GROSS INCOME-EXCLUSIONS AND INCLUSIONS

B. INCLUSIONS FROM GROSS INCOME

Requisites of a taxable income

a. There must be a gain

b. The gain must be realized or received
c. The gain must not be excluded by law from taxation

Income distinguished from other terms

From capital From receipts From revenue
Capital is the fund or Receipts have reference to all 1. Revenue, as applied to taxation, refers to all the funds or
property existing at one wealth that flows into the income derived by the government, whether from tax or any
distinct time, while income taxpayer, which includes other source while income, for tax purpose, is employed in its
denotes a flow of wealth return of capital. Receipts are “natural and obvious sense” to mean money or gain received,
during a definite period broader in scope than income coming to a person (natural or juridical) during a given period
of time

2. Revenue is to the government while income is to a person

(natural or juridical)

SEC. 32. Gross Income.

General Definition. - Except when otherwise provided in this Title, gross income means all income derived from whatever source, including (but not
limited to) the following items:

(1) Compensation for services in whatever form paid, including, but not limited to fees, salaries, wages, commissions, and similar items;
(2) Gross income derived from the conduct of trade or business or the exercise of a profession;
(3) Gains derived from dealings in property;
(4) Interests;
(5) Rents;
(6) Royalties;
(7) Dividends;
(8) Annuities;
(9) Prizes and winnings;
(10) Pensions; and
(11) Partner's distributive share from the net income of the general professional partnership.

Items of gross income explained

(1) Compensation for services in whatever form paid, including, but not limited to fees, salaries, wages, commissions, and similar items

a. Compensation for personal services

1) Gross compensation income, Gross compensation income means all remuneration for services performed by
defined
an employee by his employer whether paid in cash or in kind, unless
specifically excluded under the Tax Code (e.g.
salaries, wages, emoluments, honoraria, bonuses, allowances, director’s fee)
2) Director’s fee Director’s fee is part of the gross compensation income if the director is at the same
time an
employee of the employer/corporation. If the director is not an employee, the
director’s fee is subject to 8% creditable withholding tax
3) Compensation income in the In the absence of employer-employee relationship, compensation for personal
absence of employer employee services shall be considered as gross professional fee (e.g. audit fee
relationship received by CPA from his client, lawyer’s
fee)
 4) Examples of compensation for All kinds of compensation for services rendered constitute gross income. They
include:
services rendered a. Salaries, wages and fees
b. Commission paid to salesman
c. Compensation for services on the basis of a percentage of profits
d. Commission on insurance premiums
e. Tips
f. Pensions or retiring allowances paid by private pensions or by the
government (except pension exempt from tax) and
g. Marriage fees, baptismal offering sum paid for saying masses for the
dead, and other contributions received by a clergyman, evangelist, or
religious worker for services rendered

5) Forms of compensation Forms of compensation Taxable amount

If the services are paid in a medium other a) Payment made in cash The full amount received

than money, the FMV of the thing

consideration received is the b)Service paid for with something the fair market value (FMV) of the
amount of compensation. other than money
consideration received

If compensation is paid in kind such

c) Services rendered at a In the absence of evidence to the
as stocks of employer, the FMV at the
stipulated price contrary, the stipulated price shall be
time the services were rendered is the
presumed to be the fair market value
measure of compensation. (FMV)
 (2) Gross income derived from the conduct of trade or business or the exercise of a profession
Gross Sales/receipts xxx
Less: sales returns and allowances/sales discount (xxx) Net
Net Sales Sales/receipts xxx
Less: Cost of sales/services (xxx)
Gross income from operation xxx
Add: Other income:
Other Incidental income xxx
Gross Income xxx

(3) Gains derived from dealings in property

 Sale of Capital Assets Other than Real Property and Shares of Stock that are subject to a special CGT rate.

 The net capital gain realized from the sale of assets classified as capital assets shall be subject to ordinary income tax.
GENERAL RULE IN DETERMINING GAIN OR LOSS FROM SALES OR EXCHANGES OF PROPERTY

Computation of gain or loss.

Amount Realized = Sum of money received + FMV of property (other than money received) Less basis
or Adjusted Basis
Gain or loss.

Basis – General Rules

1. The cost thereof in the case of property acquired on or after March 1, 1913, if such property was acquired by purchase; or
2. The fair market price or values as of the date of acquisition, if the same was acquired by inheritance; or
3. If the property was acquired by gift, the basis shall be the same as it would have been in the hands of the donor or the last preceding owner by whom it was not
acquired by gift, except that if such basis is greater than the fair market value of the property at the time of the gift then, for the purpose of determining loss, the basis
shall be such fair market value; or
4. If the property was acquired for less than an adequate consideration in money or money’s worth, the basis of such property is the amount paid by the transferee for
the property; or
5. The basis as defined in paragraph (C) (5) of this Section, if the property was acquired in a transaction where gain or loss is not recognized under paragraph. (c) (2)
of this Section.

(4) Interests

1) Included in interest income Interest includes such interest arising from indebtedness, whether business or non-business. Unless exempted by law,
interest received by taxpayer, whether or not usurious, are taxable.
Interest income subject to regular income tax, not to final tax:
a. Lending activities, whether or not in the course of business
b. Investment in bonds
c. Promissory notes
d. Foreign sources, whether bank or non-bank
e. Penalty for legal delay or default
2) Subject to final tax Interest income from Philippine sources subject to final tax (not included in the taxable net income subject to tax
rates in general)
a. Interest from any currency bank deposit
b. Yield or any other monetary benefit from deposit substitute
c. Yield or any other monetary benefit from trust funds and similar arrangements
d. Interest income received from a depository bank under expanded foreign currency deposit system
e. Interest income from long-term deposit or investment evidenced by certificates prescribed by Bangko Sentral
ng Pilipinas if pre-terminated before fifth year.
3) Exempt from income tax Interest income from Philippine sources exempt from tax:
a. Interest income received from a depository bank under expanded foreign currency deposit system by non-
resident (individual or corporation)
b. Interest income from long-term deposit or investments evidenced by certificates prescribed by Bangko
Sentral ng Pilipinas received by individual (RC, NRC, RA, NRA-ETB)
4) Interest income or yield Recipient
Individuals DC/RFC
Source of interest income Individuals Corporations
Short-term deposit Pre-terminated: 30% (Regular tax)
4 yrs to < 5 yrs € 5%
3 yrs to < 4 yrs €12%
< 3 yrs € 20%
 Long-term deposits/investment certificates Exempt* 30% (Regular tax)
Note* exemption does not include NRA-NETB (25%)
NRFC – 30% Final tax

Short term deposits – are those made for a period of less than five years.

Long term deposits or investment certificates – refer to certificate of time deposit or investment in the form of
savings, common or individual trust funds, deposit substitutes, investment management accounts and other
investments with a maturity of not less than five years the form of which shall be prescribed by the BSP and issued
by banks only (not by non-bank financial intermediaries or finance companies) to individuals in denomination of
P10,000 and other denominations as may be prescribed
by the BSP. (RMC 18-2011)

5) Foreign currency deposit with foreign Taxpayer Individuals Corporations

currency depository banks Residents 15% 15%
Non-residents Exempt Exempt
.
Joint Accounts on Forex Deposits – if the bank account is jointly in the name of the non-resident and a resident
taxpayer, 50% of the interest shall be exempt while the other 50% shall be subject to the 15% final tax (RR 10-98)

6) Income derived under expanded foreign DC RFC NRFC

currency deposit system by depository bank From foreign currency transactions with nonresident, OBUs in the Exempt Exempt Exempt
Philippines, local commercial bank including branches of foreign banks

From foreign currency loans granted to resident other than OBUs in the 10% 10% Exempt
Philippine depository bank

(5) Rents

Income of lessor under lease agreement

Payment Made Lessor Lessee
Rent Income Expense
Obligation of lessor to third person paid by lessee to Income Expense
third person
Advance rent Income in full in the year received regardless Expense to be prorated over the period
of accounting method used covered regardless of accounting method
Leasehold improvement Income reported under lump sum or annual Expense (depreciation) over the term of the
method lease or estimated life whichever is shorter

1. Advance payment not representing rent

Loan Advance payment representing loan to the lessor is not taxable unless applied to unpaid rent.
Security Deposit Advance payment representing deposit is not taxable unless violation in the lease contract
arises.

2. Leasehold Improvement
Additional income to the lessor Leasehold improvement is a source of additional income to the lessor if it shall become his upon
the expiration of the lease contract
Recognition of income from leasehold improvement

a. Lump sum or outright method Lessor may report as income, at the time when such buildings or improvements are completed,
the fair market value (FMV) of such buildings or improvements subject to lease.
(Depreciated value at the end of the lease term)
b. Annual or spread out method
1. Computation of annual income Cost of leasehold improvement xx
Less: Acc. Dep (remaining term of lease) (xx)
Book value, end of lease xx

Annual income:
Book value, end of lease xx
Remaining term of lease

2. Computation of income resulting from FMV of improvement when lessor took possession xx
premature termination of lease Less: Amount already reported as income (xx)
Income, year of termination xx
3. Computation of loss due to destruction Amount already reported as income xx
of leasehold improvement before the Less: Insurance recovery*** xx
term of the lease expires Salvage value xx (xx)
 Recipient of dividends
Source of Individuals Corporations
dividends
Loss (xx)
Domestic 10% Exempt**
Corpora final tax*
tion ***To the extent that such loss was not compensated for by insurance.
Foreign Regular Regular rate
Corpora rate
tion
Cost of construction (Improvements) P10,000,000
Estimated useful life of improvements 20 years
Remaining terms of the lease 10 years

Exercise B: In connection from Problem A: Assume the income from the improvements is to be reported annually. However, at the
beginning of the 6th year, both parties agreed to terminate the lease agreement. Consequently, Cathy took possession of the improvements.
The fair value of the improvements at that time was P3,500,000. What amount should Cathy report as income from improvements on the 6 th
year of the lease agreement?

6. Royalties
1. Subject to final tax Royalties from Philippine sources
2. Subject to tax rates in general Royalties from foreign sources

Royalties Recipient
Source of passive Individuals Corporations
Notes: royalties
1. If the royalties are received in active pursuit Books, literary works and 10% final tax 20% final tax
of business, it is subject to 30% RCIT. musical compositions
Other sources 20% final tax*** 20% final tax ***
2. If royalties are considered as passive income, these Notes:
are subject to 20% final withholding tax. 1. *** Under the regulations, the 10% preferential royalty final tax on books and literary works pertain to
printed literatures. Royalties on books sold on e-copies or CDs such as e- books are subject to the
20% final tax.
2. Royalties on cinematographic films and similar works paid to NRA-ETBs, NRA-NETBs or
NRFCs is subject to a final tax of 25%.

(7) Dividends

1) Difference between direct and indirect Direct dividend – is one where the paying corporation acknowledges that the distribution is a dividend
dividend payment

Indirect dividend – is a distribution of profits disguised as payment of services, properties, etc

2) Dividend/shares in net income subject to final tax a) Cash and / or property dividends actually or constructively received by individual from domestic
corporation or from a joint stock company, insurance or mutual fund company and regional operating
headquarters of multinationals.
b) Inter-corporate dividends received from domestic corporation by non-resident foreign corporation.
c) Share of an individual in the distributable net income after tax of a partnership (other than a general
professional partnership) of which he is a partner.
d) Share of an individual in the net income after tax of an association, a joint account, or a joint venture or
consortium taxable as a corporation of which he is a member or co- venturer.

*A NRA-ETB is subject to a 20% final tax on dividend,

not to the usual 10%; but an NRA- NETB is subject
to a 25% final tax.
** A NRFC is not exempt but is subject to the 30%
general final tax rate. However, the
imposable dividend tax shall be 15% when the tax
sparing rule applies.
 3) Dividends/shares in net income subject to tax rates a) Dividends from foreign corporation
in general b) Share in the net income of a general professional partnership
4) Dividends that are exempt from tax Inter-corporate dividends received from domestic corporation by other domestic corporation
and resident foreign corporation.

(8) Annuities

1) Annuities
An annuity is a specified income payable at stated intervals for a fixed or a contingent period, often for the recipient’s life, in consideration of a stipulated premium paid
either in prior installment
payments or in a single payment
2) Non-taxable annuity
Annuity representing return of premium
3) Taxable annuity
Excess of the amount returned as premium

(9) Prizes and winnings

1) Subject to tax rates in general
a) Prizes and winnings from foreign sources received by individuals and corporations
b) Prizes and winnings from Philippine sources received by corporations
c) Prizes from Philippine sources received by individuals amounting to P10,000 or less.

2) Subject to final tax

Subject to 20% final tax
a) Prizes received by individual from Philippine sources (except prizes amounting to P10,000 or less which shall be subject to tax under Sec. 24 (a))
b) Other winnings of individual from Philippine sources (except Philippine Charity sweepstakes and Lotto winnings).

Subject to 25% final tax

Recipient

Amount taxable prize

Individuals
Corporations

Prize
exceeding
20% final
tax
Regular tax

3) Exempt/excluded from gross income

a) Philippine Charity Sweepstakes and Lotto Winnings if P10,000 or less

b) Prizes and awards made primarily in recognition of achievements in the followings fields:
1. Religion
2. Charitable
3. Scientific
4. Educational
5. Artistic
6. Literary
7. Civic
Conditions for the exemption of prizes and awards:
a. The recipient was selected without any action on his part to enter the contest or proceedings
b. The recipient is not required to render substantial future services as a condition to receiving the prize or award
c) All prizes and awards granted to athletes to local and international sports competitions and tournaments whether held in the Philippines or Abroad and sanctioned by
their national
sports association

(10) Pensions

A. Exclusion from gross income: Retirement Benefits – Requisites:

 Retirement benefits pursuant to RA 4917 (Private Retirement Benefit Plan)
1. Retiring employee must not be less than 50 years old.
2. Must have been in the service for at least 10 years of the same employer.
3. Exemption must be availed only once.
4. The private benefit plan must be approved by the BIR. (Reasonable private pension plan.)

 Retirement benefits under RA 7641 (In the Absence of Retirement Plan)

1. The retiring employee is 60 years old. (The compulsory retirement age of an employee under the
Mandatory Retirement is 65 years old.)
2. He must have served the company for at least 5 years in said establishment.

B. Exclusion from gross income: Separation Pay – Separation of employee from service must be due to:
1. Death, Sickness, Physical Disability.
2. Any cause beyond the control of the employee. (Examples: dismissal due to installation of labor saving device, retrenchment, bankruptcy and redundancy.)
(11) Partner's distributive share from the net income of the general professional partnership.

Share from the net income of the General Partnership Under Sec. 73 of the NIRC, the net income of these entities is deemed constructively received by the
partners, members or venturers, respectively, in the same year the net income is reported. Hence, the 10%
final tax applies at the point of determination of the income-
not at the point of actual distribution.
Share from the net income of the General Professional Partner’s distributive share from the net income of the general professional partnership
Partnership (Subject to Section 24 (a))

Income from whatever source

1) Example of income from whatever source 1. Gains arising from expropriations of property
2. Gambling gains
3. Income from illegal business or from embezzlement
4. Damage recovery (compensation from damages)
5. Forgiveness of debt/
6. Bad debt recovery
7. Tax refunds
8. Prizes and awards
2) Damage recovery 1. Recovery of lost profit is taxable
2. Recovery of lost capital is not taxable
3) Forgiveness of debt Condonation of Debt
1. Debtor rendered services to the creditor – income to the debtor (subject to income tax)
Not Subject to income tax nor donor tax: (Debt 2. No services rendered – taxable gift to the creditors as gift given to the debtor (taxable indirect gift)
restructuring) The gain resulting from (subject to donor’s tax)
condonation of a company’s debts to its various 3. Creditor is a corporation while the debtor is a stockholder – it has the effect of a payment of dividend (subject
creditors pursuant to a court- approved debt to final tax)
restructuring is not subject to income tax.
Citizen 10%
Likewise, the creditors will not be subject to Resident alien 10%
donor’s tax since the condonation was not NRA – ETB 20%
implemented with a donative intent but only for NRA – NETB 25%
business consideration. The restructuring was
not a result of the mutual agreement of the
debtors and creditors. It was through court 4. Creditor is the stockholder while the debtor is the corpsssoration – amount condoned is considered as an
action that the debt rehabilitation plan was additional investment
approved and implemented. (BIR
Ruling No, DA28-2005)

4) Bad debt recovery Recovery of Bad Debt previously deducted (application of the tax benefit rule)
a. Taxable – if deduction of bad debt has reduced the tax liability of taxpayer (Tax Benefit Rule)
b. Not Taxable – if there is no reduction in the tax liability of the taxpayer
5) Tax Refunds 1. If the refunded tax is a deductible tax, the tax refund is taxable
2. If the refunded tax is not deductible tax, the tax refund is not taxable

Non-deductible taxes:
1. Philippine income tax (except fringe benefit tax)
2. Transfer taxes –Estate tax and Donors tax
3. Special assessment
4. Foreign income tax if claimed as tax credit
5. Value added tax
6. Stock transaction tax a.
6/10 of 1%
b. % tax on public offerings

Gross income from farming:

Cash method of accounting Accrual method of accounting
Revenue:
Livestock and farm product raised xxx Xxx
Livestock and farm product purchased xxx Xxx
Miscellaneous income xxx Xxx
Farm equipment sold Xxx

Less: Book value of equipment sold Cost: Xxx xxx Xxx

Cost of lives stock purchased
(xxx) (xxx)

Add: increase by inventory Xxx

Gross income Xxx Xxx
Less: Livestock and farm product expenses (xxx) (xxx)
Taxable income xxx Xxx
 Gross income is the selling price less book value on:
o Sale of draft, breeding or dairy animals
o Sale of farm machinery and equipment
 Proceeds of insurance on growing crop destroyed is included in gross income.