GROSS INCOME
EXCLUSIONS FROM GROSS INCOME
What are Exclusions?
Exclusions are income or receipts which are excluded from gross income, i.e. these are not included in the
determination of a taxpayer's gross income.
Hence, these incomes or receipts are not subject to income tax. However, despite their non-inclusion from gross
income, such income items may be subject to taxes other than the income tax.
Exclusions Under the Tax Code
The following items shall not be included in gross income and shall be exempt from income tax:
A. Proceeds of Life Insurance Upon Death of the Insured
The proceeds of life insurance policies paid to the heirs or beneficiaries upon death of the insured shall be
exempt from income tax. The proceeds of life insurance are treated more as an indemnity for the life lost
instead of as gain, profit, or income.
Note: Interest payments made by the insurer constitutes income to the recipient.
B. Amount Received by Insured as Return of Premium
The amount received by the insured, as a return of premiums paid by him under life insurance, endowment, or
annuity contracts, either during the term, or at the maturity of the term mentioned in the contract, or upon
surrender of the contract.
Notes:
a) The excess of the proceeds received over the premiums paid is included in gross income
b) Participating dividends distributed to life insurance policy holders are actually a return of overpaid
premiums. They are therefore excluded from gross income of the insured.
C. Gifts, Bequests, and Devices
The value of property acquired by gift, bequest, devise or descent are exempt from income taxation.
Note: The income from the lease, sale, exchange, investment, or other disposition of such property shall be
subject to income tax.
D. Compensation for Injury or Sickness
a) Amounts received, through accident or health insurance, or under Workmen’s Compensation Acts, as
compensation for personal injuries or sickness; Plus
b) The amounts of any damages received, whether by suit or agreement, on account of such injuries or
sickness.
c) Damages representing compensation for personal injuries arising from libel, defamation, slander, breach
of promise to marry, or alienation of affection.
-
Includes moral damages. Moral damages include physical suffering, mental anguish, fright,
serious anxiety, besmirched reputation, wounded feelings, moral shock, social humiliation, and
similar injury.
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-
Includes exemplary or corrective damages. These are imposed by way of example or
correction for the public good.
E. Income Exempt Under Treaties
Income of any kind, to the extent required by any treaty obligation or international agreement to be exempt
from taxation by the Republic of the Philippines.
F. Retirement Benefits, Pensions, Gratuities, Separation Pay Which Are Exempt From Income Tax
a) Social security benefits, retirement gratuities, pensions and other similar benefits received by resident
or non-resident citizens of the Philippines, or aliens who come to reside in the Philippines, from foreign
agencies and other institutions private or public.
b) Payment of benefits due or to become due to any person residing in the Philippines under the laws of the
United States administered by the United States Veteran Administration.
c) Benefits received from or enjoyed under the Social Security System (SSS) in accordance with the
provisions of Republic Act 8282.
d) Benefits received from the GSIS under Republic Act No. 8291, including retirement gratuity received by
government officials and employees.
e) Maternity benefits advanced by the employer to the employee are excluded from gross income, and are
therefore exempt from withholding tax.
GROSS INCOME
Concept of Gross Income
Gross income means the total income of a taxpayer subject to tax. It includes the gains, profits, and income
DERIVED FROM WHATEVER SOURCE, whether legal or illegal.
It does not include income excluded by law, or which are exempt from income tax.
Gross Income Defined
Gross income means all income derived from whatever source, including, but not limited to the following
items:
(1) Compensation for services;
- Including pensions and retiring allowances (except those exempt by law)
(2) Gross income derived from the conduct of trade or business or the exercise of profession;
(3) Partner’s distributive share from the net income of a general professional partnership;
(4) Rents
(5) Annuities (excess over premium paid);
(6) Gains derived from dealings in property;
(7) Interest income;
(8) Royalties;
(9) Dividends;
(10) Prizes and winnings;
Note: The above enumeration is not exclusive. Gross income may also include other forms of income which
are not even mentioned in the list above. An example of this would be income from illegal sources.
Items of Gross Income
1. Compensation For Services
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Compensation for services, of whatever kind and in whatever form paid, forms part of gross income. The name
by which the remuneration for services is designated is immaterial. Thus, salaries, wages, emoluments and
honoraria, allowances, commissions (e g. transportation, representation, entertainment, and the like); fees,
including director’s fees, if the director is, at the same time, an employee of the employer/corporation; taxable
bonuses and fringe benefits, except those which are subject to the fringe benefits tax under Section 33 of the
Tax Code; taxable pensions and retirement pay; and other income of a similar nature constitute compensation
income.
(A) Fees
Fees received by an employee for the performance of a service for the employer, including director’s fees
(including per diems and allowances), are regarded as compensation income.
Marriage fees, baptismal offerings, sums paid for saying masses for the dead, and other contributions
received by a clergyman, evangelist, or religious worker for services rendered are considered
compensation.
Exception: Authorized fees paid to public officials, such as notaries public, clerks of court, sheriffs, etc.,
for services rendered in the performance of their official duties, are not considered wages.
(B) Dismissal Payment
Any payment made by an employer to an employee on account of dismissal, that is, involuntary separation
from the service of the employer, constitutes wages, regardless of whether the employer is legally bound
by contract statute, or otherwise to make such payment
(C) Tips and Gratuities
Tips or gratuities paid directly to an employee (by a customer of the employer) which are not accounted
for by the employee to the employer are considered taxable income, but not subject to withholding tax.
2. Gross Income From Business
1) In general, “gross income” means total sales less COGS, plus any income from investments and from any
incidental or outside operations or sources.
Formula: Merchandising-ACCRUAL
Gross Sales
Less: Cost of good sold
Gross profit from sales
Add: Other Income
(a) Income from investment
(b) Income from incidental or outside operations or
sources
Gross Income
P xxx
( xx)
P xxx
P xxx
P xxx
xxx
xxx
P xxx
Gross Sales – total consideration agreed upon by the buyer and seller for the sale of goods. Gross sales
include cash (collected) and receivables (uncollected).
Gross Receipts – means cash collections for services rendered or to be rendered. Gross receipts include
reimbursements by the client for out-of-pocket expenses incurred by the service provider.
“Cost of Sale” shall include the invoice cost, import duties, freight in transporting goods
to place of sale including insurance while goods are in transit.
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Formula: Service type of business-CASH BASIS
Gross Receipts ……………………………………………….XXX
Less: Cost of Services ……………………………………… XXX
Gross Profit ………………………………………………… XXX
Add: Other Income ……………………………………….. XXX
Gross Income …………………………………………….. XXX
“Cost of Services” shall include direct cost and expenses necessary to provide the service, including
salaries and employee benefit, consultants/specialist directly rendering the service and cost of facilities,
depreciation or rental of equipment used and cost of supplies.
2) Income from Long-Term Contracts
The term “long-term contracts” refers to construction, installation, or building contracts requiring a period
longer than one (1) year for completion.
Income therefrom is reported under the percentage of completion basis.******
Ex. Contract is P100M (2 years starting 2018)
Contract completed (2018) 40%
L,M,OH used ……(2018) P35M
L.M.OH used …….(2019) P50M
Gross Income?
(2018)
Value of contract completed (40% x 100M) = P40M
Cost …………………………………………. 35M
GI …………………………………………..
5M
(2019)
P 60M
50M
10M
COMPLETED CONTRACT *******
Value 100M
Cost
85M
GI
15M
(To be recognized in 2019)
3) Gross Income From Farming
The income tax regulations prescribe three (3) methods of reporting the gross income from farming,
namely:
(a) Cash basis, or receipts and disbursements basis. Under this method, no inventory is used to
determine profits.
Formula –
Cash from sales of livestock and other products raised in the farm
+ Value of property received from sales
+ Profits/Gains from the sale of livestock or other items purchased
+ Gross income from all other sources
TOTAL gross income
(b) Accrual basis. Under this method, inventory is used to determine profits
Formula –
Sales
Ending Inventory
Less beginning inventory
Less purchases
Gross Income
xxx
xxx
(xx)
(xx)
(xx)
xxx
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or
Cash from sales of livestock and other products raised in the farm
+ Value of property received from sales
+ Profits/Gains from the sale of livestock or other items purchased
+ Gross income from all other sources
TOTAL
+ Inventory, End
- Inventory, Beginning
GROSS INCOME
(c) Crop basis. This method of reporting income may be used by a farmer engaged in producing
crops which take more than (1) year from the time of planting to the time of gathering and
disposing of the crop.
In such cases, the entire cost of producing the crop must be taken as a deduction in the year in
which the gross income from the crop is realized.
Cash sales of farm products ……………….. P 300,000
Ending Invty of farm products ……………. 200,000
Beg. Invty of farm products ………………. 150,000
Rental Income of Farm Eqpt. …………….
50,000
GI – Cash Basis …………………… P 350,000
GI – Accrual Basis ………………..
Cash Proceeds ………………. P350,000
Add: Invty End ……………..
200,000
Less: : Invty, Beg …………..
(150,000)
GI -..------------------------------P400,00
3. Rent or Lease Income
Reporting of Income by a Lessor
Rent paid by the lessee for the use or lease of property is taxable income to the lessor.
Rent income may be in the following forms:
(1) Cash, at the stipulated price;
(2) Obligations of the lessor to third persons paid or assumed by the lessee in consideration of the
contract of lease. An example is the real estate tax on the property leased assumed by the lessee.
(3) Advance payment which must be pre-paid rentals and not (a) a loan to the lessor, or (b) option
money for the property, or (c) security deposit for the faithful performance of the lessee’s obligations
However, a security deposit that is applied to rentals is taxable income to the lessor.
Pre-paid rent must be reported in full in the year of receipt, regardless of the accounting method
used by the lessor.
(4) Leasehold improvement
The contract of lease may provide that the lessee may make permanent improvements on the lease
property and said improvements will belong to the lessor upon termination of the lease.
Income and Deduction from Leasehold Improvement
(a) Income of Lessor
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The lessor, in such a case, may, at his option, report income under any of the following methods:
1) Outright method – lessor reports as income the FMV of the improvement in the year of
completion.
2) Spread-out method –
The lessor shall spread over the remaining term of the lease the estimated depreciated (book)
value of such buildings or improvements at the termination of the lease, and report as income
for each remaining term of the lease an aliquot part thereof
Formula:
Cost of leasehold improvements
Less: Depreciation for remaining term of lease
Book value, end of lease
Book value end of lease
P xxx
(xx)
P xxx
= Income per year
P xxx
Example:
Lease on land for P240,000/year starting Jan 1 2017 for 10 years
Building constructed on the lease property worth P10M completed on Jan 1, 2019
Est Life of Bldg. is 10 years
Rental Income (2019)?
1. Outright Method – Rent land ………….. P240,00
Improvement ………………………….. 10,000,000
Total Rent …………………………….. P10,240,000 (2019)
Rent 2017………………………………. 240,000
Rent 2018 …………………………….. 240,000
Rent 2019 …………………………. P10,240,000
Rent 2020 ……………………………. 240,000
2. Spread-out Method (2019)
Rent on Land …………………………… P240,000
Improvement ………………………….
250,000*
Rental Income …………………………. P490,000
*Improvement
Cost …………………P10,000,000
Accu Dpn ETL ….
8,000,000
10,000,000/10 x 8
BV ETL ……………. 2,000,000
RI = 2,000,000/8 = 250,000
ETL = end of term of lease
RI = rental income
2017 RI = 240,000
2018 RI – 240,000
2019 RI = 490,000
2020 RI = 490,000
(b) Deduction of Lessee (Depreciation expense)
The lessee may claim depreciation of the improvements over the remaining term of the lease or
the life of the improvements, whichever is shorter.
(c) Computation of Income from Leasehold Improvement Arising from the Pre-termination of
Lease Contract
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The lessor receives additional income for the year in which the lease is so terminated to the extent
that the value of such building when he became entitled to such possession exceeds the amount
already reported as income on account of the erection of such building.
Formula –
BV of Leasehold Improvement at termination of Lease
Less: Amounts of income previously recognized
Additional income in year of termination
P xxx
(xx)
P xxx
(d) Loss of Lessor if Leasehold Improvement is Destroyed Before Termination of Lease
If the building or other leasehold improvement is destroyed before the expiration of the lease, the
lessor is entitled to deduct as a loss for the year when such destruction takes place the amount
previously reported as income because of the erection of the improvement, less any salvage value,
to the extent that such loss was not compensated by insurance.
4. Gains Derived From Dealings in Property
Sale of 3 types of property which may give rise to taxable events:
Ordinary asset – 100% of the gain or loss shall be recognized in the ITR
Capital asset – subject to final taxes (capital gains tax)
Other capital asset – holding period of the asset shall be taken into consideration if the seller is an
individual, and only the net capital gain shall be included in the ITR.
Asset
Ordinary
Real
Personal
Capital
Personal
Real
Capital Gains Tax
Income Tax
Ordinary Assets:
1. Assets purchased primarily held for sale
2. Assets included in inventory
3. Assets used in business
Rules:
1. Capital loss can only be deducted from capital gain
2. Capital loss can not be deducted from ordinary gain
3. Ordinary loss may be deducted from ordinary gain and capital gain
4. Holding period
100% on capital asset held for 12 months or less
50% on capital asset held for over 12 months
5. Net capital loss may be deducted from capital gain the following year.
Individual
/
/
/
/
/
Corporate
/
/
/
X
X
Note: carry over on the next year only ( 1 yr only)
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Example 1:
2018
2019
Capital Gain ……….. 50,000
Capital Loss ……….. (20,000)
Ordinary Gain…………………………. 40,000
Ordinary Loss ……… (10,000) ……. (10,000)
Capital Loss ………………………….. (20,000)
Gross Income………..
20,000
30,000
Example 2:
2018
Capital Gain (asset held for 10 mos.).. 50,000
Capital Loss (asset held for 24 mos.) (20,000)
Ordinary Gain (asset held for 30 mos.) 40,000
Gain – 50,000
Loss – (10,000)
Gross Income if taxpayer is an Individual ?…P 80,000
Gross Income if taxpayer is a corporation ?...P 70,000
Example 3: An taxpayer reported:
2018
Capital Gain (asset held for 18 mos.).. 50,000
Capital Loss (asset held for 4 mos.) .. (30,000)
Ordinary Gain (asset held for 30 mos) 40,000
25,000
30,000) (5,000) = net capital loss
2019
Capital Gain (asset held for 10 mos.).. 5,000
Ordinary Gain (asset held for 30 mos) 40,000
2018 Gross Income if taxpayer is an Individual…?
2018 Gross Income if taxpayer is a corporation ...?
2019 Gross Income if taxpayer is an Individual…?
2019 Gross Income if taxpayer is a corporation ...?
P40,000
P60,000
P40,000
P45,000
Example 4: An individual taxpayer reported:
2017
2018
2019
Capital Loss
(20,000)
Capital gain …………………………………………..10,000
30,000
Ordinary gain
30,000 …………. 5,000
Ordinary Loss …………………………………………………… (25,000)
Gross Income:?
P30,000
5,000
5,000
Using the above-data (in Ex 4), assume that the taxpayer is a corporation, GI?
2047
Gross Income ………………….. P30,000
P15,000
P 5,000
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5. Income From Other Sources
(1)
Recovery of damages representing compensation for loss of profits or income are includible in
gross income
Note: Recoveries that are to compensate for damage to property, injury to person, or loss of life are
not taxable.
Included in Gross Income
1) Damages for loss profits
2) Damages for lost income
(2)
Not Taxable
1) Damages to compensate for damage or
injury to the person or his property
2) Damages for lost capital
3) Moral damages
4) Exemplary damages
5) Punitive damages
Recovery of Bad Debts Previously Deducted
The “Tax Benefit Rule” is the doctrine observed in the Philippines in bad debt recoveries.
Rules on Bad Debt Recovery:
(a) Taxable – if the deduction of the bad debt in prior year resulted in an income tax benefit to the
taxpayer, the bed debt recovered is taxable income in the year of recovery.
(b) Not Taxable – if the deduction of the bad debt did not result in an income tax benefit to the
taxpayer (i.e., where the result of the business operation was net loss even without the bad debt
deduction), the bad debt recovered is not taxable income but is treated as a mere recovery or
return or capital.
(c) Income From Bad Debt Recovery – the recovered amount of the previously deducted bad debt
which resulted in an income tax benefit.
(3)
Forgiveness of Indebtedness
Included in the ITR: When a creditor cancels the debt as part of a business transaction, or in
consideration of personal services of the debtor, the condoned debt is taxable income to the debtor.
Taxed as a dividend: But where the debtor is a stockholder of the corporation which condoned the
debt, the condonation is considered an indirect payment of dividend.
Subject to donor’s tax: If a creditor merely desires to benefit a debtor, and without any consideration
therefor cancels the debt, the amount of the debt is a gift from the creditor to the debtor.
Example: At the testimonial dinner for new CPAs, Christian, a reviewer was requested to sing the theme
song of the movie “Ghost”. Pauline, a new CPA, was so delighted that she felt she was falling in love
with Christian so she decided to cancel Christian’s indebtedness to her. As a result,
a. Christian realized a taxable income as compensation for services
b. If Christian accepts the cancellation, he will pay donor’s tax
c. Christian received a gift from Pauline and therefore is not part of his taxable income ***
d. The amount of indebtedness cancelled is partly taxable, partly exempt
(4)
Income from Illegal Sources
All unlawful gains are taxable and includible in the ITR. However, actual repayment of such illegal
gains will give rise to a deduction. (James vs. United States, 366 US 213)
(5)
Unutilized/Excess Campaign Funds
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Unutilized/excess campaign funds, that is, campaign contributions net of the candidate’s campaign
expenditures, shall be considered as subject to income tax. As such, the same must be included in the
candidate’s gross income as stated in his Income Tax Return (“ITR”) for the subject taxable year.
Any candidate who fails to file with the COMELEC the appropriate Statement of Expenditures
required under the Omnibus Election Code, shall be automatically precluded from claiming such
expenditures as deductions from his campaign contributions. As such, the entire amount of his
campaign contributions shall be considered as directly subject to income tax.
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