FREE PRE-WEEK NOTES TAXATION LAW Specially prepared for the LEGAL EDUCATION BOARD for the use of Candidates for the January 23, 2022 Bar Examinations, specially those affected by Typhoon Odette. The assistance of Central Book Store in printing and releasing these materials is greatly appreciated. HYPOTHETICAL BAR REVIEW QUESTIONS & ANSWERS Based on the SYLLABUS FOR THE 2020/21 BAR EXAMINATIONS Per Bar Bulletin No. 31, s. 2022 issued January 4, 2022 Suggested answers are based on selected canonical jurisprudential doctrines up to March 31, 2021; laws, rules and regulations until June 30, 2019 by ABELARDO T. DOMONDON AB, BSC, MA, JD, LLM, DCL (C.A.U.), PhD (CAND.) Lawyer-CPA-Customs Broker Commissioner, Legal Education Board 2022 SPECIAL EDITION For VENNY VALDEZ my one and only whose inspiration and support brought me to where I am. For my late parents, JOSE CONCEPCION DOMONDON and INES JIMENEZ TORRES, who shall always be honored and remembered. ii 2022 Special Edition Copyright 2022 by Abelardo T. Domondon I am not registering this work with the Philippine Intellectual Property Office but I own the materials from the moment I created them. All persons are allowed free use of these materials which may be reproduced in any form or any means, electronic or mechanical, including photocopying or xeroxing without written permission from the author so long as the authorship is recognized. Please dessiminate and distribute to those in need of the materials. ABELARDO T. DOMONDON iii BAR CANDIDATE’S PRAYER* Lord God, the creator of all, and fount of all knowledge and wisdom, I implore you to guide me in my undertaking to become a lawyer. Open my mind to absorb, remember and live the principles of law and justice distilled in my readings and in the lectures I attend. I beseech you to illumine the thoughts of the bar reviewers so they could be your instruments in guiding me. Fill me with your grace, so I would have a clear mind in identifying the issues raised in the bar questions. Give light for me to discover the correct, just and ethical answers to the bar questions so I could pass the Bar. Finally, grant me the serenity to accept whatever is thy will and show me the correct path to take for your greater glory. AMEN ___________ * A non-sectarian prayer written by Prof. Abelardo T. Domondon. iv FOREWORD Typhoon Odette has caused unspeakable devastation in the Visayan region. With barely a month before the Bar Examinations, a lot of the bar reviewees therein have lost their homes, their books and their momentum. The Legal Education Board and its stakeholders, the Integrated Bar of the Philippines (IBP), the Philippine Association of Law Schools (PALS) and the Association of Law Students of the Philippines (ALSP) have quickly joined their efforts to assist the reviewees in their dire predicament. Soon, not a few legal education institutions have made their pre-week reviewers available online to those seriously hit by Odette. On the other hand, with no time to waste, the reviewer is determined to read only what he must know, can process and might remember during crunch time. v “Pre-Week Notes on Taxation”, written by seasoned bar reviewer and Commissioner of the LEB, Hon. Abelardo T. Doondon, delivers just that. A subject in which amendments and repeals are commonplace, the book walks the reader through the remaining, as well as the new tax laws, so methodically, as only an author who is a lawyer, certified public accountant, statistician, foreign service officer and most importantly, an educator – all rolled into one – can. Shorn of any condition for its publication and released without the author expecting or desiring earnings therefrom, it is intended for this book, foremost, to revive the bar candidates’ optimism and take away from them any feeling of bar disaster. Given its unhindered availability, through the generosity of Mr. Paolo Sibal and Central Book Supply, anyone who wishes to expand his or her knowledge of Tax Law, affected or not by Typhoon Odette, will benefit exceedingly from this material. While the intellectual gain is invaluable, there is more to this work than the academic light it brings. In the midst of the uncertainty, panic and grief that Odette has inflicted upon the properties in the Visayas and the spirit of its people, and as the pandemic continues to have a grip on all nations, this book, a product of pure altruism, is a reminder of all that is still right and good in us, in others and in this world. ANNA MARIE MELANIE B. TRINIDAD Chairperson, Legal Education Board vi PUBLISHER’S MESSAGE We are deeply saddened by the widespread devastation caused by the typhoon “Odette”. We hope that in the midst of all these difficulties, you will find comfort in the fact that many people including us in Central Books, are in solidarity with you. Despite the devastation surrounding you, focus on your goals. Trust that everything you studied is deeply embedded in your subconscious and that you will be able to access every detail at the right time. View this episode in your life as a challenge and a life-changing event, a process that will contribute to who you are in becoming as a person. We at Central Books are one with you in your journey of becoming a lawyer and we hope that this Free Pre-week Notes Taxation Law will help you achieve your destiny. JOSE PAOLO M. SIBAL President Central Book Supply Inc. PREFACE TO THE 2022 SPECIAL EDITION Bar Bulletin No. 31, S. 2022 is a game-changer because it sought to “(a) reduce the coverage; and (b) shorten the duration of the 2020/21 Bar Examinations to only two days: January 23, 2022, Sunday; and January 25, 2022, Tuesday.” All pre-week materials have to be adjusted to meet the reduced coverage as well the attendant limitation of the number of questions. From the former 18 to 20 questions with subdivisions, there are now only three (3) questions. The Bar Candidate is advised to concentrate on the basic objective questions as well as canonical doctrines from 2015 up to 2022, specially the case of La Sallian Educational Innovators (etc.), Inc. v. Commissioner of Internal Revenue, G.R. No. 202792, February 27, 2019. This Book was written as a labor of love for those who are going to take the January 23, 2022 Bar Examination in Taxation Law serving as a memory jogger so the reader should note the following marks: *** must know. ** should know. * nice to know. Without any star, just browse. Master the concepts not the questions. This PreWeek Notes is a summary of the concepts that would probably be asked in the January 23, 2022 Bar Examination in Taxation Law. The questions merely illustrate how the concepts are applied to a set of facts. vii All the best for the 2022 Bar Candidates especially for the victims of Typhoon “Odette.” My prayers are always with you. Ad Majorem Dei Gloriam. 267 Carandang Avenue Bigain 1st, San Jose, Batangas January 7, 2022 THE AUTHOR viii i. BASIC PRINCIPLES OF TAXATION IN THE CONSTITUTION ***1. The exercise of the power of taxation is considered as plenary and unlimited because the very existence of the government is dependent for its existence upon the revenues collected from taxation. Are there any limitations imposed upon the power of taxation ? Why ? If there are, what in general are the limitations ? SUGGESTED ANSWER: Yes. The limitations exist in order to prevent an abuse of this otherwise unlimited power. The limitations on the power of taxation are the following: a. Inherent limitations. These are part and parcel of the power of taxation and originate from the very nature of taxation. b. Constitutional limitations. These are the restrictions imposed by the constitution. The limitations on power to tax, not assumed. [Kasamahan Realty Development Corporation (now known as Stag Trading Corporation) v. Commissioner of Internal Revenue, CTA Case No. 6204, February 16, 2005) The failure of a tax measure to achieve its objectives is not a ground for its nullification. (Soriano v. Secretary of Finance, G.R. No. 184450, and companion cases, January 24, 2017)Ch ***2. Taxation as an attribute of sovereignty is peculiarly and essentially legislative. As a power, it had been described as broad, unlimited, supreme and plenary, subject only to constitutional restrictions and its inherent limitations. Discuss said inherent limitations. 1 FREE PRE-WEEK NOTES TAXATION LAW 2 SUGGESTED ANSWER: The inherent limitations on the power of taxation which are also known as the elements, tenets or characteristics of taxation are: a. The tax imposed should be for a public purpose. b. There should be no improper delegation of the taxing power. c. The power to tax is limited to the territorial jurisdiction of the taxing government. d. Exemption of recognized. e. Observance of international comity such that property of foreign sovereigns, are not subject to taxation. government entities is Some authorities include double taxation. While this may be so, it is submitted that double taxation is properly a constitutional limitation. ***3. The European Union General System of Preferences (EU GSP+) is a special incentive arrangement for sustainable development and good governance in the form of zero duties. It is a unilateral trade arrangement, which offers zero tariffs on 6,274 products or 66% of all EU tariff lines. It is a part of the broader Generalized System of Preferences (GSP) of the EU and, as a developmental tool it seeks to encourage export diversification in developing countries. Among the industries that enjoy the privilege is the pineapple industry. In order to continually enjoy protection under EU GSP+ the Philippines should ensure that the EU Monitoring Team must not identify a serious failure to its effective implementation of any of numerous conventions which include International Drug Control Conventions, UN Human Rights Conventions International Covenant on Civil and Political Rights (ICCPR), etc. Unfortunately, HYPOTHETICAL BAR REVIEW QUESTIONS & ANSWERS 3 the EU GSP+ Momitoring Team, in its last visit, expressed grave concerns on the Philippines’ performance on human rights, the war on drugs, etc.. It now appears that the Philippines might lose the privilege of enjoying the benefits under the EU GSP+. To provide means for the rehabilitation and stabilization of the preserved pineapple industry so as to prepare it for the eventuality of the loss of the EU GPS+ privilege, Congress passes a law increasing the existing tax on the processing of preserved pineapple on a graduated basis. All collections made under the law are to accrue to a special fund to be spent only for the purposes enumerated therein, among which are to place the preserved pineapple industry in a position to maintain and ultimately to insure its continued existence despite the loss of the EU GSP+ privilege, and to afford laborers employed in the industry a living wage and to improve their working conditions. Mr. Omar Reyes, a pineapple planter, files a suit questioning the constitutionality of the law alleging that the tax is not for a public purpose as the same is being levied exclusively for the aid and support of the preserved pineapply industry. Decide the same. SUGGESTED ANSWER: The tax is valid because it is for a public purpose. It is an exercise of police power which is for the general welfare of the entire country because the preserved pineapple industry is one of the pillars of the Philippine economy which affects the welfare of the State. (Republic v. Bacolod-Murcia Co., G.R. No. L-19824, July 9, 1966) It is a pillar of the Philippine economy providing employment for thousands of workers, providing much needed foreign exchange, and otherwise contributes to economic development and progress. 4 FREE PRE-WEEK NOTES TAXATION LAW Public purpose is the heart of a tax law. [Planters Products, Inc. v. Fertiphil Corporation, 548 SCRA 485 (2008)] ***4. Explain the general rule on non-delegation of the legislative authority to tax as well as its constitutional basis. SUGGESTED ANSWER: There should be no improper delegation of legislative authority to tax. The power to tax is inherent in the State, such power being inherently legislative, based on the principle that taxes are a grant of the people who are taxed, and the grant must be made by the immediate representatives of the people; and where the people have laid the power, there it must remain and be exercised. (Commissioner of Internal Revenue v. Fortune Tobacco Corporation, G.R. Nos. 167274-75, July 21, 2008) The constitutional principle of separation of powers ordains that each of the three great branches of government has exclusive cognizance of and is supreme in matters falling within its own constitutionally allocated sphere. [Abakada Guro Party List (Formerly AASJS), etc. v. Ermita, G.R. No.168056, September 1, 2005] A logical corollary to the doctrine of separation of powers is the principle of non-delegation of powers, as expressed in the Latin maxim: potestas delegata non delegari potest which means that what has been delegated, cannot be further delegated. (Abakada, supra citations omitted) This doctrine is based on the ethical principle that such delegated power constitutes not only a right but a duty to be performed by the delegate through the instrumentality of his own judgment and not through the intervening mind of another. (Abakada, supra) HYPOTHETICAL BAR REVIEW QUESTIONS & ANSWERS 5 ***5. What is the extent of the legislative power that may not be delegated ? SUGGESTED ANSWER: The legislative power that may not be delegated is the discretion to ascertain the following: a. basis, amount, or rate of tax; b. person or property that is subject to tax; c. exemptions and exclusions from tax; and d. manner of collecting the tax - may not be delegated away by Congress. (La Suerte Cigar & Cigarette Factory v. Court of Appeals, G.R. No. 125346, November 11, 2014, and companion cases, paraphrasing and arrangement supplied) ***6. What are the exceptions to the rule against delegation of the taxing power ? SUGGESTED ANSWER: The following are some of the instances where there may be exceptions to the rule against delegation of the taxing power: a. When the constitution itself authorizes the delegation such as in the flexible tariff clause where the constitution has authorized Congress to delegalte to the President certain aspects of taxation; b. Where there is a valid delegation to administrative bodies provided there is compliance with the requirements of completeness and existence of sufficiently determinate standards to guide the delegate. Where the law leaves the hands of the lawmaker complete in all aspects there could be delegated to administrative authorities the power of subordinate legislation, i.e. the issuance of implementing rules and regulations. If the law is not complete, there may still be a valid delegation to administrative authorities provided that there FREE PRE-WEEK NOTES TAXATION LAW 6 exists sufficiently determinate standards that provide adequate guidelines or limitations in the law that map out the boundaries of the delegate’s authority and canalize the delegation. (Soriano v. Secretary of Finance, G.R. No. 184450, and companion cases, January 24, 2017) This would prevent a total transference of the legislative authority to tax to the administrative authority who is not allowed to step into the shoes of the legislature and exercise a power essentially legislative. [Abakada Guro Party List (Formerly AASJS), etc. v. Ermita, G.R. No. 168056, September 1, 2005] ***7. What are the constitutional limitations or restrictions upon the taxing power ? SUGGESTED ANSWER: constitutional limitations. There are two kinds of a. Provisions directly affecting taxation. Direct or specific limitations. Provisions in the constitution that contain the words tax, taxation or others, of similar import. Some examples of the provisions directly affecting taxation are: 1) Prohibition against imprisonment for nonpayment of poll tax. (CONST., art. III, sec. 20) 2) Majority vote of Congress for grant of tax exemptions. [Ibid., art. VI, sec. 28 (4)] 3) President’s veto power on appropriation, revenue, tariff bills. [Ibid., art. VI, sec. 27 (2)] b. Provisions indirectly affecting taxation. Indirect or general limitations. Provisions in the constitution that do NOT contain the words tax, taxation or others of similar import. Some examples of constitutional provisions indirectly affecting taxation: HYPOTHETICAL BAR REVIEW QUESTIONS & ANSWERS 7 1) Due process. (CONST., art. III, sec. 1) 2) Equal protection. (Ibid.) 3) Religious freedom. (Ibid., sec. 5) 4) Non-impairment of obligations of contract. (Ibid., sec. 10) ***8. Taxation as an attribute of sovereignty is peculiarly and essentially legislative. As a power, it had been described as broad, unlimited, supreme and plenary, subject only to constitutional restrictions and its inherent limitations. The constitutional restrictions are the specific or direct limitations and the general or indirect limitations. What are the specific or direct constitutional limitations on the power of taxation? SUGGESTED ANSWER: The specific or direct constitutional limitations on the power of taxation or those where there is mention of the word “tax”, “taxation” or any of their variations such as the following a. Prohibition against imprisonment for non-payment of poll tax. (CONST., art. III, sec. 20) b. Uniformity and equality of taxation. (Ibid., art. VI, sec. 28) c. Grant by Congress of authority to the president to impose tariff rates. (Ibid., art. VI, sec. 28, 2nd par.) d. Prohibition against taxation of religious, charitable entities, and educational entities. [Ibid., art. VI, sec. 28 (3)] e. Prohibition against taxation of non-stock, non-profit institutions. (Ibid., art. XIV, sec. 4) f. Majority vote of Congress for grant of tax exemptions. [Ibid., art. VI, sec. 28 (4)] 8 FREE PRE-WEEK NOTES TAXATION LAW g. Prohibition on use of tax levied for special purpose. [Ibid., art. VI, sec. 29 (3)] h. President’s veto power on appropriation, revenue, tariff bills. [Ibid., art. VI, sec. 27 (2)] i. Non-impairment of jurisdiction of the Supreme Court. (Ibid., art. VIII, sec. 5) j. Grant of power to the local government units to create its (their) own sources of revenue. (Ibid., art. X, sec. 5) k. Flexible tariff clause. [Ibid., art. VI, sec. 28 (2)] l. Exemption from real property taxes. [Ibid., art. VI, sec. 28 (3)] m. No appropriation or use of public money for religious purposes. [[bid., art. VI, sec. 29 (2)] n. Mandate for Congress to evolve a progressive system of taxation. [Ibid, art. VI, Sec. 28 (1), 2nd sentence] o. Origination of appropriation, revenue or tariff bills. (Ibid., art. VI, sec. 24) p. Automatic release of LGU’s just share in national taxes. (Ibid., art. X, sec. 6) q. Tax exemption of grants, endowments, donations or contributions. [Ibid., art. XIV, sec. 4 (4)] NOTE NOT PART OF THE ANSWER: The reader should note that the specific or direct constitutional provisions include words like tax, taxation, revenue or tariff bills, use of public money, or words of similar import WHILE the general or indirect constitutional limitations do not include such words. HYPOTHETICAL BAR REVIEW QUESTIONS & ANSWERS 9 ***9. Under the 1987 Constitution, may the government tax income of non-profit educational institution operated by religious orders? What policy considerations are to be taken into account? SUGGESTED ANSWER: No. The revenue of non-stock, non-profit educational institutions which are actually, directly and exclusively used for educational purposes, irrespective of whether or not they are operated by religious orders under the 1987 Constitution. are exempt from income taxation. (La Sallian Educational Innovators (etc.), Inc. v. Commissioner of Internal Revenue, G.R. No. 202792, February 27, 2019 citing 1987 Constitution, Article XIV) The policy consideration is to encourage the establishment of educational institutions which are not profit motivated. The tax exemption would translate to lower tuition fees providing access to education for all ***9. What does constitutional equality in taxation mean? SUGGESTED ANSWER: Equality of taxation means that all persons who are similarly situated should be treated alike both in privileges conferred and burdens imposed. Constitutional equality in taxation means the application of the concept of equal protection of the laws which prohibits discrimination other than these instances where there is valid classification. Thus, persons who are similarly situated, or who belong to the same class, should be given by law the same protection and privileges as well as imposed the same burdens and obligations. “The constitutional guarantee of equal protection is not violated by an executive issuance which was issued to simply reinforce existing taxes applicable to both the private and public sector.” [Confederation for Unity, Recognition and Advancement of Government Employees (Courage) v. FREE PRE-WEEK NOTES TAXATION LAW 10 Commissioner, etc., G.R. No. 213446, and companion cases July 03, 2018, paraphrasing supplied] ***10. What classification ? are the requisites for a valid SUGGESTED ANSWER: All that is required of a valid classification is that it be reasonable, which means that a. the classification should be based on substantial distinctions which make for real differences, that b. it must be germane to the purpose of the law; that c. it must not be limited to existing conditions only; and that d. it must apply equally to each member of the class. This Court has held that the standard is satisfied if the classification or distinction is based on a reasonable foundation or rational basis and is not palpably arbitrary. The equal protection clause recognizes a valid classification, that is, a classification that has a reasonable foundation or rational basis and not arbitrary. (Drugstores Association of the Philippines, Inc., et al. v. National Council on Disability Affairs, G.R. No. 194561, September 14, 2016) ALTERNATIVE STATEMENT: The United States Supreme Court has established different tests to determine the validity of a classification and compliance with the equal protection clause. The recognized tests are: a. strict scrutiny (or compelling interest test) for laws dealing with freedom of the mind or restricting the political process. Applying strict scrutiny, the focus is on the presence of compelling, rather than substantial, governmental interest and on the absence of less restrictive means for achieving that interest. (White Light Corporation v. City of Manila, etc., G.R. No. 122846, January 20, 2009) HYPOTHETICAL BAR REVIEW QUESTIONS & ANSWERS 11 b. The rational basis standard of review for economic legislation. (Ibid.) Under this test, laws or ordinances are upheld if they rationally further a legitimate governmental interest. (Ibid.) The standard is met if the classification or distinction is based on a reasonable foundation or rational basis and is not palpably arbitrary. [ABAKADA Guro Party List, etc. v. Purisima, etc., G.R. No. 166715, August 14, 2008] c. A third standard, denominated as heightened or intermediate level of scrutiny (in While Light this was called immediate scrutiny), Intentional discriminations against members of a quasi-suspect class violate equal protection unless they are substantially related to important government objectives. (White Light, supra) ***11. Executive Order No. 97-A specified the secured areas that shall be completely tax and duty-free in the Subic Special Economic Zone (SSEZ) consisting of the presently fenced-in former Subic Naval Base without granting the same to those outside the SSEZ. Is there a violation of the equal protection clause ? SUGGESTED ANSWER: No. Equal protection allows for a reasonable classification. a. Significant distinctions exist between the two groups. Those outside of the SSEZ maintain their business within Philippine customs territory while those within the SSEZ operate within the so-called “separate customs territory.” To grant the same privileges would clearly defeat the statute’s intent to carve a territory out of the military reservations in Subic Bay where free flow of goods and capital is maintained. b. The classification is germane to the purpose of Rep. Act No. 7227. As held in Tiu, the real concern of the law is to convert the lands formerly occupied by the US military bases into economic or industrial areas. In furtherance of such objective, Congress deemed it necessary to extend FREE PRE-WEEK NOTES TAXATION LAW 12 economic incentives, in terms of a complete package of tax incentives and other benefits, to the establishments within the zone to attract and encourage foreign and local investors. c. The classification is not limited to the existing conditions when the law was promulgated but to future conditions as well, inasmuch as the law envisioned the former military reservation to ultimately develop into a selfsustaining investment center. d. The classification applies equally to all retailers found within the “secured area.” As ruled in Tiu, the individuals and businesses within the “secured area,” being in like circumstances or contributing directly to the achievement of the end purposes of the law, are not categorized further. They are all similarly treated, both in privileges granted and in obligations required. (Coconut Oil Refiners Association, Inc. v. Torres, etc., G.R. No. 132527, July 29, 2005) ***12. Quezon City Ordinance No. SP-2235, S-2013 was enacted on December 16, 2013 and took effect ten days after when it was approved by City Mayor. The proceeds collected from the garbage fees on residential properties shall be deposited solely and exclusively in an earmarked special account under the general fund to be utilized for garbage collections. 1. The Ordinance set forth the schedule and manner for the collection of garbage fees as follows: On all domestic households in Quezon City; LAND AREA IMPOSABLE FEE Less than 200 sq. m. Php 100.00 201 sq. m. – 500 sq. m. Php 200.00 501 sq. m. – 1,000 sq. m. Php 300.00 1,001 sq. m. – 1,500 sq. m. Php 400.00 HYPOTHETICAL BAR REVIEW QUESTIONS & ANSWERS 13 1,501 sq. m. – 2,000 sq. m. or more Php 500.00 On all condominium unit and socialized housing projects/units in Quezon City; FLOOR AREA IMPOSABLE Less than 40 sq. m. Php 25.00 41 sq. m. – 60 sq. m. Php 50.00 61 sq. m. – 100 sq. m. Php 75.00 101 sq. m. – 150 sq. m. Php100.00 151 sq. m. – 200 sq. [m.] or more Php200.00 FEE On high-rise Condominium Units a) High-rise Condominium – The Homeowners Association of highrise condominiums shall pay the annual garbage fee on the total size of the entire condominium and socialized Housing Unit and an additional garbage fee shall be collected based on area occupied for every unit already sold or being amortized. b) High-rise apartment units – Owners of high-rise apartment units shall pay the annual garbage fee on the total lot size of the entire apartment and an additional garbage fee based on the schedule prescribed herein for every unit occupied. SECTION 3. of the ordinance contains a penalty clause which reads: “A penalty of 25% of the garbage fee due plus an interest of 2% per month or a fraction thereof (interest) shall be charged against a household owner who refuses to pay the garbage fee herein imposed.” Rule on the validity of the ordinance. 14 FREE PRE-WEEK NOTES TAXATION LAW SUGGESTED ANSWER: The ordinance is null and void. It violates the equal protection clause of the Constitution and the provisions of the LGC that an ordinance must be equitable and based as far as practicable on the taxpayer’s ability to pay, and not unjust, excessive, oppressive, confiscatory. (Ferrer, Jr. v. City Mayor Bautista, G.R. No. 210551, June 30, 2015 citing LGC, Secs. 130 and 186) In the subject ordinance, the rates of the imposable fee depend on land or floor area and whether the payee is an occupant of a lot, condominium, social housing project or apartment. The rates being charged by the ordinance are unjust and inequitable: a resident of a 200 sq. m. unit in a condominium or socialized housing project has to pay twice the amount than a resident of a lot similar in size; unlike unit occupants, all occupants of a lot with an area of 200 sq. m. and less have to pay a fixed rate of Php100.00; and the same amount of garbage fee is imposed regardless of whether the resident is from a condominium or from a socialized housing project. Indeed, the classifications under Ordinance No. S2235 are not germane to its declared purpose of “promoting shared responsibility with the residents to attack their common mindless attitude in over-consuming the present resources and in generating waste.” Instead of simplistically categorizing the payee into land or floor occupant of a lot or unit of a condominium, socialized housing project or apartment, the City Council should have considered factors that could truly measure the amount of wastes generated and the appropriate fee for its collection. Factors include, among others, household age and size, accessibility to waste collection, population density of the barangay or district, capacity to pay, and actual occupancy of the property. HYPOTHETICAL BAR REVIEW QUESTIONS & ANSWERS 15 On top of an unreasonable classification, the penalty clause lacks the limitation required by Section 168 of the LGC, which provides that, in no case shall the total interest on the unpaid amount or portion thereof exceed thirty-six (36) months.” (Ibid.) ***13. What is the scope of the tax exemption of all schools, whether non-stock, non-profit or proprietary (for profit) including those that are cooperatively owned ? SUGGESTED ANSWER: a. All donations, grants, endowments or contributions used actually, directly and exclusively for educational purposes 1) shall be exempt from tax 2) subject to conditions prescribed by law. (CONST., art. XIV, sec. 4) b. All lands, buildings, and improvements 1) actually, directly and exclusively used 2) for educational purposes. [CONST., art. VI, sec. 28 (3), 14. What is the basic rationale for the constitutionally granted tax exemptions for private (non-government) schools? SUGGESTED ANSWER: The relief given to private (non-government) schools by the constitution is expected to be passed on to the students in the form of lower tuition fees. (Southeast Asian Regional Center for Graduate Study and Research in Agriculture [SEARCA] v. Commissioner of Internal Revenue, CTA Case No. 4982, October 6, 1995) In this manner the schools would be assisting the State provide education for all without using government resources because it would the private school that would take the economic burden of providing education. FREE PRE-WEEK NOTES TAXATION LAW 16 ***15. There are areas of common constitutional tax exemptions granted to both non-stock, non-profit and proprietary (for profit) educational institutions. a. Are there any instances of constitutional tax exemptions that are granted only to non-stock, nonprofit but not to proprietary (for profit) educational institutions ? SUGGESTED ANSWER: Yes. “All revenues and assets of non-stock, non-profit educational institutions used actually, directly, and exclusively for educational purposes shall be exempt from taxes and duties.” [CONST., art. XIV, sec. 4 (3), 1st par., 1st sentence] b. In what manner may proprietary educational institutions avail of the same tax exemption privileges ? SUGGESTED ANSWER: “Proprietary educational institutions, including those cooperatively owned, may likewise be entitled to such exemptions, subject to the limitations provided by law, including restrictions on dividends and provisions for reinvestment.” [CONST., art. XIV, sec. 4 (3), 2nd par.] ***16. The Constitution provides – “That rule of taxation shall be uniform and equitable. Congress shall evolve a progressive system of taxation. (Art VI, Sec. 28 (L). What do you understand by “a progressive system of taxation”? Discuss briefly the rationale for its inclusion in the 1987 Constitution. SUGGESTED ANSWER: Taxation is progressive when its rate goes up depending on the resources of the person affected. [Abakada Guro Party List (Formerly AASJS) etc. v. Ermita, G.R. No. 168056, September 1, 2005] It should be noted that the foregoing definition is clearly deficient. It is not the mere increase in the rate alone in HYPOTHETICAL BAR REVIEW QUESTIONS & ANSWERS 17 relation to income (the tax base) but the increase in the tax rate must be at faster rate than the increase in the tax base. If the tax rate increases in the same proportion as the increase on the tax base, the tax is a proportional tax not a progressive tax. The progressive system of taxation is exemplified by the income tax rate which increases as the net taxable increases. It is based on the ability to pay and in implementation of the social justice principle that the more affluent should contribute more to the community’s benefit. The progressive system of taxation is constitutionally imposed to achieve social justice through redistribution of income. Progressive income taxes alleviate the margin between rich and poor. (Southern Cross Cement Corporation v. Cement Manufacturers Association of the Philippines, G.R. No. 158540, August 3, 2005) Among the general rationale for the progressive system of taxation are the following: a. It represents a procedurally legitimate outcome of a political process based on sound democratic principles. b. It furthers (not guarantees) the end of achieving a modest redistribution of wealth. c. It limits the wealth and power of the extremely wealthy. d. It compensates for regressive national taxes such as the value-added tax, etc. (Adapted from Dodge, Joseph M. The Logic of Tax, West Publishing Company, St. Paul, Minn, USA, 1989) ***17. E.O. 313 intended to create a trust fund out of the coco-levy funds to provide economic assistance to the coconut farmers and, assisting other agriculturally- FREE PRE-WEEK NOTES TAXATION LAW 18 related programs which would ultimately, benefit the coconut farmers. Is E.O. 313 violative of the constitution ? SUGGESTED ANSWER: Yes. “Clearly, E.O. 313 above runs counter to the constitutional provision which directs that all money collected on any tax levied for a special purpose shall be treated as a special fund and paid out for such purpose only. Assisting other agriculturally-related programs is way off the coco-fund’s objective of promoting the general interests of the coconut industry and its farmers.” (Pambansang Koalisyon ng mga Samahang Magsasaka at Manggagawa sa Niyugan (PKSMMN), et al. v. Executive Secretary, G.R. Nos. 147036-37, April 10, 2012, and companion cases) ***18. State the provisions of our constitution that indirectly affects taxation. SUGGESTED ANSWER: The general or indirect constitutional limitations on the power of taxation are the provisions on: a. Due process. (CONST., Art. III, Sec. 1) b. Equal protection. (Ibid.) c. Religious freedom. (Ibid., Sec. 5) d. Non-impairment of obligations of contract. (Ibid., Sec. 10) e. Freedom of the press. (Ibid., Sec. 4) f. No taking of private compensation. (Ibid., Sec. 9) property without just g. Law-making process: 1) Bill should embrace only one subject expressed in the title thereof. [Ibid., Art VI, Sec. 26 (1)] HYPOTHETICAL BAR REVIEW QUESTIONS & ANSWERS 19 2) Three readings on three separate days. [Ibid., Sec. 26(2)] 3) Printed copies in final form distributed three (3) days before passage. (Ibid.) h. Presidential power to grant reprieves, commutations and pardons and remit fines and forfeitures after conviction by final judgment. (Ibid., Art. VII, Sec. 19) i. Preference to Filipinos. (Ibid., Art. XII; Sec. 12) j. Policy on cooperatives. (Ibid., Art. XII, Sec. 1, last par., last sentence) k. Reducing Commission on Audit’s audit function over tax revenues is unconstitutional. 19. What is the meaning of “deprivation? to fall within the ambit of the due process protection? SUGGESTED ANSWER: A “deprivation” of liberty or property, as a result of the exercise of the power of taxation, which requires compliance with due process, requires something more than mere negligent conduct by government officials, even though such conduct causes injury. It may occur as a result of a legislative act enacting a tax statute or that of administrative authorities implementing a tax statute. Since the due process clause is to protect the people from the arbitrary acts of government the “deprivation” must be that of the government or its agents, and not that of private entities or persons. Thus, the failure of a government entity or its agents to protect an individual against being harmed by others is not covered by the due process clause. (De Shaney v. Winnebago County Department of Social Services, 489 U.S. 189) **19. What are the requisites for the observance of due process in taxation ? SUGGESTED ANSWER: requires: Due process in taxation FREE PRE-WEEK NOTES TAXATION LAW 20 a. The tax must be for public purpose b. imposed within its territorial jurisdiction. c. There should be no arbitrariness or oppression in its 1) assessment and 2) collection. (Pepsi-Cola Co. of the Phil. v. Municipality of Tanauan, Leyte, 69 SCRA 460, arrangement and numbering supplied) Due process in taxation does not require: a. Determination through judicial inquiry of 1) property subject to tax, and 2) amount of tax to be imposed. b. Notice and hearing as to: 1) amount of the tax, and 2) manner of apportionment. Reason: Lifeblood theory. (Ibid.) ***20. What are the requisites of administrative due process or what is known as the “Ang Tibay” doctrine ? SUGGESTED ANSWER: The requisites are: a. The right to notice, be it actual or constructive, of the filing of the proceedings that may affect a person’s legal rights. b. The right to a hearing which includes the right to present one’s case and submit evidence in support thereof. This is the right of a person to a reasonable opportunity to defend himself, introduce witnesses and relevant evidence. c. A tribunal so constituted as to give the person reasonable assurance of honesty and impartiality, and which must be of competent jurisdiction. HYPOTHETICAL BAR REVIEW QUESTIONS & ANSWERS 21 d. The tribunal must consider the evidence present. e. The decision must have something to support itself. f. The evidence must be substantial. g. The decision must be rendered on the evidence presented at the hearing, or at least contained in the record and disclosed to the parties affected. h. The tribunal or any of its judges, must act on its or his own independent consideration of the law and facts of the controversy. and i. The tribunal should, in all controversial questions render its decision in such a manner that the parties to the proceeding may know the various issues involved, and the reasons for the decision rendered. (Ang Tibay v. C.I.R., 69 Phil. 635) ***21. Give exceptions or instances where notice is dispensed with before the issuance of an assessment. SUGGESTED ANSWER: The following are the instances where notice for informal conference may be dispensed with before issuance of a preliminary assessment notice and where a pre-assessment notice is not required before issuing an assessment notice: a. When the finding for any deficiency tax is the result of mathematical error in the computation of the tax as appearing on the face of the return filed by the taxpayer; b. When a discrepancy has been determined between the tax withheld and the amount actually remitted by the withholding agent; or FREE PRE-WEEK NOTES TAXATION LAW 22 c. When a taxpayer who has opted to claim a refund or tax credit of excess creditable withholding tax for a taxable period was determined to have carried over and automatically applied the same amount claimed against the estimated tax liabilities for the taxable quarter or quarters of the succeeding taxable year; or d. When the excise tax due on excisable articles has not been paid; or e. When an article locally purchased or imported by an exempt person, such as, but not limited to, vehicles, capital equipment, machineries and spare parts, has been sold, traded or transferred to non-exempt persons. (NIRC of 1997, Sec. 228; Rev. Regs. No. 12-99, Sec. 3.1.3) ***22. Explain briefly the meaning of “Impairment” and its rationale as used in the Constitution. SUGGESTED ANSWER: There is “impairment” when a law substantially invalidates, releases, or extinguishes the obligations of a contract, or that derogates substantial contractual rights. (Home Building & Loan Association v. Blaisdell, 290 U.S. 398) The rationale for the non-impairment clause. When the state grants an exemption on the basis of a contract, consideration is presumed to be paid to the state, and the public is supposed to receive the whole equivalent therefore. Thus, the exemption from taxation will be binding upon succeeding legislation and a tax could not be imposed without infringing on the impairment clause. ***23. What circumstances are considered as impairment of the obligations of contract? SUGGESTED ANSWER: The circumstances are: a. When a person is deprived of the benefits of his contract; or HYPOTHETICAL BAR REVIEW QUESTIONS & ANSWERS 23 b. When the law takes from the party his whole contract and all the rights which it has intended to confer; or c. When the terms of a statute is altered by imposing new conditions, or dispensing with conditions, or which adds new duties, or releases or lessens any part of the contract, obligation or substantially defeats its end (Oshkosh Waterworks Co. v. Oshkosh, 187 U.S. 437), thereby 1) diminishing the value of the contract; 2) changing the intention of the parties; 3) changing the mode of payment; and 4) changing the remedy to enforce the contract without leaving any substantial remedy. ***24. What are the requisites for permissible “impairments”? SUGGESTED ANSWER: While it is true that the nonimpairment clause protects against the state’s destruction of the rights arising under or enforcement of existing contracts, there may be instances of legislation modifying contractual obligations. To be valid the impairing legislation: a. must serve an important and legitimate public interest; and b. is a reasonable and narrowly tailored means of promoting that interest. The Court should consider, among other things, a. the severity of the impairment, b. the reasonable reliance and expectations of the contracting parties, c. the strength and breadth of the socio-economic problems involved, d. whether the law serves the general public welfare or benefits only special interests, FREE PRE-WEEK NOTES TAXATION LAW 24 e. whether the law operates in an area already regulated by the state, and f. whether the impact of the law is permanent (rather than temporary) or immediate (as opposed to gradual). (Energy Reserves Group, Inc. v. Kansas Power & Light Co., 459 U.S. 400) ***25. What are regulatory taxes? Illustrate. SUGGESTED ANSWER: Regulatory taxes are those imposed in the joint exercise of the power of taxation and police power. Taxes raise revenues and at the same time promote general welfare or protect the health, safety or morals of the general populace. An illustration of regulatory taxes are the coco-levy funds that were raised with the use of the police and taxing powers of the State for the benefit of the coconut industry and its farmers in general. [Pambansang Koalisyon ng mga Samahang Magsasaka at Manggagawa sa Niyugan (PKSMMN) v. Executive Secretary, G.R. Nos. 147036-37, April 10, 2012, and companion cases] ***26. How may the power to tax be utilized to carry out the social justice program of our government ? SUGGESTED ANSWER: The power to tax carries out the social justice program of our government through redistribution of income using the progressive system of taxation. The compensatory purpose of taxation is to implement the social justice provisions of the constitution through the progressive system of taxation, which would result to equal distribution of wealth, etc. Progressive income taxes alleviate the margin between the rich and poor. (Southern Cross Cement Corporation v. Cement Manufacturers Association of the Philippines, G.R. No. 158540, August 3, 2005) In recent years, the increasing social challenges of the times expanded the scope of the state activity, and HYPOTHETICAL BAR REVIEW QUESTIONS & ANSWERS 25 taxation has become a tool to realize social justice and the equitable distribution of wealth, economic progress and the protection of local industries as well as public welfare and similar objectives. (Batangas Power Corporation v. Batangas City, G.R. No. 152675, and companion case, April 28, 2004) ***27. What is the nature of the state’s power to tax? Why is it so? SUGGESTED ANSWER: The nature of the state’s power to tax is two-fold. It is both an inherent power and a legislative power. a. Taxation is inherent in nature being an attribute of sovereignty [Chamber of Real Estate and Builders’ Associations, Inc. v. Romulo, 614 SCRA 605 (2010)] and consequently it exists with or without a constitutional provision to the effect. (Cooley, Constitutional Limitations, p. 787) This is so, because without tax revenues the state’s very existence would be imperiled for lack of funds to perform the essential obligations of the state. b. Taxation is a legislative power because it involves the promulgation of rules. Taxation is a set of rules, why should the tax be paid, who pays the tax, how much is the tax to be paid, to whom it should be paid, and when the tax should be paid. The power to tax is inherent in the State, such power being inherently legislative, based on the principle that taxes are a grant of the people who are taxed, and the grant must be made by the immediate representatives of the people, and where the people have laid the power, there it must remain and be exercised. [Commissioner of Internal Revenue v. Fortune Tobacco Corporation, 559 SCRA 160 (2008)] FREE PRE-WEEK NOTES TAXATION LAW 26 ***28. What is the scope of the inherent legislative power to tax? SUGGESTED ANSWER: The legislature wields the power a. to define what tax shall be imposed, b. why it should be imposed, c. how much tax shall be imposed, d. against whom (or what) it shall be imposed e. and where it shall be imposed. [Chamber of Real Estate and Builders’ Associations, Inc. v. Romulo, 614 SCRA 606 (2010)] ALTERNATIVE ANSWER: The legislature is given the discretion to determine the a. nature (kind), b. object (purpose), c. extent (rate), d. coverage (subjects), and e. where the situs (place) of taxation primarily lies. (Tan v. Del Rosario Jr.; Carag v. Del Rosario Jr. 237 SCRA 324, arrangement and numbering supplied) It is clear from the above that the legislative power to tax does not include collection of the tax which is none other than the execution of the tax laws that the legislative department has promulgated. By constitutional allocation collection of taxes is part of the functions of the executive department. ***28. Describe the power of taxation May a legislative body enact laws to raise revenues in the absence of a constitutional provision granting said body the power to tax? Explain. HYPOTHETICAL BAR REVIEW QUESTIONS & ANSWERS 27 SUGGESTED ANSWER: The state’s power to tax is two-fold. It is both an inherent power and a legislative power. The power to tax is inherent in the State, such power being inherently legislative, based on the principle that taxes are a grant of the people who are taxed, and the grant must be made by the immediate representatives of the people. Where the people have laid the power, there it must remain and be exercised. [Commissioner of Internal Revenue v. Fortune Tobacco Corporation, 559 SCRA 160 (2008)] A legislative body may enact laws to raise revenues despite the absence of a constitutional provision granting that body the power to tax. Taxation is inherent in nature being an attribute of sovereignty [Chamber of Real Estate and Builders’ Associations, Inc. v. Romulo, 614 SCRA 605 (2010)] and consequently it exists with or without a constitutional provision to the effect. (Cooley, Constitutional Limitations, p.787) This is so, because without taxes the state’s very existence would be imperiled for lack of funds to perform the essential obligations of the state. Taxation is a legislative power because it involves the promulgation of rules. Taxation is a set of rules, who pays the tax, how much is the tax to be paid, to whom it should be paid, and when the tax should be paid. **29. Distinguish taxation from police power. SUGGESTED ANSWER: following: The distinctions are the a. Purpose: Taxation is for revenue while police power is for general welfare. Police power is the power of the State to enact legislation that may interfere with personal liberty or property in order to promote the general welfare, while the power of taxation is the power to levy taxes to be used for public purpose. [Planters Products, Inc. v. Fertiphil Corporation, 548 SCRA 485 (2008)] 28 FREE PRE-WEEK NOTES TAXATION LAW In distinguishing tax regulation as form of police power, the determining factor is the purpose of the implemented measure – if the purpose is primarily to raise revenue, then it will be deemed a tax even though the measure results in some form of regulation. On the other hand, if the purpose is primarily to regulate, then it is deemed a regulation and an exercise of the police power of the state, even though incidentally, revenue is generated. [Chevron Philippines, Inc. v. Bases Conversion Development Authority, 630 SCRA 519 (2010)] b. Amount: In taxation, the amount of tax collected is practically unlimited while under police power, the license fee should not exceed cost of regulation. c. Compensation: In taxation, the enjoyment of public services while in police power, the feeling of having done something good for society in general. d. Property taken: In taxation, generally money while under police power, any property, other than money, which is the source of the danger health, safety or morals. e. What is done with the property taken: Taxation is constructive because the money collected is spent for building infrastructure or providing public services while police power is destructive. The property taken is usually destroyed. f. Relation to the non-impairment clause: Taxation is inferior to the non-impairment clause and could not override the same while police power is superior to the non-impairment clause. g. Scope. Taxation interferes with property rights only while police power regulates both liberty and property. h. Surrender. Taxation may be bargained away through a contract such that if the government issues a tax-exempt bond, it could not withdraw the exemption because it would HYPOTHETICAL BAR REVIEW QUESTIONS & ANSWERS 29 violate the non-impairment clause while police power cannot be bargained away. **30. How has the growing importance of local taxation been underscored by the 1987 Constitution? SUGGESTED ANSWER: The importance of local taxation has been underscored by the 1987 Constitution when it delegated to each local government unit the power to create its own sources of revenue and to levy taxes, fees and charges so long as the proceeds accrue exclusively to the local government unit imposing and levying the same. However, this power of local government units is subject to such guidelines and limitations as the Congress may provide. ***31. The 1987 Constitution, Art. X Sec. 5 grants to local government units the power to create their own sources of revenue and to levy taxes, fees and charges. Discuss further whether or not local government units may levy taxes without an act passed by Congress on the theory that they now enjoy the sovereign power of taxation unlike in the past when they possessed only delegated power to do so. SUGGESTED ANSWER: Local government units could not levy taxes without an act passed by Congress. This is so, because the provision of the Constitution delegating the power of taxation to local government units is not self-executing. The exercise of the power is subject to such guidelines and limitations as Congress may provide. Presently, those guidelines and limitations are found in the Local Government Code. 32. Petitioner Smart Communications, Inc. (Smart) is a domestic corporation engaged in the business of providing telecommunications services to the general public. In the course of its business, Smart constructed a telecommunications tower within the territorial FREE PRE-WEEK NOTES TAXATION LAW 30 jurisdiction of the Municipality of Malvar, Batangas, The construction of the tower was for the purpose of receiving and transmitting cellular communications within the covered area. On 30 July 2003, the Municipality passed Ordinance No. 18, series of 2003, entitled “An Ordinance Regulating the Establishment of Special Projects.” On 24 August 2004, Smart received from the Permit and Licensing Division of the Office of the Mayor of the Municipality an assessment letter with a schedule of payment for the total amount of ₱389,950.00 for Smart’s telecommunications tower. Is the imposition a tax? SUGGESTED ANSWER: No. The imposition of fees on “cell sites” is under police power. The main purpose of Ordinance No. 18 is to regulate certain construction activities of the identified special projects, which includes “cell sites” or telecommunications towers. Thus, the fees imposed in Ordinance No. 18 are primarily regulatory in nature, and not primarily revenue-raising. They are not taxes. While the fees may contribute to the revenues of the Municipality, this effect is merely incidental. (Smart Communications, Inc. v. Municipality of Malvar, Batangas, G.R. No. 204429, February 18, 2014) 33. Quezon City passed Ordinance No. SP-2095 that imposes a Socialized Housing Tax (SHT) equivalent to 0.5% on the assessed value of land in excess of Php100,000.00. The special assessment shall accrue to the General Fund under a special account to be established for the purpose. Effective for five (5) years, the Socialized Housing Tax (SHT) shall be utilized by the Quezon City Government for the following projects: (a) land purchase/land banking; (b) improvement of current/existing socialized housing facilities; (c) land development; (d) construction of core houses, sanitary HYPOTHETICAL BAR REVIEW QUESTIONS & ANSWERS 31 cores, medium-rise buildings and other similar structures; and (e) financing of public-private partnership agreement of the Quezon City Government and National Housing Authority (NHA) with the private sector. Under certain conditions, a tax credit shall be enjoyed by taxpayers regularly paying the special assessment: The tax credit to be granted shall be equivalent to the total amount of the special assessment paid by the property owner. Is the imposition valid ? SUGGESTED ANSWER: Yes. The ordinance imposing the Socialized Housing Tax of Quezon City, (SHT) is valid. The tax is not a pure exercise of taxing power or merely to raise revenue; it is levied with a regulatory purpose. The levy is primarily in the exercise of the police power for the general welfare of the entire city. It is greatly imbued with public interest. Removing slum areas in Quezon City is not only beneficial to the underprivileged and homeless constituents but advantageous to the real property owners as well. The situation will improve the value of their property investments, fully enjoying the same in view of an orderly, secure, and safe community, and will enhance the quality of life of the poor, making them law-abiding constituents and better consumers of business products. (Ferrer, Jr. v. City Mayor Bautista, G.R. No. 210551, June 30, 2015) 34. The city of Makati, in order to solve the traffic problem in its business districts, decided to impose a tax, to be paid by the driver, on all private cars entering the city during peak hours from 8:00 a.m. to 9:00 a.m. from Mondays to Fridays, but exempts those cars carrying more than two occupants, excluding the driver. Is the ordinance valid? 32 FREE PRE-WEEK NOTES TAXATION LAW SUGGESTED ANSWER: Yes. It is an imposition under the police power because it seeks to promote the general welfare, for the protection of the health, safety and convenience of the public who would be affected by the traffic problem. ***35. Uptown University is a non-stock, non-profit educational institution. It owns a piece of land in Batangas City on which its three 2-storey school buildings stood. Two of the buildings are devoted to classrooms, laboratories, a canteen, a bookstore, and administrative offices. The third building is reserved as dormitory for student athletes who are granted scholarships for a given academic year. Can the City Treasurer of Batangas City collect real property taxes on the land and building of Uptown University? Explain your answer. SUGGESTED ANSWER: No. It appears that the land and buildings of Uptown University are acutally, directly and exclusively used for educational purposes. They are constitutionally exempt from taxation because all lands, buildings and improvements actually, directly and exclusively used for educational purposes shall be exempt from taxation. [CONST., art. VI, sec. 28 (3), paraphrasing supplied] **36. What are the five (5) circumstances that must be present in order to qualify “taking” as an exercise of eminent domain which requires just compensation? SUGGESTED ANSWER: The circumstances are: “First, the expropriator must enter a private property. Second, the entrance into private property must be for more than a momentary period. Third, the entry into the property should be under warrant or color of legal authority. HYPOTHETICAL BAR REVIEW QUESTIONS & ANSWERS 33 Fourth, the property must be devoted to a public use or otherwise informally appropriated or injuriously affected. Fifth, the utilization of the property for public use must be in such a way as to oust the owner and deprive him of all beneficial enjoyment of the property. (Southern Luzon Drug Corporation v. The Department of Social Welfare and Development, G.R. No. 199669, April 25, 2017, arrangement supplied) **37. What is the concept of “taking” which requires just compensation ? SUGGESTED ANSWER: There are two different types of taking that can be identified. a. A “possessory” taking occurs when the government confiscates or physically occupies property. b. A “regulatory” taking occurs when the government’s regulation leaves no reasonable economically viable use of the property. What is crucial in judicial consideration of regulatory takings is that government regulation is a taking if it leaves no reasonable economically viable use of property in a manner that interferes with reasonable expectations for use. A regulation that permanently denies all economically beneficial or productive use of land is, from the owner’s point of view, equivalent to a “taking” unless principles of nuisance or property law that existed when the owner acquired the land make the use prohibitable. When the owner of real property has been called upon to sacrifice all economically beneficial uses in the name of the common good, that is, to leave his property economically idle, he has suffered a taking. (Southern Luzon Drug Corporation v. The Department of Social Welfare and Development, G.R. No. 199669, April 25, 2017) FREE PRE-WEEK NOTES TAXATION LAW 34 The circumstances that must be present for eminent domain are absent in the senior citizens and PWDs discount. (Ibid.) Theory and basis of taxation **1. What is the underlying theory of taxation ? SUGGESTED ANSWER: The underlying theory of taxation is the lifeblood doctrine. Under this doctrine, taxes constitute the blood that runs through the veins of the government for without taxes, the government can neither exist nor endure. (National Power Corporation v. City of Cabanatuan, G.R. No. 149110, April 9, 2003) Without revenue raised from taxation, the government will not survive, resulting in detriment to society. Without taxes, the government would be paralyzed for lack of motive power to activate and operate it. (Commissioner of Internal Revenue v. Algue, Inc., 158 SCRA 8, 16-17) *2. Briefly explain the necessity theory. SUGGESTED ANSWER: The theory behind the exercise of the power to tax emanates from necessity, for without taxes, government cannot fulfill its mandate of promoting the general welfare and well being of the people. [Republic v. Caguioa, 536 SCRA 193 (2007)] **3. Discuss the basis of taxation. SUGGESTED ANSWER: The basis of taxation is the symbiotic relationship which is the reciprocal relation of protection and support between the state and the taxpayers. The state gives protection and for it to continue giving protection it must be supported by the taxpayers in the form of taxes. HYPOTHETICAL BAR REVIEW QUESTIONS & ANSWERS 35 a. Taxes are what we pay for a civilized society. Without taxes, the government would be paralyzed for lack of motive power to activate and operate it. b. Despite the natural reluctance to surrender part of one’s hard-earned income to the taxing authorities, every person who is able must contribute his share in running the government. c. The government, for its part, is expected to respond in the form of tangible and intangible benefits intended to improve the lives of the people and enhance their moral and material values. This symbiotic relationship is the rationale of taxation and should dispel the erroneous notion that it is an arbitrary method of exaction by those in the seat of power. (Commissioner of Internal Revenue v. Algue, Inc., 158 SCRA 8, 16-17) **4. Briefly explain the symbiotic relation principle. SUGGESTED ANSWER: The symbiotic relation principle is the reciprocal relation of protection and support between the state and the taxpayers. The state gives protection and for it to continue giving protection it must be supported by the taxpayers in the form of taxes. 5. Explain briefly the concept of jurisdiction in relation to taxation. SUGGESTED ANSWER: Jurisdiction in taxation is basically territorial in character. Unless the state could exercise jurisdiction over persons and property, then it could not enforce and implement tax measures. This is so because as a general rule the taxing authority could give protection only to subjects and objects within its territorial boundaries hence, those given protection should contribute to the expenses necessary to provide protection. 36 FREE PRE-WEEK NOTES TAXATION LAW **6. Explain the principles of a sound tax system. SUGGESTED ANSWER: The basic principles (sometimes referred to as the tenets, elements, characteristics) of a sound tax system are: a. Fiscal adequacy which means that the revenues generated by taxation should be sufficient to meet the needs of government. b. Equality or theoretical justice which means that the tax should be collected only from those that have the ability to pay. c. Administrative feasibility which means that tax laws should be easily implemented in order to assure the smooth flow into the treasury of the fiscally adequate amounts. The principles or canons serve as standards in order to determine whether a tax system is able to meet the purposes or objectives of taxation. 7. Evaluate the Philippine tax system from the viewpoint of a sound tax system. SUGGESTED ANSWER: The Philippine tax system is not a sound tax system because it does not meet the principles of a sound tax system. It is not fiscally adequate because the revenues generated are sufficient to finance the operations needs of the government. This is exemplified by the billions of pesos that the government has to borrow domestically and internationally in order to fund government expenditures. There is also no theoretical justice because the burden falls upon the poor. This is illustrated by the fact that most tax revenues are generated by indirect taxes. The tax system is likewise complex that it violates the principle of administrative feasibility. Some taxpayers still find difficulty in applying the VAT. So also, the two methods of taxing corporations results to confusion. HYPOTHETICAL BAR REVIEW QUESTIONS & ANSWERS 37 *8. Explain and illustrate fiscal adequacy as a principle of a sound tax system. SUGGESTED ANSWER: This means that the tax system must be able to provide sufficient revenues in order to meet the legitimate objects of government. Stated otherwise, the taxes collected must be able to finance government expenditures and their variations. (Chavez v. Ongpin, G.R. No. 76778, June 6, 1990, 186 SCRA 331, 338) As an illustration, to continue collecting real property taxes based on valuations arrived at several years ago, in disregard of the increases in the value of real properties that have occurred since then, is not in consonance with a sound tax system. Fiscal adequacy requires that the sources of revenues must be adequate to meet government expenditures. (Ibid.) 9. What is meant by theoretical justice as a canon of a sound tax system ? SUGGESTED ANSWER: The tax should be collected on the basis of ability to pay through a progressive system of taxation. Thus, the incidence or burden of taxation should fall more on those who could afford. 10. Explain administrative feasibility as a principle of a sound tax system. SUGGESTED ANSWER: The tax measures should be easily implemented in order to assure the smooth flow into the treasury of the fiscally adequate amounts. 11. Are tax laws imprescriptible ? SUGGESTED ANSWER: As a general rule, the right of the government to collect taxes is imprescriptible because the very existence of the state depends upon the exercise of this power. Where the government has not by express statutory provision, provided a limitation upon its right to assess FREE PRE-WEEK NOTES TAXATION LAW 38 unpaid taxes, such right is imprescriptible. [Kasamahan Realty Development Corporation (now known as Stag Trading Corporation) v. Commissioner of Internal Revenue, CTA Case No. 6204, February 16, 2005] Statutes may, however, provide for prescriptive periods for the collection of particular kinds of taxes in order to respect the due process rights of taxpayers. SITUS OF TAXATION **1. What is meant by situs of taxation ? Illustrate. SUGGESTED ANSWER: The situs of taxation is the place or authority that has the right to impose and collect taxes. (Commissioner of Internal Revenue v. Marubeni Corporation, G.R. No. 137377, December 18, 2001) Illustration of situs of taxation. The situs of the services for the “design and engineering, supply and delivery, construction, erection and installation, supervision, direction and control of testing and commissioning, coordination” of contractual projects are in two countries. The acts occurred in two countries – Japan and the Philippines. While the construction and installation work were completed within the Philippines, it is clear that some pieces of equipment and supplies were completely designed and engineered in Japan. These services were rendered outside the taxing jurisdiction of the Philippines and are therefore not subject to contractor’s tax. (Commissioner of Internal Revenue v. Marubeni Corporation, G.R. No. 137377, December 18, 2001) **2. What are the exceptions to the territoriality rule? SUGGESTED ANSWER: a. Instances where tax laws operate outside territorial jurisdiction. HYPOTHETICAL BAR REVIEW QUESTIONS & ANSWERS 1) Taxation of resident incomes derived from abroad. 39 citizens on their b. Where tax laws do not operate within the territorial jurisdiction of the state. 1) When exempted by treaty obligations. 2) When exempted by international comity. **3. What determines situs of taxation ? SUGGESTED ANSWER: In general, situs of taxation is determined by the place that gives protection which has the right to levy and collect taxes. Specifically, the determinants are the following: a. The “benefits-protection theory” (symbiotic relationship). The reciprocal relation of protection and support between the taxpayer and the state. The state gives protection and in order to continue giving protection, it must be supported in the form of taxes. b. Jurisdiction, state or political unit that gives protection has the right to demand support. Technically tax laws are jurisdictional, or operate only within the territorial jurisdiction of a state because that is where it could give protection. This is subject to the concept of mobilia sequuntur personam. NOTE NOT PART OF THE ANSWER: There is a distinction between a question asking for situs of taxation, in general (such as the question above) and one which asks for the situs of various kinds of taxes (such as the situs of income taxation, the situs of estate taxes, the situs of property taxes, etc.). **4. Situs of taxation means the place of taxation, the state which has jurisdiction to impose a particular tax on persons, property or transaction. Bearing in mind the general rule on situs of taxation and the provisions of the National Internal Revenue Code, FREE PRE-WEEK NOTES TAXATION LAW 40 what is the situs of taxation of the following stating the basis for your answer: a. Transfer of property by death. SUGGESTED ANSWER: For resident decedents, whether Filipino citizens or not, the situs would be irrespective of where the property real or personal, tangible or intangible, is located and in the case of a nonresident decedents who are not Filipino citizens, the situs would only be those property situated in the Philippines. (NIRC of 1997, Sec. 85, paraphrasing supplied) The places of situs are the places that give protection. b. Transfer of property by gift. SUGGESTED ANSWER: The Philippines is the situs of taxation of the donation or transfers of property by gift. 1) Donations made in the Philippines irrespective of the nationality of rhe donor, as well as the location of the property. The basis is the protection made of the activity which is the act of donation. 2) Donations made outside of the Philippines where the donor is a Philippine citizen, irrespective of his residency or location of the property donated. The basis is the protection given to the donor who is a Filipino citizen. 3) Donations made outside of the Philippines where the property donated is located in the Philippines irrespective of the nationality or residency of the donor. The Philipines gives protection to the property that is donated that is why it is the situs of taxation. NOTES NOT PART OF THE ANSWER: It is to be noted that the residence and nationality of the donee are HYPOTHETICAL BAR REVIEW QUESTIONS & ANSWERS 41 not taken into consideration for determining whether the donation is subject to Philippine donor’s taxation or not. c. Business and occupation. SUGGESTED ANSWER: The situs of business and occupation is the place where the business and occupation are being conducted. The reason being that this is the place which gives protection to the business or occupation. d. Situs of taxes on real propery. SUGGESTED ANSWER: The place where the real property is located under the principle of Lex rei sitae or lex situs because of the following reasons: 1) The taxing authority has control because of the stationary and fixed character of the property. 2) The place where the real property is situated gives protection to the real property, hence the property or its owner should support the government of that place. e. Situs of taxation of personal property. SUGGESTED ANSWER: The basis of taxation is determined by the nature of the property whether it is tangible, intangible or mixed. For tangible personal property the basis is mobilia sequuntur personam (movables follow the person). The situs of taxation is the place where the owner is found. This is generally, where the owner resides. The domicile of the owner is the place that provides protection to the property because the intangible follows the owner. For intangible personal property or mixed the basis is the place where the property has acquired a business situs. For example, taxes imposed on the sales of Philippine stocks (stocks in domestic corporations) are taxable in the FREE PRE-WEEK NOTES TAXATION LAW 42 Philippines no matter where they may be found, or where the owner’s domicile is located. f. Situs of excise taxes. SUGGESTED ANSWER: The situs of taxation of excise tax would depend whether the article is 1) a domestic product or mineral; 2) an imported article. Situs of taxation of the excise tax on a domestic product or mineral. The situs is the place of production or where mined or extracted. [NIRC of 1997, Sec. 130 (A) (2), paraphrasing supplied] Situs of taxation of imported articles. Place where the customshouse from where released is located. In case of tax exempt articles where the possessor is not entitled to the exemption, then the place where the possessor is found. [Ibid., Sec. 130 (A) (1), paraphrasing supplied] Situs of franchise tax which is an excise tax. It should be stressed that what the City of Iriga seeks to collect from CASURECO III is “a franchise tax, which as defined, is a tax on the exercise of a privilege.” [City of Iriga v. Camarines Sur III Electric Cooperative, Inc. (CASURECO III), G.R. No. 19245, September 5, 2012] The “franchise tax shall be based on gross receipts precisely because it is a tax on business, rather than on persons or property. Since it partakes of the nature of an excise tax the situs of taxation is the place where the privilege is exercised, in this case in the City of Iriga, where CASURECO III has its principal office and from where it operates, regardless of the place where its services or products are delivered. Hence, franchise tax covers all gross receipts from Iriga City and the Rinconada area.” (Ibid.) HYPOTHETICAL BAR REVIEW QUESTIONS & ANSWERS 43 g. Situs of sales of property. SUGGESTED ANSWER: The situs of taxation depends upon whether the property is real or personal. Gains, profits, and income from sale of real property located in the Philippines are treated as gross income from sources within the Philippines. [NIRC of 1997, Sec. 42 (A) (5)] Thus, the situs is where the real property is located. Tax treatment of gains, profits, and income derived from the sale of personal property. Gains, profits and income derived: 1) From the purchase of personal property within and its sale without the Philippines, or 2) From the purchase of personal property without and its sale within the Philippines, a) shall be treated as derived entirely from sources within the country in which sold: b) Provided, however, That gains from the sales of shares of stock in a domestic corporation 1) shall be treated as derived entirely from sources within the Philippines 2) regardless of where the said shares are sold. [Ibid., Sec. 42 (E), 2nd par., arrangement, and numbering supplied] Illustration of situs of sale of personal property. Sales of encyclopedias were considered as perfected and consummated in the U.S. because of showing that when the Philippine distributors placed and/or sent their specific orders to P.F. Collier, U.S., they already knew the price of the books. Such orders were shipped by the vendor in the U.S. direct to the different buyers in the Philippines. [P.F. 44 FREE PRE-WEEK NOTES TAXATION LAW Collier, Inc. (Philippine Branch) v. Commissioner of Internal Revenue, CTA Case No. 4355, November 9, 1995] DOUBLE TAXATION ***1. Is “double taxation” allowed or prohibited in the Philippines? Illustrate. SUGGESTED ANSWER: There is no specific provision in the Constitution prohibiting double taxation. Unlike the United States Constitution, double taxation is not specially prohibited in the Philippine Constitution. (Manufacturers Life v. Meer, 89 Phil. 210) However, where there is direct duplicate taxation, then there may be violation of the constitutional precepts of equal protection and uniformity in taxation. If only the 1st element of direct duplicate taxation is present (taxing the same subject or object twice, by the same taxing authority, etc.), there is no violation of the equal protection clause because all subjects and objects that are similarly situated are subject to the same burdens and granted the same privileges without any discrimination whatsoever, The presence of the 2nd element, taxing all of the subjects and objects within the territory for the first time, without taxing all for the second time, results to discrimination among subjects and objects that are similarly situated, hence violative of the equal protection clause. At all events, there is no constitutional prohibition against double taxation in the Philippines. (La Suerte Cigar & Cigarette Factory v. Court of Appeals, G.R. No. 125346, November 11, 2014, and companion cases] HYPOTHETICAL BAR REVIEW QUESTIONS & ANSWERS 45 ***2. What are the usual methods of avoiding the occurrence of double taxation ? SUGGESTED ANSWER: The following are the methods for easing the economic burden of double taxation: a. Tax treaties which exempts foreign nationals from local taxation and local nationals from foreign taxation under the principle of reciprocity. b. Tax credits where foreign taxes are allowed as deductions from local taxes that are due to be paid. c. Allowing foreign taxes as a deduction from gross income. d. Reduction of Philippine income tax rates. EXPLANATION NOT PART OF THE ANSWER: The double taxation referred to in the question is indirect duplicate taxation which is not a basis for invalidating a tax measure. Thus, the taxpayer is subject to tax twice unlike in the case of direct duplicate taxation where one of the tax measures may be invalidated because it violates the equal protection clause. ***3. Is double taxation a valid defense against the legality of a tax measure ? SUGGESTED ANSWER: Yes. If the double taxation is in its strict sense also known as direct duplicate taxation because it would be a valid defense against a tax measure. The tax measure would be nullified for being unconstitutional because it violates the equal protection clause. ***4. Poro Point Corporation, doing business in the City of San Fernando in La Union has been a distributor and retailer of car parts and accessories. It has been paying the City of San Fernando local taxes based on Sections 15 (Tax on Wholesalers, Distributors or 46 FREE PRE-WEEK NOTES TAXATION LAW Dealers) and 17 (Tax on Retailers) of the Revenue Code of the City of San Fernando (Code). Subsequently, the Sangguniang Panlungsod enacted an ordinance amending the Code by inserting Section 21 which imposes a tax on “Businesses Subject to Excise, ValueAdded and Percentage Taxes under the National Internal Revenue Code (NIRC),” at the rate of 50% of 1 % per annum on the gross sales and receipts on persons “who sell goods and services in the course of trade or business.” Poro Point Corporation paid the taxes due under Section 21 under protest, claiming that (a) local government units could not impose a tax on businesses already taxed under the NIRC and (b) this would amount to double taxation, since its business was already taxed under Sections 15 and 17 of the Code. Does this amount to double taxation ? SUGGESTED ANSWER: Yes. Double taxation means taxing the same property twice when it should be taxed only once; that is, “taxing the same person twice by the same jurisdiction for the same thing.” It is obnoxious when the taxpayer is taxed twice, when it should be but once. Otherwise described as “direct duplicate taxation,” the two taxes must be imposed on the same subject matter, for the same purpose, by the same taxing authority, within the same jurisdiction, during the same taxing period; and the taxes must be of the same kind or character. Using the aforementioned test, there is indeed double taxation since Poro Point Corporation is subjected to the taxes under both Sections 15 (Tax on Wholesalers, Distributors or Dealers), 17 (Tax on Retailers) and 21 (Tax on Businesses Subject to Excise, Value-Added and Percentage Taxes under the NIRC) of the Revenue Code of the City of San Fernando. HYPOTHETICAL BAR REVIEW QUESTIONS & ANSWERS 47 These taxes are being imposed: a. on the same subject matter - the privilege of doing business in the City of San Fernando; b. for the same purpose - to make persons conducting business within the City of San Fernando contribute to city revenues; c. by the same taxing authority Fernando; City of San d. within the same taxing jurisdiction - within the territorial jurisdiction of the City of San Fernando; e. for the same taxing periods - per calendar year; and f. of the same kind or character - a local business tax imposed on gross sales or receipts of the business. (Nursery Care Corporation v. Acevedo, etc., G.R. No. 180651, July 30, 2014) ***5. A 20% final withholding tax (FWT) on interest income and a 5% gross receipts tax (GRT) are both imposed upon banks. Is there double taxation ? SUGGESTED ANSWER: following reasons: No because of the a. The taxes are imposed on two different subject matters. The subject matter of the FWT is the passive income generated in the form of interest on deposits and yield on deposit substitutes, while the subject matter of the GRT is the privilege of engaging in the business of banking. A tax based on receipts is a tax on business rather than on the property, hence it is an excise rather than a property tax. It is not an income tax, unlike the FWT. One can be taxed for engaging in business and further taxed differently for the income derived therefrom. These two taxes are entirely distinct and are assessed under different provisions. 48 FREE PRE-WEEK NOTES TAXATION LAW (Commissioner of Internal Revenue v. Solidbank Corporation, G.R. No. 148191, November 25, 2003) b. Although both taxes are national in scope because they are imposed by the same taxing authority – the national government under the Tax Code – and operate within the same Philippine jurisdiction for the purpose of raising revenues, the taxing periods they affect are different. The FWT is deducted and withheld as soon the income is earned, and is paid every calendar quarter in which it is earned. On the other hand, the GRT is neither deducted nor withheld, but is paid only after every taxable quarter in which it is earned. c. These two taxes are of different kinds or character. The FWT is an income tax subject to withholding, while the GRT is a percentage tax not subject to withholding. (Commissioner of Internal Revenue v. Bank of Commerce, G.R. No. 149636, June 8, 2005) ***6. Is there a case of double taxation when an item of income is taxed in the Philippines and the same income is taxed in another country? SUGGESTED ANSWER: In its general sense yes, because the same subject is taxed twice although by different taxing authorities However, this type of double taxation is not prohibited by the Constitution because it is not direct duplicate taxation which is violative of equal protection and uniformity in taxation. The reason is that the taxes are imposed for different purposes and by different taxing authorities. ***7. Differentiate double taxation in the strict sense (direct duplicate taxation) and in a broad sense (indirect duplicate taxation). Give an example of each. SUGGESTED ANSWER: The differences between double taxation in the strict sense and in a broad sense are the following: HYPOTHETICAL BAR REVIEW QUESTIONS & ANSWERS 49 a. The following elements are all present in double taxation, in its strict sense or direct duplicate taxation: The same object or property is taxed twice by the same taxing authority, for the same taxing purpose, during the same tax period, and taxing all the objects or property within the same territory for the first time without taxing all of them for the second time while the absence of one of the foregoing elements results to double taxation in a broad sense or indirect duplicate taxation. b. Double taxation, in its strict sense or direct duplicate taxation, is a defense against the imposition of taxes while double taxation, in a broad sense, is not a defense against the imposition of taxes. c. Double taxation, in its strict sense, violates the equal protection, as well as the uniformity and equality of protection clauses of the 1987 Philippine Constitution resulting to nullification of one of the tax laws while double taxation, in a broad sense, is not violative of the 1987 Philippine Constitution. d. In double taxation, in its strict sense, there could only be one tax collected and the burden falls only once while double taxation, in a broad sense, allows for the collection of the tax twice, thus the economic burden falls twice. An example of double taxation in its strict sense: Section 21 of the Revenue Code of Manila imposed the tax on a person who sold goods and services in the course of trade or business based on a certain percentage of his gross sales or receipts in the preceding calendar year, while Section 15 and Section 17 likewise imposed the tax on a person who sold goods and services in the course of trade or business but only identified such person with particularity, namely, the wholesaler, distributor or dealer (Section 15), and the retailer (Section 17), all the taxes – being imposed on the privilege of doing business in the City of Manila in order to make the taxpayers contribute to the city’s revenues – were imposed on the same subject matter and for the same 50 FREE PRE-WEEK NOTES TAXATION LAW purpose. (Nursery Care Corporation v. Acevedo, etc., No. 180651, July 30, 2014) G.R. An example of double taxation in a broad sense is where a 20% final withholding tax (FWT) on interest income and a 5% gross receipts tax (GRT) are both imposed upon banks. (Commissioner of Internal Revenue v. Solidbank Corporation, G.R. No. 148191, November 25, 2003) ***8. Your neighbor owns a row of apartments, one unit of which he occupies as his residence and the rest, he leases to tenants. He complains to you that he has to pay the following taxes: a. real estate taxes on the properties; b. real estate dealer’s tax based on his rental receipts; c. income tax for said rental receipts; d. community tax based on the assessed value of the same properties. He asks you whether or not the various impositions constitute double taxation and therefore violative of the Constitution. What will your answer be? Explain. SUGGESTED ANSWER: The various impositions constitute double taxation because my neighbor is taxed twice. However, this type of double taxation is not prohibited by the Constitution because it is not direct duplicate taxation that is violative of equal protection and uniformity in taxation. The reason is that the taxes are imposed for different purposes and by different taxing authorities. NOTE NOT PART OF THE ANSWER: The answer may be expanded by explaining the concept of direct duplicate taxation. HYPOTHETICAL BAR REVIEW QUESTIONS & ANSWERS 51 ***9. In 2020, Batangas City amended its Revenue Code to include a new provision imposing a tax on every sale of merchandize by a wholesaler based on the total selling price of the goods, inclusive of value-added taxes (VAT). Kulambo’t Kumot Corp., a wholesaler operating within Batangas City, challenged the new provision based in the following contentions: 1. The new provision is a form of prohibited double taxation because it essentially amounts to Batangas City imposing VAT which was already being levied by the national government; and 2. Since the tax being imposed is akin to VAT, it is beyond the power of Batangas City , to levy the same. Rule on contentions. each of Kulambo’t Kumot Corp.’s SUGGESTED ANSWER: Kulambo’t Kumot Corp.’s contention no. 1 is lacking in merit. The same taxing authority that imposed the first tax should also be the one that imposes the second tax is among the elements of prohibited double taxation, which is also known as direct duplicate taxation. There is absent the element above described because there are different taxing authorities. VAT is imposed by the national government while the second tax is imposed by a local government unit, Batangas City. Kulambo’t Kumot Corp.’s contention no. 2 is likewise bereft of merit. Local government units such as Batangas City, may impose a tax on any business that are “not otherwise specified in the preceding paragraphs” of Sec. 143 (h) of the Local Government Code but already subject to tax under the NIRC such as excise, value-added tax or percentage provided the rate of tax does not exceed two percent (2%) of gross sales or receipts of the preceding calendar year. [LGC, Sec. 133 (h); Nursery Care Corporation v. Acevedo, etc., G.R. No. 180651, July 30, 2014)] 52 FREE PRE-WEEK NOTES TAXATION LAW ***10. In 2020, Eufronio a resident Filipino citizen, received dividend income from a U.S.–based corporation which owns a chain of motels in the East Coast, U.S.A. The dividend remitted to Eufronio is subject to U.S. withholding tax with respect of a non-resident alien like Eufronio. A. What will be your advice to Eufronio in order to lessen the impact of possible double taxation on the same income ? SUGGESTED ANSWER: I would advise Eufronio that he could choose whether to avail of a tax credit deducting the withheld amount from his tax due in the Philippines or deducting the withheld amount from his gross income in the Philippines. [NIRC, Sec. 34 (1) (b)] ALTERNATIVE ANSWER: I could advise Eufronio to become a non-resident alien. In this maner he would not be subject to Philippine income taxation on his dividend income from a US based corporation. This is so because a non-resident alien is to be taxed only on his income derived from sources within the Philippines. The dividend is considered as income from without. 11. What are the methods resorted to by a tax treaty in order to eliminate double taxation ? SUGGESTED ANSWER: The methods are the: First Method: The tax treaty sets out the respective rights to tax by the state of source or situs and by the state of residence with regard to certain classes of income or capital. In some cases, an exclusive right to tax is conferred on one of the contracting states; however, for other items of income or capital, both states are given the right to tax, although the amount of tax that may be imposed by the state of source is limited. Second Method: The state of source is given a full or limited right to tax together with the state of residence. In this HYPOTHETICAL BAR REVIEW QUESTIONS & ANSWERS 53 case, the treaty makes it incumbent upon the state of residence to allow relief in order to avoid double taxation. Two methods of relief are used under the second method: a. Tax exemption method (using the deduction method). The income or capital which is taxable in the state of source or situs is exempted in the state of residence, although in some instances it may be taken into account in determining the rate of tax applicable to the taxpayer’s remaining income or capital. (This may be done using the tax deduction method which allows foreign income taxes to be deducted from gross income, in effect exempting the payment from being further taxed.) (Commissioner of Internal Revenue v. S.C. Johnson and Son, Inc., G.R. No. 127105, June 25, 1999) Tax deduction method is a subtraction from income for tax purposes, or an amount that is allowed by law to reduce income prior to the application of the tax rate to compute the amount of tax which is due. A tax deduction reduces the income that is subject to tax in order to arrive at taxable income. (Commissioner of Internal Revenue v. Central Luzon Drug Corporation, G.R. No. 159647, April 15, 2005) b. The credit method. Although the income or capital which is taxed in the state of source is still taxable in the state of residence, the tax paid in the former is credited (deducted) against the tax levied in the latter. (Commissioner of Internal Revenue v. S.C. Johnson and Son, Inc., G.R. No. 127105, June 25, 1999) Tax credit generally refers to an amount that is subtracted directly from one’s total tax liability, an allowance against the tax itself, or a deduction from what is owned. A tax credit reduces the tax due, including –whenever applicable – the income tax that is determined after applying the corresponding tax rates to taxable income. (Commissioner of Internal Revenue v. Central Luzon Drug Corporation, G.R. No. 159647, April 15, 2005) 54 FREE PRE-WEEK NOTES TAXATION LAW Author’s comments. The reader should note that the “double taxation” referred to is the valid type which is double taxation in its general sense or indirect duplicate taxation. Under this type, the two laws could validly be enforced because there is no constitutional infirmity (as a result of the absence for example of the same taxing authority that imposes the tax) hence, there is collection of the two taxes imposing a dual economic burden upon the taxpayer. Thus, the methods described are for the purpose of eliminating if not easing the economic burden of “double taxation.” ESCAPE FROM TAXATION ***1. What is meant by shifting of the tax burden ? What are the ways of shifting the burden of double taxation ? SUGGESTED ANSWER: Shifting the burden of taxation means transferring the economic burden from the one who pays the tax to another. a. One way of shifting the economic burden of the tax is to include the tax as part of the selling price. The tax is not billed separately but included in the selling price. b. Another way is the method of listing the price separately and defining taxable gross receipts as the amount received less the amount of the tax added. The tax is then billed separately. This method merely avoids payment by the seller of a tax on the amount of the tax. It is still the seller who is subject to the tax and not the buyer. The additional amount paid by the buyer is not payment for the tax but payment for the purchase of the electric cables, etc. (Phil. Acetylene v. Commissioner of Internal Revenue, G.R. No. L-19707, August 17, 1967) HYPOTHETICAL BAR REVIEW QUESTIONS & ANSWERS 55 ***2. What are the taxes that may be shifted ? SUGGESTED ANSWER: Indirect Taxes may be shifted. Most business taxes are indirect taxes. Among such business taxes are the following: a. franchise tax, b. contractor’s tax, c. value-added tax, d. documentary stamp taxes, e. excise taxes, and f. the percentage taxes. ***3. Upon whom does the impact of a tax fall ? For purposes of refund why is it important to know upon whom the impact of a tax lies ? SUGGESTED ANSWER: The impact of a tax refers to the statutory taxpayer. The person or entity stated in the law who is liable for the tax. Importance of knowing upon whom the impact of a tax lies for refund purposes. The proper party to question or seek a refund of, an indirect tax is the statutory taxpayer, the person on whom the tax is imposed by law and who paid the same even if he shifts the burden thereof to another because once shifted, it is no longer in the nature of a tax, but part of the purchase price or the cost of the goods or services sold. [Silkair (Singapore) Pte, Ltd. v. Commissioner of Internal Revenue, G.R. No. 166482, January 25, 2012] ***4. What is meant by incidence of the tax ? SUGGESTED ANSWER: The incidence of the tax refers to the person or entity to whom the burden of the indirect tax is shifted. The one who ultimately bears the burden of the tax. 56 FREE PRE-WEEK NOTES TAXATION LAW A seller who is directly and legally liable for payment of an indirect tax, such as the VAT on goods and services is not necessarily the person who ultimately bears the burden of the same tax. It is the final purchaser or consumer of such goods or services who although not directly and legally liable for the payment thereof, ultimately bears the burden of the tax. [Context Corporation v. Commissioner of Internal Revenue, 433 SCRA 376 (2004)] ***5. “A” sold electric cables, etc. to the NEA, a government corporation granted an exemption from all taxes under its charter. Is the sale taxable? Suppose the sales tax is shown in the invoices as billed or chargeable to the said buyer, would your conclusion be the same ? Explain. SUGGESTED ANSWER: Yes, the sale is taxable. The sales tax is a tax on the seller and not on NEA, the buyer, hence the buyer’s exemption does not flow to the seller. Yes. My conclusion would still be the same although the sales tax is billed to NEA in the invoice. Sales taxes are indirect taxes, the economic burden of which may be shifted to the buyer is of no moment. The method of listing the price separately and defining taxable gross receipts as the amount received less the amount of the tax added merely avoids payment by the seller of a tax on the amount of the tax. It is still the seller who is subject to the tax and not the buyer. The additional amount paid by the buyer NEA is not payment for the tax but payment for the purchase of the electric cables, etc. (Phil. Acetylene v. Commissioner of Internal Revenue, G.R. No. L-19707, August 17, 1967) ***6. GASOLINA Corporation is a domestic corporation engaged in the business of importing, refining and selling petroleum products. During the period from September 1, 2020 to December 31, 2020, GASOLINA Corporation imported 225 million liters of Jet A-1 aviation fuel and paid the excise taxes HYPOTHETICAL BAR REVIEW QUESTIONS & ANSWERS 57 thereon. Seventy-five percent (75%) of the total volume of aviation fuel imported were actually sold to international carriers of Philippine and foreign registries for their use or consumption outside of the Philippines in the period from November 1, 2020, to December 31, 2020. GASOLINA Corporation did not pass on to the international carriers the excise taxes it paid on the importation of petroleum products. On June 25, 2021, GASOLINA Corporation filed an administrative claim for refund or issuance of tax credit certificate amounting to the excise taxes it had paid on the importation of 225 million liters of Jet A-1 aviation fuel. If you were the Commissioner of lnternal Revenue, will you grant GASOLINA Corporation’s administrative claim for refund or issuance of tax credit certificate. Explain your answer. SUGGESTED ANSWER: Yes. GASOLINA Corporation as the statutory taxpayer is entitled to refund but only up to the extent of the seventy-five percent (75%) of the total volume of aviation fuel imported were actually sold to international carriers of Philippine and foreign registries for their use or consumption outside of the Philippines. The excise tax on petroleum products is a tax on property; hence, the exemption from the excise tax expressly granted under Section 135 of the NIRC, in favor of international carriers, must be construed in favor of the petroleum products on which the excise tax was initially imposed. Accordingly, the excise taxes that Wreck paid on its importation of petroleum products subsequently sold to international carriers and foreign registries for their use or consumption outside the Philippines were illegal and erroneous, and should be credited or refunded to GASOLINA in accordance with Section 204 of the NIRC. FREE PRE-WEEK NOTES TAXATION LAW 58 (Chevron Philippines, Inc. v. Commissioner of Internal Revenue, G.R. No. 210836, September 1, 2015) ***7. Define tax avoidance. SUGGESTED ANSWER: Tax avoidance is the exploitation by the taxpayer of legally permissible alternative rates or methods of assessing taxable property or income in order to reduce or entirely avoid tax liability. Example: Availing of all deductions allowed by law or refraining from engaging in activities subject to tax. ***8. What is meant by tax evasion? SUGGESTED ANSWER: A scheme used outside of lawful means and when availed of, usually subjects the taxpayer to further or additional administrative, civil or criminal liabilities. (Commissioner of Internal Revenue v. The Estate of Benigno P. Toda, Jr., etc., G.R. No. 147188, September 14, 2004) A term that connotes fraud through the use of pretenses and forbidden devices to lessen or defeat taxes. (Yutivo Sons Hardware Company v. Court of Tax Appeals, 1 SCRA 160) ***9. What are the factors integrated in tax evasion? SUGGESTED ANSWER: The factors are: a. The end to be achieved, i.e. the payment of less than that known by the taxpayer to be legally due, or the non-payment of tax when it is shown that a tax is due; b. An accompanying state of mind which is described as being “evil,” in “bad faith,” “willfull,” or “deliberate and not accidental”; and c. A course of action or failure of action which is unlawful. (Commissioner of Internal Revenue v. The Estate of Benigno P. Toda, Jr., etc., G.R. No. 147188, September 14, 2004) HYPOTHETICAL BAR REVIEW QUESTIONS & ANSWERS 59 10. As forms of escape from taxation, we hear of “tax evasion” and “tax avoidance.” Differentiate between them and give an instance of each. SUGGESTED ANSWER: The following are the distinctions between tax avoidance and tax evasion: a. Means and methods used. Tax avoidance uses means allowed under the law while tax evasion uses means outside the law. b. Legality. Tax avoidance is legal while tax evasion is illegal. c. Validity. Tax avoidance is valid while tax evasion is invalid. d. Effect. Tax avoidance is minimization of taxes while tax evasion almost always results in absence of tax payments. e. Penalties. Tax avoidance does not result to any penalties while tax evasion warrants the imposition of civil, administrative and criminal penalties. An example of tax evasion is indicating in the contract of sale of real property the zonal valuation which is lower than the actual selling price and the reporting the said zonal value in the capial gains tax returns for purposes of taxation. An example of tax avoidance is spreading a P500,000.00 donation over a period of two calendar years in order to avail of the tax exemption of the first and second P250,000.00 donation. ***11. Does resort to tax-saving devices constitute fraud under our tax law? Explain your answer. SUGGESTED ANSWER: No. There is fraud when there is a deliberate intention, employing means outside the law, to deprive the government of its right to collect taxes. FREE PRE-WEEK NOTES TAXATION LAW 60 Resort to tax-saving devices does not constitute fraud so long as legally permissible means and the method used by the taxpayer is in good faith and at arms length. (Commissioner of Internal Revenue v. The Estate of Benigno P. Toda, Jr., etc., G.R. No. 147188, September 14, 2004) This is so because a taxpayer has the legal right by means permitted by law to: a. decrease the amount of what could be his taxes, or b. altogether avoid them. (Delpher Trades Corp. v. Intermediate Appellate Court, 157 SCRA 349, arrangement and numbering supplied) ***12. Lucky V Corporation (Lucky) owns a 10-storey building on a 2,000 square meter lot in the City of Makati. It sold the lot and building to Rainier for P80 million. One month after, Rainier sold the lot and building to Healthy Smoke Company (HSC) for P200 million, Lucky filed its annual return and declared its gain from the sale of the lot and building in the amount of P750,000.00. An investigation conducted by the BIR revealed that two months prior to the sale of the properties to Rainier, Lucky received P40 million from HSC and not from Rainier. Said amount of P40 million was debited by HSC and reflected in its trial balance as “other inv. – Lucky Bldg.” The BIR concluded that there is tax evasion since the real buyer of the properties of Lucky is HSC and not Rainier. It issued an assessment for deficiency income tax in the amount of P79 million against Lucky. Lucky argues that it resorted to tax avoidance or a tax saving device, which is allowed by the NIRC and BIR rules since it paid the correct taxes based on the sale to Rainier. On the other hand, Rainier and HSC also paid the prescribed taxes arising from the sale by Rainier to HSC. Is the BIR correct in assessing taxes on Luckyc? Explain. HYPOTHETICAL BAR REVIEW QUESTIONS & ANSWERS 61 SUGGESTED ANSWER: Yes. The BIR is correct in assessing the taxes on Lucky. There was no tax avoidance, instead there was tax evasion on the part of Lucky because of the simulated sale to Rainier which had its apparent purpose to reduce the income tax to be paid by Lucky on the sale to HSC. The sale to Rainier was simulated as evidenced by the fact that two months prior to the sale of the properties to Rainier, Lucky received P40 million from HSC and not from Rainier. The intermediary transaction (the simulated sale to Rainier), was prompted more on the mitigation of tax liabilities than for legitimate business purpose constitutes one of tax evasion. (Commissioner of Internal Revenue v. The Estate of Benigno P. Toda, Jr., etc., G.R. No. 147188, September 14, 2004, 438 SCRA 290) EXEMPTION FROM TAXATION **1. What is meant by exemptions from taxation ? SUGGESTED ANSWER: Exemption from taxation is the act of the State in divesting itself of its prerogative to collect taxes upon certain subjects and objects of taxation. **2. Can a tax exemption be revoked? Why? SUGGESTED ANSWER: Yes. A tax exemption may be revoked because it is an act of liberality which could be taken back by the Government. Since taxation is the rule and exemption therefrom the exception, the exemption may thus be withdrawn at the pleasure of the taxing authority. (Mactan Cebu International Airport Authority v. Marcos, 261 SCRA 667) 62 FREE PRE-WEEK NOTES TAXATION LAW There is no vested right in a tax exemption, more so when the latest expression of legislative intent renders its continuance doubtful. Flowing from the basic precept of constitutional law that no law is irrepealable, Congress in the legitimate exercise of its lawmaking powers, can enact a law withdrawing a tax exemption just as efficaciously as it may grant the same. [Republic v. Caguioa, 536 SCRA 193 (2007)] 3. Are there any restrictions on the power to revoke tax exemptions ? If so, what are they? SUGGESTED ANSWER: Yes. The following are the restrictions: a. Non-impairment clause. Where the exemption was granted to private parties based on material consideration of a mutual nature, which then becomes contractual and is covered by the non-impairment clause of the Constitution. (Mactan Cebu International Airport Authority v. Marcos, 261 SCRA 667) “A municipal franchise once granted as a contract cannot be altered or amended except by actual consent of the parties concerned.” (Darmouth College v. Woodward, 4 Wheat, 578) b. Adherence to form. If the exemption is granted by the Constitution, its revocation may be effected through constitutional amendment only. Where the tax exemption grant is in the form of a special law and not by a general law even if the terms of the general act are broad enough to include the codes in the general law unless there is manifest intent to repeal or alter the special law. (Commissioner of Internal Revenue v. Court of Appeals, 207 SCRA 487) HYPOTHETICAL BAR REVIEW QUESTIONS & ANSWERS 63 EQUITABLE RECOUPMENT **What is the doctrine of equitable recoupment? Is it applicable in our jurisdiction? SUGGESTED ANSWER: The doctrine of equitable recoupment holds that where the refund of a tax illegally or erroneously collected or overpaid by a taxpayer is barred by prescription, a tax presently being assessed against a taxpayer may be recouped or set-off against the tax whose refund is now barred by prescription. (U.S.T. v. Collector, 104 Phil. 1062) The doctrine is not applicable in the Philippines because of the lifeblood theory. Taxpayers would become lazy in paying taxes because they could offset the alleged illegally or erroneously collected or overpaid taxes. The same could also be said of tax collectors relative to their duty to collect taxes because they know that the taxpayers would not pay anyway because of the offset with previous illegally or erroneously collected or overpaid taxes. (Ibid.) PROHIBITION ON COMPENSATION AND SET-OFF ***1. May taxes be the subject of set-off or compensation ? Explain. SUGGESTED ANSWER: No. Taxes are not contractual obligation but arise out of a duty to, and are the positive acts of government, to the making and enforcing of which the personal consent of the individual taxpayer is not required. (Republic v. Mambulao Lumber Co., 4 SCRA 622) The government and the taxpayer are not mutually creditors and debtors of each other and a claim for taxes is no such a debt, demand, contract or judgment as is allowed 64 to be set-off. (Caltex Philippines, Inc. v. Audit, 208 SCRA 726, 756) FREE PRE-WEEK NOTES TAXATION LAW Commission on NOTE NOT PART OF THE ANSWER: The foregoing doctrine finds application only to national taxes because of the lifeblood doctrine. Absence or insufficiency of revenues from national taxes might lead to the demise of the national government. The doctrine does not find application to local government taxation because the death of a local government unit does not result to the demise of the national government. ***2. Hansel obtained a judgment for a sum of money against the municipality of Mabini. The judgment has become final although execution has not issued. Upon receiving an assessment for municipal sales taxes from the Municipal Treasurer, Hansel executed a partial assignment of his judgment sufficient to cover the assessment in favor of the Municipality. May the Municipal Treasurer validly accept the assignment? Why? SUGGESTED ANSWER: Yes. The Municipal Treasurer validly accept the assignment. The parties in this case are mutually debtors and creditors of each other, and since both of the claims became overdue, demandable and fully liquidated, compensation takes place by operation of law. (Domingo v. Garlitos, 8 SCRA 443) NOTE NOT PART OF THE ANSWER: The doctrine finds application only to local government taxation because the death of a local government unit does not result to the demise of the national government. The doctrine does not apply to national taxes because of the lifeblood doctrine. Absence or insufficiency of revenues from national taxes might lead to the demise of the national government. HYPOTHETICAL BAR REVIEW QUESTIONS & ANSWERS 65 COMPROMISE *1. What is a compromise? SUGGESTED ANSWER: A compromise is a contract whereby the parties, through mutual agreement, make reciprocal concessions, in order to avoid a litigation or put an end to one already commenced. (CCP, Art. 2028) *2. Distinguish compromise from abatement of taxes. SUGGESTED ANSWER: The distinctions between compromise and abatement of taxes are the following: a. Grounds: The grounds for compromise are either doubt as to the validity of the assessment or financial incapacity to pay while the grounds for abatement are the tax be unjustly or excessively assessed, or the administration and collection costs do not justify the amount due; b. Effect: In compromise the tax is merely reduced while in abatement the tax is cancelled. TAX AMNESTY **1. What is tax amnesty? Discuss briefly its nature and purpose. SUGGESTED ANSWER: A tax amnesty is an absolute waiver by the government of its right to collect what is due it. (ING Bank N.V., etc. v. Commissioner of Internal Revenue, G.R. No. 167679, July 22, 2015) It refers to the articulation of the absolute waiver by a sovereign of its right to collect taxes and power to impose penalties on persons or entities guilty of violating a tax law. (CS Garment, Inc. v. Commissioner of Internal Revenue, G.R. No. 182399, March 12, 2014) It is in the nature of a tax amnesty that it partakes of an absolute forgiveness or waiver of the Government of its FREE PRE-WEEK NOTES TAXATION LAW 66 rights to collect what otherwise would be due it, and in this sense, prejudicial thereto. [Philippine Banking Corporation (now Global Business Bank, Inc.) v. Commissioner of Internal Revenue, 577 SCRA 366 (2009)] Among the purposes of tax amnesty are the following: a. To give tax evaders who wish to relent and are willing to reform a chance to do so and thereby start with a clean tax slate. (Ibid.) Tax amnesty aims to grant a general reprieve to tax evaders who wish to come clean by giving them an opportunity to straighten out their records. (Ibid.) b. It also gives the government a chance to collect uncollected tax from tax evaders without having to go through the tedious process of a tax case. To avail of a tax amnesty granted by the government, and to be immune from suit on its delinquencies, the taxpayer must have voluntarily disclosed his previously untaxed income and must have paid the corresponding tax on such previously untaxed income. (Bañas, Jr. v. Court of Appeals, G.R. No. 102967, February 10, 2000) 2. May a withholding tax agent avail of tax amnesty? Why? SUGGESTED ANSWER: No. The claim of a taxpayer under a tax amnesty shall be allowed when the liability involves the deficiency in payment of income tax. However, it must be disallowed when the taxpayer is assessed on his capacity as a withholding tax agent because the person who earned the taxable income was a person other than the withholding agent. (LG Electronics Philippines, Inc., G.R. No. 165451, December 03, 2014) HYPOTHETICAL BAR REVIEW QUESTIONS & ANSWERS 67 **3. Distinguish a tax amnesty from a tax exemption. SUGGESTED ANSWER: The distinctions between a tax amnesty and tax exemption are as follows: a. Tax amnesty is an immunity from all criminal, civil and administrative liabilities arising from nonpayment of taxes (People v. Castañeda, G.R. No. L-46881, September 15, 1988) while a tax exemption is an immunity from civil liability only. It is an immunity or privilege, a freedom from a charge or burden to which others are subjected. (Florer v. Sheridan, 137 Ind. 28, 36 NE 365) b. Tax amnesty applies only to past tax periods, hence of retroactive application (Castañeda, supra) while a tax exemption has prospective application. CONSTRUCTION AND INTERPRETATION OF TAX LAWS, RULES, AND REGULATIONS ***1. How are grants of tax exemption construed in our jurisdiction? What is the rationale behind the principle? Explain. SUGGESTED ANSWER: Statutes granting tax exemptions are construed in stricissimi juris against the taxpayer and liberally in favor of the taxing authority. A claim of tax exemption must be clearly shown and based on language in law too plain to be mistaken. Otherwise stated, taxation is the rule, exemption is the exception. (Quezon City v. ABS-CBN Broadcasting Corporation, G.R. No. 166408, October 6, 2008) The rationale behind the principle of stricissimi juris or strict interpretation of statutory provisions granting tax exemptions or deductions against the claimant are: 68 FREE PRE-WEEK NOTES TAXATION LAW a. To minimize differential treatment and foster impartiality, fairness and equality of treatment among taxpayers. (Ibid.) b. Lifeblood theory. Taxes are what we pay for civilized society. (Mactan Cebu International Airport Authority v. Marcos, 261 SCRA 667) Without the revenues generated from taxation the very existence of the government may be imperiled because thre is no wherewithal to perform the fuctions for which it was created. Hence, reduction in the form of exemptions are strictly construed. c. Taxation is a high prerogative of sovereignty whose relinquishment is never presumed. (Luzon Stevedoring Corporation v. Court of Appeals, 163 SCRA 647) The State cannot be deprived of this most essential power and attribute of sovereignty by vague implications of law and he who claims an exemption must be able to justify his claim by the clearest grant of statute. [Jaka Investments Corporation v. Commissioner of Internal Revenue, 626 SCRA 16 (2010)] 2. Give an illustration where there is no construction in favor of the government. SUGGESTED ANSWER: Where grant of exemption is clear and unambiguous, such as the exemption granted under the EPZA Law, there is no construction in favor of the government. There is neither logic nor need to cast a speck of uncertainty on a doubt-free situation to resolve the resulting forced question in favor of the government. The disposition arises not out of blind solicitude towards the concerns of business, but from the duty to affirm and enforce a crystalclear legislative policy and initiative intent. Indeed, the revenue collectors of the government should be cautious before attempting to gut away at concessions the State itself has deemed worthy of award to deserving HYPOTHETICAL BAR REVIEW QUESTIONS & ANSWERS 69 investors. It is unsound practice and uncouth behavior to invite guests to dinner at home, then charge them for the use of the silverware before allowing them to dine. (Commissioner of Customs v. Philippine Phosphate Fertilizer Corporation, G.R. No. 144440, September 1, 2004) ***3. The rule that tax exemptions are to be strictly construed against the taxpayer has certain exceptions. What are they? SUGGESTED ANSWER: The exceptions or instances where tax exemptions are to be liberally construed in favor of the taxpayer and strictly against the taxing authority are the following: a. When the statute granting exemption provides for liberal construction thereof. b. In case of special taxes relating to special cases and affecting only special classes of persons. c. If exemptions refer to the public property. d. In cases of exemptions granted to charitable and educational institutions or their property. (Cooley) e. In cases of exemptions in favor of a government political subdivision or instrumentality. (Maceda v. Macaraig, Jr., 197 SCRA 771) f. A tax refund based on solutio indebeti. ***4. State the rule on the construction or interpretation of laws imposing taxes. What is the rationale behind it? SUGGESTED ANSWER: In case of doubt, tax laws must be construed strictly against the State and liberally in favor of the taxpayer. (Commissioner of Internal Revenue v. The Philippine American Accident Insurance Company, Inc., G.R. No. 141658, March 18, 2005) 70 FREE PRE-WEEK NOTES TAXATION LAW This is so because taxes, as burdens which must be endured by the taxpayer, should not be unduly exacted or presumed to go beyond what the law expressly and clearly declares. (Commissioner of Internal Revenue v. Fortune Tobacco Corporation, G.R. Nos. 167274-75, July 21, 2008) ***5. Why is prescription in civil cases, involving the collection of internal revenue taxes, construed strictly against the government and liberally in favor of the taxpayer ? SUGGESTED ANSWER: Our tax law provides a statute of limitations in the collection of taxes for the purpose of safeguarding taxpayers from any unreasonable examination, investigation or assessment. Thus, the law on prescription, being a remedial measure, should be liberally construed in favor of the taxpayer in order to afford such protection. (Commissioner of Internal Revenue v. BF Goodrich, Phils. Inc., G.R. No. 104171, February 24, 1999) “ As a corollary, the exceptions to the law on prescription should perforce be strictly construed.” (Ibid.) “A waiver of the statute of limitations under the NIRC, to a certain extent, is a derogation of the taxpayers’ right to security against prolonged and unscrupulous investigations and must therefore be carefully and strictly construed.” (Philippine Journalists, Inc. v. Commissioner of Internal Revenue, G.R. No. 162852, December 16, 2004) ***6. Why are periods of prescription in criminal cases, involving tax offenses punishable under the National Internal Revenue Code (NIRC) as amended, construed strictly in favor of the government? SUGGESTED ANSWER: Statutes of limitations in criminal cases constitute a surrender by the sovereign of its right to prosecute. Hence, they receive a strict construction in favor of the Government. (Lim v. Court of Appeals, G.R. No. 48134-37, October 18, 1990) HYPOTHETICAL BAR REVIEW QUESTIONS & ANSWERS 71 ***7. A law was passed condoning unpaid real property taxes. Will this law benefit the taxpayers who have been prompt in paying their taxes? Explain. SUGGESTED ANSWER: No. The condonation is in the nature of tax exemptions which must be strictly construed against the claimant. Since there is no showing in the problem of any provision of the law on condonation expressly extending the benefit of condonation to those who have been prompt in paying their taxes, then they could not benefit from it. ***8. Does exemption granted by law from payment of all taxes carry with it automatically exemption from payment of customs duties and license fees? SUGGESTED ANSWER: Yes but only with regard to the payment of customs duties. There is no exemption from the payment of license fees. When the law is clear and unequivocal there is no need for the application of the principle of stict interpretation against the taxpayer. The exemption applies to “all taxes,” hence there is no need for interpretation as “customs duties” are taxes. Ubi lex non distinguit nec nos distinguire debemos (Where the law does not distinguish, we should not distinguish). It is clear in the problem that there is no distinction made as to what kind of taxes the exemption refers to. However, there should be no exemption from the payment of license fees because they are not taxes. They are imposed under police power not under the power of taxation. 9. What is rule on the construction of revenue regulations? SUGGESTED ANSWER: Revenue regulations are construed in the same manner as laws because they partake of the nature of a law. FREE PRE-WEEK NOTES TAXATION LAW 72 In general, rules and regulations issued by administrative or executive officers pursuant to the procedure or authority conferred by law upon the administrative agency have the force and effect or partake of the nature, of a statute. Reason: Statutes express the policies, purposes, objective, remedies and sanctions intended by the legislature in general terms. The details and manner of carrying them out are oftentimes left to the administrative agency entrusted with their enforcement. In the case of revenue regulations, it is the Secretary of Finance who promulgates the same, upon recommendation of the BIR commissioner. These regulations are the consequences of a delegated power to issue legal provisions that have the effect of law. (Commissioner of Internal Revenue v. Solidbank Corporation, G.R. No. 148191, November 25, 2003) *What is the nature of our internal revenue law ? Explain briefly. SUGGESTED ANSWER: Our internal revenue law is a. not political in character; b. civil in nature, not subject to ex post fact law prohibition; c. not penal in character; and d. not retroactive in its application. JURISDICTION, POWER, AND FUNCTIONS OF THE COMMISSIONER OF INTERNAL REVENUE **1. What are the purposes of the grant of power to Commissioner of Internal Revenue to obtain information, and to summon, examine and take testimony of persons? HYPOTHETICAL BAR REVIEW QUESTIONS & ANSWERS 73 SUGGESTED ANSWER: The purposes for the grant of the power are: a. To ascertain correctness of any return. b. To make a return where none has been made. c. To determine the liability of any person for any internal revenue tax. d. To collect from any person liability for any internal revenue tax. e. To evaluate tax compliance. (NIRC of 1997, Sec. 5, 1st par., arrangement and numbering supplied) **2. What is the extent of the authority of the Commissioner of Internal Revenue to make or amend a return? SUGGESTED ANSWER: In case a person a. fails to file a required return or other document at the time prescribed by law, or b. willfully or otherwise files a false or fraudulent return or other document, 1) the Commissioner shall make or amend the return a) from his own knowledge b) and from such information as he can obtain through testimony or otherwise, which shall be prima facie correct and sufficient for all legal purposes. [NIRC of 1997, Sec. 6 (B), 2nd par., arrangement and numbering supplied] **3. Relleve Corp. is a big manufacturer of industrial products. It has several suppliers of raw materials. The BIR suspects that some of the suppliers are not properly reporting their income on their sales to Relleve Corp. The 74 FREE PRE-WEEK NOTES TAXATION LAW CIR therefore: a. Issued an access letter to Relleve Corp., to furnish the BIR information on sales and payments to its suppliers on the alleged ground that the suppliers are committing tax evasion. Relleve Corp. and the suppliers have not been issued by the BIR letters of authority to examine. Relleve Corp. believes that the BIR is on a “fishing expedition” and comes to you for counsel. What is your advice ? SUGGESTED ANSWER: I would advise Relleve Corp., to supply the BIR with the information desired. The BIR is authorized under the NIRC of 1997 to secure information even from persons who are not under tax investigation. The BIR Commissioner is allowed to investigate any circumstance which led him to believe that the taxpayer had taxable income larger than that reported. Necessarily, this inquiry would have to be outside of the books because they supported the return as filed. He may take the sworn testimony of the taxpayer; he may take the testimony of third parties; he may examine and subpoena; if necessary, traders’ and brokers’ accounts and books and the taxpayer’s books of accounts. The Commissioner is not bound to follow any set of patterns. The existence of unreported income may be shown by any particular proof that is available in the circumstances of the particular situation. (Commissioner of Internal Revenue v. Hantex Trading Co., Inc., G.R. No. 136975, March 31, 2005) It was once held that where the records of the taxpayer are manifestly inaccurate and incomplete, the Commissioner may look to other sources of information to establish income made by the taxpayer during the years in question. (Ibid) . *4. Rovick, Inc., sold a real property in Polangui, Albay to Cathy Cat Corporation. The property has been classified as residential and with a zonal valuation of P1,000 per square meter. The capital gains tax was paid HYPOTHETICAL BAR REVIEW QUESTIONS & ANSWERS 75 based on the zonal value. The Revenue District Officer (RDO), however, refused to issue the Certificate Authorizing Registration for the reason that based on his ocular inspection, the property should have a higher zonal valuation determined by the Commissioner of Internal Revenue because the area is already a commercial area. Accordingly, the RDO wanted to make a recomputation of the taxes due by using the fair market value appearing in a nearby bank’s valuation list which is practically double the existing zonal value. The RDO also wanted to assess a donor’s tax on the difference between the selling price based on the zonal value and the fair market value appearing in a nearby bank’s valuation list. a. Does the RDO have the authority or discretion to unilaterally use the fair market value as the basis for determining the capital gains tax and not the zonal value as determined by the Commissioner of Internal Revenue? Reason Briefly. SUGGESTED ANSWER: No. The RDO has no authority to use a fair market value other than that prescribed in the Tax Code. The power to prescribe the fair market value (zonal valuation) is lodged with the Commissioner of Internal Revenue. The fair market value prescribed for the computation of any internal revenue tax shall be, whichever is higher of: (1) the fair market value as determined by the Commissioner (referred to as zonal value); or (2) the fair market value as shown in the schedule of values of the provincial and city assessors (FMV per tax declaration). [NIRC, Sec. 6(E)] The use of the fair market value appearing in a nearby bank’s valuation list, therefor, is not allowed for purposes of computing internal revenue taxes. b. Should the difference in the supposed taxable value be legally subject to donor’s tax? Reason briefly. SUGGESTED ANSWER: No. The difference in the supposed taxable value cannot be legally subject to the 76 FREE PRE-WEEK NOTES TAXATION LAW donor’s tax, because the use of a fair market value other than that prescribed by the Tax Code is not allowed for computing any internal revenue tax. [NIRC, Section 6(E)] ***5. Can the Commissioner of Internal Revenue inquire into the bank deposits of a taxpayer? If so, does this power of the Commissioner conflict with R.A. No. 1405 (Secrecy of Bank Deposits Law)? SUGGESTED ANSWER: Yes. The Commissioner of Internal Revenue has the power to inquire into the bank deposits of a taxpayer in the following instances: a. Where the taxpayer has Commissioner to make an inquiry; authorized the b. Where the inquiry is made in decedent’s bank account to determine his gross estate. c. Where the inquiry is made in the deposit account of any taxpayer who has filed an application for compromise of his tax liability by reason of financial incapacity to pay his tax liability. [NIRC of 1997, Sec. 6 (F), 1st par., as amended by Rep. Act No. 10021, paraphrasing supplied] d. Where the inquiry is made in the deposit account of a specific taxpayer or taxpayers subject of a request for the supply of tax information from a foreign tax authority. [Ibid., Sec. 6 (F), 3rd par., as amended by Rep. Act No. 10021, paraphrasing supplied] The power of the Commissioner in the instances stated above does not conflict with R.A. 1405 because the Commissioner’s power to inquire into bank deposits authorized under the NIRC of 1997 constitutes exceptions to R.A. 1405. HYPOTHETICAL BAR REVIEW QUESTIONS & ANSWERS 77 RULE-MAKING AUTHORITY OF THE SECRETARY OF FINANCE ***1. What is the extent of the rule making power of administrative taxing authorities ? SUGGESTED ANSWER: a. The Secretary of Finance, upon recommendation of the Commissioner of Internal Revenue, shall promulgate all useful rules and regulations for the effective enforcement of the provisions of the NIRC. (NIRC of 1997, sec. 244) The Bureau of Internal Revenue is also empowered to issue rules and opinions without need of Secretary of Finance approval. The issuance of revenue regulations is authorized by statute and as such has the force and effect of law. (Arches v. Belosillo, 20 SCRA 32) In case of conflict between a law and an administrative regulation, the law prevails (Wise & Co., Inc. v. Meer, etc., 78 Phil. 655); and b. The Secretary of Finance shall, upon the recommendation of the Commissioner of Customs, promulgate the necessary rules and regulations for the effective implementation of the Customs Modernization and Tariff Act. (CMTA, Sec. 1800) *2. Discuss the power of the Commissioner of Internal Revenue (CIR) to interpret tax laws and to decide tax cases. SUGGESTED ANSWER: The power to interpret the provisions of the National Internal Revenue Code of 1997, as amended, and other tax laws shall be under the exclusive and original jurisdiction of the CIR, subject to review by the Secretary of Finance. “The power to decide disputed assessments, refunds of internal revenue taxes, fees or other charges, penalties imposed in relation thereto, or other matters arising under the FREE PRE-WEEK NOTES TAXATION LAW 78 Tax Code or other laws or portions thereof administered by the Bureau of Internal Revenue is vested in the Commissioner, subject to the exclusive appellate jurisdiction of the Court of Tax Appeals.” [Confederation for Unity, Recognition and Advancement of Government Employees (COURAGE) v. Commissioner, etc., G.R. No. 213446, and companion cases, July 03, 2018] “The CIR’s exercise of its power to interpret tax laws comes in the form of revenue issuances, which include RMOs that provide ‘directives or instructions; prescribe guidelines; and outline processes, operations, activities, workflows, methods and procedures necessary in the implementation of stated policies, goals, objectives, plans and programs of the Bureau in all areas of operations, except auditing.” (Ibid.) “These revenue issuances are subject to the review of the Secretary of Finance. 3. What are the two kinds of rules that may be adopted by administrative taxing authorities? Illustrate each. SUGGESTED ANSWER: a. Legislative rule. A legislative rule is in the nature of the subordinate legislation, designed to implement a primary legislation by providing the details thereof. (Commissioner of Internal Revenue v. Court of Appeals, 261 SCRA 236, 246) This is also known as a quasi-legislative rule. 1) Revenue Regulations (RRs) are legislative rules. Revenue Regulations (RRs) are likewise issued by the Commissioner of Internal Revenue but always subject to the approval of the Secretary of Finance. They are legislative rulings which necessitate hearing and publication. RRs are issuances signed by the Secretary of Finance, upon recommendation of the Commissioner of HYPOTHETICAL BAR REVIEW QUESTIONS & ANSWERS 79 Internal Revenue, that specify, prescribe or define rules and regulations for the effective enforcement of the provisions of the National Internal Revenue Code (NIRC) and related statutes. (www.bir.gov.ph); and b. Interpretative rules. Interpretative rules are designed to provide guidelines to the law which the administrative agency is in charge of enforcing. (Misamis Oriental Association of Coco Traders, Inc. v. Department of Finance Secretary, et al., 238 SCRA 63, 69) **4. What are the kinds of BIR interpretative rulings? SUGGESTED ANSWER: a. Rulings of first impression. These refers to the rulings, opinions and interpretations of the Commissioner of Internal Revenue with respect to the provisions of the NIRC and other tax laws without established precedents. Provided, however, that the term shall include reversal, modification or revocation of any existing ruling. [RAO No. 1-99, [Sec. 3 (a)] b. Rulings reiterating established precedents as delegated by the Commissioner of Internal Revenue. These shall refer to mere reiteration of previous rulings, opinions and interpretations of the Commissioner, as delegated to duly authorized internal revenue officers. [Ibid.,, Sec. 3 (b)] ***5. XYZ Corporation, an export-oriented company, was able to secure a Bureau of Internal Revenue (BIR) ruling in June 2020 that exempts from Tax the importation of some of its raw materials. The ruling is of first impression, which means the interpretations made by the Commissioner of Internal Revenue is one without established precedents. Subsequently, however, the BIR issued another ruling which in effect would subject to tax such kind of importation. XYZ Corporation is concerned that said ruling may have a retroactive effect, which means that all their importations done before the issuance of the second ruling could be subject to tax. FREE PRE-WEEK NOTES TAXATION LAW 80 a. What are BIR rulings? SUGGESTED ANSWER: BIR rulings are official positions of the Bureau on inquiries of taxpayers, who request clarification on certain provisions of the National Internal Revenue Code (NIRC), other tax laws, or their implementing regulations, usually for the purpose of seeking tax exemptions. Rulings are based on particular facts and circumstances presented and are interpretations of the law at a specific point in time. The Bureau also issues rulings to answer written questions of individuals and juridical entities regarding their status as taxpayers and the effects of their transactions for taxation purposes. (RMO No. 9-2014, Sec. 1) b. What is required to make a BIR ruling of first impression valid ? SUGGESTED ANSWER: A BIR ruling of first impression to be valid must not be against the law and it must be issued only by the Commissioner of Internal revenue. (Philippine Bank of Communications v. CIR, 302 SCRA 241) Rulings of first impression shall be submitted together with their dockets to the Secretary of Finance and shall not be valid unless reviewed and approved by the Secretary of Finance. [RAO No. 1-99, Sec. 4 (a)] ***6. The Commissioner of Internal Revenue issued a BIR ruling to the effect that the transaction is liable to income tax and value added tax. Upon receipt of the ruling, a taxpayer does not agree thereto. What is his proper remedy ? SUGGESTED ANSWER: File an appeal to the Secretary of Finance within thirty (30) days from receipt thereof. HYPOTHETICAL BAR REVIEW QUESTIONS & ANSWERS 81 7. In what instances do Revenue Rulings and Regulations have retroactive effect even if prejudicial to the taxpayer ? SUGGESTED ANSWER: The following are the instances when Revenue Rulings and Regulations would have retroactive effect even if prejudicial to the interest of the taxpayer: “a. Where the taxpayer deliberately misstates or omits material facts from his return or on any document required of him by the Bureau of Internal Revenue. b. Where the facts subsequently gathered by the Bureau of Internal Revenue are materially different from the facts on which the ruling is based; or c. Where the taxpayer acted in bad faith.” 1997, Sec. 246) (NIRC of **8. Due to uncertainty whether or not a new tax law is applicable to printing companies, DEF Printers submitted a legal query to the Bureau of Internal Revenue on that issue. The BIR issued a ruling that printing companies are not covered by the new law. Relying on this ruling, DEF Printers did not pay said tax. Subsequently, however, the BIR reversed the ruling and issued a new one stating that the tax covers printing companies. Could the BIR now assess DEF Printers for back taxes corresponding to the years before the new ruling? SUGGESTED ANSWER: No. The reversal would prejudice the taxpayer who acted in good faith upon the previous BIR ruling. Taxpayers should not be prejudiced by an erroneous interpretation by the Commissioner, particularly on a difficult question of law. Absent fraud, bad faith or misrepresentation, the reversal of a specific BIR, should apply prospectively. FREE PRE-WEEK NOTES TAXATION LAW 82 (Banco de Oro v. Republic of the Philippines, G.R. No. 198756, August 16, 2016, paraphrasing supplied) ALTERNATIVE ANSWER: Yes. “The general rule is that the State cannot be put in estoppel by the mistakes or errors of its officials or agents.” [The City of Davao, etc. v. The intestate estate of Amado S. Dalisay, etc., G.R. No. 207791, July 15, 2015) The foregoing doctrine finds application specially in the case of taxation where the revenues collected is the lifeblood upon which the government depends for its continued existence. The Commissioner of Internal Revenue is not bound by the ruling of his predecessors. He could reverse the same. To the contrary, the overruling of decisions is inherent in the interpretation of laws. (Misamis Oriental Association of Coco Traders, Inc. v. Secretary of Finance, 238 SCRA 63, 69) NOTE NOT PART OF THE ANSWER: Where the alternative answer finds application, the taxpayer should not be subject to the payment of interests, fines, surcharges, and other penalties for the late payment of the deficiency taxes. After all, the taxpayers should not be penalized for their reliance in good faith upon the previous interpretation. ii. INCOME TAX DEFINITION AND NATURE 1. What is an income tax? Give an example. SUGGESTED ANSWER: It is a national tax on the net or the gross income realized in a taxable year arising from property, professions, trades and offices. (Fisher v. Trinidad, 43 Phil. 981) It is subject to withholding. (Commissioner of HYPOTHETICAL BAR REVIEW QUESTIONS & ANSWERS 83 Internal Revenue v. City-Trust Investment Phils., Inc., G.R. No. 138786, September 27, 2006 and companion case) Example of an income tax. The tax imposed upon the pertinent items of gross income derived by a resident citizen from conduct of trade or business or the exercise of a profession. [NIRC of 1997, Sec. 24 (A) (1) (a) in relation to Sec. 31, as amended by TRAIN and Sec. 32 (A) (2)] 2. What is the nature of income tax? SUGGESTED ANSWER: It is an excise tax and not a tax on property. It is an excise tax because it is a tax on the privilege to earn income. The theory that a tax on income is legally or economically a tax on its source is no longer tenable. (Graves v. New York, 306 U.S. 466) NOTE NOT PART OF THE ANSWER: The reader should not confuse the nature of income tax with the nature of income tax laws or nature of income taxation. They are different concepts altogether. ***3. Discuss the meaning of the schedular system of taxation. SUGGESTED ANSWER: A system employed where the income tax treatment varies and is made to depend on the kind or category of taxable income of the taxpayer. (Tan v. Del Rosario, Jr., 237 SCRA 324, 331) It is a system which itemizes the different incomes and provides for varied percentages of taxes, to be applied thereto. Sec. 24 (A) (2) (a), NIRC of 1997, as amended by the TRAIN, provides for the application of the schedular system of income taxation to individuals. There is adoption, effective January 1, 2018 until December 31, 2022, of a progressive rate which taxes at 20% taxable incomes which goes beyond P250,000.00, progressively increasing 84 FREE PRE-WEEK NOTES TAXATION LAW up to a high of 35% for taxable incomes exceeding P8,000,000.00. ***4. To which system would you say the method of taxation under the National Internal Revenue Code belongs ? SUGGESTED ANSWER: The National Internal Revenue Code has adopted the global system for corporations and the schedular system of taxation for individuals. Thus, it is sometimes referred to as the semischedular and semi-global tax system. ALTERNATIVE ANSWER: The system of taxation to which the National Internal Revenue Code belongs is known as the semi-schedular and the semi-global system. The apparent intent of current amendatory laws to the income tax law is to maintain, by and large, the global treatment on taxable corporations and to increasingly shift the income tax system toward the schedular approach in the income taxation of individual taxpayers. (Tan v. Del Rosario, Jr. 237 SCRA 324, 331) GENERAL PRINCIPLES **1. What are the general principles of income taxation ? SUGGESTED ANSWER: The general principles are: a. A citizen of the Philippines residing therein is taxable on all income derived from sources within and without the Philippines; b. A nonresident citizen is taxable only on income derived from sources within the Philippines; c. An individual citizen of the Philippines who is working and deriving income abroad as an overseas contract worker is taxable only on income from sources within the Philippines: HYPOTHETICAL BAR REVIEW QUESTIONS & ANSWERS 85 Provided, That a seaman who is a citizen of the Philippines and who receives compensation for services rendered abroad as a member of the complement of a vessel engaged exclusively in international trade shall be treated as an overseas contract worker; d. An alien individual, whether a resident or not of the Philippines, is taxable only on income derived from sources within the Philippines; e. A domestic corporation is taxable on all income derived from sources within and without the Philippines; and f. A foreign corporation, whether engaged or not in trade or business in the Philippines, is taxable only on income derived from sources within the Philippines. (NIRC of 1997, Sec. 23, arrangement and numbering supplied) **2. Currently we hear of the system of income taxation by basing the tax on the gross rather than on the net income. What do you understand by “gross income taxation”? SUGGESTED ANSWER: The gross income taxation in its general sense is the taxation of all income received without any deduction. The tax base, in gross income taxation in its broad sense, is the total gross income of an individual or corporation during the taxable year without any deductions allowed. The system of gross compensation income is considered valid because taxpayers may be classified into different categories. It is enough that the classification must rest upon substantial distinctions that make for real differences. Taxpayers who are recipients of compensation income are apart as a class because they are not entitled to make deductions as they practically have no overhead expense. On the other hand, in the case of professionals in the practice of their calling and businessmen, there is no 86 FREE PRE-WEEK NOTES TAXATION LAW uniformity in the costs or expenses necessary to produce their income. It would not be just to disregard the disparities by giving all of them zero deductions and indiscriminately impose an all alike the same tax rates on the basis of gross income. (Sison, Jr. v. Ancheta, 130 SCRA 654, 665-5) **3. In general, on what does the taxability of income depend as regards individuals and corporations? Explain your answer, citing the incomes taxable under our Income Tax Law. SUGGESTED ANSWER: In general, the taxability of income, as regards individuals and corporations, depends upon the: a. Domiciliary theory. The location where the income earner resides is the situs of taxation for the reason that it is there where he is given protection; hence, he must support it. b. Nationality theory. The country where the income earner is a citizen is the situs of taxation because a citizen is given protection by his country no matter where he is found or no matter where he earns his income. He is therefore obligated to support that country, in exchange for the protection he receives. The principle of mobilia sequuntur personam may likewise apply as income taxation laws of his country follow the citizen no matter where he is found. This applies to resident citizens on their incomes derived from sources without the Philippines. c. Source. The country which is the source of the income is where the activity that produced the income took place. This is the situs of taxation and not the place where the money originated. The money may come from one place but if that is not where the activity that produced the income, then it is not the source of the income for tax purposes. HYPOTHETICAL BAR REVIEW QUESTIONS & ANSWERS 87 The important factor which determines the source of income of personal services is not the residence of the payor, or the place where the contract for service is entered into, or the place of payment, but the place where the services were actually performed. Prescinding from the above, the basis for taxability of income depends on the following: a. As regards individuals, the taxability of income depends upon: 1) citizenship; or 2) residence of the recipient; or 3) the place where such income is derived. b. With respect to corporations, the taxability of income depends upon; 1) whether the corporation is a domestic or a foreign corporation; 2) whether the foreign corporation is a resident or nonresident. Author’s observation. The question based on an actual Bar question is unfair. It should be noted that the answer is rather lengthy and could not be written within the time limitation for answering Bar questions. It is suggested that the reader should be able to come up with a short summarization. ***4. Atty. Mary created an irrevocable trust in favor of her two minor children. The trust stipulates that 50% of the net income should be distributed yearly to the children, share and share alike, the balance to accumulate for eventual distribution to the children at age 25. The income for 2020 was P1 million. a) How will the income of the trust be taxable? 88 FREE PRE-WEEK NOTES TAXATION LAW SUGGESTED ANSWER: The trust created by Atty. Mary is irrevocable in character, but only 50% of the income is distributable. In this case the amount that is not distributed is not allowed to be deductible from the gross income of the trust in order to arrive at income subject to tax. The amount that is not distributed, is taxed in the same manner as individual citizens and resident alien individuals. It shall be subject to the same exclusions, itemized deductions and tax rates with the following qualifications: 1) allowed to use standard optional deduction, [NIRC of 1997, Sec. 34 (L)] 2) in addition to the itemized deductions the trust may deduct (a) the amount of income for the taxable year distributed currently by the fiduciary to the beneficiaries [Ibid., Sec. 61 (A)]; (b) the amount of the income collected by the guardian of an infant which is to be held or distributed as the court may direct (Ibid.); (c) the amount of income properly credited to the beneficiaries. [Ibid., Sec. 61 (B)] b) Will your answer remain the same if the trust established by Atty. Mary is revocable ? SUGGESTED ANSWER: No. The income which is part of a revocable trust shall be included in computing the net income of Atty. Mary, the grantor. (NIRC of 1997, Sec. 63) c) When is a trust considered revocable ? SUGGESTED ANSWER: A trust is considered as revocable where at any time the power to revest in the grantor title to any part of the corpus of the trust is vested (1) in the grantor either alone or in conjunction with any HYPOTHETICAL BAR REVIEW QUESTIONS & ANSWERS 89 person not having a substantial adverse interest in the disposition of such part of the corpus or the income therefrom, or (2) in any person not having a substantial adverse interest in the disposition of such part of the corpus or the income therefrom. (NIRC of 1997, Sec. 63) **5. Who are the taxpayers who are allowed to use only the calendar year and not the fiscal year ? Which among the following taxpayers is required to use only the calendar year for tax purposes? SUGGESTED ANSWER: Taxpayers other than corporations, such as natural persons, estates, trusts, general professional partnerships and a joint venture or consortium formed for the purpose of undertaking construction projects or engaging in petroleum, coal, geothermal and other energy operations pursuant to an operating consortium agreement under a service contract with the Government. [NIRC of 1997, Sec. 22 (B), 1st sentence] **6. What kinds of taxpayers have the option to use either the calendar or fiscal years ? SUGGESTED ANSWER: Only corporations as defined under the NIRC of 1997 have the option use either the calendar or the fiscal years. Corporations, as defined under the NIRC of 1997, include not only corporations as defined and organized under the provisions of the Corporation Code, but also “partnerships, no matter how created or organized, joint-stock companies, joint accounts (cuentas en participacion), association, or insurance companies, but does not include general professional partnerships and a joint venture or consortium formed for the purpose of undertaking construction projects or engaging in petroleum, coal, geothermal and other energy operations pursuant to an operating consortium agreement under a service contract with the Government.” [NIRC of 1997, Sec. 22 (B), 1st sentence] 90 FREE PRE-WEEK NOTES TAXATION LAW **7. May an individual taxpayer change his/her accounting period? Why? SUGGESTED ANSWER: No. Only a corporation may change its accounting periods but always subject to the approval of the Commissioner of Internal Revenue and compliance with the requirements for filing returns for short period resulting from change of accounting period. (NIRC of 1997, Sec. 46, paraphrasing supplied) An individual taxpayer cannot change his/her accounting period because he/she is allowed only one, the calendar year. **8. Define income for tax purposes. SUGGESTED ANSWER: Income may be defined as “an amount of money coming to a person or corporation within a specified time, whether as payment for services, interest or profit from investment. Unless otherwise specified, it means cash or its equivalent. Income can also be thought of as a flow of the fruits of one’s labor.” [Association of NonProfit Clubs, Inc. (ANPC), etc. v. Bureau of Internal Revenue (BIR), etc., G.R. No. 228539, 26 June 2019] **9. The Bureau of Internal Revenue (BIR) issued Revenue Memorandum Circular (RMC) No. 65-2012 imposing Value-Added Tax (VAT) on association dues and membership fees collected by condominium corporations from its member condominium-unit owners. The RMC’s validity is challenged before the Supreme Court (SC) by the condominium corporations. The Solicitor general, counsel for BIR, claims that association dues, membership fees, and other assessment/charges collected by a condominium corporation are subject to VAT since they constitute income payments or compensation for the beneficial services it provides to its members and tenants. HYPOTHETICAL BAR REVIEW QUESTIONS & ANSWERS 91 On the other hand, the lawyer of the condominium corporations argues that such fees are merely held in trust by the condominium corporations exclusively for their members and used solely for administrative expenses in implementing the condominium corporations’ purposes. Accordingly, the condominium corporations do not actually render services for a fee subject to VAT. Whose argument is correct? Decide. SUGGESTED ANSWER The argument condominium corporation’s lawyer is correct. of the The condominium is not engaged in business which is a “trade or commercial activity regularly engaged in as a means of livelihood or with a view to profit.” (Yamane , etc. v. BA Lepanto Condominium Corporation, G.R. No. 154993, October 25, 2005) Thus, the association dues, membership fees, and other assessments/charges are not income payments which constitutes “yearly profits arising from property, professions, trades or offices, or as a tax on a person’s income, emoluments, profits and the like.” (Ibid.) **10. Are membership fees, assessment dues, and other fees of similar nature in recreational non-profit clubs considered as income for tax purposes? SUGGESTED ANSWER: No. They only constitute contributions to and/or replenishment of the funds for the maintenance and operations of the facilities offered by recreational clubs to their exclusive members. “They represent funds “held in trust” by these clubs to defray their operating and general costs and hence, only constitute infusion of capital. Case law provides that in order to constitute ‘income,’ there must be realized ‘gain.’ Clearly, because of the nature of membership fees and assessment dues as funds inherently dedicated for the maintenance, preservation, 92 FREE PRE-WEEK NOTES TAXATION LAW and upkeep of the clubs’ general operations and facilities, nothing is to be gained from their collection. This stands in contrast to the fees received by recreational clubs coming from their income-generating facilities, such as bars, restaurants, and food concessionaires, or from incomegenerating activities, like the renting out of sports equipment, services, and other accommodations. In these latter examples, regardless of the purpose of the fees’ eventual use, gain is already realized from the moment they are collected because capital maintenance, preservation, or upkeep is not their predetermined purpose. As such, recreational clubs are generally free to use these fees for whatever purpose they desire and thus, considered as unencumbered ‘fruits’ coming from a business transaction. “In fine, for as Iong as these membership fees, assessment dues, and the like are treated as collections by recreational clubs from their members as an inherent consequence of their membership, and are, by nature, intended for the maintenance, preservation, and upkeep of the clubs’ general operations and facilities, then these fees cannot be classified as ‘the income of recreational clubs from whatever source’ that are ‘subject to income tax.’ Instead, they only form part of capital from which no income tax may be collected or imposed.” [Association of NonProfit Clubs, Inc. (ANPC), etc. v. Bureau of Internal Revenue (BIR), etc., G.R. No. 228539, 26 June 2019, reierated in Commissioner of Internal Revenue v. Federation of Golf Clubs of the Philippines, Inc. (FEDGOLF), G.R. No. 226449, July 28, 2020] “It is a well-enshrined principle in our jurisdiction that the State cannot impose a tax on capital as it constitutes an unconstitutional confiscation of property.” (Ibid.) **11. Mr. Matola bought his residential house and lot in 2004 for P1 Million. In 2021, curious as to how much his property is then valued, he asked a real estate broker to reappraise the same. The real estate broker reported that the value of his property has increased to P3 Million. HYPOTHETICAL BAR REVIEW QUESTIONS & ANSWERS 93 Should Mr. Matola report the P2 Million increase in his income tax return for the year 2021 ? Reasons. SUGGESTED ANSWER: No. The P2 Million increase in the value of the residential house and lot is not considered as income reportable as income of Mr. Cruz because such increase has not yet been received by Mr. Cruz, either physically or constructively. Besides, capital gains of individuals on dispositions of real property are subject to a final tax, the presumed capital gains tax. Consequently, increases in valuation are not reported in the income tax return. Increases in valuation of real property are not subject to income tax, hence not reportable in the income tax return. NOTE NOT PART OF THE ANSWER: The appropriate return to be filed is the capital gains tax return, once the real property considered as capital asset is disposed, whether the seller made a profit or not. **12. In 2010, Corporation “X” had a capital stock of 1,000 shares without par value. At the time of its incorporation, the value of each no-par value share was P10. In 2020, due to its profitable operations, the corporation earned a surplus of P200,000.00. The corporation’s board of directors increased the stated value of each share by P190 making each share worth P200. The Bureau of Internal Revenue, for income tax purposes, assessed each stockholder for the P190 increase. Is the Bureau correct? Explain. (1989, dates and amounts supplied) SUGGESTED ANSWER: No. The stockholders have not physically or constructively received any income subject to tax. There was no change in the proportion of their ownership in the corporation considering that the shares of stock are without par value. Furthermore, there was no realization of the income through the change in stated value. When the stockholder 94 FREE PRE-WEEK NOTES TAXATION LAW disposes of the shares, then the same would be subject to capital gains taxes. **13. What is the “all events test”? Explain briefly. SUGGESTED ANSWER: The “all events test” is a test to determine when income or liability is to be accrued. An item that is reasonably ascertained as to amount and acknowledged to be due has “accrued”; actual payment is not essential to constitute “expense.” [Commissioner of Internal Revenue v. Isabela Cultural Commission, 544 Phil. 488 (2007)] Stated otherwise, an expense is accrued and deducted for tax purposes when a. the obligation to pay is already fixed; b. the amount can be determined with reasonable accuracy; and c. it is already knowable or the taxpayer can reasonably be expected to have known at the closing of its books for the taxable year. (Ibid.) **14. CHED Corporation engaged the services of the ABOGADO Law Firm in 2019 to defend the corporation’s title over a property used in the business. For the legal services rendered in 2020, the law firm billed the corporation only in 2021. The corporation duly paid. CHED Corporation claimed this expense as a deduction from gross income in its 2021 return, because the exact amount of the expense was determined only in 2021. Is YYY’s claim of deduction proper ? Reasons. SUGGESTED ANSWER: No. Since CHED is a corporation, it should be using the accrual method. As such, it should have recognized the expense in 2019 when the amount of legal services was agreed upon. HYPOTHETICAL BAR REVIEW QUESTIONS & ANSWERS 95 It was in 2019 that the liability to pay the attorney’s fees was fixed as well as the availability of the reasonable accurate determination of such liability. (Commissioner of Internal Revenue v. Isabela Cultural Commission, G.R. No. 172231, February 12 2007) ***15. TOBAGO Engineering Co., Inc. (TECI) is a Philippine corporation engaged in architectural design, engineering, and construction work. Its principal office is located in Bonifacio Global City (BGC), but it has various infrastructure projects in the country and abroad. Thus, TECI employs both local and foreign workers. The company has adopted a policy that the employees’ salaries are paid in the currency of the country where they are assigned or detailed. Below are some of the employees of TECI. Determine whether the compensation they received from TECI in 2021 is taxable under Philippine laws and whether they are required to file tax returns with the Bureau of Internal Revenue (BIR). (a) Rodrigo Gumal, a Filipino accountant in TECI’s Tax Department in the BGC office, and married to a Filipino engineer also working in TECI. SUGGESTED ANSWER: Rodrigo is required to file an income tax return on his income because he is a Filipino citizen residing in the Philippines if TECI has failed to withhold the correct income taxes or that his pure compensation income derived from sources within the Philippines exceeds P60,000.00. [NIRC of 1997, Sec. 51 (A) (1)] ALTERNATIVE ANSWER: Rodrigo’s compensation he received as an accountant in TECI’s Tax Department in the BGC Office is taxable under Philippine law. This is so, because he is a citizen of the Philippines residing therein hence he is taxable on all income derived from sources within the Philippines. The situs of income taxation is the 96 FREE PRE-WEEK NOTES TAXATION LAW place where the service was rendered, which in this case, is the Philippines [NIRC of 1997, Sec. 23 (A)] If Rodrigo received purely compensation income from TECI who is his single employer and the latter, has withheld correctly the income tax due from Rodrigo (tax due equals tax withheld) from his income for the calendar year Rodrigo shall not be required to file an annual income tax return. The certificate of withholding filed by TECI, duly stamped ‘received’ by the BIR, shall be tantamount to the substituted filing of income tax returns by Rdorigo. (NIRC of 1997, Sec. 51-A, as inserted by the TRAIN) However, if TECI, Rodrigo’s single employer has failed to withhold the correct income tax due from Rodrigo, he being a Filipino citizen would then be required to file an income tax return regardless of the amount of his gross income because he is engaged in the practice of his profession as an accountant. (Ibid., SEc. 51 (A) (2) (a) as amended by the TRAIN) (b) Adolf Dietrich, a German national who heads TECl’s Design Department in its BGC office. SUGGESTED ANSWER: Dietrich’s compensation he received as the head of TECI’s Design Department in the BGC Office is taxable under Philippine law because he is an alien individual resident of the Philippines and is taxable on income derived from sources within the Philippines. [NIRC of 1997, Sec. 23 (D)] The situs of income taxation is the place where the service was performed, in this case, the Philippines. If Dietrich received purely compensation income from TECI who is his single employer and the latter, has withheld correctly the income tax due from Dietrich (tax due equals tax withheld) from his income for the calendar year he shall not be required to file an annual income tax return. The certificate of withholding filed by TECI, duly stamped ‘received’ by the BIR, shall be tantamount to the HYPOTHETICAL BAR REVIEW QUESTIONS & ANSWERS 97 substituted filing of income tax returns by Dietrich. (NIRC of 1997, Sec. 51-A, as inserted by the TRAIN) However, if TECI, Dietrich’s single employer has failed to withhold the correct income tax due from Dietrich, he being a resident alien, would then be required to file an income tax return because he earns income from within the Philippines. [Ibid., Sec. 51 (A) (4) (c)] ALTERNATIVE ANSWER: However, if TECI, Dietrich’s single employer, has failed to withhold the correct income tax due from Dietrich, he being a resident alien, would then be required to file an income tax return because he earns income from within the Philippines. [Ibid., Sec. 51 (A) (4) (c)] (c) Gabby Francisco, a Filipino engineer in TECI’s Design Department who was hired to work at the principal office last January 2021. In April 2021, he was assigned and detailed in the company’s project in Riyadh, Saudi Arabia, which project is expected to be completed in April 2023. SUGGESTED ANSWER: Gabby’s compensation for the whole taxable year 2021 is not subject to tax under Philippine law because he is an individual citizen of the Philippines who is working and deriving income from abroad in Riyadh, Saudi Arabia as an ”overseas contract worker” which employment thereat requires him to be physically present abroad most of the time during the taxable year from April 2021 up to end December 2021. [NIRC of 1997, Sec. 23 (C)] Since the basis for income taxation is the calendar year, it is as if he earned all of his income from without the Philippines. A non-resident citizen like Gabby is required to file an income tax return only on income derived from sources within the Philippines. [NIRC, Sec. 51A (4)(b)] Since his income, including his pay prior to his assignment and detail abroad, is considered income derived from sources outside 98 FREE PRE-WEEK NOTES TAXATION LAW the Philippines, he is not required to file an income tax return on such income. There is likewise no showing that he earned income from Philippine sources. (d) Aaron Antonis is also an engineer assigned to TECI’s project in Taipei, Taiwan. Since TECI provides for housing and other basic needs, Aaron requested that all his salaries, paid in Taiwanese dollars, be paid to his wife in Manila in its Philippine Peso equivalent. SUGGESTED ANSWER: Aaron’s compensation is not taxable under Philippine laws since he is an individual citizen of the Philippines who is working and deriving income from abroad in Taipei, Taiwan as an overseas contract worker hence he is taxable only on income derived from sources within the Philippines. [NIRC of 1997, Sec. 23 (C)] The fact that his compensation is paid to his wife does not matter because the situs of income taxation is where the service that earned him the income was performed. A non-resident citizen like Aaron is required to file an income tax return only on income derived from sources within the Philippines. [NIRC, Sec. 51A (4)(b)] Since his income was derived from sources outside the Philippines, he is not required to file an income tax return on such income. (e) Fil-Am de Castro, is a Filipino architect in TECl’s Design Department who reported back to TECl’s BGC office in August 2021 after TECI’s project in Belfast, Ireland was completed. SUGGESTED ANSWER: Fil-Am’s compensation earned for the period 2021 is not subject to tax under Philippine Law because she is an individual citizen of the Philippines who is working and deriving income from abroad in Belfast, Ireland as an overseas contract worker which employment thereat requires her to be physically HYPOTHETICAL BAR REVIEW QUESTIONS & ANSWERS 99 present abroad most of the time during the taxable year 2021. [NIRC of 1997, Sec. 23 (C)] Since the basis for income taxation is the calendar year, it is as if he earned all of her income from without the Philippines. A non-resident citizen like Fil-Am is required to file an income tax return only on income derived from sources within the Philippines. [NIRC, Sec. 51A (4)(b)] Since her income, including her pay prior to her return from abroad, is considered income derived from sources outside the Philippines, she is not required to file an income tax return on such income. **16. ABC, a domestic corporation, entered into a software license agreement with XYZ, a non-resident foreign corporation based in the U.S. Under the agreement which the parties forged in the U.S., XYZ granted ABC the right to use a computer system program and to avail of technical know-how relative to such program. In consideration for such rights, ABC agreed to pay 5% of the revenues it receives from customers who will use and apply the program in the Philippines. Discuss the tax implications of the transaction. SUGGESTED ANSWER: The 5% payment is considered royalty income of XYZ, a non-resident foreign corporation, derived from sources within the Philippines subject to Philippine income taxation. ABC should therefore withhold the appropriate taxes before remitting the same to XYZ. The 5% payment is considered as a royalty because it is paid for the use of or the right or privilege to use in the Philippines XYZ’s computer system program which is presumably covered by a copyright or patent as well as the supply of technical know-how that is ancillary and 100 FREE PRE-WEEK NOTES TAXATION LAW subsidiary to, and is furnished as a means of enabling the application or enjoyment of the computer system program. Since the service is rendered within the Philippines, it is considered as income derived from the Philippines of a non-resident foreign corporation. [NIRC of 1997, Sec. 42 (A) (4)] Consequently, the royalty income is subject to a final tax of 20% based on the amount to be remitted to XYZ. [Ibid., Sec. 28 (B) (1), as amended by the TRAIN] **17. TEXECANA Co. is a U.S.A. corporation not doing business in the Philippines. It holds 40% of the shares of ABRA Co., a Philippine company while the 60% is owned by PALAWAN Co., a Filipino-owned Philippine corporation. TEXECANA Co. also owns 100% of the shares of BALI Co., an Indonesian company which has a duly licensed Philippine branch. Due to worldwide restructuring of the TEXECANA Co. group, resulting from the COVID Pandemic, it decided to sell all its shares in ABRA and BALI Cos. The negotiations for the buy-out and the signing of the Agreement of Sale were all done in the Philippines. The Agreement provides that the purchase price will be paid to TEXECANA Co.’s bank account in the U.S. and that title to ABRA and BALI Cos. shares will pass from TEXECANA Co. to PALAWAN Co. in U.S.A. where stock certificates will be delivered. PALAWAN Co. seeks your advice as to whether or not it will subject the payments of the purchase price to withholding tax. Explain your advice. SUGGESTED ANSWER: Yes. The payments of the purchase price will be subject to withholding tax. TEXECANA Co., being a foreign corporation is to be taxed on its income derived from sources within the Philippines. Considering that all the activities (including the consummation of the sales) occurred within the Philippines, HYPOTHETICAL BAR REVIEW QUESTIONS & ANSWERS 101 the income is considered as income from within, subject to Philippine income taxation Furthermore, The gains derived from the sale of shares in ABRA Co., a domestic corporation, anywhere in the world, is considered as income from within because the shares are considered as having a business situs in the Philippines. Since domestic corporations are organized and existing by virtue of Philippine law, they are given protection by the Philippine government. Thus, their shares of stock have obtained a business situs in the Philippines. [NIRC of 1997, Sec. 42 (E), 4th pars., in relation to Sec. 42 (A) (6)] FRINGE BENEFITS TAX AND DE MINIMIS BENEFITS **1. As a way to augment the income of the employees of DEF, Inc., a private corporation, the management decided to grant a special stipend of P50,000.00 for the first vacation leave that any employee takes during a calendar year. (a) Is the special stipend part of the taxable income of the employees receiving the same? If so, what tax is applicable and what is the tax rate? Explain. SUGGESTED ANSWER: It depends on the nature and character of the employee. If the employee is not a managerial employee, but a rank and file employee, then the special stipend would be part of his taxable income subject to the schedular rate. If the employee is a managerial employee, and not a rank and file employee, then the special stipend is not part of his taxable income but subject to the fringe benefit tax which is a final tax of 35% based on the grossed-up monetary value. (NIRC of 1997, sec. 33) 102 FREE PRE-WEEK NOTES TAXATION LAW (b) Is the cash equivalent value of the housing facilities received by the senior engineers subject to fringe benefits tax ? Explain. SUGGESTED ANSWER: No. Since the purpose of housing is to make available engineers every time there is breakdown which is for the convenience of the employer then it is not a fringe benefit subject to the payment of the fringe benefits tax. **2. What are de minimis benefits and how are they taxed? Give examples of de minimis benefits. SUGGESTED ANSWER: De minimis benefits are ordinarily facilities and privileges (such as entertainment, medical services, or so-called “courtesy discounts” on purchases) of small amounts, furnished or offered by an employer to his employees. They “are not considered as compensation subject to income tax and consequently to withholding tax, if such facilities are offered or furnished by the employer merely as a means of promoting the health, goodwill, contentment, or efficiency of his employees.” [Rev. Reg. No. 2-98, Sec. 2.78,1 (A) (3), as amended by Rev. Reg. No. 8-2000] De minimis benefits are NOT subject to tax on compensation income as well as withholding tax on compensation income of both managerial and rank and file employees. The amount of de minimis benefits conforming to the ceiling herein prescribed shall not be considered in determining the P90,000 ceiling of “other benefits” excluded from gross income under Section 32 (B) (7) (e) of the Code, as amended by the TRAIN, Provided that, the excess of the de minimis benefits over their respective ceilings prescribed by these regulations shall be considered as part of ‘other benefits’ and employee receiving it will be subject to tax only on the excess over P90,000.00 ceiling, provided, further, that MWEs receiving ‘other benefits’ exceeding the P90,000.00 limit shall HYPOTHETICAL BAR REVIEW QUESTIONS & ANSWERS 103 be taxable on the excess benefits, as well as on his salaries, wages and allowances, just like an employee receiving compensation income beyond the SMW. The term ‘de minimis’ benefits which are exempt from the fringe benefits tax shall include the following: “(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 exceeding P5,000.00 per annum; allowance not (e) Actual yearly medical exceeding P10,000.00 per annum; benefits not (f) Laundry allowance not exceeding P300 per month; (g) Employees achievement awards, e.g. for length of service or 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 an 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 per employee per annum; 104 FREE PRE-WEEK NOTES TAXATION LAW (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.” [Rev. Reg. 3-98, Sec. 2.33 (C), last par., as amended by Rev. Reg. No. 10-2000, Rev. Reg. No. 5-2008; Rev. Reg. No. 5-2011; and Rev. Reg. No. 8-2012) Benefits received by an employee by virtue of a collective bargaining agreement (CBA) and productivity incentive schemes, provided that the total annual monetary value received from both CBA and productivity incentive schemes combined do not exceed P10,000 per employee per taxable year. (Rev. Reg. 2-98, Sec. 2.78.1 (A) (3), as amended by Rev. Reg. No. 8-2000, Rev. Reg. No. 5-2008, Rev. Reg. No. 10-2008, Rev. Reg. No. 5-2011, and Rev. Reg. No. 8-2012, amount adjusted by the author to conform with the increase provided for in the TRAIN] *13. A fringe benefit is defined as being any good, service or other benefit furnished or granted in cash or in kind by an employer to an individual employee. Would it be the employer or the employee who is legally required to pay an income tax on it ? Explain. SUGGESTED ANSWER: The employer should pay the tax. It is a final tax subject to withholding. As such, the obligation devolves upon the withholding agent, in this case the employer to collect the tax from itself. **14. Mr. Psalmir is an executive of Baldago Corporation. Aside from his salary, his employer provides him with the following benefits: the free use of a residential house in an exclusive subdivision, free use of limousine and membership in a country club where he can entertain customers of the corporation. HYPOTHETICAL BAR REVIEW QUESTIONS & ANSWERS 105 Which of these benefits, if any, must Mr. Psalmir report as income ? Explain. SUGGESTED ANSWER: None. All are subject to the fringe benefits tax, except the value of the use of the country club which is not taxable as it is for the convenience of the corporation. The fringe benefits tax is a final tax, hence the items that are subject to it are not reportable anymore as income in the annual income tax return. 15. What is the tax treatment of the 13th month pay and de minimis benefits ? SUGGESTED ANSWER: The 13th month pay that does not exceed P90,000.00 is excluded from gross income, hence not to be included in the annual income tax return. Any amounts exceeding P90,000.00 should be included in the preparation of the annual income tax returns as part of gross compensation income, subject to tax. [NIRC of 1997, Sec. 32 (B) (7) (e), as amended by Rep. Act No. 10653, and the TRAIN paraphrasing supplied] De minimis benefits are not to be included in the preparation of annual income tax returns because they are not subject to income taxation. INCOME FROM WITHIN AND INCOME FROM WITHOUT THE PHILIPPINES ***1. A Co., a Philippine corporation, has an executive (P) who is a Filipino citizen. A Co. has a subsidiary in Hong Kong (HK Co.) and will assign P for an indefinite period to work full time for HK Co. P will bring his family to reside in HK and will lease out his residence in the Philippines. The salary of P will be shouldered 50% by A Co. while the other 50% plus housing, cost of living and educational allowances of P’s dependents will be 106 FREE PRE-WEEK NOTES TAXATION LAW shouldered by HK Co. A Co. will credit the 50% of P’s salary to P’s Philippine bank account. P will sign the contract of employment in the Philippines. P will also be receiving rental income for the lease of his Philippine residence. Are these salaries, allowances and rentals subject to Philippine income tax? SUGGESTED ANSWER: The salaries and allowances of P, being derived from labor or personal services rendered outside of the Philippines is considered as income from without. Since P is an OCW, then he is to be taxed only on his income derived from within the Philippines such as the rentals on his Philippine residence, and not on his income from without. ***2. Ms. C, a resident citizen bought ready-towear goods from Ms. B, a non-resident citizen. a) If the goods were produced from Ms. B’s factory in the Philippines, is Ms. B’s income from the sale to Ms. C taxable in the Philippines ? Explain. SUGGESTED ANSWER: Yes. The income of Ms. B from the sale of ready-to-wear goods to Ms. C is taxable in the Philippines. B, being a non-resident citizen, is taxable only on income derived from sources within the Philippines. [NIRC of 1997, Sec. 23 (B)] Since, the goods are produced and sold within the Philippines, the income earned therefrom is considered as income from within, Consequently, B’s income is subject to tax within the Philippines. HYPOTHETICAL BAR REVIEW QUESTIONS & ANSWERS 107 ORDINARY ASSETS AND CAPITAL ASSETS AND THEIR GAINS AND LOSSES **1. Distinguish an ordinary asset from a capital asset. SUGGESTED ANSWER: The following are the distinctions between an ordinary asset and a capital asset: a. Nature. An ordinary asset is used in trade, business or exercise of a profession while a capital asset is not used in trade, business or exercise of a profession. b. Diminution in value. The diminution in value of an ordinary asset may be allowed as a deduction from gross income in the form of depreciation or otherwise while the diminution in value of a capital asset, in the form of depreciation, or otherwise is not allowed as a deduction from gross income because it is not used in trade, business or exercise of a profession. c. Taxability of income. The incomes derived from ordinary assets are subject to inclusion in the income tax return of the earner while In general, the incomes derived from the disposition of a capital asset, is subject to a final tax, hence not to be included anymore in the income tax return. d. Deductibility of losses. Ordinary losses arising from the use of ordinary assets, in trade, business or exercise of a profession may be deducted from capital gains while capital losses arising from disposition of a capital asset may only be deductible from a capital gain. e. Carry-over of losses. The concept of net operating loss carry-over finds application in the taxation of losses incurred from the transactions involving ordinary assets while it is the concept of the net loss carry-over that applies to losses incurred as a result of transactions involving capital assets. 108 FREE PRE-WEEK NOTES TAXATION LAW f. Period for carry-over of losses. The loss incurred from transactions involving ordinary assets may be carried over for a period of three (3) or five (5) years while the carry-over of losses suffered from the disposition of capital assets is only one (1) year. g. Holding period. The holding period never find application to the taxability of ordinary assets while the taxability of certain kinds of capital assets may be subject to the holding period. **2. Klaus, Inc., a domestic, VAT-registered corporation engaged in the land transportation business, owns a house and lot along Katipunan St., Quezon City. This property is being used by Klaus, lnc.’s president and single largest shareholder, Atty. Krimson, as his residence. No business activity transpires there except for the company’s Christmas party which is held there every December. Atty. Krimson recently grew tired of the long commute from Katipunan to his office in Makati City and caused the company to sell the house and lot. The sale was recorded in the books of Klaus, Inc. as investment in real property. Is the sale subject to 6% capital gains tax or regular corporate income tax of 30%? SUGGESTED ANSWER: The sale is not subject to the 6% capital gains tax but the gain derived from the sale is subject to the regular corporate income tax of 30% because the house and lot is an ordinary asset used in the trade of business of Klaus, Inc. The house and lot is an ordinary asset. It is real property used in the trade and business of Klaus, Inc.because it is being used by its President as his residence. [NIRC of 1997, Sec. 39 (A) (1); It should be noted that while the house and lot is an ordinary asset used in the trade and business of Klaus, HYPOTHETICAL BAR REVIEW QUESTIONS & ANSWERS 109 Inc., it is not part of the “Goods or properties” the sale, barter or exchange of which may be subject to VAT which include real properties held primarily for sale to customers or held for lease in the ordinary course of trade or business. [NIRC of 1997, Sec. 106 (A) (1)], 1st par.; Rev. Regs. No. 16-2005, Sec. 4.106-2] **3. GHI, Inc. is a corporation authorized to engage in the business of manufacturing ultra-high density microprocessor unit packages. After its registration on July 5, 2005, GHI, Inc. constructed buildings and purchased machineries and equipment. As of December 31, 2005, the total cost of the machineries and equipment amounted to P250,000,000.00. However, GHI, Inc. failed to commence operations. Its factory was temporarily closed effective September 15, 2010. On October 1, 2010, it sold its machineries and equipment to JKL Integrated for P300,000,000.00. Thereafter, GHI, Inc. was dissolved on November 30, 2010. (a) Is the sale of the machineries and equipment to JKL Integrated subject to normal corporate income tax or capital gains tax ? Explain. SUGGESTED ANSWER: The sale of the machineries and equipment, which are considered as ordinary assets because they were intended to be used in the trade and business of GHI, Inc., is the subject to the normal income tax rate. This despite the fact they were not actually used because GHI, Inc. failed to commence operations. *4. What is capital asset? Illustrate with an example. SUGGESTED ANSWER: The term “capital assets” means property held by the taxpayer (whether or not connected with his trade or business), BUT DOES NOT INCLUDE: FREE PRE-WEEK NOTES TAXATION LAW 110 a. Stock in trade of the taxpayer, or b. Other property of a kind which would properly be included in the inventory of the taxpayer if on hand at the close of the taxable year, or c. Property held by the taxpayer primarily for sale to customers in the ordinary course of his trade or business, or d. Property used in the trade or business, of a character which is subject to the allowance for depreciation; or real property used in the trade or business of the taxpayer. [NIRC of 1997, Sec. 39 (A) (1); Rev. Reg. No. 6-2008, Sec. 2 (u)] arrangement and numbering supplied] The following are examples of capital assets: a. Stock and securities held by taxpayers other than dealers in securities; b. Jewelry not used for trade and business; c. Residential houses and lands owned and used as such; d. Automobiles not used in trade and business; e. Paintings, sculptures, stamp collections, objects of arts which are not used in trade or business; f. Inherited large tracts of agricultural land which were subdivided pursuant to the government mandate under land reform, then sold to tenants. (Roxas v. Court of Tax Appeals, etc. L-25043, April 26, 1968) Improvements made on the property converts it to an ordinary asset. g. “Real property used by an exempt corporation in its exempt operations, such as a corporation included in the enumeration of Section 30 of the Code, shall not be considered used for business purposes, and therefore considered HYPOTHETICAL BAR REVIEW QUESTIONS & ANSWERS 111 as capital asset.” (Rev. Reg. No. 7-2003, Sec. 3.b, 3rd par., last sentence) h. “Real property, whether single detached, townhouse, or condominium unit, not used in trade or business as validated from the existing available records of the Bureau of Internal Revenue, owned by an individual engaged in business, shall be treated as capital asset. (Rev. Reg. No. 7-2003, Sec. 3.b., last par., as adjusted by the TRAIN) **5. Mr. Pedro Aguirre, a resident citizen, is working for a large real estate development company in the country and in 2019, he was promoted to VicePresident of the company. With more responsibilities comes higher pay. In 2020, he decided to buy a new car worth P2 Million and he traded in his old car with a market value of P800,000.00, and paid the difference of P1.2 Million to the car company. The old car, which was bought three (3) years ago by the father of Mr. Pedro Aguirre at a price of P700,000.00, was donated by him and registered in the name of his son. The corresponding donor’s tax thereon was duly paid by the father. a. What is the nature of the old car – capital asset or ordinary asset? Explain your answer. (2012, dates supplied) SUGGESTED ANSWER: The old car is in the nature of a capital asset because it is not used in trade of business of Mr. Aguirre. b. How much is the cost basis of the old car to Mr. Aguirre? Explain your answer. SUGGESTED ANSWER: The cost basis of the old car to Mr. Aguirre is the value paid for by his father at the time the donation was made. In this case, it is the value of P700,000.00 the price which the father paid for the car. FREE PRE-WEEK NOTES TAXATION LAW 112 *6. What does the term “ordinary income” include? SUGGESTED ANSWER: The term ordinary gain includes any gain from the sale or exchange of property which is not a capital asset or property. [NIRC of 1997, Sec. 22 (Z)] An example would be the gain derived from the sale of items held for sale in the ordinary course of business, such as the gains from the sale of automobiles by a car dealer. *7. What differentiates capital gains from ordinary gains? SUGGESTED ANSWER: distinctions: The following are the a. The source of capital gain is property not used in trade or business while the source of ordinary gain is property used in trade or business. b. Some types of capital gains are adjusted by the holding period, while the holding period does not find application to ordinary gains. c. From certain types of capital gains may be deducted ordinary losses, while only ordinary losses may be deducted from ordinary gains. d. The concept of net loss carryover applies to capital gains taxation, while the concept of net operating loss carryover applies to ordinary gains taxation. e. Generally no deductions are allowed from capital gains while deductions are usually allowed for ordinary gains. f. Generally capital gains are subject to final taxes, while this is not so with regard to ordinary gains; HYPOTHETICAL BAR REVIEW QUESTIONS & ANSWERS 113 g. The income from capital gains are not generally to be included in the annual income tax return, while ordinary income is to be included in the annual income tax return. NOTE NOT PART OF THE ANSWER: The capital gains derived from the sale, exchange or other disposition of capital assets which are not real property, nor shares of stock are “lumped” with ordinary income reportable in the income tax return. To this combined income would be deducted the optional standard or itemized deductions, if any, to arrive at income subject to tax. TAX-FREE EXCHANGES ***1. As of March 2012, Lucio, Susan, Ferdinand, and Pamela, the COs collectively, were the majority shareholders of Kareila Management Corporation (KAREILA), a domestic corporation engaged as managers, managing agents, consignor, concessionaire, or supplier of business engaged in the operation of hotels, supermarkets, groceries and the like. KAREILA had an authorized capital stock of P500,000,000.00, wherein 1,703,125 shares were subscribed and fully paid. The COs owned 99.9999% of the total subscribed shares while SY owned the remaining 0.0001%. The COs were also shareholders of Puregold Price Club, Inc. (PUREGOLD), a corporation organized under the Philippine laws and primarily engaged in the wholesale and retail of general merchandise. From PUREGOLD’s authorized capital stock of P3,000,000,000.00, 2,000,000,000.00 shares were subscribed and fully paid. The COs owned 66.55% of PUREGOLD’s total subscribed shares.] On March 27, 2012, PUREGOLD’s Board of Directors approved the issuance of 766,406,250 PUREGOLD common shares to the COs and SY in FREE PRE-WEEK NOTES TAXATION LAW 114 exchange for the transfer to PUREGOLD of KAREILA’s 1,703,125. On May 8, 2012, during PUREGOLD’s annual stockholders meeting, this exchange was approved by the stockholders representing two-thirds of PUREGOLD’s outstanding capital stock. On May 11, 2012, the COs and SY entered into a Deed of Exchange with PUREGOLD wherein they agreed to transfer all their KAREILA shares to PUREGOLD in exchange for its shares. Under the Deed of Exchange, the COs and SY each would receive four hundred fifty (450) PUREGOLD shares for every one (1) KAREILA share that they would transfer to PUREGOLD. Accordingly, PUREGOLD issued to the COSs and SY a total of 766,406,250 PUREGOLD shares from the unissued portion of its authorized capital stock in exchange for the 1,703,125 KAREILA shares: As a result of the share swap under the Deed of Exchange: 1. PUREGOLD acquired majority ownership of KAREILA; and, 2. The COs who, prior to the share swap, already collectively owned 66.5720% of the outstanding capital stock of PUREGOLD consequently increased their stockholdings to 75.8329% after the swap: Is the exchange subject to tax ? SUGGESTED ANSWER: No. The “requisites for the non-recognition of gain or loss are as follows: (a) the transferee is a corporation; (b) the transferee exchanges its shares of stock for property/ies of the transferor; (c) the transfer is made by a person, acting alone or together with others, not exceeding four persons; and, (d) as a result of the exchange the transferor, alone or together with others, HYPOTHETICAL BAR REVIEW QUESTIONS & ANSWERS 115 not exceeding four, gains control of the transferee.” (Commissioner of Internal Revenue v. Co, G.R. No. 241424, February 26, 2020) It is not necessary that, after the exchange, each of the transferors individually gains control of the transferee corporation. Also not prohibited are instances when the transferor gains further control of the transferee corporation. The element of control is satisfied even if one of the transferors is already owning at least 51% of the shares of the transferee corporation, as long as after the exchange, the transferors, not more than five, collectively increase their equity in the transferee corporation by 51% or more.” (Ibid.) The share swap transaction between the COs and PUREGOLD is covered the rules on tax-free exchange because after the exchange, the COs collectively increased their control over PUREGOLD from 66.57% to 75.83%. Accordingly, the COs cannot be held liable for income taxes on the supposed gain which may have resulted from such transfer. (Ibid.) ***2. B transferred his ownership over a 1,000square meter commercial land and three-door apartment to ABC Corp., a family corporation of which B is a stockholder. The transfer was in exchange of 10,000 shares of stock of ABC Corp. As a result, B acquired 51% ownership of ABC Corp., with all the shares of stock having the right to vote. B paid no tax on the exchange, maintaining that it is a tax avoidance scheme allowed under the law. The Bureau of Internal Revenue, on the other hand, insisted that B’s alleged scheme amounted to tax evasion. Should B pay taxes on the exchange ? Explain. SUGGESTED ANSWER: No. B is not liable for any taxable gain on the exchange. 116 FREE PRE-WEEK NOTES TAXATION LAW The transaction is an exchange solely in kind exchanging property (land and the apartment) for property(the shares of stock). Thus, no gain is recognized as the property transferred to ABC Corp. by B in exchange for the shares of stocks resulting to B’s gaining control of ABC Corp. because he acquired ownership of 10,000 or more than 50% ownership of ABC Corp. ALTERNATIVE ANSWER: No. There is no taxable gain arising from the exchange solely in kind exchanging land and an apartment for shares of stock. No gain or loss shall be recognized when B transferred the 1,000-square meter parcel of land and apartment building to ABC Corp. by a person in exchange for stock in such a corporation of which as a result of such exchange said B, alone gained control of said corporation. [NIRC of 1997, Sec. 40 (C), paraphrasing supplied) PASSIVE INVESTMENT INCOME ***1. What is the manner of taxation of any peso currency bank deposit and yield or any other monetary benefit from deposit substitutes and from trust funds and similar arrangements derived from sources within the Philippines ? SUGGESTED ANSWER: A final tax at the rate of twenty percent (20%) is hereby imposed upon the amount of interest from any peso currency bank deposit and yield or any other monetary benefit from deposit substitutes and from trust funds and similar arrangements derived from sources within the Philippines. [NIRC of 1997, Sec. 24 (B) (1)] **2. What is the tax treatment of interest income of a domestic commercial bank derived from a peso loan to a domestic corporation in 2021? HYPOTHETICAL BAR REVIEW QUESTIONS & ANSWERS 117 SUGGESTED ANSWER: It shall be subject to 30% corporate income tax rate bcause the interest income is derived from the regulat business of a domestic commercial bank. **3. State with reasons the tax treatment of the following in the preparation of annual income tax returns: a. interest earned from the peso deposits with BDO Bank, a domestic commercial bank. SUGGESTED ANSWER: The interests earned on peso deposits with BDO Bank should not be reported in the income tax returns because they are subject to a final tax. b. Interest on deposits with a local offshore banking unit of a foreign bank. SUGGESTED ANSWER: The interests on deposits with a local offshore banking unit of a foreign bank is not to be reported in the tax returns. If the interest was paid to a resident Filipino citizen or alien, it is not to be reported because a final tax is collected upon such interest. Upon the other hand, if the interest was paid to a nonresident, whether individuals or corporations, no report in the income tax return shall be made because it is exempt from income tax. [NIRC of 1997, Sec. 28 (A) (4), last sentence] **4. What is the tax treatment of dividends on life insurance received during a taxable year? Explain your answer briefly. SUGGESTED ANSWER: The dividends on life insurance do not fall under taxable income. Such dividends are not dividends, in the accepted and ordinary sense of the word, but represent an excess premium or surcharge paid by the policy holder, and then FREE PRE-WEEK NOTES TAXATION LAW 118 returned to him, without interest, less the costs attendant on collection and administration and various other deductions. (Commissioner of Internal Revenue v. The Insular Life Assurance Company, Ltd., CA-G.R. SP No. 46516, September 29, 1998) Such dividends are strictly speaking, not profits as in the case of an ordinary corporation, but really constitute a return to the policy holder of the amount he has been overcharged for his insurance. (Ibid.) **5. MIGGY Corp. secured an income tax holiday for 5 years as a pioneer industry. On the fourth year of the tax holiday, MIGGY Corp. declared and paid cash dividends to its stockholders, all of whom are individuals. Are the dividends taxable? SUGGESTED ANSWER: Yes. The dividends are taxable because the tax exemption of MIGGY Corp. does not extend to its stockholders. (Sunio v. NLRC, G.R. No. L-57767, January 31, 1984) ***6. BARAKO, Inc. a domestic corporation enjoyed a particularly profitable year in 2020. In June 2021, its Board of Directors approved the distribution of cash dividends to its stockholders. BARAKO, Inc. has individual and corporate stockholders. What is the tax treatment of the cash dividends received from BARAKO, Inc. by the following stockholders. a) American citizen. SUGGESTED ANSWER: A final withholding tax for ten percent (10%) shall be imposed upon the cash dividends actually or constructively received from BARAKO, Inc. a domestic corporation if the American citizen is a resident alien. [NIRC of 1997, Sec. 24 (B)(2), as retained by the TRAIN] b) Resident Filipino citizen. HYPOTHETICAL BAR REVIEW QUESTIONS & ANSWERS 119 SUGGESTED ANSWER: They are subject to a final tax of ten percent (10%) on the gross amount of the dividends. [Ibid,] c) Non-resident business. alien engaged in trade or SUGGESTED ANSWER: A final withholding tax of twenty percent (20%) shall be imposed upon the cash dividends actually or constructively received by a nonresident alien engaged in trade or business from BARAKO, Inc., a domestic corporation. [NIRC of 1997, Sec. 25 (A)(2)] d) Non-resident alien not engaged in trade or business. SUGGESTED ANSWER: A final withholding tax equal to twenty-five percent (25%) of the entire income received from all sources within the Philippines, including the cash dividends received from BARAKO, Inc. [NIRC of 1997, Sec. 25 (B)] e) Domestic corporation. SUGGESTED ANSWER: Dividends received by a domestic corporation from another domestic corporation, such as BARAKO, Inc. shall not be subject to tax. [NIRC of 1997, Sec. 27 (D)(4)] f) Non-resident foreign corporation. SUGGESTED ANSWER: Dividends received by a non-resident foreign corporation from a domestic corporation are generally subject to an income tax of 30% to be withheld at source. [NIRC of 1997, Sec. 28 (B)(1), as amended by Rep. Act No. 9337] However, a final withholding tax of fifteen percent (15%) is imposed on the amount of cash dividends received from a domestic corporation like BARAKO, Inc. If the country in which the non-resident foreign corporation is 120 FREE PRE-WEEK NOTES TAXATION LAW domiciled would allow as tax credit against the tax due from it, taxes deemed paid in the Philippines of 15% representing the difference between the 30% regular income tax rate and the 15% preferential rate. [NIRC of 1997, Sec. 28 (B)(5)(b),as amended by Rep. Act No. 9337] NOTE NOT PART OF THE ANSWER: In all of the above instances the cash dividends are not reportable in the income tax return because they are either exempt or subjected to a final tax. *7. On 03 January 2020, Randy, a Filipino citizen residing in the Philippines, purchased one hundred (10) shares in the capital stock of ABC Corporation, a domestic corporation. On 03 January 2022, ABC Corporation declared, out of the profits of the company earned after 01 January 2020, a hundred percent (100%) stock dividends on all stockholders of record as of 31 December 2021 as a result of which Randy’s holding in ABC Corporation became two hundred (200) shares. Are the stock dividends received by Randy subject to income tax ? Explain. SUGGESTED ANSWER: The stock dividend declared under the circumstances obtaining in the problem may or may not be the subject of income taxation. As a general rule, stock dividend representing the transfer of surplus to capital account shall not be subject to tax. [NIRC of 1997, Sec. 73 (B), 1st sentence] Where stock dividends are given as returns on investment, the dividends are subject to tax when the distribution results in changes in the in the proportionate interest of the stockholder. (Rev. Regs. No. 2, Sec. 252) It appears in the problem that the stock dividends were given only to stockholders of record as of 31 December 2020. If all the stockholders are stockholders HYPOTHETICAL BAR REVIEW QUESTIONS & ANSWERS 121 as of said date, then there would be no proportionate change in ownership, hence not taxable. If not all are stockholders of record as of 31 December 2020, then the declaration of the stock dividends would result in disproportionate change in ownership. In such a case, the stock dividend declaration would be taxable. *8. XYZ Corp. was dissolved and liquidating dividends were declared and paid to the stockholders. What tax consequence follows ? SUGGESTED ANSWER: The stockholders should declare their gain from their investment and pay income tax at the ordinary rates. EXCLUSIONS FROM GROSS INCOME *1. What are excluded from gross income under the National Internal Revenue Code of 1997 (NIRC of 1997)? SUGGESTED ANSWER: a. Life Insurance proceeds. b. Amount received by insured as return of premium. c. Gifts, bequest and devises. d. Compensation for injuries or sickness. e. Income exempt under treaty. f. Retirement benefits, pensions; gratuities, etc. g. Miscellaneous Items: 1) Income government. derived by foreign 2) Income derived by the government or its political subdivisions. FREE PRE-WEEK NOTES TAXATION LAW 122 3) Prizes and awards. 4) Prizes competitions. 5) and awards in sports 13th month pay and other benefits. 6) GSIS, SSS, Medicare and other contributions. 7) Gains from the sale of bonds, debentures or other certificate of indebtedness. 8) Gains from redemption of shares in mutual fund. [NIRC of 1997, Sec. 32 (B)] The above are the recognized substantive exclusions from gross income. Provisions of special laws may recognize other exclusions from gross income. **2. Differentiate “Exclusion from Gross Income” from “Deductions from Gross Income”. Give an example of each. SUGGESTED ANSWER: “Exclusions from Gross Income” are distinguished from “Deductions from Gross Income” in the following manner: a. Exclusions from gross income refer to a flow of wealth to the taxpayer which are not treated as part of gross income for purposes of computing the taxpayer’s taxable income, due to the following reasons: (1) It is exempted by the fundamental law; (2) It is exempted by statute; and (3) It does not come within the definition of income (RR No. 2, Sec. 61), while deductions are the amounts which the law allows to be subtracted from gross income in order to arrive at net income. HYPOTHETICAL BAR REVIEW QUESTIONS & ANSWERS 123 b. Exclusions pertain to the computation of gross income, while deductions pertain to the computation of net income. c. Exclusions are something received or earned by the taxpayer which do not form part of gross income, while deductions are something spent or paid in earning gross income. Example of an exclusion from gross income: Life insurance proceeds. Example of a deduction: Ordinary and necessary expenses. *3. Salvador took out a life insurance policy for P1,000,000.00 naming his wife as beneficiary. Under the terms of the policy, the insurer will pay Salvador the amount of P1,000,000.00 after the 20th year of the policy, and his beneficiaries, should he die before that date. Salvador outlived the policy and received P1,000,000.00. The premiums paid on the policy was P250,000.00. Is the P1,000,000.00 received by Salvador subject to tax? Explain your answer. SUGGESTED ANSWER: No. Not all of the P1,000,000.00 is subject to tax. The amount of P250,000.00 is not subject to tax because it is the amount received by A, as a return of the premiums paid by him under a life insurance contract at the maturity of the term mentioned in the contract. [NIRC of 1997, Sec. 32 (B) (2)] The premiums returned are not income but return of capital. They represent earnings which were previously taxed. On the other hand, the amount of P750,000.00 is subject to tax because it represents income being interest or earnings of the premium and not return of capital. (Ibid.) **4. Policarpio, while relaxing in his living room watching the Lotto draw on TV, saw and heard that he just won P100 million in the 6/55 draw. With full 124 FREE PRE-WEEK NOTES TAXATION LAW expectancy of receiving the P100 million, he went to the PCSO to get his prize. He got the surprise of his life when he was told that he shall get only about P80 million. He asked why, and he was told that taxes were deducted from his prize winnings. Feeling bad about the whole thing, he called you up through his cellphone to seek your advice What would you tell him? SUGGESTED ANSWER: I would tell him to get the P80 million because Lotto winnings are now taxable under the TRAIN law. [NIRC of 1997, Sec. 24 (B) (1), as amended by the TRAIN] **5. Mr. X received income and you were asked to prepare his income tax return. Is he required to include as part of gross income proceeds from his winnings from the gambling casino? Give your reasons. SUGGESTED ANSWER: No. If the winnings exceeded P10,000.00 and was subject to the final tax of 20%. [NIRC of 1997, Sec. 24 (B) (1), as amended by the TRAIN] ALTERNATIVE ANSWER: Yes. If the winnings was less than P10,000.00. (Ibid.) ***6. Vynette, a Filipino national, worked with the LEB Group of Companies, Inc. (LEB), and was seconded to various LEB-affiliated corporations: a. from 2003 to 2008 as Vice President of LEB Land Holdings, Inc., b. from 2008 to 2011 as Vice President of LEB Bank; c. from 2011 to 2015 as COO of LEB Airlines Inc.; d. from 2015 to 2021 as CEO of LEB Energy Corporation, where Vynette served as CEO for seven years until her retirement last December HYPOTHETICAL BAR REVIEW QUESTIONS & ANSWERS 12, 2021 upon reaching retirement age of 60 years. 125 the compulsory All the corporations mentioned are majority-owned in common by the de la Cruz family and covered by a BIRqualified multiemployer-employee retirement plan (MEE RP), under which the employees may be moved around within the controlled group (i.e., from one LEB subsidiary or affiliate to another) without loss of seniority rights or break in the tenure. Vynette was well-loved by her employer and colleagues, so upon retirement, and on her last day in office, LEB gave her a Land Rover SUV worth PhP8 million as a surprise, with a streamer that reads: “You’ll be missed. Good luck, Ma-am Vynette.” (a) Are the retirement benefits paid to Vynette pursuant to the MEE RP taxable ? SUGGESTED ANSWER: No. The retirement benefits paid to Vynette pursuant to the MEERP are not taxable because they are excluded from gross income for purposes of determining income subject to tax. This is so, because the retirement benefits were received by Vynette, an official of LEB a corporate private firm, in accordance with the MEERP which is a reasonable private benefit plan maintained by his employer. Furthermore, Vynette the retiring official or employee is considered as been in the service of same employer for at least ten (10) years because of the MEERP provision that service with one affiliate is considered part of service with LEB. So also, Vynette is not less than fifty (50) years of age at time of retirement because she was already 60, and there is no showing that she previously enjoyed tax-free retirement benefits. [NIRC of 1997, Sec. 32 (B) (6) (a)] The Land Rover SUV is not part of Ms. Vynette’s retirement package but should be considered as a donation made by LEB as an act of pure liberality. Since 126 FREE PRE-WEEK NOTES TAXATION LAW this is a donation, it is not income on the part of Ms. Vynette but subject to the payment of donor’s tax by LEB. ***7. Are moral damages awarded a litigant for mental anguish an account of a libelous article written about him taxable as income or not? Why? SUGGESTED ANSWER: Yes. Moral damages arising from libel or slander, breach of contracts are not excluded from gross income and are part of taxable income. Such kinds of damages are separate and different from the moral damages received on account of sickness and personal injuries. The express provision of law requires that the damages must be received “on account of such injuries or sickness” referring to personal physical injuries or sickness, and from no other. [NIRC of 1997, Sec. 32 (B) (4)] ALTERNATIVE ANSWER: Yes. The moral damages that are awarded a litigant for mental anguish an account of a libelous article written about him are taxable as income. Mental anguish is not physical injuries, therefore moral damages awarded due to moral anguish are not excluded from income. Amounts received as compensation for personal injuries plus the amounts of any damages received on account of such injuries are excluded from taxable income if the personal injuries are physical in character. Exclusions from taxable income are considered as exemptions from taxation, hence to be interpreted in strictissimi juris against the taxpayer. The words “personal injuries” should be given a restrictive meaning to refer only to physical injuries. This interpretation finds its basis in the provision of law which refers to “Accident or Health Insurance or under Workmen’s Compensation Acts,” both of which refers to “personal injuries or sickness.” [NIRC of 1997, Sec. 32 (B) (4)] This could only mean, physical injuries. HYPOTHETICAL BAR REVIEW QUESTIONS & ANSWERS 127 ***8. JR was a passenger of an airline that crashed. He survived the accident but sustained serious physical injuries which required hospitalization for 3 months. Following negotiations with the airline and its insurer, an agreement was reached under the terms of which JR was paid the following amounts: P500,000.00 for his hospitalization; P250,000.00 as moral damages; and P300,000.00 for loss of income during the period of his treatment and recuperation. In addition, JR received from his employer the amount of P200,000.00 representing the cash equivalent of his earned vacation and sick leaves. Which, if any, of the amounts he received are subject to income tax ? Explain. SUGGESTED ANSWER: The only amount received by JR that may be subject to income tax is the portion of the P200,000.00 which exceeds the monetized equivalent of ten (10) days unutilized vacation and sick leave credits. [Rev. Regs. No. 3-98, Sec. 2.78.1 (A), 2nd sentence as amended by Rev. Regs. No. 10-2000] The portion equivalent of the monetized equivalent that does not exceed ten (10) days unutilized vacation and sick leave credits are non-taxable de minimis benefits. The other amounts represent amounts of damages received as compensation for JR’s injuries as a result of an accident, the plane crash. The express provision of law requires that, to be excluded from gross income, the damages must be received on account of personal injuries [NIRC of 1997, Sec. 32 (B) (4)], referring to physical injuries Consequently, such amounts are excluded from gross income and not be subject to income taxation. (Ibid.) **9. Mr. Manny, a citizen and resident of the Philippines, is a professional boxer. In a professional boxing match held in 2021, he won prize money in United States in the amount of (US) dollars, 5 million. 128 FREE PRE-WEEK NOTES TAXATION LAW The US already imposed and withheld income taxes from Mr. Manny’s prize money. May his prize money qualify as an exclusion from his gross income? Why? SUGGESTED ANSWER: No. The prize money is not excluded from gross income. This is so because Mr. A is a professional athelete and the law excluding from gross income all prizes and awards granted to athletes in local and international sports competitions, whether held in the Philippines or abroad requires sanctions by national sports associations for boxing. [NIRC of 1997, Sec. 32 (B) (7) (d)] The sports association that sanctions professional boxing fights in the U.S. is not the Philippine national sports association for boxing but the different state commissions for boxing. Finally, the Philippine national sports association for boxing only governs amateur athletes.The exclusion finds application only to amateur athletes in order to promote excellence in sports activities. “INCOME FROM WHATEVER SOURCE DERIVED” **1. What is meant by “Income from whatever source derived” as a component of gross income for purposes of income taxation? SUGGESTED ANSWER: “Income from whatever source derived” refers to all income not expressly excluded or exempted from the class of taxable income, irrespective of the voluntary or involuntary action of the taxpayer in producing the income. (Gutierrez v. Collector of Internal Revenue, CTA Case No. 65, August 31, 1965) The source of the income may be legal or illegal. HYPOTHETICAL BAR REVIEW QUESTIONS & ANSWERS 129 They include the following: a. Condonation or forgiveness of indebtedness in certain instances. b. Recovery of written-off debts, or refund of tax payments. Under the so-called “tax benefit” rule where there is recovery of written-off debts, or refund of tax payments. c. Taxable illegal income. *2. What is meant by the “tax benefit rule”? SUGGESTED ANSWER: The “tax benefit rule” or “the equitable tax benefit rule,” posits that the “recovery of bad debts previously allowed as deduction in the preceding year or years shall be included as part of the taxpayer’s gross income in the year of such recovery to the extent of the income tax benefit of said deduction.” [NIRC of 1997, Sec. 34 (E) (1); Rev. Regs. 5-99, Sec. 4, 1st sentence) a. Illustrate the application of the tax benefit rule. SUGGESTED ANSWER: Bad debts that were deducted in a prior year, if paid during the current year are “recaptured” and reported as part of the current year’s income. **3. In 2019, your client was assessed by the BIR P750,000.00 in deficiency business taxes which it paid despite its belief that the assessment was erroneous. Upon payment, it applied for a refund. So also, it deducted the amount of P750,000.00 as taxes paid in its ITR filed for 2019. This resulted to lower income taxes paid for 2019. In 2021, the BIR realized its mistake in issuing the P750,000.00 assessment and granted your client’s application for refund. a. Your client now consults you and asks how you are going to treat the P750,000.00 refund it received in its 2021 ITR. Explain your answer. 130 FREE PRE-WEEK NOTES TAXATION LAW SUGGESTED ANSWER: The P750,000.00 refund is subject to tax. I would advise my client to report the P750,000.00 refund as miscellaneous income which is a part of its gross income for the 2021. My advice is based on the application of the concept of the tax benefit rule. In 2019 when my client claimed deduction of the P750,000.00 taxes paid, it realized a tax benefit in the form of the reduction of the income tax due from it on account of the said deduction. It’s subsequent recovery thereof from a refund of the P750,000.00 from the government in 2021 shall be treated as a receipt of realized taxable income for the year 2021. a. Supposing under the same above set of facts except that in 2019 your client was not able to deduct the amount of P750,000.00 because it already suffered a net operating loss even without such deduction. Would your advice of treating the P750,000.00 refund it received as a receipt of realized taxable income for the year 2021 being taxable still hold water ? Explain your answer. SUGGESTED ANSWER: No more. My answer is not the same because this time the P750,000.00 that is received is not subject to income taxation. My client did not benefit from P750,000.00 tax paid because the result of his business operation was a net loss even without deduction of the taxes paid. The P750,000.00 tax paid did not help in reducing my client’s income tax liability for 2019. Its subsequent recovery in 2021 of the P750,000.00 shall be treated as a mere recovery or a return of capital, hence, not treated as receipt of realized taxable income. There is no need for my client to report it in the ITR. NOTE NOT PART OF THE ANSWER: The above discussion on the “tax benefit” rule finds application HYPOTHETICAL BAR REVIEW QUESTIONS & ANSWERS 131 whether the tax is a national or local tax so as it is allowed as a deduction from gross income. **4. Explain whether income from illegal gambling, such as jueteng, masiao, etc., or from the commission of crimes such malversation, estafa, theft, robbery, etc., is taxable or non-taxable ? SUGGESTED ANSWER: Such income are taxable. Income from illegal gambling, such as jueteng, masiao, etc., or from the commission of a crimes such malversation, estafa, theft, robbery, etc., is taxable. This so because these income fall within the classification of “income from whatever source derived” [NIRC of 1997, Sec. 32 (A)], hence taxable. All receipts whether legal or illegal fall under the broad category of “income from whatever source derived.” The phrase “income from whatever source derived,” is so broad that it includes all income not expressly excluded or exempted from the class of taxable income, irrespective of the voluntary or involuntary action of the taxpayer in producing the income. (Gutierrez v. Collector of Internal Revenue, CTA Case No. 65, August 31, 1965) NOTE NOT PART OF THE ANSWER: The author submits that the above also finds application in the case of erroneous receipts of payments. (Javier v. Commissioner, G.R. 78953, July 31, 1991, 199 SCRA 824) DEDUCTIONS FROM GROSS INCOME 1. In general, what are the deductions from gross income allowed under the National Internal Revenue Code? SUGGESTED ANSWER: The allowable deductions are the a) Optional standard deduction. Sec. 34 (L), as amended by the TRAIN] [NIRC of 1997, FREE PRE-WEEK NOTES TAXATION LAW 132 b) Itemized deductions. [Ibid., Sec. 34 (A) to (K), as amended by the TRAIN] 1) Ordinary and necessary expenses 2) Interest 3) Taxes 4) Losses 5) Bad Debts 6) Depreciation 7) Depletion of Oil and Gas Wells and Mines 8) Charitable and Other Contributions 9) Research and Development 10) Pension Trusts c) Extraordinary deductions. 1) Those allowed to insurance companies. (Ibid., Sec. 37) 2) Deductions allowed to estates and trusts availing of itemized deductions of income currently distributed to beneficiaries. (Ibid., Sec. 61) 3) Losses from wash sales of stocks or securities. (Ibid., Sec. 38) 4) Certain capital losses but only from capital gains. (Ibid., Sec. 39) 5) Deductions allowed to private educational institutions. [Ibid., Sec. 34 (A) (2)] NOTE NOT PART OF THE ANSWER: No more personal and additional exemptions for individuals. Starting January 1, 2018, the TRAIN has expressly repealed NIRC Sec. 35 entitled, Allowance of Personal Exemption for Individual Taxpayer. HYPOTHETICAL BAR REVIEW QUESTIONS & ANSWERS 133 No more exemptions for estates and trusts. The TRAIN has also expressly repealed NIRC Sec. 62 entitled, Exemption Allowed to Estates and Trusts. Rationale for the repeal of NIRC Secs. 35 and 62, The TRAIN has adopted a minimum income tax base of P250,000.00 for individuals, estates and trusts. Furthermore, the tax rates were also reduced. Not deductible are personal, living or family expenses. [NIRC of 1997, Sec. 36 (A) (1)] **2. State the essential conditions which must be satisfied in order that an expense may be validly considered deductible for income tax purposes? SUGGESTED ANSWER: The conditions that must be complied with in order that an expense must be considered deductible for income tax purposes: a. There must be a specific provision of law allowing the deductions, since deductions do not exist by implication. (Atlas Consolidated Mining and Development Corporation v. Commissioner of Internal Revenue, L26911, January 27, 1981) b. The requirements for deductibility of the expense must be met. 1) It must be taxable year. 2) The necessary. paid expense or must incurred within the be ordinary and 3) It must meet the business test rule and be paid or incurred in carrying on a trade or business. 4) The substantiation rule must be complied through substantially proving by evidence or records the deductions claimed under the law. Otherwise, the same will be disallowed. The mere allegation of the taxpayer that an item of expense is ordinary and 134 FREE PRE-WEEK NOTES TAXATION LAW necessary does not justify its deduction. (Esso Standard Eastern, Inc. v. Commissioner of Internal Revenue, 175 SCRA 149) 5) The business expense must not be an illegal expenditure, such as bribes, kickbacks, for immoral purposes, etc. c. There must be proof of entitlement to the deductions. (Paper Industries Corporation of the Philippines v. Court of Appeals, et al., 250 SCRA 434) d. The deductions must not have been waived. (Rev. Regs. No. 2, Sec. 76) e. The withholding and payment of the tax required must be shown. [NIRC of 1997, Sec. 34 (K), Secs. 58 and 81] **3. Atty. Jerome, a practicing lawyer, owns a car which he uses exclusively in his law practice. He also spends for the driver’s salary, gasoline, oil, and maintenance. In the taxable year in question, he had the upholstery done and the body repainted which would last for 3 years. He also pays a monthly rental on his office space that he uses as his law office. While on his way to court to attend a hearing, his attache case, with some cash were stolen from his car. His bad luck continued when his wallet was stolen while he was unwinding in a disco bar. He deducted all these expenses, supported by receipts, in his annual income tax return. Enumerate which of these expenses are allowable as deductions and which are not. Explain. SUGGESTED ANSWER: Atty. Jerome is allowed to deduct all of the expenses except the value of the loss of his wallet and the cost of the upholstery and the body repaint which maybe included in the cost of his car to be depreciated. HYPOTHETICAL BAR REVIEW QUESTIONS & ANSWERS 135 The office rent is fully deductible because it is payment for the continued use or possession of property for the exercise of the Atty. Jerome’s profession. There is no showing that he is paying the office rent with the end in view of taking title to the office. The value of the loss of the wallet is not allowed to be deducted because it is a loss that is not connected with Atty. Jerome’s exercise of his profession. The cost of the upholstery and the body repaint are not allowed to be deducted in full because they are capital expenditures which prolong the life of an asset (the car). [NIRC of 1997, Sec. 36 (A) (3)] **4. Peter is the Vice-President for Sales of Golden Dragon Realty Conglomerate, Inc. (Golden Dragon). A group of five (5) foreign investors visited the country for possible investment in the condominium units and subdivision lots of Golden Dragon. After a tour of the properties for sale, the investors were wined and dined by Peter at the posh Conrad’s Hotel at the cost of P150,000.00. Afterward the investors were brought to a party in a vidoke club which cost the company P200,000.00 for food and drinks, and the amount of P80,000.00 as tips for business promotion officers. Expenses at Conrad’s Hotel and the videoke club were receipted and submitted to support the deduction for representation and entertainment expenses. Decide if all the representation and entertainment expenses claimed by Golden Dragon are deductible. Explain. SUGGESTED ANSWER: Not all of the representation and entertainment expenses claimed by Golden Dragon are deductible. Only those that are reasonable in amount and nature should be deductible. It should be noted that the total expenses is P430,000.00 for the five (5) investors or P86,000.00 each. I would allow only a deduction in such amounts as are reasonable under the circmstances but in no case shall all 136 FREE PRE-WEEK NOTES TAXATION LAW deductions for representation and entertainment expenses, including those above enumerated, exceed 0.50% of net sales. [NIRC of 1997, Sec. 34 (A) (1) (iv); Rev. Regs. 10-2002] *5. Pursuant to the National Internal Revenue Code for interest to be deductible, what are the requirements to be met ? Explain. SUGGESTED ANSWER: In general, subject to certain limitations, the following are the requisites for the deductibility of interest expense from gross income: a. There must be an indebtedness. b. There should be an interest expense paid or incurred upon such indebtedness. c. The indebtedness must be that of the taxpayer. d. The indebtedness must be connected with the taxpayer’s trade, business or exercise of profession. e. The interest expense must have been paid or incurred during the taxable year. f. The interest must have been stipulated in writing. g. The interest must be legally due. h. The interest payment arrangement must not be between related taxpayers. i. The interest must not be incurred to finance petroleum operations. j. In case of interest incurred to acquire property used in trade, business or exercise of profession, the same was not treated as a capital expenditure. (Rev. Regs. 13-2000, Sec. 3, paraphrasing, arrangement and numbering supplied) HYPOTHETICAL BAR REVIEW QUESTIONS & ANSWERS 137 k. The amount deducted must be within the limits provided by law. **6. Give the requisites for the deductibility of a loss. SUGGESTED ANSWER: A loss may be deductible if the general and specific requisites for its deductibility are met. a. There must be compliance with the general requisites for deductibility as applied to losses: 1) There must be a specific provision of law allowing the deductions, since deductions do not exist by implication. (Atlas Consolidated Mining and Development Corporation v. Commissioner of Internal Revenue, L-26911, January 27, 1981) 2) There must be proof of entitlement to the deductions. (Paper Industries Corporation of the Philippines v. Court of Appeals, 250 SCRA 434) 3) The deductions must not have been waived. (Rev. Regs. No. 2, Sec. 76) b. The specific requirements for deductibility of losses must be met: 1) They must be ordinary losses that are incurred by a taxable entity as a result of its day to day operations conducted for profit or otherwise, or casualty losses. 2) They must have been losses that are actually sustained during the taxable year. 3) They must not have been compensated for by insurance or other forms of indemnity. 138 FREE PRE-WEEK NOTES TAXATION LAW 4) If they are casualty losses, they are of property connected with trade, business, or profession and the lose arises from fires, storms, shipwreck, or other casualties, or from robbery, theft or embezzlement. 5) They must not have been claimed as a deduction for estate tax purposes in the estate tax return. [NIRC of 1997, Sec. 34 (D) (1), (a), 1st par., paraphrasing supplied] *7. A is a travelling salesman working full time for Nu Skin Products. He receives a monthly salary plus 3% commission on his sales in a Southern province where he is based. He regularly uses his own car to maximize his visits even to far flung areas. One fine day, a group of militants seized his car. He was notified the following day by the police that the marines and militants had a bloody encounter and his car was completely destroyed after a grenade hit it. A wants for file a claim for casualty loss. Explain the legal basis for your tax advice. SUGGESTED ANSWER: I would advise A not to claim for casualty loss because it would be disallowed. A earns from gross compensation only. allowed to deduct any items including losses. He is not *8. What is meant by “depreciation” as used in the Tax Code ? SUGGESTED ANSWER: Depreciation as used in the Tax Code is the reasonable allowance for the exhaustion, wear and tear (including reasonable allowance for obsolescence) of property used in the trade or business. [NIRC of 1997, Sec. 34 (F) (1)] The term is also applied to amortization of the value of intangible assets, the use of which in the trade or business is definitely limited in duration. (Basilan Estates, HYPOTHETICAL BAR REVIEW QUESTIONS & ANSWERS 139 Inc. v. Commissioner of Internal Revenue, 21 SCRA 17) Example: Incorporation expenses. **9. On the part of the contributor, are contributions to a candidate in an election allowed as a deduction from gross income ? SUGGESTED ANSWER: No. The political contributions are not considered as ordinary expenses which would help earn the income, nor are they considered charitable and other contributions. One of the requirements for deductibility is a specific provision of law which recognizes such deduction. While it is true that such a donation is exempt from the donor’s tax, it does not necessarily follow that there is authority to deduct the same from gross income for income tax purposes. **10. Years ago, Gabriel bought a parcel of land in Mataas na Kahoy, Batangas for only PhP65,000. He donated the land to his son, Thomas, in 1983 when the property had a fair market value of PhP75,000, and paid the corresponding donor’s tax. Thomas, in turn, sold the property in 2004 to Eleanne for PhP 6.5 million and paid the capital gains tax, documentary stamp tax, local transfer tax, and other fees and charges. Eleanne, in turn, donated the land to Calabarzon School last August 30, 2021 to be used as the site for additional classrooms. No donor’s tax was paid, because Eleanne claimed that the donation was exempt from taxation. At the time of the donation to Calabarzon School, the land had a fair market value of PhP 65 million. How much in deduction from gross income may Eleanne claim on account of the said donation? SUGGESTED ANSWER: Eleanne may claim a deduction from her gross income an amount not in excess of 140 FREE PRE-WEEK NOTES TAXATION LAW ten percent (10%) of her taxable income derived from trade, business or profession as computed prior to the deduction of the value of the donation made to Calabarzon School, if Calabarzon School is a non-profit non-stock educational institution and other charitable contributions that may have been made by Eleanne [NIRC of 1997, Sec. 34 (H)] after compliance with the substantiation requirements. *11. Hidilyn, an amateur swimmer, won in a swimming competition sponsored by the Kalayaan Swimmers, a sports association duly accredited by the Philippine Swimming Association. Hidilyn received the amount of P500,000.00 as her prize which was donated by Robinson Land Corporation. Could Robinson Land Corporation deduct the P500,000.00 from its gross income ? Decide. . SUGGESTED ANSWER: Yes. The amount is fully deductible if the Philipppine Swimming Association is duly accredited with the Philippine Olympic Committee. [Rep. Act No. 7549, Sec. 1] **12. Harold, a Filipino citizen and a professional golfer, filed his income tax return for 2020 claiming optional standard deductions (OSD). Realizing that he has enough documents to substantiate his professionconnected expenses, he now plans to file an amended tax return for 2020, in order to claim itemized deductions, since no audit has been commenced by the BIR on the return he previously filed. Will Harold be allowed to amend his return ? Why or why not ? SUGGESTED ANSWER: No more. Once the election to avail of OSD is signified in the return, it shall be irrevocable for the taxable year for which the return is made. This means that a taxpayer who initially filed a return availing OSD is precluded from amending said return in order to shift to the itemized deductions.” (Rev. Regs. No. 16-2008, Sec. 7, 1st and 2nd sentences, 1st par.) HYPOTHETICAL BAR REVIEW QUESTIONS & ANSWERS 141 *13. In 2021, the Commissioner of Internal Revenue assessed against a manufacturing corporation the amount of P1,000,000 as deficiency income tax. The deficiency was brought about by the disallowance of items claimed by the corporation as deductible business expenses for the taxable year. These were a) expenses paid to an advertising firm in order to create a favorable image for the corporation; and b) litigation expenses incurred in defense of a title to corporate property. The corporation argued that they were ordinary and necessary business expenses incurred during the taxable year in carrying out its business and were, therefore, deductible. The Commissioner of Internal Revenue contended otherwise. Resolve the controversy, giving reasons. SUGGESTED ANSWER: Public relations fees for enhancing the image of the corporation are in the nature of capital expenditures (Atlas Consolidated Mining and Development Corporation v. Commissioner of Internal Revenue, L-26911, January 27, 1981), hence not deductible as business expenses. This is so because the enhanced image of the corporation benefits numerous taxable periods. The litigation expenses incurred in defense of a title to corporate property are not properly deductible as ordinary and necessary expenses because they constitute part of the cost of the property. (Rev. Regs. No. 2, Sec. 120; Atlas Consolidated Mining and Development Corporation v. Commissioner of Internal Revenue, supra) *14. Jayjay is a very bright computer science graduate. He was hired by Hewlett Packard. To entice him to accept the offer for employment, he was offered the arrangement that part of is compensation would be an insurance policy with a face value of P20 Million. FREE PRE-WEEK NOTES TAXATION LAW 142 Ebeng, Jayjay’s mother, made the beneficiary of the insurance policy. Can the company deduct from its gross income the amount of the premium ? Reason briefly. SUGGESTED ANSWER: Yes. It is deductible being a legitimate business expense and Hewlett Packard, the employer is not the beneficiary under the policy. [NIRC of 1997, Sec. 36 (A) (4)] It is a deductible legitimate business expense because the taking of the insurance policy is part of Jayjay’s compensation package. *15. ABC Co., a Philippine corporation, issued preferred shares of stock with the following features: a. Non-voting. b. Preferred and cumulative dividends at the rate of 10% per annum, whether or not in any period the amount is covered by earnings or projects. c. In the event of dissolution of the issuer, holders of preferred stock shall be paid in full or ratably as the assets of the issuer may permit before any distribution shall be made to common stockholders. d. The issuer has the option to redeem the preferred stock. ABC Co. declared dividends on the preferred stock and claimed the dividends as interests deductible from its gross income for income tax purposes. The BIR disallowed the deduction. ABC Co. maintains that the preferred shares with their features are really debt and therefore the dividends are really interests. Decide. SUGGESTED ANSWER: The dividends are not interests considered as deductible expense. Preferred shares are not loans but considered capital regardless of the conditions under which such shares are issued and dividends or “interests” paid thereon are not HYPOTHETICAL BAR REVIEW QUESTIONS & ANSWERS 143 allowed as deductions from the gross income of Corporations. (Rev. Regs. No. 2, Sec. 78, par.3; Rev. Memo. Circ. No. 17-71) Stated otherwise, the preferred shares are not considered as indebtedness because they do not help earn the income from which they are deductible. **20. Roberto was the Customs Broker of Logistics Co., Inc. (LOGINC). He invited the Head of the Electronics Section of the Port of Manila, Bureau of Customs to lunch at the Manila Hotel to discuss the early release of electronic imports of LOGINC’s clients. At breakfast the following day, Roberto met a prospective capitalist interested to enter into a joint venture with LOGINC for the construction of a Container Yard/Container Freight Stations (CY/CFS) in Batangas City. Roberto incurred expenses for the lunch and breakfast meetings he had with the Bureau of Customs official and the prospective capitalist, respectively. The expenses were duly supported by official receipts issued in his name. At month’s end, he requested the reimbursement of his expenses, and LOGINC granted his request. Can LOGINC claim an allowable deduction for the expenses incurred by Roberto? Explain your answer. SUGGESTED ANSWER: The expenses incurred for treating to lunch the Bureau of Customs official for the purpose of discussing the release of LOGINC’s clients electronic imports may be considered as a bribe and not deductible as an expense. It is highly irregular to discuss the subject over lunch instead at the office of the Bureau of Customs official. Thus, such expense is not deductible. Also not deductible are the expenses for treating the prospective capitalist to breakfast because they were not 144 FREE PRE-WEEK NOTES TAXATION LAW incurred for the purpose of earning income but for the purpose of raising capital. INCOME TAX ON INDIVIDUALS **1. Mr. D, a Filipino amateur boxer, joined an Olympic qualifying tournament held in Las Vegas, USA, where he won the gold medal. Pleased with Mr. D’s accomplishment, the Philippine Government, through the Philippine Olympic Committee, awarded him a cash prize amounting to P1,000,000.00. Upon receipt of the funds, he went to a casino in Pasay City and won the P30,000,000.00 jackpot in the slot machine. The next day, he went to a nearby Lotto outlet and bought a Lotto ticket which won him a cash prize of P5,000.00. Which of the above sums of money is/are subject to income tax ? Explain. SUGGESTED ANSWER: Only the amount of P30,000,000.00 won in the slot machine is subject to income taxes because it is considered “income from whatever source derived” [NIRC of 1997, Sec. 32 (A)], hence taxable. The phrase “income from whatever source derived,” is so broad that it includes all income not expressly excluded or exempted from the class of taxable income, irrespective of the voluntary or involuntary action of the taxpayer in producing the income. (Gutierrez v. Collector of Internal Revenue, CTA Case No. 65, August 31, 1965) This includes winnings from gambling such as those derived from the slot machine. Upon the other hand, the amount of P1,000,000.00 given by the Philippine Government is not subject to income taxation because it is excluded from gross income. HYPOTHETICAL BAR REVIEW QUESTIONS & ANSWERS 145 It is a gift or donation which is not considered as income subject to tax because it is excluded from gross income. Finally, the Lotto prize of P5,000.00 is not subject to income tax because it is below P10,000.00. [NIRC of 1997, Sec. 24 (B) (1), as amended by the TRAIN] The above conclusion finds application whether Mr. D is a resident or non-resident Filipino citizen. NOTES NOT PART OF THE ANSWER: a. It is error on the part of some quarters to claim that the P30,000,000.00 is not subject to income tax because the final tax was already withheld, Withheld taxes are nothing more than the advance payment of tax at source, in this case the income tax due on the earnings. b. Others likewise erroneously submit that the P1,000,000.00 given by the Philippine Government, through the Philippine Olympic Committee, is taxable income because there is no specific provision of law that exempts it from income taxation. The author insists on his interpretation that this is a gift or donation that is excluded from income taxation. *2. X, a multinational corporation doing business in the Philippines donated 100 shares of stock of said corporation to Mr. Y, its resident manager in the Philippines. Assuming the shares of stocks were given to Mr. Y in consideration of his services to the corporation, what are the tax implications? Explain. (1996) SUGGESTED ANSWER: The value of the shares shall be taxable as compensation income because it was paid as a result of employer-employee relationship. It is apparent that the intention of X is to compensate, Mr. Y its employee, for services rendered because the FREE PRE-WEEK NOTES TAXATION LAW 146 shares of stock would not have been given if Mr. Y was not an employee. *3. Mr. Barrios is a non-resident alien based in California, U.S.A. During the calendar year 2021, he came to the Philippines several times and stayed in the country for an aggregated period of more than 180 days. How will Mr. Barrios be taxed on his income derived from sources within the Philippines and from abroad ? SUGGESTED ANSWER: Mr. Barrios having stayed in the Philippines for more than 180 days is considered as a non-resident alien engaged in trade or business in the Philippines. As such, he should be subject to taxation in the same manner as an individual citizen or resident alien on his taxable income received from all sources within the Philippines. [NIRC of 1997, Sec. 25 (A) (1)] INCOME TAXATION OF CORPORATIONS *1. Define or explain the meaning of corporation for income tax purposes. SUGGESTED ANSWER: The term corporation shall a. include: 1) partnerships, no matter how created organized, 2) joint stock companies, 3) joint accounts (cuentas en participacion), 4) associations or insurance companies. b. but does not include: 1) general professional partnerships and 2) a joint venture or consortium formed HYPOTHETICAL BAR REVIEW QUESTIONS & ANSWERS 147 a) for purpose of undertaking construction projects or b) engaging in (1) petroleum, (2) coal, (3) geothermal, and (4) other pursuant to energy operations, (a) an operation or consortium agreement (b) under a service contract with the Government.” [NIRC of 1997, Sec. 22 (B), 1st sentence, arrangement and numbering supplied] **2. What is the rationale of the law in imposing what is known as the Minimum Corporate income tax on Domestic and Resident Foreign Corporations ? SUGGESTED ANSWER: “The imposition of the Minimum Corporate Income Tax (MCIT) is designed to forestall the prevailing practice of corporations of over claiming deductions in order to reduce their income tax payments. The filing of income tax returns showing a tax loss every year goes against the business motive which impelled the stockholders to form the corporation. This is the reason why domestic corporations (and resident foreign corporations) after the recovery period of four years from the time they commence business operations, they become liable to the MCIT whenever this tax imposed at 2% of gross income exceeds the normal corporate income tax imposed on net income.” (Sponsorship Speech, Chairman of Senate Ways and Means Committee) 148 FREE PRE-WEEK NOTES TAXATION LAW **3. Is a corporation which is exempted from the minimum corporate income tax automatically exempted from the regular corporate income tax ? Explain and illustrate your answer. SUGGESTED ANSWER: No. A corporation exempted from the minimum corporate income tax is not automatically exempted from the regular corporate income tax. The minimum corporate income tax merely substitutes for the regular corporate income tax. This is evident from the fact that the 2% minimum corporate income tax is imposed whenever such tax is greater than the regular corporate income tax of 30% based on the income subject to tax. Thus, an exemption from the minimum corporate income tax does not mean automatic exemption from the regular income tax. For example, the corporation’s income tax labillity as computed using the minimum corporate income tax method is lower than its income tax liability using the regular or normal rate the corporation is exempted from the payment of the minimum corporate income tax but it must pay the regular or normal income tax. **4. Distinguish regular corporate or normal income tax from the minimum corporate income tax. SUGGESTED ANSWER: The distinctions between regular corporate or normal income tax and the minimum corporate income tax are the following: a. As to taxpayer: The regular corporate or normal income tax applies to all corporate taxpayers while the minimum corporate income tax applies only to domestic corporations and resident foreign corporations. b. As to tax rate: The regular corporate or normal income tax is 30% while the minimum corporate income tax is 2%. HYPOTHETICAL BAR REVIEW QUESTIONS & ANSWERS 149 c. As to tax base: The regular corporate income tax is based on the net taxable income while the minimum corporate income tax is based on gross income. d. As to period of applicability: The regular corporate income tax is applicable once the corporation commenced its business operation while the minimum corporate income tax is applicable beginning on the fourth taxable year following the commencement of business operation. e. As to imposition: The minimum corporate income tax is imposed whenever it is greater than the regular corporate income tax of the corporation. (NIRC of 1997, Sec. 27(A) and (E); Rev. Regs. No. 9-98) **5. KKK Corp. secured its Certificate of Incorporation from the Securities and Exchange Commission on June 3, 2020. It commenced business operation on August 12, 2020. In April 2021, Ms. J, an employee of KKK Corp. in charge of preparing the annual income tax return of the corporation for 2020, got confused on whether she should prepare payent for the regular corporate income tax or the minimum corporate income tax. As Ms. J’s supervisor, what will be your advice ? (2015, paraphrasing and dates supplied supplied) SUGGESTED ANSWER: As Ms. J’s supervisor, I will advise that KKK Corp. should prepare payment for the regular corporate income tax and not the minimum corporate income tax. Under the Tax Code, minimum corporate income tax is only applicable beginning on the fourth taxable year following the commencement of business operation. [NIRC of 1997, Sec 27 (E) (1)] Since KKK Corp. only commenced business operation on August 12, 2020, or less than one (1) year following the commencement of its business operation, the minimum corporate income tax is not applicable. FREE PRE-WEEK NOTES TAXATION LAW 150 **6. RAMITECH, a corporation not engaged in the realty business, bought a piece of land in 2020 which it sold to another corporation one year later. It realized a net profit of P1,000,000.00. What income tax rate would it be subject to and why ? (1988, date supplied) SUGGESTED ANSWER: Assuming that RAMITECH is a domestic corporation, it shall be subject to the 6% presumed capital gains tax. There is no showing in the problem that the piece of land is used in its trade or business, hence it is classified as a capital asset. The tax is a final tax. NOTE NOT PART OF THE ANSWER: The author further opines that disposition by domestic corporations of real property other than “land and/or buildings” are not subject to the 6% presumed capital gains tax. This is in according with the doctrine of inclusio unius est exclusio alterius (the inclusion of one is the excousion of the others). The inclusion of the phrase ““land and/or buildings” excludes all other kinds of real property. NIRC of 1997, Sec. 27 (D) (5) This is unlike the case of citizens and resident aliens where the 6% presumed capital gains tax is applicable to dispostion of “real property.” [NIRC of 1997, Sec. 24 (D)] Furthermore, foreign corporations, whether residents or non-residents, are no subject to this kind of tax. ***7. What is the “immediacy test”? Explain briefly. SUGGESTED ANSWER: This is a test that has been developed under Amercian jurisprudence in order to determine the “reasonable needs” of the business in order to justify an accumulation of earnings and not subject the accumulation to the improperly accumulated earnings tax of ten percent (10%) of the improperly accumulated taxable income. [NIRC, Sec. 29 (A), Rev. Regs. No. 22001, Sec. 3, 1st par.) HYPOTHETICAL BAR REVIEW QUESTIONS & ANSWERS 151 The term “reasonable needs of the business” meanS the immediate needs of the business, including reasonably anticipated needs. (Rev. Regs. No. 2-2001, Sec. 3, 1st par.) ALTERNATIVE ANSWER: It is a test to determine whether the accumulated earnings are to be subject to the improperl accumulated earnings tax of ten percent (10%) of the improperly accumulated taxable income. [NIRC, Sec. 29 (A), Rev. Regs. No. 2-2001, Sec. 3, 1st par.) “An accumulation of earnings, profits or profits (including undistributed earnings or profits of prior years) is unreasonable if it is not necessary for the purpose of the business, considering all the circumstances of the case. To determine the ‘reasonable needs of the business’ in order to justify an accumulation of earnings, these Regulations hereby adhere to the so-called “Immediacy Test” under American jurisprudence as adopted in this jurisdiction. Accordingly, the term ‘reasonable needs of the business’ are hereby construed to mean the immediate needs of the business, including reasonably anticipated needs. In either case, the corporation should be able to prove an immediate need for the accumulation of the earnings and profits, or the direct correlation of anticipated needs to such accumulation of profits. Otherwise, such accumulation would be deemed to be not for the reasonable needs of the business, and the penalty tax shall apply.” The tax is ten percent (10%) of the improperly accumulated taxable income. [NIRC of 1997, Sec. 29 (A), Rev. Regs. No. 2-2001, Sec. 3, 1st par.) ***8. In 2019, AMORSECO, Inc.’s net profit before tax was P35 million while its operating expenses was P31 million. In 2020, its net profit before tax was P40 million and its operating expenses was P38 million. It did not declare dividends for 2019 and 2020. And it has no proposed capital expenditures for 2020 and the FREE PRE-WEEK NOTES TAXATION LAW 152 immediate future. It has a paid-up capital of P20 million each for years ended 2019 and 2020. May AMORSECO be subject to the improperly accumulated tax on its retained profits for 2019 and 2020 ? SUGGESTED ANSWER: Yes, since the accumulation is not reasonably necessary for the immediate needs of the business. AMORSECO’s paid-up capital is only P20 million but it has an accumulation of earnings or profits (including undistributed earnings or profits of prior years) of more than 100% of such paid-up capital. It is evident that the accumulation is unreasonable because it is not necessary for the purpose of the business, considering the immediate needs of the business, including reasonably anticipated needs. The facts of the problem do not show a direct correlation of anticipated needs to such accumulation of profits. Thus the accumulation made by AMORSECO is deemed not for the reasonable needs of the business. AMORSECO is subject to the ten percent (10%) tax on the improperly accumulated earnings tax for the years 2019 and 2020. (Rev. Regs. No. 2-2001, Sec. 3, 1st par.) 9. To what domestic corporations is the concept of Improperly Accumulated Income Tax (IAET) not applicable ? SUGGESTED ANSWER: The IAET shall not apply to the following corporations: a. Banks and other non-bank financial intermediaries; b. Insurance companies; c. Publicly-held corporations [NIRC of 1997, Sec. 29 (B), (2) arrangement and numbering supplied]; HYPOTHETICAL BAR REVIEW QUESTIONS & ANSWERS 153 d. Taxable partnerships; e. General professional partnerships; f. Non- taxable joint ventures; and g. Enterprises duly registered with the Philippine Economic Zone Authority (PEZA) under R.A. 7916, and enterprises registered pursuant to the Bases Conversion and Development Act of 1992 under R.A. 7227, as well as other enterprises duly registered under special economic zones declared by law which enjoy payment of special tax rate on their registered operations or activities in lieu of other taxes, national or local. (Rev. Regs. No. 2-2001,, Sec. 4, 1st par.) * 10. Kria, Inc., a Korean corporation engaged in the business of manufacturing electric vehicles, established a branch office in the Philippines in 2014. The Philippine branch constructed a manufacturing plant in Kabuyao, Laguna, and the construction lasted three (3) years. Commercial operations in the Laguna plant began in 2018. In just two (2) years of operation, the Philippine branch had remittable profits in an amount exceeding 175% of its capital. However, the head office in Korea instructed the branch not to remit the profits to the Korean head office until instructed otherwise. The branch chief finance officer is concerned that the BIR might hold the Philippine branch liable for the 10% improperly accumulated earnings tax (IAET) for permitting its profits to accumulate beyond reasonable business needs. Is it subject to 15% branch profit remittance tax (BPRT)? (2018, dates supplied) SUGGESTED ANSWER: No. The branch profits remittance tax of fifteen (15%) which is imposed on any profit remitted by a branch to its head office “which shall 154 FREE PRE-WEEK NOTES TAXATION LAW be based on the total profits applied or earmarked for remittance without any deduction for the tax component”. [NIRC of 1997, Sec. 28 (A) (5), 1st sentence] No tax is due until actual remittance is made. No such remittance took place because of the instructions from the head office. The phrase “which shall be based on the total profits applied or earmarked for remittance without any deduction for the tax component” [NIRC of 1997, Sec. 28 (A) (5), 1st sentence] provides the basis for computing the amount of the tax to be paid when the actual remittance is to be made and does not determine whether or not Kria, Inc. is subject to the tax. ***11. Sometime in 1976 the Phillippines entered into a Convention with Canada for the Avoidance of Double Taxation and the Prevention of Fiscal Evasion with Respect to Taxes on Income. On April 24, 2000, Air Canada a "foreign corporation organized and existing under the laws of Canada” was granted an authority to operate as an offline carrier by the Civil Aeronautics Board, subject to certain conditions, which authority would expire on April 24, 2005. As an off-line carrier, Air Canada does not have flights originating from or coming to the Philippines and does not operate any airplane [in] the Philippines. On July 1, 1999, Air Canada engaged the services of Aerotel Ltd., Corp. (Aerotel) as its general sales agent in the Philippines. Aerotel sells Air Canada’s passage documents in the Philippines. For the period ranging from the third quarter of 2000 to the second quarter of 2002, Air Canada, through Aerotel, filed quarterly and annual income tax returns and paid the income tax on Gross Philippine HYPOTHETICAL BAR REVIEW QUESTIONS & ANSWERS 155 Billings in the total amount of ₱5,185,676.77, detailed as follows: 1âwphi1 Applicable Quarter[/]Year Date Filed/Paid 3rd Qtr 2000 Amount of Tax November 29, P 395,165.00 2000 April 16, 381,893.59 May 30, 2001 522,465.39 August 1,033,423.34 2000 Annual ITR 2001 1st Qtr 2001 2nd Qtr 2001 29, 2001 3rd Qtr 2001 November 29, 765,021.28 April 15, 2002 328,193.93 May 30, 2002 594,850.13 August 1,164,664.11 2001 Annual ITR 2001 1st Qtr 2002 2nd Qtr 2002 29, 2002 TOTAL P 5,185,676.77 On November 28, 2002, Air Canada filed a written claim for refund of alleged erroneously paid income taxes amounting to ₱5,185,676.77 before the Bureau of Internal Revenue. It found basis from the revised definition of Gross Philippine Billings under the 1997 National Internal Revenue Code a.How shall Air Canada be subject to income taxation ? 1 156 FREE PRE-WEEK NOTES TAXATION LAW SUGGESTED ANSWER: Air Canada is subject to the regular income tax rate of 32% (now 30%) tax on its taxable income because it is a resident foreign corporation for income tax purposes. Air Canada was engaged in business in the Philippines through a local agent that sells airline tickets on its behalf. It is a resident foreign corporation doing business in the Philippines imposed 32% (now 30% under Rep. Act No. 9337) on income subject to tax subject to any applicable tax treaty to which the Philippines is a signatory. Pursuant to Article 8 of the Republic of the PhilippinesCanada Tax Treaty, Air Canada may only be imposed a maximum tax of 1 1/2% of its gross revenues earned from the sale of its tickets in the Philippines. (Air Canada v. Commissioner of Internal Revenue, G.R. No. 169507, January 11, 2016, words in parentheses supplied) The correct interpretation of provisions which imposes the 2 ½% Gross Philippine Billings and that which imposes the 32% (now 30%) tax rate is that: international air carriers maintaining] flights to and from the Philippines shall be taxed at the rate of 2 1/2% of its Gross Philippine Billings while international air carriers that do not have flights to and from the Philippines but nonetheless earn income from other activities in the country like sale of airline tickets will be taxed at the rate of 32% (now 30%) of such taxable income. (Ibid.) While Air Canada is taxable as a resident foreign corporation subject to 32% (now 30%) on its taxable income from sale of airline tickets in the Philippines, it could only be taxed at a maximum of 1 1/2% of gross revenues, pursuant to Article VIII of the Republic of the Philippines-Canada Tax Treaty that applies to Canada as a “foreign corporation organized and existing under the laws of Canada.” (Ibid.) HYPOTHETICAL BAR REVIEW QUESTIONS & ANSWERS 157 b. Rule on the application for refund. SUGGESTED ANSWER: Refund denied. The P5,185,676.77 Gross Philippine Billings tax paid by Air Canada was computed at the rate of 1 ½% of its gross revenues amounting to P345,711,806.08 from the third quarter of 2000 to the second quarter of 2002. It is quite apparent that the tax imposable under Section 28(A)(l) of the 1997 National Internal Revenue Code [32% of taxable income, that is, gross income less deductions, now 30%] will exceed the maximum ceiling of 1 ½% of gross revenues as decreed in Article VIII of the Republic of the Philippines-Canada Tax Treaty. Hence, no refund is forthcoming. (Air Canada v. Commissioner of Internal Revenue, G.R. No. 169507, January 11, 2016) TAXATION OF EDUCATIONAL INSTITUTIONS, HOSPITALS AND NONSTOCK NON-PROFIT RELIGIOUS CHARITABLE AND OTHER SIMILAR INSTITUTIONS **1. University of Bigain is a proprietary educational institution. In 2020, despite the pandemic it was able to declare dividends to its stockholders. It’s earnings were delived solely from the tuition fees it collected from its students. It collected and received the following: (1) Tuition fees (2) Dormitory fees from maintained outside its campus dormitories (3) Rentals from canteen concessionaires (4) Interest from money-market placements of the tuition fees FREE PRE-WEEK NOTES TAXATION LAW 158 (5) Interests from its deposits of the peso tuition fees (6) Capital gains from the sale of McJolli shares of stock of not traded in the stock exchange (7) Interest derived from its US Dolllar deposit under the Expanded Foreign Currency Deposit System (8) Capital gains from the sale of a parcel of landit bought for investment purposes. (9) Fees to answer laboratory equipment (10) newspaper. for breakage of Fees collected for the school a. Which among the following exempted from income taxation ? receipts are SUGGESTED ANSWER: None. All of the above cited income shall be subject to income taxation because University of Bigain is a proprietary educational institution. It is exempt from taxation on its income only in accordance with law, and up to the present, there is no law that grants income tax exemption. b. If your answer to the first question is in the negative, how are the above receipts subject to taxation ? SUGGESTED ANSWER: University of Bigain is a proprietary educational institution because it is a private school maintained and administered by private individuals or groups with an issued permit to operate from the Commission on Higher Education (CHED), or the Technical Education and Skills Development Authority (TESDA) in accordance with existing laws and regulations.” [NIRC of 1997, Sec. 27 (B), 3rd sentence] HYPOTHETICAL BAR REVIEW QUESTIONS & ANSWERS 159 As such it shall pay a tax of ten percent (10%) on its taxable income except on its passive income [items no. (4) up to (8))], provided that if the gross income from unrelated trade, business or other activity (such as items no. (2) and (3)] exceeds fifty percent (50%) of the total gross income derived by University of Bigain from all sources, the regular or normal income tax of thirty percent (30%) shall be imposed on the entire taxable income. [NIRC of 1997, Sec. 27 (B), 3rd sentence, in relation to Sec. 27 (A) and (D)] *2. A group of philantrophists organized a nonstock, non-profit hospital for charitable purposes to provide medical services to the poor. The hospital also accepted paying patients although none of its income accrued to any private individual; all income were plowed back for the hospital’s use and not more than 30% of its funds were used for administrative purposes. Is the hospital subject to tax on its income? If it is, at what rate? (2013) SUGGESTED ANSWER: Yes. The hospital is subject to tax at the rate of ten percent (10%) on its taxable income except those on certain passive income provided that if the gross income from unrelated trade, business or other activity exceeds fifty percent (50%) of the total gross income derived by such hospital from all sources the regular or normal income tax of thirty percent (30%) shall be imposed on its entire taxable income. [NIRC of 1997, Sec. 27 (B), 3rd sentence, in relation to Sec. 27 (A) and (D)] Thus, the income derived by the hospital from its paying patients, even if not distributed to its members, is considered as taxable income. (CIR v. St Luke’s Medical Center, Inc., G.R. Nos. 195909 & 195960, September 26, 2012) 160 FREE PRE-WEEK NOTES TAXATION LAW ***3. La Sallian Educational Innovators Foundation, Inc. (De La Salle-St. Benilde) is a non-stock, non-profit domestic corporation duly organized and existing under the laws of the Philippines. On June 17, 2005, The Commissioner of Internal Revenue (CIR) issued two (2) Assessment Notices with demand letters against De La Salle-St. Benilde for deficiency income tax in the amount of P122,414,521.70, inclusive of interest To contest the deficiency taxes assessed, De La Salle-St. Benilde filed a Protest or Request for Reconsideration to the CIR on July 20, 2005. Despite the submission of all documents in support of the protest the CIR did not act on it. De La Salle-St. Benilde then filed a Petition for Review before the Special First Division of the CTA Division through registered mail on April 17, 2006, the last day of filing the appeal. However, it was only able to pay the docket and other legal fees nine days after or on April 26, 2006. The CIR alleged that the De La Salle-St. Benilde has already lost its tax-exempt status, making it liable to deficiency income tax. It may be a non-stock entity but it is definitely a profit-oriented organization wherein majority of its revenue-operating activities are generating huge amount of profit amounting to P643 million that it earned from expensive tuition fees collected from its students. Furthermore, the taxpayer's Ruling for exemption from the BIR was obtained in 1988, hence, all Rulings issued before the implementations or RA No. 8424 or CTRP was repealed, thereby, requiring the taxpayer to apply for a new Revenue Ruling for exemption taking consideration of its income earning activities. a. Has De La Salle-St. Benilde lost its tax-exempt status under the 1987 Constitution ? SUGGESTED ANSWER: No because the 1987 Constitution expressly exempts all revenues and assets of non-stock, non-profit educational institutions from taxes HYPOTHETICAL BAR REVIEW QUESTIONS & ANSWERS 161 provided that they are actually, directly and exclusively used for educational purposes. (La Sallian Educational Innovators (etc.), Inc. v. Commissioner of Internal Revenue, G.R. No. 202792, February 27, 2019 citing 1987 Constitution, Article XIV) “(T)he constitutionally mandated tax privilege granted to non-stock non-profit educational institutions plays an important role in promoting quality and affordable education in the country.” (Ibid.) “The tax exemption was seen as beneficial to students who may otherwise be charged unreasonable tuition fees if not for the tax exemption extended to all revenues and assets of non-stock, non-profit educational institutions.” (Ibid.) Where a previous BIR Ruling was issued declaring a Foundation as a non-stock, non-profit educational institution exempt from taxes there is no need to secure a new BIR Ruling to claim its exemption after amendment of the Tax Code considering that the BIR Ruling was never revoked, and the primary purpose of petitioner Foundation remained the same.” (Ibid.) “The tax exemption expressly granted by the 1987 Constitution, the supreme law of the land, cannot be set aside by any statute, especially by a mere technicality in procedure.” (Ibid.) Finally, earning profits does not change the character of non-profit institution. “The Constitution does not require that the revenues and income must have also been earned from educational activities or activities related to the purposes of an educational institution. The phrase ‘all revenues’ is unqualified by any reference to the source of revenues.” (Ibid.) “Every responsible organization must be so run as to, at least insure its existence, by operating within the limits of its own resources, especially its regular income. In other words, it should always strive, whenever possible, to have a surplus.” (Ibid.) b. Is the belated payment of the docketing fee sufficient ground to dismiss De La Salle-St. Benilde’s petition? Why? FREE PRE-WEEK NOTES TAXATION LAW 162 SUGGESTED ANSWER: No. The general rule is that a petition for review is perfected by timely filing it and paying the requisite docket fees and other lawful fees. However, there are exceptions to the stringent requirement as to call for a relaxation of the application of the rules, such as: (1) most persuasive and weighty reasons; (2) to relieve a litigant from an injustice not commensurate with his failure to comply with the prescribed procedure; (3) good faith of the defaulting party by immediately paying within a reasonable time from the time of the default; (4) the existence of special or compelling circumstances; (5) the merits of the case; (6) a cause not entirely attributable to the fault or negligence of the party favored by the suspension of the rules; (7) a lack of any showing that the review sought is merely frivolous and dilatory; (8) the other party will not be unjustly prejudiced thereby; (9) fraud, accident, mistake or excusable negligence without appellant's fault; (10) peculiar legal and equitable circumstances attendant to each case; (11) in the name of substantial justice and fair play; (12) importance of the issues involved; and (13) exercise of sound discretion by the judge guided by all the attendant circumstances. Concomitant to a liberal interpretation of the rules of procedure should be an effort on the part of the party invoking liberality to adequately explain his failure to abide by the rules.” (La Sallian HYPOTHETICAL BAR REVIEW QUESTIONS & ANSWERS 163 Educational Innovators (etc.), Inc. v. Commissioner of Internal Revenue, G.R. No. 202792, February 27, 2019) In other words, while procedural rules are important in the administration of justice, they may be excused for the most persuasive and meritorious reasons in order to relieve a litigant of an injustice that is not commensurate with the degree of his thoughtlessness in not complying with the procedure prescribed. (Ibid.) To reiterate, De La Salle-St. Benilde was able to establish that it is a tax exempt entity under the 1987 Constitution. It has timely filed its Protest to the tax deficiency assessment. It was also able to actually pay the full amount of the required docket and legal fees in the amount of P861,178.34, but it was nine (9) days late. Evidently, it immediately paid the docket and legal fees upon the CTA's assessment of the proper amount which showed petitioner's good faith. (Ibid.) Moreover, the issue involved in this case is no less than the tax assessment over a non-stock, non-profit educational institution, which the 1987 Constitution mandated to be tax exempt. Otherwise stated, what is at stake is the opportunity for the proper and just determination of De La Salle-St. Benilde's status as a taxexempt entity under the 1987 Constitution, and a deprivation of a substantial amount of property. (Ibid.) Taking into account the importance of the issues raised in the petition filed before the CTA Division, what De La Salle-St. Benilde stands to lose, and considering the merits of said petition, it should not be dismissed solely based on the technicality of belated payment of the docketing fee to better sercve the ends of justice. (Ibid.) ***4. Under Article XIV, Section 4 (3) of the 1987 Philippine Constitution, all revenues and assets of nonstock, non-profit educational institutions, used actually, directly and exclusively for educational purposes, are 164 FREE PRE-WEEK NOTES TAXATION LAW exempt from taxes and duties. Are income derived from dormitories, canteens and bookstores, as well as interest income on bank deposits and yields from deposit substitutes automatically exempt from taxation ? Explain. SUGGESTED ANSWER: Yes. “The Constitution does not require that the revenues and income must have also been earned from educational activities or activities related to the purposes of an educational institution. The phrase ‘all revenues’ is unqualified by any reference to the source of revenues.” (La Sallian Educational Innovators (etc.), Inc. v. Commissioner of Internal Revenue, G.R. No. 202792, February 27, 2019 citing 1987 Constitution, Article XIV) So long as the revenues and income are actually, directly and exclusively used for educational purposes they are exempt irrespective of the source. ALTERNATIVE ANSWER: No. because there are conditions that are required to be complied with. a. Conditions for tax exemption of income generated by a school operated canteen/book-store. 1) Owner-operator must be a non-stock, nonprofit private educational institution. 2) Such canteen/bookstore must be located within the school premises. (There are some who dispute this condition in the light of the provisions of the 1987 Constitution that does not make a distinction with regard to the origin of the funds, so long as they are actually, directly and exclusively used for educational purposes. Refer to La Sallian Educational Innovators (etc.), Inc. v. Commissioner of Internal Revenue, G.R. No. 202792, February 27, 2019 citing 1987 Constitution, Article XIV) 3) Owned and operated by the private educational institution as an ancillary activity. HYPOTHETICAL BAR REVIEW QUESTIONS & ANSWERS 165 (Finance Dept. Order No. 137-87, as amended, Sec. 2.2) 4) The income must be actually, directly and exclusively used for educational purposes. b. Conditions for tax exemption of passive income earned by educational institutions. 1) The educational, institution must be nonstock, non-profit. 2) Inclusion in their annual information return and duly audited financial statements. 3) Certification from depository banks as to the amount of interest income earned from passive investments not subject to the 20% final withholding tax. 4) Certification of actual utilization of said income. 5) Board resolution on proposed project to be funded out of the money deposited in banks or placed in money market placements. (Finance Department Order No. 149-95, November 24, 1995) ***5. CMI School, Inc., a non-stock, non-profit corporation, donated its three parcels of idle land situated in the Municipality of Cuyapo, Nueva Ecija to SLC University, another non-stock, non-profit corporation, in recognition of the latter’s contribution to and participation in the spiritual and educational development of the former. If SLC University later sells the three parcels of idle land to Puregold Supermarket, Inc., a stock corporation, will SLC University be liable for capital gains tax? Explain your answer. (2017, paraphrasing supplied) 166 FREE PRE-WEEK NOTES TAXATION LAW SUGGESTED ANSWER: No. “The Constitution does not require that the revenues and income must have also been earned from educational activities or activities related to the purposes of an educational institution. The phrase ‘all revenues’ is unqualified by any reference to the source of revenues.” (La Sallian Educational Innovators (etc.), Inc. v. Commissioner of Internal Revenue, G.R. No. 202792, February 27, 2019 citing 1987 Constitution, Article XIV) The sale by SLC University to Puregold Supermarket, Inc. is not subject to capital gains tax if the proceeds are actually, directly and exclusively used for educational purposes. ***6. Disciples of Jesus, Inc. (DOJI) is a non-stock, non-profit religious organization which owns a large parcel of land in a mountainous area in Cuenca, Batangas. DOJI has devoted 1/2 of the land for various uses: a church with a cemetery exclusive for deceased priests and nuns, a school providing K to 12 education, and a hospital which admits both paying and charity patients. The remaining 1/2 portion has remained idle. The DOJI Council of Elders (the counterpart of a Board of Trustees) decided to lease the remaining 1/2 portion to a real estate developer which constructed a forest sanctuary/resort over the property. Since the rental income from the lease of the property was substantial, the DOJI decided to use the amount to finance (1) the medical expenses of the charity patients in the DOJI Hospital and (2) the purchase of books and other educational materials for the students of the DOJI School. Is DOJI’s income from the rental fees subject to income tax? HYPOTHETICAL BAR REVIEW QUESTIONS & ANSWERS 167 SUGGESTED ANSWER: Yes. Notwithstanding that DOJI is a non-stock, non-profit religious organization, is generally not to be taxed in respect to income received by it as such, its of income of whatever kind and character from its activities conducted for profit regardless of the disposition of such income shall be subject to income tax. [NIRC of 1997, Sec. 30, last par., in relation to Sec. 30, par. (E)] NOTE NOT PART OF THE ANSWER: Take note of the difference between non-profit, non-stock educational instutions and other corporations under Sec. 30. The exemption from income taxation of non-profit, non-stock educational institutions is constitutionally granted and does not emanate from the NIRC, Sc. 30, so they are not subject to the limitations under the last par.of Sec. 30. TAXATION OF GENERAL PARTNERSHIPS *“E” died in December 2018 leaving to his three (3) sons “A”, “B” and “C” an apartment building. They decided not to partition the property and just divided the rentals among themselves for the year 2018. In 2020, “A”, “B” and “C” did not divide the income from the apartment building; instead they invested the same in the purchase of a house to be rented out. What is the status of their enterprise for income tax purposes for the year 2020? Explain your answer. (1972, dates and paraphrasing supplied) SUGGESTED ANSWER: A business partnership, taxable as a corporation, was formed as a result of the purchase of a house, to be rented out. There was an umistakable intention to form a partnership through contribution of the rental incomes from their common properties for the purpose of earning a profit to be deivided among themselves. There is continuity of 168 FREE PRE-WEEK NOTES TAXATION LAW the income stream through the regular rentals to be received from the house that was purchased. (Ona v. Commissioner, 45 SCRA 74) TAXATION OF GENERAL PROFESSIONAL PARTNERSHIPS (GPPS), IN GENERAL **1. What is a general professional partnership (GPP)? Are the incomes of a GPP subject to tax? Why? SUGGESTED ANSWER: A general professional partnership, is one 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. [NIRC of 1997, Sec. 22 (B), 2nd sentence] A general professional partnership as such shall not be subject to income taxes. (Ibid., Sec. 26, 1st sentence) This is regardless of whether they are registered as such general professional partnerships with the Securities and Exchange Commission (SEC). A general professional partnership is deemed to be no more than a mechanism or flow-through entity in the generation of income by, and the ultimate distribution of income to, respectively, each of the individual partners. (Tan v. Del Rosario, Jr. and Companion case, 237 SCRA 324, 335) NOTE NOT PART OF THE ANSWER: While a general professional partnership as such is not a taxable entity and therefore not subject to income taxes, the member professionals are to be subject to income taxes on their share in the distributive net income of such general professional partnership. HYPOTHETICAL BAR REVIEW QUESTIONS & ANSWERS 169 **2. XYZ Law Offices, a law partnership in the Philippines and a VAT-registered taxpayer, received a query by e-mail from Gainsburg Corporation, a corporation organized under the laws of Delaware, but the e-mail came from California where Gainsburg has an office. Gainsburg has no office in the Philippines and does no business in the Philippines. XYZ Law Offices rendered its opinion on the query and billed Gainsburg US$1,000 for the opinion. Gainsburg remitted its payment through Citibank which converted the remitted US$1,000 to pesos and deposited the converted amount in the XYZ Law Offices account. What are the tax implications of the payment to XYZ Law Offices in terms of xxx xxx Income Tax? (2013) SUGGESTED ANSWER: The payment to XYZ Law Offices by Gainsburg Corporation is not subject to income tax in the Philippines as income of a general professional partnership. While the above statement is correct, the payment received by XYZ Law Offices for services rendered to Gainsburg, is considered as income derived from sources without the Philippines, which is taxable as the income of the partners of XYZ Law Offices. For income tax purposes, payment of Gainsburg is going to be included as part of XYZ Law Offices’ gross income. From its total gross income derived within and without the Philippines, it has to compute its net income in the same manner as a corporation. The net income of the partnership whether distributed or not will be declared by the partners as part of their gross income who are to pay the income tax thereon in their individual capacity. (NIRC, Sec. 26) FREE PRE-WEEK NOTES TAXATION LAW 170 **3. A, B, and C, all lawyers, formed a partnership called ABC Law Firm so they can practice their profession as lawyers. For the year 2020, ABC Law Firm received earnings and paid expenses among which are as follows: Earnings: (1) Professional legal fees from various clients (2) Cash prize received from a religious society in recognition of exemplary service of ABC Law Firm (3) Gains derived from sale of excess computers and laptops Payments: (1) Salaries of office staff (2) Rentals space for office (3) Representation expenses incurred in meeting with clients (A) What are the items in the above-mentioned earnings which should be included in the computation of ABC Law Firm’s gross income ? Explain. (2014, dates and paraphrasing supplied) SUGGESTED ANSWER: The items in the above mentioned earnings that should be included in the computation of ABC Law Firm’s gross income are all those shown under the heading “Earnings,” which include the following: HYPOTHETICAL BAR REVIEW QUESTIONS & ANSWERS 171 (1) Professional legal fees from various clients. (2) Cash prize received from a religious society in recognition of exemplary service of ABC Law Firm. The foregoing items (1) and (2) should be included as part of ABC Law Firm’s gross income because they are considered as compensation derived from rendering legal services. [NIRC of 1997, Sec. 22 (A) (1). (3) Gains derived from sale of excess computers and laptops are also included because the excess computers and laptaps are used in the rendition by ABC Law of Firm of legal services. The gains derived sale being incidental to the rendition of legal services, although isolated in character, must be included as part of the gross income of ABC Law Firm. (Applying by analogy RMC No. 15-2011, and Mindanao II Geothermal Partnership v. Commissioner of Internal Revenue, G.R. Nos. 193301 and 194637, March 11, 2013) The gains should be included in gross income because they may be considered as gains derived from dealings in property. [NIRC of 1997, Sec. 32 (A), (3)] (B) What are the items in the above-mentioned payments which may be considered as deductions from the gross income of ABC Law Firm ? Explain. (2014, dates and paraphrasing supplied) SUGGESTED ANSWER: The items in the above mentioned payments which may be considered as deductions from the gross income of ABC Law Firm are all those shown under the heading “Payments:”, which include the following: (1) Salaries of office staff (2) Rentals for office space (3) Representation expenses incurred in meeting with clients 172 FREE PRE-WEEK NOTES TAXATION LAW This is so, because ABC Law Firm is a general professional partnership whose net income shall be computed in the same manner as a corporation. (NIRC of 1997, Sec. 26, 2nd par.) The net income of a corporation is determined by deducting from its gross income all ordinary and necessary expenses that are incurred or paid in earining the income. The items of payment described in the problem are considered as ordinary and necessary expenses. While this may be so, there is need to comply with requisites of deductibility such as the limitation on the deductibility of the representation expenses to the extent of 1.00 percent (1%) of net revenue (i.e., gross revenue less discounts). [Rev. Regs. No. 10-2002, Sec. 5 which implements NIRC of 1997, Sec. 34 (A) (1) (a) (iv)] (C) If ABC Law Firm earns net income in 2020, what, if any, is the tax consequence on the part of ABC Law Firm insofar as the payment of income tax is concerned ? What, if any, is the tax consequence on the part of A, B, and C as individual partners, insofar as the payment of income tax is concerned ? (2014, dates and paraphrasing supplied) SUGGESTED ANSWER: ABC Law Firm is not subject to pay income tax as it is a general professional partnership formed by A, B, and C “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” [NIRC of 1997, Sec. 22 (B), last sentence in relation to Sec. 26, 1st sentence] ABC Law Firm is not subject to income tax because it is deemed to be no more than a mechanism or flowthrough entity in the generation of income by, and the ultimate distribution of income to, respectively, each of the individual partners. (Tan v. Del Rosario, Jr. et al., and Companion case, 237 SCRA 324, 335) HYPOTHETICAL BAR REVIEW QUESTIONS & ANSWERS 173 “Clearly, a general professional partnership shall not be subject to income tax xxx.” (RMC No. 2-2012,3rd par., 1st sentence, paraphrasing supplied) A, B, and C, as partners of ABC Law Firm, shall each “report as gross income his distributive share, actually or constructively received, in the net income of the partnership” (NIRC of 1997, Sec. 26, last par., paraphrasing supplied), and they shall then “be subject to income tax in their separate and individual capacities.” (RMC No. 2-2012, 3rd par., 1st sentence, paraphrasing supplied) TAXATION OF CO-OWNERSHIPS **1. Rosa Arroyo died in 2020. Her heirs executed a project of partition of her estate which was approved by the Court. However, Rosa’s estate was not actually distributed among the heirs but remained under the management of their father (widower-spouse) who used the properties in business and so their value increased yearly. The profits were credited on the books of account of the common fund to the heirs in proportion to their respective hereditary shares. The heirs allowed their father to continue using their shares for his ventures, although they paid income taxes on their respective shares of the profits of their common business. Is there a partnership here subject to corporate income tax under the Tax Code ? Why ? (1975, date supplied) SUGGESTED ANSWER: No. There was no partnership formed subject to the corporate income tax , when her widower-spouse and her heirs did not partition the estate they inherited from Rosa. However, when the heirs allowed their father (the widower spouse) to continue using their shares for his ventures, resulting in a common business, there was formed a partnership. 174 FREE PRE-WEEK NOTES TAXATION LAW Co-heirs who own properties which produce income should not automatically be considered partners of an unregistered partnership, or a corporation, within the purview of the income tax law. To hold otherwise, would subject the income of all co-ownership of inherited properties to the tax on corporations resulting in oppressive taxation and confirm the dictum that the power to tax involves the power to destroy. This eventuality should be obviated. Article 1769 (3) of the Civil Code provides that “the sharing of gross returns does not of itself establish a partnership, whether or not the persons sharing them have a joint or common right or interest in any property from which the returns are derived.” There must be an unmistakable intention to form a partnership or joint venture. (Obillos, Jr. v. Commissioner of Internal Revenue, 139 SCRA 440) Such is not present in the instant case. For tax purposes when the heirs allowed their father (the widower-spouse) to continue using their shares for his ventures, resulting in a common business there was in fact, a contribution of the incomes of the heirs to a common fund for the purpose of dividing the rentals earned among themselves. Thus, a partnership was formed subjecting them to corporate income tax rates. (Ona v. Commissioner, 45 SCRA 74) **2. Noel Langit and his brother, Jovy, bought a parcel of land which they registered in their names as pro indiviso owners (Parcel A). Subsequently, they formed a partnership, duly registered with the Securities and Exchange Commission, which bought another parcel of land (Parcel B). Both parcels of land were sold, realizing a net profit of P1,000,000.00 for Parcel A and P500,000.00 for Parcel B. a. The BIR claims that the sale of Parcel A should be taxed as a sale by an unregistered partnership. Is the BIR correct ? (1994) HYPOTHETICAL BAR REVIEW QUESTIONS & ANSWERS 175 SUGGESTED ANSWER: No. The brothers have not formed a partnership subject to corporate tax rates. Mere sharing of gross returns does not of itself establish a partnership. [CCP, Art. 1769 (3)] There must be an unmistakable intention to form a partnership or joint venture. (Obillos, Jr. v. Commissioner of Internal Revenue, 139 SCRA 440) There is no showing that the joint purchase was for the purpose of earning profits to be divided among them. b. The BIR also claims that the sale of Parcel B should be taxed as a sale by a corporation. Is the BIR correct ? (1994) SUGGESTED ANSWER: Yes, because Parcel B was bought after the brothers have formed a taxable partnership. Registration of the partnership with the SEC is a manifest showing of the bother’s intention to engage in business together and divide the profits. TAXATION OF JOINT VENTURES AND CONSORTIA *Weber Realty Company which owns a three hectare land in Antipolo entered into a Joint Venture Agreement (JVA) with Prime Development Company for the development of said parcel of land. Weber Realty as owner of the land contributed the land to the Joint Venture and Prime Development agreed to develop the same into a residential subdivision and construct residential houses thereon. They agreed that they would divide the lots between them. Does the JVA entered into by and between Weber and Prime create a separate taxable entity? Explain briefly. (2007) SUGGESTED ANSWER: Yes. In order that a JVA should not be taxable as a corporation and considered as a separate taxable entity and it must involve the pooling of 176 FREE PRE-WEEK NOTES TAXATION LAW resources between licensed local contractors; that is, licensed as general contractor by the Philippine Contractors Accreditation Board (PCAB) of the Department of Trade and Industry (DTI). (Rev. Reg. No. 10-2012, Section 3) In the problem, Weber Realty is not a contractor but the owner of the land which contributed land to the Joint Venture. While it is implied that Prime Development is engaged in the construction business, there is no showing that it is a licensed general contractor by the PCAB/DTI. Thus, Weber Realty and Prime Development should be taxable as if the JVA between them is a corporation with a separate taxable personality. WITHHOLDING TAX *1. Explain the concept of the withholding tax system or “taxation at source”. What is the rationale behind it? SUGGESTED ANSWER: The concept of withholding system or “taxation at source” refers to deduction made by a payor, as an agent of government, from paymentrs of income to a payee of estimated taxes to be paid by the payee. the the the the The basic rationale is to facilate the collection of taxes and to prevent tax evasion. ALTERNATIVE ANSWER: The concept of “taxation at source,” refers to the requirement that taxes imposed or prescribed by the National Internal Revenue Code (NIRC) are to be deducted and withheld by the payor-corporations and/or persons from payments made to payeescorporations and/or persons for the former to pay the same directly to the Bureau of Internal Revenue (BIR). Thus, the taxes are collected practically at the time the transaction is HYPOTHETICAL BAR REVIEW QUESTIONS & ANSWERS 177 made or when the taxable act occurs. It is also known as the “withholding tax system.” The following are considered as the rationale behind the concept of “taxation at source”: a. To provide the taxpayer a convenient manner to meet his probable income tax liability. b. To ensure the collection of the income tax which could otherwise be lost or substantially reduced through failure to file the corresponding returns. c. To improve the government’s cash flow [Confederation for Unity, Recognition and Advancement of Government Employees (COURAGE), v. Commissioner, etc., G.R. No. 213446, and companion cases, July 03, 2018] to enable it to meet its obligations as they fall due. d. To minimize tax evasion, thus resulting in a more efficient tax collection system. “This results in administrative savings, prompt and efficient collection of taxes, prevention of delinquencies and reduction of governmental effort to collect taxes through more complicated means and remedies.” **2. Argus Corp. is listed as a top 1,000 Philippine corporation by the Bureau of Internal Revenue. It secured a loan from Minotaur Bank with a 6% per annum interest. All interest payments made by Argus Corp. to Minotaur Bank is subject to a 2% creditable withholding tax. At the same time, Argus Corp. has a trust deposit with Minotaur Bank in the amount of P100,000,000.00, which earns 2% interest per annum, but is subject to a 20% final withholding tax on the interest income received by Argus Corp. (a) Who are the withholding agents in the case of: FREE PRE-WEEK NOTES TAXATION LAW 178 1) The 20% final withholding tax. Explain. SUGGESTED ANSWER: The withholding agent for the 20% final withholding tax is Minotaur Bank for the reason that the withholding agent is the person that has control of the funds. 2) The 2% creditable withholding tax ? Explain. SUGGESTED ANSWER: The withholding agent for the 2% creditable withholding tax is Argus Corp, because it is the payor of the fund. 3. What are the kinds of withholding taxes ? SUGGESTED ANSWER: taxes are: The kinds of withholding a. Final withholding tax at source. [NIRC, Sec. 57 (A)] b. Creditable withholding tax at source. [Ibid., Sec. 57 (B)] 1) Expanded withholding tax c. Withholding tax on compensation **4. Is the prize of one million pesos awarded by the Readers’ Digest subject to withholding of final tax? Who is responsible for withholding the tax? What are the liabilities for failure to withhold such tax? SUGGESTED ANSWER: Yes. Prizes and other winnings are subject to withholding of final taxes. The payor is responsible for withholding the tax. Any payor required to withhold taxes and who willfully fails to withhold shall be subject to the criminal penalties of fine and imprisonment and upon conviction to a penalty equal to the total amount of the tax not withheld. (NIRC of 1997, Sec. 251 and 254) HYPOTHETICAL BAR REVIEW QUESTIONS & ANSWERS 179 *5. What are the liabilities for failure to withhold a tax? SUGGESTED ANSWER: The liabilities for failure to withhold a tax include the administrative penalty and criminal penalty in the form of both deprivation of liberty (imprisonment) and pecuniary in the form of a fine. The liablities that may be imposed for failure to withhold a tax is dependent upon whether the withholding tax agent is a. a natural person or individual, b. a corporation, or c. the government. a. Liabilities of a person (natural or juridical) for failure as withholding agent to withhold the required tax. Any person required to withhold any tax required to be withheld by the NIRC of 1997, 1) shall in addition to the criminal penalties of fine and imprisonment provided for under Sec. 255 of the NIRC of 1997, 2) be liable upon conviction to a penalty equal to the total amount of the tax not withheld, or not accounted for and remitted. (NIRC of 1997, Sec. 251, paraphrasing supplied) Any person required under the NIRC of 1997 to withhold shall upon conviction be punished by a penalty equal to the total amount of the tax not withheld (NIRC of 1997, Sec. 251) and a fine of not less than Php10,000.00 and suffer imprisonment of not less than one (1) year but not more than ten (10) years. (Ibid., Sec. 255, 1st par.) b. Penal liability of corporations to fines. Any corporation, association or general co-partnership FREE PRE-WEEK NOTES TAXATION LAW 180 liable for any of the acts or omissions penalized under the NIRC of 1997, in addition to the penalties imposed herein upon the responsible corporate officers, partners, or employees shall, upon conviction for each act or omission, be punished by a fine of not less P50,000) but not more than P100,000. (NIRC of 1997, Sec. 256, paraphrasing supplied) c. Personal liability of government employee if the withholding agent is the Government. If the withholding agent is the Government or any of its agencies, political subdivisions or instrumentalities, or a government-owned or -controlled corporation, the employee thereof responsible for the withholding and remittance of the tax shall be personally liable for the deficiency taxes. [NIRC of 1997, Sec. 247 (b)] INDIVIDUAL INCOME TAX RETURNS AND PAYMENT ***1. Who should file individual income tax returns in the Philippines ? SUGGESTED ANSWER: a. A citizen of the Philippines and any alien individual engaged in business or practice of profession within the Philippine shall file an income tax return, regardless of the amount of gross income. [NIRC of 1997, Sec. 51 (A) (2) (a), as amended by the TRAIN] b. An individual deriving compensation concurrently from two or more employers at any time during the taxable year shall file an income tax return. [Ibid., Sec. 51 (A) (2) (b)] HYPOTHETICAL BAR REVIEW QUESTIONS & ANSWERS 181 ***2. Omar Hassan is a Malaysian who first arrived in the Philippines in 2017 as a member of the Malaysian sports contingent that participated in the Southeast Asian Games (SEAG). After his stint, he returned to Malaysia, but shuttles between here and the Malaysia regularly up to the present. He does not stay longer than thirty (30) days in the Philippines in any given year. He is presently employed as consultant with an European company situated at the Bonifacio Global City (BGC). For the year 2020, he earned US$10,650.00 in consultation fees. Sometime in 2021, the District Revenue Office of the Bureau of Internal Revenue served him a notice informing him that he did not file his income tax return for the year 2020 and directing him to file said return in 10 days. He refused to file any return claiming that he is not a resident alien and is therefore not required to file any income tax return. Is Hassan’s claim correct ? SUGGESTED ANSWER: No. Hassan’s claim is not correct. He is an alien individual engaged in business or practice of profession within the Philippines who is required to file an income tax return, regardless of the amount of gross income. [NIRC of 1997, Sec. 51 (A) (2) (a), as amended by the TRAIN] ***3. In 2021, Camille worked part time as a waitress in a restaurant in Maginhawa Street from 8:00 a.m. to 4:00 p.m. and then as a cashier in a 24-hour convenience store in her neighborhood. The total income of Camille from the two employers does not exceed P250,000.00. Was she required to file an income tax return next April? Explain your answer. SUGGESTED ANSWER: Yes. An individual deriving compensation income concurrently from two or more employers at any time during the taxable year is required to file an income tax return. [NIRC of 1997, Sec. 51 (A) 182 FREE PRE-WEEK NOTES TAXATION LAW (2)] This is irrespective of the amount of income earned from the two employers. ***4. Is a resident alien required to file an income tax return in the Philippines ? SUGGESTED ANSWER: Yes. A resident alien is required to file an income tax return only on income derived from from sources within the Philippines [NIRC of 1997, Sec. 51 (A) (4) (c)] which exceeds P250,000.00. 5. Bian a resident Filipino is a government employee and also as a self-employed wedding photographer. What should she file with the Bureau of Internal Revenue? SUGGESTED ANSWER: Bian being a resident Filipino individual subject to income tax who is receiving self-employment income, whether it constitutes the sole source of his income or in combination with salaries, wages and other fixed or determinable income, shall make and file a declaration of his estimated income for the current taxable year on or before May 15 of the same taxable year.” [NIRC of 1997, Sec. 74 (A), 1st sentence, as amended by the TRAIN] Would your answer be the same if Bian is a nonresident Filipino or a non-resident alien ? Explain your answer. SUGGESTED ANSWER: No more. “Non-resident Filipino citizens, with respect to income from without the Philippines, and non-resident aliens not engaged in trade or business in the Philippines, are not required to render a declaration of estimated income tax.” [NIRC of 1997, Sec. 74 (A) 3rd sentence, paraphrasing supplied] 6. The Philippine internal revenue service has adopted the “pay as you go” system of paying internal revenue taxes. This means that as a general rule, taxes are paid at the time the appropriate tax returns are filed. There are however certain instances when HYPOTHETICAL BAR REVIEW QUESTIONS & ANSWERS 183 the law specifically allows the payment of taxes in installments. When may taxes be paid in installments when there are no specific provisions of law allowing for the payment by installments ? SUGGESTED ANSWER: As a general rule, “When a tax due is in excess of Two thousand pesos (P2,000), the taxpayer other than a corporation, may elect to pay the tax in two (2) equal installments, in which case, the first installment shall be paid at the time the return is filed and the second installment on or before October 15 following the close of the calendar year, if any installment is not paid on or before the date fixed for its payment, the whole amount of the tax unpaid becomes due and payable together with the delinquency penalties.” [NIRC of 1997, Sec. 56 (A) (2), as amended by the TRAIN] *7. H, husband, and W, wife; Filipinos with four (4) minor children, are both employed in the Philippines. Due to their desire to save on income tax, should they file separate returns? Explain your answer. SUGGESTED ANSWER: Yes. They should file separate returns. Combining the compensation income of H and W would bring them to a high tax bracket. Filing separate returns would place them within a lower tax bracket which results to lower taxes. **8. Who are the individuals that are NOT required to file an income tax return ? SUGGESTED ANSWER: The following individuals are not required to file an income tax return: a. “An individual whose taxable income does not exceed Two hundred fifty thousand pesos (₱250,000) under Section 24(A)(2)(a): Provided, That a citizen of the Philippines and any alien individual engaged in business or practice of profession within the Philippines shall file an 184 FREE PRE-WEEK NOTES TAXATION LAW income tax return, regardless of the amount of gross income.” [NIRC of 1997, sec. 51 (2) (a), as amended by theTRAIN) Sec. 24 (A) (2) (a) refers to the Tax Schedule Effective January 1, 2018 until December 31, 2022 on the Taxable Income of Individuals. b. “An individual with respect to pure compensation income, as defined in Section 32 (A)(1), derived from sources within the Philippines, the income tax on which has been correctly withheld under the provisions of Section 79 of this Code: Provided, That an individual deriving compensation concurrently from two or more employers at any time during the taxable year shall file an income tax return.” [NIRC of 1997, sec. 51 (2) (b), as amended by the TRAIN] Sec. 32 (A) (1) states, “Compensation for services in whatever form paid, including, but not limited to fees, salaries, wages, commissions, and similar items.” c. An individual whose sole income has been subjected to final withholding tax pursuant to Section 57(A) of this Code; and [Ibid., Sec. 51 (2) (c)] d. An individual who is exempt from income tax pursuant to the provisions of this Code and other laws, general or special.” [Ibid., sec. 51 (2)[Ibid, (d)] “The foregoing notwithstanding, any individual not required to file an income tax return may nevertheless be required to file an information return pursuant to rules and regulations prescribed by the Secretary of Finance, upon recommendation of the Commissioner.” [Ibid., sec. 51 (3)] e. In case of substituted filing. “Individual taxpayers receiving purely compensation income, regardless of amount, from only one employer in the Philippines for the calendar year, the income tax of which has been withheld correctly by the said employer (tax due equals tax HYPOTHETICAL BAR REVIEW QUESTIONS & ANSWERS 185 withheld) shall not be required to file an annual income tax return. The certificate of withholding filed by the respective employers, duly stamped ‘received’ by the BIR, shall be tantamount to the substituted filing of income tax returns by said employees.” (NIRC of 1997, Sec. 51-A, as inserted by the TRAIN) ***9. Policarpio, who is married with four (4) minor dependent children, works as a driver in a government office which pays him P16,000.00 monthly. He asks you whether he is still required to file an income tax return What will your answer be? Why? SUGGESTED ANSWER: A is not required anymore to file an income tax return because his taxable income does not exceed Two hundred fifty thousand pesos (P250,000). [NIRC of 1997, Sec. 51 (A) (2) (a), as amended by the TRAIN] ***10. Who are NOT required to file Income Tax Returns (ITRs) because they are allowed to avail of the system of Substituted Filing of Income Tax Returns ? SUGGESTED ANSWER: “Individual taxpayers receiving purely compensation income, regardless of amount, from only one employer in the Philippines for the calendar year, the income tax of which has been withheld correctly by the said employer (tax due equals tax withheld) shall not be required to file an annual income tax return. The certificate of withholding filed by the respective employers, duly stamped ‘received’ by the BIR, shall be tantamount to the substituted filing of income tax returns by said employees.” [NIRC of 1997, Sec. 51-A, as inserted by the TRAIN. This is a new provision] In Lieu of BIR Form No. 1700, the Annual Information Return of Income Taxes Withheld on Compensation and Final Withholding Taxes (BIR Form No. 1604-CF) (hard copy) filed by their respective employers, duly stamped 186 FREE PRE-WEEK NOTES TAXATION LAW “received” by the BIR, shall be tantamount to the substituted filing of income tax returns by said employees.” (Rev. Regs. Nos. 2-98 as amended by Rev. Regs. No. 32002, Sec. 2.83.4, 1st par.) ***11. Who are the employees that are NOT qualified for substituted filing and still required to file an Income Tax Return (BIR Form No. 1700) ? SUGGESTED ANSWER: The following individuals, however are not qualified for substituted filing and therefore, still required to file BIR Form No. 1700 in accordance with existing regulations: a. Individuals deriving compensation from two or more employees concurrently or successively at anytime during the taxable year. b. Employees deriving compensation income, regardless of the amount, whether from a single or several employers during the calendar year, the income tax of which has not been withheld correctly (i.e. tax due is not equal to the tax withheld) resulting to collectible or refundable return. c. Employees whose monthly gross compensation income does not exceed Five Thousand Pesos (P5,000.00) or the statutory minimum wage, whichever is higher, and opted for non-withholding of tax on said income. d. Individuals deriving other non-business, nonprofession-related income in addition to compensation income not otherwise subject to a final tax. e. Individuals receiving purely compensation income from a single employer, although the income tax of which has been correctly withheld, but whose spouse falls under Section 2.83.4 (A), (B), (C) and (D) of these regulations. f. Non-resident aliens engaged in trade or business in the Philippines deriving purely compensation income or HYPOTHETICAL BAR REVIEW QUESTIONS & ANSWERS 187 compensation, or compensation income and other nonbusiness, non-profession-related income. In case of married individuals who are still required to file returns under existing provisions of the law, i.e. in those instances not covered by the substituted filing of returns, only one return for the taxable year shall be filed by either spouse to cover the income of the spouses, which return shall be signed by the husband and the wife unless it is physically impossible to do so, in which case signature of one of the spouses would suffice. (Rev. Regs. No 2-98, as amended by Rev. Regs. No. 3-2002, Sec. 2.83.4, 2nd and 3rd pars.) ***12. On April 30, 2021, Psalmir was among those retrenched as a production manager of ABS-CBN which issued to him a Certificate of Withholding Tax on Compensation (BIR Form No. 2316), which showed that the tax withheld from his compensation was equal to his income tax due for the period from January 2021 to April 30, 2021. A month after his retrenchment, Psalmir put up his own studio and started producing film commercials for advertising companies. He was able to earn a meager income from his films commercials but did not keep record of his production expenses. Is Psalmir qualified for substituted filing for taxable year 2021? Explain your answer. SUGGESTED ANSWER: No. Psalmir is not entitled to substituted filing because he did not receive purely compensation income, regardless of amount, from only one employer in the Philippines for the calendar year, the income tax of which has been withheld correctly by the said employer (tax due equals tax withheld). Specifically, Psalmir is not qualified for substituted filing and still required to file an Income Tax Return (BIR Form No. 1700) because he is an individual who derived 188 FREE PRE-WEEK NOTES TAXATION LAW other non-profession-related income in addition to compensation income not otherwise subject to a final tax. (Rev. Regs. No 2-98, as amended by Rev. Regs. No. 32002, Sec. 2.83.4, 2nd and 3rd pars.) ***13. Atty. Aaron Barrios is employed as the Chief Operating Officer of ABC Company receiving an annual compensation of P10,000,000.00, while Mr. Elmer Lusung is a security guard in the same company earning an annual compensation of P20,000.00. Both of them source their income only from their employment with ABC Company. (a) At the end of the year, is Atty. Barrios personally required to file an annual income tax return ? Explain. SUGGESTED ANSWER: No. Since Atty. Barrios is receiving compensation income only from a single employer, ABC Company, during the taxable period, he is qualified for substituted filing provided the employer has withheld the correct income taxes on income paid to and received by Atty. Barrios. (b) How about Mr. Lusung? Is he personally required to file an annual income tax return ? Explain. SUGGESTED ANSWER: No. Mr. Lusung is not personally required to file an annual income tax return for the reason that his total annual compensation income is P240,000.00 which is below the threshold of taxable annual income of P250,000.00. Thus, Mr. Lusung is not required to file an income tax return. [NIRC of 1997, sec. 51 (A) (2) (a)] *14. Give the due dates for the filing of the annual income tax returns (ITRs) of individuals and where should the ITRs be filed ? SUGGESTED ANSWER: The return of any individual shall be filed on or before the fifteenth (15th) day of April of HYPOTHETICAL BAR REVIEW QUESTIONS & ANSWERS 189 each year covering income for the preceding taxable year. [NIRC of 1997, Sec. 51 (C), renumbered] The BIR Commissioner may, in meritorious cases, grant a reasonable extension of time for filing returns of income. (NIRC of 1997, Sec. 53, paraphrasing supplied) Except in cases where the Commissioner otherwise permits, the return shall be filed with an authorized agent bank, Revenue District Officer, Collection Agent or duly authorized Treasurer of the city or municipality in which such person has his legal residence or principal place of business in the Philippines, or if there be no legal residence or place of business in the Philippines, with the Office of the Commissioner. [NIRC of 1997, Sec. 51 (B)] *15. Spouses Rizaldy and Gabrielle Salvador, both resident citizens, acquired during their marriage a residential house and lot located in Baguio City, which is being leased to a tenant for a monthly rental of P100,000.00. Mr. Rizaldy Salvador is the President of RS Corporation and he receives P50,000.00 salary per month. The spouses have only one (1) minor child. In late June 2021, he was immediately brought to the hospital because of a heart attack and he was pronounced dead on June 30, 2021. With no liabilities, the estate of the late Pablo Gonzales was settled extrajudicially in late 2021. a) Is Mr. Rizaldy Salvador required to file income tax return for 2021 ? If so, how much income must he declare for the year ? SUGGESTED ANSWER: Yes. Mr. Rizaldy Salvador is required to file an income tax return for the period January 1 to June 30, 2021. This would be one-half of the six months rentals as his share in the conjugal partnership or P300,000.00 and his six (6) months salary or an equivalent of P300,000.00 or a total of P600,000.00. 190 FREE PRE-WEEK NOTES TAXATION LAW b) Is Mrs. Gabrielle Salvador required to file income tax return for 2021? If so, how much income must she declare for the year ? Explain your answer. SUGGESTED ANSWER: Yes, because she had income in 2021. The income that she should declare should be her share in the rentals which is P600,000.00 for the year corresponding to her share in the conjugal partnership gains. c) Is the Estate of the late Rizaldy Salvador required to file income tax return for 2021? If so, how much income must it declare for the year ? .Explain your answer. SUGGESTED ANSWER: Yes. Since the estate was settled in 2021, then the estate had income in 2021 for the period July 1, 2021 up to December 31, 2021. This income is represented by the income that Mr. Salvador would have earned as his conjugal share in the rentals which is P300,000.00. CORPORATE INCOME TAX RETURNS *1. How often does a domestic corporation file income tax return for income earned during a single taxable year. SUGGESTED ANSWER: Four (4) times a year. A quarterly summary declaration is filed for each of the first three (3) quarters followed by a final adjustment return, for the whole year including the last quarter. What is the reason for such procedure? SUGGESTED ANSWER: This is in order to provide the government with sufficient cash flow to meet its obligations as they fall due. HYPOTHETICAL BAR REVIEW QUESTIONS & ANSWERS 191 **2. When is the deadline for the filing of a corporation’s final adjustment return for a calendar year? How about for a fiscal year? SUGGESTED ANSWER: A calendar year corporate tax return is filed not later than April 15 of the year following the year when the income was earned while a fiscal year corporate tax return is filed on or before the 15th day of the fourth (4th) month from the close of the fiscal year. iii. VALUE-ADDED TAX NATURE AND CHARACTERISTICS OF VALUE-ADDED TAX 1. Why is the tax called value-added ? SUGGESTED ANSWER: The tax is a tax on valueadded because it is imposed only on the increase in the worth, merit or importance of goods, properties or services, and not on the total value of the goods or services being sold or rendered. *2.Discuss the meaning and scope of value-added tax (VAT). SUGGESTED ANSWER: The value-added tax is a uniform tax ranging, at present, from 0 percent to 12 percent [now under the Reformed Value-Added Tax (RVAT)] levied on every importation of goods, whether or not in the course of trade or business, or imposed on each sale, barter, exchange or lease of goods or properties on each rendition of services in the course of trade or business as they pass along the production and distribution chain, the tax being limited only to the value added to such goods, properties or services by the seller, transferor or lessor. [Commissioner of Internal Revenue v. FREE PRE-WEEK NOTES TAXATION LAW 192 Seagate Technology (Philippines), 451 SCRA 132 citing various cases, percentages supplied] *3. What are the characteristics of the ValueAdded Tax ? SUGGESTED ANSWER: The characteristics of the Value-Added Tax are the following: a. It is an indirect tax. b. It is a tax on consumption. c. It is a percentage tax. d. It is a regressive tax. The above characteristics of the Value-Added Tax are sometimes referred to as the nature of the Value-Added Tax. *4. What is tax pyramiding? What is its basis in law? SUGGESTED ANSWER: Tax pyramiding is the practice of imposing a tax upon another tax. It is a situation where some or all of the stages of distribution of goods or services are taxed, with the accumulation borne by the final consumer. There is tax pyramiding when sales taxes are applied to both inputs and outputs, thus shifting the tax burden to the ultimate consumer. [R. G. Holcombe, Taxing Services, 30 Fla. St. U.L. Review Rev. 467 (1996)] It has no basis in law because It has been rejected, since 1922, by the Supreme Court, the legislature and our tax authorities. It is prohibited as a taxpayer cannot be compelled to pay a tax on the tax itself. (People of the Philippines v. Sandiganbayan, etc., G. R. No. 152532, August 16, 2005) Thus, it violates the principle of uniformity and neutrality in taxation. (R.G. Holcombe, supra) HYPOTHETICAL BAR REVIEW QUESTIONS & ANSWERS 193 5. What is the nature or characteristic of VAT as a consumption tax ? SUGGESTED ANSWER: VAT is ultimately a tax on consumption, even though it is assessed on many levels of transactions on the basis of a fixed percentage. It is the end user of consumer goods or services which ultimately shoulders the tax, as the liability therefrom is passed on to the end users by the providers of these goods or services who in turn may credit their own VAT liability (or input VAT) from the VAT payments they receive from the final consumer (or output VAT). The final purchase by the end consumer represents the final link in a production chain that itself involves several transactions and several acts of consumption. The VAT system assures fiscal adequacy through the collection of taxes one very level of consumption, yet assuages the manufacturers or providers of goods and services by enabling them to pass on their respective VAT liabilities to the next link of the chain until finally the end consumer shoulders the entire tax liability. (Commissioner of Internal Revenue v. Magsaysay Lines, Inc., G. R. No. 146984, July 28, 2006) *6. Masarap Kumain, Inc. (MKI) is a Value-Added Tax (VAT)-registered company which has been engaged in the catering business for the past 10 years. It has invested a substantial portion of its capital on flat wares, table linens, plates, chairs, catering equipment, and delivery vans. MKI sold its first delivery van, already 10 years old and idle. to Magpapala Gravel and Sand Corp. (MGSC), a corporation engaged in the business of buying and selling gravel and sand. The selling price of the delivery van was way below its acquisition cost. Is the sale of the delivery van by MKI to MGSC subject to VAT? (2014) SUGGESTED ANSWER: Yes. The sale of the delivery van by MKI to MGSC is subject to VAT. 194 FREE PRE-WEEK NOTES TAXATION LAW MKI is a VAT-registered company engaged in ‘in the course of trade or business’ catering which means the regular conduct or pursuit of a commercial or an economic activity, including transactions incidental thereto (NIRC of 1997, Sec. 105, 3rd par.;(Rev. Regs. No. 16-2005, Sec. 4.105-3, 1st par.) which are subject to VAT. The delivery van being used in MKI’s trade or business of catering is part of its assets. The sale of a fully depreciated asset (the delivery van) that has been used in business is subject to VAT as an incidental transaction, although such sale may be considered isolated. (Mindanao 11 Geothermal Partnership v. CIR, G.R. Nos. 193301, 194637, March 11, 2013) *7. Is the sale of tractors and other agricultural implements by AgriMasin, Inc. to local farmers subject to VAT ? If so, at what rate ? Why ? SUGGESTED ANSWER: Yes. It is subject to VAT at 12%. VAT is imposed and collected on every sale, barter or exchange, or transactions “deemed sale” of taxable goods or properties at the rate of 12% of the gross selling price or gross value in money of the goods or properties sold, bartered, or exchanged, or deemed sold in the Philippines. (Rev. Regs. No. 16-2005, Sec. 4.106-1, in relation to RMC No. 7-2006) EFFECTIVELY ZERO-RATED SALE OF GOODS AND PROPERTIES *1. What is meant by the term “effectively zerorated sale of goods and properties”? SUGGESTED ANSWER: The term “effectively zerorated sale of goods and properties” shall refer to the local sale of goods and properties by a VAT-registered person to a person or entity who was granted indirect tax exemption under special laws or international agreement. HYPOTHETICAL BAR REVIEW QUESTIONS & ANSWERS 195 Transactions which, although not involving actual export, are considered as “constructive export” shall be entitled to the benefit of zero-rating, such as a. local sales of goods and properties to persons or entities covered such as 1) sales to export-oriented enterprises, 2) sale of goods supplies, equipment and fuel to persons engaged in international shipping or international air transport operations, 3) Foreign Currency Denominated Sale, and 4) Sales to Tax-Exempt Persons or Entities. (Rev. Regs. No. 16-2005, Sec. 4.106-6, 1st par., paraphrasing supplied) **2. Team Energy is principally engaged in the business of power generation and the subsequent sale thereof to the National Power Corporation (NPC) under a Build, Operate, Transfer Scheme. It is also registered with the BIR as a VAT taxpayer. BIR granted it an Effective Zero-Rate for the supply of electricity to the NPC for the period January 1, 2005 to December 31, 2005. It then filed with the BIR its Quarterly VAT Returns for the first three quarters of 2005 on April 25, 2005, July 26, 2005, and October 25, 2005, respectively. It also filed its Monthly VAT Declaration for the month of October 2005 on November 21, 2005, which was subsequently amended on May 24, 2006. On December 20, 2006, Team Energy filed an administrative claim for cash refund or issuance of tax credit certificate corresponding to the input VAT reported in its Quarterly VAT Returns for the first three quarters of 2005 and Monthly VAT Declaration for October 2005 in the amount of P80 million plus. 196 FREE PRE-WEEK NOTES TAXATION LAW Due to the BIR’s inaction on its claim, Team Energy filed a Petition for Review before the CTA in Division which in its July 13, 2010 Decision ordered the BIR to refund or, in the alternative, issue a tax credit certificate in the amount of P79 million plus. Subsequently,the CTA Division reversed itself upon a motion for reconsideration filed by the BIR. The En Banc then reinstated the Division’s July 13. 2010. Rule on the Commissioner of Internal Revenue’s (CIR’s) contention that the CTA en banc erred in not requring Team Energy to secure a Certificate of Compliance (COC) from the Energy Regulatory Commission (ERC) because of the requirement under Section 13 of the NPC Charter which the Team Energy to qualify as a "generation company" under the EPIRA before its sale of services to NPC may be subject to VAT zero-rating. SUGGESTED ANSWER: The CIR’s contention is bereft of merit. The Supreme Court “rejected the contention of the CIR that Team Energy is not entitled to tax refund or tax credit because it cannot qualify for VAT zero-rating for its failure to submit its ERC Registration and COC required under the EPIRA considering that Team Energy's refund claim is premised on Section 108(B)(3) of the 1997 NIRC, in relation to NPC's charter, the requirements under the EPIRA are inapplicable. To qualify its electricity sale to NPC as zero-rated, Team Energy needs only to show that it is a VATregistered entity and that it has complied with the invoicing requirements under the 1997 NIRC, in conjunction with Revenue Regulations. (Commissioner of Internal Revenue v. Team Energy, etc., G.R. No. 230412, March 27, 2019) Effective zero-rating is not intended as a benefit to the person legally liable to pay the tax, such as Team Energy HYPOTHETICAL BAR REVIEW QUESTIONS & ANSWERS 197 but to relieve certain exempt entities, such as the NPC, from the burden of indirect tax so as to encourage the development of particular industries. Effective zero-rating was intended to relieve the exempt entity from being burdened with the indirect tax which is or which will be shifted to it had there been no exemption. In this case, Team Energy is being exempted from paying VAT on its purchases to relieve NPC of the burden of additional costs that Team Energy may shift to NPC by adding to the cost of the electricity sold to the latter. (Ibid.) 3. Illustrate the concept that zero-rating is not for the benefit of the person legally liable for the tax but for the benefit of the person to whom the indirect tax is to be passed on. SUGGESTED ANSWER: The Supreme Court emphasized that effective zero-rating is not intended as a benefit to the person legally liable to pay the tax, such as San Roque Power Corporation, but to relieve certain exempt entities, such as the NPC, from the burden of indirect tax so as to encourage the development of particular industries. Before, as well as after, the adoption of the VAT, certain special laws were enacted for the benefit of various entities and international agreements were entered into by the Philippines with foreign governments and institutions exempting sale of goods or supply of services from indirect taxes at the level of their suppliers. Effective zero-rating was intended to relieve the exempt entity from being burdened with the indirect tax which is or which will be shifted to it had there been no exemption. In this case, San Roque Power Corporation is being exempted from paying VAT on its purchases to relieve NPC of the burden of additional costs that petitioner may shift to NPC by adding to the cost of the electricity sold to the latter. (San Roque Power Corporation v. Commissioner of Internal Revenue, G.R. No. 180345, November 25, 2009) 198 FREE PRE-WEEK NOTES TAXATION LAW WHO ARE SUBJECT TO VAT ***1. The National Power Corporation (NPC) bought manufactured products from SIMPLEX Corp. (SC) for which SC passed on the VAT to NPC. NPC claims it should not pay the VAT because it is exempt from the payment of all taxes under its Charter. How would you decide this case ? SUGGESTED ANSWER: The contention of NPC is without merit. The tax is due from SC, who is not exempt, because it is a sales tax. NPC’s tax exemption does not flow to SC who must show a specific provision of law under which it is exempt. Furthermore, an exemption from “all taxes” excludes indirect taxes, unless the exempting statute, like NPC’s charter, is so couched as to include indirect tax from the exemption. Statutes granting tax exemptions must be construed in strictissimi juris against the taxpayer and liberally in favor of the taxing authority, and if an exemption is found to exist, it must not be enlarged by construction. (Silkair (Singapore) PTE, Ltd., v. Commissioner of Internal Revenue, G.R. No. 173594, February 6, 2008) ALTERNATIVE ANSWER: NPC is correct in contending that it should not pay the tax. The Latin maxim, Ubi lex non distinguit nec nos distinguere debemos (Where the law does not distinguish we should not distinguish) finds application. It is apparent that NPC’s exemption is from payment “of all taxes.” An exemption from “all taxes” excludes indirect taxes. Hence, NPC’s exemption covers both direct and indirect taxes. (Maceda v. Macaraig, Jr., G.R. No. 88291, May 31, 1991, 197 SCRA 771) HYPOTHETICAL BAR REVIEW QUESTIONS & ANSWERS 199 ***2. As an incentive for investors, a law was passed giving newly established companies in certain economic zones exemption from all taxes, duties, fees, imposts and other charges for a period of three years. ABC Corp. was organized and was granted such incentive. In the course of business, ABC Corp. purchased mechanical equipment from XYZ Inc. Normally, the sale is subject to VAT. XYZ, Inc. claims, however, that since it sold the equipment to ABC Corp. which is tax exempt, XYZ should not be liable to pay the VAT. Is this claim tenable? SUGGESTED ANSWER: No. Tax exemptions are to be strictly construed against the taxpayer. Since XYZ, Inc.. has not shown a specific law under which it could claim exemption, then such claim of exemption should be denied. ALTERNATIVE ANSWER: VAT is a tax on the seller and not on the buyer, hence the buyer’s exemption does not flow to the seller. The rule that VATs are indirect taxes, the economic burden of which may be shifted to the buyer is of no moment. It is still the seller who is subject to the tax and not the buyer. (Phil. Acetylene v. Commissioner of Internal Revenue, G.R. No. L-19707, August 17, 1967) Assuming arguendo that XYZ had to and did pay the VAT. ABC Corp. later found out, however, that XYZ merely shifted or passed on to ABC the amount of the VAT by increasing the purchase price. ABC Corp. now claims for a refund from the Bureau of Internal Revenue in an amount corresponding to the tax passed on to it since it is tax exempt. Is the claim of ABC Corp. meritorious? SUGGESTED ANSWER: No. ABC has nothing to claim because it was not the one that paid the tax but XYZ. 200 FREE PRE-WEEK NOTES TAXATION LAW Shifting of the economic burden of the tax by the seller XYZ to the buyer ABC is of no moment. It is still the seller who paid the tax and not the buyer. (Phil. Acetylene v. Commissioner of Internal Revenue, G.R. No. L-19707, August 17, 1967) ***3. The World Health Organization’s (WHO’s) “assets, income and other properties shall be: a) exempt from all direct and indirect taxes.” (“Host Agreement” between the United Nations and the Philippine Government, Sec. 11) Astro Construction, Inc. (ACI) was hired to construct the WHO Center in Manila. Upon completion of the building, the BIR assessed a 12% VAT on the gross receipts of ACI derived from the construction of the WHO building. WHO contends that the 12% VAT is not a direct tax nor an indirect tax on it but a tax that is primarily due from the contractor and is therefore covered by the Host Agreement. The BIR argues that the VAT is deemed an indirect tax as ACI can shift the tax burden to it. Is the BIR correct ? Explain. SUGGESTED ANSWER: No. The BIR is not correct. While it is true that the VAT is an indirect tax, It is clear from the agreement that WHO is “exempt from all direct and indirect taxes.” Since the 12% VAT is an indirect tax whose burden was shifted by PCC to WHO then it is evident that the BIR is not correct. (CIR v. John Gotamco & Sons, Inc., 148 SCRA 36 [1987]) To allow the shifting of the burden to WHO would negate its exemption and in violation of the international agreement entered into by the Philippines. ***4. Thomas’ primary source of income is his employment managing a poultry farm. He earns extra from the land he inherited from his parents, and which land he has been leasing to a private, non-stock, nonprofit school since 2017. HYPOTHETICAL BAR REVIEW QUESTIONS & ANSWERS 201 Last January, the school offered to buy the land from Thomas for an amount equivalent to its zonal value plus 15% of such zonal value. Thomas agreed but required the school to pay, in addition to the purchase price, the 12% VAT. The school refused Thomas’ proposal to pass on the VAT contending that it was an entity exempt from such tax. Moreover, it said that Thomas was not regularly engaged in the real estate business and, therefore, was not subject to VAT. Consequently, Thomas should not charge any VAT to the school. a. Is the school’s contention correct ? SUGGESTED ANSWER: The contention of the school is partially correct. Of possible merit is the contention that Tjomas was not regularly engaged in the real estate business and thus is not subject to VAT. While continuity of the lease agreement from 2006 to the present could characterize Thomas as a lessor of property regularly engaged in the real estate business (NIRC of 1997, Sec. 108 (A) , 2nd par) there is no showing that the gross annual rentals received by Thomas exceeds P3 million [Ibid., Sec. 109 (BB)] which would make him subject to VAT. Finally, Thomas does not appear to be a VATregistered person. Hence, there is no VAT to be paid by Thomas that could be passed on to the school. As a result of the foregoing there is no need to discuss whether or not the school is exempt from the VAT. Finally, granting arguendo that Thomas is a VATregistered person and he has paid the VAT and passed on the same to the school it’s contention that Thomas could not pass on to it the because it is exempt from VAT is without merit. The school is not exempt from VAT but its transactions. [NIRC of 1997, Sec. 109 (H) as reiterated by the TRAIN] 202 FREE PRE-WEEK NOTES TAXATION LAW An exempt transaction differs from a VAT exempt party. “The value-added tax is an indirect tax and the amount of tax may be shifted or passed on to the buyer, transferee or lessee of the goods, properties or services.” (NIRC OF 1997, Sec. 105, 2nd par.) Thus, Thomas may pass on the VAT, if any, to the school. b. Will your answer be the same if Thomas signed up as VAT-registered person only in 2021 ? SUGGESTED ANSWER: Yes but only partially. Thomas shall be then be subject to VAT after his registration as such a person. He could pass on to the school the VAT that he paid. *5. KONSTRUCT, Inc., is a VAT-registered enterprise engaged in the general construction business. PACKARD Co. Ltd. contracts the services of KONSTRUCT, Inc. to construct PACKARD Co. Ltd.’s factory building located in the Camelray Techno Park, a special economic zone. PACKARD Co. Ltd. is registered with the the Philippine Economic Zone Authority (PEZA) as an ecozone export enterprise, and, as such, enjoys income tax holiday pursuant to the Special Economic Zone Act of 1995. KONSTRUCT, Inc., files an application with the Bureau of lnternal Revenue (BIR) for the VAT zero-rating of its sale of services to PACKARD Co. Ltd. However, the BIR denies KONSTRUCT, lnc.’s application on the ground that PACKARD Co. Ltd. already enjoys income tax holiday. Is the BIR correct in denying KONSTRUCT, lnc.’s application? Explain your answer. SUGGESTED ANSWER: No. The fact that PACKARD Co. Ltd. already enjoys income tax holiday is not a valid ground for denying KONSTRUCT, Inc.’s HYPOTHETICAL BAR REVIEW QUESTIONS & ANSWERS 203 application for VAT zero-rating of its sale of services to PACKARD Co. Ltd.. Services rendered to persons or entitities whose exemption under special laws subjects the supply of such services to zero percent (0%) rate. [NIRC of 1997, Sec. 108 (B) (3)] “PEZA shall manage and operate the ECOZONES as a separate customs territory; thus, creating the fiction that the ECOZONE is a foreign territory. As a result, sales made by a supplier in the Customs Territory to a purchaser in the ECOZONE shall be treated as an exportation from the Customs Territory.” (Coral Bay Nickel Corporation v. Commissioner of Internal Revenue, G.R. No. 190506, June 13, 2016) All sales of goods, properties, and services made by a VAT-registered supplier from the Customs Territory, such as KONSTRUCT, Inc. to an ECOZONE enterprise like PACKARD Co. Ltd, shall be subject to VAT, at zero percent (0%) rate, regardless of the tatter's type or class of PEZA registration; and, thus, affirming the nature of a PEZA-registered or an ECOZONE enterprise as a VATexempt entity. (Ibid.) *6. The Bureau of Internal Revenue (BIR) issued Revenue Memorandum Circular (RMC) No. 65-2012 imposing Value-Added Tax (VAT) on association dues and membership fees collected by condominium corporations from its member condominium-unit owners. The RMC’s validity is challenged before the Supreme Court (SC) by the condominium corporations. The Solicitor General, counsel for BIR, claims that association dues, membership fees, and other assessment/charges collected by a condominium corporations are subject to VAT since they constitute income payments or compensation for the beneficial services it provides to its members and tenants. 204 FREE PRE-WEEK NOTES TAXATION LAW On the other hand, the lawyer of the condominium corporations argues that such dues and fees are merely held in trust by the condominium corporations exclusively for their members and used solely for administrative expenses in implementing the condominium corporations’ purposes. Accordingly, the condominium corporations do not actually render services for a fee subject to VAT. Whose argument is correct? Decide. SUGGESTED ANSWER: The argument of the condominium corporations’ lawyer is correct. The provisions of the NIRC are clear in describing the characteristics of a person who is subject to VAT, as any person who, in the course of his trade or business, renders services. (NIRC of 1997, Sec. 105, 1st par., paraphrasing supplied) To be “in the course of trade or business” means ”trade or commercial activity regularly engaged in as a means of livelihood or with a view to profit.” (Yamane , etc. v. BA Lepanto Condominium Corporation, G. R. No. 154993, October 25, 2005) By its very nature a condominium corporation is not engaged in business, and any profit that it derives is merely incidental. (Ibid.) The money paid by the unit owners are pooled together to be spent exclusively for the purpose of maintaining and preserving the condominium building and the common areas which they themselves own and possess. VAT ON REAL ESTATE TRANSACTIONS ***1. What real estate transactions are not subject to the Value-Added Tax (VAT)? HYPOTHETICAL BAR REVIEW QUESTIONS & ANSWERS 205 SUGGESTED ANSWER: The following sales of real properties are exempt from VAT, namely: a. Sale of real properties not primarily held for sale to customers or held for lease in the ordinary course of trade or business, b. real property utilized for low-cost and socialized housing as defined by Republic Act No. 7279, otherwise known as the Urban Development and Housing Act of 1992, and other related laws, c. residential lot valued at One million five hundred thousand pesos (P 1,500,000) and below, d. house and lot, and other residential dwellings valued at Two million five hundred thousand pesos (P2,500,000) and below: Provided, That beginnning January 1, 2021, the VAT exemption shall only apply to sale of real properties not primarily held for sale to customers or held for lease in the ordinary course of trade or business, sale of real property utilized for socialized housing as defined by Republic Act No. 7279, sale of house and lot, and other residential dwellings with selling price of not more than Two million pesos (P2,000,000): Provided, further, That every three (3) years thereafter, the amount herein stated shall be adjusted to its present value using the Consumer Price Index, as published by the Philippine Statistics Authority (PSA).” [NIRC of 1997, Sec. 109 (P) as amended by the TRAIN, paraphrasing supplied ] **2. Romina Quinajon is engaged in the business of leasing out several residential apartment units she owns. The monthly rental for each unit ranges from P10,000.00 to P12,000.00. Her gross rental income for one year is P4,000,000.00. She consults you on whether it is necessary for her to register as a VAT taxpayer. What legal advice will you give her, and why? 206 SUGGESTED ANSWER: register as a VAT taxpayer. FREE PRE-WEEK NOTES TAXATION LAW She is not required to Her transactions of leasing residential units for an amount not exceeding P15,000.00 per unit per month is exempt from the VAT. The total gross rental income of P4,000,000.00, which exceeds the P3,000,000.00 threshold does not matter because such threshold applies only non-exempt sale or lease of goods or properties or the performance of services. [NIRC of 1997, Sec. 109 (BB) as added by the TRAIN] ***3. On September 17, 2021, Data Realty, Inc., a real-estate corporation duly organized and existing under Philippine law, sold to Jenny Vera a condominium unit at Freedom Residences in Malabon City with an area of 32.31 square meters for a contract price of P4,213,000. The condominium unit had a zonal value amounting to P2,877,000 and fair market value amounting to P550,000. a. Is the transaction subject to value-added tax and documentary stamp tax? Explain your answer. (2017, date supplied) SUGGESTED ANSWER: Yes. The sale is subject to both the value-added tax and documentary stamp tax. Data Realty is a real estate dealer which includes any person engaged in the business of buying, developing, selling, exchanging real properties as principal and holding itself out as a full or part-time dealer in real estate. (Rev. Regs. No. 16-2005, Section 4.106-3, 12th par.) It sold the condominium unit which is primarily held for sale to customers hence subject to VAT. The contract price of P4,213,000.00, which is the highest value compared with the zonal value, and the fair market value, is the amount used for internal revenue HYPOTHETICAL BAR REVIEW QUESTIONS & ANSWERS 207 purposes. Since, it is above the threshold value of P3 million, then the sale is subject to VAT. Since, Data Realty, Inc. is the seller, it is liable for the documentary stamp tax which is a tax on the sales transaction. The above however, does not include the sale of parking lots which may or may not be included in the sale of condominium units. The sale of parking lots in a condominium is a separate and distinct transaction and is not covered by the rules on threshold amount not being a residential lot, house and lot or a residential dwelling, thus, should be subject to VAT regardless of amount of selling price. (Rev. Regs. No. 16-2005, Sec. 4.106.3, last par., as added by Rev. Regs. No. 13-2012) b. Would your answer be the same if the property was sold by a bank in a foreclosure sale? Explain your answer. SUGGESTED ANSWER: Yes. The sale of foreclosed real property is not considered as part of the services rendered by a bank to its client-borrowers because it sells the foreclosed property for purposes of collecting. The sale benefits the bank and therefore subject to VAT. The foreclosure sale is not part of the service rendered by the bank to its borrower-clients which is not subject to VAT but to percentage tax. [NIRC of 1997, Sec. 109 (U), as amended by Rep. Act No. 9337, and renumbered by the TRAIN as Sec. 109 (V)] ***4. Klaus, Inc., a domestic, VAT-registered corporation engaged in the land transportation business, owns a house and lot along Katipunan St., Quezon City. This property is being used by Klaus, lnc.'s president and single largest shareholder, Atty. Krimson, as his residence. No business activity transpires there except for the company's Christmas party which is held there every December. Atty. 208 FREE PRE-WEEK NOTES TAXATION LAW Krimson recently grew tired of the long commute from Katipunan to his office in Makati City and caused the company to sell the house and lot. The sale was recorded in the books of Klaus, Inc. as investment in real property. a. Is the sale of the said property subject to VAT ? (2018) SUGGESTED ANSWER: No. Klaus, Inc., is engaged in the transportation business and the house and lot is not part of “Goods or properties” the sale, barter or exchange of which may be subject to VAT which include real properties held primarily for sale to customers or held for lease in the ordinary course of trade or business. [NIRC of 1997, Sec. 106 (A) (1)], 1st par.; Rev. Regs. No. 16-2005, Sec. 4.106-2] Klaus, Inc., is not holding the house and lot primarily for sale to customers or held for lease in the ordinary course of trade or business because it is being used by its President as his residence. ALTERNATIVE ANSWER: Yes. The sale of residential properties such as the property of Klaus, Inc., being used by Atty. Krimson as his residence is subject to VAT if the gross selling price exceeded P3,199,200.00 and the sale notarization was after January 1, 2012. The sale of residential lot with gross selling price exceeding P1,919,500.00, residential house and lot or other residential dwellings with gross selling price exceeding P3,199,200.00, where the instrument of sale (whether the instrument is nominated as a deed of absolute sale, deed of conditional sale or otherwise) is executed and notarized on or after January 1, 2012 and shall be subject to twelve percent (12%) output VAT. (Rev. Regs. No. 16-2005, Section 4.106-3, 3rd par., as amended by Rev. Regs. No. 16-2011, and further amended by Rev. Regs. No. 3-2012) HYPOTHETICAL BAR REVIEW QUESTIONS & ANSWERS 209 NOTE NOT PART OF THE ANSWER: The author suggests that for purposes of answering a Bar examination question with similar statement of facts as the foregoing question, that the examinee should discuss both the SUGGESTED and ALTERNATIVE ANSWERS. While this may be so there must be an indication that the SUGGESTED ANSWER is the primary choice for the answer. Without this indication the examinee has no answer. *5. In June 2016, DDD Corp., a domestic corporation engaged in the business of leasing real properties in the Philippines, entered into a lease agreement of a residential house and lot with EEE, Inc., a non-resident foreign corporation. The residential house and lot will be used by officials of EEE, Inc. during the visit to the Philippines. The lease agreement was signed by representatives from DDD Corp. and EEE, Inc. in Singapore. DDD Corp. did not subject the said lease to VAT believing that it was not a domestic service contract. Was DDD Corp. correct? Explain. (2015) SUGGESTED ANSWER: correct. No. DDD Corp. is not The lease of properties shall be subject to VAT irrespective of the place where the contract of lease was executed if the property is leased or used in the Philippines. [NIRC of 1997, Sec. 108 (A) 4th par.] Since, the leased residential house and lot is located and used in the Philippines it is subject to VAT despite the fact that the lease agreement was signed in Singapore. FREE PRE-WEEK NOTES TAXATION LAW 210 EXEMPT FROM VAT **1. What transactions in agricultural and marine products are VAT exempt ? SUGGESTED ANSWER: Sale or importation of a. agricultural and marine food products in their original state, b. livestock and poultry of 1) a kind generally used as, or yielding or producing foods for human consumption; 2) and breeding stock and genetic materials therefor. [NIRC of 1997, Sec. 109 (1) (A), 1st par.as amended by Rep. Act No. 9337, reiterated by the TRAIN, arrangement and numbering supplied] **2. Is the sale of fresh vegetables and fish by Aling Toneng at her pwesto in the Pamilihang Bayan ng San Jose, Batangas subject to VAT ? SUGGESTED ANSWER: No. The sale of agricultural and marine products are VAT exempt. [NIRC of 1997, Sec. 109 (1) (A), 1st par.as amended by Rep. Act No. 9337, reiterated by the TRAIN] **3. Is the sale of orchids by a flower shop in Dangwa, Sampaloc, Manila which raises its flowers in Benguet subject to VAT ? SUGGESTED ANSWER: Yes. It is subject to the 12% VAT because flowers are non-food agricultural items. Only agricultural food items are exempted from VAT. [NIRC of 1997, Sec. 109 (1) (A), as amended by Rep. Act No. 9337, reiterated by the TRAIN) **4. On August 3, 2012, the Bureau of Internal Revenue (BIR) issued RMC No. 35-2012, entitled "Clarifying the Taxability of Clubs Organized and HYPOTHETICAL BAR REVIEW QUESTIONS & ANSWERS 211 Operated Exclusively for Pleasure, Recreation, and Other Non-Profit Purposes," which was addressed to all revenue officials, employees, and others concerned for their guidance regarding among others the Valued Added Tax (VAT) liability of the said recreational clubs. RMC No. 35-2012 provides that "the gross receipts of recreational clubs including but not limited to membership fees, assessment dues, rental income, and service fees are subject to VAT." As basis, the BIR relied on Section 105, Chapter I, Title IV of the 1997 NIRC, which states that even a nonstock, nonprofit private organization or government entity is liable to pay VAT on the sale of goods or services. Is the imposition of VAT under RMC No. 35-2012 valid ? SUGGESTED ANSWER: No. The Supreme Court declared invalid “the BIR's interpretation in RMC No. 352012 that membership fees, assessment dues, and the like are part of ‘the gross receipts of recreational clubs’ that are ‘subject to VAT.” [Association of NonProfit Clubs, Inc. (ANPC), etc., v. Bureau of Internal Revenue (BIR), etc., G.R. No. 228539, 26 June 2019] “It is a basic principle that before a transaction is imposed VAT, a sale, barter or exchange of goods or properties, or sale of a service is required.” (Ibid.) “This is true even if such sale is on a cost-reimbursement basis.” (Ibid.) , Membership fees, assessment dues, and the like are not subject to VAT because in collecting such fees, the club is not selling its service to the members. Conversely, the members are not buying services from the club when dues are paid; hence, there is no economic or commercial activity to speak of as these dues are devoted for the operations/maintenance of the facilities of the organization. As such, there could be no “sale, barter or FREE PRE-WEEK NOTES TAXATION LAW 212 exchange of goods or properties, or sale of a service" to speak of, which would then be subject to VAT under the 1997 NIRC. (Ibid.) **5. In lieu of VAT what tax is due upon persons exempt from VAT ? SUGGESTED ANSWER: a. Any person, b. whose sales or receipts are exempt under the NIRC of 1997 from the payment of value-added tax 1) and who is not a VAT-registered person c. shall pay a tax equivalent to three percent (3%) of his gross monthly sales or receipt: d. Provided, that cooperatives shall be exempt from the three percent (3%) gross receipts tax herein imposed. [NIRC of 1997, Sec. 116, as amended by the TRAIN, arrangement and numbering supplied] If VAT-registered the percentage tax is not paid and VAT shall be collected. REFUND OR TAX CREDITS FOR VAT ***1. Explain the procedure for claiming refunds or tax credits of input Value Added Tax (VAT) for zerorated or effectively zero-rated sales under Sec. 112 of the National Internal Revenue Code (NIRC) from the filing of an application with the Commissioner of Internal Revenue (CIR) up to the Supreme Court. SUGGESTED ANSWER: a. An administrative claim for refund of or issuance of tax credit for unutilized excess input VAT must be filed with the CIR within two (2) years counted from the last day of the quarter when the relevant zero-rated sale was made HYPOTHETICAL BAR REVIEW QUESTIONS & ANSWERS 213 [NIRC of 1997, Sec. 112 (A)] pertaining to the input Value Added Tax (VAT) regardless of whether said tax was paid or not. (Commissioner of Internal Revenue v. Mirant Pagbilao Corporation, 565 SCRA 154) b. The claim for refund must be accompanied with a statement under oath that all documents to support the claim has been submitted at the time of filing of the claim for refund. (RMC 54-14) c. The CIR shall within ninety (90) days from the date of submission of complete documents to support the application filed VAT-registered person on his zero-rated or effectively zero rated sale to decide the matter. [Ibid., Sec. 112 (C), 1st par., as amended by the TRAIN, in relation to Sec. 112 (A), to reduce the period from 120 days to 90 days.] d. In case of full or partial denial of the claim for tax refund or tax credit, or the failure on the part of the CIR to act on the application within the period prescribed above, the taxpayer affected may, within thirty (30) days from the receipt of the decision denying the claim or after the expiration of the ninety (90) day period, appeal the decision or the unacted claim with the Court of Tax Appeals (CTA) division [Ibid., Sec. 112 (C), 2nd par., as amended by the TRAIN] As a general rule, the case would be dismissed, for premature filing, if recourse was made to the CTA division without waiting for the expiration of the 90-day period within which the CIR should render his decision. The 90day period took effect only on January 1, 2018. Before that date the period was 120 days. e. The adverse decision of the CTA division may be the subject of a motion for reconsideration or new trial within fifteen (15) days from receipt of the adverse decision, filed with the same division that rendered the decision FREE PRE-WEEK NOTES TAXATION LAW 214 f. The adverse decision of the CTA division on the motion for reconsideration or new trial, shall the the subject of a petition for review filed within fifteen (15) days from receipt of the decision filed with the CTA en banc. g. The adverse decision of the CTA en banc shall, within fifteen (15) days from receipt be the subject of a petition for review on certiorari filed with the Supreme Court. The period may be extended to thirty (30) days upon payment of the requisite docketing fee. ***2. Tiktok Inc. (TI) filed its quarterly tax returns for the calendar year 2019 as follows: First quarter – April 25, 2019 Second quarter – July 23, 2019 Third quarter – October 25, 2019 Fourth quarter – January 27, 2020 On December 22, 2020, TI filed with the Bureau of Internal Revenue (BIR) an administrative claim for refund of its unutilized input Value-Added Tax (VAT) for the calendar year 2019. After several months of inaction by the Commissioner of Internal Revenue (CIR) on its claim for refund, Tiktok, Inc, decided to elevate its claim directly to the Court of Tax Appeals (CTA) on April 22, 2021. In due time, the CTA denied the tax refund relative to the input VAT of TI for the first quarter of 2019, reasoning that the claim was filed beyond the two-year period prescribed under Section 112 (A) of the National Internal Revenue Code (NIRC). (A) Is the CTA correct ? SUGGESTED ANSWER: No. The CTA is not correct. The phrase “within two (2) years” prescribed under Section 112 (A) of the NIRC refers to applications for administrative refund/credit filed with the CIR and not to appeals made to the CTA. HYPOTHETICAL BAR REVIEW QUESTIONS & ANSWERS 215 Applying the two-year period to judicial claims would render nugatory Section 112 (C) of the NIRC of 1997, as amended by the TRAIN which already provides for a specific 90-day period within which a taxpayer should appeal to the CTA the decision or inaction of the CIR. The 90 period within which the CIR must decide is counted from December 22, 2020 and ends on March 29, 2021. The BIR’s inaction after 90 days or on March 29, 2021 is a deemed an adverse decision on the claim, appealable to the CTA within 30 days from the lapse of the 90-day period or not later than April 28, 2021. TI has 30 days from March 29, 2021 or until April 28, 2021 within which to appeal to the CTA. The April 22, 2021 claim with the CTA was seasonably filed. (B) Assuming that TI filed its claim before the CTA on February 22, 2021, would your answer be the same ? SUGGESTED ANSWER: No. This time the CTA was correct in denying the claim for refund. The claim made before the CTA on February 22, 2021 is premature. The 90 period within which the CIR must decide is counted from December 22, 2020 and ends on March 29, 2021. As of February 22, 2021 there is as yet no decision subject to appeal because the 90-day period for the CIR to act on the claim for refund has not yet lapsed. iv. DONOR’s TAX **1. What transfers of property are considered subject to the donor’s tax? SUGGESTED ANSWER: The following are transfers of property subject to donors tax: FREE PRE-WEEK NOTES TAXATION LAW 216 a. Act of liberality on the part of the donor; b. inter vivos in its effect; c. gratuitous disposal of property; or for less than adequate consideration d. in favor of another e. who accepts it f. without any legal compulsion to give. (CCP, Art. 725, arrangement and numbering supplied) Stated otherwise, there is no legal obligation to give. The above are also known as the requisites of a valid donation subject to donor’s tax. ***2. What transfers of property are considered subject to the donor’s tax ? SUGGESTED ANSWER: Where property, other than real property, other than real property that has been subjected to the final capital gains tax, is transferred for less than an adequate and full consideration in money or money’s worth, then the amount by which the fair market value of the property exceeded the value of the consideration shall, for the purpose of imposing the donor’s tax , be deemed a gift, and shall be included in computing the amount of gifts made during the calendar year. A sale, exchange, or other transfer of property made in the ordinary course of business (a transaction which is a bona fide, at arm’s length, and free from any donative intent), will be considered as made for an adequate and full consideration in money or money’s worth [NIRC of 1997, Sec. 100, as amended by the TRAIN] and not subject to donor’s tax. ***3. Enumerate gifts which are not subject to donor’s taxes. HYPOTHETICAL BAR REVIEW QUESTIONS & ANSWERS 217 SUGGESTED ANSWER: The following gifts are not subject to donor’s taxes: a. Total gifts NOT in excess of Two hundred fifty thousand pesos (P250,000) exempt gift made during the calendar year. [NIRC of 1997, Sec. 99 (A), as amended by the TRAIN] b. Any contribution in cash or in kind to any candidate, political party or coalition of parties for campaign purposes shall be exempted under the Election Code, as amended. [Ibid., Sec. 99 (B), as amended by the TRAIN] c. Gifts made to or for the use of the National Government or any entity created by any of its agencies which is not conducted for profit, or to any political subdivision of the said Government. [Ibid., Sec. 101 (A) (1), as amended by the TRAIN, and Sec. 101 (B) (1)] d. Gifts in favor of an educational and/or charitable, religious, cultural or social welfare corporation, institution, accredited nongovernment organization, trust or philanthropic organization or research institution or organization: Provided, however, That not more than thirty percent (30%) of said gifts shall be used by such donee for administration purposes. [Ibid,, Sec. 101 (A) (2), as amended by the TRAIN, and Sec. 101 (B) (2), paraphrasing supplied] e. Donations of intangibles subject to reciprocity. f. Donations for athlete’s prizes and awards. g. Donations under special laws. h. Donations under international agreements. Author’s observation. The reader should distinguish between those donations that are not covered under the NIRC of 1997 and those that are exempt under the provisions of the said law. Donations that are not covered under the NIRC of 1997 are not subject to donor’s taxes. These were discussed under Situs of Taxation, supra. 218 FREE PRE-WEEK NOTES TAXATION LAW **4. Can you name one kind of gift that is exempt from donor’s tax which is extendible to both residents and non-residents or non-citizens of the Philippines? Include qualifications, if any. SUGGESTED ANSWER: A gift made in favor of an educational and/or charitable, religious, cultural or social welfare organization or research institution or organization. [NIRC of 1997, Sec.. 101 (A) (3) and (B) (2)] The qualification for said gift to be exempt from donor’s tax is that not more than thirty per centum (30%) of said gifts shall be used by the donee for administration purposes. (Ibid.) Gifts made to or for the use of the National Government or any entity created by any of its agencies which is not conducted for profit, or to any political subdivisions of the said Government [NIRC of 1997, Sec. 101 (A), (2), and (B) (1)] are exempted from donor’s tax whether made by residents and non-residents or noncitizens of the Philippines. **5. Monforte, Inc. holds a proprietary share of Boracay Timeshares, Inc. It assigned without any consideration this share to Bian, one of its foreign consultants, to enable her to use its facilities for the duration of her stay in the Philippines. Bian signed a Declaration of Trust where she acknowledged that the share is owned by Monforte, Inc. and where she promised to transfer the same to whoever will succeed her as consultant. When Bian’s contract with Monforte, Inc. expired, she left the Philippines and assigned for free the share to Camille, her successor in office. What tax, if any can be imposed by the BIR on the transaction ? SUGGESTED ANSWER: The tax to be imposed on the value of the “right to use the facilities” is the fringe tax to be imposed on the employer. HYPOTHETICAL BAR REVIEW QUESTIONS & ANSWERS 219 The assignments are not gratuitous, hence not subject to donor’s taxes. The value of the right to avail of the privileges attendant to the Boracay Time Shares, Inc., proprietary share which is due to Bian’s merits or services as a computer consultant is a fringe benefit taxable to the employer. [NIRC of 1997, Sec. 33 (B) (6)] The same holds true with respect to the transfer of the shares to Camille. **6. The spouses Jun and Romina Sampaga purchased a piece of land for P5,000,000 and included their two (2) minor children as co-purchasers in the Deed of Absolute Sale. The Commissioner of Internal Revenue (CIR) ruled that there was an implied donation and assessed donor’s taxes against the spouses. Rule on the CIR’s action. SUGGESTED ANSWER: The CIR is correct. There was animus donandi (intent to donate) since the children had no financial capacity to be co-purchasers. (Spouses Evono v. Department of Finance, CTA EB Case No. 705, June 4, 2012) NOTE NOT PART OF THE ANSWER: The above answer should be distinguished from a sale for insufficient consideration. There was full consideration paid for the property but it is considered a donation to the children because the complete absence of consideration makes the giving a pure act of liberality. This is a characteristic of a donation. ***7. Raniel sold to Omar, his brother-in-law, his lot with a market value of P1,000,000 for P600,000.00. Raniel’s cost in the lot is P100,000.00. B is financially capable of buying the lot. Raniel also owns Bedaneo Co., which has a fast growing business. Raniel sold some of his shares of stock in Bedaneo Co., to his key executives in Bedaneo Co. These executives are not related to 220 FREE PRE-WEEK NOTES TAXATION LAW Raniel. The selling price is P3,000,000, market value of P5,000,000. Raniel’s cost in the shares sold is P1,000,000. Raniel’s purpose in selling the shares is to enable his key executives to acquire a proprietary interest in the business and have a personal stake in the business. Explain if the above transactions are subject to donor’s tax. SUGGESTED ANSWER: Yes. All the transactions are subject to donor’s tax except the lot if the 6% capital gains tax was fully paid. [NIRC of 1997, Sec. 100, as amended by the TRAIN The transfers were all made for less than an adequate and full consideration in money’s worth hence, the excess of the fair market value of the property over the actual value of the consideration shall be subject to donor’s tax. **8. Don Pancrasio, Filipino, married, and resident of Pasig City, died intestate on November 15, 2021. He was survived by his wife, Amelia and three children: Psalmir, Darylle and Aexandra. a. If Psalmir, one of the compulsory heirs, renounces his share in the inheritance in favor of the other co-heirs, is there any tax implication of Psalmir’s renunciation ? What about the other coheirs ? SUGGESTED ANSWER: There is no tax implication with regard to X’s renunciation. There is a general renunciation because there is no specific identification in favor of a specified person. General renunciation by the compulsory heir of his share in the hereditary estate left by the decedent is not subject to donor’s tax, unless specifically and categorically done in favor of identified heir/s to the exclusion or disadvantage of the other coheirs in the hereditary estate. [Rev. Regs. No. 2-2003, Sec. 11, 4th par.] HYPOTHETICAL BAR REVIEW QUESTIONS & ANSWERS 221 There is no tax implication with regard to the other coheirs because they are not the ones required to pay the estate taxes but the administrator of the estate of Don Pancrasio. There would a tax implication for the other coheirs if there is no administrator because their share in the estate taxes would increase in the proportion of the increase in their shares resulting from the renunciation. b. Amelia renounced her inheritance and her share of the conjugal property in favor of their children. The BIR determined that there was a taxable gift and thus assessed Amelia as a donor. Was the BIR correct ? SUGGESTED ANSWER: No. The BIR is only partially correct. The renunciation by Amelia, the surviving spouse, of her share in the conjugal partnership after the dissolution of the marriage, resulting from the death of Don Pancrasio, in favor of her children who are the heirs of the deceased spouse is subject to donor’s tax. [Rev. Regs. No. 2-2003, Sec. 11, 4th par.] This is so, because the transfer that resulted from the renunciation of her share in the conjugal property was without consideration. The BIR is wrong with regard to Amelia’s renunciation of her share in the inheritance left by the late Don Pancrasio. There was a general renunciation by Amelia, the surviving spouse, of her share in the hereditary estate left by the decedent which is is not subject to donor’s tax, because it was not specifically and categorically done in favor of identified heir/s to the exclusion or disadvantage of the other co-heirs in the hereditary estate. (Rev. Regs. No. 2-2003, Sec. 11, 4th par.) 222 FREE PRE-WEEK NOTES TAXATION LAW **9. San Pascual Medical School, Inc. (SPMSI), a non-stock, non-profit corporation, donated its three parcels of idle land situated in the Municipality of San Jose, Batangas to San Jose University (SJU), another non-stock, non-profit corporation, duly accredited with the Commission on Higher Education (CHED), in recognition of the latter’s contribution to and participation in the spiritual and educational development of the former. a. Is San Pascual Medical School, Inc. (SPMSI), liable for the payment of donor’s tax ? SUGGESTED ANSWER: No. Exempt from donor’s tax are gifts in favor of an educational institution, such as SJU. There is no showing in the problem that not more than thirty percent (30%) of said gifts shall be used by SJU for administration purposes. SPMSI is exempt from the payment of the donor’s tax because SJU is a non-stock, non-profit educational university, incorporated as a non-stock entity, paying no dividends, governed by trustees who receive no compensation, and devoting all its income, whether students’ fees or gifts, donation, subsidies or other forms of philanthropy, to the accomplishment and promotion of the purposes enumerated in its Articles of Incorporation. [NIRC of 1997, Sec. 101 (A) (2) as amended by the TRAIN] b. If San Jose University (SJU) donates the three parcels of idle land in favor of the Municipality of San Jose, Batangas, will SJU be liable for donor’s tax ? Explain your answer. SUGGESTED ANSWER: No. Exempt from donor’s tax are gifts made to or for the use of any political subdivisions of the said National Government such as the Muncipality of San Jose, Batangas. [NIRC of 1997, Sec. 101 (A), (1), and (B) (1), as amended by the TRAIN] HYPOTHETICAL BAR REVIEW QUESTIONS & ANSWERS 223 **10. Spouses Jerome and Lily de la Cruz, both Filipino citizens are the owners of a small residential house and lot in Lipa City. After the recent wedding of their son, Mark, to Annie, the spouses donated said real property to them. At the time of donation, the real property has a fair market value of P1 million. a. Are Mark and Annie subject to income tax for the value of the real property donated to them ? Explain. SUGGESTED ANSWER: No. The giving was a pure act of liberality that is considered as a gift and excluded from gross income hence not subject to income tax. b. Are Jerome and Lily subject to donor’s tax ? If so, how much is the taxable gift of each spouse and what rate shall be applied to the gift ? Explain. SUGGESTED ANSWER: Yes. The total value of the donation is P1million which if divided between the spouses Jerome and Lily, would result to a donation worth P500,000.00 for each of them. If they would donate the P500,000.00 equally between Mark and Lily, both Jerome and Lily would have an gift of P250,000.00 each for their donation to Mark because the first P250,000.00 net donation is exempt from donor’s tax. After deducting the first P250,000.00 the balance of P250,000.00 shall be subject to the 6% donor’s tax. Assuming that the donation given to Mark and Annie were given during the same calendar year, then the total donation of P500,000.00 made to Annie (P250,000.00 each from Jerome and Lily) would not anymore be subject to the first P250,000.00 exemption because the spouses already availed of the same when they made the donation of Mark. 224 FREE PRE-WEEK NOTES TAXATION LAW Consequently, the Jerome and Lily shall pay the 6% donor’s tax on their donation of P250,000.00 each they made to Annie. ***10. Atty. Aaron is a candidate in the upcoming 2022 Senatorial elections. Mr. Rodrigo, believing in the sincerity and ability of Atty. Aaron to introduce much needed reforms in the country, contributed in December 2021, P500,000.00 in cash to the campaign chest of Atty. Aaron. In addition during the same period, Mr. Rodrigo purchased tarpaulins, t-shirts, umbrellas, caps and other campaign materials that he also donated to Atty. Aaron for use in his campaign. a. Is the contribution of cash and campaign materials subject to donor’s tax ? SUGGESTED ANSWER: No. The contribution of cash and campaign materials is considered a donation that is not subject to donor’s tax. “Any contribution in cash or in kind to any candidate, political party or coalition of parties for campaign purposes shall be governed by the Election Code, as amended.” [NIRC of 1997, Sec. 99 (B), as amended by the TRAIN] The exemption applies only if reported to the COMELEC. “Any provision of law to the contrary notwithstanding, any contribution in cash or in kind to any candidate or political party or coalition of parties for campaign purposes, duly reported to the Commission (on Elections), shall not be subject to the payment of any gift tax.” [Rep. Act No. 7166, Sec. 13, last par., words in parentheses supplied] b. Would you answer be the same if in addition to Mr. Rodrigo donation of P500,000.00, he also donated P750,000.00 to Atty. Aaron’s political party ? SUGGESTED ANSWER: Yes, for reasons please refer to the answer to question no. a. HYPOTHETICAL BAR REVIEW QUESTIONS & ANSWERS 225 c. Are the amounts of the donations made by Mr. Rodrigo to Atty. Aaron and his political party allowed as deductions from Mr. Rodrigo’s 2021 gross income derived from his business in order to arrive at his income subject to tax? Explain. SUGGESTED ANSWER: No. Exempt donations for campaign purposes are not deductible from gross income for income tax purposes because such amounts did not help earn the income. Furthermore, they are not among those which are considered as charitable and other contributions, which are allowable deductions. d. Would your answers still be the same, if instead of Mr. Rodrigo it was his corporation that made the donation ? SUGGESTED ANSWER: No more for my answers to questions to a and b, but still the same for the answer to question c. Corporations are not allowed to make donations for partisan political activities including for political campaign purposes. The tax exemption provided for by the Election Code should be construed strictly against the taxpayers. Corporations are prohibited from making political contributions. No corporation, domestic or foreign, shall give donations in aid of any political party or candidate or for purposes of partisan political activity. [Corp. Code, Title IV, Sec. 36.9] **11. Hidylin, an amateur boxer, won in a boxing competition sponsored by the Gold Cup Boxing Council, a sports association duly accredited by the Philippine Boxing Association. Hidylin received the amount of P500,000.00 as her prize donated by Robinson Land Corporation. The BIR tried to collect donor’s tax from Robinson Corporation, which tax Robinson Land Corporation refuses to pay. FREE PRE-WEEK NOTES TAXATION LAW 226 Decide. SUGGESTED ANSWER: Robinson Land Corporation is exempt from the payment of donor’s taxes. It is apparent that the competition was sanctioned by the appropriate national sports association. [Rep. Act No. 7549, Sec. 1] ***12. On December 25, 2021, Alexandra Baldago wanted to give to her “ajijada”, the daughter of her best friend Annie Buenaobra a gift of P500,000.00 for Christmas. She consulted Atty. Mica Reyes on the taxes she would have to pay on the P500,000.00 gift. You are Atty. Reyes, what advice should you give ? SUGGESTED ANSWER: I would advise Alexandra to split the gift by giving P250,000.00 on December 25, 2021 (Christmas Day) and the other P250,000.00 on January 6, 2022 (Three Kings). In this manner Alexandra does not have to pay any donor’s tax, because the donations, made during each of the calendar years, 2021 and 2022, not exceeding Two hundred fifty thousand pesos (P250,000) are exempt gifts [NIRC of 1997, Sec. 99, as amended by the TRAIN] Would Atty. Reyes’ answer be the same despite the fact that Alexandra Baldago’s “ajijada” is not even related to her whether by affinity or consanguinity ? SUGGESTED ANSWER: Yes. The special rate of 30% for donations to strangers was eliminated by the TRAIN. The rate is now 6% in excess of the first P250,000.00 for donations made during the calendar year. **13. Mr. Harold Marciano, an Australian citizen and a resident of Geelong, Victoria, Australia, sends a gift check of $20,000 to his future Filipino daughter-inlaw who is to be married to his only son in the Philippines. HYPOTHETICAL BAR REVIEW QUESTIONS & ANSWERS 227 a. Is the donation by Mr. Marciano subject to tax? Explain. SUGGESTED ANSWER: No, because the giving of the gift took place outside of the Philippines. This is evident from the fact that the gift check was sent to, and not given personally in, the Philippines. It is of no moment that Mr. Marciano’s donation does not fall within the gifts made by a non-resident exempt from donor’s tax. b. What is the tax consequence, if any, to the donee (the future Filipino daughter-in-law of Mr. Marciano) ? SUGGESTED ANSWER: None. The donee (the future Filipino daughter-in-law of Mr. Marciano) is not required to report the $20,000.00 as income because the gifts are excluded from gross income and exempt from income taxes. The income from such gift shall, however, be included by the donee in her gross income. [NIRC of 1997, Sec. 32 (B) (3)] v. REMEDIES (JURISDICTION OF COURTS, PRESCRIPTION, REMEDIES AGAINST ASSESSMENT NOTICES) METROPOLITAN TRIAL COURTS, MUNICIPAL TRIAL COURTS, MUNICIPAL CIRCUIT TRIAL COURTS What criminal cases fall within the exclusive original jurisdiction of the Metropolitan Trial Courts, Municipal Trial Courts and Municipal Circuit Trial Courts? SUGGESTED ANSWER: Jurisdiction over violations of criminal offenses arising from violations of the National Internal Revenue Code or Tariff and Customs Code (now 228 FREE PRE-WEEK NOTES TAXATION LAW Customs Modernization and Tariff Act) and other laws administered by the Bureau of Internal Revenue or the Bureau of Customs where the principal amount of taxes and fees, exclusive of charges and penalties, claimed is less than One million pesos (P1,000,000.00) or where there is no specified amount claimed and the imposable penalty is not exceeding six (6) years imprisonment shall be tried by the Metropolitan Trial Courts, Municipal Trial Courts and Municipal Circuit Trial Courts. [Rep. Act No. 1125, Sec. 7.b (1), as amended by Rep. Act No. 9282, in relation to B.P. Blg. 129, Sec. 32 (2), as amended by Rep. Act No. 7691] REGIONAL TRIAL COURT 1. What criminal cases fall within the exclusive original jurisdiction of the Regional Trial Courts ? SUGGESTED ANSWER: Jurisdiction over violations of criminal offenses arising from violations of the National Internal Revenue Code or Tariff and Customs Code (now Customs Modernization and Tariff Act) and other laws administered by the Bureau of Internal Revenue or the Bureau of Customs where the principal amount of taxes and fees, exclusive of charges and penalties, claimed is less than One million pesos (P1,000,000.00) or where there is no specified amount claimed and the imposable penalty is more than six (6) years imprisonment shall be tried by the Regional Courts. [Rep. Act No. 1125, Sec. 7.b (1), as amended by Rep. Act No. 9282, in relation to B.P. Blg. 129, Sec. 20, and Sec. 32 (2), as amended by Rep. Act No. 7691] 2. What tax collection cases fall within the exclusive original jurisdiction of Regional Trial Courts? SUGGESTED ANSWER: Civil actions for tax collection where the principal amount of taxes and fees, exclusive of charges and penalties claimed exceeds Three hundred thousand pesos (P300,000.00), or in Metro HYPOTHETICAL BAR REVIEW QUESTIONS & ANSWERS 229 Manila where the amount of the demand exceeds Four hundred thousand pesos (P400,000.00), provided that the amount claimed is less than One million pesos (P1,000,000.00). (B.P .Blg. 129, Sec. 19, as amended by R.A. No. 7691 in relation to R.A. No. 7691, Sec. 5, and R.A. No. 1125, Sec. 7, as amended by R.A. No. 9282) Author’s observation. Tax collection cases that are below the threshold amounts of P300,000.00 and P400,000.00 fall within the jurisdiction of the Municipal Trial Courts, the Municipal Trial Courts in Cities, the Municipal Circuit Trial Courts, or the Metropolitan Trial Courts. Where the amount is P1 million or more, exclusive original jurisdiction is vested with the Court of Tax Appeals division. COURT OF TAX APPEALS, IN DIVISIONS **1. What comprises the exclusive or appellate jurisdiction of the Court of Tax Appeals (CTA) in divisions ? SUGGESTED ANSWER: shall exercise: “The Court in Divisions (a) Exclusive original or appellate jurisdiction to review by appeal the following: (1) Decisions of the Commissioner of Internal Revenue in cases involving disputed assessments, refunds of internal revenue taxes, fees or other charges, penalties in relation thereto, or other matters arising under the National Internal Revenue Code or other laws administered by the Bureau of Internal Revenue; (2) Inaction by the Commissioner of Internal Revenue in cases involving disputed assessments, refunds of internal revenue taxes, fees or other charges, penalties in relation thereto, or other matters arising under the National Internal Revenue Code or other laws administered by the Bureau of 230 FREE PRE-WEEK NOTES TAXATION LAW Internal Revenue, where the National Internal Revenue Code or other applicable law provides a specific period for action: Provided, that in case of disputed assessments, the inaction of the Commissioner of Internal Revenue within the one hundred eighty day-period under Section 228 of the National Internal Revenue Code shall be deemed a denial for purposes of allowing the taxpayer to appeal his case to the Court and does not necessarily constitute a formal decision of the Commissioner of Internal Revenue on the tax case; Provided, further, that should the taxpayer opt to await the final decision of the Commissioner of Internal Revenue on the disputed assessments beyond the one hundred eighty day period above mentioned, the taxpayer may appeal such final decision to the Court under Section 3(a), Rule 8 of these Rules; and Provided, still further, that in the case of claims for refund of taxes erroneously or illegally collected, the taxpayer must file a petition for review with the Court prior to the expiration of the two-year period under Section 229 of the National Internal Revenue Code; (3) Decisions, resolutions or orders of the Regional Trial Courts in local tax cases decided or resolved by them in the exercise of their original jurisdiction; (4) Decisions of the Commissioner of Customs in cases involving liability for customs duties, fees or other money charges, seizure, detention or release of property affected, fines, forfeitures of other penalties in relation thereto, or other matters arising under the Customs Law or other laws administered by the Bureau of Customs; (5) Decisions of the Secretary of Finance on customs cases elevated to him automatically for HYPOTHETICAL BAR REVIEW QUESTIONS & ANSWERS 231 review from decisions of the Commissioner of Customs adverse to the Government under Section 2315 of the Tariff and Customs Code (now Secs. 1127 & 1128, Customs Modernization and Tariff Act); and (6) Decisions of the Secretary of Trade and Industry, in the case of nonagricultural product, commodity or article, and the Secretary of Agriculture, in the case of agricultural product, commodity or article, involving dumping and countervailing duties under Section 301 and 302, respectively, of the Tariff and Customs Code (now Secs. 711 & 713, Customs Modernization and Tariff Act), and safeguard measures under Republic Act No. 8800, where either party may appeal the decision to impose or not to impose said duties;” (RRCTA, Rule 4, Sec. 3, words in parenthesis supplied) **2. What is the exclusive original jurisdiction of Court of Tax Appeals, in divisions, over collection of taxes ? SUGGESTED ANSWER: The Court in Divisions shall exercise “Original jurisdiction in tax collection cases involving final and executory assessments for taxes, fees, charges and penalties, where the principal amount of taxes and fees, exclusive of charges and penalties, claimed is one million pesos or more” [A.M. No. 05-11-07-CTA, November 22, 2005, RRCTA, Rule 4, Sec. 3 (c) (1)] *3. A taxpayer received on 15 January 2021, an assessment for an internal revenue tax deficiency. On 10 February 2021, the taxpayer forthwith filed a petition for review with the Court of Tax Appeals. Could the Tax Court entertain the petition? SUGGESTED ANSWER: No. The Court of Tax Appeals has jurisdiction only over decisions of the FREE PRE-WEEK NOTES TAXATION LAW 232 Commissioner of Internal Revenue, or in certain cases his inaction, involving disputed assessments. There is no decision yet that could be the subject of review by the Court of Tax Appeals. **4. Quezon City issued a notice of assessment against Mondejar, Inc. for deficiency real property taxes for the taxable years 2017 to 2020 in the amount of PhP 20 million. Mondejar paid the taxes under protest and instituted a complaint entitled “Recovery of Illegally and/or Erroneously-Collected Local Business Tax, Prohibition with Prayer to Issue TRO and Writ of Preliminary Injunction” with the RTC of Quezon City. The RTC denied the application for TRO. Its motion for reconsideration having been denied as well, Mondejar filed a petition for certiorari with the Court of Appeals (CA) assailing the denial of the TRO. Will the petition prosper? SUGGESTED ANSWER: No because the Court of Appeals has no jurisdiction. The petition should have been filed with the Court of Tax Appeals (CTA). It was once held that the CTA has certiorari powers over the issue of grave abuse of discretion on the part of the RTC in issuing an interlocutory order in cases falling within the exclusive jurisdiction of the tax court, as this is inherent to its exercise of appellate jurisdiction. (City of Manila v. Hon. Grecia-Cuerdo, G.R. No. 175723, Feb. 4, 2014) **5. Does the Court of Tax Appeals (CTA) have jurisdiction over tax cases that raise constitutional issues? Explain. SUGGESTED ANSWER: Yes, the CTA has exclusive jurisdiction over tax cases that raise constitutional issues. HYPOTHETICAL BAR REVIEW QUESTIONS & ANSWERS 233 “The Court of Tax Appeals has undoubted jurisdiction to pass upon the constitutionality or validity of a tax law or regulation when raised by the taxpayer as a defense in disputing or contesting an assessment or claiming a refund. It is only in the lawful exercise of its power to pass upon all matters brought before it, as sanctioned by Section 7 of Republic Act No. 1125, as amended. The CTA may likewise take cognizance of cases directly challenging the constitutionality or validity of a tax law or regulation or administrative issuance (revenue orders, revenue memorandum circulars, rulings. (Banco de Oro, etc. v. Republic of the Philippines, G.R. No. 198756, August 16, 2016) **6. What procedural remedy is available in order to raise constitutional issues before the Court of Tax Appeals (CTA) ? Explain. SUGGESTED ANSWER: Prohibition may be filed to question the constitutionality of a law. “Generally, the office of prohibition is to prevent the unlawful and oppressive exercise of authority and is directed against proceedings that are done without or in excess of jurisdiction, or with grave abuse of discretion, there being no appeal or other plain, speedy, and adequate remedy in the ordinary course of law. It is the remedy to prevent inferior courts, corporations, boards, or persons from usurping or exercising a jurisdiction or power with which they have not been vested by law.” (Southern Luzon Drug Corporation v. The Department of Social Welfare and Development, G.R. No. 199669, April 25, 2017) “This is, however, not the lone office of an action for prohibition.” There was an instance where “prohibition was also recognized as a proper remedy to prohibit or nullify acts of executive officials that amount to usurpation of legislative authority.” (Ibid.) 234 FREE PRE-WEEK NOTES TAXATION LAW 7. Explain and illustrate the meaning of the Court of Tax Appeals’ (CTA’s) jurisdiction over “other matters.” SUGGESTED ANSWER: The jurisdiction of the CTA is not limited only to cases which involve decisions or inactions of the CIR on matters relating to assessments or refunds but also includes other cases arising from the NIRC or related laws administered by the BIR. (Commissioner of Internal Revenue v. Lancaster Philippines, Inc., G.R. No. 183408, July 12, 2017) It was once held that the question of whether or not to impose a deficiency tax assessment comes within the purview of the phrase “other matters arising under the National Internal Revenue Code.” (Ibid.) 8. When may a decision on interpleader be appealed to the Court of Tax ppeals (CTA) ? SUGGSTED ANSWER: “That the case filed before the RTC was in the mode of a special civil action for interpleader does not detract from its nature as a local tax case, involving as it does the application of the rules on situs on the payment of local business taxes. There is no need to distinguish it from other local tax cases ‘considering that the law expressly confers on the CTA, the tribunal with the specialized competence over tax and tariff matters, the role of judicial review over local tax cases without mention of any other court that may exercise such power.’” (The City of Makati v. The Municipality of Bakun, G.R. No. 225226, July 07, 2020) **9. First E-Bank filed with the Regional Trial Court (RTC), a petition for declaratory relief seeking to declare as invalid Revenue Memorandum Circular No. 65-2012 (RMC No. 65-2012) entitled “Clarifying the Taxability of Association Dues, Membership Fees and Other Assessments/Charges Collected by Condominium Corporations. The RTC took cognizance and declared as HYPOTHETICAL BAR REVIEW QUESTIONS & ANSWERS 235 invalid RMC No. 65-2012 for it purportedly expanded the law, created an additional tax burden on condominium corporations, and was issued without the requisite notice and hearing, a. Was the trial court correct when it resolved the petition for declaratory relief ? SUGGESTED ANSWER: No. A petition for declaratory relief is not the proper remedy to seek the invalidation of a Revenue Memorandum Circular. (In the Matter of declaratory relief on the invalidity of BIR Revenue Memorandum Circular No. 65-2-12. “ClarIfying the taxability of association dues, membership fees and other assessments/charges collected by condominium corporations”, G.R. No. 215801, January 15, 2020) Certiorari or prohibition, not declaratory relief, is the proper remedy to assail the validity or constitutionality of executive issuances. (Ibid.) One of the requisites for declaratory relief is that it must be filed before any breach or violation of an obligation. Thus, there is no actual case involved in a Petition for Declaratory Relief. It cannot, therefore, be the proper vehicle to invoke the judicial review powers to declare a statute unconstitutional. It is elementary that before the Supreme Court can rule on a constitutional issue, there must first be a justiciable controversy. A justiciable controversy refers to an existing case or controversy that is appropriate or ripe for judicial determination, not one that is conjectural or merely anticipatory. (Ibid.) b. If the trial court was not correct when it resolved the petition for declaratory relief, should it dismiss the petition ? SUGGESTED ANSWER: No. The case “has farreaching implications and raises questions that need to be resolved for the public good; or if the assailed act or acts of executive officials are alleged to have usurped legislative 236 FREE PRE-WEEK NOTES TAXATION LAW authority.” (In the Matter of declaratory relief on the invalidity of BIR Revenue Memorandum Circular No. 65-212. “ClarIfying the taxability of association dues, membership fees and other assessments/charges collected by condominium corporations”, G.R. No. 215801, January 15, 2020) **10. Since a petition for declaratory relief is not the proper procedural remedy to raise constitutional issues are there any instances when petition for declaratory relief may be treated as one for prohibition? If so give examples. SUGGESTED ANSWER: Yes, if the case has farreaching implications and raises questions that need to be resolved for the public good; or if the assailed act or acts of executive officials are alleged to have usurped legislative authority.” (In the Matter of declaratory relief on the invalidity of BIR Revenue Memorandum Circular No. 65-2-12. “ClarIfying the taxability of association dues, membership fees and other assessments/charges collected by condominium corporations”, G.R. No. 215801, January 15, 2020) a. A petition for declaratory relief on the subject of VAT was treated as one for prohibition. This is so because “the imposition of VAT on toll fees has far-reaching implications. Its imposition would impact, not only on the more than half a million motorists who use the tollways everyday, but more so on the government’s effort to raise revenue for funding various projects and for reducing budgetary deficits.” (Ibid.) b. A petition for declaratory relief seeking to declare as invalid Revenue Memorandum Circular No. 65-2012 (RMC No. 65-2012) entitled ”Clarifying the Taxability of Association Dues, Membership Fees and Other Assessments/Charges Collected by Condominium Corporations was treated as one for prohibition. This is so because “RMC No. 65-2012 has farreaching ramifications among condominium corporations which have proliferated throughout the country. For numerous HYPOTHETICAL BAR REVIEW QUESTIONS & ANSWERS 237 Filipino families, professionals, and students have, for quite sometime now, opted for condominium living as their new way of life. The matter of whether indeed the contributions of unit owners solely intended for maintenance and upkeep of the common areas of the condominium building are taxable is imbued with public interest. Suffice it to state that taxes, being the lifeblood of the government, occupy a high place in the hierarchy of State priorities, hence, all questions pertaining to their validity must be promptly addressed with the least procedural obstruction.” (Ibid.) **11. Harold, a taxpayer, received a tax deficiency assessment of P1.2 Million from the BIR demanding payment within 10 days, otherwise, it would collect through summary remedies. The taxpayer requested for a reconsideration stating the grounds therefor. Instead of resolving the request for reconsideration, the BIR sent a Final Notice Before Seizure to Harold. May this action of the Commissioner of Internal Revenue (CIR) be deemed a denial of Harold’s request for reconsideration to entitle him to appeal to the Court of Tax Appeals (CTA) ? Decide with reasons. SUGGESTED ANSWER: Yes. Not only is the Notice the only response received: its content and tenor supports the theory that it was the CIR’s final act regarding the request for reconsideration. The very title expressly indicated that it was a final notice prior to seizure of property. (Commissioner of Internal Revenue v. Isabela Cultural Corporation, G.R. No. 135210, July 11, 2001) 12. After filing an information for violation of Section 254 of the National Internal Revenue Code (Attempt to Evade or Defeat Tax) with the CTA, the Public Prosecutor manifested that the People is reserving the right to file the corresponding civil action for the recovery of the civil liability for taxes. As counsel for the accused, comment on the People’s manifestation. (2015) FREE PRE-WEEK NOTES TAXATION LAW 238 SUGGESTED ANSWER: proper. The manifestation is not No right to reserve the filing of such civil action separately from the criminal action shall be recognized. [Republic Act No. 9282, Sec. 7(b)(1); RRCTA, Rule 9, Sec. 11, last sentence; Judy Anne Santos v. People, G.R. No. 173176, August 26, 2008, 563 SCRA 341] In cases within the jurisdiction of the Court of Tax Appeals, the criminal action and the corresponding civil action for the recovery of the civil liability for taxes and penalties shall be deemed jointly instituted in the same proceeding. The filing of the criminal action shall necessarily carry with it the filing of the civil action. (RRCTA, Rule 9, Sec. 11, 1st two sentences) COURT OF TAX APPEALS, en banc **1. What constitutes the jurisdiction of the CTA en banc ? SUGGESTED ANSWER: “The Court en banc shall exercise exclusive appellate jurisdiction to review by appeal the following: (a) Decisions or resolutions on motions for reconsideration or new trial of the Court in Divisions in the exercise of its exclusive appellate jurisdiction over: (1) Cases arising from administrative agencies - Bureau of Internal Revenue, Bureau of Customs, Department of Finance, Department of Trade and Industry, Department of Agriculture; (2) Local tax cases decided by the Regional Trial Courts in the exercise of their original jurisdiction; and (3) Tax collection cases decided by the Regional Trial Courts in the exercise of their original HYPOTHETICAL BAR REVIEW QUESTIONS & ANSWERS 239 jurisdiction involving final and executory assessments for taxes, fees, charges and penalties, where the principal amount of taxes and penalties claimed is less than one million pesos; (b) Decisions, resolutions or orders of the Regional Trial Courts in local tax cases decided or resolved by them in the exercise of their appellate jurisdiction; (c) Decisions, resolutions or orders of the Regional Trial Courts in tax collection cases decided or resolved by them in the exercise of their appellate jurisdiction; (d) Decisions, resolutions or orders on motions for reconsideration or new trial of the Court in Division in the exercise of its exclusive original jurisdiction over tax collection cases; (e) Decisions of the Central Board of Assessment Appeals (CBAA) in the exercise of its appellate jurisdiction over cases involving the assessment and taxation of real property originally decided by the provincial or city board of assessment appeals; (f) Decisions, resolutions or orders on motions for reconsideration or new trial of the Court in Division in the exercise of its exclusive original jurisdiction over cases involving criminal offenses arising from violations of the National Internal Revenue Code or the Tariff and Customs Code (now Customs Modernization and Tariff Act), and other laws administered by the Bureau of Internal Revenue or Bureau of Customs. [Rep. Act No. 1125, Sec. 7 (a), as amended by Rep. Act No. 9282; A.M. No. 05-11-07-CTA, November 22, 2005, RRCTA, Rule 4, Sec. 2, arrangement, numbering and words in parenthesis supplied] NOTE NOT PART OF THE ANSWER: The CTA en banc’s jurisdiction is limited only to an appellated review 2. How are appeals to the Court of Tax Appeals en banc taken ? FREE PRE-WEEK NOTES TAXATION LAW 240 SUGGESTED ANSWER: a. “An appeal to the Court en banc in criminal cases decided by the Court in Division shall be taken by filing a petition for review as provided in Rule 43 of the Rules of Court within fifteen days from receipt of a copy of the decision or resolution appealed from. The Court may, for good cause, extend the time for filing of the petition for review for an additional period not exceeding fifteen days.” [RRCTA, Rule 9, Sec. 9 (b)] b. “An appeal to the Court in criminal cases decided by the Regional Trial Courts in the exercise of their appellate jurisdiction shall be taken by filing a petition for review as provided in Rule 43 of the Rules of Court within fifteen days from receipt of a copy of the decision or final order appealed from. The Court en banc shall act on the appeal.” [RRCTA, Rule 9, Sec. 9 (c)] c. An appeal from a decision or resolution of the Court of Tax Appeals in Division on a motion for reconsideration or new trial shall be taken to the Court of Tax Appeals en banc by filing before it a petition for review as provided in Rule 43 of the Rules of Court.” [RRCTA, Rule 8, Sec. 4 (b)] To standardize the appeal periods provided in the Rules and to afford litigants fair opportunity to appeal their cases, it is deemed practical to allow a fresh period of 15 days within which to file the notice of appeal in the Regional Trial Court, counted from receipt of the order dismissing a motion for a new trial or motion for reconsideration.” [Domingo Neypes v. Court of Appeals, et al., 469 SCRA 633 (2005)] SUPREME COURT 1. What is the exclusive review jurisdiction of the Supreme Court over decisions of the Court of Tax Appeals (en banc) in tax collection cases? HYPOTHETICAL BAR REVIEW QUESTIONS & ANSWERS 241 SUGGESTED ANSWER: “A party adversely affected by a decision or ruling of the CTA en banc may file with the Supreme Court a verified petition for review on certiorari pursuant to Rule 45 of the 1997 Rules of Civil Procedure.” (R.A. No. 1125, Sec. 19, as amended by R.A. No. 9282) PRESCRIPTION **1. Taxes are generally imprescriptible; statutes, however, may provide otherwise. State the rules that have been adopted on this score by The National Internal Revenue Code (NIRC). SUGGESTED ANSWER: There are three rules on prescription under the NIRC: one for assessment, the other for collection, and finally on refund. The prescriptive period for assessment is three (3) years computed from the time the tax return was filed or should be filed whichever is the later. However, where there is no return filed or what was filed was a false and fraudulent return, then the prescriptive period is ten (10) years computed from the discovery of the falsity or of the fraud, or of the failure to file the tax return. The taxpayer and the BIR may also agree on a date when the assessment may be made, with the taxpayer waiving the prescriptive period of three years referred to above. The prescriptive period for collecting internal revenue taxes is three (3) years from the issuance of an assessment notice. Where the return is false or fraudulent, or no return was filed, the deficiency taxes may be collected even without an assessment within ten (10) years from discovery of the falsity, fraud or failure to file the tax return. If there is an assessment made upon a false or fraudulent return, or no return was filed, then the prescriptive period is five (5) from issuance of an assessment notice. This is the same period for the 242 FREE PRE-WEEK NOTES TAXATION LAW payment of an assessment issued within the period agreed upon between the BIR and the taxpayer. Lastly, the prescriptive period for a refund is within two (2) years from payment of the tax sought to be refunded. **2. State the instances where the general three (3) year period for assessment does not apply. SUGGESTED ANSWER: The following are the instances where an assessment could be made despite the lapse of three (3) years from the time the return was filed or should have been filed whichever is the later: a. In case of a false or fraudulent return to evade the payment of a tax. At anytime within ten (10) years after the discovery of the falsity or fraud. [NIRC of 1997, Sec. 222 (a)] b. In case of failure to file a return. At anytime within ten (10) years after the discovery of the omission to file a return. (Ibid.) c. If before the expiration of the three (3) year period for the assessment of the tax, there is an agreement in writing between the taxpayer and the BIR Commissioner. The period agreed upon which may be extended by subsequent written agreements made before the period previously agreed upon. [Ibid., Sec. 222 (b)] The assessment issued in this instance is known as an “extended assessment”. NOTE NOT PART OF THE ANSWER: Do not confuse the above instances with the instances where the prescriptive periods are suspended or do not run. The provisions of the Civil Code on prescription does not apply to tax cases because the NIRC of 1997 being a special law takes precedence over a general law, the Civil Code. Furthermore, the provisions of the Tax Code, were HYPOTHETICAL BAR REVIEW QUESTIONS & ANSWERS 243 crafted to ensure expeditious collection of tax money to ensure the continuous delivery of government services. **3. What events suspend the running of statute of limitations for assessment and collection of internal revenue taxes under the provisions of the National Internal Revenue Code (NIRC of 1997)? SUGGESTED ANSWER: The running of the Statute of Limitations provided in the NIRC of 1997 on the making of assessment and the beginning of distraint or levy a proceeding in court for collection, in respect of any deficiency, shall be suspended a. for the period during which the Commissioner is prohibited from making the assessment or beginning distraint or levy or a proceeding in court and for sixty (60) days thereafter; b. when the taxpayer requests for a reinvestigation which is granted by the Commissioner; c. when the taxpayer cannot be located in the address given by him in the return filed upon which a tax is being assessed or collected. Where the summons to the taxpayer-defendant was not served because the defendant could not be located. The period within which the defendant’s whereabouts are not known suspends the running of the prescriptive period. (Republic v. Philips, CA-G.R. No. 66236, November 20, 1983) d. when the warrant of distraint or levy is duly served upon the taxpayer, his authorized representative, or a member of his household with sufficient discretion, and no property could be located; e. and when the taxpayer is out of the Philippines. (NIRC of 1997, Sec. 223, arrangement, numbering, and paraphrasing supplied) 244 FREE PRE-WEEK NOTES TAXATION LAW NOTE NOT PART OF THE ANSWER: In all of the above instances, the BIR is effectively given extended periods within which to assess or collect the intetrnal revenue taxes. These instances are favorable to the BIR. What about the instances when the running of the prescriptive period are not suspended ? a. If the taxpayer informs the Commissioner of any change in address, the running of the Statute of Limitations will not be suspended. (NIRC of 1997, Sec. 223) b. Where an information return indicated therein the taxpayer’s new address as its “present address”, the same falls short of the legal requirement for the suspension of the prescriptive period. The law clearly states that the prescriptive period will not be suspended only “if the taxpayer informs the Commissioner of any change in address.” (Afisco Insurance Corporation v. Court of Appeals, et al., G.R. No. 112675, January 25, 1999) c. If the defendants whereabouts are known, the prescriptive period is not suspended. NOTE NOT PART OF THE ANSWER: The above events are favorable to the taxpayer because the prescriptive periods continue to run and are not extended. So the BIR could not anymore assess or collect. **4. What constitutes a valid waiver of the statute of limitations for the assessment and collection of taxes? Explain your answer. SUGGESTED ANSWER: The following constitutes a valid waiver of the statute of limitations for the assessment and collection of taxes: a. The agreement to waive must have been entered before the expiration of the three (3) year period for the assessment of the tax. [NIRC of 1997, Sec. 222 (b); Cordero v. Gonda, 18 SCRA 331] HYPOTHETICAL BAR REVIEW QUESTIONS & ANSWERS 245 b. The waiver must be in the proper form prescribed by RMO 20- 90. The phrase "but not after __________ 20 __", which indicates the expiry date of the period agreed upon to assess/collect the tax after the regular three-year period of prescription, should be filled up. (Commissioner of Internal Revenue v. Systems Technology Institute, Inc., G.R. No. 220835, July 26, 2017) c. The waiver must be for a definite period beyond the ordinary prescriptive periods for assessment and collection. The period agreed upon can still be extended by a subsequent written agreement, provided that it is executed prior to the expiration of the first period agreed upon. (Bank of Philippine Islands v. Commissioner of Internal Revenue, G. R. No. 139736, October 17, 2005) d. The waiver must be signed by the taxpayer himself or his duly authorized representative. In the case of a corporation, the waiver must be signed by any of its responsible officials. In case the authority is delegated by the taxpayer to a representative, such delegation should be in writing and duly notarized. (Commissioner of Internal Revenue v. Systems Technology Institute, Inc., G.R. No. 220835, July 26, 2017) e. The Commissioner of Internal Revenue (CIR) or the revenue official authorized by him must sign the waiver indicating that the BIR has accepted and agreed to the waiver. The date of such acceptance by the BIR should be indicated. However, before signing the waiver, the CIR or the revenue official authorized by him must make sure that the waiver is in the prescribed form, duly notarized, and executed by the taxpayer or his duly authorized representative. (Ibid.) Thus, neither implied consent can be presumed nor can it be contended that the waiver required under the Tax Code is one which is unilateral nor can it be said that concurrence to such an agreement is a mere formality because it is the very signatures of both the CIR and the 246 FREE PRE-WEEK NOTES TAXATION LAW taxpayer which give birth to such a valid agreement. (Commissioner of Internal Revenue v. Court of Appeals, G.R. No. 115712, February 25, 1999) f. Both the date of execution by the taxpayer and date of acceptance by the Bureau should be before the expiration of the period of prescription or before the lapse of the period agreed upon in case a subsequent agreement is executed. (Commissioner of Internal Revenue v. Systems Technology Institute, Inc., G.R. No. 220835, July 26, 2017) g. The waiver must be executed in three copies, original copy to be attached to the docket of the case, second copy for the taxpayer and the third copy for Office accepting the waiver. The fact of receipt by taxpayer of his/her file copy must be indicated in original copy to show that the taxpayer was notified of acceptance of the BIR and the perfection of agreement. (Ibid.) the the the the the the the *5. What should the BIR do when the prescriptive period for the assessment of a tax deficiency is about to prescribe but the taxpayer has not yet complied with the BIR requirements for the production of books of accounts and other records to substantiate the claimed deductions, exemptions or credits? SUGGESTED ANSWER: The BIR should issue a jeopardy assessment coupled with a letter of demand. When as in this case the BIR has reason to believe that the assessment and collection of a deficiency tax will be jeopardized by delay because of the taxpayer’s failure to comply with the audit and investigation requirements to present his books of accounts and/or pertinent records, or to substantiate all or any of the deductions, exemptions, or credits claimed in his return. HYPOTHETICAL BAR REVIEW QUESTIONS & ANSWERS 247 **6. “X” Corporation filed its income tax returns in January, 2016 for its income for the year 2015. In October, 2018, March, 2019 and May, 2019, “X” through its authorized representative signed three (3) separate waivers of the “Statute of Limitations under the NIRC.” The waivers were not signed by the BIR Commissioner or his agents. In 2021, the BIR issued letters of demand, accompanied by assessment notices asking the corporation to pay the deficiency internal revenue taxes for its income for the year 2015. “X” disputed the assessment and requested a reinvestigation. The BIR Commissioner denied the protest. “X” appealed to the Court of Tax Appeals on the ground of prescription. Has the BIR’s right to assess already prescribed ? SUGGESTED ANSWER: Yes. The BIR’s right to assess has already prescribed. The waivers being unilateral in character are not valid waivers. (Commissioner of Internal Revenue v. Court of Appeals, G.R. No. 115712, February 25, 1999) The waivers are invalid because they were not signed by the BIR Commissioner or his agents. Furthermore, there is no showing in the problem that the waivers (1) were executed with the notarized written authority of the taxpayer's representative to sign the waiver on its behalf; (2) indication of the date of acceptance; and (3) the fact of receipt by the taxpayer of its file copy was indicated in the original copies of the waivers.” (Commissioner of Internal Revenue v. Systems Technology Institute, Inc., G.R. No. 220835, July 26, 2017) Clearly, the defects in the waivers resulted to the nonextension of the period to assess or collect taxes, and made the assessments issued by the BIR beyond the three-year prescriptive period void. [Commissioner of FREE PRE-WEEK NOTES TAXATION LAW 248 Internal Revenue v. Kudos Metal Corporation 634 Phil. 314 (2010)] *7. “X”, a taxpayer, received his notice of assessment from the BIR on May 5, 2013 requiring him to pay a deficiency tax of P50,000.00 within thirty 30 days from notice. On May 28, 2014 “X” ask for and was granted a reinvestigation. The reinvestigation was terminated on June 18, 2020, with the Commissioner of Internal Revenue maintaining the original assessment of P10,000.00. Having defaulted in payment “X” was sued, today April 26, 2021 in the Court (RTC) of Pangasinan for the collection of the deficiency tax. “X” pleads prescription. Will the government suit prosper? Reasons. (1976, amount and dates supplied) SUGGESTED ANSWER: No. The RTC of Pangasinan has no jurisdiction to entertain the case considering that the amount of the tax is only P50,000.00. Since the RTC is outside Metro Manila, it would have jurisdiction only if the basic tax is P300,000.00 or over but does not reach P1 million. ***8. Mr. Dimagiba inherited from his father, who died on June 10, 2014, several pieces of real property in Batangas province. The estate tax return was filed and the estate tax due in the amount of P250,000.00 was paid on December 06, 2014. The Tax Fraud Division of the BIR investigated the case on the basis of confidential information given by Mr. Dimaano on January 06, 2018 that the return filed by Mr. Dimagiba was fraudulent and that he failed to declare all properties left by his father with intent to evade payment of the correct tax. As a result, a deficiency estate tax assessment for P1,250,000.00, inclusive of 50% surcharge for fraud, interest and penalty, was issued against him on January 10, 2021. Mr. Dimagiba protested the assessment on the ground of prescription. Decide Mr. Dimagiba’s protest. HYPOTHETICAL BAR REVIEW QUESTIONS & ANSWERS 249 SUGGESTED ANSWER: Denied. The return filed on December 6, 2014 was a false and fraudulent return. This is evident from the fact as shown in the problem that a fraud surcharge was imposed. Since the fraud was discovered only on January 06, 2018, the BIR has a period of ten (10) years from said discovery or until January 07, 2029 within which to assess. Thus, the assessment notice that was issued on January 10, 2021 was issued within the prescriptive period. NOTE NOT PART OF THE ANSWER: If confronted with a similar problem, check if there is imposed a fraud penalty. If there is none, then the appropriate prescriptive period is three (3) years from the time the return was filed or should have been filed whichever is later. This is so because the BIR itself recognized that the return is not false or fraudulent, when it did not impose the fraud surcharge ***9. On April 14, 2018, Mr. Castor de Castro filed his income tax returns for 2017 and paid the income tax due per return. After investigation, the Regional Revenue Director having jurisdiction of the case, issued a letter of assessment on April 5, 2018, which was released, mailed and received by Mr. de Castro on the same day. On March 31, 2021, a Warrant of Distraint and Levy to enforce collection of the assessment was served on Mr. de Castro who protested such action of the revenue official, alleging that the assessment is not valid because more than 3 years had elapsed from April 5, 2018, the date when he received the assessment in question and therefore, the right of the government to assess the deficiency income tax of P30,000.00 had already prescribed, pursuant to Section 203 of the Revenue Code. Is the contention of Mr. de Castro tenable? SUGGESTED ANSWER: No. The reckoning point for the tolling of the prescriptive period of three (3) years for the assessment of the tax is the date of filing the income tax return 250 FREE PRE-WEEK NOTES TAXATION LAW or the date when the return should have been filed whichever is the later of the two. Since the return for 2017 was filed on April 14, 2018, then the government has three (3) years from April 15, 2018 or until April 16, 2021 within which to make an assessment. The assessment issued on April 5, 2021 was seasonably made because it was within the aforesaid three (3) year period. ***10. Mangyan Co., a Philippine corporation filed its 2017 Income Tax Return (ITR) on April 15, 2018 showing a net loss. Since there was no tax investigation being conducted by the BIR, on November 10, 2018, Mangyan Co., amended its 2019 ITR to show more losses. After a tax investigation, the BIR disallowed certain deductions claimed by Mangyan Co., putting it, in a net income position. As a result, on August 5, 2021, the BIR issued a deficiency income assessment against Mangyan Co. It protested the assessment on the ground of prescription. Decide. SUGGESTED ANSWER: Mangyan Co.’s protest should be denied. The right of the BIR to issue an assessment has not yet prescribed. Since the return was amended, the three year prescriptive period started to run on November 10, 2018, the date when the amended return was filed. This is so because there is no showing in the problem that A Co. is subject to tax investigation, so it could still amend its tax return. The BIR has up to November 11, 2021 within which to issue the assessment notice. Thus, the issuance of the assessment on August 5, 2021 was within the three (3) year prescriptive period. HYPOTHETICAL BAR REVIEW QUESTIONS & ANSWERS 251 ***11. DOMINIC Corporation filed its quarterly income tax return for the first quarter of 2019 and paid an income tax of P500,000.00 on May 15, 2019. In the subsequent quarters, DOMINIC suffered losses so that on April 15, 2020 it declared a net loss of P1,000,000.00 in its annual income tax return. After failing to get a refund, DOMINIC filed on June 1, 2021 a case with the Court of Tax Appeals to recover the P500,000.00 in taxes paid on May 15, 2019. Is the action to recover the taxes filed timely ? SUGGESTED ANSWER: Yes. DOMINIC Corporation is deemed to have paid the P500,000.00 as of April 15, 2020 and not as of May 15, 2019, the actual payment. This is so, because a corporation is considered to be paying its tax as of the end of the taxable year inasmuch as the quarterly payments are considered only as installments. Consequently , the prescriptive period of two years from the payment of the tax should start to run on April 15, 2020. Since the Court of Tax Appeals case was filed on June 1, 2021, it was filed within the prescriptive period. ***12. XYZ Corporation files its income tax return on a calendar year basis. For the first quarter of 2019, It paid on 30 May 2019 its quarterly income tax in the amount of P3.0 million. On 20 August 2019, it paid the second quarterly income tax in the amount of P5.0 million. The third quarter resulted in a net loss, and no tax was paid. For the fourth and final return for 2019 the company reported a net loss for the year, and the taxpayer indicated in the income tax return that it opted to claim a refund of the quarterly income tax payments. 252 FREE PRE-WEEK NOTES TAXATION LAW On 10 January 2020, the corporation filed with the Bureau of internal Revenue a written claim for the refund of P3.5 million. BIR failed to act on the claim for refund; hence, on 02 March 2021, the corporation filed a petition for review with the Court of Tax Appeals on its claim for refund of the overpayment of its 2019 quarterly income tax. BIR, in its answer to the petition, alleged that the claim for refund was filed beyond the reglementary period. Did the claim for refund prescribe? SUGGESTED ANSWER: No. The tax is considered as having been paid on 10 January 2020, the date when the income tax return was filed. The income tax return was deemed filed on 10 January 2020, the date when the written claim for refund was made because the written claim for refund is made by ticking the appropriate box in the income tax return. Thus, it has a period of two years from that date or until 11 January 2022 within which to file its petition with the Court of Tax Appeals. The petition filed on 02 March 2021 was seasonably filed. ***13. WEBGAMES Corporation is a wholly owned subsidiary of WEBGAMES, Inc., California USA. Starting December 15, 2018, WEBGAMES Corporation paid annual royalties to WEBGAMES, Inc., for the use of the latter’s software, for which the former, as withholding agent of the government, withheld and remitted to the BIR the 15% final tax based on the gross royalty payments. The withholding tax return was filed and the tax remitted to the BIR on January 10, of the following year. On April 10, 2021, WEBGAMES Corporation filed a written claim for tax credit with the BIR, arising from erroneously paid income taxes covering the years 2018 and 2019. The HYPOTHETICAL BAR REVIEW QUESTIONS & ANSWERS 253 following day, WEBGAMES Corporation filed a petition for review with the Court of Tax Appeals involving the tax credit claim for 2018 and 2019. As a lawyer handling the case, would you raise the defense of prescription in your answer to the claim for tax credit ? Explain. SUGGESTED ANSWER: Yes. A claim for the refund of withholding taxes should be filed within two years computed from the 25th day after the close of each calendar quarter. Since the 2018 royalties were withheld and remitted on January 10, 2019, the two prescriptive period should be counted from the 25th day of the close of the quarter or 25 days from March 31, 2019 or until April 1, 2021. Since the claim for tax credit was filed only on April 10, 2021 and the petition for review only on April 11, 2021, then prescription has set in for the tax withheld and remitted on January 10, 2019. ***14. May the collection of taxes be barred by prescription ? Explain your answer. SUGGESTED ANSWER: Yes. The collection of taxes may be barred by prescription. The prescriptive period for collecting internal revenue taxes is three (3) years from the issuance of an assessment notice. Where the return is false or fraudulent, or no return was filed, the deficiency taxes may be collected even without an assessment within ten (10) years from discovery of the falsity, fraud or failure to file the tax return. If there is an assessment made upon a false or fraudulent return, or no return was filed, then the prescriptive period is five (5) years from issuance of an assessment notice. This is the same period for the 254 FREE PRE-WEEK NOTES TAXATION LAW payment of an assessment issued within the period agreed upon between the BIR and the taxpayer. Collection of taxes undertaken by the BIR beyond the periods above stated would be barred by prescription. ***15. In connection with the income tax return for 2014 filed by Darylle , an assessment was made in January 2020. Darylle asked for a reinvestigation, which was granted. After reinvestigation, another assessment was made by the Commissioner of Internal Revenue on June 1, 2020. Has the period of collection of the income tax due from Darylle for the year 2014 expired ? Explain your answer. SUGGESTED ANSWER: Yes. The period of collection of the income due from Darylle for the year 2014 has expired. The Bureau of Internal Revenue has a period of three (3) years from the filing of the income tax return, or when it should have been filed to make an assessment. The income tax return was for the 2014 income so it should have been filed not later than April 15, 2015. Since, there is no showing that the return filed by Darylle was made beyond April 15, 2015 and that there exists fraud, then the BIR has only up to April 16, 2018 within which to make the assessment. The assessment made in January 2020 was therefore made out of time. Taxes could not be collected on a prescribed assessment. NOTE NOT PART OF THE ANSWER: The examinee should be careful in answering problems similar to the above problem which lack factual basis. There was no showing when the return was filed, neither was there a showing whether the return was fraudulent. Finally, the question refers to collection, not assessment. Assumptions should be made upon which your answer should be based. HYPOTHETICAL BAR REVIEW QUESTIONS & ANSWERS 255 **16. In January 2017, additional taxes as due and payable in the sum of P50,000.00 and P25,000.00 were assessed Annie and Bian, respectively. In March 2019, Annie requested that he be furnished a copy of the detailed computation of his alleged tax liability, while Bian moved for a reinvestigation which was granted by the Commissioner. The reinvestigation of Bian was terminated in January 2020, reiterating the assessment of P25,000.00 of which Bian was duly informed. In January 2020, Annie was finally furnished with the details requested for. In 2021, the government levied on the properties of Annie and Bian to answer for their tax liabilities mentioned above. Was the levy on the properties of Annie and Bian valid and proper? Discuss. SUGGESTED ANSWER: No. The levy on the properties of Annie and Bian was not proper because the right of the government to collect was already lost through prescription. In March 2019 when Annie requested for a copy of the detailed computation and Bian moved for a reinvestigation, the January 2017 assessment was already final and collectible. This is so, because Annie and Bian did not seasonably dispute the assessment within 30 days from receipt. Even if there is no showing of the date when Annie and Bian received the assessments in January 2017, it could be presumed as having been furnished by the BIR to them within a reasonable period of time from January 2017. In view of the foregoing, the government has a period of only three (3) years from the time the assessment notice was issued in January, 2017. This is so because there is no showing that the return filed was false or fraudulent, or that there is a waiver of the prescriptive period by either Annie or Bian. Presupposing that the assessment became final in February 2017 for failure on 256 FREE PRE-WEEK NOTES TAXATION LAW the part of Annie and Bian to seasonably dispute the same, then the government had only three (3) years from in January, 2017 up to February, 2020 within which to collect. Since the government was collecting through levy in 2021, then it has lost its right to do so because of prescription. The levy was therefore not valid and is improper. NOTE NOT PART OF THE ANSWER: This is another vague question. The answer was dependent on a lot of assumptions because there was no showing when Annie and Bian actually received the assessment notice. 17. What is the prescriptive period for violations of the penal provisions of the Tax Code ? SUGGESTED ANSWER: All violations of any provision of Tax Code shall prescribe after five (5) years. (NIRC of 1997, Sec. 281, 1st par.) a. When does the prescriptive period start to run? SUGGESTED ANSWER: Prescription shall begin to run from the day of the commission of the violation of the law, and if the same be not known at the time, from the discovery thereof and the institution of judicial proceedings for its investigation and punishment. (NIRC of 1997, Sec. 281, 2nd par.) b. When is an offense considered as discovered ? SUGGESTED ANSWER: An offense under the Tax Code is considered discovered only after the manner of commission and the nature and extent of fraud has been definitely ascertained. (RMC No. 101-90) This occurs when the BIR renders its final decision and requires the taxpayer to pay the deficiency tax. c. When is the prescriptive period interrupted ? HYPOTHETICAL BAR REVIEW QUESTIONS & ANSWERS 257 SUGGESTED ANSWER: The prescription shall be interrupted when proceedings are instituted against the guilty persons and shall begin to run again if the proceedings are dismissed for reasons not constituting jeopardy. (NIRC of 1997, Sec. 281, 3rd par.) “The institution of the criminal action shall interrupt the running of the period of prescription.” (RRCTA, Rule 9, Sec. 2, 2nd par.) d. When does prescription not run ? SUGGESTED ANSWER: The term of prescription shall not run when the offender is absent from the Philippines. (NIRC of 1997, Sec. 281, 3rd par.) REMEDIES AGAINST ASSESSMENT NOTICES ***Outline of the Taxpayer’s and Government’s Administrative and Judicial Remedies Relative to Assessments of Internal Revenue Taxes. SUGGESTED ANSWER: Procedural due process in tax assessment is met if the following outline is observed: DISPUTED ASSESSMENT 1. Revenue District Officer (RDO) or a higher BIR authorized officer. Issues a Letter of Authority (LA) authorizing the examiner to inspect the taxpayer’s books of accounts, other accounting records, and documents that may be pertinent in determining whether the taxpayer has paid the correct taxes and has complied with all the requirements for recording financial transactions, keeping books of accounting, and others promulgated by the Bureau of Internal Revenue to ensure determination of the correct taxes due from the taxpayer. FREE PRE-WEEK NOTES TAXATION LAW 258 The examination should be made within the reglementary period for the issuance of an assessment notice. 2. Revenue Officer a) Audits or examines the taxpayer’s records. b) Issues a Notice of informal Conference to the taxpayer in order to discuss the Examiner’s findings. c) States in his report whether or not there are violations of the compliance requirements, whether there are tax deficiencies, the deficiency taxes, fines and penalties due from the taxpayer. The report shall also state whether the taxpayer agrees with his findings that the taxpayer is liable for deficiency taxes, fines and penalties. 1) If the taxpayer agrees, he pays the tax. 2)If the taxpayer does not agree with the Revenue Officer’s submitted report of investigation, he does not pay. 3. Assessment Division (Revenue Regional Office) or Commissioner of Internal Revenue or his duly authorized representative. a) Reviews and evaluates the finding of the Revenue Officer. 1) If he finds no sufficient basis, the case is dismissed. 2) Determines that there exists sufficient basis to assess the taxpayer for any deficiency tax, fines and penalties, HYPOTHETICAL BAR REVIEW QUESTIONS & ANSWERS 259 3) Issues to the taxpayer, at least by registered mail, a Preliminary Assessment Notice (PAN) for the proposed assessment (NIRC of 1997, Sec. 228; Rev. Regs. 12-99, Sec. 3.1.2) unless the case within the exceptions where there is no need to issue a PAN in which case there is immediately issued a formal letter of demand (FLD) and a final assessment notice (FAN). 4) Taxpayer responds within fifteen (15) days from receipt of the PAN why no taxes, fines and penalties should be assessed against him. 5) If the taxpayer fails to respond within fifteen (15) days from date of receipt of the PAN, he shall be considered in default. (Rev. Regs. 12-99, Sec. 3.1.2) b) If the Commissioner accepts the taxpayer's explanations to the PAN, then the proceedings are ended, and the case is closed. c) If the taxpayer’s response is not acceptable or he is in default because of failure to respond to the PAN, or there is no need to issue a PAN, then a formal letter of demand (FLD) and a final assessment notice (FAN) shall cause to be issued by the Commissioner or his duly authorized representative calling for payment of the taxpayer’s deficiency tax liability, inclusive of the applicable penalties. (Rev. Regs. 12-99, Secs. 3.1.2, 3.1.4) 4. Taxpayer a) Does not do anything within thirty (30) days from receipt of the FLD/FAN 260 FREE PRE-WEEK NOTES TAXATION LAW 1) the assessment becomes final, executory, demandable and not appealable to the Court of Tax Appeals (Rev. Regs. 12-99, Sec. 3.1.5, 4th par.); and 2) the BIR could avail of its administrative or judicial remedies to collect the tax. b) Administratively protests or disputes the assessment by filing a request for reconsideration or reinvestigation within thirty (30) days from receipt of the notice of assessment. (NIRC of 1997, Sec. 228, 4th par.; Rev. Regs. 12-99, Sec. 3.1.5, 1st par.) 1) Within sixty (60) from filing of the protest (request for reinvestigation), all relevant supporting documents shall be submitted. (Ibid.) 2) If the documents are not seasonably submitted, the assessment shall become final, executory, demandable, not appealable to the Court of Tax Appeals (Ibid.), and the BIR could avail of its administrative or judicial remedies to collect the tax. 5. Commissioner acts on the administrative protest (request for reinvestigation) within one hundred eighty (180) days from receipt of the relevant supporting documents. If the protest is a request for reconsideration, the Commissioner acts on the same within one hundred eighty (180) days from filing of the request for reconsideration. a) The BIR Commissioner grants the protest (request for reinvestigation or request for reconsideration), the case is dismissed. b) The BIR Commissioner denies the administrative protest (request for reinvestigation or request for reconsideration) or dispute, or HYPOTHETICAL BAR REVIEW QUESTIONS & ANSWERS 261 c) The BIR Commissioner does not act on the administrative protest (request for reinvestigation within 180 days from submission of the complete supporting documents or if it’s a request for reconsideration within 180 days from filing of the protest) or dispute. 6. Taxpayer a) Receives the BIR Commissioner's denial of his administrative protest (whether request for reinvestigation or reconsideration) or dispute 1) within thirty (30) days from receipt of the denial, appeals the decision of the BIR Commissioner to the Court of Tax Appeals in division by means of a petition for review coupled with a motion for the issuance of an order suspending the collection of the tax pending resolution of the petition. 2) If the taxpayer does not seasonably interpose an appeal, the decision of the BIR Commissioner denying his administrative protest (whether request for reinvestigation or request for reconsideration), or dispute, the assessment becomes final, executory, demandable (Rev. Regs. 12-99, Sec. 3.1.5, 5th par.), and not anymore appealable to the Court of Tax Appeals. The BIR could then avail of its administrative or judicial remedies to collect the tax. 3) A denial by the Commissioner’s duly authorized representative may be elevated to the Commissioner within thirty (30) days from receipt of the final decision by the representative. b) Learns of the inaction by the BIR Commissioner or his duly authorized representative 262 FREE PRE-WEEK NOTES TAXATION LAW on his administrative protest or dispute within 180 days from submission of the required documents to support the dispute (if a request for reinvestigation) of within 180 days from filing of the request for reconsideration; 1) Within thirty (30) days from the lapse of 180 days from the taxpayer's submission of all the relevant supporting documents (if a request for reinvestigation) or from the lapse of 180 days from filing of the request for reconsideration, (a) must interpose an appeal to the Court of Tax Appeals division by means of a petition for review coupled with a motion for the issuance of an order suspending the collection of the pending the resolution of the petition. Otherwise, the assessment shall become final, executory, and demandable (Rev. Regs. 12-99, Sec. 3.1.5, 7th par; Rep. Act No.1125, Sec. 7, as amended by Rep. Act No.9282), and not appealable to the Court of Tax Appeals. The BIR could then avail of its administrative or judicial remedies to collect the tax. (b) If the Commssioner does not act within the 180 period described above, the taxpayer may decide to wait for a denial by the BIR and when the denial is received, the taxpayer would have thirty (30) days from receipt of the denial within which to appeal to the Court of Tax Appeals division. Failing to so appeal, the denial would attain a state of finality and the BIR could then avail of its HYPOTHETICAL BAR REVIEW QUESTIONS & ANSWERS 263 administrative or judicial remedies to collect the tax. 7. The Court of Tax Appeals a) The Court of Tax Appeals division has a period of twelve (12) months from the time the case is submitted for decision within which to decide. (Rep. Act No. 1125, Sec. 13, as amended by Rep. Act. No. 9282) b) The CTA division grants the petition or reverses the decision of the BIR Commissioner in which case the Commissioner may, within fifteen (15) days from receipt, files a motion for reconsideration or new trial with the same division. If the BIR does not do anything, the grant of the petition results to dismissal of the case against the taxpayer. c) The CTA division dismisses the petition or affirms the decision of the BIR Commissioner in which case the taxpayer may, within fifteen (15) days from receipt, files a motion for reconsideration or new trial with the same division. If the taxpayer does not do anything, the dismissal of the petition results to a case against the taxpayer attaining a state of finality and BIR could now resort to its administrative or judicial remedies to collect the tax. d) The party adversely affected by the decision of a Division of the Court of Tax Appeals may file one motion for reconsideration or new trial with the same division. A denial of the motion for reconsideration or new trial may be the subject of a petition for review filed with the Court of Tax Appeals, en banc. If the decision of the CTA division is not seasonably questioned by the party adversely FREE PRE-WEEK NOTES TAXATION LAW 264 affected by the decision of the Court of Tax Appeals, the decision lapses into finality. The assessment then becomes final, executory and demandable or of no force and effect depending upon the nature of Court of Tax Appeals division’s decision. e) The Court of Tax Appeals division may grant or deny the motion for reconsideration or new trial. f) The party adversely affected by the decision of the Court of Tax Appeals division on the motion for reconsideration or new trial has a period of fifteen (15) days from receipt within which to interpose a petition for review with Court of Tax Appeals en banc. The party adversely affected by the decision of the Court of Tax Appeals en banc, may then file a verified petition for review on certiorari with the Supreme Court. The petition shall be filed and served, with full payment of the docket and other lawful fees and the deposit for costs within fifteen (15) days from receipt of the adverse judgment. Before the expiration of the reglementary period, the Supreme Court may for justifiable reasons grant an extension of thirty (30) days only within which to file the petition. (ROC, Rule 45, Sec. 2) 8. The Supreme Court a) Grants the petition and reverses the decision of the Court of Tax Appeals, or b) Dismisses the petition or affirms the decision of the Court of Tax Appeals. c) A motion for reconsideration may be posed after which the Supreme Court decision becomes final. HYPOTHETICAL BAR REVIEW QUESTIONS & ANSWERS 265 UNDISPUTED ASSESSMENT 1. The Commissioner of Internal Revenue files an ordinary action for the collection of the tax before a regular trial court or the CTA), depending upon the jurisdictional amount. 2. Court that has jurisdiction. a) Municipal or Metropolitan Trial Court. If the basic amount of the tax to be collected (except interests, and surcharges) is P300,000.00 or less, then the case should be filed before the proper Municipal or Metropolitan Trial Court outside of Metropolitan Manila or if the court is in Metropolitan Manila area, then the jurisdictional amount is P400,000.00 or less. (The Rule on Summary Procedure may find application) 1) The decision of the Municipal or Metropolitan Trial Court shall be the subject of a notice of appeal directed to the Regional Trial Court. 2) The decision of the Regional Trial Court in aid of its appellate jurisdiction shall be the subject of a petition for review directed to the Court of Tax Appeals, en banc. 3) The decision of the CTA en banc is the subject of a motion for reconsideration or new trial after which the matter is elevated to the Supreme Court on a pure question of law on a petition for review on certiorari under Rule 45. b) Regional Trial Court. If the basic amount of the tax to be collected (except interests, and surcharges) is more than P300,000.00 but less 266 FREE PRE-WEEK NOTES TAXATION LAW than P1,000,000.00, the case should be filed before the proper Regional Trial Court outside of Metropolitan Manila or if the court is in Metropolitan Manila area, then the jurisdictional amount is P400,000.00 or more but less than P1,000,000.00. 1) The decision of the Regional Trial Court shall be the subject of one motion for reconsideration or new trial, thence of a petition for review directed to a Court of Tax Appeals division. 2) The decision of the Court of Tax Appeals division shall be the subject of a motion for reconsideration or motion for new trial directed to the same Court of Tax Appeals division that rendered the decision. 3) The resolution of the CTA division on the subject of a motion for reconsideration or new trial is the subject of a petition for review directed to the Court of Tax Appeals en banc after which the matter is elevated to the Supreme Court on a pure question of law on a petition for review on certiorari under Rule 45. Author’s Observation. The above process should be mastered because it is a rich source of Bar problems. ***1. What remedies are available to a taxpayer who considers himself aggrieved in connection with the assessment and collection of internal revenue taxes? SUGGESTED ANSWER: When the taxpayer receives a preliminary assessment notice he must, within fifteen (15) days from receipt of the same reply to the Bureau of Internal HYPOTHETICAL BAR REVIEW QUESTIONS & ANSWERS 267 Revenue explaining why he should not be the subject of a final letter of demand and a final assessment notice. If the reply is not accepted by the Bureau of Internal Revenue, the taxpayer receives a final letter of demand and a final assessment notice for deficiency taxes, he must protest the same, either through a motion for reconsideration or reinvestigation, within a period of thirty (30) days from receipt of such notice. If the taxpayer files a motion for reconsideration, there is no need for him to submit supporting documents. However, if he files a motion for reinvestigation, he must within a period of sixty (60) days from filing of the protest, submit the complete supporting documents. If he does not comply with this requirement, the taxpayer would be considered as not having filed the protest and the BIR could then collect the tax using its administrative or judicial remedies. If the taxpayer fails to file a protest the assessment becomes final, executory and collectible. It could not be the subject of an appeal and the BIR could then collect the tax using its administrative or judicial remedies. If the BIR denies the taxpayer’s protest, or if the BIR does not resolve the protest within a period of 180 days from submission of the motion for reconsideration or in the case of a motion for reinvestigation, within a period of 180 days from submission of the complete supporting documents, then the taxpayer has a period of thirty (30) days from receipt of the denial, or expiration of the 180 day period, within which to appeal to the Court of Tax Appeals division by filing a petition for review under Rule 42 of the Rules of Court, with an application for the issuance of an order suspending the collection of the tax. If the Commissioner has not acted upon the protest despite the expiration of the 180 day period the taxpayer has the option to wait for the decision of the Commissioner 268 FREE PRE-WEEK NOTES TAXATION LAW after which the taxpayer has a period of thirty (30) days from receipt of the decision within which to appeal to the Court of Tax Appeals division by filing a petition for review under Rule 42 of the Rules of Court, with an application for the issuance of an order suspending the collection of the tax. If the taxpayer fails to file a petition for review under Rule 42 of the Rules of Court with the Court of Tax Appeals division within thirty (30) days from receipt of the denial of the protest (dispute) of the final letter of demand (FLD) and the final assessment notice (FAN), the same shall become final, executory and demandable. (Rev. Regs. No. 12-99, Sec. 3.1.4, 9th par., as amended by Rev. Regs. No. 18-2013) The Bureau of Internal Revenue could then utilize its administrative or judicial remedies for collecting the tax. If the Division’s decision is unfavorable to the taxpayer, he could then file a motion for reconsideration or new trial with the Division within 15 days from notice. The Division’s unfavorable action on the motion for new trial or reconsideration may be the subject of a petition for review under Rule 43 of the Rules of Court filed within fifteen (15) days with the Court of Tax Appeals en banc. The adverse decision or ruling of the Court of Tax Appeals en banc is appealable to the Supreme Court through a verified petition for review on certiorari under Rule 45 of the Rules of Court within a period of 15 days from receipt of the Court of Tax Appeals’ adverse decision, which period is extendible for 30 days. If the assessment notice has become final, executory and collectible and the BIR files a collection suit in court, the taxpayer may use affirmative defenses such as prescription, res judicata, payment, etc. but not the negative defenses which are deemed waived for failure to raise the same in the administrative proceedings. Estoppel could not be raised as a defense because the government is not estopped by the acts of its agents. HYPOTHETICAL BAR REVIEW QUESTIONS & ANSWERS 269 Whether the BIR intends to collect the taxes judicially or administratively, the taxpayer may try to enter into a compromise in order to obtain a reduction of the taxes being demanded. *2. The BIR issued in 2021 a final assessment notice and demand letter against Lebmo Corporation covering deficiency income tax for the year 2020 in the amount of P10 Million. Lebmo Corporation earlier requested the advice of a lawyer on whether or not it should file a request for reconsideration or a request for reinvestigation. The lawyer said it does not matter whether the protest filed against the assessment is a request for reconsideration or a request for reinvestigation, because it has the same consequences or implications. a. What are the differences between a request for reconsideration and a request for reinvestigation ? SUGGESTED ANSWER: The differences between a request for reconsideration as a mode of protest and a request for reinvestigation also as a mode of protest are the following: 1) A request for reconsideration does not suspend the running of the prescriptive period for collection of taxes while a request for reinvestigation suspends the running of the prescriptive period. 2) A request for reconsideration does not require the presentation of newly discovered or additional evidence while a request for reinvestigation requires it. 3) The period of 60 days for submission of the relevant supporting documents does not find application to a request for reconsideration while such period is applied to a request for reinvestigation. 4) The failure of the Commissioner of Internal Revenue to act on the request for reconsideration after a period of 180 days from the filing thereof authorizes the 270 FREE PRE-WEEK NOTES TAXATION LAW taxpayer to file a petition for review with the Court of Tax Appeals within a period of thirty (30) days from the expiration of such 180 day period while for a request for reinvestigation, the period is the expiration of the 180 day period from the submission of the complete supporting documents. b. Do you agree with the advice of the lawyer? Explain your answer. SUGGESTED ANSWER: No, in view of the foregoing differences between a request for reconsideration and a request for reinvestigation. **3. On July 31, 2021, Esperanza received a preliminary assessment notice (PAN) from the BIR demanding that she pays P180,000.00 deficiency income taxes on her 2019 income. How many days from July 31, 2021 should Esperanza respond to the notice? SUGGESTED ANSWER: 15 days from receipt of the PAN or July 31, 2021 or until August 15, 2021. What is the effect of the failure to respond ? SUGGESTED ANSWER: If Esperanza fails to respond within fifteen (15) days from date of receipt of the PAN, she shall be considered in default, in which case, a Final Assessment Notice (FAN) coupled with a Formal Letter of Demand (FLD) shall be issued calling for payment of her deficiency tax liability, inclusive of the applicable penalties. (Rev. Regs. No. 12-99, Sec. 3.1.1 2nd par., as amended by Rev. Regs. No. 18-2013) **4. A taxpayer received on 15 January 2021, an assessment for an internal revenue tax deficiency. the taxpayer instead of questioning the assessment he received on 15 January 2021, paid on 01 March 2021, the “deficiency tax” assessed. The taxpayer requested a refund from the Commissioner by submitting a HYPOTHETICAL BAR REVIEW QUESTIONS & ANSWERS 271 written claim on 01 March 2021. It was denied. The taxpayer, on 15 March 2021, filed a petition for review with the Court of Tax Appeals. Could the petition still be entertained ? SUGGESTED ANSWER: No. The petition could not be entertained anymore. When the taxpayer paid the tax assessed on 01 March 2021, the assessment he received on 15 January 2021 has already attained a state of finality for failure to seasonably protest the same within a period of thirty (30) days from receipt of the assessment notice. An assessment that has already become final, executory and demandable for failure to appeal the same within the reglementary period of thirty (30) days from receipt of the assessment notice, could not be paid, apply for a refund and then if denied appeal the denial to the Tax Court. The Tax Court can no longer amend, modify, much less set aside such final assessment. (Adez Realty v. Inc. v. Court of Appeals, 212 SCRA 623) The taxpayer would be doing indirectly, what he could not do directly, that is open an assessment that has become final. This would be disadvantageous to the government and be violative of the life blood doctrine because the reopening might result to lower taxes or at the very least, results to delay in collection of taxes upon which the government depends for the continued performance of its functions. On the other hand, a reopening that would result to increasing the tax would violate the taxpayer’s right to due process. ***5. Mr. Roderick Relleve, a taxpayer, received an assessment notice from the BIR on February 9, 2021. The following day, he filed a protest, in the form of a request 272 FREE PRE-WEEK NOTES TAXATION LAW for reinvestigation, against the assessment and submitted all relevant documents in support of the protest. On September 11, 2021, Mr. Relleve, apprehensive because he had not yet received notice of a decision by the Commissioner on his protest, sought your advice. What remedy or remedies are available to the taxpayer? SUGGESTED ANSWER: The remaining remedy available to Mr. Relleve is to wait for the decision of the Commissioner on the protest he filed. If his protest is denied, he would have a period of thirty (30) days from receipt of the denial within which to interpose a petition for review with the Court of Tax Appeals Division. The Commissioner has a period of 180 days from the submission of the relevant documents on February 10, 2021 or until August 11, 2021, after which Mr. Relleve has the option of either filing a petition for review with the Court of Tax Appeals within a period of 30 days from the expiration of the 180 day period or until September 9, 2021 or he could choose to wait for the decision on the protest. In case of a denial of Mr. Relleve’s protest, he may file the petition for review with the Court of Tax Appeals within a period of thirty (30) days from receipt of the decision. (Rev. Regs. No. 12-99, Sec. 3.1.4, 8th par. as amended by Rev. Regs. No. 18-2013) The 180-day period lapsed on August 11, 2021, thus Mr. Relleve has only 30 days from August 11, 2021, or until September 9, 2018 within which to file a petition for review with the Court of Tax Appeals in divisions. Since, it is already September 11, 2021, then Mr. Relleve could not anymore avail of the remedy of appeal. He has to await the decision of the Commissioner on his protest before he could appeal to the Court of Tax Appeals, in divisions. HYPOTHETICAL BAR REVIEW QUESTIONS & ANSWERS 273 *5. In February 2021, pursuant to a Letter of Authority (LOA) issued by the Regional Director, Mr. “A” was assessed deficiency income taxes by the BIR for the year 2020. He paid the deficiency. In the August 2021, Mr. Abcede received another LOA for the same year 2020, this time from the National Investigation Division, on the ground that Mr. “A”’s 2020 return was fraudulent. Mr. “A” contested the LA on the ground that he can only be investigated once in a taxable year. Decide. SUGGESTED ANSWER: Mr. “A” is not correct. For income tax purposes, the examination and inspection of Mr. “A’s tax records shall be made only once in a taxable year, except in case of fraud as determined by the Commissioner. (NIRC of 1997, Sec. 235, 1st par.) Mr. “A”’s 2020 return was fraudulent hence, it could be the subject of another investigation. a. Aside from fraud, are there any other instances when the books of accounts and accounting records shall be subject to examination and inspection for income tax purposes may be made by internal revenue officers more thanonce in a taxable year ? Discuss. SUGGESTED ANSWER: Yes, in the following instances: 1) The taxpayer requests for reinvestigation. 2) Verification of compliance with withholding tax laws and regulations. 3) Verification of capital gains tax liabilities. and 4) In the exercise of the Commissioner's power to obtain information from other persons in which case, another or separate examination and inspection may be made. (NIRC of 1997, Sec. 235, 1st par., arrangement, paraphrasing, and numbering supplied) 274 FREE PRE-WEEK NOTES TAXATION LAW *6. What methods may be utilized by the Commissioner of Internal Revenue to determine the correct taxable income of the taxpayer if the latter’s record or methods of accounting are not reflective of his true income? SUGGESTED ANSWER: Where the records or methods of accounting of the taxpayer does not reflect his correct taxable income, the Commissioner of Internal Revenue is allowed to use reasonable methods in determining the income. The reasonable methods are referred to as the “Constructive Methods of Income Determination” (also known as the “Indirect Methods of Income Determination”), or the “Best Evidence Obtainable Rules”. Some of the specific methods under the “Constructive Methods of Income Determination” (also known as the “Indirect Methods of Income Determination”), or the “Best Evidence Obtainable Rules” may include the following: a. Net worth method. The net worth method of determining income is a method of reconstructing income which is based on the theory that if the taxpayer’s net worth has increased in a given year in an amount larger than his reported income, he has understated his income for the year. The net worth on a fixed starting date is compared with the net worth on a fixed ending date. Any increase in net worth is presumed to be income not declared for tax purposes. b. Cash expenditure method. Where during a taxable year, a taxpayer incurs expenditures, the source of which could not be explained (such as from gifts, donations, income subject to final taxes, disposal of previously paid, excluded or tax exempt income), the amount of expenditures is presumed to be income for the taxable year subject to income tax. (Collector v. Jamir, 4 SCRA 718) This is a method which assumes that the excess of a taxpayer’s expenditures during the taxable period over his HYPOTHETICAL BAR REVIEW QUESTIONS & ANSWERS 275 reported income for that period is taxable to the extent not disproved otherwise. c. Percentage method. d. Bank deposit method. e. Unit and value method. f. Third party information or access to records method. g. Inventory method. h. Surveillance and assessment method. The above methods are not exclusive in character because there may be such methods used in the opinion of the BIR Commissioner which clearly reflects the income. ***7. When are the instances where a final assessment notice (FAN) coupled with a formal letter of demand (FLD) and may be issued even without preliminary assessment notice (PAN)? Othrwise stated, when shall a PAN not a requirement before issuance of a FAN/FLD ? SUGGESTED ANSWER: The following are the instances: a. When the finding for any deficiency tax is the result of mathematical error in the computation of the tax as appearing on the face of the return filed by the taxpayer; or b. When a discrepancy has been determined between the tax withheld and the amount actually remitted by the withholding agent; or c. When a taxpayer who has opted to claim a refund or tax credit of excess creditable withholding tax for a taxable period was determined to have carried over and automatically applied the same amount claimed 276 FREE PRE-WEEK NOTES TAXATION LAW against the estimated tax liabilities for the taxable quarter or quarters of the succeeding taxable year; or d. When the excise tax due on excisable articles has not been paid; or e. When an article locally purchased or imported by an exempt person, such as, but not limited to, vehicles, capital equipment, machineries and spare parts, has been sold, traded or transferred to non-exempt persons. (NIRC of 1997; Sec. 228) In the above-cited instances, a FLD/FAN shall be issued outright. (Rev. Regs. No. 12-99, Sec. 3.1.2, last sentence as amended by Rev. Regs. No. 18-2013) *8. Federico Matibag, a Filipino citizen residing in San Jose, Batangas, owns a vacation house and lot in San Francisco, California, U.S.A., which he acquired in 2010 for P15 million. On January 10, 2020, he sold said real property to Efren Limbo, another Filipino citizen residing in Mandaluyong City, for P20 million. On February 9, 2020, Matibag filed the capital gains tax return and paid P1.2 million representing 6% capital gains tax. Since Matibag did not derive any ordinary income, no income tax return was filed by him for 2020. After the tax audit conducted in 2021, the BIR officer assessed Matibag for deficiency income tax computed as follows: P5 million (P20 million less P15 million) x 35% = P1.75 million, without the capital gains being allowed as tax credit. Matibag consulted a real estate broker who said that the P1.2 million capital gains tax should be credited from the P1.75 million deficiency income tax. If you were hired by Matibag as his tax consultant, what advice would you give him to protect his interest? Explain. SUGGESTED ANSWER: I would advise him to protest the assessment within a period of thirty (30) days HYPOTHETICAL BAR REVIEW QUESTIONS & ANSWERS 277 from receipt on the ground that the assessment is invalid for the following reasons: a. His right to due process was violated because no pre-assessment notice was made before the issuance of the assessment. b. The assessment is erroneous and he should show what is the correct computation. The income tax rate for individuals is not is a progressive rate with a top rate of 35% on amounts of income subject to tax exceeding P8 Million. Since it is apparent that the gain should be subject to ordinary income taxation, I would likewise advise him to file an application for refund of the capital gains taxes he paid. He should file a suit for recovery of the tax within two years from the payment of the tax if his application for refund is not acted upon or if it is denied. **9. Car Manufacturing Corporation manufactures motor vehicles and is almost at the point of insolvency. It had no more cash and all it has are unsold automobiles. It received an assessment from the BIR for deficiency income taxes. It wants to pay but due to lack of cash, it seeks permission to pay in kind with automobiles. Should the BIR grant the requested permission ? SUGGESTED ANSWER: No. The BIR should not grant permission to pay in kind because such act goes against the very concept of taxes of being pecuniary burdens. Giving permission would violate a principle of a sound tax system which is administrative feasibility. There may be difficulties in collecting the tax because of issues of valuation of the property to be paid as taxes may arise. Instead, the BIR should issue the proper assessment notice with a demand to pay. In case of failue by the taxpayer to pay, it should then exercise its lien over the 278 FREE PRE-WEEK NOTES TAXATION LAW automobiles or subject the same to distraint, and sell them at a public auction and apply the proceeds to the tax delinquency. If the proceeds are not sufficient, then, further distraint or levy should be exercised. ALTERNATIVE ANSWER: Yes. The BIR should grant permission to pay in kind because there is no law, rule nor principle in taxation that requires that deficiency taxes should only be paid in cash. Furthermore, the lifeblood doctrine mandates the collection of taxes in the most expeditious manner possible whether in cash or in kind. *10. Is an assessment necessary before a taxpayer may be prosecuted for willfully attempting in any manner to evade or defeat any tax imposed by the Internal Revenue Code? SUGGESTED ANSWER: No, because of the following reasons which distinguish a criminal charge from an assessment: a. Criminal charge need only be supported by a prima facie showing of failure to file a required return while the fact of failure to file a return need not be proven by an assessment. b. Before an assessment is issued, there is, by practice a pre-assessment notice sent to the taxpayer while such is not so with a criminal charge. c. A criminal complaint is instituted not to demand payment, but to penalize the taxpayer for violation of the Tax Code while the purpose of the issuance of an assessment is to collect the tax. (Commissioner of Internal Revenue, v. Pascor Realty and Development Corporation, G. R. No. 128315, June 29, 1999) *11. Is initiation by the BIR of criminal prosecution an assessment notice? Why? HYPOTHETICAL BAR REVIEW QUESTIONS & ANSWERS 279 SUGGESTED ANSWER: No. The initiation by the BIR of criminal prosecution is not an assessment notice because of the following reasons: a. To consider the initiation of criminal prosecution as a disputed assessment would render nugatory the requirement set by the Supreme Court regarding final decisions of the Commissioner of Internal Revenue. (Cargo Lane Realty Development Corporation, v. VinzonsChato, etc., CA-G.R. SP No. 47950, March 19, 1999) b. An affidavit-report of BIR examiner showing computation of tax liabilities, and recommending the issuance of a notice of assessment, is not an assessment itself which is the subject of a motion for reconsideration/investigation or protest by the taxpayer. This is so, because it was not sent to the taxpayer, and does not demand payment of the tax within a certain period of time. An assessment is deemed made only when the BIR releases, mails or sends such notice to the taxpayer. (Commissioner of Internal Revenue v. Pascor Realty and Development Corporation, G.R. No. 128315, June 29, 1999) **12. What are the requisites of a valid assessment ? Explain. SUGGESTED ANSWER: a. The investigation that resulted to the assessment must have been authorized by a Letter of Authority. b. It must have been preceded by a Notice of Informal Conference, which actually took place, issued by a properly authorized revenue officer. c. It must have been issued within the prescriptive period for the issuance of assessment notices. d. As a general rule, it may be issued only after a preassessment notice has been served upon the taxpayer. 280 FREE PRE-WEEK NOTES TAXATION LAW The constitutional requirement for due process also finds application in the field of taxation, especially in the matter of issuance of a deficiency tax assessment. The requirement of due process for the validity of a formal letter of demand (FLD) or a final assessment notice (FAN) is complied with by furnishing a pre-assessment notice to the taxpayer advising him that proper taxes are being assessed. (Rev. Regs. No. 12-99, Sec. 3.1.1, 1st par., as amended by Rev. Regs. No. 18-2013) e. It shall state the facts, the law, rules and regulations, or jurisprudence on which the assessment is based, otherwise, the assessment shall be void. (Rev. Regs. No. 12-99, Sec. 3.1.3, 2nd sentence, as amended by Rev. Regs. No. 18-2013) f. The taxpayer must have personally received the assessment notice [Estate of the late Juliana Diez vda. De Gabriel v. Commissioner of Internal Revenue, 421 SCRA 266 (2004)] or a tax agent/practitioner, who is appointed by the taxpayer. (Rev. Regs. No. 12-99, Sec. 3.1.6, last par., as amended by Rev. Regs. No. 18-2013) **13. Distinguish a false return from a fraudulent return. SUGGESTED ANSWER: The distinctions between a false return and a fraudulent return are the following: a. A false return is merely a deviation from the truth whether intentional or not due to mistake, carelessness or ignorance while a fraudulent return implies intentional or deceitful entry with intent to evade the taxes due. (Commissioner of Internal Revenue v. Philippine Daily Inquirer, G.R. No. 213943, March 22, 2017) b. A false return is not subject to the 50% fraud penalty while a fraudulent return is subject to the 50% fraud penalty. HYPOTHETICAL BAR REVIEW QUESTIONS & ANSWERS 281 c. A false return does not subject the taxpayer to criminal penalties while a fraudulent return may subject the taxpayer to criminal penalties. In short, a false return is not the same as a fraudulent return. NOTE NOT PART OF THE ANSWER: The similarity in the three different cases of (1) false return, (2) fraudulent return with intent to evade tax, (3) failure to file a return, is that the tax may be assessed, or a proceeding in court for the collection of such tax may be begun without assessmeμt, at any time within ten years after the discovery of the (1) falsity, (2) fraud, (3) omission. (Commissioner of Internal Revenue v. Philippine Daily Inquirer, G.R. No. 213943, March 22, 2017) ***14. What constitutes prima facie evidence of a fraudulent return to justify the imposition of a 50% surcharge on the deficiency tax due from a taxpayer ? Explain. SUGGESTED ANSWER: The following constitutes prima facie evidence of a fraudulent return. a. A substantial underdeclaration of taxable sales, receipts, or income, or a substantial overstatement of deductions, as determined by the Commissioner of Internal Revenue pursuant to rules and regulations to be promulgated by the Secretary of Finance. b. Failure to report sales, receipts, or income in an amount exceeding thirty percent (30%) of that declared per tax return constitutes substantial underdeclaration of sales, receipts, or income. c. A claim of deductions in an amount exceeding thirty percent (30%) of actual deductions constitutes overstatement of deductions. [NIRC of 1997, Sec. 248 (B); Rev. Regs. No. 1299, Sec. 4.2.1, arrangement and numbering supplied] 282 FREE PRE-WEEK NOTES TAXATION LAW d. There is prima facie evidence of a fraudulent return when the taxpayer has willfully and knowingly filed it with the intent to evade a part or all of the tax legally due from him. (Ungab v. Cusi, 97 SCRA 877) e. There appears a design to mislead or deceive on the part of the taxpayer, or at least culpable negligence. A mistake, not culpable in respect of its value would not constitute a false return. (Words and Phrases, Vol. 16, page 173) NOTE NOT PART OF THE ANSWER: As a general rulel a false return is not subject to the 50% penalty surcharge UNLESS the falsity is willfully made. [NIRC of 1997, Sec. 248 (B)] ***15. Businessman Jorell Francisco filed an income tax return for 2020 showing business net income of P350,000.00 on which he paid an income tax of P61,000.00. After filing the return, he realized that he forgot to include an item of business income in 2019 for P50,000.00. Being an honest taxpayer he included this income in his return for 2020 and paid the corresponding income tax thereon. In the examination of his 2020 return the BIR examiner found that Jorell Francisco failed to report this item of P50,000.00 and assessed him a deficiency income tax on this item, plus a 50% fraud surcharge. a. Is the examiner correct? Explain. SUGGESTED ANSWER: The examiner is partially correct. The examiner is correct with respect to the deficiency income tax. This is so, because the amount due under the Tax Code exceeds the tax reported by the taxpayer in his return. [NIRC of 1997, Sec. 56 (B) (1)] However, the examiner erred in imposing the 50% fraud surcharge as it is evident that the taxpayer HYPOTHETICAL BAR REVIEW QUESTIONS & ANSWERS 283 committed a mistake. Mere mistake cannot be considered fraudulent intent. There is no showing of intentional fraud (Aznar v. CTA, 103 Phil. 1167) because the taxpayer “rectified” the mistake during the next taxable year. b. If you were the lawyer of Jorell Francisco, what would you have advised your client before he included in his 2020 return the amount of P50,000.00 as 2020 income to avoid the fraud surcharge ? Explain. SUGGESTED ANSWER: I would have advised him to show that there was no intent to induce the government to give up its right to collect the tax, and the failure to include the P50,000.00 was not tainted with deception willfully or and deliberately done. (Aznar, supra) c. Considering that Jorell Francisco had already been assessed a deficiency income tax for 2014 for his failure to report the P50,000.00 income, what would you advise him to do to avoid the penalties for tax delinquency ? Explain. SUGGESTED ANSWER: He should immediately pay in order not to be subject to the penalties for delinquency. d. What would you advise Jorell Francisco to do with regard to the income tax he paid for the P50,000.00 in his 2020 return? In case your remedy fails, what is your other recourse ? Explain. SUGGESTED ANSWER: I would advise him to request that the same be credited to the 2020 income, or be refunded on the ground that there was a mistake in reporting it under the 2020 income. If this fails, I would advise him to appeal to the Court of Tax Appeals division. If the decision of the division is adverse, I would advise him to file a motion for reconsideration or new trial and if still unavailing to the CTA en banc and ultimately to the Supreme Court. FREE PRE-WEEK NOTES TAXATION LAW 284 **16. Aaron was preparing his income tax return and had some doubt on whether a commission he earned should be declared for the current year or for the succeeding year. He sought the opinion of his lawyer who advised him to report the commission in the succeeding year. He heeded his lawyer’s advice and reported the commission in the succeeding year. The lawyer’s advice turned out to be wrong; in Mr. Aaron’s petition against the BIR assessment, the court ruled against Mr. Aaron. Is Mr. Aaron guilty of fraud ? SUGGESTED ANSWER: No. A is not guilty of fraud as he simply followed the advice of his lawyer. Fraud in relation to filing income tax return is actual not constructive. It must amount to intentional wrong doing with the sole object of which is to avoid the tax. A mere mistake cannot be considered as fraudulent intent. There was mere mistake as Mr. Aaron did not deliberately escape the payment of the tax. This is evident as he merely postponed the payment of the tax from one period to another. There was at the most what is referred to as a false return, not a fraudulent return. END OF THE PRE-WEEK NOTES The Best of Luck for the Bar. Advance Congratulations and see you at the Oath Taking.