Philippine Income Tax System

Philippine Income Tax

• It is a direct tax
• The tax burden falls on the income recipient upon whom the tax is imposed
• It is progressive, meaning the tax rate increases as the tax base increases
• It uses the ability to pay principle
• It adheres to Sec. 28, Art. VI, 1987 Constitution
• The Philippines uses a comprehensive system of imposing income tax
• This includes the citizenship, residence, and source principles
• These principles justify income tax imposition on resident citizens and domestic corporations with global income
• It is a national tax
• The National Government imposes and collects the Philippine Income Tax nationwide
• It is an excise tax
• It is imposed on the right or privilege to receive or earn income, not a personal or property tax

Income Taxation

• It is an excise taxation system
• It taxes the privilege to earn yearly profits from various sources
• It doesn't provide for property taxation (Domondon, 2013)

Income Tax Systems

• Income tax views the tax base indifferently
• It commonly treats all categories of taxable income for individuals (Tan v. Del Rosario, Jr., 237 SCRA 324, 331)
• A schedular tax system varies income tax treatment
• Treatment depends on the kind or category of taxable income (Tan v. Del Rosario, Jr., 237 SCRA 324, 331)
• The semi-schedular or semi-global tax system functions by adding:
  • Compensation income
  • Business or professional income
  • Capital gain
  • Passive income
  • Other income not subject to final tax
• This total is the gross income
• Allowable deductions and exemptions are taken from this
• The taxable income is subjected to a graduated tax rate for individuals OR a normal corporate income tax rate for corporations (Mamalateo, 2014)

Income vs Capital

• Income includes all wealth flowing to the taxpayer, excluding return of capital
• It includes gains from the sale or disposition of capital assets
• Income is a gain derived from labor or capital, or both
• Tax on income is not a tax on property
• Income can be defined as profits or gains (Madrigal v. Rafferty, supra)

Criteria in Imposing Philippine Income Tax

• Citizenship or nationality principle subjects citizens to Philippine income tax
  • Residents are taxed on worldwide income
  • Non-resident citizens are taxed only on income from sources within the Philippines
• Residence or domicile principle applies to resident aliens
  • They pay Philippine income tax on income from sources within the Philippines
  • They are exempt from tax on income from sources outside the Philippines
• Source principle subjects aliens to Philippine income tax
  • This is because they derive income from sources within the Philippines
• Non-resident aliens or foreign corporations must pay Philippine income tax on income sources within the Philippines even if they have never been physically present there (Mamalateo, 2014)

When Income Is Taxable

• Important considerations to see if there is income for tax purposes:
  • Existence of income
  • Realization of income
  • Recognition of income
  • Methods of accounting

Existence of Income

• Requisites for income to be taxable include:
  • There must be income, gain, or profit
  • Income must be received or realized during the taxable year
  • Income muse not be exempt from income tax

Realization of Income

• Income is realized upon receiving a gain or profit from a closed, completed transaction.
• Realization of gain may occur as:
  • Actual receipt of cash
  • Constructive receipt of income (Valencia and Roxas)
• An increase in property value is not income but an unrealized increase in capital
• Increase in property value without actual realization via sale or disposition is not taxable (De Leon)

Actual vs Constructive Receipt

• Actual receipt: Income is reduced to possession and the realization of gain comes as an actual payment of cash
• Constructive receipt: Income is credited to an account or separated in favor of a person who can withdraw anytime without substantial limitations or conditions for payment or enjoyment.

Recognition of Income

• Income realized pertains to the accrual basis of accounting
• Income in the books is recognized when realized, and expenses when incurred
• It is the right to receive, not the actual receipt that determines what to include in gross income
• Interest or rent income earned but not yet received is such an example

When Income Is Received for Philippine Income Tax

• Two scenarios:
  • Actual receipt: income comes as an actual or physical receipt.
  • Constructive receipt: money consideration and its equivalent goes to those who rendered a service without restrictions from the payer (Sec. 4.108-4, R.R. 16-2005)
    • E.g. Debtor issues a notice to offset debt and the seller accepts it as payment.

Tests in Determining if Income is Earned for Tax Purposes

• Realization test dictates no taxable income exists unless income is realized, and revenue generally occurs when:
  • The earning process is complete or almost complete
  • An exchange has occurred (Manila Mandarin Hotels, Inc. v. CIR, CTA Case No. 5046, March 24, 1997)
• Claim of Right Doctrine/Doctrine of Ownership, Command, or Control states taxable gain depends on:
  • A claim of right to the alleged gain
  • Absence of a definite, unconditional obligation to return or repay income (CIR v. Javier, G.R. 78953)
• Economic - Benefit test/Doctrine of Proprietary Interest says income realized is taxable that the taxpayer economically benefits.
• Severance test recognizes income if there is a separation of something of exchangeable value (Eisner v. Macomber, 252 US 189)
• All Events test requires:
  • Fixing of a right to income OR liability to pay
  • Availability to reasonably/accurately determine such income or liability

Kinds of Taxpayers

• Individuals split into:
  • Citizens
    • Resident
    • Non-resident
  • Aliens
    • Resident
    • Non-resident
      • Engaged in trade or business (NRA-ETB)
      • Not engaged in trade or business (NRA-NETB)
    • Special
  • Special class of individual employees
    • Minimum wage earner
• Corporations:
  • Domestic
  • Foreign
    • Resident foreign corporation (RFC)
    • Non-resident foreign corporation (NRFC)
  • Joint venture and consortium
  • Partnership
• Estates
• Trusts

Individual Taxpayers - Citizens

• Resident Citizens (RC)
• Non-resident Citizens (NRC) [Sec. 22 (E)]:
  • A Philippine citizen that satisfies the CIR of their physical presence abroad and a definite intention to reside there.
  • A Philippine citizen who leaves the Philippines during the taxable year to reside abroad, either for immigration or employment on a permanent basis.
  • A Philippine citizen who works and derives income from abroad and whose employment needs them to be physically present abroad for most of the taxable year (183 days).
  • A Philippine citizen previously considered a non-resident citizen who arrives to reside permanently in the Philippines, and is treated as NRC regarding income from abroad until arrival.

Aliens

• Resident Alien
  • Any alien actually present in the Philippines who isn't a transient.
• Non-resident Alien
  • Engaged in trade or business in the Philippines if they stay more than 180 days in the calendar year.
  • Not engaged in trade or business in the Philippines if they don't exceed 180 days.

Special Class of Individual Employees

• Minimum Wage Earners are those:
  • Who work in the private sector and get paid the statutory minimum wage
  • OR is a public sector employee with a compensation income no more than the statutory minimum wage in the non-agricultural sector (Sec. 22 (HH), NIRC).

Corporations

• Does NOT include the following:
  • General professional partnerships (GPP)
  • Joint ventures or consortiums formed to undertake construction projects
    • OR for engaging in petroleum, coal, geothermal, and other energy operations following a service contract with the government [Sec. 22 (B), NIRC].
• Includes the following:
  • All types of corporations
  • Partnerships (no matter created/organized)
  • Joint stock companies
  • Joint accounts
  • Associations
  • Insurance companies, regardless of SEC registration.

Domestic Corporations

• A corporation created and organized in the Philippines OR under its laws following the "law of incorporation test" [Sec. 22 (C), NIRC].

Foreign Corporations

• They are corporations that are NOT domestic:
  • Resident foreign corporations are those engaged in trade or business within the Philippines [Sec. 22 (H), NIRC].
  • Non-resident foreign corporations are those not engaged in trade or business within the Philippines [Sec. 22 (I), NIRC].

Estates and Trusts

• An estate constitutes the property, rights, and obligations of a person NOT extinguished by death, including those accrued since succession's start [De Leon citing Arts. 776 & 781 NCC].
• Trusts are arrangements made by will or agreement. The legal title to property is passed to another for:
  • Conservation
  • Investment
  • The corpus (principal) distributed accordingly, as per the creator's wishes [De Leon].

Estates and Trusts Income Tax

• Income tax imposed on individuals applies to income of estates OR property held in trust [Sec. 60 (A), NIRC].
• Exceptions:
  • Employee’s trust [Sec. 60, NIRC]
  • Revocable trusts [Sec. 63, NIRC]
  • Income for Benefit of Grantor [Sec. 64, NIRC]
• Taxable income is calculated the same way as figuring it for individuals, subject to specific rules [Sec 61, NIRC].

Partnerships

• General Partnerships:
  • Partnerships NOT recognized as professional.
  • Treated as corporations for tax purposes.
• General Professional Partnerships (GPP):
  • Partnership made by people for their common profession
  • Does not derive income from trade or business [Sec. 22 (B), NIRC].
  • The partners, not the partnership, are liable for income tax in their own individual capacities.
  • Each partner reports their share of the partnership's net income in their gross income [Sec. 26, NIRC].

Factors of a Joint Venture or Consortium

• Key aspects:
  • Contribution from each party regardless of capital but services, skill, knowledge, etc.
  • All parties must share profits.
  • There must be joint ownership, and mutual control over the enterprise.
  • Single business transaction.
• Exception: unincorporated joint ventures for construction/petroleum with the Philippine Government are not under corporate income tax.
  • The joint venture partners are taxed on their income shares [Sec. 22(B), NIRC].

Co-ownership

• Co-ownership occurs whenever ownership of an undivided thing or right belongs to different persons [Art. 484, NCC]
• Co-ownership becomes subject to corporate income tax under these conditions:
  • When co-ownership is voluntary or pre-arranged.
  • When a co-owner reinvests their share.
  • When inherited property doesn't get divided after ten years, and is not property held in trust or administration [Valencia and Roxas].

Classification of Income Subject to Tax

• Sources of income subject to tax:
  • Compensation income
  • Fringe benefits
  • Professional income
  • Income from business
  • Income from dealings in property
  • Passive investment income
  • Annuities, proceeds from life insurance/other insurance
  • Prizes and awards
  • Pensions, retirement benefits, or separation pay

Compensation Income

• Refers to all payments for services performed by an employee, unless excepted under the NIRC [RR No. 02-98, Sec 2.78.1]
• Remunerations taxable regardless of:
  • How it's earned
  • Who paid it
  • How it's designated
  • The basis of determining it
  • The form it's received in
• Acceptable bases:
  • Piece of work
  • Percentage of profits
  • Hourly
  • Weekly
  • Monthly
  • Annually

General Rule vs Exception

• The term "wages" does not include remuneration paid for:
  • Agricultural labor paid entirely in products from the farm where the labor took place
  • Domestic service in a private home
  • Casual labor not in the realm of the employer's business
  • Services by a citizen/resident of the Philippines to a foreign government/international organization [Sec. 78(A), NIRC]

Classification of Gross Compensation Income

• Basic salary or wage salary:
  • Earnings received periodically for regular work other than manual labor ie monthly salary.
• Honoraria: payments given in recognition of services performed for special reasons
• Wages: earnings by specified intervals of work
• Backwages are subject to income tax and withholding tax on wages, according to [BIR Ruling No. DA-073-2008].

Tips and Gratuities

• It is money paid directly to employee
• This is usually by the customer of the employer
• Not counted for by the employee to the employer
  • It is taxable income but NOT subject to withholding tax) [RR NO. 2-98, Sec. 2.78.1]

Retirement Pay

• The term refers to a lump sum payment received after a certain period of time. [RR 6-82, Sec. 2b]
• Retirement pay is generally taxable with the exception of SSS and GSIS retirement pays.

Conditions for Retirement Pay (RA 7641)

• In the absence of reasonable private benefit plan + bargaining agreement
• Retiree should have been employed for 5 years in the company.
• Retiree should be 60 y.o/above but NOT 65

Conditions for Retirement Pay (RA 4917)

• Requisites for Retirement Pay:
  • Private benefit plan approved by the BIR
    • Is fair and equitable to all employees
  • The retiree should have been in the company for 10 years.
  • The retiree should be 50 y.o
  • It should have been only availed of once.

Retirement - Collective Bargaining Agreement

• CBA similar to RA 7641
  • the retiree has been employed for 5 years
  • The retiree is at least 60
• CBA not similar to RA 7641
  • The retiree has been in the company for 10 years
  • the retiree should reached the min age at the CBA

Pension

• It is taxable, unless stated otherwise
• OR if the BIR approves the retirement plan
• Includes stated allowance made regularly to person on retirement or their dependents
• Can include meritorious work, losses, or injuries

Passive Income

• Income subject to final tax includes:
  • Interest
  • Dividends
  • Royalties
  • Rental

Sources of Passive Income

• Dividend income is earnings via distribution made by a corporation
  • Made from its earnings/profits, payable to stockholders in money/property
• Interest is derived from depositing/lending money, goods, or credits [Valencia and Roxas]
  • Government securities such as Treasury Bills

Royalty Income

• It is a valuable property developed/sold on a regular basis for consideration
  • Gain is active business income under normal corporate tax
• Payments for intellectual property is passive income subject to withholding tax

De Minimis Benefits

• Facilities and privileges furnished OR offered by an employer
• They are relatively small in value
• Offered as a means of increasing the health/well being of their employees [RR No. 3-98, Sec 2.23c]

Exemption

• Exempt from income/withholding taxes on compensation for managerial or rank and file
  • per RR No. 11-2018/ R.R. No. 5-2011 / R.R. No. 8-2012 and R.R. No. 1-20156
• Monetized/unused vacation leave for private sector
  • 10 max during the year
  • Monetized vacation leave credits beyond 10 AND sick leave NOT exceeding 10 are subject to tax per RR No. 5-2011
• Laundry allowance below ₱300 a month [RR No. 5-2011]
• Medical cash for dependents of employees at P1,500 per employee each semester OR P250 a month [RR No. 11- 2018]
• Rice subsidy of P2,000, OR one 50-kilogram sack. [RR No. 11-2018]
• Medical assistance for needs of the employee, and annual check-ups, maternity and consultations, that do not go over ₱10,000 a year. [RR No. 5- 2011]
• Unlimited monetized government officials/employees credits.

Exempted Employees Achievement Awards

• Requirements:
  • Tangible personal property
  • Not more than ₱10,000 with established/written plan that does NOT discriminate in favor of highly paid workers [RR No. 5-2011]
• Christmas/Anniversary gifts (not exceeding P5,000) per year per company [RR No. 5-2011]
• Meal allowance during overtime/night shift
  • Twenty-five percent (25%) of the basic minimum wage on a per-region basis. [RR No. 3-98]
• Employee CBA (collective bargained agreement) + incentives, as long as monetary value is underP10,000.00 a year [RR No 1-2015]
• Uniform and clothing allowance must not be than P6,000 a year [RR No. 11-2018]

Professional Income

• Fees for special training as means of living for CPAs, doctors, lawyers and engineers [RR No. 2-98]:
  • Refers to earnings for the practice of the profession so long as the professional and their clients have no employer-employee relationship.

Gross Income

• Income gotten from any source [Sec. 32[A], NIRC]
• Income not expressed as excluded but exempted from, with voluntary action from the taxpayer, is subject to tax.
• Income can come from any illegal/legal source, IE jueteng; Gambling. From the CIR v. Manning, G.R. No. L-28398, August 6, 1975, NIRC is indifferent as to the sources of the income.

Income from Business

• Any income gotten from doing business!

Income from Deals

• Any income sales or exchanges in property can either give loss or gain
• Ordinary assets relate to the properties of the worker, and include
  • Sold income to assets, included on Income Tax Returns (NIRC, Sec. 32 A)
• Stock in trade of the taxpayer/ property a kind on hand at close of the year
• Personal prop
• Property that has trade/ business status and depreciation as offered in the nirc and d. Real property is used for trade purposes
• Capital assets include property used by a business, like cars for transporting

Capital Assets

• This income is NOT reported in income tax as already finalized
• Reported, though, is capital gains that has no fixed/final stock property
• Automobiles used as transportation or rental for a company

Fringes

• Any advantage that is cash in hand or basic, if not limited, and has relation with the firm in addition to the benefits that it carries.
  • Housing and expenses
  • Any kind of car
  • Maid drivers or house workers
  • Loans and interests at below market advantage
  • Organizations fees
  • Foreign travel with work fees
  • Vacations benefits
  • Educational fees covered for employees, not dependents
  • health life insurance covers unless under the Sec. 33B RR3 98.

Annuities

• Fixed installment of income from insurance companies for guaranteed
• Is taken to consideration even after loss of retirement
• Necessarily, should not affect yearly life
• Is based on capital
• The payments are often monthly [Peralta v. Auditor General, G.R. No. L-8480 (1957)

Awards and Prizes

• A pay gotten from reward for any type of reward
• Reflict one's power
• Contest-derived gain are usually included in tax
• Most payments come with tax from labor

Awards

• Must reflect religious, educative
• Those without contest
• Those who would not be required for service
• Prizes held between athletes with national support and games that will have tax exemptions

NIRC

• Exclusions and deductions from gross income apply
• Find the relevant data in the NIRC, section 32

Estate Tax

• Taxation from power of transition between the living and dead.
• Taxes as debt occurs with the death Lorenzo v. Posadas, G.R. No. L-43082 (1937

Requirements

• Purpose to tax benefits
• Tax from Right and privilege of the death who will give access to benefits.

Transfers

• Transfers are complete if the owner doesn't have interest in them.
• Such as 2 kinds transfers
• Mortis Cause (cause of death)
• or Inter vivious

Transitions

• It is in vivios Free transfer through life of donee
• The donors assets are also tax from the donors tax

Intervivos Continued

• Free transfer is also taken to exception from estate when law is substitue

ex

• Transfers in Contemplation of Death [Sec. 85(B), NIRC] b. is revoc and Under general property [Sec. 85(D), NIRC] d. Transfers for insufficient consideration [Sec. 85(G), NIRC]

Mortes

• These transfers take effect after death
• These are included for tax, and must be in writing or a deed
• For Maglasang v Heirs of Cabatingan, G.R. No. 131953 (2002) has all requirements as disposition

Landed Property

• Estate must be placed wherever so long is that is for taxpayer that is for in the NRA