Income tax on individuals

Resident citizens, non-resident citizens, and resident aliens

Inclusions and exclusions for taxation on compensation income
Patrick is a successful businessman in the United States and he is a sole proprietor of a
supermarket which has a gross sales of $10 million and an annual income of $3 million.
He went to the Philippines on a visit and in a party, he saw Atty. Agaton who boasts of
being a tax expert. Patrick asks Atty. Agaton: if he (Patrick) decides to reacquire his
Philippine citizenship under RA 9225, establish residence in this country, and open a
supermarket in Makati City, will the BIR tax him on the income he earns from his U.S.
business? If you were Atty. Agaton, what advice will you give Patrick?
I will advise Patrick that if he reacquires his Philippine citizenship and establish
residence in the Philippines, he shall be considered as a resident citizen subject to tax
on incomes derived from sources within or without the Philippines. Consequently, the
BIR could now tax him on his income derived from sources without the Philippines
which is the income he earns from his U.S. business.

Mr. Sebastian is a Filipino seaman employed by a Norwegian company which is

engaged exclusively in international shipping. He and his wife, who manages their
business, filed a joint income tax return for 1997 on March 15,1998. After an audit of the
return, the BIR issued on April 20, 2001 a deficiency income tax assessment for the
sum of 250,000, inclusive of interest and penalty. For failure of Mr. and Mrs. Sebastian
to pay the tax within the period stated in the notice of assessment, the BIR issued on
August 19, 2001 warrants of distraint and levy to enforce collection of the tax. What is
the rule of income taxation with respect to Mr. Sebastian's income in 1997 as a seaman
on board the Norwegian vessel engaged in international shipping? Explain your answer.
Mr. Sebastian’s income as seaman on board the Norwegian vessel engaged in
international shipping shall not be subjected to income tax. An individual citizen of the
Philippines who is working and deriving income from abroad as an overseas contract
worker is taxable only on income derived from sources within the Philippines: Provided,
That a seaman who is a citizen of the Philippines and who receives compensation for
services rendered abroad as a member of the complement of a vessel engaged
exclusively in international trade shall be treated as an overseas contract worker. Mr.
Sebastian shall be considered as an overseas contract worker. His income as seaman,
which is an income from without the Philippines, shall not be liable for income tax in the
Philippines.

Mapagbigay Corporation grants all its employees (rank and file, supervisors, and
managers) 5% discount of the purchase price of its products. During an audit
investigation, the BIR assessed the company the corresponding tax on the amount
equivalent to the courtesy discount received by all the employees, contending that the
courtesy discount is considered as additional compensation for the rank and file
employees and additional fringe benefit for the supervisors and managers. In its
defense, the company argues that the discount given to the rank and file employees is a
de minimis benefit and not subject to tax. As to its managerial employees, it contends
that the discount is nothing more than a privilege and its availment is restricted. Is the
BIR assessment correct? Explain.
No. The 5% discount of the purchase price of its products, so-called “courtesy
discounts” on purchases, granted by Mapagbigay Corporation to all its employees (rank
and file, supervisors, and managers) otherwise known as “de minimis benefits,”
furnished or offered by an employer to his employees merely as a means of promoting
the health, goodwill, contentment, or efficiency of his employees, are not considered as
compensation subject to income tax and consequently to withholding tax. As such, de
minimis benefits, if given to supervisors and managerial employees, they are also
exempt from the fringe benefits tax.

What are de minimis benefits and how are these taxed? Give three examples of de
minimis benefits.
De minimis benefits are facilities and privileges furnished or offered by an
employer to his employees, which are not considered as compensation subject to
income tax and consequently to withholding tax, if such facilities or privileges are of
relatively small value and are offered or furnished by the employer merely as means of
promoting the health, goodwill, contentment, or efficiency of his employees. If received
by rank-and-file employees, they are exempt from income tax on wages; if received by
supervisory or managerial employees, they are exempt from the fringe benefits
The following shall be considered as de minimis benefits:
1. Monetized unused vacation leave credits of private employees not exceeding 10 days
during the year;
2. Medical cash allowance to dependents of employees, not exceeding 1500 per
employee per semester or 250 per month;
3. Rice subsidy pf P2000 or 1 sack of 50 kg rice per month amounting to not more than
2000;
4. Uniform and clothing allowance not exceeding 6,000 per annum;
6. Actual medical assistance not exceeding PP10,000 per annum;
7. Laundry allowance not exceeding P300 per month
8. Employees achievement awards, e.g., for length of service or safety achievement,
which must be in the form of a tangible personal property other than cash or gift
certificate, with an annual monetary value not exceeding P10,000 received by the
employee under an established written plan which does not discriminate in favor of
highly paid employees;
9. Gifts given during Christmas and major anniversary celebrations not exceeding
P5,000 per employee per annum’
10. Daily meal allowance for overtime work and night/graveyard shift not exceeding
25% of the basic minimum wage on a per region basis;
11. Benefits received by an employee by virtue of a collective bargaining agreement
(CBA) and productivity incentive schemes combined do not exceed P10,000 per
employee per taxable year.

A, an employee of the Court of Appeals, retired upon reaching the compulsory age of 65
years. Upon compulsory retirement, A received the money value of his accumulated
leave credits in the amount of P500,000.
 No. The accumulated leave credits in the amount of 500,000 is not subject to tax.
The monetized value of leave credits paid to government officials and employees shall
not be subject to income tax and consequently to withholding tax.

Taxation of business income/income from practice of profession

Taxation of passive income
Taxation of capital gains
Capital asset vs. ordinary asset
Income tax on non-resident aliens engaged in trade or business
Income tax on non-resident aliens not engaged in trade or business
Individual taxpayers exempt from income tax
Senior citizens
Minimum wage earners
Exemptions granted under international agreements
Income tax on corporations
Income tax on domestic corporations and resident foreign corporations
Minimum Corporate Income Tax
KKK Corp. secured its Certificate of Incorporation from the Securities and Exchange
Commission on June 3, 2013. It commenced business operations on August 12, 2013.
In April 2014, Ms. J, an employee of KKK Corp. in charge of preparing the annual
income tax return of the corporation for 2013, got confused on whether she should
prepare payment for the regular corporate income tax or the minimum corporate income
tax. As Ms. J’s supervisor, what will be your advice?
As Ms. J’s supervisor, I will advise that KKK Corp. should prepare payment for
the regular corporate income tax and not the minimum corporate income tax. Under the
Tax Code, minimum corporate income tax is only applicable beginning on the fourth
taxable year following the commencement of business operation.

What are the distinctions between regular corporate income tax and minimum corporate
income tax?
As to taxpayer: Regular corporate income tax applies to all corporate taxpayers;
while minimum corporate income tax applies to domestic corporations and resident
foreign corporations.
As to tax rate: Regular corporate income tax is 30%; while minimum corporate
income tax is 2%.
As to tax base: Regular corporate income tax is based on the net taxable
income; while minimum corporate income tax is based on gross income.
As to period of applicability: Regular corporate income tax is applicable beginning
on the fourth taxable year following the commencement of business operation, while
minimum corporate income tax is applicable beginning on the fourth taxable year
following the commencement of business operation.
As to imposition: The minimum corporate income tax is imposed whenever it is
greater than the regular corporate income tax of the corporation.

Branch Profit Remittance Tax

Itemized deductions vs. Optional Standard Deductions
Taxation of passive income
Taxation of capital gains
Income tax on non-resident foreign corporations
Income tax on special corporations
Proprietary educational institutions and hospitals
Non-profit hospitals
Government-owned or controlled corporations, agencies, or instrumentalities
Domestic depository banks (foreign currency deposit units)
International carriers doing business in the Philippines
Kenya International Airlines (KIA) is a foreign corporation, organized under the laws of
Kenya. It is not licensed to do business in the Philippines. Its commercial airplanes do
not operate within Philippine territory, or service passengers embarking from Philippine
airports. The firm is represented in the Philippines by its general agent, Philippine
Airlines (PAL), a Philippine corporation. KIA sells airplane tickets through PAL, and
these tickets are serviced by KIA airplanes outside the Philippines. The total sales of
airline tickets transacted by PAL for KIA in 1997 amounted to 2,968,156. The
Commissioner of Internal Revenue assessed KIA deficiency income taxes at the rate of
35% on its taxable income, finding that KIA’s airline ticket sales constituted income
derived from sources within the Philippines. KIA filed a protest on the ground that the
2,968,156 should be considered as income derived exclusively from sources outside the
Philippines since KIA only serviced passengers outside Philippine territory. Is the
position of KIA tenable? Reasons.
KIA’s position is not tenable. The revenue it derived in 1997 from sales of
airplane tickets in the Philippines, through its agent PAL, is considered as income from
within the Philippines, subject to the 30% tax based on its taxable income pursuant to
the Tax Code. The transacting of business in the Philippines through its local sales
agent, makes KIA a resident foreign corporation despite the absence of landing rights,
thus, it is taxable on income derived from within. The source of an income is the
property, activity or service that produced the income. In the instant case, it is the sale
of tickets in the Philippines which is the activity that produced the income. KIA’s income
being derived from within, is subject to Philippine income tax.

Off-shore banking units

Resident foreign depository banks (foreign currency deposit units)
Regional or area headquarters and regional operating headquarters of multinational
companies
Improperly Accumulated Earnings Tax (IAET)
Exemptions from tax on corporations
Tax on other business entities: general partnerships, general professional partnerships,
co-ownerships, joint ventures, and consortia
Mr. Santos died Intestate in 1989 leaving his spouse and five children as the only heirs.
The estate consisted of a family home and a four-door apartment which was being
rented to tenants. Within the year, an extrajudicial settlement of the estate was
executed from the heirs, each of them receiving his/her due share. The surviving
spouse assumed administration of the property. Each year, the net income from the
rental property was distributed to all, proportionately, on which they paid respectively,
the corresponding income tax. In 1994, the income tax returns of the heirs were
examined and deficiency income tax assessments were is-sued against each of them
for the years 1989 to 1993, inclusive, as having entered into an unregistered
partnership. Were the assessments justified?
Yes. The assessments were justified because for income tax purposes, the co-
ownership of inherited property is automatically converted into an unregistered
partnership from the moment the said properties are used as a common fund with intent
to produce profits for the heirs in proportion to their shares in the inheritance.
From the moment of such partition, the heirs are entitled already to their respective
definite shares of the estate and the income thereof, for each of them to manage and
dispose of as exclusively his own without the intervention of the other heirs, and,
accordingly, he becomes liable individually for all taxes in connection therewith. If after
such partition, he allows his shares to be held in common with his co-heir under a single
management to be used with the intent of making profit thereby in proportion to his
share, there can be no doubt that, even if no document or instrument were executed for
the purpose, for tax purposes, at least, an unregistered partnership is formed.

A, B, and C, all lawyers, formed a partnership called ABC Law Firm so that they can
practice their profession as lawyers. For the year 2012, ABC Law Firm received
earnings and paid expenses, among which are as follows:
Earnings:
1. Professional/legal fees from various clients;
2. Cash prize received from a religious society in recognition of the exemplary service of
ABC Law Firm;
3. Gains derived from sale of excess computers and laptops.
Payments:
1. Salaries of office staff;
2. Rentals for office space;
3. Representation expenses incurred in meetings with clients.
What are the items in the above mentioned earnings which should be included in the
computation of ABC Law Firm’s gross income? Explain.
The three items of earnings should be included in the computation of ABC Law
Firm’s gross income. The professional/legal fees from various clients is included as part
of gross income being in the nature of compensation for services. The cash prize from a
religious society in recognition of its exemplary services is also included there being no
law providing for its exclusion. This is not a prize in recognition of any of the
achievements enumerated under the law hence, should form part of gross income. The
gains from sale of excess computers and laptops should also be included as part of the
firm’s gross income because the term gross income specifically includes gains derived
from dealings in property.

What are the items in the above-mentioned payments which may be considered as
deductions from the gross income of ABC Law Firm? Explain.
The law firm being formed as general professional partnership is entitled to the
same deductions allowed to corporation. Hence, the three items of payments mentioned
in the problem are all deductible, they being in the nature of ordinary and necessary
expenses incurred in the practice of profession. However, the amount deductible for
representation expenses incurred by a taxpayer engaged in sale of services, including a
law firm, is subject to a ceiling of 1% of net revenue.

If ABC Law Firm earns net income in 2012, what, if any, is the tax consequence on the
part of ABC Law Firm insofar as the payment of income tax is concerned? What, if any,
is the tax consequence on the part of A, B, and C as individual partners, insofar as the
payment of income tax is concerned.
The net income having been earned by the law firm which is formed and qualifies
as a general professional partnership, is not subject to income tax because the earner is
devoid of any income tax personality. Each partner shall report as gross income his
distributive shares, actually or constructively received, in the net income of the
partnership. The partnership is merely treated for income tax purposes as a pass-
through entity so that its net income is not taxable at the level of the partnership but said
net income should be attributed to the partners, whether or not distributed to them, and
they are liable to pay the income tax based on their respective taxable income as
individual taxpayers.

Filing of returns and payment

Period within which to file income tax return of individuals and corporations
Substituted filing
Failure to file returns
Withholding taxes
Concept
Creditable vs. withholding taxes
Duties of a withholding agent