G.R. No.

143672 April 24, 2003

COMMISSIONER OF INTERNAL REVENUE vs. GENERAL FOODS (PHILS.), INC.,
Petitioner Commissioner of Internal Revenue (Commissioner) assails the resolution1 of the Court of
Appeals reversing the decision2 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
Petitioner’s 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" (Petitioner’s 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 taxpayer’s
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 Court’s 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 respondent’s 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 corporation’s 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 taxpayer’s trade or business or for the industry or profession of which
the taxpayer is a member. If the expenditures are for the advertising of the first kind, then, except as to
the question of the reasonableness of amount, there is no doubt such expenditures are deductible as
business expenses. If, however, the expenditures are for advertising of the second kind, then normally
they should be spread out over a reasonable period of time.
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
protest8 to the Commissioner of Internal Revenue’s assessment, that the subject media expense was
incurred in order to protect respondent corporation’s 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 one’s property.
This is a capital expenditure which should be spread out over a reasonable period of time.9
Respondent corporation’s 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 taxpayer’s 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 corporation’s 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.
G.R. No. L-18840 May 29, 1969
KUENZLE & STREIFF, INC vs.THE COMMISSIONER OF INTERNAL REVENUE
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.

G.R. No. 172231 February 12, 2007

COMMISSIONER OF INTERNAL REVENUE vs. ISABELA CULTURAL CORPORATIONt.
Petitioner Commissioner of Internal Revenue (CIR) assails the September 30, 2005 Decision 1 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. L-23226 November 28, 1967

ALHAMBRA CIGAR and CIGARETTE MANUFACTURING COMPANY vs.THE COMMISSIONER OF
INTERNAL REVENUE
This Court, in this petition for the review of a decision of the Court of Tax Appeals is not faced with a
problem of undue complexity. The law governing the matter has been authoritatively expounded in an
opinion by the then Justice, now Chief Justice, Concepcion in Alhambra Cigar v. Collector of Internal
Revenue,1 a case involving the same parties over a similar question but covering an earlier period of time.
The limits of a power of respondent Commissioner of Internal Revenue to allow deductions from the gross
income "the ordinary and necessary expenses paid or increased during the taxable year in carrying on any
trade or business, including a reasonable allowance for salaries and other compensation for personal
services actually rendered . . ."2 had thus been authoritatively expounded. What remains to be decided in
this litigation is whether the decision of the Court of Tax Appeals sought to be reviewed reflected with
fidelity the doctrine thus announced or deviated therefrom.
According to the petition for review, Alhambra Cigar & Cigarette Manufacturing Company, petitioner-
appellant, "is a corporation duly organized and existing under the laws of the Philippines, with principal
office at 31 Tayuman street, Tondo, Manila; and the respondent-appellee is the duly appointed and qualified
Commissioner of Internal Revenue, vested with authority to act as such for the Government of the Republic
of the Philippines, . . . .3
In the petition for review it was contended that the Court of Tax Appeals, in affirming the action taken by
respondent-appellee Commissioner of Internal Revenue, erred "(a) In holding that A. P. Kuenzle and H.A.
Streiff who were the President and Vice-President, respectively, of the petitioner-appellant, were entitled to
a salary of only P6,000.00 each year, for 1954, 1955, 1956 and 1957, and a bonus equal to the reduced
bonus of W. Eggmann for each of said years; and disallowing as deductions the portions of their salary and
bonus in excess of said amounts; (b) In disallowing, as deductions, all the directors' fees and commissions
paid by the petitioner-appellant to A.P. Kuenzle and H.A. Streiff; (c) In holding that the petitioner-appellant is
liable for the alleged deficiency income taxes in question."4
It is indisputable as noted in the brief for petitioner-appellant that the deductions disallowed by respondent-
appellee, Commissioner of Internal Revenue, for the year 1954 to 1957 designated as salaries, officers;
bonus, officers; commissions to managers and directors' fees "relate exclusively to the compensations paid
by the petitioner-appellant in 1954, 1955, 1956 and 1957, to A. P. Kuenzle and H.A. Streiff who were,
during the said years, as they had been in prior years and still are, directors and the president and vice-
president, respectively, of the petitioner-appellant. . . ."5
Under the category of salaries, officers of the fixed annual compensation of A. P. Kuenzle and H. A. Streiff
in the amount of P15,000.00 each "the respondent-appellee allowed for each of them a salary of only
P6,000.00 and disallow the balance of P9,000.00, or a total disallowance of P18,00.0,0 for both of them, for
each of the years in question." 6 Under that of the bonus, officers of the amount under such category paid to
the above gentlemen for the year 1954 of P14,750.00 each, "the respondent-appellee allowed each of
them a bonus of only P5,850.00, and disallowed the balance of P8,900.00 or a total disallowance of
P17,800.00 for both of them."7 For the year 1955, the bonus being paid, once again, amounting to
P14,750.00 to each of them, "the respondent-appellee allowed for each of them, a bonus of only
P7,000.00, and disallowed the balance of P7,750.00 each, or a total disallowance of P15,500.00 for both of
them."8 For the year 1956, again the amount, not suffering any change for each, "the respondent-appellee
allowed for each of them a bonus of only P5,500.00 and disallowed the balance of P9,250.00 each, or a
total disallowance of P18,500.00 for both of them." 9 Lastly, for the year 1957, of a similar amount payable
to each in the concept of bonus, "the respondent-appellee allowed for each of them a bonus of only
P6,500.00, and disallowed the balance of P8,250.00 each, or a total disallowance of P16,500.00 for both of
them."10
As to the deduction in the concept of commissions to managers, the brief for the petitioner appellant states:
"The commissions paid by the petitioner-appellant to A. P. Kuenzle and H. A. Streiff in the amount of
P13,607.61 each in 1954, or a total of P27,215.22 for both of them; P14,097.62 each in 1955, or a total of
P28,195.24 for both of them; P13,180.87 each in 1956, or a total of P26,361.74 for both of them; and
P13,144.29 each in 1957, or a total of P26,288.48 for both of them, were entirely disallowed by the
respondent-appellee."11
Concerning the directors' fees paid to both officials by petitioner-appellant, it is noted in the brief that "in the
amount of P11,504.71 each in 1954, or a total of P23,009.42 for both of them; P10,693.02 each in 1955, or
a total of P21,386.04 for both of them; P10,360.23 each in 1956, or a total of P20,720.46 for both of them;
and P9,716.63 each in 1957, or a total of P19,433.26 for both of them were also entirely disallowed by the
respondent-appellee."12
In the decision of the respondent Court of Tax Appeals sought to be reviewed, there was an appraisal of the
evidence on which respondent-appellee Commissioner of Internal Revenue based the above deduction on
salaries and bonuses: "The evidence shows that prior to 1954, Messrs. A. P. Kuenzle and H. A. Streiff
President and Vice-President, respectively, of petitioner corporation, were each paid an annual salary
P6,000.00 and a bonus of about four times as much as the annual salary. In Alhambra Cigar and Cigarette
Manufacturing Company v. Coll. of Int. Rev. C.T.A. No. 142 January 31, 1957 (affd. in G.R. Nos. L-12026 &
L-12131, May 29, 1959), this Court held that considering the nature of the services performed by Messrs.
Kuenzle and Streiff the salary of P6,000.00 paid to each of them was reasonable and, therefore,
deductions is ordinary and necessary business expense. The bonus paid to each of said officers was
however reduced to the amount equivalent to that paid to Mr. W. Eggmann, the resident Treasurer and
Manager of petitioner. Following the decision of the Supreme Court in G. R. Nos. L-12026 & L- 12131, . . .,
respondent allowed as deduction P6,000.00 as salary to Messrs. Kuenzle and Streiff and a bonus
equivalent to that paid annually to Mr. Eggmann from 1954 to 1957, as indicated above." 13
Then the decision of respondent Court of Tax Appeals in affirming what respondent-appellee did explained
why: "Upon the evidence of record, we find no justification to reverse or modify the decision of respondent
with respect to the disallowance of a portion of the salaries and bonuses paid to Messrs. Kuenzle and
Streiff. Petitioner seeks to justify the increase in the salaries of Messrs. Kuenzle and Streiff on the ground
of increased costs of living. The said officers of petitioner are, however, non-residents of the Philippines." 14
It may be stated in this connection that the brief for petitioner-appellant did not actually dispute the fact of
non-residence of the aforesaid officials. Thus: "A. P. Kuenzle or H. A. Streiff usually came to the Philippines
every two years, and generally stayed from five to eight weeks (t.s.n., pp. 203-204). During the years in
question, H. A. Streiff was in the Philippines from January 27 to March 20, 1954. He was personally present
at the special meeting of the board of directors of the petitioner-appellant on February 19, 1954 and at the
regular meeting on February 27, 1954, the minutes of all of which he signed as Vice-President (Exhibits Q,
Q-1 and Q-2). He was also personally present at the semi-annual meeting of stockholders of the petitioner-
appellant on February 19, 1954, the minutes of which he also signed as vice-president (Exh. R). A. P.
Kuenzle was in the Philippines from February 3 to March 8, 1956 (t.s.n., pp. 204-205). He was personally
present at the special meeting of the board of directors on February 22, and on February 23, 1956, and at
the semi-annual general meeting of stockholders on February 23, 1956, the minutes of all of which he
signed as President (Exhs. Q-8, Q-9. and R-4). H. A. Streiff came again to the Philippines in 1958, and he
personally attended the special meeting of the board of directors on March 7, 1968, the minutes of which
he also, signed as Vice-President (Exh. Q-16)."15
There was in the brief of petitioner-appellant stress laid on those work performed by them, both in and
outside the Philippines. "During their stay in the Philippines, A. P. Kuenzle or H. A. Streiff inspected the
install petitions of the petitioner-appellant, and discussed with the local management, personnel and
management matters, long-range planning and policies of the company (t.s.n., pp. 205-206). Aside from
these visits of A. P. Kuenzle and H. A. Streiff to the Philippines, there were other personal consultations
between them and the local management. There were about seven staff members in the local
management, and each of them went on home leave every four years and for consultations in Switzerland
with the general managers, AP Kuenzle and H. A. Streiff. These home leaves each lasted for six months. In
this way, at least one staff member went on home leave every year and for consultations with the general
manager. . . ."16
As to commissions and directors' fees, it is the finding of the Court of Tax Appeals: "In connection with the
commissions paid to Messrs. Kuenzle and Streiff there is no evidence of any particular service rendered by
them to petitioner to warrant payment of commissions. Counsel for petitioner sought to prove the various
types of services performed by said officers, but the services mentioned are those for which they have
been more than adequately compensated in the form of salaries and bonuses. As regards the directors'
fees, it is admitted that Messrs. Kuenzle and Streiff "usually came to the Philippines every two years, and
generally stayed from five to eight weeks." (Page 17, Memorandum for Petitioner.) We cannot see any
justification for the payment of director's fees of about P10,000.00 to each of said officers for coming to the
Philippines to visit their corporation once in two years. Being non-resident President and Vice-President of
Petitioner corporation of which they are the controlling stockholders, we are more inclined to believe that
said commissions and directors' fees, payment of which was based on a certain percentage of the annual
profits of petitioner, are in the nature of dividend distributions," 17
Considering how carefully the Court of Tax Appeals considered the matter of the disallowances in the light
of Section 30 of the National Internal Revenue Code, the task for petitioner-appellant in proving that it erred
in holding that A. P. Kuenzle and H. A. Streiff were entitled only to the salary of P6,000.00 each a year, for
1954, 1955, 1956 and 1957, and a bonus equal to the reduced bonus of one of its officials a certain W.
Eggmann, for each of said years, and in disallowing as deductions the directors' fees and commissions
paid by it to them, was far from easy. Nor could it be said that petitioner-appellant did succeed in such effort
As mentioned earlier, the previous case of Alhambra Cigar & Cigarette Manufacturing Company v. The
Collector of Internal Revenue,18 has laid down the applicable principle of law.
In the language of then Justice, now Chief Justice, Concepcion: "In the light of the tenor of the foregoing
provision, 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" therefore? When the Collector of Internal Revenue disallowed the fees, bonuses
and commissions aforementioned, and the company appealed therefrom, it became necessary for the
[Court of Tax Appeals] to determine whether said officer had correctly applied section 30 of the Tax Code,
and this, in turn, required the consideration of the two (2) questions already adverted to. In the
circumstances surrounding the case, we are of the opinion that the [Court of Tax Appeals] has correctly
construed and applied said provision." So it is now. This appeal too cannot prosper.
Even if there were no such previous decision, it would still follow, in the light of the controlling doctrines,
that the Court of Tax Appeals must be sustained. The well written brief for petitioner-appellant citing Botany
Worsted Bills v. United States,19 states: "Whether the amounts disallowed by the respondent-appellee in
the respective years were reasonable compensation for personal services, is a question of fact to be
determined from all the evidence."20 That the question thus involved is inherently factual, appears to be
undeniable. This Court is bound by the finding of facts of the Court of Tax Appeals, especially so, where as
here, the evidence in support thereof is more than substantial, only questions of law thus being left open to
it for determination.21 Without ignoring this various factors which petitioner-appellant would have this Court
consider in passing upon the determination made by the Court of Tax Appeals but with full recognition of
the fact that the two officials were non-residents, it cannot be said that it committed the alleged errors,
calling for the interposition of the corrective authority of this Court. Nor as a matter of principle is it
advisable for this Court to set aside the conclusion reached by an agency such as the Court of Tax Appeals
which is, by the very nature of its function, dedicated exclusively to the study and consideration of tax
problems and has necessarily developed an expertise on the subject unless, as did not happen here, there
has been an abuse or improvident exercise of its authority.
WHEREFORE, the decision of the Court of Tax Appeals is affirmed, with costs against petitioner-appellant.
G.R. No. L-19537 May 20, 1965
The late LINO GUTIERREZ substituted by ANDREA C. VDA. DE GUTIERREZ, ANTONIO D.
GUTIERREZ, GUILLERMO D. GUTIERREZ, SANTIAGO D. GUTIERREZ and TOMAS D. GUTIERREZ
vs. COLLECTOR (now COMMISSIONER) OF INTERNAL REVENUE
Lino Gutierrez was primarily engaged in the business of leasing real property for which he paid estate
broker's privilege tax. He filed his income tax returns for the years 1951, 1952, 1953 and 1954 on the
following dates:

Year Date Filed

1951 March 1, 1952
1952 February 28, 1953
1953 February 22, 1954
1954 February 23, 1955
and paid the corresponding tax declared therein.
On July 10, 1956 the Commissioner (formerly Collector) of Internal Revenue assessed against Gutierrez
the following defiency income tax:
 1951 . . . . . . . . . . . . . . P 1,400.00
1952 . . . . . . . . . . . . . . 672.00
1953 . . . . . . . . . . . . . . 5,161.00
1954 . . . . . . . . . . . . . . 4,608.00

Total . . . . . . . . . . . . . . P 11,841.00
==========
The above defiency tax came about by the disallowance of deductions from gross income representing
depreciation, expenses Gutierrez allegely incurred in carrying on his business, and the addition to gross
income of receipts which he did not report in his income tax returns. The disallowed business expenses
which were considered by the Commissioner either as personal or capital expenditures consisted of:
1951

Personal expenses:

Transportation expenses to attend funeral of various

P 96.50
persons
Repair of car and salary of driver 59.80
Expenses in attending National Convention of Filipino
Businessmen in Baguio 121.35
Alms to indigent family 15.00
Capital expenditures:

Electrical fixtures and supplies 100.00

Transportation and other expenses to watch laborers in
construction work 516.00
Realty tax not paid by former owner of property acquired by
350.00
Gutierrez
Litigation expenses to collect rental and eject lessee 702.65
Other disallowed deductions:

Fines and penalties for late payment of taxes 64.48

1952

Personal expenses:

Car expenses, salary of driver and car depreciation P1,454.37

Contribution to Lydia Samson and G. Trinidad 52.00
Officers' jewels and aprons donated to Biak-na-Bato
Lodge No. 7, Free Masons 280.00
Luncheon of Homeowners' Association 5.50
Ticket to opera "Aida" 15.00
 1953

Personal expenses:

Car expenses, salary of driver, car depreciation P 1,409.24

Cruise to Corregidor with Homeowners' Association 43.00
Contribution to alms to various individuals 70.00
Tickets to operas 28.00
Capital expenditures:

Cost of one set of Comments on the Rules of Court by

P 145.00
Moran
1954

Personal expenses:

Car expenses, salary of driver and car depreciation P 1,413.67

Furniture given as commission in connection with
business transaction 115.00
Cost of iron door of Gutierrez' residence 55.00
Capital expenditures:

Painting of rental apartments P 908.00

Carpentry and lumber for rental apartments 335.83
Tinsmith and plumbing for rental apartments 605.25
Cement, tiles, gravel, sand and masonry for rental
199.48
apartments
Iron bars, venetian blind, water pumps for rental
1,340.00
apartments
Relocation and registration of property used in taxpayer's
1,758.12
business
He also claimed the depreciation of his residence as follows:

1952 . . . . . . P 992.22
1953 . . . . . . 942.61
1954 . . . . . . 895.45
The following are the items of income which Gutierrez did not declare in his
income tax returns:

1951

Income of wife (admitted by Gutierrez) P 2,749.90.

 1953

Overstatement of purchase price of real estate P 8,476.92

Understatement of profits from sale of real estate 5,803.74
1954

Understatement of profits from sale of real estate P 5,444.24

The overstatement of purchase price of real estate refers to the sale of two pieces of property in 1953. In
1943 Gutierrez bought a parcel of land situated along Padre Faura St. in Manila for P35,000.00. Sometime
in 1953, he sold the same for P30,400.00. Expenses of sale amounted to P631.80. In his return he claimed
a loss of P5,231.80. 1 However, the Commissioner, including the said property was bought in Japanese
military notes, converting the buying price to its equivalent in PhilippineCommonwealth peso by the use of
the Ballantyne Scale of Values. At P1.30 Japanese military notes per Commonwealth peso, the acquisition
cost of P35,000.00 Japanese military notes was valued at P26,923.00 PhilippineCommonwealth peso.
Accordingly, the Commissioner determined a profit of P3,476.92 after restoring to Gutierrez' gross income
the P5,231.80 deductionfor loss.
In another transaction, Gutierrez sold a piece of land for P1,200.00. Alleging the said property was
purchased for P1,200.00, he reported no profit hereunder. However, after verifying the deed of acquisition,
the Commissioner discovered the purchase price to be only P800.00. Consequently, he determined a profit
of P400.00 which was added to the gross income for 1953. 1äwphï1.ñët

The understatement of profit from the sale of real estate may be explained thus: In 1953 and 1954
Gutierrez sold four other properties upon which he made substantial profits. 2Convinced that said properties
were capital assets, he declared only 50% of the profits from their sale. However, treating said properties
as ordinary assets (as property held and used byGutierrez in his business), the Commissioner taxed 100%
of the profits from their disposition pursuant to Section 35 of the Tax Code.
Having unsuccessfully questioned the legality and correctness of the aforesaid assessment, Gutierrez
instituted on February 17, 1958, the Commissioner issued a warrant of distraint and levy on one of
Gutierrez' real properties but desisted from enforcing the same when Gutierrez filed a bond to assure
payment of his tax liability.
In a decision dated January 28, 1962, the Court of Tax Appeals upheld in toto the assessment of the
Commissioner of Internal Revenue. Hence, this appeal.
On October 18, 1962, Lino Guttierrez died and he was substituted by Andrea C. Vda. de Gutierrez, Antonio
D. Gutierrez, Santiago D. Gutierrez, Guillermo D. Gutierrez and Tomas D. Gutierrez, his heirs,as party
petitioners.
The issues are: (1) Are the taxpayer's aforementioned claims for deduction proper and allowable? (2) May
the Ballantyne Scale of Values be applied indetermining the acquisition cost in 1943 of a real property sold
in 1953, for income tax purposes? (3) Are real properties used in the trade or business of the taxpayer
capital or ordinary assets? (4) Has the right of the Commissioner of Internal Revenue to collect the
deficiency income tax for the years 1951 and 1952 prescribed? (5) Has the right of the Commissioner of
Internal Revenue to collect by distraint and levy the deficiency income tax for 1953 prescribed? If not, may
the taxpayer's rea lproperty be distrained and levied upon without first exhausting his personal property?
We come first to question whether or not the deductions claimed by Gutierrez are allowable. Section 30(a)
of the Tax Code allows business expenses tobe deducted from gross income. We quote:
SEC. 30. Deductions from gross income. — 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 salaries or other
compensation for personal services actually rendered; travelling expenses while away from home in
 the pursuit of a trade or business; and rentals or other payments required to be made as a condition
to be continued use of possession, for the purposes of the trade or business, or property to which
the taxpayer has not taken or is not taking title or in which he has no equity.
To be deductible, therefore, an expense must be (1) ordinary and necessary;(2) paid or incurred within the
taxable year; and, (3) paid or incurred in carrying on a trade or business. 3
The transportation expenses which petitioner incurred to attend the funeral of his friends and the cost of
admission tickets to operas were expenses relative to his personal and social activities rather than to his
business of leasing real estate. Likewise, the procurement and installation of an iron door to is residence is
purely a personal expense. Personal, living, or family expenses are not deductible. 4
On the other hand, the cost of furniture given by the taxpayer as commission in furtherance of a business
transaction, the expenses incurred in attending the National Convention of Filipino Businessmen, luncheon
meeting and cruise to Corregidor of the Homeowners' Association were shown to have been made in the
pursuit of his business. Commissions given in consideration for bringing about a profitable transaction are
part of the cost of the business transaction and are deductible.
The record shows that Gutierrez was an officer of the Junior Chamber of Commerce which sponsored the
National Convention of Filipino Businessmen. He was also the president of the Homeowners' Association,
an organization established by those engaged in the real estate trade. Having proved that his membership
thereof and activities in connection therewith were solely to enhance his business, the expenses incurred
thereunder are deductible as ordinary and necessary business expenses.
With respect to the taxpayer's claim for deduction for car expenses, salary of his driver and car
depreciation, one-third of the same was disallowed by the Commissioner on the ground that the taxpayer
used his car and driver both for personal and business purposes. There is no clear showing, however, that
the car was devoted more for the taxpayer's business than for his personal and business
needs. 5 According to the evidence, the taxpayer's car was utilized both for personal and business needs.
We therefore find it reasonable to allow as deduction one-half of the driver's salary, car expenses and
depreciation.
The electrical supplies, paint, lumber, plumbing, cement, tiles, gravel, masonry and labor used to repair the
taxpayer's rental apartments did not increase the value of such apartments, or prolong their life. They
merely kept the apartments in an ordinary operating condition. Hence, the expenses incurred therefor are
deductible as necessary expenditures for the maintenance of the taxpayer's business.
Similarly, the litigation expenses defrayed by Gutierrez to collect apartment rentals and to eject delinquent
tenants are ordinary and necessary expenses in pursuing his business. It is routinary and necessary for
one in the leasing business to collect rentals and to eject tenants who refuse to pay their accounts.
The following are not deductible business expenses but should be integrated into the cost of the capital
assets for which they were incurred and depreciated yearly: (1) Expenses in watching over laborers in
construction work. Watching over laborers is an activity more akin to the construction work than to running
the taxpayer's business. Hence, the expenses incurred therefor should form part of the construction cost.
(2) Real estate tax which remained unpaid by the former owner of Gutierrez' rental property but which the
latter paid, is an additional cost to acquire such property and ought therefore to be treated as part of the
property's purchase price. (3) The iron bars, venetian blind and water pump augmented the value of the,
apartments where they were installed. Their cost is not a maintenance charge, 6 hence, not deductible..
7 (4) Expenses for the relocation, survey and registration of property tend to strengthen title over the
property, hence, they should be considered as addition to the costs of such property. (5) The set of
"Comments on the Rules of Court" having a life span of more than one year should be depreciated ratably
during its whole life span instead of its total cost being deducted in one year.
Coming to the claim for depreciation of Gutierrez' residence, we find the same not deductible. A taxpayer
may deduct from gross income a reasonable allowance for deterioration of property arising out of its use or
employment in business or trade. 8 Gutierrez' residence was not used in his trade or business.
Gutierrez also claimed for deduction the fines and penalties which he paid for late payment of taxes. While
Section 30 allows taxes to be deducted from gross income, it does not specifically allow fines and penalties
to be so deducted. Deductions from gross income are matters of legislative grace; what is not expressly
granted by Congress is withheld. Moreover, when acts are condemned, by law and their commission is
made punishable by fines or forfeitures, to allow them to be deducted from the wrongdoer's gross income,
reduces, and so in part defeats, the prescribed punishment. .9
As regards the alms to an indigent family and various individuals, contributions to Lydia Yamson and G.
Trinidad and a donation consisting of officers' jewels and aprons to Biak-na-Bato Lodge No. 7, the same
are not deductible from gross income inasmuch as their recipients have not been shown to be among those
specified by law. Contributions are deductible when given to the Government of the Philippines, or any of
its political subdivisions for exclusively public purposes, to domestic corporations or associations organized
and operated exclusively for religious, charitable, scientific, athletic, cultural or educational purposes, or for
the rehabilitation of veterans, or to societies for the prevention of cruelty to children or animals, no part of
the net income of which inures to the benefit of any private stockholder or individual. 10
We come to the question of whether or not the Ballantyne Scale of Values can be applied to tax cases.
Sometime in 1943 Gutierrez bought a piece of real estate in Manila for a price of P35,000.00. In 1953 he
sold said property for P30,400.00, thereby incurring a loss which he claimed as deduction in his income tax
return for 1953. The Commissioner of Internal Revenue, convinced that the purchase price of the property
in 1943 was in Japanese military notes, converted said purchase price into Philippine Commonwealth
pesos by the use of the Ballantyne Scale of Values. As a result, the Commissioner found Gutierrez to have
profited, instead of lost in the sale.
Firstly, Gutierrez maintains that the purchase price was paid for in Commonwealth pesos. On the other
hand the Commissioner insists that inasmuch as the prevailing currency in the City of Manila in 1943 was
the Japanese military issue, the transaction could have been in said military notes. The evidence offered by
Gutierrez, consisting of the testimony of his son to the effect that it was he who carried the bundle of
Commonwealth pesos and Japanese military notes when his father purchased the property, did not
convince the Tax Court. No cogent reason to alter the court a quo's finding of fact in this regard has been
given. There is no definite showing that Gutierrez paid for the property in Commonwealth pesos.
Considering that in 1943 the medium of exchange in Manila was the Japanese military notes, the use of
which the Japanese Military Government enforced with stringent measures, we are inclined to concur with
the finding that the purchase price was in Japanese military notes. We are specifically mindful of the fact
that Gutierrez sold the property in 1953 for only P30,400.00 at a time when the price of real estate in the
City of Manila was much greater than in 1943.
It is further contended by Gutierrez that the money he used to pay for the purchase of the property in
question came from the proceeds of merchandise acquired prior to World War II but which he sold after
Manila was occupied by the Japanese military forces, hence, the purchase price should be deemed to have
been made in Commonwealth pesos inasmuch as the aforesaid merchandise was purchased in
Commonwealth pesos. This contention, if true, strengthens our conclusion that the real estate in question
was bought in Japanese military notes. For, at the time Gutierrez sold his merchandise, the prevailing
currency in the City of Manila was the Japanese military money. Consequently, the proceeds therefrom,
which were used to buy the real estate in question, were Japanese military notes.
Gutierrez assails the use of the Ballantyne Scale of Values in converting the purchase price of the real
estate in question from Japanese military notes to Philippine Commonwealth pesos on the ground that (1)
the Ballantyne Scale of Values was intended only for transactions entered into by parties voluntarily during
the Japanese occupation, wherein a portion of the contract was left unperformed until liberation of the
Philippines by the Americans; (2) that such Scale of Values cannot be the basis of a tax, for it is not a law.
In determining the gain or loss from the sale of property the purchase price and the selling price ought to be
in the same currency. Since in this case the purchase price was in Japanese military notes and the selling
price was in our present legal tender, the Japanese military notes should be converted to the present
currency. Since the only standard scale recognized by courts for the purpose is the Ballantyne Scale of
Values, we find it compelling to use such table of values rather than adopt an arbitrary scale. It may not be
amiss to state in this connection that the Ballantyne Scale of Values is not being used herein as the
authority to impose the tax, but only as a medium of computing the tax base upon which the tax is to be
imposed.
It is furthermore proffered by the taxpayer that in determining gain or loss, the real value of the
Commonwealth peso at the time the property was purchased and the value of the Republic peso at the
time. the same property was sold should be considered. The Commonwealth peso and the Republic peso
are the same currency, with the same intrinsic value, sanctioned by the same authorities. Both are legal
tender and accepted at face value regardless of fluctuation in their buying power. The 1941 Commonwealth
peso when used to buy in 1963 or in 1965 is accorded the same value: one peso.
In his income tax returns for 1953 and 1954, Gutierrez reported only 50% of profits he realized from the
sale of real properties during the years 1953 and 1954 on the ground that said properties were capital
assets. Profits from the sale of capital assets are taxable to the extent of 50% thereof pursuant to Section
34 of the Tax Code.
Section 34 provides:
SEC. 34. Capital gains and losses. — (a) Definitions. — As used in this title —
(1) Capital assets. — The term "capital assets" means property held by the taxpayer (whether or
not connected with his trade or business), but does not include stock in trade of the taxpayer or
other property of a kind which would properly be included in the inventory of the taxpayer if on hand
at the close of the taxable year, or property held by the taxpayer primarily for sale to customers in
the ordinary course of his trade or business, or property used in the trade or business, of a
character which is subject to the allowance for depreciation provided in subsection (f) of section
thirty; or real property used in the trade or business of the taxpayer.
xxx xxx xxx
(b) Percentage taken into account. — In the case of a taxpayer, other than a corporation, only the
following percentages of the gain or loss recognized upon the sale or exchange of capital asset hall
be taken into account in computing net capital gain, net capital loss, and net income:
(1) One hundred per centum if the capital asset has been held for not more than twelve months;
(2) Fifty per centum if the capital asset has been held for not more than twelve months.
Section 34, before it was amended by Republic Act 82 in 1947, considered as capital assets real property
used in the trade or business of a taxpayer. However, with the passage of Republic Act 82, Congress
classified "real property used in the trade or business of the taxpayer" is ordinary asset. The explanatory
note to Republic Act 82 says — "... the words "or real property used in the trade or business of the
taxpayer" have been included among the non-capital assets. This has the effect of withdrawing the gain or
loss from the sale or exchange of real property used in the trade or business of the taxpayer from the
operation of the capital gains and losses provisions. As such real property is used in the trade or business
of the taxpayer, it is logical that the gain or loss from the sale or exchange thereof should be treated as
ordinary income or loss. 11 Accordingly, the real estate, admittedly used by Gutierrez in his business, which
he sold in 1953 and 1954 should be treated as ordinary assets and the gain from the sale thereof, as
ordinary gain, hence, fully taxable. 12
With regard to the issue of the prescription of the Commissioner's right to collect deficiency tax for 1951
and 1952, Gutierrez claims that the counting of the 5-year period to collect income tax should start from the
time the income tax returns were filed. He, therefore, urges us to declare the Commissioner's right to
collect the deficiency tax for 1951 and 1952 to have prescribed, the income tax returns for 1951 and 1952
having been filed in March 1952 and on February 28, 1953, respectively, and the action to collect the tax
having been instituted on March 5, 1958 when the Commissioner filed his answer to the petition for review
in C.T.A. Case No. 504. On the other hand, the Commissioner argues that the running of the prescriptive
period to collect commences from the time of assessment. Inasmuch as the tax for 1951 and 1952 were
assessed only on July 10, 1956, less than five years lapsed when he filed his answer on March 5, 1958.
The period of limitation to collect income tax is counted from the assessment of the tax as provided for in
paragraph (c) of Section 332 quoted below:
SEC. 332(c). Where the assessment of any internal revenue tax has been made within the period
of limitation above prescribed such tax may be collected by distraint or levy or by a proceeding in
court, but only if begun (1) within five years after the assessment of the tax, or (2) prior to the
 expiration of any period for collection agreed upon in writing by the Collector of Internal Revenue
and the taxpayer before the expiration of such five-year period. The period so agreed upon may be
extended by subsequent agreements in writing made before the expiration of the period previously
agreed upon.
Inasmuch as the assessment for deficiency income tax was made on July 10, 1956 which is 7 months and
25 days prior to the action for collection, the right of the Commissioner to collect such tax has not
prescribed.
The next issue relates to the prescription of the right of the Commissioner of Internal Revenue to collect the
deficiency tax for 1954 by distraint and levy.
The pertinent provision of the Tax Code states:
SEC. 51(d). Refusal or neglect to make returns; fraudulent returns, etc. — In cases of refusal or
neglect to make a return and in cases of erroneous, false, or fraudulent returns, the Collector of
Internal Revenue shall, upon the discovery thereof, at any time within three years after said return
is due or has been made, make a return upon information obtained as provided for in this code or
by existing law, or require the necessary corrections to be made, and the assessment made by the
Collector of Internal Revenue thereon shall be paid by such person or corporation immediately
upon notification of the amount of such assessment.
On February 23, 1955 Gutierrez filed his income tax return for 1954 and on February 24, 1958 the
Commissioner of Internal Revenue issued a warrant of distraint and levy to collect the tax due thereunder.
Gutierrez contends that the Commissioner's right to issue said warrant is barred, for the same was issued
more than 3 years from the time he filed his income tax return. On the other hand, the Commissioner of
Internal Revenue maintains that his right did not lapse inasmuch as from the last day prescribed by law for
the filing of the 1954 return to the date when he issued the warrant of distraint and levy, less than 3 years
passed. The question now is: should the counting of the prescriptive period commence from the actual
filing of the return or from the last day prescribed by law for the filing thereof?
We observe that Section 51(d) speaks of erroneous, false or fraudulent returns, and refusal or neglect of
the taxpayer to file a return. It also provides for two dates from which to count the three-year prescriptive
period, namely, the date when the return is due and the date the return has been made. We are inclined to
conclude that the date when the return is due refers to cases where the taxpayer refused or neglected to
file a return, and the date when the return has been made refers to instances where the taxpayer filed
erroneous, false or fraudulent returns. Since Gutierrez filed an income tax return, the three-year
prescriptive period should be counted from the time he filed such return. From February 23, 1955 when the
income tax return for 1954 was filed, to February 24, 1958, when the warrant of distraint and levy was
issued, 3 years and 2 days elapsed. The right of the Commissioner to issue said warrant of distraint and
levy having lapsed by two days, the warrant issued is null and void.
The above finding has made academic the question of whether or not the warrant of distraint and levy can
be enforced against the taxpayer's real property without first exhausting his personal properties.
In resume the tax liability of Lino Gutierrez for 1951, 1952, 1953 and 1954 may be computed as follows:

1951
Net income per investigation P29,471.81
Add: Disallowed deductions for salary of
driver and car expenses 29.90

P29,501.81
Less: Allowable deductions:
Expenses in attending
National
Convention of Filipino
Businessmen P 121.35
 Repair of rental apartments 802.65 924.00

Net income P30,425.71

Less: Personal exemption 3,600.00

Amount subject to tax P26,825.71

Tax due thereon P 5,668.00

Less tax already paid 3,981.00

Deficiency income tax due P 1,687.00

==========
1952
Net income per investigation P21,632.22
Add: Disallowed deductions:
Salary of driver P 260.67
Car expenses 401.51
Car depreciation 65.00 727.18

P22,359.40
Less Allowable deduction:
Luncheon, Homeowners' Association 5.50

Net income P22,364.90

Less: Personal exemption 3,600.00

Amount subject to tax P18,764.90

Tax due thereon P 3,324.00

Less tax already paid 2,476.00

Deficiency income tax due 848.00

==========
1953
Net income per investigation P69,180.91
Add: Disallowed deductions:
Salary of driver P 140.00
Car expenses 406.00
Car depreciation 58.50 604.50
 P69,785.40
Less: Allowable deduction:
Cruise to Corregidor with Homeowners'
Association 42.00

Net Income P69,828 40

Less: Personal exemption 3,600.00

Amount subject to tax P66,228.40

Tax due thereon P15,179.00

Less tax already paid 9,805.00

Deficiency income tax due P 5,374.00

==========
1954
Net income per investigation P43,881.92
Add: Disallowed deductions:
Salary of driver P 140.00
Car expenses 414.18
Car depreciation 72.65 626.83

P44,508.75
Less: Allowable deductions:
Furniture given in connection
with business transaction P 115.00
Repairs of rental apartments 2,048.56 2,163.56

Net income P42,345.19

Less: Personal exemption 3,000.00

Amount subject to tax P39,345.19

Tax due thereon P 9,984.00

Less tax already paid 5,964.00

Deficiency income tax due P 4,020.00

==========
SUMMARY
 1951 . . . . . . . . . . . . . . . . P 1,687.00
1952 . . . . . . . . . . . . . . . . 848.00
1953 . . . . . . . . . . . . . . . . 5,374.00
1954 . . . . . . . . . . . . . . . . 4,020.00

TOTAL . . . . . . . . . . P 11,929.00
=========
WHEREFORE, the decision appealed from is modified and Lino Gutierrez and/or his heirs, namely, Andrea
C. Vda. de Gutierrez, Antonio D. Gutierrez, Santiago D. Gutierrez, Guillermo D. Gutierrez and Tomas D.
Gutierrez, are ordered to pay the sums of P1,687.00, P848.00, P5,374.00, and P4,020.00, as deficiency
income tax for the years 1951, 1952, 1953 and 1954, respectively, or a total of P11,929.00, plus the
statutory penalties in case of delinquency. No costs. So ordered.
G.R. No. 173373 July 29, 2013
H.TAMBUNTINGPAWNSHOP,INC. vs.COMMISSIONER OF INTERNAL REVENUE
To be entitled to claim a tax deduction, the taxpayer must competently establish the factual and
documentary bases of its claim.
Antecedents
H. Tambunting Pawnshop, Inc. (petitioner), a domestic corporation duly licensed and authorized to engage
in the pawnshop business, appeals the adverse decision promulgated on April 24, 2006, 1 whereby the
Court of Tax Appeals En Bane (CTA En Bane) affirmed the decision of the CTA First Division ordering it to
pay deficiency income taxes in the amount of ₱4,536,687.15 for taxable yaar 1997, plus 20% delinquency
interest computed from August 29, 2000 until full payment, but cancelling the compromise penalties for lack
of basis.
On June 26, 2000, the Bureau of Internal Revenue (BIR), through then Acting Regional Director Lucien E.
Sayuno of Revenue Region No. 6 in Manila, issued assessment notices and demand letters, all numbered
32-1-97, assessing Tambunting for deficiency percentage tax, income tax and compromise penalties for
taxable year 1997,2 as follows:

Deficiency Percentage Tax

Taxable Sales/Receipts ₱12,749,135.25
============
Percentage Tax due (5%) P 637,456.76
Add: 20% Interest up to 7-26-00 320,513.24
--------------------
Total Percentage Tax Due P 957,970.00
============
Deficiency Income Tax
Taxable Net Income per Return P 54,107.36
Adjustments per investigation Section 28
Overstatement of gain/loss on auction sales
Gain/Loss per F/S P 4,914,967.50
Gain/Loss per Audit 133,057.40 4,781,910.00
--------------------
 Unsupported Security/Janitorial Expenses
Per F/S 2,183,573.02
Per Audit 358,800.00 1,824,773.02
--------------------
Unsupported Rent Expenses
Per F/S 2,293,631.13
Per Audit 434,406.77 1,859,224.35
--------------------
Unsupported Interest Expenses 1,155,154.28
Unsupported Management & Professional Fees 96,761.00
Unsupported Repairs & Maintenance 348,074.68
Unsupported 13th Month Pay & Bonus 317,730.73
Disallowed Loss on Fire & Theft 906,560.00
--------------------
Taxable Net Income per Investigation P 11,344,295.43
============
Income Tax Due (35%) P 3,970,503.40
Less Income Tax Paid 18,937.57
---------------------
Deficiency Income Tax 3,951,565.83
Add: 20% Interest to 7-26-00 1,799,938.23
---------------------
Total Income Tax Due 5,751,504.06
Compromise Penalties
Late Payment of Income Tax 25,000.00
Late Payment of Percentage Tax 20,000.00
Failure to Pay Withholding Tax Return for
the Months of April and May 24,000.00
-----------------
69,000.00
==========
On July 26, 2000, Tambunting instituted an administrative protest against the assessment notices and
demand letters with the Commissioner of Internal Revenue.3
On February 21, 2001, Tambunting brought a petition for review in the CTA, pursuant to Section 228 of the
National Internal Revenue Code of 1997, 4 citing the inaction of the Commissioner of Internal Revenue on
its protest within the 180-day period prescribed by law.
On October 8, 2004, the CTA First Division rendered a decision, the pertinent portion of which is hereunder
quoted, to wit:
In view of all the foregoing verification, petitioner’s allowable deductions are summarized below:
 Per Petitioner's
Financial Per BIR's Per Court's
Particulars Statement Examination Verification
 Loss on Auction
Sale P 4,914,967.50 P 133,057.40 P 133,057.40
Security & Janitorial
Services 2,183,573.02 358,800.00 736,044.26
Rent Expense 2,293,631.13 434,406.77 642,619.10
Interest Expense 1,155,154.28 - 1,155,154.28
Professional &
Management Fees 96,761.00 - -
Repairs &
Maintenance 348,074.68 - 329,399.18
13th
Month pay &
Bonuses 317,730.73 - 317,730.73
Loss on Fire 906,560.00 - -
-------------------- -------------------- --------------------
Total P 12,216,452.34 P 926,264.17 P 3,314,004.95
============= ============= =============
Apparently, petitioner is still liable for deficiency income tax in the reduced amount of ₱4,536,687.15,
computed as follows:

Net Income Per Return ₱54,107.36

Add: Overstatement of Gain/Loss on Auction Sales

Gain/Loss on Auction Sales per F/S ₱4,914,967.50

Gain/Loss on Auction Sales per Court’s
Verification 133,057.40 4,781,910.00
------------------

Unsupported Security/Janitorial Services

Security, Janitorial Services per F/S ₱2,183,573.02

Security, Janitorial Services
per Court’s Verification 736,044.26 1,447,528.76
------------------

Unsupported Rent Expenses

Rent Expenses per F/S ₱2,293,631.13

Rent Expenses per Court’s
Verification 642,619.10 1,651,012.03
------------------

Unsupported Management & Professional Fees 96,761.00

Unsupported Repairs & Maintenance
(₱348,074.68 - ₱329,399.18) 18,675.50
 Disallowed Loss on Fire & Theft 906,560.00
---------------

Net Income P 8,956,554.65

=============
Income Tax Due Thereon P 3,134,794.13
Less: Amount Paid 18,937.57
------------------

Balance P 3,115,856.56
Add: 20% Interest until 7-26-00 1,420,830.59
------------------

TOTAL INCOME TAX DUE

₱4,536,687.15
=============
WHEREFORE, petitioner is ORDERED to PAY the respondent the amount of ₱4,536,687.15 representing
deficiency income tax for the year 1997, plus 20% delinquency interest computed from August 29, 2000
until full payment thereof pursuant to Section 249 (C) of the National Internal Revenue Code. However, the
compromise penalties in the sum of ₱49,000.00 is hereby CANCELLED for lack of legal basis.
SO ORDERED.5
After its motion for reconsideration was denied for lack of merit on February 18, 2005, 6 Tambunting filed a
petition for review in the CTA En Banc, arguing that the First Division erred in disallowing its deductions on
the ground that it had not substantiated them by sufficient evidence.
On April 24, 2006, the CTA En Banc denied Tambunting’s petition for review, 7 disposing:
WHEREFORE, the Court en banc finds no reversible error to warrant the reversal of the assailed Decision
and Resolution promulgated on October 8, 2004 and February 11, 2005, respectively, the instant Petition
for Review is hereby DISMISSED. Accordingly, the aforesaid Decision and Resolution are hereby
AFFIRMED in toto.
SO ORDERED.
On June 29, 2006, the CTA En Banc also denied Tambunting’s motion for reconsideration for its lack of
merit.8
Issues
Hence, this appeal by petition for review on certiorari.
Tambunting argues that the CTA should have allowed its deductions because it had been able to point out
the provisions of law authorizing the deductions; that it proved its entitlement to the deductions through all
the documentary and testimonial evidence presented in court; 9 that the provisions of Section 34 (A)(1)(b) of
the 1997 National Internal Revenue Code, governing the types of evidence to prove a claim for deduction
of expenses, were applicable because the law took effect during the pendency of the case in the
CTA;10 that the CTA had allowed deductions for ordinary and necessary expenses on the basis of cash
vouchers issued by the taxpayer or certifications issued by the payees evidencing receipt of interest on
loans as well as agreements relating to the imposition of interest; 11 that it had thus shown beyond doubt
that it had incurred the losses in its auction sales; 12 and that it substantially complied with the requirements
of Revenue Regulations No. 12-77 on the deductibility of its losses. 13
On December 5, 2006, the Commissioner of Internal Revenue filed a comment, 14 stating that the
conclusions of the CTA were entitled to respect, 15 due to its being a highly specialized body specifically
created for the purpose of reviewing tax cases; 16 and that the petition involved factual and evidentiary
matters not reviewable by the Court in an appeal by certiorari. 17
On March 22, 2007, Tambunting reiterated its arguments in its reply. 18
Ruling
The petition has no merit.
At the outset, the Court agrees with the CTA En Banc that because this case involved assessments relating
to transactions incurred by Tambunting prior to the effectivity of Republic Act No. 8424 (National Internal
Revenue Code of 1997, or NIRC of 1997), the provisions governing the propriety of the deductions was
Presidential Decree 1158 (NIRC of 1977). In that regard, the pertinent provisions of Section 29 (d) (2) &
(3)of the NIRC of 1977 state:
xxxx
(2) By corporation. — In the case of a corporation, all losses actually sustained and charged off
within the taxable year and not compensated for by insurance or otherwise.
(3) Proof of loss. — In the case of a non-resident alien individual or foreign corporation, the losses
deductible are those actually sustained during the year incurred in business or trade conducted
within the Philippines, and losses actually sustained during the year in transactions
entered into for profit in the Philippines although not connected with their business or trade, when such
losses are not compensated for by insurance or otherwise. The Secretary of Finance, upon
recommendation of the Commissioner of Internal Revenue, is hereby authorized to promulgate rules and
regulations prescribing, among other things, the time and manner by which the taxpayer shall submit a
declaration of loss sustained from casualty or from robbery, theft, or embezzlement during the taxable year:
Provided, That the time to be so prescribed in the regulations shall not be less than 30 days nor more than
90 days from the date of the occurrence of the casualty or robbery, theft, or embezzlement giving rise to the
loss.
The CTA En Banc ruled thusly:
To prove the loss on auction sale, petitioner submitted in evidence its "Rematado" and "Subasta" books
and the "Schedule of Losses on Auction Sale". The "Rematado" book contained a record of items
foreclosed by the pawnshop while the "Subasta" book contained a record of the auction sale of pawned
items foreclosed.
However, as elucidated by the petitioner, the gain or loss on auction sale represents the difference between
the capital (the amount loaned to the pawnee, the unpaid interest and other expenses incurred in
connection with such loan) and the price for which the pawned articles were sold, as reflected in the
"Subasta" Book. Furthermore, it explained that the amounts appearing in the "Rematado" book do not
reflect the total capital of petitioner as it merely reflected the amounts loaned to the pawnee. Likewise, the
amounts appearing in the "Subasta" book, are not representative of the amount of sale made during the
"subastas" since not all articles are eventually sold and disposed of by petitioner.
Petitioner submits that based on the evidence presented, it was able to show beyond doubt that it incurred
the amount of losses on auction sale claimed as deduction from its gross income for the taxable year 1997.
And that the documents/records submitted in evidence as well as the facts contained therein were neither
contested nor controverted by the respondent, hence, admitted.
xxxx
In this case, petitioner's reliance on the entries made in the "Subasta" book were not sufficient to
substantiate the claimed deduction of loss on auction sale. As admitted by the petitioner, the contents in the
"Rematado" and "Subasta" books do not reflect the true amounts of the total capital and the auction sale,
respectively. Be that as it may, petitioner still failed to adduce evidence to substantiate the other expenses
alleged to have been incurred in connection with the sale of pawned items.
As correctly held by the Court's Division in the assailed decision, and We quote:
x x x The remaining evidence is neither conclusive to sustain its claim of loss on auction sale in the
aggregate amount of ₱4,915,967.50. While it appears that the basis of respondent is not strong, petitioner,
nevertheless, should not rely on the weakness of such evidence but on the strength of its own documents.
The facts essential for the proper disposition of the said controversy were available to the petitioner.
Petitioner should have endeavored to make the facts clear to this court. Sad to say, it failed to dispute the
same with clear and convincing proof. x x x19
We affirm the aforequoted ruling of the CTA En Banc.
The rule that tax deductions, being in the nature of tax exemptions, are to be construed in strictissimi juris
against the taxpayer is well settled. 20 Corollary to this rule is the principle that when a taxpayer claims a
deduction, he must point to some specific provision of the statute in which that deduction is authorized and
must be able to prove that he is entitled to the deduction which the law allows. 21 An item of expenditure,
therefore, must fall squarely within the language of the law in order to be deductible. 22 A mere averment
that the taxpayer has incurred a loss does not automatically warrant a deduction from its gross income.
As the CTA En Banc held, Tambunting did not properly prove that it had incurred losses. The subasta
books it presented were not the proper evidence of such losses from the auctions because they did not
reflect the true amounts of the proceeds of the auctions due to certain items having been left unsold after
the auctions. The rematado books did not also prove the amounts of capital because the figures reflected
therein were only the amounts given to the pawnees. It is interesting to note, too, that the amounts received
by the pawnees were not the actual values of the pawned articles but were only fractions of the real values.
As to business expenses, Section 29 (a) (1) (A) of the NIRC of 1977 provides:
(a) Expenses. — (1) Business expenses.— (A) In general. — All ordinary and necessary expenses paid or
incurred during the taxable year in carrying on any trade or business, including a reasonable allowance for
salaries or other compensation for personal services actually rendered; traveling expenses while away from
home in the pursuit of a trade, profession or business, rentals or other payments required to be made as a
condition to the continued use or possession, for the purpose of the trade, profession or business, of
property to which the taxpayer has not taken or is not taking title or in which he has no equity.
The requisites for the deductibility of ordinary and necessary trade or business expenses, like those paid
for security and janitorial services, management and professional fees, and rental expenses, are that: (a)
the expenses must be ordinary and necessary; (b) they must have been paid or incurred during the taxable
year; (c) they must have been paid or incurred in carrying on the trade or business of the taxpayer; and (d)
they must be supported by receipts, records or other pertinent papers. 23
In denying Tambunting’s claim for deduction of its security and janitorial expenses, management and
professional fees, and its rental expenses, the CTA En Banc explained:
Contrary to petitioner’s contention, the security/janitorial expenses paid to Pathfinder Investigation were not
duly substantiated. The certification issued by Mr. Balisado was not the proper document required by law to
substantiate its expenses. Petitioner should have presented the official receipts or invoices to prove its
claim as provided for under Section 238 of the National Internal Revenue Code of 1977, as amended, to
wit:
"SEC. 238. Issuance of receipts or sales or commercial invoices. — All persons subject to an internal
revenue tax shall for each sale or transfer of merchandise or for services rendered valued at ₱25.00 or
more, issue receipts or sales or commercial invoices, prepared at least in duplicate, showing the date of
transaction, quantity, unit cost and description of merchandise or nature of service; Provided, That in the
case of sales, receipts or transfers in the amount of ₱100.00 or more, or, regardless of amount, where the
sale or transfer is made by persons subject to value-added tax to other persons also subject to value-
added tax; or, where the receipts is issued to cover payment made as rentals, commissions, compensation
or fees, receipts or invoices shall be issued which shall show the name, business style, if any, and address
of the purchaser, customer, or client. The original of each receipt or invoice shall be issued to the
purchases, customer or client at the time the transaction is effected, who, if engaged in business or in the
exercise of profession, shall keep and preserve the same in his place of business for a period of 3 years
from the close of the taxable year in which such invoice or receipt was issued, while the duplicate shall be
kept and preserved by the issuer, also in his place of business, for a like period.
With regard to the misclassified items of expenses, petitioner's statements were self-serving, likewise it
failed to substantiate its allegations by clear and convincing evidence as provided under the foregoing
provision of law.
Bearing in mind the principle in taxation that deductions from gross income partake the nature of tax
exemptions which are construed in strictissimi juris against the taxpayer, the Court en banc is not inclined
to believe the self-serving statements of petitioner regarding the misclassified items of office supplies,
advertising and rent expenses.
Among the expenses allegedly incurred, courts may consider only those supported by credible evidence
and which appear to have been genuinely incurred in connection with the trade or business of the
taxpayer.24
xxxx
As previously discussed, the proper substantiation requirement for an expense to be allowed is the official
receipt or invoice. While the rental payments were subjected to the applicable expanded withholding taxes,
such returns are not the documents required by law to substantiate the rental expense. Petitioner should
have submitted official receipts to support its claim.
Moreover, the issue on the submission of cash vouchers as evidence to prove expenses incurred has been
addressed by this Court in the assailed Resolution, to wit:
"The trend then was to allow deductions based on cash vouchers which are signed by the payees. It bears
to note that the cases cited by petitioner are pronouncements by this Court in 1980, 1982 and 1989.
However, latest jurisprudence has deviated from such interpretation of the law. Thus, this Court held in the
case of Pilmico-Mauri Foods Corporation vs. Commissioner of Internal Revenue C.T.A. Case No. 6151,
December 15, 2004;
[P]etitioner’s contention that the NIRC of 1977 did not impose substantiation requirements on deductions
from gross income is bereft of merit. Section 238 of the 1977 Tax Code [now Section 237] provides:
xxxx
From the foregoing provision of law, a person who is subject to an internal revenue tax shall issue receipts,
sales or commercial invoices, prepared at least in duplicate. The provision likewise imposed a responsibility
upon the purchaser to keep and preserve the original copy of the invoice or receipt for a period of three
years from the close of the taxable year in which the invoice or receipt was issued. The rationale behind the
latter requirement is the duty of the taxpayer to keep adequate records of each and every transaction
entered into in the conduct of its business. So that when their books of accounts are subjected to a tax
audit examination, all entries therein could be shown as adequately supported and proven as legitimate
business transactions. Hence, petitioner’s claim that the NIRC of 1977 did not require substantiation
requirements is erroneous."
In order that the cash vouchers may be given probative value, these must be validated with official
receipts.25
xxxx
Petitioner’s management and professional fees were disallowed as these were supported merely by cash
vouchers, which the Court’s Division correctly found to have little probative value. 26
Again, we affirm the foregoing holding of the CTA En Banc for the reasons therein stated. To reiterate,
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 Tambunting did not discharge its burden of substantiating its claim for deductions due to the
inadequacy of its documentary support of its claim. Its reliance on withholding tax returns, cash vouchers,
lessor’s certifications, and the contracts of lease was futile because such documents had scant probative
value. As the CTA En Banc succinctly put it, the law required Tambunting to support its claim for deductions
with the corresponding official receipts issued by the service providers concerned.
Regarding proof of loss due to fire, the text of Section 29(d) (2) & (3) of P.D. 1158 (NIRC of 1977) then in
effect, is clear enough, to wit:
 (2) By corporation. — In the case of a corporation, all losses actually sustained and charged off
within the taxable year and not compensated for by insurance or otherwise.
(3) Proof of loss. — In the case of a non-resident alien individual or foreign corporation, the losses
deductible are those actually sustained during the year incurred in business or trade conducted
within the Philippines, and losses actually sustained during the year in transactions entered into for
profit in the Philippines although not connected with their business or trade, when such losses are
not compensated for by insurance or otherwise. The Secretary of Finance, upon recommendation
of the Commissioner of Internal Revenue, is hereby authorized to promulgate rules and regulations
prescribing, among other things, the time and manner by which the taxpayer shall submit a
declaration of loss sustained from casualty or from robbery, theft, or embezzlement during the
taxable year: Provided, That the time to be so prescribed in the regulations shall not be less than 30
days nor more than 90 days from the date of the occurrence of the casualty or robbery, theft, or
embezzlement giving rise to the loss.
The implementing rules for deductible losses are found in Revenue Regulations No. 12-77, as follows:
SECTION 1. Nature of deductible losses.— Any loss arising from fires, storms or other casualty, and from
robbery, theft or embezzlement, is allowable as a deduction under Section 30 (d) for the taxable year in
which the loss is sustained. The term "casualty" is the complete or partial destruction of property resulting
from an identifiable event of a sudden, unexpected, or unusual nature. It denotes accident, some sudden
invasion by hostile agency, and excludes progressive deterioration through steadily operating cause.
Generally, theft is the criminal appropriation of another’s property for the use of the taker. Embezzlement is
the fraudulent appropriation of another's property by a person to whom it has been entrusted or into whose
hands it has lawfully come.
SECTION 2. Requirements of substantiation. — The taxpayer bears the burden of proving and
substantiating his claim for deduction for losses allowed under Section 30 (d) and should comply with the
following substantiation requirements:
(a) A declaration of loss which must be filed with the Commissioner of Internal Revenue or his
deputies within a certain period prescribed in these regulations after the occurrence of the casualty,
robbery, theft or embezzlement.
(b) Proof of the elements of the loss claimed, such as the actual nature and occurrence of the event
and amount of the loss.
SECTION 3. Declaration of loss. — Within forty-five days after the date of the occurrence of casualty or
robbery, theft or embezzlement, a taxpayer who sustained loss therefrom and who intends to claim the loss
as a deduction for the taxable year in which the loss was sustained shall file a sworn declaration of loss
with the nearest Revenue District Officer. The sworn declaration of loss shall contain, among other things,
the following information:
(a) The nature of the event giving rise to the loss and the time of its occurrence;
(b) A description of the damaged property and its location;
(c) The items needed to compute the loss such as cost or other basis of the property; depreciation
allowed or allowable if any; value of property before and after the event; cost of repair;
(d) Amount of insurance or other compensation received or receivable.
Evidence to support these items should be furnished, if available. Examples are purchase contracts and
deeds, receipted bills for improvements, and pictures and competent appraisals of the property before and
after the casualty.
SECTION 4. Proof of loss.— (a) In general. — The declaration of loss, being one of the essential
requirements of substantiation of a claim for a loss deduction, is subject to verification and does not
constitute sufficient proof of the loss that will justify its deductibility for income tax purposes. Therefore, the
mere filing of a declaration of loss does not automatically entitle the taxpayer to deduct the alleged loss
from gross income. The failure, however, to submit the said declaration of loss within the period prescribed
in these regulations will result in the disallowance of the casualty loss claimed in the taxpayer's income tax
return. The taxpayer should therefore file a declaration of loss and should be prepared to support and
substantiate the information reported in the said declaration with evidence which he should gather
immediately or as soon as possible after the occurrence of the casualty or event causing the loss.
xxxx
(b) Casualty loss. — Photographs of the property as it existed before it was damaged will be helpful in
showing the condition and value of the property prior to the casualty. Photographs taken after the casualty
which show the extent of damage will be helpful in establishing the condition and value of the property after
it was damaged. Photographs showing the condition and value of the property after it was repaired,
restored or replaced may also be helpful.
Furthermore, since the valuation of the property is of extreme importance in determining the amount of loss
sustained, the taxpayer should be prepared to come forward with documentary proofs, such as cancelled
checks, vouchers, receipts and other evidence of cost.
The foregoing evidence should be kept by the taxpayer as part of his tax records and be made available to
a revenue examiner, upon audit of his income tax return and the declaration of loss.
(c) Robbery, theft or embezzlement losses. - To support the deduction for losses arising from robbery, theft
or embezzlement, the taxpayer must prove by credible. evidence all the elements of the loss, the amount of
the loss, and the proper year of the deduction. The taxpayer bears the burden of proof, and no deduction
will be allowed unless he shows the property was stolen, rather than misplaced or lost. A mere
disappearance of property is not enough, nor is a mere error or shortage in accounts.
Failure to report theft or robbery to the police may be a factor against the taxpayer. On the other hand, a
mere report of alleged theft or robbery to the police authorities is not a conclusive proof of the loss arising
therefrom. (Bold underscoring supplied for emphasis)
In the context of the foregoing rules, the CT A En Bane aptly rejected Tam bunting's claim for deductions
due to losses from fire and theft. The documents it had submitted to support the claim, namely: (a) the
certification from the Bureau of Fire Protection in Malolos; (b) the certification from the Police Station in
Malolos; (c) the accounting entry for the losses; and (d) the list of properties lost, were not enough. What
were required were for Tambunting to submit the sworn declaration of loss mandated by Revenue
Regulations 12-77. Its failure to do so was prejudicial to the claim because the sworn declaration of loss
was necessary to forewarn the BIR that it had suffered a loss whose extent it would be claiming as a
deduction of its tax liability, and thus enable the BIR to conduct its own investigation of the incident leading
to the loss. Indeed, the documents Tambunting submitted to the BIR could not serve the purpose of their
submission without the sworn declaration of loss.
WHEREFORE, the Court AFFIRMS the decision promulgated on April 24, 2006; and ORDERS petitioner to
pay the costs of suit.
SO ORDERED.
G.R. No. 118794 May 8, 1996
PHILIPPINE REFINING COMPANY (now known as "UNILEVER PHILIPPINES [PRC], INC.")
vs.
COURT OF APPEALS, COURT OF TAX APPEALS, and THE COMMISSIONER OF INTERNAL
REVENUE
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 P 2,666,545.49
—————— ——————
P3,379,616.00
 Net Taxable Income 200,882,184.00
Tax Due Thereon 70,298,764.00
Less: Tax Paid 69,115,899.00
Deficiency Income Tax 1,182,865.00
Add: 20% Interest (60% max.) 709,719.00
——————
Total Amount Due and Collectible P1,892,584.002
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 Commissioner's
disallowance of the interest expense of P2,666,545.19 but maintained the disallowance of the supposed
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. SP 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 P 29,098.30
(Pet Mini Grocery)
2. Esther Guinto 254,375.54
(Esther Sari-sari Store)
3. Manuel Orea 34,272.82
(Elman Gen. Mdsg.)
—————
TOTAL P 317,746.66
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. U' Ren 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 P 395,324.27
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
petitioner's 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 petitioner's 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 U' Ren 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 petitioner's 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 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. (emphasis 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 petitioner's 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.
G.R. No. 125508 July 19, 2000
CHINA BANKING CORPORATION vs.COURT OF APPEALS, COMMISSIONER OF INTERNAL
REVENUE and COURT OF TAX APPEALS
The Commissioner of Internal Revenue denied the deduction from gross income of "securities becoming
worthless" claimed by China Banking Corporation ("CBC"). The Commissioner’s disallowance was
sustained by the Court of Tax Appeals ("CTA"). When the ruling was appealed to the Court of Appeals
("CA"), the appellate court upheld the CTA. The case is now before us on a Petition for Review
on Certiorari.
Sometime in 1980, petitioner China Banking Corporation made a 53% equity investment in the First CBC
Capital (Asia) Ltd., a Hongkong subsidiary engaged in financing and investment with "deposit-taking"
function. The investment amounted to P16,227,851.80, consisting of 106,000 shares with a par Value of
P100 per share.
In the course of the regular examination of the financial books and investment portfolios of petitioner
conducted by Bangko Sentral in 1986, it was shown that First CBC Capital (Asia), Ltd., has become
insolvent. With the approval of Bangko Sentral, petitioner wrote-off as being worthless its investment in
First CBC Capital (Asia), Ltd., in its 1987 Income Tax Return and treated it as a bad debt or as an ordinary
loss deductible from its gross income.
Respondent Commissioner of internal Revenue disallowed the deduction and assessed petitioner for
income tax deficiency in the amount of P8,533,328.04, inclusive of surcharge, interest and compromise
penalty. The disallowance of the deduction was made on the ground that the investment should not be
classified as being "worthless" and that, although the Hongkong Banking Commissioner had revoked the
license of First CBC Capital as a "deposit-taping" company, the latter could still exercise, however, its
financing and investment activities. Assuming that the securities had indeed become worthless, respondent
Commissioner of Internal Revenue held the view that they should then be classified as "capital loss," and
not as a bad debt expense there being no indebtedness to speak of between petitioner and its subsidiary.
Petitioner contested the ruling of respondent Commissioner before the CTA. The tax court sustained the
Commissioner, holding that the securities had not indeed become worthless and ordered petitioner to pay
its deficiency income tax for 1987 of P8,533,328.04 plus 20% interest per annum until fully paid. When the
decision was appealed to the Court of Appeals, the latter upheld the CTA. In its instant petition for review
on certiorari, petitioner bank assails the CA decision.
The petition must fail.
The claim of petitioner that the shares of stock in question have become worthless is based on a Profit and
Loss Account for the Year-End 31 December 1987, and the recommendation of Bangko Sentral that the
equity investment be written-off due to the insolvency of the subsidiary. While the matter may not be
indubitable (considering that certain classes of intangibles, like franchises and goodwill, are not always
given corresponding values in financial statements 1 , there may really be no need, however, to go of length
into this issue since, even to assume the worthlessness of the shares, the deductibility thereof would still be
nil in this particular case. At all events, the Court is not prepared to hold that both the tax court and the
appellate court are utterly devoid of substantial basis for their own factual findings.
Subject to certain exceptions, such as the compensation income of individuals and passive income subject
to final tax, as well as income of non-resident aliens and foreign corporations not engaged in trade or
business in the Philippines, the tax on income is imposed on the net income allowing certain specified
deductions from gross income to be claimed by the taxpayer. Among the deductible items allowed by the
National Internal Revenue Code ("NIRC") are bad debts and losses.2
An equity investment is a capital, not ordinary, asset of the investor the sale or exchange of which results
in either a capital gain or a capital loss. The gain or the loss is ordinary when the property sold or
exchanged is not a capital asset.3 A capital asset is defined negatively in Section 33(1) of the NIRC; viz:
(1) Capital assets. - The term 'capital assets' means property held by the taxpayer (whether or not
connected with his trade or business), but does not include stock in trade of the taxpayer or other property
of a kind which would properly be included in the inventory of the taxpayer if on hand at the close of the
taxable year, or property held by the taxpayer primarily for sale to customers in the ordinary course of his
trade or business, or property used in the trade or business, of a character which is subject to the
allowance for depreciation provided in subsection (f) of section twenty-nine; or real property used in the
trade or business of the taxpayer."
Thus, shares of stock; like the other securities defined in Section 20(t) 4 of the NIRC, would be ordinary
assets only to a dealer in securities or a person engaged in the purchase and sale of, or an active
trader (for his own account) in, securities. Section 20(u) of the NIRC defines a dealer in securities thus:
"(u) The term 'dealer in securities' means a merchant of stocks or securities, whether an individual,
partnership or corporation, with an established place of business, regularly engaged in the purchase of
securities and their resale to customers; that is, one who as a merchant buys securities and sells them to
customers with a view to the gains and profits that may be derived therefrom."
In the hands, however, of another who holds the shares of stock by way of an investment, the shares to
him would be capital assets. When the shares held by such investor become worthless, the loss is
deemed to be a loss from the sale or exchange of capital assets. Section 29(d)(4)(B) of the NIRC
states:
"(B) Securities becoming worthless. - If securities as defined in Section 20 become worthless during the
tax" year and are capital assets, the loss resulting therefrom shall, for the purposes of his Title, be
considered as a loss from the sale or exchange, on the last day of such taxable year, of capital assets."
The above provision conveys that the loss sustained by the holder of the securities, which are capital
assets (to him), is to be treated as a capital loss as if incurred from a sale or exchange transaction. A
capital gain or a capital loss normally requires the concurrence of two conditions for it to result: (1) There is
a sale or exchange; and (2) the thing sold or exchanged is a capital asset. When securities become
worthless, there is strictly no sale or exchange but the law deems the loss anyway to be "a loss from the
sale or exchange of capital assets."5 A similar kind of treatment is given, by the NIRC on the retirement of
certificates of indebtedness with interest coupons or in registered form, short sales and options to buy or
sell property where no sale or exchange strictly exists. 6 In these cases, the NIRC dispenses, in effect, with
the standard requirement of a sale or exchange for the application of the capital gain and loss provisions of
the code.
Capital losses are allowed to be deducted only to the extent of capital gains, i.e., gains derived from
the sale or exchange of capital assets, and not from any other income of the taxpayer.
In the case at bar, First CBC Capital (Asia), Ltd., the investee corporation, is a subsidiary corporation of
petitioner bank whose shares in said investee corporation are not intended for purchase or sale but as an
investment. Unquestionably then, any loss therefrom would be a capital loss, not an ordinary loss, to the
investor.
Section 29(d)(4)(A), of the NIRC expresses:
"(A) Limitations. - Losses from sales or exchanges of capital assets shall be allowed only to the extent
provided in Section 33."
The pertinent provisions of Section 33 of the NIRC referred to in the aforesaid Section 29(d)(4)(A), read:
"Section 33. Capital gains and losses. -
"x x x xxx xxx
"(c) Limitation on capital losses. - Losses from sales or exchange of capital assets shall be allowed
only to the extent of the gains from such sales or exchanges. If a bank or trust company incorporated
under the laws of the Philippines, a substantial part of whose business is the receipt of deposits, sells any
bond, debenture, note, or certificate or other evidence of indebtedness issued by any corporation
(including one issued by a government or political subdivision thereof), with interest coupons or in
registered form, any loss resulting from such sale shall not be subject to the foregoing limitation an shall
not be included in determining the applicability of such limitation to other losses."
The exclusionary clause found in the foregoing text of the law does not include all forms of securities but
specifically covers only bonds, debentures, notes, certificates or other evidence of indebtedness,
with interest coupons or in registered form, which are the instruments of credit normally dealt with in the
usual lending operations of a financial institution. Equity holdings cannot come close to being, within the
purview of "evidence of indebtedness" under the second sentence of the aforequoted paragraph. Verily, it
is for a like thesis that the loss of petitioner bank in its equity in vestment in the Hongkong
subsidiary cannot also be deductible as a bad debt. The shares of stock in question do not constitute a
loan extended by it to its subsidiary (First CBC Capital) or a debt subject to obligatory repayment by the
latter, essential elements to constitute a bad debt, but a long term investment made by CBC.
One other item. Section 34(c)(1) of the NIRC , states that the entire amount of the gain or loss upon the
sale or exchange of property, as the case may be, shall be recognized. The complete text reads:
"SECTION 34. Determination of amount of and recognition of gain or loss.-
"(a) Computation of gain or loss. - The gain from the sale or other disposition of property shall be
the excess of the amount realized therefrom over the basis or adjusted basis for determining gain
and the loss shall be the excess of the basis or adjusted basis for determining loss over the amount
realized. The amount realized from the sale or other disposition of property shall be to sum of
money received plus the fair market value of the property (other than money) received. (As
amended by E.O. No. 37)
"(b) Basis for determining gain or loss from sale or disposition of property. - The basis of property
shall be - (1) The cost thereof in cases of property acquired on or before March 1, 1913, if such
property was acquired by purchase; or
"(2) The fair market price or value as of the date of acquisition if the same was acquired by
inheritance; or
"(3) If the property was acquired by gift the basis shall be the same as if it would be in the
hands of the donor or the last preceding owner by whom it was not acquired by gift, except
that if such basis is greater than the fair market value of the property at the time of the gift,
then for the purpose of determining loss the basis shall be such fair market value; or
"(4) If the property, other than capital asset referred to in Section 21 (e), was acquired for
less than an adequate consideration in money or moneys worth, the basis of such property
is (i) the amount paid by the transferee for the property or (ii) the transferor's adjusted basis
at the time of the transfer whichever is greater.
"(5) The basis as defined in paragraph (c) (5) of this section if the property was acquired in
a transaction where gain or loss is not recognized under paragraph (c) (2) of this section.
(As amended by E.O. No. 37)
"(c) Exchange of property.
"(1) General rule.- Except as herein provided, upon the sale or exchange of property, the
entire amount of the gain or loss, as the case may be, shall be recognized.
"(2) Exception. - No gain or loss shall be recognized if in pursuance of a plan of merger or
consolidation (a) a corporation which is a party to a merger or consolidation exchanges
property solely for stock in a corporation which is, a party to the merger or consolidation, (b)
a shareholder exchanges stock in a corporation which is a party to the merger or
consolidation solely for the stock in another corporation also a party to the merger or
consolidation, or (c) a security holder of a corporation which is a party to the merger or
consolidation exchanges his securities in such corporation solely for stock or securities in
another corporation, a party to the merger or consolidation.
"No gain or loss shall also be recognized if property is transferred to a corporation by a person in exchange
for stock in such corporation of which as a result of such exchange said person, alone or together with
others, not exceeding four persons, gains control of said corporation: Provided, That stocks issued for
services shall not be considered as issued in return of property."
The above law should be taken within context on the general subject of the determination, and recognition
of gain or loss; it is not preclusive of, let alone renders completely inconsequential, the more specific
provisions of the code. Thus, pursuant, to the same section of the law, no such recognition shall be made if
the sale or exchange is made in pursuance of a plan of corporate merger or consolidation or, if as a result
of an exchange of property for stocks, the exchanger, alone or together with others not exceeding four,
gains control of the corporation.7 Then, too, how the resulting gain might be taxed, or whether or not the
loss would be deductible and how, are matters properly dealt with elsewhere in various other sections of
the NIRC.8 At all events, it may not be amiss to once again stress that the basic rule is still that any capital
loss can be deducted only from capital gains under Section 33(c) of the NIRC.
In sum -
(a) The equity investment in shares of stock held by CBC of approximately 53% in its Hongkong
subsidiary, the First CBC Capital (Asia), Ltd., is not an indebtedness, and it is a capital, not an
ordinary, asset.9 1âwphi1

(b) Assuming that the equity investment of CBC has indeed become "worthless," the
loss sustained is a capital, not an ordinary, loss.10
(c) The capital loss sustained by CBC can only be deducted from capital gains if any derived by it
during the same taxable year that the securities have become "worthless." 11
WHEREFORE, the Petition is DENIED. The decision of the Court of Appeals disallowing the claimed
deduction of P16,227,851.80 is AFFIRMED.
SO ORDERED.
G.R. Nos. L-28508-9 July 7, 1989
ESSO STANDARD EASTERN, INC., (formerly, Standard-Vacuum Oil Company)vs.
THE COMMISSIONER OF INTERNAL REVENUE
On appeal before us is the decision of the Court of Tax Appeals 1 denying petitioner's claims for refund of
overpaid income taxes of P102,246.00 for 1959 and P434,234.93 for 1960 in CTA Cases No. 1251 and
1558 respectively.
I
In CTA Case No. 1251, petitioner ESSO deducted from its gross income for 1959, as part of its ordinary
and necessary business expenses, the amount it had spent for drilling and exploration of its petroleum
concessions. This claim was disallowed by the respondent Commissioner of Internal Revenue on the
ground that the expenses should be capitalized and might be written off as a loss only when a "dry hole"
should result. ESSO then filed an amended return where it asked for the refund of P323,279.00 by reason
of its abandonment as dry holes of several of its oil wells. Also claimed as ordinary and necessary
expenses in the same return was the amount of P340,822.04, representing margin fees it had paid to the
Central Bank on its profit remittances to its New York head office.
On August 5, 1964, the CIR granted a tax credit of P221,033.00 only, disallowing the claimed deduction for
the margin fees paid.
In CTA Case No. 1558, the CR assessed ESSO a deficiency income tax for the year 1960, in the amount of
P367,994.00, plus 18% interest thereon of P66,238.92 for the period from April 18,1961 to April 18, 1964,
for a total of P434,232.92. The deficiency arose from the disallowance of the margin fees of Pl,226,647.72
paid by ESSO to the Central Bank on its profit remittances to its New York head office.
ESSO settled this deficiency assessment on August 10, 1964, by applying the tax credit of P221,033.00
representing its overpayment on its income tax for 1959 and paying under protest the additional amount of
P213,201.92. On August 13, 1964, it claimed the refund of P39,787.94 as overpayment on the interest on
its deficiency income tax. It argued that the 18% interest should have been imposed not on the total
deficiency of P367,944.00 but only on the amount of P146,961.00, the difference between the total
deficiency and its tax credit of P221,033.00.
This claim was denied by the CIR, who insisted on charging the 18% interest on the entire amount of the
deficiency tax. On May 4,1965, the CIR also denied the claims of ESSO for refund of the overpayment of
its 1959 and 1960 income taxes, holding that the margin fees paid to the Central Bank could not be
considered taxes or allowed as deductible business expenses.
ESSO appealed to the CTA and sought the refund of P102,246.00 for 1959, contending that the margin
fees were deductible from gross income either as a tax or as an ordinary and necessary business expense.
It also claimed an overpayment of its tax by P434,232.92 in 1960, for the same reason. Additionally, ESSO
argued that even if the amount paid as margin fees were not legally deductible, there was still an
overpayment by P39,787.94 for 1960, representing excess interest.
After trial, the CTA denied petitioner's claim for refund of P102,246.00 for 1959 and P434,234.92 for 1960
but sustained its claim for P39,787.94 as excess interest. This portion of the decision was appealed by the
CIR but was affirmed by this Court in Commissioner of Internal Revenue v. ESSO, G.R. No. L-28502- 03,
promulgated on April 18, 1989. ESSO for its part appealed the CTA decision denying its claims for the
refund of the margin fees P102,246.00 for 1959 and P434,234.92 for 1960. That is the issue now before
us.
II
The first question we must settle is whether R.A. 2009, entitled An Act to Authorize the Central Bank of the
Philippines to Establish a Margin Over Banks' Selling Rates of Foreign Exchange, is a police measure or a
revenue measure. If it is a revenue measure, the margin fees paid by the petitioner to the Central Bank on
its profit remittances to its New York head office should be deductible from ESSO's gross income under
Sec. 30(c) of the National Internal Revenue Code. This provides that all taxes paid or accrued during or
within the taxable year and which are related to the taxpayer's trade, business or profession are deductible
from gross income.
The petitioner maintains that margin fees are taxes and cites the background and legislative history of the
Margin Fee Law showing that R.A. 2609 was nothing less than a revival of the 17% excise tax on foreign
exchange imposed by R.A. 601. This was a revenue measure formally proposed by President Carlos P.
Garcia to Congress as part of, and in order to balance, the budget for 1959-1960. It was enacted by
Congress as such and, significantly, properly originated in the House of Representatives. During its two
and a half years of existence, the measure was one of the major sources of revenue used to finance the
ordinary operating expenditures of the government. It was, moreover, payable out of the General Fund.
On the claimed legislative intent, the Court of Tax Appeals, quoting established principles, pointed out that
—
We are not unmindful of the rule that opinions expressed in debates, actual proceedings of the legislature,
steps taken in the enactment of a law, or the history of the passage of the law through the legislature, may
be resorted to as an aid in the interpretation of a statute which is ambiguous or of doubtful meaning. The
courts may take into consideration the facts leading up to, coincident with, and in any way connected with,
the passage of the act, in order that they may properly interpret the legislative intent. But it is also well-
settled jurisprudence that only in extremely doubtful matters of interpretation does the legislative history of
an act of Congress become important. As a matter of fact, there may be no resort to the legislative history
of the enactment of a statute, the language of which is plain and unambiguous, since such legislative
history may only be resorted to for the purpose of solving doubt, not for the purpose of creating it. [50 Am.
Jur. 328.]
Apart from the above consideration, there are at least two cases where we have held that a margin fee is
not a tax but an exaction designed to curb the excessive demands upon our international reserve.
In Caltex (Phil.) Inc. v. Acting Commissioner of Customs, 2 the Court stated through Justice Jose P.
Bengzon:
A margin levy on foreign exchange is a form of exchange control or restriction designed to
discourage imports and encourage exports, and ultimately, 'curtail any excessive demand
upon the international reserve' in order to stabilize the currency. Originally adopted to cope
with balance of payment pressures, exchange restrictions have come to serve various
purposes, such as limiting non-essential imports, protecting domestic industry and when
combined with the use of multiple currency rates providing a source of revenue to the
government, and are in many developing countries regarded as a more or less inevitable
concomitant of their economic development programs. The different measures of exchange
control or restriction cover different phases of foreign exchange transactions, i.e., in
quantitative restriction, the control is on the amount of foreign exchange allowable. In the
 case of the margin levy, the immediate impact is on the rate of foreign exchange; in fact, its
main function is to control the exchange rate without changing the par value of the peso as
fixed in the Bretton Woods Agreement Act. For a member nation is not supposed to alter its
exchange rate (at par value) to correct a merely temporary disequilibrium in its balance of
payments. By its nature, the margin levy is part of the rate of exchange as fixed by the
government.
As to the contention that the margin levy is a tax on the purchase of foreign exchange and hence should
not form part of the exchange rate, suffice it to state that We have already held the contrary for the reason
that a tax is levied to provide revenue for government operations, while the proceeds of the margin fee are
applied to strengthen our country's international reserves.
Earlier, in Chamber of Agriculture and Natural Resources of the Philippines v. Central Bank, 3 the same
idea was expressed, though in connection with a different levy, through Justice J.B.L. Reyes:
Neither do we find merit in the argument that the 20% retention of exporter's foreign
exchange constitutes an export tax. A tax is a levy for the purpose of providing revenue for
government operations, while the proceeds of the 20% retention, as we have seen, are
applied to strengthen the Central Bank's international reserve.
We conclude then that the margin fee was imposed by the State in the exercise of its police power and not
the power of taxation.
Alternatively, ESSO prays that if margin fees are not taxes, they should nevertheless be considered
necessary and ordinary business expenses and therefore still deductible from its gross income. The fees
were paid for the remittance by ESSO as part of the profits to the head office in the Unites States. Such
remittance was an expenditure necessary and proper for the conduct of its corporate affairs.
The applicable provision is Section 30(a) of the National Internal Revenue Code reading as follows:
SEC. 30. Deductions from gross income 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
salaries or other compensation for personal services actually rendered; traveling expenses
while away from home in the pursuit of a trade or business; and rentals or other payments
required to be made as a condition to the continued use or possession, for the purpose of
the trade or business, of property to which the taxpayer has not taken or is not taking title or
in which he has no equity.
(2) Expenses allowable to non-resident alien individuals and foreign corporations. — In the
case of a non-resident alien individual or a foreign corporation, the expenses deductible are
the necessary expenses paid or incurred in carrying on any business or trade conducted
within the Philippines exclusively.
In the case of Atlas Consolidated Mining and Development Corporation v. Commissioner of Internal
Revenue, 4 the Court laid down the rules on the deductibility of business expenses, thus:
The principle is recognized that when a taxpayer claims a deduction, he must point to some
specific provision of the statute in which that deduction is authorized and must be able to
prove that he is entitled to the deduction which the law allows. As previously adverted to,
the law allowing expenses as deduction from gross income for purposes of the income tax
is Section 30(a) (1) of the National Internal Revenue which allows a deduction of 'all the
ordinary and necessary expenses paid or incurred during the taxable year in carrying on
any trade or business.' An item of expenditure, in order to be deductible under this section
of the statute, must fall squarely within its language.
We come, then, to the statutory test of deductibility where it is axiomatic that to be
deductible as a business expense, three conditions are imposed, namely: (1) the expense
must be ordinary and necessary, (2) it must be paid or incurred within the taxable year, and
 (3) it must be paid or incurred in carrying on a trade or business. In addition, not only must
the taxpayer meet the business test, he must substantially prove by evidence or records the
deductions claimed under the law, otherwise, the same will be disallowed. The mere
allegation of the taxpayer that an item of expense is ordinary and necessary does not justify
its deduction.
While it is true that there is a number of decisions in the United States delving on the
interpretation of the terms 'ordinary and necessary' as used in the federal tax laws, no
adequate or satisfactory definition of those terms is possible. Similarly, this Court has never
attempted to define with precision the terms 'ordinary and necessary.' There are however,
certain guiding principles worthy of serious consideration in the proper adjudication of
conflicting claims. Ordinarily, an expense will be considered 'necessary' where the
expenditure is appropriate and helpful in the development of the taxpayer's business. It is
'ordinary' when it connotes a payment which is normal in relation to the business of the
taxpayer and the surrounding circumstances. The term 'ordinary' does not require that the
payments be habitual or normal in the sense that the same taxpayer will have to make them
often; the payment may be unique or non-recurring to the particular taxpayer affected.
There is thus no hard and fast rule on the matter. The right to a deduction depends in each
case on the particular facts and the relation of the payment to the type of business in which
the taxpayer is engaged. The intention of the taxpayer often may be the controlling fact in
making the determination. Assuming that the expenditure is ordinary and necessary in the
operation of the taxpayer's business, the answer to the question as to whether the
expenditure is an allowable deduction as a business expense must be determined from the
nature of the expenditure itself, which in turn depends on the extent and permanency of the
work accomplished by the expenditure.
In the light of the above explanation, we hold that the Court of Tax Appeals did not err when it held on this
issue as follows:
Considering the foregoing test of what constitutes an ordinary and necessary deductible
expense, it may be asked: Were the margin fees paid by petitioner on its profit remittance to
its Head Office in New York appropriate and helpful in the taxpayer's business in the
Philippines? Were the margin fees incurred for purposes proper to the conduct of the affairs
of petitioner's branch in the Philippines? Or were the margin fees incurred for the purpose of
realizing a profit or of minimizing a loss in the Philippines? Obviously not. As stated in the
Lopez case, the margin fees are not expenses in connection with the production or earning
of petitioner's incomes in the Philippines. They were expenses incurred in the disposition of
said incomes; expenses for the remittance of funds after they have already been earned by
petitioner's branch in the Philippines for the disposal of its Head Office in New York which is
already another distinct and separate income taxpayer.
xxx
Since the margin fees in question were incurred for the remittance of funds to petitioner's
Head Office in New York, which is a separate and distinct income taxpayer from the branch
in the Philippines, for its disposal abroad, it can never be said therefore that the margin fees
were appropriate and helpful in the development of petitioner's business in the Philippines
exclusively or were incurred for purposes proper to the conduct of the affairs of petitioner's
branch in the Philippines exclusively or for the purpose of realizing a profit or of minimizing
a loss in the Philippines exclusively. If at all, the margin fees were incurred for purposes
proper to the conduct of the corporate affairs of Standard Vacuum Oil Company in New
York, but certainly not in the Philippines.
ESSO has not shown that the remittance to the head office of part of its profits was made in furtherance of
its own trade or business. The petitioner merely presumed that all corporate expenses are necessary and
appropriate in the absence of a showing that they are illegal or ultra vires. This is error. The public
respondent is correct when it asserts that "the paramount rule is that claims for deductions are a matter of
legislative grace and do not turn on mere equitable considerations ... . The taxpayer in every instance has
the burden of justifying the allowance of any deduction claimed." 5
It is clear that ESSO, having assumed an expense properly attributable to its head office, cannot now claim
this as an ordinary and necessary expense paid or incurred in carrying on its own trade or business.
WHEREFORE, the decision of the Court of Tax Appeals denying the petitioner's claims for refund of
P102,246.00 for 1959 and P434,234.92 for 1960, is AFFIRMED, with costs against the petitioner.
SO ORDERED.
G.R. No. L-13912 September 30, 1960
THE COMMISSIONER OF INTERNAL REVENUE vs.CONSUELO L. VDA. DE PRIETO
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. (Federal Taxes Vol. 2, p. 13,019, Prentice-Hall, Inc.; Merten's Law of Federal Income
1awphîl.nèt

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.