Mariano Pascual vs. Commissioner of Internal Revenue, G.R. No.

78133

 The term "corporation" includes partnerships, no matter how created or organized, joint-
stock companies, joint accounts (cuentas en participation), associations or insurance
companies, but does not include duly registered general co-partnerships
 In order to constitute a partnership inter sese there must be: (a) An intent to form the same;
(b) generally participating in both profits and losses; (c) and such a community of interest, as
far as third persons are concerned as enables each party to make contract, manage the
business, and dispose of the whole property
 There must be a clear intent to form a partnership, the existence of a juridical personality
different from the individual partners, and the freedom of each party to transfer or assign
the whole property.

RULING:

The Petitioners are simply under the regime of co-ownership and not under unregistered partnership.

By the contract of partnership two or more persons bind themselves to contribute money, property, or
industry to a common fund, with the intention of dividing the profits among themselves (Art. 1767, Civil
Code of the Philippines). In the present case, there is no evidence that petitioners entered into an
agreement to contribute money, property or industry to a common fund, and that they intended to divide
the profits among themselves. The sharing of returns does not in itself establish a partnership whether or
not the persons sharing therein have a joint or common right or interest in the property. There must be a
clear intent to form a partnership, the existence of a juridical personality different from the individual
partners, and the freedom of each party to transfer or assign the whole property. Hence, there is no
adequate basis to support the proposition that they thereby formed an unregistered partnership. The two
isolated transactions whereby they purchased properties and sold the same a few years thereafter did not
thereby make them partners. They shared in the gross profits as co- owners and paid their capital gains
taxes on their net profits and availed of the tax amnesty thereby. Under the circumstances, they cannot be
considered to have formed an unregistered partnership which is thereby liable for corporate income tax, as
the respondent commissioner proposes.

Obillos vs. Commissioner of Internal Revenue, G.R. No. L-68118

 The division of the profit was merely incidental to the dissolution of the co-ownership which
was in the nature of things a temporary state.
 There must be an unmistakable intention to form a partnership or joint venture.*
 All co-ownerships are not deemed unregistered pratnership.—Co-Ownership 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.

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  if a property does not produce an income at all, it is not subject to any kind of income tax,
whether the income tax on individuals or the income tax on corporation.

the sharing of gross returns does not in 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 unmistakeable intention to form a partnership or joint venture.

Evangelista vs. Collector of Internal Revenue ,G.R. No. L-9996

 Under the Internal Revenue Laws of the United States, "corporations" are taxed
differently from "partnerships".
 Entities liable to residence tax.-Every corporation, no matter how created or organized,
whether domestic or resident foreign, engaged in or doing business in the Philippines
shall pay an annual residence tax of five pesos and an annual additional tax which in no
case, shall exceed one thousand pesos,

It is, therefore, clear to our mind that... petitioners herein constitute a partnership, insofar as said Code is
concerned, and are subject to the income tax for corporations.

It is of the opinion of the Court that the first element is undoubtedly present for petitioners have agreed
to, and did, contribute money and property to a common fund. As to the second element, the Court fully
satisfied that their purpose was to engage in real estate transactions for monetary gain and then divide the
same among themselves as indicated by the following circumstances:

1. The common fund was not something they found already in existence nor a property inherited by
them pro indiviso. It was created purposely, jointly borrowing a substantial portion thereof in order to
establish said common fund;

2. They invested the same not merely in one transaction, but in a series of transactions. The number of
lots acquired and transactions undertake is strongly indicative of a pattern or common design that was not
limited to the conservation and preservation of the aforementioned common fund or even of the property
acquired. In other words, one cannot but perceive a character of habitually peculiar to business
transactions engaged in the purpose of gain;

3. Said properties were not devoted to residential purposes, or to other personal uses, of petitioners
but were leased separately to several persons;

4. They were under the management of one person where the affairs relative to said properties have
been handled as if the same belonged to a corporation or business and enterprise operated for profit;

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5. Existed for more than ten years, or, to be exact, over fifteen years, since the first property was
acquired, and over twelve years, since Simeon Evangelista became the manager;

6. Petitioners have not testified or introduced any evidence, either on their purpose in creating the set
up already adverted to, or on the causes for its continuedexistence

Exempt partnerships," upon the other hand, are not similarly identified as corporations nor even
considered as independent taxable entities for income tax purposes. A general professional partnership is
such an example.4 Here, the partners themselves, not the partnership (although it is still obligated to file
an income tax return [mainly for administration and data]), are liable for the payment of income tax in
their individual capacity computed on their respective and distributive shares of profits. In the
determination of the tax liability, a partner does so as an individual, and there is no choice on the matter.
In fine, under the Tax Code on income taxation, the general professional partnership is deemed to be no
more than a mere mechanism or a flow-through entity in the generation of income by, and the ultimate
distribution of such income to, respectively, each of the individual partners.

Rufino R. Tan vs. Ramon R. Del Rosario Jr., GR 109289

The due process clause may correctly be invoked only when there is a clear contravention of inherent or
constitutional limitations in the exercise of the tax power. No such transgression is so evident in herein
case.

Uniformity of taxation, like the concept of equal protection, merely requires that all subjects or objects of
taxation, similarly situated, are to be treated alike both in privileges and liabilities. Uniformity does not
violate classification as long as: (1) the standards that are used therefor are substantial and not arbitrary,
(2) the categorization is germane to achieve the legislative purpose, (3) the law applies, all things being
equal, to both present and future conditions, and (4) the classification applies equally well to all those
belonging to the same class.

Afisco Insurance Company vs. CA, G.R. No. 112675

 General professional partnerships’ are partnerships 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.
 A pool is considered a corporation for taxation purposes.

Sec. 24 of the NIRC covered these unregistered partnerships and even associations or joint accounts, which
had no legal personalities apart from individual members. Further, the pool is a partnership as evidence by
a common fund, the existence of executive board and the fact that while the pool is not in itself, a
reinsurer and does not issue any insurance policy, its work is indispensable, beneficial and economically
useful to the business of the ceding companies and Munich, because without it they would not have
received their premiums.

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 As to the claim of double taxation, the pool is a taxable entity distinct from the individual corporate
entities of the ceding companies. The tax on its income is obviously different from the tax on the
dividends received by the said companies.

the law clearly states that the prescriptive period will be suspended only if the taxpayer informs the CIR of
any change in the address.

Marubeni vs. CIR, GR No. 76573

The general rule that a foreign corporation is the same juridical entity as its branch office in the Philippines
cannot apply here. This rule is based on the premise that the business of the foreign corporation is
conducted through its branch office, following the principal agent relationship theory. It is understood that
the branch becomes its agent here. So that when the foreign corporation transacts business in the
Philippines independently of its branch, the principal-agent relationship is set aside. The transaction
becomes one of the foreign corporation, not of the branch. Consequently, the taxpayer is the foreign
corporation, not the branch or the resident foreign corporation.

 Corollarily, if the business transaction is conducted through the branch office, the latter becomes
the taxpayer, and not the foreign corporation.
 The dividends received by Marubeni Corporation from Atlantic Gulf and Pacific Co. are not income
arising from the business activity in which Marubeni Corporation is engaged. Accordingly, said
dividends if remitted abroad are not considered branch profits subject to Branch Profit Remittance
Tax.
 . Whether or not the dividends Marubeni Corporation received from Atlantic Gulf and Pacific Co.
are effectively connected with its conduct or business in the Philippines as to be considered branch
profits subject to 15% profit remittance tax imposed under Section 24(b)(2) of the National
Internal Revenue Code.

NO. Pursuant to Section 24(b)(2) of the Tax Code, as amended, only profits remitted abroad by a
branch office to its head office which are effectively connected with its trade or business in the
Philippines are subject to the 15% profit remittance tax. The dividends received by Marubeni
Corporation from Atlantic Gulf and Pacific Co. are not income arising from the business activity in
which Marubeni Corporation is engaged. Accordingly, said dividends if remitted abroad are not
considered branch profits for purposes of the 15% profit remittance tax imposed by Section 24(b)(2)
of the Tax Code, as amended.

Whether Marubeni Corporation is a resident or non-resident foreign corporation.

Marubeni Corporation is a non-resident foreign corporation, with respect to the transaction.

Marubeni Corporation’s head office in Japan is a separate and distinct income taxpayer from the
branch in the Philippines. The investment on Atlantic Gulf and Pacific Co. was made for purposes
peculiarly germane to the conduct of the corporate affairs of Marubeni Corporation in Japan, but
certainly not of the branch in the Philippines.

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  BATASnatin LIVE! Free legal advice every Wednesday and Friday at 6pm.
 MARUBENI CORPORATION V. COMMISSIONER OF INTERNAL REVENUE- INCOME TAX
 Category: Income Taxation

The dividends received by Marubeni Corporation from Atlantic Gulf and Pacific Co. are not income
arising from the business activity in which Marubeni Corporation is engaged. Accordingly, said
dividends if remitted abroad are not considered branch profits subject to Branch Profit Remittance
Tax.

Facts:

Marubeni Corporation is a Japanese corporation licensed to engage in business in the Philippines.

When the profits on Marubeni’s investments in Atlantic Gulf and Pacific Co. of Manila were declared,
a 10% final dividend tax was withheld from it, and another 15% profit remittance tax based on the
remittable amount after the final 10% withholding tax were paid to the Bureau of Internal Revenue.
Marubeni Corp. now claims for a refund or tax credit for the amount which it has allegedly overpaid
the BIR.

Issues and Ruling:

1. Whether or not the dividends Marubeni Corporation received from Atlantic Gulf and Pacific Co.
are effectively connected with its conduct or business in the Philippines as to be considered branch
profits subject to 15% profit remittance tax imposed under Section 24(b)(2) of the National Internal
Revenue Code.

NO. Pursuant to Section 24(b)(2) of the Tax Code, as amended, only profits remitted abroad by a
branch office to its head office which are effectively connected with its trade or business in the
Philippines are subject to the 15% profit remittance tax. The dividends received by Marubeni
Corporation from Atlantic Gulf and Pacific Co. are not income arising from the business activity in
which Marubeni Corporation is engaged. Accordingly, said dividends if remitted abroad are not
considered branch profits for purposes of the 15% profit remittance tax imposed by Section 24(b)(2)
of the Tax Code, as amended.

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 2. Whether Marubeni Corporation is a resident or non-resident foreign corporation.

Marubeni Corporation is a non-resident foreign corporation, with respect to the transaction.

Marubeni Corporation’s head office in Japan is a separate and distinct income taxpayer from the
branch in the Philippines. The investment on Atlantic Gulf and Pacific Co. was made for purposes
peculiarly germane to the conduct of the corporate affairs of Marubeni Corporation in Japan, but
certainly not of the branch in the Philippines.

3. At what rate should Marubeni be taxed?

15%. The applicable provision of the Tax Code is Section 24(b)(1)(iii) in conjunction with the
Philippine-Japan Tax Treaty of 1980. As a general rule, it is taxed 35% of its gross income from all
sources within the Philippines. However, a discounted rate of 15% is given to Marubeni Corporation
on dividends received from Atlantic Gulf and Pacific Co. on the condition that Japan, its domicile
state, extends in favor of Marubeni Corporation a tax credit of not less than 20% of the dividends
received. This 15% tax rate imposed on the dividends received under Section 24(b)(1)(iii) is easily
within the maximum ceiling of 25% of the gross amount of the dividends as decreed in Article
10(2)(b) of the Tax Treaty.

Commissioner vs. British Overseas Airways Corporation, G.R. No. L-65773-74

The source of income is the property, activity of service that produces the income. For the source of
income to be considered coming from the Philippines, it is sufficient that the income is derived from the
activity coming from the Philippines. The tax code provides that for revenue to be taxable, it must
constitute income from Philippine sources. In this case, the sale of tickets is the source of income. The situs
of the source of payments is the Philippines.

The tickets exchanged hands here and payments for fares were also made here in Philippine currency. The
site of the source of payments is the Philippines. The flow of wealth proceeded from, and occurred within,
Philippine territory, enjoying the protection accorded by the Philippine government. In consideration of
such protection, the flow of wealth should share the burden of supporting the government.

Air Canada vs. CIR, GR No. 169507

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  An offline international air carrier selling passage tickets in the Philippines, through a
general sales agent, is a resident foreign corporation doing business in the Philippines.
 There is no specific criterion as to what constitutes "doing" or "engaging in" or
"transacting" business. Each case must be judged in the light of its peculiar
environmental circumstances. The term implies a continuity of commercial dealings and
arrangements, and contemplates, to that extent, the performance of acts or works or
the exercise of some of the functions normally incident to, and in progressive
prosecution of commercial gain or for the purpose and object of the business
organization.
 "In order that a foreign corporation may be regarded as doing business within a State,
there must be continuity of conduct and intention to establish a continuous business,
such as the appointment of a local agent, and not one of a temporary character.
 An offline carrier is "any foreign air carrier not certificated by the [Civil Aeronautics]
Board, but who maintains office or who has designated or appointed agents or
employees in the Philippines, who sells or offers for sale any air transportation in behalf
of said foreign air carrier and/or others, or negotiate for, or holds itself out by
solicitation, advertisement, or otherwise sells, provides, furnishes, contracts, or arranges
for such transportation."
 A tax treaty is an agreement entered into between sovereign states "for purposes of
eliminating double taxation on income and capital, preventing fiscal evasion, promoting
mutual trade and investment, and according fair and equitable tax treatment to foreign
residents or nationals.
 double taxation, which is defined as the imposition of comparable taxes in two or more
states on the same taxpayer in respect of the same subject matter and for identical
periods.
 Air Canada is a resident foreign corporation. Although there is no one rule in
determining what "doing business in the Philippines" means, the appointment of an
agent or an employee is a good indicator. This is especially true when there is effective
control, similar to that of employer-employee relationship.

Even if Air Canada succeeds in claiming tax refund, the general rule prevails that there can be not setting
off of taxes since the Government and the taxpayer are not creditors and debtors of each other.

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 Chamber of Real Estate and Builders' Associations Inc., vs. Romulo, GR 160756 – on constitutionality
of MCIT

 A corporation, beginning on its fourth year of operation, is assessed an MCIT

of 2% of its gross income when such MCIT is greater than the normal

corporate income tax imposed under Section 27(A) (Applying the 30% tax

rate to net income).

 Congress has the power to condition, limit or deny deductions from gross income in order to arrive at
the net that it chooses to tax. This is because deductions are a matter of legislative grace. The
assignment of gross income, instead of net income, as the tax base of the MCIT, taken with the
reduction of the tax rate from 32% to 2%, is not constitutionally objectionable.

If the regular income tax is higher than the MCIT, the corporation does not pay the MCIT.

Any excess of the MCIT over the normal tax shall be carried forward and credited against the normal
income tax for the three immediately succeeding taxable years.

The Secretary of Finance is hereby authorized to suspend the imposition of the [MCIT] on any corporation
which suffers losses on account of prolonged labor dispute, or because of force majeure, or because of
legitimate business reverses.

The term ‘gross income’ shall mean gross sales less sales returns, discounts and allowances and cost of
goods sold. "Cost of goods sold" shall include all business expenses directly incurred to produce the
merchandise to bring them to their present location and use.

MCIT is not violative of due process. The MCIT is not a tax on capital. The MCIT is imposed on gross income
which is arrived at by deducting the capital spent by a corporation in the sale of its goods, i.e., the cost of
goods and other direct expenses from gross sales. Clearly, the capital is not being taxed.

Furthermore, the MCIT is not an additional tax imposition. It is imposed in lieu of the normal net income
tax, and only if the normal income tax is suspiciously low.

 Taxation is necessarily burdensome because, by its nature, it adversely affects property rights. The
party alleging the law’s unconstitutionality has the burden to demonstrate the supposed violations in
understandable terms.

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  Under the MCIT scheme, a corporation, beginning on its fourth year of operation, is assessed
an MCIT of 2% of its gross income when such MCIT is greater than the normal corporate
income tax imposed under Section 27(A).4 If the regular income tax is higher than the MCIT,
the corporation does not pay the MCIT. Any excess of the MCIT over the normal tax shall be
carried forward and credited against the normal income tax for the three immediately
succeeding taxable years.

Relief from the [MCIT] under certain conditions. – The Secretary of Finance is hereby authorized to
suspend the imposition of the [MCIT] on any corporation which suffers losses on account of prolonged
labor dispute, or because of force majeure, or because of legitimate business reverses.

The Secretary of Finance is hereby authorized to promulgate, upon recommendation of the Commissioner,
the necessary rules and regulations that shall define the terms and conditions under which he may
suspend the imposition of the [MCIT] in a meritorious case.

The MCIT shall be imposed whenever such corporation has zero or negative taxable income or whenever
the amount of minimum corporate income tax is greater than the normal income tax due from such
corporation.

 Perceived or alleged hardship to taxpayers alone is not an adequate justification for

adjudicating abstract issues.
 we will not strike down a revenue measure as unconstitutional (for being violative of the due
process clause) on the mere allegation of arbitrariness by the taxpayer.

For income to be taxable, the following requisites must exist:

(1) there must be gain;

(2) the gain must be realized or received and

(3) the gain must not be excluded by law or treaty from taxation.

an income tax is arbitrary and confiscatory if it taxes capital because capital is not income. In other words,
it is income, not capital, which is subject to income tax. However, the MCIT is not a tax on capital.

 The MCIT is imposed on gross income which is arrived at by deducting the capital spent by a
corporation in the sale of its goods, i.e., the cost of goods48 and other direct expenses from gross
sales. Clearly, the capital is not being taxed.
 The Court cannot strike down a law as unconstitutional simply because of its yokes.58 Taxation is
necessarily burdensome because, by its nature, it adversely affects property rights.

FREDERICK C. FISHER, vs. WENCESLAO TRINIDAD, G.R. No. L-17518

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 There is no question that the Philippine Legislature may provide for the payment of an income tax, but
it cannot, under the guise of an income tax, collect a tax on property which is not an "income."
 The Philippine Legislature cannot impose a tax upon "property" under a law which provides for a tax
upon "income" only.
 Generally speaking, stock dividends represent undistributed increase in the capital of corporations or
firms, joint stock companies, etc., etc., for a particular period. They are used to show the increased
interest or proportional share in the capital of each stockholder.
 The increase in the value of the property should be taken account of on the tax duplicate for the
purposes of ordinary taxation, but not as income for he has had none.
 In the case of DeKoven vs. Alsop (205 111., 309; 63 L. R. A., 587) Mr. Justice Wilkin said: "A dividend is
defined as 'a corporate profit set aside, declared, and ordered by the directors to be paid to the
stockholders on demand or at a fixed time. Until the dividend is declared, these corporate profits
belong to the corporation, not to the stockholders, and are liable for corporate indebtedness.'"
 There is a clear distinction between an extraordinary cash dividend, no matter when earned, and stock
dividends declared. The one is a disbursement to the stockholders of accumulated earning, and the
corporation at once parts irrevocably with all interest therein. The other involves no disbursement by
the corporation. It parts with nothing to the stockholders. The latter receives, not an actual dividend,
but certificates of stock which evidence in a new proportion his interest in the entire capital. When a
cash dividend is declared and paid to the stockholders, such cash becomes the absolute property of
the stockholders and cannot be reached by the creditors of the corporation in the absence of fraud.
 Until the dividend is declared and paid, the corporate profits still belong to the corporation, not to the
stockholders, and are liable for corporate indebtedness. The rule is well established that cash
dividends, whether large or small, are regarded as "income" and all stock dividends, as capital or
assets.
 An income subject to taxation under the law must be an actual income and not a promised or
prospective income.

income received as dividends is taxable as an income, but an income from "dividends" is a very different
thing from a receipt of a "stock dividend." One is an actual receipt of profits; the other is a receipt of a
representation of the increased value of the assets of a corporation.

 When the assets of a corporation have increased so as to justify the issuance of a stock dividend, the
increase of the assets should be taken account of by the Government in the ordinary tax duplicates for
the purposes of assessment and collection of an additional tax.

Commissioner of Internal Revenue vs. JULIANE BAIER-NICKEL, G.R. No. 153793

 source" of income means the activity or service that produce the income

. A nonresident alien individual who shall come to the Philippines and stay therein for an aggregate period
of more than one hundred eighty (180) days during any calendar year shall be deemed a ‘nonresident alien
doing business in the Philippines,’ Section 22(G) of this Code notwithstanding.

 the keyword in determining the taxability of non-resident aliens is the income’s "source."

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 income may be derived from three possible sources only: (1) capital and/or (2) labor; and/or (3) the
sale of capital assets.
 If the income is from labor the place where the labor is done should be decisive; if it is done in this
country, the income should be from "sources within the United States." If the income is from capital,
the place where the capital is employed should be decisive; if it is employed in this country, the income
should be from "sources within the United States." If the income is from the sale of capital assets, the
place where the sale is made should be likewise decisive.
 The important factor therefore 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 rendered.
 Source” is not a place, it is an activity or property. As such, it has a situs or location, and if that situs or
location is within the United States the resulting income is taxable to nonresident aliens and foreign
corporations.
 The source of an income is the property, activity or service that produced the income.
 It was held that the "sale of tickets" in the Philippines is the "activity" that produced the income and
therefore BOAC should pay income tax in the Philippines because it undertook an income producing
activity in the country.
 it is the situs of the activity that determines whether such income is taxable in the Philippines

For the source of income to be considered as coming from the Philippines, it is sufficient that the income is
derived from activity within the Philippines. In BOAC's case, the sale of tickets in the Philippines is the
activity that produces the income. The tickets exchanged hands here and payments for fares were also
made here in Philippine currency. The situs of the source of payments is the Philippines. The flow of wealth
proceeded from, and occurred within, Philippine territory, enjoying the protection accorded by the
Philippine government. In consideration of such protection, the flow of wealth should share the burden of
supporting the government.

 With respect to rendition of labor or personal service, as in the instant case, it is the place where the
labor or service was performed that determines the source of the income.

tax refunds are in the nature of tax exemptions and are to be construed strictissimi juris against the
taxpayer.24 To those therefore, who claim a refund rest the burden of proving that the transaction
subjected to tax is actually exempt from taxation.

COLLECTOR OF INTERNAL REVENUE, vs. ARTHUR HENDERSON, G.R. No. L-12954

 Gross income" includes gains, profits, and income derived from salaries, wages, or compensation for
personal service of whatever kind and in whatever form paid, or from professions, vocations, trades,
businesses, commerce, sales, or dealings in property, whether real or personal, growing out of the
ownership or use of or interest in such property; also from interest, rents dividend, securities, or the

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 transaction of any business carried on for gain or profit, or gains, profits, and income derived from any
source whatever.
 No part of the allowances in question redounded to their personal benefit, nor were such amounts
retained by them. These bills were paid directly by the employer-corporation to the creditors.
 The rental expenses and subsistence allowances are to be considered not subject to income tax.
Arthur’s high executive position and social standing, demanded and compelled the couple to live in a
more spacious and expensive quarters. Such ‘subsistence allowance’ was a SEPARATE account from the
account for salaries and wages of employees.
 Such ‘subsistence allowance’ was a SEPARATE account from the account for salaries and wages of
employees. The company did not charge rentals as deductible from the salaries of the employees.
These expenses are COMPANY EXPENSES, not income by employees which are subject to tax.

CYANAMID PHILIPPINES, INC., vs. THE COURT OF APPEALS, G.R. No. 108067

 The tax on improper accumulation of surplus is essentially a penalty tax designed to compel
corporations to distribute earnings so that the said earnings by shareholders could, in turn,
be taxed.
 the working capital should equal the current liabilities and there must be 2 units of current
assets for every unit of current liability, hence the so-called "2 to 1" rule.
 In order to determine whether profits are accumulated for the reasonable needs to avoid
the surtax upon shareholders, it must be shown that the controlling intention of the
taxpayer is manifest at the time of accumulation, not intentions declared subsequently,
which are mere afterthoughts.
 the accumulated profits must be used within a reasonable time after the close of the taxable
year. In the instant case, petitioner did not establish, by clear and convincing evidence, that
such accumulation of profit was for the immediate needs of the business.
 To determine the "reasonable needs" of the business in order to justify an accumulation of
earnings, the Courts of the United States have invented the so-called "Immediacy Test"
which construed the words "reasonable needs of the business" to mean the immediate
needs of the business, and it was generally held that if the corporation did not prove an
immediate need for the accumulation of the earnings and profits, the accumulation was not
for the reasonable needs of the business, and the penalty tax would apply.
 The working capital needs of a business depend upon nature of the business, its credit
policies, the amount of inventories, the rate of the turnover, the amount of accounts
receivable, the collection rate, the availability of credit to the business, and similar factors.
 corporations exempt from the imposition of improperly accumulated tax: (a) banks, (b) non-
bank financial intermediaries; (c) insurance companies; and (d) corporations organized
primarily and authorized by the Central Bank to hold shares of stocks of banks.

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 Commissioner vs. Isabela Cultural Corporation

G.R. No. 172231 February 12, 2007

YNARES-SANTIAGO, J.

Lessons Applicable: Accrual method, burden of proof in accrual method, deductibility of ordinary and
necessary trade, business, or professional expenses, all events test

Laws Applicable:

FACTS:

BIR disallowed Isabela Cultural Corp. deductible expenses for services which were rendered in 1984 and
1985 but only billed, paid and claimed as a deduction on 1986.

After CA sent its demand letters, Isabela protested.

CTA found it proper to be claimed in 1986 and affirmed by CA

ISSUE: W/N Isabela who uses accrual method can claim on 1986 only

HELD: case is remanded to the BIR for the computation of Isabela Cultural Corporation’s liability under
Assessment Notice No. FAS-1-86-90-000680.

NO

The requisites for the deductibility of ordinary and necessary trade, business, or professional expenses, like
expenses paid for legal and auditing services, are:

(a) the expense must be ordinary and necessary;

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(b) it must have been paid or incurred during the taxable year; - qualified by Section 45 of the National
Internal Revenue Code (NIRC) which states that: "[t]he deduction provided for in this Title shall be taken
for the taxable year in which ‘paid or accrued’ or ‘paid or incurred’, dependent upon the method of
accounting upon the basis of which the net income is computed

(c) it must have been paid or incurred in carrying on the trade or business of the taxpayer; and

(d) it must be supported by receipts, records or other pertinent papers.

Revenue Audit Memorandum Order No. 1-2000, provides that under the accrual method of accounting,
expenses not being claimed as deductions by a taxpayer in the current year when they are incurred cannot
be claimed as deduction from income for the succeeding year. Thus, a taxpayer who is authorized to
deduct certain expenses and other allowable deductions for the current year but failed to do so cannot
deduct the same for the next year.

The accrual method relies upon the taxpayer’s right to receive amounts or its obligation to pay them, in
opposition to actual receipt or payment, which characterizes the cash method of accounting. Amounts of
income accrue where the right to receive them become fixed, where there is created an enforceable
liability. Similarly, liabilities are accrued when fixed and determinable in amount, without regard to
indeterminacy merely of time of payment.

The accrual of income and expense is permitted when the all-events test has been met. This test requires:
(1) fixing of a right to income or liability to pay; and (2) the availability of the reasonable accurate
determination of such income or liability.

The all-events test requires the right to income or liability be fixed, and the amount of such income or
liability be determined with reasonable accuracy. However, the test does not demand that the amount of
income or liability be known absolutely, only that a taxpayer has at his disposal the information necessary
to compute the amount with reasonable accuracy. The all-events test is satisfied where computation
remains uncertain, if its basis is unchangeable; the test is satisfied where a computation may be unknown,
but is not as much as unknowable, within the taxable year. The amount of liability does not have to be
determined exactly; it must be determined with "reasonable accuracy." Accordingly, the term "reasonable
accuracy" implies something less than an exact or completely accurate amount.

The propriety of an accrual must be judged by the facts that a taxpayer knew, or could reasonably be
expected to have known, at the closing of its books for the taxable year.

Accrual method of accounting presents largely a question of fact; such that the taxpayer bears the burden
of proof of establishing the accrual of an item of income or deduction.

In the instant case, the expenses for professional fees consist of expenses for legal and auditing services.
The expenses for legal services pertain to the 1984 and 1985 legal and retainer fees of the law firm
Bengzon Zarraga Narciso Cudala Pecson Azcuna & Bengson, and for reimbursement of the expenses of said
firm in connection with ICC’s tax problems for the year 1984. As testified by the Treasurer of ICC, the firm
has been its counsel since the 1960’s. - failed to prove the burden

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CIR v. ISABELA CULTURAL CORPORATION, GR NO. 172231, 2007-02-12

Facts:

Isabela Cultural Corporation (ICC).

a domestic corporation, received from the BIR Assessment... for deficiency income tax in the amount of
P333,196.86... for deficiency expanded withholding tax in... the amount of P4,897.79, inclusive of
surcharges and interest, both for the taxable year 1986.

arose from

P333,196.86

Issues:

whether the Court of Appeals correctly: (1) sustained the deduction of the expenses for professional and
security services from ICC's gross income; and (2) held that ICC did not understate its interest income from
the promissory notes of Realty

Investment, Inc; and that ICC withheld the required 1% withholding tax from the deductions for security
services.

Ruling:

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Accounting methods for tax purposes comprise a set of rules for determining when and how to report
income and deductions.[12] In the instant case, the accounting method used by ICC is the accrual method.

it is a governing principle in taxation that tax exemptions must be construed in strictissimi juris against the
taxpayer and liberally in favor of the taxing authority; and one who claims an exemption must be able to
justify the same by the clearest... grant of organic or statute law.

From the nature of the claimed deductions and... the span of time during which the firm was retained, ICC
can be expected to have reasonably known the retainer fees charged by the firm as well as the
compensation for its legal services. The failure to determine the exact amount of the expense during the
taxable year when... they could have been claimed as deductions cannot thus be attributed solely to the
delayed billing of these liabilities by the firm. For one, ICC, in the exercise of due diligence could have
inquired into the amount o... the taxpayer bears the burden of proof of establishing the accrual of an item
of income or deduction.

f their obligation to the firm, especially so that it is... using the accrual method of accounting.

The propriety of an accrual must be judged by the facts that a taxpayer knew, or could reasonably be
expected to have known, at the closing of its books for the taxable year.

As previously stated, the accrual method presents largely a question of fact and that the taxpayer bears
the burden of establishing the accrual of an expense or income. However, ICC failed to discharge this
burden.

the professional fees of SGV & Co. for auditing the financial statements of ICC for the year 1985 cannot be
validly claimed as expense deductions in 1986.

ICC failed to present evidence showing that even with only "reasonable accuracy,"... as the standard to
ascertain its liability to SGV & Co. in the year 1985, it cannot determine the professional fees which said
company would charge for its services.

ICC thus failed to discharge the burden of proving that the claimed expense deductions for the professional
services were allowable deductions for the taxable year 1986.

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Assessment Notice No. FAS-1-86-90-000680 in the amount of P333,196.86 for deficiency income tax should
be cancelled and set aside but only insofar as the claimed deductions of ICC for security services.

valid as to the BIR's disallowance of

ICC's expenses for professional services.

Principles:

For a taxpayer using the accrual method, the determinative question is, when do the facts present
themselves in such a manner that the taxpayer must recognize income or expense? The accrual of income
and expense is permitted when the all-events test has been met.

This test requires: (1) fixing of a right to income or liability to pay; and (2) the availability of the reasonable
accurate determination of such income or liability.

The all-events test requires the right to income or liability be fixed, and the amount of such income or
liability be determined with reasonable accuracy. However, the test does not demand that the amount of
income or liability be known absolutely, only that a taxpayer has... at his disposal the information
necessary to compute the amount with reasonable accuracy. The all-events test is satisfied where
computation remains uncertain, if its basis is unchangeable; the test is satisfied where a computation may
be unknown, but is not as much as... unknowable, within the taxable year. The amount of liability does not
have to be determined exactly; it must be determined with "reasonable accuracy." Accordingly, the term
"reasonable accuracy" implies something less than an exact or completely accurate... amount.

TAMBUNTING PAWNSHOP, INC. v. COMMISSIONER OF INTERNAL REVENUE. G.R. No. 179085.

January 21, 2010

FACTS:

Petitioner was issued an assessment for deficiency VAT for the taxable year of 1999. Petitioner, after
his protest with the CIR merited no response, it filed a Petition for Review with the CTA raising that

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pawnshops are not subject to VAT under the NIRC and that pawn tickers are not subject to
documentary stamp tax.

The CTA ruled that petitioner is liable for the deficiency VAT and the documentary stamp tax.

The petitioner argues that a pawnshop is not enumerated as one of those engaged in sale or
exchange of services in Section 108 of the National Internal Revenue Code and citing the case of
Commissioner of Internal Revenue v. Michel J. Lhuillier Pawnshops, Inc. as basis.

ISSUE: Whether petitioner is liable for the deficiency VAT.

Whether the petitioner is liable for the documentary stamp tax.

RULING:

YES. The Court cited the case of First Planters Pawnshop, Inc. v. Commissioner of Internal Revenue.
In the foregoing case, since the imposition of VAT on pawnshops, which are non-bank financial
intermediaries, was deferred for the tax years 1996 to 2002, petitioner is not liable for VAT for the
tax year 1999.

NO. Sections 195 of the NIRC provides that on the pledge of personal property, there shall be
collected a documentary stamp tax. The Court held in Michel J. Lhuillier Pawnshop, Inc. v.
Commissioner of Internal Revenue that the documentary stamp tax is an excise tax on the exercise
of a right or privilege and that pledge is among the privileges, the exercise of which is subject to
documentary stamp taxes. For purposes of taxation, pawn tickets are proof of an exercise of a
taxable privilege of concluding a contract of pledge.

BATASnatin LIVE! Free legal advice every Wednesday and Friday at 6pm.

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TAMBUNTING PAWNSHOP VS. CIR- VALUE ADDED TAX, DOCUMENTARY STAMP TAX

Category: Value Added Tax

TAMBUNTING PAWNSHOP, INC. vs. COMMISSIONER OF INTERNAL REVENUE- Value Added Tax,
Documentary Stamp Tax

FACTS:

Petitioner was assessed for deficiency Value Added Tax and Documentary Stamp Tax on the premise
that, for the Value Added Tax, it was engaged in the sale of services.

ISSUES:

(1) Is Petitioner liable for the Value Added Tax?

(2) Can the imposition of surcharge and interest be waived on the imposition of deficiency
Documentary Stamp Tax?

HELD:

(1) NO. Since Petitioner is considered a non-bank financial intermediary, it is subject to 10% VAT for
the tax years 1996 to 2002 but since the collection of Value Added Tax from non-bank financial
intermediaries was specifically deferred by law, Petitioner is not liable for Value Added Tax during
these tax years. With the full implementation of the Value Added Tax system on non-bank financial
intermediaries starting January 1, 2003, Petitioner is liable for 10% Value Added Tax for said tax year.
And beginning 2004 up to the present, by virtue of R.A. No. 9238, petitioner is no longer liable for
VAT but it is subject to percentage tax on gross receipts from 0% to 5%, as the case may be.

(2) YES. Petitioner's argument against liability for surcharges and interest — that it was in good faith
in not paying documentary stamp taxes, it having relied on the rulings of respondent CIR and the
CTA that pawn tickets are not subject to documentary stamp taxes — was found to be meritorious.
Good faith and honest belief that one is not subject to tax on the basis of previous interpretations of

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government agencies tasked to implement the tax law are sufficient justification to delete the
imposition of surcharges and interest.

. . To be entitled to claim a tax deduction, the taxpayer must establish the factual and
documentary basis of its claim. The rule that tax deductions, being in the nature of tax exemptions,
are to be construed strictissimi juris against the taxpayer is well settled. Corollary to this rule is the
principle that when a taxpayer claims a deduction, he must point to some specific provision of the
statute in which such deduction is authorized and must be able to prove that he is entitled to the
deduction which the law allows. An item of expenditure, therefore, must fall squarely within the
language of the law in order to be deductible. A mere averment that the taxpayer has incurred a loss
does not automatically warrant a deduction of its gross income. The requisites for the deductibility
of ordinary and necessary trade or business expenses, like those paid for security and janitorial
services, management and professional fees, and rental expenses, are that: (a) the expenses must be
ordinary and necessary; (b) they must have been paid or incurred during the taxable year; (c) they
must have been paid or incurred or incurred in carrying on the trade or business of the taxpayer; and
(d) they must be supported by receipts, records or other pertinent papers. (H. Tambunting
Pawnshop, Inc. vs. Commissioner of Internal Revenue G.R. No. 173373, July 29, 2013)

China Banking Corporation v CA

Facts:

China Banking Corporation made a 53% equity investment (P16,227,851.80) in the First CBC Capital –
a Hongkong subsidiary engaged in financing and investment with “deposit-taking” function.

It was shown that CBC has become insolvent so China Banking wrote-off its investment as worthless
and treated it as a bad debt or as an ordinary loss deductible from its gross income.

CIR disallowed the deduction on the ground that the investment should not be classified as being
worthless. It also held that assuming that the securities were worthless, then they should be
classified as a capital loss and not as a bad debt since there was no indebtedness between China
Banking and CBC.

Issue:

Whether or not the investment should be classified as a capital loss.

Held:

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Yes. Section 29.d.4.B of the NIRC contains provisions on securities becoming worthless. It conveys
that capital loss normally requires the concurrence of 2 conditions:

a. there is a sale or exchange

b. the thing sold or exchanges is a capital asset.

When securities become worthless, there is strictly no sale or exchange but the law deems it to be a
loss. These are allowed to be deducted only to the extent of capital gains and not from any other
income of the taxpayer. A similar kind of treatment is given by the NIRC on the retirement of
certificates of indebtedness with interest coupons or in registered form, short sales and options to
buy or sell property where no sale or exchange strictly exists. In these cases, The NIRC dispenses
with the standard requirements.

There is ordinary loss when the property sold is not a capital asset.

In the case, CBC as an investee corporation, is a subsidiary corporation of China Banking whose
shares in CBC are not intended for purchase or sale but as an investment. An equity investment is a
capital asset of the investor. Unquestionably, any loss is a capital loss to the investor.

--

Additional notes:

*The loss cannot be deductible as bad debt since the shares of stock do not constitute a loan
extended by it to its subsidiary or a debt subject to obligatory repayment by the latter.

China Banking Corp. v. CA

G.R. No. 125508 July 19, 2000

VITUG, J.

Lessons Applicable: Capital asset, capital loss, inventory depends on the nature of the business

Laws Applicable:

FACTS:

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Petitioner China Bank made a 53% equity investment in First CBC Capital (Asia) Ltd., a Hongkong
Subsidiary of P 16,227, 851.80

1906: with the approval of the Bangko Sentral, it wrote of as worthless investment for being
insolvent in its 1987 Income Tax Return treated as bad debts o ordinary loss deductible.

CIR contends it should be capital loss.

CTA and CA on Petition for Review on Certiorari: upheld CIR contention

ISSUE: W/N Capital loss (NOT Ordinary Loss)

HELD: Yes. Petition is DENIED

Equity investment is a capital asset resulting in a capital gain or a capital loss. A capital asset is
defined negatively in Section 33(1) of the NIRC

(1) Capital assets. - The term 'capital assets' means property held by the taxpayer (whether or not
connected with his trade or business), but does not include:

stock in trade of the taxpayer; or

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

property held by the taxpayer primarily for sale to customers in the ordinary course of his trade or
business; or

property used in the trade or business, of a character which is subject to the allowance for
depreciation provided in subsection (f) of section twenty-nine; or

real property used in the trade or business of the taxpayer

Thus, shares of stock; like the other securities defined in Section 20(t)[4] of the NIRC, would be
ordinary assets only to a dealer in securities or a person engaged in the purchase and sale of, or an
active trader (for his own account) in, securities.

Section 20(u) of the NIRC defines a dealer in securities thus" (u) The term 'dealer in securities' means
a merchant of stocks or securities, whether an individual, partnership or corporation, with an
established place of business, regularly engaged in the purchase of securities and their resale to
customers; that is, one who as a merchant buys securities and sells them to customers with a view
to the gains and profits that may be derived therefrom."

In the hands, however, of another who holds the shares of stock by way of an investment, the shares
to him would be capital assets. When the shares held by such investor become worthless, the loss is
deemed to be a loss from the sale or exchange of capital assets.

Loss sustained by the holder of the securities, which are capital assets (to him), is to be treated as a
capital loss as if incurred from a sale or exchange transaction. A capital gain or a capital loss normally

22 of 5
requires the concurrence of two conditions for it to result: (1) There is a sale or exchange; and (2)
the thing sold or exchanged is a capital asset. When securities become worthless, there is strictly no
sale or exchange but the law deems the loss anyway to be "a loss from the sale or exchange of
capital assets

Capital losses are allowed to be deducted only to the extent of capital gains, i.e., gains derived from
the sale or exchange of capital assets, and not from any other income of the taxpayer.

G.R. No. 125508. July 19, 2000]

CHINA BANKING CORPORATION, petitioner, vs. COURT OF APPEALS, COMMISSIONER OF INTERNAL

REVENUE and COURT OF TAX APPEALS, respondents.

Petitioner China Banking Corp made an equity investment in the First CBC Capital, a HongKong
subsidiary engaged in financing and investment with “deposit-taking” function.

A regular examination by Bangko Sentral on petitioner financial book and investment portfolio
shows that First CBC Capital has become insolvent. With approval of Bangko Sentral, petitioner
wrote off as being worthless in its investment in First CBC in its 1987 Income Tax Return and treated
it as a bad debt or as an ordinary loss deductible from its gross income. Respondent CIR disallowed
the deduction and assessed petitioner for income deficiency, inclusive of surcharge, interest and
compromise penalty.

Issue: WON petitioner is allowed to claim for the deductions?

Held:

NO.

The disallowance of the deduction was made on the ground that the investment should not be
classified as being “worthless” and that, although the HongKong Banking Commissioner had revoked
the license of First CBC Capital as a “deposit-taking company” it can still exercise its financing
investments. Also, it should be classifies as capital loss and not as a bad debts expense there being
no indebtedness to speak petitioner and its subsidiary.

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Esso Standard Eastern, Inc. v CIR GR Nos L-28508-9, July 7, 1989

FACTS:

Esso deducted from its gross income, as part of its ordinary and necessary business expenses, margin
fees it had paid to the Central Bank on its profit remittances to its New York Office. The CIR
disallowed the claimed deduction. ESSO appealed to the CTA but was denied. Hence, this petition.

ISSUE:

Whether the margin fees were deductible from gross income either as a

(1) tax or

(2) ordinary and necessary business expense

RULING:

(1) No, it is not a tax. A tax is levied to provide revenue for government operations, while the
proceeds of the margin fee are applied to strengthen our country’s international reserves. Thus the
margin fee was imposed by the State in the exercise of its police power ant not the power of
taxation.

(2) No. ESSO has not shown that the remittance to the head office of part of its profits was made in
furtherance of its own trade or business. The petitioner merely presumed that all corporate
expenses are necessary and appropriate in the absence of a showing that they are illegal or ultra
vires. This is error. The public respondent is correct when it asserts that the paramount rule is that
claims for deductions are a matter of legislative grace and do not turn on mere equitable
considerations... The taxpayer in every instance has the burden of justifying the allowance of any
deduction claimed.

Esso Standard Eastern vs. Commissioner

GR 28508-9, 7 July 1989

Facts: ESSO deducted from its gross income for 1959, as part of its ordinary and necessary business
expenses, the amount it had spent for drilling and exploration of its petroleum conscessions. The

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Commissioner disallowed the claim on the ground that the expenses should be capitalized and might
be written off as a loss only when a “dry hole” should result. Hence, ESSO filed an amended return
where it asked for the refund of P323,270 by reason of its abandonment, as dry holes, of several of
its oil wells. It also claimed as ordinary and necessary expenses in the same return amount
representing margin fees it had paid to the Central Bank on its profit remittances to its New York
Office.

Issue: Whether the margin fees may be considered ordinary and necessary expenses when paid.
Held: For an item to be deductible as a business expense, the expense must ebe ordinary and
necessary; it must be paid or incurred within the taxable year; and it must be paid or incurred in
carrying on a trade or business. In addition, the taxpayrer must substantially prove by evidence or
records teh deductions claimed under law, otherwise, the same will be disallowed. There has been
no attempt to define “ordinary and necessary” with precision. However, as guiding principle in the
proper adjudication of conflicting claims, an expenses is considered necessary where the
expenditure is appropriate and helpdul in the development of the taxpayer’s business. It is ordinary
when it connotes a payment which is normal in relation to the business of the taxpayer and the
surrounding circumstances. Assuming that the expenditure is ordinary and necessary in the
operation of the taxpayer’s business; the expenditure, to be an allowable deduction as a business
expense, must be determined from the nature of the expenditure itself, and on the extent and
permanency of the work accomplished by the expenditure. Herein, ESSO has not shown that the
remittance to the head office of part of its profits was made in furtherance of its own trade or
business. The petitioner merely presumed that all corporate expenses are necessary and appropriate
in the absence of a showing that they are illegal or ultra vires; which is erroneous. Claims for
deductions are a matter of legislative grace and do not turn on mere equitable considerations.

DEDUCTIONS FROM GROSS INCOME

A. INTEREST

CASE: THE COMMISSIONER OF INTERNAL REVENUE, petitioner, vs. CONSUELO L. VDA. DE PRIETO,
respondent. G.R. No. L-13912 September 30, 1960

FACTS:

Respondent Vda. de Prieto conveyed by way of gifts a real property to her children. The
Commissioner of Internal Revenue appraised the property donated at P1,231,268.00, and assessed
the total sum of P117,706.50 as donor's gift tax, interest and compromises due thereon. Of the total
sum of P117,706.50 paid by respondent on April 29, 1954, the sum of P55,978.65 represents the
total interest on account of deliquency. Said sum was claimed as deduction, among others, by
respondent in her 1954 income tax return. Petitioner disallowed the claim and as a consequence of

25 of 5
such disallowance assessed respondent for 1954 deficiency income tax due on the aforesaid
P55,978.65, including interest 1957, surcharge and compromise for the late payment.

ISSUE:

Whether or not interest paid for the late payment of tax is deductible from gross income.

HELD:

YES. For interest to be deductible, it must be shown that: (1) there be an indebtedness, (2)
there should be interest upon it, and (3) what is claimed as an interest deduction should have been
paid or accrued within the year. In this case, the last two requirements are undisputed. The only
question is if interest on account of late payments of taxes be considered as indebtedness.
Indebtedness has been defined as an unconditional and legally enforceable obligation for the
payment of money. Within the meaning of that definition, it is apparent that a tax may be
considered indebtedness. Although taxes already due have not, strictly speaking, the same concept
as debts, they are, however, obligations that may be considered as such. Where statute imposes a
personal liability for a tax, the tax becomes, at least in a board sense, a debt. It follows that the
interest paid by herein respondent for the late payment of her donor's tax is deductible from her
gross income.

In conclusion, interest payment for delinquent taxes is not deductible as tax but the taxpayer is not
precluded thereby from claiming said payment as deduction on account of interest.

COMMISSIONER OF INTERNAL REVENUE, petitioner,

-versus-

CONSUELO L. VDA. DE PRIETO, respondents.

(September 30, 1960 | G.R. No. L-13912 | En Banc)

DOCTRINE:

XXX

… (I)nterest on taxes is interest on indebtedness and is deductible.

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(U.S. vs. Jaffray, 306 U.S. 276. See also Lustig vs.U.S., 138 F. Supp. 870; Commissioner of Internal Revenue vs. Bryer, 151 F.
2d 267, 34 AFTR 151; Penrose vs.U.S. 18 F. Supp. 413, 18 AFTR 1289; Max Thomas Davis, et al. vs. Commissioner of Internal
Revenue, 46 U.S. Boared of Tax Appeals Reports, p. 663, citing U.S. vs. Jaffray, 6 Tax Court of United States Reports, p. 255;
Armour vs. Commissioner of Internal Revenue, 6 Tax Court of the United States Reports, p. 359; The Koppers Coal Co. vs.
Commissioner of Internal Revenue, 7 Tax Court of United States Reports, p. 1209; Toy vs.Commissioner of Internal
Revenue; Lucas vs. Comm., 34 U.S. Board of Tax Appeals Reports, 877; Evens and Howard Fire Brick Co. vs. Commissioner
of Internal Revenue, 3 Tax Court of United States Reports, p. 62).

The rule applies even though the tax is nondeductible.

(Federal Taxes, Vol. 2, Prentice Hall, sec. 163, 13,022; see also Merten's Law of Federal Income Taxation, Vol. 5, pp. 23-24.)

XXX

TYPE OF TAX INVOLVED: Donors Tax

NATURE: … (A)ppeal from a decision of the Court of tax Appeals reversing the decision of the Commissioner of Internal
Revenue…

PONENTE: GUTIERREZ DAVID, J.

FACTS:

On December 4, 1945, the respondent conveyed by way of gifts to her four children, namely, Antonio, Benito, Carmen and
Mauro, all surnamed Prieto, real property with a total assessed value of P892,497.50. After the filing of the gift tax returns
on or about February 1, 1954, the petitioner Commissioner of Internal Revenue appraised the real property donated for
gift tax purposes at P1,231,268.00, and assessed the total sum of P117,706.50 as donor's gift tax, interest and
compromises due thereon. Of the total sum of P117,706.50 paid by respondent on April 29, 1954, the sum of P55,978.65
represents the total interest on account of deliquency. This sum of P55,978.65 was claimed as deduction, among others, by
respondent in her 1954 income tax return. Petitioner, however, disallowed the claim and as a consequence of such
disallowance assessed respondent for 1954 the total sum of P21,410.38 as deficiency income tax due on the aforesaid
P55,978.65, including interest up to March 31, 1957, surcharge and compromise for the late payment.

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

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ISSUE: (a) Was such interest paid upon an indebtedness within the contemplation of section 30 (b) (1) of the Tax Code?

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

Within the meaning of that definition, it is apparent that a tax may be considered an indebtedness.

REASONING:

A. MAIN ISSUE

XXX

… (S)ection 30 (b) (1) of the Tax Code, the pertinent part of which reads:

SEC. 30 Deductions from gross income. — In computing net income there shall be allowed as deductions —

xxx xxx xxx

(b) Interest:

(1) In general. — The amount of interest paid within the taxable year on indebtedness, except on indebtedness
incurred or continued to purchase or carry obligations the interest upon which is exempt from taxation as income under
this Title.

The term "indebtedness" as used in the Tax Code of the United States containing similar provisions as in the above-
quoted section has been defined as an unconditional and legally enforceable obligation for the payment of money. Within
the meaning of that definition, it is apparent that a tax may be considered an indebtedness.

Although taxes already due have not, strictly speaking, the same concept as debts, they are, however, obligations
that may be considered as such.

The term "debt" is properly used in a comprehensive sense as embracing not merely money due by contract but
whatever one is bound to render to another, either for contract, or the requirement of the law.

Where statute imposes a personal liability for a tax, the tax becomes, at least in a board sense, a debt.

28 of 5
 A tax is a debt for which a creditor's bill may be brought in a proper case.

It follows that the interest paid by herein respondent for the late payment of her donor's tax is deductible from her
gross income under section 30(b) of the Tax Code above quoted.

The above conclusion finds support in the established jurisprudence in the United States after whose laws our
Income Tax Law has been patterned. Thus, under sec. 23(b) of the Internal Revenue Code of 1939, as amended , which
contains similarly worded provisions as sec. 30(b) of our Tax Code, the uniform ruling is that interest on taxes is interest
on indebtedness and is deductible. The rule applies even though the tax is nondeductible.

To sustain the proposition that the interest payment in question is not deductible for the purpose of computing
respondent's net income, petitioner relies heavily on section 80 of Revenue Regulation No. 2 (known as Income Tax
Regulation) promulgated by the Department of Finance, which provides that "the word `taxes' means taxes proper and no
deductions should be allowed for amounts representing interest, surcharge, or penalties incident to delinquency." The
court below, however, held section 80 as inapplicable to the instant case because while it implements sections 30(c) of the
Tax Code governing deduction of taxes, the respondent taxpayer seeks to come under section 30(b) of the same Code
providing for deduction of interest on indebtedness. We find the lower court's ruling to be correct. Contrary to petitioner's
belief, the portion of section 80 of Revenue Regulation No. 2 under consideration has been part and parcel of the
development to the law on deduction of taxes in the United States.

This notwithstanding, courts in that jurisdiction, however, have invariably held that interest on deficiency taxes are
deductible, not as taxes, but as interest.

Section 80 of Revenue Regulation No. 2, therefore, merely incorporated the established application of the tax deduction
statute in the United States, where deduction of "taxes" has always been limited to taxes proper and has never included
interest on delinquent taxes, penalties and surcharges.

To give to the quoted portion of section 80 of our Income Tax Regulations the meaning that the petitioner gives it
would run counter to the provision of section 30(b) of the Tax Code and the construction given to it by courts in the United
States. Such effect would thus make the regulation invalid for a "regulation which operates to create a rule out of harmony
with the statute, is a mere nullity."

As already stated, section 80 implements only section 30(c) of the Tax Code, or the provision allowing deduction of taxes,
while herein respondent seeks to be allowed deduction under section 30(b), which provides for deduction of interest on
indebtedness.

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 In conclusion, we are of the opinion and so hold that although interest payment for delinquent taxes is not deductible
as tax under Section 30(c) of the Tax Code and section 80 of the Income Tax Regulations, the taxpayer is not precluded
thereby from claiming said interest payment as deduction under section 30(b) of the same Code.

DISPOSITIVE: IN VIEW OF THE FORGOING, the decision sought to be reviewed is AFFIRMED, without pronouncement as to
costs.

VOTES: Bengzon, Bautista Angelo, Labrador, Barrera, Paredes, and Dizon, JJ., concur.
Paras, C. J., Concepcion, and Reyes, J.B.L., JJ., concur in the result.

NO DISSENTING/CONCURRING OPINION.

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