In general

CIR v ISABELA CULTURAL CORPORATION

FACTS:

ICC was assessed for deficiency income tax [ BIR disallowed expense deductions for professional and security services by 1) auditing services by SGV & Co. 2) legal services Bengzon law office 3) El Tigre Security services] and deficiency expanded withholding tax, when it failed to withhold 1% expanded withholding tax. The CTA cancelled and set aside the assessment notices holding that the claimed deductions for professional and security services were properly claimed in 1986 since it was only in that year when the bills demanding payment were sent to ICC. It also found that the ICC withheld 1% expanded withholding tax for security services. The CA affirmed hence the case at bar.

ISSUE: W/N the aforementioned may be deducted

HELD: for the auditing and legal services NO but for the security services YES

The requisites for 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; 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 and other pertinent papers.

The requisite that it must have been paid or incurred during the taxable year is qualified by Sec. 45 of NIRC which states that “the deduction provide for in this title shall be taken for the taxable year in which ‘paid or incurred’ dependent upon the method of accounting upon the basis of which the net income is computed x x x”.

ICC uses the accrual method. RAM No. 1-2000 provides that under the accrual method, expenses not claimed as deductions in the current year when they are incurred CANNOT be claimed as deduction from income for the succeeding year. The accrual method relies upon the taxpayer’s right to receive amount or its obligation to pay them NOT the actual receipt or payment. Amounts of income accrue where the right to receive them become fixed, where there is created an enforceable liability. Liabilities are accrued when fixed and determinable in amount.

The accrual of income and expense is permitted when the ALL-EVENTS TEST has been met. The test requires that: 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. It does not require that the amount be absolutely known only that the taxpayer has information necessary to compute the amount with reasonable accuracy. The test is satisfied where computation remains uncertain if its basis is unchangeable. The amount of liability does not have to be determined exactly, it must be determined with reasonable accuracy.

In the case at bar, the expenses for legal services pertain to the years 1984 and 1985. The firm has been retained since 1960. From the nature of the claimed deduction 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 compensation for its services. Exercising due diligence, they could have inquired into the amount of their obligation. It could have reasonably determined the amount of legal and retainer fees owing to their familiarity with the rates charged.

The professional fees of SGV cannot be validly claimed as deductions in 1986. ICC failed to present evidence showing that even with only reasonable accuracy, it cannot determine the professional fees which the company would charge.

CIR v GENERAL FOODS

AGUINALDO INDUSTRIES v CIR

FACTS:

Aguinaldo Industries Corporation (AIC) is a domestic corporation engaged in the manufacture of fishing nets, a tax-exempt industry and the manufacture of furniture. For accounting purposes, each division is provided with separate books of accounts. Previously, AIC acquired a parcel of land in Muntinlupa, Rizal, as site of the fishing net factory. Later, it sold the Muntinlupa property. AIC derived profit from this sale which was entered in the books of the Fish Nets Division as miscellaneous income to distinguish it from its tax-exempt income.

For the year 1957, AIC filed two separate income tax returns for each division. After investigation, the examiners of the BIR found that the Fish Nets Division deducted from its gross income for that year the amount of P61,187.48 as additional remuneration paid to the officers of AIC. This amount was taken from the net profit of an isolated transaction (sale of Muntinlupa land) not in the course of or carrying on of AIC's trade or business, and was reported as part of the selling expenses of the Muntinlupa land. Upon recommendation of the examiner that the said sum of P61,187.48 be disallowed as deduction from gross income, petitioner asserted in its letter of February 19, 1958, that said amount should be allowed as deduction because it was paid to its officers as allowance or bonus pursuant to its by-laws.

ISSUE/HELD: W/N the bonus given to the officers of the petitioner upon the sale of its Muntinlupa land is an ordinary and necessary business expense deductible for income tax purposes - NO

RATIO: Sec. 30 (a) (1) of the Tax Code provides that in computing net income, there shall be allowed as deductions ‘Expenses, including all the ordinary and necessary expenses paid or incurred during the taxable year in carrying on any trade or business, including a reasonable allowance for personal services actually rendered.

The bonus given to the officers of the petitioner as their share of the profit realized from the sale of petitioner's Muntinglupa land cannot be deemed a deductible expense for tax purposes, even if the aforesaid sale could be considered as a transaction for carrying on the trade or business of the petitioner

and the grant of the bonus to the corporate officers pursuant to petitioner's by-laws could, as an intra-corporate matter, be sustained. The records show that the sale was effected through a broker who was paid by petitioner a commission of P51,723.72 for his services. On the other hand, there is absolutely no evidence of any service actually rendered by petitioner's officers which could be the basis of a grant to them of a bonus out of the profit derived from the sale. This being so, the payment of a bonus to them out of the gain realized from the sale cannot be considered as a selling expense; nor can it be deemed reasonable and necessary so as to make it deductible for tax purposes. The extraordinary and unusual amounts paid by petitioner to these directors in the guise and form of compensation for their supposed services as such, without any relation to the measure of their actual services, cannot be regarded as ordinary and necessary expenses within the meaning of the law. This is in line with the doctrine in the law of taxation that the taxpayer must show that its claimed deductions clearly come within the language of the law since allowances, like exemptions, are matters of legislative grace.

Facts: Isabela Cultural Corporation (ICC), a domestic corporation received 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, an expense is recognized when it is incurred. Under a Revenue Audit Memorandum, when the method of accounting is accrual, expenses not 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 compute the 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.

CIR V GENERAL FOODS

14

FEB

GR No. 143672| April 24, 2003 | J. Corona

Test of Reasonableness

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.

Obillos et al vs. CIR/CA

GRN – L68118 October 29, 1985

Aquino, J.:

FACTS:

Petitioners sold the lots they inherited from their father and derived a total profit of P33,584 for each of them. They treated the profit as capital gain and paid an income tax thereof. The CIR required petitioners to pay corporate income tax on their shares, .20% tax fraud surcharge and 42% accumulated interest. Deficiency tax was assessed on the theory that they had formed an unregistered partnership or joint venture.

ISSUE:

Whether or not partnership was formed by the siblings thus be assessed of the corporate tax.

RULING:

Petitioners were co-owners and to consider them partners would obliterate the distinction between co-ownership and partnership. The petitioners were not engaged in any joint venture by reason of that isolated transaction.

Art 1769… 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 partnership or joint venture.

Philex Mining Corporation vs. CIR [G.R. No. 148187 (April 16, 2008)]

Post under case digests, Civil Law at Tuesday, February 21, 2012 Posted by Schizophrenic Mind

Facts: Petitioner Philex entered into an agreement with Baguio Gold Mining Corporation for the former to manage the latter’s mining claim know as the Sto. Mine. The parties’ agreement was denominated as “Power of Attorney”. The mine suffered continuing losses over the years, which resulted in petitioners’ withdrawal as manager of the mine. The parties executed a “Compromise Dation in Payment”, wherein the debt of Baguio amounted to Php. 112,136,000.00. Petitioner deducted said amount from its gross income in its annual tax income return as “loss on the settlement of receivables from Baguio Gold against reserves and allowances”. BIR disallowed the amount as deduction for bad debt. Petitioner claims that it entered a contract of agency evidenced by the “power of attorney” executed by them and the advances made by petitioners is in the nature of a loan and thus can be deducted from its gross income. Court of Tax Appeals (CTA) rejected the claim and held that it is a partnership rather than an agency. CA affirmed CTA

Issue: Whether or not it is an agency.

Held: No. The lower courts correctly held that the “Power of Attorney” (PA) is the instrument material that is material in determining the true nature of the business relationship between petitioner and Baguio. An examination of the said PA reveals that a partnership or joint venture was indeed intended by the parties. While a corporation like the petitioner cannot generally enter into a contract of partnership unless authorized by law or its charter, it has been held that it may enter into a joint venture, which is akin to a particular partnership. The PA indicates that the parties had intended to create a PAT and establish a common fund for the purpose. They also had a joint interest in the profits of the business as shown by the 50-50 sharing of income of the mine.

Moreover, in an agency coupled with interest, it is the agency that cannot be revoked or withdrawn by the principal due to an interest of a third party that depends upon it or the mutual interest of both principal and agent. In this case the non-revocation or non-withdrawal under the PA applies to the advances made by the petitioner who is the agent and not the principal under the contract. Thus, it cannot be inferred from the stipulation that it is an agency.

Case Number 34

Commission of Internal Revenue vs. General Foods (Phils.) Inc.

401SCRA 545

Petition for review on certiorari of a decision of the Court of Appeals

Facts : On June 14,1985, respondent corporation which is engaged in the manufacture of beverages such as Tang, Calumet and Kool Aid filed its income tax return for fiscal year ending February 28,1985. Ganeral foods Philippines Incorporated (GFPI) claimed as deduction, among other business expenses , PhP 9,461,246 for media advertising of Tang.

On May 31,1988, the Commissioner (of Internal Revenue) disallowed 50% or PhP 4,730,623 and consequently GFPI was assessed deficiency income tax of PhP 2,635,141.42.

On September 29,1989, GFPI appealed to the CTA but the appeal was dismissed sinece the amount is unreasonable and thus respondent corporation is ordered to pay said defiency taxes. The petition for review filed at CA reversed the decision of the CTA. Hence, this petition.

Issue : Whether or not the media advertising expense for Tang was an ordinary or necessary expense duly deductible under the National Internal Revenue Code.

Held : No. To be deductibel from gross income, subject media advertising expense must be ordinary and necessary, paid within the taxable year and needed for carrying out tarde and business and supported by receipts, records and other pertinent documents.Here, PhP 9,461,246 claimed as media advertising expense was almost one half of its total claim for marketing expense and almost double teh amount of GFPI's administration and operation expenses.Not only was teh amount staggering but GFPI admitted that said expense was to ptotect its brand franchise. The expense not being within the ordinary course of buiness, the respondent corporation was hereby ordered to pay the deficiency taxes due.

Case No. 35

CIR versus Lednicky

11SCRA 605

Petition for review of the decision of the Court of Tax Appeals

Facts : In compliance with the Philippine law on the filing of income tax return, respondent spouses V.E. Lednicky and Maria Valero Lednicky , both American citizens filed their income tax return for 1956 and claimed PhP 112,437.90 refund in 1959.Respondents claim that said amount was already paid to teh U.S. government as federal income for 1956. Similar claims were made for overpaid income tax for 1955 and 1957 amounting to PhP 150,269.00 and PhP 90,520.75 respectively. In all claims, the tax court decided for the respondents. Hence, this petition.

Issue : Whether or not a U.S. citizen residing in the Philippines who derives income wholly from aources within the Philippines may deduct from his gross income the income taxes he paid to the U.S.

Held : No. Double taxation becomes obnoxious only where the taxpayer is taxed twice for the benefit of the same government entity. Here, while the respondent spouses would have to pay two taxes on the same income, the Philippine government only received the proceeds of one tax.

Case no.36

CIR vs. Central Luzon Drug Corporation

456 SCRA 414

Petition for review on certiorari of teh decision and resolution of the CA

Facts : In 1996, respondent operates drugstores under the business name and style Mercury Drug. From January - December 1996, respondent granted 20% discount to qualified senior citizens on their purchase of medicines pursuant to RA 7432. For the period, the 20% sales discout amounted to PhP 904,769 .

On APril 15,1997, the annual income tax for 1996 reflected losses in the business . In 1998 , respondent claimed tax cerdit with refund amounting to PhP 904,769 from the 20% sales discount. The claim was disapproved and when elevated to the CTA the same was dismissed for lack of merit. The CA affirmed the decision and ordered the petitioner to issue tax credit certificate amounting to PhP 903,038.39.

Issue : Whether or not respondent is entitled to 20% sales discount as tax credit even operating a t a loss.

Held : Yes. RA 7432 was not expressly repealed by the Tax Code. If tax credit may be claimed then the requirement of prior tax payments cannot be made to apply. No provision of any revenue regulation can supplant or modify the acts of Congress.

Case No.37

Philex Mining vs. CIR

551 SCRA 428

Petition for review on certiorari of teh decision and resolution of the Court of Appeals

Facts : On April 16,1971, Philex Mining Corp. entered into an agreement with Baguio Gold to manage the latter's Sto. Nino Mining in Benguet. The parties agreement was demonstarted as Power of Attorney.

In the course of managing teh project, Philex Mining made advances of cash and property. Howver, the mine suffered continuing losses which resulted in the petitioner's withdrawal as manager and eventual cessation of the mine in February 2002.Philex later claimed in 1982 when it filed its income tax return that petitioner be deducted PhP 112,136 on settlement of its receivable sform Baguio Gold against their income and allowances. the BIR disallowed and ordered Philex to pay defieciency tax amounting to PhP 62,811,161.39.

The CTA denied the same and the CA affirmed CTA's decision. Hence, this petition.

Issue : Whether or not the petitioner is entitled to bad debt deduction.

Held : No. The advances made by Philex Mining to settle obligations of Baguio Gold were not debts since they were not yet due and demandable. Petioner failed to establish that the advances made were subsiting debts of Baguio Gold that could be deducted from its gross income.