G.R. No.

L-21520

December 11, 1967

PLARIDEL SURETY and INSURANCE COMPANY, petitioner,

vs.
COMMISSIONER OF INTERNAL REVENUE, respondent.
Petitioner Plaridel Surety & Insurance Co., is a domestic corporation
engaged in the bonding business. On November 9, 1950, petitioner,
as surety, and Constancio San Jose, as principal, solidarily executed a
performance bond in the penal sum of P30,600.00 in favor of the P. L.
Galang Machinery Co., Inc., to secure the performance of San Jose's
contractual obligation to produce and supply logs to the latter.
To afford itself adequate protection against loss or damage on the
performance bond, petitioner required San Jose and one Ramon
Cuervo to execute an indemnity agreement obligating themselves,
solidarily, to indemnify petitioner for whatever liability it may incur
by reason of said performance bond. Accordingly, San Jose
constituted a chattel mortgage on logging machineries and other
movables in petitioner's favor1 while Ramon Cuervo executed a real
estate mortgage.2
San Jose later failed to deliver the logs to Galang Machinery3 and the
latter sued on the performance bond. On October 1, 1952, the Court
of First Instance adjudged San Jose and petitioner liable; it also
directed San Jose and Cuervo to reimburse petitioner for whatever
amount it would pay Galang Machinery. The Court of Appeals, on
June 17, 1955, affirmed the judgment of the lower court. The same
judgment was likewise affirmed by this Court4 on January 11, 1957
except for a slight modification apropos the award of attorney's fees.
On February 19 and March 20, 1957, petitioner effected payment in
favor of Galang Machinery in the total sum of P44,490.00 pursuant to
the final decision.
In its income tax return for the year 1957, petitioner claimed the said
amount of P44,490.00 as deductible loss from its gross income and,
accordingly, paid the amount of P136.00 as its income tax for 1957.
The Commissioner of Internal Revenue disallowed the claimed
deduction of P44,490.00 and assessed against petitioner the sum of
P8,898.00, plus interest, as deficiency income tax for the year 1957.

Petitioner filed its protest which was denied. Whereupon, appeal was
taken to the Tax Court, petitioner insisting that the P44,490.00 which
it paid to Galang Machinery was a deductible loss.
The Tax Court dismissed the appeal, ruling that petitioner was duly
compensated for otherwise than by insurance thru the mortgages
in its favor executed by San Jose and Cuervo and it had not yet
exhausted all its available remedies, especially as against Cuervo, to
minimize its loss. When its motion to reconsider was denied,
petitioner elevated the present appeal.
Of the sum of P44,490.00, the amount of P30,600.00 which is the
principal sum stipulated in the performance bond is being claimed
as loss deduction under Sec. 30 (d) (2) of the Tax Code and
P10,000.00 which is the interest that had accrued on the principal
sum is now being claimed as interest deduction under Sec. 30 (b)
(1).
Loss is deductible only in the taxable year it actually happens or is
sustained. However, if it is compensable by insurance or otherwise,
deduction for the loss suffered is postponed to a subsequent year,
which, to be precise, is that year in which it appears that no
compensation at all can be had, or that there is a remaining or net
loss, i.e., no full compensation.5
There is no question that the year in which the petitioner Insurance
Co. effected payment to Galang Machinery pursuant to a final
decision occurred in 1957. However, under the same court decision,
San Jose and Cuervo were obligated to reimburse petitioner for
whatever payments it would make to Galang Machinery. Clearly,
petitioner's loss is compensable otherwise (than by insurance).itc-alf
It should follow, then, that the loss deduction can not be claimed in
1957.
Now, petitioner's submission is that its case is an exception. Citing
Cu Unjieng Sons, Inc. v. Board of Tax Appeals,6 and American cases
also, petitioner argues that even if there is a right to compensation
by insurance or otherwise, the deduction can be taken in the year of
actual loss where the possibility of recovery is remote. The
pronouncement, however to this effect in the Cu Unjieng case is not
as authoritative as petitioner would have it since it was there found
that the taxpayer had no legal right to compensation either by

insurance or otherwise.7 And the American cases cited8 are not in

point. None of them involved a taxpayer who had, as in the present
case, obtained a final judgment against third persons for
reimbursement of payments made. In those cases, there was either
no legally enforceable right at all or such claimed right was still to
be, or being, litigated.
On the other hand, the rule is that loss deduction will be denied if
there is a measurable right to compensation for the loss, with
ultimate collection reasonably clear. So where there is reasonable
ground for reimbursement, the taxpayer must seek his redress and
may not secure a loss deduction until he establishes that no
recovery may be had.9 In other words, as the Tax Court put it, the
taxpayer (petitioner) must exhaust his remedies first to recover or
reduce his loss.
It is on record that petitioner had not exhausted its remedies,
especially against Ramon Cuervo who was solidarily liable with San
Jose for reimbursement to it. Upon being prodded by the Tax Court to
go after Cuervo, Hermogenes Dimaguiba, president of petitioner
corporation, said that they would10 but no evidence was submitted
that anything was really done on the matter. Moreover, petitioner's
evidence on remote possibility of recovery is fatally wanting. Its right
to reimbursement is not only secured by the mortgages executed by
San Jose and Cuervo but also by a final and executory judgment in
the civil case itself. Thus, other properties of San Jose and Cuervo
were subject to levy and execution. But no writ of execution, satisfied
or unsatisfied, was ever submitted. Neither has it been established
that Cuervo was insolvent. The only evidence on record on the point
is Dimaguiba's testimony that he does not really know if Cuervo has
other properties.11 This is not substantial proof of insolvency.itc-alf
Thus, it was too premature for petitioner to claim a loss deduction.
But assuming that there was no reasonable expectation of recovery,
still no loss deduction can be had. Sec. 30 (d) (2) of the Tax Code
requires a charge-off as one of the conditions for loss deduction:
In the case of a corporation, all losses actually sustained and
charged-off within the taxable year and not compensated for
by insurance or otherwise. (Emphasis supplied)

Mertens12 states only four (4) requisites because the United States
Internal Revenue Code of 193913 has no charge-off requirement.itcalf Sec. 23(f) thereof provides merely:
In the case of a corporation, losses sustained during the
taxable year and not compensated for by insurance or
otherwise.
Petitioner, who had the burden of proof14 failed to adduce evidence
that there was a charge-off in connection with the P44,490.00or
P30,600.00 which it paid to Galang Machinery.
In connection with the claimed interest deduction of P10,000.00, the
Solicitor General correctly points out that this question was never
raised before the Tax Court. Petitioner, thru counsel, had admitted
before said court15 and in the memorandum it filed16 that the only
issue in the case was whether the entire P44,490.00 paid by it was or
was not a deductible loss under Sec. 30 (d) (2) of the Tax Code. Even
in petitioner's return, the P44,490.00 was claimed wholly as losses
on its bond.17 The alleged interest deduction not having been
properly litigated as an issue before the Tax Court, it is now too late
to raise and assert it before this Court.
WHEREFORE, the appealed decision is, as it is hereby, affirmed.
Costs against petitioner Plaridel Surety & Insurance Co. So ordered.
G.R. No. L-22265

December 22, 1967

COLLECTOR OF INTERNAL REVENUE, petitioner,

vs.
GOODRICH INTERNATIONAL RUBBER CO., respondent.
Appeal by the Government from a decision of the Court of Tax
Appeals, setting aside the assessments made by the Commissioner
of Internal Revenue, in the sums of P14,128.00 and P8,439.00, as
deficiency income taxes allegedly due from respondent Goodrich
International Rubber Company hereinafter referred to as Goodrich
for the years 1951 and 1952, respectively.
These assessments were based on disallowed deductions, claimed
by Goodrich, consisting of several alleged bad debts, in the
aggregate sum of P50,455.41, for the year 1951, and the sum of
P30,138.88, as representation expenses allegedly incurred in the

year 1952. Goodrich had appealed from said assessments to the

Court of Tax Appeals, which, after appropriate proceedings, rendered,
on June 8, 1963, a decision allowing the deduction for bad debts, but
disallowing the alleged representation expenses. On motion for
reconsideration and new trial, filed by Goodrich, on November 19,
1963, the Court of Tax Appeals amended its aforementioned decision
and allowed said deductions for representation expenses. Hence, this
appeal by the Government.

The claim must be rejected. If the expenses had really been incurred,
receipts or chits would have been issued by the entities to which the
payments had been made, and it would have been easy for Goodrich
or its officers to produce such receipts.lawphil These issued by said
officers merely attest to their claim that they had incurred and paid
said expenses. They do not establish payment of said alleged
expenses to the entities in which the same are said to have been
incurred. The Court of Tax Appeals erred, therefore, in allowing the
deduction thereof.

The alleged representation expenses are:

The alleged bad debts are:
1. Expenses at Elks Club

P10,959.
21

1. Portillo's Auto Seat Cover

2. Manila Polo Club

4,947.35

2. Visayan Rapid Transit

3. Army and Navy Club

2,812.95

3. Bataan Auto Seat Cover

4. Manila Golf Club

4,478.45

4. Tres Amigos Auto Supply

5. Wack Wack Golf Club, Casino

Espaol, etc.

6,940.92

5. P. C. Teodorolawphil

650.00

6. Ordnance Service, P.A.

386.42

TOTAL

P30,138.
88
7. Ordnance Service, P.C.

796.26

The claim for deduction thereof is based upon receipts issued, not by
the entities in which the alleged expenses had been incurred, but by
the officers of Goodrich who allegedly paid them.

8. National land Settlement

P630.31

17,810.26

373.13

1,370.31

3,020.76

Administration

9. National Coconut Corporation

644.74

10. Interior Caltex Service Station

1,505.87

11. San Juan Auto Supply

4,530.64

TOTAL

P50,455.4
1*

The issue, in connection with these debts is whether or not the same
had been properly deducted as bad debts for the year 1951. In this
connection, we find:
Portillo's Auto Seat Cover (P730.00):

12. P A C S A

45.36

This debt was incurred in 1950. In 1951, the debtor paid P70.00,
leaving a balance of P630.31. That same year, the account was
written off as bad debt (Exhibit 3-C-4). Counsel for Goodrich had
merely sent two (2) letters of demand in 1951 (Exh. B-14). In 1952,
the debtor paid the full balance (Exhibit A).

13. Philippine Naval Patrol

14.18

Visayan Rapid Transit (P17,810.26):

14. Surplus Property Commission

277.68

15. Alverez Auto Supply

285.62

This debt was, also, incurred in 1950. In 1951, it was charged off as
bad debt, after the debtor had paid P275.21. No other payment had
been made.lawphil Taxpayer's Accountant testified that, according to
its branch manager in Cebu, he had been unable to collect the
balance. The debtor had merely promised and kept on promising to
pay. Taxpayer's counsel stated that the debtor had gone out of
business and became insolvent, but no proof to this effect. was
introduced.
Bataan Auto Seat Cover (P373.13):

16. Lion Shoe Store

1,686.93

17. Ruiz Highway Transit

2,350.00

This is the balance of a debt of P474.13 contracted in 1949. In 1951,

the debtor paid P100.00. That same year, the balance of P373.13
was charged off as bad debt. The next year, the debtor paid the
additional sum of P50.00.
Tres Amigos Auto Supply (P1,370.31):

18. Esquire Auto Seat Cover

3,536.94

This account had been outstanding since 1949. Counsel for the
taxpayer had merely sent demand letters (Exh. B-13) without
success.
P. C. Teodoro (P650.00):
In 1949, the account was P751.91. In 1951, the debtor paid P101.91,
thus leaving a balance of P650.00, which the taxpayer charged off as
bad debt in the same year. In 1952, the debtor made another
payment of P150.00.
Ordinance Service, P.A. (P386.42):
In 1949, the outstanding account of this government agency was
P817.55. Goodrich's counsel sent demand letters (Exh. B-8). In 1951,
it paid Goodrich P431.13. The balance of P386.42 was written off as
bad debt that same year.
Ordinance Service, P.C. (P796.26):
In 1950, the account was P796.26.lawphil It was referred to counsel
for collection. In 1951, the account was written off as a debt. In
1952, the debtor paid it in full.
National Land Settlement Administration (P3,020.76):
The outstanding account in 1949 was P7,041.51. Collection letters
were sent (Exh. B-7). In 1951, the debtor paid P4,020.75, leaving a
balance of P3,020.76, which was written off, that same year, as a
bad debt. This office was under liquidation, and its Board of
Liquidators promised to pay when funds shall become available.
National Coconut Corporation (P644.74):
This account had been outstanding since 1949. Collection letters
were sent (Exh. B-12) without success. It was written off as bad debt
in 1951, while the corporation was under a Board of Liquidators,
which promised to pay upon availability of funds. In 1961, the debt
was fully paid.
Interior Caltex Service Station (P1,505.87):

The original account was P2,705.87, when, in 1950, it was turned

over for collection to counsel for Goodrich (p. 156, CTA Records).
Counsel began sending letters of collection in April 1950. Interior
Caltex made partial payments, so that as of December, 1951, the
balance outstanding was P1,505.87.lawphil.net The debtor paid
P200, in 1952; P113.20, in 1954; P750.00, in 1961; and P300.00.00
in 1962. The account had been written off as bad debt in 1951.
The claim for deduction of these ten (10) debts should be rejected.
Goodrich has not established either that the debts are actually
worthless or that it had reasonable grounds to believe them to be so
in 1951. Our statute permits the deduction of debts "actually
ascertained to be worthless within the taxable year," obviously to
prevent arbitrary action by the taxpayer, to unduly avoid tax liability.
The requirement of ascertainment of worthlessness requires proof of
two facts: (1) that the taxpayer did in fact ascertain the debt to be
worthlessness, in the year for which the deduction is sought; and (2)
that, in so doing, he acted in good faith.1
Good faith on the part of the taxpayer is not enough. He must show,
also, that he had reasonably investigated the relevant facts and had
drawn a reasonable inference from the information thus obtained by
him.2 Respondent herein has not adequately made such showing.
The payments made, some in full, after some of the foregoing
accounts had been characterized as bad debts, merely stresses the
undue haste with which the same had been written off. At any rate,
respondent has not proven that said debts were worthless. There is
no evidence that the debtors can not pay them.lawphil.net It should
be noted also that, in violation of Revenue Regulations No. 2, Section
102, respondent had not attached to its income tax returns a
statement showing the propriety of the deductions therein made for
alleged bad debts.
Upon the other hand, we find that the following accounts were
properly written off:
San Juan Auto Supply (P4,530.64):
This account was contracted in 1950. Referred, for collection, to
respondent's counsel, the latter secured no payment. In November,
1950, the corresponding suit for collection was filed (Exh. C). The
debtor's counsel was allowed to withdraw, as such, the debtor

having failed to meet him. In fact, the debtor did not appear at the
hearing of the case.lawphil.net Judgment was rendered in 1951 for
the creditor (Exh. C-2). The corresponding writ of execution (Exh. C3) was returned unsatisfied, for no properties could be attached or
levied upon.

PACSA

(P45.36),

Philippine Naval Patrol

(P14.18),

Surplus Property
Commission

(P277.68),

Alvarez Auto Supply

(P285.62):

These four (4) accounts were 2 or 3 years old in 1951. After the
collectors of the creditor had failed to collect the same, its counsel
wrote letters of demand (Exhs. B-10, B-11, B-6 and B-2) to no avail.
Considering the small amounts involved in these accounts, the
taxpayer was justified in feeling that the unsuccessful efforts
therefore exerted to collect the same sufficed to warrant their being
written off.3

Esquire Auto Seat Cover

These three (3) accounts were among those referred to counsel for
Goodrich for collection. Up to 1951, when they were written off,
counsel had sent 17 Letters of demand to Lion Shoe Store (Exh. B);
16 demand letters to Ruiz Highway Transit (Exh. B-1); and 6 letters of
demand to Esquire Auto Seat Cover (Exit. B-5) In 1951, Lion Shoe
Store, Ruiz Highway Transit, and Esquire Auto Seat Cover had made
partial payments in the sums of P1,050.00, P400.00, and P300.00
respectively. Subsequent to the write-off, additional small payments
were made and accounted for as income of Goodrich. Counsel
interviewed the debtors, investigated their ability to pay and
threatened law suits. He found that the debtors were in strained
financial condition and had no attachable or leviable property.
Moreover, Lion Shoe Store was burned twice, in 1948 and 1949.
Thereafter, it continued to do business on limited scale. Later; it
went out of business. Ruiz Highway Transit, had more debts than
assets. Counsel, therefore, advised respondent to write off these
accounts as bad debts without going to court, for it would be "foolish
to spend good money after bad."
The deduction of these eight (8) accounts, aggregating P22,627.35,
as bad debts should be allowed.
WHEREFORE, the decision appealed from should be, as it is hereby,
modified, in the sense that respondent's alleged representation
expenses are totally disallowed, and its claim for bad debts allowed
up to the sum of P22,627.35 only. Without special pronouncement as
to costs. It is so ordered.
G.R. No. L-18282

Lion Shoe Store

(P11,686.93),

Ruiz Highway Transit

(P2,350.00),
and

(P3,536.94):

May 29, 1964

COMMISSIONER OF INTERNAL REVENUE, petitioner,

vs.
PRISCILA ESTATE, INC., and THE COURT OF APPEALS,
respondents.
Review of the decision of the Court of Tax Appeals in its case No. 334
ordering the petitioner, Commissioner of Internal Revenue to refund
to the respondent, Priscila Estate, Inc., a domestic corporation

engaged in the business of leasing real estate, the sum of P3,045.19,

as overpaid income tax for 1950.
The corporation duly filed its income tax returns for the years 1949,
1950 and 1951. On 13 June 1952, however, it amended its income
tax returns for 1951 and paid the tax corresponding to the
assessment made by the petitioner on the basis of the returns, as
amended; and on 13 September 1952, the company claimed a
refund of P4,941.00 as overpaid income tax for the year 1950 for
having deducted from gross income only the sum of P6,013.85
instead of P39,673.25 as its loss in the sale of a lot and building.
Thereupon, the Commissioner of Internal Revenue conducted an
investigation of the company's income tax returns for 1949 through
1951 and, thereafter, granted a tax credit of P1,443.00 for 1950 but
assessed on 3 November 1953 deficiency income taxes of P3,575.49
for 1949 and P22,166.10 for 1951.
The Priscila Estate, Inc., contested the deficiency assessments and
when the Commissioner of Internal Revenue refused to reconsider
them, the former brought suit to the tax court which after trial,
rendered the decision that, in 1961, the Commissioner elevated to
this Supreme Court for review.
The first assignment of error refers to the allowance of a deduction in
the 1949 income tax returns of the respondent corporation the
amount of P11,237.35 representing the cost of a "barong-barong" (a
make-shift building), situated at the corner of Azcarraga Street and
Rizal Avenue, Manila, which was demolished on 31 December 1949
and a new one built in its place. The petitioner claims that the value
of the demolished building should not be deducted from gross
income but added to the cost of the building replacing it because its
demolition or removal was to make way for the erection of another in
its place. 1wph1.t
The foregoing argument is erroneous inasmuch as the tax court
found that the removal of the "barong-barong", instead of being
voluntary, was forced upon the corporation by the city engineer
because the structure was a fire hazard; that the rental income of
the old building was about P3,730.00 per month, and that the
corporation had no funds but had to borrow, in order to construct a
new building. All these facts, taken together, belie any intention on
the part of the corporation to demolish the old building merely for

the purpose of erecting another in its place. Since the demolished

building was not compensated for by insurance or otherwise, its loss
should be charged off as deduction from gross income. (Sec. 30[2],
Internal Revenue Code.)
The second to the fifth assignments of error pertain to depreciation.
Particularly contested by the petitioner is the basis for depreciation
of Building Priscila No. 3. This building, with an assessed value of
P70,343.00 but with a construction cost of P110,600.00, was
acquired by the respondent corporation from the spouses, Carlos
Moran Sison and Priscila F. Sison, in exchange for shares of stock.
According to the petitioner, the basis for commuting the depreciation
of this building should be limited to the capital invested, which is the
assessed value. On the other hand, the respondent based its
computation on its construction cost, revaluing the property on this
basis by a board resolution in order to "give justice to the Sison
spouse Since this revaluation would import an obligation of the
corporation to pay the Sison spouses, as vendors, the difference
between the assessed value and the revalued construction cost, as
provided in resolution Exhibit F-1 (otherwise the revaluation would
make no sense), the corporate investment would ultimately be the
construction cost which is undisputed), and depreciation logically
had to be on that basis. That the revaluation may import additional
profit to the vendor spouses is a matter related to their own income
tax, and not to that of respondent corporation.
The Collector also questions the rates of depreciation which the tax
court applied to the other properties, consisting of store and office
building, houses, a garage, library books, furniture and fixtures and
transportation equipment.
Depreciation is a question of fact,1 and is "not measured by a
theoretical yardstick, but should be determined by a consideration of
the actual facts ... ." (Landon vs. CIR of State of Kansas, 260 Fed. 433
[1920]], quoted in Sec. 23.32, Mertens, Federal Income Taxation).
The petitioner himself on page 26 of his appeal brief, asserts that
"what consist of the depreciable amount (sic) is elusive and is a
question of fact."
Since the petitioner does not claim that the tax court, in applying
certain rates and basis to arrive at the allowed amounts of

depreciation of the various properties, was, arbitrary or had abused

its discretion, and since the Supreme Court, before the Revised
Rules, limited its review of decisions of the Court of Tax Appeals to
questions of law only (Sanchez v. Commissioner of Customs, L-8556,
30 Sept. 1957; Gutierrez v. Court of Tax Appeals, L-9738 & L-9771, 31
May 1957), the findings of the tax court on the depreciation of the
several assets should not be disturbed.
In the sixth and last assignment of error, the petitioner argues that
the refund to the respondent is barred by the two-year prescriptive
period under Section 306 of the Internal Revenue Code because the
action for refund was filed on 5 December 1956 while the
respondent's 1950 income tax was paid on 15 August 1951. The
petitioner's argument would have been tenable but for his failure to
plead prescription in a motion to dismiss or as a defense in his
answer, said failure is deemed a waiver of the defense of
prescription (Sec. 10, Rule 9, Rules of Court).
Finding no reversible error in the decision under review, the same is
hereby affirmed. No costs.

1953 pursuant to Section 25 of the Tax Code. On non-payment of the

assessed amount, a warrant of distraint and levy was issued but the
same was not executed because Basilan Estates, Inc. succeeded in
getting the Deputy Commissioner of Internal Revenue to order the
Director of the district in Zamboanga City to hold execution and
maintain constructive embargo instead. Because of its refusal to
waive the period of prescription, the corporation's request for
reinvestigation was not given due course, and on December 2, 1960,
notice was served the corporation that the warrant of distraint and
levy would be executed.
On December 20, 1960, Basilan Estates, Inc. filed before the Court of
Tax Appeals a petition for review of the Commissioner's assessment,
alleging prescription of the period for assessment and collection;
error in disallowing claimed depreciations, travelling and
miscellaneous expenses; and error in finding the existence of
unreasonably accumulated profits and the imposition of 25% surtax
thereon. On October 31, 1963, the Court of Tax Appeals found that
there was no prescription and affirmed the deficiency assessment in
toto.
On February 21, 1964, the case was appealed to Us by the taxpayer,
upon the following issues:
1. Has the Commissioner's right to collect deficiency income tax
prescribed?
2. Was the disallowance of items claimed as deductible proper?

G.R. No. L-22492

September 5, 1967

3. Have there been unreasonably accumulated profits? If so, should

the 25% surtax be imposed on the balance of the entire surplus from
1947-1953, or only for 1953?

BASILAN ESTATES, INC., petitioner,

vs.
THE COMMISSIONER OF INTERNAL REVENUE and THE COURT
OF TAX APPEALS, respondents.

4. Is the petitioner exempt from the penalty tax under Republic Act
1823 amending Section 25 of the Tax Code?

A Philippine corporation engaged in the coconut industry, Basilan

Estates, Inc., with principal offices in Basilan City, filed on March 24,
1954 its income tax returns for 1953 and paid an income tax of
P8,028. On February 26, 1959, the Commissioner of Internal
Revenue, per examiners' report of February 19, 1959, assessed
Basilan Estates, Inc., a deficiency income tax of P3,912 for 1953 and
P86,876.85 as 25% surtax on unreasonably accumulated profits as of

There is no dispute that the assessment of the deficiency tax was

made on February 26, 1959; but the petitioner claims that it never
received notice of such assessment or if it did, it received the notice
beyond the five-year prescriptive period. To show prescription, the
annotation on the notice (Exhibit 10, No. 52, ACR, p. 54-A of the BIR
records) "No accompanying letter 11/25/" is advanced as indicative

PRESCRIPTION

of the fact that receipt of the notice was after March 24, 1959, the
last date of the five-year period within which to assess deficiency
tax, since the original returns were filed on March 24, 1954.
Although the evidence is not clear on this point, We cannot accept
this interpretation of the petitioner, considering the presence of
circumstances that lead Us to presume regularity in the performance
of official functions. The notice of assessment shows the assessment
to have been made on February 26, 1959, well within the five-year
period. On the right side of the notice is also stamped "Feb. 26,
1959" denoting the date of release, according to Bureau of
Internal Revenue practice. The Commissioner himself in his letter
(Exh. H, p. 84 of BIR records) answering petitioner's request to lift,
the warrant of distraint and levy, asserts that notice had been sent
to petitioner. In the letter of the Regional Director forwarding the
case to the Chief of the Investigation Division which the latter
received on March 10, 1959 (p. 71 of the BIR records), notice of
assessment was said to have been sent to petitioner. Subsequently,
the Chief of the Investigation Division indorsed on March 18, 1959 (p.
24 of the BIR records) the case to the Chief of the Law Division.
There it was alleged that notice was already sent to petitioner on
February 26, 1959. These circumstances pointing to official
performance of duty must necessarily prevail over petitioner's
contrary interpretation. Besides, even granting that notice had been
received by the petitioner late, as alleged, under Section 331 of the
Tax Code requiring five years within which to assess deficiency taxes,
the assessment is deemed made when notice to this effect is
released, mailed or sent by the Collector to the taxpayer and it is not
required that the notice be received by the taxpayer within the
aforementioned five-year period.1
ASSESSMENT

20% tax on P59,702.96

Less: Tax already assessed

P59,702.9
6
11,940.0
0
8,028.00

Deficiency income tax

P3,912.00
86,876.7
Add: Additional tax of 25% on P347,507.01
5
P90,788.7
5
======
===

Tax Due & Collectible

The Commissioner disallowed:

Over-claimed depreciation
Miscellaneous expenses
Officer's travelling expenses

P10,500.49
6,759.17
2,300.40

DEDUCTIONS
A. Depreciation. Basilan Estates, Inc. claimed deductions for the
depreciation of its assets up to 1949 on the basis of their acquisition
cost. As of January 1, 1950 it changed the depreciable value of said
assets by increasing it to conform with the increase in cost for their
replacement. Accordingly, from 1950 to 1953 it deducted from gross
income the value of depreciation computed on the reappraised
value.
In 1953, the year involved in this case, taxpayer claimed the
following depreciation deduction:

The questioned assessment is as follows:

P40,142.9
0

Net Income per return

Add
Over-claimed depreciation
:
Mis. expenses disallowed
Officer's travelling expenses
disallowed

Net Income per Investigation

P10,500.
49
6,759.17
2,300.40 19,560.0
6

Reappraised assets

P47,342.
53

New assets consisting of hospital building and

equipment
Total depreciation

3,910.45
P51,252.
98

Upon investigation and examination of taxpayer's books and papers,

the Commissioner of Internal Revenue found that the reappraised
assets depreciated in 1953 were the same ones upon which
depreciation was claimed in 1952. And for the year 1952, the
Commissioner had already determined, with taxpayer's concurrence,
the depreciation allowable on said assets to be P36,842.04,
computed on their acquisition cost at rates fixed by the taxpayer.
Hence, the Commissioner pegged the deductible depreciation for
1953 on the same old assets at P36,842.04 and disallowed the
excess thereof in the amount of P10,500.49.
The question for resolution therefore is whether depreciation shall be
determined on the acquisition cost or on the reappraised value of the
assets.
Depreciation is the gradual diminution in the useful value of tangible
property resulting from wear and tear and normal obsolescense. The
term is also applied to amortization of the value of intangible assets,
the use of which in the trade or business is definitely limited in
duration.2 Depreciation commences with the acquisition of the
property and its owner is not bound to see his property gradually
waste, without making provision out of earnings for its replacement.
It is entitled to see that from earnings the value of the property
invested is kept unimpaired, so that at the end of any given term of
years, the original investment remains as it was in the beginning. It
is not only the right of a company to make such a provision, but it is
its duty to its bond and stockholders, and, in the case of a public
service corporation, at least, its plain duty to the public. 3
Accordingly, the law permits the taxpayer to recover gradually his
capital investment in wasting assets free from income tax.4 Precisely,
Section 30 (f) (1) which states:
(1)In general. A reasonable allowance for deterioration of
property arising out of its use or employment in the business
or trade, or out of its not being used: Provided, That when the
allowance authorized under this subsection shall equal the
capital invested by the taxpayer . . . no further allowance
shall be made. . . .
allows a deduction from gross income for depreciation but limits the
recovery to the capital invested in the asset being depreciated.
The income tax law does not authorize the depreciation of an asset
beyond its acquisition cost. Hence, a deduction over and above such
cost cannot be claimed and allowed. The reason is that deductions

from gross income are privileges,5 not matters of right.6 They are not
created by implication but upon clear expression in the law. 7
Moreover, the recovery, free of income tax, of an amount more than
the invested capital in an asset will transgress the underlying
purpose of a depreciation allowance. For then what the taxpayer
would recover will be, not only the acquisition cost, but also some
profit. Recovery in due time thru depreciation of investment made is
the philosophy behind depreciation allowance; the idea of profit on
the investment made has never been the underlying reason for the
allowance of a deduction for depreciation.
Accordingly, the claim for depreciation beyond P36,842.04 or in the
amount of P10,500.49 has no justification in the law. The
determination, therefore, of the Commissioner of Internal Revenue
disallowing said amount, affirmed by the Court of Tax Appeals, is
sustained.
B. Expenses. The next item involves disallowed expenses incurred
in 1953, broken as follows:
Miscellaneous expenses
Officer's travelling expenses
Total

P6,759.17
2,300.40
P9,059.57

These were disallowed on the ground that the nature of these

expenses could not be satisfactorily explained nor could the same be
supported by appropriate papers.
Felix Gulfin, petitioner's accountant, explained the P6,759.17 was
actual expenses credited to the account of the president of the
corporation incurred in the interest of the corporation during the
president's trip to Manila (pp. 33-34 of TSN of Dec. 5, 1962); he
stated that the P2,300.40 was the president's travelling expenses to
and from Manila as to the vouchers and receipts of these, he said the
same were made but got burned during the Basilan fire on March 30,
1962 (p. 40 of same TSN). Petitioner further argues that when it sent
its records to Manila in February, 1959, the papers in support of
these miscellaneous and travelling expenses were not included for
the reason that by February 9, 1959, when the Bureau of Internal
Revenue decided to investigate, petitioner had no more obligation to
keep the same since five years had lapsed from the time these
expenses were incurred (p. 41 of same TSN). On this ground, the

petitioner may be sustained, for under Section 337 of the Tax Code,
receipts and papers supporting such expenses need be kept by the
taxpayer for a period of five years from the last entry. At the time of
the investigation, said five years had lapsed. Taxpayer's stand on this
issue is therefore sustained.

4. Withdrawal by shareholders, of large sums of money as

personal loans.
5. Investment of undistributed earnings in assets having no
proximate connection with the business as hospital
building and equipment worth P59,794.72.

UNREASONABLY ACCUMULATED PROFITS

Section 25 of the Tax Code which imposes a surtax on profits
unreasonably accumulated, provides:
Sec. 25. Additional tax on corporations improperly
accumulating profits or surplus (a) Imposition of tax. If
any corporation, except banks, insurance companies, or
personal holding companies, whether domestic or foreign, is
formed or availed of for the purpose of preventing the
imposition of the tax upon its shareholders or members or the
shareholders or members of another corporation, through the
medium of permitting its gains and profits to accumulate
instead of being divided or distributed, there is levied and
assessed against such corporation, for each taxable year, a
tax equal to twenty-five per centum of the undistributed
portion of its accumulated profits or surplus which shall be in
addition to the tax imposed by section twenty-four, and shall
be computed, collected and paid in the same manner and
subject to the same provisions of law, including penalties, as
that tax.1awphl.nt
The Commissioner found that in violation of the abovequoted
section, petitioner had unreasonably accumulated profits as of 1953
in the amount of P347,507.01, based on the following circumstances
(Examiner's Report pp. 62-68 of BIR records):
1. Strong financial position of the petitioner as of December
31, 1953. Assets were P388,617.00 while the liabilities
amounted to only P61,117.31 or a ratio of 6:1.
2. As of 1953, the corporation had considerable capital
adequate to meet the reasonable needs of the business
amounting to P327,499.69 (assets less liabilities).
3. The P200,000 reserved for electrification of drier and
mechanization and the P50,000 reserved for malaria control
were reverted to its surplus in 1953.

6. In 1953, with an increase of surplus amounting to

P677,232.01, the capital stock was increased to P500,000
although there was no need for such increase.
Petitioner tried to show that in considering the surplus, the examiner
did not take into account the possible expenses for cultivation, labor,
fertilitation, drainage, irrigation, repair, etc. (pp. 235-237 of TSN of
Dec. 7, 1962). As aptly answered by the examiner himself, however,
they were already included as part of the working capital (pp. 237238 of TSN of Dec. 7, 1962).
In the unreasonable accumulation of P347,507.01 are included
P200,000 for electrification of driers and mechanization and P50,000
for malaria control which were reserved way back in 1948 (p. 67 of
the BIR records) but reverted to the general fund only in 1953. If
there were any plans for these amounts to be used in further
expansion through projects, it did not appear in the records as was
properly indicated in 1948 when such amounts were reserved. Thus,
while in 1948 it was already clear that the money was intended to go
to future projects, in 1953 upon reversion to the general fund, no
such intention was shown. Such reversion therefore gave occasion
for the Government to consider the same for tax purposes. The
P250,000 reverted to the general fund was sought to be explained as
later used elsewhere: "part of it in the Hilano Industries, Inc. in
building the factory site and buildings to house technical men . . .
part of it was spent in the facilities for the waterworks system and
for industrialization of the coconut industry" (p. 117 of TSN of Dec. 6,
1962). This is not sufficient explanation. Persuasive jurisprudence on
the matter such as those in the United States from where our tax law
was derived,8 has it that: "In order to determine whether profits were
accumulated for the reasonable needs of the business or to avoid the
surtax upon shareholders, the controlling intention of the taxpayer is
that which is manifested at the time of the accumulation, not
subsequently declared intentions which are merely the products of
after-thought."9 The reversion here was made because the reserved
amount was not enough for the projects intended, without any intent
to channel the same to some particular future projects in mind.

Petitioner argues that since it has P560,717.44 as its expenses for

the year 1953, a surplus of P347,507.01 is not unreasonably
accumulated. As rightly contended by the Government, there is no
need to have such a large amount at the beginning of the following
year because during the year, current assets are converted into cash
and with the income realized from the business as the year goes,
these expenses may well be taken care of (pp. 238 of TSN of Dec. 7,
1962). Thus, it is erroneous to say that the taxpayer is entitled to
retain enough liquid net assets in amounts approximately equal to
current operating needs for the year to cover "cost of goods sold and
operating expenses" for "it excludes proper consideration of funds
generated by the collection of notes receivable as trade accounts
during the course of the year."10 In fact, just because the fatal
accumulations are less than 70% of the annual operating expenses
of the year, it does not mean that the accumulations are reasonable
as a matter of law."11
Petitioner tried to show that investments were made with Basilan
Coconut Producers Cooperative Association and Basilan Hospital (pp.
103-105 of TSN of Dec. 6, 1962) totalling P59,794.72 as of December
31, 1953. This shows all the more the unreasonable accumulation. As
of December 31, 1953 already P59,794.72 was spent yet as of
that date there was still a surplus of P347,507.01.
Petitioner questions why the examiner covered the period from
1948-1953 when the taxable year on review was 1953. The surplus
of P347,507.01 was taken by the examiner from the balance sheet of
petitioner for 1953. To check the figure arrived at, the examiner
traced the accumulation process from 1947 until 1953, and
petitioner's figure stood out to be correct. There was no error in the
process applied, for previous accumulations should be considered in
determining unreasonable accumulations for the year concerned. "In
determining whether accumulations of earnings or profits in a
particular year are within the reasonable needs of a corporation, it is
neccessary to take into account prior accumulations, since
accumulations prior to the year involved may have been sufficient to
cover the business needs and additional accumulations during the
year involved would not reasonably be necessary."12
Another factor that stands out to show unreasonable accumulation is
the fact that large amounts were withdrawn by or advanced to the
stockholders. For the year 1953 alone these totalled P197,229.26.
Yet the surplus of P347,507.01 was left as of December 31, 1953. We
find unacceptable petitioner's explanation that these were advances
made in furtherance of the business purposes of the petitioner. As

correctly held by the Court of Tax Appeals, while certain expenses of

the corporation were credited against these amounts, the unspent
balance was retained by the stockholders without refunding them to
petitioner at the end of each year. These advances were in fact
indirect loans to the stockholders indicating the unreasonable
accumulation of surplus beyond the needs of the business.
ALLEGED EXEMPTION
Petitioner wishes to avail of the exempting proviso in Sec. 25 of the
Internal Revenue Code as amended by R.A. 1823, approved June 22,
1957, whereby accumulated profits or surplus if invested in any
dollar-producing or dollar-earning industry or in the purchase of
bonds issued by the Central Bank, may not be subject to the 25%
surtax. We have but to point out that the unreasonable accumulation
was in 1953. The exemption was by virtue of Republic Act 1823
which amended Sec. 25 only on June 22, 1957 more than three
years after the period covered by the assessment.
In resume, Basilan Estates, Inc. is liable for the payment of
deficiency income tax and surtax for the year 1953 in the amount of
P88,977.42, computed as follows:
Net Income per return
Add: Over-claimed
depreciation

P40,142.90

Net income per finding

P50,643.39

20% tax on P50,643.39

Less: Tax already assessed

P10,128.67
8,028.00

Deficiency income tax

Add: 25% surtax on
P347,507.01
Total tax due and collectible

10,500.49

P2,100.67
86,876.75
P88,977.42
======
=====

WHEREFORE, the judgment appealed from is modified to the extent

that petitioner is allowed its deductions for travelling and
miscellaneous expenses, but affirmed insofar as the petitioner is

liable for P2,100.67 as deficiency income tax for 1953 and

P86,876.75 as 25% surtax on the unreasonably accumulated profit of
P347,507.01. No costs. So ordered.