1. CIR VS. JAVIER

199 SCRA 825 – Taxation Law – NIRC Remedies – 50% Penalty for Fraudulent Returns

In 1977, Victoria Javier received a $1 Million remittance in her bank account from her sister abroad, Dolores Ventosa. Melchor Javier, Jr., the husband of Victoria immediately withdrew the said amount and then appropriated it for himself.Later, the Mellon Bank, a foreign bank in the U.S.A. filed a complaint against the Javiers for estafa. Apparently, Ventosa only sent $1,000.00 to her sister Victoria but due to a clerical error in Mellon Bank, what was sent was the $1 Million.Meanwhile, Javier filed his income tax return. In his return, he place a footnote which states:Taxpayer was recipient of some money received from abroad which he presumed to be a gift but turned out to be an error and is now subject of litigation.

The Commissioner of Internal Revenue (CIR) then assessed Javier a tax liability amounting to P4.8 Million. The CIR also imposed a 50% penalty against Javier as the CIR deemed Javier’s return as a fraudulent return.ISSUE: Whether or not Javier is liable to pay the 50% penalty.HELD: No. It is true that a fraudulent return shall cause the imposition of a 50% penalty upon a taxpayer filing such fraudulent return. However, in this case, although Javier may be guilty of estafa due to misappropriating money that does not belong to him, as far as his tax return is concerned, there can be no fraud. There is no fraud in the filing of the return. Javier’s notation on his income tax return can be considered as a mere mistake of fact or law but not fraud. Such notation was practically an invitation for investigation and that Javier had literally “laid his cards on the table.” The government was never defrauded because by such notation, Javier opened himself for investigation.It must be noted that the fraud contemplated by law is actual and not constructive. It must be intentional fraud, consisting of deception willfully and deliberately done or resorted to in order to induce another to give up some legal right.

2. CONWI VS. CTA

Facts: Petitioners are employees of Procter and Gamble (Philippine Manufacturing Corporation, subsidiary of Procter & Gamble, a foreign corporation).During the years 1970 and 1971, petitioners were assigned to other subsidiaries of Procter & Gamble outside the Philippines, for which petitioners were paid US dollars as compensation.

Petitioners filed their ITRs for 1970 and 1971, computing tax due by applying the dollar-to-peso conversion based on the floating rate under BIR Ruling No. 70-027. In 1973, petitioners filed amened ITRs for 1970 and 1971, this time using the par value of the peso as basis. This resulted in the alleged overpayments, refund and/or tax credit, for which claims for refund were filed.

CTA held that the proper conversion rate for the purpose of reporting and paying the Philippine income tax on the dollar earnings of petitioners are the rates prescribed under RevenueMemorandum Circulars Nos. 7-71 and 41-71. The refund claims were denied.

Issues:

(1) Whether or not petitioners' dollar earnings are receipts derived from foreign exchange transactions; NO.

(2) Whether or not the proper rate of conversion of petitioners' dollar earnings for tax purposes in the prevailing free market rate of exchange and not the par value of the peso; YES.

Held: For the proper resolution of income tax cases, 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 though of as flow of the fruits of one's labor.

Petitioners are correct as to their claim that their dollar earnings are not receipts derived from foreign exchange transactions. For a foreign exchange transaction is simply that — a transaction in foreign exchange, foreign exchange being "the conversion of an amount of money or currency of one country into an equivalent amount of money or currency of another." When petitioners were assigned to the foreign subsidiaries of Procter & Gamble, they were earning in their assigned nation's currency and were ALSO spending in said currency. There was no conversion, therefore, from one currency to another.

The dollar earnings of petitioners are the fruits of their labors in the foreign subsidiaries of Procter & Gamble. It was a definite amount of money which came to them within a specified period of time of two years as payment for their services.

And in the implementation for the proper enforcement of the National Internal Revenue Code, Section 338 thereof empowers the Secretary of Finance to "promulgate all needful rules and regulations" to effectively enforce its provisions pursuant to this authority, Revenue Memorandum Circular Nos. 7-71 and 41-71 were issued to prescribed a uniform rate of exchange from US dollars to Philippine pesos for INTERNAL REVENUE TAX PURPOSES for the years 1970 and 1971, respectively. Said revenue circulars were a valid exercise of the authority given to the Secretary of Finance by the Legislature which enacted the Internal Revenue Code. And these are presumed to be a valid interpretation of said code until revoked by the Secretary of Finance himself.

Petitioners are citizens of the Philippines, and their income, within or without, and in these cases wholly without, are subject to income tax. Sec. 21, NIRC, as amended, does not brook any exemption.

DENIED FOR LACK OF MERIT.

3. G.R. No. L-68118 October 29, 1985

JOSE P. OBILLOS, JR., SARAH P. OBILLOS, ROMEO P. OBILLOS and REMEDIOS P. OBILLOS, brothers and sisters, petitioners vs.COMMISSIONER OF INTERNAL REVENUE and COURT OF TAX APPEALS, respondents.

AQUINO, J.:

Facts:

On March 2, 1973 Jose Obillos, Sr. bought two lots with areas of 1,124 and 963 square meters of located at Greenhills, San Juan, Rizal. The next day he transferred his rights to his four children, the petitioners, to enable them to build their residences. The Torrens titles issued to them showed that they were co-owners of the two lots.

In 1974, or after having held the two lots for more than a year, the petitioners resold them to the Walled City Securities Corporation and Olga Cruz Canada for the total sum of P313,050. They derived from the sale a total profit of P134, 341.88 or P33,584 for each of them. They treated the profit as a capital gain and paid an income tax on one-half thereof or of P16,792.

In April, 1980, the Commissioner of Internal Revenue required the four petitioners to pay corporate income tax on the total profit of P134,336 in addition to individual income tax on their shares thereof. The petitioners are being held liable for deficiency income taxes and penalties totalling P127,781.76 on their profit of P134,336, in addition to the tax on capital gains already paid by them.

The Commissioner acted on the theory that the four petitioners had formed an unregistered partnership or joint venture The petitioners contested the assessments. Two Judges of the Tax Court sustained the same. Hence, the instant appeal.

Issue:

Whether or not the petitioners had indeed formed a partnership or joint venture and thus liable for corporate tax.

Held:

The Supreme Court held that the petitioners should not be considered to have formed a partnership just because they allegedly contributed P178,708.12 to buy the two lots, resold the same and divided the profit among themselves. To regard so would result in

oppressive taxation and confirm the dictum that the power to tax involves the power to destroy. That eventuality should be obviated.

As testified by Jose Obillos, Jr., they had no such intention. They were co-owners pure and simple. To consider them as partners would obliterate the distinction between a co-ownership and a partnership. The petitioners were not engaged in any joint venture by reason of that isolated transaction.

*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.*

Their original purpose was to divide the lots for residential purposes. If later on they found it not feasible to build their residences on the lots because of the high cost of construction, then they had no choice but to resell the same to dissolve the co-ownership. 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. It had to be terminated sooner or later.

They did not contribute or invest additional ' capital to increase or expand the properties, nor was there an unmistakable intention to form partnership or joint venture.

WHEREFORE, the judgment of the Tax Court is reversed and set aside. The assessments are cancelled. No costs.

All co-ownerships are not deemed unregistered partnership.—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. To hold otherwise, would be to subject the income of all 

Co-ownerships of inherited properties to the tax on corporations, inasmuch as 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.

As compared to other cases:

Commissioner of Internal Revenue, L-19342, May 25, 1972, 45 SCRA 74, where after an extrajudicial settlement the co-heirs used the inheritance or the incomes derived

therefrom as a common fund to produce profits for themselves, it was held that they were taxable as an unregistered partnership.

This case is different from Reyes vs. Commissioner of Internal Revenue, 24 SCRA 198, where father and son purchased a lot and building, entrusted the administration of the building to an administrator and divided equally the net income, and from Evangelista vs. Collector of Internal Revenue, 102 Phil. 140, where the three Evangelista sisters bought four pieces of real property which they leased to various tenants and derived rentals therefrom. Clearly, the petitioners in these two cases had formed an unregistered partnership.

4. Commissioner of Internal Revenue vs. St Luke's Medical Center

Facts:

St. Luke’s Medical Center, Inc. (St. Luke’s) is a hospital organized as a non-stock and non-profit corporation. St. Luke’s accepts both paying and non-paying patients. The BIR assessed St. Luke’s deficiency taxes for 1998 comprised of deficiency income tax, value-added tax, and withholding tax. The BIR claimed that St. Luke’s should be liable for income tax at a preferential rate of 10% as provided for by Section 27(B). Further, the BIR claimed that St. Luke’s was actually operating for profit in 1998 because only 13% of its revenues came from charitable purposes. Moreover, the hospital’s board of trustees, officers and employees directly benefit from its profits and assets.

On the other hand, St. Luke’s maintained that it is a non-stock and non-profit institution for charitable and social welfare purposes exempt from income tax under Section 30(E) and (G) of the NIRC. It argued that the making of profit per se does not destroy its income tax exemption.

Issue:

The sole issue is whether St. Luke’s is liable for deficiency income tax in 1998 under Section 27(B) of the NIRC, which imposes a preferential tax rate of 10^ on the income of proprietary non-profit hospitals.

Ruling:

Section 27(B) of the NIRC does not remove the income tax exemption of proprietary non-profit hospitals under Section 30(E) and (G). Section 27(B) on one hand, and Section 30(E) and (G) on the other hand, can be construed together without the removal of such tax exemption.

Section 27(B) of the NIRC imposes a 10% preferential tax rate on the income of (1) proprietary non-profit educational institutions and (2) proprietary non-profit hospitals. The only qualifications for hospitals are that they must be proprietary and non-profit.“Proprietary” means private, following the definition of a “proprietary educational institution” as “any private school maintained and administered by private individuals or groups” with a government permit. “Non-profit” means no net income or asset accrues to or benefits any member or specific person, with all the net income or asset devoted to the institution’s purposes and all its activities conducted not for profit.

“Non-profit” does not necessarily mean “charitable.” In Collector of Internal Revenue v. Club Filipino Inc. de Cebu, this Court considered as non-profit a sports club organized for recreation and entertainment of its stockholders and members. The club was primarily funded by membership fees and dues. If it had profits, they were used for overhead expenses and improving its golf course. The club was non-profit because of its purpose and there was no evidence that it was engaged in a profit-making enterprise.

The sports club in Club Filipino Inc. de Cebu may be non-profit, but it was not charitable. The Court defined “charity” in Lung Center of the Philippines v. Quezon City as “a gift, to be applied consistently with existing laws, for the benefit of an indefinite number of persons, either by bringing their minds and hearts under the influence of education or religion, by assisting them to establish themselves in life or [by] otherwise lessening the burden of government.” However, despite its being a tax exempt institution, any income such institution earns from activities conducted for profit is taxable, as expressly provided in the last paragraph of Sec. 30.

To be a charitable institution, however, an organization must meet the substantive test of charity in Lung Center. The issue in Lung Center concerns exemption from real property tax and not income tax. However, it provides for the test of charity in our jurisdiction. Charity is essentially a gift to an indefinite number of persons which lessens the burden of government. In other words, charitable institutions provide for free goods and services to the public which would otherwise fall on the shoulders of government. Thus, as a matter of efficiency, the government forgoes taxes which should have been spent to address public needs, because certain private entities already assume a part of the burden. This is the rationale for the tax exemption of charitable institutions. The loss of taxes by the government is compensated by its relief from doing public works which would have been funded by appropriations from the Treasury

The Constitution exempts charitable institutions only from real property taxes. In the NIRC, Congress decided to extend the exemption to income taxes. However, the way Congress crafted Section 30(E) of the NIRC is materially different from Section 28(3), Article VI of the Constitution.

Section 30(E) of the NIRC defines the corporation or association that is exempt from income tax. On the other hand, Section 28(3), Article VI of the Constitution does not define a charitable institution, but requires that the institution “actually, directly and exclusively” use the property for a charitable purpose.

To be exempt from real property taxes, Section 28(3), Article VI of the Constitution requires that a charitable institution use the property “actually, directly and exclusively” for charitable purposes.

To be exempt from income taxes, Section 30(E) of the NIRC requires that a charitable institution must be “organized and operated exclusively” for charitable purposes. Likewise, to be exempt from income taxes, Section 30(G) of the NIRC requires that the institution be “operated exclusively” for social welfare.

However, the last paragraph of Section 30 of the NIRC qualifies the words “organized and operated exclusively” by providing that:

Notwithstanding the provisions in the preceding paragraphs, the income of whatever kind and character of the foregoing organizations from any of their properties, real or personal, or from any of their activities conducted for profit regardless of the disposition made of such income, shall be subject to tax imposed under this Code.

In short, the last paragraph of Section 30 provides that if a tax exempt charitable institution conducts “any” activity for profit, such activity is not tax exempt even as its not-for-profit activities remain tax exempt.

Thus, even if the charitable institution must be “organized and operated exclusively” for charitable purposes, it is nevertheless allowed to engage in “activities conducted for profit” without losing its tax exempt status for its not-for-profit activities.The only consequence is that the “income of whatever kind and character” of a charitable institution “from any of its activities conducted for profit, regardless of the disposition made of such income, shall be subject to tax.” Prior to the introduction of Section 27(B), the tax rate on such income from for-profit activities was the ordinary corporate rate under Section 27(A). With the introduction of Section 27(B), the tax rate is now 10%.

The Court finds that St. Luke’s is a corporation that is not “operated exclusively” for charitable or social welfare purposes insofar as its revenues from paying patients are concerned. This ruling is based not only on a strict interpretation of a provision granting tax exemption, but also on the clear and plain text of Section 30(E) and (G). Section 30(E) and (G) of the NIRC requires that an institution be “operated exclusively” for charitable or social welfare purposes to be completely exempt from income tax. An institution under Section 30(E) or (G) does not lose its tax exemption if it earns income from its for-profit activities. Such income from for-profit activities, under the last paragraph of Section 30, is merely subject to income tax, previously at the ordinary corporate rate but now at the preferential 10% rate pursuant to Section 27(B).

St. Luke’s fails to meet the requirements under Section 30(E) and (G) of the NIRC to be completely tax exempt from all its income. However, it remains a proprietary non-profit hospital under Section 27(B) of the NIRC as long as it does not distribute any of its profits to its members and such profits are reinvested pursuant to its corporate purposes. St. Luke’s, as a proprietary non-profit hospital, is entitled to the preferential tax rate of 10% on its net income from its for-profit activities.

St. Luke’s is therefore liable for deficiency income tax in 1998 under Section 27(B) of the NIRC. However, St. Luke’s has good reasons to rely on the letter dated 6 June 1990 by the BIR, which opined that St. Luke’s is “a corporation for purely charitable and social welfare purposes” and thus exempt from income tax.

In Michael J. Lhuillier, Inc. v. Commissioner of Internal Revenue, the Court said that “good faith and honest belief that one is not subject to tax on the basis of previous interpretation of government agencies tasked to implement the tax law, are sufficient justification to delete the imposition of surcharges and interest.”

WHEREFORE, St. Luke’s Medical Center, Inc. is ORDERED TO PAY the deficiency income tax in 1998 based on the 10% preferential income tax rate under Section 27(8) of the National Internal Revenue Code. However, it is not liable for surcharges and interest on such deficiency income tax under Sections 248 and 249 of the National Internal Revenue Code. All other parts of the Decision and Resolution of the Court of Tax Appeals are AFFIRMED.

5. COMMISSIONER OF INTERNAL REVENUE v. YMCA

G.R. No. 124043 October 14, 1998

Panganiban, J.

Doctrine:

– Rental income derived by a tax-exempt organization from the lease of its properties, real or personal, is not

exempt from income taxation, even if such income is exclusively used for the accomplishment of its objectives.

– A claim of statutory exemption from taxation should be manifest and unmistakable from the language of the law

on which it is based. Thus, it must expressly be granted in a statute stated in a language too clear to be mistaken.

Verba legis non est recedendum — where the law does not distinguish, neither should we.

– The bare allegation alone that one is a non-stock, non-profit educational institution is insufficient to justify its

exemption from the payment of income tax. It must prove with substantial evidence that (1) it falls under the

classification non-stock, non-profit educational institution; and (2) the income it seeks to be exempted from taxation

is used actually, directly, and exclusively for educational purposes.

– The Court cannot change the law or bend it to suit its sympathies and appreciations. Otherwise, it would be

overspilling its role and invading the realm of legislation. The Court, given its limited constitutional authority, cannot

rule on the wisdom or propriety of legislation. That prerogative belongs to the political departments of government.

Facts:

Private Respondent YMCA is a non-stock, non-profit institution, which conducts various programs and activities

that are beneficial to the public, especially the young people, pursuant to its religious, educational and charitable

objectives.

YMCA earned income from leasing out a portion of its premises to small shop owners, like restaurants and canteen

operators, and from parking fees collected from non-members. Petitioner issued an assessment to private

respondent for deficiency taxes. Private respondent formally protested the assessment. In reply, the CIR denied

the claims of YMCA.

Issue:

Whether or not the income derived from rentals of real property owned by YMCA subject to income tax

Held:

Yes. Income of whatever kind and character of non-stock non-profit organizations from any of their properties, real

or personal, or from any of their activities conducted for profit, regardless of the disposition made of such income,

shall be subject to the tax imposed under the NIRC.

Rental income derived by a tax-exempt organization from the lease of its properties, real or personal, is not exempt

from income taxation, even if such income is exclusively used for the accomplishment of its objectives.

Because taxes are the lifeblood of the nation, the Court has always applied the doctrine of strict in interpretation in

construing tax exemptions (Commissioner of Internal Revenue v. Court of Appeals, 271 SCRA 605, 613, April 18,

1997). Furthermore, a claim of statutory exemption from taxation should be manifest and unmistakable from the

language of the law on which it is based. Thus, the claimed exemption “must expressly be granted in a statute

stated in a language too clear to be mistaken” (Davao Gulf Lumber Corporation v. Commissioner of Internal

Revenue and Court of Appeals, G.R. No. 117359, p. 15 July 23, 1998).

Verba legis non est recedendum. The law does not make a distinction. The rental income is taxable regardless of

whence such income is derived and how it is used or disposed of. Where the law does not distinguish, neither

should we.

Private respondent also invokes Article XIV, Section 4, par. 3 of the Constitution, claiming that it “is a non-stock,

non-profit educational institution whose revenues and assets are used actually, directly and exclusively for

educational purposes so it is exempt from taxes on its properties and income.” This is without merit since the

exemption provided lies on the payment of property tax, and not on the income tax on the rentals of its property.

The bare allegation alone that one is a non-stock, non-profit educational institution is insufficient to justify its

exemption from the payment of income tax.

For the YMCA to be granted the exemption it claims under the above provision, it must prove with substantial

evidence that (1) it falls under the classification non-stock, non-profit educational institution; and (2) the income it

seeks to be exempted from taxation is used actually, directly, and exclusively for educational purposes.

Unfortunately for respondent, the Court noted that not a scintilla of evidence was submitted to prove that it met the

said requisites.

The Court appreciates the nobility of respondent’s cause. However, the Court’s power and function are limited

merely to applying the law fairly and objectively. It cannot change the law or bend it to suit its sympathies and

appreciations. Otherwise, it would be overspilling its role and invading the realm of legislation. The Court regrets

that, given its limited constitutional authority, it cannot rule on the wisdom or propriety of legislation. That

prerogative belongs to the political departments of government.

8. BDO vs. REPUBLIC OF THE PHILIPPINES, G.R. No. 198756, Case Digest

The term ‘deposit substitutes’ shall mean an alternative form of obtaining funds from the public (the term 'public' means borrowing from twenty (20) or more individual or corporate lenders at any one time) other than deposits, through the issuance, endorsement, or acceptance of debt instruments for the borrower’s own account, for the purpose of relending or purchasing of receivables and other obligations, or financing their own needs or the needs of their agent or dealer.

Under the 1997 National Internal Revenue Code, Congress specifically defined “public” to mean “twenty (20) or more individual or corporate lenders at any one time.” Hence, the number of lenders is determinative of whether a debt instrument should be considered a deposit substitute and consequently subject to the 20% final withholding tax.

20-lender rule

Petitioners contend that “there [is] only one (1) lender (i.e. RCBC) to whom the BTr issued the Government Bonds.”169 On the other hand, respondents theorize that the word “any” “indicates that the period contemplated is the entire term of the bond and not merely the point of origination or issuance[,]”170 such that if the debt instruments “were subsequently sold in secondary markets and so on, in such a way that twenty (20) or more buyers eventually own the instruments, then it becomes indubitable that funds would be obtained from the “public” as defined in Section 22(Y) of the NIRC.”171 Indeed, in the context of the financial market, the words “at any one time” create an ambiguity.

Meaning of “at any one time”

Thus, from the point of view of the financial market, the phrase “at any one time” for purposes of determining the “20 or more lenders” would mean every transaction executed in the primary or secondary market in connection with the purchase or sale of securities.

For example, where the financial assets involved are government securities like bonds, the reckoning of “20 or more lenders/investors” is made at any transaction in connection with the purchase or sale of the Government Bonds.

9. DUMAGUETE CATHEDRAL VS. CIR

Cooperatives, including their members, deserve a preferential tax treatment because of the vital role they play in the attainment of economic development and social justice. Thus, although taxes are the lifeblood of the government, the State’s power to tax must give way to foster the creation and growth of cooperatives. To borrow the words of Justice Isagani A. Cruz: "The power of taxation, while indispensable, is not absolute and may be subordinated to the demands of social justice."

FACTS:1. Dumaguete Cathedral Credit Cooperative (DCCCO) is a credit cooperative with the following objectives and purposes: (1) to increase the income and purchasing power of the members; (2) to pool the resources of the members by encouraging savings and promoting thrift to mobilize capital formation for development activities; and (3) to extend loans to members for provident and productive purposes.

2. (BIR) Operations Group Deputy Commissioner, issued Letters of Authority authorizing BIR Officers to examine petitioner’s books of accounts and other accounting records for all internal revenue taxes for the taxable years 1999 and 2000.

3. On 2002, DCCCO received Pre-Assessment Notices for deficiency withholding taxes for taxable years 1999 and 2000. The deficiency withholding taxes cover the payments of the honorarium of the Board of Directors, security and janitorial services, legal and professional fees, and interest on savings and time deposits of its members.

4. DCCCO informed BIR that it would ONLY pay the deficiency withholding taxes corresponding to the honorarium of the Board of Directors, security and janitorial services, legal and professional fees for the year 1999 and 2000, EXCLUDING penalties and interest.

5. After payment, DCCCO received from the BIR Transcripts of Assessment and Audit Results/Assessment Notices, ordering petitioner to pay the deficiency withholding taxes, INCLUSIVE of penalties, for the years 1999 and 2000.

6. DCCO's contention:Under Sec. 24. Income Tax Rates. — x x x x (B) Rate of Tax on Certain Passive Income: — (1) Interests, Royalties, Prizes, and Other Winnings. — A final tax at the rate of twenty percent (20%) is hereby imposed upon the amount of interest from any currency bank deposit and yield or any other monetary benefit from deposit substitutes and from trust funds and similar arrangements; x x x applies only to banks and not to cooperatives, since the phrase "similar arrangements" is preceded by terms referring to banking transactions that have deposit peculiarities. Therefore, the savings and time deposits of members of cooperatives are not included in the enumeration, and thus not subject to the 20% final tax. Also, pursuant to Article XII, Section 15 of the Constitution 25 and Article 2 of Republic Act No. 6938 (RA 6938) or the Cooperative Code of the Philippines, cooperatives enjoy a preferential tax treatment which exempts their members from the application of Section 24(B)(1) of the NIRC.

ISSUE:Whether or not DCCCO is liable to pay the deficiency withholding taxes on interest from savings and time deposits of its members for the taxable years 1999 and 2000, as well as the delinquency interest of 20% per annum?

HELD:DCCCO is not liable. The NIRC states that a "final tax at the rate of twenty percent (20%) is hereby imposed upon the amount of interest on currency bank deposit and yield or any other monetary benefit from the deposit substitutes and from trust funds and similar arrangement x x x" for individuals under Section 24(B)(1) and for domestic corporations under Section 27(D)(1). Considering the members’ deposits with the cooperatives are not currency bank deposits nor deposit substitutes, Section 24(B)(1) and Section 27(D)(1), therefore, do not apply to members of cooperatives and to deposits of primaries with federations, respectively.

Under Article 2 of RA 6938, as amended by RA 9520, it is a declared policy of the

State to foster the creation and growth of cooperatives as a practical vehicle for promoting self-reliance and harnessing people power towards the attainment of economic development and social justice. Thus, to encourage the formation of cooperatives and to create an atmosphere conducive to their growth and development, the State extends all forms of assistance to them, one of which is providing cooperatives a preferential tax treatment.

The legislative intent to give cooperatives a preferential tax treatment is apparent in Articles 61 and 62 of RA 6938, which read:

ART. 61. Tax Treatment of Cooperatives. — Duly registered cooperatives under this Code which do not transact any business with non-members or the general public shall not be subject to any government taxes and fees imposed under the Internal Revenue Laws and other tax laws. Cooperatives not falling under this article shall be governed by the succeeding section. ART. 62. Tax and Other Exemptions. — Cooperatives transacting business with both members and nonmembers shall not be subject to tax on their transactions to members. Notwithstanding the provision of any law or regulation to the contrary, such cooperatives dealing with nonmembers shall enjoy the following tax exemptions; x x x.

This exemption extends to members of cooperatives. It must be emphasized that cooperatives exist for the benefit of their members. In fact, the primary objective of every cooperative is to provide goods and services to its members to enable them to attain increased income, savings, investments, and productivity. 30 Therefore, limiting the application of the tax exemption to cooperatives would go against the very purpose of a credit cooperative. Extending the exemption to members of cooperatives, on the other hand, would be consistent with the intent of the legislature. Thus, although the tax exemption only mentions cooperatives, this should be construed to include the members.

It is also worthy to note that the tax exemption in RA 6938 was retained in RA 9520. The only difference is that Article 61 of RA 9520 (formerly Section 62 of RA 6938) now expressly states that transactions of members with the cooperatives are not subject to any taxes and fees. Thus: ART. 61. Tax and Other Exemptions. Cooperatives transacting business with both members and non-members shall not be subjected to tax on their transactions with members. In relation to this, the transactions of members with the cooperative shall not be subject to any taxes and fees, including but not limited to final taxes on members’ deposits and documentary tax. Notwithstanding the provisions of any law or regulation to the contrary, such cooperatives dealing with nonmembers shall enjoy the following

tax exemptions. Moreover, no less than our Constitution guarantees the protection of cooperatives. Section 15, Article XII of the Constitution considers cooperatives as instruments for social justice and economic development. At the same time, Section 10 of Article II of the Constitution declares that it is a policy of the State to promote social justice in all phases of national development.

10. CIR VS. ISABELA CULTURAL CORP.

Facts: Isabela Cultural Corporation (ICC), a domestic corporationreceived an assessment notice for deficiency income tax and expanded withholding tax from BIR. It arose from the disallowance of ICC’s claimed expense for professional and security services paid by ICC; as well as the alleged understatement of interest income on the three promissory notes due from Realty Investment Inc. The deficiency expanded withholding tax was allegedly due to the failure of ICC to withhold 1% e-withholding tax on its claimed deduction for security services.

ICC sought a reconsideration of the assessments. Having received a final notice of assessment, it brought the case to CTA, which held that it is unappealable, since the final notice is not a decision. CTA’s ruling was reversed by CA, which was sustained by SC, and case was remanded to CTA. CTA rendered a decision in favor of ICC. It ruled that the deductions for professional and security services were properly claimed, it said that even if services were rendered in 1984 or 1985, the amount is not yet determined at that time. Hence it is a proper deduction in 1986. It likewise found that it is the BIR which overstate the interest income, when it applied compounding absent any stipulation.

Petitioner appealed to CA, which affirmed CTA, hence the petition.

Issue: Whether or not the expenses for professional and security services are deductible.

Held: No. One of the requisites for the deductibility of ordinary and necessary expenses is that it must have been paid or incurred during the taxable year. This requisite is dependent on the method of accounting of the taxpayer. In the case at bar, ICC is using the accrual method of accounting. Hence, under this method, anexpense is recognized when it is incurred. Under a Revenue Audit Memorandum, when the method of accounting is accrual, expensesnot being claimed as deductions by a taxpayer in the current year when they are incurred cannot be claimed in the succeeding year.

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 test does not demand that the amount of income or liability be known absolutely, only that a taxpayer has at its disposal the information necessary to computethe amount with reasonable accuracy.

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. They cannot give as an excuse the delayed billing, since it could have inquired into the amount of their obligation and reasonably determine the amount.

11. CIR vs. Filinvest Dev’t Corp. G.R. 163653 ; July 19, 2011

Facts:

Filinvest Development Corp (FDC) is the owner of outstanding shares of both Filinvest Alabang, Inc. (FAI) and Filinvest Land, Inc. (FLI) with 80% and 67.42%, respectively. Sometime in 1996, FDC and FAI entered into a Deed of Exchange with FLI where both transferred parcels of land in exchange for shares of stocks of FLI. As a result, the ownership structure of FLI changed whereby FDC’s ownership decreased from 67.42% to 61.03% meanwhile FAI now owned 9.96% of shares of FLI. FLI then requested from the BIR a ruling to the effect that no gain or loss should be recognized on said transfer

and BIR issued Ruling No. S-34-046-97 finding the exchange falling within Sec. 34 (c) (2) (now Sec. 40 (c)(2)) of the NIRC. Furthermore, FDC extended advances in favor of its affiliates during 1996 and 1997 duly evidenced by instructional letters as well as cash and journal vouchers. Moreover, FDC also entered into a shareholder’s agreement with Reco-Herrera PTE ltd. (RHPL) for the formation of a Singapore-based joint venture company called Filinvest Asia Corp. (FAC). The equity participation of FDC was pegged at 60% subscribing to P500.7M worth of shares of FAC. On Jan 3, 2000, FDC received assessment notices for deficiency income tax and deficiency stamp taxes. The foregoing deficiency taxes were assessed on the taxable gain realized by FDC on the taxable gain supposedly realized by FDC from the Deed of Exchange it executed with FAI and FLI, on the dilution resulting from the shareholder’s agreement FDC executed with RHPL and with the interest rate and documentary stamp taxes imposable on the advances executed by FDC. FAI also received similar assessment on deficiency income tax relating to the deed of exchange. Both FDC and FAI protested and after having failed to act on their protest they docketed their case with the CTA. They raised the issue that pursuant to BIR Ruling No. S-34-046-97, no taxable gain should have been assessed from the deed of exchange and that the BIR cannot impute theoretical interests on the cash advances of FDC in the absence of stipulation and that not being promissory notes such are not subject to documentary stamp taxes. CIR, for its part, raised that the said transfer of property resulted to a diminution of ownership by FDC of FLI rather than gaining further control and as such should not be tax free. Furthermore, CIR invoked Sec. 43 (now Sec. 50) of NIRC as implemented by RR No. 2, the CIR is given the "the power to allocate, distribute or apportion income or deductions between or among such organizations, trades or business in order to prevent evasion of taxes." Also the CIR justified the imposition of documentary stamp taxes on the instructional letters citing Sec. 180 of the NIRC and RR No. 9-94 which provide that loan transactions are subject to tax irrespective of whether or not they are evidenced by a formal agreement or by mere office memo. Lastly, it reiterated that there was dilution of its shares as a result of its shareholder’s agreement with RHPL. CTA decided in favor of FDC with the exception on the deficiency income tax on the interest income from the income it supposedly realized from the advances to its affiliates, the rest of the assessment were cancelled. The CTA opined that CIR was justified in assessing undeclared interests on the same cash advances pursuant to his authority under Section 43 of the NIRC in order to forestall tax evasion. Dissatisfied, FDC filed a petition for review with the Court of Appeals claiming that the cash advances it extended to its affiliates were interest-free in the absence of express stipulation. Moreover, it claimed that under Sec. 43 (now Sec. 50) the CIR’s authority does not include the power to impute imaginary interests, directed only to controlled corp and not to holding company and can be invoked only on cases of understatement of taxable income or evident tax evasion. The CA rendered a decision in favor of FDC cancelling said assessment. The CIR filed a petition for review with the CA

which subsequently denied for lack of merit. The CA has the following conclusions: 1. The deed of exchange resulted in a combined control of more than 51% of FLI , hance no taxable gain; 2. The instructional letters do not partake the nature of loan agreements; 3. Although subsequently modified by BIR Ruling No. 108-99 to the effect that documentary stamp tax are now imposable on interoffice memos, to give a retroactive application would be prejudicial to the taxpayer.; 4. FDC’s alleged gain from the increase of its shareholding in FAC are mere unrealized increase in capital unless converted thru sale are not taxable. Hence, this petition for review on certiorari.

Issue:

(1) Whether or not FDC is liable for theoretical interest on said advances extended by it to its affiliates. (2) Whether or not FDC met all the requirements for non-recognition of taxable gain under Sec. 34 (c) (2) (now Sec. 40 (C) (2) of the NIRC and therefore, is not taxable. (3) WON the letters of instructions or cash vouchers are deemed loan agreements subject to documentary stamp tax. (4) WON the dilution as a result of increase of FDC’s shareholding in FAC is taxable.

Held:

(1) No. Sec. 43 (now Sec. 50) of the NIRC does not include the power to impute theoretical interest to the CIR’s powers of distribution, apportionment or allocation of gross income and deductions. There must be proof of actual or probable receipt or realization by the controlled taxpayer of the item of gross income sought to be distributed, apportioned or allocated by the CIR. In the case at bar, records do not show that there was evidence that the advances extended yielded interests. Even if FDC deducted substantial interest expenses from its gross income, there would still be no basis for the imputation of theoretical interests on the subject advances. Under Art. 1956 of the Civil Code, no interest shall be due unless it has been expressly stipulated in writing. Moreover, taxes being burdens are not to be presumed and that tax statutes must be construed strictly against the government and liberally in favor of the taxpayer. (2) Yes. It was admitted in the stipulation of facts that the following are the requisites: (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, not exceeding four, gains control of the transferee. Moreover, it is not taxable because the exchange did not result to a decrease of the ownership of FDC in FLI rather combining the interests of FDC and FAI result to 70.99% of FLI’s outstanding shares. Since the term "control" is clearly defined as "ownership of stocks in a corporation possessing at least fifty-one percent (51%) of the total voting power of

classes of stocks entitled to one vote” then the said exchange clearly qualify as a tax-free transaction. Therefore, both FDC and FAI cannot be held liable for deficiency income tax on said transfer. (3) Yes. The instructional letters as well as the journal and cash vouchers evidencing the advances FDC extended to its affiliates in 1996 and 1997 qualified as loan agreements upon which documentary stamp taxes may be imposed. apply them would be prejudicial to the taxpayers. This rule does not apply: (a) where the taxpayer deliberately misstates or omits material facts from his return or in 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. The principle of non-retroactivity of BIR rulings does not apply in favor of FDR because it is not the taxpayer who in the first place, sought the said BIR ruling from the CIR. (4) No. the CIR has no factual and legal basis in assessing income tax on the increase in the value of FDC's shareholdings in FAC until the same is actually sold at a profit. A mere increase or appreciation in the value of said shares cannot be considered income for taxation purposes. Besides, tax revenues should be strictly construed and that rulings of the CTA should be accorded with respect and upheld by the Court absent any reversible errors.

12. GENERAL FOODS VS. CIR

Facts:

Respondent corporation General Foods (Phils), which is engaged in the manufacture of “Tang”, “Calumet” and “Kool-Aid”, filed its income tax return for the fiscal year ending February 1985 and claimed as deduction, among other business expenses, P9,461,246 for media advertising for “Tang”.

The Commissioner disallowed 50% of the deduction claimed and assessed deficiency income taxes of P2,635,141.42 against General Foods, prompting the latter to file an MR which was denied.

General Foods later on filed a petition for review at CA, which reversed and set aside an earlier decision by CTA dismissing the company’s appeal.

Issue:

W/N the subject media advertising expense for “Tang” was ordinary and necessary expense fully deductible under the NIRC

Held:

No. Tax exemptions must be construed in stricissimi juris against the taxpayer and liberally in favor of the taxing authority, and he who claims an exemption must be able to justify his claim by the clearest grant of organic or statute law. Deductions for income taxes partake of the nature of tax exemptions; hence, if tax exemptions are strictly construed, then deductions must also be strictly construed.

To be deductible from gross income, the subject advertising expense must comply with the following requisites: (a) the expense must be ordinary and necessary; (b) it must have been paid or incurred during the taxable year; (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.

While the subject advertising expense was paid or incurred within the corresponding taxable year and was incurred in carrying on a trade or business, hence necessary, the parties’ views conflict as to whether or not it was ordinary. To be deductible, an advertising expense should not only be necessary but also ordinary.

The Commissioner maintains that the subject advertising expense was not ordinary on the ground that it failed the two conditions set by U.S. jurisprudence: first, “reasonableness” of the amount incurred and second, the amount incurred must not be a capital outlay to create “goodwill” for the product and/or private respondent’s business. Otherwise, the expense must be considered a capital expenditure to be spread out over a reasonable time.

There is yet to be a clear-cut criteria or fixed test for determining the reasonableness of an advertising expense. There being no hard and fast rule on

the matter, the right to a deduction depends on a number of factors such as but not limited to: the type and size of business in which the taxpayer is engaged; the volume and amount of its net earnings; the nature of the expenditure itself; the intention of the taxpayer and the general economic conditions. It is the interplay of these, among other factors and properly weighed, that will yield a proper evaluation.

The Court finds the subject expense for the advertisement of a single product to be inordinately large. Therefore, even if it is necessary, it cannot be considered an ordinary expense deductible under then Section 29 (a) (1) (A) of the NIRC.

Advertising is generally of two kinds: (1) advertising to stimulate the current sale of merchandise or use of services and (2) advertising designed to stimulate the future sale of merchandise or use of services. The second type involves expenditures incurred, in whole or in part, to create or maintain some form of goodwill for the taxpayer’s trade or business or for the industry or profession of which the taxpayer is a member. If the expenditures are for the advertising of the first kind, then, except as to the question of the reasonableness of amount, there is no doubt such expenditures are deductible as business expenses. If, however, the expenditures are for advertising of the second kind, then normally they should be spread out over a reasonable period of time.

The company’s media advertising expense for the promotion of a single product is doubtlessly unreasonable considering it comprises almost one-half of the company’s entire claim for marketing expenses for that year under review.Petition granted, judgment reversed and set aside.

INCOME TAXATION

CASE DIGESTSCASE NOS. 1-12

(lacking cases nos. 6 & 7)