G.R. No.

172231 February 12, 2007

COMMISSIONER OF INTERNAL REVENUE, Petitioner,

vs.
ISABELA CULTURAL CORPORATION, Respondent.

DECISION

YNARES-SANTIAGO, J.:

Petitioner Commissioner of Internal Revenue (CIR) assails the September 30, 2005 Decision1 of the Court
of Appeals in CA-G.R. SP No. 78426 affirming the February 26, 2003 Decision 2 of the Court of Tax
Appeals (CTA) in CTA Case No. 5211, which cancelled and set aside the Assessment Notices for
deficiency income tax and expanded withholding tax issued by the Bureau of Internal Revenue (BIR)
against respondent Isabela Cultural Corporation (ICC).

The facts show that on February 23, 1990, ICC, a domestic corporation, received from the BIR Assessment
Notice No. FAS-1-86-90-000680 for deficiency income tax in the amount of P333,196.86, and Assessment
Notice No. FAS-1-86-90-000681 for deficiency expanded withholding tax in the amount of P4,897.79,
inclusive of surcharges and interest, both for the taxable year 1986.

The deficiency income tax of P333,196.86, arose from:

(1) The BIR’s disallowance of ICC’s claimed expense deductions for professional and security
services billed to and paid by ICC in 1986, to wit:

(a) Expenses for the auditing services of SGV & Co., 3 for the year ending December 31,
1985;4

(b) Expenses for the legal services [inclusive of retainer fees] of the law firm Bengzon
Zarraga Narciso Cudala Pecson Azcuna & Bengson for the years 1984 and 1985. 5

(c) Expense for security services of El Tigre Security & Investigation Agency for the
months of April and May 1986.6

(2) The alleged understatement of ICC’s interest income on the three promissory notes due from
Realty Investment, Inc.

The deficiency expanded withholding tax of P4,897.79 (inclusive of interest and surcharge) was allegedly
due to the failure of ICC to withhold 1% expanded withholding tax on its claimed P244,890.00 deduction
for security services.7

On March 23, 1990, ICC sought a reconsideration of the subject assessments. On February 9, 1995,
however, it received a final notice before seizure demanding payment of the amounts stated in the said
notices. Hence, it brought the case to the CTA which held that the petition is premature because the final
notice of assessment cannot be considered as a final decision appealable to the tax court. This was
reversed by the Court of Appeals holding that a demand letter of the BIR reiterating the payment of
deficiency tax, amounts to a final decision on the protested assessment and may therefore be questioned
before the CTA. This conclusion was sustained by this Court on July 1, 2001, in G.R. No. 135210. 8 The case
was thus remanded to the CTA for further proceedings.
On February 26, 2003, the CTA rendered a decision canceling and setting aside the assessment notices
issued against ICC. It held that the claimed deductions for professional and security services were
properly claimed by ICC in 1986 because it was only in the said year when the bills demanding payment
were sent to ICC. Hence, even if some of these professional services were rendered to ICC in 1984 or 1985,
it could not declare the same as deduction for the said years as the amount thereof could not be
determined at that time.

The CTA also held that ICC did not understate its interest income on the subject promissory notes. It
found that it was the BIR which made an overstatement of said income when it compounded the interest
income receivable by ICC from the promissory notes of Realty Investment, Inc., despite the absence of a
stipulation in the contract providing for a compounded interest; nor of a circumstance, like delay in
payment or breach of contract, that would justify the application of compounded interest.

Likewise, the CTA found that ICC in fact withheld 1% expanded withholding tax on its claimed
deduction for security services as shown by the various payment orders and confirmation receipts it
presented as evidence. The dispositive portion of the CTA’s Decision, reads:

WHEREFORE, in view of all the foregoing, Assessment Notice No. FAS-1-86-90-000680 for deficiency
income tax in the amount of P333,196.86, and Assessment Notice No. FAS-1-86-90-000681 for deficiency
expanded withholding tax in the amount of P4,897.79, inclusive of surcharges and interest, both for the
taxable year 1986, are hereby CANCELLED and SET ASIDE.

SO ORDERED.9

Petitioner filed a petition for review with the Court of Appeals, which affirmed the CTA
decision,10 holding that although the professional services (legal and auditing services) were rendered to
ICC in 1984 and 1985, the cost of the services was not yet determinable at that time, hence, it could be
considered as deductible expenses only in 1986 when ICC received the billing statements for said
services. It further ruled that ICC did not understate its interest income from the promissory notes of
Realty Investment, Inc., and that ICC properly withheld and remitted taxes on the payments for security
services for the taxable year 1986.

Hence, petitioner, through the Office of the Solicitor General, filed the instant petition contending that
since ICC is using the accrual method of accounting, the expenses for the professional services that
accrued in 1984 and 1985, should have been declared as deductions from income during the said years
and the failure of ICC to do so bars it from claiming said expenses as deduction for the taxable year 1986.
As to the alleged deficiency interest income and failure to withhold expanded withholding tax
assessment, petitioner invoked the presumption that the assessment notices issued by the BIR are valid.

The issue for resolution is whether the Court of Appeals correctly: (1) sustained the deduction of the
expenses for professional and security services from ICC’s gross income; and (2) held that ICC did not
understate its interest income from the promissory notes of Realty Investment, Inc; and that ICC withheld
the required 1% withholding tax from the deductions for security services.

The requisites for the deductibility of ordinary and necessary trade, business, or professional expenses,
like expenses paid for legal and auditing services, are: (a) the expense must be ordinary and necessary; (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.11
The requisite that it must have been paid or incurred during the taxable year is further qualified by
Section 45 of the National Internal Revenue Code (NIRC) which states that: "[t]he deduction provided for
in this Title shall be taken for the taxable year in which ‘paid or accrued’ or ‘paid or incurred’, dependent
upon the method of accounting upon the basis of which the net income is computed x x x".

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

Revenue Audit Memorandum Order No. 1-2000, provides that under the accrual method of accounting,
expenses not being claimed as deductions by a taxpayer in the current year when they are incurred
cannot be claimed as deduction from income for the succeeding year. Thus, a taxpayer who is authorized
to deduct certain expenses and other allowable deductions for the current year but failed to do so cannot
deduct the same for the next year.13

The accrual method relies upon the taxpayer’s right to receive amounts or its obligation to pay them, in
opposition to actual receipt or payment, which characterizes the cash method of accounting. Amounts of
income accrue where the right to receive them become fixed, where there is created an enforceable
liability. Similarly, liabilities are accrued when fixed and determinable in amount, without regard to
indeterminacy merely of time of payment.14

For a taxpayer using the accrual method, the determinative question is, when do the facts present
themselves in such a manner that the taxpayer must recognize income or expense? The accrual of income
and expense is permitted when the all-events test has been met. This test requires: (1) fixing of a right to
income or liability to pay; and (2) the availability of the reasonable accurate determination of such income
or liability.

The all-events test requires the right to income or liability be fixed, and the amount of such income or
liability be determined with reasonable accuracy. However, the test does not demand that the amount of
income or liability be known absolutely, only that a taxpayer has at his disposal the information
necessary to compute the amount with reasonable accuracy. The all-events test is satisfied where
computation remains uncertain, if its basis is unchangeable; the test is satisfied where a computation may
be unknown, but is not as much as unknowable, within the taxable year. The amount of liability does
not have to be determined exactly; it must be determined with "reasonable accuracy." Accordingly, the
term "reasonable accuracy" implies something less than an exact or completely accurate amount.[15]

The propriety of an accrual must be judged by the facts that a taxpayer knew, or could reasonably be
expected to have known, at the closing of its books for the taxable year.[16] Accrual method of
accounting presents largely a question of fact; such that the taxpayer bears the burden of proof of
establishing the accrual of an item of income or deduction.17

Corollarily, it is a governing principle in taxation that tax exemptions must be construed in strictissimi
juris against the taxpayer and liberally in favor of the taxing authority; and one who claims an exemption
must be able to justify the same by the clearest grant of organic or statute law. An exemption from the
common burden cannot be permitted to exist upon vague implications. And since a deduction for income
tax purposes partakes of the nature of a tax exemption, then it must also be strictly construed. 18

In the instant case, the expenses for professional fees consist of expenses for legal and auditing services.
The expenses for legal services pertain to the 1984 and 1985 legal and retainer fees of the law firm
Bengzon Zarraga Narciso Cudala Pecson Azcuna & Bengson, and for reimbursement of the expenses of
said firm in connection with ICC’s tax problems for the year 1984. As testified by the Treasurer of ICC,
the firm has been its counsel since the 1960’s.19 From the nature of the claimed deductions and the span of
time during which the firm was retained, ICC can be expected to have reasonably known the retainer fees
charged by the firm as well as the compensation for its legal services. The failure to determine the exact
amount of the expense during the taxable year when they could have been claimed as deductions cannot
thus be attributed solely to the delayed billing of these liabilities by the firm. For one, ICC, in the exercise
of due diligence could have inquired into the amount of their obligation to the firm, especially so that it is
using the accrual method of accounting. For another, it could have reasonably determined the amount of
legal and retainer fees owing to its familiarity with the rates charged by their long time legal consultant.

As previously stated, the accrual method presents largely a question of fact and that the taxpayer bears
the burden of establishing the accrual of an expense or income. However, ICC failed to discharge this
burden. As to when the firm’s performance of its services in connection with the 1984 tax problems were
completed, or whether ICC exercised reasonable diligence to inquire about the amount of its liability, or
whether it does or does not possess the information necessary to compute the amount of said liability
with reasonable accuracy, are questions of fact which ICC never established. It simply relied on the defense
of delayed billing by the firm and the company, which under the circumstances, is not sufficient to
exempt it from being charged with knowledge of the reasonable amount of the expenses for legal and
auditing services.

In the same vein, the professional fees of SGV & Co. for auditing the financial statements of ICC for the
year 1985 cannot be validly claimed as expense deductions in 1986. This is so because ICC failed to
present evidence showing that even with only "reasonable accuracy," as the standard to ascertain its
liability to SGV & Co. in the year 1985, it cannot determine the professional fees which said company
would charge for its services.

ICC thus failed to discharge the burden of proving that the claimed expense deductions for the
professional services were allowable deductions for the taxable year 1986. Hence, per Revenue Audit
Memorandum Order No. 1-2000, they cannot be validly deducted from its gross income for the said year
and were therefore properly disallowed by the BIR.

As to the expenses for security services, the records show that these expenses were incurred by ICC in
198620 and could therefore be properly claimed as deductions for the said year.

Anent the purported understatement of interest income from the promissory notes of Realty Investment,
Inc., we sustain the findings of the CTA and the Court of Appeals that no such understatement exists and
that only simple interest computation and not a compounded one should have been applied by the BIR.
There is indeed no stipulation between the latter and ICC on the application of compounded
interest.21 Under Article 1959 of the Civil Code, unless there is a stipulation to the contrary, interest due
should not further earn interest.

Likewise, the findings of the CTA and the Court of Appeals that ICC truly withheld the required
withholding tax from its claimed deductions for security services and remitted the same to the BIR is
supported by payment order and confirmation receipts.22 Hence, the Assessment Notice for deficiency
expanded withholding tax was properly cancelled and set aside.

In sum, Assessment Notice No. FAS-1-86-90-000680 in the amount of P333,196.86 for deficiency income
tax should be cancelled and set aside but only insofar as the claimed deductions of ICC for security
services. Said Assessment is valid as to the BIR’s disallowance of ICC’s expenses for professional services.
The Court of Appeal’s cancellation of Assessment Notice No. FAS-1-86-90-000681 in the amount of
P4,897.79 for deficiency expanded withholding tax, is sustained.
WHEREFORE, the petition is PARTIALLY GRANTED. The September 30, 2005 Decision of the Court of
Appeals in CA-G.R. SP No. 78426, is AFFIRMED with the MODIFICATION that Assessment Notice No.
FAS-1-86-90-000680, which disallowed the expense deduction of Isabela Cultural Corporation for
professional and security services, is declared valid only insofar as the expenses for the professional fees
of SGV & Co. and of the law firm, Bengzon Zarraga Narciso Cudala Pecson Azcuna & Bengson, are
concerned. The decision is affirmed in all other respects.

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

SO ORDERED.

[G.R. No. 143672. April 24, 2003]

COMMISSIONER OF INTERNAL REVENUE, petitioner, vs. GENERAL FOODS (PHILS.),

INC., respondent.

DECISION
CORONA, J.:

Petitioner Commissioner of Internal Revenue (Commissioner) assails the resolution [1] of the Court of
Appeals reversing the decision[2] of the Court of Tax Appeals which in turn denied the protest filed by
respondent General Foods (Phils.), Inc., regarding the assessment made against the latter for deficiency
taxes.
The records reveal that, 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 the fiscal
year ending February 28, 1985. In said tax return, respondent corporation claimed as deduction, among
other business expenses, the amount of P9,461,246 for media advertising for Tang.
On May 31, 1988, the Commissioner disallowed 50% or P4,730,623 of the deduction claimed by
respondent corporation. Consequently, respondent corporation was assessed deficiency income taxes in
the amount of P2,635, 141.42. The latter filed a motion for reconsideration but the same was denied.
On September 29, 1989, respondent corporation appealed to the Court of Tax Appeals but the appeal
was dismissed:

With such a gargantuan expense for the advertisement of a singular product, which even excludes other
advertising and promotions expenses, we are not prepared to accept that such amount is reasonable to
stimulate the current sale of merchandise regardless of Petitioners explanation that such expense does not
connote unreasonableness considering the grave economic situation taking place after the Aquino
assassination characterized by capital fight, strong deterioration of the purchasing power of the
Philippine peso and the slacking demand for consumer products (Petitioners Memorandum, CTA
Records, p. 273). We are not convinced with such an explanation. The staggering expense led us to believe
that such expenditure was incurred to create or maintain some form of good will for the taxpayers trade
or business or for the industry or profession of which the taxpayer is a member. The term good will can
hardly be said to have any precise signification; it is generally used to denote the benefit arising from
connection and reputation (Words and Phrases, Vol. 18, p. 556 citing Douhart vs. Loagan, 86 III. App.
294). As held in the case of Welch vs. Helvering, efforts to establish reputation are akin to acquisition of
capital assets and, therefore, expenses related thereto are not business expenses but capital
expenditures. (Atlas Mining and Development Corp. vs. Commissioner of Internal Revenue, supra). For
sure such expenditure was meant not only to generate present sales but more for future and prospective
benefits. Hence, abnormally large expenditures for advertising are usually to be spread over the period of
years during which the benefits of the expenditures are received (Mertens, supra, citing Colonial Ice
Cream Co., 7 BTA 154).

WHEREFORE, in all the foregoing, and finding no error in the case appealed from, we hereby RESOLVE
to DISMISS the instant petition for lack of merit and ORDER the Petitioner to pay the respondent
Commissioner the assessed amount of P2,635,141.42 representing its deficiency income tax liability for the
fiscal year ended February 28, 1985.[3]

Aggrieved, respondent corporation filed a petition for review at the Court of Appeals which
rendered a decision reversing and setting aside the decision of the Court of Tax Appeals:

Since it has not been sufficiently established that the item it claimed as a deduction is excessive, the same
should be allowed.

WHEREFORE, the petition of petitioner General Foods (Philippines), Inc. is hereby

GRANTED. Accordingly, the Decision, dated 8 February 1994 of respondent Court of Tax Appeals is
REVERSED and SET ASIDE and the letter, dated 31 May 1988 of respondent Commissioner of Internal
Revenue is CANCELLED.

SO ORDERED.[4]

Thus, the instant petition, wherein the Commissioner presents for the Courts consideration a lone
issue: whether or not the subject media advertising expense for Tang incurred by respondent corporation
was an ordinary and necessary expense fully deductible under the National Internal Revenue Code
(NIRC).
It is a governing principle in taxation that tax exemptions must be construed in strictissimi
juris against the taxpayer and liberally in favor of the taxing authority; [5] and he who claims an exemption
must be able to justify his claim by the clearest grant of organic or statute law. An exemption from the
common burden cannot be permitted to exist upon vague implications. [6]
Deductions for income tax purposes partake of the nature of tax exemptions; hence, if tax
exemptions are strictly construed, then deductions must also be strictly construed.
We then proceed to resolve the singular issue in the case at bar. Was the media advertising expense
for Tang paid or incurred by respondent corporation for the fiscal year ending February 28, 1985
necessary and ordinary, hence, fully deductible under the NIRC? Or was it a capital expenditure, paid in
order to create goodwill and reputation for respondent corporation and/or its products, which should
have been amortized over a reasonable period?
Section 34 (A) (1), formerly Section 29 (a) (1) (A), of the NIRC provides:

(A) Expenses.-

(1) Ordinary and necessary trade, business or professional expenses.-

 (a) In general.- There shall be allowed as deduction from gross income all ordinary and
necessary expenses paid or incurred during the taxable year in carrying on, or
which are directly attributable to, the development, management, operation
and/or conduct of the trade, business or exercise of a profession.

Simply put, 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.[7]
The parties are in agreement that the subject advertising expense was paid or incurred within the
corresponding taxable year and was incurred in carrying on a trade or business. Hence, it was necessary.
However, their views conflict as to whether or not it was ordinary. To be deductible, an advertising
expense should not only be necessary but also ordinary. These two requirements must be met.
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 respondents business. Otherwise, the expense must be considered a capital expenditure to be
spread out over a reasonable time.
We agree.
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.
In the case at bar, the P9,461,246 claimed as media advertising expense for Tang alone was almost
one-half of its total claim for marketing expenses. Aside from that, respondent-corporation also
claimed P2,678,328 as other advertising and promotions expense and another P1,548,614, for
consumer promotion.
Furthermore, the subject P9,461,246 media advertising expense for Tang was almost double the
amount of respondent corporations P4,640,636 general and administrative expenses.
We find 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 taxpayers 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.
We agree with the Court of Tax Appeals that the subject advertising expense was of the second
kind. Not only was the amount staggering; the respondent corporation itself also admitted, in its letter
protest[8] to the Commissioner of Internal Revenues assessment, that the subject media expense was
incurred in order to protect respondent corporations brand franchise, a critical point during the period
under review.
The protection of brand franchise is analogous to the maintenance of goodwill or title to ones
property. This is a capital expenditure which should be spread out over a reasonable period of time. [9]
Respondent corporations venture to protect its brand franchise was tantamount to efforts to
establish a reputation. This was akin to the acquisition of capital assets and therefore expenses related
thereto were not to be considered as business expenses but as capital expenditures.[10]
True, it is the taxpayers prerogative to determine the amount of advertising expenses it will incur
and where to apply them.[11] Said prerogative, however, is subject to certain considerations. The first
relates to the extent to which the expenditures are actually capital outlays; this necessitates an inquiry
into the nature or purpose of such expenditures.[12] The second, which must be applied in harmony with
the first, relates to whether the expenditures are ordinary and necessary. Concomitantly, for an expense
to be considered ordinary, it must be reasonable in amount. The Court of Tax Appeals ruled that
respondent corporation failed to meet the two foregoing limitations.
We find said ruling to be well founded. Respondent corporation incurred the subject advertising
expense in order to protect its brand franchise. We consider this as a capital outlay since it created
goodwill for its business and/or product. The P9,461,246 media advertising expense for the promotion of
a single product, almost one-half of petitioner corporations entire claim for marketing expenses for that
year under review, inclusive of other advertising and promotion expenses of P2,678,328 and P1,548,614
for consumer promotion, is doubtlessly unreasonable.
It has been a long standing policy and practice of the Court to respect the conclusions of quasi-
judicial agencies such as the Court of Tax Appeals, a highly specialized body specifically created for the
purpose of reviewing tax cases. The CTA, by the nature of its functions, is dedicated exclusively to the
study and consideration of tax problems. It has necessarily developed an expertise on the subject. We
extend due consideration to its opinion unless there is an abuse or improvident exercise of
authority.[13] Since there is none in the case at bar, the Court adheres to the findings of the CTA.
Accordingly, we find that the Court of Appeals committed reversible error when it declared the
subject media advertising expense to be deductible as an ordinary and necessary expense on the ground
that it has not been established that the item being claimed as deduction is excessive. It is not incumbent
upon the taxing authority to prove that the amount of items being claimed is unreasonable. The burden
of proof to establish the validity of claimed deductions is on the taxpayer. [14] In the present case, that
burden was not discharged satisfactorily.
WHEREFORE, premises considered, the instant petition is GRANTED. The assailed decision of the
Court of Appeals is hereby REVERSED and SET ASIDE. Pursuant to Sections 248 and 249 of the Tax
Code, respondent General Foods (Phils.), Inc. is hereby ordered to pay its deficiency income tax in the
amount of P2,635,141.42, plus 25% surcharge for late payment and 20% annual interest computed from
August 25, 1989, the date of the denial of its protest, until the same is fully paid.
SO ORDERED.
Puno, (Chairman), Panganiban, Sandoval-Gutierrez, and Carpio-Morales, JJ., concur.

G.R. No. L-29790 February 25, 1982

AGUINALDO INDUSTRIES CORPORATION (FISHING NETS DIVISIONS), petitioner,

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

This is a petition for review of the decision and resolution of the Court of Tax Appeals in CTA Case No.
1636 holding the petitioner liable for the sum of P17,123.93 as deficiency income tax for l957, plus 5%
surcharge and 1% monthly interest for late payment from December 15, 1957 until full payment is made.

As summarized by the respondent Court, the facts are:

... Aguinaldo Industries Corporation is a domestic corporation engaged in two lines of

business, namely: (a) the manufacture of fishing nets, a tax-exempt industry, and (b) the
manufacture of furniture Its business of manufacturing fishing nets is handled by its Fish
Nets Division, while the manufacture of Furniture is operated by its Furniture Division.
For accounting purposes, each division is provided with separate books of accounts as
required by the Department of Finance. Under the company's accounting method, the net
income from its Fish Nets Division, miscellaneous income of the Fish Nets Division, and
the income of the Furniture Division are computed individually

Previously, petitioner acquired a parcel of land in Muntinglupa, Rizal, as site of the

fishing net factory. This transaction was entered in the books of the Fish Nets Division of
the Company. Later, when another parcel of land in Marikina Heights was found
supposedly more suitable for the needs of petitioner, it sold the Muntinglupa property,
Petitioner 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, petitioner filed two separate income tax returns — one for its Fish Nets
Division and another for its Furniture Division. After investigation of these returns, the
examiners of the Bureau of Internal Revenue 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 petitioner. The examiner further found that this amount was taken
from the net profit of an isolated transaction (sale of aforementioned land) not in the
course of or carrying on of petitioner's trade or business. (It was reported as part of the
selling expenses of the land in Muntinglupa, Rizal, the details of said transaction being as
follows:

Selling price P432,031.00

of land

DEDUCT:

Purchase P71,120.00
price of land

Registration,
documentary
stamps

and other 191.05

expenses
 Relocation 450.00
survey

P71,761.05

ADD
SELLING
EXPENSES

Commission 51,723.72

Documentary 2,294.05
stamps

Topographic 450.00
survey

Officer's 61,187.48 186,416.30

remuneration

NET PROFIT P
244,416.70

Upon recommendation of aforesaid 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 Section 3 of its by-laws which provides as
follows:

From the net profits of the business of the Company shall be deducted
for allowance of the President — 3% for the first Vice President — 1 %,
for the second Vice President for the members of the Board of Directors
— 10% to he divided equally among themselves, for the Secretary of the
Board for the General Manager for two Assistant General Managers

In this connection, petitioner explains that to arrive at the aforesaid 20% it gets 20'7o of
the profits from the furniture business and adds (the same) to 20 of the profit of the fish
net venture. The P61,187.48 which is the basis of the assessment of P17,133.00 does not
even represent the entire 20%, allocated as allowance in Section 3 of its by-laws but only
20% of the net profit of the non-exempt operation of the Fish Nets Division, that is, 20,%,
of P305,869.89, which is the sum total of P305,802.18 representing profit from the sale of
the Muntinglupa land, P45.21 representing interest on savings accounts, and P90.00
representing dividends from investment of the Fish Nets Division. (Pages 2-5, Decision.)

Upon the submission of the case for judgment on the basis of the pleadings and BIR official records, the
respondent Court rendered the questioned decision. Subsequently, on a motion for reconsideration filed
by petitioner, the respondent Court issued a resolution dated September 30, 1968 imposing a 5%
surcharge and 1% monthly interest on the deficiency assessment.

Dissatisfied, petitioner has come to this Court on errors assigned in its brief.
Petitioner argues that the profit derived from the sale of its Muntinglupa land is not taxable for it is tax-
exempt income, considering that its Fish Nets Division enjoys tax exemption as a new and necessary
industry under Republic Act 901.

It must be stressed however that at the administrative level, the petitioner implicitly admitted that the
profit it derived from the sale of its Muntinglupa land, a capital asset, was a taxable gain — which was
precisely the reason why for tax purposes the petitioner deducted therefrom the questioned bonus to its
corporate officers as a supposed item of expense incurred for the sale of the said land, apart from the
P51,723.72 commission paid by the petitioner to the real estate agent who indeed effected the sale. The
BIR therefore had no occasion to pass upon the issue.

To allow a litigant to assume a different posture when he comes before the court and challenge the
position he had accepted at the administrative level, would be to sanction a procedure whereby the court
— which is supposed to review administrative determinations — would not review, but determine and
decide for the first time, a question not raised at the administrative forum. This cannot be permitted, for
the same reason that underlies the requirement of prior exhaustion of administrative remedies to give
administrative authorities the prior opportunity to decide controversies within its competence, and in
much the same way that, on the judicial level, issues not raised in the lower court cannot be raised for the
first time on appeal.

In the instant case, up to the time the questioned decision of the respondent Court was rendered, the
petitioner had always implicitly admitted that the disputed capital gain was taxable, although subject to
the deduction of the bonus paid to its corporate officers. It was only after the said decision had been
rendered and on a motion for reconsideration thereof, that the issue of tax exemption was raised by the
petitioner for the first time. It was thus not one of the issues raised by petitioner in his petition and
supporting memorandum in the Court of Tax Appeals.

We therefore hold that petitioner's belated claim for tax exemption was properly rejected.

The remaining issues in this appeal are: (1) whether or not the bonus given to the officers of the petitioner
upon the sale of its Muntinglupa land is an ordinary and necessary business expense deductible for
income tax purposes; and (2) whether or not petitioner is hable for surcharge and interest for late
payment.

Anent the first question, the applicable legal provision is Sec. 30 (a) (1) of the Tax Code which reads:

In computing net income there shall be allowed as deductions —

(a) Expenses:

(1) In general. 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. ...

On the basis of the foregoing standards, 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. As
stated by this Court in Alhambra Cigar and Cigarette Manufacturing Co. vs. Collector of Internal
Revenue, G.R. No. L-12026, May 29, 1959, construing Section 30 (a) (1) of the Tax Code:

. . . . whenever a controversy arises on the deductibility, for purposes of income tax, of

certain items for alleged compensation of officers of the taxpayer, two (2) questions
become material, namely: (a) Have personal services been actually rendered by said
officers? (b) In the affirmative case, what is the reasonable allowance' therefor

Then, this Court quoted with approval the appealed decision:

. . . these 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 posture 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.

We now come to the issue regarding the imposition of 5% surcharge and 1% monthly interest for late
payment of the deficiency tax on petitioner's income which was earned in 1957 and assessed on May 30,
19-08.

The applicable law is Section 51 of the Tax Code which, before its amendment by Republic Act 2343
effective June 20, 1959, reads as follows:

SEC. 51. Assessment and payment of income tax Assessment of tax. — All assessments shall be
made by the Collector of In ternal Revenue and all persons and corporations subject to
tax shall be notified of the amount for which they are respectively liable on or before the
first day of May of each successive year.

(b) Time of payment. — The total amount of tax imposed by this Title shall be paid on or
before the fifteenth day of May following the close of the calendar year, by the person
subject to tax, and, in the case of a corporation, by the president, vice- president, or other
responsible officer thereof. If the return is made on the basis of a fiscal year, the total
amount of the tax shall be paid on or before the f if teenth day of the fifth month
following the close of the fiscal year.

xxx xxx xxx

(e) Surcharge and interest in case of delinquency. — To any sum or sums due and unpaid
after the dates prescribed in subsections (b), (c) and (d) for the payment of the same,
there shall be added the sum of five per centum on the amount of tax unpaid and interest
at the rate of one per centum a month upon said tax from the time the same became due,
except from the estates of insane, deceased, or insolvent persons.
Applying the foregoing provisions, the respondent Court said:

It should be observed that, under the old Section 51 (e), the 5% surcharge and interest on
deficiency was imposed from the time the tax became due, and said interest was
imposable in case of non-payment on time, not only on the basic income tax, but also on
the deficiency tax, since the deficiency was part and parcel of the taxpayer's income tax
liability. It should further be observed that, although the Commissioner (formerly
Collector) of Internal Revenue, under the old Section 51 (a) was required to assess the tax
due, based on the taxpayer's return, and notify the taxpayer of said assessment, still,
under subsection (b) of the same old Section 51, the time prescribed for the payment of
tax was fixed, whether or not a notice of the assessment was given to the taxpayer (See
Central Azucarera Don Pedro v. Court of Tax Appeals, et al. G.R. Nos. L-23236 & 23254,
May 31, 1967).

Inasmuch as petitioner had filed its income tax return for 1957 on the fiscal year basis
ending June 30, 1957, the deficiency income tax in question should have been paid on or
before November 15, 1957-the fifteenth day of the fifth month following the close of the
fiscal year (See Sec. 51 (b), supra). It follows that petitioner is liable to the 5% surcharge
and 1% monthly interest for late payment, not from June 30, 1958, but from November
15, 1957. Consequently, the payment of surcharge and interest on deficiency being
statutory and therefore mandatory, petitioner is also hable, aside from the basic tax
above mentioned, for the 5% surcharge and 1% monthly interest for late payment of the
deficiency income tax from November 15, 1957 until paid. (CTA Resolution dated Sept.
30, 1968.)

The rule as to when interest and surcharges on delinquency tax payments become chargeable is wen
settled and the respondent Court applied it correctly. Construing the same provisions of the old Section
51 (e) and the Section 51 (d) of the Tax Code, as amended by Republic Act 2343, this Court held that the
interest and surcharges on deficiency taxes are imposable upon failure of the taxpayer to pay the tax on
the date fixed in the law for the payment thereof, which was, under the unamended Section 51 of the Tax
Code, the fifteenth day of the fifth month following the close of the fiscal year in the case of taxpayers
whose tax returns were made on the basis of fiscal years. [Commissioner of Internal Revenue vs. Connel
Bros. Co. (Phil.), 40 SCRA 416.]

The rule has to be so because a deficiency tax indicates non-payment of the correct tax, and such
deficiency exists not only from the assessment thereof but from the very time the taxpayer failed to pay
the correct amount of tax when it should have been paid (Ibid.) and the imposition thereof is mandatory
even in the absence of fraud or wilful failure to pay the tax is full.

As regards interest, the reason is —

The imposition of 1% monthly is but a just compensation to the State for the delay in
paying the tax and for the concomitant use by the taxpayer of funds that rightfully
should be in the government s hands. (U.S. vs. Goldstein, 189 F (2d) 752; Ross vs. U.S. 148
Fed. Supp. 330; U.S. vs. Joffray 97 Fed. (2d) 488.) The fact that the interest charged is
made proportionate to the period of delay constitutes the best evidence that such interest
is not penal but compensator (Castro vs. Collector of Internal Revenue, G.R. L-12174,
Dec. 28, 1662, Resolution on Motion for Reconsideration.)

As regards the prescribed 5% surcharge, this Court has had occasion to cite the reason for the strict
enforcement thereof.
 Strong reasons of policy support a strict observance of this rule. Tax laws imposing
penalties for deliquencies are clearly intended to hasten tax payments or to punish
evasion or neglect of duty in respect thereof. If delays in tax payments are to be
condoned for light reasons, the law imposing penalties for delinquencies would be
rendered nugatory, and the maintenance of the government and its multifarious
activities would be as precarious as taxpayers are wining or unwilling to pay their
obligations to the state in time. Imperatives of public welfare will not approve of this
result. (Jamora vs. Meer, 74 PhiL 22.)

WHEREFORE, the judgment under review is affirmed in toto. Costs against the petitioner.

SO ORDERED.

Teehankee (Chairman), Fernandez, Guerrero and Melencio-Herrera, JJ., concur.

Makasiar, J., took no part.

G.R. Nos. 141104 & 148763 June 8, 2007

ATLAS CONSOLIDATED MINING AND DEVELOPMENT CORPORATION, petitioner,

vs.
COMMISSIONER OF INTERNAL REVENUE, respondent.

DECISION

CHICO-NAZARIO, J.:

Before this Court are the consolidated cases involving the unsuccessful claims of herein petitioner Atlas
Consolidated Mining and Development Corporation (petitioner corporation) for the refund/credit of the
input Value Added Tax (VAT) on its purchases of capital goods and on its zero-rated sales in the taxable
quarters of the years 1990 and 1992, the denial of which by the Court of Tax Appeals (CTA), was affirmed
by the Court of Appeals.

Petitioner corporation is engaged in the business of mining, production, and sale of various mineral
products, such as gold, pyrite, and copper concentrates. It is a VAT-registered taxpayer. It was initially
issued VAT Registration No. 32-A-6-002224, dated 1 January 1988, but it had to register anew with the
appropriate revenue district office (RDO) of the Bureau of Internal Revenue (BIR) when it moved its
principal place of business, and it was re-issued VAT Registration No. 32-0-004622, dated 15 August
1990.1

G.R. No. 141104

Petitioner corporation filed with the BIR its VAT Return for the first quarter of 1992.2 It alleged that it
likewise filed with the BIR the corresponding application for the refund/credit of its input VAT on its
purchases of capital goods and on its zero-rated sales in the amount of P26,030,460.00.3 When its
application for refund/credit remained unresolved by the BIR, petitioner corporation filed on 20 April
1994 its Petition for Review with the CTA, docketed as CTA Case No. 5102. Asserting that it was a "zero-
rated VAT person," it prayed that the CTA order herein respondent Commissioner of Internal Revenue
(respondent Commissioner) to refund/credit petitioner corporation with the amount of P26,030,460.00,
representing the input VAT it had paid for the first quarter of 1992. The respondent Commissioner
opposed and sought the dismissal of the petition for review of petitioner corporation for failure to state a
cause of action. After due trial, the CTA promulgated its Decision4 on 24 November 1997 with the
following disposition –

WHEREFORE, in view of the foregoing, the instant claim for refund is hereby DENIED on the
ground of prescription, insufficiency of evidence and failure to comply with Section 230 of the
Tax Code, as amended. Accordingly, the petition at bar is hereby DISMISSED for lack of merit.

The CTA denied the motion for reconsideration of petitioner corporation in a Resolution 5 dated 15 April
1998.

When the case was elevated to the Court of Appeals as CA-G.R. SP No. 47607, the appellate court, in its
Decision,6 dated 6 July 1999, dismissed the appeal of petitioner corporation, finding no reversible error in
the CTA Decision, dated 24 November 1997. The subsequent motion for reconsideration of petitioner
corporation was also denied by the Court of Appeals in its Resolution, 7 dated 14 December 1999.

Thus, petitioner corporation comes before this Court, via a Petition for Review on Certiorari under Rule 45
of the Revised Rules of Court, assigning the following errors committed by the Court of Appeals –

THE COURT OF APPEALS ERRED IN AFFIRMING THE REQUIREMENT OF REVENUE

REGULATIONS NO. 2-88 THAT AT LEAST 70% OF THE SALES OF THE [BOARD OF
INVESTMENTS (BOI)]-REGISTERED FIRM MUST CONSIST OF EXPORTS FOR ZERO-RATING
TO APPLY.

II

THE COURT OF APPEALS ERRED IN AFFIRMING THAT PETITIONER FAILED TO SUBMIT

SUFFICIENT EVIDENCE SINCE FAILURE TO SUBMIT PHOTOCOPIES OF VAT INVOICES
AND RECEIPTS IS NOT A FATAL DEFECT.

III

THE COURT OF APPEALS ERRED IN RULING THAT THE JUDICIAL CLAIM WAS FILED
BEYOND THE PRESCRIPTIVE PERIOD SINCE THE JUDICIAL CLAIM WAS FILED WITHIN
TWO (2) YEARS FROM THE FILING OF THE VAT RETURN.

IV

THE COURT OF APPEALS ERRED IN NOT ORDERING CTA TO ALLOW THE RE-OPENING
OF THE CASE FOR PETITIONER TO PRESENT ADDITIONAL EVIDENCE. 8

G.R. No. 148763

G.R. No. 148763 involves almost the same set of facts as in G.R. No. 141104 presented above, except that it
relates to the claims of petitioner corporation for refund/credit of input VAT on its purchases of capital
goods and on its zero-rated sales made in the last three taxable quarters of 1990.
Petitioner corporation filed with the BIR its VAT Returns for the second, third, and fourth quarters of
1990, on 20 July 1990, 18 October 1990, and 20 January 1991, respectively. It submitted separate
applications to the BIR for the refund/credit of the input VAT paid on its purchases of capital goods and
on its zero-rated sales, the details of which are presented as follows –

Date of Application Period Covered Amount Applied For

21 August 1990 2nd Quarter, 1990 P 54,014,722.04

21 November 1990 3rd Quarter, 1990 75,304,774.77

19 February 1991 4th Quarter, 1990 43,829,766.10

When the BIR failed to act on its applications for refund/credit, petitioner corporation filed with the CTA
the following petitions for review –

Date Filed Period Covered CTA Case No.

20 July 1992 2nd Quarter, 1990 4831

9 October 1992 3rd Quarter, 1990 4859

14 January 1993 4th Quarter, 1990 4944

which were eventually consolidated. The respondent Commissioner contested the foregoing Petitions
and prayed for the dismissal thereof. The CTA ruled in favor of respondent Commissioner and in its
Decision,9 dated 30 October 1997, dismissed the Petitions mainly on the ground that the prescriptive
periods for filing the same had expired. In a Resolution, 10 dated 15 January 1998, the CTA denied the
motion for reconsideration of petitioner corporation since the latter presented no new matter not already
discussed in the court's prior Decision. In the same Resolution, the CTA also denied the alternative prayer
of petitioner corporation for a new trial since it did not fall under any of the grounds cited under Section
1, Rule 37 of the Revised Rules of Court, and it was not supported by affidavits of merits required by
Section 2 of the same Rule.

Petitioner corporation appealed its case to the Court of Appeals, where it was docketed as CA-G.R. SP
No. 46718. On 15 September 2000, the Court of Appeals rendered its Decision, 11 finding that although
petitioner corporation timely filed its Petitions for Review with the CTA, it still failed to substantiate its
claims for the refund/credit of its input VAT for the last three quarters of 1990. In its Resolution, 12 dated
27 June 2001, the appellate court denied the motion for reconsideration of petitioner corporation, finding
no cogent reason to reverse its previous Decision.

Aggrieved, petitioner corporation filed with this Court another Petition for Review on Certiorari under
Rule 45 of the Revised Rules of Court, docketed as G.R. No. 148763, raising the following issues –

A.

WHETHER OR NOT THE COURT OF APPEALS ERRED IN HOLDING THAT PETITIONER'S

CLAIM IS BARRED UNDER REVENUE REGULATIONS NOS. 2-88 AND 3-88 I.E., FOR
 FAILURE TO PTOVE [sic] THE 70% THRESHOLD FOR ZERO-RATING TO APPLY AND FOR
FAILURE TO ESTABLISH THE FACTUAL BASIS FOR THE INSTANT CLAIM.

B.

WHETHER OR NOT THE COURT OF APPEALS ERRED IN FINDING THAT THERE IS NO

BASIS TO GRANT PETITIONER'S MOTION FOR NEW TRIAL.

There being similarity of parties, subject matter, and issues, G.R. Nos. 141104 and 148763 were
consolidated pursuant to a Resolution, dated 4 September 2006, issued by this Court. The ruling of this
Court in these cases hinges on how it will resolve the following key issues: (1) prescription of the claims
of petitioner corporation for input VAT refund/credit; (2) validity and applicability of Revenue
Regulations No. 2-88 imposing upon petitioner corporation, as a requirement for the VAT zero-rating of
its sales, the burden of proving that the buyer companies were not just BOI-registered but also exporting
70% of their total annual production; (3) sufficiency of evidence presented by petitioner corporation to
establish that it is indeed entitled to input VAT refund/credit; and (4) legal ground for granting the
motion of petitioner corporation for re-opening of its cases or holding of new trial before the CTA so it
could be given the opportunity to present the required evidence.

Prescription

The prescriptive period for filing an application for tax refund/credit of input VAT on zero-rated sales
made in 1990 and 1992 was governed by Section 106(b) and (c) of the Tax Code of 1977, as amended,
which provided that –

SEC. 106. Refunds or tax credits of input tax. – x x x.

(b) Zero-rated or effectively zero-rated sales. – Any person, except those covered by paragraph (a)
above, whose sales are zero-rated may, within two years after the close of the quarter when such
sales were made, apply for the issuance of a tax credit certificate or refund of the input taxes
attributable to such sales to the extent that such input tax has not been applied against output tax.

xxxx

(e) Period within which refund of input taxes may be made by the Commissioner. – The Commissioner
shall refund input taxes within 60 days from the date the application for refund was filed with
him or his duly authorized representative. No refund of input taxes shall be allowed unless the
VAT-registered person files an application for refund within the period prescribed in paragraphs
(a), (b) and (c) as the case may be.

By a plain reading of the foregoing provision, the two-year prescriptive period for filing the application
for refund/credit of input VAT on zero-rated sales shall be determined from the close of the quarter
when such sales were made.

Petitioner contends, however, that the said two-year prescriptive period should be counted, not from the
close of the quarter when the zero-rated sales were made, but from the date of filing of the quarterly VAT
return and payment of the tax due 20 days thereafter, in accordance with Section 110(b) of the Tax Code
of 1977, as amended, quoted as follows –

SEC. 110. Return and payment of value-added tax. – x x x.

 (b) Time for filing of return and payment of tax. – The return shall be filed and the tax paid within 20
days following the end of each quarter specifically prescribed for a VAT-registered person under
regulations to be promulgated by the Secretary of Finance: Provided, however, That any person
whose registration is cancelled in accordance with paragraph (e) of Section 107 shall file a return
within 20 days from the cancellation of such registration.

It is already well-settled that the two-year prescriptive period for instituting a suit or proceeding for
recovery of corporate income tax erroneously or illegally paid under Section 230 13 of the Tax Code of
1977, as amended, was to be counted from the filing of the final adjustment return. This Court already set
out in ACCRA Investments Corporation v. Court of Appeals,14 the rationale for such a rule, thus –

Clearly, there is the need to file a return first before a claim for refund can prosper inasmuch as
the respondent Commissioner by his own rules and regulations mandates that the corporate
taxpayer opting to ask for a refund must show in its final adjustment return the income it
received from all sources and the amount of withholding taxes remitted by its withholding
agents to the Bureau of Internal Revenue. The petitioner corporation filed its final adjustment
return for its 1981 taxable year on April 15, 1982. In our Resolution dated April 10, 1989 in the
case of Commissioner of Internal Revenue v. Asia Australia Express, Ltd. (G.R. No. 85956), we ruled
that the two-year prescriptive period within which to claim a refund commences to run, at the
earliest, on the date of the filing of the adjusted final tax return. Hence, the petitioner corporation
had until April 15, 1984 within which to file its claim for refund.

Considering that ACCRAIN filed its claim for refund as early as December 29, 1983 with the
respondent Commissioner who failed to take any action thereon and considering further that the
non-resolution of its claim for refund with the said Commissioner prompted ACCRAIN to
reiterate its claim before the Court of Tax Appeals through a petition for review on April 13, 1984,
the respondent appellate court manifestly committed a reversible error in affirming the holding
of the tax court that ACCRAIN's claim for refund was barred by prescription.

It bears emphasis at this point that the rationale in computing the two-year prescriptive period
with respect to the petitioner corporation's claim for refund from the time it filed its final
adjustment return is the fact that it was only then that ACCRAIN could ascertain whether it
made profits or incurred losses in its business operations. The "date of payment", therefore, in
ACCRAIN's case was when its tax liability, if any, fell due upon its filing of its final adjustment
return on April 15, 1982.

In another case, Commissioner of Internal Revenue v. TMX Sales, Inc.,15 this Court further expounded on the
same matter –

A re-examination of the aforesaid minute resolution of the Court in the Pacific Procon case is
warranted under the circumstances to lay down a categorical pronouncement on the question as
to when the two-year prescriptive period in cases of quarterly corporate income tax commences
to run. A full-blown decision in this regard is rendered more imperative in the light of the
reversal by the Court of Tax Appeals in the instant case of its previous ruling in the Pacific
Procon case.

Section 292 (now Section 230) of the National Internal Revenue Code should be interpreted in
relation to the other provisions of the Tax Code in order to give effect the legislative intent and to
avoid an application of the law which may lead to inconvenience and absurdity. In the case
of People vs. Rivera (59 Phil. 236 [1933]), this Court stated that statutes should receive a sensible
construction, such as will give effect to the legislative intention and so as to avoid an unjust or an
 absurd conclusion. INTERPRETATIO TALIS IN AMBIGUIS SEMPER FRIENDA EST, UT
EVITATUR INCONVENIENS ET ABSURDUM. Where there is ambiguity, such interpretation as
will avoid inconvenience and absurdity is to be adopted. Furthermore, courts must give effect to
the general legislative intent that can be discovered from or is unraveled by the four corners of
the statute, and in order to discover said intent, the whole statute, and not only a particular
provision thereof, should be considered. (Manila Lodge No. 761, et al. vs. Court of Appeals, et al. 73
SCRA 162 [1976) Every section, provision or clause of the statute must be expounded by reference
to each other in order to arrive at the effect contemplated by the legislature. The intention of the
legislator must be ascertained from the whole text of the law and every part of the act is to be
taken into view. (Chartered Bank vs. Imperial, 48 Phil. 931 [1921]; Lopez vs. El Hoger Filipino, 47 Phil.
249, cited in Aboitiz Shipping Corporation vs. City of Cebu, 13 SCRA 449 [1965]).

Thus, in resolving the instant case, it is necessary that we consider not only Section 292 (now
Section 230) of the National Internal Revenue Code but also the other provisions of the Tax Code,
particularly Sections 84, 85 (now both incorporated as Section 68), Section 86 (now Section 70)
and Section 87 (now Section 69) on Quarterly Corporate Income Tax Payment and Section 321
(now Section 232) on keeping of books of accounts. All these provisions of the Tax Code should
be harmonized with each other.

xxxx

Therefore, the filing of a quarterly income tax returns required in Section 85 (now Section 68) and
implemented per BIR Form 1702-Q and payment of quarterly income tax should only be
considered mere installments of the annual tax due. These quarterly tax payments which are
computed based on the cumulative figures of gross receipts and deductions in order to arrive at a
net taxable income, should be treated as advances or portions of the annual income tax due, to be
adjusted at the end of the calendar or fiscal year. This is reinforced by Section 87 (now Section 69)
which provides for the filing of adjustment returns and final payment of income tax.
Consequently, the two-year prescriptive period provided in Section 292 (now Section 230) of the
Tax Code should be computed from the time of filing the Adjustment Return or Annual Income
Tax Return and final payment of income tax.

In the case of Collector of Internal Revenue vs. Antonio Prieto (2 SCRA 1007 [1961]), this Court held
that when a tax is paid in installments, the prescriptive period of two years provided in Section
306 (Section 292) of the National Internal Revenue Code should be counted from the date of the
final payment. This ruling is reiterated in Commissioner of Internal Revenue vs. Carlos Palanca (18
SCRA 496 [1966]), wherein this Court stated that where the tax account was paid on installment,
the computation of the two-year prescriptive period under Section 306 (Section 292) of the Tax
Code, should be from the date of the last installment.

In the instant case, TMX Sales, Inc. filed a suit for a refund on March 14, 1984. Since the two-year
prescriptive period should be counted from the filing of the Adjustment Return on April 15,1982,
TMX Sales, Inc. is not yet barred by prescription.

The very same reasons set forth in the afore-cited cases concerning the two-year prescriptive period for
claims for refund of illegally or erroneously collected income tax may also apply to the Petitions at bar
involving the same prescriptive period for claims for refund/credit of input VAT on zero-rated sales.

It is true that unlike corporate income tax, which is reported and paid on installment every quarter, but is
eventually subjected to a final adjustment at the end of the taxable year, VAT is computed and paid on a
purely quarterly basis without need for a final adjustment at the end of the taxable year. However, it is
also equally true that until and unless the VAT-registered taxpayer prepares and submits to the BIR its
quarterly VAT return, there is no way of knowing with certainty just how much input VAT 16 the taxpayer
may apply against its output VAT;17 how much output VAT it is due to pay for the quarter or how much
excess input VAT it may carry-over to the following quarter; or how much of its input VAT it may claim
as refund/credit. It should be recalled that not only may a VAT-registered taxpayer directly apply against
his output VAT due the input VAT it had paid on its importation or local purchases of goods and services
during the quarter; the taxpayer is also given the option to either (1) carry over any excess input VAT to
the succeeding quarters for application against its future output VAT liabilities, or (2) file an application
for refund or issuance of a tax credit certificate covering the amount of such input VAT. 18 Hence, even in
the absence of a final adjustment return, the determination of any output VAT payable necessarily
requires that the VAT-registered taxpayer make adjustments in its VAT return every quarter, taking into
consideration the input VAT which are creditable for the present quarter or had been carried over from
the previous quarters.

Moreover, when claiming refund/credit, the VAT-registered taxpayer must be able to establish that it
does have refundable or creditable input VAT, and the same has not been applied against its output VAT
liabilities – information which are supposed to be reflected in the taxpayer's VAT returns. Thus, an
application for refund/credit must be accompanied by copies of the taxpayer's VAT return/s for the
taxable quarter/s concerned.

Lastly, although the taxpayer's refundable or creditable input VAT may not be considered as illegally or
erroneously collected, its refund/credit is a privilege extended to qualified and registered taxpayers by
the very VAT system adopted by the Legislature. Such input VAT, the same as any illegally or
erroneously collected national internal revenue tax, consists of monetary amounts which are currently in
the hands of the government but must rightfully be returned to the taxpayer. Therefore, whether claiming
refund/credit of illegally or erroneously collected national internal revenue tax, or input VAT, the
taxpayer must be given equal opportunity for filing and pursuing its claim.

For the foregoing reasons, it is more practical and reasonable to count the two-year prescriptive period
for filing a claim for refund/credit of input VAT on zero-rated sales from the date of filing of the return
and payment of the tax due which, according to the law then existing, should be made within 20 days
from the end of each quarter. Having established thus, the relevant dates in the instant cases are
summarized and reproduced below –

Period Covered Date of Date of Date of Filing (Case

Filing (Return w/ Filing (Application w/ w/ CTA)
BIR) BIR)

2nd Quarter, 1990 20 July 1990 21 August 1990 20 July 1992

3rd Quarter, 1990 18 October 1990 21 November 1990 9 October 1992

4th Quarter, 1990 20 January 1991 19 February 1991 14 January 1993

1st Quarter, 1992 20 April 1992 -- 20 April 1994

The above table readily shows that the administrative and judicial claims of petitioner corporation for
refund of its input VAT on its zero-rated sales for the last three quarters of 1990 were all filed within the
prescriptive period.
However, the same cannot be said for the claim of petitioner corporation for refund of its input VAT on
its zero-rated sales for the first quarter of 1992. Even though it may seem that petitioner corporation filed
in time its judicial claim with the CTA, there is no showing that it had previously filed an administrative
claim with the BIR. Section 106(e) of the Tax Code of 1977, as amended, explicitly provided that no refund
of input VAT shall be allowed unless the VAT-registered taxpayer filed an application for refund with
respondent Commissioner within the two-year prescriptive period. The application of petitioner
corporation for refund/credit of its input VAT for the first quarter of 1992 was not only unsigned by its
supposed authorized representative, Ma. Paz R. Semilla, Manager-Finance and Treasury, but it was not
dated, stamped, and initialed by the BIR official who purportedly received the same. The CTA, in its
Decision,19 dated 24 November 1997, in CTA Case No. 5102, made the following observations –

This Court, likewise, rejects any probative value of the Application for Tax Credit/Refund of
VAT Paid (BIR Form No. 2552) [Exhibit "B'] formally offered in evidence by the petitioner on
account of the fact that it does not bear the BIR stamp showing the date when such application
was filed together with the signature or initial of the receiving officer of respondent's Bureau.
Worse still, it does not show the date of application and the signature of a certain Ma. Paz R.
Semilla indicated in the form who appears to be petitioner's authorized filer.

A review of the records reveal that the original of the aforecited application was lost during the
time petitioner transferred its office (TSN, p. 6, Hearing of December 9, 1994). Attempt was made
to prove that petitioner exerted efforts to recover the original copy, but to no avail. Despite this,
however, We observe that petitioner completely failed to establish the missing dates and
signatures abovementioned. On this score, said application has no probative value in
demonstrating the fact of its filing within two years after the [filing of the VAT return for the
quarter] when petitioner's sales of goods were made as prescribed under Section 106(b) of the Tax
Code. We believe thus that petitioner failed to file an application for refund in due form and
within the legal period set by law at the administrative level. Hence, the case at bar has failed to
satisfy the requirement on the prior filing of an application for refund with the respondent before
the commencement of a judicial claim for refund, as prescribed under Section 230 of the Tax
Code. This fact constitutes another one of the many reasons for not granting petitioner's judicial
claim.

As pointed out by the CTA, in serious doubt is not only the fact of whether petitioner corporation timely
filed its administrative claim for refund of its input VAT for the first quarter of 1992, but also whether
petitioner corporation actually filed such administrative claim in the first place. For failing to prove that it
had earlier filed with the BIR an application for refund/credit of its input VAT for the first quarter of
1992, within the period prescribed by law, then the case instituted by petitioner corporation with the CTA
for the refund/credit of the very same tax cannot prosper.

Revenue Regulations No. 2-88 and the 70% export requirement

Under Section 100(a) of the Tax Code of 1977, as amended, a 10% VAT was imposed on the gross selling
price or gross value in money of goods sold, bartered or exchanged. Yet, the same provision subjected the
following sales made by VAT-registered persons to 0% VAT –

(1) Export sales; and

(2) Sales to persons or entities whose exemption under special laws or international agreements
to which the Philippines is a signatory effectively subjects such sales to zero-rate.
 "Export Sales" means the sale and shipment or exportation of goods from the Philippines to a
foreign country, irrespective of any shipping arrangement that may be agreed upon which may
influence or determine the transfer of ownership of the goods so exported, or foreign currency
denominated sales. "Foreign currency denominated sales", means sales to nonresidents of goods
assembled or manufactured in the Philippines, for delivery to residents in the Philippines and
paid for in convertible foreign currency remitted through the banking system in the Philippines.

These are termed zero-rated sales. A zero-rated sale is still considered a taxable transaction for VAT
purposes, although the VAT rate applied is 0%. A sale by a VAT-registered taxpayer of goods and/or
services taxed at 0% shall not result in any output VAT, while the input VAT on its purchases of goods or
services related to such zero-rated sale shall be available as tax credit or refund. 20

Petitioner corporation questions the validity of Revenue Regulations No. 2-88 averring that the said
regulations imposed additional requirements, not found in the law itself, for the zero-rating of its sales to
Philippine Smelting and Refining Corporation (PASAR) and Philippine Phosphate, Inc. (PHILPHOS),
both of which are registered not only with the BOI, but also with the then Export Processing Zone
Authority (EPZA).21

The contentious provisions of Revenue Regulations No. 2-88 read –

SEC. 2. Zero-rating. – (a) Sales of raw materials to BOI-registered exporters. – Sales of raw
materials to export-oriented BOI-registered enterprises whose export sales, under rules and
regulations of the Board of Investments, exceed seventy percent (70%) of total annual production,
shall be subject to zero-rate under the following conditions:

"(1) The seller shall file an application with the BIR, ATTN.: Division, applying for zero-
rating for each and every separate buyer, in accordance with Section 8(d) of Revenue
Regulations No. 5-87. The application should be accompanied with a favorable
recommendation from the Board of Investments."

"(2) The raw materials sold are to be used exclusively by the buyer in the manufacture,
processing or repacking of his own registered export product;

"(3) The words "Zero-Rated Sales" shall be prominently indicated in the sales invoice. The
exporter (buyer) can no longer claim from the Bureau of Internal Revenue or any other
government office tax credits on their zero-rated purchases;

(b) Sales of raw materials to foreign buyer. – Sales of raw materials to a nonresident foreign buyer
for delivery to a resident local export-oriented BOI-registered enterprise to be used in
manufacturing, processing or repacking of the said buyer's goods and paid for in foreign
currency, inwardly remitted in accordance with Central Bank rules and regulations shall be
subject to zero-rate.

It is the position of the respondent Commissioner, affirmed by the CTA and the Court of Appeals, that
Section 2 of Revenue Regulations No. 2-88 should be applied in the cases at bar; and to be entitled to the
zero-rating of its sales to PASAR and PHILPHOS, petitioner corporation, as a VAT-registered seller, must
be able to prove not only that PASAR and PHILPHOS are BOI-registered corporations, but also that more
than 70% of the total annual production of these corporations are actually exported. Revenue Regulations
No. 2-88 merely echoed the requirement imposed by the BOI on export-oriented corporations registered
with it.
While this Court is not prepared to strike down the validity of Revenue Regulations No. 2-88, it finds that
its application must be limited and placed in the proper context. Note that Section 2 of Revenue
Regulations No. 2-88 referred only to the zero-rated sales of raw materials to export-oriented BOI-
registered enterprises whose export sales, under BOI rules and regulations, should exceed seventy
percent (70%) of their total annual production.

Section 2 of Revenue Regulations No. 2-88, should not have been applied to the zero-rating of the sales
made by petitioner corporation to PASAR and PHILPHOS. At the onset, it must be emphasized that
PASAR and PHILPHOS, in addition to being registered with the BOI, were also registered with the EPZA
and located within an export-processing zone. Petitioner corporation does not claim that its sales to
PASAR and PHILPHOS are zero-rated on the basis that said sales were made to export-oriented BOI-
registered corporations, but rather, on the basis that the sales were made to EPZA-registered enterprises
operating within export processing zones. Although sales to export-oriented BOI-registered enterprises
and sales to EPZA-registered enterprises located within export processing zones were both deemed
export sales, which, under Section 100(a) of the Tax Code of 1977, as amended, shall be subject to 0% VAT
distinction must be made between these two types of sales because each may have different
substantiation requirements.

The Tax Code of 1977, as amended, gave a limited definition of export sales, to wit: "The sale and
shipment or exportation of goods from the Philippines to a foreign country, irrespective of any shipping
arrangement that may be agreed upon which may influence or determine the transfer of ownership of the
goods so exported, or foreign currency denominated sales." Executive Order No. 226, otherwise known as
the Omnibus Investments Code of 1987 - which, in the years concerned (i.e., 1990 and 1992), governed
enterprises registered with both the BOI and EPZA, provided a more comprehensive definition of export
sales, as quoted below:

"ART. 23. "Export sales" shall mean the Philippine port F.O.B. value, determined from invoices,
bills of lading, inward letters of credit, landing certificates, and other commercial documents, of
export products exported directly by a registered export producer or the net selling price of
export product sold by a registered export producer or to an export trader that subsequently
exports the same: Provided, That sales of export products to another producer or to an export
trader shall only be deemed export sales when actually exported by the latter, as evidenced by
landing certificates of similar commercial documents: Provided, further, That without actual
exportation the following shall be considered constructively exported for purposes of this
provision: (1) sales to bonded manufacturing warehouses of export-oriented manufacturers;
(2) sales to export processing zones; (3) sales to registered export traders operating bonded
trading warehouses supplying raw materials used in the manufacture of export products under
guidelines to be set by the Board in consultation with the Bureau of Internal Revenue and the
Bureau of Customs; (4) sales to foreign military bases, diplomatic missions and other agencies
and/or instrumentalities granted tax immunities, of locally manufactured, assembled or
repacked products whether paid for in foreign currency or not: Provided, further, That export
sales of registered export trader may include commission income; and Provided, finally, That
exportation of goods on consignment shall not be deemed export sales until the export products
consigned are in fact sold by the consignee.

Sales of locally manufactured or assembled goods for household and personal use to Filipinos
abroad and other non-residents of the Philippines as well as returning Overseas Filipinos under
the Internal Export Program of the government and paid for in convertible foreign currency
inwardly remitted through the Philippine banking systems shall also be considered export sales.
(Underscoring ours.)
The afore-cited provision of the Omnibus Investments Code of 1987 recognizes as export sales the sales of
export products to another producer or to an export trader, provided that the export products are
actually exported. For purposes of VAT zero-rating, such producer or export trader must be registered
with the BOI and is required to actually export more than 70% of its annual production.

Without actual exportation, Article 23 of the Omnibus Investments Code of 1987 also considers
constructive exportation as export sales. Among other types of constructive exportation specifically
identified by the said provision are sales to export processing zones. Sales to export processing zones are
subjected to special tax treatment. Article 77 of the same Code establishes the tax treatment of goods or
merchandise brought into the export processing zones. Of particular relevance herein is paragraph 2,
which provides that "Merchandise purchased by a registered zone enterprise from the customs territory
and subsequently brought into the zone, shall be considered as export sales and the exporter thereof shall
be entitled to the benefits allowed by law for such transaction."

Such tax treatment of goods brought into the export processing zones are only consistent with the
Destination Principle and Cross Border Doctrine to which the Philippine VAT system adheres. According
to the Destination Principle,22 goods and services are taxed only in the country where these are
consumed. In connection with the said principle, the Cross Border Doctrine 23 mandates that no VAT shall
be imposed to form part of the cost of the goods destined for consumption outside the territorial border
of the taxing authority. Hence, actual export of goods and services from the Philippines to a foreign
country must be free of VAT, while those destined for use or consumption within the Philippines shall be
imposed with 10% VAT.24 Export processing zones25 are to be managed as a separate customs territory
from the rest of the Philippines and, thus, for tax purposes, are effectively considered as foreign territory.
For this reason, sales by persons from the Philippine customs territory to those inside the export
processing zones are already taxed as exports.

Plainly, sales to enterprises operating within the export processing zones are export sales, which, under
the Tax Code of 1977, as amended, were subject to 0% VAT. It is on this ground that petitioner
corporation is claiming refund/credit of the input VAT on its zero-rated sales to PASAR and PHILPHOS.

The distinction made by this Court in the preceding paragraphs between the zero-rated sales to export-
oriented BOI-registered enterprises and zero-rated sales to EPZA-registered enterprises operating within
export processing zones is actually supported by subsequent development in tax laws and regulations. In
Revenue Regulations No. 7-95, the Consolidated VAT Regulations, as amended,26 the BIR defined with
more precision what are zero-rated export sales –

(1) The sale and actual shipment of goods from the Philippines to a foreign country, irrespective
of any shipping arrangement that may be agreed upon which may influence or determine the
transfer of ownership of the goods so exported paid for in acceptable foreign currency or its
equivalent in goods or services, and accounted for in accordance with the rules and regulations of
the Bangko Sentral ng Pilipinas (BSP);

(2) The sale of raw materials or packaging materials to a non-resident buyer for delivery to a
resident local export-oriented enterprise to be used in manufacturing, processing, packing or
repacking in the Philippines of the said buyer's goods and paid for in acceptable foreign currency
and accounted for in accordance with the rules and regulations of the Bangko Sentral ng
Pilipinas (BSP);

(3) The sale of raw materials or packaging materials to an export-oriented enterprise whose
export sales exceed seventy percent (70%) of total annual production;
 Any enterprise whose export sales exceed 70% of the total annual production of the preceding
taxable year shall be considered an export-oriented enterprise upon accreditation as such under
the provisions of the Export Development Act (R.A. 7844) and its implementing rules and
regulations;

(4) Sale of gold to the Bangko Sentral ng Pilipinas (BSP); and

(5) Those considered export sales under Articles 23 and 77 of Executive Order No. 226, otherwise
known as the Omnibus Investments Code of 1987, and other special laws, e.g. Republic Act No.
7227, otherwise known as the Bases Conversion and Development Act of 1992.

The Tax Code of 1997, as amended,27 later adopted the foregoing definition of export sales, which are
subject to 0% VAT.

This Court then reiterates its conclusion that Section 2 of Revenue Regulations No. 2-88, which applied to
zero-rated export sales to export-oriented BOI-registered enterprises, should not be applied to the
applications for refund/credit of input VAT filed by petitioner corporation since it based its applications
on the zero-rating of export sales to enterprises registered with the EPZA and located within export
processing zones.

Sufficiency of evidence

There can be no dispute that the taxpayer-claimant has the burden of proving the legal and factual bases
of its claim for tax credit or refund, but once it has submitted all the required documents, it is the function
of the BIR to assess these documents with purposeful dispatch. 28 It therefore falls upon herein petitioner
corporation to first establish that its sales qualify for VAT zero-rating under the existing laws (legal basis),
and then to present sufficient evidence that said sales were actually made and resulted in refundable or
creditable input VAT in the amount being claimed (factual basis).

It would initially appear that the applications for refund/credit filed by petitioner corporation cover only
input VAT on its purportedly zero-rated sales to PASAR and PHILPHOS; however, a more thorough
perusal of its applications, VAT returns, pleadings, and other records of these cases would reveal that it is
also claiming refund/credit of its input VAT on purchases of capital goods and sales of gold to the
Central Bank of the Philippines (CBP).

This Court finds that the claims for refund/credit of input VAT of petitioner corporation have sufficient
legal bases.

As has been extensively discussed herein, Section 106(b)(2), in relation to Section 100(a)(2) of the Tax
Code of 1977, as amended, allowed the refund/credit of input VAT on export sales to enterprises
operating within export processing zones and registered with the EPZA, since such export sales were
deemed to be effectively zero-rated sales.29 The fact that PASAR and PHILPHOS, to whom petitioner
corporation sold its products, were operating inside an export processing zone and duly registered with
EPZA, was never raised as an issue herein. Moreover, the same fact was already judicially recognized in
the case Atlas Consolidated Mining & Development Corporation v. Commissioner of Internal Revenue. 30 Section
106(c) of the same Code likewise permitted a VAT-registered taxpayer to apply for refund/credit of the
input VAT paid on capital goods imported or locally purchased to the extent that such input VAT has not
been applied against its output VAT. Meanwhile, the effective zero-rating of sales of gold to the CBP from
1989 to 199131 was already affirmed by this Court in Commissioner of Internal Revenue v. Benguet
Corporation,32 wherein it ruled that –
 At the time when the subject transactions were consummated, the prevailing BIR regulations
relied upon by respondent ordained that gold sales to the Central Bank were zero-rated. The BIR
interpreted Sec. 100 of the NIRC in relation to Sec. 2 of E.O. No. 581 s. 1980 which prescribed that
gold sold to the Central Bank shall be considered export and therefore shall be subject to the
export and premium duties. In coming out with this interpretation, the BIR also considered Sec.
169 of Central Bank Circular No. 960 which states that all sales of gold to the Central Bank are
considered constructive exports. x x x.

This Court now comes to the question of whether petitioner corporation has sufficiently established the
factual bases for its applications for refund/credit of input VAT. It is in this regard that petitioner
corporation has failed, both in the administrative and judicial level.

Applications for refund/credit of input VAT with the BIR must comply with the appropriate revenue
regulations. As this Court has already ruled, Revenue Regulations No. 2-88 is not relevant to the
applications for refund/credit of input VAT filed by petitioner corporation; nonetheless, the said
applications must have been in accordance with Revenue Regulations No. 3-88, amending Section 16 of
Revenue Regulations No. 5-87, which provided as follows –

SECTION 16. Refunds or tax credits of input tax. –

xxxx

(c) Claims for tax credits/refunds. – Application for Tax Credit/Refund of Value-Added Tax Paid
(BIR Form No. 2552) shall be filed with the Revenue District Office of the city or municipality
where the principal place of business of the applicant is located or directly with the
Commissioner, Attention: VAT Division.

A photocopy of the purchase invoice or receipt evidencing the value added tax paid shall be
submitted together with the application. The original copy of the said invoice/receipt, however,
shall be presented for cancellation prior to the issuance of the Tax Credit Certificate or refund. In
addition, the following documents shall be attached whenever applicable:

xxxx

"3. Effectively zero-rated sale of goods and services.

"i) photo copy of approved application for zero-rate if filing for the first time.

"ii) sales invoice or receipt showing name of the person or entity to whom the
sale of goods or services were delivered, date of delivery, amount of
consideration, and description of goods or services delivered.

"iii) evidence of actual receipt of goods or services.

"4. Purchase of capital goods.

"i) original copy of invoice or receipt showing the date of purchase, purchase
price, amount of value-added tax paid and description of the capital equipment
locally purchased.
 "ii) with respect to capital equipment imported, the photo copy of import entry
document for internal revenue tax purposes and the confirmation receipt issued
by the Bureau of Customs for the payment of the value-added tax.

"5. In applicable cases,

where the applicant's zero-rated transactions are regulated by certain government agencies, a
statement therefrom showing the amount and description of sale of goods and services, name of
persons or entities (except in case of exports) to whom the goods or services were sold, and date
of transaction shall also be submitted.

In all cases, the amount of refund or tax credit that may be granted shall be limited to the amount
of the value-added tax (VAT) paid directly and entirely attributable to the zero-rated transaction
during the period covered by the application for credit or refund.

Where the applicant is engaged in zero-rated and other taxable and exempt sales of goods and
services, and the VAT paid (inputs) on purchases of goods and services cannot be directly
attributed to any of the aforementioned transactions, the following formula shall be used to
determine the creditable or refundable input tax for zero-rated sale:

Amount of Zero-rated Sale

Total Sales

X
Total Amount of Input Taxes
=
Amount Creditable/Refundable

In case the application for refund/credit of input VAT was denied or remained unacted upon by the BIR,
and before the lapse of the two-year prescriptive period, the taxpayer-applicant may already file a
Petition for Review before the CTA. If the taxpayer's claim is supported by voluminous documents, such
as receipts, invoices, vouchers or long accounts, their presentation before the CTA shall be governed by
CTA Circular No. 1-95, as amended, reproduced in full below –

In the interest of speedy administration of justice, the Court hereby promulgates the following
rules governing the presentation of voluminous documents and/or long accounts, such as
receipts, invoices and vouchers, as evidence to establish certain facts pursuant to Section 3(c),
Rule 130 of the Rules of Court and the doctrine enunciated in Compania Maritima vs. Allied Free
Workers Union (77 SCRA 24), as well as Section 8 of Republic Act No. 1125:

1. The party who desires to introduce as evidence such voluminous documents must, after
motion and approval by the Court, present:

(a) a Summary containing, among others, a chronological listing of the numbers, dates
and amounts covered by the invoices or receipts and the amount/s of tax paid; and (b) a
Certification of an independent Certified Public Accountant attesting to the correctness of
the contents of the summary after making an examination, evaluation and audit of the
voluminous receipts and invoices. The name of the accountant or partner of the firm in
charge must be stated in the motion so that he/she can be commissioned by the Court to
 conduct the audit and, thereafter, testify in Court relative to such summary and
certification pursuant to Rule 32 of the Rules of Court.

2. The method of individual presentation of each and every receipt, invoice or account for
marking, identification and comparison with the originals thereof need not be done before the
Court or Clerk of Court anymore after the introduction of the summary and CPA certification. It
is enough that the receipts, invoices, vouchers or other documents covering the said accounts or
payments to be introduced in evidence must be pre-marked by the party concerned and
submitted to the Court in order to be made accessible to the adverse party who desires to check
and verify the correctness of the summary and CPA certification. Likewise, the originals of the
voluminous receipts, invoices or accounts must be ready for verification and comparison in case
doubt on the authenticity thereof is raised during the hearing or resolution of the formal offer of
evidence.

Since CTA Cases No. 4831, 4859, 4944,33 and 5102,34 were still pending before the CTA when the said
Circular was issued, then petitioner corporation must have complied therewith during the course of the
trial of the said cases.

In Commissioner of Internal Revenue v. Manila Mining Corporation,35 this Court denied the claim of therein
respondent, Manila Mining Corporation, for refund of the input VAT on its supposed zero-rated sales of
gold to the CBP because it was unable to substantiate its claim. In the same case, this Court emphasized
the importance of complying with the substantiation requirements for claiming refund/credit of input
VAT on zero-rated sales, to wit –

For a judicial claim for refund to prosper, however, respondent must not only prove that it is a
VAT registered entity and that it filed its claims within the prescriptive period. It
must substantiate the input VAT paid by purchase invoices or official receipts.

This respondent failed to do.

Revenue Regulations No. 3-88 amending Revenue Regulations No. 5-87 provides the
requirements in claiming tax credits/refunds.

xxxx

Under Section 8 of RA1125, the CTA is described as a court of record. As cases filed before it are
litigated de novo, party litigants should prove every minute aspect of their cases. No evidentiary
value can be given the purchase invoices or receipts submitted to the BIR as the rules on
documentary evidence require that these documents must be formally offered before the CTA.

This Court thus notes with approval the following findings of the CTA:

x x x [S]ale of gold to the Central Bank should not be subject to the 10% VAT-output tax
but this does not ipso fact mean that [the seller] is entitled to the amount of refund
sought as it is required by law to present evidence showing the input taxes it paid during the year
in question. What is being claimed in the instant petition is the refund of the input taxes
paid by the herein petitioner on its purchase of goods and services. Hence, it is necessary
for the Petitioner to show proof that it had indeed paid the input taxes during the year 1991. In the
case at bar, Petitioner failed to discharge this duty. It did not adduce in evidence the sales invoice,
receipts or other documents showing the input value added tax on the purchase of goods and
services.
 xxx

Section 8 of Republic Act 1125 (An Act Creating the Court of Tax Appeals) provides categorically that the
Court of Tax Appeals shall be a court of record and as such it is required to conduct a formal
trial (trial de novo) where the parties must present their evidence accordingly if they desire the
Court to take such evidence into consideration. (Emphasis and italics supplied)

A "sales or commercial invoice" is a written account of goods sold or services rendered indicating
the prices charged therefor or a list by whatever name it is known which is used in the ordinary
course of business evidencing sale and transfer or agreement to sell or transfer goods and
services.

A "receipt" on the other hand is a written acknowledgment of the fact of payment in money or
other settlement between seller and buyer of goods, debtor or creditor, or person rendering
services and client or customer.

These sales invoices or receipts issued by the supplier are necessary to substantiate the actual
amount or quantity of goods sold and their selling price, and taken collectively are the best
means to prove the input VAT payments.36

Although the foregoing decision focused only on the proof required for the applicant for refund/credit to
establish the input VAT payments it had made on its purchases from suppliers, Revenue Regulations No.
3-88 also required it to present evidence proving actual zero-rated VAT sales to qualified buyers, such as
(1) photocopy of the approved application for zero-rate if filing for the first time; (2) sales invoice or
receipt showing the name of the person or entity to whom the goods or services were delivered, date of
delivery, amount of consideration, and description of goods or services delivered; and (3) the evidence of
actual receipt of goods or services.

Also worth noting in the same decision is the weight given by this Court to the certification by the
independent certified public accountant (CPA), thus –

Respondent contends, however, that the certification of the independent CPA attesting to the
correctness of the contents of the summary of suppliers' invoices or receipts which were
examined, evaluated and audited by said CPA in accordance with CTA Circular No. 1-95 as
amended by CTA Circular No. 10-97 should substantiate its claims.

There is nothing, however, in CTA Circular No. 1-95, as amended by CTA Circular No. 10-97,
which either expressly or impliedly suggests that summaries and schedules of input VAT
payments, even if certified by an independent CPA, suffice as evidence of input VAT payments.

xxxx

The circular, in the interest of speedy administration of justice, was promulgated to avoid the
time-consuming procedure of presenting, identifying and marking of documents before the
Court. It does not relieve respondent of its imperative task of pre-marking photocopies of sales
receipts and invoices and submitting the same to the court after the independent CPA shall have
examined and compared them with the originals. Without presenting these pre-marked
documents as evidence – from which the summary and schedules were based, the court cannot
verify the authenticity and veracity of the independent auditor's conclusions.
 There is, moreover, a need to subject these invoices or receipts to examination by the CTA in
order to confirm whether they are VAT invoices. Under Section 21 of Revenue Regulation, No. 5-
87, all purchases covered by invoices other than a VAT invoice shall not be entitled to a refund of
input VAT.

xxxx

While the CTA is not governed strictly by technical rules of evidence, as rules of procedure are
not ends in themselves but are primarily intended as tools in the administration of justice, the
presentation of the purchase receipts and/or invoices is not mere procedural technicality which
may be disregarded considering that it is the only means by which the CTA may ascertain and
verify the truth of the respondent's claims.

The records further show that respondent miserably failed to substantiate its claims for input
VAT refund for the first semester of 1991. Except for the summary and schedules of input VAT
payments prepared by respondent itself, no other evidence was adduced in support of its claim.

As for respondent's claim for input VAT refund for the second semester of 1991, it employed the
services of Joaquin Cunanan & Co. on account of which it (Joaquin Cunanan & Co.) executed a
certification that:

We have examined the information shown below concerning the input tax payments
made by the Makati Office of Manila Mining Corporation for the period from July 1 to
December 31, 1991. Our examination included inspection of the pertinent suppliers'
invoices and official receipts and such other auditing procedures as we considered
necessary in the circumstances. x x x

As the certification merely stated that it used "auditing procedures considered necessary" and not
auditing procedures which are in accordance with generally accepted auditing principles and
standards, and that the examination was made on "input tax payments by the Manila Mining
Corporation," without specifying that the said input tax payments are attributable to the sales of
gold to the Central Bank, this Court cannot rely thereon and regard it as sufficient proof of the
respondent's input VAT payments for the second semester. 37

As for the Petition in G.R. No. 141104, involving the input VAT of petitioner corporation on its zero-rated
sales in the first quarter of 1992, this Court already found that the petitioner corporation failed to comply
with Section 106(b) of the Tax Code of 1977, as amended, imposing the two-year prescriptive period for
the filing of the application for refund/credit thereof. This bars the grant of the application for
refund/credit, whether administratively or judicially, by express mandate of Section 106(e) of the same
Code.

Granting arguendo that the application of petitioner corporation for the refund/credit of the input VAT on
its zero-rated sales in the first quarter of 1992 was actually and timely filed, petitioner corporation still
failed to present together with its application the required supporting documents, whether before the BIR
or the CTA. As the Court of Appeals ruled –

In actions involving claims for refund of taxes assessed and collected, the burden of proof rests
on the taxpayer. As clearly discussed in the CTA's decision, petitioner failed to substantiate its
claim for tax refunds. Thus:
"We note, however, that in the cases at bar, petitioner has relied totally on Revenue
Regulations No. 2-88 in determining compliance with the documentary requirements for
a successful refund or issuance of tax credit. Unmentioned is the applicable and specific
amendment later introduced by Revenue Regulations No. 3-88 dated April 7, 1988
(issued barely after two months from the promulgation of Revenue Regulations No. 2-88
on February 15, 1988), which amended Section 16 of Revenue Regulations No. 5-87 on
refunds or tax credits of input tax. x x x.

xxxx

"A thorough examination of the evidence submitted by the petitioner before this
court reveals outright the failure to satisfy documentary requirements laid down under
the above-cited regulations. Specifically, petitioner was not able to present the following
documents, to wit:

"a) sales invoices or receipts;

"b) purchase invoices or receipts;

"c) evidence of actual receipt of goods;

"d) BOI statement showing the amount and description of sale of goods, etc.

"e) original or attested copies of invoice or receipt on capital equipment locally

purchased; and

"f) photocopy of import entry document and confirmation receipt on imported

capital equipment.

"There is the need to examine the sales invoices or receipts in order to ascertain the actual
amount or quantity of goods sold and their selling price. Without them, this Court cannot
verify the correctness of petitioner's claim inasmuch as the regulations require that the
input taxes being sought for refund should be limited to the portion that is directly and
entirely attributable to the particular zero-rated transaction. In this instance, the best
evidence of such transaction are the said sales invoices or receipts.

"Also, even if sales invoices are produced, there is the further need to submit evidence
that such goods were actually received by the buyer, in this case, by CBP, Philp[h]os and
PASAR.

xxxx

"Lastly, this Court cannot determine whether there were actual local and imported
purchase of capital goods as well as domestic purchase of non-capital goods without the
required purchase invoice or receipt, as the case may be, and confirmation receipts.

"There is, thus, the imperative need to submit before this Court the original or attested
photocopies of petitioner's invoices or receipts, confirmation receipts and import entry
documents in order that a full ascertainment of the claimed amount may be achieved.
 "Petitioner should have taken the foresight to introduce in evidence all of the missing
documentsabovementioned. Cases filed before this Court are litigated de novo. This
means that party litigants should endeavor to prove at the first instance every minute
aspect of their cases strictly in accordance with the Rules of Court, most especially on
documentary evidence." (pp. 37-42, Rollo)

Tax refunds are in the nature of tax exemptions. It is regarded as in derogation of the sovereign
authority, and should be construed in strictissimi juris against the person or entity claiming the
exemption. The taxpayer who claims for exemption must justify his claim by the clearest grant of
organic or statute law and should not be permitted to stand on vague implications (Asiatic
Petroleum Co. v. Llanes, 49 Phil. 466; Northern Phil. Tobacco Corp. v. Mun. of Agoo, La Union,
31 SCRA 304; Reagan v. Commissioner, 30 SCRA 968; Asturias Sugar Central, Inc. v.
Commissioner of Customs, 29 SCRA 617; Davao Light and Power Co., Inc. v. Commissioner of
Customs, 44 SCRA 122).

There is no cogent reason to fault the CTA's conclusion that the SGV's certificate is "self-
destructive", as it finds comfort in the very SGV's stand, as follows:

"It is our understanding that the above procedure are sufficient for the purpose of the
Company. We make no presentation regarding the sufficiency of these procedures for
such purpose. We did not compare the total of the input tax claimed each quarter against
the pertinent VAT returns and books of accounts. The above procedures do not constitute
an audit made in accordance with generally accepted auditing standards. Accordingly,
we do not express an opinion on the company's claim for input VAT refund or credit.
Had we performed additional procedures, or had we made an audit in accordance with
generally accepted auditing standards, other matters might have come to our attention
that we would have accordingly reported on."

The SGV's "disclaimer of opinion" carries much weight as it is petitioner's independent auditor.
Indeed, SGV expressed that it "did not compare the total of the input tax claimed each quarter
against the VAT returns and books of accounts."38

Moving on to the Petition in G.R. No. 148763, concerning the input VAT of petitioner corporation on its
zero-rated sales in the second, third, and fourth quarters of 1990, the appellate court likewise found that
petitioner corporation failed to sufficiently establish its claims. Already disregarding the declarations
made by the Court of Appeals on its erroneous application of Revenue Regulations No. 2-88, quoted
hereunder is the rest of the findings of the appellate court after evaluating the evidence submitted in
accordance with the requirements under Revenue Regulations No. 3-88 –

The Secretary of Finance validly adopted Revenue Regulations [No.] x x x 3-98 pursuant to Sec.
245 of the National Internal Revenue Code, which recognized his power to "promulgate all
needful rules and regulations for the effective enforcement of the provisions of this Code." Thus,
it is incumbent upon a taxpayer intending to file a claim for refund of input VATs or the issuance
of a tax credit certificate with the BIR x x x to prove sales to such buyers as required by Revenue
Regulations No. 3-98. Logically, the same evidence should be presented in support of an action to
recover taxes which have been paid.

x x x Neither has [herein petitioner corporation] presented sales invoices or receipts showing
sales of gold, copper concentrates, and pyrite to the CBP, [PASAR], and [PHILPHOS],
respectively, and the dates and amounts of the same, nor any evidence of actual receipt by the
said buyers of the mineral products. It merely presented receipts of purchases from suppliers on
 which input VATs were allegedly paid. Thus, the Court of Tax Appeals correctly denied the
claims for refund of input VATs or the issuance of tax credit certificates of petitioner
[corporation]. Significantly, in the resolution, dated 7 June 2000, this Court directed the parties to
file memoranda discussing, among others, the submission of proof for "its [petitioner's] sales of
gold, copper concentrates, and pyrite to buyers." Nevertheless, the parties, including the
petitioner, failed to address this issue, thereby necessitating the affirmance of the ruling of the
Court of Tax Appeals on this point.39

This Court is, therefore, bound by the foregoing facts, as found by the appellate court, for well-settled is
the general rule that the jurisdiction of this Court in cases brought before it from the Court of Appeals, by
way of a Petition for Review on Certiorari under Rule 45 of the Revised Rules of Court, is limited to
reviewing or revising errors of law; findings of fact of the latter are conclusive. 40 This Court is not a trier
of facts. It is not its function to review, examine and evaluate or weigh the probative value of the evidence
presented.41

The distinction between a question of law and a question of fact is clear-cut. It has been held that "[t]here
is a question of law in a given case when the doubt or difference arises as to what the law is on a certain
state of facts; there is a question of fact when the doubt or difference arises as to the truth or falsehood of
alleged facts."42

Whether petitioner corporation actually made zero-rated sales; whether it paid input VAT on these sales
in the amount it had declared in its returns; whether all the input VAT subject of its applications for
refund/credit can be attributed to its zero-rated sales; and whether it had not previously applied the
input VAT against its output VAT liabilities, are all questions of fact which could only be answered after
reviewing, examining, evaluating, or weighing the probative value of the evidence it presented, and
which this Court does not have the jurisdiction to do in the present Petitions for Review
on Certiorari under Rule 45 of the revised Rules of Court.

Granting that there are exceptions to the general rule, when this Court looked into questions of fact under
particular circumstances,43 none of these exist in the instant cases. The Court of Appeals, in both cases,
found a dearth of evidence to support the claims for refund/credit of the input VAT of petitioner
corporation, and the records bear out this finding. Petitioner corporation itself cannot dispute its non-
compliance with the requirements set forth in Revenue Regulations No. 3-88 and CTA Circular No. 1-95,
as amended. It concentrated its arguments on its assertion that the substantiation requirements under
Revenue Regulations No. 2-88 should not have applied to it, while being conspicuously silent on the
evidentiary requirements mandated by other relevant regulations.

Re-opening of cases/holding of new trial before the CTA

This Court now faces the final issue of whether the prayer of petitioner corporation for the re-opening of
its cases or holding of new trial before the CTA for the reception of additional evidence, may be granted.
Petitioner corporation prays that the Court exercise its discretion on the matter in its favor, consistent
with the policy that rules of procedure be liberally construed in pursuance of substantive justice.

This Court, however, cannot grant the prayer of petitioner corporation.

An aggrieved party may file a motion for new trial or reconsideration of a judgment already rendered in
accordance with Section 1, Rule 37 of the revised Rules of Court, which provides –

SECTION 1. Grounds of and period for filing motion for new trial or reconsideration. – Within the
period for taking an appeal, the aggrieved party may move the trial court to set aside the
 judgment or final order and grant a new trial for one or more of the following causes materially
affecting the substantial rights of said party:

(a) Fraud, accident, mistake or excusable negligence which ordinary prudence could not have
guarded against and by reason of which such aggrieved party has probably been impaired in his
rights; or

(b) Newly discovered evidence, which he could not, with reasonable diligence, have discovered
and produced at the trial, and which if presented would probably alter the result.

Within the same period, the aggrieved party may also move fore reconsideration upon the
grounds that the damages awarded are excessive, that the evidence is insufficient to justify the
decision or final order, or that the decision or final order is contrary to law.

In G.R. No. 148763, petitioner corporation attempts to justify its motion for the re-opening of its cases
and/or holding of new trial before the CTA by contending that the "[f]ailure of its counsel to adduce the
necessary evidence should be construed as excusable negligence or mistake which should constitute basis
for such re-opening of trial as for a new trial, as counsel was of the belief that such evidence was rendered
unnecessary by the presentation of unrebutted evidence indicating that respondent [Commissioner] has
acknowledged the sale of [sic] PASAR and [PHILPHOS] to be zero-rated." 44 The CTA denied such
motion on the ground that it was not accompanied by an affidavit of merit as required by Section 2, Rule
37 of the revised Rules of Court. The Court of Appeals affirmed the denial of the motion, but apart from
this technical defect, it also found that there was no justification to grant the same.

On the matter of the denial of the motion of the petitioner corporation for the re-opening of its cases
and/or holding of new trial based on the technicality that said motion was unaccompanied by an
affidavit of merit, this Court rules in favor of the petitioner corporation. The facts which should otherwise
be set forth in a separate affidavit of merit may, with equal effect, be alleged and incorporated in the
motion itself; and this will be deemed a substantial compliance with the formal requirements of the law,
provided, of course, that the movant, or other individual with personal knowledge of the facts, take oath
as to the truth thereof, in effect converting the entire motion for new trial into an affidavit. 45 The motion
of petitioner corporation was prepared and verified by its counsel, and since the ground for the motion
was premised on said counsel's excusable negligence or mistake, then the obvious conclusion is that he
had personal knowledge of the facts relating to such negligence or mistake. Hence, it can be said that the
motion of petitioner corporation for the re-opening of its cases and/or holding of new trial was in
substantial compliance with the formal requirements of the revised Rules of Court.

Even so, this Court finds no sufficient ground for granting the motion of petitioner corporation for the re-
opening of its cases and/or holding of new trial.

In G.R. No. 141104, petitioner corporation invokes the Resolution,46 dated 20 July 1998, by the CTA in
another case, CTA Case No. 5296, involving the claim of petitioner corporation for refund/credit of input
VAT for the third quarter of 1993. The said Resolution allowed the re-opening of CTA Case No. 5296,
earlier dismissed by the CTA, to give the petitioner corporation the opportunity to present the missing
export documents.

The rule that the grant or denial of motions for new trial rests on the discretion of the trial court, 47 may
likewise be extended to the CTA. When the denial of the motion rests upon the discretion of a lower
court, this Court will not interfere with its exercise, unless there is proof of grave abuse thereof. 48
That the CTA granted the motion for re-opening of one case for the presentation of additional evidence
and, yet, deny a similar motion in another case filed by the same party, does not necessarily demonstrate
grave abuse of discretion or arbitrariness on the part of the CTA. Although the cases involve identical
parties, the causes of action and the evidence to support the same can very well be different. As can be
gleaned from the Resolution, dated 20 July 1998, in CTA Case No. 5296, petitioner corporation was
claiming refund/credit of the input VAT on its zero-rated sales, consisting of actual export sales, to
Mitsubishi Metal Corporation in Tokyo, Japan. The CTA took into account the presentation by petitioner
corporation of inward remittances of its export sales for the quarter involved, its Supply Contract with
Mitsubishi Metal Corporation, its 1993 Annual Report showing its sales to the said foreign corporation,
and its application for refund. In contrast, the present Petitions involve the claims of petitioner
corporation for refund/credit of the input VAT on its purchases of capital goods and on its effectively
zero-rated sales to CBP and EPZA-registered enterprises PASAR and PHILPHOS for the second, third,
and fourth quarters of 1990 and first quarter of 1992. There being a difference as to the bases of the claims
of petitioner corporation for refund/credit of input VAT in CTA Case No. 5926 and in the Petitions at bar,
then, there are resulting variances as to the evidence required to support them.

Moreover, the very same Resolution, dated 20 July 1998, in CTA Case No. 5296, invoked by petitioner
corporation, emphasizes that the decision of the CTA to allow petitioner corporation to present evidence
"is applicable pro hac vice or in this occasion only as it is the finding of [the CTA] that petitioner
[corporation] has established a few of the aforementioned material points regarding the possible existence
of the export documents together with the prior and succeeding returns for the quarters involved, x x x"
[Emphasis supplied.] Therefore, the CTA, in the present cases, cannot be bound by its ruling in CTA Case
No. 5296, when these cases do not involve the exact same circumstances that compelled it to grant the
motion of petitioner corporation for re-opening of CTA Case No. 5296.

Finally, assuming for the sake of argument that the non-presentation of the required documents was due
to the fault of the counsel of petitioner corporation, this Court finds that it does not constitute excusable
negligence or mistake which would warrant the re-opening of the cases and/or holding of new trial.

Under Section 1, Rule 37 of the Revised Rules of Court, the "negligence" must be excusable and generally
imputable to the party because if it is imputable to the counsel, it is binding on the client. To follow a
contrary rule and allow a party to disown his counsel's conduct would render proceedings indefinite,
tentative, and subject to re-opening by the mere subterfuge of replacing the counsel. What the aggrieved
litigant should do is seek administrative sanctions against the erring counsel and not ask for the reversal
of the court's ruling.49

As elucidated by this Court in another case,50 the general rule is that the client is bound by the action of
his counsel in the conduct of his case and he cannot therefore complain that the result of the litigation
might have been otherwise had his counsel proceeded differently. It has been held time and again that
blunders and mistakes made in the conduct of the proceedings in the trial court as a result of the
ignorance, inexperience or incompetence of counsel do not qualify as a ground for new trial. If such were
to be admitted as valid reasons for re-opening cases, there would never be an end to litigation so long as a
new counsel could be employed to allege and show that the prior counsel had not been sufficiently
diligent, experienced or learned.

Moreover, negligence, to be "excusable," must be one which ordinary diligence and prudence could not
have guarded against.51 Revenue Regulations No. 3-88, which was issued on 15 February 1988, had been
in effect more than two years prior to the filing by petitioner corporation of its earliest application for
refund/credit of input VAT involved herein on 21 August 1990. CTA Circular No. 1-95 was issued only
on 25 January 1995, after petitioner corporation had filed its Petitions before the CTA, but still during the
pendency of the cases of petitioner corporation before the tax court. The counsel of petitioner corporation
does not allege ignorance of the foregoing administrative regulation and tax court circular, only that he
no longer deemed it necessary to present the documents required therein because of the presentation of
alleged unrebutted evidence of the zero-rated sales of petitioner corporation. It was a judgment call made
by the counsel as to which evidence to present in support of his client's cause, later proved to be unwise,
but not necessarily negligent.

Neither is there any merit in the contention of petitioner corporation that the non-presentation of the
required documentary evidence was due to the excusable mistake of its counsel, a ground under Section
1, Rule 37 of the revised Rules of Court for the grant of a new trial. "Mistake," as it is referred to in the
said rule, must be a mistake of fact, not of law, which relates to the case. 52 In the present case, the
supposed mistake made by the counsel of petitioner corporation is one of law, for it was grounded on his
interpretation and evaluation that Revenue Regulations No. 3-88 and CTA Circular No. 1-95, as amended,
did not apply to his client's cases and that there was no need to comply with the documentary
requirements set forth therein. And although the counsel of petitioner corporation advocated an
erroneous legal position, the effects thereof, which did not amount to a deprivation of his client's right to
be heard, must bind petitioner corporation. The question is not whether petitioner corporation succeeded
in establishing its interests, but whether it had the opportunity to present its side. 53

Besides, litigation is a not a "trial and error" proceeding. A party who moves for a new trial on the ground
of mistake must show that ordinary prudence could not have guarded against it. A new trial is not a
refuge for the obstinate.54Ordinary prudence in these cases would have dictated the presentation of all
available evidence that would have supported the claims for refund/credit of input VAT of petitioner
corporation. Without sound legal basis, counsel for petitioner corporation concluded that Revenue
Regulations No. 3-88, and later on, CTA Circular No. 1-95, as amended, did not apply to its client's
claims. The obstinacy of petitioner corporation and its counsel is demonstrated in their failure, nay,
refusal, to comply with the appropriate administrative regulations and tax court circular in pursuing the
claims for refund/credit, now subject of G.R. Nos. 141104 and 148763, even though these were separately
instituted in a span of more than two years. It is also evident in the failure of petitioner corporation to
address the issue and to present additional evidence despite being given the opportunity to do so by the
Court of Appeals. As pointed out by the appellate court, in its Decision, dated 15 September 2000, in CA-
G.R. SP No. 46718 –

x x x Significantly, in the resolution, dated 7 June 2000, this Court directed the parties to file
memoranda discussing, among others, the submission of proof for "its [petitioner's] sales of gold,
copper concentrates, and pyrite to buyers." Nevertheless, the parties, including the petitioner,
failed to address this issue, thereby necessitating the affirmance of the ruling of the Court of Tax
Appeals on this point.55

Summary

Hence, although this Court agreed with the petitioner corporation that the two-year prescriptive period
for the filing of claims for refund/credit of input VAT must be counted from the date of filing of the
quarterly VAT return, and that sales to EPZA-registered enterprises operating within economic
processing zones were effectively zero-rated and were not covered by Revenue Regulations No. 2-88, it
still denies the claims of petitioner corporation for refund of its input VAT on its purchases of capital
goods and effectively zero-rated sales during the second, third, and fourth quarters of 1990 and the first
quarter of 1992, for not being established and substantiated by appropriate and sufficient evidence.
Petitioner corporation is also not entitled to the re-opening of its cases and/or holding of new trial since
the non-presentation of the required documentary evidence before the BIR and the CTA by its counsel
does not constitute excusable negligence or mistake as contemplated in Section 1, Rule 37 of the revised
Rules of Court.
WHEREFORE, premises considered, the instant Petitions for Review are hereby DENIED, and the
Decisions, dated 6 July 1999 and 15 September 2000, of the Court of Appeals in CA-G.R. SP Nos. 47607
and 46718, respectively, are hereby AFFIRMED. Costs against petitioner.

Ynares-Santiago, Chairperson, Austria-Martinez, Nachura, JJ., concur.

G.R. No. L-15290 May 31, 1963

MARIANO ZAMORA, petitioner,

vs.
COLLECTOR OF INTERNAL REVENUE and COURT OF TAX APPEALS, respondents.

-----------------------------

G.R. No. L-15280 May 31, 1963

COLLECTOR OF INTERNAL REVENUE, petitioner,

vs.
MARIANO ZAMORA, respondent.

-----------------------------

G.R. No. L-15289 May 31, 1963

ESPERANZA A. ZAMORA, as Special Administratrix of Estate of FELICIDAD ZAMORA, petitioner,

vs.
COLLECTOR OF INTERNAL REVENUE and COURT OF TAX APPEALS, respondents.

-----------------------------

G.R. No. L-15281 May 31, 1963

COLLECTOR OF INTERNAL REVENUE, petitioner,

vs.
ESPERANZA A. ZAMORA, as Special Administratrix, etc. respondent.

Office of the Solicitor General for petitioner.

Rodegelio M. Jalandoni for respondents.

PAREDES, J.:

In the above-entitled cases, a joint decision was rendered by the lower court because they involved
practically the same issues. We do so, likewise, for the same reason.

Cases Nos. L-15290 and L-15280

Mariano Zamora, owner of the Bay View Hotel and Farmacia Zamora, Manila, filed his income tax
returns the years 1951 and 1952. The Collector of Internal Revenue found that he failed to file his return of
the capital gains derived from the sale of certain real properties and claimed deductions which were not
allowable. The collector required him to pay the sums of P43,758.50 and P7,625.00, as deficiency income
tax for the years 1951 and 1952, respectively (C.T.A. Case No. 234, now L-15290). On appeal by Zamora,
the Court of Tax Appeals on December 29, 1958, modified the decision appealed from and ordered him to
pay the reduced total sum of P30,258.00 (P22,980.00 and P7,278.00, as deficiency income tax for the years
1951 and 1952, respectively), within thirty (30) days from the date the decision becomes final, plus the
corresponding surcharges and interest in case of delinquency, pursuant to section 51(e), Int. Revenue
Code. With costs against petitioner.

Having failed to obtain a reconsideration of the decision, Mariano Zamora appealed (L-15290), alleging
that the Court of Tax Appeals erred —

(1) In dissallowing P10,478.50, as promotion expenses incurred by his wife for the promotion of
the Bay View Hotel and Farmacia Zamora (which is ½ of P20,957.00, supposed business
expenses):

(2) In disallowing 3-½% per annum as the rate of depreciation of the Bay View Hotel Building;

(3) In disregarding the price stated in the deed of sale, as the costs of a Manila property, for the
purpose of determining alleged capital gains; and

(4) In applying the Ballantyne scale of values in determining the cost of said property.

The Collector of Internal Revenue (L-15280) also appealed, claiming that the Court of Tax Appeals erred
—

(1) In giving credence to the uncorroborated testimony of Mariano Zamora that he bought the
said real property in question during the Japanese occupation, partly in Philippine currency and
partly in Japanese war notes, and

(2) In not holding that Mariano Zamora is liable for the payment of the sums of P43,758.00 and
P7,625.00 as deficiency income taxes, for the years 1951 and 1952, plus the 5% surcharge and 1%
monthly interest, from the date said amounts became due to the date of actual payment.

Wherefore, the parties respectfully pray that the foregoing stipulation of facts be admitted and
approved by this Honorable Court, without prejudice to the parties adducing other evidence to
prove their case not covered by this stipulation of facts. 1äwphï1.ñët

Cases Nos. L-15289 and L-15281

Mariano Zamora and his deceased sister Felicidad Zamora, bought a piece of land located in Manila on
May 16, 1944, for P132,000.00 and sold it for P75,000.00 on March 5, 1951. They also purchased a lot
located in Quezon City for P68,959.00 on January 19, 1944, which they sold for P94,000 on February 9,
1951. The CTA ordered the estate of the late Felicidad Zamora (represented by Esperanza A. Zamora, as
special administratrix of her estate), to pay the sum of P235.50, representing alleged deficiency income tax
and surcharge due from said estate. Esperanza A. Zamora appealed and alleged that the CTA erred: —

The Commissioner of Internal Revenue likewise appealed from the decision, claiming that the lower
court erred: —
 (1) In giving credence to the uncorroborated testimony of Mariano Zamora that he bought the
real property involved during the Japanese occupation, partly in genuine Philippine currency
and partly in Japanese war notes; and

(2) In not holding that Esperanza A. Zamora, as administratrix, is liable for the payment of the
sum of P613.00 as deficiency income tax and 50% surcharge for 1951, plus 50% surcharge and 1%
monthly interest from the date said amount became due, to the date of actual payment.

It is alleged by Mariano Zamora that the CTA erred in disallowing P10,478.50 as promotion expenses
incurred by his wife for the promotion of the Bay View Hotel and Farmacia Zamora. He contends that the
whole amount of P20,957.00 as promotion expenses in his 1951 income tax returns, should be allowed
and not merely one-half of it or P10,478.50, on the ground that, while not all the itemized expenses are
supported by receipts, the absence of some supporting receipts has been sufficiently and satisfactorily
established. For, as alleged, the said amount of P20,957.00 was spent by Mrs. Esperanza A. Zamora (wife
of Mariano), during her travel to Japan and the United States to purchase machinery for a new Tiki-Tiki
plant, and to observe hotel management in modern hotels. The CTA, however, found that for said trip
Mrs. Zamora obtained only the sum of P5,000.00 from the Central Bank and that in her application for
dollar allocation, she stated that she was going abroad on a combined medical and business trip, which
facts were not denied by Mariano Zamora. No evidence had been submitted as to where Mariano had
obtained the amount in excess of P5,000.00 given to his wife which she spent abroad. No explanation had
been made either that the statement contained in Mrs. Zamora's application for dollar allocation that she
was going abroad on a combined medical and business trip, was not correct. The alleged expenses were
not supported by receipts. Mrs. Zamora could not even remember how much money she had when she
left abroad in 1951, and how the alleged amount of P20,957.00 was spent.

Section 30, of the Tax Code, provides that in computing net income, there shall be allowed as deductions
all the ordinary and necessary expenses paid or incurred during the taxable year, in carrying on any trade
or business (Vol. 4, Mertens, Law of Federal Income Taxation, sec. 25.03, p. 307). Since promotion
expenses constitute one of the deductions in conducting a business, same must testify these requirements.
Claim for the deduction of promotion expenses or entertainment expenses must also be substantiated or
supported by record showing in detail the amount and nature of the expenses incurred (N.H. Van
Socklan, Jr. v. Comm. of Int. Rev.; 33 BTA 544). Considering, as heretofore stated, that the application of
Mrs. Zamora for dollar allocation shows that she went abroad on a combined medical and business trip,
not all of her expenses came under the category of ordinary and necessary expenses; part thereof
constituted her personal expenses. There having been no means by which to ascertain which expense was
incurred by her in connection with the business of Mariano Zamora and which was incurred for her
personal benefit, the Collector and the CTA in their decisions, considered 50% of the said amount of
P20,957.00 as business expenses and the other 50%, as her personal expenses. We hold that said allocation
is very fair to Mariano Zamora, there having been no receipt whatsoever, submitted to explain the alleged
business expenses, or proof of the connection which said expenses had to the business or the
reasonableness of the said amount of P20,957.00. While in situations like the present, absolute certainty is
usually no possible, the CTA should make as close an approximation as it can, bearing heavily, if it
chooses, upon the taxpayer whose inexactness is of his own making.

In the case of Visayan Cebu Terminal Co., Inc. v. Collector of Int. Rev., G.R. No. L-12798, May 30, 1960, it was
declared that representation expenses fall under the category of business expenses which are allowable
deductions from gross income, if they meet the conditions prescribed by law, particularly section 30 (a)
[1], of the Tax Code; that to be deductible, said business expenses must be ordinary and necessary
expenses paid or incurred in carrying on any trade or business; that those expenses must also meet the
further test of reasonableness in amount; that when some of the representation expenses claimed by the
taxpayer were evidenced by vouchers or chits, but others were without vouchers or chits, documents or
supporting papers; that there is no more than oral proof to the effect that payments have been made for
representation expenses allegedly made by the taxpayer and about the general nature of such alleged
expenses; that accordingly, it is not possible to determine the actual amount covered by supporting
papers and the amount without supporting papers, the court should determine from all available data, the
amount properly deductible as representation expenses.

In view hereof, We are of the opinion that the CTA, did not commit error in allowing as promotion
expenses of Mrs. Zamora claimed in Mariano Zamora's 1951 income tax returns, merely one-half or
P10,478.50.

Petitioner Mariano Zamora alleges that the CTA erred in disallowing 3-½% per annum as the rate of
depreciation of the Bay View Hotel Building but only 2-½%. In justifying depreciation deduction of 3-½%,
Mariano Zamora contends that (1) the Ermita District, where the Bay View Hotel is located, is now
becoming a commercial district; (2) the hotel has no room for improvement; and (3) the changing modes
in architecture, styles of furniture and decorative designs, "must meet the taste of a fickle public". It is a
fact, however, that the CTA, in estimating the reasonable rate of depreciation allowance for hotels made
of concrete and steel at 2-½%, the three factors just mentioned had been taken into account already. Said
the CTA—

Normally, an average hotel building is estimated to have a useful life of 50 years, but inasmuch
as the useful life of the building for business purposes depends to a large extent on the suitability
of the structure to its use and location, its architectural quality, the rate of change in population,
the shifting of land values, as well as the extent and maintenance and rehabilitation. It is allowed
a depreciation rate of 2-½% corresponding to a normal useful life of only 40 years (1955 PH
Federal Taxes, Par 14 160-K). Consequently, the stand of the petitioners can not be sustained.

As the lower court based its findings on Bulletin F, petitioner Zamora, argues that the same should have
been first proved as a law, to be subject to judicial notice. Bulletin F, is a publication of the US Federal
Internal Revenue Service, which was made after a study of the lives of the properties. In the words of the
lower court: "It contains the list of depreciable assets, the estimated average useful lives thereof and the
rates of depreciation allowable for each kind of property. (See 1955 PH Federal Taxes, Par. 14, 160 to Par.
14, 163-0). It is true that Bulletin F has no binding force, but it has a strong persuasive effect considering
that the same has been the result of scientific studies and observation for a long period in the United
States after whose Income Tax Law ours is patterned." Verily, courts are permitted to look into and
investigate the antecedents or the legislative history of the statutes involved (Director of Lands v. Abaya,
et al., 63 Phil. 559). Zamora also contends that his basis for applying the 3-½% rate is the testimony of its
witness Mariano Katipunan, who cited a book entitled "Hotel Management — Principles and Practice" by
Lucius Boomer, President, Hotel Waldorf Astoria Corporation. As well commented by the Solicitor
General, "while the petitioner would deny us the right to use Bulletin F, he would insist on using as
authority, a book in Hotel management written by a man who knew more about hotels than about
taxation. All that the witness did (Katipunan) . . . is to read excerpts from the said book (t.s.n. pp. 99-101),
which admittedly were based on the decision of the U.S. Tax Courts, made in 1928 (t.s.n. p. 106)". In view
hereof, We hold that the 2-½% rate of depreciation of the Bay View Hotel building, is approximately
correct.

The next items in dispute are the undeclared capital gains derived from the sales in 1951 of certain real
properties in Malate, Manila and in Quezon City, acquired during the Japanese occupation.

The Manila property (Esperanza Zamora v. Coll. of Int. Rev., Case No. L-15289). The CTA held in this
case, that the cost basis of property acquired in Japanese war notes is the equivalent of the war notes in
genuine Philippine currency in accordance with the Ballantyne Scale of values, and that the
determination of the gain derived or loss sustained in the sale of such property is not affected by the
decline at the time of sale, in the purchasing power of the Philippine currency. It was found by the CTA
that the purchase price of P132,000.00 was not entirely paid in Japanese War notes but ½ thereof or
P66,000.00 was in Philippine currency, and that during certain periods of the enemy occupation, the value
of the Japanese war notes was very much less than the value of the genuine Philippine currency. On this
point, the CTA declared —

Finally, it is alleged that the purchase price of P132,000.00 was not entirely paid in Japanese war
notes, Mariano Zamora, co-owner of the property in question, testified that P66,000.00 was paid
in Philippine currency and the other P66,000.00 was paid in Japanese war notes. No evidence was
presented by respondent to rebut the testimony of Mariano Zamora; it is assailed merely as being
improbable. We have examined this question thoroughly and we are inclined to give credence to
the allegation that a portion of the purchase price of the property was paid in Philippine money.
In the first place, it appears that the Zamoras owned the Farmacia Zamora which continued to
engage in business during the war years and that a considerable portion of its sales was paid for
in genuine Philippine currency. This circumstance enabled the Zamoras to accumulate Philippine
money which they used in acquiring the property in question and another property in Quezon
City. In the second place, P132,000.00 in Japanese war notes in May, 1944 is equivalent to only
P11,000.00. The property in question had at the time an assessed value of P27,031.00 (in
Philippine currency). Considering the well known fact that the assessed value of real property is
very much below the fair market value, it is incredible that said property should have been sold by
the owner thereof for less than one-half of its assessed value. These facts have convinced us of the
veracity of the allegation that of the purchase price of P132,000.00 the sum of P66,000.00 was paid
in Philippine currency, so that only the sum of P66,000.00 was paid in Japanese War notes.

This being the case, the Ballantyne Scale of values, which was the result of an impartial scientific study,
adopted and given judicial recognition, should be applied. As the value of the Japanese war notes in May,
1944 when the Manila property was bought, was 1 ½ of the genuine Philippine Peso (Ballantyne Scale),
and since the gain derived or loss sustained in the disposition of this property is to reckoned in terms of
Philippine Peso, the value of the Japanese war notes used in the purchase of the property, must be
reduced in terms of the genuine Philippine Peso to determine the cost of acquisition. It, therefore, results
that since the sum of P66,000.00 in Japanese war notes in May, 1944 is equivalent to P5,500.00 in
Philippine currency (P66,000.00 divided by 12), the acquisition cost of the property in question is
P66,000.00 plus P5,500.00 or P71,500.00 and that as the property was sold for P75,000.00 in 1951, the
owners thereof Mariano and Felicidad Zamora derived a capital gain of P3,500.00 or P1,750.00 each.

The Quezon City Property (Mariano Zamora v. Coll. of Customs, Case No. 15290). The Zamoras alleged
that the entire purchase price of P68,959.00 was paid in Philippine currency. The collector, on the other
hand, contends that the purchase price of P68,959.00 was paid in Japanese war notes. The CTA, however,
giving credence to Zamora's version, said —

. . . If , as contended by respondent, the purchase price of P68,959.00 was paid in Japanese war
notes, the purchase price in Philippine currency would be only P17,239.75 (P68,959.00 divided by
4, 34.00 in war notes being equivalent to P1.00 in Philippine currency). The assessed value of said
property in Philippine currency at the time of acquisition was P46,910.00. It is quite incredible
that real property with an assessed value of P46,910.00 should have been sold by the owner
thereof in Japanese war notes with an equivalent value in Philippine currency of only P17,239.75.
We are more inclined to believe the allegation that it was purchased for P68,959.00 in genuine
Philippine currency. Since the property was sold for P94,000.00 on February 9, 1951, the gain
derived from the sale is P15,361.75, after deducting from the selling price the cost of acquisition in
the sum of P68,959.00 and the expense of sale in the sum of P9,679.25.
The above appraisal is correct, and We have no plausible reason to disturb the same.

Consequently, the total undeclared income of petitioners derived from the sales of the Manila and
Quezon City properties in 1951 is P17,111.75 (P1,750.00 plus P15,361.75), 50% of which in the sum of
P8,555.88 is taxable, the said properties being capital assets held for more than one year.

IN VIEW HEREOF, the petition in each of the above-entitled cases is dismissed, and the decision
appealed from is affirmed, without special pronouncement as to costs.

Bengzon, C.J., Padilla, Bautista Angelo, Concepcion, Reyes, J.B.L., Dizon, Regala and Makalintal, JJ., concur.
Labrador and Barrera, JJ., took no part.

G.R. No. L-24059 November 28, 1969

C. M. HOSKINS & CO., INC., petitioner,

vs.
COMMISSIONER OF INTERNAL REVENUE, respondent.

Ross, Salcedo, Del Rosario, Bito and Misa for petitioner.

Office of the Solicitor General Arturo A. Alafriz, Assistant Solicitor General Felicisimo R. Rosete and Special
Attorney Michaelina R. Balasbas for respondent.

TEEHANKEE, J.:

We uphold in this taxpayer's appeal the Tax Court's ruling that payment by the taxpayer to its controlling
stockholder of 50% of its supervision fees or the amount of P99,977.91 is not a deductible ordinary and
necessary expense and should be treated as a distribution of earnings and profits of the taxpayer.

Petitioner, a domestic corporation engaged in the real estate business as brokers, managing agents and
administrators, filed its income tax return for its fiscal year ending September 30, 1957 showing a net
income of P92,540.25 and a tax liability due thereon of P18,508.00, which it paid in due course. Upon
verification of its return, respondent Commissioner of Internal Revenue, disallowed four items of
deduction in petitioner's tax returns and assessed against it an income tax deficiency in the amount of
P28,054.00 plus interests. The Court of Tax Appeals upon reviewing the assessment at the taxpayer's
petition, upheld respondent's disallowance of the principal item of petitioner's having paid to Mr. C. M.
Hoskins, its founder and controlling stockholder the amount of P99,977.91 representing 50% of
supervision fees earned by it and set aside respondent's disallowance of three other minor items. The Tax
Court therefore determined petitioner's tax deficiency to be in the amount of P27,145.00 and on
November 8, 1964 rendered judgment against it, as follows:

WHEREFORE, premises considered, the decision of the respondent is hereby modified. Petitioner
is ordered to pay to the latter or his representative the sum of P27,145.00, representing deficiency
income tax for the year 1957, plus interest at 1/2% per month from June 20, 1959 to be computed
in accordance with the provisions of Section 51(d) of the National Internal Revenue Code. If the
deficiency tax is not paid within thirty (30) days from the date this decision becomes final,
petitioner is also ordered to pay surcharge and interest as provided for in Section 51 (e) of the Tax
Code, without costs.
Petitioner questions in this appeal the Tax Court's findings that the disallowed payment to Hoskins was
an inordinately large one, which bore a close relationship to the recipient's dominant stockholdings and
therefore amounted in law to a distribution of its earnings and profits.

We find no merit in petitioner's appeal.

As found by the Tax Court, "petitioner was founded by Mr. C. M. Hoskins in 1937, with a capital stock of
1,000 shares at a par value of P1.00 each share; that of these 1,000 shares, Mr. C. M. Hoskins owns 996
shares (the other 4 shares being held by the other four officers of the corporation), which constitute
exactly 99.6% of the total authorized capital stock (p. 92, t.s.n.); that during the first four years of its
existence, Mr. C. M. Hoskins was the President, but during the taxable period in question, that is, from
October 1, 1956 to September 30, 1957, he was the chairman of the Board of Directors and salesman-
broker for the company (p. 93, t.s.n.); that as chairman of the Board of Directors, he received a salary of
P3,750.00 a month, plus a salary bonus of about P40,000.00 a year (p. 94, t.s.n.); that he was also a
stockholder and officer of the Paradise Farms, Inc. and Realty Investments, Inc., from which petitioner
derived a large portion of its income in the form of supervision fees and commissions earned on sales of
lots (pp. 97-99, t.s.n.; Financial Statements, attached to Exhibit '1', p. 11, BIR rec.); that as chairman of the
Board of Directors of petitioner, his duties were: "To act as a salesman; as a director, preside over
meetings and to get all of the real estate business I could for the company by negotiating sales, purchases,
making appraisals, raising funds to finance real estate operations where that was necessary' (p. 96, t.s.n.);
that he was familiar with the contract entered into by the petitioner with the Paradise Farms, Inc. and the
Realty Investments, Inc. by the terms of which petitioner was 'to program the development, arrange
financing, plan the proposed subdivision as outlined in the prospectus of Paradise Farms, Inc., arrange
contract for road constructions, with the provision of water supply to all of the lots and in general to
serve as managing agents for the Paradise Farms, Inc. and subsequently for the Realty Investment, Inc."
(pp. 96-97. t.s.n.)

Considering that in addition to being Chairman of the board of directors of petitioner corporation, which
bears his name, Hoskins, who owned 99.6% of its total authorized capital stock while the four other
officers-stockholders of the firm owned a total of four-tenths of 1%, or one-tenth of 1% each, with their
respective nominal shareholdings of one share each was also salesman-broker for his company, receiving
a 50% share of the sales commissions earned by petitioner, besides his monthly salary of P3,750.00
amounting to an annual compensation of P45,000.00 and an annual salary bonus of P40,000.00, plus free
use of the company car and receipt of other similar allowances and benefits, the Tax Court correctly ruled
that the payment by petitioner to Hoskins of the additional sum of P99,977.91 as his equal or 50% share of
the 8% supervision fees received by petitioner as managing agents of the real estate, subdivision projects
of Paradise Farms, Inc. and Realty Investments, Inc. was inordinately large and could not be accorded the
treatment of ordinary and necessary expenses allowed as deductible items within the purview of Section
30 (a) (i) of the Tax Code.

If such payment of P99,977.91 were to be allowed as a deductible item, then Hoskins would receive on
these three items alone (salary, bonus and supervision fee) a total of P184,977.91, which would be double
the petitioner's reported net income for the year of P92,540.25. As correctly observed by respondent. If
independently, a one-time P100,000.00-fee to plan and lay down the rules for supervision of a subdivision
project were to be paid to an experienced realtor such as Hoskins, its fairness and deductibility by the
taxpayer could be conceded; but here 50% of the supervision fee of petitioner was being paid by it to
Hoskins every year since 1955 up to 1963 and for as long as its contract with the subdivision owner
subsisted, regardless of whether services were actually rendered by Hoskins, since his services to
petitioner included such planning and supervision and were already handsomely paid for by petitioner.
The fact that such payment was authorized by a standing resolution of petitioner's board of directors,
since "Hoskins had personally conceived and planned the project" cannot change the picture. There could
be no question that as Chairman of the board and practically an absolutely controlling stockholder of
petitioner, holding 99.6% of its stock, Hoskins wielded tremendous power and influence in the
formulation and making of the company's policies and decisions. Even just as board chairman, going by
petitioner's own enumeration of the powers of the office, Hoskins, could exercise great power and
influence within the corporation, such as directing the policy of the corporation, delegating powers to the
president and advising the corporation in determining executive salaries, bonus plans and pensions,
dividend policies, etc.1

Petitioner's invoking of its policy since its incorporation of sharing equally sales commissions with its
salesmen, in accordance with its board resolution of June 18, 1946, is equally untenable. Petitioner's Sales
Regulations provide:

Compensation of Salesmen

8. Schedule I — In the case of sales to prospects discovered and worked by a salesman, even
though the closing is done by or with the help of the Sales Manager or other members of the staff,
the salesmen get one-half (1/2) of the total commission received by the Company, but not
exceeding five percent (5%). In the case of subdivisions, when the office commission covers general
supervision, the 1/2-rule does not apply, the salesman's share being stipulated in the case of each
subdivision. In most cases the salesman's share is 4%.(Exh. "N-1").2

It will be readily seen therefrom that when the petitioner's commission covers general supervision, it is
provided that the 1/2 rule of equal sharing of the sales commissions does not apply and that the
salesman's share is stipulated in the case of each subdivision. Furthermore, what is involved here is not
Hoskins' salesman's share in the petitioner's 12% sales commission, which he presumably collected also
from petitioner without respondent's questioning it, but a 50% share besides in petitioner's planning and
supervision fee of 8% of the gross sales, as mentioned above. This is evident from petitioner's board's
resolution of July 14, 1953 (Exhibit 7), wherein it is recited that in addition to petitioner's sales
commission of 12% of gross sales, the subdivision owners were paying to petitioner 8% of gross sales as
supervision fee, and a collection fee of 5% of gross collections, or total fees of 25% of gross sales.

The case before us is similar to previous cases of disallowances as deductible items of officers' extra fees,
bonuses and commissions, upheld by this Court as not being within the purview of ordinary and
necessary expenses and not passing the test of reasonable compensation.3 In Kuenzle & Streiff, Inc. vs.
Commissioner of Internal Revenuedecided by this Court on May 29, 1969,4 we reaffirmed the test of
reasonableness, enunciated in the earlier 1967 case involving the same parties, that: "It is a general rule
that 'Bonuses to employees made in good faith and as additional compensation for the services actually
rendered by the employees are deductible, provided such payments, when added to the stipulated
salaries, do not exceed a reasonable compensation for the services rendered' (4 Mertens Law of Federal
Income Taxation, Sec. 25.50, p. 410). The conditions precedent to the deduction of bonuses to employees
are: (1) the payment of the bonuses is in fact compensation; (2) it must be for personal services actually
rendered; and (3) the bonuses, when added to the salaries, are 'reasonable . . . when measured by the
amount and quality of the services performed with relation to the business of the particular taxpayer'
(Idem., Sec. 25, 44, p. 395).

"There is no fixed test for determining the reasonableness of a given bonus as compensation. This
depends upon many factors, one of them being 'the amount and quality of the services performed with
relation to the business.' Other tests suggested are: payment must be 'made in good faith'; 'the character
of the taxpayer's business, the volume and amount of its net earnings, its locality, the type and extent of
the services rendered, the salary policy of the corporation'; 'the size of the particular business'; 'the
employees' qualifications and contributions to the business venture'; and 'general economic conditions' (4
Mertens, Law of Federal Income Taxation, Secs. 25.44, 25.49, 25.50, 25.51, pp. 407-412). However, 'in
determining whether the particular salary or compensation payment is reasonable, the situation must be
considered as whole. Ordinarily, no single factor is decisive. . . . it is important to keep in mind that it
seldom happens that the application of one test can give satisfactory answer, and that ordinarily it is the
interplay of several factors, properly weighted for the particular case, which must furnish the final
answer."

Petitioner's case fails to pass the test. On the right of the employer as against respondent Commissioner to
fix the compensation of its officers and employees, we there held further that while the employer's right
may be conceded, the question of the allowance or disallowance thereof as deductible expenses for
income tax purposes is subject to determination by respondent Commissioner of Internal Revenue. Thus:
"As far as petitioner's contention that as employer it has the right to fix the compensation of its officers
and employees and that it was in the exercise of such right that it deemed proper to pay the bonuses in
question, all that We need say is this: that right may be conceded, but for income tax purposes the
employer cannot legally claim such bonuses as deductible expenses unless they are shown to be
reasonable. To hold otherwise would open the gate of rampant tax evasion.

"Lastly, We must not lose sight of the fact that the question of allowing or disallowing as deductible
expenses the amounts paid to corporate officers by way of bonus is determined by respondent
exclusively for income tax purposes. Concededly, he has no authority to fix the amounts to be paid to
corporate officers by way of basic salary, bonus or additional remuneration — a matter that lies more or
less exclusively within the sound discretion of the corporation itself. But this right of the corporation is, of
course, not absolute. It cannot exercise it for the purpose of evading payment of taxes legitimately due to
the State."

Finally, it should be noted that we have here a case practically of a sole proprietorship of C. M. Hoskins,
who however chose to incorporate his business with himself holding virtually absolute control thereof
with 99.6% of its stock with four other nominal shareholders holding one share each. Having chosen to
use the corporate form with its legal advantages of a separate corporate personality as distinguished from
his individual personality, the corporation so created, i.e., petitioner, is bound to comport itself in
accordance with corporate norms and comply with its corporate obligations. Specifically, it is bound to
pay the income tax imposed by law on corporations and may not legally be permitted, by way of
corporate resolutions authorizing payment of inordinately large commissions and fees to its controlling
stockholder, to dilute and diminish its corresponding corporate tax liability.

ACCORDINGLY, the decision appealed from is hereby affirmed, with costs in both instances against
petitioner.

Concepcion, C.J., Reyes, J.B.L., Dizon, Makalintal, Zaldivar, Sanchez, Castro, Fernando and Barredo, JJ., concur.

G.R. No. L-15922. November 29, 1961.]

C. F. CALANOC, Petitioner, v. THE COLLECTOR OF INTERNAL REVENUE, Respondent.

Francisco M. Gonzales for Petitioner.

Solicitor General and Special Attorney Librada del Rosario-Natividad for Respondent.

SYLLABUS
1. TAXATION; ASSESSMENT FOR AMUSEMENT TAX; EXPENSES EXORBITANT; EXEMPTION
FROM PAYMENT NOT ALLOWED. — Application for exemption from payment of amusement tax will
be denied where the net proceeds of the exhibition conducted for charitable purposes are not substantial
or where the expenses incurred by the taxpayer are exorbitant.

DECISION

LABRADOR, J.:

This is a petition to review the decision of the Court of Tax Appeals affirming an assessment of P7,378.57,
by the Collector of Internal Revenue as amusement tax and surcharge due on a boxing and wrestling
exhibition held by petitioner Calanoc on December 3, 1949 at the Rizal Memorial Stadium.

By authority of a solicitation permit issued by the Social Welfare Commission on November 24, 1949,
whereby the petitioner was authorized to solicit and receive contributions for the orphans and destitute
children of the Child Welfare Workers Club of the Commission, the petitioner on December 3, 1949
financed and promoted a boxing and wrestling exhibition at the Rizal Memorial Stadium for the said
charitable purpose. Before the exhibition took place, the petitioner applied with the respondent Collector
of Internal Revenue for exemption from payment of the amusement tax, relying on the provisions of
Section 260 of the National Internal Revenue Code, to which the respondent answered that the exemption
depended upon petitioner’s compliance with the requirements of law.

After the said exhibition, the respondent, through his agent, investigated the tax case of the petitioner,
and from the statement of receipts which was furnished the agent, the latter found that the gross sales
amounted to P26,553.00; the expenditures incurred was P25,157.62; and the net profit was only P1,375.38.
Upon examination of the said receipts, the agent also found the following items of expenditures: (a)
P461.65 for police protection; (b) P460.00 for gifts; (c) P1,880.05 for parties; and (d) several items for
representation.

Out of the proceeds of the exhibition, only P1,375.38 was remitted to the Social Welfare Commission for
the said charitable purpose for which the permit was issued.

On November 24, 1951, the Collector of Internal Revenue demanded from the petitioner payment of the
amount of P7,378.57 as the amusement tax for the exhibition. Authority for this demand for payment is
an opinion of the Secretary of Finance dated June 15, 1948, authorizing denial of application for
exemption from payment of amusement tax in cases where the net proceeds are not substantial or where
the expenses are exorbitant. Not satisfied with the assessment imposed upon him, the petitioner brought
this case to the Court of Tax Appeals for review.

After hearing, the tax court rendered the decision sought herein to be reviewed. Hence, this petition.

Before this Court, the petitioner questions the validity of the assessment of P7,378.57 imposed upon him
by the respondent, as affirmed by the tax court. He denies having received the stadium fee of P1,000,
which is not included in the receipts, and claims that if he did, he can not be made to pay almost seven
times the amount as amusement tax. But evidence was submitted that while he did not receive said
stadium fee of P1,000, said amount was paid by the O-SO Beverages directly to the stadium for
advertisement privileges in the evening of the entertainments. As the fee was paid by said concessionaire,
petitioner had no right to include the P1,000 stadium fee among the items of his expenses. It results,
therefore, that P1,000 went into petitioner’s pocket which is not accounted for.

Furthermore petitioner admitted that he could not justify the other expenses, such as those for police
protection and gifts. He claims further that the accountant who prepared the statement of receipts is
already dead and could no longer be questioned on the items contained in said statement.

We have examined the records of the case and we agree with the lower court that most of the items of
expenditures contained in the statement submitted to the agent are either exorbitant or not supported by
receipts. We agree with the tax court that the payment of P461.65 for police protection is illegal as it is a
consideration given by the petitioner to the police for the performance by the latter of the functions
required of them to be rendered by law. The expenditures of P460.00 for gifts, P1,880.05 for parties and
other items for representation are rather excessive, considering that the purpose of the exhibition was for
a charitable cause.

WHEREFORE, the decision sought herein to be reviewed is hereby affirmed, with costs against the
petitioner.

Bengzon, C.J., Padilla, Bautista Angelo, Concepcion, Reyes, J.B.L., Barrera, Paredes, Dizon and De Leon,
JJ., concur.

G.R. No. L-18840 May 29, 1969

KUENZLE & STREIFF, INC., petitioner,

vs.
THE COMMISSIONER OF INTERNAL REVENUE, respondent.

Angel S. Gamboa for petitioner.

Office of the Solicitor General Arturo A. Alafriz, Assistant Solicitor General Jose P. Alejandro and Special Attorney
Virgilio C. Saldajeno for respondent.

DIZON, J.:

Petition filed by Kuenzle & Streiff Inc. for the review of the decision of the Court of Tax Appeals in C.T.A.
Case No. 551 sustaining the assessments of the respondent issued against it, for deficiency income taxes
for the years 1953, 1954 and 1955 in the amounts of P40,455.00, P11,248.00 and P16,228.00, respectively,
arising from the disallowance, as deductible expenses, of the bonuses paid by petitioner to its officers,
upon the ground that they were not ordinary, nor necessary, nor reasonable expenses within the purview
of Section 30(a) (1) of the National Internal Revenue Code.

Petitioner, a domestic corporation, filed its income tax returns for the taxable years 1953, 1954 and 1955,
declaring net losses of P2,085.84, P4,953.91 and P9,246.07 respectively. Upon a verification thereof, the
respondent, on September 9, 1957, assessed against it the deficiency income taxes in question, arrived at
as follows:

For the year 1953, by disallowing as deductions all amounts paid that year by the petitioner as bonus to
its officers and staff-members in the aggregate sum of P175,140.00, this resulting in a net taxable income
of petitioner amounting to P173,054.16; for the taxable years 1954 and 1955, the similar disallowance as
deductions of a portion of the bonuses paid by petitioner in said years to its officers and staff-members in
the aggregate sums of P88,193.33 for 1954 and P90,385.00 for 1955, resulted likewise in a net taxable
income for petitioner in the sum of P83,239.42 for 1954 and P81,138.93 for 1955.

On July 9, 1958 petitioner filed with the Court of Tax Appeals a petition for review contesting the
aforementioned assessments (C.T.A. Case No. 551), and on April 28, 1961, said Court rendered judgment
as follows:

"FOR THE FOREGOING CONSIDERATIONS, the decision appealed from is hereby affirmed with
respect to deficiency assessment for the years 1953 and 1955. As regards the deficiency assessment for the
year 1954, the same is hereby modified in the sense that the amount due from petitioner is P11,248.00,
instead of P16,648.00. Accordingly, petitioner is ordered to pay within thirty days from the date this
decision becomes final the sums of P40,455.00 and P16,228.00, plus 5% surcharge and 1% monthly interest
from October 1, 1957 until paid. It is likewise ordered to pay the sum of P11,248.00 within the same
period, and, if not so paid, there shall be added thereto 5% surcharge and 1% monthly interest from the
date of delinquency to the date of payment. With costs against petitioner."

Petitioner moved for a reconsideration of the abovequoted decision, and on August 21, 1961, the court
amended the same to include the following at the end thereof:

... In both cases, the maximum amount of interest shall not exceed the amount corresponding to a
period of three years, pursuant to Section 51(e) (2) of the National Internal Revenue Code, as
amended by Section 8 of Republic Act No. 2343. With costs against petitioner.

Having found that the bonuses in question were paid for services actually rendered by the recipients
thereof, the tax court proceeded to consider the question of "whether or not they are reasonable". In this
connection it construed Section 30(a) (1) of the Revenue Code as allowing the deduction from gross
income of all the ordinary and necessary expenses incurred during the taxable year in carrying on the
trade or business of the taxpayer, including a reasonable allowance for salaries or other compensation for
personal services actually rendered. We agree with the view thus expressed, as well as with court's
conclusion that the bonuses in question were not reasonable considering all material and relevant factors.

Petitioner contends that the tax court, in arriving at its conclusion, acted "in a purely arbitrary manner",
and erred in not considering individually the total compensation paid to each of petitioner's officers and
staff members in determining the reasonableness of the bonuses in question, and that it erred likewise in
holding that there was nothing in the record indicating that the actuation of the respondent was
unreasonable or unjust.

It is not true, as petitioner claims to support its view, that the respondent and the tax court based their
ruling exclusively upon the fact that petitioner had suffered net losses in its business operations during
the years when the bonuses in question were paid. The truth appears to be that, in arriving at such
conclusion, the respondent and the tax court gave due consideration to all the material factors that led
this Court to decide an earlier case of petitioner itself involving the same issue and where the test for
determining the reasonableness of bonuses and additional compensation for services actually rendered
were laid down by Us as follows:

It is a general rule that `Bonuses to employees made in good faith and as additional
compensation for the services actually rendered by the employees are deductible, provided such
payments, when added to the stipulated salaries, do not exceed a reasonable compensation for
the services rendered' (4 Mertens Law of Federal Income Taxation, Sec. 25.50, p. 410). The
condition precedents to the deduction of bonuses to employees are: (1) the payment of the
 bonuses is in fact compensation; (2) it must be for personal services actually rendered; and (3)
bonuses, when added to the salaries, are `reasonable ... when measured by the amount and
quality of the services performed with relation to the business of the particular taxpayer' (Idem.,
Sec. 25.44, p. 395). Here it is admitted that the bonuses are in fact compensation and were paid for
services actually rendered. The only question is whether the payment of said bonuses is
reasonable.

There plaintiff is no fixed test for determining the reasonableness of a given bonus as compensation. This
depends upon many factors, one of them being 'the amount and quality of the services performed with
relation to the business'. Other tests suggested are: payment must be 'made in good faith'; 'the character
of the taxpayer's business, the volume and amount of its net earnings, its locality, the type and extent of
the services rendered, the salary policy of the corporation'; 'the size of the particular business'; 'the
employees' qualifications and contributions to the business venture'; and 'general economic conditions (4
Mertens Law of Federal Income Taxation, Secs. 25.44, 25.49, 25.50, 25.51, pp. 407-412). However, 'in
determining whether the particular salary or compensation payment is reasonable, the situation must be
considered as a whole.lawphi1.ñet Ordinarily, no single factor is decisive. ... it is important to keep in
mind that it seldom happens that the application of one test can give a satisfactory answer, and that
ordinarily it is the interplay of several factors, properly weighted for the particular case, which must
furnish the final answer (Idem)." Kuenzle & Streiff v. Coll. of Int. Rev., G. R. Nos. L-12010 & L-12113, Oct.
20, 1959.)

Making a distinction between petitioner's previous case and the present, the tax court said that while it is
true that in the former (C.T.A. No. 169, December 29, 1956, G.R. Nos. L-12010 and L-12113, October 20,
1959, involving taxable years 1950 to 1952 (We allowed — and considered deductible — bonuses in
amounts bigger than the ones allowed by respondent in the case at bar, that was due to the fact that
petitioner had earned huge profits during the years 1950-52. So much so that, the payment of such
bonuses notwithstanding, petitioner still had substantial net profits distributable as dividends among its
stockholders. In the present case, on the other hand, it is clear that the ultimate and inevitable result of the
payment of the questioned bonuses would be net losses for petitioner during the taxable years in which
they were paid.

It seems clear from the record that, in arriving at its main conclusion, the tax court considered, inter alia,
the following factors:

In the first place, for the years 1953, 1954 and 1955 the petitioner paid to its following top officers: A. P.
Kuenzle, H. A. Streiff, A. Jung, G. Gattaneo, A. Schatzmann, F. E. Rein, M. Klinger, A. Huber, S. Meili, M.
Triaca, J. Ortiz, H. Vogt, W. Ramp, W. Strehler, H. R. Jung, K. Schedler, P. C. Curtis, R. Oefeli, substantial
amounts as salaries and bonuses ranging from P9,000.00 yearly as a minimum (except in the case) and
P50,000.00 as maximum. All these officials headed various departments of petitioner's business. While it
must be assumed, on the one hand, in the absence of evidence to the contrary, that they were competent,
on the other the record discloses no evidence nor has petitioner ever made the claim that all or some of
them were gifted with some special talent, or had undergone some extraordinary training, or had
accomplished any particular task, that contributed materially to the success of petitioner's business
during the taxable years in question.

In the second place, working under the above-named officials and constituting what we might call the
staff of petitioner's working personnel, were a good number of other employees — mostly Filipinos
(T.s.n., pp. 222-223) — all of whom, according to the record (Idem. 223), received no pay increase at all
during the same years.
In the third place, the above salaries and bonuses were paid to petitioner's top officials mentioned
heretofore, in spite of the fact that according to its income tax returns for the relevant years, it had
suffered net losses as follows: P2,085.84, P4,953.91, P9,246.07 for the years 1953, 1954 and 1955,
respectively. In fact, petitioner's financial statements further show that its gross assets suffered a gradual
decrease for the same years (Exh. B-1, p. 58, B.I.R., records, Exh. D-1, p. 36 id., Exh. F-1, p. 14 id.), and that
a similar downward trend took place in its surplus and capital position during the same period of time.

That the charge of arbitrariness against respondent is without merit is further shown by the following
considerations:

Petitioner admits that the amounts it paid to its top officers in 1953 as bonus or "additional remuneration"
were taken either from operating funds, that is, funds from the year's business operations, or from its
general reserve. Normally, the amounts taken from the first source should have constituted profits of the
corporation distributable as dividends amongst its shareholders. Instead it would appear that they were
diverted from this purpose and used to pay the bonuses for the year 1953. In the case of the amounts
taken from the general reserve it seems clear that the company had to resort to the use of such reserve
funds because the item of expense to be met could not be considered as ordinary or necessary — and was
therefore beyond the purview of the provisions of Section 30(a) (1) of the National Internal Revenue
Code. This being so, We cannot see our way clear to holding that the respondent acted arbitrarily in
disallowing as deductible expenses the amounts thus paid as bonus or "additional remuneration".

Neither does the total disallowance of the bonuses paid to some officers and the partial disallowance of
those paid to others show that respondent acted unjustly and unreasonably. The record sufficiently
shows that the total disallowance was more or less due to the fact that the affected officers had previously
received substantial increases in their basic salaries.

Petitioner justifies payment of these bonuses to its top officials by saying that its general salary policy was
to give a low salary but to grant substantial bonuses at the end of each year, so that its officers may
receive considerable lump sums with which to purchase whatever expensive objects or items they might
need. While We are not prepared to hold that such policy is unreasonable, still We believe that its
application should not result in producing a net loss for the employer at the end of the year, for if that
were to be the case, the scheme may be utilized to freely achieve some other purpose — evade payment
of taxes.

The authority relied upon by petitioner (Mertens Law of Federal Income Taxation, Vol. IV, p. 418) does
not apply to the present case, because it refers to the salary paid to an employee, which may be claimed
as a deductible amount. In the case before Us the respondent does not question the basic salaries paid by
petitioner to the officers and employees, but disallowed only the bonuses paid to petitioner's top officers
at the end of the taxable years in question.

In further support of its appeal petitioner claims that the amounts disallowed by the respondent should
be considered as legitimate business expenses as their payment was made in good faith. In bringing up
this point, petitioner treads on dangerous ground. In the first place, good faith cannot decide whether a
business is reasonable or unreasonable for purposes of income tax deduction. In the second place,
petitioner's good faith in the matter at issue is not overly manifest, considering that the questioned
bonuses were fixed and paid at the end the years in question — at a time, therefore, when petitioner fully
knew that it was going to suffer a net loss in its business operations.

As far as petitioner's contention that as employer it has the right to fix the compensation of its officers and
employees and that it was in the exercise of such right that it deemed proper to pay the bonus in
question, all that We need say is this: that right maybe conceded, but for income tax purposes the
employer cannot legally claim such bonuses as deductible expenses unless they are shown to be
reasonable. To hold otherwise would open the gate to rampant tax evasion. Lastly, We must not lose
sight of the fact that the question of allowing or disallowing as deductible expenses the amounts paid to
corporate officers by way of bonus is determined by respondent exclusively for income tax purposes.
Concededly, he has no authority to fix the amounts to be paid to corporate officers by way of basic salary,
bonus or additional remuneration — a matter that lies more or less exclusively within the sound
discretion of the corporation itself. But this right of the corporation is, of course, not absolute. It cannot
exercise it for the purpose of evading payment of taxes legitimately due to the State.

WHEREFORE, the appealed decision being in accordance with law, the same is hereby affirmed, with
costs.

Reyes, J.B.L., Makalintal, Zaldivar, Sanchez, Fernando, Capistrano, Teehankee and Barredo, JJ., concur.
Concepcion, C.J., and Castro, J., are on leave.

G.R. Nos. 106949-50 December 1, 1995

PAPER INDUSTRIES CORPORATION OF THE PHILIPPINES (PICOP), petitioner,

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

G.R. Nos. 106984-85 December 1, 1995

COMMISSIONER INTERNAL REVENUE, petitioner,

vs.
PAPER INDUSTRIES CORPORATION OF THE PHILIPPINES, THE COURT OF APPEALS and THE
COURT OF TAX APPEALS, respondents.

FELICIANO, J.:

The Paper Industries Corporation of the Philippines ("Picop"), which is petitioner in G.R. Nos. 106949-50
and private respondent in G.R. Nos. 106984-85, is a Philippine corporation registered with the Board of
Investments ("BOI") as a preferred pioneer enterprise with respect to its integrated pulp and paper mill,
and as a preferred non-pioneerenterprise with respect to its integrated plywood and veneer mills.

On 21 April 1983, Picop received from the Commissioner of Internal Revenue ("CIR") two (2) letters of
assessment and demand both dated 31 March 1983: (a) one for deficiency transaction tax and for
documentary and science stamp tax; and (b) the other for deficiency income tax for 1977, for an aggregate
amount of P88,763,255.00. These assessments were computed as follows:

Transaction Tax

Interest payments on

money market
borrowings P 45,771,849.00
———————

35% Transaction tax due

thereon 16,020,147.00

Add: 25% surcharge 4,005,036.75

——————

T o t a l P 20,025,183.75

Add:

14% int. fr.

1-20-78 to

7-31-80 P 7,093,302.57

20% int, fr.

8-1-80 to

3-31-83 10,675,523.58

——————

17,768,826.15

——————

P 37,794,009.90

Documentary and Science Stamps Tax

Total face value of

debentures P100,000,000.00

Documentary Stamps

Tax Due

(P0.30 x P100,000.000 )

( P200 ) P 150,000.00
Science Stamps Tax Due

(P0.30 x P100,000,000 )

( P200 ) P 150,000.00

——————

T o t a l P 300,000.00

Add: Compromise for

non-affixture 300.00

——————

300,300.00

——————

TOTAL AMOUNT DUE AND COLLECTIBLE P 38,094,309.90

===========

Deficiency Income Tax for 1977

Net income per return P 258,166.00

Add: Unallowable deductions

1) Disallowed deductions

availed of under

R.A. No. 5186 P 44,332,980.00

2) Capitalized interest

expenses on funds

used for acquisition

of machinery & other

equipment 42,840,131.00

3) Unexplained financial

guarantee expense 1,237,421.00

 4) Understatement

of sales 2,391,644.00

5) Overstatement of

cost of sales 604,018.00

——————

P91,406,194.00

Net income per investigation P91,664,360.00

Income tax due thereon 34,734,559.00

Less: Tax already assessed per return 80,358.00

——————

Deficiency P34,654,201.00

Add:

14% int. fr.

4-15-78 to

7-31-81 P 11,128,503.56

20% int. fr.

8-1-80 to

4-15-81 4,886,242.34

——————

P16,014,745.90

——————

TOTAL AMOUNT DUE AND COLLECTIBLE P 50,668,946.90 1

===========

On 26 April 1983, Picop protested the assessment of deficiency transaction tax and documentary and
science stamp taxes. Picop also protested on 21 May 1983 the deficiency income tax assessment for 1977.
These protests were not formally acted upon by respondent CIR. On 26 September 1984, the CIR issued a
warrant of distraint on personal property and a warrant of levy on real property against Picop, to enforce
collection of the contested assessments; in effect, the CIR denied Picop's protests.

Thereupon, Picop went before the Court of Tax Appeals ("CTA") appealing the assessments. After trial,
the CTA rendered a decision dated 15 August 1989, modifying the findings of the CIR and holding Picop
liable for the reduced aggregate amount of P20,133,762.33, which was itemized in the dispositive portion
of the decision as follows:

35% Transaction Tax P 16,020,113.20

Documentary & Science

Stamp Tax 300,300.00

Deficiency Income Tax Due 3,813,349.33

——————

TOTAL AMOUNT DUE AND PAYABLE P 20,133,762.53 2

===========

Picop and the CIR both went to the Supreme Court on separate Petitions for Review of the above decision
of the CTA. In two (2) Resolutions dated 7 February 1990 and 19 February 1990, respectively, the Court
referred the two (2) Petitions to the Court of Appeals. The Court of Appeals consolidated the two (2)
cases and rendered a decision, dated 31 August 1992, which further reduced the liability of Picop to
P6,338,354.70. The dispositive portion of the Court of Appeals decision reads as follows:

WHEREFORE, the appeal of the Commissioner of Internal Revenue is denied for lack of
merit. The judgment against PICOP is modified, as follows:

1. PICOP is declared liable for the 35% transaction tax in the amount of P3,578,543.51;

2. PICOP is absolved from the payment of documentary and science stamp tax of
P300,000.00 and the compromise penalty of P300.00;

3. PICOP shall pay 20% interest per annum on the deficiency income tax of P1,481,579.15,
for a period of three (3) years from 21 May 1983, or in the total amount of P888,947.49,
and a surcharge of 10% on the latter amount, or P88,984.75.

No pronouncement as to costs.

SO ORDERED.

Picop and the CIR once more filed separate Petitions for Review before the Supreme Court. These cases
were consolidated and, on 23 August 1993, the Court resolved to give due course to both Petitions in G.R.
Nos. 106949-50 and 106984-85 and required the parties to file their Memoranda.
Picop now maintains that it is not liable at all to pay any of the assessments or any part thereof. It assails
the propriety of the thirty-five percent (35%) deficiency transaction tax which the Court of Appeals held
due from it in the amount of P3,578,543.51. Picop also questions the imposition by the Court of Appeals
of the deficiency income tax of P1,481,579.15, resulting from disallowance of certain claimed financial
guarantee expenses and claimed year-end adjustments of sales and cost of sales figures by Picop's
external auditors. 3

The CIR, upon the other hand, insists that the Court of Appeals erred in finding Picop not liable for
surcharge and interest on unpaid transaction tax and for documentary and science stamp taxes and in
allowing Picop to claim as deductible expenses:

(a) the net operating losses of another corporation (i.e., Rustan Pulp and Paper Mills,
Inc.); and

(b) interest payments on loans for the purchase of machinery and equipment.

The CIR also claims that Picop should be held liable for interest at fourteen percent (14%) per
annum from 15 April 1978 for three (3) years, and interest at twenty percent (20%) per annum for a
maximum of three (3) years; and for a surcharge of ten percent (10%), on Picop's deficiency
income tax. Finally, the CIR contends that Picop is liable for the corporate development tax
equivalent to five percent (5%) of its correct 1977 net income.

The issues which we must here address may be sorted out and grouped in the following manner:

I. Whether Picop is liable for:

(1) the thirty-five percent (35%) transaction tax;

(2) interest and surcharge on unpaid transaction tax; and

(3) documentary and science stamp taxes;

II. Whether Picop is entitled to deductions against income of:

(1) interest payments on loans for the purchase of

machinery and equipment;

(2) net operating losses incurred by the Rustan Pulp and

Paper Mills, Inc.; and

(3) certain claimed financial guarantee expenses; and

III. (1) Whether Picop had understated its sales and overstated its cost of
sales for 1977; and

(2) Whether Picop is liable for the corporate

development tax of five percent (5%) of its net income
for 1977.

We will consider these issues in the foregoing sequence.

I.

(1) Whether Picop is liable

for the thirty-five percent
(35%) transaction tax.

With the authorization of the Securities and Exchange Commission, Picop issued commercial paper
consisting of serially numbered promissory notes with the total face value of P229,864,000.00 and a
maturity period of one (1) year, i.e., from 24 December 1977 to 23 December 1978. These promissory notes
were purchased by various commercial banks and financial institutions. On these promissory notes,
Picop paid interest in the aggregate amount of P45,771,849.00. In respect of these interest payments, the
CIR required Picop to pay the thirty-five percent (35%) transaction tax.

The CIR based this assessment on Presidential Decree No. 1154 dated 3 June 1977, which reads in part as
follows:

Sec. 1. The National Internal Revenue Code, as amended, is hereby further amended by
adding a new section thereto to read as follows:

Sec. 195-C. Tax on certain interest. — There shall be levied, assessed, collected and paid
on every commercial paper issued in the primary market as principal instrument, a
transaction tax equivalent to thirty-five percent (35%) based on the gross amount of
interest thereto as defined hereunder, which shall be paid by the borrower/issuer:
Provided, however, that in the case of a long-term commercial paper whose maturity
exceeds more than one year, the borrower shall pay the tax based on the amount of
interest corresponding to one year, and thereafter shall pay the tax upon accrual or actual
payment (whichever is earlier) of the untaxed portion of the interest which corresponds
to a period not exceeding one year.

The transaction tax imposed in this section shall be a final tax to be paid by the borrower and
shall be allowed as a deductible item for purposes of computing the borrower's taxable
income.

For purposes of this tax —

(a) "Commercial paper" shall be defined as an instrument evidencing indebtedness of any

person or entity, including banks and non-banks performing quasi-banking functions,
which is issued, endorsed, sold, transferred or in any manner conveyed to another
person or entity, either with or without recourse and irrespective of
maturity. Principally, commercial papers are promissory notes and/or similar
instruments issued in the primary market and shall not include repurchase agreements,
certificates of assignments, certificates of participations, and such other debt instruments
issued in the secondary market.

(b) The term "interest" shall mean the difference between what the principal borrower
received and the amount it paid upon maturity of the commercial paper which shall, in
no case, be lower than the interest rate prevailing at the time of the issuance or renewal of
the commercial paper. Interest shall be deemed synonymous with discount and shall
include all fees, commissions, premiums and other payments which form integral parts
of the charges imposed as a consequence of the use of money.
 In all cases, where no interest rate is stated or if the rate stated is lower than the
prevailing interest rate at the time of the issuance or renewal of commercial paper, the
Commissioner of Internal Revenue, upon consultation with the Monetary Board of the
Central Bank of the Philippines, shall adjust the interest rate in accordance herewith, and
assess the tax on the basis thereof.

The tax herein imposed shall be remitted by the borrower to the Commissioner of Internal
Revenue or his Collection Agent in the municipality where such borrower has its principal
place of business within five (5) working days from the issuance of the commercial
paper. In the case of long term commercial paper, the tax upon the untaxed portion of the
interest which corresponds to a period not exceeding one year shall be paid upon accrual
payment, whichever is earlier. (Emphasis supplied)

Both the CTA and the Court of Appeals sustained the assessment of transaction tax.

In the instant Petition, Picop reiterates its claim that it is exempt from the payment of the transaction tax
by virtue of its tax exemption under R.A. No. 5186, as amended, known as the Investment Incentives Act,
which in the form it existed in 1977-1978, read in relevant part as follows:

Sec. 8. Incentives to a Pioneer Enterprise. In addition to the incentives provided in the

preceding section, pioneer enterprises shall be granted the following incentive benefits:

(a) Tax Exemption. Exemption from all taxes under the National Internal Revenue Code,
except income tax, from the date the area of investment is included in the Investment
Priorities Plan to the following extent:

(1) One hundred per cent (100%) for the first five years;

(2) Seventy-five per cent (75%) for the sixth through the eighth years;

(3) Fifty per cent (50%) for the ninth and tenth years;

(4) Twenty per cent (20%) for the eleventh and twelfth years; and

(5) Ten per cent (10%) for the thirteenth through the fifteenth year.

xxx xxx xxx 4

We agree with the CTA and the Court of Appeals that Picop's tax exemption under R.A. No. 5186, as
amended, does not include exemption from the thirty-five percent (35%) transaction tax. In the first place,
the thirty-five percent (35%) transaction tax 5 is an income tax, that is, it is a tax on the interest income of
the lenders or creditors. In Western Minolco Corporation v. Commissioner of Internal Revenue, 6 the petitioner
corporation borrowed funds from several financial institutions from June 1977 to October 1977 and paid
the corresponding thirty-five (35%) transaction tax thereon in the amount of P1,317,801.03, pursuant to
Section 210 (b) of the 1977 Tax Code. Western Minolco applied for refund of that amount alleging it was
exempt from the thirty-five (35%) transaction tax by reason of Section 79-A of C.A. No. 137, as amended,
which granted new mines and old mines resuming operation "five (5) years complete tax exemptions,
except income tax, from the time of its actual bonafide orders for equipment for commercial production."
In denying the claim for refund, this Court held:
 The petitioner's contentions deserve scant consideration. The 35% transaction tax is
imposed on interest income from commercial papers issued in the primary money market. Being a
tax on interest, it is a tax on income.

As correctly ruled by the respondent Court of Tax Appeals:

Accordingly, we need not and do not think it necessary to discuss

further the nature of the transaction tax more than to say that the
incipient scheme in the issuance of Letter of Instructions No. 340 on
November 24, 1975 (O.G. Dec. 15, 1975), i.e., to achieve operational
simplicity and effective administration in capturing the interest-income
"windfall" from money market operations as a new source of revenue,
has lost none of its animating principle in parturition of amendatory
Presidential Decree No. 1154, now Section 210 (b) of the Tax Code. The
tax thus imposed is actually a tax on interest earnings of the lenders or placers
who are actually the taxpayers in whose income is imposed. Thus "the
borrower withholds the tax of 35% from the interest he would have to
pay the lender so that he (borrower) can pay the 35% of the interest to
the Government." (Citation omitted) . . . . Suffice it to state that the broad
consensus of fiscal and monetary authorities is that "even if nominally,
the borrower is made to pay the tax, actually, the tax is on the interest
earning of the immediate and all prior lenders/placers of the money. . . ."
(Rollo, pp. 36-37)

The 35% transaction tax is an income tax on interest earnings to the lenders or placers. The latter
are actually the taxpayers. Therefore, the tax cannot be a tax imposed upon the petitioner.
In other words, the petitioner who borrowed funds from several financial institutions by issuing
commercial papers merely withheld the 35% transaction tax before paying to the financial
institutions the interests earned by them and later remitted the same to the respondent
Commissioner of Internal Revenue. The tax could have been collected by a different
procedure but the statute chose this method. Whatever collecting procedure is adopted
does not change the nature of the tax.

xxx xxx xxx 7

(Emphasis supplied)

Much the same issue was passed upon in Marinduque Mining Industrial Corporation
v. Commissioner of Internal Revenue 8 and resolved in the same way:

It is very obvious that the transaction tax, which is a tax on interest derived from commercial
paper issued in the money market, is not a tax contemplated in the above-quoted legal
provisions. The petitioner admits that it is subject to income tax. Its tax exemption should
be strictly construed.

We hold that petitioner's claim for refund was justifiably denied. The transaction tax,
although nominally categorized as a business tax, is in reality a withholding tax as positively
stated in LOI No. 340. The petitioner could have shifted the tax to the lenders or
recipients of the interest. It did not choose to do so. It cannot be heard now to complain
about the tax. LOI No. 340 is an extraneous or extrinsic aid to the construction of section
210 (b).
 xxx xxx xxx 9

(Emphasis supplied)

It is thus clear that the transaction tax is an income tax and as such, in any event, falls outside the scope of
the tax exemption granted to registered pioneer enterprises by Section 8 of R.A. No. 5186, as amended.
Picop was the withholding agent, obliged to withhold thirty-five percent (35%) of the interest payable to
its lenders and to remit the amounts so withheld to the Bureau of Internal Revenue ("BIR"). As a
withholding agent, Picop is made personally liable for the thirty-five percent (35%) transaction
tax 10 and if it did not actually withhold thirty-five percent (35%) of the interest monies it had paid to its
lenders, Picop had only itself to blame.

Picop claims that it had relied on a ruling, dated 6 October 1977, issued by the CIR, which held that Picop
was not liable for the thirty-five (35%) transaction tax in respect of debenture bonds issued by Picop.
Prior to the issuance of the promissory notes involved in the instant case, Picop had also issued debenture
bonds P100,000,000.00 in aggregate face value. The managing underwriter of this debenture bond issue,
Bancom Development Corporation, requested a formal ruling from the Bureau of Internal Revenue on the
liability of Picop for the thirty-five percent (35%) transaction tax in respect of such bonds. The ruling
rendered by the then Acting Commissioner of Internal Revenue, Efren I. Plana, stated in relevant part:

It is represented that PICOP will be offering to the public primary bonds in the aggregate
principal sum of one hundred million pesos (P100,000,000.00); that the bonds will be
issued as debentures in denominations of one thousand pesos (P1,000.00) or multiples, to
mature in ten (10) years at 14% interest per annum payable semi-annually; that the bonds are
convertible into common stock of the issuer at the option of the bond holder at an agreed
conversion price; that the issue will be covered by a "Trust Indenture" with a duly authorized
trust corporation as required by the Securities and Exchange Commission, which trustee
will act for and in behalf of the debenture bond holders as beneficiaries; that once
issued, the bonds cannot be preterminated by the holder and cannot be redeemed by the issuer
until after eight (8) years from date of issue; that the debenture bonds will be subordinated to
present and future debts of PICOP; and that said bonds are intended to be listed in the stock
exchanges, which will place them alongside listed equity issues.

In reply, I have the honor to inform you that although the bonds hereinabove described
are commercial papers which will be issued in the primary market, however, it is clear
from the abovestated facts that said bonds will not be issued as money market instruments. Such
being the case, and considering that the purposes of Presidential Decree No. 1154, as can
be gleaned from Letter of Instruction No. 340, dated November 21, 1975, are (a) to
regulate money market transactions and (b) to ensure the collection of the tax on interest
derived from money market transactions by imposing a withholding tax thereon, said
bonds do not come within the purview of the "commercial papers" intended to be subjected to the
35% transaction tax prescribed in Presidential Decree No. 1154, as implemented by Revenue
Regulations No. 7-77. (See Section 2 of said Regulation) Accordingly, PICOP is not subject
to 35% transaction tax on its issues of the aforesaid bonds. However, those investing in said
bonds should be made aware of the fact that the transaction tax is not being imposed on
the issuer of said bonds by printing or stamping thereon, in bold letters, the following
statement: "ISSUER NOT SUBJECT TO TRANSACTION TAX UNDER P.D. 1154.
BONDHOLDER SHOULD DECLARE INTEREST EARNING FOR INCOME
TAX." 11 (Emphases supplied)
In the above quoted ruling, the CIR basically held that Picop's debenture bonds did not constitute
"commercial papers" within the meaning of P.D. No. 1154, and that, as such, those bonds were not subject
to the thirty-five percent (35%) transaction tax imposed by P.D. No. 1154.

The above ruling, however, is not applicable in respect of the promissory notes which are the subject
matter of the instant case. It must be noted that the debenture bonds which were the subject matter of
Commissioner Plana's ruling were long-term bonds maturing in ten (10) years and which could not be
pre-terminated and could not be redeemed by Picop until after eight (8) years from date of issue; the
bonds were moreover subordinated to present and future debts of Picop and convertible into common
stock of Picop at the option of the bondholder. In contrast, the promissory notes involved in the instant
case are short-term instruments bearing a one-year maturity period. These promissory notes constitute
the very archtype of money market instruments. For money market instruments are precisely, by custom
and usage of the financial markets, short-term instruments with a tenor of one (1) year or
less. 12 Assuming, therefore, (without passing upon) the correctness of the 6 October 1977 BIR ruling,
Picop's short-term promissory notes must be distinguished, and treated differently, from Picop's long-
term debenture bonds.

We conclude that Picop was properly held liable for the thirty-five percent (35%) transaction tax due in
respect of interest payments on its money market borrowings.

At the same time, we agree with the Court of Appeals that the transaction tax may be levied only in
respect of the interest earnings of Picop's money market lenders accruing after P.D. No. 1154 went into
effect, and not in respect of all the 1977 interest earnings of such lenders. The Court of Appeals pointed
out that:

PICOP, however contends that even if the tax has to be paid, it should be imposed only
for the interests earned after 20 September 1977 when PD 1154 creating the tax became
effective. We find merit in this contention. It appears that the tax was levied on interest
earnings from January to October, 1977. However, as found by the lower court, PD 1154 was
published in the Official Gazette only on 5 September 1977, and became effective only fifteen
(15) days after the publication, or on 20 September 1977, no other effectivity date having been
provided by the PD. Based on the Worksheet prepared by the Commissioner's office, the
interests earned from 20 September to October 1977 was P10,224,410.03. Thirty-five (35%) per
cent of this is P3,578,543.51 which is all PICOP should pay as transaction tax. 13 (Emphasis
supplied)

P.D. No. 1154 is not, in other words, to be given retroactive effect by imposing the thirty-five percent
(35%) transaction tax in respect of interest earnings which accrued before the effectivity date of P.D. No.
1154, there being nothing in the statute to suggest that the legislative authority intended to bring about
such retroactive imposition of the tax.

(2) Whether Picop is liable

for interest and surcharge
on unpaid transaction tax.

With respect to the transaction tax due, the CIR prays that Picop be held liable for a twenty-five percent
(25%) surcharge and for interest at the rate of fourteen percent (14%) per annum from the date prescribed
for its payment. In so praying, the CIR relies upon Section 10 of Revenue Regulation 7-77 dated 3 June
1977, 14 issued by the Secretary of Finance. This Section reads:
 Sec. 10. Penalties. — Where the amount shown by the taxpayer to be due on its return or
part of such payment is not paid on or before the date prescribed for its payment, the
amount of the tax shall be increased by twenty-five (25%) per centum, the increment to be a
part of the tax and the entire amount shall be subject to interest at the rate of fourteen (14%) per
centum per annum from the date prescribed for its payment.

In the case of willful neglect to file the return within the period prescribed herein or in case
a false or fraudulent return is willfully made, there shall be added to the tax or to the
deficiency tax in case any payment has been made on the basis of such return before the
discovery of the falsity or fraud, a surcharge of fifty (50%) per centum of its amount. The
amount so added to any tax shall be collected at the same time and in the same manner
and as part of the tax unless the tax has been paid before the discovery of the falsity or
fraud, in which case the amount so added shall be collected in the same manner as the
tax.

In addition to the above administrative penalties, the criminal and civil penalties as provided
for under Section 337 of the Tax Code of 1977 shall be imposed for violation of any
provision of Presidential Decree No. 1154. 15 (Emphases supplied)

The 1977 Tax Code itself, in Section 326 in relation to Section 4 of the same Code, invoked by the
Secretary of Finance in issuing Revenue Regulation 7-77, set out, in comprehensive terms, the
rule-making authority of the Secretary of Finance:

Sec. 326. Authority of Secretary of Finance to Promulgate Rules and Regulations. — The
Secretary of Finance, upon recommendation of the Commissioner of Internal Revenue,
shall promulgate all needful rules and regulations for the effective enforcement of the
provisions of this Code. (Emphasis supplied)

Section 4 of the same Code contains a list of subjects or areas to be dealt with by the Secretary of
Finance through the medium of an exercise of his quasi-legislative or rule-making authority. This
list, however, while it purports to be open-ended, does not include the imposition of
administrative or civil penalties such as the payment of amounts additional to the tax due. Thus,
in order that it may be held to be legally effective in respect of Picop in the present case, Section
10 of Revenue Regulation 7-77 must embody or rest upon some provision in the Tax Code itself
which imposes surcharge and penalty interest for failure to make a transaction tax payment
when due.

P.D. No. 1154 did not itself impose, nor did it expressly authorize the imposition of, a surcharge and
penalty interest in case of failure to pay the thirty-five percent (35%) transaction tax when due. Neither
did Section 210 (b) of the 1977 Tax Code which re-enacted Section 195-C inserted into the Tax Code by
P.D. No. 1154.

The CIR, both in its petition before the Court of Appeals and its Petition in the instant case, points to
Section 51 (e) of the 1977 Tax Code as its source of authority for assessing a surcharge and penalty interest
in respect of the thirty-five percent (35%) transaction tax due from Picop. This Section needs to be
quoted in extenso:

Sec. 51. Payment and Assessment of Income Tax. —

(c) Definition of deficiency. — As used in this Chapter in respect of a tax imposed by this
Title, the term "deficiency" means:
 (1) The amount by which the tax imposed by this Title exceeds the amount shown as the tax
by the taxpayer upon his return; but the amount so shown on the return shall first be
increased by the amounts previously assessed (or collected without assessment) as a
deficiency, and decreased by the amount previously abated, credited, returned, or
otherwise in respect of such tax; . . .

xxx xxx xxx

(e) Additions to the tax in case of non-payment. —

(1) Tax shown on the return. — Where the amount determined by the taxpayer as the tax
imposed by this Title or any installment thereof, or any part of such amount or installment
is not paid on or before the date prescribed for its payment, there shall be collected as a
part of the tax, interest upon such unpaid amount at the rate of fourteen per centum per
annum from the date prescribed for its payment until it is paid: Provided, That the
maximum amount that may be collected as interest on deficiency shall in no case exceed
the amount corresponding to a period of three years, the present provisions regarding
prescription to the contrary notwithstanding.

(2) Deficiency. — Where a deficiency, or any interest assessed in connection therewith under
paragraph (d) of this section, or any addition to the taxes provided for in Section seventy-two of
this Code is not paid in full within thirty days from the date of notice and demand from
the Commissioner of Internal Revenue, there shall be collected upon the unpaid amount
as part of the tax, interest at the rate of fourteen per centum per annum from the date of
such notice and demand until it is paid: Provided, That the maximum amount that may be
collected as interest on deficiency shall in no case exceed the amount corresponding to a
period of three years, the present provisions regarding prescription to the contrary
notwithstanding.

(3) Surcharge. — If any amount of tax included in the notice and demand from the
Commissioner of Internal Revenue is not paid in full within thirty days after such notice
and demand, there shall be collected in addition to the interest prescribed herein and in
paragraph (d) above and as part of the tax a surcharge of five per centum of the amount of
tax unpaid. (Emphases supplied)

Section 72 of the 1977 Tax Code referred to in Section 51 (e) (2) above, provides:

Sec. 72. Surcharges for failure to render returns and for rendering false and fraudulent returns.
— In case of willful neglect to file the return or list required by this Title within the time
prescribed by law, or in case a false or fraudulent return or list is wilfully made, the
Commissioner of Internal Revenue shall add to the tax or to the deficiency tax, in case
any payment has been made on the basis of such return before the discovery of the falsity
or fraud, as surcharge of fifty per centum of the amount of such tax or deficiency tax. In case of
any failure to make and file a return or list within the time prescribed by law or by the
Commissioner or other Internal Revenue Officer, not due to willful neglect, the
Commissioner of Internal Revenue shall add to the tax twenty-five per centum of its amount,
except that, when a return is voluntarily and without notice from the Commissioner or
other officer filed after such time, and it is shown that the failure to file it was due to a
reasonable cause, no such addition shall be made to the tax. The amount so added to any
tax shall be collected at the same time, in the same manner and as part of the tax unless
the tax has been paid before the discovery of the neglect, falsity, or fraud, in which case
 the amount so added shall be collected in the same manner as the tax. (Emphases
supplied)

It will be seen that Section 51 (c) (1) and (e) (1) and (3), of the 1977 Tax Code, authorize the imposition of
surcharge and interest only in respect of a "tax imposed by this Title," that is to say, Title II on "Income Tax."
It will also be seen that Section 72 of the 1977 Tax Code imposes a surcharge only in case of failure to file
a return or list "required by this Title," that is, Title II on "Income Tax." The thirty-five percent (35%)
transaction tax is, however, imposed in the 1977 Tax Code by Section 210 (b) thereof which Section is
embraced in Title V on "Taxes on Business" of that Code. Thus, while the thirty-five percent (35%)
transaction tax is in truth a tax imposed on interest income earned by lenders or creditors purchasing
commercial paper on the money market, the relevant provisions, i.e., Section 210 (b), were not inserted in
Title II of the 1977 Tax Code. The end result is that the thirty-five percent (35%) transaction tax is not one
of the taxes in respect of which Section 51 (e) authorized the imposition of surcharge and interest and
Section 72 the imposition of a fraud surcharge.

It is not without reluctance that we reach the above conclusion on the basis of what may well have been
an inadvertent error in legislative draftsmanship, a type of error common enough during the period of
Martial Law in our country. Nevertheless, we are compelled to adopt this conclusion. We consider that
the authority to impose what the present Tax Code calls (in Section 248) civil penalties consisting of
additions to the tax due, must be expressly given in the enabling statute, in language too clear to be
mistaken. The grant of that authority is not lightly to be assumed to have been made to administrative
officials, even to one as highly placed as the Secretary of Finance.

The state of the present law tends to reinforce our conclusion that Section 51 (c) and (e) of the 1977 Tax
Code did not authorize the imposition of a surcharge and penalty interest for failure to pay the thirty-five
percent (35%) transaction tax imposed under Section 210 (b) of the same Code. The corresponding
provision in the current Tax Code very clearly embraces failure to pay all taxes imposed in the Tax
Code, without any regard to the Title of the Code where provisions imposing particular taxes are textually
located. Section 247 (a) of the NIRC, as amended, reads:

Title X

Statutory Offenses and Penalties

Chapter I

Additions to the Tax

Sec. 247. General Provisions. — (a) The additions to the tax or deficiency tax prescribed in
this Chapter shall apply to all taxes, fees and charges imposed in this Code. The amount so
added to the tax shall be collected at the same time, in the same manner and as part of the
tax. . . .

Sec. 248. Civil Penalties. — (a) There shall be imposed, in addition to the tax required to be
paid, penalty equivalent to twenty-five percent (25%) of the amount due, in the following cases:

xxx xxx xxx

(3) failure to pay the tax within the time prescribed for its payment; or
 xxx xxx xxx

(c) the penalties imposed hereunder shall form part of the tax and the entire amount shall
be subject to the interest prescribed in Section 249.

Sec. 249. Interest. — (a) In General. — There shall be assessed and collected on any unpaid
amount of tax, interest at the rate of twenty percent (20%) per annum or such higher rate as
may be prescribed by regulations, from the date prescribed for payment until the amount is
fully paid. . . . (Emphases supplied)

In other words, Section 247 (a) of the current NIRC supplies what did not exist back in 1977 when
Picop's liability for the thirty-five percent (35%) transaction tax became fixed. We do not believe
we can fill that legislative lacuna by judicial fiat. There is nothing to suggest that Section 247 (a) of
the present Tax Code, which was inserted in 1985, was intended to be given retroactive
application by the legislative authority. 16

(3) Whether Picop is Liable

for Documentary and
Science Stamp Taxes.

As noted earlier, Picop issued sometime in 1977 long-term subordinated convertible debenture bonds
with an aggregate face value of P100,000,000.00. Picop stated, and this was not disputed by the CIR, that
the proceeds of the debenture bonds were in fact utilized to finance the BOI-registered operations of
Picop. The CIR assessed documentary and science stamp taxes, amounting to P300,000.00, on the issuance
of Picop's debenture bonds. It is claimed by Picop that its tax exemption — "exemption from all taxes
under the National Internal Revenue Code, except income tax" on a declining basis over a certain period
of time — includes exemption from the documentary and science stamp taxes imposed under the NIRC.

The CIR, upon the other hand, stresses that the tax exemption under the Investment Incentives Act may
be granted or recognized only to the extent that the claimant Picop was engaged in registered
operations, i.e., operations forming part of its integrated pulp and paper project. 17 The borrowing of
funds from the public, in the submission of the CIR, was not an activity included in Picop's registered
operations. The CTA adopted the view of the CIR and held that "the issuance of convertible debenture
bonds [was] not synonymous [with] the manufactur[ing] operations of an integrated pulp and paper
mill." 18

The Court of Appeals took a less rigid view of the ambit of the tax exemption granted to registered
pioneer enterprises. Said the Court of Appeals:

. . . PICOP's explanation that the debenture bonds were issued to finance its registered
operation is logical and is unrebutted. We are aware that tax exemptions must be applied
strictly against the beneficiary in order to deter their abuse. It would indeed be altogether a
different matter if there is a showing that the issuance of the debenture bonds had no bearing
whatsoever on the registered operations PICOP and that they were issued in connection with a
totally different business undertaking of PICOP other than its registered operation. There is,
however, a dearth of evidence in this regard. It cannot be denied that PICOP needed
funds for its operations. One of the means it used to raise said funds was to issue
debenture bonds. Since the money raised thereby was to be used in its registered operation,
PICOP should enjoy the incentives granted to it by R.A. 5186, one of which is the exemption
from payment of all taxes under the National Internal Revenue Code, except income
 taxes, otherwise the purpose of the incentives would be defeated. Documentary and science stamp
taxes on debenture bonds are certainly not income taxes. 19 (Emphasis supplied)

Tax exemptions are, to be sure, to be "strictly construed," that is, they are not to be extended beyond the
ordinary and reasonable intendment of the language actually used by the legislative authority in granting
the exemption. The issuance of debenture bonds is certainly conceptually distinct from pulping and
paper manufacturing operations. But no one contends that issuance of bonds was a principal or regular
business activity of Picop; only banks or other financial institutions are in the regular business of raising
money by issuing bonds or other instruments to the general public. We consider that the actual
dedication of the proceeds of the bonds to the carrying out of Picop's registered operations constituted a
sufficient nexus with such registered operations so as to exempt Picop from stamp taxes ordinarily
imposed upon or in connection with issuance of such bonds. We agree, therefore, with the Court of
Appeals on this matter that the CTA and the CIR had erred in rejecting Picop's claim for exemption from
stamp taxes.

It remains only to note that after commencement of the present litigation before the CTA, the BIR took the
position that the tax exemption granted by R.A. No. 5186, as amended, does include exemption from
documentary stamp taxes on transactions entered into by BOI-registered enterprises. BIR Ruling No. 088,
dated 28 April 1989, for instance, held that a registered preferred pioneer enterprise engaged in the
manufacture of integrated circuits, magnetic heads, printed circuit boards, etc., is exempt from the
payment of documentary stamp taxes. The Commissioner said:

You now request a ruling that as a preferred pioneer enterprise, you are exempt from the
payment of Documentary Stamp Tax (DST).

In reply, please be informed that your request is hereby granted. Pursuant to Section 46
(a) of Presidential Decree No. 1789, pioneer enterprises registered with the BOI are
exempt from all taxes under the National Internal Revenue Code, except from all taxes
under the National Internal Revenue Code, except income tax, from the date the area of
investment is included in the Investment Priorities Plan to the following extent:

xxx xxx xxx

Accordingly, your company is exempt from the payment of documentary stamp tax to the extent
of the percentage aforestated on transactions connected with the registered business activity. (BIR
Ruling No. 111-81) However, if said transactions conducted by you require the execution
of a taxable document with other parties, said parties who are not exempt shall be the
one directly liable for the tax. (Sec. 173, Tax Code, as amended; BIR Ruling No. 236-87) In
other words, said parties shall be liable to the same percentage corresponding to your tax
exemption. (Emphasis supplied)

Similarly, in BIR Ruling No. 013, dated 6 February 1989, the Commissioner held that a registered
pioneer enterprise producing polyester filament yarn was entitled to exemption "from the
documentary stamp tax on [its] sale of real property in Makati up to December 31, 1989." It
appears clear to the Court that the CIR, administratively at least, no longer insists on the position
it originally took in the instant case before the CTA.

II

(1) Whether Picop is entitled

to deduct against current
 income interest payments
on loans for the purchase
of machinery and equipment.

In 1969, 1972 and 1977, Picop obtained loans from foreign creditors in order to finance the purchase of
machinery and equipment needed for its operations. In its 1977 Income Tax Return, Picop claimed
interest payments made in 1977, amounting to P42,840,131.00, on these loans as a deduction from its 1977
gross income.

The CIR disallowed this deduction upon the ground that, because the loans had been incurred for the
purchase of machinery and equipment, the interest payments on those loans should have been
capitalized instead and claimed as a depreciation deduction taking into account the adjusted basis of the
machinery and equipment (original acquisition cost plus interest charges) over the useful life of such
assets.

Both the CTA and the Court of Appeals sustained the position of Picop and held that the interest
deduction claimed by Picop was proper and allowable. In the instant Petition, the CIR insists on its
original position.

We begin by noting that interest payments on loans incurred by a taxpayer (whether BOI-registered or
not) are allowed by the NIRC as deductions against the taxpayer's gross income. Section 30 of the 1977
Tax Code provided as follows:

Sec. 30. Deduction from Gross Income. — The following may be deducted from gross
income:

(a) Expenses:

xxx xxx xxx

(b) Interest:

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

Thus, the general rule is that interest expenses are deductible against gross income and this
certainly includes interest paid under loans incurred in connection with the carrying on of the
business of the taxpayer. 20 In the instant case, the CIR does not dispute that the interest
payments were made by Picop on loans incurred in connection with the carrying on of the registered
operations of Picop, i.e., the financing of the purchase of machinery and equipment actually used in
the registered operations of Picop. Neither does the CIR deny that such interest payments
were legally due and demandable under the terms of such loans, and in fact paid by Picop during
the tax year 1977.

The CIR has been unable to point to any provision of the 1977 Tax Code or any other Statute that requires
the disallowance of the interest payments made by Picop. The CIR invokes Section 79 of Revenue
Regulations No. 2 as amended which reads as follows:
 Sec. 79. Interest on Capital. — Interest calculated for cost-keeping or other purposes on
account of capital or surplus invested in the business, which does not represent a charge
arising under an interest-bearing obligation, is not allowable deduction from gross income.
(Emphases supplied)

We read the above provision of Revenue Regulations No. 2 as referring to so called "theoretical
interest," that is to say, interest "calculated" or computed (and not incurred or paid) for the purpose
of determining the "opportunity cost" of investing funds in a given business. Such "theoretical" or
imputed interest does not arise from a legally demandable interest-bearing obligation incurred by
the taxpayer who however wishes to find out, e.g., whether he would have been better off by
lending out his funds and earning interest rather than investing such funds in his business. One
thing that Section 79 quoted above makes clear is that interest which does constitute a charge
arising under an interest-bearing obligation is an allowable deduction from gross income.

It is claimed by the CIR that Section 79 of Revenue Regulations No. 2 was "patterned after" paragraph
1.266-1 (b), entitled "Taxes and Carrying Charges Chargeable to Capital Account and Treated as Capital
Items" of the U.S. Income Tax Regulations, which paragraph reads as follows:

(B) Taxes and Carrying Charges. — The items thus chargeable to capital accounts are —

(11) In the case of real property, whether improved or unimproved and whether
productive or nonproductive.

(a) Interest on a loan (but not theoretical interest of a taxpayer using his own funds). 21

The truncated excerpt of the U.S. Income Tax Regulations quoted by the CIR needs to be related to the
relevant provisions of the U.S. Internal Revenue Code, which provisions deal with the general topic of
adjusted basis for determining allowable gain or loss on sales or exchanges of property and allowable
depreciation and depletion of capital assets of the taxpayer:

Present Rule. The Internal Revenue Code, and the Regulations promulgated thereunder
provide that "No deduction shall be allowed for amounts paid or accrued for such taxes
and carrying charges as, under regulations prescribed by the Secretary or his delegate, are
chargeable to capital account with respect to property, if the taxpayer elects, in accordance
with such regulations, to treat such taxes or charges as so chargeable."

At the same time, under the adjustment of basis provisions which have just been
discussed, it is provided that adjustment shall be made for all "expenditures, receipts,
losses, or other items" properly chargeable to a capital account, thus including taxes and
carrying charges; however, an exception exists, in which event such adjustment to the capital
account is not made, with respect to taxes and carrying charges which the taxpayer has not elected
to capitalize but for which a deduction instead has been taken. 22 (Emphasis supplied)

The "carrying charges" which may be capitalized under the above quoted provisions of the U.S.
Internal Revenue Code include, as the CIR has pointed out, interest on a loan "(but not theoretical
interest of a taxpayer using his own funds)." What the CIR failed to point out is that such "carrying
charges" may, at the election of the taxpayer, either be (a) capitalized in which case the cost basis of
the capital assets, e.g., machinery and equipment, will be adjusted by adding the amount of such
interest payments or alternatively, be (b) deducted from gross income of the taxpayer. Should the
taxpayer elect to deduct the interest payments against its gross income, the taxpayer cannot at the
same time capitalize the interest payments. In other words, the taxpayer is not entitled to both the
 deduction from gross income and the adjusted (increased) basis for determining gain or loss and the
allowable depreciation charge. The U.S. Internal Revenue Code does not prohibit the deduction of
interest on a loan obtained for purchasing machinery and equipment against gross
income, unless the taxpayer has also or previously capitalized the same interest payments and thereby
adjusted the cost basis of such assets.

We have already noted that our 1977 NIRC does not prohibit the deduction of interest on a loan incurred
for acquiring machinery and equipment. Neither does our 1977 NIRC compel the capitalization of interest
payments on such a loan. The 1977 Tax Code is simply silent on a taxpayer's right to elect one or the other
tax treatment of such interest payments. Accordingly, the general rule that interest payments on a legally
demandable loan are deductible from gross income must be applied.

The CIR argues finally that to allow Picop to deduct its interest payments against its gross income would
be to encourage fraudulent claims to double deductions from gross income:

[t]o allow a deduction of incidental expense/cost incurred in the purchase of fixed asset
in the year it was incurred would invite tax evasion through fraudulent application of double
deductions from gross income. 23 (Emphases supplied)

The Court is not persuaded. So far as the records of the instant cases show, Picop has not claimed
to be entitled to double deduction of its 1977 interest payments. The CIR has neither alleged nor
proved that Picop had previously adjusted its cost basis for the machinery and equipment
purchased with the loan proceeds by capitalizing the interest payments here involved. The Court
will not assume that the CIR would be unable or unwilling to disallow "a double deduction"
should Picop, having deducted its interest cost from its gross income, also attempt subsequently
to adjust upward the cost basis of the machinery and equipment purchased and claim, e.g.,
increased deductions for depreciation.

We conclude that the CTA and the Court of Appeals did not err in allowing the deductions of Picop's
1977 interest payments on its loans for capital equipment against its gross income for 1977.

(2) Whether Picop is entitled

to deduct against current
income net operating losses
incurred by Rustan Pulp
and Paper Mills, Inc.

On 18 January 1977, Picop entered into a merger agreement with the Rustan Pulp and Paper Mills, Inc.
("RPPM") and Rustan Manufacturing Corporation ("RMC"). Under this agreement, the rights, properties,
privileges, powers and franchises of RPPM and RMC were to be transferred, assigned and conveyed to
Picop as the surviving corporation. The entire subscribed and outstanding capital stock of RPPM and
RMC would be exchanged for 2,891,476 fully paid up Class "A" common stock of Picop (with a par value
of P10.00) and 149,848 shares of preferred stock of Picop (with a par value of P10.00), to be issued by
Picop, the result being that Picop would wholly own both RPPM and RMC while the stockholders of
RPPM and RMC would join the ranks of Picop's shareholders. In addition, Picop paid off the obligations
of RPPM to the Development Bank of the Philippines ("DBP") in the amount of P68,240,340.00, by issuing
6,824,034 shares of preferred stock (with a par value of P10.00) to the DBP. The merger agreement was
approved in 1977 by the creditors and stockholders of Picop, RPPM and RMC and by the Securities and
Exchange Commission. Thereupon, on 30 November 1977, apparently the effective date of merger, RPPM
and RMC were dissolved. The Board of Investments approved the merger agreement on 12 January 1978.
It appears that RPPM and RMC were, like Picop, BOI-registered companies. Immediately before merger
effective date, RPPM had over preceding years accumulated losses in the total amount of P81,159,904.00.
In its 1977 Income Tax Return, Picop claimed P44,196,106.00 of RPPM's accumulated losses as a deduction
against Picop's 1977 gross income. 24

Upon the other hand, even before the effective date of merger, on 30 August 1977, Picop sold all the
outstanding shares of RMC stock to San Miguel Corporation for the sum of P38,900,000.00, and reported
a gain of P9,294,849.00 from this transaction. 25

In claiming such deduction, Picop relies on section 7 (c) of R.A. No. 5186 which provides as follows:

Sec. 7. Incentives to Registered Enterprise. — A registered enterprise, to the extent engaged in

a preferred area of investment, shall be granted the following incentive benefits:

xxx xxx xxx

(c) Net Operating Loss Carry-over. — A net operating loss incurred in any of the first ten years
of operations may be carried over as a deduction from taxable income for the six years immediately
following the year of such loss. The entire amount of the loss shall be carried over to the first
of the six taxable years following the loss, and any portion of such loss which exceeds the
taxable income of such first year shall be deducted in like manner from the taxable
income of the next remaining five years. The net operating loss shall be computed in
accordance with the provisions of the National Internal Revenue Code, any provision of this Act to
the contrary notwithstanding, except that income not taxable either in whole or in part
under this or other laws shall be included in gross income. (Emphasis supplied)

Picop had secured a letter-opinion from the BOI dated 21 February 1977 — that is, after the date
of the agreement of merger but before the merger became effective — relating to the deductibility
of the previous losses of RPPM under Section 7 (c) of R.A. No. 5186 as amended. The pertinent
portions of this BOI opinion, signed by BOI Governor Cesar Lanuza, read as follows:

2) PICOP will not be allowed to carry over the losses of Rustan prior to the legal dissolution of the
latter because at that time the two (2) companies still had separate legal personalities;

3) After BOI approval of the merger, PICOP can no longer apply for the registration of
the registered capacity of Rustan because with the approved merger, such registered
capacity of Rustan transferred to PICOP will have the same registration date as that of
Rustan. In this case, the previous losses of Rustan may be carried over by PICOP, because with
the merger, PICOP assumes all the rights and obligations of Rustan subject, however, to the
period prescribed for carrying over of such
losses. 26 (Emphasis supplied)

Curiously enough, Picop did not also seek a ruling on this matter, clearly a matter of tax law,
from the Bureau of Internal Revenue. Picop chose to rely solely on the BOI letter-opinion.

The CIR disallowed all the deductions claimed on the basis of RPPM's losses, apparently on two (2)
grounds. Firstly, the previous losses were incurred by "another taxpayer," RPPM, and not by Picop in
connection with Picop's own registered operations. The CIR took the view that Picop, RPPM and RMC
were merged into one (1) corporate personality only on 12 January 1978, upon approval of the merger
agreement by the BOI. Thus, during the taxable year 1977, Picop on the one hand and RPPM and RMC on
the other, still had their separate juridical personalities. Secondly, the CIR alleged that these losses had
been incurred by RPPM "from the borrowing of funds" and not from carrying out of RPPM's registered
operations. We focus on the first ground. 27

The CTA upheld the deduction claimed by Picop; its reasoning, however, is less than crystal clear,
especially in respect of its view of what the U.S. tax law was on this matter. In any event, the CTA
apparently fell back on the BOI opinion of 21 February 1977 referred to above. The CTA said:

Respondent further averred that the incentives granted under Section 7 of R.A. No. 5186
shall be available only to the extent in which they are engaged in registered
operations, citing Section 1 of Rule IX of the Basic Rules and Regulations to Implement
the Intent and Provisions of the Investment Incentives Act, R.A. No. 5186.

We disagree with respondent. The purpose of the merger was to rationalize the container board
industry and not to take advantage of the net losses incurred by RPPMI prior to the stock swap.
Thus, when stock of a corporation is purchased in order to take advantage of the
corporation's net operating loss incurred in years prior to the purchase, the corporation
thereafter entering into a trade or business different from that in which it was previously
engaged, the net operating loss carry-over may be entirely lost. [IRC (1954), Sec. 382(a), Vol. 5,
Mertens, Law of Federal Income Taxation, Chap. 29.11a, p. 103]. 28 Furthermore, once the
BOI approved the merger agreement, the registered capacity of Rustan shall be
transferred to PICOP, and the previous losses of Rustan may be carried over by PICOP
by operation of law. [BOI ruling dated February 21, 1977 (Exh. J-1)] It is clear therefrom,
that the deduction availed of under Section 7(c) of R.A. No. 5186 was only proper." (pp.
38-43, Rollo of SP No. 20070) 29 (Emphasis supplied)

In respect of the above underscored portion of the CTA decision, we must note that the CTA in
fact overlooked the statement made by petitioner's counsel before the CTA that:

Among the attractions of the merger to Picop was the accumulated net operating loss carry-over of
RMC that it might possibly use to relieve it (Picop) from its income taxes, under Section 7 (c) of
R.A.5186. Said section provides:

xxx xxx xxx

With this benefit in mind, Picop addressed three (3) questions to the BOI in a letter dated
November 25, 1976. The BOI replied on February 21, 1977 directly answering the three (3)
queries. 30 (Emphasis supplied)

The size of RPPM's accumulated losses as of the date of the merger — more than P81,000,000.00
— must have constituted a powerful attraction indeed for Picop.

The Court of Appeals followed the result reached by the CTA. The Court of Appeals, much like the CTA,
concluded that since RPPM was dissolved on 30 November 1977, its accumulated losses were
appropriately carried over by Picop in the latter's 1977 Income Tax Return "because by that time RPPMI
and Picop were no longer separate and different taxpayers." 31

After prolonged consideration and analysis of this matter, the Court is unable to agree with the CTA and
Court of Appeals on the deductibility of RPPM's accumulated losses against Picop's 1977 gross income.
It is important to note at the outset that in our jurisdiction, the ordinary rule — that is, the rule applicable
in respect of corporations not registered with the BOI as a preferred pioneer enterprise — is that net
operating losses cannot be carried over. Under our Tax Code, both in 1977 and at present, losses may be
deducted from gross income only if such losses were actually sustained in the same year that they are
deducted or charged off. Section 30 of the 1977 Tax Code provides:

Sec. 30. Deductions from Gross Income. — In computing net income, there shall be allowed
as deduction —

xxx xxx xxx

(d) Losses:

(1) By Individuals. — In the case of an individual, losses actually sustained during the taxable
year and not compensated for by an insurance or otherwise —

(A) If incurred in trade or business;

xxx xxx xxx

(2) By Corporations. — In a case of a corporation, all losses actually sustained and charged off
within the taxable year and not compensated for by insurance or otherwise.

(3) By Non-resident Aliens or Foreign Corporations. — In the case of a non-resident alien

individual or a foreign corporation, the losses deductible are those actually sustained
during the year incurred in business or trade conducted within the Philippines, . .
. 32 (Emphasis supplied)

Section 76 of the Philippine Income Tax Regulations (Revenue Regulation No. 2, as amended) is
even more explicit and detailed:

Sec. 76. When charges are deductible. — Each year's return, so far as practicable, both as to
gross income and deductions therefrom should be complete in itself, and taxpayers are
expected to make every reasonable effort to ascertain the facts necessary to make a
correct return. The expenses, liabilities, or deficit of one year cannot be used to reduce the
income of a subsequent year. A taxpayer has the right to deduct all authorized allowances
and it follows that if he does not within any year deduct certain of his expenses, losses, interests,
taxes, or other charges,
he can not deduct them from the income of the next or any succeeding year. . . .

xxx xxx xxx

. . . . If subsequent to its occurrence, however, a taxpayer first ascertains the amount of a

loss sustained during a prior taxable year which has not been deducted from gross income, he
may render an amended return for such preceding taxable year including such amount of loss
in the deduction from gross income and may in proper cases file a claim for refund of the
excess paid by reason of the failure to deduct such loss in the original return. A loss from theft or
embezzlement occurring in one year and discovered in another is ordinarily deductible
for the year in which sustained. (Emphases supplied)
 It is thus clear that under our law, and outside the special realm of BOI-registered enterprises,
there is no such thing as a carry-over of net operating loss. To the contrary, losses must be
deducted against current income in the taxable year when such losses were incurred. Moreover, such
losses may be charged off only against income earned in the same taxable year when the losses were
incurred.

Thus it is that R.A. No. 5186 introduced the carry-over of net operating losses as a very special incentive to
be granted only to registered pioneer enterprises and only with respect to their registered operations. The
statutory purpose here may be seen to be the encouragement of the establishment and continued
operation of pioneer industries by allowing the registered enterprise to accumulate its operating losses
which may be expected during the early years of the enterprise and to permit the enterprise to offset such
losses against income earned by it in later years after successful establishment and regular operations. To
promote its economic development goals, the Republic foregoes or defers taxing the income of the
pioneer enterprise until after that enterprise has recovered or offset its earlier losses. We consider that the
statutory purpose can be served only if the accumulated operating losses are carried over and charged off
against income subsequently earned and accumulated by the same enterprise engaged in the same registered
operations.

In the instant case, to allow the deduction claimed by Picop would be to permit one corporation or
enterprise, Picop, to benefit from the operating losses accumulated by another corporation or enterprise,
RPPM. RPPM far from benefiting from the tax incentive granted by the BOI statute, in fact gave up the
struggle and went out of existence and its former stockholders joined the much larger group of Picop's
stockholders. To grant Picop's claimed deduction would be to permit Picop to shelter its otherwise
taxable income (an objective which Picop had from the very beginning) which had not been earned by the
registered enterprise which had suffered the accumulated losses. In effect, to grant Picop's claimed
deduction would be to permit Picop to purchase a tax deduction and RPPM to peddle its accumulated
operating losses. Under the CTA and Court of Appeals decisions, Picop would benefit by immunizing
P44,196,106.00 of its income from taxation thereof although Picop had not run the risks and incurred the
losses which had been encountered and suffered by RPPM. Conversely, the income that would be
shielded from taxation is not income that was, after much effort, eventually generated by the same
registered operations which earlier had sustained losses. We consider and so hold that there is nothing in
Section 7 (c) of R.A. No. 5186 which either requires or permits such a result. Indeed, that result makes
non-sense of the legislative purpose which may be seen clearly to be projected by Section 7 (c), R.A. No.
5186.

The CTA and the Court of Appeals allowed the offsetting of RPPM's accumulated operating losses
against Picop's 1977 gross income, basically because towards the end of the taxable year 1977, upon the
arrival of the effective date of merger, only one (1) corporation, Picop, remained. The losses suffered by
RPPM's registered operations and the gross income generated by Picop's own registered operations now
came under one and the same corporate roof. We consider that this circumstance relates much more to
form than to substance. We do not believe that that single purely technical factor is enough to authorize
and justify the deduction claimed by Picop. Picop's claim for deduction is not only bereft of statutory
basis; it does violence to the legislative intent which animates the tax incentive granted by Section 7 (c) of
R.A. No. 5186. In granting the extraordinary privilege and incentive of a net operating loss carry-over to
BOI-registered pioneer enterprises, the legislature could not have intended to require the Republic to
forego tax revenues in order to benefit a corporation which had run no risks and suffered no losses, but
had merely purchased another's losses.

Both the CTA and the Court of Appeals appeared much impressed not only with corporate technicalities
but also with the U.S. tax law on this matter. It should suffice, however, simply to note that in U.S. tax
law, the availability to companies generally of operating loss carry-overs and of operating loss carry-
backs is expressly provided and regulated in great detail by statute. 33 In our jurisdiction, save for Section 7 (c)
of R.A. No. 5186, no statute recognizes or permits loss carry-overs and loss carry-backs. Indeed, as
already noted, our tax law expressly rejects the very notion of loss carry-overs and carry-backs.

We conclude that the deduction claimed by Picop in the amount of P44,196,106.00 in its 1977 Income Tax
Return must be disallowed.

(3) Whether Picop is entitled

to deduct against current
income certain claimed
financial guarantee expenses.

In its Income Tax Return for 1977, Picop also claimed a deduction in the amount of P1,237,421.00 as
financial guarantee expenses.

This deduction is said to relate to chattel and real estate mortgages required from Picop by the Philippine
National Bank ("PNB") and DBP as guarantors of loans incurred by Picop from foreign creditors.
According to Picop, the claimed deduction represents registration fees and other expenses incidental to
registration of mortgages in favor of DBP and PNB.

In support of this claimed deduction, Picop allegedly showed its own vouchers to BIR Examiners to
prove disbursements to the Register of Deeds of Tandag, Surigao del Sur, of particular amounts. In the
proceedings before the CTA, however, Picop did not submit in evidence such vouchers and instead
presented one of its employees to testify that the amount claimed had been disbursed for the registration
of chattel and real estate mortgages.

The CIR disallowed this claimed deduction upon the ground of insufficiency of evidence. This
disallowance was sustained by the CTA and the Court of Appeals. The CTA said:

No records are available to support the abovementioned expenses. The vouchers merely showed
that the amounts were paid to the Register of Deeds and simply cash account. Without the
supporting papers such as the invoices or official receipts of the Register of Deeds, these vouchers
standing alone cannot prove that the payments made were for the accrued expenses in
question. The best evidence of payment is the official receipts issued by the Register of Deeds. The
testimony of petitioner's witness that the official receipts and cash vouchers were shown
to the Bureau of Internal Revenue will not suffice if no records could be presented in
court for proper marking and identification. 34 Emphasis supplied)

The Court of Appeals added:

The mere testimony of a witness for PICOP and the cash vouchers do not suffice to
establish its claim that registration fees were paid to the Register of Deeds for the
registration of real estate and chattel mortgages in favor of Development Bank of the
Philippines and the Philippine National Bank as guarantors of PICOP's loans. The
witness could very well have been merely repeating what he was instructed to say
regardless of the truth, while the cash vouchers, which we do not find on file, are not said
to provide the necessary details regarding the nature and purpose of the expenses
reflected therein. PICOP should have presented, through the guarantors, its owner's copy of the
registered titles with the lien inscribed thereon as well as an official receipt from the Register of
Deeds evidencing payment of the registration fee. 35 (Emphasis supplied)
We must support the CTA and the Court of Appeals in their foregoing rulings. A taxpayer has the burden
of proving entitlement to a claimed deduction. 36 In the instant case, even Picop's own vouchers were not
submitted in evidence and the BIR Examiners denied that such vouchers and other documents had been
exhibited to them. Moreover, cash vouchers can only confirm the fact of disbursement but not necessarily
the purpose thereof. 37 The best evidence that Picop should have presented to support its claimed
deduction were the invoices and official receipts issued by the Register of Deeds. Picop not only failed to
present such documents; it also failed to explain the loss thereof, assuming they had existed
before. 38 Under the best evidence rule, 39 therefore, the testimony of Picop's employee was inadmissible
and was in any case entitled to very little, if any, credence.

We consider that entitlement to Picop's claimed deduction of P1,237,421.00 was not adequately shown
and that such deduction must be disallowed.

III

(1) Whether Picop had understated

its sales and overstated its
cost of sales for 1977.

In its assessment for deficiency income tax for 1977, the CIR claimed that Picop had understated its sales
by P2,391,644.00 and, upon the other hand, overstated its cost of sales by P604,018.00. Thereupon, the CIR
added back both sums to Picop's net income figure per its own return.

The 1977 Income Tax Return of Picop set forth the following figures:

Sales (per Picop's Income Tax Return):

Paper P 537,656,719.00

Timber P 263,158,132.00

———————

Total Sales P 800,814,851.00

============

Upon the other hand, Picop's Books of Accounts reflected higher sales figures:

Sales (per Picop's Books of Accounts):

Paper P 537,656,719.00

Timber P 265,549,776.00

———————

Total Sales P 803,206,495.00

 ============

The above figures thus show a discrepancy between the sales figures reflected in Picop's Books of
Accounts and the sales figures reported in its 1977 Income Tax Return, amounting to:
P2,391,644.00.

The CIR also contended that Picop's cost of sales set out in its 1977 Income Tax Return, when compared
with the cost figures in its Books of Accounts, was overstated:

Cost of Sales
(per Income Tax Return) P607,246,084.00
Cost of Sales
(per Books of Accounts) P606,642,066.00

———————

Discrepancy P 604,018.00
============

Picop did not deny the existence of the above noted discrepancies. In the proceedings before the CTA,
Picop presented one of its officials to explain the foregoing discrepancies. That explanation is perhaps
best presented in Picop's own words as set forth in its Memorandum before this Court:

. . . that the adjustment discussed in the testimony of the witness, represent the best and
most objective method of determining in pesos the amount of the correct and actual
export sales during the year. It was this correct and actual export sales and costs of sales
that were reflected in the income tax return and in the audited financial statements.
These corrections did not result in realization of income and should not give rise to any
deficiency tax.

xxx xxx xxx

What are the facts of this case on this matter? Why were adjustments necessary at the
year-end?

Because of PICOP's procedure of recording its export sales (reckoned in U.S. dollars) on
the basis of a fixed rate, day to day and month to month, regardless of the actual
exchange rate and without waiting when the actual proceeds are received. In other
words, PICOP recorded its export sales at a pre-determined fixed exchange rate. That
pre-determined rate was decided upon at the beginning of the year and continued to be
used throughout the year.

At the end of the year, the external auditors made an examination. In that examination,
the auditors determined with accuracy the actual dollar proceeds of the export sales
received. What exchange rate was used by the auditors to convert these actual dollar
proceeds into Philippine pesos? They used the average of the differences between (a) the
recorded fixed exchange rate and (b) the exchange rate at the time the proceeds were
actually received. It was this rate at time of receipt of the proceeds that determined the
amount of pesos credited by the Central Bank (through the agent banks) in favor of
PICOP. These accumulated differences were averaged by the external auditors and this
 was what was used at the year-end for income tax and other government-report
purposes. (T.s.n., Oct. 17/85, pp. 20-25) 40

The above explanation, unfortunately, at least to the mind of the Court, raises more questions than it
resolves. Firstly, the explanation assumes that all of Picop's sales were export sales for which U.S. dollars
(or other foreign exchange) were received. It also assumes that the expenses summed up as "cost of sales"
were all dollar expenses and that no peso expenses had been incurred. Picop's explanation further
assumes that a substantial part of Picop's dollar proceeds for its export sales were not actually
surrendered to the domestic banking system and seasonably converted into pesos; had all such dollar
proceeds been converted into pesos, then the peso figures could have been simply added up to reflect the
actual peso value of Picop's export sales. Picop offered no evidence in respect of these assumptions, no
explanation why and how a "pre-determined fixed exchange rate" was chosen at the beginning of the year
and maintained throughout. Perhaps more importantly, Picop was unable to explain why its Books of
Accounts did not pick up the same adjustments that Picop's External Auditors were alleged to have made
for purposes of Picop's Income Tax Return. Picop attempted to explain away the failure of its Books of
Accounts to reflect the same adjustments (no correcting entries, apparently) simply by quoting a passage
from a case where this Court refused to ascribe much probative value to the Books of Accounts of a
corporate taxpayer in a tax case. 41What appears to have eluded Picop, however, is that its Books of
Accounts, which are kept by its own employees and are prepared under its control and supervision,
reflect what may be deemed to be admissions against interest in the instant case. For Picop's Books of
Accounts precisely show higher sales figures and lower cost of sales figures than Picop's Income Tax
Return.

It is insisted by Picop that its Auditors' adjustments simply present the "best and most objective" method
of reflecting in pesos the "correct and ACTUAL export sales" 42 and that the adjustments or "corrections"
"did not result in realization of [additional] income and should not give rise to any deficiency tax." The
correctness of this contention is not self-evident. So far as the record of this case shows, Picop did not
submit in evidence the aggregate amount of its U.S. dollar proceeds of its export sales; neither did it show
the Philippine pesos it had actually received or been credited for such U.S. dollar proceeds. It is clear to
this Court that the testimonial evidence submitted by Picop fell far short of demonstrating the correctness
of its explanation.

Upon the other hand, the CIR has made out at least a prima facie case that Picop had understated its sales
and overstated its cost of sales as set out in its Income Tax Return. For the CIR has a right to assume that
Picop's Books of Accounts speak the truth in this case since, as already noted, they embody what must
appear to be admissions against Picop's own interest.

Accordingly, we must affirm the findings of the Court of Appeals and the CTA.

(2) Whether Picop is liable for

the corporate development
tax of five percent (5%)
of its income for 1977.

The five percent (5%) corporate development tax is an additional corporate income tax imposed in
Section 24 (e) of the 1977 Tax Code which reads in relevant part as follows:

(e) Corporate development tax. — In addition to the tax imposed in subsection (a) of this
section, an additional tax in an amount equivalent to 5 per cent of the same taxable net
income shall be paid by a domestic or a resident foreign corporation; Provided, That this
additional tax shall be imposed only if the net income exceeds 10 per cent of the net
 worth, in case of a domestic corporation, or net assets in the Philippines in case of a
resident foreign corporation: . . . .

The additional corporate income tax imposed in this subsection shall be collected and
paid at the same time and in the same manner as the tax imposed in subsection (a) of this
section.

Since this five percent (5%) corporate development tax is an income tax, Picop is not exempted
from it under the provisions of Section 8 (a) of R.A. No. 5186.

For purposes of determining whether the net income of a corporation exceeds ten percent (10%) of its net
worth, the term "net worth" means the stockholders' equity represented by the excess of the total assets
over liabilities as reflected in the corporation's balance sheet provided such balance sheet has been
prepared in accordance with generally accepted accounting principles employed in keeping the books of
the corporation. 43

The adjusted net income of Picop for 1977, as will be seen below, is P48,687,355.00. Its net worth figure or
total stockholders' equity as reflected in its Audited Financial Statements for 1977 is P464,749,528.00.
Since its adjusted net income for 1977 thus exceeded ten percent (10%) of its net worth, Picop must be
held liable for the five percent (5%) corporate development tax in the amount of P2,434,367.75.

Recapitulating, we hold:

(1) Picop is liable for the thirty-five percent (35%) transaction tax in the amount of P3,578,543.51.

(2) Picop is not liable for interest and surcharge on unpaid transaction tax.

(3) Picop is exempt from payment of documentary and science stamp taxes in the amount of P300,000.00
and the compromise penalty of P300.00.

(4) Picop is entitled to its claimed deduction of P42,840,131.00 for interest payments on loans for, among
other things, the purchase of machinery and equipment.

(5) Picop's claimed deduction in the amount of P44,196,106.00 for the operating losses previously incurred
by RPPM, is disallowed for lack of merit.

(6) Picop's claimed deduction for certain financial guarantee expenses in the amount P1,237,421.00 is
disallowed for failure adequately to prove such expenses.

(7) Picop has understated its sales by P2,391,644.00 and overstated its cost of sales by P604,018.00, for
1977.

(8) Picop is liable for the corporate development tax of five percent (5%) of its adjusted net income for
1977 in the amount of P2,434,367.75.

Considering conclusions nos. 4, 5, 6, 7 and 8, the Court is compelled to hold Picop liable for deficiency
income tax for the year 1977 computed as follows:

Deficiency Income Tax

Net Income Per Return P 258,166.00

Add:

Unallowable Deductions

(1) Deduction of net

operating losses
incurred by RPPM P 44,196,106.00

(2) Unexplained financial

guarantee expenses P 1,237,421.00

(3) Understatement of
Sales P 2,391,644.00

(4) Overstatement of
Cost of Sales P 604,018.00

——————

Total P 48,429,189.00

——————

Net Income as Adjusted P 48,687,355.00

===========

Income Tax Due Thereon 44 P 17,030,574.00

Less:

Tax Already Assessed per

Return 80,358.00

——————

Deficiency Income Tax P 16,560,216.00

Add:

Five percent (5%) Corporate

Development Tax P 2,434,367.00

Total Deficiency Income Tax P 18,994,583.00

===========
 Add:

Five percent (5%) surcharge 45 P 949,729.15

——————

Total Deficiency Income Tax

with surcharge P 19,944,312.15

Add:

Fourteen percent (14%)

interest from 15 April

1978 to 14 April 1981 46 P 8,376,610.80

Fourteen percent (14%)

interest from 21 April

1983 to 20 April 1986 47 P 11,894,787.00

——————

Total Deficiency Income Tax

Due and Payable P 40,215,709.00

===========

WHEREFORE, for all the foregoing, the Decision of the Court of Appeals is hereby MODIFIED and Picop
is hereby ORDERED to pay the CIR the aggregate amount of P43,794,252.51 itemized as follows:

(1) Thirty-five percent (35%)

transaction tax P 3,578,543.51

(2) Total Deficiency Income

Tax Due 40,215,709.00

———————

Aggregate Amount Due and Payable P 43,794,252.51

============
No pronouncement as to costs.

SO ORDERED.

Narvasa, C.J., Regalado, Davide, Jr., Romero, Bellosillo, Melo, Puno, Kapunan, Mendoza, Francisco, Hermosisima,
Jr. and Panganiban, JJ., concur.

Padilla, J., took no part.

G.R. No. L-13912 September 30, 1960

THE COMMISSIONER OF INTERNAL REVENUE, petitioner,

vs.
CONSUELO L. VDA. DE PRIETO, respondent.

Office of the Solicitor General Edilberto Barot, Solicitor F.R. Rosete and Special Atty. B. Gatdula, Jr. for petitioner.
Formilleza and Latorre for respondent.

GUTIERREZ DAVID, J.:

This is an appeal from a decision of the Court of tax Appeals reversing the decision of the Commissioner
of Internal Revenue which held herein respondent Consuelo L. Vda. de Prieto liable for the payment of
the sum of P21,410.38 as deficiency income tax, plus penalties and monthly interest.

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

Under the law, for interest to be deductible, it must be shown that there be an indebtedness, that there
should be interest upon it, and that what is claimed as an interest deduction should have been paid or
accrued within the year. It is here conceded that the interest paid by respondent was in consequence of
the late payment of her donor's tax, and the same was paid within the year it is sought to be declared. The
only question to be determined, as stated by the parties, is whether or not such interest was paid upon an
indebtedness within the contemplation of section 30 (b) (1) of the Tax Code, the pertinent part of which
reads:

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

xxx xxx xxx

 (b) Interest:

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

The term "indebtedness" as used in the Tax Code of the United States containing similar provisions as in
the above-quoted section has been defined as an unconditional and legally enforceable obligation for the
payment of money.1awphîl.nèt(Federal Taxes Vol. 2, p. 13,019, Prentice-Hall, Inc.; Merten's Law of Federal
Income Taxation, Vol. 4, p. 542.) Within the meaning of that definition, it is apparent that a tax may be
considered an indebtedness. As stated by this Court in the case of Santiago Sambrano vs. Court of Tax
Appeals and Collector of Internal Revenue (101 Phil., 1; 53 Off. Gaz., 4839) —

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

The term "debt" is properly used in a comprehensive sense as embracing not merely money due
by contract but whatever one is bound to render to another, either for contract, or the
requirement of the law. (Camben vs.Fink Coule and Coke Co. 61 LRA 584)

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

A tax is a debt for which a creditor's bill may be brought in a proper case. (State vs. Georgia Co.,
19 LRA 485).

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

The above conclusion finds support in the established jurisprudence in the United States after whose laws
our Income Tax Law has been patterned. Thus, under sec. 23(b) of the Internal Revenue Code of 1939, as
amended 1 , which contains similarly worded provisions as sec. 30(b) of our Tax Code, the uniform ruling
is that interest on taxes is interest on indebtedness and is deductible. (U.S. vs. Jaffray, 306 U.S. 276. See
also Lustig vs. U.S., 138 F. Supp. 870; Commissioner of Internal Revenue vs. Bryer, 151 F. 2d 267, 34 AFTR
151; Penrose vs. U.S. 18 F. Supp. 413, 18 AFTR 1289; Max Thomas Davis, et al. vs. Commissioner of
Internal Revenue, 46 U.S. Boared of Tax Appeals Reports, p. 663, citing U.S. vs. Jaffray, 6 Tax Court of
United States Reports, p. 255; Armour vs. Commissioner of Internal Revenue, 6 Tax Court of the United
States Reports, p. 359; The Koppers Coal Co. vs. Commissioner of Internal Revenue, 7 Tax Court of
United States Reports, p. 1209; Toy vs. Commissioner of Internal Revenue; Lucas vs. Comm., 34 U.S.
Board of Tax Appeals Reports, 877; Evens and Howard Fire Brick Co. vs. Commissioner of Internal
Revenue, 3 Tax Court of United States Reports, p. 62). The rule applies even though the tax is
nondeductible. (Federal Taxes, Vol. 2, Prentice Hall, sec. 163, 13,022; see also Merten's Law of Federal
Income Taxation, Vol. 5, pp. 23-24.)

To sustain the proposition that the interest payment in question is not deductible for the purpose of
computing respondent's net income, petitioner relies heavily on section 80 of Revenue Regulation No. 2
(known as Income Tax Regulation) promulgated by the Department of Finance, which provides that "the
word `taxes' means taxes proper and no deductions should be allowed for amounts representing interest,
surcharge, or penalties incident to delinquency." The court below, however, held section 80 as
inapplicable to the instant case because while it implements sections 30(c) of the Tax Code governing
deduction of taxes, the respondent taxpayer seeks to come under section 30(b) of the same Code
providing for deduction of interest on indebtedness. We find the lower court's ruling to be correct.
Contrary to petitioner's belief, the portion of section 80 of Revenue Regulation No. 2 under consideration
has been part and parcel of the development to the law on deduction of taxes in the United States. (See
Capital Bldg. and Loan Assn. vs. Comm., 23 BTA 848. Thus, Mertens in his treatise says: "Penalties are to
be distinguished from taxes and they are not deductible under the heading of taxs." . . . Interest on state
taxes is not deductible as taxes." (Vol. 5, Law on Federal Income Taxation, pp. 22-23, sec. 27.06, citing
cases.) This notwithstanding, courts in that jurisdiction, however, have invariably held that interest on
deficiency taxes are deductible, not as taxes, but as interest. (U.S. vs. Jaffray, et al., supra; see also Mertens,
sec. 26.09, Vol. 4, p. 552, and cases cited therein.) Section 80 of Revenue Regulation No. 2, therefore,
merely incorporated the established application of the tax deduction statute in the United States, where
deduction of "taxes" has always been limited to taxes proper and has never included interest on
delinquent taxes, penalties and surcharges.

To give to the quoted portion of section 80 of our Income Tax Regulations the meaning that the petitioner
gives it would run counter to the provision of section 30(b) of the Tax Code and the construction given to
it by courts in the United States. Such effect would thus make the regulation invalid for a "regulation
which operates to create a rule out of harmony with the statute, is a mere nullity." (Lynch vs. Tilden
Produce Co., 265 U.S. 315; Miller vs. U.S., 294 U.S. 435.) As already stated, section 80 implements only
section 30(c) of the Tax Code, or the provision allowing deduction of taxes, while herein respondent seeks
to be allowed deduction under section 30(b), which provides for deduction of interest on indebtedness.

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

In view of the foregoing, the decision sought to be reviewed is affirmed, without pronouncement as to
costs.

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

G.R. Nos. L-18169, L-18262 & L-21434 July 31, 1964

COMMISSIONER OF INTERNAL REVENUES, petitioner,

vs.
V.E. LEDNICKY and MARIA VALERO LEDNICKY, respondents.

Office of the Solicitor General for petitioner.

Ozaeta, Gibbs and Ozaeta for respondents.

REYES, J.B.L., J.:

The above-captioned cases were elevated to this Court under separate petitions by the Commissioner for
review of the corresponding decisions of the Court of Tax Appeals. Since these cases involve the same
parties and issues akin to each case presented, they are herein decided jointly.

The respondents, V. E. Lednicky and Maria Valero Lednicky, are husband and wife, respectively, both
American citizens residing in the Philippines, and have derived all their income from Philippine sources
for the taxable years in question.
In compliance with local law, the aforesaid respondents, on 27 March 1957, filed their income tax return
for 1956, reporting therein a gross income of P1,017,287. 65 and a net income of P733,809.44 on which the
amount of P317,395.4 was assessed after deducting P4,805.59 as withholding tax. Pursuant to the
petitioner's assessment notice, the respondents paid the total amount of P326,247.41, inclusive of the
withheld taxes, on 15 April 1957.

On 17 March 1959, the respondents Lednickys filed an amended income tax return for 1956. The
amendment consists in a claimed deduction of P205,939.24 paid in 1956 to the United States government
as federal income tax for 1956. Simultaneously with the filing of the amended return, the respondents
requested the refund of P112,437.90.

When the petitioner Commissioner of Internal Revenue failed to answer the claim for refund, the
respondents filed their petition with the Tax Court on 11 April 1959 as CTA Case No. 646, which is now
G. R. No. L-18286 in the Supreme Court.

G. R. No. L-18169 (formerly CTA Case No. 570) is also a claim for refund in the amount of P150,269.00, as
alleged overpaid income tax for 1955, the facts of which are as follows:

On 28 February 1956, the same respondents-spouses filed their domestic income tax return for 1955,
reporting a gross income of P1,771,124.63 and a net income of P1,052,550.67. On 19 April 1956, they filed
an amended income tax return, the amendment upon the original being a lesser net income of
P1,012,554.51, and, on the basis of this amended return, they paid P570,252.00, inclusive of withholding
taxes. After audit, the petitioner determined a deficiency of P16,116.00, which amount, the respondents
paid on 5 December 1956.

Back in 1955, however, the Lednickys filed with the U.S. Internal Revenue Agent in Manila their federal
income tax return for the years 1947, 1951, 1952, 1953, and 1954 on income from Philippine sources on a
cash basis. Payment of these federal income taxes, including penalties and delinquency interest in the
amount of P264,588.82, were made in 1955 to the U.S. Director of Internal Revenue, Baltimore, Maryland,
through the National City Bank of New York, Manila Branch. Exchange and bank charges in remitting
payment totaled P4,143.91.

Wherefore, the parties respectfully pray that the foregoing stipulation of facts be admitted and approved
by this Honorable Court, without prejudice to the parties adducing other evidence to prove their case not
covered by this stipulation of facts. 1äwphï1.ñët

On 11 August 1958, the said respondents amended their Philippine income tax return for 1955 to include
the following deductions:

U.S. Federal income taxes P471,867.32

Interest accrued up to May 15, 1955 40,333.92

Exchange and bank charges 4,143.91

Total P516,345.15

and therewith filed a claim for refund of the sum of P166,384.00, which was later reduced to P150,269.00.
The respondents Lednicky brought suit in the Tax Court, which was docketed therein as CTA Case No.
570.

In G. R. No. 21434 (CTA Case No. 783), the facts are similar, but refer to respondents Lednickys' income
tax return for 1957, filed on 28 February 1958, and for which respondents paid a total sum of P196,799.65.
In 1959, they filed an amended return for 1957, claiming deduction of P190,755.80, representing taxes paid
to the U.S. Government on income derived wholly from Philippine sources. On the strength thereof,
respondents seek refund of P90 520.75 as overpayment. The Tax Court again decided for respondents.

The common issue in all three cases, and one that is of first impression in this jurisdiction, is whether a
citizen of the United States residing in the Philippines, who derives income wholly from sources within
the Republic of the Philippines, may deduct from his gross income the income taxes he has paid to the
United States government for the taxable year on the strength of section 30 (C-1) of the Philippine Internal
Revenue Code, reading as follows:

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

(a) ...

(b) ...

(c) Taxes:

(1) In general. — Taxes paid or accrued within the taxable year, except —

(A) The income tax provided for under this Title;

(B) Income, war-profits, and excess profits taxes imposed by the

authority of any foreign country; but this deduction shall be allowed in the
case of a taxpayer who does not signify in his return his desire to have to any
extent the benefits of paragraph (3) of this subsection (relating to credit for
foreign countries);

(C) Estate, inheritance and gift taxes; and

(D) Taxes assessed against local benefits of a kind tending to increase the
value of the property assessed. (Emphasis supplied)

The Tax Court held that they may be deducted because of the undenied fact that the respondent
spouses did not "signify" in their income tax return a desire to avail themselves of the benefits of
paragraph 3 (B) of the subsection, which reads:

Par. (c) (3) Credits against tax for taxes of foreign countries. — If the taxpayer signifies in his
return his desire to have the benefits of this paragraph, the tax imposed by this Title shall
be credited with —

(A) ...;
 (B) Alien resident of the Philippines. — In the case of an alien resident of the
Philippines, the amount of any such taxes paid or accrued during the taxable
year to any foreign country, if the foreign country of which such alien resident is
a citizen or subject, in imposing such taxes, allows a similar credit to citizens of
the Philippines residing in such country;

It is well to note that the tax credit so authorized is limited under paragraph 4 (A and B) of the
same subsection, in the following terms:

Par. (c) (4) Limitation on credit. — The amount of the credit taken under this section shall
be subject to each of the following limitations:

(A) The amount of the credit in respect to the tax paid or accrued to any country
shall not exceed the same proportion of the tax against which such credit is
taken, which the taxpayer's net income from sources within such country taxable
under this Title bears to his entire net income for the same taxable year; and

(B) The total amount of the credit shall not exceed the same proportion of the tax
against which such credit is taken, which the taxpayer's net income from sources
without the Philippines taxable under this Title bears to his entire net income for
the same taxable year.

We agree with appellant Commissioner that the Construction and wording of Section 30
(c) (1) (B) of the Internal Revenue Act shows the law's intent that the right to deduct
income taxes paid to foreign government from the taxpayer's gross income is given only
as an alternative or substitute to his right to claim a tax credit for such foreign income
taxes under section 30 (c) (3) and (4); so that unless the alien resident has a right to claim
such tax credit if he so chooses, he is precluded from deducting the foreign income taxes
from his gross income. For it is obvious that in prescribing that such deduction shall be
allowed in the case of a taxpayer who does not signify in his return his desire to have to any
extent the benefits of paragraph (3) (relating to credits for taxes paid to foreign countries),
the statute assumes that the taxpayer in question also may signify his desire to claim a tax
credit and waive the deduction; otherwise, the foreign taxes would always be deductible,
and their mention in the list of non-deductible items in Section 30(c) might as well have
been omitted, or at least expressly limited to taxes on income from sources outside the
Philippine Islands.

Had the law intended that foreign income taxes could be deducted from gross income in
any event, regardless of the taxpayer's right to claim a tax credit, it is the latter right that
should be conditioned upon the taxpayer's waiving the deduction; in which Case the
right to reduction under subsection (c-1-B) would have been made absolute or
unconditional (by omitting foreign taxes from the enumeration of non-deductions), while
the right to a tax credit under subsection (c-3) would have been expressly conditioned
upon the taxpayer's not claiming any deduction under subsection (c-1). In other words, if
the law had been intended to operate as contended by the respondent taxpayers and by
the Court of Tax Appeals section 30 (subsection (c-1) instead of providing as at present:

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

(a) ...
 (b) ...

(c) Taxes:

(1) In general. — Taxes paid or accrued within the taxable year, except —

(A) The income tax provided for under this Title;

(B) Income, war-profits, and excess profits taxes imposed by the

authority of any foreign country; but this deduction shall be allowed in
the case of a taxpayer who does not signify in his return his desire to
have to any extent the benefits of paragraph (3) of this subsection
(relating to credit for taxes of foreign countries);

(C) Estate, inheritance and gift taxes; and

(D) Taxes assessed against local benefits of a kind tending to increase the
value of the property assessed.

would have merely provided:

SEC. 30. Decision from grow income. — In computing net income there shall be allowed as
deductions:

(a) ...

(b) ...

(c) Taxes paid or accrued within the taxable year, EXCEPT —

(A) The income tax provided for in this Title;

(B) Omitted or else worded as follows:

Income, war profits and excess profits taxes imposed by authority of any foreign country
on income earned within the Philippines if the taxpayer does not claim the benefits under
paragraph 3 of this subsection;

(C) Estate, inheritance or gift taxes;

(D) Taxes assessed against local benefits of a kind tending to increase the value of the
property assessed.

while subsection (c-3) would have been made conditional in the following or equivalent terms:

(3) Credits against tax for taxes of foreign countries. — If the taxpayer has not deducted such taxes from
his gross income but signifies in his return his desire to have the benefits of this paragraph, the tax
imposed by Title shall be credited with ... (etc.).
Petitioners admit in their brief that the purpose of the law is to prevent the taxpayer from claiming twice
the benefits of his payment of foreign taxes, by deduction from gross income (subs. c-1) and by tax credit
(subs. c-3). This danger of double credit certainly can not exist if the taxpayer can not claim benefit under
either of these headings at his option, so that he must be entitled to a tax credit (respondent taxpayers
admittedly are not so entitled because all their income is derived from Philippine sources), or the option
to deduct from gross income disappears altogether.

Much stress is laid on the thesis that if the respondent taxpayers are not allowed to deduct the income
taxes they are required to pay to the government of the United States in their return for Philippine
income tax, they would be subjected to double taxation. What respondents fail to observe is that double
taxation becomes obnoxious only where the taxpayer is taxed twice for the benefit of the same
governmental entity (cf. Manila vs. Interisland Gas Service, 52 Off. Gaz. 6579; Manuf. Life Ins. Co. vs. Meer,
89 Phil. 357). In the present case, while the taxpayers would have to pay two taxes on the same income,
the Philippine government only receives the proceeds of one tax. As between the Philippines, where the
income was earned and where the taxpayer is domiciled, and the United States, where that income
was not earned and where the taxpayer did not reside, it is indisputable that justice and equity demand
that the tax on the income should accrue to the benefit of the Philippines. Any relief from the alleged
double taxation should come from the United States, and not from the Philippines, since the former's
right to burden the taxpayer is solely predicated on his citizenship, without contributing to the
production of the wealth that is being taxed.

Aside from not conforming to the fundamental doctrine of income taxation that the right of a government
to tax income emanates from its partnership in the production of income, by providing the protection,
resources, incentive, and proper climate for such production, the interpretation given by the respondents
to the revenue law provision in question operates, in its application, to place a resident alien with only
domestic sources of income in an equal, if not in a better, position than one who has both domestic and
foreign sources of income, a situation which is manifestly unfair and short of logic.

Finally, to allow an alien resident to deduct from his gross income whatever taxes he pays to his own
government amounts to conferring on the latter the power to reduce the tax income of the Philippine
government simply by increasing the tax rates on the alien resident. Everytime the rate of taxation
imposed upon an alien resident is increased by his own government, his deduction from Philippine taxes
would correspondingly increase, and the proceeds for the Philippines diminished, thereby subordinating
our own taxes to those levied by a foreign government. Such a result is incompatible with the status of
the Philippines as an independent and sovereign state.

IN VIEW OF THE FOREGOING, the decisions of the Court of Tax Appeals are reversed, and, the
disallowance of the refunds claimed by the respondents Lednicky is affirmed, with costs against said
respondents-appellees.

Bengzon, C.J., Padilla, Bautista Angelo, Labrador, Concepcion, Paredes, Regala and Makalintal, JJ., concur.

PHILEX MINING G.R. No. 148187

CORPORATION,
Petitioner, Present:
Ynares-Santiago, J. (Chairperson),
- versus - Carpio Morales, *
Chico-Nazario,
Nachura, and,
Reyes, JJ.
COMMISSIONER OF
INTERNAL REVENUE, Promulgated:
Respondent.
April 16, 2008
x ---------------------------------------------------------------------------------------- x

DECISION

YNARES-SANTIAGO, J.:

This is a petition for review on certiorari of the June 30, 2000 Decision [1] of the Court of Appeals in CA-
G.R. SP No. 49385, which affirmed the Decision[2] of the Court of Tax Appeals in C.T.A. Case No. 5200.
Also assailed is the April 3, 2001 Resolution[3] denying the motion for reconsideration.

The facts of the case are as follows:

On April 16, 1971, petitioner Philex Mining Corporation (Philex Mining), entered into an
agreement[4] with Baguio Gold Mining Company (Baguio Gold) for the former to manage and operate the
latters mining claim, known as the Sto. Nino mine, located in Atok and Tublay, Benguet Province. The
parties agreement was denominated as Power of Attorney and provided for the following terms:

4. Within three (3) years from date thereof, the PRINCIPAL (Baguio Gold) shall make
available to the MANAGERS (Philex Mining) up to ELEVEN MILLION PESOS
(P11,000,000.00), in such amounts as from time to time may be required by the
MANAGERS within the said 3-year period, for use in the MANAGEMENT of the STO.
NINO MINE. The said ELEVEN MILLION PESOS (P11,000,000.00) shall be deemed, for
internal audit purposes, as the owners account in the Sto. Nino PROJECT. Any part of
any income of the PRINCIPAL from the STO. NINO MINE, which is left with the Sto.
Nino PROJECT, shall be added to such owners account.

5. Whenever the MANAGERS shall deem it necessary and convenient in connection with
the MANAGEMENT of the STO. NINO MINE, they may transfer their own funds or
property to the Sto. Nino PROJECT, in accordance with the following arrangements:

(a) The properties shall be appraised and, together with the cash, shall be carried by the
Sto. Nino PROJECT as a special fund to be known as the MANAGERS account.

(b) The total of the MANAGERS account shall not exceed P11,000,000.00, except with
prior approval of the PRINCIPAL; provided, however, that if the compensation of the
MANAGERS as herein provided cannot be paid in cash from the Sto. Nino PROJECT, the
amount not so paid in cash shall be added to the MANAGERS account.

(c) The cash and property shall not thereafter be withdrawn from the Sto. Nino PROJECT
until termination of this Agency.

(d) The MANAGERS account shall not accrue interest. Since it is the desire of the
PRINCIPAL to extend to the MANAGERS the benefit of subsequent appreciation of
 property, upon a projected termination of this Agency, the ratio which the MANAGERS
account has to the owners account will be determined, and the corresponding proportion
of the entire assets of the STO. NINO MINE, excluding the claims, shall be transferred to
the MANAGERS, except that such transferred assets shall not include mine development,
roads, buildings, and similar property which will be valueless, or of slight value, to the
MANAGERS. The MANAGERS can, on the other hand, require at their option that
property originally transferred by them to the Sto. Nino PROJECT be re-transferred to
them. Until such assets are transferred to the MANAGERS, this Agency shall remain
subsisting.

xxxx

12. The compensation of the MANAGER shall be fifty per cent (50%) of the net profit of
the Sto. Nino PROJECT before income tax. It is understood that the MANAGERS shall
pay income tax on their compensation, while the PRINCIPAL shall pay income tax on the
net profit of the Sto. Nino PROJECT after deduction therefrom of the MANAGERS
compensation.

xxxx

16. The PRINCIPAL has current pecuniary obligation in favor of the MANAGERS and, in
the future, may incur other obligations in favor of the MANAGERS. This Power of
Attorney has been executed as security for the payment and satisfaction of all such
obligations of the PRINCIPAL in favor of the MANAGERS and as a means to fulfill the
same. Therefore, this Agency shall be irrevocable while any obligation of the PRINCIPAL
in favor of the MANAGERS is outstanding, inclusive of the MANAGERS account. After
all obligations of the PRINCIPAL in favor of the MANAGERS have been paid and
satisfied in full, this Agency shall be revocable by the PRINCIPAL upon 36-month notice
to the MANAGERS.

17. Notwithstanding any agreement or understanding between the PRINCIPAL and the
MANAGERS to the contrary, the MANAGERS may withdraw from this Agency by
giving 6-month notice to the PRINCIPAL. The MANAGERS shall not in any manner be
held liable to the PRINCIPAL by reason alone of such withdrawal. Paragraph 5(d) hereof
shall be operative in case of the MANAGERS withdrawal.

x x x x[5]

In the course of managing and operating the project, Philex Mining made advances of cash and property
in accordance with paragraph 5 of the agreement. However, the mine suffered continuing losses over the
years which resulted to petitioners withdrawal as manager of the mine on January 28, 1982 and in the
eventual cessation of mine operations on February 20, 1982.[6]

Thereafter, on September 27, 1982, the parties executed a Compromise with Dation in Payment[7] wherein
Baguio Gold admitted an indebtedness to petitioner in the amount of P179,394,000.00 and agreed to pay
the same in three segments by first assigning Baguio Golds tangible assets to petitioner, transferring to
the latter Baguio Golds equitable title in its Philodrill assets and finally settling the remaining liability
through properties that Baguio Gold may acquire in the future.

On December 31, 1982, the parties executed an Amendment to Compromise with Dation in
Payment[8] where the parties determined that Baguio Golds indebtedness to petitioner actually amounted
to P259,137,245.00, which sum included liabilities of Baguio Gold to other creditors that petitioner had
assumed as guarantor. These liabilities pertained to long-term loans amounting to US$11,000,000.00
contracted by Baguio Gold from the Bank of America NT & SA and Citibank N.A. This time, Baguio Gold
undertook to pay petitioner in two segments by first assigning its tangible assets for P127,838,051.00 and
then transferring its equitable title in its Philodrill assets for P16,302,426.00. The parties then ascertained
that Baguio Gold had a remaining outstanding indebtedness to petitioner in the amount of
P114,996,768.00.

Subsequently, petitioner wrote off in its 1982 books of account the remaining outstanding indebtedness of
Baguio Gold by charging P112,136,000.00 to allowances and reserves that were set up in 1981 and
P2,860,768.00 to the 1982 operations.

In its 1982 annual income tax return, petitioner deducted from its gross income the amount of
P112,136,000.00 as loss on settlement of receivables from Baguio Gold against reserves and
allowances.[9] However, the Bureau of Internal Revenue (BIR) disallowed the amount as deduction for
bad debt and assessed petitioner a deficiency income tax of P62,811,161.39.

Petitioner protested before the BIR arguing that the deduction must be allowed since all requisites for a
bad debt deduction were satisfied, to wit: (a) there was a valid and existing debt; (b) the debt was
ascertained to be worthless; and (c) it was charged off within the taxable year when it was determined to
be worthless.

Petitioner emphasized that the debt arose out of a valid management contract it entered into with Baguio
Gold. The bad debt deduction represented advances made by petitioner which, pursuant to the
management contract, formed part of Baguio Golds pecuniary obligations to petitioner. It also included
payments made by petitioner as guarantor of Baguio Golds long-term loans which legally entitled
petitioner to be subrogated to the rights of the original creditor.

Petitioner also asserted that due to Baguio Golds irreversible losses, it became evident that it
would not be able to recover the advances and payments it had made in behalf of Baguio Gold. For a debt
to be considered worthless, petitioner claimed that it was neither required to institute a judicial action for
collection against the debtor nor to sell or dispose of collateral assets in satisfaction of the debt. It is
enough that a taxpayer exerted diligent efforts to enforce collection and exhausted all reasonable means
to collect.

On October 28, 1994, the BIR denied petitioners protest for lack of legal and factual basis. It held
that the alleged debt was not ascertained to be worthless since Baguio Gold remained existing and had
not filed a petition for bankruptcy; and that the deduction did not consist of a valid and subsisting debt
considering that, under the management contract, petitioner was to be paid fifty percent (50%) of the
projects net profit.[10]

Petitioner appealed before the Court of Tax Appeals (CTA) which rendered judgment, as follows:

WHEREFORE, in view of the foregoing, the instant Petition for Review is hereby
DENIED for lack of merit. The assessment in question, viz: FAS-1-82-88-003067 for
deficiency income tax in the amount of P62,811,161.39 is hereby AFFIRMED.

ACCORDINGLY, petitioner Philex Mining Corporation is hereby ORDERED to

PAY respondent Commissioner of Internal Revenue the amount of P62,811,161.39, plus,
20% delinquency interest due computed from February 10, 1995, which is the date after
the 20-day grace period given by the respondent within which petitioner has to pay the
deficiency amount x x x up to actual date of payment.

SO ORDERED.[11]

The CTA rejected petitioners assertion that the advances it made for the Sto. Nino mine were in
the nature of a loan. It instead characterized the advances as petitioners investment in a partnership with
Baguio Gold for the development and exploitation of the Sto. Nino mine. The CTA held that the Power of
Attorney executed by petitioner and Baguio Gold was actually a partnership agreement. Since the
advanced amount partook of the nature of an investment, it could not be deducted as a bad debt from
petitioners gross income.

The CTA likewise held that the amount paid by petitioner for the long-term loan obligations of
Baguio Gold could not be allowed as a bad debt deduction. At the time the payments were made, Baguio
Gold was not in default since its loans were not yet due and demandable. What petitioner did was to pre-
pay the loans as evidenced by the notice sent by Bank of America showing that it was merely demanding
payment of the installment and interests due. Moreover, Citibank imposed and collected a pre-
termination penalty for the pre-payment.
 The Court of Appeals affirmed the decision of the CTA. [12] Hence, upon denial of its motion for
reconsideration,[13] petitioner took this recourse under Rule 45 of the Rules of Court, alleging that:

I.
The Court of Appeals erred in construing that the advances made by Philex in the
management of the Sto. Nino Mine pursuant to the Power of Attorney partook of the
nature of an investment rather than a loan.

II.
The Court of Appeals erred in ruling that the 50%-50% sharing in the net profits of the
Sto. Nino Mine indicates that Philex is a partner of Baguio Gold in the development of
the Sto. Nino Mine notwithstanding the clear absence of any intent on the part of Philex
and Baguio Gold to form a partnership.

III.
The Court of Appeals erred in relying only on the Power of Attorney and in completely
disregarding the Compromise Agreement and the Amended Compromise Agreement
when it construed the nature of the advances made by Philex.

IV.
The Court of Appeals erred in refusing to delve upon the issue of the propriety of the bad
debts write-off.[14]

Petitioner insists that in determining the nature of its business relationship with Baguio Gold, we
should not only rely on the Power of Attorney, but also on the subsequent Compromise with Dation in
Payment and Amended Compromise with Dation in Payment that the parties executed in 1982. These
documents, allegedly evinced the parties intent to treat the advances and payments as a loan and
establish a creditor-debtor relationship between them.

The petition lacks merit.

The lower courts correctly held that the Power of Attorney is the instrument that is material in
determining the true nature of the business relationship between petitioner and Baguio Gold. Before
resort may be had to the two compromise agreements, the parties contractual intent must first be
discovered from the expressed language of the primary contract under which the parties business
relations were founded. It should be noted that the compromise agreements were mere collateral
documents executed by the parties pursuant to the termination of their business relationship created
under the Power of Attorney. On the other hand, it is the latter which established the juridical relation of
the parties and defined the parameters of their dealings with one another.
 The execution of the two compromise agreements can hardly be considered as a subsequent or
contemporaneous act that is reflective of the parties true intent. The compromise agreements were
executed eleven years after the Power of Attorney and merely laid out a plan or procedure by which
petitioner could recover the advances and payments it made under the Power of Attorney. The parties
entered into the compromise agreements as a consequence of the dissolution of their business
relationship. It did not define that relationship or indicate its real character.

An examination of the Power of Attorney reveals that a partnership or joint venture was indeed
intended by the parties. Under a contract of partnership, two or more persons bind themselves to
contribute money, property, or industry to a common fund, with the intention of dividing the profits
among themselves.[15] While a corporation, like 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 legal concept of a joint venture is of common law origin. It has no precise
legal definition, but it has been generally understood to mean an organization formed for
some temporary purpose. x x x It is in fact hardly distinguishable from the partnership,
since their elements are similar community of interest in the business, sharing of profits
and losses, and a mutual right of control. x x x The main distinction cited by most
opinions in common law jurisdictions is that the partnership contemplates a general
business with some degree of continuity, while the joint venture is formed for the
execution of a single transaction, and is thus of a temporary nature. x x x This
observation is not entirely accurate in this jurisdiction, since under the Civil Code, a
partnership may be particular or universal, and a particular partnership may have for its
object a specific undertaking. x x x It would seem therefore that under Philippine law, a
joint venture is a form of partnership and should be governed by the law of partnerships.
The Supreme Court has however recognized a distinction between these two business
forms, and has held that although a corporation cannot enter into a partnership contract,
it may however engage in a joint venture with others. x x x (Citations omitted) [16]

Perusal of the agreement denominated as the Power of Attorney indicates that the parties had
intended to create a partnership and establish a common fund for the purpose. They also had a joint
interest in the profits of the business as shown by a 50-50 sharing in the income of the mine.

Under the Power of Attorney, petitioner and Baguio Gold undertook to contribute money,
property and industry to the common fund known as the Sto. Nio mine. [17] In this regard, we note that
there is a substantive equivalence in the respective contributions of the parties to the development and
operation of the mine. Pursuant to paragraphs 4 and 5 of the agreement, petitioner and Baguio Gold were
to contribute equally to the joint venture assets under their respective accounts. Baguio Gold would
contribute P11Munder its owners account plus any of its income that is left in the project, in addition to
its actual mining claim. Meanwhile, petitioners contribution would consist of its expertise in the
management and operation of mines, as well as the managers account which is comprised of P11M in
funds and property and petitioners compensation as manager that cannot be paid in cash.

However, petitioner asserts that it could not have entered into a partnership agreement with
Baguio Gold because it did not bind itself to contribute money or property to the project; that under
paragraph 5 of the agreement, it was only optional for petitioner to transfer funds or property to the Sto.
Nio project (w)henever the MANAGERS shall deem it necessary and convenient in connection with the
MANAGEMENT of the STO. NIO MINE.[18]

The wording of the parties agreement as to petitioners contribution to the common fund does not
detract from the fact that petitioner transferred its funds and property to the project as specified in
paragraph 5, thus rendering effective the other stipulations of the contract, particularly paragraph 5(c)
which prohibits petitioner from withdrawing the advances until termination of the parties business
relations. As can be seen, petitioner became bound by its contributions once the transfers were made. The
contributions acquired an obligatory nature as soon as petitioner had chosen to exercise its option under
paragraph 5.

There is no merit to petitioners claim that the prohibition in paragraph 5(c) against withdrawal of
advances should not be taken as an indication that it had entered into a partnership with Baguio Gold;
that the stipulation only showed that what the parties entered into was actually a contract of agency
coupled with an interest which is not revocable at will and not a partnership.

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.[19] In this case, the non-revocation or non-withdrawal under paragraph 5(c) applies to
the advances made by petitioner who is supposedly the agent and not the principal under the
contract. Thus, it cannot be inferred from the stipulation that the parties relation under the agreement is
one of agency coupled with an interest and not a partnership.

Neither can paragraph 16 of the agreement be taken as an indication that the relationship of the
parties was one of agency and not a partnership. Although the said provision states that this Agency shall
be irrevocable while any obligation of the PRINCIPAL in favor of the MANAGERS is outstanding,
inclusive of the MANAGERS account, it does not necessarily follow that the parties entered into an
agency contract coupled with an interest that cannot be withdrawn by Baguio Gold.
 It should be stressed that the main object of the Power of Attorney was not to confer a power in
favor of petitioner to contract with third persons on behalf of Baguio Gold but to create a business
relationship between petitioner and Baguio Gold, in which the former was to manage and operate the
latters mine through the parties mutual contribution of material resources and industry. The essence of
an agency, even one that is coupled with interest, is the agents ability to represent his principal and bring
about business relations between the latter and third persons. [20] Where representation for and in behalf
of the principal is merely incidental or necessary for the proper discharge of ones paramount undertaking
under a contract, the latter may not necessarily be a contract of agency, but some other agreement
depending on the ultimate undertaking of the parties.[21]

In this case, the totality of the circumstances and the stipulations in the parties agreement
indubitably lead to the conclusion that a partnership was formed between petitioner and Baguio Gold.

First, it does not appear that Baguio Gold was unconditionally obligated to return the advances
made by petitioner under the agreement. Paragraph 5 (d) thereof provides that upon termination of the
parties business relations, the ratio which the MANAGERS account has to the owners account will be
determined, and the corresponding proportion of the entire assets of the STO. NINO MINE, excluding
the claims shall be transferred to petitioner.[22] As pointed out by the Court of Tax Appeals, petitioner was
merely entitled to a proportionate return of the mines assets upon dissolution of the parties business
relations. There was nothing in the agreement that would require Baguio Gold to make payments of the
advances to petitioner as would be recognized as an item of obligation or accounts payable for Baguio
Gold.

Thus, the tax court correctly concluded that the agreement provided for a distribution of assets of
the Sto. Nio mine upon termination, a provision that is more consistent with a partnership than a
creditor-debtor relationship. It should be pointed out that in a contract of loan, a person who receives a
loan or money or any fungible thing acquires ownership thereof and is bound to pay the creditor an
equal amount of the same kind and quality.[23] In this case, however, there was no stipulation for Baguio
Gold to actually repay petitioner the cash and property that it had advanced, but only the return of an
amount pegged at a ratio which the managers account had to the owners account.

In this connection, we find no contractual basis for the execution of the two compromise
agreements in which Baguio Gold recognized a debt in favor of petitioner, which supposedly arose from
the termination of their business relations over the Sto. Nino mine. The Power of Attorney clearly
provides that petitioner would only be entitled to the return of a proportionate share of the mine assets to
be computed at a ratio that the managers account had to the owners account. Except to provide a basis for
claiming the advances as a bad debt deduction, there is no reason for Baguio Gold to hold itself liable to
petitioner under the compromise agreements, for any amount over and above the proportion agreed
upon in the Power of Attorney.

Next, the tax court correctly observed that it was unlikely for a business corporation to lend
hundreds of millions of pesos to another corporation with neither security, or collateral, nor a specific
deed evidencing the terms and conditions of such loans. The parties also did not provide a specific
maturity date for the advances to become due and demandable, and the manner of payment was
unclear. All these point to the inevitable conclusion that the advances were not loans but capital
contributions to a partnership.

The strongest indication that petitioner was a partner in the Sto Nio mine is the fact that it would
receive 50% of the net profits as compensation under paragraph 12 of the agreement. The entirety of the
parties contractual stipulations simply leads to no other conclusion than that petitioners compensation is
actually its share in the income of the joint venture.

Article 1769 (4) of the Civil Code explicitly provides that the receipt by a person of a share in the
profits of a business is prima facie evidence that he is a partner in the business. Petitioner asserts, however,
that no such inference can be drawn against it since its share in the profits of the Sto Nio project was in
the nature of compensation or wages of an employee, under the exception provided in Article 1769 (4)
(b).[24]

On this score, the tax court correctly noted that petitioner was not an employee of Baguio Gold
who will be paid wages pursuant to an employer-employee relationship. To begin with, petitioner was
the manager of the project and had put substantial sums into the venture in order to ensure its viability
and profitability. By pegging its compensation to profits, petitioner also stood not to be remunerated in
case the mine had no income. It is hard to believe that petitioner would take the risk of not being paid at
all for its services, if it were truly just an ordinary employee.

Consequently, we find that petitioners compensation under paragraph 12 of the agreement

actually constitutes its share in the net profits of the partnership. Indeed, petitioner would not be entitled
to an equal share in the income of the mine if it were just an employee of Baguio Gold. [25] It is not
surprising that petitioner was to receive a 50% share in the net profits, considering that the Power of
Attorney also provided for an almost equal contribution of the parties to the St. Nino mine. The
compensation agreed upon only serves to reinforce the notion that the parties relations were indeed of
partners and not employer-employee.
 All told, the lower courts did not err in treating petitioners advances as investments in a
partnership known as the Sto. Nino mine. The advances were not debts of Baguio Gold to petitioner
inasmuch as the latter was under no unconditional obligation to return the same to the former under the
Power of Attorney. As for the amounts that petitioner paid as guarantor to Baguio Golds creditors, we
find no reason to depart from the tax courts factual finding that Baguio Golds debts were not yet due and
demandable at the time that petitioner paid the same. Verily, petitioner pre-paid Baguio Golds
outstanding loans to its bank creditors and this conclusion is supported by the evidence on record. [26]

In sum, petitioner cannot claim the advances as a bad debt deduction from its gross
income. Deductions for income tax purposes partake of the nature of tax exemptions and are strictly
construed against the taxpayer, who must prove by convincing evidence that he is entitled to the
deduction claimed.[27] In this case, petitioner failed to substantiate its assertion that the advances were
subsisting debts of Baguio Gold that could be deducted from its gross income. Consequently, it could not
claim the advances as a valid bad debt deduction.

WHEREFORE, the petition is DENIED. The decision of the Court of Appeals in CA-G.R. SP No. 49385
dated June 30, 2000, which affirmed the decision of the Court of Tax Appeals in C.T.A. Case No. 5200
is AFFIRMED. Petitioner Philex Mining Corporation is ORDERED to PAY the deficiency tax on its 1982
income in the amount of P62,811,161.31, with 20% delinquency interest computed from February 10, 1995,
which is the due date given for the payment of the deficiency income tax, up to the actual date of
payment.

SO ORDERED.

[G.R. No. 118794. May 8, 1996]

PHILIPPINE REFINING COMPANY (now known as UNILEVER PHILIPPINES [PRC],

INC.), petitioner, vs. COURT OF APPEALS, COURT OF TAX APPEALS, and THE
COMMISSIONER OF INTERNAL REVENUE, respondents.
SYLLABUS
1. REMEDIAL LAW; EVIDENCE; FINDINGS OF FACT OF THE COURT OF TAX APPEALS,
GENERALLY UPHELD ON APPEAL; CASE AT BENCH. The Court of Tax Appeals is a highly
specialized body specifically created for the purpose of reviewing tax cases. Through its expertise, it
is undeniably competent to determine the issue of whether or not the debt is deductible through the
 evidence presented before it. Because of this recognized expertise, the findings of the CTA will not
ordinarily be reviewed absent a showing of gross error or abuse on its part. The findings of fact of
the CTA are binding on this Court and in the absence of strong reasons for this Court to delve into
facts, only questions of law are open for determination. Were it not, therefore, due to the desire of
this Court to satisfy petitioners calls for clarification and to use this case as a vehicle for
exemplification, this appeal could very well have been summarily dismissed.
2. TAXATION; NATIONAL INTERNAL REVENUE CODE; INCOME TAX; BAD DEBTS;
REQUISITES FOR DEDUCTION. For debts to be considered as worthless, and thereby qualify as
bad debts making them deductible, the taxpayer should show that (1) there is a valid and subsisting
debt; (2) the debt must be actually ascertained to be worthless and uncollectible during the taxable
year; (3) the debt must be charged off during the taxable year; and (4) the debt must arise from the
business or trade of the taxpayer. Additionally, before a debt can be considered worthless, the
taxpayer must also show that it is indeed uncollectible even in the future. Furthermore, there are
steps outlined to be undertaken by the taxpayer to prove that he exerted diligent efforts to collect the
debts, viz: (1) sending of statement of accounts; (2) sending of collection letters; (3) giving the account
to a lawyer for collection; and (4) filing a collection case in court.
3. ID.; ID.; ID.; DEFICIENCY TAX ASSESSMENT; FAILURE TO PAY WITHIN 30 DAYS RENDERS
TAXPAYER LIABLE FOR PAYMENT OF 25% SURCHARGE AND 20% INTEREST. As correctly
pointed out by the Solicitor General, the deficiency tax assessment in this case, which was the subject
of the demand letter of respondent Commissioner dated April 11, 1989, should have been paid
within thirty (30) days from receipt thereof. By reason of petitioners default thereon, the delinquency
penalties of 25% surcharge and interest of 20% accrued from April 11, 1989. The fact that petitioner
appealed the assessment to the CTA and that the same was modified does not relieve petitioner of
the penalties incident to delinquency. The reduced amount of P237,381.25 is but a part of the original
assessment of P1,892,584.00.
4. ID.; TAX LAWS IMPOSING PENALTIES FOR DELINQUENCIES, INTENDED TO HASTEN
PAYMENT OF TAXES. Tax laws imposing penalties for delinquencies, so we have long held, are
intended to hasten tax payments by punishing evasions or neglect of duty in respect thereof. If
penalties could be condoned for flimsy reasons, the law imposing penalties for delinquencies would
be rendered nugatory, and the maintenance of the Government and its multifarious activities will be
adversely affected.
5. ID.; NATIONAL INTERNAL REVENUE CODE; COLLECTION OF PENALTY AND INTEREST IN
CASE OF DELINQUENCY, MANDATORY. We have likewise explained that it is mandatory to
collect penalty and interest at the stated rate in case of delinquency. The intention of the law is to
discourage delay in the payment of taxes due the Government and, in this sense, the penalty and
interest are not penal but compensatory for the concomitant use of the funds by the taxpayer beyond
the date when he is supposed to have paid them to the Government.
APPEARANCES OF COUNSEL
Antonio H. Garces for petitioner.
The Solicitor General for respondents.

DECISION
REGALADO, J.:

This is an appeal by certiorari from the decision of respondent Court of Appeals 1 affirming the
decision of the Court of Tax Appeals which disallowed petitioners claim for deduction as bad debts of
several accounts in the total sum of P395,324.27, and imposing a 25% surcharge and 20% annual
delinquency interest on the alleged deficiency income tax liability of petitioner.
Petitioner Philippine Refining Company (PRC) was assessed by respondent Commissioner of
Internal Revenue (Commissioner) to pay a deficiency tax for the year 1985 in the amount of P1,892,584.00,
computed as follows:

Deficiency Income Tax

Net Income per investigation P197,502,568.00

Add: Disallowances
Bad Debts P 713,070.93
Interest Expense P2.666.545.49 P3.379.616.00

Net Taxable Income P200.882.184.00

Tax Due Thereon P 70,298,764.00

Less: Tax Paid P 69,115,899.00
Deficiency Income Tax P 1,182,865.00
Add: 20% Interest (60% max.) P 709.719.00

Total Amount Due and Collectible P 1.892.584.002

The assessment was timely protested by petitioner on April 26, 1989, on the ground that it was based
on the erroneous disallowances of bad debts and interest expense although the same are both allowable
and legal deductions. Respondent Commissioner, however, issued a warrant of garnishment against the
deposits of petitioner at a branch of City Trust Bank, in Makati, Metro Manila, which action the latter
considered as a denial of its protest.
Petitioner accordingly filed a petition for review with the Court of Tax Appeals (CTA) on the same
assignment of error, that is, that the bad debts and interest expense are legal and allowable deductions. In
its decision3 of February 3, 1993 in C.T.A. Case No. 4408, the CTA modified the findings of
the Commissioner by reducing the deficiency income tax assessment to P237,381.26, with surcharge
and interest incident to delinquency. In said decision, the Tax Court reversed and set aside the
Commissioners disallowance of the supposed interest expense of P2,666,545.19 but maintained the
disallowance of the bad debts of thirteen (13) debtors in the total sum of P395,324.27.
Petitioner then elevated the case to respondent Court of Appeals which, as earlier stated, denied due
course to the petition for review and dismissed the same on August 24, 1994 in CA-G.R. S.P. No.
31190,4 on the following ratiocination:
We agree with respondent Court of Tax Appeals:
Out of the sixteen (16) accounts alleged as bad debts, We find that only three (3) accounts have met
the requirements of the worthlessness of the accounts, hence were properly written off as bad debts,
namely:
1. Petronila Catap P29,098.30
(Pet Mini Grocery)
2. Esther Guinto 254,375.54
(Esther Sari-sari Store)
3. Manuel Orea 34,272.82
 (Elman Gen. Mdsg.)

TOTAL P317,746.66

xxx xxx xxx

With regard to the other accounts, namely:

1. Remoblas Store P 11,961.00

2. Tomas Store 16,842.79
3. AFPCES 13,833.62
4. CM Variety Store 10,895.82
5. URen Mart Enterprise 10,487.08
6. Aboitiz Shipping Corp. 89,483.40
7. J. Ruiz Trucking 69,640.34
8. Renato Alejandro 13,550.00
9. Craig, Mostyn Pty. Ltd. 23,738.00
10. C. Itoh 19,272.22
11. Crocklaan B. V. 77,690.00
12. Enriched Food Corp. 24,158.00
13. Lucito Sta. Maria 13,772.00

TOTAL P395,324.27

We find that said accounts have not satisfied the requirements of the worthlessness of a debt. Mere
testimony of the Financial Accountant of the Petitioner explaining the worthlessness of said debts is seen
by this Court as nothing more than a self-serving exercise which lacks probative value. There was no iota
of documentary evidence (e. g., collection letters sent, report from investigating fieldmen, letter of referral
to their legal department, police report/affidavit that the owners were bankrupt due to fire that engulfed
their stores or that the owner has been murdered, etc.), to give support to the testimony of an employee of
the Petitioner. Mere allegations cannot prove the worthlessness of such debts in 1985. Hence, the claim for
deduction of these thirteen (13) debts should be rejected. 5
1. This pronouncement of respondent Court of Appeals relied on the ruling of this Court in Collector
vs. Goodrich International Rubber Co.,6 which established the rule in determining the worthlessness of a
debt. In said case, we held that for debts to be considered as worthless, and thereby qualify as bad debts
making them deductible, the taxpayer should show that (1) there is a valid and subsisting debt; (2) the
debt must be actually ascertained to be worthless and uncollectible during the taxable year; (3) the debt
must be charged off during the taxable year; and (4) the debt must arise from the business or trade of the
taxpayer. Additionally, before a debt can be considered worthless, the taxpayer must also show that it is
indeed uncollectible even in the future.
Furthermore, there are steps outlined to be undertaken by the taxpayer to prove that he exerted
diligent efforts to collect the debts, viz: (1) sending of statement of accounts; (2) sending of collection
letters; (3) giving the account to a lawyer for collection; and (4) filing a collection case in court.
On the foregoing considerations, respondent Court of Appeals held that petitioner did not satisfy the
requirements of worthlessness of a debt as to the thirteen (13) accounts disallowed as deductions.
It appears that the only evidentiary support given by PRC for its aforesaid claimed deductions was
the explanation or justification posited by its financial adviser or accountant. Guia D. Masagana. Her
allegations were not supported by any documentary evidence, hence, both the Court of Appeals and the
CTA ruled that said contentions per se cannot prove that the debts were indeed uncollectible and can be
considered as bad debts as to make them deductible. That both lower courts are correct is shown by
petitioners own submission and the discussion thereof which we have taken time and patience to cull
from the antecedent proceedings in this case, albeit bordering on factual settings.
The accounts of Remoblas Store in the amount of P11,961.00 and CM Variety Store in the amount of
P10,895.82 are uncollectible, according to petitioner, since the stores were burned in November, 1984 and
in early 1985, respectively, and there are no assets belonging to the debtors that can be garnished by
PRC.7 However, PRC failed to show any documentary evidence for said allegations. Not a single
document was offered to show that the stores were burned, even just a police report or an affidavit
attesting to such loss by fire. In fact, petitioner did not send even a single demand letter to the owners of
said stores.
The account of Tomas Store in the amount of P16,842.79 is uncollectible, claims petitioner PRC, since
the owner thereof was murdered and left no visible assets which could satisfy the debt. Withal, just like
the accounts of the two other stores just mentioned, petitioner again failed to present proof of the efforts
exerted to collect the debt, other than the aforestated asseverations of its financial adviser.
The accounts of Aboitiz Shipping Corporation and J. Ruiz Trucking in the amounts of P89,483.40 and
P69,640.34, respectively, both of which allegedly arose from the hijacking of their cargo and for which
they were given 30% rebates by PRC, are claimed to be uncollectible. Again, petitioner failed to present
an iota of proof, not even a copy of the supposed policy regulation of PRC that it gives rebates to clients
in case of loss arising from fortuitous events or force majeure, which rebates it now passes off as
uncollectible debts.
As to the account of P13,550.00 representing the balance collectible from Renato Alejandro, a former
employee who failed to pay the judgment against him, it is petitioners theory that the same can no longer
be collected since his whereabouts are unknown and he has no known property which can be garnished
or levied upon. Once again, petitioner failed to prove the existence of the said case against that debtor or
to submit any documentation to show that Alejandro was indeed bound to pay any judgment obligation.
The amount of P13,772.00 corresponding to the debt of Lucito Sta. Maria is allegedly due to the loss
of his stocks through robbery and the account is uncollectible due to his insolvency. Petitioner likewise
failed to submit documentary evidence, not even the written reports of the alleged investigation
conducted by its agents as testified to by its aforenamed financial adviser. Regarding the accounts of C.
Itoh in the amount of P19,272.22, Crocklaan B.V. in the sum of P77,690.00, and Craig, Mostyn Pty. Ltd.
with a balance of P23,738.00, petitioner contends that these debtors being foreign corporations, it can sue
them only in their country of incorporation; and since this will entail expenses more than the amounts of
the debts to be collected, petitioner did not file any collection suit but opted to write them off as bad
debts. Petitioner was unable to show proof of its efforts to collect the debts, even by a single demand
letter therefor. While it is not required to file suit, it is at least expected by the law to produce reasonable
proof that the debts are uncollectible although diligent efforts were exerted to collect the same.
The account of Enriched Food Corporation in the amount of P24,158.00 remains unpaid, although
petitioner claims that it sent several letters. This is not sufficient to sustain its position, even if true, but
even smacks of insouciance on its part. On top of that, it was unable to show a single copy of the alleged
demand letters sent to the said corporation or any of its corporate officers.
With regard to the account of AFPCES for unpaid supplies in the amount of P13,833.62, petitioner
asserts that since the debtor is an agency of the government, PRC did not file a collection suit therefor.
Yet, the mere fact that AFPCES is a government agency does not preclude PRC from filing suit since said
agency, while discharging proprietary functions, does not enjoy immunity from suit. Such pretension of
petitioner cannot pass judicial muster.
No explanation is offered by petitioner as to why the unpaid account of URen Mart Enterprise in the
amount of P10,487.08 was written off as a bad debt. However, the decision of the CTA includes this
debtor in its findings on the lack of documentary evidence to justify the deductions claimed, since the
worthlessness of the debts involved are sought to be established by the mere self-serving testimony of its
financial consultant.
The contentions of PRC that nobody is in a better position to determine when an obligation becomes
a bad debt than the creditor itself, and that its judgment should not be substituted by that of respondent
court as it is PRC which has the facilities in ascertaining the collectibility or uncollectibility of these debts,
are presumptuous and uncalled for. The Court of Tax Appeals is a highly specialized body specifically
created for the purpose of reviewing tax cases. Through its expertise, it is undeniably competent to
determine the issue of whether or not the debt is deductible through the evidence presented before it. 8
Because of this recognized expertise, the findings of the CTA will not ordinarily be reviewed absent
a showing of gross error or abuse on its part.9 The findings of fact of the CTA are binding on this Court
and in the absence of strong reasons for this Court to delve into facts, only questions of law are open for
determination.10 Were it not, therefore, due to the desire of this Court to satisfy petitioners calls for
clarification and to use this case as a vehicle for exemplification, this appeal could very well have been
summarily dismissed.
The Court vehemently rejects the absurd thesis of petitioner that despite the supervening delay in
the tax payment, nothing is lost on the part of the Government because in the event that these debts are
collected, the same will be returned as taxes to it in the year of the recovery. This is an irresponsible
statement which deliberately ignores the fact that while the Government may eventually recover
revenues under that hypothesis, the delay caused by the non-payment of taxes under such a contingency
will obviously have a disastrous effect on the revenue collections necessary for governmental operations
during the period concerned.
2. We need not tarry at length on the second issue raised by petitioner. It argues that the imposition
of the 25% surcharge and the 20% delinquency interest due to delay in its payment of the tax assessed is
improper and unwarranted, considering that the assessment of the Commissioner was modified by the
CTA and the decision of said court has not yet become final and executory.
Regarding the 25% surcharge penalty, Section 248 of the Tax Code provides:

SEC 248. Civil Penalties. (a) There shall be imposed, in addition to the tax required to be paid, a penalty
equivalent to twenty-five percent (25%) of the amount due, in the following cases:

xxx xxx xxx

(3) Failure to pay the tax within the time prescribed for its payment.

With respect to the penalty of 20% interest, the relevant provision is found in Section 249 of the same
Code, as follows:

SEC. 249. Interest. (a) In general. There shall be assessed and collected on any unpaid amount of tax,
interest at the rate of twenty percent (20%) per annum, or such higher rate as may be prescribed by
regulations, from the date prescribed for payment until the amount is fully paid.

xxx xxx xxx

(c) Delinquency interest. In case of failure to pay:

(1) The amount of the tax due on any return required to be filed, or
(2) The amount of the tax due for which no return is required, or

3) A deficiency tax, or any surcharge or interest thereon, on the due date appearing in the notice and demand of the
Commissioner,

there shall be assessed and collected, on the unpaid amount, interest at the rate prescribed in paragraph
(a) hereof until the amount is fully paid, which interest shall form part of the tax. (Italics supplied)
xxx xxx xxx
As correctly pointed out by the Solicitor General, the deficiency tax assessment in this case, which
was the subject of the demand letter of respondent Commissioner dated April 11, 1989, should have been
paid within thirty (30) days from receipt thereof. By reason of petitioners default thereon, the
delinquency penalties of 25% surcharge and interest of 20% accrued from April 11, 1989. The fact that
petitioner appealed the assessment to the CTA and that the same was modified does not relieve petitioner
of the penalties incident to delinquency. The reduced amount of P237,381.25 is but a part of the original
assessment of P1,892,584.00.
Our attention has also been called to two of our previous rulings and these we set out here for the
benefit of petitioner and whosoever may be minded to take the same stance it has adopted in this case.
Tax laws imposing penalties for delinquencies, so we have long held, are intended to hasten tax
payments by punishing evasions or neglect of duty in respect thereof. If penalties could be condoned for
flimsy reasons, the law imposing penalties for delinquencies would be rendered nugatory, and the
maintenance of the Government and its multifarious activities will be adversely affected. 11
We have likewise explained that it is mandatory to collect penalty and interest at the stated rate in
case of delinquency. The intention of the law is to discourage delay in the payment of taxes due the
Government and, in this sense, the penalty and interest are not penal but compensatory for the
concomitant use of the funds by the taxpayer beyond the date when he is supposed to have paid them to
the Government.12 Unquestionably, petitioner chose to turn a deaf ear to these injunctions.
ACCORDINGLY, the petition at bar is DENIED and the judgment of respondent Court of Appeals
is hereby AFFIRMED, with treble costs against petitioner.
SO ORDERED.
Romero, Puno, Mendoza, and Torres, Jr., JJ., concur.

G.R. No. L-21551 September 30, 1969

FERNANDEZ HERMANOS, INC., petitioner,

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

-----------------------------

G.R. No. L-21557 September 30, 1969

COMMISSIONER OF INTERNAL REVENUE, petitioner,

vs.
FERNANDEZ HERMANOS, INC., and COURT OF TAX APPEALS, respondents.

-----------------------------
G.R. No. L-24972 September 30, 1969

COMMISSIONER OF INTERNAL REVENUE, petitioner,

vs.
FERNANDEZ HERMANOS INC., and the COURT OF TAX APPEALS, respondents.

-----------------------------

G.R. No. L-24978 September 30, 1969

FERNANDEZ HERMANOS, INC., petitioner,

vs.
THE COMMISSIONER OF INTERNAL REVENUE, and HON. ROMAN A. UMALI, COURT OF TAX
APPEALS,respondents.

L-21551:

Rafael Dinglasan for petitioner.

Office of the Solicitor General Arturo A. Alafriz, Solicitor Alejandro B. Afurong and Special Attorney Virgilio G.
Saldajeno for respondent.

L-21557:

Office of the Solicitor General for petitioner.

Rafael Dinglasan for respondent Fernandez Hermanos, Inc.

L-24972:

Office of the Solicitor General Antonio P. Barredo, Assistant Solicitor General Felicisimo R. Rosete and Special
Attorney Virgilio G. Saldajeno for petitioner.
Rafael Dinglasan for respondent Fernandez Hermanos, Inc.

L-24978:

Rafael Dinglasan for petitioner.

Office of the Solicitor General Antonio P. Barredo, Assistant Solicitor General Antonio G. Ibarra and Special
Attorney Virgilio G. Saldajeno for respondent.

TEEHANKEE, J.:

These four appears involve two decisions of the Court of Tax Appeals determining the taxpayer's income
tax liability for the years 1950 to 1954 and for the year 1957. Both the taxpayer and the Commissioner of
Internal Revenue, as petitioner and respondent in the cases a quo respectively, appealed from the Tax
Court's decisions, insofar as their respective contentions on particular tax items were therein resolved
against them. Since the issues raised are interrelated, the Court resolves the four appeals in this joint
decision.
Cases L-21551 and L-21557

The taxpayer, Fernandez Hermanos, Inc., is a domestic corporation organized for the principal purpose of
engaging in business as an "investment company" with main office at Manila. Upon verification of the
taxpayer's income tax returns for the period in question, the Commissioner of Internal Revenue assessed
against the taxpayer the sums of P13,414.00, P119,613.00, P11,698.00, P6,887.00 and P14,451.00 as alleged
deficiency income taxes for the years 1950, 1951, 1952, 1953 and 1954, respectively. Said assessments were
the result of alleged discrepancies found upon the examination and verification of the taxpayer's income
tax returns for the said years, summarized by the Tax Court in its decision of June 10, 1963 in CTA Case
No. 787, as follows:

1. Losses —

a. Losses in Mati Lumber Co. (1950) P 8,050.00

b. Losses in or bad debts of Palawan Manganese Mines, Inc. (1951) 353,134.25

c. Losses in Balamban Coal Mines —

1950 8,989.76
1951 27,732.66

d. Losses in Hacienda Dalupiri —

1950 17,418.95
1951 29,125.82
1952 26,744.81
1953 21,932.62
1954 42,938.56

e. Losses in Hacienda Samal —

1951 8,380.25
1952 7,621.73

2. Excessive depreciation of Houses —

1950 P 8,180.40
1951 8,768.11
1952 18,002.16
1953 13,655.25
1954 29,314.98

3. Taxable increase in net worth —

1950 P 30,050.00
 1951 1,382.85

4. Gain realized from sale of real property in 1950 P 11,147.2611

The Tax Court sustained the Commissioner's disallowances of Item 1, sub-items (b) and (e) and
Item 2 of the above summary, but overruled the Commissioner's disallowances of all the
remaining items. It therefore modified the deficiency assessments accordingly, found the total
deficiency income taxes due from the taxpayer for the years under review to amount to
P123,436.00 instead of P166,063.00 as originally assessed by the Commissioner, and rendered the
following judgment:

RESUME

1950 P2,748.00
1951 108,724.00
1952 3,600.00
1953 2,501.00
1954 5,863.00

Total P123,436.00

WHEREFORE, the decision appealed from is hereby modified, and petitioner is ordered to pay
the sum of P123,436.00 within 30 days from the date this decision becomes final. If the said
amount, or any part thereof, is not paid within said period, there shall be added to the unpaid
amount as surcharge of 5%, plus interest as provided in Section 51 of the National Internal
Revenue Code, as amended. With costs against petitioner. (Pp. 75, 76, Taxpayer's Brief as
appellant)

Both parties have appealed from the respective adverse rulings against them in the Tax Court's decision.
Two main issues are raised by the parties: first, the correctness of the Tax Court's rulings with respect to
the disputed items of disallowances enumerated in the Tax Court's summary reproduced above, and
second, whether or not the government's right to collect the deficiency income taxes in question has
already prescribed.

On the first issue, we will discuss the disputed items of disallowances seriatim.

1. Re allowances/disallowances of losses.

(a) Allowance of losses in Mati Lumber Co. (1950). — The Commissioner of Internal Revenue questions the
Tax Court's allowance of the taxpayer's writing off as worthless securities in its 1950 return the sum of
P8,050.00 representing the cost of shares of stock of Mati Lumber Co. acquired by the taxpayer on January
1, 1948, on the ground that the worthlessness of said stock in the year 1950 had not been clearly
established. The Commissioner contends that although the said Company was no longer in operation in
1950, it still had its sawmill and equipment which must be of considerable value. The Court, however,
found that "the company ceased operations in 1949 when its Manager and owner, a certain Mr.
Rocamora, left for Spain ,where he subsequently died. When the company eased to operate, it had no
assets, in other words, completely insolvent. This information as to the insolvency of the Company —
reached (the taxpayer) in 1950," when it properly claimed the loss as a deduction in its 1950 tax return,
pursuant to Section 30(d) (4) (b) or Section 30 (e) (3) of the National Internal Revenue Code. 2
We find no reason to disturb this finding of the Tax Court. There was adequate basis for the writing off of
the stock as worthless securities. Assuming that the Company would later somehow realize some
proceeds from its sawmill and equipment, which were still existing as claimed by the Commissioner, and
that such proceeds would later be distributed to its stockholders such as the taxpayer, the amount so
received by the taxpayer would then properly be reportable as income of the taxpayer in the year it is
received.

(b) Disallowance of losses in or bad debts of Palawan Manganese Mines, Inc. (1951). — The taxpayer appeals
from the Tax Court's disallowance of its writing off in 1951 as a loss or bad debt the sum of P353,134.25,
which it had advanced or loaned to Palawan Manganese Mines, Inc. The Tax Court's findings on this item
follow:

Sometime in 1945, Palawan Manganese Mines, Inc., the controlling stockholders of which are also
the controlling stockholders of petitioner corporation, requested financial help from petitioner to
enable it to resume it mining operations in Coron, Palawan. The request for financial assistance
was readily and unanimously approved by the Board of Directors of petitioner, and thereafter a
memorandum agreement was executed on August 12, 1945, embodying the terms and conditions
under which the financial assistance was to be extended, the pertinent provisions of which are as
follows:

"WHEREAS, the FIRST PARTY, by virtue of its resolution adopted on August 10, 1945,
has agreed to extend to the SECOND PARTY the requested financial help by way of
accommodation advances and for this purpose has authorized its President, Mr. Ramon
J. Fernandez to cause the release of funds to the SECOND PARTY.

"WHEREAS, to compensate the FIRST PARTY for the advances that it has agreed to
extend to the SECOND PARTY, the latter has agreed to pay to the former fifteen per
centum (15%) of its net profits.

"NOW THEREFORE, for and in consideration of the above premises, the parties hereto
have agreed and covenanted that in consideration of the financial help to be extended by
the FIRST PARTY to the SECOND PARTY to enable the latter to resume its mining
operations in Coron, Palawan, the SECOND PARTY has agreed and undertaken as it
hereby agrees and undertakes to pay to the FIRST PARTY fifteen per centum (15%) of its
net profits." (Exh. H-2)

Pursuant to the agreement mentioned above, petitioner gave to Palawan Manganese Mines, Inc. yearly
advances starting from 1945, which advances amounted to P587,308.07 by the end of 1951. Despite these
advances and the resumption of operations by Palawan Manganese Mines, Inc., it continued to suffer
losses. By 1951, petitioner became convinced that those advances could no longer be recovered. While it
continued to give advances, it decided to write off as worthless the sum of P353,134.25. This amount "was
arrived at on the basis of the total of advances made from 1945 to 1949 in the sum of P438,981.39, from
which amount the sum of P85,647.14 had to be deducted, the latter sum representing its pre-war assets.
(t.s.n., pp. 136-139, Id)." (Page 4, Memorandum for Petitioner.) Petitioner decided to maintain the
advances given in 1950 and 1951 in the hope that it might be able to recover the same, as in fact it
continued to give advances up to 1952. From these facts, and as admitted by petitioner itself, Palawan
Manganese Mines, Inc., was still in operation when the advances corresponding to the years 1945 to 1949
were written off the books of petitioner. Under the circumstances, was the sum of P353,134.25 properly
claimed by petitioner as deduction in its income tax return for 1951, either as losses or bad debts?
It will be noted that in giving advances to Palawan Manganese Mine Inc., petitioner did not expect to be
repaid. It is true that some testimonial evidence was presented to show that there was some agreement
that the advances would be repaid, but no documentary evidence was presented to this effect. The
memorandum agreement signed by the parties appears to be very clear that the consideration for the
advances made by petitioner was 15% of the net profits of Palawan Manganese Mines, Inc. In other
words, if there were no earnings or profits, there was no obligation to repay those advances. It has been
held that the voluntary advances made without expectation of repayment do not result in deductible
losses. 1955 PH Fed. Taxes, Par. 13, 329, citing W. F. Young, Inc. v. Comm., 120 F 2d. 159, 27 AFTR 395;
George B. Markle, 17 TC. 1593.

Is the said amount deductible as a bad debt? As already stated, petitioner gave advances to Palawan
Manganese Mines, Inc., without expectation of repayment. Petitioner could not sue for recovery under
the memorandum agreement because the obligation of Palawan Manganese Mines, Inc. was to pay
petitioner 15% of its net profits, not the advances. No bad debt could arise where there is no valid and
subsisting debt.

Again, assuming that in this case there was a valid and subsisting debt and that the debtor was incapable
of paying the debt in 1951, when petitioner wrote off the advances and deducted the amount in its return
for said year, yet the debt is not deductible in 1951 as a worthless debt. It appears that the debtor was still
in operation in 1951 and 1952, as petitioner continued to give advances in those years. It has been held
that if the debtor corporation, although losing money or insolvent, was still operating at the end of the
taxable year, the debt is not considered worthless and therefore not deductible. 3

The Tax Court's disallowance of the write-off was proper. The Solicitor General has rightly pointed out
that the taxpayer has taken an "ambiguous position " and "has not definitely taken a stand on whether the
amount involved is claimed as losses or as bad debts but insists that it is either a loss or a bad debt." 4 We
sustain the government's position that the advances made by the taxpayer to its 100% subsidiary,
Palawan Manganese Mines, Inc. amounting to P587,308,07 as of 1951 were investments and not
loans. 5 The evidence on record shows that the board of directors of the two companies since August,
1945, were identical and that the only capital of Palawan Manganese Mines, Inc. is the amount of
P100,000.00 entered in the taxpayer's balance sheet as its investment in its subsidiary company. 6 This fact
explains the liberality with which the taxpayer made such large advances to the subsidiary, despite the
latter's admittedly poor financial condition.

The taxpayer's contention that its advances were loans to its subsidiary as against the Tax Court's finding
that under their memorandum agreement, the taxpayer did not expect to be repaid, since if the subsidiary
had no earnings, there was no obligation to repay those advances, becomes immaterial, in the light of our
resolution of the question. The Tax Court correctly held that the subsidiary company was still in
operation in 1951 and 1952 and the taxpayer continued to give it advances in those years, and, therefore,
the alleged debt or investment could not properly be considered worthless and deductible in 1951, as
claimed by the taxpayer. Furthermore, neither under Section 30 (d) (2) of our Tax Code providing for
deduction by corporations of losses actually sustained and charged off during the taxable year nor under
Section 30 (e) (1) thereof providing for deduction of bad debts actually ascertained to be worthless and
charged off within the taxable year, can there be a partial writing off of a loss or bad debt, as was sought
to be done here by the taxpayer. For such losses or bad debts must be ascertained to be so and written off
during the taxable year, are therefore deductible in full or not at all, in the absence of any express
provision in the Tax Code authorizing partial deductions.

The Tax Court held that the taxpayer's loss of its investment in its subsidiary could not be deducted for
the year 1951, as the subsidiary was still in operation in 1951 and 1952. The taxpayer, on the other hand,
claims that its advances were irretrievably lost because of the staggering losses suffered by its subsidiary
in 1951 and that its advances after 1949 were "only limited to the purpose of salvaging whatever ore was
already available, and for the purpose of paying the wages of the laborers who needed help." 7 The
correctness of the Tax Court's ruling in sustaining the disallowance of the write-off in 1951 of the
taxpayer's claimed losses is borne out by subsequent events shown in Cases L-24972 and L-24978
involving the taxpayer's 1957 income tax liability. (Infra, paragraph 6.) It will there be seen that by 1956,
the obligation of the taxpayer's subsidiary to it had been reduced from P587,398.97 in 1951 to P442,885.23
in 1956, and that it was only on January 1, 1956 that the subsidiary decided to cease operations. 8

(c) Disallowance of losses in Balamban Coal Mines (1950 and 1951). — The Court sustains the Tax Court's
disallowance of the sums of P8,989.76 and P27,732.66 spent by the taxpayer for the operation of its
Balamban coal mines in Cebu in 1950 and 1951, respectively, and claimed as losses in the taxpayer's
returns for said years. The Tax Court correctly held that the losses "are deductible in 1952, when the
mines were abandoned, and not in 1950 and 1951, when they were still in operation." 9 The taxpayer's
claim that these expeditions should be allowed as losses for the corresponding years that they were
incurred, because it made no sales of coal during said years, since the promised road or outlet through
which the coal could be transported from the mines to the provincial road was not constructed, cannot be
sustained. Some definite event must fix the time when the loss is sustained, and here it was the event of
actual abandonment of the mines in 1952. The Tax Court held that the losses, totalling P36,722.42 were
properly deductible in 1952, but the appealed judgment does not show that the taxpayer was credited
therefor in the determination of its tax liability for said year. This additional deduction of P36,722.42 from
the taxpayer's taxable income in 1952 would result in the elimination of the deficiency tax liability for said
year in the sum of P3,600.00 as determined by the Tax Court in the appealed judgment.

(d) and (e) Allowance of losses in Hacienda Dalupiri (1950 to 1954) and Hacienda Samal (1951-1952). — The Tax
Court overruled the Commissioner's disallowance of these items of losses thus:

Petitioner deducted losses in the operation of its Hacienda Dalupiri the sums of P17,418.95 in
1950, P29,125.82 in 1951, P26,744.81 in 1952, P21,932.62 in 1953, and P42,938.56 in 1954. These
deductions were disallowed by respondent on the ground that the farm was operated solely for
pleasure or as a hobby and not for profit. This conclusion is based on the fact that the farm was
operated continuously at a loss.1awphîl.nèt

From the evidence, we are convinced that the Hacienda Dalupiri was operated by petitioner for
business and not pleasure. It was mainly a cattle farm, although a few race horses were also
raised. It does not appear that the farm was used by petitioner for entertainment, social activities,
or other non-business purposes. Therefore, it is entitled to deduct expenses and losses in
connection with the operation of said farm. (See 1955 PH Fed. Taxes, Par. 13, 63, citing G.C.M.
21103, CB 1939-1, p.164)

Section 100 of Revenue Regulations No. 2, otherwise known as the Income Tax Regulations,
authorizes farmers to determine their gross income on the basis of inventories. Said regulations
provide:

"If gross income is ascertained by inventories, no deduction can be made for livestock or
products lost during the year, whether purchased for resale, produced on the farm, as
such losses will be reflected in the inventory by reducing the amount of livestock or
products on hand at the close of the year."

Evidently, petitioner determined its income or losses in the operation of said farm on the basis of
inventories. We quote from the memorandum of counsel for petitioner:
 "The Taxpayer deducted from its income tax returns for the years from 1950 to 1954
inclusive, the corresponding yearly losses sustained in the operation of Hacienda
Dalupiri, which losses represent the excess of its yearly expenditures over the receipts;
that is, the losses represent the difference between the sales of livestock and the actual
cash disbursements or expenses." (Pages 21-22, Memorandum for Petitioner.)

As the Hacienda Dalupiri was operated by petitioner for business and since it sustained losses in
its operation, which losses were determined by means of inventories authorized under Section
100 of Revenue Regulations No. 2, it was error for respondent to have disallowed the deduction
of said losses. The same is true with respect to loss sustained in the operation of the Hacienda
Samal for the years 1951 and 1952. 10

The Commissioner questions that the losses sustained by the taxpayer were properly based on the
inventory method of accounting. He concedes, however, "that the regulations referred to does not specify
how the inventories are to be made. The Tax Court, however, felt satisfied with the evidence presented by
the taxpayer ... which merely consisted of an alleged physical count of the number of the livestock in
Hacienda Dalupiri for the years involved." 11The Tax Court was satisfied with the method adopted by the
taxpayer as a farmer breeding livestock, reporting on the basis of receipts and disbursements. We find no
Compelling reason to disturb its findings.

2. Disallowance of excessive depreciation of buildings (1950-1954). — During the years 1950 to 1954, the
taxpayer claimed a depreciation allowance for its buildings at the annual rate of 10%. The Commissioner
claimed that the reasonable depreciation rate is only 3% per annum, and, hence, disallowed as excessive
the amount claimed as depreciation allowance in excess of 3% annually. We sustain the Tax Court's
finding that the taxpayer did not submit adequate proof of the correctness of the taxpayer's claim that the
depreciable assets or buildings in question had a useful life only of 10 years so as to justify its 10%
depreciation per annum claim, such finding being supported by the record. The taxpayer's contention
that it has many zero or one-peso assets, 12 representing very old and fully depreciated assets serves but
to support the Commissioner's position that a 10% annual depreciation rate was excessive.

3. Taxable increase in net worth (1950-1951). — The Tax Court set aside the Commissioner's treatment as
taxable income of certain increases in the taxpayer's net worth. It found that:

For the year 1950, respondent determined that petitioner had an increase in net worth in the sum
of P30,050.00, and for the year 1951, the sum of P1,382.85. These amounts were treated by
respondent as taxable income of petitioner for said years.

It appears that petitioner had an account with the Manila Insurance Company, the records
bearing on which were lost. When its records were reconstituted the amount of P349,800.00 was
set up as its liability to the Manila Insurance Company. It was discovered later that the correct
liability was only 319,750.00, or a difference of P30,050.00, so that the records were adjusted so as
to show the correct liability. The correction or adjustment was made in 1950. Respondent
contends that the reduction of petitioner's liability to Manila Insurance Company resulted in the
increase of petitioner's net worth to the extent of P30,050.00 which is taxable. This is erroneous.
The principle underlying the taxability of an increase in the net worth of a taxpayer rests on the
theory that such an increase in net worth, if unreported and not explained by the taxpayer, comes
from income derived from a taxable source. (See Perez v. Araneta, G.R. No. L-9193, May 29, 1957;
Coll. vs. Reyes, G.R. Nos. L- 11534 & L-11558, Nov. 25, 1958.) In this case, the increase in the net
worth of petitioner for 1950 to the extent of P30,050.00 was not the result of the receipt by it of
taxable income. It was merely the outcome of the correction of an error in the entry in its books
relating to its indebtedness to the Manila Insurance Company. The Income Tax Law imposes a
 tax on income; it does not tax any or every increase in net worth whether or not derived from
income. Surely, the said sum of P30,050.00 was not income to petitioner, and it was error for
respondent to assess a deficiency income tax on said amount.

The same holds true in the case of the alleged increase in net worth of petitioner for the year 1951 in the
sum of P1,382.85. It appears that certain items (all amounting to P1,382.85) remained in petitioner's books
as outstanding liabilities of trade creditors. These accounts were discovered in 1951 as having been paid
in prior years, so that the necessary adjustments were made to correct the errors. If there was an increase
in net worth of the petitioner, the increase in net worth was not the result of receipt by petitioner of
taxable income." 13 The Commissioner advances no valid grounds in his brief for contesting the Tax
Court's findings. Certainly, these increases in the taxpayer's net worth were not taxable increases in net
worth, as they were not the result of the receipt by it of unreported or unexplained taxable income, but
were shown to be merely the result of the correction of errors in its entries in its books relating to its
indebtednesses to certain creditors, which had been erroneously overstated or listed as outstanding when
they had in fact been duly paid. The Tax Court's action must be affirmed.

4. Gain realized from sale of real property (1950). — We likewise sustain as being in accordance with the
evidence the Tax Court's reversal of the Commissioner's assessment on all alleged unreported gain in the
sum of P11,147.26 in the sale of a certain real property of the taxpayer in 1950. As found by the Tax Court,
the evidence shows that this property was acquired in 1926 for P11,852.74, and was sold in 1950 for
P60,000.00, apparently, resulting in a gain of P48,147.26. 14 The taxpayer reported in its return a gain of
P37,000.00, or a discrepancy of P11,147.26. 15 It was sufficiently proved from the taxpayer's books that
after acquiring the property, the taxpayer had made improvements totalling P11,147.26, 16 accounting for
the apparent discrepancy in the reported gain. In other words, this figure added to the original
acquisition cost of P11,852.74 results in a total cost of P23,000.00, and the gain derived from the sale of the
property for P60,000.00 was correctly reported by the taxpayer at P37,000.00.

On the second issue of prescription, the taxpayer's contention that the Commissioner's action to recover
its tax liability should be deemed to have prescribed for failure on the part of the Commissioner to file a
complaint for collection against it in an appropriate civil action, as contradistinguished from the answer
filed by the Commissioner to its petition for review of the questioned assessments in the case a quo has
long been rejected by this Court. This Court has consistently held that "a judicial action for the collection
of a tax is begun by the filing of a complaint with the proper court of first instance, or where the assessment
is appealed to the Court of Tax Appeals, by filing an answer to the taxpayer's petition for review wherein payment
of the tax is prayed for." 17 This is but logical for where the taxpayer avails of the right to appeal the tax
assessment to the Court of Tax Appeals, the said Court is vested with the authority to pronounce
judgment as to the taxpayer's liability to the exclusion of any other court. In the present case, regardless
of whether the assessments were made on February 24 and 27, 1956, as claimed by the Commissioner, or
on December 27, 1955 as claimed by the taxpayer, the government's right to collect the taxes due has
clearly not prescribed, as the taxpayer's appeal or petition for review was filed with the Tax Court on
May 4, 1960, with the Commissioner filing on May 20, 1960 his Answer with a prayer for payment of the
taxes due, long before the expiration of the five-year period to effect collection by judicial action counted
from the date of assessment.

Cases L-24972 and L-24978

These cases refer to the taxpayer's income tax liability for the year 1957. Upon examination of its
corresponding income tax return, the Commissioner assessed it for deficiency income tax in the amount
of P38,918.76, computed as follows:
 Net income per return P29,178.70
Add: Unallowable deductions:
(1) Net loss claimed on Ha. Dalupiri 89,547.33
(2) Amortization of Contractual right claimed as an
expense under Mines Operations 48,481.62

Net income per investigation P167,297.65

Tax due thereon 38,818.00

Less: Amount already assessed 5,836.00

Balance P32,982.00
Add: 1/2% monthly interest from 6-20-59 to 6-
20-62 5,936.76

TOTAL AMOUNT DUE AND COLLECTIBLE P38,918.76 18

The Tax Court overruled the Commissioner's disallowance of the taxpayer's losses in the operation of its
Hacienda Dalupiri in the sum of P89,547.33 but sustained the disallowance of the sum of P48,481.62,
which allegedly represented 1/5 of the cost of the "contractual right" over the mines of its subsidiary,
Palawan Manganese Mines, Inc. which the taxpayer had acquired. It found the taxpayer liable for
deficiency income tax for the year 1957 in the amount of P9,696.00, instead of P32,982.00 as originally
assessed, and rendered the following judgment:

WHEREFORE, the assessment appealed from is hereby modified. Petitioner is hereby ordered to
pay to respondent the amount of P9,696.00 as deficiency income tax for the year 1957, plus the
corresponding interest provided in Section 51 of the Revenue Code. If the deficiency tax is not
paid in full within thirty (30) days from the date this decision becomes final and executory,
petitioner shall pay a surcharge of five per cent (5%) of the unpaid amount, plus interest at the
rate of one per cent (1%) a month, computed from the date this decision becomes final until paid,
provided that the maximum amount that may be collected as interest shall not exceed the amount
corresponding to a period of three (3) years. Without pronouncement as to costs. 19

Both parties again appealed from the respective adverse rulings against them in the Tax Court's decision.

5. Allowance of losses in Hacienda Dalupiri (1957). — The Tax Court cited its previous decision overruling
the Commissioner's disallowance of losses suffered by the taxpayer in the operation of its Hacienda
Dalupiri, since it was convinced that the hacienda was operated for business and not for pleasure. And in
this appeal, the Commissioner cites his arguments in his appellant's brief in Case No. L-21557. The Tax
Court, in setting aside the Commissioner's principal objections, which were directed to the accounting
method used by the taxpayer found that:

It is true that petitioner followed the cash basis method of reporting income and expenses in the
operation of the Hacienda Dalupiri and used the accrual method with respect to its mine
operations. This method of accounting, otherwise known as the hybrid method, followed by
petitioner is not without justification.

... A taxpayer may not, ordinarily, combine the cash and accrual bases. The 1954 Code
provisions permit, however, the use of a hybrid method of accounting, combining a cash
 and accrual method, under circumstances and requirements to be set out in Regulations
to be issued. Also, if a taxpayer is engaged in more than one trade or business he may use
a different method of accounting for each trade or business. And a taxpayer may report
income from a business on accrual basis and his personal income on the cash basis.' (See
Mertens, Law of Federal Income Taxation, Zimet & Stanley Revision, Vol. 2, Sec. 12.08, p.
26.) 20

The Tax Court, having satisfied itself with the adequacy of the taxpayer's accounting method and
procedure as properly reflecting the taxpayer's income or losses, and the Commissioner having
failed to show the contrary, we reiterate our ruling [supra, paragraph 1 (d) and (e)] that we find
no compelling reason to disturb its findings.

6. Disallowance of amortization of alleged "contractual rights." — The reasons for sustaining this disallowance
are thus given by the Tax Court:

It appears that the Palawan Manganese Mines, Inc., during a special meeting of its Board of
Directors on January 19, 1956, approved a resolution, the pertinent portions of which read as
follows:

"RESOLVED, as it is hereby resolved, that the corporation's current assets composed of

ores, fuel, and oil, materials and supplies, spare parts and canteen supplies appearing in
the inventory and balance sheet of the Corporation as of December 31, 1955, with an
aggregate value of P97,636.98, contractual rights for the operation of various mining
claims in Palawan with a value of P100,000.00, its title on various mining claims in
Palawan with a value of P142,408.10 or a total value of P340,045.02 be, as they are hereby
ceded and transferred to Fernandez Hermanos, Inc., as partial settlement of the
indebtedness of the corporation to said Fernandez Hermanos Inc. in the amount of
P442,895.23." (Exh. E, p. 17, CTA rec.)

On March 29, 1956, petitioner's corporation accepted the above offer of transfer, thus:

"WHEREAS, the Palawan Manganese Mines, Inc., due to its yearly substantial losses has
decided to cease operation on January 1, 1956 and in order to satisfy at least a part of its
indebtedness to the Corporation, it has proposed to transfer its current assets in the
amount of NINETY SEVEN THOUSAND SIX HUNDRED THIRTY SIX PESOS & 98/100
(P97,636.98) as per its balance sheet as of December 31, 1955, its contractual rights valued
at ONE HUNDRED THOUSAND PESOS (P100,000.00) and its title over various mining
claims valued at ONE HUNDRED FORTY TWO THOUSAND FOUR HUNDRED EIGHT
PESOS & 10/100 (P142,408.10) or a total evaluation of THREE HUNDRED FORTY
THOUSAND FORTY FIVE PESOS & 08/100 (P340,045.08) which shall be applied in
partial settlement of its obligation to the Corporation in the amount of FOUR HUNDRED
FORTY TWO THOUSAND EIGHT HUNDRED EIGHTY FIVE PESOS & 23/100
(P442,885.23)," (Exh. E-1, p. 18, CTA rec.)

Petitioner determined the cost of the mines at P242,408.10 by adding the value of the contractual
rights (P100,000.00) and the value of its mining claims (P142,408.10). Respondent disallowed the
deduction on the following grounds: (1) that the Palawan Manganese Mines, Inc. could not
transfer P242,408.10 worth of assets to petitioner because the balance sheet of the said corporation
for 1955 shows that it had only current as worth P97,636.96; and (2) that the alleged amortization
of "contractual rights" is not allowed by the Revenue Code.
 The law in point is Section 30(g) (1) (B) of the Revenue Code, before its amendment by Republic
Act No. 2698, which provided in part:

"(g) Depletion of oil and gas wells and mines.:

"(1) In general. — ... (B) in the case of mines, a reasonable allowance for depletion thereof
not to exceed the market value in the mine of the product thereof, which has been mined
and sold during the year for which the return and computation are made. The allowances
shall be made under rules and regulations to be prescribed by the Secretary of
Finance: Provided, That when the allowances shall equal the capital invested, ... no further
allowance shall be made."

Assuming, arguendo, that the Palawan Manganese Mines, Inc. had assets worth P242,408.10 which
it actually transferred to the petitioner in 1956, the latter cannot just deduct one-fifth (1/5) of said
amount from its gross income for the year 1957 because such deduction in the form of depletion
charge was not sanctioned by Section 30(g) (1) (B) of the Revenue Code, as above-quoted.

xxx xxx xxx

The sole basis of petitioner in claiming the amount of P48,481.62 as a deduction was the
memorandum of its mining engineer (Exh. 1, pp. 31-32, CTA rec.), who stated that the ore
reserves of the Busuange Mines (Mines transferred by the Palawan Manganese Mines, Inc. to the
petitioner) would be exhausted in five (5) years, hence, the claim for P48,481.62 or one-fifth (1/5)
of the alleged cost of the mines corresponding to the year 1957 and every year thereafter for a
period of 5 years. The said memorandum merely showed the estimated ore reserves of the mines
and it probable selling price. No evidence whatsoever was presented to show the produced mine
and for how much they were sold during the year for which the return and computation were
made. This is necessary in order to determine the amount of depletion that can be legally
deducted from petitioner's gross income. The method employed by petitioner in making an
outright deduction of 1/5 of the cost of the mines is not authorized under Section 30(g) (1) (B) of
the Revenue Code. Respondent's disallowance of the alleged "contractual rights" amounting to
P48,481.62 must therefore be sustained. 21

The taxpayer insists in this appeal that it could use as a method for depletion under the pertinent
provision of the Tax Code its "capital investment," representing the alleged value of its contractual rights
and titles to mining claims in the sum of P242,408.10 and thus deduct outright one-fifth (1/5) of this
"capital investment" every year. regardless of whether it had actually mined the product and sold the
products. The very authorities cited in its brief give the correct concept of depletion charges that they
"allow for the exhaustion of the capital value of the deposits by production"; thus, "as the cost of the raw
materials must be deducted from the gross income before the net income can be determined, so the
estimated cost of the reserve used up is allowed." 22 The alleged "capital investment" method invoked by
the taxpayer is not a method of depletion, but the Tax Code provision, prior to its amendment by Section
1, of Republic Act No. 2698, which took effect on June 18, 1960, expressly provided that "when the
allowances shall equal the capital invested ... no further allowances shall be made;" in other words, the
"capital investment" was but the limitation of the amount of depletion that could be claimed. The outright
deduction by the taxpayer of 1/5 of the cost of the mines, as if it were a "straight line" rate of depreciation,
was correctly held by the Tax Court not to be authorized by the Tax Code.

ACCORDINGLY, the judgment of the Court of Tax Appeals, subject of the appeals in Cases Nos. L-21551
and L-21557, as modified by the crediting of the losses of P36,722.42 disallowed in 1951 and 1952 to the
taxpayer for the year 1953 as directed in paragraph 1 (c) of this decision, is hereby affirmed. The
judgment of the Court of Tax Appeals appealed from in Cases Nos. L-24972 and L-24978 is affirmed in
toto. No costs. So ordered.

Concepcion, C.J., Dizon, Makalintal, Zaldivar, Sanchez, Castro, Fernando, Capistrano and Barredo, JJ., concur.