II.

National internal revenue code

A. income taxation
1. income tax systems
a. global tax system
i. does not matter whether income is received as compensation, business or prfessional,
passive investment income, capital gain, or other income. All items of gross income,
deductions and perosnal and additional exemptions are reported in one income tax
return and one set of tax rates are applied on the tax base.
ii. all incomes from whatever source/activity are combined and are taxed under 1 tax
rate/schedule
iii. ie. (employment salaries + business income + passive income)x rate = tax liability
b. schedular tax system
i. a system of taxing income which recognizes that there are qualitative differences
between the sources, and are taxed differently; adopts a separate rate for different
kinds of sources.
ii. ie. (employment salary x tax rate for compensation income) + (business income x tax
rate for business income) + (bank interest x tax rate on passive income) = tax
liability
c. semi-schedular or semi-global tax system
i. Philippines adopts this system.
2. features of the Philippine income tax law
a. direct tax
b. progressive
c. comprehensive
d. semi-schedular or semi-global tax system
3. criteria in imposing Philippine income tax
a. citizenship principle
b. residence principle
c. source principle
i. in general, for the source of income to be considered as coming from the Philippines, it
is suficient that income is derived from property, activity or service within the
Philippines.
ii. Off-line international carrier maintaining a sales agent in the Philippines who sold
tickets for flights flown outside the Philippines = sale of tickets considered income
from within the Philippines. Test of taxability is the "source"; and the source of an
income is that activity which produced the income. Even if 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. (CIR v. BOAC,
1987)
4. types of Philippine income tax
a. Active income - by the use of capital/ labor/ both to generate income
 i. compensation - from employer-employee relationship (4-way test)
ii. gross/business - any income which is neither passive nor compensation income
b. Passive
i. earnings at which earner is not actively involved
a) if earned in the business sense = business income, not passive income.
ii. 2 kinds: subject to final withholding tax or creditable withholding tax
a) final withholding tax
1. tax withheld from source and the amount received by income earner is already
net of the tax
2. full settlement of income tax liability corresponding to the income to which it is
imposed
3. such income does not form part of the gross income of the TP
4. tax base = gross income
5. deductions an personal exemptions not allowed
6. computed on a per transaction basis
7. payor files the ITR for the payee
8. liability for payment rests primarily on the payor as the withholding agent
9. payee not required to file ITR
b) creditable withholding
1. subject to ordinary taxation
2. considered as advanced payment of whatever tax liability the TP may incur
during the taxable year
3. such income forms part of the gross income of the TP
4. tax base = taxable net income
5. deductions and personal exemptions are allowed
6. tax base computed on the basis of taxable year
7. paid at the end of the taxable year
8. liability for payment rest of the payee
9. payee of income is required to report the income and/or the pay the difference
between tax withheld and tax due on the income
10. income recipient still required to file ITR
iii. enumeration of final tax subject to FWT (memorize the list)
a) interest, royalties, prizes, winnings
1. when FWT on prizes is not applicable:
a. earned from sources abroad + contest held abroad = included in gross
income (note: RP has no taxing jurisdiction over foriegn entity)
b. amount does not exceed P10k
c. received primarily in recognition of religious/ charitable/ educational/ artistic/
literary/ civic achievement + recipient selected without action + not required
to render future service = excluded
d. won @ local/international sports competition sanctioned by a recognized
sports association = exempt
 b) cash/ property dividends
c) capital gains from sale of shares of stock
d) capital gains from sale of realty
e) informer's reward
f) fringe benefits (32% FBT, given to supervisory and managerial employees); not
exclusive:
1. housing
2. expense account
3. vehicle of any kind
4. household personnel
5. interest on loans at less than mkt rate to the extent of the difference
6. membership fees, dues and other epenses borne by the employer for the
employee in social and athletic clubs or other similar organizations
7. expenses for foreign travel
8. holiday and vacation expenses
9. educational assistance to employer/ dependents
10. life or health insurance and other non-life insurance premiums, in excess of
what the law allows
11. *note: non-taxable fringe benefits:
12. authrized and exempted under special laws
13. contributions of employer for the benefit of the employee to retirement,
insurance and hospitalization benefit plans
14. given to rank and file employees
15. de minimis benefits
iv. examples of ordinary income subject to CWT
a) rentals of realty
b) interest income, except interest from bank deposits derived within the Philippines
(FWT)
1. exception to exception (not FWT)
a. earned by non-residents from FCD accounts
b. long-term deposit investments
c. capital gains
i. subject to capital gains tax
ii. must file ITR, no withholding tax involved
iii. either sale of shares of stock or property
iv. if the primary business of the TP = sale of stock/property = active income taxation, and
not capital gains tax
v. General rule: ordinary taxation
a) except: final tax on passive income
vi. general rule: gains are not presumed
a) except: sale of real property located in the Philippines held as capital asset: 6% of
zonal value/ GSP, whichever is higher
 b) when 6% does not apply to sale of real property:
1. held as ordinary asset
2. not located in the Philippines
3. principal residence rule
4. sold to the Government + seller exercise the option to be taxed for ordinary
assets
vii. Tax base:
a) in general: net capital gain/ net income (rate: 5-32%)
b) except: shares of stock in domestic corporation
1. not traded: basis: net capital gain, rate: 5% first 100k, 10% exceeding
2. traded and liested: basis: GSP, rate: 1/2 of 1%
viii. importance of classification into ordinary and capital assets:
a) rules on holding period, loss limitation and carry-over of net capital loss are
relevant only in dealings of capital assets.
b) rule on holding period:
1. only 50% of capital gain, if any, is taxable; or only 50% of capital loss is
deductible if property sold has been held for more than 12 mos.
2. 100% if short-term
3. rule applies to individuals only
c) loss-limitation rule:
1. capital loss deductible only to the extent of capital gains derived within the
taxable year
2. rule applies to both individuals and corporations
d) carry-over of net capital loss:
1. during the taxable year, there is excess of capital loss over capital gains, the
excess (net capital loss) may be carried over to and deducted from capital
gains in the succeeding taxable year
2. rule applicable only to individuals
e) example:
1. TP's income = CPA (professional)
a. in March 2009, bought: ring (P750k), bracelet (250k), necklace (500k), brooch
(500k)
b. in Oct. 2009, sold: ring, bracelet, necklace for P1.25M = loss of P250k
c. in Nov. 2009, bought: diamond ring (P1.25M)
d. in Sept. 2010, sold diamond ring for P1.5M = gain of P250k
2. treatment of purchases and sale = capital gains/losses, not ordinary gains, since
TP's income is derived from profession
3. loss in Oct. 2009 may be deducted from gain in Sept. 2010 (short term capital
gain)
f) note: rules on holding period, loss limitation and carry-over of net capital loss not
applicable in a sale of real property located in the Philippines
 1. rd: 6% CGT, the gain is presumed by law; and loss that may have been actually
incurred, if there by any, is not recognized by law.
5. Notes in kinds:
a. income tax
i. individual
a) compensation
b) profession
c) business
ii. corporation/partnership
a) business
iii. GPP = special tax treatment
a) Tan v. Del Rosario:
1. individual computing the partnership is personally/ individually liable for taxes
2. GPP must be formed for the sole purpose of exercising a common profession. no
part of the income of which is derived from its engaging in any trade business;
otherwise, it is subject to tax as an ordinary business partnership or, as a
corporation subect to the corporate income tax.
b. dealings in proeprty
i. ordinary income tax (ordinary assets)
ii. capital gains tax (capital assets)
c. dividends
i. ordinary taxation
ii. final tax
6. taxable period
a. calendar period
b. fiscal period
c. short period
7. kinds of taxpayers
a. individual taxpayers - always schedular tax (5%-32%)
i. citizens
a) resident citizens - global income subject to Philippine tax
b) non-resident citizens - Philippine source only
ii. aliens
a) resident aliens - Philippine source only
b) non-resident aliens
1. engaged in trade or business (stays in the Phil for more than 180d)
2. not engaged in trade or business - 25% of gross income
c) special class of individual employees
1. minimum wage earner - exempt from payment of tax on taxable income.
Exemption includes holiday pay, OT pay, night shift differential pay and hazard
pay. Not required to file ITR (NIRC 24A, 51A2; RA9504)
b. corporations (always fixed tax - 30%)
 i. domestic corporations - 30% of net income
ii. foreign corporations
a) resident foreign corporations - 30% of net income
b) non-resident foreign corporations - 30% of gross income
iii. joint venture and consortium - included under definition of "Corporation", except:
a) JV for purpose of undertaking construction projects
b) JV for the purpose of engaging in petroleum, coal, geothermal and other energy
operations pursuant to an operating consortium agreement under a service
contract with the Government.
c. partnerships
i. included under the definition of "Corporation" , under NIRC
d. general professional partnerships
i. partnership formed by persons for the sole purpose of exercising their common
profession, no part of the income of which is derived from engaging in any trade or
business
e. estates and trusts
i. estates: manner of computation: same manner and same basis as in the case of an
individual (NIRC 61)
a) note: estate under judicial settlement and an irrevocable trust are entitled to a
basic personal exemption of P20k (not 50k)
ii. trusts: income from property held in trust shall be paid by the fiduciary, if the trust
instrument is irrevocable; or the grantor if revocable or that the income is
distributed to or held for the benefit of the grantor (NIRC 60, 63, 64)
iii. in case of employee's trust which forms part of a pension, stock bonus or profit sharing
plan of an employer for the benefit of some or all of his employees, wherein
contributions are made to the trust by the employer or employees, or both, for the
purpose of distributing to such employees the earnings and principal of the fund
accumulated by the trust in accordance with such plan, tax treatments:
a) contributions made to the pension trust by the employer = allowed as deduction
against his gross income (NICC 34J)
b) retirement benefit received by the employee from the retirement fund of the
trust = excluded in his gross income, and excluded from withholding tax (NIRC
32B6a)
c) income earned by the retirement funds of private employees held by the trustor in
their behalf = exempted from income tax (NIRC 60B)
d) amount actually distributed to the employee = taxable to him in the year in which
so distributed to the extent that it exceeds the amount contributed by such
employee (NIRC 60B)
iv. ie. X died leaving several properties. The administrator continued the business of X,
and generated a lot of income for the estate. Held: estate , if under judicial
settlement, is an income taxpayer in its own right. There is no legal basis for the BIR
to have assessed upon the estate corporate taxes.
 f. co-ownerships
i. A sold his rights over his properties to his 4 children so that they can build their
residence, but after 1 year, the children sold them and paid the capital gains. Held:
children should not be treated as having formed an unregistered partnership and
taxed corporate income tax on their shares of the profits. Their original purpose
was to divide the lots for residential purposes. Division of the profit was merely
incidental to the dissolution of the co-ownership which was in the nature of things
in temporary state (Obillos v. CIR)
8. income taxation
a. definition
b. nature
i. what is being taxed is not the activity/ service/ property, but the income derived from
such activity/service
c. general principles
i. not all wealth/money received is considered as income
a) in some instances, even if what a person receives is income, that income should
not be included in the computation (exclusions)
b) exclusions - income which the law does not want us to include in the gross income
computation
c) wealth - anything capable of pecuniary estimation/ economic reality
d) wealth = income + capital return
9. income
a. definition: all wealth which flows into a taxpayer other than a mere return of capital
i. return on capital = taxable
ii. return of capital = not taxable
b. nature
i. capital is not subject to income tax
c. sources: property, activity,or service that produced the income
d. when income is taxable
i. existence of income
ii. realizatoin of income/ income received
a) test of realization
1. income is realized when the earning process is complete or virtually complete
and an exchange has taken place.
b) actual vis-a-vis constructive receipt
iii. not excluded by law or treaty from taxation (CIR v. CA, 1999)
iv. recognition of income
1. While it has been held that the phrase from whatever source drived indicates a
legislative policy to include all income not expressly exempted within the class
of taxable income under our laws, the term "income" has been variously
interpreted to mean "cash received or its equivalent", the amount of money
coming to a person within a specific time or something distinct from principal
 or capital. There must be proof of the actual or probable receipt or realization
by the controlled TP of the item of gross income sought to be distributed,
apportioned or allocated by the CIR. CIR cannot impute "theoretical interest"
on the income of a TP, since no interest shall be due unless it has been
expressly stipulated in writing. (CIR v. FDC, 2011)
v. methods of accounting
a) cash method vis-a-vis accrual method
b) installment payment vis-a-vis deferred payment vis-a-vis percentage completion
(in long-term contracts)
1. case: (Banas v. CA, 2000) - sale of realty on instalment, for the unpaid balance,
the buyer issued promissory note. immediately after the issuance of the PN,
the seller discounted the PN to the buyer.
2. held: whole profit accruing from the sale is taxable income during the year the
sale was made. Although the proceeds of a discounted PN is not considered
part of the initial payment, it is still taxable income for the year it was
converted into cash.
3. subsequent payments or liquidation of certificates of indebtedness is reported
using the installment method in computing the proportionate income to be
returned, during the respective year it was realized.
4. non-dealer sales of real or personal property may be reported as income under
the installment method provided that the obligation is still outstanding during
the close of the year. If the seller disposes the entire installment obligation, he
must necessarily report the balance of the income from the discounting not
only income from the initial installment payment.
5. where an installment obligation is discounted at a bank or financial company, a
taxable disposition results, even if the seller guarantees its payment, continues
to collect on the installment obligation, or handles repossession of
merchandise in case of default.
e. tests in determining whether income is earned for tax purposes
i. realization test
ii. claim of right doctrine or doctrine of ownership, command, or control
iii. economic benefit test, doctrine of proprietary interest
iv. severance test
v. all events test - applies only to corporate tax payer: income is earned when services
are rendered, not when cash are received.
a) all events test requires the right to income or the liability to be determined, not
with absolute certainty, but with reasonable accuracy.
b) under the all events test in claiming deductions, the amount of deduction need
not be determined exactly for as long as the same may be determined with
reasonable accuracy. The term "reasonable accuracy" implies something less than
an exact or completely accurate amount. (CIR v. Isabela cultural, 2007)