Exclusions Tax

EXCLUSIONS FROM GROSS INCOME AND EXEMPT CORPORATIONS
A. Exclusions From Gross Income
The term GROSS INCOME does not include those items exempted by the statute or by the fundamental law.
The exclusion of such income should not be confused with the reduction of gross income by the application of allowable
deductions. Exclusions are in the nature of tax exemptions.
1. Rationale of the exclusions: it is important to identify these exclusions and exempt icome so that they are not included
in the taxable income reported by the taxpayer in his/its tax return. It is generally difficult to recover from the government
whatever taxes were erroneously or illegally paid to it, not to mention the inconvenience a tax audit partakes. Moreover,
the burden of proving that the taxpayer is entitled to the tax credit or refund is placed on the shoulder of the taxpayer
claiming it and any doubt in respect thereto is generally construed strictly against the taxpayer. Also , the right to recover
erroneously or illegally paid taxes is subject to the statute of limitations, and the written claim for tax credit refund must
be filed with the BIR and the CTA within two years from the date of payment; otherwise, it shall be barred forever.
While the Tax Code enumerates certain non stock, non profit associations that are exempt from income tax dues and
assessments from members, it must be remembered that their income from property, real or personal or from activity
conducted for profit, regardless of the disposition of the proceeds of the sale or income , shall be taxable to them based
on the last paragraph of Section 30 of the Tax Code.
2. Tax payers who may avail of the exclusions
3. Exclusions distinguished from deductions and tax credit
4. Under the Constitution: All assets and revenues of a non stock non profit private educational institution used directly ,
actually and exclusively for private educational purposes shall be exempt from taxation.
a. Income derived by the government or its political subdivision from the exercise of any essential governmental function.
Section 32. Gross Income. - (B) Exclusions from Gross Income. - The following items shall not be included in gross income
and shall be exempt from taxation under this title:
(7) Miscellaneous Items. (a) Income Derived by Foreign Government. - Income derived from investments in the Philippines in loans, stocks, bonds
or other domestic securities, or from interest on deposits in banks in the Philippines by (i) foreign governments, (ii)
financing institutions owned, controlled, or enjoying refinancing from foreign governments, and (iii) international or
regional financial institutions established by foreign governments.
(b) Income Derived by the Government or its Political Subdivisions. - Income derived from any public utility or from the
exercise of any essential governmental function accruing to the Government of the Philippines or to any political
subdivision thereof.
1987 C ARTICLE XIV. Section 4.
3. All revenues and assets of non-stock, non-profit educational institutions used actually, directly, and exclusively for
educational purposes shall be exempt from taxes and duties. Upon the dissolution or cessation of the corporate existence
of such institutions, their assets shall be disposed of in the manner provided by law.
Proprietary educational institutions, including those cooperatively owned, may likewise be entitled to such exemptions,
subject to the limitations provided by law, including restrictions on dividends and provisions for reinvestment.
4. Subject to conditions prescribed by law, all grants, endowments, donations, or contributions used actually, directly, and
exclusively for educational purposes shall be exempt from tax.
Article 6. 28 (3) Charitable institutions, churches and personages or convents appurtenant thereto, mosques, non-profit
cemeteries, and all lands, buildings, and improvements, actually, directly, and exclusively used for religious, charitable, or
educational purposes shall be exempt from taxation.
5. Under the tax Code (SECTION 32)
a. PROCEEDS OF LIFE INSURANCE POLICIES
nirc 32 B (1)
sec 62 RR 2
b. RETURN OF PREMIUM PAID
32 B 2
sec 48 rr2
c. Value of property acquired by gift, bequest, devise, or descent
32 B 3
d. Amounts received through accident or health insurance
32 B 4, sec 63 RR2
e. Income exempt under tax treaty
32 B 5
f. retirement benefits, pensions, gratuities etc.

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i. Retirement benefits received under RA 7641 4917 and Sec 60 B NIRC : retirement benefits received under
RA 7641 and those received by officials and employees of private firms, whether individual or corporate, in
accordance with reasonable private benefit plan maintained by the employer (under RA 4917) provided that the
retiring official has been in the service of the same employer for atleast 10 years and is not less than 50 years
of age at the time of his retirement, and the benefit shall be availed of by an official or employee only once.
The tax exemption privilege of employees‘s trusts springs from 60 B nirc, which specifically exempts
them from income tax. The law (RA 1983) has singled out employee‘s trust for tax exemption.
Employee‘s trusts or benefit plans normally provide economic assistance to employees upon the
occurrence of certain contingencies, particularly old age, retirement, death, sickness or disability. It is
an independent additional source of protection for the working group.
To qualify for exemption, the employee‘s trust fund must refer to a definite program, scheme or plan;
it must be set up in good faith and must be actuarially sound.
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ii. Separation pay for causes beyond control of employees: amount received by an official or employee or by his
heirs from the employer as a consequence of separation of such official or employee from the service of the
employer because of death, sickness, or other physical disability or for any cause beyond the control of said
official or employee.
The phrase ―for any cause beyond the control of the said official or employee ‖means that the separation of the employee
must be involuntary and not initiated by him. Retrenchment of the employee due to unfavourable business conditions or
financial reverses is considered as involuntary. NO withtholding of tax is therefore necessary to be deducted by the
employer from the separation pay. Thus if the employee is separated under a Voluntary Separation Program of his
employer, any separation pay received by the employee thereat shall be taxable.
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iii. Retirement benefits from foreign government agencies; and other similar benefits received by non resident
or resident citizens of the Ph or aliens who come to reside permanently in the Ph from foreign government
agencies and other institutions , private or public
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iv. Payments of benefits due or to become due to any person residing in the Ph under the laws of the US
administered by the US Veterans administration
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also benefits received from or enjoyed under SSS, GSIS , RA 8291 including gratuity received by government
officials and employees.
g. Certain passive income of foreign governments from their Philippine investments
Section 32 B 7 pp 167-169
(7) Miscellaneous Items. – Income Derived by Foreign Government. - Income derived from investments in the Philippines
in loans, stocks, bonds or other domestic securities, or from interest on deposits in banks in the Philippines by (i) foreign
governments, (ii) financing institutions owned, controlled, or enjoying refinancing from foreign governments, and (iii)
international or regional financial institutions established by foreign governments.
h. winnings/ prizes
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i. Ph Charity sweepstakes and lotto winnings Sec 24 B (1) NIRC
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ii. Prizes and awards in sports competitions sec 32 B 7 (d), RA 7549
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iii. Prizes and awards/religious, charitable, scientific, artistic/ literary sec 32 B 7 (c) – requisites for exclusion:
(c) Prizes and Awards. - Prizes and awards made primarily in recognition of religious, charitable,
scientific, educational, artistic, literary, or civic achievement but only if:
(i) The recipient was selected without any action on his part to enter the contest or proceeding; and
(ii) The recipient is not required to render substantial future services as a condition to receiving the prize or
award.
i. gains from sale of bonds, debentures, and other certificates of indebtedness 32 B 7 (g) with a maturity of more than five
(5) years.
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gains cannot include interest, since it clearly refers to gains from the sale of bonds, debentures, and other
certificates of indebtedness.
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Whereas the term gains includes interest from a general sense, this rule cannot be applied to Sec 32B (7) (g)
in the specific sense. Section 32A defines gross income and it is clear that there is a distinction between gains
derived from dealings in property and interests. Gains realized from the sale or exchange or retirement bonds,
debentures and other certificates of indebtedness would fall under the category of gains derived from dealings
in property.
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On the other hand, ―interests‖ would include interest from bonds, debentures, and other certificates of
indebtedness.
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Only citizens , resident aliens and NRA engaged in trade or business are exempt from income tax on interest
from long term deposit or investment. On the other hand, domestic and RFC are subject to a 20% final tax on
such interest.
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If Congress intended to exempt interest from bonds, debentures and other certificates of indebtedness under
Section 32B 7(g), it would have done so in clear and specific terms. After all, exemptions are construed strictly
agains the taxpayer.
j. Gains from redemption of shares in mutual fund 32 B 7 (h)
k. Interest income from long term deposit or investment
Section 22. Definitions - When used in this Title: (FF) The term 'long-term deposit or investment certificates' shall
refer to certificate of time deposit or investment in the form of savings, common or individual trust funds,
deposit substitutes, investment management accounts and other investments with a maturity period of not

less than five (5) years, the form of which shall be prescribed by the Bangko Sentral ng Pilipinas (BSP) and issued by
banks only (not by nonbank financial intermediaries and finance companies) to individuals in denominations of Ten
thousand pesos (P10,000) and other denominations as may be prescribed by the BSP.
Section 24. Income Tax Rates. (B) Rate of Tax on Certain Passive Income. (1) Interests, Royalties, Prizes, and Other
Winnings. xx That interest income from long-term deposit or investment in the form of savings, common or
individual trust funds, deposit substitutes, investment management accounts and other investments
evidenced by certificates in such form prescribed by the Bangko Sentral ng Pilipinas (BSP) shall be exempt
from the tax imposed under this Subsection: Provided, finally, That should the holder of the certificate pre-terminate
the deposit or investment before the fifth (5th) year, a final tax shall be imposed on the entire income and shall be
deducted and withheld by the depository bank from the proceeds of the long-term deposit or investment certificate based
on the remaining maturity thereof:
Section 25. Tax on Nonresident Alien Individual. - (A) Nonresident Alien Engaged in trade or Business Within the
Philippines. (2) Cash and/or Property Dividends from a Domestic Corporation or Joint Stock Company, or Insurance or Mutual Fund

Company or Regional Operating Headquarter or Multinational Company, or Share in the Distributable Net Income of a
Partnership (Except a General Professional Partnership), Joint Account, Joint Venture Taxable as a Corporation or
Association., Interests, Royalties, Prizes, and Other Winnings. -

xx Provided, furthermore, That interest income from long-term deposit or investment in the form of
savings, common or individual trust funds, deposit substitutes, investment management accounts and
other investments evidenced by certificates in such form prescribed by the Bangko Sentral ng Pilipinas
(BSP) shall be exempt from the tax imposed under this Subsection: Provided, finally, that should the holder of
the certificate pre-terminate the deposit or investment before the fifth (5th) year, a final tax shall be imposed on the
entire income and shall be deducted and withheld by the depository bank from the proceeds of the long-term deposit or
investment certificate based on the remaining maturity thereof:
Four (4) years to less than five (5) years - 5%;
Three (3) years to less than four (4) years - 12%; and
Less than three (3) years - 20%.
note: exemption applies only to individual taxpayers except no resident alien not engaged in trade or business. They are
taxed at 25%.
For corporate taxpayers - NO EXEMPTION
l. Gain derived from buying and selling of shares of stocks classified as capital asset, listed and traded in the local
exchange --- excluded / exempt from income tax but subject to percentage tax.
Sec 127 NIRC, RR 6-08
6. Under a tax treaty: income of any kind , to the extent required by any treaty obligation binding upon the Government,
is exempt from income tax.
7. Under Special laws pp 151 -157
B. EXEMPT CORPORATIONS
Section 30. Exemptions from Tax on Corporations. - The following organizations shall not be taxed under
this Title in respect to income received by them as such:
(A) Labor, agricultural or horticultural organization not organized principally for profit;
(B) Mutual savings bank not having a capital stock represented by shares, and cooperative bank without capital stock
organized and operated for mutual purposes and without profit;
(C) A beneficiary society, order or association, operating fort he exclusive benefit of the members such as a fraternal
organization operating under the lodge system, or mutual aid association or a nonstock corporation organized by
employees providing for the payment of life, sickness, accident, or other benefits exclusively to the members of such
society, order, or association, or nonstock corporation or their dependents;
(D) Cemetery company owned and operated exclusively for the benefit of its members;
(E) Nonstock corporation or association organized and operated exclusively for religious, charitable, scientific, athletic, or
cultural purposes, or for the rehabilitation of veterans, no part of its net income or asset shall belong to or inures to the
benefit of any member, organizer, officer or any specific person;
(F) Business league chamber of commerce, or board of trade, not organized for profit and no part of the net income of
which inures to the benefit of any private stock-holder, or individual;
(G) Civic league or organization not organized for profit but operated exclusively for the promotion of social welfare;

(H) A nonstock and nonprofit educational institution;
(I) Government educational institution;
(J) Farmers' or other mutual typhoon or fire insurance company, mutual ditch or irrigation company, mutual or
cooperative telephone company, or like organization of a purely local character, the income of which consists solely of
assessments, dues, and fees collected from members for the sole purpose of meeting its expenses; and
(K) Farmers', fruit growers', or like association organized and operated as a sales agent for the purpose of marketing the
products of its members and turning back to them the proceeds of sales, less the necessary selling expenses on the basis
of the quantity of produce finished by them;
Notwithstanding the provisions in the preceding paragraphs, the income of whatever kind and character of the foregoing
organizations from any of their properties, real or personal, or from any of their activities conducted for profit regardless
of the disposition made of such income, shall be subject to tax imposed under this Code.
Section 27. Rates of Income tax on Domestic Corporations. - (C) Government-owned or ControlledCorporations, Agencies or Instrumentalities. - The provisions of existing special or general laws to the contrary
notwithstanding, all corporations, agencies, or instrumentalities owned or controlled by the Government, except the
Government Service Insurance System (GSIS), the Social Security System (SSS), the Philippine Health Insurance
Corporation (PHIC), the Philippine Charity Sweepstakes Office (PCSO) and the Philippine Amusement and Gaming
Corporation (PAGCOR), shall pay such rate of tax upon their taxable income as are imposed by this Section upon
corporations or associations engaged in s similar business, industry, or activity.
REVENUE MEMORANDUM CIRCULAR No. 76-2003
NON-STOCK, NON-PROFIT CORPORATIONS
Organizations enumerated under Section 30 of the Tax Code of 1997 are exempt from the payment of income tax on
income received by them as such organization.
However, they are subject to the corresponding internal revenue taxes imposed under the Tax Code of 1997 on their
income derived from any of their properties, real or personal, or any activity conducted for profit regardless
of the
disposition thereof (i.e. rental payment from their building/premises), which income should be returned for taxation.
In addition, their interest income from currency bank deposits and yield or any other monetary benefit from deposit
substitute instruments and from trust funds and similar arrangement, and royalties derived from sources within the
Philippines are subject
to the 20% final withholding tax: provided, however, that interest income derived by them from a depository bank
under the expanded foreign currency deposit system shall be subject to 71/2% final withholding tax pursuant
to Section 27(D)(1) in relation to Section 57(A), both of the Tax Code of 1997.
It shall also be constituted as a withholding agent for the government if they acts as an employer and any of their
employee receives compensation income subject to withholding tax under Section 79(A), Chapter XIII, Title II of the Tax
Code of 1997, as
implemented by Revenue Regulations No. 2-98, or if they makes income payments to individuals or corporations subject
to the withholding tax provided for in Section 57 of the Tax Code of 1997, also as implemented by Revenue Regulations
No. 2-98.
NON-STOCK, NON-PROFIT EDUCATIONAL INSTITUTIONS
The exemption of non-stock, non-profit educational institutions refers to internal revenue taxes imposed by the National
Government on all revenues and assets used actually, directly and exclusively for educational purposes
(Paragraph 3, Section 4, Article XIV of the Constitution).
Furthermore, revenues derived from assets used in the operation of cafeterias/canteens and bookstores are exempt from
taxation provided they are owned and operated by the educational institution as ancillary activities and the same are
located
within the school premises.
Pursuant to Section 109(m) of the Tax Code of 1997, private educational institutions shall be exempt from value-added
tax provided they are accredited as such either by the Department of Education, Culture and Sports or by the Commission
on Higher Education. However, this exemption does not extend to their other activities involving sale of goods and
services.
However, they shall be subject to internal revenue taxes on income from trade, business or other activity, the conduct
of which is not related to the exercise or performance by such educational institutions of their educational
purposes or functions (Sec. 2, Finance Department Order No. 137-87 as amended by Finance Department Order No.
92-88) i. e. rental payment from their building/premises.
Unlike non-stock, non-profit corporations, their interest income from currency bank deposits and yield from deposit
substitute instruments used actually, directly and exclusively in pursuance of their purposes as an educational
institution, are exempt from the 20% final tax and 7 ½% tax on interest income under the expanded foreign
currency

deposit system imposed under Section 27(D)(1) of the Tax Code of 1997, subject to compliance with the conditions that
as a tax-exempt educational institution, they shall on an annual basis submit to the Revenue District Office concerned an
annual information
return and duly audited financial statement together with the following: xxx
Finally, the exemption does not cover withholding taxes. As an educational institution, they are constituted as withholding
agents for the government required to withhold the tax on compensation income of their employees, or the withholding
tax on
income payments to persons subject to tax pursuant to Section 57 of the Tax Code of 1997.
In both cases, in order to monitor the activities being conducted by these institutions, it is mandatory that they should
maintain their respective set of books of accounts as prescribed in Section 235 of the Tax Code of 1997.
Furthermore, both institutions are subject to the payment of the annual registration fee of P500.00 as prescribed in
Section 236(B) of the Tax Code of 1997. They are also required under Section 6(C) in relation to Section 237 of the same
Code to issue duly
registered receipts or sales or commercial invoices for each sale or transfer of merchandise or for services rendered which
are not directly related to the activities for which they are registered.
VI. COSTS, DEDUCTIONS, AND PERSONAL EXEMPTIONS
A. Deductions from Gross Income, General rules
1. Deductions construed strictly against taxpayers claiming it: he who claims a deduction must point to the specific
provision of the statute authorizing it, and he must be able to prove that he is entitled to it. If the exemption is not
expressly stated in the law, the taxpayer must atleast be within the purview of the exemption by clear legislative intent.
However, if there is an express mention or if the taxpayer falls within the purview of the exemption by clear legislative
intent, the rule on strict construction will not apply.
2. Deductions must be paid or incurred in connection with the taxpayer‘s trade, business, or profession.
3. Deductions must be supported by adequate receipts or invoices (except for optional standard dedccution)
B. Return of Capital (Cost of Sales/ services)
1. Sale of inventory or goods by manufacturers and dealers of properties
2. Sale of stock in trade by a real estate dealer and dealer in securities
3. Sale of Services
C. Itemized Deductions
1. Business expenses

a. Requisites/Conditions for deductibility
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Nature: Ordinary and necessary
o
ORDINARY – an expense is ordinary when it connotes a payment which is normal in relation to the
business of the taxpayer and the surrounding circumstances.
o
NECESSARY – an expense is necessary where the expenditure is appropriate or helpful in the
development of the taxpayer‘s business or that the same is proper for the purpose of realizing a profit
or minimizing the loss.

Professional fees: deductible in the year the professional services are rendered, not in
the year they are billed, provided that the all events test is present.

Accrual of income and expense is permitted when the all events test has been met.
Requirements:
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1. Fixing a right to income or liability to pay and
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The availability of reasonably accurate determination of such income or liability.

It does not demand that the amount of income or liability be known absolutely, it
only requires that a taxpayer has at its disposal the information necessary to
compute the amount with reasonable accuracy, which implies less than an exact
or completely accurate amount.

Compensation for personal services: among the ordinary and necessary expenses paid
or incurred in carrying a trade or business may be included a reasonable allowance for
salaries or other compensation for services actually rendered. EER must exist. The test of
deductibility in the case of compensation payments is whether they are reasonable and are
in fact payments purely for service. It may be paid in money or in some medium other than
money such as stocks, bonds or other forms of property. If services are paid for in a
medium other than money, the FMV of the thing take in payment is the amount to be
included as compensation.
If the services are rendered at a stipulated price, such price will be presumed to be the FMV
of the remuneration received. If a corporation transfers to its employees its own stock as

remuneration for services rendered by the employee, the amount of such remuneration is
the FMV of the stock at the time of the transfer.


Paid and incurred during the taxable year
The deductibility of salaries from gross income must meet and comply with the following requisites:
(a) the expense must be both ordinary and necessary;
(b) the salaries 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
(d) the expense must be in fact salaries or other compensation
(e) the salaries must be for personal services actually rendered
(f) the salaries must be reasonable in amount.
CIR vs General Foods: 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.
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.
HELD: 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. For
an expense to be considered ordinary, it must be reasonable in amount.
CIR vs Isabela Cultural Corporation: 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".

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

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. 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 1986 and could therefore be properly claimed as deductions
for the said year.

b. Salaries, wages and other forms of compensation for personal services actually rendered, INCLUDING the grossed-up
monetary value of the fringe benefit subjected to FBT which tax should have been paid.
Section 34. Deductions from Gross Income. - Except for taxpayers earning compensation income arising from
personal services rendered under an employer-employee relationship where no deductions shall be allowed under this

Section other than under subsection (M) hereof, in computing taxable income subject to income tax under Sections 24
(A); 25 (A); 26; 27 (A), (B) and (C); and 28 (A) (1), there shall be allowed the following deductions from gross income;
(A) Expenses. (1) Ordinary and Necessary Trade, Business or Professional Expenses.-xxx
(a) In General. - There shall be allowed as deduction from gross income all the 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,xx
(b) Substantiation Requirements.
(c) Bribes, Kickbacks and Other Similar Payments.
(2) Expenses Allowable to Private Educational Institutions. – xxx
cases:
Kuenzle & Streiff, Inc. vs. Commissioner of Internal Revenue: the employer has the right to fix the compensation of its
officers and employees and pay the bonunses. However, said employer cannot legally deduct bonuses from gross income
unless they are shown to be reasonable exeonses/ To hold otherwise would open the gate of rampant tax evasion.
CM Hoskins s CIR:
Kuenzle & Streiff, Inc. vs. Commissioner of Internal Revenue: reaffirmed the test of reasonableness, that: "It is a
general rule that 'Bonuses to employees made in good faith and as additional compensation for the services
actually rendered by the employees are deductible, provided such payments, when added to the stipulated
salaries, do not exceed a reasonable compensation for the services rendered'.
The conditions precedent to the deduction of bonuses to employees are:
(1) the payment of the bonuses is in fact compensation;
(2) it must be for personal services actually rendered; and
(3) the bonuses, when added to the salaries, are 'reasonable . . . when measured by the amount and quality of the
services performed with relation to the business of the particular taxpayer'
"There is no fixed test for determining the reasonableness of a given bonus as compensation. This depends upon many
factors, one of them being 'the amount and quality of the services performed with relation to the business.' Other tests
suggested are: payment must be 'made in good faith'; 'the character of the taxpayer's business, the volume and amount
of its net earnings, its locality, the type and extent of the services rendered, the salary policy of the corporation'; 'the size
of the particular business'; 'the employees' qualifications and contributions to the business venture'; and 'general
economic conditions'. Ordinarily, no single factor is decisive. .
Petitioner's case fails to pass the test. On the right of the employer as against respondent Commissioner to fix the
compensation of its officers and employees, we there held further that while the employer's right may be conceded, the
question of the allowance or disallowance thereof as deductible expenses for income tax purposes is subject to
determination by respondent Commissioner of Internal Revenue.
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."
NOTES:
BONUSES TO EMPLOYEES: will constitute allowable deductions from gross income when such payments are made in good
faith and as additional compensation for the services actually rendered by the employees, provided such payments when
added to the stipulated salaries, do not exceed a reasonable compensation for the service rendered. It is
immaterial whether such bonuses are paid in cash or in kind.
Donations made to employees and others which do not have in them the element of compensation or are in excess of
reasonable compensation for services are not deductible from gross income.
TREATMENT OF EXCESSIVE COMPENSATION – Aguinaldo Industries Corp vs Collector: (sometimes excessive payments
will be treated as dividends and not deductible) there are good reasons for limiting the additional compensation in the
form of percentage of the profits from the business operation of the company. Its object is to stimulate the activity,
diligence and ambition of the officers or employees and to enable the employer to justly compensate its employees. The
provision granting certain percentage of profit should be limited to profit derived from the corp.
CHRISTMAS BONUSES: deductible if intended as additional compensation. But where such bonuses are considered as out
and out gifts, they are gratitude and are not deductible.
Aguinold vs Commissioner: (1) whether or not the bonus given to the officers of the petitioner upon the sale of its
Muntinglupa land is an ordinary and necessary business expense deductible for income tax purposes;

held: he applicable legal provision is Sec. 30 (a) (1) of the Tax Code which reads: In computing net income
there shall be allowed as deductions — (a)
Expenses: (1) In general. All the Ordinary and necessary

expenses paid or incurred during the taxable year in carrying on any trade or business, including a reasonable
allowance for personal services actually rendered. ...

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




On the basis of the foregoing standards, the bonus given to the officers of the petitioner as their share of the
profit realized from the sale of petitioner's Muntinglupa land cannot be deemed a deductible expense for tax
purposes, even if the aforesaid sale could be considered as a transaction for carrying on the trade or business of
the petitioner and the grant of the bonus to the corporate officers pursuant to petitioner's by-laws could, as an
intra-corporate matter, be sustained.
The records show that the sale was effected through a broker who was paid by petitioner a commission (51k)
for his services. On the other hand, there is absolutely no evidence of any service actually rendered by
petitioner's officers which could be the basis of a grant to them of a bonus out of the profit derived from the
sale.
This being so, the payment of a bonus to them out of the gain realized from the sale cannot be considered as a
selling expense; nor can it be deemed reasonable and necessary so as to make it deductible for tax purposes.
Doctrine (construing Section 30 (a) (1) of the Tax Code): whenever a controversy arises on the
deductibility, for purposes of income tax, of certain items for alleged compensation of officers of the taxpayer,
two (2) questions become material, namely: (a) Have personal services been actually rendered by said officers?
(b) In the affirmative case, what is the reasonable allowance' therefor
These extraordinary and unusual amounts paid by petitioner to these directors in the guise and form of
compensation for their supposed services as such, without any relation to the measure of their actual services,
cannot be regarded as ordinary and necessary expenses within the meaning of the law.
This posture is in line with the doctrine in the law of taxation that the taxpayer must show that its claimed
deductions clearly come within the language of the law since allowances, like exemptions, are matters of
legislative grace.

c. Traveling/ Transportation expenses:




travelling expenses, as ordinarily understood include transportation expenses and meals and lodging. If the trip
is undertaken for other than business purposes, the transportation expenses are personal expenses, and the
meals and lodging are living expenses and therefore not deductible.
If the trip is solely on business, the reasonable and necessary travelling expenses etc become business
expenses. \
If an individual whose business requires him to travel receives salary as full compensation for his services,
without reimbursement for travelling expenses, or is employed on a commission basis with no expense
allowance, his travelling expenses and the entire amount expended for meals etc are DEDUCTIBLE from gross
income.

d. Cost of materials

Taxpayers carrying materials and supplies on hand should include in expenses the charges for materials and
supplies only to the amount that they are actually consumed and used in operation during the year for which
the return is made, provided that the cost of such materials and supplies has not been deducted in determining
the net income for any previous year.

If a taxpayer carries incidental materials or supplies on hand for which no record of consumption is kept or of
which physical inventories at the beginning and end of the year are not take, it will be permissible for the
taxpayer to include in his expenses and deduct from gross income the total cost of such supplies and materials
as were purchased during the year for which the return is made, provided the net income is clearly reflected by
this method.
e. Rentals and/or other payments for use or possession of property.

Where a leasehold is acquired for business purposes for a specified sum, the purchaser may take as a deduction
in his return an adequate part of such sum each year, based on the number of years the lease has to run. Taxes
paid by a tenant to or for a landlord for business property are additional rent and constitute a deductible item to
the tenant and taxable income to the landlord; the amount of tax being deductible by the latter.

The cost borne by the lessee in erecting buildings or making permanent improvements on ground of which he is
lessee is held to be a capital investment and not deductible as a business expense. In order to return such
taxpayer his investment capital an annual deduction may be made from gross income of an amount equal to the
cost of such improvements divided by the number of years remaining of the term of lease, and such deduction
shall be in lieu of a deduction for depreciation.

If the remainder of the lease is greater than the probable life of the buildings erected, or of the improvements
made, this deduction shall take the form of an allowance for depreciation.
f. repairs and maintenance




The cost of incidental repairs which neither materially add to the value of the property nor appreciable prolong
its life but keep it in an ordinarily efficient operation condition, may be deducted as expense, provided the plant
or property account is not increased by the amount of such expenditure.
Repairs in the nature of replacement, to the extent that they arrest deterioration and appreciable prolong the
life of the property should be charged against the depreciation reserves if such account is kept.
Incidental repairs, to be deductible must not appreciably prolong the life of the property. The life referred to is
the probable, normal, useful life for the purpose of the allowance for the return of the capital investment –not
what the life would have been if no repairs had been made after the property was damaged by a casualty.

g. Expenses under lease agreements
h. expenses for professionals





A professional may claim as deductions the cost of supplies used by him in the practice of his profession,
expenses paid in the operation and repair of transportation equipment and used in making professional calls,
dues to professional societies and subscriptions to professional journals, rent paid for office rooms, fuel, light,
water, fone, etc and the hire of office assistants.
Amounts currently expanded for books, furniture and professional instruments , the useful life of which is short,
may be deducted. But amounts spent for books furniture, professional instr etc of a permanent character is
not allowable as deductions.

i. entertainment expenses

Entertainment, amusement and recreation expenses that are directly connected to the development
management and operation of the trade, business or profession of the taxpayer or that are directly related to or
in furtherance of the conduct of his trade business s or exercise of profession not to exceed such ceilings
prescribed by the SoF, taking into consideration the needs as well as the circumstances, nature, and character
of the industry, trade business or profession shall be deductible from gross income.

However any amount incurred for entertainment, amusement or recreation that is contrary to law, morals,
public policy or public order shall in no case be allowed as a deduction.

In this connection, seller of goods or properties are allowed to deduct ½ percent (0.5%) of their net sales as
representation expenses, while sellers of services are granted 1% in their net revenues as representation
expenses.
RR 10-22
The term “Representation Expenses” shall refer to expenses incurred by a taxpayer in connection with the conduct of
his trade, business or exercise of profession, in entertaining, providing amusement and recreation to, or meeting with, a
guest or guests at a dining place, place of amusement, country club, theater, concert, play, sporting event, and similar
events or places. For purposes of these Regulations, representation expenses shall not refer to fixed representation
allowances that are subject to withholding tax on wages pursuant to appropriate revenue regulations.XX
The term “Entertainment Facilities” shall refer to (1) a yacht, vacation home or condominium; and (2) any
similar item of real or personal property used by the taxpayer primarily for the entertainment, amusement, or recreation
of guests or employees. To be considered an entertainment facility, such yacht, vacation home or condominium, or item
of real or personal property must be owned or form part of the taxpayer‘s trade, business or profession, or rented by such
taxpayer, for which the taxpayer claims a depreciation or rental expense. A yacht shall be considered an entertainment
facility under these Regulations if its use is in fact not restricted to specified officers or employees or positions in such a
manner as to make the same a fringe benefit for purposes of imposing the fringe benefits tax.
SECTION 3. EXCLUSIONS - The following expenses are not considered entertainment, amusement and recreation
expenses as defined under Section 2 hereof:
a.
Expenses which are treated as compensation or fringe benefits for services rendered under an employeremployee relationship, pursuant to Revenue Regulations 2-98, 3-98 and amendments thereto;
b.
Expenses for charitable or fund raising events;
c.
Expenses for bonafide business meeting of stockholders, partners or directors;
d.
Expenses for attending or sponsoring an employee to a business league or professional organization meeting;
e.
Expenses for events organized for promotion, marketing and advertising including concerts, conferences,
seminars, workshops, conventions, and other similar events;
f.
Other expenses of a similar nature.
Notwithstanding the foregoing, such items of exclusions may, nonetheless, qualify as items of deduction under Section 34
of the Tax Code of 1997, subject to conditions for deductibility stated therein.
SECTION 4. REQUISITES OF DEDUCTIBILITY OF ―ENTERTAINMENT, AMUSEMENT AND RECREATION EXPENSE‖ - The
following are the requisites for deductibility of entertainment, amusement and recreation expense as defined above
subject to the ceiling prescribed under Section 5 of these Regulations:
a.
It must be paid or incurred during the taxable year;
b.
It must be: (i) directly connected to the development, management and operation of the trade, business or
profession of the taxpayer; or
(ii)
directly related to or in furtherance of the conduct of his or its trade, business or exercise of a profession;
c.
It must not be contrary to law, morals, good customs, public policy or public order;
d.
It must not have been paid, directly or indirectly, to an official or employee of the national government, or any
local government unit, or of any government-owned or controlled corporation (GOCC), or of a foreign government, or to a
private individual, or corporation, or general professional partnership (GPP), or a similar entity, if it constitutes a bribe,
kickback or other similar payment;
e.
It must be duly substantiated by adequate proof. The official receipts, or invoices, or bills or statements of
accounts should be in the name of the taxpayer claiming the deduction; and
f.
The appropriate amount of withholding tax, if applicable, should have been withheld therefrom and paid to the
Bureau of Internal Revenue.
SECTION 5. CEILING ON ENTERTAINMENT, AMUSEMENT, AND RECREATION EXPENSE – There shall be allowed a
deduction from gross income for entertainment, amusement and recreation expense, as defined in Section 2 of these
Regulations, in an amount equivalent to the actual entertainment, amusement and recreation expense paid or incurred
within the taxable year by the taxpayer, but in no case shall such deduction exceed 0.50 percent (%) of net sales (i.e.,
gross sales less sales returns/allowances and sales discounts) for taxpayers engaged in sale of goods or properties; or
1.00 percent (%) of net revenue (i.e., gross revenue less discounts) for taxpayers engaged in sale of services, including
exercise of profession and use or lease of properties. However, if the taxpayer is deriving income from both sale of
goods/properties and services, the allowable entertainment, amusement and recreation expense shall in all cases be
determined based on an apportionment formula taking into consideration the percentage of the net sales/net revenue to

the total net sales/net revenue, but which in no case shall exceed the maximum percentage ceiling provided in these
Regulations.
Apportionment Formula:
Net sales/net revenue / TOTAL Net sales/net revenue

x Actual Expense

j. political campaign expenses

Amounts spent for political campaign purposes or payments to campaign funds are not deductible either as
business expense or as contribution.

Under the new Election Code, contributions to political parties registered with the Comelec are deductible.
k. training expenses

Training expenses constitute ordinary and necessary business expenses of a taxpayer. However a qualified
jewelry enterprise providing training to its employees may avail of the additional deduction equivalent to 50% of
the expenses incurred in training schemes for the purpose of computing taxable income.

The additional deduction of 50% shall be in addition to the allowable ordinary and necessary expenses on
training which are fully deductible as a business expense in accordance with the NIRC.

However the benefit arising from the said 50% additional deduction shall not be treated as a taxable income.
2. Interest expenses Sec 34 B, RR 13-00
Requisites for deductibility of interest expense RR 13-2000 - implements the provisions of Section 34(B) of the
Tax Code of 1997 relative to the requirements for the deductibility of interest expense from the gross income of a
corporation or an individual engaged in trade, business or in the practice of profession.
In general, subject to certain limitations, the following are the requisites for the deductibility of interest expense from
gross income: a) there must be an indebtedness;
INDEBTEDNESS is something owed by one who is unconditionally obligated or bound to pay. Tax obligations
constitute indebtedness for purposes of deduction from gross income of the amount of interest paid on
indebtedness.
b) there should be an interest expense paid or incurred upon such indebtedness;
c) the indebtedness must be that of the taxpayer;
a corporation may not deduct interest paid for a stock holder and a stock holder cannot deduct interest paid for
the corporation. The corp has a separate and distinct personality from the s.h.
d) the indebtedness must be connected with the taxpayer's trade, business or exercise of profession;
e) the interest expense must have been paid or incurred during the taxable year;
f) the interest must have been stipulated in writing;
g) the interest must be legally due;
if there exists no obligation or where the obligation is unenforceable, interest paid thereon is not deductible. It
is an unconditional and legally enforceable obligation for the payment of money (Comm vs Prieto)
h) the interest payment arrangement must not be between related taxpayers; (34 B 2(b) in rel. Sec 36B)
i) the interest must not be incurred to finance petroleum operations; and
j) in case of interest incurred to acquire property used in trade, business or exercise of profession, the same was not
treated as a capital expenditure
b. Non deductible interest
notes: cases where interest expenses is not deductible from gross income:
1. if within the taxable year an individual tax payer reporting income on cash basis incurs an indebtedness on which an
interest is paid in advance through discount or otherwise. Such interest shall be allowed as a deduction in the year the
indebtedness is paid. If the indebtedness is payable in periodic amortization, the amount of interest which corresponds to
the amount of the principal amortized or paid during the year shall be allowed as a deduction in such taxable year.
2. If both the taxpayer and the person to whom the payment has been made or is to be made are ―related‖ persons
specified under Section 36B NIRC; viz..
3. If the indebtedness on which the interest expense is paid is incurred to finance petroleum exploration in the Ph. The
non-deductible interest expense herein referred to pertains to interest or other consideration paid or incurred by a service
contractor engaged in the discovery and production of indigenous petroleum in the Ph in respect of the financing of its
petroleum operations, pursuant to ―The Oil Exploration and Development Act of 1972‖ - - - see 206 - 209
4. Interest on indebtedness incurred or continued to purchase or carry obligations the interest on which is exempt from
tax.
c. Interest subject to special rules
34(B) Interest.(2) Exceptions. - No deduction shall be allowed in respect of interest under the succeeding subparagraphs:

(a) If within the taxable year an individual taxpayer reporting income on the cash basis incurs an indebtedness on which
an interest is paid in advance through discount or otherwise: Provided, That such interest shall be allowed a a deduction
in the year the indebtedness is paid: Provided, further, That if the indebtedness is payable in periodic amortizations, the
amount of interest which corresponds to the amount of the principal amortized or paid during the year shall be allowed as
deduction in such taxable year;
(b)If both the taxpayer and the person to whom the payment has been made or is to be made are persons specified
under Section 36 (B); or
(c)If the indebtedness is incurred to finance petroleum exploration.
aa. Interest paid in advance
bb. Interest periodically amortized
34 B (3) Optional Treatment of Interest Expense. - At the option of the taxpayer, interest incurred to acquire property
used in trade business or exercise of a profession may be allowed as a deduction or treated as a capital expenditure.
cc. Interest expense incurred to acquire property for use in trade/business/profession
general rule: in general the amount of interest expense paid or incurred within a taxable year on indebtedness in
connection with the taxpayer‘s trade, business or exercise of profession shall be allowed as a deduction from the
taxpayer‘s gross income.
limitation: the amount of interest income paid or incurred xxx from an existing indebtedness shall be reduced by an
amount equal to the following percentages of the interest income earned which had been subjected to final withholding
tax depending on the year when the interest income was earned, viz:
41% beginning Jan 1 1998
39 % beginning Jan 1 1999
38% beginning Jan 1 2000
42% beginning Nov 1 2005 and
33% beginning Jan 1 2009 and thereafter.
This limitation shall apply regardless of whether or not a tax arbitrage scheme was entered into by the taxpayer or
regardless of the date when the interest bearing loan and the date when the investment was made for as long as during
the taxable year, there is an interest expense incurred on one side and an interest income earned on the other
side, which interest income had been subjected to final withholding tax.
This rule shall be observed irrespective of the currency the loan was contracted and/or in whatever currency the
investments or deposits were made.
notes:
interest on unpaid taxes: Provisions of section 4(b) Rev Reg 13-2000 to the contrary notwithstanding, interest incurred or
paid by the taxpayer on all unpaid business related taxes shall be fully deductible from gross income and shall not be
subject to the limitation on deduction heretofore mentioned. Thus such interest expense incurred or paid shall not be
diminished by the percentage of interest income earned which had been subjected to final withholding tax.

3. Taxes
> All taxes, national or local, paid or accrued during the taxable year in connection with the trade or business or
profession of the taxpayer are deductible from gross income.
> Import duties paid to proper customs officers and business , occupation, license, privilege, excise and stamp taxes and
any other taxes of every name or nature paid directly to the Gov or to any political subdivision are deductible.
> income, war profits, and excess –profits taxes imposed by the authority of a foreign country are allowed as deductions
only if the taxpayer does not signify in his return his desire to have to any extent the benefits of the provisions of law
allowing credits against the tax for taxes of foreign countries. In the case of a citizen of a fc residing in the ph whose
income from sources within such fc is not subject to income tax, only that portion of the taxes paid to such fc which
corresponds to his net income subject to the Ph income tax shall be allowed as deductions.
> R and NR aliens and foreign corporations may not claim credits against the tax from taxes of foreign countries.
Provisions:
Section 34. Deductions from Gross Income.
(C) Taxes.(2) Limitations on Deductions. - In the case of a nonresident alien individual engaged in trade or business in the
Philippines and a resident foreign corporation, the deductions for taxes provided in paragraph (1) of this Subsection (C)
shall be allowed only if and to the extent that they are connected with income from sources within the Philippines.
RMC 13-80

1. Refunds/Tax Credits under Section 295 of the Tax Code. ² Taxes previously claimed and allowed as deductions,
butsubsequently refunded or granted as tax credit pursuant to Section 295 of the Tax Code, should be declared as part of
the gross income of the taxpayer in the year of receipt of the refund or tax credit. However, the following taxes,
whenrefunded or credited, are not declarable for income tax purposes inasmuch as they are not allowable as deductions:
a. Income tax imposed in Title III of the Tax Code;
b. Income, war-profit and excess profits taxes imposed by authority of a foreign country; but this deduction shallbe
allowed in the case of a taxpayer who does not signify in his return his desire to have to any extent thebenefits of
paragraph (3) of this subsection (relating to credit for taxes of foreign countries); aisa dc
c. Estate and gift taxes;
d. Taxes assessed against local benefits of a kind tending to increase the value of the property assessed;
e. Stock transaction tax;
f. Energy tax; and
g. Taxes which are not allowable as deductions under the law.
2. Special Tax Credits granted under R.A. 5186; R.A. 6135 and P.D. 535. ² These tax credits and their taxconsequences
are as follows:
a. Sales, compensating and specific taxes are paid on supplies and raw materials imported by a registeredexport producer.
Said taxes are given as tax credit to be used in the payment of taxes, duties, charges andfees due to the national
government in connection with its operations. (Sec. 7(a), R.A. No. 6135)The tax credits granted should form part of the
gross income to the enterprise in the year of receipt of taxcredit as said taxes paid are considered allowable deductions
for income taxes purposes.
b. In some cases, a registered BOI and tourism enterprise assumes payment of taxes withheld and due from theforeign
lender-remittee on interest payments on foreign loans. In such cases, the enterprise is given a taxcredit for taxes withheld
subject to certain conditions. (Sec. 7(f), R.A. No. 5186; Sec. 8(c), P.D. No. 535)Said taxes assumed by the registered
enterprise represent necessary and ordinary expenses incurred by theenterprise; hence, deductible from its gross income.
Therefore, the tax credits granted necessarily constitutetaxable income of the enterprise.
a. Requisites for deductibility
b. Non deductible taxes
- Philippine income tax
- foreign income tax
- estate and donor‘s taxes
- special assessments of real property
- electric energy consumption tax under BP 36
> However, in the case of a non resident alien individual and a foreign corporation, deduction is allowed only if and
to the extent that the taxes for which deduction is claimed are connected with income from sources within the PH.
> Section 34 of the Tax Code does not specifically allow fines and penalties to be so deducted. What is not expressly
granted by Congress is withheld.
> indirect taxes like the VAT passed on by sellers are not deductible by the buyer. The customer may however consider
the tax burden as part of his cost as an ordinary or capital expenditure as the case may be, if incurred in trade in
business. The taxpayer may seek refund even if such taxpayer shifts the burden of tax.
> no deduction is allowed for taxes imposed upon his interest as a shareholder of the corporation, which are paid by the
corporation without reimbursements from the taxpayer. However, the amount so paid by the corporation should not be
included in the income of the shareholder. In the case of corporate bonds or other obligations containing a tax free
covenant clause, the corporation paying a tax or any part of it for someone else pursuant to its agreement is not entitled
to deduct such payment from gross income on any ground.
c. treatments of surcharges / interest/ fines for delinquency
d. Treatment of special assessment
e. Tax credit vs deduction
RA 7432 SENIOR CITIZEN‘S ACT
RA 9257 "Expanded Senior Citizens Act of 2003"
"SEC. 4. Privileges for the Senior Citizens. – The senior citizens shall be entitled to the following:
(c) exemption from the payment of individual income taxes: Provided, That their annual taxable income does not exceed
the poverty level as determined by the National Economic and Development Authority (NEDA) for that year; XXX
(f) the grant of twenty percent (20%) discount on medical and dental services, and diagnostic and laboratory fees
provided under Section 4 (e) hereof, including professional fees of attending doctors in all private hospitals and medical
facilities, in accordance with the rules and regulations to be issued by the Department of Health, in coordination with the
Philippine Health Insurance Corporation;
(g) the grant of twenty percent (20%) discount in fare for domestic air and sea travel for the exclusive use or enjoyment
of senior citizens;

(h) the grant of twenty percent (20%) discount in public railways, skyways and bus fare for the exclusive use and
enjoyment of senior citizens;XXX
The establishment may claim the discounts granted under (a), (f), (g) and (h) as tax deduction based on the net cost of
the goods sold or services rendered: Provided That the cost of the discount shall be allowed as deduction from gross
income for the same taxable year that the discount is granted. Provided, further, That the total amount of the claimed tax
deduction net of value added tax if applicable, shall be included in their gross sales receipts for tax purposes and shall be
subject to proper documentation and to the provisions of the National Internal Revenue Code, as amended."
Section 5. Government Assistance
Further, the government shall provide the following assistance to those caring for and living with the senior citizens:
(a)The senior citizen shall be treated as dependents provided for in the National Inter Revenue Code, as amended, and as
such, individual taxpayers caring for them, be they relatives or not shall be accorded the privileges granted by the Code
insofar as having dependents are concerned.
(b)Individuals or non-government institutions establishing homes, residential communities or retirement villages solely for
the senior citizens shall be accorded the following:
(1) realty tax holiday for the first five (5) years starting from the first year of operation;
(2) priority in the building and/or maintenance of the provincial or municipal roads leading to the aforesaid home,
residential community or retirement village."
4. Losses
Section 34 D NIRC
rev regs etccc
Losses are generally classified into:
(a) those incurred in a trade or business for profit;
(b) those incurred in any transaction entered into for profit, although not connected with the trade or business,
(c) casualty losses that arise from fire, storm, shipwreck, or other casualty, or from theft or robbery, even though not
connected with the trade or business of the taxpayer.
a. Requisites for deductibility 219 - 220
b. Other Types of losses
i. Capital losses (losses on wash sales of stock or securities): losses on sales or exchanges of capital assets are allowed to
the extent provided in Section 39. If any securities which are capital assets become worthless during the taxable year,
the loss resulting therefrom shall be considered as a loss from the sale or exchange, on the last day of such taxable year,
of capital assets.
Losses on wash sales of stock or securities are treated in Section 38.
ii. Securities becoming worthless
iii. Shrinkage in value of stocks
iv. Losses from wash sales of stocks or securities. Section 38. Losses from Wash Sales of Stock or Securities. v. Losses from short sales
vi. wagering losses
vii. NOLCO - REVENUE REGULATIONS NO. 14-2001pp 224-225

August 27, 2001
REVENUE REGULATIONS NO. 14-2001
SUBJECT :
Implementing Section 34(D)(3) of the National Internal
Revenue Code of 1997, Relative to the Allowance of Net
Operating Loss Carry-Over (NOLCO) as a Deduction from
Gross Income.
TO
:
All Internal Revenue Officers and Others Concerned.
SECTION 1. Scope. – Pursuant to the provisions of Section 244 of the National Internal
Revenue Code of 1997 (hereinafter referred to as the Code), these Regulations are hereby
promulgated to govern the deduction from gross income of the Net Operating Loss Carry-Over
(NOLCO) pursuant to Section 34 (D) (3) of the Code, which provides:

“Net Operating Loss Carry-over.- The net operating loss of the business or enterprise for
any taxable year immediately preceding the current taxable year, which had not been previously
offset as deduction from gross income shall be carried over as a deduction from gross income for
the next three (3) consecutive taxable years immediately following the year of such loss:
Provided, however, That any net loss incurred in a taxable year during which the taxpayer was
exempt from income tax shall not be allowed as a deduction under this
Subsection: Provided, further, That a net operating loss carry-over shall be allowed only
if there has been no substantial change in the ownership of the business or enterprise in that “(i) Not less than seventy-five percent (75%) in nominal value of
outstanding issued shares, if the business is in the name of a corporation, is held by or on
behalf of the same persons; or
“(ii) Not less than seventy-five percent (75%) of the paid up capital of the corporation, if
the business is in the name of a corporation, is held by or on behalf of the same persons.
“For purposes of this Subsection, the term ‘net operating loss’ shall mean the excess of
allowable deduction over gross income of the business in a taxable year:
“Provided, That for mines other than oil and gas wells, a net operating
loss without the benefit of incentives provided for under Executive Order No. 226, as
amended, otherwise known as the Omnibus Investments Code of 1987, incurred 1
in any of the first ten (10) years of operation may be carried over as a deduction from
taxable income for the next five (5) years immediately following the year of such loss. The entire
amount of the loss shall be carried over to the first of the five (5) taxable years following the loss,
and any portion of such loss which exceeds the taxable income of such first year shall be
deducted in like manner from the taxable income of the next remaining four (4) years.”
SEC. 2. General Principles and Policies. 2.1 For purposes of these Regulations, the allowance for deduction of NOLCO
shall be limited only to net operating losses accumulated beginning January 1, 1998.
2.2 In general, NOLCO shall be allowed as a deduction from the gross income of the
same taxpayer who sustained and accumulated the net operating losses regardless of the
change in its ownership. This rule shall also apply in the case of a merger where the taxpayer is
the surviving entity.
2.3 Unless otherwise provided in these Regulations, NOLCO of the taxpayer shall not be
transferred or assigned to another person, whether directly or indirectly, such as, but not limited
to, the transfer or assignment thereof through a merger, consolidation or any form of business
combination of such taxpayer with another person.
2.4 NOLCO shall also be allowed if there has been no substantial change in the
ownership of the business or enterprise in that not less than 75% in nominal value of

outstanding issued shares or not less than 75% of the paid up capital of the corporation, if the
business is in the name of the corporation, is held by or on behalf of the same persons.
The 75% equity, ownership or interest rule prescribed in these Regulations shall only
apply to a transfer or assignment of the taxpayer’s net operating losses as a result of or arising
from the said taxpayer’s merger or consolidation or business combination with another person.
In case the transfer or assignment of the taxpayer’s net operating losses arises from the said
taxpayer’s merger, consolidation or combination with another person, the transferee or assignee
shall not be entitled to claim the same as deduction from gross income unless, as a result of the
said merger, consolidation or combination, the shareholders of the transferor/assignor, or the
transferor (in case of other business combinations) gains control of at least 75% or more in
nominal value of the outstanding issued shares or paid up capital of the transferee/assignee (in
case the transferee/assignee is a corporation) or 75% or more interest in the business of the
transferee/assignee (in case the transferee/assignee is other than a corporation).
2.5 Unless otherwise provided in these Regulations, an individual (including
estate or trust) engaged in trade or business or in the exercise of profession, or a
domestic or resident foreign corporation may be allowed to claim deduction of his/its
corresponding NOLCO: Provided, however, that an individual who claims the 10%
optional standard deduction shall not simultaneously claim deduction of the NOLCO:
Provided, further, that the three-year reglementary period shall continue to run 2
notwithstanding the fact that the aforesaid individual availed of the 10% optional
standard deduction during the said period.
2.6 The three-year reglementary period on the carry-over of NOLCO shall
continue to run notwithstanding the fact that the corporation paid its income tax under
the
“Minimum Corporate Income Tax” computation.
2.7 NOLCO shall be availed of on a “first-in, first-out” basis.
2.8 The net operating loss incurred by a taxpayer in the year in which a
substantial change in ownership in such taxpayer occurs shall not be affected by such
change in ownership, notwithstanding subsections 2.3 and 2.4.
SEC. 3. Definition of Terms. - For purposes of these Regulations, the words and phrases
herein provided shall mean as follows:
3.1 Gross Income - Except as otherwise provided in these Regulations, the term
“Gross Income” means the pertinent items of income referred to in Section 32(A) of the
Tax Code of 1997 which are required to be declared in the taxpayer’s Income Tax Return for
purposes of computing his taxable income as defined in Section 31 of the same Code.

All exempt income and other items of income subject to final tax shall not form part of
the gross income.
3.2 Allowable Deductions – The term “Allowable Deductions” means the items of
deduction enumerated under Section 34(A) to (J) and Section 34(M), including the special
deductions allowed to insurance companies under Section 37 of the Code, but excluding NOLCO
and any item of incentive deduction allowable under any special law that does not actually
involve cash outlay: Provided, that, in the case of an individual entitled to claim the Optional
Standard Deduction (OSD) under Section 34(L), in lieu of the deductions enumerated under
Section 34(A) to (K), the term “allowable deductions”
shall mean the aforesaid OSD plus deduction of premium payments on health and/or
hospitalization insurance as provided under Section 34(M) of the Code, if applicable.
3.3 Net Operating Loss - The term “Net Operating Loss” shall mean the excess of
allowable deduction over gross income of the business in a taxable year.
3.4 Nominal Value of Outstanding Issued Shares - The term “Nominal Value of
Outstanding Issued Shares ” shall refer to the par value (in case of par value shares of stock) or
stated value (in case of no par value shares of stock) of shares of stock issued to the stockholders
of the corporation.
3.5 Paid Up Capital of the Corporation - The term “Paid Up Capital of the Corporation”
shall refer to the total amount paid by stockholders for their subscriptions in the shares of stock
of the corporation, including any amount paid over and above the par value or stated value of
the share of stock (e.g., premium on capital). For this purpose, the taxpayers shall maintain
complete and accurate records of the paid-up capital of the shareholders.
3
3.6 Taxable Income – The term “Taxable Income” means the excess amount of the
pertinent items of gross income over the allowable deductions and/or personal and additional
exemptions, if any, authorized under the Code or under any special law.
3.7 Taxable Year - The term “Taxable Year” means the calendar year, or the fiscal year
ending during such calendar year, upon the basis of which the net income is computed under
Title II of the Code. Taxable year includes, in the case of a return made for a fractional part of a
year, the period for which such return is made. The term “Fiscal Year” means an accounting
period of twelve (12) months ending on the last day of any month other than December.
3.8 Substantial Change in the Ownership of the Business or Enterprise - The term “
Substantial Change in the Ownership of the Business or Enterprise” shall refer to a change in the
ownership of the business or enterprise as a result of or arising from its merger or consolidation
or combination with another person in the manner as provided in subsection 2.4 of these
Regulations. Any change in ownership as a result of or arising thereunder shall not be treated as
a substantial change for as long as the stockholders of the party thereto, to whom the net
operating loss is attributable, gains or retains 75% or more interest after such merger or
consolidation or combination.

3.9 Merger - For purposes of these Regulations, the term “Merger” shall refer to the
absorption of a corporation by another corporation, the latter retaining its own name and
identity and acquiring the assets, liabilities, franchises and powers of the former, and the
absorbed corporation ceasing to exist as a separate juridical person.
3.10 Consolidation - For purposes of these Regulations, the term “Consolidation”
shall refer to a situation when two or more corporations are extinguished, and by the
same process a new one is created, taking over the assets and assuming the liabilities of the said
extinguished corporations; or the unification of two or more corporations into a single new
corporation, having the combined capital, franchises and powers of all its constituents.
3.11 Combination - For purposes of these Regulations, the term “Combination”
shall refer to a situation when an owner of a business, organized as a sole
proprietorship, admits a partner in his business for the purpose of forming a co-partnership, or
any such business combination which, in effect, is similar or synonymous thereto.
3.12
By or on Behalf of the Same Persons - The term “By or on Behalf of the Same Persons”
shall refer to the maintenance of ownership despite change as when: 1. No actual change in
ownership is involved in case the transfer involves
change from direct ownership to indirect ownership, or vice versa.
Illustration:
4
Facts: P Corporation owns Q Corporation that has NOLCO.
P Corporation transfers Q Corporation’s shares to R
Corporation in exchange for 100% of R Corporation shares.
Held: Q Corporation’s NOLCO is retained because Q
Corporation’s shares are held “by” R Corporation “on behalf
of ” P Corporation, the original owner.
2. No actual change in ownership is involved as in the case of merger
of the subsidiary into the parent company.
Illustration:
Facts: X Corporation owns 100% of Y Corporation. Y
Corporation owns 100% of Z Corporation. Z Corporation
has NOLCO. Z Corporation is merged into Y Corporation.

Held: Z Corporation’s NOLCO should be retained and
transferred to Y Corporation. Prior to the merger, X
Corporation already indirectly owned Z Corporation, i.e., Z
Corporation’s shares were held “by” Y Corporation “on
behalf of ” X Corporation. After the merger, X now directly
owns Z Corporation [absorbed corporation] which continues
to exist in Y Corporation.
Any reference in these Regulations to the “75% equity, ownership, or interest
rule”, “75% or more in nominal value”, “75% or more interest”, and other similar terms
shall be construed within the context of this definition.
Notwithstanding the above, in determining whether there is actual change in
ownership in the above-mentioned and similar cases, each and every step of the
transaction shall be considered and the whole transaction or series of transactions shall be
treated as a single unit.
SEC. 4. Taxpayers Entitled to Deduct NOLCO from Gross Income. – Any individual
(including estates and trusts) engaged in trade or business or in the exercise of his profession,
and domestic and resident foreign corporations subject to the normal income tax (e.g.,
manufacturers and traders) or preferential tax rates under the Code (e.g., private educational
institutions, hospitals, and regional operating headquarters) on their taxable income as defined
in Section 3 of these Regulations shall be entitled to deduct from his/its gross income for the
current year his/its accumulated net operating losses for the immediately preceding three (3)
consecutive taxable years: Provided, however, that net operating losses incurred or sustained
prior to January 1, 1998 shall not qualify for purposes of the NOLCO. Provided, further, that any
provision of these Regulations notwithstanding, the following shall not be entitled to claim
deduction of NOLCO: 5
4.1 Offshore Banking Unit (OBU) of a foreign banking corporation, and Foreign Currency
Deposit Unit (FCDU) of a domestic or foreign banking corporation, duly authorized as such by the
Bangko Sentral ng Pilipinas (BSP);
4.2 An enterprise registered with the Board of Investments (BOI) with respect to its BOIregistered activity enjoying the Income Tax Holiday incentive. Its accumulated net operating
losses incurred or sustained during the period of such Income Tax Holiday shall not qualify for
purposes of the NOLCO;
4.3 An enterprise registered with the Philippine Economic Zone Authority (PEZA),
pursuant to R.A. No. 7916, as amended, with respect to its PEZA-registered business activity. Its

accumulated net operating losses incurred or sustained during the period of its PEZA registration
shall not qualify for purposes of the NOLCO;
4.4 An enterprise registered under R.A. No. 7227, otherwise known as the Bases
Conversion and Development Act of 1992, e.g., SBMA-registered enterprises, with respect to its
registered business activity. Its accumulated net operating losses incurred or sustained during
the period of its said registered operation shall not qualify for purposes of the NOLCO;
4.5 Foreign corporations engaged in international shipping or air carriage business in the
Philippines; and
4.6 In general, any person, natural or juridical, enjoying exemption from income tax,
pursuant to the provisions of the Code or any special law, with respect to its operation during
the period for which the aforesaid exemption is applicable. Its accumulated net operating losses
incurred or sustained during the said period shall not qualify for purposes of the NOLCO.
SEC. 5. Determination of Substantial Change in the Ownership of the
Business.
5.1 Time of Determination of Substantial Change in the Ownership of the
Business; Determined as of the End of the Taxable Year. - The substantial change in the
ownership of the business or enterprise shall be determined as of the end of the taxable year
when NOLCO is to be claimed as deduction. Whether or not substantial change in ownership
occurred shall be determined on the basis of any change in the ownership of interest in the said
business or enterprise arising from or incident to its merger, or consolidation, or combination
with another person (e.g., in the case of merger or consolidation of two or more corporations,
such change shall be determined based on the ownership of the outstanding shares of stock
issued or based on paid-up capital as of the end of the taxable year, and as a result of or arising
from the said merger or consolidation).
5.2 When Change Occurs. - A change in the ownership of the business occurs when the
person who sustained net operating losses enters into a merger, or consolidation or combination
with another person, thereby resulting to the transfer or conveyance of the 6
said net operating losses, to another person, in the course of the said merger or
consolidation or combination.
(a) When No Substantial Change Occurs. - No substantial change in ownership of the
business occurs if, as a result of the said merger or consolidation or combination, the
stockholders of the transferor, or the transferor, in case of other business combinations, gains
control of at least 75% or more in nominal value of the outstanding issued shares or paid-up
capital of the transferee-assignee (in case the transferee-assignee is a corporation) or 75% or
more interest in the business of the transferee-assignee (in case the transferee-assignee is other
than a corporation).
(b) When Substantial Change Occurs. - A substantial change in ownership of the
business occurs if, as a result of the transaction referred to in subsection 5.2 (a) hereof, the

stockholders of the transferor or the transferor, in case of other business combinations, gains
control of the aforesaid transferee-assignee only to the extent of less than 75%.
SEC. 6. Entitlement to Net Operating Loss Carry- Over. 6.1 In General. - In general, only net operating losses incurred by a qualified taxpayer for
the period beginning January 1, 1998 may be carried over to the next three (3) immediately
succeeding taxable years following the year of such loss for purposes of the NOLCO deduction.
Provided, however, that for mines other than oil and gas wells, a net operating loss without the
benefit of incentives provided for under Executive Order No. 226, otherwise known as the
Omnibus Investments Code of 1987, as amended , incurred in any of the first ten (10) years of
operation may be carried over as a deduction from taxable income for the next five (5) years
immediately following the year of such loss. Provided, further, that the entire amount of the loss
shall be carried over to the first of the five (5) taxable years following the loss, and any portion of
such loss which exceeds the taxable income of such first year shall be deducted in like manner
from the taxable income of the next remaining (4) four years.
6.2 Transitory Apportionment of NOLCO, in Case of Corporation Using the
Fiscal Year Accounting Period. - In general, only net operating losses incurred
beginning January 1, 1998 may be claimed as a NOLCO deduction. In the case of a corporation
using a fiscal year accounting period as of the said date, whose result of operations for the fiscal
year 1997-1998 shows a net operating loss, the allowable NOLCO for the succeeding fiscal years
shall be determined, as follows:

NOLCO for the entire fiscal year
(1997-1998)
xxx
Multiplied by the ratio of: No. of months in 1998
12 mos. covering FY 97-98
xxx
NOLCO to be carried over to FYs 1998-1999, 1999-2000,
and/or 2000-2001
xxx
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6.3 Where Taxpayer is Exempt, or Partly Exempt from Income Tax, or
Enjoying Preferential Tax Treatment Under Special Laws. - Net operating loss or losses
incurred by any person who is exempt from income tax, or enjoying preferential tax treatment
pursuant to the provisions of special laws, shall not be allowed a NOLCO

deduction (e.g., any BOI-registered enterprise enjoying income tax holiday pursuant to
E.O. No. 226, as amended, otherwise known as the Omnibus Investments Code of 1987; or any
PEZA-registered enterprise enjoying preferential tax treatment or income tax holiday pursuant
to R.A. No. 7916, as amended; any person enjoying preferential tax treatment pursuant to R.A.
No. 7227, otherwise known as the Bases Conversion and Development Act of 1992. See Section 4
of these Regulations for further discussion).
In case any of the aforementioned persons is engaged in both registered and
unregistered business activities under any of the aforesaid laws (e.g., a corporation with
a BOI-registered activity enjoying income tax holiday; and other unregistered business activities
not enjoying any BOI incentive) the net operating loss or losses sustained or incurred by the said
BOI-enterprise from its registered activities shall not be allowed as NOLCO deduction from its
gross income derived from the unregistered business
activities.
6.4 Quarterly and Annual Availment of NOLCO. - NOLCO shall be allowed as deduction
in computing the taxpayer’s income taxes per quarter and annual final adjustment income tax
returns: Provided, however, that if per the taxpayer’s final annual adjustment income tax return,
the entire operations for the year resulted to a net operating loss, such net operating loss may
be claimed as NOLCO deduction in the immediately succeeding taxable year: Provided, further,
that NOLCO may be claimed as deduction only within a period of three (3) consecutive taxable
years immediately following the year the net operating loss was sustained or incurred. In order
that compliance with this three-year statutory requisite may be effectively monitored, the
taxpayer shall, at all times, show its NOLCO deduction, in its income tax return, as a separate
item of deduction. In no case may NOLCO be claimed, as a part of the taxpayer’s other itemized
deductions, like under deduction of “losses,” in general.
6.5 NOLCO in Relation to the Minimum Corporate Income Tax (MCIT). - In general,
domestic and resident foreign corporations subject to the normal income tax rate are liable to
the 2% MCIT, if applicable, computed based on gross income, whenever the amount of the MCIT
is greater than the normal income tax due (computed with the benefit of NOLCO, if any),
pursuant to Sections 27 or 28 of the Code. Thus, such corporation cannot enjoy the benefit of
NOLCO for as long as it is subject to MCIT in any taxable year. Provided, however, that the
running of the three-year period for the expiry of NOLCO is not interrupted by the fact that such
corporation is subject to MCIT
in any taxable year during such three-year period.
SEC. 7. Presentation of NOLCO in the Tax Return and Unused NOLCO in the
Income Statement. –The NOLCO shall be separately shown in the taxpayer’s income tax
return (also shown in the Reconciliation Section of the Tax Return) while the Unused NOLCO
shall be presented in the Notes to the Financial Statements showing, in detail, the taxable year in
which the net operating loss was sustained or incurred, and any 8
amount thereof claimed as NOLCO deduction within three (3) consecutive years

immediately following the year of such loss. Failure to comply with this requirement will
disqualify the taxpayer from claiming the NOLCO.

BAD DEBTS

REPUBLIC OF THE PHILIPPINES
DEPARTMENT OF FINANCE
BUREAU OF INTERNAL REVENUE
Quezon City
November 19, 2002
REVENUE REGULATIONS NO. 25-2002
SUBJECT

TO

:

Amending Revenue Regulations No. 5-99, Further
Implementing Section 34(E) of the Tax Code of 1997 on the
Requirements for Deductibility of Bad Debts from Gross
Income.
:

All Internal Revenue Officers and Others Concerned.

SECTION 1. SCOPE – Pursuant to the provisions of Section 244 of the Tax
Code of 1997, these regulations are hereby promulgated to amend Revenue Regulations
No. 5-99 thereby further implementing the provisions of Section 34(E) of the same Code
on the requirements for deductibility of bad debts from the gross income of a corporation,
including banks and insurance companies, or an individual, estate and trust that is
engaged in trade or business or a professional engaged in the practice of his profession.
SEC. 2. AMENDMENT – Section 3 of RR 5-99 on the requisites for valid
deduction of bad debts from gross income is hereby amended by deleting the penultimate
paragraph of the said Section and should now read as follows:
“Sec. 3. Requisites for valid deduction of bad debts from gross
income. – The requisites for deductibility of bad debts are:
(1)

There must be an existing indebtedness due to the taxpayer which
must be valid and legally demandable;

(2)

The same must be connected with the taxpayer’s trade, business or
practice of profession;

(3)

The same must not be sustained in a transaction entered into
between related parties enumerated under Sec. 36(B) of the Tax
Code of 1997;

(4)

The same must be actually charged off the books of accounts of the

taxpayer as of the end of the taxable year; and
(5)

The same must be actually ascertained to be worthless and
uncollectible as of the end of the taxable year.

“Before a taxpayer may charge off and deduct a debt, he must
ascertain and be able to demonstrate with reasonable degree of certainty
1

the uncollectibility of the debt. The Commissioner of Internal Revenue will
consider all pertinent evidence, including the value of the collateral, if
any, securing the debt and the financial condition of the debtor in
determining whether a debt is worthless, or the assigning of the case for
collection to an independent collection lawyer who is not under the
employ of the taxpayer and who shall report on the legal obstacle and the
virtual impossibility of collecting the same from the debtor and who shall
issue a statement under oath showing the propriety of the deductions
thereon made for alleged bad debts. Thus, where the surrounding
circumstances indicate that a debt is worthless and uncollectible and that
legal action to enforce payment would in all probability not result in the
satisfaction of execution on a judgment, a showing of those facts will be
sufficient evidence of the worthlessness of the debt for the purpose of
deduction.
In the case of banks, the Commissioner of Internal Revenue shall
determine whether or not bad debts are worthless and uncollectible in the
manner provided in the immediately preceding paragraph. Without
prejudice to the Commissioner’s determination of the worthlessness and
uncollectibility of debts, the taxpayer shall submit a Bangko Sentral ng
Pilipinas/Monetary Board written approval of the writing off of the
indebtedness from the banks’ books of accounts at the end of the taxable
year.
“Also, in no case may a receivable from an insurance or surety
company be written-off from the taxpayer’s books and claimed as bad
debts deduction unless such company has been declared closed due to
insolvency or for any such similar reason by the Insurance
Commissioner.”
SEC. 3. REPEALING CLAUSE – The provisions of any revenue regulations,
revenue memorandum order, revenue memorandum circular or any other revenue
issuances inconsistent with these Regulations are hereby repealed, amended, or modified
accordingly.
SEC. 4. EFFECTIVITY CLAUSE – These Regulations shall take effect after
fifteen (15) days following publication in any newspaper of general circulation and shall
apply to taxable year 2002.
(Original Signed)
JOSE ISIDRO N. CAMACHO
Secretary of Finance
Recommending Approval:
(Original Signed)
GUILLERMO L. PARAYNO, JR.
Commissioner of Internal Revenue

2