INCOME AND WITHHOLDING TAXES Atty. Vic C. Mamalateo Mamalateo May 12-13, 2011 UP College of Law
INCOME TAX (TITLE II, NIRC) BASIC TAX PRINCIPLES LIFEBLOOD THEORY Taxation is the rule; exemption, the exception. o o In case of doubt, tax income or disallow deductions and tax credits. Taxes are imposed by law (e.g., NIRC), while financial accounting are based on generally accepted accounting standards. In case of conflict between tax rules rules and accounting rules, rules, the former shall prevail. INCOME TAX INCOME TAX Tax on all yearly profits arising from property, professions, trades or offices, or as a tax on a person’s o income, emoluments, profits and the like (Fisher v. Trinidad) . o Income tax is a direct tax on taxable actual or presumed income (gross or net) of a taxpayer received, accrued or realized during the taxable year. WITHHOLDING TAX o It is not an internal revenue tax but a mode of collecting income tax in advance on income of the recipient of income thru the payor of income. [NOTE: Sec. 21, NIRC enumerates various internal revenue taxes.] There are 2 types of withholding taxes, namely: (1) final withholding tax; and (2) creditable withholding o tax, including expanded withholding tax. FEATURES OF INCOME TAX It is a direct tax. It is a progressive tax, since the tax base increases as the tax rate increases. It is founded on the ability to pay of taxpayer. Phil adopted the most comprehensive system in imposing income tax. Phil follows the semi-global or semi-schedular income tax sy stem. It is of American origin. origin. Decisions of U.S. tax authorities have peculiar and persuasive effects for the Phil. Phil. INCOME TAX SYSTEMS GLOBAL TAX SYSTEM o Compensation income not subject to FWT o Business and/or professional income o Capital gains not subject to FWT Passive investment income not subject to FWT o Other income not subject to FWT o SCHEDULAR TAX SYSTEM Compensation income subject to FWT o o Capital gains subject to FWT Passive investment income subject to FWT o Other income subject to FWT o The Philippines adopted the semi-global semi-global or semi-schedular tax system. Either the global or schedular system, or both systems, may apply on income of a taxpayer. FINAL WITHHOLDING TAX Income payment is listed in Sec 57(A), NIRC, as subject to FWT. FWT withheld by the payor of income ( e.g., 20% FWT on interest inco me on bank deposits) represents FULL payment of income tax due on such income of the recipient.
Income payee (or recipient of income) does not report income subjected to FWT in his income tax return, although income is reflected in his audited financial statements for the year. However, he is not allowed to claim any tax credit on income subjected to FWT. Withholding agent (payor of income) files the withholding tax return, which includes the FWT deducted from the income of payee, and pays the tax to the BIR. There is no Certificate of Tax Withheld issued to income payee. No Certificate of Tax Withheld (BIR Form 2 307) is attached to the income tax return of recipient of income because he does not claim any tax credit in his tax return.
CRITERIA IN IMPOSING INCOME TAX Citizenship principle – For Filipino citizens and domestic co rporations, who are entitled to Philippine government protection wherever they are situated. Residence principle – For alien individuals and foreign corporations Source principle – For alien individuals and foreign corporations TYPES OF INCOME TAX Graduated income tax on individuals; Normal corporate income tax on corporations (RCIT); Minimum corporate income tax on corporations (MCIT); Special income tax on certain corporations (e.g., private educational institutions; foreign currency deposit units; international carriers) Capital gains tax on sale or exchange of unlisted shares of stock of a domestic corporation classified as a capital asset; Capital gains tax on sale or exchange of real property located in the Philippines classified as a capital asset; Final withholding tax on certain passive investment incomes; Final withholding tax on income payments made to non -residents (individual or corporation); Fringe benefit tax (FBT); Branch profit remittance tax (BPRT); and Tax on improperly accumulated earnings (IAET). FORMULA GLOBAL SYSTEM Gross sales Less: Cost of sales Gross income Less: Deductions PAE (for ind.) Net taxable income Multiplied by applicable rate (graduated or flat) Income tax due Less: Creditable WT Balance NATURE OF ASSET ORDINARY ASSET
SCHEDULAR SYSTEM Gross selling price or fair market value, whichever is higher times applicable tax rate = Tax due (real property) Gross selling price less cost or a djusted basis = Capital gain times applicable tax rate = Tax due (shares of dom corp) Gross income times applicable rate = Tax due (passive inv income; income paid to non-resident person)
CAPITAL ASSET (Sec 38A)
Inventory if on hand at end of taxable year Stock in trade held primarily for sale or for lease in the course of trade or business Asset used in trade or business, subject to depreciation Real property used in trade or business All other assets, whether or not used in trade or business, other than the above assets
KINDS OF TAXPAYERS INDIVIDUAL, including estate and trust o CITIZEN Resident (RC) – Taxable on worldwide income Non-resident – immigrant, permanent worker, OFW (seamen) o ALIEN Resident Non-resident Engaged in trade or business (more than 180 days in the Phil) Not engaged in trade or business (180 days or less stay in Phil) CORPORATION, including partnership DOMESTIC (DC) – Taxable on worldwide income o o FOREIGN Resident (e.g., Phil branch of foreign corporation) Non-resident TEST FOR TAX PURPOSES: Law of incorporation o RULE: All taxpayers are taxed only on income from sources within the Phil, except RC and DC.
PARTNERSHIPS EXEMPT
General professional partnership (GPP) o Joint venture undertaking construction activity or energy-related activities with operating contract with the government TAXABLE Partnerships, no matter how created or organized o RULES: If taxable, partnership is taxed like a corporation. o If taxable partnership derives net income during the year, the entire net income is deemed received by o the partners in the year it was earned by the partnership. o If GPP adopts itemized deductions during the year, partners must use itemized deductions during the same year. o
RESIDENT FOREIGN CORPS TAXABLE: RCIT & BPRT Ordinary branch of a foreign corporation in the Phil: 30% x net income from sources within the Phil o PEZA- & SBMA-registered branch of foreign corporation is exempt from 15 % BPRT o Regional operating headquarters (ROHQ): 10% x net income from sources within the Phil Offshore banking unit (OBU) and foreign currency deposit unit (FCDU) [ING Bank Manila v. CIR] : 10% x o gross interest income on forex loan to residents o Foreign international carriers by air or water: 2.5% x GPB o Foreign contractor or sub-contractor engaged in petroleum operations in the Phil: 8% x gross income from sources within the Phil EXEMPT: Not engaged in trade or business in the Phil Representative office o o Regional headquarters (RHQ)
JOINT VENTURE Lease of properties under common management o Three sisters borrowed money from their father and bought twenty-four (24) pieces of real property that they leased to various tenants for over fifteen years and derived rentals therefrom. They appointed their brother to manage their properties and to collect and receiv e rents. o The court ruled that a taxable partnership was formed. There were series of transactions where petitioners purchased twenty-four lots, showing that the purpose was not limited to the conservation of the common fund or even the properties acquired by them. The character of habituality peculiar to business transactions engaged in for the purpose of gain was present. The properties were leased out to
tenants for several years. Moreover, the term “corporation” includes organizations that are not necessarily “partnerships” in the technical sense of the term as well as partnerships, no matter how
created or organized. This qualifying expression clearly indicates 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 (Evangelista vs. Collector, 102 Phil. 140).
When a father and son purchased a lot and building, entrusted the a dministration of the building to an administrator and divided equally the net income, there is a taxable partnership (Reyes vs. Commissioner, 24 SCRA 198). Insurance pool or clearing house o An insurance pool or clearing house, composed of 41 non-life insurance corporations, whose role was limited to its principal function of allocating and distributing the risks arising from the original insurance among the signatories to the treaty or the members of the pool on their ability to absorb the risks ceded as well as the performance of incidental functions, such as records, maintenance, collection and custody of funds, and which did not insure or assure any risk in its own name, was treated as a partnership or association subject to tax as a corporation. Article 1767 of the Civil Code recognizes the creation of a contract of partnership when “two or more o persons bind themselves to contribute, money, property, or industry to a common fund, with the intention of dividing the profits among themselves. Its requisites are mutual contribution to a common stock, and a joint interest in the profits (AFISCO Insurance Corp et al. vs. Commissioner, G.R. No. 112675, o
Jan. 25, 1999). Agreement to manage and operate mine denominated as ‘Power of Attorney’ o
Philex Mining Corporation entered into an agreement denominated as Power of Attorney with Baguio Gold Mining Corporation to manage and operate the latter’s mining claim. In managing the project, Philex made advances of cash and property. The mine suffered continuing losse s resuling in Philex’s
withdrawal as manager and cessation of mine operations. o
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A “Compromise with Dation in Payment” was executed by the parties, where Baguio Gold admitted its
liabilities to Philex and agreed to pay the same. Philex wrote off in the books the remaining outstanding indebtedness of Baguio Gold by charging a portion of the amount to allowances and reserves that were set up in 1981 a nd a portion to the 1982 operations. The amount allocated to 1982 was deducted from the 1982 gross income a s “loss on settlement of receivables.”
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The BIR disallowed the deduction for bad debt and assessed Philex deficiency taxes because the advances are Philex’s investment in a partnership with Baguio Gold for the exploitation and development of the
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mine. The totality of the circumstances and the stipulations in the parties’ agreement indubitably lead to the conclusion that a partnership was formed between the parties. First , it does not appear that Baguio Gold was unconditionally obligated to return the advances made by Philex under the agreement. Second , the Tax Court correctly observed that it was unlikely for a business corporation to lend hundreds of millions to another corporation with neither security nor collateral or a specific deed evidencing the terms and conditions of such loans. The parties also did not provide for a specific maturity date for the advances to become due and demandable, and the manner of payment was unclear. Third , the strongest indication that Philex was a partner is the fact that it would receive 50% of the net profits as “compensation” under the agreement (Philex Mining Corporation vs. Commissioner, G.R. No. 148187, Apr. 16, 2008).
SOURCES OF INCOME o Interest – Interest from sources within Phil and interest on bonds a nd obligations of residents, corporate or otherwise Dividend – From domestic corporation and from foreign corporation, unless less than 50% of gross income of o foreign corporation for 3 years prior to declaration of dividends was derived from sources within the Phil, in which case, apply only ratio of Phil-source income to gross income from all sources o Services – Place where services are performed, except in case of international air carrier and shipping lines which are taxed at 2.5% on their Gross Phil Billings. Revenues from trips originating from the Phil are
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considered as income from sources within the Philippines, while revenues from inbound trips a re treated as income from sources outside the Philippines. Rentals and royalties – Location or use of property or property right in Phil Sale of real property – Located in the Philippines Sale of personal property – Located in the Philippines Gain from sale of shares of stocks of a domestic corporation is ALWAYS treated as income from sources within the Philippines. Other intangible property – Mobilia sequuntur personam (e.g., gain from sale of shares of stocks of a foreign corporation)
GROSS INCOME SALE OF GOODS Gross Sales Less: Cost of Sales: Beg. Inventory + Purchases Total available for sale – Ending inventory Cost of Sales Gross income Times 2% MCIT
SALE OF SERVICES Gross Revenue Less: Cost of Service consisting of all direct costs and expenses Gross income Timex 2% MCIT
INCOME
INCOME means cash or its equivalent coming to a person within a specified period, whether as payment for services, interest or profit from investment. It covers gain derived from ca pital, from labor, or from both combined, including gain from sale or conversion of capital assets. Return of capital is exempt from income tax. Capital, labor, or property is the tree; income is the fruit. Capital is the fund, income is the flow of fund. To be taxable, there must be income, gain or profit; gain is received, accrued or realized during the year; and it is not exempt from income tax under the Constitution, treaty or law. o Mere increase in the value of property does not constitute taxable income. It is not yet realized during the year. Transfer of appreciated property to the employee for services rendered is taxable income. o
TEST IN DETERMINING INCOME Realization test o There must be separation from capital of something of exchangeable value (e.g., sale of asset) Claim of right doctrine o CIR v. Javier, 199 SCRA 824 (bank erroneously paid $1 M, instead of $1,000) Economic benefit test o Stock option given to the employee Income from whatever source o All income not expressly exempted from income, irrespective of voluntary or involuntary action of taxpayer in producing income NATURE OF INCOME COMPENSATION INCOME Existence of employer-employee relationship o BUSINESS AND/OR PROFESSIONAL INCOME NO employer-employee relationship o CAPITAL GAIN Real property in the Phil and shares of stock of domestic corporation o o Other sources of capital gain PASSIVE INVESTMENT INCOME
Interest, dividend, and royalty income OTHER INCOME o Prizes and winnings o All other income, gain or profit not covered by the above classes o
COMPENSATION INCOME Compensation income falling within the meaning of “statutory minimum wage”(SMW) under R.A. 9504, effective July 6, 2008, as implemented by Revenue Regulations No. 10-2008 dated July 8, 2008, shall be exempt from income tax and withholding tax. Holiday pay, overtime pay, night shift differential pay, and hazard pay earned by Minimum Wage Earner (MWE) shall likewise be covered by the above exemption, provided that an employee who receives/earns additional compensation such as commissions, honoraria, fringe benefits, benefits in excess o f the allowable statutory amount of P30,000, taxable allowances and other taxable income other than the SMW, holiday pay, overtime pay, hazard pay and night shift differential pay shall not enjoy the privilege of being a MWE and, therefore, his/her entire earnings are not exempt from income tax a nd withholding tax. COMMISSION INCOME Commissions paid for marketing services rendered abroad for a Philippine company is considered foreign-source income. The source of the income is the property, activity or service that produced the income. Place where services are rendered determine taxation. The fact that recipient of commission income is President and majority stockholder of the Philippine company does not alter the source of income. There are only two ways by which the President and other members of the Board can be granted compensation apart from reasonable per diems: (1) when there is a provision in the by-laws fixing their compensation; and (2) when the stockholders agree to give it to them. If none of these conditions are present, commission income cannot be automatically attributed to petit ioner’s position in the company (Juliane Baier-Nickel vs. CIR, GR No. 156305, Feb. 17, 2003) Documents faxed to Philippine company bearing instructions as to sizes, designs and fabrics to be used in finished products and sample sales orders relayed to clients a broad are not enough to show services were performed abroad. Said documents must show that instructions or orders ripened into concluded or collected sales in Germany (CIR v. Baier-Nickel, GR No. 153793, Aug 29, 2006) . ONSHORE AND OFFSHORE INCOME Construction and installation works were subcontracted and done in the Philippines by a Phil corporation; hence, income is from sources within the Philippines. However, some pieces of equipment and supplies for NDC project and ammonia storage tanks and refri geration units were completely designed and engineered in Japan. All services for the design, fabrication, engineering and manufacture of materials and equipment under Japanese Yen portion were made and completed in Japan; hence, exempt from Phil income tax. Service income from turn-key contract on a project in the Phil is divisible (CIR v. Marubeni Corp, GR No. 137377, Dec 18, 2001). GROSS PHIL BILLINGS INTERNATIONAL AIR CARRIER On outbound trip: Flight from Phil to foreign destination, income is treated as from Philippine o sources; hence, subject to 2.5% on GPB Continuous and uninterrupted flight If transhipment of passenger in another country on a nother foreign airline takes place: GPB tax applies only on aliquot portion of revenue on Philippine leg ( Phil to foreign country) o On inbound trip: Flight from foreign country to the Phil, income is treated as from foreign sources; hence, exempt from Phil income tax INTERNATIONAL SHIPPING LINE o From Phil to final foreign destination: entire income is taxable, even if transhipment of cargoes took place in another country From foreign country to Phil: exempt o
INTEREST INCOME TYPES OF INTEREST INCOME o Subject to FWT: Interest income on bank deposits, deposit substitutes, trust and other similar arrangements 20% FWT – peso deposit with bank 7.5% FWT – foreign currency deposit with OBU/FCDU o NOT subject to FWT but subject to global tax system: All other interest income or financing income not covered above Exempt income: o Long-term deposit or investment (5 years or mor e) by individuals in the form of trust funds, deposit substitutes, IMA and other investments prescribed by BSP o Taxable income: Preferential tax rate – Pre-termination of long-term deposit by individual : 20%, 1- less than 3 yrs; 12%: 3 yrs-less than 4 yrs; 5%: 4 yrs-less than 5 yrs); and interest on foreign loan (20%) Regular tax rate – All other cases
DIVIDEND INCOME REQUISITES FOR DIVIDEND DECLARATION Presence of retained earnings o No prohibition to declare dividend in loan agreement o o Declaration of dividend by Board of Directors TYPES OF DIVIDENDS o Taxable Cash dividend Property dividend Exempt o Stock dividend (except when there is change in proportionate interest among stockholders and there is subsequent cancellation or redemption of shares declared as s tock dividend) NOTE: Liquidating dividend represents distribution of corporate assets to stockholders Intra-corporate dividend: Exempt from tax Corporation paying dividend: Domestic corporation o Recipient of dividend: Another domestic corporation or resident foreign corporation o Dividend paid to non-resident foreign corporation Corporation paying dividend: Domestic corporation o o Recipient of dividend Foreign head office makes direct investment in Phil company: 15% FWT on gross dividend income Phil branch of foreign corporation makes investment in Phil company: Exempt from income tax Tax-sparing provision o If country of residence of the foreign corporation does not impose income tax on dividend paid by a domestic corporation, impose 15% FWT only Dividends are prima facie the income of the owner of the stock as of the date of declaration of the dividend and are taxable to such owner. But where the record owner has sold the stock under an escrow agreement under which title is to be retained by him, the dividends received by such owner and applied in reduction of the purchase price are not taxable to him. While there is transfer of the shares of stock/securities to the Borrower pursuant to the Securities Borrowing and Lending (SBL) Agreement, the Lender retains certain rights accruing to the shares of stock/securities lent, such as the right to receive cash, stock dividends or interest which the Borrower is obliged to manufacture or reimburse to the Lender during the borrowing period. These cash, stock dividends or interest which the Borrower is required to manufacture or reimburse to the Lender are otherwise referred to as "Manufactured Dividends or Benefits". The Lender may likewise retain voting rights over the loaned sha res of stock/securities while in the po ssession of the Borrower, if mutually agreed upon by the parties. Receipt of the “Manufactured Dividends or Benefits” shall not be a taxable income of the Lender since it just represents dividends/other benefits that the lender would have received had the share not been loaned pursuant to SBL agreement. However, the payment of such amount by the Borrower shall not be a tax deductible expense.
On the other hand, the receipt of ca sh dividend from the issuing company by the Borrower or Buyer shall be subject to the provisions of existing laws (e.g., final withholding tax of 10% on gross dividend paid to a citizen). OTHER INCOME Income from any source whatever The words “income from any source whatever” discloses a legislative policy to include all income not o expressly exempted from the class of taxable income under our laws ( Madrigal vs. Rafferty, supra; Commissioner vs. BOAC). The words “income from any source whatever” is broad enough to cover gains contemplated here. These words disclose a legislative policy to include all income not expressly exempted within the class of taxable income under our laws, irrespective of the voluntary or involuntary action of the taxpayer in producing the gains (Gutierrez vs. Collector, CTA Case 65, Aug. 31, 1955) . o Any economic benefit to the employee whatever may have been the mode by which it is effected is taxable. Thus, in stock options, the difference between the fair market value of the shares at the time the option is exercised and the option price constitutes additional compensation income to the employee (Commissioner vs. Smith, 324 U.S. 177) . TAX ON OBU/FCDU Final tax on interest income from loans to resident borrower is a direct liability of FCDU Failure of local borrower to withhold and remit the tax does not exempt OBU/FCDU on onshore interest income (ING Bank v CIR, 2005) . The withholding agent-borrower may also be assessed deficiency withholding tax as penalty for failure to withhold (RCBC v. CIR, CTA Case 2004) . EXCLUSIONS Life insurance proceeds Amount received by insured as return of premium Gifts, bequests and devises Compensation for injuries or sickness Income exempt under treaty Retirement benefits, pensions, gratuities R.A. 7641 (5 yrs & 60 yrs) and R.A. 4917 (10 yrs & 50 yrs) o Interest income of employee trust fund or accredited retirement plan is exempt from FWT (CIR v. GCL Retirement Plan, 207 SCRA 487) o Amount received as a consequence of separation because of death, sickness or other physical disability or for any cause beyond the control of employee Miscellaneous items o Income of foreign government Income of government or its political subdivisions from any public utility or exercise of governmental o function
INCOME OF RETIREMENT FUND COA alleged that DBP is actual owner of the trust fund and its income because: o DBP made the contribution to the Fund Trustees of the Fund are merely administrators o o DBP employees only have an inchoate right to the Fund DBP responded that the Trustees received and collected income and profit from the Fund and they maintai ned separate books for that purpose. The principal and income will not revert to DBP, even if trust is subsequently modified or terminated. SC ruled that the beneficiaries of the Fund are the DBP officials and employees who will retire. It is not always necessary that the beneficiaries should be named or even be in existence at the time the trust is created in his favor, provided they are sufficiently certain or identifiable. The Salary Loan Program did not terminate the trust to the Fund’s trustee. That the DBP Board of Directors confirms the approval of the SLP by the Fund’s trustees does not make the fund property of DBP (DBP v. COA, 2004).
EXCLUSIONS Miscellaneous items o Prizes and awards In recognition of religious, charitable, artistic, literary ach ievement, etc. (He did not enter contest and is not required to render substantial future services) Granted to athletes in local and international sports competitions, sanctioned by their national sports associations th o 13 month pay and other benefits (up to P30,000) Gains from sale of long-term bonds, debentures and other certificates of indebtedness o Gains from redemption of shares in mutual fund o
GAIN v. INTEREST Gains cannot include interest, since it clearly refers to gains from the sale of bonds, debentures and other certificates of indebtedness. Whereas the term “gains” includes “interest” in its general sense, this rule cannot be applied to Section 32(B)(7)(g) of the Tax Code in the specific sense. Section 32(A) of the Tax Code defines “gross income” and it is clear that there is a distinction between “gains derived from dealings in property” and “interests”. “Gains realized from the sale or exchange or retirement of bonds, debentures and other certificate of indebtedness” would fall under the category of “gains derived from dealings in property”. On the other hand, “interests” would include interest from bonds, debentures and other certificate of indebtedness. Only citizens, resident aliens and non-resident aliens engaged in trade or business are exempt from income tax on interest from long-term deposit or investment. On the other hand, domestic and resident foreign corporations are subject to a 20% final tax on such interest. If Congress intended to exempt interest from bonds, debentures and other certificates of indebtedness under Section 32(B)(7)(g) of the Tax Code, it would have done so in clear and specific terms (Nippon Life Insurance Company vs. Commissioner, CTA Case No. 6142, Feb 4, 2002) . After all, exemptions are construed strictly against the taxpayer and liberally in favor of the government. DE MINIMIS BENEFITS EXEMPT DE MINIMIS BENEFITS, REGARDLESS OF RECIPIENT (RANK AND FILE, OR MANAGERIAL OR SUPERVISORY) a. Monetized unused vacation leave credits of private employees not exceeding ten (10) days during the year and the monetized value of leave credits paid to government officials and employees; b. Medical cash allowance to dependents of employees not exceeding P750.00 per employee per semester or P125 per month; c. Rice subsidy of P1,500.00 or one (1) sack of 50-kg rice per month amounting to not more than P1,500.00; d. Uniforms and clothing allowance not exceeding P4,000.00 per annum; e. Actual yearly medical benefits not exceeding P10,000.00 per annum; f. Laundry allowance not exceeding P300.00 per month; g. Employees achievement awards (e.g., for length of service o r safety achievement, which must be in the form of a tangible personal property other than cash or gift certificate, with an annual monetary value not exceeding P10,000.00 received by the employee under an established written plan which does not discriminate in favor of highly paid employees; h. Gifts given during Christmas and major anniversary celebrations not exceeding P5,000.00 per employee per annum; i. Flowers, fruits, books, or similar items given to employees under special circumstances (e.g., on account of illness, marriage, birth of a baby, etc.); and j. Daily meal allowance for overtime work not exceeding twenty-five percent (25%) of the basic minimum wage. The amount of “de minimis” benefit s conforming to the ceiling herein prescribed shall not be considered in determining the P30,000.00 ceiling of “other benefits” provided under Sec. 32(b)(7)(e) of the Tax Code. However, if the employer pays more than the ceiling prescribed by these regulations, the excess shall be taxable to the employee receiving the benefits only if such excess is beyond the P30,000.00 ceiling. Any amount given by the employer as benefits to its employees, whether classified as de minimis benefits or fringe benefits, shall constitute as deductible expense upon such employer.
EXEMPT ASSOCIATIONS The phrase “any of their activities conducted for profit” does not qualify the word “properties.” -- The phrase “any of their activities conducted for profit” does not qualify the word “properties.” This makes income from the property of the organization taxable, regardless of how that income is used – whether for profit or for lofty nonprofit purposes. Thus, the income derived from rentals of real property owned by the Young Men’s Christian Association of the Philippines, Inc. (YMCA), established as a welfare, education and charitable non-profit corporation, is subject to income tax. The rental income cannot be exempted on the solitary but unconvincing ground that said income is not collected for profit but is merely incidental to its operation. The law does not make a distinction. Where the law does not distinguish, neither should we distinguish. Because taxes are the lifeblood of the nation, the Court has always applied the doctrine of strict interpretation in construing tax exemptions. YMCA is exempt from the payment of property taxes only but not income taxes because i t is not an educational institution devoting its income solely for educational purposes. The term “educational institution” has acquired a well-known technical meaning. 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 grad ed learnings organized and provided by the formal school sy stem and for which certification is required in o rder for the learner to progress through the grades or move to higher levels (Commissioner vs. Court of Appeals and YMCA of the Phils., G.R. No. 124043, Oct. 14, 1998) . DEDUCTIONS KINDS OF DEDUCTIONS o Itemized Deductions o Optional Standard Deductions Special Deductions o
ITEMIZED DEDUCTIONS Business expenses, incl. research and development o o Interests o Taxes o Losses Bad debts o o Depreciation o Depletion Charitable contributions o Contributions to pension trust o o Health or hospitalization premium BUSINESS EXPENSES 1. The expense must be ordinary and necessary; 2. Paid or incurred during the taxable year; 3. In carrying on or which are directly attributable to the development, management, operation and/or conduct of the trade, business or exercise of profession; 4. Supported by adequate invoices or receipts; 5. Not contrary to law, public policy or morals. Operating expenses of an illegal or questionable business are deductible, but expenses of an inherently illegal nature, such as bribery and protection payments, are not. 6. The tax required to be withheld on the amount paid or payable is shown to ha ve been paid to the BIR. o An expense is “ordinary” when it connotes a payment, which is normal in relation to the business of the taxpayer and the surrounding circumstances. o
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An expense is “necessary” where the expenditure is appropriate or helpful in the development of taxpayer’s business or that the same is proper for the purpose of realizi ng a profit or minimizing a loss. P9.4 M paid in 1985 for advertising a product was staggering incurred to “create or maintain some form of goodwill for the taxpayer’s trade or business or for the industry or profession of which the taxpayer is a member.” “Goodwill” generally denotes the benefit arising from connection and reputation, and efforts to establish
reputation are akin to acquisition of capital assets. Therefore, expenses related thereto are not business expenses but capital expenditures (CIR vs. General Foods Phi., GR No. 143672, Apr. 24, 2003).
TEST OF REASONABLENESS OF BONUS There is no fixed test for determining the reasonableness of a given bonus as compensation. This o depends upon many factors, one of them being the amount and quality of the services performed with relation to the business. Other tests suggested are payment must be made in good f aith, the character of the taxpayerS ’s business, o the volume and amount of its net earnings, its locality, the type a nd extent of the services rendered, the salary policy of the corporation, the size of the particular business, the employee’s qualifica tions and o
contributions to the business venture, and general economic conditions. However, in determining whether the particular salary or compensation payment is reasonable, the situation must be considered as a whole. Ordinarily, no single factor is decisive (C.M. Hoskins & Co., Inc. vs. Commissioner, L-24059, Nov. 28, 1969; Pacific Banking Corp. vs. Commissioner, CTA Case 1667 , Oct 29, 1970).
Legal and accountant’s fees fo r prior years were not billed in corresponding years (1984 -1985). It was paid by taxpayer in succeeding year (1986) when it was billed by the lawyer and accountant. Taxpayers uses accrual method of accounting. Accrual of income a nd expense is permitted when the “all events test” has been met. This test requires (1) fixing a right to income or liability to pay, and (2) the availability of reasonably accurate determination of such income or liability. It does not, however, demand that the amount of income or liability be known absolutely; it only requires that a taxpayer has at its disposal the information necessary to compute the amount with reasonable accuracy, which implies something less than an exact or completely accurate amount. Moreover, deduction takes the nature of tax exemption; it must be construed strictly against the taxpayer (Commissioner vs. Isabela Cultural Corporation, G.R. No. 172231, Feb. 12, 2007) . Entertainment, amusement and recreation expenses are subject to limitation ½% of net sales for sellers of goods o o 1% of net sales for sellers of services INTEREST EXPENSE 1. There must be a valid and existing indebtedness; 2. The indebtedness must be that of the taxpayer; 3. The interest must be legally due and stipulated in writing; 4. The interest expense must be paid or incurred during the taxable year; 5. The indebtedness must be connected with the taxpayer's trade, business or exercise of profession; 6. The interest payment arrangement must not be between related taxpayers as mandated in Section 34(B)(2)(b), in relation to Section 36(B), of the Tax Code; 7. The interest is not expressly disallowed by law to be deducted from the taxpayer’s gross income (e.g., interest on indebtedness to finance petroleum operations); 8. The amount of interest deducted from gross income does not exceed the limit set forth in the law. In other words, the taxpayer’s otherwise allowable deduction for interest expense shall be reduced by forty -
two percent (42%) of the interest income subjected to final tax beginning November 1, 2005 under R.A. 9337, and that effective January 1, 2009, the percentage shall be thirty-three percent (33%) [Sec. 34(B)(1), NIRC].
TAXES 1. 2. 3. 4. o
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Payments must be for taxes; Taxes are imposed by law upon the taxpayer; Taxes must be paid or accrued during the taxable year in connection with the taxpayer’s trade, business or profession; and Taxes are not specifically excluded by law from being deducted from the taxpayer’s gross income. The word “taxes” means taxes proper and no deduction s hould be allowed for amounts representing
interest, surcharge or penalties. Interest on taxes is not deductible as taxes, but as an item of interest. Only the person upon whom taxes are imposed may claim them as deduction, except: (1) Taxes upon an individual upon his interest as shareholder of corporation which are pa id by corporation without
reimbursement; and (2) Corporate bonds or other obligations containing a tax -free covenant clause, the corporation paying the tax or any part of it for someone else (Sec. 80, RR 2) .
NON-DEDUCTIBLE TAXES 1. Philippine income tax 2. Foreign income tax 3. Estate and donor’s taxes 4. Special assessments on real property 5. Electric energy consumption tax under B.P. 36. 6. VAT LOSSES (Rev. Regs. No. 12-77 and Rev. Regs. No. 10-79) 1. The loss must be that of the taxpayer; 2. The loss is actually sustained and charged off within the taxable year; 3. The loss is evidenced by a closed and completed transaction; 4. The loss is not claimed as a deduction for estate tax purposes; 5. The loss is not compensated for by insurance or otherwise; 6. In the case of an individual, the loss must be connected with his trade, business or profession, or incurred in any transaction entered into for profit though not connected with his trade, business or profession; and 7. In the case of casualty loss, it has been reported to the BIR within forty-five days from date of occurrence of the loss. BAD DEBTS 1. There must be an existing indebtedness due to the taxpayer which must be valid and legally demandable; 2. The same must be connected with the taxpayer's trade, business or practice of profession; 3. The same must not be sustained in a transaction entered into between related parties enumerated under Sec. 36(B) of the Tax Code of 1997; 4. The same must be actually charged off the books of accounts of the taxpayer as of the end of the taxable year; and 5. The same must be actually ascertained to be worthless and uncollectible as of the end of the taxable year. TAX BENEFIT RULE o The taxpayer is obliged to declare as taxa ble income any subsequent recovery of bad debts in the year they were collected to the extent of the tax benefit enjoyed by the taxpayer when the bad debts were written off and claimed as deduction from gross income. It also applies to taxes previously deducted from gros s income but which were subsequently refunded or o credited by the BIR. He has to report income to the extent of the tax benefit derived in the year of deduction. DEPRECIATION 1. The allowance for depreciation must be reasonable ; 2. It must be for property arising out of its use in the trade or business, or out of its not being used temporarily during the year ; 3. It must be charged off during the taxa ble year from the taxpayer’s books of accounts; 4. Depreciation shall be computed on the basis of historical cost or adjusted basis. While financial accounting allows computation based on appraised value, recovery of investment for tax purposes shall be limited to historical cost. CHARITABLE CONTRIBUTIONS 1. The charitable contribution must actually be paid or made to the Philippine government or any political subdivision thereof exclusively for public purposes, or any of the accredited domestic corporation or association specified in the Tax Code; 2. It must be made within the taxable y ear; 3. It must not exceed 10% (individual ) or 5% (corporation) of the taxpayer’s taxable income before charitable contributions (whether deductible in full or subject to limitation);
4. 5.
It must be evidenced by adequate receipts or records; and The amount of charitable contribution of property other than money shall be based on the a cquisition cost of said property (Sec. 34(H), NIRC) . The limitation is imposed to prevent abuse of donating paintings and other valuable properties and claiming excessive deductions therefrom.
OPTIONAL STANDARD DEDUCTION o Privilege is available only to citizens or resident aliens as well corporations subject to the regular corporate income tax; thus, non-resident aliens and non-resident foreign corporations are not entitled to claim the optional standard deduction. Standard deduction is optional; i.e., unless taxpayer signifies in his/its return his/its intention to elect this o deduction, he/it is considered as having availed of the itemized deductions; o Such election when made by the qualified taxpay er is irrevocable for the year in which made; however, he can change to itemized deductions in succeeding year(s); o
o
Amount of standard deduction is limited to 40% of taxpayer’s gross sales or receipts (in the case of an
individual) or gross income (in the case of a corporation). If the individual is on the accrual basis of accounting for his income and deductions, OSD shall be based on the gross sales during the year. If he employs the cash basis of accounting, OSD shall be based on his gross receipts during the year. It should be noted that cost of sales or cost of services shall not be allowed to be deducted from gross sales or receipts. A general professional partnership (GPP) may claim either the itemized deductions or in lieu thereof, the OSD allowed to corporations in claiming the deductions in an amount not exceeding 40% of its gross income. The net income determined by either the itemized deduction or OSD from the GPP’s gross
o
income is the distributable net income from which the share of each share is to be ascertained. Proof of actual expenses is not required; hence, he is not also required to keep books of accounts and records with respect to his deductions during the year.
NON-DEDUCTIBLE ITEMS 1. Personal, living or family expenses; 2. Any amount paid out for new buildings or for permanent improvements, or betterments made to increase the value of any property or estate. This Subsection shall not apply to intangible drilling and development costs incurred in petroleum operations, which are deductible under Subsection (G)(1) of Section 34 of this Code. 3. Any amount expended in restoring property or in making good the exhaustion thereof for which an allowance is or has been made; or 4. Premiums paid on any life insurance policy covering the life of any officer or employee, or of any person financially interested in any trade or business carried on by the taxpayer, individual or corporate, when the taxpayer is directly or indirectly a beneficiary under such policy 5. Losses from sales or exchanges of p roperty between related parties
PERSONAL EXEMPTIONS RA 8424: Jan 1, 1998 o Single and estate or trust – P20,000 o Head of family – P25,000 Married – P32,000 o o For each child, not to exceed 4 – P8,000
RA 9504: July 6, 2009 o Individual, whether single, HOF, or married – P50,000 For each child, not to exceed 4 – o P25,000 o Law exempts income of minimum wage earners and increases OSD from 10% to 40% of gross sales or receipts, for individuals, and of gross income, for corporations.
Status-at-the-end-of-the-year rule “Status-at-the-end-of-the-year r ule” which means that whatever is the status of the taxpayer at the end o of the calendar year shall be used for purposes of determining his personal and a dditional exemptions generally applies. A change of status of the taxpayer during the taxable year generally benefits, but does not prejudice, him. Thus, if he marries at the end of the year, he shall be entitled to personal exemption of P32,000/P50,000. If a child is born at any time during the calendar year, even on the last day of the year, the taxpayer is entitled to claim his child as a dependent entitling him to deduct additional exemption of P8,000/P25,000 for that year. On the other hand, if one of his qualified dependent children dies during the year, the law considers that the child died on the last day of the year; hence, he is entitled to claim the full amount of additional exemption of P8,000/P25,000 for the deceased child for the year.
TAX BASES AND RATES COMPENSATION INCOME
FRINGE BENEFITS
Gross compensation income less PAE times graduated rates Gross compensation income of employees of RHQ, ROHQ, OBU/FCDU, and petroleum contractors times 15%
Grossed-up monetary value of fringe benefits times taxable rate times 32% = FBT _____________________________________________________________________________________________________ BUSINESS AND/OR PROFESSIONAL INCOME Corporations (see formula opposite o here) o Individuals: There is no MCIT. Deduct applicable PAE. Apply graduated rates of 5% to 32% Pay IT on two equal installments, provided amount is more than P2,000.
Gross sales Less: Cost of sales or services Gross income Multiplied by: 2% MCIT Gross income Less: Deductions Net income Multiplied by: 35% RCIT Less: CWT Balance _____________________________________________________________________________________________________
CAPITAL ASSETS REAL PROPERTY IN THE PHILIPPINES
SHARES OF STOCKS OF DOMESTIC CORPORATION
OTHER CAPITAL ASSETS
Consideration or FMV, whichever is higher times 6% = CGT. Sale of principal residence is exempt from CGT, provided conditions are satisfied Listed and traded in local stock exchange: GSP times ½ of 1% = Stock transaction tax Listed but traded over the counter or unlisted shares: Gross selling price less cost or adjusted basis = Capital gain or loss times 5%/10% = CGT Include in global tax system, but long-term capital gain or loss shall be taxable or deductible only at 50% thereof.
PASSIVE INCOME A. Interest
B. Dividend
10% FWT – Citizen 20% FWT – Resident alien engaged in trade 25% FWT – NRANE 0% -- DC & RFC 35%, unless tax sparing provi-sion applies -NRFC
10% FWT – books, literary works and musical compositions (citizen) 20% FWT – general rate (NRAE, DC & RFC) 25% FWT – NRANE 35% FWT – NRFC
NRFC
C. Royalty
D. Rental income
20% FWT (peso deposit) and deposit substitute 7.5% FWT (foreign exchange deposit) Long-term deposits (5 years of more) of individuals: exempt Others: Global system
o
o
o
25% x gross income: NR cinema film owner, lessor or distributor 4.25% x gross income: NR owner or lessor of vessels 7.5% x gross income: NR lessor of aircraft, machineries and other equipment
BRANCH PROFIT REMITTANCE TAX Branch profit of the Phil. branch used as additional capital investment of the foreign head office in the Philippine branch, pursuant to the requirements of the Bangko Sentral ng Pilipinas , is considered as profit constructively remitted abroad. Branch profit remittance tax (BPRT) applies not only when the profit is actually remitted but also when such profit is constructively remitted to the head office abroad (ING Bank, Manila Branch vs. CIR, CTA Case No. 6017, Mar. 11, 2002) BPRT does not apply on profits remitted by an enterprise registered with PEZA or SBMA and other freeport zones. Tax base of BPRT is the amount of profit earmarked for remittance to its head office abroad. ACCOUNTING METHODS Cash method Accrual method o All events test; amounts received in advance are not treated as revenue of the period in which received but as revenue of future periods in which earned (Manila Mandarin Hotels vs. CIR, CTA Case No. 5046, Mar 24, 1997). Installment sales Sale on the installment plan o Initial payments do not exceed 25% of GSP o Deferred payment sale, not on the installment plan Initial payments exceed 25% of GSP Percentage of completion Crop year method
FILING OF TAX RETURN SUBSTITUTED FILING OF ITR: No individual income tax return for the year will be filed by the employee concerned, and the employer is the one that files the return for him o Applies only to individuals With only one (1) employer o o Who correctly withholds the income tax on compensation income paid to the employee and remits the same to the BIR Substituted filing of return does not apply when the conditions above a re not met, such as when the individua l has (a) two or more employers, (b) mixed incomes, © correct WT was not deducted from compensation income, etc.
Individual deriving mixed income, or purely business/ professional income, or other inco me must file his quarterly income tax returns (BIR Form 1700 Q) and annual income tax return (BIR Form 1700 ) as f ollows: Period Due Date for Filing Return Q1 Return April 15 of same year Q2 Return August 15 of same year Q3 Return November 15 of same year Annual Return April 15 of the following year A domestic corporation and resident foreign corporation shall file quarterly corporate income tax return (BIR Form 1702 Q) and annual corporate income tax return (BIR Form 1702 as follows: Q1 Return May 31 of same year Q2 Return August 31 of same year Q3 Return November 30 of same year Annual Return April 15 of the following year (if on calendar year), or 15th day of the fourth month following the close of the fiscal year (if on fiscal year). Computation of the quarterly and annual tax returns of individuals (except those receiving purely compensation income) and corporations shall be made on the cumulative basis; i.e., gross income and deductions are consolidated and the income tax liability is computed on the consolidated net income, and the income taxes paid for the preceding quarter(s) are credited against the consolidated income tax due.
WITHHOLDING TAX An income payment is subject to the expanded withholding tax if the following conditions concur: 1. An expense is paid or payable by the taxpayer, which is income to the recipient thereof subject to income tax; 2. The income is fixed or determinable at the time of payment; 3. The income is one of the income payments listed in the regulations that is subject to withholding tax; 4. The income recipient is a resident of the Philippines liable to income tax; and 5. The payor-withholding agent is also a resident of the Philippines.
EXEMPT FROM EWT 1. National government and its instrumentalities, including provincial, city or municipal governments and barangays, except government-owned or controlled corporations; 2. Persons enjoying exemption from payment of income taxes pursuant to the provisions of any law, general or special, such as but not limited to the following: a. Sales of real property by a corporation which is registered with and certified by HLURB or HUDCC as engaged in socialized housing project where the selling price of the house and lot or only the lot does not exceed P180,000 in Metro Manila and other highly urbanized areas and P150,000 in other areas; b. Corporations registered with the BOI, PEZA, and SBMA, enjoying exemption from income tax under E.O. 226, R.A. 7916, and R.A. 7227; c. Corporations which are exempt from income tax under Section 30 of the Tax Code, such as GSIS, SSS, PHIC, PCSO, and PAGCOR; d. General professional partnerships; and
e. f. 1.
2.
3.
4. 5. 6. 7. 8.
9.
10. 11. 12.
13.
14. 15. 16. 17. 18. 19. 20.
Joint ventures or consortium formed for the purpose of undertaking construction projects or engaging in petroleum, coal, geothermal and other energy operations International carriers (by air or water) subject to 2.5% Gross Phil Billings
Professional fees for services rendered by individuals; and professional entertainers and athletes, and directors: a. If gross income for current year exceeds P720,000 10% b. If gross income for current year does not P720,000 15% If recipient of professional fees, talent fees, etc. is a juridical person: a. If gross income for current year exceeds P720,000 10% b. If gross income for current year does not P720,000 15% Rental income a. Real properties 5% b. Personal properties of P10,000 per payment; P10,000 shall not apply when accumulated rental to same lessor exceeds or is reasonably expected to exceed P10,000 within a year 5% c. Poles, satellites and transmission facilities 5% d. Billboards 5% Gross payments to resident individuals and corporate cinematographic film owners, lessors, or distributors 5% Gross payments to contractors 2% Income distribution to beneficiaries 15% Income payments to certain brokers and agents 10% Income payments to partners of general professional partnerships: a. If gross income for current year exceedsP720,000 15% b. If otherwise 10% Professional fees paid to medical practitioners a. If gross income for current year exceedsP720,000 15% b. If otherwise 10% Gross additional payments to government personnel from importers, shipping and airline companies, or their agents 15% One-half of gross amounts paid by any credit card company in the Philippines 1% Income payments made by any Top 20,000 Corp a. Supplier of goods 1% b. Supplier of services 2% Income payments made by government to its loca l/resident supplier of goods and services other than those covered by other rates of withholding taxes a. Supplier of goods 1% b. Supplier of services 2% Commissions of independent and exclusive distributors, and marketing agents of companies 10% Tolling fees paid to refineries 5% Payments made by pre-need companies to funeral parlor 1% Payments made to embalmers 1% Income payments made to suppliers of agricultural products 1% Income payments on purchases of minerals, mineral produ cts and quarry resources 10% MERALCO refund to customers a. With active contracts 25% b. With terminated contracts 32%
REFUND
A taxpayer must do two things to be able to successfully make a claim for the tax refund of withholding tax on compensation income: o declare the income payments it received as part of its gross income and establish the fact of withholding. o The amounts of total taxes withheld for each redundant employees cannot be verified against the Summary of Gross Compensation and Taxes Withheld for 1995 due to the fact that this summary enumerates the amounts of income taxes withheld on per district/area basis. The SG V certification cannot be appreciated in PLDT’s favor as the courts cannot verify such claim. Besides, the documents from which SGV traced the Alpha List to the Monthly Remittance Returns of Income Taxes have not been presented to the court, and this is fatal to PLDT . Also, the cash salary vouchers for the ra nk and file employees do not have acknowledgment receipts (PLDT v. CIR, GR 157264, Jan 31, 2008). Requisites of claim for refund are: o Claim was filed within 2 years under Sec. 230, NIRC; o Income upon which taxes were withheld were included in the return of the recipient; and Fact of withholding is established by a copy of statement (BIR Form 1743.1) duly issued by payor o (withholding agent) to payee, showing amount paid and a mount of tax withheld (RR 6-85). CTA found above requisites were satisfied. Findings of fact s of CTA are entitled to great weight and will not be disturbed on appeal, unless it is shown that the lower court committed gross error in the appreciation of facts. Failure of respondent to indicate its option in its annual ITR to avail itself of either tax refund or tax credit is not fatal to its claim for refund. o Sec. 76, NIRC offers two options: refund or tax credit. The options are alternative and the choice of one precludes the other. However, in Philam Asset Mgt v. CIR, this Court ruled that failure to indicate a choice will not bar a valid request for refund, should this option be chosen by the taxpay er later on. The requirement is only for the purpose of easing tax administration, particularly the self-assessment and collection aspects. Failure of respondent to present in evidence the 1998 ITR is not fatal to its claim for refund. CTA denied claim for 1997 tax credit of PERF because it failed to submit its 1998 ITR. o o PERF attached its 1998 ITR to its motion for reconsideration. The ITR is part of the records of the case and clearly showed that income taxes were not claimed as tax credit in 1998. Technicalities should not be used to defeat substantive rights, especially t hose that have been held as a o matter of right. o
The CA’s reliance on Rule 132, Sec. 34 of Rules of Evidence is misplaced. This provision should be taken in
the light of RA 1125; proceedings therein shall not be governed strictly by technical rules of evidence. No one shall unjustly enrich oneself at the expense of another. This applies not only to individuals but to the State as well. In the field of taxation where the State exacts strict compliance upon its citizens, the State must likewise deal with taxpayers with fairness and honesty. The harsh power of taxation must be tempered with evenhandedness (CIR v. PERF Realty Corp., GR 163345, July 4, 2008) . Tax refunds or credits are not founded principally on legislative grace but on the legal principle which underlies all quasi-contracts, abhorring a person’s unjust enrichment at the expense of another. The d ynamic of erroneous payment of tax fits to a tee the prototypic quasi-contract, which covers not only mistake in fact but also mistake in law. The government is not exempt from the application of solutio indebiti . Indeed, the taxpayer expects fair dealing from the government, and the latter has the duty to refund without any unreasonable delay what it has erroneously collected (CIR v. Fortune Tobacco Corp, GR 167274, July 21, 2008). o
Atty. Vic C. Mamalateo
Mobile: 0918-9037436 Email:
[email protected] [email protected]
