UNIVERSITY OF SAINT LOUIS

Tuguegarao City

SCHOOL OF ACCOUNTANCY, BUSINESS and HOSPITALITY

First Semester
A.Y. 2020-2021

Lesson 11: Principles of Deduction from Gross Income

Topic: Principles of Deduction

A. Rules on Deductions
B. Principles of Deduction
C. Withholding rules
D. Tax reporting of Deductions

Learning Outcomes: At the end of this module, you are expected to providing the appropriate
type of deduction for taxpayers for their convenience and benefit

LEARNING CONTENT

Deductions
a. Do not include personal living expenses. The TRAIN law provides for 250,000 annual income
tax exemption to individual taxpayers in lieu of personal living expenses of individual
taxpayers
b. Pertains to expenses of doing business or expenses of exercising a profession
c. Pertain to period/revenue expenditures rather than capital expenditures

Principle of Deductions

1. LOAN – the deductions are Legal, Ordinary, Actual and Necessary expenses of doing business
or profession
2. Matching Principle – Only expenses of generating income subject to regular tax is deductible
3. Related Party rule – all income between related parties are taxable but losses, interest and bad
debts are non – deductible
4. Withholding rule – No withholding, No deduction. Withholding taxes include final taxes,
withholding tax on compensation and expanded withholding taxes

Related Parties
1. Members of a family
2. Except in cases of distribution in liquidation, and the direct or indirect controlling individual
3. Except in cases of distribution in liquidation, corporations under direct or indirect common control
by or for the same individual
4. Grantor and fiduciary of any trust
5. Fiduciaries of trusts with the same grantor
6. Fiduciary of a trust and beneficiary of such trust

Special considerations with deductions

1. Effects of VAT on deductions

- VAT paid by Non- Vat taxpayers are part of cost and expenses while VAT taxpayers are not
2. Effects of accounting methods
- Accrued expenses would be deductible for accrual taxpayers but not for cash basis
taxpayers. Regardless of the method used, prepayments are non – deductible

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 3. Effect of extent of taxation
- Taxpayers taxable globally could deduct global expenses while those taxable only in the
Philippine could only deduct Philippine expenses
Modes of claiming deductions
1. Itemized deductions
2. Optional standard deductions
- 40% of gross sales or receipts for individual taxpayers
- 40% of gross income for corporation

Note: the option must be indicated in the first quarter return

Classification of Itemized deductions

1. Cost of sales or Cost of services

2. Regular allowable itemized deductions
3. Special allowable itemized deductions
4. Net Operating Loss carry over

Mandatory itemized deductions

1. Non – Resident Alien engaged in business
2. Exempt Taxpayers
3. Taxpayers subject to special tax rate
4. Taxpayers subject to mixed rates

Example of non – deductible expenses

1. Personal, living or family expenses
2. Any amount paid out for new building or for permanent improvements or betterments made to
increase the value o any property or estate (this rule don’t apply to intangible drilling and
development costs incurred in petroleum operations)
3. Any amount expended in restoring property or in making good the exhaustion thereof for which
an allowance is or has been made
4. Premiums paid on any life insurance policy overing the life of any officer or employee, or of any
person financially interested in any trade or business carried on by the taxpayer, individual or
corporate, when the taxpayer is directly or indirectly beneficiary under such policy
5. Losses from sales or exchanges of property directly or indirectly between related parties

REGULAR INCOME TAX: ITEMIZED DEDUCTIONS

Deductions from Gross Income

A. Interest

Requisites:
1. There should be a valid indebtedness
2. There must be legal liability to pay interest
3. The indebtedness must have been incurred in connection with taxpayer’s trade, profession or
business
4. For interest incurred abroad by taxpayers who are subject to income tax on income earned within
the Philippines, the indebtedness must have been actually incurred to provide funds in connection
with the conduct or operation of trade or business in the Philippines
5. The deductible amount of interest shall be reduced by an amount equal to 33% of interest income

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Non - Deductible interest
1. Interest paid in advance through discount on indebtedness incurred by an individual taxpayer
reporting income under the cash basis. If the discounted liability is payable in installment, 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
Note: if the borrower is a corporation, pre – deducted interest could be claimed as deduction in
the year granting the loan

2. Interest payments with related parties

3. If the indebtedness is incurred to finance petroleum operations

Capitalization of interest

At the option of the taxpayer, interest incurred to acquire property used in trade, business or
profession may be allowed as a capital expenditure:

Note: the capitalization of borrowing cost under PAS 23 is not followed for taxation purposes. The
interest expenses up to repayment of the debt may be capitalized

Special Cases
1. Interest on preferred stock – these are dividends, hence, non – deductible on interest
2. Interest on scrip dividends – since there is an evidence of indebtedness, there are deductible
interest

B. Taxes

Generally, taxes are paid or accrued within the taxable year in connection with the taxpayer’s
trade or business or exercise of a profession, are deductible from gross income. The deductible
tax include national and local taxes such as community tax, city taxes (Mayor’s permit, real
estate, professional tax ) however, the deductible tax component is the tax proper only. Interest
on delinquent taxes are deductible but as interest expense not taxes

Note: no deduction is allowed for surcharge or penalties on delinquent taxes. Interest on tax
delinquency is deductible as interest expenses.

Requisites:
1. Must be paid or accrued within the taxable year
2. Must be incurred in connection with the taxpayer’s trade, professional or business

Non – deductible taxes

1. Philippine income tax, except fringe benefit tax
2. Estate or Donor’s tax
3. Special assessment
4. Income tax imposed by a foreign country if the taxpayer opted to claim them as deduction rather
than as tax credit
5. Stock transaction tax
6. Value Added tax on business

Tax credit for foreign income tax paid

- Can be claimed only by those taxable on world income such as resident citizen and domestic
corporations
- Taxpayer has the option to claim the foreign income tax either as:
a. Tax credit or
b. Deduction from gross income
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Limit of tax credit
1. 1st limitation: Per country evaluation: Whichever is lower of the actual amount of foreign tax paid
and the amount which reflects the ratio which the gross income from the foreign country bears
with the total world taxable income to the Philippine income tax
For instance, the amount creditable or deductible for tax paid per foreign country is

Country Taxable income/Total world income * Philippine income tax due

2. 2nd limitation: Total foreign country evaluation: Whichever is lower of the aggregate lower values
of the per – country evaluation and the amount which reflects the ratio of the taxable income from
all foreign countries bears with the total world taxable income to the Philippine tax

Total foreign taxable income/Total world income * Philippine income tax

Taxpayers who are taxable on:

World income Philippine income only

Foreign taxes paid* Deductible Qualified**

Foreign income tax paid Deductible/creditable Non-deductible/Non-

creditable

Philippine taxes paid* Deductible Deductible

Philippine income tax paid Non – Deductible Non - Deductible

*Other than the non-deductible taxes above

** deductible to the extent they are connected with income from sources in the Philippines only

Refund of taxes: The refund of a deductible tax if it created a tax benefit in the year it is deducted

C. Losses
1. Ordinary loss
Requisites:
a. Lost must be actually sustained during the taxable year
b. Not compensated for by insurance or other forms of indemnity
c. It must be sustained in a close and completed transaction
d. The loss must be that of the taxpayer
e. The loss must be reported to the BIR within 45 days from the date of loss or discovery
f. Not claimed as deduction in the estate tax return for individual income taxpayer only

Note: In estate taxation, losses incurred during the settlement of the estate such as theft of property or
results of calamity may be claimed as deduction in determining the net taxable estate

Deductible losses
1. Loss incurred in trade, profession, or business
2. Loss due to fire, storm, shipwreck or other casualty of property connected with trade, profession
or business
3. Loss due to theft, robbery, or embezzlement if the property is connected with trade, profession or
business

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Measurement of the loss
1. Total loss – book value of the property
2. Partial loss – replacement cost of the damaged portion of the asset or the book value thereof at
the time of loss, whichever is lower

Note: the asset must be written off before a loss can be claimed as a deduction

Abandonment losses

1. Petroleum operation – all accumulated exploration and development expenditures pertaining to

partially or wholly abandoned of contract area shall be allowed as a deduction, provided notice of
abandonment shall be filed with the CIR
2. Producing wells – the unamortized cost thereof, as well as the undepreciated cost of equipment
directly used therein, shall be allowed as a deduction in the year such well, equipment or facility is
abandoned by the contractor

Note: if the abandoned well is re-entered and production is resumed, or if such equipment is restored
into use, the same cost claimed as deduction shall be reverted back into gross income to the income
tax benefit rule

Special cases:

1. If there is a pending proceeding in which the loss can be recovered, deduction for the loss is
delayed until recovery becomes impossible. Pending the resolution of the proceeding, the
transaction is not yet complete; hence, the loss is not yet actually sustained
2. Loss of income – cannot be deducted unless the related income has already been included in
gross income
3. Losses on sale or exchangers of property with related parties – not deductible

Net Operating Loss Carry Over ( NOLCO)

Any excess of allowable deductions over gross income of a business in a taxable year immediately
preceding the current taxable year shall be carried over as a deduction from gross income for the
consecutive taxable years immediately following the year of such loss provided there is no
substantial change in the ownership of the business.

Capital Loss
- Capital losses are deductible only to the extent of capital gains But a net capital loss carry –
over can be deducted in the following year it arose for non – corporate taxpayers

D. Bad Debts

Requisites:
a. There must be a valid and subsisting due to the taxpayer
b. It must be connected with the taxpayer’s trade, business or profession
c. The debt is actually ascertained to be worthless
d. It must be charged off within the taxable years

Recovery of bad debts

1. Taxpayers under accrual basis – Always taxable
2. Taxpayers under Cash basis – Taxable subject to Income tax benefit rule

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Non – Deductible bad debts
1. Those incurred under cash basis of reporting gross income
2. Those sustained in a transaction between related parties
3. For taxpayers not taxable on world income, those that represent loss of foreign income

The rules on bad debts may be applicable to debt securities becoming worthless for dealers of securities
only such a domestic banks and trusts companies whose major part of business are dealing with
securities. For other taxpayers where such security is a capital asset, the rule on capital loss apply and
deductible subject to limit

Special case with Bad debts:

Receivables assigned without recourse – only the difference of amount paid recovered is allowed as
deduction

E. Depreciation

Requisites:
a. The property must be used in trade, business, or profession
b. The property must have a limited life
c. The provision must be charged off during the taxable year
d. The provision must be reasonable

Special option with depreciation:

1. For proprietary or private educational institution only may either choose
a. Charged off as capital outlays of depreciable asset in the year of acquisition or
b. Deduct allowance for depreciation

Basis of deprecation

The fair market value at the time of acquisition

1. The taxpayer and the CIR shall agree in writing about the useful life and rate of depreciation.
Such agreement shall be binding upon the taxpayer and the National Government in the absence
of circumstances not taken into consideration during the adoption of the agreement
2. Any change in the agreed rate and useful life shall operate prospectively
3. In default of such agreement, the adoption of the taxpayer of useful life and depreciation rate for
depreciable assets without the objection of the Commissioner or his duly authorized
representative shall be considered binding

Methods of Depreciation
1. Straight line
2. Declining balance
3. Sum of the years
4. Other methods which may be prescribed by the Secretary of Finance upon recommendation of
the CIR

Petroleum operations:
The taxpayer may choose either the declining balance method or straight line method at the option of the
contractor

Useful life of depreciable asset:

1. Used in or related to the production of the petroleum – 10 years or shorter as permitted by the
CIR
2. Not used in or related to the production of the petroleum – 5 years under straight line method

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Mining Operations:

For all properties used in mining operations, other than petroleum operations
1. 10 year useful life or less – at normal rate of depreciation
2. More than 10 years of useful life – depreciated over any number of years between 5 and the
expected life. Provided the taxpayer notifies the CIR at the beginning of the depreciation period of
the rate to be used

F. Depletion (Cost Depletion) – available only for oil agas wells and mines

Exploration expenditure – expenditures paid or incurred in ascertaining the existence, location, and
extent or quality of any deposit or ore or other minerals before the beginning of the development stage of
the mine or deposit

Development expenditures – paid or incurred during the development stage of the mine. The
development stage begins when ore or other minerals are shown to exist in commercial quality and
quantity and end upon commencement of actual commercial extraction

Method to use: Cost – Depletion method

Depletion should be provided only up to the extent of the capital investment in the mine only:

Unit Depletion charge= Capital investment/Units expected recoverable

Oil and Gas wells or mines: Treatment of intangible exploration and development drilling costs

Provided that the production in commercial quantities has commenced, if intangible development drilling
cost are incurred for:
a. Non – producing wells and or mines – deductible in the year incurred
b. Producing wells and or mines – at the option of the taxpayer, deduction in full in the year paid or
incurred, or capitalized and amortized

Note: tangible development costs are capitalized and are subject to depreciation

If tangible exploration, drilling and development expenses are claimed as deductions, they should not be
added to the adjusted cost basis of the mining property for the purposes of computing the cost of
depletion

Irrevocable alternative deduction: Applicable to Mining operation only

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

Limit: the amount of deductible exploration and development cost shall not exceed 25% of taxable
income, without the benefit of any tax incentive under existing laws.

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Once elected, the scheme shall be binding and irrevocable in succeeding taxable year

Deductibility of Depreciation or Depletion of Mining Properties

Taxpayers who are taxable on:

Depreciable or Depletable Asset World income Philippine Income only

Located Abroad Deductible Non – deductible

Located in the Philippines Deductible Deductible

G. Charitable and other contributions

Requisites:
a. The contribution or gift must be actually paid
b. The contribution of property must be measured based on acquisition cost
c. It must be given to an organization specified by law
d. Net income of the specified institution must inure to the benefit of any private stockholder or
individual
e. The person making the contribution must be engaged in trade, business or profession

Note: If the taxpayer is not engaged in trade, business or profession, the rules on Donor’s taxation
applies. Similar gifts are usually exempt under the donor’s taxation provided that not more than 30% of
the donation is used for administrative purpose by such done non – profit entity.

Classification of contributions

1. Fully Deductible contributions

a. Donations to the government or political subdivisions including fully owned GOCC to be used
exclusively in undertaking priority activities in:
- Education
- Health
- Youth and sports development
- Human settlements
- Culture and sports
- Economic development

Provided, donation to the government that are not accordance with priority activities are subject to limit

2. Donation to foreign institutions or international organization in compliance with agreement or

treaties
3. Donations to accredited domestic non – government organizations. These includes organization
exclusively for
- Scientific
- Research
- Educational
- Character Building
- Youth and Sports development
- Health
- Social welfare
- Cultural
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 - Charitable
- Any combination of the listed purpose

Requisites:
1. The donation must be utilized by the donee institution not later than the 15th days of the third
month following the close of the taxable year
2. The administrative expense must not exceed 30% of the total expenses
3. Upon dissolution, assets must be distributed to another non – profit domestic corporation of the
Government

If these conditions are not complied with, the donation is subject to limit

H. Contribution to Pension trust

Current service cost – actually computed value of services rendered by a plan employee during
the year
Past Service Cost – value of the services rendered by employees in the past that partially satisfy
vesting conditions

Rules for Pension expense:

1. Payment to the trust to cover pension liability accruing during the year are fully deductible
expense for the taxable year
2. Payment to the trust in excess of the current period cost is attributed to past service cost up to the
balance of unfunded past service cost. Funding of past service cost is amortized over a period of
10 years starting from the year in which the contribution was made

Actuarially, cost that accrue during the current year include the value of services rendered currently

Note: Deduction claimed for non- vesting employees should be reversed to gross income

I. Research and Development cost

Requisites:
1. Must be paid or incurred during the taxable year
2. It must be connected with the trade, business, or profession of the taxpayer
3. It is not chargeable to capital accounts

Amortization of Capitalizable research and development costs are not chargeable to a property of a kind
that is subject to depreciation or depletion:
1. The taxpayer should treat the expenditure as deferred charge
2. Amortized over a period of not less than 60 months starting from the month in which the taxpayer
first derived benefits from such deferred expense

Non – Deductible research and development expenditures

1. Expenditure for the acquisition of improvement of a land
2. Any expenditure for the improvement of property to be used in connection with research and
development of a kind which is subject to depreciation and depletion
3. Any expenditure paid or incurred for the purpose of ascertaining the existence , location, extent,
or quality of any deposits of ore or other mineral including oil and gas

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 J. Expenses, in general

Requisites:
a. It must be ordinary and necessary
b. It must be paid or incurred during the taxable year
c. It must be directly attributable to the development, operation, management, and or conduct of the
trade, business or profession
d. It must be reasonable
e. The amount paid shall be allowed as deduction only it is shown that the tax required to be
deducted and withheld therefrom has been paid to the BIR
f. It must be supported by Official receipts or adequate records

K. Compensation

Requisites:
a. Personal service must have been actually recorded
b. The compensation for such service must be reasonable, including the grossed up monetary value
of fringe benefits furnished to the employee and applicable final tax remitted to the BIR

L. Traveling Expenses

Requisites:
1. It must be incurred while away from home
2. In pursuant of a trade, profession or business

M. Entertainment, Amusement, or Recreation Expense

Requisites:
a. It must be directly related to the furtherance of the conduct of trade, business or profession
b. It must not be contrary to law, morals, good customs, public policy or public order
c. It must not have been paid directly or indirectly to an official or employee of the Government
domestic or foreign
d. The official receipts, invoices, bills, or statement of accounts should be in the name of the
taxpayer claiming the deduction

Limit of deductible amount for EAR:

A. Taxpayers deriving income from either sale of properties or sale of services

Whichever is lower of the following and the actual EAR expenses

- Taxpayers engaged in sale of goods or properties – ½ of 15 of net sales
- Taxpayers engaged in sale of services – 1% of net revenue

B. Taxpayers deriving income from both sale of properties and services, the deductible amount shall
be whichever is lower between the two tests below:

1st Limit test:

Note: the tentative deductible amount are first determined using rule 1 and 2 above for each
respective class of business

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 The final deductible amounts shall be lower of the respective tentative deductible amount and the
respective amounts which the total sales or revenue bears to the actual entertainment,
amusement, or recreation expense

2nd Limit:
1. Net Sales/Total Net Sales and Revenue * Actual total EAR
2. Net Revenue/Total Net Sales and Revenue * Actual total EAR

*** END of LESSON 1***

REFERENCES

Textbooks

1. Banggawan, Rex (2019) Income Taxation, Real Excellence Publishing

2. Ampongan, O. (2019), CPA Reviewer in Taxation, Arts Review Center, Inc.
3. Tabag, E. (2018), Income Taxation, Maxcore Publishing House.
4. Reyes, Virgilio (2019) Income Taxation

Online Reference

1. TRAIN Law (2020) Income Tax Tables in the Philippines. https://www.pinoymoneytalk.com/new-

income-tax-table-rates-philippines/
2. TRAIN Tax Law: Primer and BIR Sample Computation. https://www.pinoymoneytalk.com/bir-tax-
law-philippines/
3. Income Taxation https://www.bir.gov.ph/index.php/tax-information/income-tax.html
4. www.bir.gov.ph

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 UNIVERSITY OF SAINT LOUIS
Tuguegarao City

SCHOOL OF ACCOUNTANCY, BUSINESS and HOSPITALITY

First Semester
A.Y. 2020-2021

CORRESPONDENCE LEARNING MODULE

TAXN 1016- Income Taxation

Lesson 12: SPECIAL ALLOWABLE ITEMIZED DEDUCTIONS

AND OPTIONAL STANDARD DEDUCTIONS

Prepared by:

Aldrian P. Ventura, CPA

John Anthony B. Liquigan, CPA

Rovelle Concepcion S. Siazon, CPA, DBA

Reviewed by:

JEROME D. MARQUEZ, CPA, MBA

Accountancy Program Chair

Recommended by:

ALICIA S. TULIAO, MBE

Academic Dean

Approved by:

EMMANUEL JAMES PATTAGUAN, Ph.D.

Vice President for Academics

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 School of Accountancy Business and Hospitality
Accountancy Department
Academic Year 2020-2021

CORRESPONDENCE LEARNING MODULE

TAXN 1016 (Income Taxation)

REMINDERS:

Get Involved. USL expects you to do the following:

 Let your parents pick up your module on the first day of the week.
 Send back your accomplished lessons/learning tasks as your parent will pick up the next.
 Comply with all requirements (written outputs, projects/performance tasks examinations and the like.)
 For any query that you want to make about your lessons or procedures in school, contact me through our
messenger group chat, LMS chat boxes or feel free to contact us through the following

mentor Class code Facebook name e-mail Cell number

Sir John 477, 478, John Liquigan johnliquigan24@gmail.com 0935 4517850
482
Sir Aldrian 481, 483 Aldrian Pasicolan Ventura venturaaldrian1996yahoo.com 0949 9563668
Ma’am Belle 479, 480 Belle Siazon siazonbelle56@gmail.com 0917 4229641

Be Alert

 Lessons will be uploaded every Monday, and submission will be every Friday of the week.
 Turn in learning tasks on time to avoid backlogs.
 Be guided by the grading system

Criteria for Grading Learning Task Prelim Midterm Final

Practice Set, Individual/Group case or
Case Study/ Research research presentation, either in oral or 25% 25% 25%
written form
 Multiple Choice Theories and Problems
Quizzes, Drills,
 Straight Problem Solving (with solution) 15% 15% 15%
Exercises
Academic Games
Class Participation &  Forum participation, Debate
20% 20% 20%
Self-Directed Activities Journal of Learning
Major/Periodic Exam 40% 40% 40%

Remember:

Expect to do a lot of reading, problem-solving activities and other self-directed activities. Varied assessments or
activities will be given. At the outset, I am strictly warning you against copying your classmates output without
exerting any effort. We will be asking you to make a Journal of Learning (similar to your notebook during face
to face classes) to determine the extent of learning during the term.

I hope you find this flexible approach helpful. Continue to learn amidst this pandemic Stay safe while learning.

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This Week’s Time Table: (November 16 – 20, 2020)

For this week, the following shall be your guide for the different lessons and tasks that you need to accomplish.
Be patient, read them carefully before proceeding to the tasks expected of you.
HAVE A FRUITFUL LEARNING EXPERIENCE 😊

Date Topics Activities or Tasks

November 16 Special Allowable Itemized Deductions Read Lessons Books and handouts
& 17
November 18 Self-Directed Activity on the Topic Accomplish the drills and exercises
November 19 Submission of learning tasks Accomplish and submit the learning task
November 20 Prepare for a quiz Participate in the scheduled Quiz

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 CORRESPONDENCE LEARNING MODULE
TAXN 1016 (Income Taxation)
Academic Year 2020-2021

Lesson 12: Special Allowable Itemized Deductions

And Optional Standard Deductions

Topic: Special Allowable Itemized Deductions

Optional Standard Deductions
Learning Outcomes: At the end of this module, you are expected to provide the appropriate type of
deduction for taxpayers for their convenience and benefit

LEARNING CONTENT

SPECIAL ALLOWABLE ITEMIZED DEDUCTIONS

There are two types of special allowable itemized deductions:

1. Special expenses under NIRC and special laws – with outflows

2. Deduction incentives under special laws – no outflow

Special expenses
1. Income Distribution of taxable estate and trust
2. Transfer to reserve fund and payments to policies and annuity contracts of insurance companies
3. Dividend distribution of REITs
4. Transfers to reserve funds of cooperatives
5. Discount to senior citizens and PWDs

Deduction incentives
1. Additional compensation expense for SCs and PWDs
2. Cost of facility improvements for PWDs
3. Additional training expense of jewelry industry
4. Additional contribution expense on Adopt a School program
5. Additional deductions on rooming – in and breastfeeding program
6. Additional free legal assistance expense
7. Additional productivity incentive bonus expense

Required Disclosures
1. Description of the special deduction
2. Legal Basis
3. Amount

NET OPERATING LOSS CARRRY OVER (NOLCO)

Measurement: Exclude NOLCO and deduction incentives

Requisites:
1. Taxpayer must not be exempt from income tax during the taxable year the NOL was incurred
2. There must be no substantial change in ownership of the business enterprise

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 OPTIONAL STANDARD DEDUCTION

Percentage of OSD
1. For individuals = 40% of gross receipts or gross sales
2. For corporation = 40% of gross income subject to regular tax

Individual taxpayers cannot claim any class of deductions whereas corporation can only deduct cost of sales or cost of
services

Mandatory itemized deductions

1. Taxpayers that are exempt with no taxable income
2. Taxpayers that are subject to special or preferential tax rates
3. Taxpayers subject to mixed tax rates

OSD and General Professional Partnership

- GPP net income shall be determine in the same manner as corporation
- GPP ODS is 40% of gross income
- Partners can no longer claim expenses against their share from GPP net income

*** END of LESSON 1***

REFERENCES

Textbooks

1. Banggawan, Rex (2019) Income Taxation, Real Excellence Publishing

2. Ampongan, O. (2019), CPA Reviewer in Taxation, Arts Review Center, Inc.
3. Tabag, E. (2018), Income Taxation, Maxcore Publishing House.
4. Reyes, Virgilio (2019) Income Taxation

Online Reference

1. TRAIN Law (2020) Income Tax Tables in the Philippines. https://www.pinoymoneytalk.com/new-income-

tax-table-rates-philippines/
2. TRAIN Tax Law: Primer and BIR Sample Computation. https://www.pinoymoneytalk.com/bir-tax-law-
philippines/
3. Income Taxation https://www.bir.gov.ph/index.php/tax-information/income-tax.html
4. www.bir.gov.ph

TAXN 1016 – income Taxation | 5

 UNIVERSITY OF SAINT LOUIS
Tuguegarao City

SCHOOL OF ACCOUNTANCY, BUSINESS and HOSPITALITY

First Semester
A.Y. 2020-2021

Lesson 13: INDIVIDUAL INCOME TAXATION

And CORPORATE INCOME TAXATION

Topic: Individual Income Taxation

A. Items of Gross income
B. Itemized Deductions
C. Options of Tax Application
D. Tax Credits and Tax amnesty
E. Taxation for Individuals
Corporate Income Taxation
A. General Classification and Taxation of Corporations
B. Regular Corporate Income Tax
C. Minimum Corporate Income Tax
D. Improperly Accumulated Earnings Tax
Learning Outcomes: At the end of this module, you are expected to prepare tax returns for individual
and corporate taxpayers as well as analyze the individual and corporate income
taxation through cases or problems.

LEARNING CONTENT

After learning basically all items relevant to income taxation for individuals and corporations, we can now
integrate all income tax rules pertinent to individual and corporate taxpayers. We can now depict how
individual and corporate taxation works in actual practice.

To start with, let us have an overview on how to tax an individual.

Step 1: Determine the type of income

a. Returnable income (ordinary income and other income not subject to final income tax and capital gains
tax)
b. Passive income
c. Capital gains

Step 2: Determine the type of income tax liability

a. Net income tax using graduate tax table or the 8% option tax on gross sales/receipts plus other non-
operating income, on returnable income
b. Final tax on passive income
c. Capital gains tax on capital gains

Step 3: Compute the income tax

a. Returnable income
- Net income tax is determined by 3 factors
1. Gross income derived during the calendar year
2. Allowable deductions or expenses to be subtracted
3. The tax rate to be applied using the graduated rate table
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 - 8% tax is determined by 3 factors
1. Gross sales/receipts derived during the calendar year
2. Other non-operating income not subject to final tax
3. The 8% tax rate
b. Final tax on passive income is determined by 2 factors
- The specific passive income (gross)
- The applicable final tax rate
c. Capital gains tax is determined by 2 factors
- The specific capital gains realized either from the sale of domestic shares of stock or from the sale
of real property as capital assets
- The applicable capital gains tax rate

Notes:
1. As general rule, a gross income shall be subject to only 1 kind of income tax. For example,
compensation income of an employee shall be subjected only graduated rates, on the other hand
interest income is subject to final tax and the sale of real property classified as capital assets shall be
subject to capital gains tax

2. Don’t forget your territoriality rule in every scheme of taxation

REGULAR INCOME TAXATION FOR INDIVIDUALS

PRO FORMA:
GROSS INCOME
(DEDUCTIONS)
TAXABLE INCOME

EXCEPTIONS:
 Individual who are earning purely compensation income
 Individual who are pure business income earner/mixed income earner who opt to be taxed under the
8% option income tax

The requisites for the option to be taxed at the 8%

a. All individuals except NETB who are pure business income earner or mixed income earner
b. The taxpayer is non vat registered and is paying the 3% percentage tax

Tax basis of 8%
a. Pure business income earner
Tax basis = Gross Sales/Receipts + Other Non - operating income - P250,000.

b. Mixed income earner - Gross Sales/Receipts + Other Non - operating income

In case of breach: 8% option

a. The taxpayer will be taxed under the graduated tax table and will separately pay the business
tax
b. Payments made under the 8% option will be credited under income tax
c. The taxpayer is liable to pay the 3% percentage tax from the beginning of the year until the time
the taxpayer is liable for VAT

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FACTORS IN DETERMINING GROSS INCOME:
- Exclusions from gross income
- Inclusions in gross income

A. EXCLUSIONS FROM GROSS INCOME

- Proceeds of life insurance
- Amount received by the insured as a return of premium
- Gift, Bequest, Devise
- Compensation for injuries or sickness
- Income exempted under treaty
- Retirement benefits, pensions, and gratuities
- Miscellaneous items

a. Prizes, awards, recognitions

b. Gain from sale of bonds, debentures, certificates of indebtedness with maturity of more than 5
years
- Income subject to Final income tax and Capital Gains tax

B. INCLUSIONS IN GROSS INCOME

- Compensation income
- Gross income from the conduct of trade, business, or profession
- Gains derived from dealings in properties
- Interests
- Rents
- Royalties
- Dividends
- Annuities
- Prized and Winnings
- Pensions
- Partner’s distributive share in net income of General Professional Partnership

FACTORS IN DETERMINING DEDUCTIONS

- Engaged in business or in exercise of profession
- LOAN PRINCIPLE
- MATCHING PRINCIPLE
- RELATED PARTY RULE
- WITHHOLDING RULE

ALLOWED DEDUCTIONS:
- Itemized deductions
- Optional standard deduction

Itemized deductions
- Regular
- Special

a. Regular
- Interest expense
- Taxes
- Losses
- Bad debts
- Depreciation/depletion
- Charitable contributions
- Research and development cost

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 - Entertainment, amusement and recreation
- Compensation expense
- Miscellaneous and other expenses

b. Special itemized
a. Special expenses under NIRC and SPECIAL LAWS
- Income distribution of taxable estate or trust
- Transfer to reserve fund – insurance and cooperatives
- Dividend distribution of REIT
- Discounts of Senior Citizen and Disabled person

b. Deduction incentives under special laws

- Additional compensation for Senior Citizen and Disabled Persons
- Cost of facilities improvement for persons with disability
- Additional training expense – Jewelry industry
- Adopt a school program
- Rooming in, breast feeding practices
- Free legal assistance
- Productivity incentive bonus

We now proceed with CORPORATE INCOME TAXATION.

Similar with individual, corporations are also subject to final tax, capital gains tax and regular tax. Keep in mind
that if the income is not subject to final tax or capital gains tax, then it must be covered by regular income tax

GENERAL CLASSIFICATION OF CORPORATIONS

A. DOMESTIC CORPORATIONS – 30% regular tax on world taxable income
1. Exempt Domestic Corporations
a. Exempt non-profit corporations under the NIRC –organized and operated exclusively for
religious, charitable, scientific, athletic or cultural purposes, or for the rehabilitation of veterans.
b. Government agencies and instrumentalities
c. Certain government-owned and controlled corporations
i. Government Service Insurance System (GSIS)
ii. Social Security System (SSS)
iii. Philippine Health and Insurance Corporation ( PHIC)
iv. Local Water Districts
d. Cooperatives
2. Special Domestic Corporations
a. Proprietary educational institutions and non-profit hospitals
b. Foreign Currency Deposit Units and Expanded FCDUs
c. PEZA or BOI-registered enterprises
3. Regular Domestic Corporations

B. RESIDENT FOREIGN CORPORATION – 30% regular tax on Philippine taxable income

1. Special Resident Foreign Corporations
a. Offshore banking units (OBU) and FCBUs
b. Regional Area Headquarters and Regional Operating Headquarters of Multinational Companies
c. International carrier
d. PEZA or BOI-registered enterprises
2. Regular Resident Foreign Corporations

C. NON-RESIDENT FOREIGN CORPORATION – 30% final tax on Philippine gross income

1. Special Non-Resident Foreign Corporations

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 a. Non-resident cinematographic film owner, lessor or distributor
b. Non-resident lessor of vessels, chartered by Philippine nationals
c. Non-resident owner or lessor of aircraft, machineries and other equipment
2. Regular Non-Resident Foreign Corporations

D. SPECIAL CORPORATIONS – preferential tax rates lower than the 30% regular corporate income tax

MINIMUM CORPORATE INCOME TAX – 2% of total gross income subject to regular income tax
- It is payable when
a. The corporation has zero or negative taxable income
b. MCIT is greater than the regular corporate income tax (RCIT)
- The following are MCIT exempt entities
a. Real Estate Investment Trusts
b. Domestic corporations which opted to be taxed under the 15% corporate income tax
c. Domestic or resident corporations subject to special tax rates
1. Proprietory educational institutions and non-profit hospitals
2. FCDUs and OBUs
3. Regional Operating Headquarters of multinational companies
4. International Carriers
5. Firms subject to special income tax – PEZA and BCDA locators
d. All non-resident foreign corporations
- It is imposed beginning the fourth taxable year immediately following the year the the corporation
commenced is operations.
- Relief from MCIT can be possible after submission to the BIR of proof that the corporation
sustained substantial losses due to prolonged labor disputes, force majeure and legitimate business
reverses and upon approval of the Department of Finance.

IMPROPERLY ACCUMULATED EARNINGS TAX

- 10% penalty tax imposed on the improper accumulation of corporate earnings beyond the business
needs.
- A deterrent for corporations intending to defeat the 10% dividend tax by mere non-declaration of
dividends
- Imposition is not automatic but subject to BIR assessment of improper accumulation of earnings by
the corporation
- It is applicable to special and regular domestic corporations only.
- Entities presumed to have improper accumulation of earnings are holding companies, investment
companies and closely held corporations, unless otherwise rebut.
- IAET exempt entities include
a. Publicly-held corporations
b. Finance companies
c. Banks
d. Insurance companies
e. Taxable partnerships
f. General Professional Partnerships
g. Taxable and non-taxable joint ventures
h. ECOZONE-registered entities – PEZA, BCDA

BRANCH PROFIT REMITTANCE TAX

– 15% based on the total profits applied or earmarked for remittance

*** END of LESSON 1***

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REFERENCES

Textbooks

1. Banggawan, Rex (2019) Income Taxation, Real Excellence Publishing

2. Ampongan, O. (2019), CPA Reviewer in Taxation, Arts Review Center, Inc.
3. Tabag, E. (2018), Income Taxation, Maxcore Publishing House.
4. Reyes, Virgilio (2019) Income Taxation

Online Reference

1. TRAIN Law (2020) Income Tax Tables in the Philippines. https://www.pinoymoneytalk.com/new-income-

tax-table-rates-philippines/
2. TRAIN Tax Law: Primer and BIR Sample Computation. https://www.pinoymoneytalk.com/bir-tax-law-
philippines/
3. Income Taxation https://www.bir.gov.ph/index.php/tax-information/income-tax.html
4. www.bir.gov.ph

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