DEDUCTIONS

DEFINITION: Items or amounts which the law allows to

be deducted from gross income in order to arrive at
the taxable income.
BASIC PRINCIPLES GOVERNING DEDUCTIONS
a. The taxpayer seeking a deduction must point to
some specific provisions of the statute
authorizing the deduction; and
b. He must be able to prove that he is entitled to
the deduction authorized or allowed. (Atlas
Consolidated Mining & Dev. Corp. vs.
Commissioner, GR No. L-26911, January 21,
1981)
c. 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,
shall be allowed as deduction only if it is shown
that the tax required to be deducted and
withheld therefrom has been paid to the BIR.
[Sec. 34(K), NIRC]
NOTE: Deductions for income tax purposes partake
of the nature of tax exemptions; hence, if tax
exemptions are to be strictly construed, then it
follows that deductions must also be strictly
construed.
TAXPAYERS WHO CANNOT AVAIL OF DEDUCTIONS FROM
GROSS INCOME
1. Citizens and resident aliens whose income is
purely compensation income (except for
premium
payments
on
health
and/or
hospitalization insurance);
2. Non-resident aliens not engaged in trade or
business in the Philippines; and
3. Non-resident foreign corporation
CLASSES OF DEDUCTIONS
1. Individuals
a. with gross compensation income from
employer-employee relationship only
(1) premium payments on health and/or
hospitalization insurance
(2) personal additional exemptions
b. gross income from business or practice of
profession
(1) Optional Standard Deduction (OSD)
(2) Itemized deductions
(3) premium payments on health and/or
hospitalization insurance
(4) personal additional exemptions
2. Corporations
Itemized Deductions
KINDS OF DEDUCTIONS
a. Optional standard deductions (OSD) 10% of
the gross income.
The OSD may be availed of only by
individuals (except nonresident alien) who are
not purely compensation income earners.
b. Personal and additional exemptions
Available only to individuals (business
income and compensation income earners).

NRAETB may be entitled to personal

exemptions (only) subject to reciprocity, i.e.,
a. the country of which he is a subject or
citizen has an income tax law; and
b. the income tax law of his country allows
personal exemption to citizens of the
Philippines not residing therein, but deriving
income therefrom and not to exceed the
amount allowed in NIRC.
The personal exemption shall be equal to
that allowed by the income tax law of his
country to a citizen of the Philippines not
residing therein, or the amount provided in the
NIRC, whichever is lower.
Individuals not entitled to these exemptions:
a. Non-resident Alien not engaged in trade or
business
b. Alien individual employed by Regional or
Area
Headquarters
of
Multinational
Companies
c. Alien individual employed by Offshore
Banking Units
d. Alien individual employed by Petroleum
Service Contractor and Subcontractor
c. Itemized deductions
a. ordinary and necessary expenses
b. interests
c. taxes
d. losses
e. bad debts
f. depreciation of property;
g. depletion of oil and gas wells and mines;
h. charitable and other contributions;
i. research and development;
j. pension trust contributions of employees;
and
k. premium payments on health and/or
hospitalization insurance. (This is the only
deduction which a compensation income
earner may claim as a deduction.)
d. Special deductions
a. private proprietary educational institutions
and hospitals that are non-profit (Sec. 34 A,
2)
b. insurance companies (Sec. 37)
c. estates and trusts (Sec. 61)

PERSONAL EXEMPTIONS
A. Amounts of Personal Exemptions [Sec. 35,
NIRC]
1. P 20,000 Single individual or married
individual judicially decreed legally
separated without qualified dependent
children.
2. P 25,000 Head of the family or married
individual judicially decreed legally
separated with qualified dependent
children.
3. P 32,000 For each legally married
individual.
Head of the Family
1. Unmarried or legally separated person with
one or both parents, or one or more
brothers or sisters, or one or more
legitimate, recognized natural or legally
adopted children living with and dependent

upon the taxpayer for their chief support;

and
Chief support means more than one-half
of the requirements for support.
2. Where such brother / sister or children are
not more than 21 years of age, unmarried
and not gainfully employed, or where such
dependents regardless of age, are incapable
of self support because of mental or
physical defect.
Parents, brothers, sisters and senior citizen with
the tax payer, whether relative or not, may qualify
the taxpayer, to the personal exemption of P25,000
as head of the family but not to the additional
exemption of P8,000.
B. Additional Exemption for Dependents [Sec.
35, NIRC]
P 8,000 For each of the qualified dependent
children not exceeding four (4) in
number.
The additional exemption refers only to
qualified dependent children such as legitimate,
recognized natural, illegitimate and legally
adopted.
The proper claimant of the additional
exemption is the husband being the head of the
family except under the following cases:
1. Husband is unemployed
2. Husband is working abroad like an OFW or a
seaman
3. Husband explicitly waived his right of the
exemption in favor of his wife in the
withholding exemption certificate.
A Senior Citizen is:
1. any resident citizen of the Philippines
2. at least sixty 60 years old, including those
who have retired from both government
offices and private enterprises, and
3. has an income of not more than Sixty
thousand pesos (60,000) per annum subject
to the review of the National Economic
Development Authority (NEDA) every three
years.
Parents and dependents qualify the
taxpayer, to the personal exemption of P25,000
as head of the family but not to the additional
exemption of P8,000.
NOTE: NRAETB may deduct personal exemption
(not additional exemption), but only to the
extent allowed by his country to Filipinos not
residing therein, and shall not exceed the
aforementioned amounts.
NRANETB cannot
claim any personal or additional exemptions.
C. Change of Status [Sec. 35, NIRC]
1. If the taxpayer should marry or should have
additional dependents during the taxable
year, he may claim the corresponding
exemptions in full for such year.
2. If the taxpayer should die during the taxable
year,
his
estate
may
claim
the
corresponding exemptions as if he died at
the close of such year.
3. If the spouse or any dependent should die or
any dependent should marry or become
twenty-one years old during the year, or
should become gainfully employed, the

taxpayer may claim the exemptions as if the

spouse or dependent died or as if such
dependent married, became twenty one
years old or became gainfully employed at
the close of such year.
4. For any other event and for which there are
no specific rules applicable from the abovementioned, the status of the taxpayer at
the end of the year shall determine his
exemptions. (strictly construed against the
taxpayer)
Examples:
became legally separated can only
claim P 20,000
25 years old child became incapacitated
cannot claim additional exemption

ITEMIZED DEDUCTIONS
A. ORDINARY AND NECESSARY EXPENSES
NECESSARY EXPENSE appropriate and helpful in the
development of taxpayer's business and are
intended to minimize losses or to increase profits.
These are the day-to-day expenses.
ORDINARY EXPENSE normal or usual in relation to the
taxpayers
business
and
the
surrounding
circumstance.
REQUISITES OF BUSINESS EXPENSE TO BE DEDUCTIBLE
1. ordinary and necessary;
2. paid or incurred w/in the taxable year;
3. paid or incurred in carrying on a trade or
business;
4. substantiated with official receipts or other
adequate records.
5. if subject to withholding taxes proof of payment
to the Bureau of Internal Revenue must be
shown.
6. must be reasonable (when the expense is not
lavish, extravagant or excessive under the
circumstances)
7. must not be contrary to law, public policy or
morals.
NOTE: While illegal income will form part of
income of the taxpayer, expenses which constitute
bribe, kickback and other similar payment, being
against law and public policy are not deductible
from gross income. (Subsec. A, 1, c)
CAPITAL EXPENDITURE An expenditure that benefits
not only the current period but also future periods.
It is not deductible but depreciable, except, if the
taxpayer is a non-profit proprietary educational
institution which may elect either to deduct the
capital expense or depreciate it.
See Annex E Business Expenses
See Annex F Ceiling on Entertainment,
Amusement and Recreational Expenses

B. INTEREST
INTEREST shall refer to the payment for the use or
forbearance or detention of money, regardless of
the name it is called or denominated. It includes the
amount paid for the borrower's use of, money during
the term of the loan, as well as for his detention of
money after the due date for its repayment.

REQUISITES FOR DEDUCTIBILITY (REV. REG. NO. 132000)

1. There must be an indebtedness;
2. There should be an interest ex pens e paid o r
incurred upon such indebtedness;
3. The indebtedness must be that o f the taxpayer;
4. The indebtedness must be connected with the
taxpayer's trade, business or exercise of
profession;
5. The interest expense must have been paid or
incurred during the taxable year;
6. The interest must have been stipulated in
writing;
7. The interest must be legally due;
8. The interest arrangement must not be between
related taxpayers;
9. The interest must not be incurred to finance
petroleum operations; and
10. In case of interest incurred to acquire property
used in trade, business or exercise of
profession, the same, was not treated as a
capital expenditure.
11. The interest is not expressly disallowed by law
to be deducted from gross income of the
taxpayer.
RULES ON DEDUCTIBILITY OF INTEREST EXPENSE
General Rule - In general, the amount of interest
expense paid or incurred within a taxable year of
indebtedness in connection with the taxpayer's
trade business or exercise of profession, shall be
allowed as a deduction from the taxpayer's gross
income.
Limitation - The amount of interest expense paid
incurred by a taxpayer in connection with his trade,
business or exercise of a profession from an existing
indebtedness shall be reduced by an amount equal
the following percentages of interest income earned
which had been subjected to final withholding
depending on the year when the interest income
earned, viz:
38% - beginning January 1, 2000 and thereafter
Aim of Limitation: To discourage so-called backto-back loans where a taxpayer secures a loan from
a bank, turns around and invests the loan proceeds
in money market placements. By imposing a limit
as to the amount of interest expense that can be
deducted from gross income, the previous practice
of tax arbitrage was absolutely nullified.
Tax Arbitrage is a method of borrowing without
entering into a debtor/creditor relationship, often
to resolve financing and exchange control problems.
In tax cases, back-to-back loan is used to take
advantage of the lower of tax on interest income
and a higher rate of tax on interest expense
deduction.
Illustration:
On June 1, 2000 Company X has:
1. Obtained a loan from ABC Financing Corporation
in connection with the operation of its business
and its interest expense on the loan amounted
to P 120,000.
2. Deposit account in DEF Bank and derived
interest income thereof amounting to P200,000
on which the final tax of P40,000 has been
withheld.
Assume that Company Xs net income before
the deduction of interest expense is P500,000.

The deductible expense shall be computed as

follows:
Year 2000
Net Income before
interest expense
P500,000
Less: Interest Expense P120,000
Less: 38% of interest
income from deposit
(38% x P200,000) 76,000
Deductible Interest
Expense
44,000
Taxable Income
P456,000

Deductible Interest Expense

1. Interest on taxes, such as those paid for
deficiency or delinquency, since taxes are
considered indebtedness (provided that the tax
is a deductible tax, except in the case of
income tax). However, fines, penalties, and
surcharges on account of taxes are not
deductible. The interest on unpaid business tax
shall not be subjected to the limitation on
deduction.
2. Interest paid by a corporation on scrip dividends
3. Interest-on deposits paid by authorized banks of
the Bangko Sentral ng Pilipinas to depositors,
if it is shown that the tax on such interest was
withheld.
4. Interest paid by a corporate taxpayer who is
liable on a mortgage upon real property of which
the said corporation is the legal or equitable
owner, even though it is not directly liable for
the indebtedness.
NON-DEDUCTIBLE INTEREST EXPENSE
1. An individual taxpayer reporting income on the
cash basis incurs an indebtedness on which an
interest is paid in advance through discount or
otherwise:
allowed as a deduction in the year the
indebtedness is paid
if the indebtedness is payable periodic
amortization on, 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.
2. Interest paid on indebtedness between related
taxpayer
3. If the indebtedness is incurred to finance
petroleum exploration
4. Interest on preferred stock, which in reality is
dividend
5. Interest on unpaid salaries and bonuses
6. Interest calculated for cost keeping on account
of capital or surplus invested in business which
does not represent charges arising under
interest-bearing obligation.
7. Interest paid when there is no stipulation for
the payment thereof.
OPTIONAL TREATMENT OF INTEREST EXPENSE
At the option of the taxpayer, interest incurred
to acquire property used in trade or business may
be allowed as a deduction or treated as capital
expenditure. [Sec 34 (B)(3), NIRC]

1. Per country limitation

C. TAXES
Taxes mean TAXES PROPER, and therefore no
deductions are allowed for:
1. interest
2. surcharges
3. penalties or fines incident to delinquency (Sec.
80, Rev. Reg. 2)
REQUISITES FOR DEDUCTIBILITY
1. must be in connection with taxpayers business;
2. tax must be imposed by law on, and payable by
taxpayer (direct tax); and
3. paid or incurred during the taxable year.
TAXES NOT DEDUCTIBLE
1. income tax;
2. estate and donors tax;
3. special assessments;
4. excess electric consumption tax;
5. foreign income tax, war profits and excess
profits tax, if the taxpayer makes use of tax
credit; and
6. final taxes, being in the nature of income tax.
NOTE: Taxes allowed as deductions, 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. (Tax Benefit
Rule)
For NRAETB and RFC, taxes paid or incurred are
allowed as deductions only if and to the extent that
they are connected from income within the
Philippines.
EXCEPTIONS to requirement that only such persons
on whom the tax is imposed by law can claim
deduction thereof:
1. Taxes of shareholder upon his interest as such
and paid by the corporation without
reimbursement from him, can be claimed by the
corporation as deduction.
2. A corporation paying the tax for the holder its
bonds or other obligation containing a tax-free
covenant clause cannot claim deduction for such
taxes paid by it pursuant to such covenant.
TAX CREDIT
DEFINITION: right of an income taxpayer to deduct
from income tax payable the foreign income tax he
has paid to his foreign country subject to limitation.
WHO CAN CLAIM TAX CREDIT
1. resident citizens of the Philippines
2. resident aliens under the principle of reciprocity
3. domestic
corporations
which
include
partnerships
except
general
professional
partnership
4. beneficiaries of estates and trusts
5. members of beneficiaries of local partnerships
WHO ARE NOT ENTITLED TO TAX CREDIT
1. non-resident citizens
2. resident aliens, if without reciprocity
3. resident aliens whose income is derived solely
from sources within the Philippines
4. foreign corporations (resident and non-resident)

Taxable
income from
foreign country X

Phil.

= Tax Credit

Taxable income income tax

from all sources

Limit

2. Over-all limitation
Taxable
income from
outside sources X
Phil.
= Tax Credit
Taxable income
income tax
Limit
from all sources

The allowable tax credit is the lower amount

between the tax credit computed under No. 1 and No.
2.
WHEN CREDIT FOR TAXES MAY BE TAKEN
The credit for taxes provided by Section
30(C)(3) to (9) may ordinarily be taken either in the
return for the year in which the taxes accrued or on
which the taxes were paid, dependent upon
whether the accounts of the taxpayer are kept and
his returns filed upon the accrual basis or upon cash
receipts and disbursements basis.
LIMITATIONS ON CREDIT FOR FOREIGN TAXES
1) The amount of credit in respect to the taxes
paid or accrued to any country shall not exceed
the same proportion of the tax against which
such credit is taken, which the taxpayers net
income from sources within such country
taxable under Title II (income Tax) bears to his
entire net income for the same taxable year;
and
2) The total amount of the credit shall not exceed
the same proportion of the tax against which
such credit is taken, which the taxpayers net
income from sources without the Philippines
taxable under Title II (Income Tax) bears to his
entire net income for the same taxable year.

D. LOSSES
LOSSES refer to such losses which do not come
under the category of bad debts, inventory losses,
depreciation, etc., and which arise in taxpayer's
profession, trade or business.
REQUISITES FOR DEDUCTIBILITY
1. Actually sustained during the taxable year
2. Connected with the trade, business or
profession
3. Evidenced by a close and completed transaction
4. Not compensated for by insurance or other form
of indemnity
5. Not claimed as a deduction for estate tax
purposes
6. Notice of loss must be filed with the Bureau of
Internal Revenue within 45 days from the date
of discovery of the casualty or robbery, theft or
embezzlement.
NOTE: The taxpayers failure to record in his books
the alleged loss proves that the loss had not been
suffered, hence, not deductible. (City Lumber vs.
Domingo and Court of Tax Appeals, GR No. L-18611,
January 30, 1964)

FORMULA FOR COMPUTING LIMITATION

CATEGORY AND TYPES OF LOSSES

1. ORDINARY LOSSES
a. Incurred in trade or business, or practice of
profession
Net operating loss carry-over (NOLCO)
Refers to the excess of allowable
deductions over gross income of the
business for any taxable year, which had
not been previously offset as deduction
from gross income.
Can be carried over as a deduction from
gross income for the next 3 consecutive
years immediately following the year of
such loss.
For mines, other that oil and gas well, net
operating loss incurred in any of the first
ten years of operation may be carried over
for the next 5 years.

Requirements:
(1) The taxpayer was not exempt from
income tax in the year of such net
operating loss;
(2) The loss was not incurred in a taxable
year during the taxpayer was exempt
from income tax; and
(3) There has been no substantial change in
the ownership of the business or
enterprise.
There is no substantial change in the
ownership of the business when:
(a) not less than 75% in nominal value of
the outstanding issued shares is held
by or on behalf of the same persons;
or
(b) not less than 75% of the paid up
capital is held by or on behalf of the
same person.
NOTE: The 3 year period shall continue to run
notwithstanding that the corporation paid its
taxes under MCIT, or that the individual
availed the 10% OSD.

See Annex S for illustration.

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.
(1) Total destruction
The replacement cost to restore the
property to its normal operating
condition, but in no case shall the
deductible loss be more than the net
book value of the property as a whole,
immediately before casualty.
(2) Partial Destruction
The excess over the net book value
immediately before the casualty should
be capitalized, subject to depreciation
over the remaining useful life of the
property.
2. CAPITAL LOSSES (LOSSES ARE DEDUCTIBLE ONLY TO
THE EXTENT OF CAPITAL GAINS)
a. Losses from sale or exchange of capital
assets
b. Losses resulting from securities becoming
worthless and which are capital assets.
c. Losses from short sales of property.

d. Losses due to failure to exercise privilege

or option to buy or sell property.
3. SPECIAL KINDS OF LOSSES
a. Wagering losses - deductible only to the extent
of gain or winnings. [Sec. 34 (D)(6)]; deemed to
apply only to individuals
b. Losses on wash sales of stocks - not deductible
because these are considered to be artificial
loss.
Wash sales a sale or other disposition of stock
or securities where substantially identical
securities are acquired or purchased within 61day period, beginning 30 days before the sale
and ending 30 days after the sale. [Sec. 38]
General rule: Losses from wash sales are not
deductible.
Exception: When the sale 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, losses from such sale is
deductible.
Elements of Wash Sales:
(1) The sale or other disposition of stock resulted
to a loss;
(2) There was an acquisition or contract or
option for acquisition of stock or securities
within 30 days before the sale or 30 days
after the sale; and
(3) The stock or securities sold were
substantially the same as those acquired
within the 61-day period.
c. Abandonment losses in petroleum operation and
producing well.
(1) In case 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.
(2) In case a producing well is abandoned, the
unamortized cost thereof, as well as the
undepreciated cost of equipment directly
used therein, shall be allowed as deduction
in the year the well, equipment or facility is
abandoned.
d. Losses due to voluntary removal of building
incident to renewal or replacements - deductible
expense from gross income.
e. Loss of useful value of capital assets due to
charges in business conditions - deductible
expense only to the extent of actual loss
sustained (after adjustment for improvement,
depreciation and salvage value)
f. Losses from sales or exchanges of property
between related taxpayers -losses of this nature
is not deductible but gains are taxable.
g. Losses of farmers - if incurred in the operation
of farm business, it is deductible.
h. Loss in shrinkage in value of stock if the stock
of the corporation becomes worthless, the cost or
other basis may be deducted by the owner in the
taxable year in which the stock of its worthlessness

is made. Any amount claimed as a loss on account

of shrinkage in value of the stock through
fluctuation in the market or otherwise cannot be
deducted from gross income.

E. BAD DEBTS
BAD DEBTS shall refer to those debts resulting from
the worthlessness or uncollectibility, in whole or in
part, of amounts due the taxpayer by others, arising
from money lent or from uncollectible amounts of
income from goods sold or services rendered.
REQUISITES FOR DEDUCTIBILITY
1. Existing indebtedness due to the taxpayer
which must be valid and legally demandable;
2. Connected with the taxpayer's trade, business
or practice of profession;
3. Must not be sustained in a transaction entered
into between related parties;
4. Actually ascertained to be worthless and
uncollectible as of the end of the taxable
year.; and
5. Actually charged off in the books of accounts of
the taxpayer as of the end of the taxable year.
EQUITABLE DOCTRINE OF TAX BENEFIT
A recovery of bad debts previously deducted
from gross income constitutes taxable income if in
the year the account was written off, the deduction
resulted in a tax benefit. (Tax Benefit Rule)
Illustration:
Case A

Case B

Case C

Net income
(loss) before
write off for
bad debts
P10,000

(P 9,000)

P 5,000

Less: Accounts
written off as
bad debts
3,000
Final Net
Income
(Loss)
Bad debts
recovery
in a subsequent year
TAXABLE
INCOME upon
the bad debt
recovery

P 7,000

2,000

6,000

(P11,000)

(P1,000)

DEPRECIATION the gradual diminution in the service

or useful value of tangible property due from
exhaustion, wear and tear and normal obsolescence.
The term also applies to amortization of
intangible assets, the use of which in trade or
business is of limited duration.
REQUISITES FOR DEDUCTIBILITY
1. The allowance for depreciation must be
reasonable.
2. It must be for property use or employment in
trade or business or out of its not being used
temporarily during the year.
3. The allowance must be charged off within the
taxable, year.
4. Schedule on the allowance must be attached to
the return.
PROPERTY HELD BY ONE PERSON FOR LIFE WITH THE
REMAINDER TO ANOTHER PERSON
The deduction shall be computed as if the life
tenant was the absolute owner of the property and,
as such the expense shall accrue to him.
PROPERTY HELD IN TRUST
Allowable deduction shall be apportioned
between the income beneficiaries, and the trustees
in accordance with the pertinent provisions of the
instrument creating or in the absence of such
provisions, on the basis of the trust income
allowable to each.
METHODS OF DEPRECIATION
The term "reasonable allowance" shall include
(but not limited to) an allowance computed in
accordance, with the regulations prescribed by the
Department of Finance, under any of the following
methods.
1. Straight-line method
2. Declining-balance method
3. Sum of the years-digit method
4. Any other method which may be prescribed by
the
Department
of
Finance
upon
recommendation of the Commissioner of
Internal Revenue.
Kind

METHODS OF DEPRECIATION
Formula

1)Straight-line
3,000

2, 000

6, 000

2)Declining balance
3)Sum of the years digits
(SYD)

P3,000

-0-

P5,000

ASCERTAINMENT OF WORTHLESSNESS
Proof of Two Facts:
1. taxpayer did in fact ascertain the debt to be
worthless, in the year for which deduction is
sought,
2. that in so doing, he acted in good faith.
(Collector vs. Goodrich International Rubber,
GR No. L-22265, Dec. 22, 1967)
Depends upon the particular facts and the
circumstances of the case.
Good faith does not require that the taxpayer be
an incorrigible optimist but on the other hand,
he may not be unduly pessimistic.

F. DEPRECIATION

cost- salvage value

estimated life
cost depreciation x Rate
estimated life
nth period x cost- salvage
SYD

Illustration: A machine is used in the manufacturing

department of Corporation A, compute the
depreciation per annum with the following facts:
Cost = P15,000
Salvage
Value= P5,000

1. Straight Line Method with estimated life = 5

years
15,000 5,000 = P2,000
5 years
2. Declining balance with rate of 200%
Year 1: 15,000 0 x 200% = P6,000
5
Year 2:15,0006,000 x 200% =P3,600
5

3. Sum of the years digits

SYD for 5 years = 5+4+3+2+1 or 15
Year 1: 5/15 x (15,000 5,000)
= P3,333.33
Year 2: 4/15 x (15,000 5,000)
= P2,666.67
AGREEMENT AS TO USEFUL LIFE ON WHICH DEPRECIATION
RATE IS BASED
The Bureau of Internal Revenue and the
taxpayer may agree in writing on the useful life of
the property to be depreciated. The agreed rate
may be modified if justified by facts or
circumstances. The change shall not be effective
before the taxable year on which notice in writing
by certified mail or registered mail is served by the
party initiating.
SPECIAL TYPES OF DEPRECIATION
1. Petroleum Operations
Depreciation of all properties directly
related to production of petroleum shall be
allowed under straight-line (SL) or declining
balance (DB) method
May shift from DB to SL method
Useful life: 10 years or shorter life as
allowed by the Commissioner
Useful life of property not directly related
to production: 5 years under straight line
method
2. Mining Operations
Depreciation on all properties in mining
operations other than petroleum operations
at the normal rate if expected life is less
than 10 years.
If expected life is more than 10 years,
depreciation shall be any number of years
between 5 years and the expected life.
3. Depreciation deductible by non-resident aliens
engaged in trade/business or non-resident
corporation
a. Only when such property is located in the
Philippines.

G. DEPLETION OF OIL AND GAS

WELLS AND MINES
DEPLETION - exhaustion of natural resources as in
mines, oil, and gas wells. The natural resources are
called wasting assets.
As the physical units
representing such resources are extracted and sold,
such assets move towards exhaustion.
Known as cost of depletion allowance for mines,
oil gas wells and other natural deposits starting
calendar year 1976 and fiscal year beginning July
1,1975
TO WHOM ALLOWED
Only mining entities owning economic interest in
mineral deposits.
Economic interest means interest in minerals in
place investment therein or secured by operating or
contract agreement for which income is derived,
and return of capital expected, from the extraction
of mineral.
Mere economic or pecuniary advantage to be
derived by production by one who has no capital
investment in the mineral deposit does not amount
to economic interest.

FEATURES
1. Intangible Exploration and development drilling
cost in petroleum exploration shall be treated
either as:
a. revenue expenditures; or
b. capital expenditures
2. The total amount deductible for exploration and
development expenditures shall not exceed 50%
of net income from mining operation. The
excess shall be carried forward to the
succeeding year until fully deducted.

H. CHARITABLE AND OTHER CONTRIBUTIONS

TAX TREATMENT
A. Deductible
In Full

B. Deductible
Subject To Limitation

1) Recipient is:
(a) Government of
the
Philippines;
(b) Any of its
agencies or
political
subdivisions;
or
(c) Any fullyowned
government
corporation

1) Recipient is:
(a) Government of
the Philippines;
(b) Any of its
agencies or
political
subdivisions
For a non-priority
activity in any of the
areas mentioned in A,
and exclusively for a
public purpose.

For priority
activity in:
1. Science;
2. Education
3. Culture
4. Health
5. Economic
Development
6. Human
Settlement
7. Youth and
Sports
Development
2) Recipient is a
foreign or
international
organization with
an agreement
with the
Philippine
Government on
deductibility, or
in accordance
with special law.

2) Non-government
organizations

3) Recipient is an
accredited nongovernment
organization,
organized/ operated
for (purposes):

3) Recipient is an
accredited domestic
corporation or
association
organized/operated
for (purposes):

Amount deductible:
(a)
(b)
(c)
(d)

(e)
(f)
(g)
(h)

Scientific;
Educational;
Cultural;
Character
building/youth and
sports
development
Charitable
Social welfare
Health
Research

And satisfying the

following conditions:
1. The donation must
be utilized not later
than the 15th day of
the 3rd month
following the close
of its taxable year.
2. The administrative
expense must not
exceed 30% of total
expenses.
3. Upon dissolution,
assets must be
distributed to
another non-profit
domestic
corporation or to
the state.

(a)
(b)
(c)
(d)
(e)
(f)
(g)
(h)

Scientific
Educational;
Cultural;
Youth and sports
development
Charitable
Social welfare
Religious
Rehabilitation of
Veterans
If the conditions in
Table A is not complied
with:

Subject to limitation:
(a) Individual - 10%
taxable
income
from trade business
or profession before
contribution
(b) Corporation - 5%
taxable
income
from trade business
or profession before
contribution

REQUISITES FOR DEDUCTIBILITY

1. The contribution or gift must be actually paid.
2. It must be given to the organizations specified
in the code.
3. The net income of the institution must not inure
to the benefit of any private stockholder or
individual.
VALUATION
Charitable contribution of property other than
money shall be based on the acquisition cost of said
property.

I. RESEARCH AND DEVELOPMENT (R&D)

TAX TREATMENT
Either as:
1. Revenue Expenditures
Requisites:
a. Paid or incurred during the taxable year
b. Ordinary and necessary expenses in
connection with trade business or profession
c. Not chargeable to capital account
2. Deferred Expenses
Requisites:
a. Paid
or incurred in connection with
trade, business, or profession
b. Not treated as expense
c. Chargeable to capital account but not
chargeable
to
property
subject
to
depreciation or depletion.

Amount ratably distributed over a period of

60 months beginning with the month taxpayer
realized benefits from such expenditures.
EXCLUSION
FROM
RESEARCH
AND
DEVELOPMENT
EXPENDITURES
1. Any expenditure for the acquisition or
improvement of land or for the improvement of
property to be used in connection with research
and development subject to depreciation and
depletion.
2. 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 TRUST CONTRIBUTIONS

PENSION TRUST CONTRIBUTIONS a deduction applicable
only to the employer on account of its contribution
to a private pension plan for the benefit of its
employee. This deduction is purely business in
character.
REQUISITES FOR DEDUCTIBILITY
1. The employer must have established a pension
or retirement plan to provide for the payment
of reasonable pensions to his employees;
2. The pension plan is reasonable and actuarially
sound;
3. It must be funded by the employer;
4. The amount contributed must be no longer
subject to the control and disposition of the
employer;
5. The payment has not yet been allowed as a
deduction; and
6. The deduction is apportioned in equal parts over
a period of 10 consecutive years beginning with
the year in which the transfer or payment is
made.
SUMMARY OF RULES ON RETIREMENT BENEFITS PLAN /
PENSION TRUST
1. Exempt from Income Tax employees trust
under Sec. 60(B)
2. Exclusion from Gross Income amount received
by the employee from the fund upon compliance
of certain conditions under Sec. 32(B)(6)
3. Deduction from Gross Income
a. Amounts contributed by the employer
during the taxable year into the pension
plan to cover the pension liability accruing
during the year considered as ordinary and
necessary expenses under Sec. 34(A)(1)
b. 1/10 of the reasonable amount paid by the
employer to cover pension liability
applicable to the years prior to the taxable
year, or so paid to place the trust in a sound
financial basis deductible under Sec. 34(J)

K. PREMIUM PAYMENTS
ON HEALTH AND/OR
HOSPITALIZATION INSURANCE
DEFINITION: It is an amount of premium on health
and/or hospitalization paid by an individual
taxpayer (head of family or married), for himself
and members of his family during the taxable year.

REQUISITES FOR DEDUCTIBILITY

1. Insurance must have actually been taken
2. The amount of premium deductible does not
exceed P2,400 per family or P200 per month
during the taxable ear.
3. That said family has a gross income of not
more than P250,000 for the taxable year.
4. In case of married individual, only the spouse
claiming additional exemption shall be entitled
to this deduction.
WHO MAY AVAIL OF THE DEDUCTION
1. Individual
taxpayers
earning
purely
compensation income during the year.
2. Individual taxpayer earning business income or
in practice of hi s profession whether availing of
itemized or optional standard deductions during
the year.
3. Individual taxpayer earning both compensation,
and business or practice o f profession during
the year.

NON-DEDUCTIBLE EXPENSES
REASONS FOR NON-DEDUCTIBILITY
1. Personal expenses
2. Capital expenditures
3. Items not normally subject to income tax and
therefore are not deductible.
4. Items taken advantage of by the taxpayer to
avoid payment of income tax.
SPECIFIC ITEMS (SECTION 36)
1. Personal, living or family expenses;
2. Amount paid out for new buildings or for
permanent improvements, or betterment made
to increase the value of any property or estate,
Except
that
intangible
drilling
and
development cost incurred in petroleum
operations are deductible;
3. Amount expended in restoring property or in
making good the exhaustion thereof for which
an allowance has been made;
4. Premiums paid on any life insurance policy
covering 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 a beneficiary under such
policy. [Sec. 36]
5. Losses from sales or exchanges of property
between related taxpayers. [S ec. 36]
TRANSACTIONS BETWEEN RELATED PARTIES
1. Between members of the family;
Family includes only the brothers,
sisters (whether by the whole or half blood),
spouse, ancestors, and lineal descendants of
the taxpayer.
2. Except in the case of distributions in liquidation:
a. between an individual and a corporation
more than 50% in value of the outstanding
stock of which is owned, directly or
indirectly, by or for such individual;
b. 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, if either one of such
corporations, with respect to the taxable
year of the corporation preceding the date
of the sale of exchange was a personal

holding company or a foreign personal

holding company; or
3. Between the grantor and a fiduciary of any
trust;
4. Between the fiduciary of a trust and the
fiduciary of another trust if the same person is a
grantor with respect to each trust;
5. Between a fiduciary of a trust and a beneficiary
of such trust.
TAX CONSEQUENCES
The following are not deductible:
1. Interest expense [Sec. 34 (B)(2)]
2. Bad debts [Sec. 34 (E)(1)]
3. Losses from sales or exchanges of property [Sec
36 (B)]

(2) OPTIONAL CORPORATE

INCOME TAX
SECTION 27 (A)
APPLIES TO:
1. Domestic corporations (DC)
2. Resident foreign corporations (RFC)
RATE OF TAX AND DATE OF EFFECTIVITY
15% of the Gross Income effective January 1,
2000
CONDITIONS OR REQUIREMENTS
1. A tax effort ratio of 20% of Gross National
Product
2. A ratio of 40% income tax collection to total tax
revenues
3. A VAT tax effort of 4% of GNP
4. A 0.9% ratio of Consolidated Public Sector
Financial Position (CPSFP) to GNP
OTHER FEATURES
1. Available only to firms whose ratio of:
Cost of sales
Gross sales or receipts from all sources

<=55%

2. The election shall be irrevocable for three (3)

consecutive years
MEANING OF GROSS INCOME
General concept
Gross sales
Less:
(1) Sales Return;
(2) Discount and allowances
(3) Cost of goods sold - means all business
expenses directly incurred to produce
the merchandise to bring them to their
present location and use.

(3) MINIMUM CORPORATE

INCOME TAX (MCIT)
SECTION 27 (E)
WHO ARE COVERED?
MCIT is imposed on domestic and resident
foreign corporations
1. Whenever such corporation has zero or negative
taxable income; or
2. Whenever the amount of MCIT is greater than
the normal income tax due from such
corporation determined under Section 27[A].

LIMITATIONS
1. The MCIT shall apply only to domestic and
resident foreign corporations subject to the
normal corporate income tax (income tax rates
under Sec 27[A] of the CTRP).
2. In the case of a domestic corporation whose
operations or activities are partly covered by
the regular income tax system and partly
covered under a special income tax system, the
MCIT shall apply on operations covered by the
regular corporate income tax system.
3. In computing for the MCIT due from a resident
foreign corporation, only the gross income from
sources within the Philippines shall be
considered for such purpose.
WHEN DOES A CORPORATION BECOME LIABLE
UNDER THE MCIT?
MCIT is imposed beginning on the fourth
taxable year immediately following the year in
which such corporation commenced its business.
The taxable year in which the business operations
commenced shall be the year when the corporation
registers with the BIR.
CARRY FORWARD OF THE EXCESS MINIMUM TAX

Any excess of MCIT over the normal income tax

can be carried forward on an annual basis.
The excess can be credited against the normal
income tax due in the next 3 immediately
succeeding taxable years.
Any amount of the excess MCIT which cannot be
credited against the normal income tax due in
the next 3-year period shall be forfeited.

RELIEF FROM MCIT

The Secretary of Finance is authorized to
suspend the imposition of the MCIT on any
corporation which suffers losses because of:
a. prolonged labor dispute;
b. force majeure; or
c. legitimate business reverses.
Substantial losses from a prolonged labor
dispute" means losses arising from a strike staged by
the employees which lasted for more than six (6)
months within a taxable period and which has caused
the temporary shutdown of business operations.
Force majeure" means a cause due to an
irresistible force as by "Act of God" like lightning,
earthquake, storm, flood and the like. This term
shall also include armed conflicts like war and
insurgency.
Legitimate business reverses" shall include
substantial losses sustained due to fire, robbery,
theft, or embezzlement, or for other economic
reason as determined by the Secretary of Finance.
TAX RATE: 2% of gross income or taxable base
pertinent to a trading/merchandising concern or a
service entity

General concept - gross income means:

Gross sales
Less:
(1) Sales Return;
(2) Discount and allowances
(3) Cost of goods sold - means all business
expenses directly incurred to produce
the merchandise to bring them to their
present location and use.
KINDS OF BUSINESS
A. Trading or Merchandising Concern
Gross Income = gross Cost of Sales =
sales/ receipts less 1.Invoice cost of the
sales
returns,
goods sold;
discounts
and 2.import duties;
allowances and cost of 3.freight in transporting
goods sold
the goods to the
place
where
the
goods are actually
sold;
4.insurance while the
goods are in transit.
B. Manufacturing
Cost of Sales = All cost
Gross Income (Same)
of production of finished
goods, such as
1.raw materials used;
2.direct labor;
3.manufacturing
overhead;
4.freight cost;
5.insurance premiums;
6.other costs incurred
to bring the raw
materials
to
the
factory or warehouse.
C. Services
Cost of Services = All
Gross Income = Gross
direct costs and
receipts less sales
expenses necessarily
returns, allowances,
incurred to provide the
discounts and costs of services required by the
services
customers and clients
including:
a. Salaries and employee
benefits of personnel,
consultants and
specialists directly
rendering the service;
b. Cost of facilities
directly utilized in
providing the service.
It shall not
include interest expense

except for banks and

other financial
institutions.

Gross income excludes passive income subject

to final tax.
Other income and Extraordinary Income are
included since RR 9-98 provides that gross sales
include sales contributory to income taxable
under the regular corporate tax.

See Annex T for interplay of normal tax,

optional corporate income tax and MCIT.

TAX BASE: Gross Income

MEANING OF GROSS INOME

10