SEC 34 (Deductions From Gross Income)

2016 TAXATION 2 REVIEWER: TAX ON INCOME -- ALLOWABLE DEDUCTIONS
dTAXATION LAW 2
CHAPTER 7: Allowable Deductions
SEC. 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 other than under subsection (M;
Premium Payments on Health and/or Hospitalization Insurance of an Individual Taxpayer) , 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.
a. GR:. 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, including:
i. A reasonable allowance for salaries, wages, and other forms of compensation for personal services
actually rendered, including the grossed-up monetary value of fringe benefit furnished or granted by
the employer to the employee: Provided, FBT has been paid
ii. A reasonable allowance for travel expenses, here and abroad, while away from home in the pursuit of
trade, business or profession
iii. A reasonable allowance for rentals and/or other payments which are required as a condition for the
continued use or possession
iv. A reasonable allowance for entertainment, amusement and recreation expenses during the taxable year,
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 or its
trade, business or exercise of a profession not to exceed such ceilings as SEC of FINANCE may, by rules
and regulations prescribe, upon recommendation of the Commissioner, taking into account the needs as
well as the special circumstances, nature and character of the industry, trade, business, or profession of
the taxpayer:
1. Any expense 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.
b.
Substantiation Requirements. - No deduction from gross income shall be allowed unless the taxpayer shall
substantiate with sufficient evidence, such as official receipts or other adequate records:
i. Amount of the expense being deducted
ii. Direct connection or relation of the expense being deducted to the development, management,
operation and/or conduct of the trade, business or profession of the taxpayer.
c. Bribes, Kickbacks and Other Similar Payments. - No deduction from gross income shall be allowed under
CARVAJAL, KIM APPLE |MARTINEZ, MARA| MENDOZA, LAUREN| PARUNGO, ALEX | TAMAYO, JAI | YABUT, LEE
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SUBSEC (A) for any payment made, directly or indirectly, to an official or employee of the national
government, or to an official or employee of any local government unit, or to an official or employee of a
government-owned or -controlled corporation, or to an official or employee or representative of a foreign
government, or to a private corporation, general professional partnership, or a similar entity, if the payment
constitutes a bribe or kickback.
2. Expenses Allowable to Private Educational Institutions. - In addition to the expenses allowable as deductions under
this Chapter, a private educational institution, may at its option elect either:
a. To deduct expenditures otherwise considered as capital outlays of depreciable assets incurred during the
taxable year for the expansion of school facilities (or)
b. To deduct allowance for depreciation thereof under SUBSEC (F; depreciation of property).
B. Interest.
1. GR: - Amount of interest paid or incurred within a taxable year on indebtedness in connection with the taxpayer's
profession, trade or business shall be allowed as deduction from gross income:
a. LIMITATION: Allowable deduction for interest expense shall be reduced by an amount of the interest income
subjected to final tax: 33%
2. Exceptions. - No deduction shall be allowed in respect of interest:
a. If taxpayer reporting income on the cash basis incurs an indebtedness on which an interest is paid in advance
through discount or otherwise
i. Such interest shall be allowed a deduction in the year the indebtedness is paid
ii. 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 SEC 36(B)
i. 36(b): losses from sales or exchanges of property:
1. Between members of family
2. Between individual and corporation more than 50% in value of OCS owned by such individual
3. Between 2 corporationsmore than 50% OCS is owned by either one
4. Between grantor and fiduciary in trust
5. Between fiduciary in trust and another fiduciary in trust if grantor is the same person
6. Between fiduciary of trust and beneficiary of such trust.
c. If the indebtedness is incurred to finance petroleum exploration.
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
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b. Capital expenditure.
C. Taxes.
1. GR: Taxes paid or incurred within the taxable year in connection with the taxpayer's profession, trade or
business, shall be allowed as deduction
2. EXCEPTIONS:
a. Income tax provided for under this Title
b. Income taxes imposed by authority of any foreign country
i. This deduction shall be allowed in the case of a taxpayer who does not signify in his return his desire
to have to any extent the benefits of PAR (3) of this subsection (relating to credits for taxes of
foreign countries)
c. Estate and donor's taxes
d. Taxes assessed against local benefits of a kind tending to increase the value of the property assessed.
3. Taxes allowed under this Subsection, when refunded or credited, shall be included as part of gross income in the
year of receipt to the extent of the income tax benefit of said deduction.
4. Limitations on Deductions. - NRA engaged in trade or business in the Philippines and RFC, the deductions for
taxes shall be allowed only if and to the extent that they are connected with income from sources within the
Philippines.
5. Credit Against Tax for Taxes of Foreign Countries. - If the taxpayer signifies in his return his desire to have the
benefits of this paragraph, the tax imposed by this Title shall be credited with:
a. Citizen and Domestic Corporation. - amount of income taxes paid or incurred during the taxable year to any
foreign country
b. Partnerships and Estates. - In the case of any such individual who is a member of GPP or a beneficiary of an
estate or trust, his proportionate share of such taxes of GPP or the estate or trust paid or incurred during
the taxable year to a foreign country, if his distributive share of the income of such partnership or trust is
reported for taxation under this Title.
i. An alien individual and a foreign corporation shall not be allowed the credits against the tax for the
taxes of foreign countries allowed under this paragraph.
6. Limitations on Credit. - The amount of the credit taken under this Section shall be subject to each of the following
limitations:
a. Amount of the credit in respect to the tax paid or incurred to any country shall not exceed the same
proportion of the tax against which such credit is taken, which the taxpayer's taxable income from sources
within such country bears to his entire taxable income for the same taxable year
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b. Total amount of the credit shall not exceed the same proportion of the tax against which such credit is
taken, which the taxpayer's taxable income from sources without the Philippines taxable under this Title
bears to his entire taxable income for the same taxable year.
7. Adjustments on Payment of Incurred Taxes.
a. If accrued taxes when paid differ from the amounts claimed as credits by the taxpayer
b. If any tax paid is refunded in whole or in part
i. Taxpayer shall notify CIR; who shall redetermine the amount of the tax for the year or years affected
ii. Amount of tax due upon such redetermination shall be paid by the taxpayer upon notice and demand
by CIR, or the amount of tax overpaid, if any, shall be credited or refunded to the taxpayer.
c. In the case of such a tax incurred but not paid, CIR as a condition precedent to the allowance of tax credit
may require the taxpayer to give a bond with sureties, conditioned upon the payment by the taxpayer of
any amount of tax found due upon any such redetermination.
8. Year in Which Credit Taken. - Credits may, at the option of the taxpayer and irrespective of the method of
accounting employed in keeping his books, be taken in the year which the taxes of the foreign country were
incurred, subject, however, to the conditions prescribed in SUBSEC (5) of this Section.
a. If the taxpayer elects to take such credits in the year in which the taxes of the foreign country accrued, the
credits for all subsequent years shall be taken upon the same basis and no portion of any such taxes shall
be allowed as a deduction in the same or any succeeding year.
9. Proof of Credits. - Credits hall be allowed only if the taxpayer establishes to the satisfaction of the Commissioner
the following:
a. Total amount of income derived from sources without the Philippines
b. Amount of income derived from each country, the tax paid or incurred to which is claimed as a credit under
said paragraph, such amount to be determined under rules and regulations prescribed by the Secretary of
Finance; and
c. All other information necessary for the verification and computation of such credits.
D. Losses.
1. GR: Losses actually sustained during the taxable year and not compensated for by insurance or other forms of
indemnity shall be allowed as deductions:
a. If incurred in trade, profession or business
b. Of property connected with the trade, business or profession
c. If the loss arises from fires, storms, shipwreck, or other casualties, or from robbery, theft or embezzlement.
i. SF is hereby authorized to promulgate rules and regulations prescribing time and manner by which the
taxpayer shall submit a declaration of loss sustained from casualty or from robbery, theft or
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embezzlement during the taxable year
ii. Time limit shall not be less than 30 days nor more than 90 days from the date of discovery of the
casualty or robbery, theft or embezzlement giving rise to the loss.
d. No loss shall be allowed as a deduction if at the time of the filing of the return, such loss has been claimed as
a deduction for estate tax purposes in the estate tax return.
2. Proof of Loss. - In the case of NRA or FC, the losses deductible shall be those actually sustained during the year
incurred in business, trade or exercise of a profession conducted within the Philippines, when such losses are not
compensated for by insurance or other forms of indemnity.
i. SF is hereby authorized to promulgate rules and regulations prescribing time and manner by which the
taxpayer shall submit a declaration of loss sustained from casualty or from robbery, theft or
embezzlement during the taxable year
ii. Time limit shall not be less than 30 days nor more than 90 days from the date of discovery of the
casualty or robbery, theft or embezzlement giving rise to the loss.
3. Net Operating Loss Carry-Over.
a. GR: 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 3 consecutive taxable years immediately following the year of such
loss:
b. EXCEPTION:
i. 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
ii. NOLCO shall be allowed only if there has been no substantial change in the ownership of the business or
enterprise in that :
1. Not less than 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
2. Not less 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.
NET OPERATING LOSS: excess of allowable deduction over gross income of the business in a taxable year.
Mines other than oil and gas wells, a net operating loss without the benefit of incentives in Omnibus Investments Code,
incurred in any of the first 10 years of operation may be carried over as a deduction from taxable income for the 5 years
immediately following the year of such loss.
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Entire amount of the loss shall be carried over to the first of the 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 form the taxable income of the next
remaining 4 years.
4. Capital Losses.
a. Limitation. - Loss from sales or Exchanges of capital assets shall be allowed only to the extent provided in SEC
39
i. SEC 39 (Capital gains and losses)
b. Securities Becoming Worthless. - If securities as defined in SEC 22 (T) become worthless during the taxable
year and are capital assets, the loss resulting therefrom shall, for purposes of this Title, be considered as a
loss from the sale or exchange, on the last day of such taxable year, of capital assets.
i. SEC 22 (T): Shares of stock in a corporation and rights to receive such shares
5. Losses From Wash Sales of Stock or Securities. - Losses from "wash sales" of stock or securities as provided in SEC
38.
a. In the case of any loss claimed to have been sustained from any sale or other disposition of shares of stock or securities, the
taxpayer has acquired (by purchase or by exchange upon which the entire amount of gain or loss was recognized by law), or
has entered into a contact or option so to acquire, substantially identical stock or securities, then no deduction for the loss
shall be allowed under SEC 34 unless the claim is made by a dealer in stock or securities and with respect to a transaction
made in the ordinary course of the business of such dealer.
b. If the amount of stock or securities acquired (or covered by the contract or option to acquire) is less than the amount of
stock or securities sold or otherwise disposed of, then the particular shares of stock or securities, the loss form the sale or
other disposition of which is not deductible
c. If the amount of stock or securities acquired (or covered by the contract or option to acquire which) resulted in the nondeductibility of the loss
6. Wagering Losses. - Losses from wagering transactions shall be allowed only to the extent of the gains from such
transactions.
7. Abandonment Losses.
a. In the event a contract area where petroleum operations are undertaken is partially or wholly abandoned, all
accumulated exploration and development expenditures shall be allowed as a deduction:
b. In case a producing well is subsequently abandoned, unamortized costs, as well as undepreciated costs of
equipment directly used, shall be allowed as a deduction in the year such well, equipment or facility is
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abandoned by the contractor
i. if such abandoned well is reentered and production is resumed, or if such equipment or facility is
restored into service, the said costs shall be included as part of gross income in the year of resumption
or restoration and shall be amortized or depreciated.
E. Bad Debts.
1. GR: Debts due to the taxpayer actually ascertained to be worthless and charged off within the taxable year
2. EXCEPTION:
a. Those not connected with profession, trade or business
b. Those sustained in a transaction entered into between parties mentioned under Section 36 (B)
i. 36(b): losses from sales or exchanges of property:
1. Between members of family
2. Between individual and corporation more than 50% in value of OCS owned by such individual
3. Between 2 corporationsmore than 50% OCS is owned by either one
4. Between grantor and fiduciary in trust
5. Between fiduciary in trust and another fiduciary in trust if grantor is the same person
6. Between fiduciary of trust and beneficiary of such trust.
c. Recovery of bad debts previously allowed as deduction in the preceding years shall be included as part of
the gross income in the year of recovery to the extent of the income tax benefit of said deduction.
3. Securities Becoming Worthless. - If securities are ascertained to be worthless and charged off within the taxable
year and are capital assets, the loss shall be considered as a loss from the sale or exchange, on the last day of
such taxable year, of capital assets.
a. In the case of a taxpayer other than a bank or trust company incorporated under Philippines a substantial
part of whose business is the receipt of deposits
F. Depreciation.
1. GR: There shall be allowed as a depreciation deduction a reasonable allowance for the exhaustion, wear and tear
(including reasonable allowance for obsolescence) of property used in the trade or business.
a. In the case of property held by one person for life with remainder to another person, the deduction shall be
computed as if the life tenant were the absolute owner of the property.
b. In the case of property held in trust, allowable deduction shall be apportioned between the income
beneficiaries and the trustees in accordance with instrument creating the trust, or in the absence of such
provisions, on trust income allowable to each.
2. Use of Certain Methods and Rates. REASONABLE ALLOWANCE: shall includean allowance computed by the
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Secretary of Finance, under any of the following methods:
a. Straight-line method
b. Declining-balance method, using a rate not exceeding twice the rate which would have been used had the
annual allowance been computed under the method described in SUBSEC (F)(1) (depreciation)
c. Sum-of-the-years-digit method
d. Any other method which may be prescribed by SF.
3. Agreement as to Useful Life on Which Depreciation Rate is Based.
a. Where under rules and regulations prescribed by SF, taxpayer and CIR have entered into an agreement in
writing specifically dealing with the useful life and rate of depreciation of any property, rate so agreed
upon shall be binding on both the taxpayer and the national Government
b.
Responsibility of establishing the existence of such facts and circumstances shall rest with the party
initiating the modification.
c. Any change in the agreed rate and useful life of the depreciable property shall not be effective for taxable
years prior to the taxable year in which notice is served by the party initiating such change to the other
party to the agreement
i. Where the taxpayer has adopted such useful life and depreciation rate for any depreciable and
claimed the depreciation expenses as deduction from his gross income, without any written
objection on CIR, the aforesaid useful life and depreciation rate so adopted by the taxpayer for the
aforesaid depreciable asset shall be considered binding for purposes of this Subsection.
4. Depreciation of Properties Used in Petroleum Operations.
a. An allowance for depreciation shall be allowed under the straight-line or declining-balance method of
depreciation at the option of the service contractor.
i. If the service contractor initially elects the declining-balance method, it may at any subsequent date,
shift to the straight-line method.
ii. Useful life of properties used in or related to production of petroleum shall be 10 years of such
shorter life as may be permitted by the Commissioner.
iii. Properties not used directly in the production of petroleum shall be depreciated under the straightline method on the basis of an estimated useful life of 5 years.
5. Depreciation of Properties Used in Mining Operations.
a. Allowance for depreciation in respect of all properties used in mining operations other than petroleum
operations, shall be computed as follows:
i. At the normal rate of depreciation if the expected life is 10 years or less
ii. Depreciated over any number of years between 5 years and the expected life if the latter is more
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than 10 years, and the depreciation thereon allowed as deduction from taxable income
6. Depreciation Deductible by Nonresident Aliens Engaged in Trade or Business or Resident Foreign Corporations. In the case of a NRA engaged in trade or business or RFC, a reasonable allowance for the deterioration of
Property shall be permitted only when such property is located in the Philippines.
G. Depletion of Oil and Gas Wells and Mines.
1. GR: In the case of oil and gas wells or mines, a reasonable allowance for depletion or amortization computed in
accordance with the cost-depletion method shall be granted
a. When the allowance for depletion shall equal the capital invested no further allowance shall be granted
b. After production in commercial quantities has commenced, certain intangible exploration and development
drilling costs:
i. Shall be deductible in the year incurred if such expenditures are incurred for non-producing wells
and/or mines, or
ii. Shall be deductible in full in the year paid or incurred or at the election of the taxpayer, may be
capitalized and amortized if such expenditures incurred are for producing wells and/or mines in the
same contract area.
INTANGIBLE COSTS IN PETROLEUM OPERATIONS: cost incurred in petroleum operations which in itself has no salvage value
and which is incidental to and necessary for the drilling of wells and preparation of wells for the production of petroleum
It shall not pertain to the acquisition or improvement of property of a character subject to the allowance for
depreciation except that the allowances for depreciation on such property shall be deductible.
Any intangible exploration, drilling and development expenses allowed as a deduction in computing taxable income
shall not be taken into consideration in computing the adjusted cost basis for computing allowable cost depletion.
2. Election to Deduct Exploration and Development Expenditures.
a. Taxpayer may at his option:
i. Deduct exploration and development expenditures accumulated as cost or adjusted basis for cost
depletion as of date of
ii. Deduct exploration and development expenditures paid or incurred during the taxable year
b. Amount deductible for exploration and development expenditures shall not exceed 25% of the net income
from mining operations computed without the benefit of any tax incentives.
c. Actual exploration and development expenditures minus 25% of the net income from mining shall be
carried forward to the succeeding years until fully deducted.
d. Election by the taxpayer to deduct the exploration and development expenditures is irrevocable and shall
be binding in succeeding taxable years
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NET INCOME FROM MINING OPERATIONS: gross income from operations less "allowable deductions" which are necessary or
related to mining operations.
ALLOWABLE DEDUCTIONS: mining, milling and marketing expenses, and depreciation of properties directly used in the mining
operations.
e. This paragraph shall not apply to:
i. Expenditures for the acquisition or improvement of property of a character which is subject to the
allowance for depreciation.
ii. Amounts paid or incurred for the exploration and development of oil and gas.
EXPLORATION EXPENDITURES: expenditures paid or incurred for the purpose of ascertaining the existence, location, extent or
quality of any deposit of ore or other mineral, and paid or incurred before the beginning of the development stage of the mine
or deposit.
DEVELOPMENT EXPENDITURES: expenditures paid or incurred during the development stage of the mine or other natural
deposits.
Development stage of a mine or other natural deposit shall begin at the time when deposits of ore or other minerals are
shown to exist in sufficient commercial quantity and quality and shall end upon commencement of actual commercial
extraction.
3. Depletion of Oil and Gas Wells and Mines Deductible by a NRA or FC. - In the case of a nonresident alien individual
engaged in trade or business in the Philippines or a resident foreign corporation, allowance for depletion shall be
authorized only in respect to oil and gas wells or mines located within the Philippines.
H. Charitable and Other Contributions
1. GR:. Contributions or gifts actually paid or made within the taxable year to:
a. Use of the Government of the Philippines or any of its agencies or any political subdivision exclusively
for public purposes
b. Accredited domestic corporation or associations organized and operated exclusively for religious,
charitable, scientific, youth and sports development, cultural or educational purposes or for the
rehabilitation of veterans
c. Social welfare institutions, or to non-government organizations
i. No part of the net income of which inures to the benefit of any private stockholder or individual in
an amount not in excess of:
1. 10% in the case of an individual
2. 5% in the case of a corporation, of the taxpayer's taxable income derived from trade,
business or profession as computed without the benefit of this and the following
subparagraphs.
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2. Contributions Deductible in Full. - Notwithstanding the provisions of the preceding subparagraph, donations to
the following institutions or entities shall be deductible in full
a. Donations to the Government. - Donations to the Government of the Philippines or to any of its agencies
or political subdivisions, including fully-owned government corporations, exclusively to finance, to
provide for, or to be used in undertaking priority activities in education, health, youth and sports
development, human settlements, science and culture, and in economic development according to a
National Priority Plan determined by NEDA
i. Any donation which is made to the Government or to any of its agencies or political subdivisions
not in accordance with the said annual priority plan shall be subject to the limitations prescribed
in PAR (1) of this Subsection
b. Donations to Certain Foreign Institutions or International Organizations. - Donations to foreign
institutions or international organizations which are fully
c. Donations to Accredited Nongovernment Organizations. NONGOVERNMENT OPERATION: a non profit
domestic corporation:
i. Organized and operated exclusively for scientific, research, educational, character-building and
youth and sports development, health, social welfare, cultural or charitable purposes, or a
combination thereof, no part of the net income of which inures to the benefit of any private
individual
ii. Which, not later than the 15th day of the third month after the close of the accredited
nongovernment organizations taxable year in which contributions are received, makes utilization
directly for the active conduct of the activities constituting the purpose or function for which it is
organized and operated, unless an extended period is granted by the Secretary of Finance in
accordance with the rules and regulations to be promulgated, upon recommendation of the
Commissioner
iii. Level of administrative expense of which shall, on an annual basis but in no case to exceed thirty
percent (30%) of the total expenses;
iv. Assets of which, in the even of dissolution, would be distributed to another nonprofit domestic
corporation organized for similar purpose or purposes, or to the state for public purpose, or
would be distributed by a court to another organization to be used in such manner as in the
judgment of said court shall best accomplish the general purpose for which the dissolved
organization was organized.
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v. UTILIZATION:
1. Any amount in cash or in kind (including administrative expenses) paid or utilized to
accomplish one or more purposes for which the accredited nongovernment organization
was created or organized.
2. Any amount paid to acquire an asset used (or held for use) directly in carrying out one or
more purposes for which the accredited nongovernment organization was created or
organized.
3. An amount set aside for a specific project which comes within one or more purposes of the
accredited nongovernment organization may be treated as a utilization, but only if at the
time such amount is set aside, the accredited nongovernment organization has established
to the satisfaction of the Commissioner that the amount will be paid for the specific project
within a period to be prescribed by the Secretary of Finance, upon recommendation of the
Commissioner, but not to exceed 5 years, and the project is one which can be better
accomplished by setting aside such amount than by immediate payment of funds
3. Valuation - The amount of any charitable contribution of property other than money shall be based on the
acquisition cost of said property.
4. Proof of Deductions.chanrobles virtual law library - Contributions or gifts shall be allowable as deductions only
if verified under the rules and regulations prescribed by the Secretary of Finance, upon recommendation of
the Commissioner.
I.
Research and Development.

1. GR: - Research or development expenditures paid or incurred by him during the taxable year which are not
chargeable to capital account shall be allowed as deduction during the taxable year when paid or incurred.
2. Amortization of Certain Research and Development Expenditures. - Following research and development
expenditures may be treated as deferred expenses:
a. Paid or incurred by the taxpayer in connection with his trade, business or profession
b. Not treated as expenses under capital account
c. Chargeable to capital account but not chargeable to property of a character which is subject to
depreciation or depletion.
In computing taxable income, such deferred expenses shall be allowed as deduction ratably distributed over a period of not
less than 60 months as may be elected by the taxpayer (beginning with the month in which the taxpayer first realizes benefits
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from such expenditures). This may be made not later than the time prescribed by law for filing the return for such taxable
year.
Method so elected, and the period selected by the taxpayer, shall be adhered to in computing taxable income for the taxable
year for which the election is made and for all subsequent taxable years unless with the approval of the Commissioner, a
change to a different method is authorized with respect to a part or all of such expenditures. Election shall not apply to any
expenditure paid or incurred during any taxable year for which the taxpayer makes the election.
3. Limitations on Deduction. - This Subsection shall not apply to
a. Any expenditure for the acquisition or improvement of land, or for the improvement of property to be used
in connection with research and development of a character which is subject to depreciation and depletion
b. Any expenditure paid or incurred for the purpose of ascertaining the existence, location, extent, or quality
of any deposit of ore or other mineral, including oil or gas.
J.
Pension Trusts - An employer establishing or maintaining a pension trust to provide for the payment of reasonable
pensions to his employees shall be allowed as a deduction (in addition to the contributions to such trust during the
taxable year to cover the pension liability accruing during the year, allowed as a deduction) a reasonable amount
transferred or paid into such trust during the taxable year in excess of such contributions, but only if such amount:
a. Not theretofore been allowed as a deduction,
b. Apportioned in equal parts over a period of 10 consecutive years beginning with the year in which the transfer or
payment is made.
K. Additional Requirements for Deductibility of Certain Payments. - Any amount paid or payable which is otherwise
deductible from, or taken into account in computing gross income or for which depreciation or amortization may be
allowed under this Section, shall be allowed as a deduction only if it is shown that the tax required to be deducted and
withheld therefrom has been paid to BIR.
L. Optional Standard Deduction. - An individual subject to tax under Section 24, other than a nonresident alien, may elect
a standard deduction in an amount not exceeding 10% of his gross income.
a. Unless the taxpayer signifies in his return his intention to elect the optional standard deduction, he shall be
considered as having availed himself of the deductions allowed in the preceding Subsections.
i.
This when made in the return shall be irrevocable for the taxable year for which the return is made
b. An individual who is entitled to and claimed for the optional standard deduction shall not be required to submit
with his tax return such financial statements
i.
Except when the Commissioner otherwise permits, the said individual shall keep such records pertaining
to his gross income during the taxable year, as may be required by the rules and regulations promulgated
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by the SF.
M. Premium Payments on Health and/or Hospitalization Insurance of an Individual Taxpayer.
a. Amount of premiums not to exceed P2,400 per family or P200 a month paid during the taxable year for health
and/or hospitalization insurance taken by the taxpayer for himself, including his family, shall be allowed as a
deduction from his gross income
i.
Said family has a gross income of not more than P250,000 for the taxable year
b. In the case of married taxpayers, only the spouse claiming the additional exemption for dependents shall be
entitled to this deduction.
SF after a public hearing shall have been held for this purpose, may prescribe by rules and regulations, limitations or ceilings
for any of the itemized deductions under SUBSEC (A) to (J) of this Section:
For purposes of determining such ceilings or limitations, the Secretary of Finance shall consider the following factors:
1. Adequacy of the prescribed limits on the actual expenditure requirements of each particular
industry; and
2. Effects of inflation on expenditure levels: Provided, further, That no ceilings shall further be
imposed on items of expense already subject to ceilings under present law.
Expenses
Allowable deductions
In computing taxable income allowable deductions are subtracted from gross income to measure the tax base.
Itemized deductions
Expenses which are allowed form adjusted gross income itemized in
detail under their appropriate captions and subtracted to arrive at
income subject to tax.
Standard deductions
Option available to taxpayers whereby they can deduct a specified
amount from adjusted gross income instead of itemizing the
deductions.
These include ordinary and necessary expenses interest taxes

losses bad debts depreciation depletion of oil and gas wells and
mines charitable and other contributions research and development
expenditures and pension trust contributions.
This is generally used by taxpayers who do not have deductions which

exceed the standard deduction assigned to them.
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1. Deduction vs. Exemption and Exclusion

Deduction
Exemption
Subtraction from gross income to
Immunity or privilege from a
arrive at taxable income.
burden.
Refers to actual expenses paid
during the tax year.
In general the greater the qualified

expenses the lower the taxable
income.
Exclusion
Income received or earned but is not taxable as income because
it is exempted by law or by treaty (or a non-recognition rule)
effectively providing a subsidy for excluded amount.
Relates to filing status and to

number of dependents.
Lowers tax liability by allowing the
subtraction of an equal amount for
each person a taxpayer claims as
dependentin addition to himself
or his spouse.
May be a grant of immunity to particular persons or corporations

of a particular class from a tax which others generally are
obliged to pay.
Any person can claim a personal

exemption for himself unless he is
anothers dependent.
Illustration:
Employers contributions to retirement savings
plans are not considered income on part of
employees
o Employees contributions are subtracted from
their taxable income
Amounts that employers pay for employees
health life and accident insurance as well as
housing loans are not considered taxable income
for employees thus subsidizing the purchase of
employment-based benefits.
The more dependents (maximum

of 4) the lower the taxable
income.
Not included in income tax return unless information is required

therein. Some are excluded because of difficulty to measure
them.
2. Expenses in General
DEDUCTIBLE EXPENSES: cost of carrying on a trade or business or in the exercise of profession. These are usually deductible if undertaking is
done to make profit.
Conditions for deductibility of business expenses
Ordinary and necessary
Paid or incurred during taxable year
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Paid or incurred in carrying on a trade or business or exercise of profession

Taxpayer must prove by evidence or records the deductions claimed under law
Must not be contrary to law public policy or morals
Reasonable and/or within the ceiling set by law or regulations
If covered by the withholding tax system/rules appropriate amount of withholding tax on expense has been withheld and remitted to
BIR
BUSINESS TEST: first 3 conditions

In connection with 2nd and 3rd condition there must be proper matching of income and expense wherein expenses incurred in a given
period are matched with the revenue earned in the same period
o MATCHING PRINCIPLE: matching of revenue and expenses; where expenses were not related to the generated income said
expenses must not be allowed as deductible.
Considered waiveda taxpayer who is authorized to deduct expenses and other allowable deductions but failed to do so.
SEC 6 NIRCany return statement of declaration filed in any office authorized to receive the same same may be modified changed or
amended within 3 years from date of such filing.
4th conditionmere allegation that an item of expense is ordinary and necessary does not justify its deductions.
6th conditiontaxpayer is free to deduct a lesser amount or not to claim any deduction at all. What is prohibited is claiming a deduction
beyond the amount authorized.
7th conditionany income payment which is otherwise deductible under NIRC shall be allowed as deduction from the payors gross income
only if it is shown that the income tax required to be withheld has been paid. NO deduction will be allowed notwithstanding payments of
withholding tax at time of audit investigation or reinvestigation in cases where withholding of tax was made.
a. When charges are deductible/overlapping
Expenses liabilities or deficit of 1 year cannot be used to reduce the income of a subsequent year. However when there are certain
overlapping items in income and deduction so long as these overlapping items do not distort the income they may be included in year in
which taxpayer pursuant to a consisting policy takes them into his accounts.
Judicial adjudications on account of damages for patent infringement personal injuries or other causes are deductible from gross income
when claim is so adjudicated or paid unless take under other methods of accounting which clearly reflect the correct deduction less any
amount of such damages as may have been compensated for by insurance or otherwise.
If subsequent to its occurrence a taxpayer first ascertains he amount of a loss sustained during a prior taxable year which has not been
deducted from gross income he may render an amended return for such preceding taxable year including such amount of loss in the
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deduction from gross income and may in proper cases file a claim for refund of the excess tax paid for failure to deduct such loss in the
original return.
A loss from theft or embezzlement occurring in 1 year and discovered in another is deductible for year it which sustained.
3. Existence of law authorizing deduction: He must point to some specific provision of the statute in which that deduction is
authorized and must be able to prove that he is entitled to the deduction which the law allows.
4. Strict construction
Tax exemptions are construed against the taxpayer.
5.
Taxpayers entitled to deductions

Resident citizen nonresident citizen and resident alien deriving income from sources other than compensation
Nonresident alien engaged in trade or business
Members of GPP
Domestic corporations
Proprietary educational institutions and hospitals
GOCC agencies and instrumentalities
Resident foreign corporations
Following cannot avail deductions:

Resident citizen non-resident citizen and resident alien whose income is purely compensation income except for:
o Basic personal exemption
o Additional exemption for dependents
o Premium payments on health and/or hospitalization insurance
Nonresident alien engaged in trade or business in Philippines is entitled to itemized deductions but not to optional standard deductions
Nonresident alien not engaged in trade or business in Philippines since gross income from sources within is subject to 25% final tax
Nonresident foreign corporation since gross income from sources within is subject to final tax of 30%
6. Substantiation rules
No deduction from income shall be allowed unless taxpayer shall substantiate with sufficient evidence such as OR or other adequate records:
Amount of expenses being deducted
Direct connection or relation of expense being deducted to development management operation and/or conduct of trade business or
profession of taxpayer
RR 17-2013: receipts and papers supporting the expenses need be kept by taxpayer for 10 years from last entry.
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If at the time of investigation said 10 years had lapsed taxpayers expenses even if not properly substantiated may be sustained.
a. COHAN PRINCIPLE
GR: if record provides sufficient evidence that taxpayer has incurred a deductible expense but taxpayer is unable to adequately substantiate
the amount of deduction to which he is otherwise entitled Court may estimate the amount of such expense and allow a deduction to that
extent. However in order for the Court to estimate the amount of an expense there must be some basis upon which an estimate may be
made. Without such basis any allowance would amount to unguided largesse.
COHAN vs. COMMISSIONERUS Tax Court allowed claimed deduction for being a deductible expense even without any sufficient evidence.
Cohan was obliged to be free-handed in entertaining actors employees and dramatic critics. He has to travel much. These expenses
amounted to substantial sums but he kept no account and could not have done so. At the trial before the Board he estimated that he had
spent $55000 in all. Board refused to allow him any part of this on ground that it was impossible to tell how much he had in fact spent in
absence of any items or details.
ISSUE: WON Board refusal was justified
HELD: Board should make as close an approximation as it can. If there was basis for some allowance and it was wrong to refuse any it is not
fatal that result will inevitably be speculative.
EXCEPTIONS TO COHAN PRINCIPLE:
When taxpayer has access to substantiating evidence but fails to produce it.
When insufficient evidence exists in support of deduction
Subject to 50% limitation on deduction or any other percentage set by law or regulations (e.g. limit on entertainment amusement and
recreation).
Illustration
H used his car and driver both for personal and business purposes. There was no clear showing that car was more
devoted for business than for his personal and business needs. May he deduct as deduction of car and driver
expenses?
o YES. It is reasonable.
7. Accounting methods
Except where final taxes on certain transactions are imposed liability of taxpayers from income tax is determined on basis of taxable year
calendar or fiscal covering 12-month period. NIRC does not prescribe an accounting method it allows the taxpayer to adopt a standard
method as long as it can properly reflect his income and his deductions and that it is used by him with consistency. However the law
recognizes principal accounting methods such as cash basis and accrual basis methods.
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SEC 45 NIRCdeductions shall be taken for the taxable year in which paid or accrued or paid or incurred dependent upon the method of
accounting the basis of which net income is computed unless in order to clearly reflect the income deductions should be taken as of a
different period.
In case of death of taxpayer there shall be allowed as deductions for taxable period in which falls the date of his death amounts accrued up to
date of his death if not otherwise properly allowable in respect of such period or prior period.
a. Accrual method vs. Cash method
Accrual method
Method of keeping accounts which shows expenses incurred and
income earned for a give period although such expenses and income
may not have been actually paid or received.
Right to receive and not actual receipt determines inclusion of
amount in gross income.
When right to receive an amount becomes fixed right accrues.
Obligations payable to or by taxpayer are treated as if discharged
when incurred.
Cash method
Practice of recording of income and expense only when cash is
received or paid out.
It reflects deductions as paid and income as received in any one tax
year.
It is system of accounting which treats as income only cash which is
actually received and as expense only cash which is actually paid out
in contrast to accrual basis which records income when due though
not received and expense when incurred though noy yet paid.
Follows ALL-EVENTS TEST:

Right to income is fixed (in case of income) or all events have
occurred which established fact of liability (in case of
deduction)
Amount can be determined with reasonable accuracy.
b. ALL EVENTS TEST and Propriety of Accrual
ALL-EVENTS TEST: right to income or liability be fixed and determined with reasonable accuracy.
This test does not demand that amount of income be known absolutely only that a taxpayer has at his disposal the information necessary to
compute the amount with reasonable accuracy.
It is satisfied where computation remains uncertain if its basis is unchangeablewhere computation may be unknown but is not as much as
unknowable within the taxable year. Amount of liability does not have to be determined exactly but with reasonable accuracy.
Ordinary and necessary trade business or professional expenses
Reasonable allowance for salaries wages and other forms of compensation for personal services actually rendered including grossedup monetary value of fringe benefit furnished or granted by employer to employee provided that fringe benefit tax has been paid.
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Reasonable allowance for travel expenses local and abroad while away from home in the pursuit of trade business or profession
Reasonable allowance for rentals and/or other payments which are required as a condition for continued use or possession for
purposes of trade business or profession of property to which the taxpayer has not taken or is not taking title or in which he has no
equity other than that of a lessee user or possessor
Reasonable allowance for entertainment amusement and recreation expenses during the taxable year that are directly connected to
development management and operation of trade business or profession of the taxpayer or that are directly related to or in
furtherance of conduct of his or its trade business or exercise of a profession not to exceed set ceilings.
Ordinary and necessary expenditures directly connected with or pertain to taxpayers trade or business.
o Cost of goods purchased for resale with property adjustment for opening and closing inventories is deducted from gross sales
in computing gross income.
Management expenses
Commissions
Labor
Supplies
Incidental repairs
Operating expenses of transportation
Equipment used in trade or business
Travelling expenses while away from home solely for the pursuit of trade or business
Advertising and other selling expenses
Insurance premiums against fire storm theft accident or other similar losses in case of a business and rental for use of
business property
1. Definitions of ordinary and necessary

It is mandatory that all expenses be both ordinary and necessary. However not all are under circumstances allowed as deduction in an
unlimited amount. Deduction claimed must be justified as reasonable in nature and amount.
a. Ordinary: One that is common and accepted to incur in the trade or business of taxpayer. It must be in reasonable amount. If
expense is extraordinary it will not be disallowed permanently. Expenditure may be capitalized for which depreciation allowance
may be claimed over a period of time and not outright.
PRINCIPAL FUNCTION: to distinguish a deductible expense from one that is capital.
Ordinary expense may be fully deducted during taxable year.
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Capital expenditure must be depreciated over the life of the asset with which expenditure is associated or where no specific asset or useful life
can be ascertained it is deducted upon dissolution of enterprise.
Following not considered ordinary expenses:
Payments by the taxpayer for repair of fire damage such payments being distinguished from those for wear and tear
Counsel fees incurred by taxpayer president of a corporation in prosecuting a slander suit to protect his reputation and that of his
business
Gratuitous payments to stockholders in settlement of disputes between them or to assume the expense of a lawsuit in which they had
been made defendants
Payments in settlement of a lawsuit against a member of partnership effect being to enable him to devote his undivided efforts to the
partnership business and also to protect his credit.
b. Necessary: One that is helpful and appropriate for trade or business or occupation. Expense does not have to be indispensable
to be considered necessary. It is also necessary if intended to minimize losses or to increase its profits. It is distinguished from
personal expenditure or from one not pertinent to business of taxpayer. This refers to business day-to-day expenses.
It does not mean that payments must be habitual for them to be ordinary. Expense is ordinary because from experience that payments for
such a purpose whether amount is large or small are the common and accepted means of defense against attack.
Illustrations
X CORP owns a fleet of tank trucks which it leases to motor carriers for transportation of bulk liquids. In 2001 some
cities imposed maximum weight limits for motor vehicles on highways. Some restricted truckers to 45000 pounds while
others allowed 60000 pounds. X CORP deliberately operated its trucks overweight in hope at calculated risk of
escaping the police. During tax year 2001 X CORP paid P41000 o fines and costs for violations. May deduction of that
amount be allowed?
o NO. Expense cannot be considered necessary if allowance of deduction would frustrate national policies proscribing particular
conduct evidence by some government declaration. Fines by penal statutes are enacted to protect highways from damage and
to insure safety of persons using them.
X was the secretary of W CORP engaged in grain business. Company was adjudged an involuntary bankrupt and had a
discharge from its debts. Thereafter X made a contract with K CORP to purchase grain for it on commission. In order to
re-establish his relations with customers whom he had known when acting for W CORP and to solidify his credit and
standing he decided to pay the debts of W CORP as he was able. In fulfillment of that resolve he made payments
during 5 successive years. Are payments deductible from income as ordinary and necessary expenses?
o Men do at times pay debts of others without legal obligation or lighter obligation imposed by usages of trade or by neighborly
amenities but they do not do so ordinarily even to heighten their reputation for generosity. Payment is not ordinary.
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A non-resident foreign corporation incurred expenses paid by its branch in the Philippines. Are expenses deductible by
branch?
o A branch which assumed payment attributable to its head office cannot claim the same as ordinary and necessary for its own
trade or business. Taxpayer cannot merely presume that all corporate expenses are necessary and appropriate in the absence of
showing that they are illegal or ultra vires. They have the burden of justifying the allowance of any deduction claimed.
Z CORP is an entity operating a hospital and a nursing school. It earned interests and dividends from its investments. To
lower its tax liability it deducted administrative expenses to its interests and dividends income. Is the deduction
proper?
o NO. Interests and dividends by A CORP were merely incidental income to its main activity which is the operation of its hospital
and nursing schools hence its activities never went beyond of passive investor which do not come within purview of carrying on
any trade or business. Passive income is subject to final tax imposed on gross amount. No deductions are allowed.
P CORP intends to self-insure its real and personal properties instead of insuring the same with insurance companies.
Plan for self-insurance will be funded through creation of a sinking fund to be managed by an independent trustee
bank. Fund will be segregated and will no longer form part of assets of P CORP and will answer for catastrophic losses
which may be suffered by it. P CORP will contribute annually to the sinking fund and that the amount to be contributed
will be based on prior years insurance premium payments. Is the amount paid to the sinking fund deductible?
o While regular premium payment to an insurance company is a deductible expense because it is ordinary amount paid to a
sinking fund as a form of self-insurance will not qualify as an ordinary expense because self-insurance is not an ordinary means
of insuring business assets. Ordinary expense connotes payment normal in relation to the business of the taxpayer and the
surrounding circumstances.
Even though expense may be considered ordinary and necessary taxpayer may still not be allowed to deduct the expense in the year he paid
or incurred (cost of goods sold and capital expenditures). In some cases taxpayer may not be allowed to deduct expense at all (personal
expense).
2. CAPITAL EXPENDITURE: outlay of funds for acquisition or improvement of a fixed asset which extends the life or increases the
productivity of asset.
Expenditure for asset should be capitalized and depreciated over estimated life of the asset. These are not deductible in taxable income.
However although taxpayer generally cannot take a current deduction for a capital expense he may be able to recover the amount he used
through depreciation amortization or depletion.
3 types of costs are capitalized:
Organization/pre-operating costs
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Business assets
Improvements
a. Organization and pre-operating costs

It may be treated as deferred expenses and deducted for a period not less than 60 days beginning from first month the corporation is active in
business.
Therefore taxpayers who pay or incur business start-up expenditures and subsequently enter trade or business to which expenditures relate
can elect to amortize these expenditures over a period of not less than 60 months. Amortization period commences with the month in which
the business begins.
To qualify for amortization expenditure must be paid and incurred in connection with creating or investigating the creation or acquisition of an
active trade or business entered into by taxpayer.
START-UP EXPENDITURES include: amounts paid or incurred before and in anticipation of the start of business in an activity for profit or
production of income.
A corporation is considered to begin business when it commences the activities for which it was organized. This occurs after charter or AOI is
issued.
i. Pre-operational costs of real estate developer
In case of a newly established real estate company:
When land is acquired on installment plan or credit financing interest element or carrying charge should be charged as interest
expense and not as part of cost of asset.
Interest or financing cost should be treated as expense during which credit was extended and should be amortized over credit period.
Interest expense should not be classified as deferred charges in form of pre-operating expense.
o Pre-operating expenses include only organizational cost research and development cost and other expenses relative to
organization of company.
Interest paid on loan obtained for purchase of land should neither be treated as pre-operating expense in period when incurred.
o Registration fees documentary stamps and transfer fees should form part of cost of land acquired.
ii. Expenses in Mergers and Acquisitions

Salaries paid to corporate officers who provided services for capital acquisition are deductible as ordinary business expenses.
Investigatory expenses before signing merger/consolidation agreement are deductible in the year incurred.
Investigatory expenses incurred by taxpayer after singing the merger/consolidation agreement are capital expenditures and not eligible for
deduction.
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b. Business assets
GR: Costs of acquiring equipment machinery fixtures or other items having a useful life beyond the taxable year are considered capital
expenditures.
Business assets benefit the taxpayer for more than 1 year.
Taxpayer must depreciate the asset by deducting portion of cost over several years.
Land is not depreciated because it is assumed to last indefinitely.
There are assets which may have a useful life exceeding 1 year but cannot be capital expenditure.
Promotional items of softdrinks company (electric coolers and ice coolers) to be distributed to dealers-retailers of softdrinks are considered
ordinary and necessary expenses deductible in the net income.
i. Tools
These are deductible expenses if the tools have a life expectancy of less than 1 year or their cost is minor.
ii. Improvements
These are capital expenses if improvements add to the value of the asset appreciably lengthen the time it can be used or adapt it to a
different use.
Improvements are generally major expenditures.
Examples:
New electric wiring
New roof
New floor
New plumbing
Bricking up windows to strengthen a wall
Lighting improvements
However a taxpayer can currently deduct repairs that keep the property in a normal efficient operating condition. Business expense to replace
parts of a machine that only keep it in a normal operating condition is treated as ordinary repairs and therefore deductible.
3. Bribes kickbacks and similar payments (illegal payments)
These are taxable income on part of recipient. However it is not deductible on part of payer.
a. Legal expenses deductible from illegal income
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Illegal income is includable in computation of gross income but illegal expenses are not deductible from gross income even if from a legal
source. This rule applies if expense is contrary to morals or public policy or order.
If expense is legal it may be deducted regardless of legality or illegality of income. It is possible to incur legal expenses in conduct of an illegal
business.
In case of illegal business deductibility of expense depends on whether the expense is legal or illegal. If expense is legal it may be deducted
from illegal income on which it is incurred unless there is a law prohibiting the deduction.
Legal expenses connected to an illegal income or any excess may not be deducted from legal income and vice-versa. Former is not incurred to
earn the latter.
Illustration
X received income from conduct of illegal enterprise and incurred salary expenses: for services performed by
employees and payment of rent for use of premises for an illegal enterprise. May the amounts be deducted from gross
income since those were for expenditures in connection of an illegal act?
o In absence of law to the contrary fact that expenditure bears a remote relation to an illegal act does not make it nondeductible.
Amounts paid as wages to employees and to landlord as rent are ordinary and necessary expenses. That is enough to permit the
deduction unless it is clear that allowance is a device to avoid consequence of violation of law or otherwise contravenes states
policy expressed in a statute or regulation.
4. Personal expenses
It is not included to allowable deductions.
If a taxpayer has an expense for something used partly for business and partly for personal purposes total cost shall be divided between
business and personal portions. Business portion may be deducted while personal portion is not deductible.
If a taxpayer uses his car partly for personal use and partly for profession he is not entitled to claim a deduction for his car use from home to
office and back. He is however entitled to a deduction of that portion of his expenses in connection to car use related to his profession.
Compensation for personal services
GR: a business can claim a tax deduction for salary wages commissions bonuses and other compensation (holiday hazard OT and night shift
differential) it pays to its employees.
TEST: whether compensation payments are reasonable and are payments purely for service.
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Illustrations
Any amount paid in the form of compensation but not in fact as purchase price of services is not deductible.
o Ostensible salary paid by a corporation may be a distribution of dividend on stock. This occurs when corporation has few
shareholders all of whom draw salaries.
If in such case salaries are in excess of those ordinarily paid for similar services and excessive payment bear a close
relationship to stockholdings of officers or employees it would seem that salaries are not paid wholly for services
rendered but more of distributions of earnings upon stock.
o Ostensible salary may be in part payment of property.
This occurs when partnership sells out to a corporation the former partners agreeing to continue in the service of the
corporation.
It may be found that salaries of former partners are not merely for services but in part as payment for transfer of
business.
Form or method of fixing compensation is not decisive as to deductibility.

o If contingent compensation is paid pursuant to a free bargain between the employer and the individual made before services are
rendered not influenced by any consideration on part of employer other than that of securing on fair and advantageous terms
the services of the individual it should be allowed as a deduction even though in the actual working out of the contract it may
prove to be greater than the amount which would ordinarily be paid.
In any event the allowance for compensation paid may not exceed what is reasonable in all circumstances.
o Circumstances to be taken into consideration are those existing at the date when contract for services was made not those
existing at the date when contract is questioned.
1. Factors considered in determining reasonableness of compensation

If a pay is excessive excess pay is disallowed as deduction. Following is a non-exclusive list of factors that may be considered in determining
whether compensation of an employee manager or 3rd party is reasonable:
Arms length negotiation
o However lack of arms length negotiation does not make the compensation unreasonable as a matter of law.
Comparable services from a 3rd party
Nature of duties
Background and experience
Salary history
Contribution to organizations success
Time devoted in performing services to the organization
Size of organization
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Amount of employers income

Policy of employer
o Policy or scheme adopted by employer in its compensation packages may gauge whether salaries it provides are reasonable or
not.
Economic conditions
a. Independent investor approach

It relies on measure of performance based on corporations return on equity (ROE). If a taxpayer-employers rate of return on investments
remain at a level that would satisfy an independent investor there is a strong indication that management is providing compensable services
and that profits are not being siphoned out of company disguised as salary.
b. Treatment of excessive compensation
GR: excess compensationportion of compensation beyond what is reasonableis not deductible.
Income tax liability of recipient in respect of an amount of ostensibly paid to him as compensation but not allowed to be deducted as such by
the payer will depend upon circumstances of each case.
In the case of excessive payments by corporations if such payments correspond or bear a close relationship to stockholdings and are found to
be distribution of earnings or profits excessive payments will be treated as dividend. If such payments constitute payment for property they
should be treated by payer as a capital expenditure and by the recipient as part of purchase price.
Illustration
C CORP was founded by A. A owns 99.6% of total authorized capital stock of C CORP. A was the chairman of BOD and
salesman-broker for company. He received 50% share of sales commissions earned by C CORP aside from his monthly
salary plus free use of company car and receipt of other similar allowances and benefits which was double the reported
net income of C CORP. May C CORP deduct payments of A?
o Payments were inordinately large and could not be accorded the treatment of ordinary and necessary expenses allowed as
deductible items within purview of NIRC.
2.
There
Bonuses
is no fixed test for determining the reasonableness of a given bonus as compensation. Here are suggested tests:
Payment made in GF
Character of taxpayers business
Volume and amount of its net earnings
Locality
Type and extent of services rendered
Salary policy of corporation
Size of particular business
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Employees qualifications and contributions to the business venture

General economic conditions
a. Limitations
Deductions from gross income of additional compensation in bonuses granted to officers and employees is subject to 3 limitations:
Payment of bonuses is in fact compensation
It must be for personal services actually rendered
Bonuses when added to salaries are reasonable when measured by amount and qualify of services performed with relation to business
of particular taxpayer.
If credit is made at time of employment or in pursuance of board of BOD such bonuses/shared profits are deductible in the year of accrual.
b. Profit sharing
Profit sharing benefit like bonuses based upon a fixed plan such as percentage of profits are deductible despite the condition that such
bonuses/benefit should be based on net income after income tax has been imposed and even though amount cannot be determined until
after end of year when books are closed and profits determined.
Illustration
A CORP sold properties through broker and paid latter commission. Thereafter it distributed bonuses taken from the
proceeds to its officers. Is payment of bonuses deductible?
o NO. Absence of service rendered by officers (since there was a broker) which could be the basis of grant to them of a bonus out
of the profit derived from sale payment of a bonus out of gain realized from sale cannot be considered as selling expense.
c. Fringe and de minimis benefits
GR: amount of taxable fringe benefit and fringe benefit tax shall be allowable deductions from gross income of employer. However if basis for
computation of fringe tax is depreciation value zonal value or fair market value only actual fringe benefits tax shall constitute as deductible
expense.
Value of fringe benefit shall not be deductible and shall be presumed to have been tacked on or actually claimed as depreciation expense by
employer. However if zonal value or fair market value is greater that cost subject to depreciation excess amount shall be allowed as
deduction from employers gross income as fringe benefit expense.
On the other hand any amount given by employer as benefits to its employees as de minimis benefits shall constitute as deductible
expense upon such employer.
i. Paid in property
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Where compensation is paid in property other than money employer shall make necessary arrangements to ensure that amount of tax
required to be withheld is available for payment to BIR.
d. SSS/GSIS ECSIF and Pag-ibig Contributions: under law employer is mandated to contribute
i. Employees compensation and state insurance fund (for work-related illnesses or injuries)
ii. National health insurance actbenefits for non-work related illnesses or injuries
iii. Home development mutual fundhousing benefits
iv. Social securitycomprehensive benefits (sickness disability retirement and funeral benefits)
Except for ECIF both employer and employee contribute to common fund from which benefits are sources. Contributions are based on
compensation of employee.
Contributions to SSS GSIS NHIA/PHIC (PhilHealth) and HDMF (Pag-Ibig) are allowable deductions.
e. Seminars
Expenses and costs of attending seminars are deductible as ordinary and necessary expense.
Travelling expenses
AWAY FROM HOME: limited to travel from post or station or place of employment to points where business transactions are made.
Travel expenses include transportation expenses and meals and lodging. If trip is undertaken for other than business purposes transportation
expenses are personal and not deductible. Payment for use of sample room at a hotel for display of goods is a business expense and hence
deductible.
1.
Salary and travel expenses

Salary as full compensation -- reimbursement for traveling expenses = travel expenses deductible
Salary on commission basis expense allowance = travel expenses deductible
Salary + travel expenses = repaid travel expenses not deductible
Salary + travel allowance = not deductible
2. REQUISITES for deductibility

a. Expenses must be reasonable and necessary traveling expenses as that term is generally understood
b. Expenses must be incurred while away from home
c. Expenses must be incurred in pursuit of trade or business
Transportation expenses from main office to branch or client or from branch to main office are deductible.
Expenses from office to home or home to office are not deductible.
Commute from home to work and back are nondeductible personal expenses.
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If a company car is utilized by employee both for business and personal use deduction is in proportion. Common automobile expenses include
cost of gasoline oil repairs batteries insurance depreciation interest to purchase the car taxes registration fees car washes garage rent
parking fees and toll fees.
3. Substantiation
Taxpayer must attach to his return a statement showing:
a. Plane ticket/airway bill
Passenger coupon of plane ticket/airway bill which reflects the CAB (Civil Aeronautics Board) rate shall not be used as basis for claim of
expense. Amount expense shall be the actual cost incurred for purchase of ticket/bill which is the net amount of the fare deducting the
fare/freight adjustments.
In case of plane tickets if said tickets are purchased from travel agents/travel expenses as claimed by passengers shall be validated on basis
of sales invoice/OR issued by travel agent representing the actual cost of ticket and reasonable margin added by travel agent as payment for
services.
4. Travelling away from home and tax home
TRAVELLING AWAY FROM HOME: if his duties require him to be away from the general area of his tax home for a period longer than an
ordinary days work and he needs to get sleep or rest to meet the demands of his work while away.
Location of tax home must first be determined.
TAX HOME: place of employment station or post of duty regardless of where the family home is maintained.
If one regularly works in more than 1 place his tax home is where his main place of business or work is located.
IN determining main place of business here are the conditions:
Length of time normally required to spend at each location for business purposes
Degrees of business activity in each area
Relative significance of financial return from each area
The most important consideration is the length of time spent at each location.
a. Deductible expenses
Travel expenses in connection with a temporary work assignment away from home is deductible.
If indefinite work assignment not deductible. Any work assignment in excess of 1 year is considered indefinite. There is no deduction because
it becomes a personal choice to just move there.
Travel expenses for conventions are deductible if it can be shown the attendance is for trade business or profession.
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Deductible travel expenses while away from work include but are not limited to:
Airplane train bus or car between tax home and business destination
o If ride is a result of a frequent traveler or similar program cost is zero
Use of car while on business destination
o Actual expenses or standard mileage rate and tolls and parking fees may be deducted)
o In case of rented car only business-use of portion of expenses may be deducted
Fares for taxis or other types of transportation between airport/train station and hotel from one customer to another one place of
business to another
Meals and lodging
Tips paid
Dry cleaning and laundry
Business calls
Other ordinary and necessary expenses
b. Travel tax and terminal fee
TRAVEL TAX: levy imposed by government on persons who are leaving the country regardless of country where the air ticket is issued an the
form or place of payment
It must be paid by:
Citizens of Philippines
Foreigners holding a permanent resident visa
Foreign tourists or expatriates who have stayed in the Philippines for more than 1 year
Those who do not pay Travel Tax:
Foreign temporary visitors (tourists and business persons)
Filipino balikbayans
Both staying for less than 1 year.
Applicable rates:
1st class
Full rate
Standard reduced rate
Privileged reduced rate for OFW dependents
Economy class
2700
1350
400
1620
810
300
Aside from travel tax separate Airport Terminal Fee is levied on all travelers. No one is exempt. Both travel tax and terminal fee are deductible
expenses.
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5. Travel expenses for another individual
Travel expenses for conventions are deductible if it can be shown that attendance benefits trade or business or profession.
If spouse dependent or other individual goes with taxpayer on business trip or convention their travel expenses may not be deducted.
However travel expenses of someone who goes with taxpayer may be deducted if that person:
Employee
Has a bona fide business purpose for travel
Would be allowed to deduct travel expenses
If a business associate meets the conditions 2 and 3 travel expenses may be deducted.
BUSINESS ASSOCIATE: someone with whom one could expect to actively conduct business.
BONA FIDE BUSINESS PURPOSE: if real business purpose can be proved for individuals presence.
Incidental services such as typing notes or assisting in entertaining customers are not deductible.
Rental expenses
RENT: consideration paid for use or occupation of property (taxpayer does not own).
GR: rent can be deducted as an expense only if it is for property used in trade business or exercise of profession.
If taxpayer has or will receive equity in or title to property rent is not deductible.
REQUISITES:
Rental property must be used in trade business or exercise of profession
Rental expense is a consideration or condition for continued use or possession of property
Payment is reasonable
Rental payment has been subjected to withholding tax
Lessee may deduct the amount of rent paid or accrued including all expenses which under the terms of agreement the lessee is required to
pay to or for account of the lessor.
1. Unreasonable rent/home rental
GR: cash or fair market value of property paid for use of real estate or personal property is deductible from gross income.
Rent paid to a related person is reasonable if it is the same amount a lessee would pay to a stranger for use of same property.
Rent is not unreasonable just because it is figured as a percentage of gross sales.
If taxpayer rents his home and use part of it as his place of business he may be able to deduct the rent he pays for that part.
a. Rent paid in advance
GR: It is deductible in year paid or accrued.
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If payments constitute as advance rentals such shall be duly apportioned over the lease term.
In computing term of lease all options shall be taken in consideration if there is a reasonable expectation that such options will be exercised.
b. Amounts paid to cancel a lease and expenses paid by a tenant
If lessee pays the lessor to cancel a lease money is rental expense and is deducted in year incurred.
If lessee pays any of the lessors expenses those payments are rental expense.
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; amount of tax being deductible by the latter.
c. Security deposit
It is not deductible if lessor may be required to return it to the lessee at the end of the lease.
By its nature security deposit is a refundable amount unless lessee damages the property does not pay rent or violates the contract.
If lessee deducts the security deposit lessor returns it at termination of contract and lessee will benefit twice from security deposit.
But if lessor keeps part or all it is deductible from gross income. If lessor keeps security deposit because lessee damaged the property it is
deductible. If it is used as lessees final months rent lessor should deduct the money as expense when it is applied to last months rent.
2. Leasehold for a specified sum and cost of buildings and improvements
LEASEHOLD: asset representing the right of lessee to use lease property.
Where a leasehold is acquired for business purposes for a specified sum purchaser may take as a deduction in his return an adequate part of
such sum each year based on number of years lease has to run.
Cost for erecting buildings or making permanent improvements of which he is lessee is a capital investment and not deductible as a business
expense. In order to return to taxpayer his investment of capital annual deduction may be made from gross income of an amount equal to
cost of such improvements divided by number of years remaining in the lease period under depreciation. If remainder of lease period is
greater than probable life of buildings/improvements erected deductions shall still be in form of depreciation.
3. Cost of getting a lease
Taxpayer may either entire into a new lease with lessor of property or get an existing lease from another lessee. When a lessee gets an
existing lease from another lessee he pays the previous lessee money to get the lease besides paying the rent.
If the lessee gets an existing lease on property or equipment for his business he must amortize any amount he pays to get that lease over the
remaining term of the lease.
Illustration
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If A pays P100000 to get a lease and there are 10 years remaining with no option to renew.
o He can deduct P10000 each year.
4. Lease goodwill
LEASE GOODWILL: intangible asset that reflects the value of lease location to a business.
Ordinary good will reflects on good name and reputation of business.
Lease good will represents value of location over its ordinary cost.
Example: gasoline station on a business intersection or a business located in a tourist spot.
Goodwill is not deductible but deductions may be made if premiums are paid for the goodwill of leased property.
5.
Lessor
Deductible expenses of lessor

may deduct all ordinary and necessary expenses attributable to earning of income:
Interest on mortgage or other loans or credits
Repairs and maintenance
Utilities
Insurance
Wages and salaries of employees
Fees for services of independent contractor
Legal and professional fees
Advertising commissions
Property taxes and other expenses related to rental activity
In case of condominiums or buildings association dues or maintenance fees
Properties subject to operating lease
Tangible personal properties subject to finance lease during primary lease period but not less than 60% of depreciable life of property
Litigation expenses defrayed by taxpayer to collect apartment rentals and to eject delinquent tenants
Illustration:
Electrical supplies paint lumber plumbing cement tiles gravel masonry and labor used to repair taxpayers rental
apartments did not increase the value of such apartments or prolong their life. Are they deductible?
o YES as necessary expenditures.
a. Non-deductible expenses of lessor
The following are not deductible business expenses but should be integrated into cost of capital assets to be depreciated yearly:
Expenses in watching over laborers in construction work (part of construction cost)
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Real estate tax which remained unpaid by former owner of taxpayers rental property but which the latter paid (additional cost to
acquire property; included in propertys purchase price)
Iron bars venetian blind and water pump augmented the value of apartments where they were installed (not maintenance hence not
deductible)
Expenses for relocation survey and registration of property tend to strengthen title over property (considered addition to costs of
property)
Set of Comments on Rules of Court purchased by lessor having a life span of more than 1 year
Representation (entertainment amusement and recreation) expenses

REPRESENTATION EXPENSES: expenses incurred in entertaining providing amusement and recreation to or meeting with guests at a dining
place place of amusement country club theater concert play sporting event and similar events or places.
GUEST: persons or entities with which taxpayer has direct business relations to clients/customers or prospective clients/customers. It shall not
include employees officers partners directors stockholders or trustees.
These are deductible as expenditures incurred in carrying on a business or trade provided they are reasonable in amount ordinary and
necessary and in connection with taxpayers business.
Only following taxpayers may deduct representation expenses:
Individuals engaged in business including taxable estates and trusts
Individuals engaged in practice of profession
Domestic corporations
Resident foreign corporations
GPPs including its members
Those
not entitled to deduction:

Those earning purely compensation income
Nonresident alien not engaged in trade or business
Nonresident foreign corporation not entitled to this deduction
1. Different from employees representation allowance

Representation expenses are different from fixed representation allowances subject to withholding tax on wages.
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In case of country golf sports club or any other similar club where employee or officer of taxpayer is a registered member and expenses
incurred are paid by the taxpayer it is presumed that such are fringe benefits subject to fringe benefit tax unless taxpayer can prove that
these are actually representation expenses.
For proving that said expense is a representation expense taxpayer should maintain receipts and records that indicate:
Amount of expense
Date and place of expense
Purpose of expense
Professional or business relationship of expense
Name of person and company entertained with contact details
2. Entertainment facilities
These refer to:
Yacht vacation home or condominium
Any similar item of real or personal property used by taxpayer for 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 taxpayers trade business or profession or rented by such taxpayer for which taxpayer claims a depreciation and rental expense.
Yacht is considered an entertainment facility if its use is not restricted to specified officers or employees or positions in such a manner as to
make the same a fringe benefit.
a. Threshold amount for depreciation
RR 12-2012: no depreciation shall be allowed for yachts helicopters airplanes and/or aircrafts and land vehicles which exceed P2.4MILLION
unless taxpayers main line of business is transport operations or lease of transportation equipment and vehicles purchased are used in said
operations.
All expenses related to non-depreciable vehicles such as but not limited to repairs and maintenance oil and lubricants gasoline spare parts
tires and accessories premium paid for insurance covering said vehicles and registration fees shall not be allowed as a deduction in its
entirety. All input taxes (VAT) to the said disallowed expenses are not allowed.
b. Exclusions (expenses not considered entertainment amusement and recreation)
Following are not considered entertainment amusement and recreation expenses:
Those treated as compensation or fringe benefits for services rendered under employer-employee relationship
For charitable or fund raising events
For bona fide business meeting of stockholders partners or directors
For attending or sponsoring an employee to a business league or professional organization meeting
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For events organized for promotion marketing and advertising including concerts conferences seminars workshops conventions and
other similar events
Other expenses of a similar nature
i. Illegal immoral contrary to public policy and order

These are not allowed for deduction. However recipient is taxable.
3. Requisites for deductibility
a. It must be paid or incurred during taxable year
b. It must be:
i. Directly connected to development management and operation of trade business or profession of taxpayer
ii. Directly related to or in furtherance of conduct of his or its trade business or exercise of a profession
c. Must not be contrary to law morals good customs public policy or public order
d. Must not have been paid to an official or employee of national government or any LGU or GOCC or of a foreign government or
to a private individual or corporation or GPP or a similar entity if it constitutes as a bribe kickback or other similar payment
e. Must be duly substantiated by adequate proofOR/invoices bills or statements of accounts should be in the name of the
taxpayer claiming the deduction
f. Appropriate amount of withholding tax if applicable should have been withheld and paid to BIR.
4. Ceiling
GR: actual entertainment amusement and recreation expense is allowed as a deduction from gross income.
CEILING: in no case shall deduction exceed:
.50% net sales (gross less sales returns/allowances and sales discounts) for taxpayers engaged in sale of goods or properties
1% of net revenue (gross revenue less discounts) for taxpayers engaged in sale of services including exercise of profession and use or
lease of properties
If taxpayer is deriving income from both sale of goods/ properties and services allowable EAR (entertainment amusement and
recreation) expenses shall be determined based on apportionment formula:
o Net sales/net revenue
x
Actual expenses
Total Net sales and Net Revenue
Illustration
E CORP is engaged in sale of goods and services with net sales/net revenue of P200000 and P100000 respectively.
Actual entertainment amusement and recreation expenses for 2nd semester 2012 totaled to P3000.
Net sales/net revenue
EAR expenses based on
Maximum percentage
Allowable amount to be
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apportionment formula
1
Sale of goods
Sale of services
Total
200000
100000
300000
Apportionment formula:
Sale of goods (200000/300000)
x
Sale of services
(100000/300000)
Maximum ceiling:
Sale of goods: (200000
x
Sale of services
(100000
o
ceiling of EAR expense

3
2000
1000
3000
1000
1000
2000
claimed as EAR
(whichever is lower of
columns 2 and 3)
4
1000
1000
2000
3000
x
3000
.50%)
x
x
1%)
Based on computation table E CORP can only claim a total of P2000 as EAR expense. Notwithstanding ceiling imposed on such
expense claimed expense shall be subject to verification and audit for determining deductibility and compliance of
requirements.
5. Reporting
In its financial statements and income tax returns taxpayer is required to use:
The name Entertainment amusement and recreation expense
Disclose note to financial statements the amount corresponding when recording expenses paid or incurred of the nature. However such
expense should be reported in ITR as separate expense item.
If after verification a taxpayer is found to have shifted EAR to any other expense to avoid being subjected to the ceiling amount shifted shall
be disallowed in its totality without prejudice to penalities.
Cost of materials/supplies
NIRC allows for deduction of business supply expenses. However taxpayers should be careful to avoid deducting expenses as materials when
they are in fact capital assets. If the useful life of an item is significantly greater than 1 year it must be depreciated and not expense outright.
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Materials on hand should include charges for materials and supplies only to the amount these are actually consumed and used in operation for
the year for which return is made provided that cost of such materials and supplies has not been deducted in determining net income for any
previous year.
taxpayer cannot just buy a large quantity of supplies at year end and considered it an expense for that year.
If taxpayer carries incidental materials on hand for which no record of consumption is kept or of which physical inventories at beginning and
end of year are not taken it will be permissible for 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 return is made provided net income is clearly reflected by this method.
1. Office expenses and supplies
These are the most common business trade or exercise of profession expenses.
Office expenses
Office supplies
Computer software postage telephone internet and any office
Small tangible items used within business or trade premises such as
equipment costs.
paper clips paper pens scissors ink and business cards.
2. Supplies used in exercise of profession
These may be deductible:
Expenses for operation and repair of transportation equipment in making professional calls
Dues to professional societies and subscription to professional journals
Rent for office rooms
Expenses for fuel light water telephone
Hire of office assistance
Books furniture
Professional instruments and equipment
If useful life of such is short it may be deducted. But if permanent in character non-deductible.
a. Pro-bono legal services
Lawyer or professional partnership rendering actual free legal services is entitled to allowable deduction from gross income either amount
which could have been collected for actual free legal services rendered or up to 10% of gross income derived from actual performance of legal
profession whichever is lower.
LEGAL SERVICES TO BE PERFORMED BY LAWYER: any activity which requires application of law legal procedure knowledge training and
experiences which shall include legal advice and counsel preparation of instruments and contracts appearances before administrative and
quasi-judicial tribunals handling cases in court and other similar services defined by SC.
To be entitled to deduction:
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Lawyer shall secure a certification from PAO DOJ or accredited association of SC indicated that services are within services defined by
SC and that agencies cannot provide the legal services of a private counsel.
For purpose of determining number of hours actually provided association or organization accredited by SC shall issue a certification
that legal services were actually undertaken.
Certification shall be submitted to BIR for availing tax deductions and to DOJ for monitoring.
b. Deposits/advances by clients of general professional partnerships for expenses

It is common business practice for GPP such as accounting firms or law firms:
To require their clients to deposit a sum for necessary expenses
To pay in advance necessary expenses
Deposits shall be liquidated by GPP while advances shall be paid by client.
However since OR/invoices covering expenses incurred on behalf of client are issued by 3 rd party establishments in the name of GPP instances
occur when these expenses are claimed as deductions to gross income by both GPP and client. As a result same expense is twice claimed as
deductions contrary to provisions of NIRC.
Guidelines:
Service Income of GPPs
o When GPP receives cash deposits or advances it shall issue an OR. This will be booked as income of GPP and shall form part of
gross receipts and subject to VAT if applicable.
Claim for deduction of expenses
o GPP shall record its expenses for income tax purposes if OR/invoice issued by 3 rd party establishment is in the name of GPP. All
these may be claimed by GPP as deductions from its gross income.
o On the other hand all expenses made by client to GPP shall be allowed as deduction provided that they are substantiated by OR
GPP and client are not precluded from availing Optional Standard Deduction.
c. Deposits/advances received by taxpayers other than GPPs
Guidelines in accounting and recording deposits/advances for payment of expenses received by taxpayers other than GPPs:
Deposits/advances part of gross receipts
o When deposits or advances are received by taxpayers other than GPP from client/customer OR shall be issued.
o Amount received shall be booked as income and shall form part of gross receipts and subject to VAT or Percentage Tax (Gross
Receipts Tax) if applicable
o It shall be deductible as an expense by client/customer provided it is substantiated by OR.
Claim for deduction of expenses

o Receipts incurred paid for and issued in name of taxpayer shall be recorded as its own expenses for income tax purposes.
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o
These shall be claimed as deductions from gross income provided substantiated by OR issued by 3 rd party establishments.
Income payments are subject to appropriate withholding taxes

o All clients/customers shall upon payment of deposit/advances withhold tax which shall be remitted/paid on or before 10th day of
following month using except for taxes withheld for month of December of each year which shall be filed on or before JAN 15 of
following year.
Issuing OR for deposit and advances

o OR shall be issued for every deposit and advances
o OR shall cover entire amount client/customer pays.
o For VAT taxpayers VAT OR will constitute the Output Tax for taxpayers other than GPP and in turn the input tax of its
client/customer.
3. Expenses of farmers
He is entitled to deduct all necessary expenses for business of farming
Ordinary tools of short life or small costs
Cost of feeding and raising livestock insofar as such represents actual outlay but not including value of farm produce grown upon the
farm or labor of taxpayer
Cost of gasoline or fuel repairs and upkeep of transportation equipment if used wholly in business purposes
Cost of gasoline or fuel repairs and upkeep of transportation equipment if used partly for pleasure or convenience of taxpayer or his
family such cost may be apportioned to the extent of business use and personal use and only a proportion of such cost attributable to
business purposes is deductible as necessary expense
When farmer takes more than a year from time of planting to process of gathering and disposal expenses deducted may be determined upon
crop basis and deductions may be taken in the year in which gross income from crop has been realized. Cost of farm machinery equipment
and farm buildings represents a capital investment and is not an allowable deduction as an item of expense.
Expenses considered as capital and not deductible:
Amounts expended in development of farms orchards and ranches prior to time when productive state is reached
Amounts in purchasing work breading or dairy animals unless such animals are included in an inventory
Purchase price of transportation of equipment even when wholly used in carrying on farm operations
If farm is operated for recreation and not commercial and if expenses is in connection with the farm are in excess of receipt entire receipts
from sale of products may be ignored in the return of income. Personal expenses will not constitute allowable deduction.
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Repairs and maintenance
GR: repairs and maintenance incidental in carrying out trade or business or exercise of profession are deductible.
Minor or ordinary repairs are deductible from gross income because they keep the assets in their working condition.
Cost of incidental repairs which neither material add to value of property or prolong its useful life are deductible provided that plaint or
property account is not increase by amount of such expenditure. Replacements to the extent that they arrest deterioration and prolong life of
property should be charged against depreciation reserves if such property is kept.
1. Expensing vs. Capitalizing
REPAIRS AND MAINTENANCE: costs of up-keeping furniture machinery equipment building or other property including rental properties for
use in business operations.
GR: deductible if they are incidental in nature and does not materially add to the value of property nor prolong its useful life.
They are treated as current period expense because of nominal amount involved and of fact that main benefit incurred.
Expenses which must be capitalized and not deducted are:
2. Incurred as permanent improvements or betterments that increase value or prolong useful life of property
3. Restore value or use of property or make good the exhaustion
4. Substantially prolong useful life of property
5. Made to adapt the property to a new or different use
They are not expense outright because of material amount involved and fact that benefit is for more than the year they are incurred.
If amount incurred is minimal it may be deducted (concept of de minimis expensing) for practical reason.
Advertising expenses
These are expenses incurred for the use of spoken or written word in printed matter movies radio and TV to acquaint the public with
taxpayers merchandise or services. It represents expenses associated with promoting an industry entity brand product name or specified
products or services in order to stimulate a desire to buy the entitys products or services for a certain period. Common advertising expenses
include printing of business cards yellow pages ads newspaper advertisements TV and radio ad costs costs for business website for
promotion activities etc.
Giveaway items pens coffee mugs shirts refrigerator magnets calendars bags and key changes are also deductible.
Rules on their deductibility:
Advertising to stimulate current sale of merchandise or use of services (deductible)
Advertising to stimulate future sale or merchandise or use of services (not deductible but are to be spread over period of time
irrespective whether taxpayer is on cash or accrual basis)
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Advertising to promote sales of shares of stocks or to create a favorable image (not deductible)
1. Requirements for deductibility

It should not only be necessary but ordinary.
CONDITIONS to be considered ordinary:
Reasonableness of amount incurred
Amount must not be a capital outlay to create goodwill for product and/or the business
Although an expense for advertisement of a single product is necessary it cannot be an ordinary expense if it is inordinately large.
Protection of brand franchise is analogous to maintenance of good will or title of ones property. It is capital expenditure.
a. Permanent ads
Advertisements or signs that have a useful life of less than 1 year are deductible as operating expenses in the year they are incurred (flyers
and cardboard signs).
Permanent metal or plastic sign that has a useful life of more than 1 year must be capitalized and depreciated.
b. Personal expenses
Not deductible even though they may have some advertising or business or trade promotion value
If corporations president threw a birthday party and invited some of corporations big clients expenses of party are not deductible. Costs are
not deductible as advertising.
c. Creating favorable image
Not deductible as a business expense
Efforts to establish reputation are akin to acquisition of capital assets and therefore not related to business expense but capital expense.
Other operating expenses: not exclusive and only provides a guideline on what are typical deductible business operating expenses.
1. Litigation expenses in defense of title of property
Judgments or other binding judicial adjudication on account of damages for patent infringement personal injuries or other cause are
deductible
o Unless taken under other methods of accounting which reflect correct deduction less any amount of such damages as may have
been compensated for by insurance or otherwise.
Litigation expenses in defense or protection of title are capital in nature and not deductible.
o These constitute part of cost of property.
a. ORIGIN OF CLAIM DOCTRINE
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Any recovery should be taxed in the same manner as the item for which it is intended to substitute.
Any settlement or judgment payments should be treated for tax purposes as if economic damages which is subject of the suit had not
occurred.
Illustration:
Legal fees incurred incident to annulment and property settlement which involved the taxpayers business may not be
deducted.
o Focus is not on the consequences if the taxpayer failed to defeat the claim on the business but rather on the original of initial
claim.
o If expenditure arose in a business or profit making activity it is deductible.
o If it arose out of personal activity it is a non-deductible personal expense.
b. Direct/indirect test
If expense is directly related to capital transaction (therefore a long term benefit) it should be capitalized.
If only an indirect relation between expense and capital transaction same may be expensed outright.
Expenses for salaries and wages (originating from employer-employee relationship) and in connection with day-to-day business but
indirectly related to acquisition of another business may be expensed and not capitalized cost of the acquired business.
c. Legal and litigation expenses of foreclosure
Legal expenses by banks in the course of foreclosing acquired assets are deductible from their gross income. These are expenses incurred in
carrying on of a trade or busienss.
2. Margin Fees
These are not expenses in connection with production of earning of income. They are expenses incurred in disposition of said incomes
expenses for remittance of funds after they have already been earned by a branch in the Philippines for the disposal of Head Office in abroad
which is already another distinct and separate income taxpayer.
Since margin fees are incurred for remittance of funds to Head Office abroad it can never be said that margin fees are appropriate and helpful
in the development of business in the Philippines exclusively or are incurred for purposes property to the conduct of affairs of Philippine branch
exclusively or for purpose of realizing a profit of minimizing a loss in the Philippines exclusively.
3. Political campaign expenses
To be considered exempt from income tax it must be utilized to cover candidates expenditures for his or her electoral campaign
Unutilized/excess campaign funds shall be subject to income tax and must be included in candidates taxable income in his Income Tax Return
(ITR).
Campaign expenses are deductible from taxable unutilized campaign funds.
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Any candidate who fails to file with COMELEC the Statement of Expenditures under Omnibus Election Code shall be automatically precluded
from claiming such expenditures as deductions from his campaign contributions. Entire amount of campaign contributions shall be subject to
income tax.
a. Contributions not deductible
i. Political campaign contributions are not deductible from gross income since they do not held earn income from which
they are to be deducted.
ii. Expenses paid or incurred to take part in any political campaign.
4. Commissions
These are deductible as consideration for bringing about a profitable transaction and therefore part of business cost.
Cost of furniture given by taxpayer as commission is deductible.
5. Listing fee
Fee which is paid to the stock exchange which is annual and recurring for having its stock listed is an ordinary and necessary business
expense.
Single payment to the stock exchange will be disallowed as a deduction if the expenditure does not meet the statutory test to be paid only
once and the benefit to be acquired continues indefinitely.
Membership and other fees to enhance the taxpayers business are deductible.
Illustration:
G was an officer of Junior Chamber of Commerce which sponsored the National Convention of Filipino Businessmen. He
was also the president of Homeowners Association organized for those engaged in real estate trade. He incurred
expenses in attending the Convention and the luncheon meeting and cruise to Corregidor of Homeowners Association which were
shown to be for pursuit of his business. Are expenses deductible?
o YES. His membership and activities in connection were solely to enhance his business.
(2) Expenses Allowable to Private Educational Institutions. - In addition to the expenses allowable as deductions under this
Chapter, a private educational institution, referred to under Section 27 (B) of this Code, may at its option elect either: (a) to
deduct expenditures otherwise considered as capital outlays of depreciable assets incurred during the taxable year for the
expansion of school facilities or (b) to deduct allowance for depreciation thereof under Subsection (F) hereof.
1. Options of private educational institutions
Private institution is allowed to claim from its gross income, allowable deductions just like any ordinary taxpayer.
It has the option to elect either:
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1) Deduct expenditures otherwise considered as capital outlays of depreciable asets incurred during the taxable year
for the expansion of school facilities
2) Deduct allowance for depreciation thereof
Capital expenditures which are normally capitalized and deprecated may be expensed outright in the year incurred
1.1 Expansion of school facilities

School facilities refer to land, buildings and other civil work or improvements, library facilities, machineries,
equipment and instruments including their cost of installations provided such facilities shall be used solely to pursue
the expansion activities of the school
Expansion of school facilities refers to acquisition, development or improvement of school facilities
2. Faculty Development
The expenses incurred by an educational institution in its Faculty Development Program are directly connected with or
pertaining to its business and are appropriate and helpful in the development of its teaching personnel and therefore
deductible
(B) Interest.- (1) In General. - The amount of interest paid or incurred within a taxable year on indebtedness in connection
with the taxpayer's profession, trade or business shall be allowed as deduction from gross income: Provided, however, That
the taxpayer's otherwise allowable deduction for interest expense shall be reduced by an amount equal to the following
percentages of the interest income subjected to final tax: Forty-one percent (41%) beginning January 1, 1998; Thirty-nine
percent (39%) beginning January 1, 1999; and Thirty-eight percent (38%) beginning January 1, 2000;
(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.
(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.
Requisites for deductibility of interest expense
1.1 Bona fide debt
A bona fide debt is one which arises from a debtor-creditor relationship based upon a valid and enforceable obligation to pay a fixed
or determinable sum of money
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1.2 Unconditional obligation
The basic test of the existence of debtor-creditor relationship is whether the debtor is under an unconditional obligation to repay the
creditor
It must also be legally enforceable obligation for the payment of money
Interest paid on a prescribed, void or unenforceable obligation may not be deducted.
If there is no stipulated interest, there can be legal interest pursuant to Art 2209 of NCC.
Interest due shall accrue at the time is t is judicially demanded
2. RULES ON THE DEDUCTIBILITY OF INTEREST EXPENSE
The amount o interest expense paid or incurred within a taxable year on indebtedness in connection with the taxpayers trade,
business or exercise of profession shall be allowed as a deduction from the taxpayers gross income
The amount o interest expense paid or incurred within a taxable year on indebtedness in connection with the taxpayers trade,
business or exercise of profession shall be reduced by an amount equal to 33% of the interest income earned which had been subjected
to final withholding tax
The limitation applies 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.
Law does not provide that there is a need for tax arbitrage in order that the limitation on deduction of the interest expense can be
applied
Illustration:
A Corp. which has a deposit account with B Bank, obtained a loan from X Financing Corp in connection with the operation of
its business. As net income for 2009 before deduction of the interest was Php 1,000,000. For the year 2009, the interest
income derived from the said deposit with B Bank amounted to Php 180, 000 on which a final tax of Php 36,000 had been
withheld. Its interest expense on the loan obtained from X Financing Corp during the same year amounted to Php 150,000.
The taxable income and the income tax payable of Company A are computed as follows:
2009
Net income before interest expense
Php 1,000,000
Less: Interest expense Php 150,000
Less: 33% of interest income from deposit (33% x 180,000)
Php 59, 400
Deductible Income -------Php 90, 600
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Taxable Income
----------Php 909,400
Income tax due for taxable year
2009 (30%) ------------Php 272, 820
2.1 Tax Arbitrage
It refers to a situation where a taxpayer profits from the differences in how income or gains are taxed.
It is a scheme wherein the proceeds of a taxpayers loan obtained in connection with the operations of his trade, business or exercise of
profession is deposited or invested
Without the tax arbitrage rule, the interest expense will result to a net profit since the tax rate on income from trade, business or
exercise of profession is higher than the tax rate on passive interest income
Illustration:
In 2012, D Corp obtained a Php 1,000,000 loan from a Phil bank at a 10% interest per annum. Upon receipt
of the loan proceeds, D Corp deposited the same in its special savings account which earned 10% interest per
annum. Based on this and without applying the tax arbitrage limitation, D Corporation may deduct the interest
expense of 100,000 (10% of the 1M) from its gross income resulting to a tax benefit of 30,0000 (30% corporate
income tax of 100K) by lowering the due by the same amount. On the other hand, D Corp will be subjected to 20%
final tax (Sec 27D NIRC) on its passive income of 100K (10% of 1M) or a tax liability of 20K. As a result, D Corp.
earned the net amount if 10K in the scheme.
The purpose of the tax arbitrage is to equalize the tax liability of the taxpayer on his interest income and tax benefit on his interest
expense.
Interest expense shall be reduced by 33% to the extent of the interest income subjected to final tax, provided that the maximum
interest income to be considered for this purpose shall not be higher than the interest expense.
33% is roughly the ratio of the difference between the final tax and the regular tax
(30% - 20%)
30%
=33.33%
2.2 Not applicable if the Interest Income is not subject to Final Tax
If the interest income of the taxpayer is subject to the regular rate and none has been subjected to final tax, then the interest expense
may be deducted in full
There is no diff on the tax effect between the interest income and interest expense since the applicable tax rates are the same
In the illustration above, if D Corp loaned 1M to E Corp at 10% interest per annum (not subj to final tax) there is no advantage since the
tax benefit of the interest expense and the tax on the interest income would be the same in terms of amount (30,000 (30% of the
100,000 interest expense) and 30,000 (30% tax on interest income of 100,000)
3. Interest on Unpaid Taxes
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Interests on taxes should be considered as interests on indebtedness within the meaning of the NIRC.
Although taxes already due are not the same as debts they are however, obligations that may be considered as such
Interests 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 mentioned above (tax arbitrage).
Such interest paid shall not be diminished by the percentage of interest income earned which had been subjected to final withholding
tax
4. Non-deductible Interest Expense

No interest expense shall be allowed as deduction from gross income in any of the ff cases:
1) Within the taxable year, an individual taxpayer reporting income on the case basis incurs and indebtedness on which
interest is paid in advance through discount or otherwise
o Provided: a) Interest shall be allowed as a deduction in the year the indebtedness is paid
o B) Interest shall be allowed as a deduction in the year the indebtedness is paid
o C) Indebtedness is payable in periodic amortization, the amount of interest w/c corresponds to the amount of the principal
amortized or paid during the year shal be allowed as deduction in such taxable year
Illustration:
Mr. C, a self-employed individual, consistently employs the cash-basis accounting method in keeping his books of
accounts. On Jan 1, 1998 he received from the bank the proceeds of his loan in the sum of 700,000 net of interest
paid in advance in the amount of 300,000.
The interest expense shall be taken for the taxable year in which paid or incurred or paid or accrued depending upon the
method of accounting upon the basis of which the next income is computed, unless in order to clearly reflect the income, the
deduction should be taken as of a diff period
A self-employed individual is allowed to deduct from his gross income the entire amount of interest expense actually paid during
the taxable year.
Interest paid in advance and on a cash-basis method shall only be allowed as deduction in the year when he has fully paid his
liability
If said debtor has fully paid his loan as of the end of the taxable year 1999, his interest expense paid in advance on January 1,
1998 in the amount of 300,000 shall only be allowed as deduction from his gross income in the taxable year 1999
EXC: Even if the interest is paid in advance but the indebtedness is payable in periodic amortization, the amount of
interest expense which corresponds to the amount of the principal amortized or paid during the respective years 1998
and 1999 shall be allowed as deduction in such respective taxable years
2) If both the taxpayer and the person to whom the payment has been made or is to be made are persons specified under Sec
36(B) of the NIRC
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a) Between members of the family which includes his brothers and sisters (whole or half), spouse, ancestors and lineal
descendants
b) Between individual and a corporation more than 50% in value of the outstanding stock of which is owned, directly, indirectly,
by or for such individual
c) Between two corporations more than 50% in value of the outstanding stock of each of which is owned directly or indirectly by
or for the same individual or
d) Between the grantor and a fiduciary of any trust; or
e) Between the fiduciary of a trust and the fiduciary of another trust if the same person is a grantor with respect to each trust;
or
f) Between a fiduciary of a trust and a beneficiary of such trust
Illustration:
1) A lent 1M to his son B for his business. B paid A interest amounting to 50,000 during the taxable year. B cannot
claim deduction for the interest expense as they are related parties
2) A Corp extended a loan to B Corp. The formers president is the latters Chairman of the Board. Is the interest
charged by A Corp deductible? YES. The fact that he is the concurrent president and the chairman of the Board of another Corp
does not mean or may it in any way be deduced that he has controlling ownership of such corporation in the absence of facts clearly
and undeniably establishing ownership composition of the two corps.
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 to pertain 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 to financing of its operations.
4) Interest calculated for cost-keeping or other purposes on amount of capital or surplus invested in the business which does not represent a
charge arising under an interest-bearing obligation is not allowable deduction from gross income
4.1 Acquisition of Securities
Interest paid on indebtedness used to purchase securities by one who is not a dealer in securities is NOT
Deductible.
It will form part of the cost which will be used in determining gain or loss upon disposition of the securities
Interest on preferred stock (which is in reality a dividend) cannot be deducted in computing net income
4.2 Interest on Mortgage
Banks and loan or trust companies: Interest paid w/in the year on deposits or on moneys received from investment and secured by
interest bearing certificate indebted issued by such bank or loan/trust company may be deducted from gross income.
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Mortgage upon real estate which the taxpayer is the legal or equitable owner and even though he is not directly liable upon the bond or
not secured by such mortgage may be deducted as interest on his indebtedness
5. Optional Treatment of Interest Expense on Capital Expenditure

At the option of the tax payer, interest income on a capital expenditure incurred to acquire property used in trade, business, or exercise
of a profession may be allowed as deduction in full in the year when incurred.
Tax payer is not entitled to both the deduction from gross income and the adjusted (increased) basis for determining gain or loss and
the allowable depreciation charge. The law does not prohibit the deduction of interest capital expenditure, unless the taxpayer has also
previously capitalized the same interest payments and thereby adjusted the cost basis of such assets.
Illustration:
Taxpayer purchased a capital asset for 500,000 and incurred interest expense of 15,000 from his gross income for
the taxable year or it may be added to the cost of the asset. In the first option, the depreciable value of the asset
is 500,000. In the second option, the depreciable value of the asset is 515,000
6. Determination of Taxable Income on Inter-Company Loans or Advances

Sec 50, NIRC in any case of two or more organizations, trades or businesses (whether incorporated and whether or not organized in the
PH) owned or controlled directly or indirectly by the same interest the CIR is authorized to distribute, apportion, or allocate gross
income or deductions between or among such organizations, trades, or businesses.
6.1 Interest Period
It shall commence at the date the indebtedness arises except that with respect to the indebtedness arising in the ordinary course
of business our of sales, leases or supply of goods and services which are generally considered as trade accounts receivables or
payables
The interest period shall not commence if the taxpayer is able to establish that the normal trade practice in a given industry is to
allow balances, in the case of similar transactions with unrelated parties to remain outstanding for a longer period w/o charging
interest
The earliest balance outstanding must be applied
6.2 Applicability
The foregoing applies to all forms of bona fide indebtedness and includes:
1) Loans and advances of money or other consideration (whether or not evidence by written instrument)
2) Indebtedness arising in the ordinary course of business out of sales, leases, or the rendition of services by or between members
of the group, or any other similar extension
3) Does not apply to alleged indebtedness which was in fact a contribution of capital or a distribution by a corp w/ respect to its
shares
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6.3 Theoretical Interest
Sec 50 of the NIRC does not include the power to impute theoretical interests to controlled taxpayers transactions
There must be proof of the actual or, at the very least, probable receipt or realization by the controlled taxpayer of the item of gross
income sought to be distributed, apportioned or allocated by the CIR.
Art 1956 of the NCC, No interest shall be due unless it has been expressly stipulated in writing
(C) Taxes. - (1) In General. - Taxes paid or incurred within the taxable year in connection with the taxpayer's profession, trade
or business, shall be allowed as deduction, except
(a) The income tax provided for under this Title; (b) Income taxes imposed by authority of any foreign country; but this
deduction shall be allowed in the case of a taxpayer who does not signify in his return his desire to have to any extent the
benefits of paragraph (3) of this subsection (relating to credits for taxes of foreign countries); (c) Estate and donor's taxes;
and (d) Taxes assessed against local benefits of a kind tending to increase the value of the property assessed. Provided, That
taxes allowed under this Subsection, when refunded or credited, shall be included as part of gross income in the year of
receipt to the extent of the income tax benefit of said deduction.
(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.
1. Deductible taxes
GR: Taxes are deductible
EXC: Those with respect to which the law does not permit deduction
Non-resident alien individual and a foreign corp., 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
Import duties paid to proper customs officers, business, occupation, license, privilege, excise and stamp taxes and any other taxes of
every name or nature paid directly to the Govt of the PH or to any political subdivision thereof are deductible
Postage and automobile registration fees are considered taxes and deductible
1.1 Limited to taxes proper
It is limited to the taxes proper and has never included interest on delinquent taxes, penalties and surcharges.
Taxes means deduction therefrom should be allowed for amounts representing interest, surcharge or penalties incident to
delinquency
Deductions from gross income are matters of legislative grace what is not expressly granted by Congress is withheld.
1.1.1 Interests are deductible
Interest on taxes is interest on indebtedness and is deductible
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Rule applies even though the tax is nondeductible

Interest on taxes us not deductible as taxes
Interests on deficiency taxes are deductible not as taxes but as interest
Interest payment for delinquent taxes is not deductible as tax under Sec 34C of the NIRC
It is therefore subject to 33% deduction rule on interest expense because such rule is applicable even if there is no tax arbitrafe
1.2 Imposed on and payable by taxpayer

Merchants sales tax imposed by law upon sales is not deductible by he individual purchaser even though the tax may be billed to
him as a separate item
VAT is likewise not deductible from the gross income of the owner
Contractors tax may not be deducted
Individual: no deduction is allowed for the taxes imposed upon his interest as shareholder of bank or corp.
Corporate bonds or other obligations containing a tax-free covenant clause the corp paying is not entitled to deduct such payment
from G.I
1.3 Paid or incurred during the year it is claimed as deduction
The tax must have been paid or incurred during the taxable year it is being claimed as a deduction
Taxes to be paid in the near future are not deductible but reported as a current liability imstead
Obligation to deduct arises only when the tax is finally determined
Overpaid taxes are reported on the books as a current asset
1.3.1 Deferred income tax
It is recognized when a revenue or expense item is reported on the income tax return in a year that is different from the year
the item appears on the taxpayers books or financial statements due to timing differences between the accounting
standards and the tax laws
1.4Connected with trade business or profession
Only those taxes which are related to the taxpayers trade or business or profession are deductible from gross income
The ff taxes are deductible from the GROSS INCOME
1. Percentage taxes
2. Excise taxes
3. Documentary stamp taxes
4. Local govt taxes
5. Real property tax
6. Import duties
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7. BIR registration fees

8. Registration fees of vehicles used in business
1.5 Must not be excluded

There are taxes which by express provision of the law or by their very nature are not deductible from the gross income
1.5.1 Philippine income tax
Law does not permit the deduction of the income tax paid to or accrued in favor of the government of the PH and in no case
may the taxpayer avail of such deduction
Fringe benefits tax, aside from the amount of taxable fringe benefit, shall constitute allowable deductions from GI of the
employer
1.5.1.1 Not an operating expense
Income tax payments are not expenses which contribute to or are incurred in connection with the production of profit.
Income tax is inconsistent with the nature of operating expenses
It is paid after a business cycle not during the conduct of business
1.5.1.2. Cannot be charged by Public Utility to its customers
Income tax should be borne by the public utility alone as they are payments made in exchange for benefits received by it from the
State, no benefit is derived by the customers from such payment of taxes by the public utility.
1.5.2. Income taxes imposed by authority of any foreign country if tax credit is claimed
Taxpayer can take it either as a deduction or a tax credit for freeing income taxes imposed on him by a foreign country.
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.
1.5.2.1. Can be claimed as Tax Credit
Deductibility of a tax imposed by a foreign country BUT NOT claimed as tax credit presupposes that the same may be claimed as a tax
credit.
If it cant be claimed as tax credit, it follows that it cant be deducted.
RULE: the taxpayer must be entitled to a tax credit, or the option to deduct from gross income disappears altogether.
Note: the wording of Sec 34(C)(1)(b) shows the laws intent that the right to deduct income taxes paid to foreign government from the
taxpayers gross income is given only as an alternative to his right to claim a tax credit so that unless the alien resident has a right to
claim such tax credit, he is precluded from deducting the foreign income taxes from his gross income.
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Note again: the deduction shall be allowed in the case of a taxpayer who DOES NOT SIGNIFY in his return his desire to have any of the
benefits relating to credits for taxes paid to foreign countries. BUT the taxpayer may also signify his desire to claim a tax credit and
waive the deductions. So baliktad lang.
1.5.2.2 intention of the law

Sec 34
(C) Taxes.(1) In General. - Taxes paid or incurred within the taxable year in connection with the taxpayer's profession, trade or business, shall be
allowed as deduction, except
(a) The income tax provided for under this Title;
(b) Income taxes imposed by authority of any foreign country; but this deduction shall be allowed in the case of a taxpayer who does
not signify in his return his desire to have to any extent the benefits of paragraph (3) of this subsection (relating to credits for taxes of
foreign countries);
(c) Estate and donor's taxes; and
(d) Taxes assessed against local benefits of a kind tending to increase the value of the property assessed.
Provided, That taxes allowed under this Subsection, when refunded or credited, shall be included as part of gross income in the year of
receipt to the extent of the income tax benefit of said deduction.
(3) Credit Against Tax for Taxes of Foreign Countries. - If the taxpayer signifies in his return his desire to have the benefits of this
paragraph, the tax imposed by this Title shall be credited with:
(a) Citizen and Domestic Corporation. - In the case of a citizen of the Philippines and of a domestic corporation, the amount of income
taxes paid or incurred during the taxable year to any foreign country; and
(b) Partnerships and Estates. - In the case of any such individual who is a member of a general professional partnership or a beneficiary
of an estate or trust, his proportionate share of such taxes of the general professional partnership or the estate or trust paid or incurred
during the taxable year to a foreign country, if his distributive share of the income of such partnership or trust is reported for taxation
under this Title.
An alien individual and a foreign corporation shall not be allowed the credits against the tax for the taxes of foreign countries allowed
under this paragraph.
Basta point here is that taxpayer can avail of deduction or claim a tax credit for foreign income taxes.
1.5.3. Special assessments for benefits

Taxes for local benefits like streets, sidewalks, and other improvements because of some indirect benefit, DO NOT constitute an
allowable deduction from gross income.
When assessments are made for the purpose of maintenance or repair of local benefits, the taxpayer may deduct assessments paid as
an expense incurred in business, PAG BUSINESS lang. If its capital expenditures, NOT deductible.
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1.5.4. Others
NOT deductible:
o Estate and gift taxes
o VAT
o Surcharge and compromise on tax penalties
o Interest on unpaid taxes
o Taxes that are not related to trade, business, or practice of profession personal expenses to.
o Electric energy consumption tax
o Final taxes on passive income
o Tax deducted and withheld at source on compensation
o Tax amnesty payments
o Payment of under-withheld income taxes by a withholding agent who failed to withhold.
2. Treatment of Refunded and Credited Taxes
When taxes are refunded or credited, this shall be included in gross income for the year of the receipt to the extent of the income tax
benefit of said deduction.
o EXCEPTION: Tax Benefit Rule
o Tax Benefit Rule if a taxpayer recovers part of an expense in the same tax year in which he would have claimed a deduction,
he must reduce his current year expense by the amount of the recovery. But if the deduction of the tax did not benefit the
taxpayer, subsequent tax refund or credit should not be included as part of gross income of the taxable year the same was
granted.
Illustration:
o Operation of taxpayer in 2004 resulted in income of P1,000 after deducting a tax of P500. Tax refund for P500
was given in 2005. In this case, the whole amount of P500 should be included in his taxable income for 2005
because it was the amount he benefitted in 2004.
o (for more illustrations, refer to the book p. 734, its kinda clear though right?)
(3) Credit Against Tax for Taxes of Foreign Countries.

If the taxpayer signifies in his return his desire to have the benefits of this paragraph, the tax imposed by this Title shall be
credited with:
(a) Citizen and Domestic Corporation. - In the case of a citizen of the Philippines and of a domestic corporation, the amount
of income taxes paid or incurred during the taxable year to any foreign country
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(b) Partnerships and Estates. - In the case of any such individual who is a member of a general professional partnership or
a beneficiary of an estate or trust, his proportionate share of such taxes of the general professional partnership or the
estate or trust paid or incurred during the taxable year to a foreign country, if his distributive share of the income of
such partnership or trust is reported for taxation under this Title.
An alien individual and a foreign corporation shall not be allowed the credits against the tax for the taxes of foreign countries
allowed under this paragraph.
(4) Limitations on Credit. - The amount of the credit taken under this Section shall be subject to each of the following
limitations: (a) The amount of the credit in respect to the tax paid or incurred to any country shall not exceed the same
proportion of the tax against which such credit is taken, which the taxpayer's taxable income from sources within such
country under this Title bears to his entire taxable income for the same taxable year; and (b) The total amount of the credit
shall not exceed the same proportion of the tax against which such credit is taken, which the taxpayer's taxable income from
sources without the Philippines taxable under this Title bears to his entire taxable income for the same taxable year.
(5) Adjustments on Payment of Incurred Taxes. - If accrued taxes when paid differ from the amounts claimed as credits by the
taxpayer, or if any tax paid is refunded in whole or in part, the taxpayer shall notify the Commissioner; who shall redetermine
the amount of the tax for the year or years affected, and the amount of tax due upon such redetermination, if any, shall be
paid by the taxpayer upon notice and demand by the Commissioner, or the amount of tax overpaid, if any, shall be credited or
refunded to the taxpayer.
In the case of such a tax incurred but not paid, the Commissioner as a condition precedent to the allowance of this credit may
require the taxpayer to give a bond with sureties satisfactory to and to be approved by the Commissioner in such sum as he
may require, conditioned upon the payment by the taxpayer of any amount of tax found due upon any such redetermination.
The bond herein prescribed shall contain such further conditions as the Commissioner may require.
(6) Year in Which Credit Taken. - The credits provided for in Subsection (C)(3) of this Section may, at the option of the taxpayer
and irrespective of the method of accounting employed in keeping his books, be taken in the year which the taxes of the
foreign country were incurred, subject, however, to the conditions prescribed in Subsection (C)(5) of this Section.
If the taxpayer elects to take such credits in the year in which the taxes of the foreign country accrued, the credits for all
subsequent years shall be taken upon the same basis and no portion of any such taxes shall be allowed as a deduction in the
same or any succeeding year.
(7) Proof of
satisfaction
a.
b.
Credits. - The credits provided in Subsection (C)(3) hereof shall be allowed only if the taxpayer establishes to the
of the Commissioner the following:
The total amount of income derived from sources without the Philippines
The amount of income derived from each country, the tax paid or incurred to which is claimed as a credit under
said paragraph, such amount to be determined under rules and regulations prescribed by the Secretary of
Finance
c. All other information necessary for the verification and computation of such credits.
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Tax Credit
It is the amount subtracted from an individuals or entitys tax liability to arrive at the total tax liability. It reduces the taxpayers liability peso
for peso, compared to a deduction which reduces taxable income upon which the tax liability is calculated.
Foreign tax credit
If a citizen or resident incurs or pays income taxes to foreign country on income subject to tax, the taxpayer may be able to claim some
of these taxes as a deduction as a tax credit against the Philippine income.
Purpose of the Foreign Tax Credit (FTC) is to provide relief from double taxation.
1. Taxpayers who are allowed creditif the taxpayer signifies in return his desire to have the benefits of credit against tax for taxes of
foreign countries, the income tax shall be credited with:
Citizen and Domestic Corporation the amount of income taxes paid or incurred during the taxable year to any foreign country
Partnerships and estates proportionate share of each partner in the taxes of the general professional partnership or the estate
or trust paid or incurred during the taxable year to a foreign country
a. Domestic corporation owning a majority of the stock of foreign corporation
DC receives dividends from FC, the credit for foreign taxes includes the income taxes deemed to have been paid determined by taking the
same proportion of any income taxes paid or accrued by such controlled foreign corporation to any foreign country.
The amount of taxes deemed to have been paid is limited to an amount of the tax against which the credit for foreign taxes is taken, which the
amount of such dividends bears to the amount of the entire net income of the domestic corporation in which the dividends are included.
If there are dividends from more than 1 FC, compute them separately.
2. Must signify in return
NIRC requires the taxpayer to indicate in the return, his intention to avail of the tax credit, otherwise deduction na siya.
Nonresident Citizens aliens and foreign corporations not entitled
Because they are only taxed on INCOME FROM SOURCES WITHIN.
This is true even if the foreign government taxes the Philippine-sourced income resulting to indirect duplicate taxation.
If the converse is true, where the tax credits are allowed to aliens and FCs, it will place the taxpayer who is taxable on domestic
sources of income in a better position than one who is taxable on both domestic and foreign sources.
NOTE: double taxation becomes obnoxious only where the taxpayer is taxed twice for the benefit of the same governmental entity
1. Tax treaty relief
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Aliens and FCs may avail of existing tax treaty reliefs to reduce their Phil tax liability. These treaties are not uniform and each has its own rules
Limitations
Amount of the credit in respect to the tax paid or incurred to any country shall not exceed the same proportion of the tax against which
such credit is taken.
The total amount of the credit shall not exceed the same proportion of the tax against which such credit is take, which the taxpayers
taxable income from sources without the Philippines bears to his entire taxable income for the same taxable year.
Illustration:
A DOMESTIC CORP earned income of P100000 in COUNTRY A P100000 in COUNTRY B and P150000 in PHILIPPINES. He
paid taxes of 100000 (COUNTRY A) 50000 (COUNTRY B). Total income tax paid in Philippines for all the income was
P105000. Amount of tax credit shall be:
o Per country limitation:
COUNTRY A
100000/300000
x
105000
=
P35000
Tax credit (lower than 35000 limit)
=
P10000
COUNTRY B
100000/300000
x
105000
=
P35000
Tax credit (lower than actual 50000)
=
P35000
Total:
P45000
o
All foreign limitation:

200000/300000
x
105000
=
Allowable tax credit (lower between per country and all foreign limitation)
P70000
P45000
Redetermination of tax
If accrued taxes when paid differ from the amounts claimed as credits by the taxpayer, or if any tax is refunded in whole or in part, the
taxpayer shall notify the Com. Of Internal Revenue. Then the commisionah will determine the amount of the tax for the year or years
affected, then tax the mofo upon notice and demand.
If the tax is incurred but not yet paid, the commissionah will require the taxpayer to give a bond before giving him the allowance of the
credit.
When credit of taxes may be taken
Taken in the return for the year in which the taxes were paid
Taken in the year in which the taxes of the foreign country were incurred or accrued (determined by the CIR)
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NOTE: taxpayer elects to take such credits in the year of the foreign country accrued, the credits for all subsequent years shall be taken upon
the same basis, and no portion of any such taxes shall be allowed as a deduction in the same or any succeeding year.
Proof of credits: credits shall be allowed only if the taxpayer establishes to the CIR:
Total amount of income derived from sources without the Philippines
The amount of income derived from each country, the tax paid or incurred to which is claimed as a credit.
1. Conditions for allowance of credits
If he wants to claim credit for income taxes, it must be accompanied by the appropriate form prescribed by the CIR.
If the credit is sought for taxes already paid, must have attached to it the receipt for each tax payment. Must be an original, or
certified copy, and if in a foreign language, translated.
If the credit is sought tax accrued but not paid, the CIR may require a bond.
If the taxpayer wants to claim as a credit and not as a deduction, the form may be filed at a later date but a credit cannot be
allowed for such taxes unless the taxpayer signifies in his return his desire to have any benefits of the tax credit.
(D) Losses
(1) In General. - Losses actually sustained during the taxable year and not compensated for by insurance or other forms of
indemnity shall be allowed as deductions:
(a) If incurred in trade, profession or business
(b) Of property connected with the trade, business or profession, if the loss arises from fires, storms, shipwreck, or
other casualties, or from robbery, theft or embezzlement.
The Secretary of Finance, upon recommendation of the Commissioner, is hereby authorized to promulgate rules and
regulations prescribing, among other things, the time and manner by which the taxpayer shall submit a declaration of loss
sustained from casualty or from robbery, theft or embezzlement during the taxable year: Provided, however, That the time
limit to be so prescribed in the rules and regulations shall not be less than thirty (30) days nor more than ninety (90) days
from the date of discovery of the casualty or robbery, theft or embezzlement giving rise to the loss.
(c) No loss shall be allowed as a deduction under this Subsection if at the time of the filing of the return, such loss has been
claimed as a deduction for estate tax purposes in the estate tax return.
(2) Proof of Loss. - In the case of a nonresident alien individual or foreign corporation, the losses deductible shall be those
actually sustained during the year incurred in business, trade or exercise of a profession conducted within the Philippines,
when such losses are not compensated for by insurance or other forms of indemnity.
The Secretary of Finance, upon recommendation of the Commissioner, is hereby authorized to promulgate rules and
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regulations prescribing, among other things, the time and manner by which the taxpayer shall submit a declaration of loss
sustained from casualty or from robbery, theft or embezzlement during the taxable year: Provided, That the time to be so
prescribed in the rules and regulations shall not be less than thirty (30) days nor more than ninety (90) days from the date of
discovery of the casualty or robbery, theft or embezzlement giving rise to the loss; and
Losses
Deficiency of the amount received as opposed to the amount invested in a transaction. It may refer to a financial loss resulting from a
sudden and unexpected event. Must be evidenced by closed and completed transactions.
Adjustment must be made in each case for expenditures or items of loss properly chargeable to capital account, and for depreciation,
obsolescence, amortization or depletion. Reduced further in the amount of any insurance or other compensation received.
Income tax provides for reliefs from losses incurred which may be one or a combination of the following methods:
o Carry-back the carrying over of the loss to offset it against profits in prior years.
o Carry-forward Carrying over to offset it in the future years.
o Set-off deduction of loss against other income in the year in which the loss was incurred
NOTE: some tax jurisdictions adopt the Negative Income Tax where taxpayers incurring losses receive assistance from the state instead of
paying taxes to the latter.
1. Kinds of losses
GR: LOSSES DEDUCTIBLE are losses in the taxpayers trade or business;
Ordinary losses
Losses sustained by taxpayer during its normal operations.
These are incurred in the conduct of trade or business or exercise of
profession.
losses in profit-seeking transactions and casualty losses.

Casualty losses
Complete or partial destruction of property resulting from an
identifiable event of a sudden unexpected or unusual nature. It
denotes accident or sudden invasion by hostile agency and excludes
progressive deterioration.
SUDDEN EVENT: swift not gradual or unanticipated.
Example-- fire storm shipwreck robbery theft or embezzlement.
Casualty loss is claimed in the year incurred while losses from theft or
embezzlement is claimed in year discovered.
a. Distinctions
Both of them above are qualified as allowable deductions from gross income, distinction lies in the additional requirement for deductibility in
the case of casualty losses
In determining whether a loss is an ordinary loss or a casualty loss, the issue to be resolved is not whether the expense was supported by the
required certification but whether said inventory losses were incurred in the normal business operations of the taxpayer.
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b. Requisites of deductibility: The taxpayer seeking deduction must (1) point to some specific provision of the statute
authorizing the deduction and (2) prove that he is entitled to the deduction claimed by him
i. Summary:
Loss must be that of a taxpayer
Must be actually sustained and charged off within the taxable year
Must be evidenced by a closed and completed transaction
Must not be compensated for by insurance or other form of indemnity
Casualty or loss: sworn declaration of loss filed within 45 days after date of occurrence of casualty or robbery,
theft or embezzlement
Taxpayer must prove elements of the loss claimed (actual nature and occurrence of event and amount of loss)
Loss connected with trade, business or profession of the taxpayer
Loss not previously claimed as deduction for estate tax purposes in the estate tax return
ii. 1st requisite
a. Loss of one taxpayer may not be transferred to and used by another
b. Loss in one class of income not offset against income of another class
c. Loss of predecessor not deductible by a successor unless they are technically and legally the same entity
d. Loss of subsidiary may not be deducted by the parent corporation and vice versa (exc: parent corporation can
show that losses are not and cannot be taken into account in the State residence of the subsidiary)
e. Loss of branch deductible from gross income of head office (single entity concept)
f. Loss sustained in one line of business cannot be claimed as deduction in another line of business
iii. 2nd requisite: loss deductible only from the year it was actually sustained (or when the loss occurred, evidenced by a
closed and completed transaction and fixed by identifiable events occurring that year.
If loss not reported in book of account or income tax return: proof that alleged loss had not been suffered.
Illustration: Fluctuations in market value are never to be accounted for in the computation of income until the gain or loss
becomes an accomplished fact.
i. 3rd requisite: closed and completed transaction is one sufficiently final to ascertain that a loss has occurred. It is a
taxable event which has been consummated.
Increase in value can only be taxed when a disposition of the property occurred, which was of such a nature as to constitute a realization of
such gain, that is, a severance of the gain from the original capital invested in the property. In terms of losses, deductions are only allowable
once they are realized.
Illustration: Obsolescence (functional depreciation) for plants is not allowed if it has not functionally depreciated but was
merely needlessly acquired in a voluntary business consolidation.
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Illustration: Taxpayers cannot take a deduction for an other casualty loss where there was no physical damage to the
property of the taxpayer and a nearby landslide ruined neighboring homes. Basis here was merely: fear that the mountain
might attack their homes next.
iv. Other requisites:
Loss of personal property, as to the 7th requisite, may not be deducted from gross income and neither may losses from investment or trade be
deducted from compensation income. No loss is sustained by the transfer of property by gift or death.
8th requisite settlement of estate losses: deduction incurred from fires, storms, shipwreck, other casualties, robbery, theft, embezzlement
(when not compensated by insurance or otherwise) and if at the time of the filing of the return, such losses have not been claimed as a
deduction for the income tax purposes in an income tax return, and provided such losses were incurred not later than the last day for the
payment of the estate tax as prescribed in section 91.
1. Guidelines for deduction: taxpayer engaged in trade or business may be entitled to claim casualty losses incurred for the properties
actually in the business enterprise that were damaged and reported as losses in the appropriate declaration filed with the BIR. Loss of
assets not used in the course of business and/or are personal in nature shall not be allowed.
Casualty losses must have been reported as part of taxpayers assets in the accounting records and financial statements in the year
immediately preceding the occurrence of loss with cost of acquisition clearly established and recorded. Otherwise, such claim is not allowed.
Amount of loss that shall be compensated by insurance coverage should not be claimed as a deductible loss. If insurance proceeds exceed the
net book value of the damaged assets, excess shall be subject to regular income tax but not to VAT, since the indemnification is not an actual
sale of goods by the insured company to the insurance company.
In the event of total loss/destruction of properties used in business enterprise, net book value immediately preceding natural disaster should
be used as basis in claiming casualty losses and shall be reduced by the amount of insurance proceeds received. Restoration of damaged
property or acquisition of the new property to replace it must be property recorded and recognized as either repairs expense or capitalized
asset.
Governed by tax accounting rules, taking into account nature of the transaction, value of amounts involved and other factors.
Treatment of excess (insurance proceeds excess over net book value of the insured assets) not taxable income if the same have
been used in restoring the lost assets. Where insurance proceeds are actually reinvested in similar property, no gain is recognized.
Involuntary conversion of property doctrine used in determining whether or not a gain from the involuntary conversion of property may be
recognized as realized income subject to income tax to the recipient, theft or seizure, its expropriation or condemnation or the threat or
imminence thereof
Property compulsorily or involuntarily converted into property similar or related in service or use to the property so converted, or into money
which is forthwith in good faith, no gain or loss shall be recognized. Any part of the money not so expended in gain shall be recognized but in
an amount not in excess of the money so expended.
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If the taxpayer uses all insurance proceeds in rehabilitating destroyed assets, the excess is not recognized as realized income and not subject
to income tax. Excess of the total replacement cost over the net book value of the damaged assets immediately before the casualty will not be
a deductible loss but may be capitalized subject to depreciation (based on the adjusted basis of the assets after rehabilitation)
Revenue regulations 12-77: deductible loss sustained from casualty shall be the excess of the net book value of the ordinary assets that were
totally destroyed over any proceeds from insurance and other forms of indemnity or compensation received. Excess immediately before the
casualty shall be capitalized subject to depreciation over the remaining useful life of the property.
BIR ruling 429-88: excess of the total costs of reconstruction, rehabilitation, restoration and replacement of the insured assets over the total
acquisition cost or adjusted basis is not a deductible loss. The excess shall be considered an additional capital expenditure from which
depreciation play be claimed.
v. Not subject to VAT: Sec. 105 of the Tax Code of 1997
SEC. 105. Persons Liable. - Any person who, in the course of trade or business, sells barters, exchanges, leases goods or properties, renders
services, and any person who imports goods shall be subject to the value-added tax (VAT) imposed in Sections 106 to 108 of this Code.
VAT is an indirect tax and the amount of tax may be shifted or passed on to the buyer, transferee or lessee of the goods, properties or
services. This rule shall likewise apply to existing contracts of sale or lease of goods, properties or services at the time of the effectivity of RA
7716.
"in the course of trade or business": regular conduct or pursuit of a commercial or an economic activity, including transactions incidental
thereto, by any person regardless of whether or not the person engaged therein is a nonstock, nonprofit private organization (irrespective of
the disposition of its net income and whether or not it sells exclusively to members or their guests), or government entity.
in the course of trade or business: the building, machinery or equipment not held primarily for the sale to customers or held for lease in the
ordinary course of trade or business, the sale of the same is not subject to VAT pursuant to the above-mentioned provision and its
implementing rules and regulations.
Indemnification is not an actual sale of goods by the insured company to the insurance company: where it arises out of a fortuitous event and
the sale is not in the regular or ordinary course of business. The proceeds derived from the destructed of its insured assets shall not form part
of its gross sales for VAT purposes.
2. Taxpayers allowed to deduct losses
Losses by individuals sustained by individuals during the year not compensated for by insurance or otherwise, are fully deductible
(except by non-resident aliens)
1. If incurred in a taxpayers trade
2. Incurred in any transaction entered into for profits
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3. Property connected with the trade or business arising from fires, storm, shipwrecketc. No loss allwed as
deduction if at the time of the filing of the return, such loss has been claimed as deduction for estate and
inheritance tax purposes in the estate or inheritance tax return.
Losses by corporations
1. Domestic deduct losses actually sustained and charged off within the year and not compensated by insurance or
otherwise
2. Foreign (applies to non-resident aliens) allowed only losses sustained in business or trade connected within the
Philippines and those arising from fires, storms, shipwrecketc, and those sustained in transactions entered into
for profit in the Philippines not compensated by insurance or otherwise.
2. Substantiation requirements: taxpayer bears burden of proving and substantiating his claim for deduction for losses and should
comply with the ff:
a. Declaration of lossfiled with the CIR or his deputees within a certain period prescribed in these regulations after the
occurrence of the casualty, robbery, theft or embezzlement
b. Proof of lossactual nature and occurrence of the event and amount of the loss
Declaration of Loss (DOL) Within 45 days of the occurrence, a taxpayer who sustained loss therefrom and who intends to claim the loss as a
deduction for the taxable year in which the loss was sustained shall file a sworn declaration of loss with the nearest Revenue District Officer
(RDO).
1. Information contained:
a. Nature of the event giving rise to the loss and time of occurrence
b. Description of damaged property and location
c. Items needed to compute loss or other basis of property; depreciation allowed or allowable if any; value of property before and
after event; cost of repair
d. Amount of insurance or other compensation received or receiveable
2. Evidence to support claims should be furnished if available
3. DOL subject to verification and does not constitute sufficient proof of the loss that will justify its deductibility for income tax purposes.
Mere filing does not entitle taxpayer to deduct the alleged loss from gross income. Taxpayer should file a declaration loss and be
prepared to support and substantiate the information within the period prescribed, otherwise failure will result in the disallowance of
the casualty loss claimed in the taxpayers income tax return. For pre-audit purposes, DOL must be attached to his return. Failure to
attach a copy of declaration will result in disallowance of the loss in the pre-audit of his income tax return, without prejudice to the said
loss being taken up upon investigation of the return.
Proof of loss (POL)
i. Casualty loss photographs of the property before it was damaged will be helpful in showing the condition and value of
the property prior to casualty (same principle applies to photographs after the damage, in determining the value of the
property after; photographs after repair). Taxpayer should be prepared with other documentary proof (cancelled checks,
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vouchers, receipts, the insurance policy and other evidence of cost). All should be kept as part of tax records and made
available to revenue examiner upon audit of his tax return and DOL.
ii. Robbery, theft and embezzlement losses credible evidence to prove amount of loss and proper year of deduction;
insurance policy; police report (failure to report may be factor against taxpayer but not conclusive proof).
iii. All evidence subject to verification by concerned Bureau office, and should be kept as part of the tax records available to
the revenue officers upon audit
Determination of amount deductible in general: amount is limited to difference between value of property immediately preceding the
casualty and its value immediately thereafter but shall not exceed an amount equal to the cost or other adjusted basis of the property or
depreciated cost in the case property used in business, reduced by any insurance or other compensation received.
Fair market value immediately before and after casualty for determining amount of casualty loss deductible ascertained by impartial
but competent appraisal (recognizing effects of general market decline which may occur simultaneously with the casualty in order that
any deduction shall be limited to actual loss resulting from damage to property
Cost of repairs acceptable as evidence of loss of value if also shown that the repairs are necessary, that the amount spent is not
excessive, that they do not cover more than the damage suffered, and that the value of the property after repairs does not exceed the
value of the property immediately before casualty.
Illustrations:
o Total destruction of property used in business the net value immediately preceding the casualty should be used as the
basis in claiming losses also to be reduced by any amount of insurance or compensation
Assume that:
Acquisition cost of property
10,000
Accumulated depreciation
5,000
Insurance covered
2,500
Amount deductible is computed as follows:

Acquisition cost
Less: Accumulated Depreciation
Amount of loss suffered
Less: amount recovered through insurance
AMOUNT DEDUCTIBLE
10,000
5,000
5,000
2,500
2,500
Partial Destruction of property used in business replacement cost to restore property back to its normal operating
condition should be used for purposes of computing deductible losses, but in no case more than the net book value of
the property as a whole immediately before the casualty. Excess should be capitalized subject to depreciation over the
remaining useful if of the property
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Assume that:
Acquisition cost
Accumulated depreciation
Net book value
Estimated remaining useful life
Replacement cost of damaged portion
100,000
90,000
10,000
5 years
20,000
In the example, the loss deductible for tax purposes would be limited to P10,000 which is equal to the net book value of the whole
property:
Net book value
10,000
Replacement cost
20,000
Excess of replacement cost to be capitalized
10,000
Consequently, the new cost basis subject to depreciation charges over the remaining useful life of the property which is five years
would be P20,000:
Net book value before casualty
10,000
Add: excess of replacement cost over book value
10,000
New cost basis
20,000
Yearly depreciation: 20,000/5 years = Php 4,000
1. Farm losses
o Loss of livestock that sustained in the death of livestock allowed as a deduction to the extent of the acquisition cost only if no
inventories are taken into account in determining the income from the business of farming. If inventories are taken from trade or
business of farming, no deduction allowed to the extent that such losses are reflected in the inventory on hand at the close of
the taxable year.
o Other farm losses ground prepared and planted or stocked and its value is completely destroyed by the overflow or seepage of
water from natural resources, the cost of the preparation and planting shall be deductible loss in the year which it is incurred.
a. Farm operated as business enterprise: losses are deductible from gross income. If held for favorable markets, no deduction
on account of shrinkage in weight or physical value or by deterioration in storage shall be allowed except as such may be
reflected in an inventory if used to determine profits. Total loss by storm, floor or fire of prospective crop is not a deductible loss
in computing net income.
Loss of the value of animals for famers engaged in raising livestock is not entitled to claim as a loss the value of those that perish from among
those raised on a farm (EXC: reflected in inventory if used). If livestock purchased after March 1, 1913 for any purpose and afterwards, dies,
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the actual purchase price of such stock less any depreciation allowable as a deduction in computing net income with respect to such perished
livestock, and also any insurance or indemnity recovered, may be deducted as a loss
Actual cost of property destroyed by order of authorities may be claimed as a loss unless reimbursement is made (which shall be reported as
income for the year in which it was made). Cost of feed, pasturage, care deducted as an expense of operation shall not be include as part of
the cost of the stock for purpose of ascertaining the amount of a deductible loss.
Gross income ascertained by inventories such losses will be reflected in inventory by reducing the amount of livestock or products on hand
at the close of the year, but no deduction can be made for livestock or products lost during that year. If an individual owns and operates a farm
in addition to being engaged in another trade, and sustains a loss from each operation on the farm, amount of loss may be deducted from
gross income received from all sources provided the farm is not merely for recreation or pleasure
2. Robbery theft and embezzlement losses: amount deductible shall be determined consistently with the manner prescribed for
determining amount of casualty loss allowable. Fair market value of the property immediately after the theft shall be considered as
ZERO. Does not apply to losses reflected in inventories of taxpayer.
Illustration:
Mr. B purchased equipment costing 40k. Nov. 30, 2010, it had a book value of 35k, and it was stolen. Equipment was
insured against theft. Insurance company had controversy over liability. In 2011, Mr. B had reasonable prospect of
recovery of FMV of equipment. Controversy settled on March 2012, and Mr. B received 20k from insurance company. No
deduction costs for 2010 or 2011 but amount of deduction allowable in 2012 is 15
o
Value of property immediately before theft
Less: value of property after
Loss to be taken into account
Less: insurance received
Deduction allowable
35k
0
35k
20k
15k
2. Treatment of excess of replacement/reconstruction cost or insurance proceeds: for income tax purposes the deductible loss
shall be the excess of the net book value (NBV) of ordinary assets totally destroyed over any proceeds from insurance and other forms
of indemnity or compensation received. If partially destroyed, the deductible loss shall not exceed NBV of assets immediately before
their partial destruction. Excess of total costs of reconstruction, rehabilitation, restoration and replacement of insured assets over total
acquisition cost or adjusted basis is not deductible loss. Excess shall be considered an additional capital expenditure from which
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depreciation may be claimed. Excess of insurance proceeds over NBV of insured assets is not taxable income to the taxpayer if used in
restoring lost assets.
a. Rule: where insurance proceeds are actually reinvested in similar property, no gain recognized. For depreciation, taxpayer can
claim depreciation of insured property plus any additional capital outlay incurred in restoring property if any.
b. Apply involuntary conversion doctrine no gain or loss to be recognized in the event of property compulsorily or involuntarily
converted into similar property. Any money not so expended, the gain if any shall be recognized but in an amount not in excess
of the money so expended.
Year of deduction: casualty occurring resulting in a loss and in the same year, there exists a claim for reimbursement with respect to which
there is a reasonable prospect of recovery, no portion of the loss with respect to which reimbursement may be received is sustained until it
can be ascertained with reasonable certainty whether or not such reimbursement will be received. Whether a reasonable prospect of recovery
exists with respect to a claim for a reimbursement of a loss is a question of fact to be determined upon examination of facts. When a taxpayer
claims that the taxable year in which loss is sustained is fixed by his abandonment of the claim for reimbursement, he must be able to produce
objective evidence of his having abandoned the claim such as execution of release.
1. Exhaustion of remedies: loss deductible only in year that it is sustained. EXC: if it is compensable by insurance or otherwise,
deduction is postponed to subsequent year (year where it appears that no compensation can be had)
a. Loss deduction will be denied if there is measurable right to compensation for the loss with ultimate collection reasonably clear.
Where there is reasonable ground for reimbursement, taxpayer must seek redress and may not secure loss deduction until he
establishes that no recovery may be had. Taxpayer must exhaust his remedies first to recover or reduce loss. Taxpayer may not
deduct casualty and theft losses covered by insurance unless he files a timely claim and reduces loss by amount of
reimbursement
2. Foreign exchange losses: ordinary gain or loss results from fluctuations in transactions disposing foreign currency acquired. Loss is
deductible only for the year it is actually sustained (year loss occurs as evidenced by complete transaction and fixed by identifiable (I
THINK THIS IS A TYPO) occurring that year.
a. Loss ascertained and realized during the taxable period and not compensated by insurance or otherwise is deductible from
gross income albeit it may relate to transaction of prior years.
b. Summary: FE rates are taxable gains and/or deductible expenses when:
i. Exchange rate (ER) at the time of receipt of advance payments on contracts is different from the rate at the time income
is earned and debited against advance payments
ii. ER at time of recording accounts receivables different from rate at the time of actual collection
iii. ER at the time advance payments made to subcontractors different from rate at the time expenses on the sub-contract
are incurred/recorded
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iv. ER at the time of recording/recognizing accounts payables is different from rate at the time accounts payables are paid
v. ER at the time down payments for construction materials are made different from the rate at the time of full
payment/settlement of balance on the purchase price of materials.
c. Illustrations:
i. Property purchased with borrowed British pounds. Difference between dollar value of borrowed and higher
amount expended in purchase to repay loan = losses.
ii. Purchaser buys on credit (investment in foreign exchange). Maturity of payment: the currency increasing
or decreasing is equivalent to taxpayer profit or loss on exchange but cost of goods is not affected
iii. FE losses resulting from devaluation of peso vis--vis foreign currency and vice versa but remittance of
scheduled amortization consisting of principal and interests payment on a foreign loan not actually made
are not deductible from gross income for income tax purposes.
3. Denial of input VAT refund: unutilized input VAT related to zero-rated sales may be claimed as deduction from gross income if the
taxpayers claim for refund/credit of the same has been denied on the ff grounds:
i. Failure to comply with sales invoicing requirements
ii. Failure to show evidence that the input taxes sought to be refunded were not carried over nad applied against any output
VAT in the succeeding periods
iii. Flied out of time
Input tax by its nature is an asset bringing benefits to taxpayer. In case of denial of claim for refund/credit, taxpayer loses the value of his
asset. It may be deducted in the year the loss was sustained (year of denial of claim). In case claim denied for failure to submit
invoices/receipts there is no deductible loss. Effect: VAT passed on by supplier will form part of the expense of items purchased. Remedy is to
amend income tax return if still available
Recovery of losses:
Under TAX BENEFIT RULE taxpayer must include in income the recovery of any amount deducted in a prior taxable year to the extent the prior
years deduction reduced the taxpayers tax liability for that year (or created a net operating loss carryover or carryback).
Illustration
If a taxpayer properly deducts a P100000 loss in 2010 and deduction reduces the taxpayers 2010 income tax liability
a recovery of P100000 received in 2012 is includible in full in the taxpayers income in 2012.
If 2010 loss exceeds that 2010 taxable income and creates a net operating loss carryover or carryback (in some tax
systems) a recovery of P100000 received in 2012 is includible in full in the taxpayers income in 2012.
o If no carryover is created the amount includible is limited to the amount of taxable income. Recovery is ordinary income and not
capital gain.
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If taxpayer properly claimed a loss deduction and in a later year recovers a portion of amounts lost taxpayer may not
amend the prior years income tax return to reduce the loss deduction by the amount of the recovery. Instead recovery
is includible as tax benefit income in the year received.
(3) 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 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 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 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 "not 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 in any of the first 10 years of operation may be carried over as a deduction from taxable income for the
next 5 years immediately following the year of such loss.
The entire amount of the loss shall be carried over to the first of the 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 form the taxable income of the
next remaining 4 years.
Net Operating Loss Carry Over
General principles and policies
NOLCO shall be allowed as deduction from gross income of same taxpayer who sustained and accumulated net operating losses regardless of
change of ownership. This also applies in case of merger where taxpayer is the surviving entity.
Individual (including estate or trust) or domestic or resident foreign corporation may be allowed to claim deduction corresponding to NOLCO
but he who claims 40% optional standard deduction shall not simultaneously claim NOLCO deduction.
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3-year reglementary period shall continue to run notwithstanding the fact that taxpayer availed of 40% optional standard deduction in the said
period. This period on the carry-over of NOLCO will also continue to run even if corporation paid its income tax under MCIT computation.
NOLCO shall be availed of on first-in, first-out basis. Net operating loss incurred in the year where there is substantial change in ownership
shall not be affected by such change of ownership.
1.
Substantial change
NOLCO shall not be transferred or assigned to another person such as transfer or assignment through merger, consolidation or any other form
of business combination of such taxpayer to another person. NOLCO shall be allowed if there has been no substantial change in the ownership
of business in that not less than 75% nominal value of outstanding issued shares or not less than 75% paid-up capital is held by or on behalf of
the same persons. 75% equity, ownership or interest rule only applies to transfer or assignment of taxpayers net operating losses as result of
or arising from said merger, consolidation or business combination.
In case transfer or assignment of taxpayers net operating losses arises from such merger, consolidation or consolidation with another person,
transferee or assignee shall not be entitled to claim the same as deduction from gross income unless shareholders of transferor/assignor 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
transferee/assignee is a corporation) or 75% or more interest in business of the transferee/assignee (if it is other than a corporation).
a.
By or on behalf to the same personthis refers to maintenance of ownership despite change as when:
i.
No actual change in ownership is involved in case the transfer involves
change from direct ownership to indirect ownership or vice-versa.
ii.
No actual change in ownership is involved as in the case of merger of
subsidiary into parent company.
Illustration for (i)

P CORP owns Q CORP that has NOLCO. P CORP transfers Q CORPs shares to R CORP in exchange for 100% of R CORP shares.
o In this case Q CORPs NOLCO is retained because Q CORPs shares are held by R CORP on behalf of P CORP, original owner.
Illustration for (ii)
X CORP owns 100% of Y CORP. Y CORP owns 100% of Z CORP. Z CORP has NOLCO. Z CORP is merged into Y CORP.
o In this case, Z CORPs NOLCO should be retained and transferred to Y CORP. Prior to the merger, X CORP already indirectly
owned Z CORP. After the merger, X now directly owns Z CORP (absorbed corporation) which continues to exist in Y CORP.
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Reference to 75% equity, ownership or interest rule, 75% or more in nominal value, 75% or more in interest and other similar terms shall
be construed within its context. In determining whether there is actual change in ownership, whole series of transactions shall be treated as
single unit.
2.
Determination of substantial change in the ownership of business

Rules in determining changes of ownership
Time of determination of substantial change in ownership shall be determined as of end of taxable year as NOLCO is to be claimed as
deduction.
Change in ownership of business occurs when person who sustained net operating losses enters into a merger, consolidation or
combination with another person resulting to transfer of the said net operating losses.
o No substantial change in ownership if stockholders of transferor gains control of at least 75% or more in nominal value of
outstanding issued shares or paid-up capital of transferee or 75% or more interest in business of transferee assignee (if
transferee is not a corporation).
o Substantial change in ownership occurs if stockholders of transferor gains control of transferee only to extent of less than 75%.
BIR RULING 214-2012NOLCO is not one of the assets that can be transferred and absorbed by surviving corporation. Privilege of deducting
NOLCO can be availed of only by the absorbed corporation. This ruling has gone astray and contradictory to previous rulings.
So long as there is no substantial change in ownership, NOLCO may be deducted.
Taxpayers entitled to deduct NOLCO from gross income

Any individual subject to normal income tax or preferential tax rates on their taxable income shall be entitled to deduct from his gross income
for the current year his accumulated net operating losses for immediately preceding 3 consecutive years.
EXCEPTIONS (not entitled to NOLCO deduction:

Offshore Banking Units and Foreign Currency Deposit Unit
Enterprise registered with Board of Investments with respect to BOI-registered activity enjoying the Income Tax Holiday incentive.
Enterprise registered with PEZA with respect to its PEZA-registered activity.
Enterprise registered with Bases Conversion and Development Act with respect to registered business activity.
Foreign corporations engaged in international shipping or air carriage in the Philippines
Any person, natural or juridical, enjoying exemption from income tax with respect to its operation during period where exemption is
applicable.
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Entitlement to Net Operating Loss Carry Over (NOLCO)

GR: only net operating losses incurred beginning JAN 1 1998 may be carried over to next 3 years immediately succeeding taxable years
following the year of such loss for purposes of NOLCO deduction.
EXCEPTION: mines (other than oil and gas well), net operating loss without benefit of incentives (under Omnibus Investments Code) incurred in
any of the first 10 years of operation may be carried over as deduction from taxable income for next 5 years immediately following the year of
such loss.
Entire amount of loss shall be carried over to first of 5 taxable years, and any portion of such loss which exceeds taxable income of the first
year shall be deducted in like manner from taxable income of next remaining 4 years.
Illustration
Taxpayer incurred losses of P50,000 in 200 and P100,000 in 2001. He obtained income of P30,000, P10,000 and P120,0000 in 2002,
2003 and 2004. Losses may be carried over as follows:
2000
Net
income/loss
NOLCO
2001
50,000
2002
100,000
2000
2003
2004
30,000
10,000
(30,000)
(10,000)
2001
120,000
(100,000)
Taxable
income
20,000
Observe:
o
o
o
o
Net loss to be carried over cannot exceed net income of subsequent year.
Net loss of 50,000 incurred in 2000 cannot be carried over beyond 2003.
Net loss in 2001 is not carried over until net loss in 2000 has been consumed.
No carry over if subsequent year resulted in a loss.
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NOLCO is one of the rate exceptions to principle that expenses incurred are matched with income earned for same taxable year. NOLCO
deduction allows taxpayer to offset previous years losses against subsequent years income.
1.
Transitory apportionment of NOLCO, in case of corporation using the fiscal year accounting period
In the case of corporation using fiscal year accounting period, allowable NOLCO for succeeding fiscal years shall be determined:
NOLCO for entire fiscal year
Ratio of:
# of months
12 months covering fiscal year
NOLCO to be carried over to next 3 years.

2.
Where taxpayer is exempt, or partly exempt from income tax, or enjoying preferential tax treatment under special laws,
net operating losses shall not be allowed as NOLCO deduction from its gross income derived from unregistered business
activities.
3.
Quarterly and annual availment of NOLCO

NOLCO shall be allowed as deduction in computing taxpayers income taxes per quarter and annual final adjustment income tax returns.
If per taxpayers final annual adjustment income tax return, entire operations for the year resulted to a net operating loss, such may be
claimed as NOLCO deduction in the immediately succeeding taxable year.
NOLCO may be claimed as deduction only within 3 consecutive years immediately following the year of the net operating loss. In order that
the 3-year period may be monitored, taxpayer shall show its NOLCO deduction, in its income tax return, as a separate item of deduction. In no
case may NOLCO be claimed, as a party of taxpayers other itemized deductions, like under losses in general.
a.
Presentation of NOLCO in tax return and unused NOLCO in income statement
NOLCO shall be separately shown in taxpayers income tax return (also known as Reconciliation Section of Tax Return) while unused NOLCO
shall be presented in Notes to Financial Statements showing the taxable year in which net operating loss was sustained or incurred and any
amount claimed as NOLCO deduction within 3 years. Failure to comply with this requirement will disqualify the taxpayer from claiming NOLCO.
4.
NOLCO in relation to MCIT

Such corporation cannot enjoy benefit of NOLCO for as long as it is subject to MCIT in any taxable year. However, running of 3-year period for
expiry of NOLCO is not interrupted by fact that corporation is subject to MCIT.
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a.
b.
(4) Capital Losses. Limitation. - Loss from sales or Exchanges of capital assets shall be allowed only to the extent provided in Section 39.
Securities Becoming Worthless. - If securities as defined in Section 22 (T) become worthless during the taxable year and
are capital assets, the loss resulting therefrom shall, for purposes of this Title, be considered as a loss from the sale or
exchange, on the last day of such taxable year, of capital assets.
(5) Losses From Wash Sales of Stock or Securities. - Losses from "wash sales" of stock or securities as provided in Section 38.
(6) Wagering Losses. - Losses from wagering transactions shall b allowed only to the extent of the gains from such
transactions.
(a)
(b)
(7) Abandonment Losses.

In the event a contract area where petroleum operations are undertaken is partially or wholly abandoned, all accumulated
exploration and development expenditures pertaining thereto shall be allowed as a deduction: Provided, That accumulated
expenditures incurred in that area prior to January 1, 1979 shall be allowed as a deduction only from any income derived from
the same contract area.
In all cases, notices of abandonment shall be filed with the Commissioner.
In case a producing well is subsequently abandoned, the unamortized costs thereof, as well as the undepreciated costs of
equipment directly used therein, shall be allowed as a deduction in the year such well, equipment or facility is abandoned by
the contractor: Provided, That if such abandoned well is reentered and production is resumed, or if such equipment or facility
is restored into service, the said costs shall be included as part of gross income in the year of resumption or restoration and
shall be amortized or depreciated, as the case may be.
Capital asset
CAPITAL GAIN/LOSS results if taxpayer sells or exchanges a capital asset.
CAPITAL ASSET: property held by taxpayer (whether or not connected to his business) but does not include stock in trade or other property
which would be included in the inventory of taxpayer if on hand at close of taxable year, or property held by taxpayer primarily for sale to
customers in ordinary course of business, of a character subject to allowance for depreciation; or real property used in trade or business.
It is every owned and used for personal purposes, pleasure or investment. Note that sale of shares of stock and real properties held as capital
assets are governed by rules on Capital Gains Tax.
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1.
Personal-use property
Gain from its sale or exchange is a capital gain. Loss is not deductible from gross income.
2.
Investment property (such as stocks and bonds)

Gain or loss from its sale or exchange is a capital gain or loss. This treatment does not apply to property used to produce rental income.
a.
Sale of a business
THEORY OF FRAGMENTATION: sale of business is not a sale of one asset. Instead, all assets of business are sold. Each asset is treated as being
sold separately for determining the treatment of gain or loss. When sold, assets must be classified as capital assets, depreciable property, real
property or property held for sale (such as inventory or stock in trade). Sale of capital assets results in capital gain or loss. Sale of inventory
results in ordinary income or loss.
3.
Noncapital assets
Noncapital asset is property that is not a capital asset:
Stock in trade or other property included in the inventory if on hand at close of taxable year.
Stock in trade, inventory and other property held mainly for sale to customers in trade or business
Accounts or notes receivable acquired in ordinary course of trade or business for services rendered or from sale of any properties.
Depreciable property used in trade or business or as rental property (including intangibles) even if property is not fully depreciated (or
amortized).
Real property (other than land) used in trade or business or as rental property, even if fully depreciated.
Land used in business.
Capital loss
CAPITAL LOSSES: if proceeds from sale, exchange or any other disposition of capital asset are less than purchase price or consideration
received.
Limitations:
These are allowed to be deducted only to extent of capital gains (gains derived from sale or exchange of capital assets) and not from any
other income of taxpayer.
o EXCEPTION: If bank or trust company, a substantial part of whose business is receipt of deposits, sells any bond, debenture, note
or certificate or other evidence of indebtedness issued by any corporation with interest coupons or in registered form, any loss
resulting from such sale shall not be subject to foregoing limitation and shall not be included in determining applicability of such
limitation.
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GR: A capital loss can be deducted only from capital gains under SEC 39
Entire amount of gain or loss upon sale or exchange of property shall be recognized.
No recognition shall be made if sale or exchange is made in pursuance of a plan of corporate merger or consolidation or, if as a result of an
exchange of property for stocks, exchanger, alone or together with others not exceeding four, gains control of corporation. Then, how resulting
gain might be taxed or whether or not loss would be deductible are matters dealt with in other sections of NIRC.
Check SEC 39 and 40 for discussion on capital gain and losses.
1.
Holding period
In case of individual taxpayer (other than corporation), only these percentages of gain or loss recognized upon sale or exchange of capital
asset shall be taken into account in computing net capital gain, net capital loss and net income:
100% if capital asset has been held for not more than 12 months
50% if capital asset has been held for more than 12 months
Securities
SECURITIES: shares of stock in a corporation and rights to subscribe for or to receive such shares. It is a financial instrument that represents:
Ownership position in a publicly-traded corporation (stock)
Creditor relationship with government body or corporation (bond)
Rights to ownership as represented by an option
Debt security
Equity investment
Type of security that represents money

that is borrowed that must be repaid, with
terms that define the amount borrowed,
interest rate and maturity/renewal date.
Capital, not ordinary, asset of investor,

the sale or exchange of which results in
either a capital gain or capital loss.
This includes government and corporate

bonds, certificates of deposit, preferred
stock and collaterized securities
Loss sustained is to be treated as capital

loss as if incurred from sale or exchange
transaction.
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1.
Investors, dealers and traders

Investors
Dealers
Traders
They buy and sell

securities and expect
income from dividends,
interest or capital
appreciation for personal
investment. They are not
conducting a trade or
business.
Merchant of stocks or
securities with an
established place of
business, regularly
engaged in business of
securities and resale of it
to customers. They may
charge services fees from
clients.
One engaged in business of

buying and selling stocks
for his own account. This is
considered business even
though he has no inventory
or clients.
Sales of securities result in

capital gains and losses.
Gains and losses are

classified as ordinary
gains and losses.
REQUISITES:
He must seek to profit
from daily market
movements in price of
securities and not from
dividends, interests or
capital appreciation.
Activity must be
substantial
He must carry on activity
with continuity and
regularity.
Following facts and
circumstances should be
considered in determining if
activity is security trading
business:
Typical holding periods
for securities bought and
sold
Frequency and amount of
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trades during the year
Extent to which taxpayer
pursues the activity to
produce income for a
livelihood
Amount of time he
devotes for activity
If nature of trading does not
qualify as business,
taxpayer is considered an
investor and not a trader.
2.
Ordinary or capital
Securities are ordinary assets only to dealer.
Under an investor, it is capital assets.
GR: Capital gain or loss normally requires concurrence of 2 conditions for it to result:
There is sale or exchange
Thing sold or exchanged is a capital asset.
EXCEPTIONS (loss as if from sale exchange of capital assets)

Worthless securities
Retired certificates of indebtedness with interest coupons or in registered form
Short sales and option to buy or sell property where no sale or exchange strictly exists
a.
Shrinkage in value of stocks
Person cannot deduct loss from shrinkage of value of stocks (through fluctuation of market) from his gross income. Loss allowable to be
deducted is when stock is disposed of.
EXCEPTION: if worthlessness is satisfactorily shown as in case of bad debts.
b.
Shares of stock become worthless
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Losses from shares of stock held as capital asset shall be treated as capital loss at the end of the year that it become worthless. However, this
loss is not deductible against capital gains realized from sale, barter, exchange or other forms of disposition of shares during taxable year, but
must be claimed against other capital gains to the extent provided in SEC 34.
For 5% and 10% net capital gains tax (CGT) to apply, there must be actual disposition of shares of stock held as capital asset and capital loss
must be derived from sale, barter, exchange and other disposition.
Securities referred in this section (recognized as becoming worthless):

Equity securities such as shares of stock
Debt securities such as bonds
Wash sale
WASH SHALE: when a taxpayer sells or otherwise disposes stock or securities (including a contract or option to acquire or sell stock or
securities) at a loss within 30 days before or after sale or disposition (the 61-day rule), he:
Buys substantially identical stock or securities
Acquires substantially identical stock or securities in a fully taxable trade
Enters in a contract or option to acquire substantially identical stock or securities
Acquires substantially identical stock or securities for his individual retirement arrangement.
It is also triggered if a taxpayer sells securities at a loss and his spouse or corporation that he controls acquires the same securities within
wash sale time frame.
Taxpayer cannot deduct losses from wash sales unless loss was incurred in ordinary course of his business as a dealer of stock/securities.
There is suspension of loss since the taxpayer did not really give up the loss property. However, loss is added to basis of replacement property.
Thus, loss is allowed when replacement property is subsequently sold by taxpayer.
61-DAY RULE: calendar days and not trading days. Thus, holidays and weekends are included.
1.
Illustration
A has stocks in X CORP. Price of shares is down from when he purchased them. He wants to deduct losses on his tax return
so he sells the stock and then buys stock in X CORP at a lower price.
o If there is no wash sale rule, A will get a tax deduction and still hold stocks of X CORP.
Short sales
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SHORT SALE: contract to sell property a taxpayer borrowed for delivery to a buyer. At a later date, he either buys an identical property and
delivers it to the lender or deliver property he held but did not want to transfer at the time of the sale.
Illustration
B thinks that value of his stocks in Y CORP will drop. He borrows 100 shares from his broker Z COMPANY and sell them for
P100,000 to C.
o This transaction is a short sale.
Subsequently, B buys 100 shares for P80,000 and delivers them to his broker Z COMPANY to close the short sale.
o Taxable gain of B is P20,000 (100,000-80,0000)
HOLDING PERIOD: amount of time a taxpayer actually held the property eventually delivered to the lender to close the short sale.
However, gain when closing a short sale is short term if taxpayer:
Held substantially identical property for 1 year or less on date of short sale
Acquired property substantially identical to the property sold short after short sale but on or before the date he closes the short sale.
If a taxpayer held the substantially identical property for more than 1 year on date of short sale, any loss on the short sale is a long-term
capital loss, even if the property used to close the short sale was held 1 year or less.
Wagering losses
GR: losses resulting from gambling or wagering transactions are deductible becomes gambling or wagering is an income-producing activity.
Although NIRC is silent, legality or illegality of gambling or wagering activity affects deductibility. \ losses in illegal bets and numbers game are
not deductible losses.
RULE: amount of wagering losses deductible from gross income is limited only to amount of wagering gains.
Taxpayer is subject to tax on his net income from gambling for the year.
In case of net loss, same may not be deducted from other sources of income
To be eligible for offset, wagering gains must occur in the same year as losses.
Taxpayer may deduct gambling losses only if he itemizes deductions. Amount of losses he deducts cannot be more than amount of gambling
income he reports on his return.
Illustration
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2012, E lost 100,000 and won 50,000 in various trips to Las Vegas.
o E may deduct 50,00 from his losses which is also the amount of gains. Remaining balance of 50,000 (from loss) may not be
deducted from income from other sources and simply disregarded. It may not be offset from gambling or wagering gains
pertaining to subsequent years.
NOTE: winnings from sources within Philippines are subject to 20% final tax.
\ Wagering losses that may be deducted are those incurred abroad. Such losses may be deducted only from wagering gains from sources
abroad.
1.
Wagering transaction
WAGER: contract by which 2 or more parties agree that a certain sum of money or other thing shall be paid or delivered to one of them or that
they shall gain or lose on the happening of an uncertain event or upon ascertainment of a fact in dispute, where parties have no interest in the
event except that arising from possibility of such gain or loss.
Wagering is synonymous to betting and gambling.
REQUISITES:
There must be a prize
Element of chance
Taxpayer must give some consideration
GAMBLING INCOME: includes winnings from lotteries, raffles, horse races and casinos; winnings other than those from sources within
Philippines.
Abandonment losses
Abandonment of property is disposition of property.
ABANDONMENT: when he voluntarily and permanently gives up possession and use of property with intention of ending his ownership but
without passing it on to anyone else.
GR: it is not treated as sale or exchange.
If amount taxpayer realizes (if any) is more than his adjusted basis, he has a gain. Otherwise, it is a loss.
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Loss from abandonment of business or investment property is deductible as a loss. This is not an ordinary loss.
This rule applies also to leasehold improvements the lessor made for lessee that were abandoned.
1.
2.
3.
Abandonment of petroleum operations and producing well

Rules regarding losses resulting from abandonment of petroleum operations and producing wells:
In event a contract area where petroleum operations are undertaken is partially or wholly abandoned, all accumulated exploration and
development expenditures shall be allowed as a deduction only rom income derived from same contract area.
In case of producing well, unamortized costs and undepreciated costs of equipment directly used shall be allowed as a deduction in the year
of abandonment.
o If such well is re-entered and production is resumed or equipment is restored, costs shall be included as part of gross income
and shall be amortized or depreciated.
Voluntary removal of buildings
Loss of useful value of an asset
4.
Audit procedures and techniques
(E) Bad Debts.

In General. - Debts due to the taxpayer actually ascertained to be worthless and charged off within the taxable year except
those not connected with profession, trade or business and those sustained in a transaction entered into between parties
mentioned under Section 36 (B) of this Code: Provided, That recovery of bad debts previously allowed as deduction in the
preceding years shall be included as part of the gross income in the year of recovery to the extent of the income tax benefit of
said deduction.
2.
Securities Becoming Worthless. - If securities, as defined in Section 22 (T), are ascertained to be worthless and charged off
within the taxable year and are capital assets, the loss resulting therefrom shall, in the case of a taxpayer other than a bank
or trust company incorporated under the laws of the Philippines a substantial part of whose business is the receipt of
deposits, for the purpose of this Title, be considered as a loss from the sale or exchange, on the last day of such taxable year,
of capital assets.
1.
Bad debts and securities

1.
Actually ascertained to be worthless
a.
Creditor of decedent
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2.
b.
Assignment of credit
Actually charged off from taxpayers books of accounts
Requisites for deductibility

1.
Valid debt
a.
Determining whether advances are contributions to capital or loans
2.
Guidelines
a.
Factors indicating worthlessness
i.
Bankruptcy
ii.
Foreclosure of mortgage
3.
Banks and insurance companies
Tax Benefit Rule

Securities becoming worthless
Non-deductible bad debts
1.
2.
(F) Depreciation.
General Rule. - There shall be allowed as a depreciation deduction a reasonable allowance for the exhaustion, wear and tear
(including reasonable allowance for obsolescence) of property used in the trade or business.
In the case of property held by one person for life with remainder to another person, the deduction shall be computed as if the
life tenant were the absolute owner of the property and shall be allowed to the life tenant.
In the case of property held in trust, the allowable deduction shall be apportioned between the income beneficiaries and the
trustees in accordance with the pertinent provisions of the instrument creating the trust, or in the absence of such provisions,
on the basis of the trust income allowable to each.
Use of Certain Methods and Rates. - The term "reasonable allowance" as used in the preceding paragraph shall include,
but not limited to, an allowance computed in accordance with rules and regulations prescribed by the Secretary of Finance,
upon recommendation of the Commissioner, under any of the following methods:
a.
The straight-line method
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b.
Declining-balance method, using a rate not exceeding twice the rate which would have been used had the
annual allowance been computed under the method described in Subsection (F) (1)
c.
The sum-of-the-years-digit method; and
d.
Any other method which may be prescribed by the Secretary of Finance upon recommendation of the
Commissioner.
3.
Agreement as to Useful Life on Which Depreciation Rate is Based. - Where under rules and regulations prescribed by the
Secretary of Finance upon recommendation of the Commissioner, the taxpayer and the Commissioner have entered into an
agreement in writing specifically dealing with the useful life and rate of depreciation of any property, the rate so agreed upon
shall be binding on both the taxpayer and the national Government in the absence of facts and circumstances not taken into
consideration during the adoption of such agreement.
The responsibility of establishing the existence of such facts and circumstances shall rest with the party initiating the
modification.
Any change in the agreed rate and useful life of the depreciable property as specified in the agreement shall not be effective
for taxable years prior to the taxable year in which notice in writing by certified mail or registered mail is served by the party
initiating such change to the other party to the agreement: Provided, however, that where the taxpayer has adopted such
useful life and depreciation rate for any depreciable and claimed the depreciation expenses as deduction from his gross
income, without any written objection on the part of the Commissioner or his duly authorized representatives, the aforesaid
useful life and depreciation rate so adopted by the taxpayer for the aforesaid depreciable asset shall be considered binding
for purposes of this Subsection.
4.
Depreciation of Properties Used in Petroleum Operations. - An allowance for depreciation in respect of all properties
directly related to production of petroleum initially placed in service in a taxable year shall be allowed under the straight-line
or declining-balance method of depreciation at the option of the service contractor.
However, if the service contractor initially elects the declining-balance method, it may at any subsequent date, shift to the
straight-line method.
The useful life of properties used in or related to production of petroleum shall be ten (10) years of such shorter life as may be
permitted by the Commissioner.
Properties not used directly in the production of petroleum shall be depreciated under the straight-line method on the basis of
an estimated useful life of five (5) years.
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5.
Depreciation of Properties Used in Mining Operations. - an allowance for depreciation in respect of all properties used in
mining operations other than petroleum operations, shall be computed as follows:
a.
At the normal rate of depreciation if the expected life is ten (10) years or less; or
b.
Depreciated over any number of years between five (5) years and the expected life if the latter is more than
ten (10) years, and the depreciation thereon allowed as deduction from taxable income: Provided, That the
contractor notifies the Commissioner at the beginning of the depreciation period which depreciation rate allowed
by this Section will be used.
6.
Depreciation Deductible by Nonresident Aliens Engaged in Trade or Business or Resident Foreign Corporations . - In the case
of a nonresident alien individual engaged in trade or business or resident foreign corporation, a reasonable allowance for the
deterioration of Property arising out of its use or employment or its non-use in the business trade or profession shall be
permitted only when such property is located in the Philippines.
Concept of depreciation
1.
Cost recovery
2.
Charging off depreciations
3.
Statement to be attached to the return
Requirements to be depreciable and deductible

Must be owned by taxpayer
a.
Leased property
b.
Incidents of ownership
c.
Life tenant
2.
Business use
a.
Partial business or investment use
3.
Property having a determinable useful life
4.
Property lasting more than 1 year
1.
Depreciable property
1.
Depreciation of intangibles
a.
Depreciation of patent or copyright
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b.
Depreciation of drawings and models

i.
When there are expenditures in his business for designs, drawings,
patters, models, or work of an experimental nature for the improvement of his facilities or product, and if
the period of usefulness of any such asset may be estimated from experience with reasonable accuracy, it
may be subject of depreciation allowances spread over such estimated period of usefulness.
c.
Depreciation in the case of farmers

i.
Reasonable allowance for depreciation may be claimed on farm
buildings (excluding the dwelling of the farmer), machinery, and other physical property. Included also are
livestock acquired for work unless included in inventory.
ii.
Depreciation shall be based on the cost or other basis and the
estimated life of the livestock.
iii.
If the livestock is included in an inventory no depreciation will be
allowed, as the corresponding reduction in value will be reflected in the inventory.
2.
Property which cannot be depreciated inventories, stock in trade, land apart from the improvements or physical
development added to it, minerals, and others discussed below.
a.
Inventory/stock in trade
i.
Typical business asset that is not subject to depreciation.
ii.
Reason: when inventory/stock is sold or consumed, its cost basis is
subtracted from the sales as a deduction for the cost of goods sold or deducted as ordinary expense.
b.
Land
i.
Excluded because land does not wear out, become obsolete, or get
used up.
ii.
Although he cant depreciate the land, he can depreciate certain
land preparation costs, such as landscaping, in preparing the land for business use.
1.
Illustration: X constructed a new building and paid for clearing, seeding, planting. Some of the
bushes were planted near the building. If he would have to destroy the building when he is going to
replace it, he would have to destroy the bushes, so the same have a determinable useful life and
therefore he can depreciate them.
c.
Excepted property
i.
Property placed in service and disposed of in the same year
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ii.
Equipment for capital improvements. Taxpayer must add otherwise
allowable depreciation on the equipment during the period of construction to the basis of his
improvements.
iii.
Intangibles subject to amortization:
1.
Leasehold costs
2.
Goodwill cannot be amortized if its for an indefinite period of time
3.
Research and development expenditures may either be capitalized or treated as outright
deductible expense.
4.
Patents sold with the exclusive right to make, use, and sell and article constitutes ordinary
income.
5.
Organization expenses are subject to amortization and are not deductible in full on the year
incurred.
Start and end of depreciation depreciation commences with the acquisition of the property and its owner is not bound to see
his property gradually waste without making provision for its replacement. In the case of companies, it is the duty of the
company to its bond and its stockholders to make such provision. Thus depreciation begins when a taxpayer places property
in service for use in a trade or business for the production of income.
1.
Placed in service considered as such when it is ready and available for a specific use, whether for a business activity,
income-producing activity, tax exempt activity, or a personal activity. EVEN IF the taxpayer is not using the property
Illustration: X bought a machine for his business. However, it was not installed until the next year. In this case, the machines
is considered placed in service in the year it was installed.
a.
a.
Conversion to business use
i.
If property is in service in a personal activity, cannot claim
depreciation.
ii.
But if the propertys use is changed to a business or income
producing activity, then he can begin to depreciate it at the time of the change.
1.
Illustration: X bought a home and used it as his personal home for several years before he
converted it into a rental property. He began to claim the depreciation in the year he converted it
into a rental property and this is correct. X is smart. X knows the law.
iii.
NOTE: if the property is used for BOTH business and personal use,
only the business or investment use portion may be depreciated.
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b.
2.
1.
Idle property
i.
Taxpayer must continue to claim deduction for depreciation on
property used in his business or for the production of income even if it is temporarily idle. Meaning he can
still depreciate the property even if it is idle.
Cost or other basis fully recovered no depreciation will be allowed in the case of property which has been amortized to its
scrap value and is no longer in use or when he has fully recovered its basis or cost. He has recovered his basis
when allowable depreciation deductions equal his cost or investment in the property. Kung pinayagan beyond the
cost or investment, edi kikita na siya. Bawal yan boy.
a.
Retired from service
i.
Stop depreciation when you retire the thing from service, even if
you havent fully recovered cost or other basis. Retirement means when you withdraw it from use in trade
or business or from use in the production of income because of any of the following:
1.
Sells or exchanges property
2.
Converts it to personal use
3.
Abandons the property
4.
Transfers the property to a supplies or scrap account
5.
Property is destroyed.
Basis of depreciation reasonable allowance for the exhaustion or wear and tear may be deducted from gross
income is based on the amount which should be set aside for the taxable year in accordance with a reasonable
plan where the value of the amount set aside plus the salvage value will equal the basis of the property. Must be
on the basis of actual fact. Basta gradual exhaustion of the utility of the property is the basis of the depreciation
allowance.
So: Value of amount set aside + salvage value = basis of the property.
Cost as basis
This is cost plus amounts he has paid for items such as sales tax, freight charges, and installation and testing fees.
Cost includes the amount he pays in cash, obligations, other property, or services.
For land:
FMV or Zonal value of land/ FMV or Zonal value of the land AND building x Total acquisition cost = cost of
land
Total acquisition cost of land and building cost of land per above computation = cost of building
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a.
b.
Assumed debt - this is when the taxpayer buys property already subject to an existing mortgage or other debt
on the property
i.
The amount includes the amount he pays for the property plus the
amount of the assumed debt.
Settlement costs
i.
ii.
iii.
iv.
Legal and recording fees

Survey charges
Insurance
Amounts the seller owes that the taxpayer agrees to pay such as
back taxes
2.
Property constructed or built capitalize all costs to determine the basis of the property. No allowable depreciation on a
building until it is completed or on a machine until it is installed
3.
Other basis this is determined by the way the taxpayer receives the property
a.
Property changed from personal use
i.
Depreciable basis is the FMV of the property on the date of the
change in use
ii.
Original cost or other basis adjusted as follows:
1.
Increased by the cost of any permanent improvements or additions and other costs that must be
added to basis.
2.
Decreased by any deductions, losses, and other items that reduced basis.
Treatment of repairs and improvements if the taxpayer makes improvements on a depreciable property, he must treat the
improvements as a separate depreciable property. TAKE NOTE improvements lang. If the modification is for repair
lang, deducted in the same way as any other business expense.
a.
Improvements to rented property
i.
Lessee can depreciate permanent improvements he makes to
business property he rents from someone else.
ii.
On the part of the lessor, where the lessee makes permanent
improvements, the capital sum to be replaced by depreciation allowance is the same as though NO
IMPROVEMENTS have been made.
4.
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Methods of computing depreciation allowance whatever plan or method of apportionment adopted must be
reasonable and must have due regard to operating conditions during the taxable period.
The proper allowance for depreciation of any property used in the trade or business is that amount which should be
set aside for the taxable year in accordance with a reasonable consistent plan whereby the aggregate of the
amount so set aside, plus the salvage value will equal the basis of the property.
1.
Depreciation accounting used to further the integrity of periodic income statements by making meaningful allocation of
the cost entailed in the used of the asset.
a.
Salvage value
This is the estimated residual value of a depreciable asset or property at the end of its economical or useful life
In all methods of determining depreciation, SALVAGE VALUE IS ALWAYS DEDUCTED FROM THE ASSETS PURCHASE PRICE.
When the cost of an asset less its accumulated depreciation equals the salvage value, no more depreciation (reiteration of the
rule above)
Estimate the period the asset will be held in the business and the price that will be received for it on retirement. Pwede dito
ang konting error in the estimation.
b. Useful life
This is the period of time for which an asset is capable of being used for the production of income.
Also the period over which asset may be reasonable expected to be useful to the taxpayer in his business or trade.
Estimate is made AT THE TIME WHEN THE PROPERTY IS FIRST PUT TO USE.
c.
2.
Accumulated depreciation total depreciation recorded on an asset to date. On the balance sheet accumulated
depreciation reflects the book value of an asset.
Straight line method method that involves subtraction of the scrap value from the cost of a depreciable asset and division
of the resultant figure by the anticipated number of periods of useful life of the asset. Lets the taxpayer deduct
the same amount of depreciation each year.
The cost of the asset less the estimated salvage value is determined first. Then the amount is written off in equal amounts
over the period of the estimated useful life of the asset.
PROCESS:
Determine the basis of the property, salvage value, and estimated useful life
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Subtract salvage value from basis. Balance is the total amount of depreciation a taxpayer can take over the useful life of
the property
Divide the balance by number of years remaining in the useful life. This gives the amount of yearly depreciation
deduction. This amount will stay the same throughout the year unless there is a big change in the basis.
If in the first year the taxpayer used the property for less than a full year, he must prorate the depreciation deduction
for the number of months in use.
ILLUSTRATION: in 2012 X bought equipment for 560k. useful life of 10 years. Salvage value of 60k. basis is: 560k-60k=
500k/10 years = 50k (full year). If in 2012 he only used it for 6 months, divide it by 2 kasi prorated nga so 25k lang. The next
year, full 50k na
3.
Accelerated depreciation various methods that yield larger deductions in the earlier years of the life of an asset than the
straight line method.
a.
Declining balance method
Method of calculating periodic depreciation that involves the determining at regular intervlas throughout the expected life of
an asset of equal percentage amounts of a cost balance which is progressively decreased by subtraction of each prior
increment of depreciation from the original cost of the asset.
This is computed by multiplying undepreciated cost of the asset each year by uniform rate up to double the straight line rate
(150%). BUT THIS CANNOT BE MORE THAN DOUBLE THE STRAIGHT LINE METHOD.
PROCESS:
Divide the number 1 by the useful life of the property to get straight line rate. (useful life is 5 years, 1/5 or 20% is the
straight line rate
Multiply this by a number that is more than 1 but not more than 2 to get declining balance rate
After determining the rate of depreciation, multiply the adjusted basis of the property by it. This is the amount of the
deduction
Salvage value is not subtracted in figuring the yearly depreciation deductions.

ILLUSTRATION:
X adjusted basis at the beginning of the 1st year is 10k and declining balance rate is 20%. In this case, the depreciation
deduction for the 1st year is 2k (10k/20%). To get the depreciation deduction in the 2 nd year, basis for the amount of
depreciation must be adjusted by the depreciation deducted in the first year. Previous years depreciation deducted from the
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basis (10k-2k=8k) and this amount is multiplied by the rate of depreciation (8k x 20% = 1,600). The depreciation deduction for
the 2nd year is 1,600.
i.
Double declining balance method here there is spreading of the initial cost of a
capital asset over time by deducting in each period DOUBLE THE PERCENTAGE RECOGNIZED BY STRAIGHT LINE method and
applying double percentage to the undepreciated balance existing at the start of each period. NO SALVAGE VALUE IS USED IN
THE CALCULATION.
Same example above, X rate will be 40% instead of 20%.
c. Sum of years digits method annual depreciation allowance computed by multiplying the depreciable cost basis
by a constantly decreasing fraction
Numerator of the fraction represents the remaining years of useful life of the asset. Denominator is always the sum of the
years digits of useful life at the time of acquisition
ILLUSTRATION: asset has estimated useful life of 5 years. Denominator is: 5+4+3+2+1 = 15. Each digit is used as the
numerator to determine the percentage by which the asset should be depreciated each year ie. First year is 5/15, second year
is 4/15, etc.
4.
Other method
a.
Activity depreciation not based on time but on level of activity
When asset is acquired, life is estimated in terms of level of activity ie. Company vehicle worth 600k with salvage value of
100k and estimated to go 100k kilometers in lifetime. The per-km depreciation is 600k 100k/ 100k kilometers = 5 pesos per
kilometer.
c. Units of production depreciation/unit method
Asset is written off in direct relation to the productivity of the asset. Cost of the asset is divided by the estimated total
number of units to be produced. This unit cost is multiplied by the number of units sold during the year resulting in the
depreciation or amortization expense for the year.
This is used when the value to depreciate is based on the asset, such as a natural resource, and the depreciation is computed
based on tactual physical use.
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ILLUSTRATION: X bought coffee machine which can produce 1million cups of coffee in its lifetime. Cost of the machine is 500k
and has salvage value of 50k. unit of production rate is determined by: 450k (which is 500k cost 50k salvage value) /
1million. Which is Php 0.45. If in a year the machine makes 100k cups, depreciation expense is 100k x 0.45.
c.
Units of time depreciation similar to units of production, but used when the amount of the asset is not the
same year to year.
d.
Replacement cost method and sinking fund method amortization or depreciation of asset in which the value
is fixed in terms of replacement cost.
Obsolescence
With respect to physical property which is clearly shown by the taxpayer as affected by economic conditions what will result in
its being abandoned at a future date prior to the end of its normal useful life, so that depreciation is not enough to return the
cost, a reasonable deduction for obsolescence, in addition to depreciation may be allowed in accordance with the facts. NOT
BASED ON OPINION OF THE TAXPAYER. Edi kasi lahat na sila eto na gagawin. Based on facts dapat.
Depreciation in petroleum operations
For all properties directly related to production of petroleum initially placed in service in a taxable year shall be allowed under
the straight line method or declining balance method. Useful life of properties used in or related to production of petroleum
shall be TEN YEARS or such shorter life as may be permitted by the Commissioner. Properties not used directly in the
production of petroleum shall be depreciated under the straight line method on the basis of an estimated useful life of 5
years.
Depreciation in mining operations

Properties directly used in mining operations other than petroleum operations
o Normal rate of depreciation if the expected life is 10 years or less
o Depreciated over a number of years between 5 and the expected life, if the expected life is more than 10 years
and the depreciation is allowed as a deduction from taxable income. Contractor must notify Commish.
Depreciation by nonresident aliens engaged in trade or business and resident foreign corporations
NRA engaged in trade, a reasonable allowance for the deterioration of property arising out of its use or employment or nonuse in the business, trade or profession shall be permitted ONLY when the property is in the Philippines.
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(1)
Limitation on depreciation of vehicles

Cannot be presumed that the purchase of a vehicle is purchase of property used in business and in order that for the
deduction for depreciation for said purchase, the rules here must be complied with.
Pursuant to Revenue Reg. 12-2012, these are the guidelines:
o No deduction from gross income for depreciation shall be allowed unless taxpayer supports the purchase with
evidence such as receipts which contain:
Motor vehicle identification number or other registrable identification numbers of the vehicle.
Total price subject to depreciation
Direct connection of the vehicle to the business or profession of the taxpayer.
Only 1 vehicle for land transport is allowed for the use of an official or employee, value of which
should not exceed 2.4 million pesos.
No depreciation shall be allowed for yachts, helicopters, airplanes, or aircrafts, and land vehicles
exceeding the 2.4 million amount, unless the taxpayers business is transport.
Maintenance expenses on account of non-depreciable vehicles for taxation purposes are

disallowed
Input taxes on purchase of non-depreciable vehicles and all input taxes on maintenance expenses
are disallowed for taxation.
In case the non-depreciable vehicles are sold, any loss as a result of the sale will not be allowed as deduction from gross
income.
(G) Depletion of Oil and Gas Wells and Mines.
In General. - In the case of oil and gas wells or mines, a reasonable allowance for depletion or amortization computed in
accordance with the cost-depletion method shall be granted under rules and regulations to be prescribed by the Secretary of
finance, upon recommendation of the Commissioner.
Provided, That when the allowance for depletion shall equal the capital invested no further allowance shall be granted:
Provided, further, That after production in commercial quantities has commenced, certain intangible exploration and
development drilling costs:
a.
Shall be deductible in the year incurred if such expenditures are incurred for non-producing wells and/or
mines, or
b.
Shall be deductible in full in the year paid or incurred or at the election of the taxpayer, may be capitalized and
amortized if such expenditures incurred are for producing wells and/or mines in the same contract area.
"Intangible costs in petroleum operations" refers to any cost incurred in petroleum operations which in itself has
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no salvage value and which is incidental to and necessary for the drilling of wells and preparation of wells for the
production of petroleum: Provided, That said costs shall not pertain to the acquisition or improvement of
property of a character subject to the allowance for depreciation except that the allowances for depreciation on
such property shall be deductible under this Subsection.
Any intangible exploration, drilling and development expenses allowed as a deduction in computing taxable income during the
year shall not be taken into consideration in computing the adjusted cost basis for the purpose of computing allowable cost
depletion.
(2)
Election to Deduct Exploration and Development Expenditures. - In computing taxable income from mining operations,
the taxpayer may at his option, deduct exploration and development expenditures accumulated as cost or adjusted basis for
cost depletion as of date of prospecting, as well as exploration and development expenditures paid or incurred during the
taxable year: Provided, That the amount deductible for exploration and development expenditures shall not exceed 25% of the
net income from mining operations computed without the benefit of any tax incentives under existing laws.
Actual exploration and development expenditures minus twenty-five percent (25%) of the net income from mining shall be
carried forward to the succeeding years until fully deducted.
Election by the taxpayer to deduct the exploration and development expenditures is irrevocable and shall be binding in
succeeding taxable years. "Net income from mining operations", as used in this Subsection, shall mean gross income from
operations less "allowable deductions" which are necessary or related to mining operations.
"Allowable deductions" shall include mining, milling and marketing expenses, and depreciation of properties directly used in
the mining operations.
This paragraph shall not apply to expenditures for the acquisition or improvement of property of a character which is subject
to the allowance for depreciation.
In no case shall this paragraph apply with respect to amounts paid or incurred for the exploration and development of oil and
gas.
The term "exploration expenditures" means expenditures paid or incurred for the purpose of ascertaining the existence,
location, extent or quality of any deposit of ore or other mineral, and paid or incurred before the beginning of the
development stage of the mine or deposit.
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"Development expenditures" means expenditures paid or incurred during the development stage of the mine or other natural
deposits.
The development stage of a mine or other natural deposit shall begin at the time when deposits of ore or other minerals are
shown to exist in sufficient commercial quantity and quality and shall end upon commencement of actual commercial
extraction.
(3)
Depletion of Oil and Gas Wells and Mines Deductible by a Nonresident Alien individual or Foreign Corporation. - In the
case of a nonresident alien individual engaged in trade or business in the Philippines or a resident foreign corporation,
allowance for depletion of oil and gas wells or mines under PAR 1 of this Subsection shall be authorized only in respect to oil
and gas wells or mines located within the Philippines.
Concept and nature of depletion the using up of the natural resources by mining, drilling, quarrying etc. Depletion deduction
allows an owner or operator to account for the reduction of a products reserves.
Also defined as reduction during taxable year of oil, gas or other mineral deposits as a result of production.
1.
Distinctions among depreciation, depletion and amortization

a.
Amortization is the allocation of the cost of an intangible asset, not otherwise subject to depreciation, over
that intangibles useful life.
b.
Depreciation is prorating the cost of a tangible asset over that tangibles life.
c.
Depletion is the allocation of the cost of wasting assets/natural resources over time
2.
Depletion allowance
a.
This is allowed to miners of oil, gas, mineral, timber resources as such are exhausted.
b.
2 ways of determining:
i.
Cost method each unit of production sold is assigned a portion of
the cost or other basis of interest.
1.
Determined by dividing the cost or other basis by the total units expected to be recovered.
ii.
Percentage method tax law provides special percentage factor for
different types of minerals and other natural resources. Depletion is based on percentage of estimated
gross income to be earned during the period from a natural resource without reference to the cost of the
resource. This is multiplied by the gross income from the interest to arrive at the depreciation allowance.
c.
ILLUSTRATION: X corporation, a gas and oil mine operator, acquired oil rights from Y Corp. for 2.1million pesos.
Deposit contains estimated 700k barrels of usable crude oil. In 2012 200k barrels were produced and 150k barrels
were sold. X employs cost method. Depletion deduction for 2012 is 450k computed as follows:
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i.
2.1million/700k x 150k = 450k
Entitlement to deduct depletion

Cost method for oil and gas wells and mines
Option of taxpayer to deduct and carry forward
Depletion deductible by non-resident aliens or foreign corporations
(H) Charitable and Other Contributions.

(1)
In General. - Contributions or gifts actually paid or made within the taxable year to, or for the use of the Government of
the Philippines or any of its agencies or any political subdivision thereof exclusively for public purposes, or to accredited
domestic corporation or associations organized and operated exclusively for religious, charitable, scientific, youth and sports
development, cultural or educational purposes or for the rehabilitation of veterans, or to social welfare institutions, or to nongovernment organizations, in accordance with rules and regulations promulgated by the Secretary of finance, upon
recommendation of the Commissioner, no part of the net income of which inures to the benefit of any private stockholder or
individual in an amount not in excess of ten percent (10%) in the case of an individual, and five percent (%) in the case of a
corporation, of the taxpayer's taxable income derived from trade, business or profession as computed without the benefit of
this and the following subparagraphs.
(2)
Contributions Deductible in Full. - Notwithstanding the provisions of the preceding subparagraph, donations to the
following institutions or entities shall be deductible in full
a.
Donations to the Government. - Donations to the Government of the Philippines or to any of its agencies or
political subdivisions, including fully-owned government corporations, exclusively to finance, to provide for, or to
be used in undertaking priority activities in education, health, youth and sports development, human
settlements, science and culture, and in economic development according to a National Priority Plan determined
by the National Economic and Development Authority (NEDA), In consultation with appropriate government
agencies, including its regional development councils and private philantrophic persons and institutions:
Provided, That any donation which is made to the Government or to any of its agencies or political subdivisions
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not in accordance with the said annual priority plan shall be subject to the limitations prescribed in paragraph (1)
of this Subsection;
b.
Donations to Certain Foreign Institutions or International Organizations. - Donations to foreign institutions or

international organizations which are fully deductible in pursuance of or in compliance with agreements, treaties,
or commitments entered into by the Government of the Philippines and the foreign institutions or international
organizations or in pursuance of special laws
c.
Donations to Accredited Nongovernment Organizations. - The term "nongovernment organization" means a

non profit domestic corporation:
i.
Organized and operated exclusively for scientific, research,
educational, character-building and youth and sports development, health, social welfare, cultural or
charitable purposes, or a combination thereof, no part of the net income of which inures to the benefit of
any private individual
ii.
Which, not later than the 15th day of the third month after the close
of the accredited nongovernment organizations taxable year in which contributions are received, makes
utilization directly for the active conduct of the activities constituting the purpose or function for which it
is organized and operated, unless an extended period is granted by the Secretary of Finance in accordance
with the rules and regulations to be promulgated, upon recommendation of the Commissioner;
iii.
Level of administrative expense of which shall, on an annual basis,
conform with the rules and regulations to be prescribed by the Secretary of Finance, upon recommendation
of the Commissioner, but in no case to exceed thirty percent (30%) of the total expenses; and
iv.
Assets of which, in the even of dissolution, would be distributed to
another nonprofit domestic corporation organized for similar purpose or purposes, or to the state for public
purpose, or would be distributed by a court to another organization to be used in such manner as in the
judgment of said court shall best accomplish the general purpose for which the dissolved organization was
organized.
d.
Subject to such terms and conditions as may be prescribed by the Secretary of Finance, the term "utilization"
means:
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i.
Any amount in cash or in kind (including administrative expenses)
paid or utilized to accomplish one or more purposes for which the accredited nongovernment organization
was created or organized.
ii.
Any amount paid to acquire an asset used (or held for use) directly
in carrying out one or more purposes for which the accredited nongovernment organization was created or
organized.
An amount set aside for a specific project which comes within one or more purposes of the accredited nongovernment
organization may be treated as a utilization, but only if at the time such amount is set aside, the accredited nongovernment
organization has established to the satisfaction of the Commissioner that the amount will be paid for the specific project
within a period to be prescribed in rules and regulations to be promulgated by the Secretary of Finance, upon
recommendation of the Commissioner, but not to exceed five (5) years, and the project is one which can be better
accomplished by setting aside such amount than by immediate payment of funds.
(3)
Valuation. - The amount of any charitable contribution of property other than money shall be based on the acquisition
cost of said property.
(4)
Proof of Deductions. - Contributions or gifts shall be allowable as deductions only if verified under the rules and
regulations prescribed by the Secretary of Finance, upon recommendation of the Commissioner.
1.
2.
Charitable contributions
Contribution of property
Contributions from abroad
Limitation of deductibility
Contributions deductible in full

1.
Non-stock, non-profit corporation or organization
a.
Accreditation of non-stock, non-profit corporations/NGOs by accrediting entity
b.
Tax benefits of donations to accredited non-stock, non-profit corporations/NGOs
c.
Utilization requirements
d.
Certificate of donations
i.
Notice of donations
ii.
Date and place of filing returns
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iii.
1.
Susbtantiation requirements
Prohibited transactions
Withdrawal of certificate of accreditation and revocation of certificate of registration
Deductible contributions under special laws

1. Adopt-A-School program
Allows private entities to assist a public school, preferably located in any of the 20 poorest provinces identified by the Presidential Council for
Countryside Development or any other government agency tasked with identifying the poorest province.
Expenses incurred by the adopting entity shall be allowed an additional deduction from the gross income equivalent to 50% of such expenses.
Valuation of assistance other than money shall be based on the acquisition cost of the property.
a. Tax incentives to the adopting private entity
A pre-qualified adopting private entity, which enters into an agreement with a public school, shall be entitled to the following tax
incentives:
(i)
Deduction from the gross income of the amount of contribution/ donation that were actually, directly and exclusively incurred for
the Program, subject to limitations, conditions and rules set forth in Section 34(H) of the NIRC, plus an additional amount
equivalent to 50% of such contribution/ donation subject to the following conditions:
(a)
That the deduction shall be availed of in the taxable year in which the expenses have been paid or incurred;
(b)
That the taxpayer can substantiate the deduction with sufficient evidence, such as official receipts or delivery receipt and
other adequate records;
(c)
That the application, together with the approved Agreement endorsed by the National Secretariat, shall be filed with the
Revenue District Office (RDO) having jurisdiction over the place of business of the donor/ adopting private entity, copy
furnished the RDO having jurisdiction over the property, if the contribution/ donation is in the form of real property.
(ii)
Exemption of the assistance made by the donor from payment of the donors tax pursuant to Sections 101(A)(2) and (B)(1) of the
NIRC.
b. Other tax consequences of assistance to the public school
Foreign donation the VAT and excise tax , if any, on the importation of goods shall be assumed by the DepEd, or
CHED, or TESDA, as the case may be, being the consignee or the importer thereof, except in cases where the importation is exempt
from VAT under Section 109 of the NIRC
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Local donation the same shall be subject to VAT on the transfer of the said goods or properties under Section
106(B)(1) of the NIRC; the donee-public school shall be deemed as the final consumer/ end-user, and therefore, not entitled to any
input VAT
c. Valuation of assistance/contribution or donation
Personal property amount shall be based on the acquisition cost of the said assistance or contribution
o If said property had already been used, then such valuation shall take into consideration the depreciated value of the property
o If the assistance is in the form of consumable goods, the amount shall be based on the acquisition cost by the donor or the actual
cost thereof at the time of the donation, whichever is lower
Services amount shall be based on the value of the services rendered as agreed upon by the donor and the
service provider and the public school as fixed in the MOA, or the actual expenses incurred by the donor, whichever is lower
Real property amount shall be the fair market value of the property at the time of the contribution/ donation, as
determined pursuant to Section 6(E) of the NIRC or the book value/ depreciated value of the property, whichever is lower
(I) Research and Development.

(1)
In General. - a taxpayer may treat research or development expenditures which are paid or incurred by him during the
taxable year in connection with his trade, business or profession as ordinary and necessary expenses which are not
chargeable to capital account.
The expenditures so treated shall be allowed as deduction during the taxable year when paid or incurred.
(2)
Amortization of Certain Research and Development Expenditures. - At the election of the taxpayer and in accordance
with the rules and regulations to be prescribed by the Secretary of Finance, upon recommendation of the Commissioner, the
following research and development expenditures may be treated as deferred expenses:
a.
Paid or incurred by the taxpayer in connection with his trade, business or profession
b.
Not treated as expenses under PAR 1 hereof; and
c.
Chargeable to capital account but not chargeable to property of a character which is subject to depreciation or
depletion.
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In computing taxable income, such deferred expenses shall be allowed as deduction ratably distributed over a period of not
less than 60 months as may be elected by the taxpayer (beginning with the month in which the taxpayer first realizes benefits
from such expenditures).
The election provided by PAR (2) hereof may be made for any taxable year beginning after the effectivity of this Code, but
only if made not later than the time prescribed by law for filing the return for such taxable year.
The method so elected, and the period selected by the taxpayer, shall be adhered to in computing taxable income for the
taxable year for which the election is made and for all subsequent taxable years unless with the approval of the
Commissioner, a change to a different method is authorized with respect to a part or all of such expenditures.
The election shall not apply to any expenditure paid or incurred during any taxable year for which the taxpayer makes the
election.
(3)
Limitations on Deduction. - This Subsection shall not apply to:

a.
Any expenditure for the acquisition or improvement of land, or for the improvement of property to be used in
connection with research and development of a character which is subject to depreciation and depletion; and
b.
Any expenditure paid or incurred for the purpose of ascertaining the existence, location, extent, or quality of
any deposit of ore or other mineral, including oil or gas.
Concept of Research and development
Research and Development (R&D) refers to expenditures incurred in connection with the taxpayers trade or business which represent
research and development costs in the experimental or laboratory sense, generally including all such costs incident to the development of an
experimental or pilot model, a plant process, a product, a formula, an invention, or similar property, and the improvement of already existing
property of the type mentioned.
1.
Reasonable amount
The deductibility of research or experimental expenditure refers only to the extent that the amount of the expenditure is reasonable under the
circumstances. In general, the amount of an expenditure for research or experimental activities is reasonable if the amount would ordinarily be
paid for like activities by like enterprises under like circumstances.
Options of taxpayer
The taxpayer may use one of the two following methods of accounting for R&D expenditures:
(i)
Deduct R&D expenditures in the tax year, in which they are paid or incurred, or
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(ii)
Amortize such expenditures over a period of not less than 60 months.
The taxpayer must charge to a capital account any R&D expenditures that he does not or cannot deduct currently, not defer and amortize.
1.
Current-year deduction of R&D expenditures

The cost of research and experimentation are generally capital expenses. However, the taxpayer can elect to deduct these costs as a current
ordinary and necessary business expense. The election to deduct these costs is binding for the year it is made and for all later years unless
the taxpayer gets approval from the CIR to make a change.
2.
Amortization of R&D expenditures

A taxpayer can amortize his R&D expenditures chargeable to a capital account, if he meets the following conditions:
(i)
Paid or incurred by the taxpayer in connection with his trade, business or profession;
(ii)
Not treated as ordinary or necessary expenses; and
(iii) Chargeable to capital account but not chargeable to property of a character which is subject to
depreciation or depletion.
a.
Election to amortize
The election to amortize research and development may be made for any taxable year beginning after 1998, but only if made
not later than the time prescribed by law for filing the return for such taxable year.
3.
Limitation
Deduction of R&D shall not apply to expenditure for:
(i)
acquisition or improvement of land, or for the improvement of property to be used in connection with
research and development of a character which is subject to depreciation and depletion; and
(ii)
ascertaining the existence, location, extent, or quality of any deposit of ore or other mineral, including
oil or gas.
(J) Pension Trusts. - An employer establishing or maintaining a pension trust to provide for the payment of reasonable
pensions to his employees shall be allowed as a deduction (in addition to the contributions to such trust during the taxable
year to cover the pension liability accruing during the year, allowed as a deduction under SUBSEC (A) (1) of this SEC a
reasonable amount transferred or paid into such trust during the taxable year in excess of such contributions, but only if such
amount
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Has not theretofore been allowed as a deduction, and

Is apportioned in equal parts over a period of 10 consecutive years beginning with the year in which the transfer or
payment is made.
Payments to employees pension trusts
An employer who adopts or has adopted a reasonable pension plan, actuarially sound, and who establishes, or has established, and maintains
a pension trust for the payment of reasonable pensions to his employees shall be allowed to deduct from gross income reasonable amounts
paid to such trust, in accordance with the pension plan (including any reasonable amendment thereof), as follows:
(i)
Plan contemplates the payment to the trust, in advance of the time when pensions are granted, of amounts to provide for future
pensions
(a)
Reasonable amounts paid to the trust during the taxable year representing the pension liability applicable to such year,
determined in accordance with the plan, shall be allowed as an ordinary and necessary business expense; and
(b)
One-tenth of a reasonable amount transferred or paid to the trust during the taxable year to cover in whole or in part the pension
liability applicable to the years prior to the taxable year, or so transferred or paid to place the trust on a sound financial basis, shall be
allowed as a deduction for the taxable years and for each of the nine succeeding taxable years.
(i)
Plan does not contemplate the payment to the trust, in advance of the time when pensions are granted, of amounts to provide for future
payments
(a)
Reasonable amounts paid to the trust during the taxable year representing the present value of the expected future payments in
respect of pensions granted to employees retired during the taxable year shall be allowed as a deduction for such year as an ordinary
and necessary business expense; and
(b)
One-tenth of a reasonable amount transferred or paid to the trust during the taxable year to cover in whole or in part the
present value of the expected future payments in respect of pensions granted to employees retired prior to the taxable year, or so
transferred or paid to place the trust on a sound financial basis, shall be allowed as a deduction for the taxable year and for each of the
nine succeeding taxable years.
Kinds of private retirement benefit plans

(i)
Trusteed plan
An employers past service contributions to its employees retirement pension plan are deductible only when such
contributions are made or accrue to a trust
(ii)
Non-trusteed plan
An insured plan established and maintained by an employer under a Deposit Administration Contract executed by and
between the employer as the insured or policyholder and an insurance company as the insurer
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Employer is not entitled to a deduction for past service liability contribution made to an insured or non-trusteed plan
(K) Additional Requirements for Deductibility of Certain Payments. - Any amount paid or payable which is otherwise deductible
from, or taken into account in computing gross income or for which depreciation or amortization may be allowed under this
Section, shall be allowed as a deduction only if it is shown that the tax required to be deducted and withheld therefrom has
been paid to the Bureau of Internal Revenue in accordance with this SEC 58 and 81 of this Code.
Additional requirements for deductibility of certain payments
Section 34(K) of the NIRC disallows as deductible expenses, income payments which were not subjected to the expanded withholding tax. An
expense shall be allowed as a deduction only if it is shown that the tax required to be deducted and withheld therefrom has been paid to the
BIR whether the same is paid or payable. In case of taxpayers failure to prove that he/it withheld income tax, the same cannot be considered
as a valid deduction from his/its gross income.
(L) Optional Standard Deduction. - In lieu of the deductions allowed under the preceding Subsections, an individual subject to
tax under Section 24, other than a nonresident alien, may elect a standard deduction in an amount not exceeding 10% of his
gross income.
Unless the taxpayer signifies in his return his intention to elect the optional standard deduction, he shall be considered as
having availed himself of the deductions allowed in the preceding Subsections.
Such election when made in the return shall be irrevocable for the taxable year for which the return is made: Provided, That
an individual who is entitled to and claimed for the optional standard deduction shall not be required to submit with his tax
return such financial statements otherwise required under this Code: Provided, further, That except when the Commissioner
otherwise permits, the said individual shall keep such records pertaining to his gross income during the taxable year, as may
be required by the rules and regulations promulgated by the Secretary of Finance, upon recommendation of the
Commissioner.
Optional Standard Deduction
Concept
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Under the NIRC, when filing an income tax return, taxpayers can choose to either take the Optional Standard Deduction (OSD) or to itemize
deductions. OSD is defined as a fixed amount that a taxpayer is allowed to deduct from his or her adjusted gross income, in lieu of itemizing
deductible personal expenses.
Whether to itemize deductions on the return depends on the circumstances of the taxpayer. If the total amount actually spent on expenses is
more than the standard deduction rate, the taxpayer can usually benefit by itemizing. Otherwise, OSD is the better option.
Persons covered
Determination of amount of optional standard deduction for individuals
Determination of amount of optional standard deduction for corporations
Persons Covered
Determination of the Amount of OSD
(i)
Individuals
(a) Resident citizen
(b) Non-resident citizen
(c) Resident alien

(d) Taxable estates and
trusts
Maximum of 40% of gross sales or gross receipts during

the taxable year
Individual is on the accrual basis of accounting for his
income and deductions OSD shall be based on the
gross sales during the taxable year
Individual employs the cash basis of accounting for his
income and deductions OSD shall be based on his
gross receipts during the taxable year
(ii)
Corporations
(a)
Domestic
corporation
(b)
Resident foreign
corporation
The OSD allowed shall be in an amount not exceeding

40% of their gross income
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Illustrative examples in determining the basis of 40% OSD for individuals and corporations
Suppose a retailer of goods, whose accounting method is under the accrual basis, has a gross sales of Php1,000,000.00 with a cost of sales
amounting to Php800,000.00. The computation of the OSD for the individuals and corporations shall be determined as follows:
If Individual
If Corporation
Gross Sales
Less: Cost of Goods
Sold
Php1,000,000.00
Php1,000,000.00
800,000.00
Basis of the OSD

x OSD Rate (maximum)
Php1,000,000.00
40%
Php200,000.00
40%
OSD Amount
Php 400,000.00
Php 80,000.00
If the taxpayer opts to use the OSD in lieu of the itemized deduction allowed, his/its net taxable income shall be as follows:
If Individual
If Corporation
Gross Sales
Less: Cost of Goods
Sold
Php1,000,000.00
Php1,000,000.00
800,000.00
Gross Sales/ Gross

Income
Less: OSD (maximum)
Php1,000,000.00
400,000.00
Php200,000.00
80,000.00
Net Income
Php 600,000.00
Php 120,000.00
Determination of optional standard deduction for GPPs and partners of GPPs
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Pursuant to Section 26, a GPP is not subject to income tax. However, the partners shall be liable to pay income tax on their separate and
individual capabilities for their respective distributive share in the net income of the GPP. Section 26 likewise provides that For purposes of
computing the distributive share of the partners, the net income of the GPP shall be computed in the same manner as a corporation. As such,
a GPP may claim either the itemized deductions allowed under Section 34(A) to (J) or in lieu thereof, it can opt to avail of the OSD allowed to
corporations in claiming the deductions in an amount not exceeding 40% of its gross income. The net income determined by either claiming
the itemized deduction or OSD from the GPPs gross income is the distributable net income from which the share of each partner is to be
determined.
However, since the taxable income is in the hands of the partner, as a rule apart from the expenses claimed by the GPP in determining its net
income, the individual partner can still claim deductions incurred or paid by him that contributed to the earning of the income taxable to him.
The following rules shall govern the claim of the partners of deductions from their share in the net income of the partnership:
(a)
If the GPP availed of the itemized deduction in computing its net income, the partners may still claim itemized deductions from said
share, provided that, in claiming itemized deductions, the partner is precluded from claiming the same expenses already claimed by the
GPP.
(b)
If the GPP avails of OSD in computing its net income, the partners comprising it can no longer claim further deduction from their
share in the said net income.
(c)
Since one-layer of income tax is imposed on the income of the GPP and the individual partners where the law had placed the
statutory incidence of the tax in the hands of the latter, the type of deduction chosen by the GPP must be the same type of deduction that
can be availed of by the partners.
(d)
If the partner also derives other gross income from trade, business or practice of profession apart and distinct from his share
in the net income of GPP, the deduction that he can claim from his other gross income would follow the same deduction availed of from
his partnership income as explained in the foregoing rules.
Other implications of OSD

In electing to avail of the OSD, such intention shall be signified in the individual taxpayer or corporations return. Otherwise, he/it shall be
considered as having availed himself of the itemized deduction. Once election to avail of the OSD or itemized deduction is signified in the
return, it shall be irrevocable for the taxable year for which the return is made.
(M) Premium Payments on Health and/or Hospitalization Insurance of an Individual Taxpayer. - The amount of premiums not to
exceed P2,400 per family or P200 a month paid during the taxable year for health and/or hospitalization insurance taken by
the taxpayer for himself, including his family, shall be allowed as a deduction from his gross income: Provided, That said
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family has a gross income of not more than P250,000 for the taxable year: Provided, finally, That in the case of married
taxpayers, only the spouse claiming the additional exemption for dependents shall be entitled to this deduction.
Notwithstanding the provision of the preceding Subsections, The Secretary of Finance, upon recommendation of the
Commissioner, after a public hearing shall have been held for this purpose, may prescribe by rules and regulations, limitations
or ceilings for any of the itemized deductions under Subsections (A) to (J) of this Section: Provided, That for purposes of
determining such ceilings or limitations, the Secretary of Finance shall consider the following factors: (1) adequacy of the
prescribed limits on the actual expenditure requirements of each particular industry; and (2) effects of inflation on
expenditure levels: Provided, further, That no ceilings shall further be imposed on items of expense already subject to ceilings
under present law.
Health and/or Hospitalization
Premium payments in health and/or hospitalization insurance during the taxable year by the taxpayer for himself, including his family, are
allowed as deduction from the gross income.
Individual taxpayers are allowed to amount of premiums not to exceed Php2,400.00 per family or Php200.00 a month paid during the taxable
year for health and/or hospitalization insurance taken by himself including his family.
1.
Riders not allowed

Life insurance premiums with health insurance rider from private insurance firms and other pre-need plans from private pre-need firms
like memorial, educational, pension, etc. are not deductible from gross income of the employee.
Documentary requirements
For purposes of substantiating the claim of insurance expense, the policy contract shall be presented to the employer together with the
original official receipt of the premium payment. Also, for purposes of determining the aggregate family income, Certificate of Compensation
Payment/ Tax Withheld for the current year or Certificate of Gross Income for the Current Year issued by the employer/s of the nuclear family.
Person to claim
The spouse
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SEC 34 (Deductions From Gross Income)

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SEC 34 (Deductions From Gross Income)

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2016 TAXATION 2 REVIEWER: TAX ON INCOME -- ALLOWABLE DEDUCTIONS

2016 TAXATION 2 REVIEWER: TAX ON INCOME -- ALLOWABLE DEDUCTIONS

2016 TAXATION 2 REVIEWER: TAX ON INCOME -- ALLOWABLE DEDUCTIONS

2016 TAXATION 2 REVIEWER: TAX ON INCOME -- ALLOWABLE DEDUCTIONS

2016 TAXATION 2 REVIEWER: TAX ON INCOME -- ALLOWABLE DEDUCTIONS

2016 TAXATION 2 REVIEWER: TAX ON INCOME -- ALLOWABLE DEDUCTIONS

2016 TAXATION 2 REVIEWER: TAX ON INCOME -- ALLOWABLE DEDUCTIONS

2016 TAXATION 2 REVIEWER: TAX ON INCOME -- ALLOWABLE DEDUCTIONS

2016 TAXATION 2 REVIEWER: TAX ON INCOME -- ALLOWABLE DEDUCTIONS

2016 TAXATION 2 REVIEWER: TAX ON INCOME -- ALLOWABLE DEDUCTIONS

2016 TAXATION 2 REVIEWER: TAX ON INCOME -- ALLOWABLE DEDUCTIONS

2016 TAXATION 2 REVIEWER: TAX ON INCOME -- ALLOWABLE DEDUCTIONS

Research and Development.

2016 TAXATION 2 REVIEWER: TAX ON INCOME -- ALLOWABLE DEDUCTIONS

2016 TAXATION 2 REVIEWER: TAX ON INCOME -- ALLOWABLE DEDUCTIONS

These include ordinary and necessary expenses interest taxes

This is generally used by taxpayers who do not have deductions which

2016 TAXATION 2 REVIEWER: TAX ON INCOME -- ALLOWABLE DEDUCTIONS

1. Deduction vs. Exemption and Exclusion

In general the greater the qualified

Relates to filing status and to

May be a grant of immunity to particular persons or corporations

Any person can claim a personal

The more dependents (maximum

Not included in income tax return unless information is required

2016 TAXATION 2 REVIEWER: TAX ON INCOME -- ALLOWABLE DEDUCTIONS

Paid or incurred in carrying on a trade or business or exercise of profession

BUSINESS TEST: first 3 conditions

2016 TAXATION 2 REVIEWER: TAX ON INCOME -- ALLOWABLE DEDUCTIONS

Taxpayers entitled to deductions

Following cannot avail deductions:

2016 TAXATION 2 REVIEWER: TAX ON INCOME -- ALLOWABLE DEDUCTIONS

2016 TAXATION 2 REVIEWER: TAX ON INCOME -- ALLOWABLE DEDUCTIONS

Follows ALL-EVENTS TEST:

2016 TAXATION 2 REVIEWER: TAX ON INCOME -- ALLOWABLE DEDUCTIONS

1. Definitions of ordinary and necessary

2016 TAXATION 2 REVIEWER: TAX ON INCOME -- ALLOWABLE DEDUCTIONS

2016 TAXATION 2 REVIEWER: TAX ON INCOME -- ALLOWABLE DEDUCTIONS

2016 TAXATION 2 REVIEWER: TAX ON INCOME -- ALLOWABLE DEDUCTIONS

a. Organization and pre-operating costs

ii. Expenses in Mergers and Acquisitions

2016 TAXATION 2 REVIEWER: TAX ON INCOME -- ALLOWABLE DEDUCTIONS

2016 TAXATION 2 REVIEWER: TAX ON INCOME -- ALLOWABLE DEDUCTIONS

2016 TAXATION 2 REVIEWER: TAX ON INCOME -- ALLOWABLE DEDUCTIONS

Form or method of fixing compensation is not decisive as to deductibility.

1. Factors considered in determining reasonableness of compensation

2016 TAXATION 2 REVIEWER: TAX ON INCOME -- ALLOWABLE DEDUCTIONS

Amount of employers income

a. Independent investor approach

2016 TAXATION 2 REVIEWER: TAX ON INCOME -- ALLOWABLE DEDUCTIONS

Employees qualifications and contributions to the business venture

2016 TAXATION 2 REVIEWER: TAX ON INCOME -- ALLOWABLE DEDUCTIONS

Salary and travel expenses

2. REQUISITES for deductibility

2016 TAXATION 2 REVIEWER: TAX ON INCOME -- ALLOWABLE DEDUCTIONS

2016 TAXATION 2 REVIEWER: TAX ON INCOME -- ALLOWABLE DEDUCTIONS

2016 TAXATION 2 REVIEWER: TAX ON INCOME -- ALLOWABLE DEDUCTIONS

2016 TAXATION 2 REVIEWER: TAX ON INCOME -- ALLOWABLE DEDUCTIONS

2016 TAXATION 2 REVIEWER: TAX ON INCOME -- ALLOWABLE DEDUCTIONS

Deductible expenses of lessor

2016 TAXATION 2 REVIEWER: TAX ON INCOME -- ALLOWABLE DEDUCTIONS

Representation (entertainment amusement and recreation) expenses

not entitled to deduction:

1. Different from employees representation allowance