CONCEPT OF INCOME TAX

An income tax is one levied on the income from property or an occupation. It is a direct tax
upon the thing called income.

Income tax is generally regarded as an excise tax or privilege tax, levied upon the right of a
person or entity to receive income or profits. Income taxation in the Philippines is primarily
governed by the 1987 Constitution and the National Internal Revenue Code of 1997 (NIRC), as
amended by Tax Reform for Acceleration and Inclusion (TRAIN) Law and Corporate Recovery
and Tax Incentives for Enterprises Act (CREATE Law).

Criteria in Imposing Income Tax

 Citizenship Principle – a citizen of the Philippines residing therein is taxable on all

income derived from whatever sources whether within or without the Philippines,
while citizen of the Philippines not residing therein is taxable only on income
derived from sources within the Philippines.
 Residence Principle – all income derived from sources within the Philippines by
persons residing in the Philippines whether citizen or not, or domestic or foreign
corporation, are subject to income tax.
 Source Principle –- all income derived from sources within the Philippines are
subject to income tax.

The imposition of the income tax is intended to:

1. To raise revenue to defray the expenses of the government; and

2. To mitigate the evils arising from the inequalities of wealth by a progressive scheme of
taxation which places the burden on those best able to pay.

Characteristics of Philippine Income Tax Philippine

1. A national tax – It is imposed and collected by the National Government throughout

the country.

2. A general tax – It is levied without a specific or predetermined purpose. Thus, the

revenue from income tax may be appropriated for general public purposes.

3. An excise tax – It is imposed on the right or privilege of a person to receive or earn

income.

4. A direct tax – It is payable by the person upon whom it is directly imposed by law. It
cannot be shifted or passed on to others.

5. In general, a progressive tax for individual taxpayers – It is based upon one’s ability to
pay. The higher the taxable net income of the individual, the higher the marginal tax
rate.3

6. The income tax system is a comprehensive system. – It adopts the citizen principle, the
residence principle, and the source principle.
 7. Semi-global or semi-schedular system. – Some types of taxable income are
compounded or grouped together without distinction, and after deducting expenses
and other allowable deductions therefrom, are then subjected to the same set of tax
rate(s). This is known as the global tax system (or net income tax system).

However, there are some types of taxable income like passive income and certain
capital gains which are classified into different categories, and are accorded different
tax treatments. Each category of income has its own schedule of tax rates. This is known
as the schedular tax system (or gross income tax system).

Income means all wealth which flows into the taxpayer other than a mere return of capital.
Income is a gain derived from:

a) The use or employment of labor or capital, or both labor and capital; and/or

b) From the sale or other disposition of assets or property (both ordinary and capital).

Income Distinguished From “Capital”

Capital is a fund, income is a flow. Capital is wealth, while income is the service (or fruit) of
wealth. Capital is the tree, income the fruit. Amounts received as a return of capital are not
income.

Requisites for Taxability of Income

1. There must be a gain or profit whether in cash or its equivalent;

2. The gain must be realized or received; and

3. The gain must not be excluded by law or international treaty from taxation.

Classification of Income According to Source

For income tax purposes, the word “source” refers to the activity, or property, or labor that gave
rise or produced the income. Based on source, income is classified as follows:

1. Income from sources within the Philippines;

2. Income from sources without the Philippines; and

3. Income from sources partly within and partly without the Philippines.

SITUS OF INCOME

The situs of the income is the place of taxation of the income or the country which has
jurisdiction to impose the tax. For income tax purposes, income may be taxed in one or
more or all of the following places or countries –

1. The place where the taxpayer is a citizen;

2. The place where the taxpayer is a resident; and

 3. The place where the income is earned or derived.

HOW TO DETERMINE INCOME WITHIN AND INCOME WITHOUT?

INCOME TEST SOURCE OF INCOME

Interest Income Residence of the DEBTOR
Income from Services Place of Performance
Rent Location of the property
Royalty Place of use of intangible
Gain on sale of real property Location of property
Gain on sale of personal property purchased in Place of sale
one country and sold in another
DIVIDEND
A. From Domestic Corp. Income within
B. From Foreign Corp. Income without

Except: If 50% or more of the gross income of

the foreign corporation for the preceding
three (3) years prior to the declaration of
dividend or for such part of such period as the
corporation has been in existence, was
derived from sources within the Philippines,
then part of the dividend is income within.

Income within = (Phil. Gross Income/Total Gross

Income) x Dividend
Sale of domestic shares Income within
Sale of foreign shares Income without
Income from transportation and other services Partly within and partly without
rendered partly within and partly without the
Philippines

Income Tax System of the Philippines

The income tax system of the Philippines may be characterized under two general
categories, namely:

1. Gross income taxation, whereby a final tax is imposed on the gross amount of
specified types of income, such as interest income, royalty, prizes, dividends, and capital
gains. This is also known as the schedular system of taxation.

2. Net income taxation, whereby certain deductions are allowed and subtracted from
the aggregate of incomes not subject to final tax, and the tax computed is based on the
resulting net income therefrom. This is also known as the global system of taxation

TYPES OF TAXABLE INCOME

 RETURNABLE INCOME- Income Tax Return (ITR)

 a) Compensation income from being an employee
b) Income from trade, business, or practice of a profession
c) Gain from sale of ordinary assets;
d) Net capital gain from sale of “other capital assets” and
e) Other taxable income not subject to FT or CGT.

How to compute:

Gross Income XXX

Less: Deductions (XXX)
Net taxable income XXX

*then Compute Tax (using graduated rate table)

 PASSIVE INCOME SUBJECT TO FINAL TAX (FT)

Earned without any further action on the part of the taxpayer.

Ex. dividends, interest income on bank deposits

How to compute:
Passive income x FT rate

 CAPITAL GAINS SUBJECT TO CAPITAL GAINS TAX (CGT)

Arise from the sale of 2 types of capital assets, namely:

a) Real property in the Philippines classified as capital asset; and

b) Shares of domestic corporations (provided the seller or taxpayer is not a dealer
in securities)

How to compute:
“Capital gains” x CGT rate

1. Taxable Compensation Income = Gross Compensation Income – Non-Taxable/Exempt

Income

Non-Taxable/Exempt Income includes:

(1) SMW, holiday pay, overtime pay, night shift differential, and hazard pay of an
MWE;
(2) First ₱90,000 of 13th Month Pay and Other Benefits;
(3) De minimis fringe benefits;
(4) Employee’s share of SSS, GSIS, Philhealth, and PAG-IBIG contributions; and
(5) Union dues.

2. Sales/Receipts, net of returns, allowances and discounts ₱ xxxxx

Less: Cost of Sales/Cost of Services (xxxx)
Gross Income from Operations ₱ xxxxx
Less: Itemized Deductions or OSD (xxxx)
 Net income from Operations ₱ xxxxx
Add: Non-operating income ₱ xxxx
Share in GPP net income xxxx xxxxx
Taxable Net Income ₱ xxxxx

3. Purely self-employed individuals or mixed earners can avail of the 8% income tax rate if
the gross sales/receipts from their business/profession plus non-operating income does
not exceed the VAT threshold of ₱3,000,000.

The 8% tax is in lieu of (1) the graduated rates and (2) the OPT under Section 116 of the
Tax Code.

However, this option is not available to the following individual taxpayers:

 VAT-registered taxpayers;
 Taxpayer subject to OPT other than the 3% OPT under Section 11612;
 Partners of general professional partnerships (“GPPs”);
 Individuals enjoying income tax exemption (e.g., those registered as BMBEs); and
 Taxpayers who fail to signify their intention to avail of the 8% income tax rate in
the First (1st) Quarter Income Tax Return, or in the First (1st) Quarter Percentage
Tax Return, or in the initial quarterly return of the taxable year upon the
commencement of a new business or practice of profession (RR 8-2018).

4. Net of ₱250,000 if individual taxpayer is a self-employed individual earning income purely

from self-employment or practice of profession.

Mixed income earners are not allowed this ₱250,000 deduction.

5. In the case of NRAs not engaged in trade or business (“NRANETBs”)–

 The 25% tax on gross income is a final tax to be deducted and withheld by the
payor of the income and remitted to the BIR.
 The payor of the income is constituted by law as a withholding agent.
 The NRANETB does not have to file a Philippine income tax return because the tax
on the income received is considered paid, said tax having been deducted by
the payor of the income