paid for the sale of stock reorganization are capital expenditures. The stockholders relation service fee is not deductible from Atlas’ gross income.


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GR No. L-26924. The Court agreed with the CTA that the CIR cannot raise the issue of payment for the first time on appeal. The fact of payment was never controverted by the CIR during the proceedings. Failure to assert a question within a reasonable time warrants a presumption that the party entitled to assert it either has abandoned or declined to assert it. The Court held that the US stock listing fee is an ordinary and necessary business expense and was correctly allowed by the CTA as a deduction. The stock listing fee is paid annually to a stock exchange for the privilege of having Atlas’ stock listed. A single payment made to the stock exchange is considered a capital expenditure (Domes Mines case). However, payments to the stock exchange made annually or in a recurring manner are considered ordinary and necessary business expenses (Chesapeake Corporation case). The fees paid by Atlas partake of the latter. The Court reiterated that it is well-settled that litigation expenses incurred in defense or protection of title are capital in nature and not deductible. The Court sustained the CIR that the correct amount of disallowance for litigation or suit expenses is PhP 17,499.98.

VISAYAN CEBU TERMINAL CO. INC. VS COLLECTOR OF INTERNAL REVENUE

Facts: Visayan Cebu Terminal Co. Inc. is a corporation organized for the purpose of handling arrastre operations in the port of Cebu. Visayan filed its income tax return for 1951 claiming the following items as deductions from the company’s gross income: (1) salaries, (2) representation expenses (PhP 75,855.88), and (3) miscellaneous expenses. The Collector of Internal Revenue disallowed the entire amount of representation expenses. The Court of Tax Appeals allowed representation expenses but set the limit at PhP 10,000.00.

Issue: Whether or not the full amount of representation expenses should be allowed as a deduction from Visayan’s gross income.

Held: The Court sustained the Tax Court in holding that representation expenses fall under the category of business expenses which are allowable deductions from gross income if they meet the following requisites laid down in the Tax Code—they must be ordinary and necessary expense paid or incurred in carrying on any trade or business and they must meet the test of reasonableness in amount. The Court

further agreed with the computation made by the CTA. Because of the company’s failure to provide evidence for all such expenses (the corporation claims that the supporting papers were destroyed when the house of the company treasurer, where the records were kept was burned), the Court should determine from all available data the amount properly deductible as representation expenses. The Court sustained the finding of the CTA that PhP 10,000.00 may be considered reasonably necessary as the company’s representation expenses based on figures presented during the proceedings.

KUENZLE & STREIFF, INC. vs. THE COLLECTOR OF INTERNAL REVENUE Facts: Petitioner claimed as a deduction for income tax purposes for the years 1950, 1951 and 1952 salaries, directors' fees and bonuses of its non-resident president and vice-president; bonuses of some of its resident officers and employees; and interests on earned but unpaid salaries and bonuses of its officers and employees. Petitioner gave to its non-resident president and vice president for the years 1950 and 1951 bonuses equal to 133-1/2% of their annual salaries and bonuses equal to 125 2/3% for the year 1952. Petitioner however gave its resident officers and employees higher bonuses on the alleged reason because of their valuable contribution to the business of the corporation which has made it possible for it to realize huge profits during the aforesaid years. The respondent disallowed the said deductions hence they were assessed for deficiency income taxes. Upon re-examination by the respondents, they allowed as deductions all items comprising directors' fees and salaries of the non-resident president and vice president, but disallowing the bonuses insofar as they exceed the salaries of the recipients, as well as the interests on earned but unpaid salaries and bonuses.

Issue: WON the excessive bonuses and interest should be allowed as a deduction for income tax purposes.

Held: No. Bonuses to employees made in good faith and as additional compensation for the services actually rendered by the employees are deductible, provided such payments, when added to the stipulated salaries, do not exceed a reasonable compensation for the services rendered"


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Requisites for deductibility of employee bonuses: (1) the payment of the bonuses is in fact compensation; (2) it must be for personal services actually rendered; and (3) the bonuses, when added to the salaries, are "reasonable . . . when measured by the amount and quality of the services performed with relation to the business of the particular taxpayer".

There is no fixed test for determining the reasonableness of a given bonus as compensation. Deductible amount of bonuses is not limited to the amount of salary of its recipient. The prevailing circumstances should be considered. However In this case, the bonuses given to resident employees were higher than its non-resident officers on the reason that the resident officers and employees had performed their duty well and rendered efficient service. It does not necessarily follow that they should be given greater amount of additional compensation in the form of bonuses than what was given to the non-resident officers. The non-resident officers had rendered the same amount of efficient personal service and contribution to deserve equal treatment in compensation and other emoluments with the particularity that their liberation yearly salaries had been much smaller.

Interest should also be disallowed. . Under the law, in order that interest may be deductible, it must be paid "on indebtedness" (Section 30, (b) (1) of the National Internal Revenue Code). It is therefore imperative to show that there is an existing indebtedness which may be subjected to the payment of interest. Here the items involved are unclaimed salaries and bonus participation which in our opinion cannot constitute indebtedness within the meaning of the law because while they constitute an obligation on the part of the corporation, it is not the latter's fault if they remained unclaimed. The willingness of the corporation to pay interest thereon cannot be considered a justification to warrant deduction.

ALHAMBRA CIGAR & CIGARETTE MANUFACTURING COMPANY, petitioner-appellant, vs. THE COMMISSIONER OF INTERNAL REVENUE, respondent-appellee.

[G.R. No. L-23226. November 28, 1967.]

Facts: The petitioner claimed as deductible expense for income tax purposes salaries, bonuses, commissions and director’s fees paid to A. P. Kuenzle and H. A. Streiff, who were the President and Vice-President,

respectively, of the petitioner. The Commissioner of Internal Revenue disallowed a portion of the bonus, commission and director’s fees as deductions. Hence was assessed for deficiency income tax.

Issue: WON the bonuses, director’s fees and commissions are valid deductions for income tax purposes.

Held: No. Whenever a controversy arises on the deductibility, for purposes of income tax, of certain items for alleged compensation officers of a corporation, it is necessary to determine whether "personal services" have been "actually rendered" by said officers, and, in the affirmative, what is the "reasonable allowance" therefor.

As correctly held by the court of tax appeals, The bonus paid to each of said officers was reduced to the amount equivalent to that paid to Mr. W. Eggmann, the resident Treasurer and Manager of petitioner. Petitioner seeks to justify the increase in the salaries of Messrs. Kuenzle and Streiff on the ground of increased costs of living. The said officers of petitioner are, however, non-residents of the Philippines.

As to commissions and directors' fees there is no evidence of any particular service rendered by them to petitioner to warrant payment of commissions. There is also no justification for the payment of the director’s fees. Being non-resident President and Vice- President of Petitioner corporation of which they are the controlling stockholders, said commissions and directors' fees, payment of which was based on a certain percentage of the annual profits of petitioner, are in the nature of dividend distributions.

AGUINALDO INDUSTRIES CORPORATION (FISHING NETS DIVISION) vs. COMMISSIONER OF INTERNAL REVENUE and THE COURT OF TAX APPEALS

Facts: Upon investigation of petitioner's 1957 income tax returns of its Fish Nets Division, the Bureau of Internal Revenue examiner found that the amount of P61,187.48 was deducted from the gross income as additional remuneration paid to the officers of petitioner and that such amount was taken from the net profit which petitioner derived from an isolated transaction (sale of a parcel of its land) which is not in the course of or carrying on of petitioner's trade or business. The examiner recommended disallowance of the deduction, but petitioner insisted otherwise, claiming that the payment of the allowance or bonus was


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pursuant to its by-laws. The Court of Tax Appeals held the petitioner liable for deficiency income tax plus surcharge and interest

Issue: WON the profit derived from the sale of its land is tax-exempt income under Republic Act No. 901

Held: No. Petitioner may not raise the question of tax exemption for the first time on review where such question was not raised at the administrative forum

Issue: WON the bonus given to the officers of petitioner as share in the profit realized from the sale of the land is deductible expense for tax purposes

Held: No. The bonus given should be considered as deductible for income tax purposes only if payment was made for service actually rendered and it is reasonable and necessary. 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. Thus, 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.

COLLECTOR OF INTERNAL REVENUE, petitioner, vs. GOODRICH INTERNATIONAL RUBBER CO., respondent.

[G.R. No. L-22265. December 22, 1967.]

Facts: The CIR disallowed the bad debts and representation expense claimed as deduction of the respondent for tax purposes. According to Goodrich the claim for deduction of the representation expense is based upon receipts issued, not by the entities in which the alleged expenses had been incurred, but by the officers of Goodrich who allegedly paid them. To collect for the alleged bad debts, the respondent sent demand letters. There were subsequent collections after the debts have been written.

Issue: WON the representation expense are valid deductions.

Held: No. If the expenses had really been incurred, receipts or chits would have been issued by the entities to which the payments had been made, and it would have been easy for Goodrich or its officers to produce such receipts. Those issued by said officers merely attest to their claim that they had incurred and paid said expenses. They do not establish payment of said alleged expenses to the entities in which the same are said to have been incurred.

Issue: WON the bad debts are valid deduction for income tax purposes

Held: No. The ascertainment of worthlessness of bad debts requires proof of two facts: (1) that the taxpayer did in fact ascertain the debt to be worthless in the year the deduction is sought; and (2) in so doing, he acted in good faith. Good faith is not enough. The taxpayer must show that he had reasonably investigated the relevant facts and had drawn a reasonable inference from the information thus obtained by him. In this case, there were payments made after it has been written off and proves that there is undue haste in claiming it as bad debts. Respondent has not proven that said debts were worthless. There is no evidence that the debtors cannot pay them.

COLLECTOR OF INTERNAL REVENUE, petitioner, vs. ALBERTO M. K. JAMIR, respondent.

[G.R. No. L-16552. March 30, 1962.]

Facts: The CIR assessed the respondent for deficiency income taxes. The Petitioner claimed that the respondent under declared its income based on the expenditure method. The petitioner considered as an undeclared income so much of respondents expenditures for said months as was in excess of his reported income for the same months

Issue: WON the expenditure method was properly applied.

Held: No. The "expenditures method" of determining income should be applied by deducting the aggregate yearly expenditures from the declared yearly income, not the expenditures incurred each month from the declared income therefor. In this case the respondent properly explained that the income derived from the advances from customers were entered in his books of account in subsequent months.


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Issue: WON the deduction for car depreciation and driver’s expense is proper.

Held: Yes. In this case, the car was used by Jamir for both personal and business purposes, the lower court allowed, as deductions, three-fourths (3/4) of said amounts, the car having been used by Jamir "more for business than for personal purposes".

HOSPITAL DE SAN JUAN DE DIOS, INC. vs. COMMISSIONER OF INTERNAL REVENUE

Facts: Petitioner is engaged in both taxable and non-taxable operations. For the years 1952 to 1955, the petitioner allocated its administrative expenses. The respondent disallowed, however, the interests and dividends from sharing in the allocation of administrative expenses 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. Hence, were assessed for deficiency income taxes.

Issue: WON administrative expenses should be considered as a deduction/allocated to its interest and dividend income for income tax purposes.

Held: No. 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 Court of Tax Appeals 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."

FELIX MONTENEGRO, INC., petitioner, vs. COMMISSIONER OF INTERNAL REVENUE, respondent.

[C.T.A. CASE NO. 695. April 30, 1969.]

Facts: The CIR disallowed salaries of some of its officers, value of medicines, campaign contribution and miscellaneous expense as deduction for income tax purposes hence the petitioner was assessed for deficiency income taxes. The deduction of salaires was disallowed because the said officers are also stockholders of the corporation and that their salaries are excessive compared to those of officers of other corporation holding similar positions and doing the same volume of business.

Issue: WON the salaries and expenses should be allowed as a deduction.

Held: Yes. The general rule is that the employer is given a wide latitude of discretion in the amount of salaries paid to the employees. A corporation has the right to fix the compensation of its employees There is no comparative study of the profits of the two enterprises in relation to other concerns similarly situated. Neither is there any comparative study of the peculiar situation of the two enterprises in relation to other concerns, nor is there a comparison of the nature and volume of the work performed by the officers involved. Since no two business enterprises are exactly in the same situation, negligible differences in salaries cannot reasonably show that the salary is excessive or that profits are channeled to the stockholders thru salaries.

Issue: WON the value of medicines is a deductible loss

Held: No. Aside from self serving testimonial evidence, no other evidence was presented to substantiate this claim of petitioner. There is not even a list of the medicines, their value, and their expiry dates. The deductible as loss on the ground that the aforesaid medicines were no longer fit for sale as the dates of their efficacy have expired should be disallowed.

Issue: WON campaign contribution should be allowed as a deduction.

Held: No. Amount expended for political campaign purposes or payments to campaign funds are not deductible either as business expenses or as contribution


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COLLECTOR V. PHILIPPINE EDUCATION CO.

FACTS: Respondent lost all its pre-war books of accounts and records, with the exception of a copy of the trial balance sheet. It employed an accounting firm and paid it the sum of P 13, 045.48. to prepare and prove it’s war damage claim. In filing its income tax return respondent claimed said sum as deduction under section 30 of the NIRC. Petitioner disallowed the same and instead assessed additional P2,405.14 as deficiency income tax. CTA reversed upon appeal and declared respondent exempt from the deficiency income tax in question.

ISSUE: Whether or not the expense in question was ordinary and necessary and whether or not it was paid or incurred in carrying on respondent’s business.

HELD: Yes. The law does not say that the expense must be for or on account of transactions in one’s trade or business. Ordinarily an expense will be considered necessary where the expenditure is appropriate and helpful in the development of the taxpayer’s business. It is sufficient that the expense were incurred for purposes proper to the conduct of the corporate affairs or for the purpose of realizing a profit or of minimizing a loss. The fee in question was paid by the respondent to recover its lost assets occasioned by the war and thereby to be so rehabilitated as to be able to carry on its business.

Also, it should be noted that even if there is no law exempting the proceeds of war damage claims from taxes, the war damage compensation would still not be subject to tax, not being an income. Compensation for injury to capital is never income.

DOCTRINE: To carry on its business the taxpayer not only must have sufficient assets but must preserve the same and recover any that should be lost. The fee or expense paid to recover its lost assets occasioned by the war and thereby to be so rehabilitated as to be able to carry on its business is not required that it must be for or on account of transactions in one’s trade or business.

DEDUCTIONS AND EXEMPTIONS; ALLOWABLE DEDUCTIONS; INTEREST EXPENSE

CIR v. PALANCA

FACTS: Don Carlos Palanca, Sr. donated in favor of his son, the petitioner, herein shares of stock in La Tondeña, Inc. amounting to 12,500 shares. For failure to file a return on the donation within the statutory period, the petitioner was assessed the sums of P97,691.23, P24,442.81 and P47,868.70 as gift tax, 25% surcharge and interest, respectively, which he paid on June 22, 1955.

The petitioner filed with the BIR his income tax return for the calendar year 1955, claiming, among others, a deduction for interest amounting to P9,706.45 and reporting a taxable income of P65,982.12. On the basis of this return, he was assessed the sum of P21,052.91, as income tax, which he paid, as follows:

Petitioner filed an amended return for the calendar year 1955, claiming therein an additional deduction in the amount of P47,868.70 representing interest paid on the donee's gift tax, thereby reporting a taxable net income of P18,113.42 and a tax due thereon in the sum of P3,167.00. The claim for deduction was based on the provisions of Section 30(b) (1) of the Tax Code, which authorizes the deduction from gross income of interest paid within the taxable year on indebtedness. A claim for the refund of alleged overpaid income taxes for the year 1955 amounting to P17,885.01, which is the difference between the amount of P21,052.01 he paid as income taxes under his original return and of P3,167.00, was filed together with this amended return. BIR denied the claim.

On August 12, 1958, the petitioner once more filed an amended income tax return for the calendar year 1955, claiming, in addition to the interest deduction of P9,076.45 appearing in his original return, a deduction in the amount of P60,581.80, representing interest on the estate and inheritance taxes on the 12,500 shares of stock, thereby reporting a net taxable income for 1955 in the amount of P5,400.32 and an income tax due thereon in the sum of P428.00. Again this was denied. CTA reversed.

ISSUE/S: 1) Whether the amount paid by respondent Palanca for interest on his delinquent estate and inheritance tax is deductible from the gross income for that year under Section 30 (b) (1) of the Revenue Code; 2) Whether the claim for refund has prescribed.


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HELD: 1) Yes. While "taxes" and "debts" are distinguishable legal concepts, in certain cases as in the suit at bar, on account of their nature, the distinction becomes inconsequential. We do not see any element in this case which can justify a departure from or abandonment of the doctrine in the Prieto case. In both this and the said case, the taxpayer sought the allowance as deductible items from the gross income of the amounts paid by them as interests on delinquent tax liabilities. Of course, what was involved in the cited case was the donor's tax while the present suit pertains to interest paid on the estate and inheritance tax. This difference, however, submits no appreciable consequence to the rationale of this Court's previous determination that interests on taxes should be considered as interests on indebtedness within the meaning of Section 30(b) (1) of the Tax Code.

2) No. The 30-day period under Section 11 of Republic Act 1125 did not even commence to run in this incident. It should be recalled that while the herein petitioner originally assessed the respondent-claimant for alleged gift tax liabilities, the said assessment was subsequently abandoned and in its lieu, a new one was prepared and served on the respondent-taxpayer. In this new assessment, the petitioner charged the said respondent with an entirely new liability and for a substantially different amount from the first. While initially the petitioner assessed the respondent for donee's gift tax in the amount of P170,002.74, in the subsequent assessment the latter was asked to pay P191,591.62 for delinquent estate and inheritance tax. Considering that it is the interest paid on this latter-assessed estate and inheritance tax that respondent Palanca is claiming refund for, then the thirty-day period under the abovementioned section of Republic Act 1125 should be computed from the receipt of the final denial by the Bureau of Internal Revenue of the said claim.

In the second place, the claim at bar refers to the alleged overpayment by respondent Palanca of his 1955 income tax. Inasmuch as the said account was paid by him by installment, then the computation of the two-year prescriptive period, under Section 306 of the National Internal Revenue Code, should be from the date of the last installment.

DOCTRINE: While "taxes" and "debts" are distinguishable legal concepts, in certain cases as in the suit at bar, on account of their nature, the distinction becomes inconsequential.

CIR V VIUDA DE PRIETO

FACTS: Respondent conveyed by way of gifts to her four children, namely, Antonio, Benito, Carmen and Mauro, all surnamed Prieto, real property with a total assessed value of P892,497.50. After the filing of the gift tax returns on or about February 1, 1954, the petitioner CIR appraised the real property donated for gift tax purposes at P1,231,268.00, and assessed the total sum of P117,706.50 as donor's gift tax, interest and compromises due thereon. Of the total sum of P117,706.50 paid by respondent on April 29, 1954, the sum of P55,978.65 represents the total interest on account of deliquency. This sum of P55,978.65 was claimed as deduction, among others, by respondent in her 1954 income tax return. Petitioner, however, disallowed the claim and as a consequence of such disallowance assessed respondent for 1954 the total sum of P21,410.38 as deficiency income tax due on the aforesaid P55,978.65, including interest up to March 31, 1957, surcharge and compromise for the late payment.

Under the law, for interest to be deductible, it must be shown that there be an indebtedness, that there should be interest upon it, and that what is claimed as an interest deduction should have been paid or accrued within the year. It is here conceded that the interest paid by respondent was in consequence of the late payment of her donor's tax, and the same was paid within the year it is sought to be declared.

ISSUE/S: Whether or not such interest was paid upon an indebtedness within the contemplation of section 30 (b) (1) of the Tax Code.

HELD: Yes. The term "indebtedness" as used in the Tax Code of the United States containing similar provisions as in the above-quoted section has been defined as an unconditional and legally enforceable obligation for the payment of money.

Although taxes already due have not, strictly speaking, the same concept as debts, they are, however, obligations that may be considered as such. The term "debt" is properly used in a comprehensive sense as embracing not merely money due by contract but whatever one is bound to render to another, either for contract, or the requirement of the law.


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It follows that the interest paid by herein respondent for the late payment of her donor's tax is deductible from her gross income under section 30(b) of the Tax Code above quoted. This conclusion finds support in the established jurisprudence in the United States after whose laws our Income Tax Law has been patterned. Thus, under sec. 23(b) of the Internal Revenue Code of 1939, as amended , which contains similarly worded provisions as sec. 30(b) of our Tax Code, the uniform ruling is that interest on taxes is interest on indebtedness and is deductible.

DOCTRINE: The term "indebtedness" as used in the Tax Code of the United States containing similar provisions as in the above-quoted section has been defined as an unconditional and legally enforceable obligation for the payment of money.

PAPER INDUSTRIES V CA

FACTS: Petitioner is registered with the BOI as a preferred pioneer enterprise with respect to its integrated pulp and paper mill, and as a preferred non-pioneer enterprise with respect to its integrated plywood and veneer mills. It received from the CIR two (2) letters of assessment and demand (a) one for deficiency transaction tax and for documentary and science stamp tax; and (b) the other for deficiency income tax for 1977, for an aggregate amount of P88,763,255.00.

Picop protested the assessment of deficiency transaction tax and documentary and science stamp taxes. These protests were not formally acted upon by respondent CIR. On 26 September 1984, the CIR issued a warrant of distraint on personal property and a warrant of levy on real property against Picop, to enforce collection of the contested assessments; in effect, the CIR denied Picop's protests.

Thereupon, Picop went before the CTA. Picop and the CIR both went to the Supreme Court on separate Petitions for Review of the above decision of the CTA. In two (2) Resolutions dated 7 February 1990 and 19 February 1990, respectively, the Court referred the two (2) Petitions to the Court of Appeals. The Court of Appeals consolidated the two (2) cases and rendered a decision, dated 31 August 1992, which further reduced the liability of Picop to P6,338,354.70.

Picop now maintains that it is not liable at all to pay any of the assessments or any part thereof. It assails the propriety of the thirty-five percent (35%) deficiency transaction tax which the Court of Appeals held due from it in the amount of P3,578,543.51. Picop also questions the imposition by the Court of Appeals of the deficiency income tax of P1,481,579.15, resulting from disallowance of certain claimed financial guarantee expenses and claimed year-end adjustments of sales and cost of sales figures by Picop's external auditors. 3

The CIR, upon the other hand, insists that the Court of Appeals erred in finding Picop not liable for surcharge and interest on unpaid transaction tax and for documentary and science stamp taxes and in allowing Picop to claim as deductible expenses.

ISSUE/S: 1) Whether Picop is liable for the thirty-five percent (35%) transaction tax; 2) Whether Picop is liable for interest and surcharge on unpaid transaction tax; 3) Whether Picop is entitled to deduct against current income interest payments on loans for the purchase of machinery and equipment; 4) Whether Picop is entitled to deduct against current income net operating losses incurred by Rustan Pulp and Paper Mills, Inc; 5) Whether Picop is entitled to deduct against current income certain claimed financial guarantee expenses; 6) Whether Picop had understated its sales and overstated its cost of sales for 1977; 7) Whether Picop is liable for the corporate development tax of five percent (5%) of its income for 1977.

HELD: 1) We agree with the CTA and the Court of Appeals that Picop's tax exemption under R.A. No. 5186, as amended, does not include exemption from the thirty-five percent (35%) transaction tax. In the first place, the thirty-five percent (35%) transaction tax is an income tax, that is, it is a tax on the interest income of the lenders or creditors.

It is thus clear that the transaction tax is an income tax and as such, in any event, falls outside the scope of the tax exemption granted to registered pioneer enterprises by Section 8 of R.A. No. 5186, as amended.

2) Section 51 (c) and (e) of the 1977 Tax Code did not authorize the imposition of a surcharge and penalty interest for failure to pay the thirty-five percent (35%) transaction tax imposed under Section 210 (b) of the same Code. The corresponding provision in the current Tax Code very


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clearly embraces failure to pay all taxes imposed in the Tax Code, without any regard to the Title of the Code where provisions imposing particular taxes are textually located.

Tax exemptions are, to be sure, to be "strictly construed," that is, they are not to be extended beyond the ordinary and reasonable intendment of the language actually used by the legislative authority in granting the exemption. The issuance of debenture bonds is certainly conceptually distinct from pulping and paper manufacturing operations. But no one contends that issuance of bonds was a principal or regular business activity of Picop; only banks or other financial institutions are in the regular business of raising money by issuing bonds or other instruments to the general public.

3) We have already noted that our 1977 NIRC does not prohibit the deduction of interest on a loan incurred for acquiring machinery and equipment. Neither does our 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 demandable loan are deductible from gross income must be applied. 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.

4) After prolonged consideration and analysis of this matter, the Court is unable to agree with the CTA and Court of Appeals on the deductibility of RPPM's accumulated losses against Picop's 1977 gross income.

It is important to note at the outset that in our jurisdiction, the ordinary rule — that is, the rule applicable in respect of corporations not registered with the BOI as a preferred pioneer enterprise — is that net operating losses cannot be carried over. Under our Tax Code, both in 1977 and at present, losses may be deducted from gross income only if such losses were actually sustained in the same year that they are deducted or charged off.

Thus it is that R.A. No. 5186 introduced the carry-over of net operating losses as a very special incentive to be granted only to registered pioneer enterprises and only with respect to their registered operations. In the instant case, to allow the deduction claimed by Picop would be to

permit one corporation or enterprise, Picop, to benefit from the operating losses accumulated by another corporation or enterprise, RPPM. In effect, to grant Picop's claimed deduction would be to permit Picop to purchase a tax deduction and RPPM to peddle its accumulated operating losses. We consider and so hold that there is nothing in Section 7 (c) of R.A. No. 5186 which either requires or permits such a result. Indeed, that result makes non-sense of the legislative purpose which may be seen clearly to be projected by Section 7 (c), R.A. No. 5186.

We conclude that the deduction claimed by Picop in the amount of P44,196,106.00 in its 1977 Income Tax Return must be disallowed.

5) We must support the CTA and the Court of Appeals in their foregoing rulings. A taxpayer has the burden of proving entitlement to a claimed deduction. Even Picop's own vouchers were not submitted in evidence and the BIR Examiners denied that such vouchers and other documents had been exhibited to them. Moreover, cash vouchers can only confirm the fact of disbursement but not necessarily the purpose thereof.

6) The CIR has made out at least a prima facie case that Picop had understated its sales and overstated its cost of sales as set out in its Income Tax Return. For the CIR has a right to assume that Picop's Books of Accounts speak the truth in this case since, as already noted, they embody what must appear to be admissions against Picop's own interest.

7) The adjusted net income of Picop for 1977, as will be seen below, is P48,687,355.00. Its net worth figure or total stockholders' equity as reflected in its Audited Financial Statements for 1977 is P464,749,528.00. Since its adjusted net income for 1977 thus exceeded ten percent (10%) of its net worth, Picop must be held liable for the five percent (5%) corporate development tax in the amount of P2,434,367.75.

DOCTRINE: It is thus clear that the transaction tax is an income tax and as such, in any event, falls outside the scope of the tax exemption granted to registered pioneer enterprises by Section 8 of R.A. No. 5186, as amended.

CIR v. ITOGON-SUYOC MINES, INC.


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FACTS: Respondent Itogon-Suyoc Mines, Inc., the taxpayer involved, duly paid in full its liability according to its income tax return for the fiscal year 1960-61. Instead, it deducted right away the amount represented by claim for refund filed eight (8) months back, for the previous year's income tax, for which it was not liable at all, so it alleged, as it suffered a loss instead, a claim subsequently favorably acted on by petitioner Commissioner of Internal Revenue but after the date of such payment of the 1960-1961 tax. Accordingly, an interest in the amount of P1,512.83 was charged by petitioner Commissioner of Internal Revenue on the sum withheld on the ground that no deduction on such refund should be allowed before its approval. When the matter was taken up before the Court of Tax Appeals, the above assessment representing interest was set aside in the decision of September 30, 1965.

ISSUE/S: Whether CTA should not have absolved respondent corporation "from liability to pay the sum of P1,512.83 as 1% monthly interest for delinquency in the payment of income tax for the fiscal year 1960-1961."

HELD: No. It could not be error for the Court of Tax Appeals, considering the admitted fact of overpayment, entitling respondent to refund, to hold that petitioner should not repose an interest on the aforesaid sum of P13,155.20 "which after all was paid to and received by the government even before the incidence of the tax in question." It would be, according to the Court of Tax Appeals, "unfair and unjust" to do so. We agree but we go farther. The imposition of such an interest by petitioner is not supported by law.

The National Internal Revenue Code provides that interest upon the amount determined as a deficiency shall be assessed and shall be paid upon notice and demand from the Commissioner of Internal Revenue. There is no question respondent was entitled to a refund. Instead of waiting for the sum involved to be delivered to it, it deducted the said amount from the tax that it had to pay. That it had a right to do according to the law. It is true a doubt could have arisen due to the fact that as of the time such a deduction was made, the Commissioner of Internal Revenue had not as yet approved such a refund. It is an admitted fact though that respondent was clearly entitled to it, and petitioner did not allege otherwise. Nor could he do so. Under all the circumstances disclosed therefore, the applicability of the legal provision allowing such a deduction from the amount of the tax to be paid cannot be disputed.

DOCTRINE: It could not be error for the Court of Tax Appeals, considering the admitted fact of overpayment, entitling respondent to refund, to hold that petitioner should not repose an interest on the aforesaid sum of P13,155.20 "which after all was paid to and received by the government even before the incidence of the tax in question."

CASTRO v. COLLECTOR

Facts: This is an appeal from a decision of the Court of Tax Appeals (in its C.T.A. Case 141) holding petitioner Maria B. Castro liable under the War Profits Tax Law, Republic Act No. 55, and ordering her to pay a deficiency war profits tax (including surcharges and interest) in the amount of P1,360,514.66, and costs. Castro was previously acquitted in the criminal case instituted against her for violation of the War Profits Tax Law.

Issue: WON the acquittal is a bar to the collection of the taxes assessed, and specially of the 50% surcharge

Held: NO. With regard to the tax proper, the state correctly points out in its brief that the acquittal in the criminal case could not operate to discharge petitioner from the duty to pay the tax, since that duty is imposed by statute prior to and independently of any attempts on the part of the taxpayer to evade payment. The obligation to pay the tax is not a mere consequence of the felonious acts charged in the information, nor is it a mere civil liability derived from crime that would be wiped out by the judicial declaration that the criminal acts charged did not exist.

As to the 50% surcharge, the very United States Supreme Court that rendered the Coffey decision has subsequently pointed out that additions of this kind to the main tax are not penalties but civil administrative sanctions, provided primarily as a safeguard for the protection of the state revenue and to reimburse the government for the heavy expense of investigation and the loss resulting from the taxpayer's fraud (Helvering vs. Mitchell, 303 U.S. 390, 82 L. Ed. 917; Spies vs. U.S. 317 U.S. 492). This is made plain by the fact that such surcharges are enforceable, like the primary tax itself, by distraint or civil suit, and that they are provided in a section of R.A. No. 55 (section 5) that is separate and distinct from that providing for criminal prosecution (section 7). We conclude that the


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defense of jeopardy and estoppel by reason of the petitioner's acquittal is untenable and without merit. Whether or not there was fraud committed by the taxpayer justifying the imposition of the surcharge is an issue of fact to be inferred from the evidence and surrounding circumstances; and the finding of its existence by the Tax Court is conclusive upon us. (Gutierrez v. Collector, G.R. No. L-9771, May 31, 1951 ; Perez vs. Collector, supra).

COLLECTOR v. FISHER

Facts: This case relates to the determination and settlement of the hereditary estate left by the deceased Walter G. Stevenson, and the laws applicable thereto. Walter G. Stevenson (born in the Philippines on August 9, 1874 of British parents and married in the City of Manila on January 23, 1909 to Beatrice Mauricia Stevenson another British subject) died on February 22, 1951 in San Francisco, California, U.S.A. whereto he and his wife moved and established their permanent residence since May 10, 1945. In his will executed in San Francisco on May 22, 1947, and which was duly probated in the Superior Court of California on April 11, 1951, Stevenson instituted his wife Beatrice as his sole heiress to the following real and personal properties acquired by the spouses while residing in the Philippines.

Issue: 1. Whether or not the estate is entitled to the following deductions: P8,604.39 for judicial and administration expenses; P2,086.52 for funeral expenses; P652.50 for real estate taxes; and P10,0,22.47 representing the amount of indebtedness allegedly incurred by the decedent during his lifetime

2. Whether or not the estate is entitled to the payment of interest on the amount it claims to have overpaid the government and to be refundable to it.

Held: 1. YES. An examination of the record discloses, however, that the foregoing items were considered deductible by the Tax Court on the basis of their approval by the probate court to which said expenses, we may presume, had also been presented for consideration. It is to be supposed that the probate court would not have approved said items were they not supported by evidence presented by the estate. In allowing the items in question, the Tax Court had before it the pertinent order of the probate court which was submitted in evidence by respondents.

(Exh. "AA-2", p. 100, record). As the Tax Court said, it found no basis for departing from the findings of the probate court, as it must have been satisfied that those expenses were actually incurred. Under the circumstances, we see no ground to reverse this finding of fact which, under Republic Act of California National Association, which it would appear, that while still living, Walter G. Stevenson obtained we are not inclined to pass upon the claim of respondents in respect to the additional amount of P86.52 for funeral expenses which was disapproved by the court a quo for lack of evidence.

In connection with the deduction of P652.50 representing the amount of realty taxes paid in 1951 on the decedent's two parcels of land in Baguio City, which respondents claim was disallowed by the Tax Court, we find that this claim has in fact been allowed.

2. NO. Respondent's claim for interest on the amount allegedly overpaid, if any actually results after a recomputation on the basis of this decision is hereby denied in line with our recent decision in Collector of Internal Revenue v. St. Paul's Hospital (G.R. No. L-12127, May 29, 1959) wherein we held that, "in the absence of a statutory provision clearly or expressly directing or authorizing such payment, and none has been cited by respondents, the National Government cannot be required to pay interest."

DEDUCTIONS AND EXMEPTIONS; ALLOWABLE DEDUCTIONS; TAXES

CIR v. LEDNICKY

Facts: V. E. Lednicky and Maria Valero Lednicky, are husband and wife, both American citizens residing in the Philippines, and have derived all their income from Philippine sources for the taxable years under question. [GR L-18286] In compliance with local law, the spouses, on 27 March 1957, filed their income tax return for 1956, reporting therein a gross income of P1,017,287.65 and a net income of P733,809.44 on which the amount of P317,395.41 was assessed after deducting P4,805.59 as withholding tax. Pursuant to the Commissioner of Internal Revenue’s assessment notice, the spouses paid the total amount of P326,247.41, inclusive of the withheld taxes, on 15 April 1957. On 17 March 1959, the spouses filed an amended income tax return for 1956. The amendment consists in a claimed deduction of P205,939.24 paid in


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1956 to the US government as federal income tax for 1956. Simultaneously with the filing of the amended return, the spouses requested the refund of P112,437.90. When the Commissioner of Internal Revenue failed to answer the claim for refund, the spouses filed their petition with the tax court on 11 April 1959 as CTA Case 646. [GR L-18165] On 28 February 1956, the spouses filed their domestic income tax return for 1955, reporting a gross income of P1,771,124.63 and a net income of P1,052,550.67. On 19 April 1956, they filed an amended income tax return, the amendment upon the original being a lesser net income of P1,012,554.51, and, on the basis of this amended return, they paid P570,252.00, inclusive of withholding taxes. After audit, the Commissioner determined a deficiency of P16,116.00, which amount the spouses paid on 5 December 1956.

Back in 1955, however, the spouses filed with the US Internal Revenue Agent in Manila their Federal income tax return for the years 1947, 1951, 1952, 1953 and 1954 on income from Philippine sources on a cash basis. Payment of these federal income taxes, including penalties and delinquency interest in the amount of $264,588.82, were made in 1955 to the US Director of Internal Revenue, Baltimore, Maryland, through the National City Bank of New York, Manila Branch. Exchange and bank charges in remitting payment totaled P4,143.91. On 11 August 1958 the said respondents amended their Philippines income tax return for 1955 to including US Federal income taxes, interest accruing up to 15 May 1955, and exchange and bank charges, totaling P516,345.15 and therewith filed a claim for refund of the sum of P166,384.00, which was later reduced to P150,269.00. The spouses brought suit in the Tax Court, which was docketed therein as CTA Case 570. [GR 21434] The facts are similar to above cases but refer to the spouses’ income tax returns for 1957, filed on 28 February 1958, and for which the spouses paid a total sum of P196,799.65. In 1959, they filed an amended return for 1957, claiming deduction of P190,755.80, representing taxes paid to the US Government on income derived wholly from Philippine sources. On the strength thereof, spouses seek refund of P90,520.75 as overpayment (CTA Case 783). The Tax Court decided for the spouses.

Issue: WON there should be a refund for the spouses

Held: NO. The Supreme Court reversed the decisions of the Court of Tax Appeals, and affirmed the disallowance of the refunds claimed by the spouses, with costs against said spouses.

1. Section 30 (c-1) of the Philippine Internal Revenue Code Section 30 (c) (1) (Deduction from gross income) provides that “in computing net income there shall be allowed as deductions: (c) Taxes: (1) In general. — Taxes paid or accrued within the taxable year, except (A) The income tax provided for under this Title; (B) Income, war-profits, and excess profits taxes imposed by the authority of any foreign country; but this deduction shall be allowed in the case of a taxpayer who does not signify in his return his desire to have to any extent the benefits of paragraph (3) of this subsection (relating to credit for taxes of foreign countries); (C) Estate, inheritance and gift taxes; and (D) Taxes assessed against local benefits of a kind tending to increase the value of the property assessed.”

2. Paragraph (c) (3) (b) of the Tax Code; Credits against tax for taxes of foreign countries Paragraph 3 (B) of the subsection (Credits against tax for taxes of foreign countries), reads: “If the taxpayer signifies in his return his desire to have the benefits of this paragraph, the tax imposed by this Title shall be credited with (B) Alien resident of the Philippines. — In the case of an alien resident of the Philippines, the amount of any such taxes paid or accrued during the taxable year to any foreign country, if the foreign country of which such alien resident is a citizen or subject, in imposing such taxes, allows a similar credit to citizens of the Philippines residing in such country;”

3. Paragraph (c) (4) of the Tax Code; Limitation on credit The tax credit so authorized is limited under paragraph 4 (A and B) of the same subsection, in the following terms: “Par. (c) (4) Limitation on credit. — The amount of the credit taken under this section shall be subject to each of the following limitations: (A) The amount of the credit in respect to the tax paid or accrued to any country shall not exceed the same proportion of the tax against which such credit is taken, which the taxpayer’s net income from sources within such country taxable under this Title bears to his entire net income for the same taxable year; and (B) The total amount of the credit shall not exceed the same proportion of the tax against which such credit is taken, which the taxpayer’s net income from sources without the Philippines taxable under this Title bears to his entire net income for the same taxable year.”

4. Law’s intent that right to deduct income taxes paid to foreign government taken as an alternative or substitute to claim of tax


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credit for such foreign income tax Construction and wording of Section 30 (c) (1) (B) of the Internal Revenue Act shows the law’s intent that the right to deduct income taxes paid to foreign government from the taxpayer’s gross income is given only as an alternative or substitute to his right to claim a tax credit for such foreign income taxes under section 30 (c) (3) and (4); so that unless the alien resident has a right to claim such tax credit if he so chooses, he is precluded from deducting the foreign income taxes from his gross income. For it is obvious that in prescribing that such deduction shall be allowed in the case of a taxpayer who does not signify in his return his desire to have to any extent the benefits of paragraph (3) (relating to credits for taxes paid to foreign countries), the statute assumes that the taxpayer in question also may signify his desire, to claim a tax credit and waive the deduction; otherwise, the foreign taxes would always be deductible, and their mention in the list of non-deductible items in Section 30 (c) might as well have been omitted, or at least expressly limited to taxes on income from sources outside the Philippine Islands. Had the law intended that foreign income taxes could be deducted from gross income in any event, regardless of the taxpayer’s right to claim a tax credit, it is the latter right that should be conditioned upon the taxpayer’s waiving the deduction; in which case the right to reduction under subsection (c-1-B) would have been made absolute or unconditional (by omitting foreign taxes from the enumeration of non- deductions), while the right to a tax credit under subsection (c-3) would have been expressly conditioned upon the taxpayer’s not claiming any deduction under subsection (c-1).

5. Danger of double credit does not exist if taxpayer cannot claim benefit from either headings at his option The purpose of the law is to prevent the taxpayer from claiming twice the benefits of his payment of foreign taxes, by deduction from gross income (subs. c-1) and by tax credit (subs. c-3). This danger of double credit certainly can not exist if the taxpayer can not claim benefit under either of these headings at his option, so that he must be entitled to a tax credit (the spouses admittedly are not so entitled because all their income is derived from Philippine sources), or the option to deduct from gross income disappears altogether.

6. When double taxation; Tax income should accrue to benefit of the Philippines Double taxation becomes obnoxious only where the taxpayer is taxed

twice for the benefit of the same governmental entity (cf. Manila vs. Interisland Gas Service, 52 Off. Gaz. 6579, Manuf. Life Ins. Co. vs. Meer, 89 Phil. 357). In the present case, while the taxpayers would have to pay two taxes on the same income, the Philippine government only receives the proceeds of one tax. As between the Philippines, where the income was earned and where the taxpayer is domiciled, and the United States, where that income was not earned and where the taxpayer did not reside, it is indisputable that justice and equity demand that the tax on the income should accrue to the benefit of the Philippines. Any relief from the alleged double taxation should come from the United States, and not from the Philippines, since the former’s right to burden the taxpayer is solely predicated on his citizenship, without contributing to the production of the wealth that is being taxed.

To allow an alien resident to deduct from his gross income whatever taxes he pays to his own government amounts to conferring on the latter power to reduce the tax income of the Philippine government simply by increasing the tax rates on the alien resident. Everytime the rate of taxation imposed upon an alien resident is increased by his own government, his deduction from Philippine taxes would correspondingly increase, and the proceeds for the Philippines diminished, thereby subordinating our own taxes to those levied by a foreign government. Such a result is incompatible with the status of the Philippines as an independent and sovereign state.

GUTIERREZ v. COLLECTOR

Facts: Maria Morales was the registered owner of an agricultural land designated as Lot No. 724-C of the cadastral survey of Mabalacat, Pampanga. The Republic of the Philippines, at the request of the U.S. Government and pursuant to the terms of the Military Bases Agreement of March 14, 1947, instituted condemnation proceedings in the Court of the First Instance of Pampanga, docketed, as Civil Case No. 148, for the purpose of expropriating the lands owned by Maria Morales and others needed for the expansion of the Clark Field Air Base. t the commencement of the action, the Republic of the Philippines, therein plaintiff deposited with the Clerk of the Court of First Instance of Pampanga the sum of P156,960, which was provisionally fixed as the value of the lands sought to be expropriated, in order that it could take immediate possession of the same.


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On January 27, 1949, upon order of the Court, the sum of P34,580 (PNB Check 721520-Exh. R) was paid by the Provincial treasurer of Pampanga to Maria Morales out of the original deposit of P156,960 made by therein plaintiff. After due hearing, the Court of First Instance of Pampanga rendered decision dated November 29, 1949, wherein it fixed as just compensation P2,500 per hectare for some of the lots and P3,000 per hectare for the others, which values were based on the reports of the Commission on Appraisal whose members were chosen by both parties and by the Court, which took into consideration the different conditions affecting, the value of the condemned properties in making their findings.

In virtue of said decision, defendant Maria Morales was to receive the amount of P94,305.75 as compensation for Lot No. 724-C which was one of the expropriated lands. Sometime in 1950, the spouses Blas Gutierrez and Maria Morales received the sum of P59.785.75 presenting the balance remaining in their favor after deducting the amount of P34,580 already withdrawn from the compensation to them.

In a notice of assessment dated January 28, 1953, the Collector of Internal Revenue demanded of the petitioners the payment of P8,481 as alleged deficiency income tax for the year 1950, inclusive of surcharges and penalties. The CIR contended that petitioners-appellants failed to include from their gross income, in filing their income tax return for 1950, the amount of P94,305.75 which they had received as compensation for their land taken by the Government by expropriation proceedings. It is the contention of respondent Collector of Internal Revenue that such transfer of property, for taxation purposes, is "sale" and that the income derived therefrom is taxable.

The lower court exonerated petitioners from the 50 per cent surcharge imposed on the latter, on the ground that the taxpayers' income tax return for 1950 is false and/or fraudulent.

Issue: WON petitioners should pay surcharge

Held: NO. It should be noted that the Court of Tax Appeals found that the evidence did not warrant the imposition of said surcharge because the petitioners therein acted in good faith and without intent to defraud the Government.

The question of fraud is a question of fact which frequently requires a nicely balanced judgement to answer. All the facts and circumstances surrounding the conduct of the tax payer's business and all the facts incident to the preparation of the alleged fraudulent return should be considered. (Mertens, Federal Income Taxation, Chapter 55).

The question of fraud being a question of fact and the lower court having made the finding that "the evidence of this case does not warrant the imposition of the 50 per cent surcharge", We are constrained to refrain from giving any consideration to the question raised by the Solicitor General, for it is already settled in this jurisdiction that in passing upon petitions to review decisions of the Court of Tax Appeals, We have to confine ourselves to questions of law.

DEDUCTIONS AND EXEMPTIONS; ALLOWABLE DEDUCTIONS; LOSSES

FERNANDEZ HERMANOS v. CIR Facts: These four appeals involve two decisions of the Court of Tax Appeals determining the taxpayer's income tax liability for the years 1950 to 1954 and for the year 1957. Both the taxpayer and the Commissioner of Internal Revenue, as petitioner and respondent in the cases a quo respectively, appealed from the Tax Court's decisions, insofar as their respective contentions on particular tax items were therein resolved against them. Issue: Proper/Improper Allowances/Disallowances of Losses Held: Re allowances/disallowances of losses.

(a) Allowance of losses in Mati Lumber Co. (1950). — The Commissioner of Internal Revenue questions the Tax Court's allowance of the taxpayer's writing off as worthless securities in its 1950 return the sum of P8,050.00 representing the cost of shares of stock of Mati Lumber Co. acquired by the taxpayer on January 1, 1948, on the ground that the worthlessness of said stock in the year 1950 had not been clearly established. The Commissioner contends that although the said Company was no longer in operation in 1950, it still had its sawmill and equipment which must be of considerable value. There was adequate


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basis for the writing off of the stock as worthless securities. Assuming that the Company would later somehow realize some proceeds from its sawmill and equipment, which were still existing as claimed by the Commissioner, and that such proceeds would later be distributed to its stockholders such as the taxpayer, the amount so received by the taxpayer would then properly be reportable as income of the taxpayer in the year it is received.

(b) Disallowance of losses in or bad debts of Palawan Manganese Mines, Inc. (1951). — The taxpayer appeals from the Tax Court's disallowance of its writing off in 1951 as a loss or bad debt the sum of P353,134.25, which it had advanced or loaned to Palawan Manganese Mines, Inc.

Pursuant to the agreement mentioned above, petitioner gave to Palawan Manganese Mines, Inc. yearly advances starting from 1945, which advances amounted to P587,308.07 by the end of 1951. Despite these advances and the resumption of operations by Palawan Manganese Mines, Inc., it continued to suffer losses. By 1951, petitioner became convinced that those advances could no longer be recovered. While it continued to give advances, it decided to write off as worthless the sum of P353,134.25. Under the circumstances, was the sum of P353,134.25 properly claimed by petitioner as deduction in its income tax return for 1951, either as losses or bad debts?

It will be noted that in giving advances to Palawan Manganese Mine Inc., petitioner did not expect to be repaid. It is true that some testimonial evidence was presented to show that there was some agreement that the advances would be repaid, but no documentary evidence was presented to this effect. The memorandum agreement signed by the parties appears to be very clear that the consideration for the advances made by petitioner was 15% of the net profits of Palawan Manganese Mines, Inc. In other words, if there were no earnings or profits, there was no obligation to repay those advances. It has been held that the voluntary advances made without expectation of repayment do not result in deductible losses.

The Tax Court's disallowance of the write-off was proper. The Solicitor General has rightly pointed out that the taxpayer has taken an "ambiguous position " and "has not definitely taken a stand on whether the amount involved is claimed as losses or as bad debts but insists that

it is either a loss or a bad debt." 4 We sustain the government's position that the advances made by the taxpayer to its 100% subsidiary, Palawan Manganese Mines, Inc. amounting to P587,308,07 as of 1951 were investments and not loans. 5

(c) Disallowance of losses in Balamban Coal Mines (1950 and 1951). — The Court sustains the Tax Court's disallowance of the sums of P8,989.76 and P27,732.66 spent by the taxpayer for the operation of its Balamban coal mines in Cebu in 1950 and 1951, respectively, and claimed as losses in the taxpayer's returns for said years. The Tax Court correctly held that the losses "are deductible in 1952, when the mines were abandoned, and not in 1950 and 1951, when they were still in operation." 9 The taxpayer's claim that these expeditions should be allowed as losses for the corresponding years that they were incurred, because it made no sales of coal during said years, since the promised road or outlet through which the coal could be transported from the mines to the provincial road was not constructed, cannot be sustained. Some definite event must fix the time when the loss is sustained, and here it was the event of actual abandonment of the mines in 1952.

(d) and (e) Allowance of losses in Hacienda Dalupiri (1950 to 1954) and Hacienda Samal (1951-1952). — The Tax Court overruled the Commissioner's disallowance of these items of losses thus:

Petitioner deducted losses in the operation of its Hacienda Dalupiri the sums of P17,418.95 in 1950, P29,125.82 in 1951, P26,744.81 in 1952, P21,932.62 in 1953, and P42,938.56 in 1954. These deductions were disallowed by respondent on the ground that the farm was operated solely for pleasure or as a hobby and not for profit. This conclusion is based on the fact that the farm was operated continuously at a loss.1awphîl.nèt

From the evidence, we are convinced that the Hacienda Dalupiri was operated by petitioner for business and not pleasure. It was mainly a cattle farm, although a few race horses were also raised. It does not appear that the farm was used by petitioner for entertainment, social activities, or other non-business purposes. Therefore, it is entitled to deduct expenses and losses in connection with the operation of said farm. (See 1955 PH Fed. Taxes, Par. 13, 63, citing G.C.M. 21103, CB 1939-1, p.164)


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Section 100 of Revenue Regulations No. 2, otherwise known as the Income Tax Regulations, authorizes farmers to determine their gross income on the basis of inventories. Said regulations provide:

"If gross income is ascertained by inventories, no deduction can be made for livestock or products lost during the year, whether purchased for resale, produced on the farm, as such losses will be reflected in the inventory by reducing the amount of livestock or products on hand at the close of the year."

Evidently, petitioner determined its income or losses in the operation of said farm on the basis of inventories. We quote from the memorandum of counsel for petitioner:

"The Taxpayer deducted from its income tax returns for the years from 1950 to 1954 inclusive, the corresponding yearly losses sustained in the operation of Hacienda Dalupiri, which losses represent the excess of its yearly expenditures over the receipts; that is, the losses represent the difference between the sales of livestock and the actual cash disbursements or expenses." (Pages 21-22, Memorandum for Petitioner.)

As the Hacienda Dalupiri was operated by petitioner for business and since it sustained losses in its operation, which losses were determined by means of inventories authorized under Section 100 of Revenue Regulations No. 2, it was error for respondent to have disallowed the deduction of said losses. The same is true with respect to loss sustained in the operation of the Hacienda Samal for the years 1951 and 1952. 10

The Commissioner questions that the losses sustained by the taxpayer were properly based on the inventory method of accounting. He concedes, however, "that the regulations referred to does not specify how the inventories are to be made. The Tax Court, however, felt satisfied with the evidence presented by the taxpayer ... which merely consisted of an alleged physical count of the number of the livestock in Hacienda Dalupiri for the years involved." 11 The Tax Court was satisfied with the method adopted by the taxpayer as a farmer breeding livestock,

reporting on the basis of receipts and disbursements. We find no Compelling reason to disturb its findings.

PLARIDEL SURETY v. CIR Facts: Petitioner Plaridel Surety & Insurance Co., is a domestic corporation engaged in the bonding business. On November 9, 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 favor1 while Ramon Cuervo executed a real estate mortgage.2

San Jose later failed to deliver the logs to Galang Machinery3 and the latter sued on the performance bond. On October 1, 1952, the Court of First Instance adjudged San Jose and petitioner liable; it also directed San Jose and Cuervo to reimburse petitioner for whatever amount it would pay Galang Machinery. The Court of Appeals, on June 17, 1955, affirmed the judgment of the lower court. The same judgment was likewise affirmed by this Court4 on January 11, 1957 except for a slight modification apropos the award of attorney's fees.

In its income tax return for the year 1957, petitioner claimed the said amount of P44,490.00 as deductible loss from its gross income and, accordingly, paid the amount of P136.00 as its income tax for 1957.

The Commissioner of Internal Revenue 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. Whereupon, appeal was taken to the Tax Court, petitioner insisting that the P44,490.00 which it paid to Galang Machinery was a deductible loss.


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Issue: WON the amount Plaridel paid to Galang Machinery is a deductible loss

Held: NO. 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 can not be claimed in 1957.

Now, petitioner's submission is that its case is an exception. Citing Cu Unjieng Sons, Inc. v. Board of Tax Appeals,6 and American cases also, petitioner argues that even if there is a right to compensation by insurance or otherwise, the deduction can be taken in the year of actual loss where the possibility of recovery is remote. 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.7 And the American cases cited8 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.9 In other words, as the Tax Court put it, the taxpayer (petitioner) must exhaust his remedies first to recover or reduce his loss.

But assuming that there was no reasonable expectation of recovery, still no loss deduction can be had. Sec. 30 (d) (2) of the Tax Code requires a charge-off as one of the conditions for loss deduction:

In the case of a corporation, all losses actually sustained and charged-off within the taxable year and not compensated for by insurance or otherwise. (Emphasis supplied)

Mertens12 states only four (4) requisites because the United States Internal Revenue Code of 193913 has no charge-off requirement. Sec. 23(f) thereof provides merely:

In the case of a corporation, losses sustained during the taxable year and not compensated for by insurance or otherwise.

Petitioner, who had the burden of proof14 failed to adduce evidence that there was a charge-off in connection with the P44,490.00—or P30,600.00 — which it paid to Galang Machinery.

CHINA BANKING CORPORATION V COURT OF APPEALS

Facts: Petitioners mad a 53% equity investment in First CBC Capital (Asia) Limited to the amount of P16,227,851.80 consisting of 106,000 shares with par value of P100 per share. Subsequently, First CBC was found to be insolvent. Petitioners, with the approval of the BSP, wrote off as worthless its investment in the company and treated it as a bad debt or ordinary loss deductible from its gross income. The Commissioner of Internal Revenue disallowed the deduction saying that the investment could not be considered "worthless" since First CBC could still exercise its financing and investment activities even if it was no longer licensed as a depository. Even assuming that the securities had become worthless, it still cannot be considered as a "bad debt" or expense since there is no indebtedness between petitioner and First CBC. It should be classified as a "capital loss."

Held: The SC found in favor of respondents. 1. Not and indebtedness. An equity investment in shares of stock cannot be considered as an indebtedness of First CBC Capital to China Bank. The former has no obligation to repay the latter the amount invested. The amount China Bank invested in First CBC is, in fact, an asset. 2. Capital asset, not ordinary. Capital assets are defined in the negative by Sec 33(1) of the NIRC as property held by the TP exclusive of items primarily for the sale to customers in the ordinary course of business, or property used in trade or business. Hence, securities, such as equity holdings, are ordinary assets only in the hands of a dealer, or a person actively engaged in trading in the same for his own account.


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3. Section 29(d)(4)(B) of the NIRC treats the worthlessness of the securities held as capital assets as a loss resulting from the sale or exchange of capital assets. Strictly speaking, no sale occurs when securities held as capital assets become worthless. Nonetheless, the law treats it as a loss from a sale just the same. 4. Section 33 of the NIRC provides that the capital loss sustained can only be deducted from any capital gain derived within the taxable year. The same provision enumerates assets which are not subject to the said limitation but equity holdings are not one of them.

THE CITY LUMBER, INC V DOMINGO

Facts: Respondent Domingo made an assessment on an additional income of petitioners in the amount of P16, 678.63 coming from: 1. the sale of plywood, kegs of nails, and GI sheets amouting to P 7,902.07, 2. a cash credit balance of P7,896.80 Petitioner assails the validity of the assessment alleging that the inventory in question was not sold but were lost to looters during a fire which occurred in the city. To this end, petitioner presented the testimony of the Chief of Police of Dumaguete City affirming the occurrence of the fire. Also, the petitioner claimed that the cash credit balance appearing in their books was actually a loan secured by petitioners.

HELD:The assessments were valid. 1. The alleged loss of the plywood and kegs of nails was never reported in the books of the petitioner nor in the petitioner's ITR for that year. Such conduct of the petitioner proves that such loss never occurred. 2. Similarly, there was neither any record in petitioner's books nor any receipt or other piece of evidence to show receipt of the supposed loan. MARCELO STEEL CROP V COLLECTOR OF INTERNAL REVENUE

Facts: RA 35 granted a four-year tax exemption from all internal revenue taxes to enterprises, directly payable by such enterprise or person, which shall engage in new and necessary industries.

Petitioner corporation was engaged in: 1. the manufacture of wire fences; 2. the manufacture of steel nails; 3. the manufacture of steel bars, rods, and other allied products of which the last two were covered by RA 35 In 1953 and 1954, petitioner filed its ITR showing a net income of P34,386.58 and P58,329.00, respectively, derived solely from its wire fence manufacturing business. It was accordingly assessed P12,750 in taxes which it paid. Subsequently, it filed an amended ITR for the same taxable years showing that it actually incurred a loss of P871,407.37 and P104,956.29, respectively. The losses were arrived at by consolidating the gross income and the gross allowable deductions of its three industries. Petitioner thus filed for a refund of the P12,750 it initially paid in taxes on the theory that since it is a corporation organized with a single capital to answer for all its financial obligations, the gross income from both tax-exempt and non-exempt industries and its liability should be based on the difference between its consolidated gross income and its consolidated allowable deductions.

Held: Petition has no merit; Marcelo Steel cannot consolidate. 1. The purpose of RA 35 is to encourage the establishment of new and necessary industries for the economic growth of the country. In effect, i grants a subsidy to entrepreneurs who blaze a trail in a new industry since there are greater risks involved in the same and an ROI is usually not immediately forthcoming. As such, a tax exemption granted to an entrepreneur engaged in a tax-exempt industry cannot be extended to benefit non-exempt industries in which the same entrepreneur is concurrently engaged. The justification is simply not there since such industries are, presumably, already deriving profits from its operations. 2. Single capital - The fact that all three industries are organized under a single capital is of no moment. It is clear that the law intended that tax-exempt and non-exempt industries be treated separately as reflected in EO 341, series 0f 1950, which was incorporated in RA 901, a later incarnation of the same law. PHILIPPINE SUGAR ESTATE CORP V COLLECTOR OF INTERNAL REVENUE

Facts: Petitioner owned shares of stock in several different companies and 154 liberty bonds at par value of P100 each. It received certain sums from said corporation representing dividends on its shares of stock as


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well as interst on the said liberty bonds. Petitioner filed its ITR inclusive of the sums above-stated for which it was assessed an amount in taxes. It paid said amount without protest. Subsequently, petitioner filed a demand for refund. In the letter-demand, the ground for the refund invoked was the illegality o the collection since the dividends and interest were exempt from payment of income tax. Although in the present petition, the ground invoked is that the income tax on dividends had already been paid at the source. Respondent denied the claim for refund because plaintiff failed to lodge a protest concurrently when it paid its tax liability as per Sec 1579 of the Revised Administrative Code, as amended by Act No. 3685. Plaintiff countered by saying that the applicable law is Act No. 2833 which requires no protest. In addition, it invoked the ruling in Fox v Edwards wherein it was ruled that any unduly paid income tax may be refunded without the necessity of a protest.

Held: The SC found in favor of the Collector. 1.Controlling law - There is no need to distinguish between the two laws in this case. Section 19 of Act 2833 provides that "all administrative, special, and general provisions of law, including laws in relation to the assessment, remission, collection, and refund of internal revenue taxes not hereto fore repealed and not inconsistent with...this Law are...applicable...to this Law." By virtue of this saving clause, Section 1579 of the Revised Administrative Code finds application to Act 2833. 2. Fox v Edwards is not controlling since the law specifically applied therein did not require the lodging of a protest concurrently with the payment for a TP to retain such right to protest. (NOTE fr digester: I did not find anything on losses or bad debts in this case. I may have overlooked it.)

DEDUCTIONS AND EXEPTIONS; ALLOWABLE DEDUCTIONS; BAD DEBTS

PHILIPPINE REFINING COMPANY V COURT OF APPEALS

Facts: In 1985, petitioner filed its ITR where it claimed 16 items amounting to P713,070.93 as bad debts and therefor deductible. Subsequently, the Commissioner for Internal Revenue disallowed such deductions and assessed petitioner to pay a deficiency tax for the year of

1985. Petitioner paid the deficiency tax under protest which the Commissioner denied.

Upon a petition for review, the CTA modified the findings of the Commissioner by reducing the deficiency tax assessment on the basis that three of the sixteen supposed bad debts could be allowed as deductions. The CA later on agreed with the CTA.

Held: The SC upheld the ruling of the CA which it found to be in accordance with the SC's ruling in Collector v Goodrich. It held the petitioner failed to substantiate the “worthlessness” of the 13 debts which it claimed as deductions.

As per the ruling in Collector v Goodrich, to qualify as a bad debt, a TP must show: 1. that there is a valid and subsisting debt; 2. that the debt must be actually ascertained to be worthless and uncollectible durring the taxable year; 3. the debt must be charged off during the taxable year; and 4. the debt must arise from the business or trade of the TP.

In addition, the Court said, before a debt can be considered worthless, the TP must also show that it is indeed uncollectible even in the future.

Furthermore, the TP must undertake several steps to prove that he exerted diligent efforts to collect the debt: 1. sending statements of accounts to the debtors; 2. sending of collection letters; 3. giving the account to a lawyer for collection; and 4. filing a collection case in court.

In the case at bar, the petitioner miserably failed to show any of the foregoing. The only piece of evidence it offered to show the worthlessness of the debts was the testimony of the company's financial adviser or accountant. The Court found that this lacked the required probity to establish that the accounts it claimed as bad debts were indeed worthless. Apart from such testimony, the petitioner failed to introduce even a single iota of evidence to bolster its claim of worthlessness.

(NOTE: In the rest of the case, the Court presents the allegation of the petitioner as to why it could not collect on any of the 13 debts followed by


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a statement how the petitioner failed to introduce evidence to substantiate such allegation.)

Collector of Internal Revenue v Goodrich International Rubber Co. (21 SCRA 1336; No. L-22265)

Facts: In 1951 and 1952, respondent Goodrich filed it ITR in which it claimed an aggregate amount (consisting of 18 individual accounts) of P50,455.41 as deductible for being bad debts. The Collector of Internal Revenue disallowed the deductions and accordingly assessed Goodrich accordingly.

Goodrich protested the assessment and subsequently filed an appeal with the CTA which allowed the deductions for bad debts. Hence, this appeal by the Government.

Held: Petition is partially meritorious. Some of the items claimed by Goodrich can rightfully be written off as bad debts.

The SC rejected the claim for deduction of 10 items because Goodrich failed to establish that that the debts were actually worthless or that it had reasonable grounds to believe them to be so in 1951. The law permits the deduction of debts “actually ascertained to be worthless within the taxable year,” obviously to prevent arbitrary action by the TP to unduly avoid tax liability.

Good faith on the part of the TP is not enough. He must furthermore show that he had reasonably investigated the relevant facts and had drawn a reasonable inference from the information thus obtained by him. At any rate, respondent failed to prove that the debts were indeed worthless and that the debtors had no ability to pay them. On the contrary, of these 10 accounts some payments were actually made (some in full) after they had been characterized as bad debts and written off.

The Court however ruled that 8 of the 18 claimed bad debts can be allowed as deductions. Common among these 8 was the action of Goodrich in persistently demanding payment from its debtors; it's endorsement of the accounts to counsel for collection; the pursuit of legal

remedies for the collection on these debts; and the continuing failure/clear inability of the debtors to pay off their obligations.

DEDUCTIONS AND EXEMPTIONS; ALLOWABLE DEDUCTIONS; DEPRECIATION

BASILAN ESTATES, INC. v. CIR Facts: Basilan Estates, Inc. claimed deductions for the depreciation of its assets on the basis of their acquisition cost. As of January 1, 1950 it changed the depreciable value of said assets by increasing it to conform with the increase in cost for their replacement. Accordingly, from 1950 to 1953 it deducted from gross income the value of depreciation computed on the reappraised value. CIR disallowed the deductions claimed by petitioner, consequently assessing the latter of deficiency income taxes. Issue:Whether or not the depreciation shall be determined on the acquisition cost rather than the reappraised value of the assets. Held: Yes. The following tax law provision allows a deduction from gross income for depreciation but limits the recovery to the capital invested in the asset being depreciated: (1)In general. — A reasonable allowance for deterioration of property arising out of its use or employment in the business or trade, or out of its not being used: Provided, That when the allowance authorized under this subsection shall equal the capital invested by the taxpayer . . . no further allowance shall be made. . . . The income tax law does not authorize the depreciation of an asset beyond its acquisition cost. Hence, a deduction over and above such cost cannot be claimed and allowed. The reason is that deductions from gross income are privileges, not matters of right. They are not created by implication but upon clear expression in the law. Depreciation is the gradual diminution in the useful value of tangible property resulting from wear and tear and normal obsolescense. It commences with the acquisition of the property and its owner is not bound to see his property gradually waste, without making provision out of earnings for its replacement.

The recovery, free of income tax, of an amount more than the invested capital in an asset will transgress the underlying purpose of a


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depreciation allowance. For then what the taxpayer would recover will be, not only the acquisition cost, but also some profit. Recovery in due time thru depreciation of investment made is the philosophy behind depreciation allowance; the idea of profit on the investment made has never been the underlying reason for the allowance of a deduction for depreciation.

Zamora v. CIR Facts: These are 4 cases regarding deficiency income taxes allegedly incurred by the Zamoras. Cases Nos. L-15290 and L-15280:Mariano Zamora, owner of the Bay View Hotel and Farmacia Zamora, Manila, filed his income tax returns the years 1951 and 1952. The Collector of Internal Revenue found that he failed to file his return of the capital gains derived from the sale of certain real properties and claimed deductions which were not allowable. The CTA reduced the sum due Zamora and on appeal, petitioner alleged that the CTA erred in disallowing the promotion expenses incurred by his wife for promotion of the above businesses, depreciation of the Bayview Hotel Bldg, and in applying the Ballantyne scale of values for determining the cost of his Manila property. The CIR, on the other hand, claimed that the CTA erred in reducing the amounts and giving credence to the uncorroborated testimony of Mariano Zamora that he bought the said real property in question during the Japanese occupation, partly in Philippine currency and partly in Japanese war notes. Cases Nos. L-15289 and L-15281 Mariano Zamora and his deceased sister Felicidad Zamora, bought a piece of land located in Manila on May 16, 1944, for P132,000.00 and sold it for P75,000.00 on March 5, 1951. They also purchased a lot located inQuezon City for P68,959.00 on January 19, 1944, which they sold for P94,000 on February 9, 1951. The CTA ordered the estate of the late Felicidad Zamora (represented by Esperanza A. Zamora, as special administratrix of her estate), to pay the sum of P235.50, representing alleged deficiency income tax and surcharge due from said estate. First issue – disallowance of the entire promotion expenses incurred by Mrs. Zamora Petitioner: The CTA erred in disallowing P10,478.50 as promotion expenses incurred by his wife for the promotion of the BayView Hotel and Farmacia Zamora. He contends that the whole amount of P20,957.00 as promotion expenses should be allowed and not merely

one-half of it. on the ground that, while not all the itemized expenses are supported by receipts, the absence of some supporting receipts has been sufficiently and satisfactorily established - to purchase machinery for a new Tiki-Tiki plant,and to observe hotel management in modern hotels. Respondents: Mrs. Zamora obtained only the sum of P5,000.00 from the Central Bank and that in her application for dollar allocation, she stated that she was going abroad on a combined medical and business trip, which facts were not denied by Mariano Zamora. The alleged expenses were not supported by receipts. Mrs. Zamora could not even remember how much money she had when she left abroad in 1951, and how the alleged amount of P20,957.00 was spent. There having been no means by which to ascertain which expense was incurred by her in connection with the business of Mariano Zamora and which was incurred for her personal benefit, the respondents considered 50% of the said amount of P20,957.00 as business expenses and the other 50%, as her personal expenses. Held: The 50% allocation is very fair to Zamora, there being no receipt to explain the alleged business expenses as well as the personal expenses that might have been incurred. While in situations like the present, absolute certainty is usually no possible, the CTA should make as close an approximation as it can, bearing heavily, if it chooses, upon the taxpayer whose inexactness is of his own making. Section 30, of the Tax Code, provides that in computing net income, there shall be allowed as deductions all the ordinary and necessary expenses paid or incurred during the taxable year, in carrying on any trade or business. Since promotion expenses constitute one of the deductions in conducting a business, same must testify these requirements. Claim for the deduction of promotion expenses or entertainment expenses must also be substantiated or supported by record showing in detail the amount and nature of the expenses incurred. Second issue – disallowance/reduction of the rate of depreciation of Bayview Hotel (from 3.5% to 2.5%) Petitioner: Contends that 1) the Ermita district is becoming a commercial district, 2) the hotel has no room for improvement, and(3) the changing modes in architecture, styles of furniture and decorative designs, "must meet the taste of a fickle public". Also,the reference to Bulletin F, a publication by the IRS, should have been first proved as law to be subject of judicial notice. Held: The CTA was approximately correct in holding that the rate of depreciation must be 2.5%. An average hotel building’s estimated useful


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life is 5 years, but inasmuch as it also depends on the use and location, change in population and other, it is allowed a deprecation rate of 2.5% which corresponds to a useful life of 40 years. It is true that Bulletin F has no binding force, but it has a strong persuasive effect considering that the same has been the result of scientific studies and observation for a long period in the United States after whose Income Tax Law ours is patterned." Verily, courts are permitted to look into and investigate the antecedents or the legislative history of the statutes involved. Third issue-the undeclared capital gains derived from the sales in 1951 of certain real properties in Malate, Manila and in Quezon City, acquired during the Japanese occupation. Held: The CTA’s appraisal in this case is correct. Consequently, the total undeclared income of petitioners derived from the sales of the Manila and Quezon City properties in 1951 is P17,111.75 (P1,750.00 plus P15,361.75), 50% of which in the sum of P8,555.88 is taxable, the said properties being capital assets held for more than one year. The cost basis of property acquired in Japanese war notes is the equivalent of the war notes in genuine Philippine currency in accordance with the Ballantyne Scale of values, and that the determination of the gain derived or loss sustained in the sale of such property is not affected by the decline at the time of sale, in the purchasing power of the Philippine currency. It was found by the CTA that the purchase price of P132,000.00 was not entirely paid in Japanese War notes but ½ thereof or P66,000.00 was in Philippine currency. This being the case, the Ballantyne Scale of values, which was the result of an impartial scientific study, adopted and given judicial recognition, should be applied. As the value of the Japanese war notes in May, 1944 when the Manila property was bought, was 1 ½ of the genuine Philippine Peso (Ballantyne Scale), and since the gain derived or loss sustained in the disposition of this property is to reckoned in terms of Philippine Peso, the value of the Japanese war notes used in the purchase of the property, must be reduced in terms of the genuine Philippine Peso to determine the cost of acquisition. It, therefore, results that since the sum of P66,000.00 in Japanese war notes in May, 1944 is equivalent to P5,500.00 in Philippine currency (P66,000.00 divided by 12), the acquisition cost of the property in question is P66,000.00 plus P5,500.00 or P71,500.00 and that as the property was sold for P75,000.00 in 1951, the owners thereof Mariano and Felicidad Zamora derived a capital gain of P3,500.00or P1,750.00 each.

For the Quezon City property, the CTA was correct in giving credence to Zamora’s testimony that the same was purchased inPhilippine currency, because it is quite incredible that real property with an assessed value of P46,910.00 should have been soldin Japanese war notes with an equivalent value in Philippine currency of only P17,239.75. Thus, the gain derived from the sale isP15,361.75, after deducting from the selling price the cost of acquisition in the sum of P68,959.00 and the expense of sale in thesum of P9,679.25.

Disposition: The petitions are dismissed, and the decision appealed from is affirmed.

DEDUCTIONS AND EXEMPTIONS; ALLOWABLE DEDUCTIONS; DEPLETION

CONSOLIDATED MINES V CTA Facts: Cosolidated Mines filed a refund for overpayments of income taxes for the year 1951. However, after investigation of the BIR, instead of having a refund, the company was instead assessed for deficiency income taxes for the years 1953, 1954, and 1956, with 5% surcharge and 1% monthly interest. According to the investigation, (A) for the years 1951 to 1954 (1) the Company had not accrued as an expense the share in the company profits of Benguet Consolidated Mines as operator of the Consolidated's mines, although for income tax purposes the Consolidated had reported income and expenses on the accrual basis; (2) depletion and depreciation expenses had been overcharged; and (3) the claims for audit and legal fees and miscellaneous expenses for 1953 and 1954 had not been properly substantiated; and that (B) for the year 1956 (1) the Company had overstated its claim for depletion; and (2) certain claims for miscellaneous expenses were not duly supported by evidence Background info: Consolidated and Benguet entered into a development agreement whereby Consolidated, as the owner of several mining claims, allowed Benguet to explore, develop, mine, concentrate, and market the ore in the mining claims. In the agreement, it was provided that benguet is to provide the funds necessary for the expenses until such time the properties are on a profit producing basis, to be reimbursed by consolidated. Once profit is


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derived, expenditures from its own resources shall be charged against the subsequent gross income of the properties. During the time Benguet is being reimbursed for all its expenditures, the net profits resulting from the operation of the claims shall be divided 90% to Benguet and 10% to Consolidated. Such division of net profits shall be based on the receipts, and expenditures during each calendar year, and shall continue until such time as the 90% of the net profits pertaining to Benguet hereunder shall equal the amount of such expenditures. “After Benguet has been fully reimbursed for its expenditures, the net profits from the operation shall be divided between Benguet and Consolidated share and share alike, it being understood however, that the net profits as the term is used in this agreement shall be computed by deducting from gross income all operating expenses and all disbursements of any nature whatsoever as may be made in order to carry out the terms of this agreement.” It appears that by 1953 Benguet had completely recouped its advances, because they were then dividing the profits share and share alike. Consolidated used the accrual method of accounting in computing its income. One of its expenses is the amount-paid to Benguet as mine operator, which amount is computed as 50% of “net income.” The Consolidated deducts as an expense 50% of cash receipts minus disbursements, but does not deduct at the end of each calendar year what the Commissioner alleges is "50% of the share of Benguet" in the "accounts receivable." However, it deducts Benguet's 50% if and when the "accounts receivable" are actually paid. It would seem, therefore, that Consolidated has been deducting a portion of this expense (Benguet's share as mine operator) on the "cash & carry" basis. The question is whether or not the accounting system used by Consolidated justifies such a treatment of this item; and if not, whether said method used by Consolidated, and characterized by the Commissioner as a "hybrid method," may be allowed under the provisions of the NIRC. Issue: WON Consolidated’s accounting method is allowed Held: YES. It is said that accounting methods for tax purposes comprise a set of rules for determining when and how to report income and deductions. The U.S. Internal Revenue Code allows each taxpayer to adopt the accounting method most suitable to his business, and requires only that taxable income generally be based on the method of accounting regularly employed in keeping the taxpayer's books, provided that the method clearly reflects income.

A deduction cannot be accrued until an actual liability is incurred, even if payment has not been made. Here we have to distinguish between (1) the method of accounting used by Consolidated in determining its net income for tax purposes; and (2) the method of computation agreed upon between Consolidated and Benguet in determining the amount of compensation that was to be paid by the former to the latter. The parties, being free to do so, had contracted that in the method of computing compensation the basis were "cash receipts" and "cash payments." Once determined in accordance with the stipulated bases and procedure, then the amount due Benguet for each month accrued at the end of that month, whether Consolidated had made payment or not. To make Consolidated deduct as an expense one-half of the "Accounts Receivable" would, in effect, be equivalent to giving Benguet a right which it did not have under the contract, and to substitute for the parties' choice a mode of computation of compensation not contemplated by them. ON DEPLETION: The first issue raised by Consolidated is with respect to the rate of mine depletion used by the Court of Tax Appeals. The Tax Code provides that in computing net income there shall be allowed as deduction, in the case of mines, a reasonable allowance for depletion thereof not to exceed the market value in the mine of the product thereof which has been mined and sold during the year for which the return is made [Sec. 30(g) (1) (B)]. As an income tax concept, depletion is wholly a creation of the statute — “solely a matter of legislative grace.” Hence, the taxpayer has the burden of justifying the allowance of any deduction claimed. As in connection with all other tax controversies, the burden of proof to show that a disallowance of depletion by the Commissioner is incorrect or that an allowance made is inadequate is upon the taxpayer, and this is true with respect to the value of the property constituting the basis of the deduction. This burden-of-proof rule has been frequently applied and a value claimed has been disallowed for lack of evidence. Here, SC considered the evidence presented (testimony of Eligio Garcia and the Report to Stockholders (which includes the Balance Sheet as of 1946), geological report on the estimated amount of ore in the claims, etc.) it set forth a very detailed computation of the depletion rate, determining the value of each component of the formula of depletion, viz: Rate of Depletion Per Unit = Cost of Mine Property / Estimated ore Deposit of Product Mined and sold - depletion is different from depreciation In determining the amount of cost depletion allowable the following three facts are essential, namely, (1) the basis of the property, (2) the


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estimated total recoverable units in the property; and (3) the number of units recovered during the taxable year in question. As used as an element in cost depletion, basis means the dollar amount of the taxpayer's capital or investment in the property which he is entitled to recover tax free during the period he is removing the mineral in the deposit. Disposition Decision modified Footnotes in the case that are helpful: While taxable income is based on the method of accounting used by the taxpayer, it will almost always differ from accounting income. This is so because of a fundamental difference in the ends the two concepts serve. Accounting attempts to match cost against revenue. Tax law is aimed at collecting revenue. It is quick to treat an item as income, slow to recognize deductions or losses. Thus, the tax law will not recognize deductions for contingent future losses except in very limited situations. Good accounting, on the other hand, their recognition. Once this fundamental difference in approach is accepted, income tax accounting methods can be understood more easily. 33 Am. Jur. 2d 688. Under the accrual system income is accruable in the year in which the taxpayer's right thereto becomes fixed and definite, even though it may not be actually received until a later year, while a deduction for a liability is to be accrued and taken when the liability becomes fixed and certain, even though it may not be paid until a later year.

It has been held that the basis of the accrual system of accounting is that obligations incurred in the normal course of business will be discharged in due course; that the deductions have been "paid or accrued" or "paid and incurred;" but in order to be accruable in the taxable year, a valid obligation upon which the profit (or loss, in the case of a deduction) is to be determined must have existed in the year in which the obligation became binding or enforceable. The date of the accrued right to receive income, or the obligation to pay or expend money constituting a deductible loss, is the date that fixes liability. Gain or loss may not said to be fixed or accrued when the obligation is contingent upon the happening of a future event. No duty or liability to pay an income tax upon a transaction arises until the taxable year in which the event constituting the condition precedent occurs under any system of accounting.

DEDUCTIONS AND EXEMPTIONS; ALLOWABLE DEDUCTIONS; CHARITABLE AND OTHER CONTRIBUTIONS

ROXAS v. CTA, GR No L-25043, April 26, 1968

Facts: Don Pedro Roxas and Dona Carmen Ayala, Spanish subjects, transmitted to their grandchildren by hereditary succession several properties. To manage the above-mentioned properties, said children, namely, Antonio Roxas, Eduardo Roxas and Jose Roxas, formed a partnership called Roxas y Compania. At the conclusion of the WW2, the tenants who have all been tilling the lands in Nasugbu for generations expressed their desire to purchase from Roxas y Cia. the parcels which they actually occupied. For its part, the Government, in consonance with the constitutional mandate to acquire big landed estates and apportion them among landless tenants-farmers, persuaded the Roxas brothers to part with their landholdings. Conferences were held with the farmers in the early part of 1948 and finally the Roxas brothers agreed to sell 13,500 hectares to the Government for distribution to actual occupants for a price of P2,079,048.47 plus P300,000.00 for survey and subdivision expenses. It turned out however that the Government did not have funds to cover the purchase price, and so a special arrangement was made for the Rehabilitation Finance Corporation to advance to Roxas y Cia. the amount of P1,500,000.00 as loan. Collateral for such loan were the lands proposed to be sold to the farmers. Under the arrangement, Roxas y Cia. allowed the farmers to buy the lands for the same price but by installment, and contracted with the Rehabilitation Finance Corporation to pay its loan from the proceeds of the yearly amortizations paid by the farmers. The CIR demanded from Roxas y Cia the payment of deficiency income taxes resulting from the inclusion as income of Roxas y Cia. of the unreported 50% of the net profits for 1953 and 1955 derived from the sale of the Nasugbu farm lands to the tenants, and the disallowance of deductions from gross income of various business expenses and contributions claimed by Roxas y Cia. and the Roxas brothers. For the reason that Roxas y Cia. subdivided its Nasugbu farm lands and sold them to the farmers on installment, the Commissioner considered the partnership as engaged in the business of real estate, hence, 100% of the profits derived therefrom was taxed. The Roxas brothers protested the assessment but inasmuch as said protest was denied, they instituted


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an appeal in the CTA which sustained the assessment. Hence, this appeal. Issue: Is Roxas y Cia. liable for the payment of deficiency income for the sale of Nasugbu farmlands? Held: NO. The proposition of the CIR cannot be favorably accepted in this isolated transaction with its peculiar circumstances in spite of the fact that there were hundreds of vendees. Although they paid for their respective holdings in installment for a period of 10 years, it would nevertheless not make the vendor Roxas y Cia. a real estate dealer during the 10-year amortization period. It should be borne in mind that the sale of the Nasugbu farm lands to the very farmers who tilled them for generations was not only in consonance with, but more in obedience to the request and pursuant to the policy of our Government to allocate lands to the landless. It was the bounden duty of the Government to pay the agreed compensation after it had persuaded Roxas y Cia. to sell its haciendas, and to subsequently subdivide them among the farmers at very reasonable terms and prices. However, the Government could not comply with its duty for lack of funds. Obligingly, Roxas y Cia. shouldered the Government's burden, went out of its way and sold lands directly to the farmers in the same way and under the same terms as would have been the case had the Government done it itself. For this magnanimous act, the municipal council of Nasugbu passed a resolution expressing the people's gratitude. In fine, Roxas y Cia. cannot be considered a real estate dealer for the sale in question. Hence, pursuant to Section 34 of the Tax Code the lands sold to the farmers are capital assets, and the gain derived from the sale thereof is capital gain, taxable only to the extent of 50%.

DEDUCTIONS AND EXEMPTIONS; NON-DEDUCTIBLE EXPENSE

CIR v JAMIR

Facts: For the year 1954, Alberto M. K. Jamir declared a gross income of P75,858.65 and claimed deductions aggregating P58,134.50, thereby showing a net income of P17,774.15, upon which he paid P1,634 as income tax. The Collector of Internal Revenue, however, assessed, as deficiency income tax due from him, the sum of P16,395.

Jamir appealed to the Court of Tax Appeals, which reduced the amount due as deficiency income tax to P552.00

Issue: Whether Jamir had an undeclared income for the year 1954 aggregating P31,274.91.

Held: No. It appears that, by using the so-called "expenditures method", the Government considered as an undeclared income Jamir's expenditures for February and May were in excess of his reported income for the same months. Although the Court of Tax Appeals, in effect, sanctioned the adoption of the "expenditures method", it held that the same should be applied by deducting the aggregate yearly expenditures from the declared yearly income, not the expenditures incurred each month from the declared income therefor.

In the case at bar, Jamir's total income for the year 1954 (P75,858.65) exceeded (Pl7,774.15) the total deductions (P58,134.50) claimed by him. Jamir introduced evidence that the said sums of P1,281.24 and P29,993.67 represented advances made to him by customers in the months of February and May, 1954, and that the income derived from the corresponding transactions were entered in his books of account in subsequent months, and this explanation was found by the Court of Tax Appeals to have been proven satisfactorily.

The next question raised by appellant refers to Jamir's claim for car depreciation and salary of his driver. Although petitioner had disallowed one-half (1/2) of these claims, it appearing that the car was used by Jamir for personal and business purposes, the lower court allowed, as deductions, three-fourths (3/4) of said amounts, the car having been used by Jamir "more for business than for personal purpose". Petitioner assails this as an error, but, considering the circumstances, we agree with the deduction of ¾ by the lower court.

It is next urged that Jamir committed fraud and the 50% surcharge should not have been eliminated. But since Jamir did not have the undeclared income of P31,274.91, upon which the contested assessment is mainly based, it follows necessarily that he was not guilty of the fraud and that the 50% surcharge has been properly eliminated. Disposition: the decision appealed from is hereby affirmed. Atlas Consolidated Mining v. CIR


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Facts: CIR assessed Atlas deficiency income tax for 1957 to 1958 which amounted to morethan P700K. CIR asserted that in 1957, Atlas was still not entitled to exemption fromthe income tax under RA 909 because the same covers only gold mines and Atlas isnot engaged in that. Atlas protested before the Sec of Finance and Sec ruled that exemption provided in RA 909 embraces all new mines and old mines, whether gold or other minerals. Hence, Sec recomputed and eliminated P500K+ in 1957 and reduced P215K to P39K in 1958. Atlas appealed to this assessments assailing the disallowance of the following items: transfer agent s fees, stockholders relation service fee, US stock listing expenses, suit expenses, provision for contingency. CTA disallowed the items except the stockholders relation service fee and suit expenses. Also CTA ruled that the exemption from payment of the corporate income tax of Atlas was good only up to the first quarter of 1958, hence it computed for its net taxable income for the remaining ¾ of the year. Atlas appealed asserting that the annual public relations expense is a deductible expense from gross income because it is an ordinary and necessary business expense. Issue: WON this fee paid for the services rendered by a public relations firm in the US labeled as stockholders relation service fee is an allowable deduction. Held: No. it is a capital expenditure and not an ordinary expense. The principle is recognized that when a taxpayer claims a deduction, he must point to some specific provision of the statute in which that deduction is authorized and must be able to prove that he is entitled to the deduction which the law allows. As previously adverted to, the law allowing expenses as deduction from gross income for purposes of the income tax is Section 30 (a) (1) of the National Internal Revenue which allows a deduction of "all the ordinary and necessary expenses paid or incurred during the taxable year in carrying on any trade or business." An item of expenditure, in order to be deductible under this section of the statute, must fall squarely within its language. We come, then, to the statutory test of deductibility where it is axiomatic that 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. Assuming that the expenditure is ordinary and necessary in the operation of the taxpayer's business, the answer to the question as to whether the expenditure is an allowable deduction as a business expense must be determined from the nature of the expenditure itself, which in turn depends on the extent and permanency of the work accomplished by the expenditure. The expenditure of P25,523.14 paid to P.K. Macker & Co. as compensation for services carrying on the selling campaign in an effort to sell Atlas' additional capital stock of P3,325,000 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. 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 1) recapitalization and reorganization of the corporation, 2) the cost of obtaining stock subscription 3)promotion expenses and 4) commission or fees paid for the sale of stock reorganization are capital expenditures. The burden of proof that the expenses incurred are ordinary and necessary is onthe taxpayer. The claimed business expense must also be supported by appropriate documents such as invoices, official receipts, and contracts, to be made available in case of a tax audit by the Bureau of Internal Revenue.

GANCAYCO V COLLECTOR

Facts: Gancayco filed his Income tax Return (ITR) for 1949. CIR notified him that his liability is Php 9.793.62, which he paid

1950 CIR after a year wrote to Gancayco saying that there was tax

due from him for a total of Php 29,554.05 Gancayco asked for reconsideration and the tax assessed was

reduced CIR issued a warrant of distraint for the deficient liability Gancayco filed petition with CTA


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CTA: Required Gancayco to pay Php 16, 860.31 for tax deficiency in 1949 Gancayco: the right to collect the deficiency income tax is barred by the statute of limitations. : the 5 yr period for judicial action should be counted from May 12 50, the date of original assessment SC: Section 316 provides: The civil remedies for the collection of internal revenue taxes, fees, or charges, and any increment thereto resulting from delinquency shall be (a) by distraint of goods, chattels, or effects, and other personal property of whatever character, including stocks and other securities, debts, credits, bank accounts, and interest in and rights to personal property, and by levy upon real property; and (b) by judicial action. Either of these remedies or both simultaneously may be pursued in the discretion of the authorities charged with the collection of such taxes. No exemption shall be allowed against the internal revenue taxes in any case. : Deduction for expenses may be allowed, however in this case, Gancayco was not able to prove any expense as there were no receipts or other proofs. CTA AFFIRMED

DEDUCTIONS AND EXEMPTIONS; NON-DEDUCTIBLE EXPENSES; ILLEGAL EXPENSES

CALANOC V COLLECTOR

Facts: Calanoc was authorized to solicit and receive contributions for

the orphans and destitute kids of the Child Welfare Workers Club of the Social Welfare Commission.

Dec 1949, Calanoc financed and promoted a boxing exhibition at the Rizal Memorial Stadium for said charitable purpose

He applied for exemption from payment of the amusement tax as provided in Sec 260 NIRC

CIR investigated the tax case of Calanoc and it was found that there was gross sale of Php 26,553, expenditure of 25,157 and profit of 1,375.30

Profit was remitted to Social Welfare Commission. CIR demanded Calanoc oto pay 533 Sec of Finance denied the application of Calanoc for exemption

from payment of amusement tax CTA: Affirmed the assessment of 7k Calanoc; denies receving a stadium fee of 1k : Although it was shown that 1k was paid by O-OSO Beverages : His accountant is dead SC: the items of expenditures for deduction are exorbitant and not supported by receipts CTA Affirmed 3M PHILIPPINES, INC., petitioner, vs. COMMISSIONER OF INTERNAL REVENUE, respondent. [G.R. No. 82833. September 26, 1988.] Facts: The petitioner claimed as deductions for income tax purposes "business expenses" in the form of royalty payments to its foreign licensor which the respondent Commissioner of Internal Revenue disallowed. The petitioner claimed the following deductions royalties and technical service fees and pre-operational cost of tape coater. The amount was not allowed as entire deduction. The petitioner argues that the law applicable to its case is only Section 29(a)(1) of the Tax Code and not Circular No. 393 of the Central Bank. Issue: WON the royalty payments are valid deductible expense. WON the Tax Code is applicable. Held: No. Although the Tax Code allows payments of royalty to be deducted from gross income as business expenses, it is CB Circular No. 393 that defines what royalty payments are proper. Improper payments of royalty are not deductible as legitimate business expenses. Section 3-c of CB Circular No. 393 provides for payment of royalties only on commodities manufactured by the licensee under the royalty agreement not on the wholesale price of finished products imported by the licensee from the licensor. entral Bank Circulars, like CB Circular No. 393 (dated December 7, 1973, published in the Official Gazette issue of December 17, 1973 [69 O.G. No. 51, p. 11737] issued by the Central Bank in the exercise of fits authority under the Central Bank Act, duly published in


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the Official Gazette, have the force and effect of law (Cases cited) and binding on everybody. DEDUCTIONS AND EXEMPTIONS; PERSONAL EXEMPTIONS

COLLECTOR OF INTERNAL REVENUE, petitioner, vs. ORLANDO V. CALSADO and COURT OF TAX APPEALS, respondents. [G.R. No. L-10293. February 27, 1959.]

Facts: The appellant refused to recognize the appellee as head of a family within the meaning of section (b) of the National Internal Revenue Code (Commonwealth Act No. 466, as amended by Republic Act No. 590) and assessed him for deficiency taxes. According to the respondent-appellee he has a brother below 21 years old mainly dependent upon him for support.

Issue: WON the respondent is classified as head of the family.

Held: Yes. For an unmarried individual to fall within the term "head of a family" under Section 23 (b) of the National Internal Revenue Code, it is enough that he has either of the following who is dependent upon him for his chief support: a father or mother or both, one or more brothers or sisters, one or more legitimate, recognized natural or adopted children, provided such brother, sister or child is less than 21 years of age. The fact that the father is still alive and continues to exercise parental authority over his minor children is of no moment. All that the law requires in order that an unmarried individual may be considered as head of a family is that the relatives enumerated be dependent upon him for their chief support.

*Under RA 9504 Regardless of the classification, the allowed personal exemption is Php50,000.

In the matter of the adoption of the minor MARCIAL ELEUTERIO RESABA. LUIS SANTOS-YÑIGO and LIGIA MIGUEL DE SANTOS-YÑIGO, petitioners-appellees, vs. REPUBLIC OF THE PHILIPPINES, oppositor-appellant.TAX ON CORPORATIONS: BASES AND RATES; RESIDENT FOREIGN CORPORATIONS; TAXABLE INCOME [G.R. No. L-6294. June 28, 1954.]

Facts: The petitioners adopted a child while they have two legitimate children of their own. The said children were born after the agreement for adoption was executed by petitioners and the parents of the minor.

Issue: WON the adoption is valid

Held: Yes. The purpose of adoption is to afford to persons who have no child of their own the consolation of having one by creating, through legal fiction, the relation of paternity and filiation where none exists by blood relationship. This purpose rejects the idea of adoption by persons who have children of their own, for otherwise, conflicts, friction, and differences may arise resulting from the infiltration of foreign element into a family which already counts with children upon whom the parents can shower their paternal love and affection.

While the adoption agreement was executed at a time when the law applicable to adoption is Rule 100 of the Rules of Court, which does not prohibit persons who have legitimate children from adopting, such agreement can not have the effect of establishing the relation of paternity and filiation by fiction of law without the sanction of court. The only valid adoption in this jurisdiction is that one made through court, or in pursuance of the procedure laid down by the rule.

*For tax purposes - A head of family is an individual who actually supports and maintains in one household one or more individuals, who are closely connected with him by blood relationship, relationship by marriage, or by adoption, and whose right to exercise family control and provide for these dependent individuals is based upon some moral or legal obligation. In the absence of continuous actual residence together, whether or not a person with dependent relatives is a head of a family within the meaning of the statute must depend on the character of the separation. If a father is absent on business, or a child or other dependent is away at school or on a visit, the common home being still maintained, the additional exemption applies. If, moreover, through force of circumstances a parent is obliged to maintain his dependent children with relatives or in a boarding house while he lives elsewhere, the additional exemption may still apply. If, however, without necessity, the dependent continuously makes his home elsewhere, his benefactor is not the head of a family, irrespective of the question of support. A resident alien with children abroad is not thereby entitled to credit as the head of a family. Chief support means principal or main support. Partial


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support not amounting to chief support will not entitle the taxpayer to claim exemption as a head of a family. Regulation No. section 11

NV REEDERIT V CIR

Facts: NV Reederij was a foreign shipping corporation which was called on Philippine ports to load cargoes for foreign destination on only two occasions--in 1963 and 1964. The freight fees for these transactions were paid abroad in the amount of $ 98, 175 in 1963 and $ 137, 193 in 1964. NV Reederij did not pay any income tax on these freight receipts.

Pursuant to Section 15 of the NIRC, the CIR filed for and in behalf of NV Redeerij, assessing the deficiency income tax of the latter as a non-resident foreign corporation not engaged in trade or business in the Philippines under Section 24 (b) (1) of the Tax Code.

On the assumption that the petitioner is a foreign corporation engaged in trade or business in the Philippines, its husbanding agent, Royal Interocean Lines, paid for income tax of the said vessels.

Royal Interocean filed a written protest against the assessment made by the CIR. The CIR denied the same. The CTA upheld the decision of the CIR but modified it by eliminating the 50% fraud compromise penalties imposed upon the petitioner.

Issue: The petitioners raised the issue of WON NV Reederij was a foreign corporation engaged in trade and business in the Philippines to the Supreme Court.

Held: Denied. NV Reederij is a FCNEBT.

The Supreme Court took primary consideration of the following facts:

1. NV Redeerij does not have a license to do business in RP.

2. It does not have a branch office in the Philippines.

3. It only made two calls in Philippine ports, one in 1963 and the other in 1964.

The SC called Reederij's business transaction in 1963 and 1964 only as "casual business activity". The Court said that "in order for a business activity to be considered as engaged in trade or business, its business

transaction must be CONTINUOUS." A casual business activity does not mean that one is engaged in business or trade. Hence, Reederij is a FCNEBT.

The Petitioners further argued that the lower courts erred in holding that because NV Reederij disregarded Section 163 of Revenue Regulations No.2, Reederij is a foreign corporation not engaged in business and trade in the Philippines.

The court said that Section 37 (e) of the NIRC as implemented by Section 163 of the Regulations providing for the rules on the determination of net income of foreign steamship company doing business in the Philippines only explicitly applies to FCETB. The Court refuted the assertion of the petitioners that Section 37 (e) does not distinguish between an engaged and a not engaged foreign corporation.

The court said that the rules for computing net income of foreign steamship companies are only for those engaged in trade or business in the Philippines. There is a need for the aforementioned rules for FCETB because foreign steamship corporation derives income from sources within and without the Philippines since they are involved in the business of transportation service between points in the Philippines and points outside of the Philippines. The tax rate is imposed on the net income of a FCETB. On the other hand, the taxable income of FCNETB consists of gross income from all sources within the Philippines.

TAX ON CORPORATIONS: BASES AND RATES; RESIDENT FOREIGN CORPORATIONS; BRANCH PROFIT REMITTANCE TAX

BANK OF AMERICA NT & SA, petitioner, vs. HONORABLE COURT OF APPEALS, AND THE COMMISSIONER OF INTERNAL REVENUE, respondents. [G.R. No. 103092. July 21, 1994.] BANK OF AMERICA NT & SA, petitioner, vs. THE HONORABLE COURT OF APPEALS AND THE COMMISSIONER OF INTERNAL REVENUE, respondents. [G.R. No. 103106. July 21, 1994.] Facts: The petitioner corporation paid 15% branch profit remittance tax in the amount of P7,538,460.72 on profit from its regular banking unit operations and P445,790.25 on profit from its foreign currency deposit unit operations or a total of P7,984,250.97. The tax was based on net profits after income tax without deducting the amount corresponding to


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the 15% tax. Petitioner filed a claim for refund with the Bureau of Internal Revenue of that portion of the payment which corresponds to the 15% branch profit remittance tax, on the ground that the tax should have been computed on the basis of profits actually remitted, which is P45,244,088.85, and not on the amount before profit remittance tax, which is P53,228,339.82. Issue: WON the branch profit remittance tax should be based on actual remittance hence, the 15% profit remittance tax itself should not form part of the tax base. Held: Yes. In the 15% remittance tax, the law specifies its own tax base to be on the "profit remitted abroad." There is absolutely nothing equivocal or uncertain about the language of the provision. The tax is imposed on the amount sent abroad. The taxpayer is a single entity, and it should be understandable if, such as in this case, it is the local branch of the corporation, using its own local funds, which remits the tax to the Philippine Government. MARUBENI vs CIR 177 (SCRA 500 September 14, 1989) Facts: Marubeni Corporation is a foreign corporation, with a Philippine branch office, organized and existing under the laws of Japan and duly licensed to engage in business under Philippine laws. Marubeni seeks the reversal of the decision of the Court of Tax Appeals denying its claim for refund or tax credit representing alleged overpayment of branch profit remittance tax withheld from dividends by Atlantic Gulf and Pacific Co. of Manila (AG&P). For the first and third quarters of 1981 AG&P declared and paid cash dividends to Marubeni and withheld the corresponding 10% final dividend tax thereon. AG&P directly remitted the cash dividends to Marubeni's head office in Tokyo, Japan, net not only of the 10% final dividend tax for the first and third quarters of 1981, but also of the withheld 15% profit remittance tax based on the remittable amount after deducting the final withholding tax of 10%. The 10% final dividend tax and the 15% branch profit remittance tax for both the first and third quarters of 1981 were paid to the Bureau of Internal Revenue by AG&P. Thus, for the first and third quarters of 1981, AG&P as withholding agent paid 15% branch profit remittance on cash dividends declared and remitted to Marubeni at its head office in Tokyo.

Marubeni sought a ruling from the BIR on whether or not the dividends it received from AG&P are effectively connected with its conduct or business in the Philippines as to be considered branch profits subject to the 15% profit remittance tax. The BIR ruled that the dividends received by Marubeni from AG&P are not income arising from the business activity in which Marubeni is engaged. Accordingly, said dividends if remitted abroad are not considered branch profits for purposes of the 15% profit remittance tax. Marubeni claimed for the refund or issuance of a tax credit representing profit tax remittance erroneously paid on the dividends remitted by AG& P to the head office in Tokyo. The CIR denied Marubeni’s claim on the grounds that said dividend income is subject to the 25 % tax pursuant to the Tax Treaty dated February 13, 1980 between the Philippines and Japan. Marubeni appealed to the CTA which affirmed the denial of the CIR. Hence, the SC Petition Issues:

1. WON Marubeni is a resident or a non-resident foreign corporation under Philippine laws.

2. WON Marubeni is liable for the branch profit remittance tax Held: 1. Marubeni is a non-resident foreign corporation. The SC quoted the Solicitor General’s contention that the general rule that a foreign corporation is the same juridical entity as its branch office in the Philippines cannot apply. This rule is based on the premise that the business of the foreign corporation is conducted through its branch office, following the principal agent relationship theory. It is understood that the branch becomes its agent here. So that when the foreign corporation transacts business in the Philippines independently of its branch, the principal-agent relationship is set aside. The transaction becomes one of the foreign corporation, not of the branch. Consequently, the taxpayer is the foreign corporation, not the branch or the resident foreign corporation. , the alleged overpaid taxes were incurred for the remittance of dividend income to the head office in Japan which is a separate and distinct income taxpayer from the branch in the Philippines. There can be no other logical conclusion considering the undisputed fact that the investment (totalling 283.260 shares including that of nominee) was made for purposes peculiarly germane to the conduct of the corporate affairs of Marubeni Japan, but certainly not of


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the branch in the Philippines. It is thus clear that Marubeni, having made this independent investment attributable only to the head office, cannot now claim the increments as ordinary consequences of its trade or business in the Philippines and avail itself of the lower tax rate of 10 %. 2. No. the dividends in dispute are not subject to the 15 % profit remittance tax nor to the 10 % intercorporate dividend tax, the recipient being a non-resident stockholder

Compañia General de Tabacos de Filipinas v. The Commissioner of Internal Revenue ( CTA Case # 4451, 23 August 1993)

Facts: Compañia General de Tabacos Filipinas (Compania) is a foreign corporation duly licensed by Philippine laws to engage in business through its Branch Office. On May 1988, it paid 15% branch profit remittance tax for 1985 and 1986 in the amount of PhP 3,148,267.96, using as tax base, the entire profit of the Branch Office. On July 6, 1988, it filed for a claim for refund in the amount of PhP 593,948.61 representing alleged overpaid branch profit remittances taxes because, according to Compania, Section 24(b)(2)(ii) of the NIRC should be interpreted to mean that the branch profit remittance tax should be computed based only on the profit remitted abroad and not on the total branch profit. It also cited BIR Ruling dated January 21, 1980 and CIR v. Burroughs Limited as authority. The CIR, on the other hand, argues that the 15% branch profit remittance tax is imposed and collected at source, so the tax base should be the total branch profit and amount actually applied for by the branch with the Central Bank of the Philippines as profit to be remitted abroad pursuant to Revenue Memorandum No. 8-82, dated March 17, 1982.

Issue: The issues presented to the Court are:

(1) Whether or not the branch profits tax are computed based on the profits actually remitted abroad or on the total branch profits out of which the remittance is made; and

(2) Whether or not passive income, which are already subjected to the final tax, are still included for purposes of computing the branch profits remittance tax.

Held: 1st Issue: The 15% branch profit remittance tax imposed by Section 24 (b) (2) (ii), NIRC, should be computed based on the profits actually remitted abroad and not on the total branch profits out of which the remittance as clarified in Memorandum Circular No. 8-82 (MC No. 8-82) dated March 17, 1982. The phrase 'any profit remitted abroad' in Section 24 (b) (2) (ii), NIRC, has been clarified in the BIR Ruling dated January 21, 1980 as to be construed to mean the profit to be remitted. Hence, there must be an actual remittance, as distinguished from profit which is remittable. Moreover, the 15% branch profit remittance tax is an income tax and is not deductible from the gross (profit) income. It cannot be deducted as an expense despite being an exaction on profit realized for remittance abroad because it is not enumerated under Section 30, NIRC. Since it is imposed and collected at source, the tax base should be the amount actually applied for by the Branch with the Central Bank of the Philippines as profit to be remitted abroad. MC No. 8-82 was upheld as valid under CIR v. Bank of America and the use of the word remitted was clarified as referring to that part of the said total branch profits which would be sent to the head office as distinguished from the total profits of the branch (not all of which need be sent or would be ordered remitted abroad). CIR v. Burroughs Limited is not applicable to the case at bar because the branch profit remittance tax paid in that case was made in 1979 and thus, MC No. 8-82 was not applied because it cannot be given retroactive effect by virtue of Section 327 of the NIRC. Thus, in view of the fact that Compania’s branch profit remittance tax for 1985 (partial) and 1986 were paid on May 3, 1988, after the effectivity of MC No. 8-82 (March 17, 1982), then what should apply as taxable base in computing the 15% branch profit remittance tax is the amount applied for with the Central Bank as profit to be remitted abroad and not the total amount of branch profits.

2nd Issue: Passive income should not be included for purposes of computing the branch profit remittance tax. Under Section 24 (b) (2) (ii), the rule is interest and dividends received by a foreign corporation during each taxable year from all sources within the Philippines shall not be considered as branch profits unless the same are effectively connected with the conduct of its trade or business. The phrase "effectively connected" was interpreted to mean income derived from the business activity in which the corporation is engaged. In all the corporate quarterly income tax returns filed by Compania with the BIR, it was indicated and shown that it is engaged in the business as leaf tobacco dealer, exporter, importer, and general merchants. The interests received from savings deposit with PhilTrust, interests received from money market placements


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and interest on Land Bank Bonds and cash dividends received from Philippine Long Distance Telephone Company (PLDT) and Tabacalera Industrial Development Corporation of the Phils. are not effectively connected with its trade or business. Furthermore, pursuant to Section 24(c) and (d) of the NIRC, dividends and interest are subject to final tax. To include them again as subject to branch profit remittance tax under the same Section 24(b)(2)(ii) would be contrary to law. Compania has sufficiently established a right to be refunded the amount of branch profit remittance tax paid on these interests and dividends which were included as part of the branch profits for 1985 (partial) and 1986. Consequently, following MC No. 8-82 and the jurisprudence cited, the tax base should be the amount applied for with the Central Bank for remittance without prior deduction of the 15% branch profit remittance tax. Thus, CIR must refund Compania in the amount of PhP 121,696.34 representing overpaid 15% branch profit remittance tax on interest and dividends received.

TAX ON CORPORATIONS: BASES AND RATES; NON-RESIDENT FOREIGN CORPORATIONS; DIVIDENDS

CIR V PROCTER AND GAMBLE

DETAILS: G.R. No. L-66838 December 2, 1991, J. Feliciano FACTS: For 1974 and 1975, Procter and Gamble Philippine Manufacturing Corporation (P&G-Phil) declared dividends to its parent company and sole stockholder, Procter and Gamble Co., Inc. (P&G-USA) amounting to PhP 24,164,946.30, from which dividends the amount of PhP 8,457,731.21 representing the thirty-five percent (35%) withholding tax at source was deducted. In 1977, P&G-Phil filed a claim for refund or tax credit in the amount of PhP 4,832,989.26 with the Commissioner of Internal Revenue (CIR) claiming that pursuant to Section 24 (b) (1) of the NIRC, as amended by P.D. No. 369, the applicable rate of withholding tax on the dividends remitted was only 15% and not 35% of the dividends. CIR gave no response so P&G-Phil filed a petition for tax refund/credit at the CTA which granted the tax refund/credit in the amount of PhP 4,832,989.00. CIR appealed to the SC, the 2nd Division of which granted its appeal and reversed the decision of the CTA based on the ff. grounds: (a) P&G-USA, and not P&G-Phil., was the proper party to claim the refund or tax credit here involved; (b) there is nothing in Section 902 or other provisions of the US

Tax Code that allows a credit against the US tax due from P&G-USA of taxes deemed to have been paid in the Philippines equivalent to 20% which represents the difference between the regular tax of 35% on corporations and the tax of 15% on dividends; and P&G-Phil failed to meet certain conditions necessary in order that "the dividends received by its non-resident parent company in the US (P&G-USA) may be subject to the preferential tax rate of 15% instead of 35%." ISSUE: What is the applicable dividend tax rate in the instant case: the regular 35% rate or the reduced 15% rate? RULING: The reduced 15% tax rate is the applicable dividend tax rate. In order to be legally entitled to the 15% reduced tax rate, the US Tax Law should comply with the requirements for applicability of the reduced or preferential 15% dividend tax rate under Sec. 24 (b) (1) of the NIRC. The NIRC requires that the US "shall allow" P&G-USA a "deemed paid" tax credit in an amount equivalent to the 20 percentage points waived by the Philippines for the dividend tax rate of P&G-USA to be reduced to 15%. In this case, the US allows P&G-USA a “deemed paid” tax credit in an amount equivalent to 20 percentage points waived by the Philippines.

In order to determine whether US tax law complies with the requirements for applicability of the reduced or preferential 15% dividend tax rate under Section 24 (b) (1), NIRC, it is necessary: a. to determine the amount of the 20 percentage points dividend tax waived by the Philippine government under Section 24 (b) (1), NIRC, and which hence goes to P&G-USA; b. to determine the amount of the "deemed paid" tax credit which US tax law must allow to P&G-USA; and c. to ascertain that the amount of the "deemed paid" tax credit allowed by US law is at least equal to the amount of the dividend tax waived by the Philippine Government. Using the formula under the NIRC, the amount of dividend tax waived by the Phil Gov’t is PhP 13.00 for every PhP 100.00 of pre-tax net income earned by P&G-Phil. It is also the minimum amount of the "deemed paid" tax credit that US tax law shall allow if P&G-USA is to qualify for the reduced or preferential dividend tax rate under Section 24 (b) (1), NIRC. Under the US Tax Law, the amount of the "deemed paid" tax credit which US Tax Law allows under Section 902, Tax Code is PhP 55.25. Thus, for every P55.25 of dividends actually remitted (after withholding at the rate of 15%) by P&G-Phil. to its US parent P&G-USA, a tax credit of P29.75 is allowed by Section 902 US Tax Code for Philippine corporate income tax "deemed paid" by the parent but actually paid by the wholly-owned subsidiary. Since P29.75 is much higher than P13.00 (the amount of dividend tax waived by the Phil Gov’t), Section


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902, US Tax Code, specifically and clearly complies with the requirements of Section 24 (b) (1), NIRC. Thus, P&G-Phil, is entitled to the tax refund or tax credit which it seeks. The concept of "deemed paid" tax credit, which is embodied in Section 902, US Tax Code, is exactly the same "deemed paid" tax credit found in our NIRC and which Philippine tax law allows to Philippine corporations which have operations abroad (say, in the United States) and which, therefore, pay income taxes to the US government. Under Section 30 (c) (3) (a), NIRC, above, the BIR must give a tax credit to a Philippine corporation for taxes actually paid by it to the US government—e.g., for taxes collected by the US government on dividend remittances to the Philippine corporation. This Section of the NIRC is the equivalent of Section 901 of the US Tax Code. Clearly, the "deemed paid" tax credit which, under Section 24 (b) (1), NIRC, must be allowed by US law to P&G-USA, is the same "deemed paid" tax credit that Philippine law allows to a Philippine corporation with a wholly- or majority-owned subsidiary in (for instance) the US. Section 24 (b) (1), NIRC, seeks to promote the in-flow of foreign equity investment in the Philippines by reducing the tax cost of earning profits here and thereby increasing the net dividends remittable to the investor. The foreign investor, however, would not benefit from the reduction of the Philippine dividend tax rate unless its home country gives it some relief from double taxation (i.e., second-tier taxation) (the home country would simply have more "post-R.P. tax" income to subject to its own taxing power) by allowing the investor additional tax credits which would be applicable against the tax payable to such home country. Accordingly, Section 24 (b) (1), NIRC, requires the home or domiciliary country to give the investor corporation a "deemed paid" tax credit at least equal in amount to the twenty (20) percentage points of dividend tax foregone by the Philippines, in the assumption that a positive incentive effect would thereby be felt by the investor.

As to the issue of whether the US Tax Code allows a credit against the US tax due from P&G-USA of taxes deemed to have been paid in the Phils equivalent to 20%, a close examination of the US Tax Law shows that it grants P&G-USA a tax credit for the amount of the dividend tax actually paid (i.e., withheld) from the dividend remittances to P&G-USA; b. US law grants to P&G-USA a "deemed paid' tax credit for a proportionate part of the corporate income tax actually paid to the Philippines by P&G-Phil. The parent-corporation P&G-USA is "deemed to have paid" a portion of the Philippine corporate income tax although that tax was actually paid by its Philippine subsidiary, P&G-Phil., not by P&G-USA. This "deemed paid" concept merely reflects economic reality, since the Philippine corporate income tax was in fact paid and deducted

from revenues earned in the Philippines, thus reducing the amount remittable as dividends to P&G-USA. In other words, US tax law treats the Philippine corporate income tax as if it came out of the pocket, as it were, of P&G-USA as a part of the economic cost of carrying on business operations in the Philippines through the medium of P&G-Phil. and here earning profits. What is, under US law, deemed paid by P&G- USA are not "phantom taxes" but instead Philippine corporate income taxes actually paid here by P&G-Phil. It is also useful to note that both (i) the tax credit for the Philippine dividend tax actually withheld, and (ii) the tax credit for the Philippine corporate income tax actually paid by P&G Phil. but "deemed paid" by P&G-USA, are tax credits available or applicable against the US corporate income tax of P&G-USA. These tax credits are allowed because of the US congressional desire to avoid or reduce double taxation of the same income stream.

As to the issue of standing, SC held that since the withholding agent, in this case, P&G-Phil, is both an agent of the government (Phil Gov’t) and the taxpayer (P&G-USA), then it is an agent of the beneficial owner of the dividends with respect to the filing of the necessary income tax return and with respect to actual payment of the tax to the government, and thus it also has the authority to file a claim for refund and to bring an action for recovery of such claim. This implied authority is especially true where in this case, the withholding agent is the wholly owned subsidiary of the parent-stockholder and therefore, at all times, under the effective control of such parent-stockholder. In the circumstances of this case, it seems particularly unreal to deny the implied authority of P&G-Phil. to claim a refund and to commence an action for such refund.

CIR V WANDER PHILIPPINES

Facts: Wander Philippines is a domestic corporation which was a wholly-owned subsidiary of Glaro S.A. Ltd., a Swiss Corporation not engaged in trade or business in the Philippines. In the second quarter of both 1975 and 1976, Wander paid 35% withholding tax return on the dividends it remitted to Glaro.

The next year, it filed a claim for refund in the Appellate division of the CIR contending that it is liable only for 15% withholding tax (not 35%)under Section 24 (b) (1) of the NIRC.

The CIR failed to act on the claim.


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The CTA granted the tax refund holding that Wander is entitled to preferential rates of 15% withholding tax on dividends remitted to its foreign parent company.

CIR filed the instant petition to the SC.

Issue: WON Wander is entitled to the preferential rate of 15% withholding tax on dividends declared and remitted to its parent corporation. The Court held in the affirmative.

(The decision was discussed by answering two interrelated sub-issues)

WON Wander is the proper party to claim the refund? Yes. The Petitioner submits that Wander being merely a withholding agent is not entitled to a tax refund. According to petitioner, it is the taxpayer, Glaro , which should receive the reimbursement.

The Court held that the petitioner's argument is untenable.

Wander is not just a withholding agent of the Philippine Government. Even if it acts as such, it does not mean an abdication of its responsibility to its mother company, which owns it. The Court said that according to Section 53 (b) the obligation of the withholding agent is compulsory, since the use of withholding agents is a device to ensure collection of taxes from aliens which are outside the tax jurisdiction of the country.

This is also the reason why, the Court said "Wander may be assessed for deficiency withholding tax at source, plus penalties consisting of surcharge and interest (Section 54, NLRC).

Therefore, as the Philippine counterpart, Wander is the proper entity which should receive the refund or credit of overpaid withholding tax on dividends paid or remitted by Glaro."

2. WON Switzerland allowed as tax credit the "deemed paid" 20% Philippine Tax on such dividends.

Switzerland does not impose any income tax on dividends received by Swiss corporation from corporations domiciled in foreign countries.

According to Section 24 (b) (1) of the Tax Code, for the dividends received from a domestic corporation to be liable to tax, the tax shall be 15% of the dividends received, subject to the condition that the country in

which the non-resident foreign corporation is domiciled shall allow a credit against the tax due from the non-resident foreign corporation taxes deemed to have been paid in the Philippines equivalent to 20%.

It this case, Switzerland did not impose income tax on the dividends received by Glaro. Hence, the condition on Section 24 (b) was fulfilled.

The SC rationalized its decision by quoting the CTA—that if they would deny the refund, it "would run counter to the very spirit and intent of said law and definitely will adversely affect foreign corporations’ interest here and discourage them from investing capital in our country."

Moreover, the Court made mention of the CIR ruling of May 19, 1977 holding that since the Swiss government does not impose any tax on the dividends to be received by a parent corporation in the Philippines, the preferential rate of 15% will be imposed as withholding tax.

Petition is dismissed.

MARUBENI vs CIR (177 SCRA 500 September 14, 1989) FACTS: Marubeni Corporation is a foreign corporation, with a Philippine branch office, organized and existing under the laws of Japan and duly licensed to engage in business under Philippine laws. Marubeni seeks the reversal of the decision of the Court of Tax Appeals denying its claim for refund or tax credit representing alleged overpayment of branch profit remittance tax withheld from dividends by Atlantic Gulf and Pacific Co. of Manila (AG&P). For the first and third quarters of 1981 AG&P declared and paid cash dividends to Marubeni and withheld the corresponding 10% final dividend tax thereon. AG&P directly remitted the cash dividends to Marubeni's head office in Tokyo, Japan, net not only of the 10% final dividend tax for the first and third quarters of 1981, but also of the withheld 15% profit remittance tax based on the remittable amount after deducting the final withholding tax of 10%. The 10% final dividend tax and the 15% branch profit remittance tax for both the first and third quarters of 1981 were paid to the Bureau of Internal Revenue by AG&P. Thus, for the first and third quarters of 1981, AG&P as withholding agent paid 15% branch profit remittance on cash dividends declared and remitted to Marubeni at its head office in Tokyo.


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Marubeni sought a ruling from the BIR on whether or not the dividends it received from AG&P are effectively connected with its conduct or business in the Philippines as to be considered branch profits subject to the 15% profit remittance tax. The BIR ruled that the dividends received by Marubeni from AG&P are not income arising from the business activity in which Marubeni is engaged. Accordingly, said dividends if remitted abroad are not considered branch profits for purposes of the 15% profit remittance tax. Marubeni claimed for the refund or issuance of a tax credit representing profit tax remittance erroneously paid on the dividends remitted by AG& P to the head office in Tokyo. The CIR denied Marubeni’s claim on the grounds that said dividend income is subject to the 25 % tax pursuant to the Tax Treaty dated February 13, 1980 between the Philippines and Japan. Marubeni appealed to the CTA which affirmed the denial of the CIR. Hence, the SC Petition ISSUE: WON Marubeni is liable for the tax on dividend income HELD: No. Marubeni is entitled to a refund. CTA erred in ruling that no refund was forthcoming to it because the taxes thus withheld totalled the 25 % rate imposed by the Philippine-Japan Tax Convention. To simply add the two taxes to arrive at the 25 % tax rate is to disregard a basic rule in taxation that each tax has a different tax basis. While the tax on dividends is directly levied on the dividends received, "the tax base upon which the 15 % branch profit remittance tax is imposed is the profit actually remitted abroad." Marubeni, being a non-resident foreign corporation with respect to the transaction in question, the applicable provision of the Tax Code is Section 24 (b) (1) (iii) in conjunction with the Philippine-Japan Treaty of 1980 which provides: (b) Tax on foreign corporations. — (1) Non-resident corporations — ... (iii) On dividends received from a domestic corporation liable to tax under this Chapter, the tax shall be 15% of the dividends received, which shall be collected and paid as provided in Section 53 (d) of this Code, subject to the condition that the country in which the non-resident foreign corporation is domiciled shall allow a credit against the tax due from the

non-resident foreign corporation, taxes deemed to have been paid in the Philippines equivalent to 20 % which represents the difference between the regular tax (35 %) on corporations and the tax (15 %) on dividends as provided in this Section; .... Proceeding to apply the above section to the case at bar, Marubeni, being a non-resident foreign corporation, as a general rule, is taxed 35 % of its gross income from all sources within the Philippines. However, a discounted rate of 15% is given to Marubeni on dividends received from a domestic corporation (AG&P) on the condition that its domicile state (Japan) extends in favor of Marubeni, a tax credit of not less than 20 % of the dividends received. This 20 % represents the difference between the regular tax of 35 % on non-resident foreign corporations which Marubeni would have ordinarily paid, and the 15 % special rate on dividends received from a domestic corporation.

TAX ON CORPORATIONS: BASES AND RATES; SPECIAL CORPORATIONS; INTERNATIONAL CARRIERS

BOAC v CIR

Facts: British Overseas Airways Corp (BOAC) is a 100% British Government-owned corporation engaged in international airline business and is a member of the Interline Air Transport Association, and thus, it operates air transportation services and sells transportation tickets over the routes of the other airline members. From 1959 to 1972, BOAC had no landing rights for traffic purposes in the Philippines and thus, did not carry passengers and/or cargo to or from the Philippines but maintained a general sales agent in the Philippines - Warner Barnes & Co. Ltd. and later, Qantas Airways - which was responsible for selling BOAC tickets covering passengers and cargoes. The Commissioner of Internal Revenue assessed deficiency income taxes against BOAC.

Issue: Whether the revenue derived by BOAC from ticket sales in the Philippines, constitute income of BOAC from Philippine sources, and accordingly taxable.

Held: The source of an income is the property, activity, or service that produced the income. For the source of income to be considered as


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coming from the Philippines, it is sufficient that the income is derived from activity within the Philippines. Herein, the sale of tickets in the Philippines is the activity that produced the income. the tickets exchanged hands here and payment for fares were also made here in the Philippine currency.

The situs of the source of payments is the Philippines. The flow of wealth proceeded from, and occurred within Philippine territory, enjoying the protection accorded by the Philippine government. In consideration of such protection, the flow of wealth should share the burden of supporting the government. PD 68, in relation to PD 1355, ensures that international airlines are taxed on their income from Philippine sources. The 2 1/2% tax on gross billings is an income tax. If it had been intended as an excise tax or percentage tax, it would have been placed under Title V of the Tax Code covering taxes on business.

TAX ON CORPORATIONS: BASES AND RATES; SPECIAL CORPORATIONS; PETROLEUM SERVICE CONTRACTOR AND SUBCONTRACTOR

ZAPATA MARINE SERVICES V CTA

Facts: Plaintiff-vessel owners allege that ad valorem taxes were imposed illegally on their vessels because they are used in international trade and therefore enjoy a constitutional exemption from taxation.

In addition to the constitutional exemption, the plaintiff-vessel owners alternatively pleaded the vessels did not have the proper tax situs in Cameron Parish for ad valorem tax assessment, that the taxes were not properly apportioned for the time the vessels actually spent in Cameron Parish.

The district court granted summary judgment dismissing all the suits as premature. The court held the vessel owners first were required to exhaust administrative remedies as mandated.

Issue: WON petitioners are liable to pay ad valorem taxes.

Held: We find a challenge to a tax assessment need not contest the validity of the ad valorem tax itself to constitute a legality challenge. Pursuant to the Churchill Farms case, the taxpayer has the right to

challenge both the validity of the law itself and the constitutionality of the administration of an otherwise valid law. Hence, the vessel owners' challenge to the imposition of ad valorem taxes assessed against allegedly exempt property presents a tax legality challenge. Plaintiffs properly proceeded in district court. For these reasons, the judgment of the court of appeal is reversed. The case is remanded to the district court for further proceedings consistent with this opinion.

TAX ON CORPORATIONS: BASES AND RATES; IMPROPERLY ACCUMULATED EARNINGS TAX

Cyanamid Phil v CIR (G.R. No. 108067. January 20, 2000) Facts: Cyanamid is a wholly owned subsidiary of American Cyanamid Co. engaged in the manufacture of pharmaceutical products and chemicals, a wholesaler of imported finished goods, and an importer/indentor. On February 7, 1985, the CIR sent an assessment letter to petitioner and demanded the payment of deficiency income tax of one hundred nineteen thousand eight hundred seventeen (P119,817.00) pesos for taxable year 1981. Petitioner through SGV, its external accountant, protested the assessments stating that the surtax for the undue accumulation of earnings was not proper because the said profits were retained to increase petitioner’s working capital and would be used for reasonable business needs of the company. The CIR refused the company's petition for the cancellation of the assessment notices. The company appealed the case to the CTA which denied the petition. The CTA's found no need for petitioner to set aside a portion of its retained earnings as working capital reserve since it had considerable liquid funds. A thorough review of petitioner’s financial statement reveals that the corporation had considerable liquid funds consisting of cash accounts receivable, inventory and even its sales for the period is adequate to meet the normal needs of the business. Hence this appeal. Issue: WON the company is liable for the surtax on undue accumulation of earnings Held: The company is liable for the surtax The tax on improper accumulation of surplus is essentially a penalty tax to discourage tax avoidance through corporate surplus accumulation, designed to compel corporations to distribute earnings so that the said earnings by shareholders could, in turn, be taxed.


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PD 1739 enumerates the corporations exempt from the imposition of improperly accumulated tax namely: (a) banks; (b) non-bank financial intermediaries; (c) insurance companies; and (d) corporations organized primarily and authorized by the Central Bank of the Philippines to hold shares of stocks of banks. Petitioner does not fall among those exempt classes. Based on the company's financial statements, as of 1981 the working capital of Cyanamid was P25,776,991.00, or more than twice its current liabilities which projects adequacy in working capital. There appeared no reason to expect an impending ‘working capital deficit’ which could have necessitated an increase in working capital, as rationalized by petitioner. In order to determine whether profits are accumulated for the reasonable needs of the business to avoid the surtax upon shareholders, it must be shown that the controlling intention of the taxpayer is manifested at the time of accumulation, not intentions declared subsequently, which are mere afterthoughts. Furthermore, the accumulated profits must be used within a reasonable time after the close of the taxable year. In the instant case, petitioner did not establish by clear and convincing evidence that such accumulation of profit was for the immediate needs of the business. CIR v Antonio Tuason Inc. G.R. No. 85749 May 15, 1989 Facts: On February 27, 1981, the CIR assessed Antonio Tuason, Inc. and levied a 25% surtax on unreasonable accumulation of surplus for the years 1975-1978 which amounted to Php1,151,146.98. Tuason Inc. protested the assessment's 25% surtax on the ground that the accumulation of surplus profits during the years in question was solely for the purpose of expanding its business operations as real estate broker. Issue: WON Antonio Tuason, Inc. is liable for the 25% surtax on undue accumulation of surplus for the years 1975 to 1978. Held: It is liable for the 25% surtax

It is plain to see that the company's failure to distribute dividends to its stockholders in 1975-1978 was for reasons other than the reasonable needs of the business. According to Tuason, surplus profits were set aside by the company to build up sufficient capital for its expansion program. However, while these investments were actually made, the Commissioner points out that the corporation did not use up its surplus profits. It allegation that P1,525,672.74 was spent for the construction of several buildings was refuted by the Declaration of Real Property (value) it made on those same buildings. The enormous discrepancy between the alleged investment cost and the declared market value of these pieces of real estate was not denied nor explained by the company. Since the company as of the time of the assessment in 1981, had invested in its business operations only P 773,720 out of its accumulated surplus profits of P3,263,305.88 for 1975-1978, its remaining accumulated surplus profits of P2,489,858.88 are subject to the 25% surtax. The touchstone of liability is the purpose behind the accumulation of the income and not the consequences of the accumulation. Thus, if the failure to pay dividends were for the purpose of using the undistributed earnings and profits for the reasonable needs of the business, that purpose would not fall within the interdiction of the statute". MANILA WINE MERCHANTS V CIR Facts: Manila Wine Merchants disputes the CTA decision finding it liable for improperly accumulating profit for the year 1957 and liable for Php 86,000 worth of surtax and interest. In particular, while the CTA found that the company had been distributing dividends of about 85.77% of its income, it also had investments in unrelated businesses, such as the Wack Wack Golf, Union Insurance, Acme Commercial Company and investments in US Treasury bonds. While the CTA said that the income from the other investments were minimal and thus cannot be designated as improperly accumulated earnings, the investments in US Treasury bonds with a face value of US$ 175,000 was in excess of reasonable needs of business and was unrelated to its business of selling wines and liquor, thus subject to the 25% surtax


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Wine merchants petitioned the Court against the decision alleging that the US treasury bonds were held by it to be used in its importation, and future expansion (i.e. it allegedly planned to buy property and construct its own building but had to wait until its stockholder base was 60% Filipino before being able to do so) They also allege that the surtax cannot be imposed in 1957 for accumulation that occurred in 1951 (when they bought the shares) Issue: 1) whether the purchase of the U.S.A. Treasury bonds by petitioner in 1951 can be construed as an investment to an unrelated business and whether it represented earnings and profits improperly accumulated beyond the reasonable needs of the business 2) whether the penalty tax of twenty-five percent (25%) can be imposed on such improper accumulation in 1957 despite the fact that the accumulation occurred in 1951

Held: YES. It is improperly accumulated earnings. The Court stated: A prerequisite to the imposition of the tax has been that the corporation be formed or availed of for the purpose of avoiding the income tax (or surtax) on its shareholders, or on the shareholders of any other corporation by permitting the earnings and profits of the corporation to accumulate instead of dividing them among or distributing them to the shareholders. If the earnings and profits were distributed, the shareholders would be required to pay an income tax thereon whereas, if the distribution were not made to them, they would incur no tax in respect to the undistributed earnings and profits of the corporation. The touchstone of liability is the purpose behind the accumulation of the income and not the consequences of the accumulation. An accumulation of earnings or profits (including undistributed earnings or profits of prior years) is unreasonable if it is not required for the purpose of the business, considering all the circumstances of the case. To determine the "reasonable needs" of the business in order to justify an accumulation of earnings, the Courts of the United States have invented the so-called "Immediacy Test" which construed the words "reasonable needs of the business" to mean the immediate needs of the business, and it was generally held that if the

corporation did not prove an immediate need for the accumulation of the earnings and profits, the accumulation was not for the reasonable needs of the business, and the penalty tax would apply. American cases likewise hold that investment of the earnings and profits of the corporation in stock or securities of an unrelated business usually indicates an accumulation beyond the reasonable needs of the business. To justify an accumulation of earnings and profits for the reasonably anticipated future needs, such accumulation must be used within a reasonable time after the close of the taxable year. In order to determine whether profits are accumulated for the reasonable needs of the business as to avoid the surtax upon shareholders, the controlling intention of the taxpayer is that which is manifested at the time of accumulation not subsequently declared intentions which are merely the product of afterthought. A speculative and indefinite purpose will not suffice. The mere recognition of a future problem and the discussion of possible and alternative solutions is not sufficient. Definiteness of plan coupled with action taken towards its consummation are essential. Finally, petitioner asserts that the surplus profits allegedly accumulated in the form of U.S.A. Treasury shares in 1951 by it (petitioner) should not be subject to the surtax in 1957. In other words, petitioner claims that the surtax of 25% should be based on the surplus accumulated in 1951 and not in 1957. VIS. ISSUE 2: The rule is now settled in Our jurisprudence that undistributed earnings or profits of prior years are taken into consideration in determining unreasonable accumulation for purposes of the 25% surtax. The case of Basilan Estates, Inc. vs. Commissioner of Internal Revenue: 'In determining whether accumulations of earnings or profits in a particular year are within the reasonable needs of a corporation, it is necessary to take into account prior accumulations, since accumulations prior to the year involved may have been sufficient to cover the business needs and additional accumulations during the year involved would not reasonably be necessary.'"


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ORDINARY ASSETS AND CAPITAL ASSETS; CAPITAL ASSET V ORDINARY ASSET

TUASON v. LINGAD [G.R. No. L-24248 July 31, 1974]

FACTS: Petitioner inherited from his mother 29 tracts of land. After the petitioner took possession of the mentioned parcels, he instructed his attorney-in-fact, J. Antonio Araneta, to sell them. The 28 small lots were sold to their respective occupants on a 10-year installment basis. Petitioner's attorney-in-fact had Lot 29 filled, then subdivided into small lots. The small lots were then sold over the years on a uniform 10-year annual amortization basis. Petitioner's attorney-in-fact, did not employ any broker nor did he put up advertisements in the matter of the sale thereof. Petitioner reported his income from the sale of the small lots as long-term capital gains. However, the Commissioner considered the petitioner's profits from the sales of the mentioned lots as ordinary gains and advised the latter to pay deficiency income tax. ISSUE: WON the properties which the petitioner inherited and subsequently sold in small lots to other persons should be regarded as capital assets

HELD: No, they were ordinary assets. The term ‘capital assets’ includes all the properties of a taxpayer whether or not connected with his trade or business, except: (1) stock in trade or other property included in the taxpayer's inventory; (2) property primarily for sale to customers in the ordinary course of his trade or business; (3) property used in the trade or business of the taxpayer and subject to depreciation allowance; and (4) real property used in trade or business. Here, when Petitioner obtained by inheritance the parcels in question, transferred to him was not merely the duty to respect the terms of any contract thereon, but as well the correlative right to receive and enjoy the fruits of the business and property which the decedent established and maintained. Moreover, the record discloses that the petitioner owned other real properties which he was putting out for rent, from which he periodically derived a substantial income, and for which he had to pay the real estate dealer's tax (which he used to deduct from his gross income). In fact, Petitioner was receiving rental payments from the mentioned 28 small lots, even if the leases executed by his deceased mother thereon already expired. Under the circumstances, the petitioner's sales of the several lots forming part of his rental business cannot be characterized as other than sales of

non-capital assets.

FERRER v. COLLECTOR

FACTS: Petitioner was the sole proprietor of the "La Suiza Bakery" which he sold to Juan Pons for the sum of P100,000.00. After deducting the total book value of the assets and the incidental expenses from the gross selling price, petitioner filed on February 14, 1956 his ITR, showing a net profit of P19,678.09 as having been realized from the sale of the bakery. On the basis of this amount, he paid P2,439.00 as income tax on February 15, 1956.

Petitioner later requested the respondent to refund to him the sum of P2,030.00, claiming that the bakery was a capital asset which he had held for more than twelve months, so that the profit from its sale was a long term capital gain, and therefore, only 50 per cent of it was taxable under the National Internal Revenue Code. He filed a petition for refund but the Tax Court held that the sale of the bakery did not constitute a sale of a single asset but of individual assets, some of which were capital assets while others were ordinary assets.

ISSUE: Whether or not the sale of the La Suiza Bakery was a sale of a capital asset so that the profits derived from the sale is taxable up to 50 per cent only, considering that petitioner owned it for more than twelve months, or whether the business is to be comminuted into its component parts, each part to be tested against the definition of a capital assets in the Tax Code.1äwphï1.ñët

HELD: The sale of the "La Suiza Bakery" was a sale not of a single asset but of individual assets that made up the business. And since petitioner failed to point out what part of the price he had received could be fairly attributed to each asset, the Tax Court correctly denied his claim.

While agreeing with the Tax Court that the good-will of the business is a capital asset, petitioner nevertheless contends that there is neither factual nor legal basis for concluding that the good-will of the bakery which he had acquired for P10,000.00 was sold at the same price. The petitioner states that he sold the assets of the bakery at their stated book value and that whatever amount of the selling price exceeded the total book value of the assets minus the good-will should be attributed to the


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latter alone. In short, it is urged that whatever profit was made from the sale came solely from the bakery's good-will which the Tax Court held to be a capital asset, only 50 per cent of which was taxable.

For this reason, We believe that any profit which the petitioner may have gained in the same must have come from the sale of the other assets of the business which must have been sold for amounts other than their stated book value.

DOCTRINE: In order to ascertain the capital and/or ordinary gains taxes properly payable on the sale of a business, including its tangible assets, it is incumbent upon the taxpayer to show not only the cost basis of each asset, but also what portion of the selling price is fairly attributable to each asset.

ROXAS v. CTA, (GR No L-25043, April 26, 1968)

FACTS: Don Pedro Roxas and Dona Carmen Ayala, Spanish subjects, transmitted to their grandchildren by hereditary succession several properties. To manage the above-mentioned properties, said children, namely, Antonio Roxas, Eduardo Roxas and Jose Roxas, formed a partnership called Roxas y Compania. At the conclusion of the WW2, the tenants who have all been tilling the lands in Nasugbu for generations expressed their desire to purchase from Roxas y Cia. the parcels which they actually occupied. For its part, the Government, in consonance with the constitutional mandate to acquire big landed estates and apportion them among landless tenants-farmers, persuaded the Roxas brothers to part with their landholdings. Conferences were held with the farmers in the early part of 1948 and finally the Roxas brothers agreed to sell 13,500 hectares to the Government for distribution to actual occupants for a price of P2,079,048.47 plus P300,000.00 for survey and subdivision expenses. It turned out however that the Government did not have funds to cover the purchase price, and so a special arrangement was made for the Rehabilitation Finance Corporation to advance to Roxas y Cia. the amount of P1,500,000.00 as loan. Collateral for such loan were the lands proposed to be sold to the farmers. Under the arrangement, Roxas y Cia. allowed the farmers to buy the lands for the same price but by installment, and contracted with the Rehabilitation Finance Corporation to pay its loan from the proceeds of the yearly amortizations paid by the farmers.

The CIR demanded from Roxas y Cia the payment of deficiency income taxes resulting from the inclusion as income of Roxas y Cia. of the unreported 50% of the net profits for 1953 and 1955 derived from the sale of the Nasugbu farm lands to the tenants, and the disallowance of deductions from gross income of various business expenses and contributions claimed by Roxas y Cia. and the Roxas brothers. For the reason that Roxas y Cia. subdivided its Nasugbu farm lands and sold them to the farmers on installment, the Commissioner considered the partnership as engaged in the business of real estate, hence, 100% of the profits derived therefrom was taxed. The Roxas brothers protested the assessment but inasmuch as said protest was denied, they instituted an appeal in the CTA which sustained the assessment. Hence, this appeal. ISSUE: Is Roxas y Cia. liable for the payment of deficiency income for the sale of Nasugbu farmlands? HELD: NO. The proposition of the CIR cannot be favorably accepted in this isolated transaction with its peculiar circumstances in spite of the fact that there were hundreds of vendees. Although they paid for their respective holdings in installment for a period of 10 years, it would nevertheless not make the vendor Roxas y Cia. a real estate dealer during the 10-year amortization period. It should be borne in mind that the sale of the Nasugbu farm lands to the very farmers who tilled them for generations was not only in consonance with, but more in obedience to the request and pursuant to the policy of our Government to allocate lands to the landless. It was the bounden duty of the Government to pay the agreed compensation after it had persuaded Roxas y Cia. to sell its haciendas, and to subsequently subdivide them among the farmers at very reasonable terms and prices. However, the Government could not comply with its duty for lack of funds. Obligingly, Roxas y Cia. shouldered the Government's burden, went out of its way and sold lands directly to the farmers in the same way and under the same terms as would have been the case had the Government done it itself. For this magnanimous act, the municipal council of Nasugbu passed a resolution expressing the people's gratitude. In fine, Roxas y Cia. cannot be considered a real estate dealer for the sale in question. Hence, pursuant to Section 34 of the Tax Code the lands sold to the farmers are capital assets, and the gain derived from the sale thereof is capital gain, taxable only to the extent of 50%.


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ORDINARY ASSETS AND CAPITAL ASSETS; CAPITAL ASSET V ORDINARY ASSET & TREATMENT OF SALE OR EXCHANGE OF CAPITAL ASSETS WHICH ARE NOT REAL PROPERTY

CALASANZ VS COMMISSIONER OF INTERNAL REVENUE [GR No. L-26284 October 9, 1986 (144 SCRA 664)]

Facts: Ursula Calasanz inherited from her father an agricultural land. In order to liquidate her inheritance, she had the land surveyed and subdivided into lots. Improvements were introduced to make the lots saleable. The lots were then sold to the public for profit. In their income tax return for the year 1957, the spouses Calasanz declared the profits they realized from the sale of the subdivided lots as taxable capital gains. The Commissioner of Internal Revenue, upon review of the ITR, concluded that the profits from the sale of the lots should be treated as ordinary income, not as capital gains. The spouses were accordingly assessed a deficiency income tax on said profits.

The Calasanz filed with the Court of Tax Appeals a petition for review. The CTA upheld the CIR.

Issue: Whether the gains realized from the sale of the lots are taxable in full as ordinary income or capital gains taxable at capital gain rates.

Held: The Court sustained decision of the CTA. It held that the gains from the sale of the lots are ordinary income taxable in full. The assets of a taxpayer are classified into ordinary assets and capital assets. Sec 34 (a) (1) of the Tax Code broadly defines capital assets as “property held by the taxpayer…[except] property held by the taxpayer primarily for sale to customers in the ordinary course of his trade or business….” Properties falling under the exception just mentioned are ordinary assets. Any gain resulting from the sale or exchange of an asset is a capital gain or an ordinary gain depending on the kind of asset involved in the transaction. A property which is a capital asset may be reclassified as an ordinary asset if it is shown that the activity in which it is used is in furtherance of or in the course of the taxpayer’s trade or business. In this case, the inherited property was substantially improved and very actively sold. Thus, the property may be treated as held primary for sale to customers in the ordinary course of the heir’s business. The property is an ordinary asset. Gains from its sale are ordinary income taxable in full.

TAX FREE EXCHANGES AND OTHER EXEMPT TRANSACTIONS; IN GENERAL

W.C. Ogan and Bohol Land Transportation Co v Bibian L Meer, CIR (GR No L-49102, 30 May 1949) Facts: Plaintiffs respectively owned 100 and 200 shares of stock of the Central Motor Supply Company, Inc. which had a capital stock of P300,000 divided into shares with par value of P100 each. On the other hand, Central Motor had no other assets other than shares of stock it acquired from Motor Service Company, Inc. which was capitalized at P300,000, similarly divided into P3,000 shares valued at P100 each. Central Motor eventually owned 2,995 shares of stock of Motor Service, leaving only 5 shares of stock under the ownership of the five directors of Central Motors who, as it so happens, were also the directors of Motor Service. On 5 May 1936, the board of Central Motor passed a resolution resolving to transfer to its stockholders the 2,995 shares of stock it had acquired from Motor Service. Pursuant to this, it withdrew its 2,995 shares of stock from its stockholders and replaced them, share for share, with shares of stock from Motor Service. Thus, W.C. Ogan and Bohol Land Transportation became owners of 100 and 200 shares of stock of the Motor Service Company, Inc. At the time of the transaction, the shares of stock of Central Motor had a par value of P100/share while the shares of stock of Motor Service had a market value of P166.66. Defendants reckoned the difference of P66.66 between the value of the shares of stock of the two corporations as taxable income received by the plaintiffs from the above transaction and assessed them accordingly for it pursuant to section 2(c) paragraph (3) in relation of Act No. 2833 as amended by Act No 2926 in relation to section 2(a) of the same act. Plaintiffs duly paid the tax but contested the assessment alleging that there was no profit in the exchange. In the main, they argue that Motor Service, the subsidiary company, had a net worth of P499,980. Since the company had 3,000 shares of stock outstanding, each share must have been worth P166.66. Inasmuch as the parent corporation, Central Motor, had no other assets other than it's shares in Motor Service, then it's net worth must have also been P499,980. And since the company also had 3,000 shares of stock outstanding, each share of Motor Service must


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have been worth P166.66. Thus, at the date of the exchange, there was no profit realized. The plaintiffs went further to argue that, assuming that the shares of Motor Service was worth more than the shares of Central Motor, the transaction on 5 May 1936 was merely a simplification of the corporate relations between a parent corporation and its subsidiary. Plaintiffs alleged that, although denominated differently, there actually was no separation of identities between the two companies. That, in truth, the subsidiary should not have been considered to exist. Thus, the shares of stock of the parent corporation represent the exact same physical assets as those represented by the shares of stock of the subsidiary corporation and that the transaction on 5 May 1936 was not a taxable transaction. HELD: The SC found in favor of the defendants. It upheld the findings of the trial court where an examiner of the BIR determined that each share of stock of the Motor Service Company for Central Motor Supply Company was valued at P100. Meanwhile, the parties themselves stipulated that the fair market value of each share of stock of Motor Service was at P166.66 at the time of the transaction. Thus, it cannot be denied that there was an increase in the value held by plaintiffs. Neither can plaintiffs' claims as to the singleness of the identity of the two companies be upheld. here is no dispute that the two corporations are different from each other, each having distinct legal personalities, and one cannot be identified with the other, both having different rights and responsibilities under the law, and the stockholders in the Central Motor Co., Inc., (the so-called parent company), by the mere fact of being stockholders thereof, do not became stockholders of the Motor Service Co., Inc., (the so-called subsidiary company), nor enjoy the rights and privilege of the same. When the stockholders of one corporation became the stockholders of the other, as a result of a transaction of exchange, they earn positive benefit and advantages, such as the right to vote their stocks at the stockholders' meeting of the second corporation, and, in the present case, they profited by the difference of share values at the rate of P66.66 per share. There cannot be any question that there was in the transaction of May 5, 19336, an exchange of one property with another. Clearly, plaintiffs have no cause of action for the recovery of the amounts they paid.

TAX FREE EXCHANGES AND OTHER EXEMPT TRANSACTIONS; MERGER OR CONSOLIDATION

CIR V RUFINO

Facts: The CIR held the respondents liable for deficiency income tax, surcharge, and interest for the year 1959. The respondents were majority stockholders of the old corporation (Eastern Theatrical Co., Inc.), which was organized for 25 years. Likewise, they are also the majority and controlling stockholders of the new corporation (Eastern Theatrical, Inc.). The two corporations signed a deed of assignment providing for the terms of the merger. Through the merger, the old corporation transferred all its business assets, goodwill, and liabilities to the new corporation in exchange for stocks.

According to the respondents the merger was necessary to continue the exhibition of films at two theaters (Lyric and Capitol) since the old corporation has pending booking contracts with the theaters. In addition, the old corporation has a collective bargaining agreement with its employees that will be terminated if the merger did not push through.

However, the CIR ruled that the merger was not undertaken for a bona fide business purpose but to avoid liability for the capital gains tax on the exchange of the old for the new shares of stock. The CIR claimed that the new corporation did not actually issue stocks in exchange for the properties of the old corporation at the time of the supposed merger. The exchange, he says, was only on paper since it was not possible for the new corporation to effect the exchange provided for in the agreement because it had a capital of only P200,000, as against the capitalization of the old corporation, which was P2 million.

The respondents elevated the case to the Court of Appeals, which reversed the decision of the CIR.

Held: The Supreme Court upheld the decision of the CA.

A corporate merger where the new corporation continues to operate the business of the old corporation is not subject to capital gains tax. The


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merger, however, must be undertaken for a bona fide business purpose and not solely for the purpose of escaping taxation.

Contrary to the claim of the petitioner, there was a valid merger although the actual transfer of the properties was not made on the date of the signing of the deed of assignment. It was not possible to make the transfer then and there because the old corporation had to surrender its net assets first to the new corporation before the latter could issue its own stock to the shareholders of the old corporation. In other words, the new corporation had to first increase its capitalization in order to make the transfer of stock. Also, it should be noted that the SEC approved the merger although this was done after the deed of assignment was signed.

There was also no indication that the old corporation wanted to evade taxation because it was clear from the evidence presented that the new corporation continued the business of the old corporation sine the merger, which happened 27 years ago. If the new corporation intended to evade the capital gains tax, then it would have dissolved immediately after the merger occurred.

TAX FREE EXCHANGES AND OTHER EXEMPT TRANSACTIONS; EXCHANGE OF PROPERTY FOR SHARES OF STOCK

LIDDELL & CO., INC., petitioner-appellant, vs. THE COLLECTOR OF INTERNAL REVENUE, respondent-appellee. [G.R. No. L-9687. June 30, 1961.]

Facts: The purpose clause of the Articles of Incorporation of Liddell & Co. Inc., was amended so as to limit its business activities to importations of automobiles and trucks, Liddell & Co. was engaged in business as an importer and at the same time retailer of Oldsmobile and Chevrolet passenger cars and GMC and Chevrolet trucks. Later, Liddell & Co. stopped retailing cars and trucks; it conveyed them instead to Liddell Motors, Inc, when it was incorporated. which in turn sold the vehicles to the public with a steep mark-up. Since then, Liddell & Co. paid sales taxes on the basis of its sales to Liddell Motors, Inc. considering said sales as its original sales. CIR determined that the latter was but an alter ego of Liddell & Co. Wherefore, he concluded, that for sales tax purposes, those sales made by Liddell Motors, Inc. to the public were considered as the original sales of Liddell & Co. hence was assessed for deficiency taxes.

Issue: Whether or not Liddell is liable for deficiency taxes.

Held: Yes. A taxpayer may not deny tax liability on the ground that the sales were made through another and distinct corporation when it is proved that the latter is virtually owned by the former or that they are practically one and the same corporation. Deficiency sales tax should be based on the selling price to the public after deducting the tax paid on the original sales.

ACCOUNTING PERIODS AND METHODS; TERMINATION OF LEASEHOLD

CONSOLIDATED MINES V CTA (August 29, 1974)

Facts: The BIR investigated the income tax returned filed by the Company, a domestic corporation, because the latter's auditor claimed the refund of P107,472.00 representing alleged overpayments of income taxes for the year 1951. Examiners reported that (A) for the years 1951 to 1954 (1) the Company had not accrued as an expense the share in the company profits of Benguet Consolidated Mines as operator of the Company's mines, although for income tax purposes the Company had reported income and expenses on the accrual basis; (2) depletion and depreciation expenses had been overcharged; and (3) the claims for audit and legal fees and miscellaneous expenses for 1953 and 1954 had not been properly substantiated; and that (B) for the year 1956 (1) the Company had overstated its claim for depletion; and (2) certain claims for miscellaneous expenses were not duly supported by evidence. CIR sent the Company a demand letter requiring it to pay deficiency income taxes. CIR refused to reconsider, so the Company appealed to the CTA. May 1961 - CTA rendered judgment ordering the Company to pay the amounts of P107,846.56, P134,033.01 and P71,392.82 as deficiency income taxes for the years 1953, 1954 and 1956, respectively, but nullified the assessments for the years 1951 and 1952 on the ground that


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they were issued beyond the five-year period prescribed by Section 331 of the National Internal Revenue Code. August 1961 – CTA reconsidered; further reduced the deficiency income tax liabilities of the Company to P79,812.93, P51,528.24 and P71,382.82 for the years 1953, 1954 and 1956, respectively, subscribing to the theory of the Company that Benguet had no right to share in "Accounts Receivable," hence one-half thereof may not be accrued as an expense of the Company for a given year. Both the Company and the CIR appealed. The CIR questions what he characterizes as the "hybrid" or "mixed" method of accounting utilized by the Company, and approved by the Tax Court, in treating the share of Benguet in the net profits from the operation of the mines in connection with its income tax returns.

The Company used the accrual method of accounting in computing its income. One of its expenses is the amount-paid to Benguet as mine operator, which amount is computed as 50% of "net income." The Company deducts as an expense 50% of cash receipts minus disbursements, but does not deduct at the end of each calendar year what the Commissioner alleges is "50% of the share of Benguet" in the "accounts receivable." However, it deducts Benguet's 50% if and when the "accounts receivable" are actually paid. It would seem, therefore, that the Company has been deducting a portion of this expense (Benguet's share as mine operator) on the "cash & carry" basis.

Issue: WON the accounting system used by the Company justifies such a treatment of the item; and if not, WON said method used by the Company, and characterized by the CIR as a “hybrid method,” may be allowed under the Code

Held: It is clear from par. VIII that in the computation of "net profits" (to be divided on the 90%-10% sharing arrangement) only "cash payments" received and "cash disbursements" made by Benguet were to be considered. On the presumption that the parties were consistent in the use of the term, the same meaning must be given to "net profits" as used in par. X, and "gross income," accordingly, must be equated with "cash receipts." The language used by the parties show their intention to compute Benguet's 50% share on the excess of actual receipts over

disbursements, without considering "Accounts Receivable" and "Accounts Payable" as factors in the computation. Benguet then did not have a right to share in "Accounts Receivable," and, correspondingly, the Company did not have the liability to pay Benguet any part of that item. And a deduction cannot be accrued until an actual liability is incurred, even if payment has not been made. Here we have to distinguish between (1) the method of accounting used by the Company in determining its net income for tax purposes; and (2) the method of computation agreed upon between the Company and Benguet in determining the amount of compensation that was to be paid by the former to the latter. The parties, being free to do so, had contracted that in the method of computing compensation the basis were "cash receipts" and "cash payments." Once determined in accordance with the stipulated bases and procedure, then the amount due Benguet for each month accrued at the end of that month, whether the Company had made payment or not (see par. XIV of the agreement). To make the Company deduct as an expense one-half of the "Accounts Receivable" would, in effect, be equivalent to giving Benguet a right which it did not have under the contract, and to substitute for the parties' choice a mode of computation of compensation not contemplated by them.

Since Benguet had no right to one-half of the "Accounts Receivable," the Company was correct in not accruing said one-half as a deduction. The Company was not using a hybrid method of accounting, but was consistent in its use of the accrual method of accounting.

PEREZ V CTA

Held: In civil cases, the application of the net worth method does not require identification of the sources of the alleged unreported income and the determination of the tax deficiency by the government is prima facie correct.

CIR V REYES (1958)

Facts: Respondent Aurelio P. Reyes is engaged in the optical, office equipment and haberdashery business. During the years from 1946 to 1950, he filed his income on the basis of the “cash receipts and


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disbursement method” and made the corresponding tax payments thereon.

The internal revenue examiners conducted a verification of the said income tax returns for the taxable years of 1946 to 1950. They used as their basis of investigation the “net worth method” of determining income (aka the “inventory method”). Upon conclusion of the examination, the CIR issued a deficiency assessment (P641 470.04) as deficiency income tax for the aforementioned years, together with the corresponding penalties.

Reyes failed to secure a revision of the deficiency assessment and so he filed a Petition for Review of the CIR’s decision with the Court of Tax Appeals. The CTA rendered a decision ordering Reyes to pay the aggregate amount of P210 759.20 representing the deficiency income tax and 50% surcharge corresponding to the taxable years 1946, 1947, 1948 and 1950. Both parties appealed from the decision.

Issue 1: Whether it was proper for the CIR to use the “net worth” or “inventory” method;

Issue 2: Whether it the disallowance by the Tax Court of alleged personal loans made to him, which were not noted in his books and records.

Held 1: YES. The SC has already decided in favor of the lawfulness of the “net worth” or “inventory” method in Perez vs. CTA (GR l-10507.) Moreover, the appellant Reyes has not shown adequate reason to depart from the said ruling. The taxpayer cannot expect the tax authorities to depend upon his account books and records when he has himself introduced evidence of their unreliability. Books of account do not prove per se that they are veracious.

Held 2 : YES. Section 334 of the Revenue Code provides in clear and unmistakable language that all persons required by law to pay internal revenue taxes must keep a journal and a ledger or their equivalent. However, where the gross quarterly sales, earning, receipts or output do not exceed P5000.00, such persons are required to keep and use a simplified set of textbooks, wherein all transaction and results of operations must be shown. The reason is so that all taxes due the Government may be readily and accurately ascertained and determined any time of the year. That the personal loans in question affect the

determination of the taxpayer’s income tax is attested by his attempt to prove the existence of such loans to reduce the deficiency income tax assessed against him.

In the case of personal loans, it is not enough to prove the existence of such loans by the presentation of promissory notes or “vales” signed by the borrower, or of checks or vouchers evidencing payment. By the very nature of loan transactions between individuals, such transactions are easily concocted, specially between friends and relatives, and promissory notes, “vales”, checks and other similar documents deserve scant consideration. This is specially true where the supposed borrower has a pending tax assessment.

FILIPINAS SYNTHETIC V CA

FACTS: The case is a consolidation of two Petitions for Review on Certiorari (Rule 45) seeking to set aside the decision of the Court of Appeals.

Filipinas Synthetic Fiber Corp. (Filipinas), a domestic corporation, received on 27 December 1979 a a letter of demand from the CIR assessing it for deficiency withholding tax at source (P829 748.77), inclusive of interest and compromise penalties, for the period from the 4.quarter of 1974 to the 4.quarter of 1975. The bulk of the deficiency withholding tax assessement, however, consisted of interest and compromise penalties for alleged late payment of withholding taxes due on interest loans, royalties and guarantee fees paid by the petitioner to non-resident corporations. The assessment was seasonably protested by the petitioner. The CIR denied the protest, arguing that for Philippine internal revenue tax purposes, the liability to withhold and pay income tax withheld at source from certain payments due to a foreign corporation is at the time of accrual and not at the time of actual payment or remittance thereof.

Filipinas brought a Petition for Review before the CTA, which ruled against the former. The CA affirmed in toto the CTA decision. Hence, this Petition for Review on Certiorari.

Issue: Whether the liability to withhold tax at source on income payments to non-resident corporations arises upon remittance of the amounts due to the foreign creditors or upon accrual thereof


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Held: There was a definite liability, a clear and imminent certainty that at the maturity of the loan contracts, the foreign corporation was going to earn income in an ascertained amount, so much that petitioner already deducted as business expense the said amount as interests due to the foreign corporation. This is allowed under the law, Filipinas having adopted the accrual method of accounting in reporting its income.

Under the accrual basis method of accounting, income is reportable when all the events have occurred that fix the taxpayer’s right to receive the income and the amount can be determined with reasonable accuracy. Thus, it is the right to receive income, not the actual receipt, that determines when to include the amount in gross income.

Requisites of Accrual Method

i. The right to receive the amount must be valid, unconditional and enforceable;

ii. The amount must be reasonably susceptible of accurate estimate; and

iii. There must be a reasonable expectation that the amount will be paid in due course.

The Supreme Court affirmed the CA decision, which ruled that Filipinas cannot claim that there is no duty to withhold and remit income taxes yet because the loan contract was not yet due and demandable. Having “written off” the amounts as business expense in its books, it had taken advantage of the benefit provided in the law allowing for deductions from gross income. Moreover, it had represented to the BIR that the amounts so deducted were incurred as business expense in the form of interest and royalties paid to the foreign corporations. It is now estopped from claiming otherwise.

ACCOUNTING PERIODS AND METHODS; RECORDING OF INCOME AND EXPENSES/KEEPING OF BOOKS

CIR V WYETH SUACO LABORATORIES, INC. (1991)

Facts: Wyeth Suaco Laboratories, Inc. (Wyeth) is a domestic corporation engaged in the manufacture and sale of assorted pharmaceutical and nutritional products. Its accounting period is on a fiscal year basis ending 31 October of every year.

An investigation and examination of Wyeth’s books of account were conducted. The report thereof disclosed that Wyeth was paying royalties to its foreign licensors as well as remuneration for technical services to Wyeth International Laboratories of London. Wyeth was also found to have declared cash dividends on 27 September 1973, which was paid on 31 October of the same year. However, it allegedly failed to remit withholding tax at source for the 4. Quarter of 1973 on accrued royalties, remuneration for technical services and cash dividends, resulting in a deficiency withholding tax at source (P3 178 994.15). Consequently, the BIR Wyeth on its tax liabilities.

Issue: Whether withholding tax at source should only be remitted to the BIR once the income subject to withholding tax at source have actually been paid

Held: Wyeth adopted the accrual method of accounting, wherein the effect of the transactions and other events on assets and liabilities are recognized and reported in the time periods to which they relate rather than when cash is received or paid. Thus, Wyeth recorded accrued royalties and dividends payable as well as the withholding tax at source payable on these incomes. Having deducted and withheld the tax at source payable in its books of accounts, Wyeth was obligated to remit the same to the BIR.

CONSOLIDATED MINES, INC., petitioner, vs. COURT OF TAX APPEALS and COMMISSIONER OF INTERNAL REVENUE, respondents. [GRN L-18853 August 29, 1974]

Facts: The Company, a domestic corporation engaged in mining, had filed its income tax returns for 1951, 1952, 1953 and 1956. In 1957 examiners of the Bureau of Internal Revenue investigated the income tax returns filed by the Company because on August 10, 1954, its auditor, Felipe Ollada, claimed the refund of the sum of P107,472.00 representing alleged overpayments of income taxes for the year 1951.

In view of said reports the Commissioner of Internal Revenue sent the Company a letter of demand requiring it to pay certain deficiency income


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taxes for the years 1951 to 1954, and 1956. Deficiency income tax assessment notices for said years were also sent to the Company.

The Company requested a reconsideration of the assessment, but the Commissioner refused to reconsider, hence the Company appealed to the Court of Tax Appeals. The assessments for 1951 to 1954 were contested in CTA Case No. 565, while that for 1956 was contested in CTA Case No. 578. Upon agreement of the parties the two cases were heard and decided jointly.

On May 6, 1961 the Tax Court rendered judgment ordering the Company to pay the amounts of P1 07,846.56, P134,033.01 and P71,392.82 as deficiency income taxes for the years 1953, 1954 and 1956, respectively. The Tax Court nullified the assessments for the years 1951 and 1952 on the ground that they were issued beyond the five-year period prescribed by Section 331 of the National Internal Revenue Code.

However, on August 7, 1961, upon motion of the Company, the Tax Court reconsidered its decision and further reduced the deficiency income tax liabilities of the Company to P79,812.93, P51,528.24 and P71,382.82 for the years 1953, 1954 and 1956, respectively. In this amended decision the Tax Court subscribed to the theory of the Company that Benguet Consolidated Mining Company, hereafter referred to as Benguet, had no right to share in "Accounts Receivable," hence one half thereof may not be accrued as an expense of the Company for a given year.

Both the Company and the Commissioner appealed to this Court. The Company questions the rate of mine depletion adopted by the Court of Tax Appeals and the disallowance of depreciation charges and certain miscellaneous expenses (G.R. Nos. L-18843 & L-18844). The Commissioner, on the other hand, questions what he characterizes as the "hybrid" or "mixed" method of accounting utilized by the Company, and approved by the Tax Court, in treating the share of Benguet in the net profits from the operation of the mines in connection with its income tax returns (G.R. Nos. L-18853 & L-18854).

With respect to methods of accounting, the Tax Code states:

"Sec. 38. General Rules. The net income shall be computed upon the basis of the taxpayer's annual accounting period (fiscal year or calendar year, as the case may be) in accordance with the method of accounting regularly employed in keeping the books of such taxpayer but if no such

method of accounting has been so employed or if the method employed does not clearly reflect the income the computation shall be made in accordance with such methods as in the opinion of the Commissioner of Internal Revenue does clearly reflect the income "Sec. 39, Period in which items of gross income included. The amount of all items of gross income shall be included in the gross income for the taxable year in which received by the taxpayer, unless, under the methods of accounting permitted under Section 38, any such amounts are to be properly accounted for as of a different period ...

"Sec. 40. Period for which deductions and credits taken. - The deductions 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, unless in order to clearly reflect the income the deductions should be taken as of a different period . . ."

It is said that accounting methods for tax purposes1 comprise a set of rules for determining when and how to report income and deductions. The U.S. Internal Revenue Code2 allows each taxpayer to adopt the accounting method most suitable to his business, and requires only that taxable income generally be based on the method of accounting regularly employed in keeping the taxpayer's books, provided that the method clearly reflects income.3

The Company used the accrual method of accounting in computing its income. One of its expenses is the amount paid to Benguet as mine operator, which amount is computed as 50% of "net income." The Company deducts as an expense 50% of cash receipts minus disbursements, but does not deduct at the end of each calendar year what the Commissioner alleges is "50% of the share of Benguet" in the "accounts receivable." However, it deducts Benguet's 50% if and when the "accounts receivable" are actually paid. It would seem, therefore, that the Company has been deducting a portion of this expense (Benguet's share as mine operator) on the "cash & carry" basis. The question is whether or not the accounting system used by the Company justifies such a treatment of this item; and if not, whether said method used by the Company, and characterized by the Commissioner as a "hybrid method," may be allowed under the aforequoted provisions of our tax code.4


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For a proper understanding of the situation the following facts are stated: The Company has certain mining claims located in Masinloc, Zambales. Because it wanted to relieve itself of the work and expense necessary for developing the claims, the Company, on July 9, 1934, entered into an agreement (Exhibit L) with Benguet, a domestic anonymous partnership engaged in the production and marketing of chromite, whereby the latter undertook to "explore, develop, mine, concentrate and market" the pay ore in said mining claims.

The pertinent provisions of their agreement, as amended by the supplemental agreements of September 14, 1939 (Exhibit L-1) and October 2, 1941 (Exhibit L-2), are as follows:

"IV. Benguet further agrees to provide such funds from its own resources as are in its judgment necessary for the exploration and development of said claims and properties, for the purchase and construction of said concentrator plant and for the installation of the proper transportation facilities as provided in paragraphs I, II and III hereof until such time as the said properties are on a profit producing basis and agrees thereafter to expend additional funds from its own resources, if the income from the said claims is insufficient therefor, in the exploration and development of said properties or in the enlargement or extension of said concentration and transportation facilities if in its judgment good mining practice requires such additional expenditures. Such expenditures from its own resources prior to the time the said properties are put on a profit producing basis shall be reimbursed as provided in paragraph VIII hereof. Expenditures from its own resources thereafter shall be charged against the subsequent gross income of the properties as provided in paragraph X hereof.

"VII. As soon as practicable after the close of each month Benguet shall furnish Consolidated with a statement showing its expenditures made and ore settlements received under this agreement for the preceeding month which statement shall be taken as accepted by Consolidated unless exception is taken thereto or to any item thereof within ten days in writing in which case the dispute shall be settled by agreement or by arbitration as provided in paragraph XXII hereof.

"VIII. While Benguet is being reimbursed for all its expenditures, advances and disbursements hereunder as evidenced by said statements of accounts, the net profits resulting from the operation of the aforesaid claims or properties shall be divided ninety per cent (90%) to

Benguet and ten per cent (10%) to Consolidated. Such division of net profits shall be based on the receipts, and expenditures during each calendar year, and shall continue until such time as the ninety per cent (90%) of the net profits pertaining to Benguet hereunder shall equal the amount of such expenditures, advances and disbursements. The net profits shall be computed as provided in Paragraph X hereof.

"X. After Benguet has been fully reimbursed for its expenditures, advances and disbursements as aforesaid the net profits from the operation shall be divided between Benguet and Consolidated share and share alike, it being understood however, that the net profits as the term is used in this agreement shall be computed by deducting from gross income all operating expenses and all disbursements of any nature whatsoever as may be made in order to carry out the terms of this agreement.

"XIII. It is understood that Benguet shall receive no compensation for services rendered as manager or technical consultants in connection with the carrying out of this agreement. It may, however, charge against the operation actual additional expenses incurred in its Manila Office in connection with the carrying out of the terms of this agreement including traveling expenses of consulting staff to the mines. Such expenses, however, shall not exceed the sum of One Thousand Pesos (P1,000.00) per month. Otherwise, the sole compensation of Benguet shall be its proportion of the net profits of the operation as herein above set forth.

"XIV. All payments due Consolidated by Benguet under the terms of this agreement with respect to expenditures made and ore settlements received during the preceding calendar month, shall be payable on or before the twentieth day of each month."

There is no question with respect to the 90%-10% sharing of profits while Benguet was being reimbursed the expenses disbursed during the period it was trying to put the mines on a profit- producing basis.5 It appears that by 1953 Benguet had completely recouped said advances, because they were. then dividing the profits share and share alike.

As heretofore stated the question is: Under the arrangement between the Company and Benguet, when did Benguet's 50% share in the "Accounts Receivable"

CIR argues that Consolidated Mines is using a “hybrid” or “mixed” method of accounting since it did not deduct as an expense the one-half


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of the Accounts Receivables as part of the 50-50 profit sharing scheme between Consolidated and Benguet Mines.

Held: Here we have to distinguish between (1) the method of accounting used by the Company in determining its net income for tax purposes; and (2) the method of computation agreed upon between the Company and Benguet in determining the amount of compensation that was to be paid by the former to the latter. The parties, being free to do so, had contracted that in the method of computing compensation the basis were "cash receipts" and "cash payments." Once determined in accordance with the stipulated bases and procedure, then the amount due Benguet for each month accrued at the end of that month, whether the Company had made payment or not. To make the Company deduct as an expense one-half of the "Accounts Receivable" would, in effect, be equivalent to giving Benguet a right which it did not have under the contract, and to substitute for the parties' choice a mode of computation of compensation not contemplated by them. 18

Since Benguet had no right to one-half of the "Accounts Receivable," the Company was correct in not accruing said one-half as a deduction. The Company was not using a hybrid method of accounting, but was consistent in its use of the accrual method of accounting.

(From footnote 1 of the case) While taxable income is based on the method of accounting used by the taxpayer, it will almost always differ from accounting income. This is so because of a fundamental difference in the ends the two concepts serve. Accounting attempts to match cost against revenue. Tax law is aimed at collecting revenue. It is quick to treat an item as income, slow to recognize deductions or losses. Thus, the tax law will not recognize deductions for contingent future losses except in very limited situations. Good accounting, on the other hand, requires their recognition, Once this fundamental difference in approach is accepted, income tax accounting methods can be understood more easily. 33 Am. Jur. 2d 688.

WHEREFORE, the appealed decision is hereby modified by ordering Consolidated Mines, Inc. to pay the Commissioner of Internal Revenue the amounts of P76,254.92, P48,511.56 and P66,881.14 as deficiency income taxes for the years 1953, 1954 and 1956, respectively, or the total sum of P191,647.62 under the terms specified by the Tax Court.

WITHHOLDING OF TAXES

CIR V WANDER PHILIPPINES

Facts: Wander Philippines), is a domestic corporation organized under Philippine laws. It is wholly-owned subsidiary of the Glaro S.A. Ltd., a Swiss corporation not engaged in trade or business in the Philippines. Sometime in 1995, Wander filed its withholding tax return for the second quarter and remitted to its parent company, Glaro dividends in the amount of P222,000.00, on which 35% withholding tax thereof in the amount of P77,700.00 was withheld and paid to the BIR. Again, on July 14, 1976, Wander filed a withholding tax return for the second quarter ending June 30, 1976 on the dividends it remitted to Glaro amounting to P355,200.00, on wich 35% tax in the amount of P124,320.00 was withheld and paid to the Bureau of Internal Revenue. Wander filed with the BIR a claim for refund and/or tax credit in the amount of P115,400.00, contending that it is liable only to 15% withholding tax in accordance with Section 24 (b) (1) of the Tax Code, as amended by Presidential Decree Nos. 369 and 778, and not on the basis of 35% which was withheld and paid to and collected by the government.

Issue: Whether or not private respondent Wander is entitled to the preferential rate of 15% withholding tax on dividends declared and remitted to its parent corporation, Glaro.

Held: YES. It will be recalled, that said corporation is first and foremost a wholly owned subsidiary of Glaro. The fact that it became a withholding agent of the government which was not by choice but by compulsion under Section 53 (b) of the Tax Code, cannot by any stretch of the imagination be considered as an abdication of its responsibility to its mother company. Thus, this Court construing Section 53 (b) of the Internal Revenue Code held that "the obligation imposed thereunder upon the withholding agent is compulsory." It is a device to insure the collection by the Philippine Government of taxes on incomes, derived from sources in the Philippines, by aliens who are outside the taxing jurisdiction of this Court (Commissioner of Internal Revenue vs. Malayan Insurance Co., Inc., 21 SCRA 944). In fact, Wander may be assessed for deficiency withholding tax at source, plus penalties consisting of surcharge and interest (Section 54, NLRC). Therefore, as the Philippine counterpart, Wander is the proper entity who should for the refund or credit of overpaid withholding tax on dividends paid or remitted by Glaro.


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Based on the NIRC, the dividends received from a domestic corporation liable to tax, the tax shall be 15% of the dividends received, subject to the condition that the country in which the non-resident foreign corporation is domiciled shall allow a credit against the tax due from the non-resident foreign corporation taxes deemed to have been paid in the Philippines equivalent to 20% which represents the difference between the regular tax (35%) on corporations and the tax (15%) dividends.

While it may be true that claims for refund are construed strictly against the claimant, nevertheless, the fact that Switzerland did not impose any tax or the dividends received by Glaro from the Philippines should be considered as a full satisfaction of the given condition. For, as aptly stated by respondent Court, to deny private respondent the privilege to withhold only 15% tax provided for under Presidential Decree No. 369, amending Section 24 (b) (1) of the Tax Code, would run counter to the very spirit and intent of said law and definitely will adversely affect foreign corporations" interest here and discourage them from investing capital in our country.

Besides, it is significant to note that the conclusion reached by respondent Court is but a confirmation of the May 19, 1977 ruling of petitioner that "since the Swiss Government does not impose any tax on the dividends to be received by the said parent corporation in the Philippines, the condition imposed under the above-mentioned section is satisfied. Accordingly, the withholding tax rate of 15% is hereby affirmed." FILIPINAS SYNTHETIC FIBER CORPORATION,vs. COURT OF APPEALS (1999) Facts: Filipinas Synthetic Fiber Corporation a domestic corporation received a letter of demand from the Commissioner of Internal Revenue assessing it for deficiency withholding tax at source in the total amount of P829,748.77, inclusive of interest and compromise penalties, for the period from the fourth quarter of 1974 to the fourth quarter of 1975. The bulk of the deficiency withholding tax assessment, however, consisted of interest and compromise penalties for alleged late payment of withholding taxes due on interest loans, royalties and guarantee fees paid by the petitioner to non-resident corporations. Respondent denied the protest in a letter dated 14 May 1985 ... on the following ground: “For Philippine internal revenue tax purposes, the liability to withhold and pay income tax withheld at source from certain payments due to a foreign

corporation is at the time of accrual and not at the time of actual payment or remittance thereof”, citing BIR Ruling No. 71-003 and BIR Ruling No. 24-71-003-154-84 dated 12 September 1984 as well as the decision of the Court of Tax Appeals ... in CTA Case No. 3307 entitled “Construction Resources of Asia, Inc., versus Commissioner of Internal Revenue”. The aforementioned case held that “the liability of the taxpayer to withhold and pay the income tax withheld at source from certain payments due to a non-resident foreign corporation attaches at the time of accrual payment or remittance thereof” and “the withholding agent/corporation is obliged to remit the tax to the government since it already and properly belongs to the government. Since the taxpayer failed to pay the withholding tax on interest, royalties, and guarantee fee at the time of their accrual and in the books of the corporation the aforesaid assessment is therefore legal and proper.” It is petitioner’s submission that the withholding taxes on the said interest income and royalties were paid to the government when the subject interest and royalties were actually remitted abroad. Stated otherwise, whatever amount has accrued in the books, the withholding tax due thereon is ultimately paid to the government upon remittance abroad of the amount accrued. Issue: Whether or not the liability to withhold tax at source on income payments to non-resident foreign corporations arises upon remittance of the amounts due to the foreign creditors or upon accrual thereof Held: NO. The provisions of law then in force are silent as to when does the duty to withhold the taxes arise. And to determine the same, an inquiry as to the nature of accrual method of accounting, the procedure used by the herein petitioner, and to the modus vivendi of withholding tax at source come to the fore. The method of withholding tax at source is a procedure of collecting income tax. In the aforecited provision of law, the withholding agent is explicitly made personally liable for the income tax withheld under Section 54. In the case at bar, after a careful examination of pertinent records, the Court concurred in the finding by the Court of Appeals in CA GR. SP No. 32922 ‘that there was a definite liability, a clear and imminent certainty that at the maturity of the loan contracts, the foreign corporation was going to earn income in an ascertained amount, so much so that petitioner already deducted as business expense the said amount as interests due to the foreign corporation. This is allowed under the law, petitioner having adopted the ‘accrual method’ of accounting in reporting its incomes.” Petitioner cannot now claim that there is no duty to withhold and remit income taxes as yet because the loan contract was not yet due and


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demandable. Having “written-off” the amounts as business expense in its books, it had taken advantage of the benefit provided in the law allowing for deductions from gross income. Moreover, it had represented to the BIR that the amounts so deducted were incurred as a business expense in the form of interest and royalties paid to the foreign corporations. It is estopped from claiming otherwise now.

MARUBENI CORPORATION (formerly Marubeni — Iida, Co., Ltd.), petitioner, vs. COMMISSIONER OF INTERNAL REVENUE AND COURT OF TAX APPEALS, respondents. [G.R. No. 76573. September 14, 1989.] – SUPRA

Held: The respondents correctly concluded that the dividends in dispute were neither subject to the 15% profit remittance tax nor to the 10% intercorporate dividend tax, the recipient being a non-resident stockholder. However, they grossly erred in holding that no refund was forthcoming to the petitioner because the taxes thus withheld totalled the 25% rate imposed by the Philippine-Japan Tax Convention pursuant to Article 10 (2) (b).

To simply add the two taxes to arrive at the 25% tax rate is to disregard a basic rule in taxation that each tax has a different tax basis. While the tax on dividends is directly levied on the dividends received, "the tax base upon which the 15% branch profit remittance tax is imposed is the profit actually remitted abroad."

CIR versus S.C. JOHNSON AND SON, INC., and COURT OF APPEALS (1999)

Facts: Private respondent is a domestic corporation organized and operating under the Philippine laws, entered into a license agreement with SC Johnson and Son, United States of America (USA), a non-resident foreign corporation based in the U.S.A. pursuant to which the [respondent] was granted the right to use the trademark, patents and technology owned by the latter including the right to manufacture, package and distribute the products covered by the Agreement and secure assistance in management, marketing and production from SC Johnson and Son, U. S. A.

For the use of the trademark or technology, respondent was obliged to pay SC Johnson and Son, USA royalties based on a percentage of net sales and subjected the same to 25% withholding tax on royalty payments which respondent paid for the period covering July 1992 to May 1993 in the total amount of P1,603,443.00.

Respondent filed with the International Tax Affairs Division (ITAD) of the BIR a claim for refund of overpaid withholding tax on royalties arguing that, they should only be liable to 10% withholding tax imposed on royalties based on the RP-US Treaty (Art. 13, Par. 2.b.iii), instead of 25% they paid.

The Commissioner did not act on said claim for refund. On appeal, the Court of Tax Appeals rendered its decision in favor of S.C. Johnson and ordered the CIR to issue a tax credit certificate representing overpaid withholding tax on royalty payments. Hence, this petition for review by the CIR.

Isuse: Whether SC JOHNSON AND SON, USA is entitled to the “most favored nation” tax rate of 10% on royalties, as provided in the RP-US Tax Treaty in relation to the RP-West Germany Tax Treaty

Held: NO. The state of source is the Philippines because the royalties are paid for the right to use property or rights, i.e. trademarks, patents and technology, located within the Philippines. The United States is the state of residence since the taxpayer, S. C. Johnson and Son, U. S. A., is based there. Under the RP-US Tax Treaty, the state of residence and the state of source are both permitted to tax the royalties, with a restraint on the tax that may be collected by the state of source. Furthermore, the method employed to give relief from double taxation is the allowance of a tax credit to citizens or residents of the United States (in an appropriate amount based upon the taxes paid or accrued to the Philippines) against the United States tax, but such amount shall not exceed the limitations provided by United States law for the taxable year. Under Article 13 thereof, the Philippines may impose one of three rates — 25 % of the gross amount of the royalties; 15 % when the royalties are paid by a corporation registered with the Philippine Board of Investments and engaged in preferred areas of activities; or the lowest rate of Philippine tax that may be imposed on royalties of the same kind paid under similar circumstances to a resident of a third state.


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Given the purpose underlying tax treaties and the rationale for the most favored nation clause, the concessional tax rate of 10 % provided for in the RP-Germany Tax Treaty should apply only if the taxes imposed upon royalties in the RP-US Tax Treaty and in the RP-Germany Tax Treaty are paid under similar circumstances. Private respondent must prove that the RP-US Tax Treaty grants similar tax reliefs to residents of the United States in respect of the taxes imposable upon royalties earned from sources within the Philippines as those allowed to their German counterparts under the RP-Germany Tax Treaty.

The RP-US and the RP-West Germany Tax Treaties do not contain similar provisions on tax crediting. Article 24 of the RP-Germany Tax Treaty, expressly allows crediting against German income and corporation tax of 20% of the gross amount of royalties paid under the law of the Philippines. On the other hand, Article 23 of the RP-US Tax Treaty, which is the counterpart provision with respect to relief for double taxation, does not provide for similar crediting of 20% of the gross amount of royalties paid.

REPUBLIC V LIM TIAN TENG SONS & CO. INC. (1966)

Facts: Lim Tian Teng Sons & Co. Inc. (Lim Tian Co. for brevity) is a domestic corporation engaged in the exportation of copra. To allow for loss in weight due to shrinkage, it only collected 95% of the amount aooearing in the letter of credit covering every copra outturn, i.e. the weight before shipment. The 5% balance remained outstanding until final liquidation and adjustment.

On 30 March 1953, Lim Tian Co. Filed its income tax return for 1952 based on accrued income and expenses. Its return showed a loss of P 55 109.98. It took up as part of the beginning inventory for 1952 the copra outturn shipped in 1951 (P95 500.00) already partially collected, as part of its outstanding stock as of 31 December 1951.

The CIR eliminated the P95 500.00 outturn from the beginning inventory for 1952 and considered it as accrued income for 1951, thus increasing the taxpayer’s net income for 1952 and consequently, its net taxable. The CIR assessed Lim Tian Co. A deficiency income tax of P 10 O74.00 plus surcharge (P 5 037.00) and later on filed with the CFI of Cebu for the collection of deficiency income tax. The lower court ruled against

Lim Tian Co., ordering the latter to pay the assessed deficiency but deleting the 5% surcharge for late payment of tax.

Issue: Whether the assessment is correct

Held. Yes. As appearing from its 1952 income tax return, Lim Tian Co. employs the accrual method of accounting. Following such method, the copra outturn in the amount of P95 500.00 outstanding as of 31 December 1951, should have been treated as accrued income for 1951 instead of as stock on hand on 01 January 1952.

Lim Tian Co. took up the copra outturn in question as copra on hand in the beginning inventory of 1952. Said beginning inventory, together with expenses, copra purchased during the year and copra on hand as of 31 December 1952 were deducted as “cost of goods sold” from the total gross sales for the purpose of determining the net sales. Since the P95 500.00 copra outturn formed part of the “cost of goods sold”, it diminished the net sales by P95 500.00, thereby also decreasing the defendant’s net taxable income by the same amount. This procedure of treating the copra outturn is inconsistent with the defendant’s accounting method.

Lim Tian Co.’ income tax return for 1952 is fraudulent. First, its beginning inventory for 1952 did not state the truth in considering the copra outturn as copra on hand, for on 31 December 1951, such copra was no longer in the taxpayer’s bodega; it no longer owned the copra. Second, by observing regularly its own system of accounting, the taxpayer had no choice but to account the copra outturn as accrued income. This it did not.

WITHHOLDING OF TAXES & TAX ON CORPORATIONS: BASES AND RATES; NON-RESIDENT FOREIGN CORPORATIONS; DIVIDENDS

Commissioner vs. Procter & Gamble Philippines (160 SCRA 560 GR L-66838, 15 April 1988) Facts: Procter and Gamble Philippines is a wholly owned subsidiary of Procter and Gamble USA (PMC-USA), a non-resident foreign


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corporation in the Philippines, not engaged in trade and business therein. PMC-USA is the sole shareholder of PMC Philippines and is entitled to receive income from PMC Philippines in the form of dividends, if not rents or royalties. For the taxable years 1974 and 1975, PMC Philippines filed its income tax return and also declared dividends in favor of PMC-USA. In 1977, PMC Philippines, invoking the tax-sparing provision of Section 24 (b) as the withholding agent of the Philippine Government with respect to dividend taxes paid by PMC-USA, filed a claim for the refund of 20 percentage point portion of the 35 percentage whole tax paid with the Commissioner of Internal Revenue. Issue: Whether PMC Philippines is entitled to the 15% preferential tax rate on dividends declared and remitted to its parent corporation. Held: The issue raised is one made for the first time before the Supreme Court. Under the same underlying principle of prior exhaustion of administrative remedies, on the judicial level, issues not raised in the lower court cannot be generally raised for the first time on appeal. Nonetheless, it is axiomatic that the state can never be allowed to jeopardize the government’s financial position. The submission of the Commissioner that PMC Philippines is but a withholding agent of the government and therefore cannot claim reimbursement of alleged overpaid taxes, is completely meritorious. The real party in interest is PMC-USA, which should prove that it is entitled under the US Tax Code to a US Foreign Tax Credit equivalent to at least 20 percentage points spared or waived as otherwise considered or deemed paid by the Government. Herein, the claimant failed to show or justify the tax return of the disputed 15% as it failed to show the actual amount credited by the US Government against the income tax due from PMC-USA on the dividends received from PMC Philippines; to present the income tax return of PMC-USA for 1975 when the dividends were received; and to submit duly authenticated document showing that the US government credited teh 20% tax deemed paid in the Philippines.

Commissioner vs. Procter & Gamble Philippines (204 SCRA 377 December 2, 1991) RESOLUTION (Motion for Reconsideration of the 1988 SC DECISION)

Facts: Procter and Gamble Philippines declared dividends payable to its parent company and sole stockholder, P&G USA, and deducted 35% withholding tax at source. It then filed a claim with the Commissioner of Internal Revenue for a refund or tax credit, claiming that pursuant to Section 24(b)(1) of the National Internal Revenue Code, as amended by PresidentialDecree No. 369, the applicable rate of withholding tax on the dividends remitted was only 15%. Issue: W/N P&G Philippines is entitled to the refund or tax credit. Held: YES. The ordinary 35% tax rate applicable to dividend remittances to non-resident corporate stockholders of a Philippine corporation goes down to 15% if the country of domicile of the foreign stockholder corporation ³shall allow´ such foreign corporation a tax credit for ³taxes deemed paid in the Philippines,´ applicable against the tax payable to the domiciliary country by the foreign stockholder corporation. Such tax credit for ³taxes deemed paid in the Philippines´ must, as a minimum, reach an amount equivalent to 20 percentage points which represents the difference between the regular 35% dividend tax rate and the preferred 15% tax rate. Since the US Congress desires to avoid or reduce double taxation of the same income stream, it allows a tax credit of both (i) the Philippine dividend tax actually withheld, and (ii) the tax credit for the Philippine corporate income tax actually paid by P&G Philippines but ³deemed paid´ by P&G USA. Moreover, under the Philippines-United States Convention ³With Respect to Taxes on Income,´ the Philippines, by treaty commitment, reduced the regular rate of dividend tax to a maximum of 20% of the gross amount of dividends paid to US parent corporations, and established a treaty obligation on the part of the United States that it ³shall allow´ to a US parent corporation receiving dividends from its Philippine subsidiary ³a [tax] credit for the appropriate amount of taxes paid or accrued to the Philippines by the Philippine [subsidiary]

RETURNS AND PAYMENT OF TAXES; IN GENERAL

GARRISON vs. COURT OF APPEALS


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Facts: Garrison and five others were charged for violation of NIRC by not filing their income tax returns. They are all US citizens employed in the US Naval Base in Olongapo City. Their defense was that they are not resident aliens but only special temporary visitors and are exempt from filing income tax returns. Issue: WON the aliens are exempt from filing income tax returns Held: No. The aliens should file their income tax returns. Each of the petitioners fall within the letter of the codal precept that an "alien residing in the Philippines" is obliged "to file an income tax return." None of them may be considered a non-resident alien who is not under any legal duty to file an income tax return under the Philippine Tax Code. An alien actually present in the Philippines who is not a mere transient or sojourner is a resident of the Philippines for purposes of income tax. Whether he is a transient or not is determined by his intentions with regards to the length and nature of his stay. A mere floating intention indefinite as to time, to return to another country is not sufficient to constitute him as transient. Here, almost all of the appellants were born in the Philippines, repatriated to the US and came back to stay in the Philippines up to the present time. These made the Garrison et al resident aliens and not merely transients or sojourners. Also, to claim exemption, the aliens have the burden to prove that for that year they had derived income exclusively from their employment in connection with the U.S. bases, and none whatever "from Philippine sources or sources other than the US sources." This burden is not overcome by Garrison et al.

RETURNS AND PAYMENT OF TAXES; CORPORATIONS

CIR vs. TMX SALES Facts: TMX Sales claims tax refund for losses in incurred on 1981. CIR denied, citing that the claim is already barred because 2 years from payment of the income tax has already lapsed. Issue: WON TMX is entitled to tax refund.

Held: Yes. TMX claim is not yet barred. Section 292 (now Section 230) provides a two-year prescriptive period to file a suit for a refund of a tax erroneously or illegally paid, counted from the time the tax was paid. But a literal application of this provision in the case at bar which involves quarterly income tax payments may lead to absurdity and inconvenience. Here, the amount of P247,010.00 claimed by private respondent TMX Sales, Inc. based on its Adjustment Return, is equivalent to the tax paid during the first quarter. A literal application of Section 292 (now Section 230) would thus pose no problem as the two-year prescriptive period reckoned from the time the quarterly income tax was paid can be easily determined. However, if the quarter in which the overpayment is made, cannot be ascertained, then a literal application of Section 292 (Section 230) would lead to absurdity and inconvenience. The most reasonable and logical application of the law would be to compute the two-year prescriptive period at the time of filing the Final Adjustment Return or the Annual Income Tax Return, when it can be finally ascertained if the taxpayer has still to pay additional income tax, or if he is entitled to a refund of overpaid income tax. Therefore, the filing of quarterly income tax returns and payment of quarterly income tax should only be considered mere installments of the annual tax due. These quarterly tax payments which are computed based on the cumulative figures of gross receipts and deductions, should be treated as advances or portions of the annual income tax due, to be adjusted at the end of the calendar or fiscal year. This is reinforced by Section 87 (now Section 69) which provides for the filing of adjustment returns and final payment of income tax. Consequently, the two-year prescriptive period provided in Section 292 (now Section 230) of the Tax Code should be computed from the time of filing the Adjustment Return or Annual Income Tax Return and final payment of income tax. Here, TMX Sales, Inc. filed a suit for a refund on March 14, 1984. Since the two-year prescriptive period should be counted from the filing of the Adjustment Return on April 15, 1982, which is the date of the last installment, the claim for refund of TMX Sales, Inc. is not yet barred by prescription.

ACCRA INVESTMENTS CORPORATION VS. COURT OF APPEALS


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Facts: On 15 April 1982, ACCRA Investment Corporation filed with the BIR its annual corporate income tax return for the calendar year ending 31 December 1981 reporting a net loss of P2,957,142.00. In the said return, ACCRA declared as creditable all taxes withheld at source by various withholding agents totaling P82,751.91. The withholding agents paid and remitted amounts representing taxes on rental, commission and consultancy income of the corporation to the BIR from February to December 1981. The corporation filed a claim for refund inasmuch as it had no tax liability against which to credit the amounts withheld.

Pending action of the Commissioner of Internal Revenue on its claim for refund, ACCRA filed a petition for review with the CTA asking for the refund of the amounts withheld as overpaid income taxes. On 27 January 1988, the CTA dismissed the petition for review after a finding that the two-year period within which the corporation’s claim for refund should have been filed had already prescribed pursuant to Section 292 of the NIRC of 1977, as amended. The CTA denied ACCRA’s motion for reconsideration for having been filed out of time.

On 14 January 1989, ACCRA filed with the Supreme Court a petition for review, which the Court referred to the CA for proper determination and disposition. The CA affirmed the decision of the CTA opining that the two-year prescriptive period in question commences “from the date of payment of the tax” as provided under Section 292 of the Tax Code of 1977 (now Sec. 230 of the NIRC of 1986), i.e., “from the end of the tax year when a taxpayer is deemed to have paid all taxes withheld at source”, and not “from the date of the filing of the income tax return” as posited by the corporation. With the denial of their motion for reconsideration, ACCRA elevated the case to the Supreme Court.

The Supreme Court granted the petition, reversed and set aside the decision of the Court of Appeals. It directed the Commissioner of Internal Revenue to refund to the corporation the amount of P82,751.91.

Section 230 of the Tax Code provides that “ No suit or proceeding shall be maintained in any court for the recovery of any national internal revenue tax hereafter alleged to have been erroneously or illegally assessed or collected, or of any penalty claimed to have been collected without authority, or of any sum alleged to have been excessive or in any manner wrongfully collected, until a claim for refund or credit has been duly filed with the Commissioner; but such suit or proceeding may be

maintained, whether or not such tax, penalty or sum has been paid under protest or duress. In any case, no such suit or proceeding shall begin after the expiration of two years from the date of payment of the tax or penalty regardless of any supervening cause that may arise after payment: Provided, however, that the Commissioner may, even without a written claim therefor, refund or credit any tax, where on the face of the return upon which payment was made, such payment appears to have been erroneously paid.”

Payment is a mode of extinguishing obligations. A taxpayer, in paying his taxes, performs and extinguishes his tax obligation for the year concerned. A taxpayer whose income is withheld at source will be deemed to have paid his tax liability when the same falls due at the end of the tax year. It is from this latter date then, or when the tax liability falls due, that the two-year prescriptive period under Section 306 (now part of Section 230) of the Revenue Code starts to run with respect to payments effected through the withholding tax system.

The case of Gibbs v. Commissioner of Internal Revenue presented two alternative reckoning dates of refund claim: (1) the end of the tax year; and (2) when the tax liability falls due. Herein, the corporation’s withholding agents had paid the corresponding taxes withheld at source to the BIR from February to December 1981. In having applied the first alternative date — “the end of the tax year” in order to determine whether the corporation’s claim for refund had been seasonably filed, the appellate court failed to appreciate properly the attending circumstances of the case. The corporation is not claiming a refund of overpaid withholding taxes, per se. It is asking for the recovery of the sum of P82,751.91.00, the refundable or creditable amount determined upon the petitioner corporation’s filing of the its final adjustment tax return on or before 15 April 1982 when its tax liability for the year 1981 fell due. The distinction is essential in the resolution of this case for it spells the difference between being barred by prescription and entitlement to a refund.

Section 70 (b) of the Tax Code states when the income tax return of corporations must be filed. It provides that “The corporate quarterly declaration shall be filed within sixty (60) days following the close of each of the first three quarters of the taxable year. The final adjustment return shall be filed on or before the 15th day of the 4th month following the close of the fiscal year, as the case may be.”


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The corporation’s taxable year is on a calendar year basis, hence, with respect to the 1981 taxable year, ACCRA had until 15 April 1982 within which to file its final adjustment return. The corporation duly complied with this requirement. On the basis of the corporate income tax return which ACCRA filed on 15 April 1982, it reported a net loss of P2,957,142.00. Consequently, as reflected thereon, ACCRA had no tax liability for the year 1981. Had there been any, payment thereof would have been due at the time the return was filed pursuant to subparagraph (c) of Section 70 of the NIRC which provides that “The income tax due on the corporate quarterly returns and the final income tax returns computed in accordance with Section 68 and 69 shall be paid at the time the declaration or return is filed as prescribed by the Commissioner of Internal Revenue.”

Anent claims for refund, section 8 of Revenue Regulation No. 13-78 requires that “Claims for tax credit or refund of income tax deducted and withheld on income payments shall be given due course only when it is shown on the return that the income payment received was declared as part of the gross income and the fact of withholding is established by a copy of the statement duly issued by the payor to the payee showing the amount paid and the amount of tax withheld therefrom.”

The term “return,” in the case of domestic corporations, refers to the final adjustment return as mentioned in Section 69 of the Tax Code of 1986, as amended, which partly reads “Every corporation liable to tax under Section 24 shall file a final adjustment return covering the total taxable income for the preceding calendar or fiscal year. If the sum of the quarterly tax payments made during the said taxable year is not equal to the total tax due on the entire taxable income of that year the corporation shall either: (a) Pay the excess tax still due; or (b) Be refunded the excess amount paid, as the case may be.”

There is the need to file a return first before a claim for refund can prosper inasmuch as the Commissioner mandates that the corporate taxpayer opting to ask for a refund must show in its final adjustment return the income it received from all sources and the amount of withholding taxes remitted by its withholding agents to the BIR.

In CIR vs. Asia Australia Express Ltd, the Supreme Court ruled that the two-year prescriptive period within which to claim a refund commences to run, at the earliest, on the date of the filing of the adjusted

final tax return. The rationale in computing the two-year prescriptive period with respect to the corporation’s claim for refund from the time it filed its final adjustment return is the fact that it was only then that the corporation could ascertain whether it made profits or incurred losses in its business operations. The “date of payment”, therefore was then its tax liability if any fell upon its final adjustment return.

SAN CARLOS MILLING CO. INC. VS. CIR

Facts: Petitioner had for the taxable year 1982 a total income tax overpayment of P781,393,00 reflected on a creditable income tax in its annual final adjustment return. The application of the amount for the 1983 tax liabilities remained unutilized in view of petitioner’s net loss for the year. However, it still had a credible income tax of P4,470.00 representing the 3% of 15% withholding tax on the storage credits. Accordingly the final adjustment income tax return for the taxable year 1983 reflected the amount of P781,393.00 carried over as tax credit and P4,470.00 creditable income tax. In 17 May 1984, petitioner signified its intention to apply the total creditable amount of 785,869.00 against its 1984 tax dues consistent with the provision of Sec. 86 coupled with an alternative request for a refund or tax credit of the same. The CIR disallowed the proffered automatic credit scheme but treated the request as an ordinary claim for refund/tax credit under Sec. 292 in relation to Sec. 295 of the Tax Code and subjected the same for verification/investigation. Before the respondent could act on the claim petitioner filed a petition for review on 18 July 1984. Before the Court could formally hear the case, petitioner filed a supplemental petition on 11 March 1986, after having unilaterally effected a set-off of its creditable income tax vis-à-vis income tax liabilities, which was earlier denied by the respondent. On February 28, 1990, the CTA dismissed the petition and held that prior investigation by and authority from the CIR are necessary before a taxpayer could avail of the provisions of Sec. 69 of the Tax Code. Petitioner appealed the adverse decision of the CTA to the CA but the latter dismissed the appeal. Issue: Whether or not the option for either a refund or automatic tax credit scheme ipso facto confer on the taxpayer the right to avail the same.


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Held: As for corporations and partnerships taxable as corporations, no automatic crediting of the overpaid income tax against taxes due in the succeeding quarters of the following year is allowed. Once a taxpayer opts for either a refund or the automatic tax credit scheme, and signified his option in accordance with the regulation, this does not ipso facto confer on him the right to avail of the same immediately. An investigation as a matter of procedure, is necessary to enable the Commissioner to determine the correctness of the petitioner’s returns, and the tax amount to be credited. It seems however that automatic crediting of excess tax payment against the quarterly income taxes due for the succeeding year of individuals, estates and trusts is allowed. As regards automatic crediting, Revenue Reg. No. 7-93 provides that should there still be payment after crediting is made against the quarterly income taxes due for the entire succeeding taxable year, then such excess payment may be claimed as a refund.

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