Deductions from Gross Income

DEDUCTIONS FROM THE GROSS INCOME

Section 34 of the Tax Code, as amended
Deductions, are the amounts, which the law allows to be deducted from gross income in
order to arrive at net income. On the other hand; “Exclusions” are something received or earned
by the taxpayer that do not form part of gross income while deductions are something spent or
paid in earning the gross income. Exclusions pertain to the computation of gross income, while
deductions pertain to the computation of net income.

KINDS OF DEDUCTIONS
1. Itemized Deductions
2. Optional Standard Deduction
3. Special Deductions allowed under special cases.
TAXPAYER ALLOWANCE DEDUCTIONS
Individuals earning pure Beginning 2018, no more deduction is allowed to
compensation income purely compensation income earners.

Individuals deriving income from Itemized deductions or Optional Standard Deduction

trade, business or practice of
profession.
Corporations Itemized deductions or Optional Standard Deduction

ITEMIZED DEDUCTIONS
Section 34 of the Tax Code, as amended, provides that, except for taxpayers earning
compensation income arising from personal services rendered under an employer-employee
relationship where no deductions shall be allowed under this Section, in computing taxable
income subject to income tax under Sections 24(A); 25(A); 26; 27(A) and 27(B); there shall be
allowed the following deductions from gross income as follows:
A. Expenses
B. Interest
C. Taxes
D. Losses
E. Bad debts
F. Depreciation
G. Depletion
H. Charitable Contribution
I. Research and development
J. Contributions to Pension Trust
K. Premium Payments on Health and/or Hospitalization Insurance

EXPENSES:
 ORDINARY AND NECESSARY TRADE, BUSINESS OR PROFESSIONAL EXPENSES
Section 34(A) (1) (a) of the Tax Code, as amended
In general, there shall be allowed as deductions from gross income all the ordinary and
necessary expenses paid or incurred during the taxable year in carrying on or which are directly
attributable to, the development, management, operation and/or conduct of the trade, business or
exercise of a profession, including:
1. Salaries and wages
A reasonable allowance for salaries, wages, and other forms of compensation for personal
services rendered, including the gross-up monetary value of fringe benefit furnished or
granted by the employer to the employee: Provided, that the income tax imposed on such
salaries and fringe benefits has been paid;
2. Travel
A reasonable allowance for travel expenses, here and abroad, while away from home in the
pursuit of trade, business or profession;
3. Rentals
A reasonable allowance for rentals and/or other payments which are required as a condition
for the continued use or possession, for purposes of the trade, business or profession, of
property to which the taxpayer has not taken or is not taking title or in which he has no equity
other than that of a lessee, user or possessor;
4. Entertainment, Amusement and Recreation Expense
A reasonable allowance for entertainment, amusement and recreation expenses during the
taxable year, that are directly connected to the development, management and operation of
the trade, business or profession of the taxpayer, or that are directly related to or in
furtherance of the conduct of his or its trade, business or exercise of a profession not to
exceed such ceilings as prescribed under RR 10-2002. Provided, that any expense incurred
for entertainment, amusement or recreation (EAR) that is contrary to law, morals, public
policy or public order shall in no case be allowed as deduction.
AMOUNT DEDUCTIBLE - lower Amount between actual and limit:
LIMIT
Sale of Goods or Properties Net Sales x 1/2 of 1%
Sale of services Net Revenue x 1%

For sellers of both goods or properties and services, an apportionment formula is used in
determining the "ceiling" on such expenses based on the following apportionment formula:
Net Sales/Revenue x Actual Expense
Total Net Sales/Revenue

5. (Added under CREATE Law Upon effectivity of CREATE law, an additional deduction from
taxable income of one-half (1/2) of the value of labor training expenses incurred for skills
development of enterprise-based trainees enrolled in public senior high schools, public
higher education institutions, or public technical vocational institutions and duly covered by
an apprenticeship agreement under presidential decree no. 442, series of 1974, or the
"Labor Code of the Philippines", as amended, shall be granted to enterprises: Provided,
further, that for the additional deduction for enterprise-based training of, students from public
educational institutions, the enterprise shall secure proper certification from the DEPED,
TESDA, or CHED: Provided, finally, that such deduction shall not exceed ten percent (10%)
of direct labor wage (RR 5-2021).
 REQUISITES FOR DEDUCTIBILITY IN GENERAL:
 Must be ordinary and necessary;
 Paid or incurred during the taxable year;
 Connected with trade, business or practice of profession;
 Supported by sufficient evidence; and
 Not against the law, morals, public policy or public order;
 It must have been subjected to withholding tax, if applicable.
MINOR OR ORDINARY REPAIRS & MAINTENANCE
KIND OF REPAIR TREATMENT
Repairs that materially add to the value of the property. Capitalize
Repairs that appreciably prolong the life of the property Capitalize
Repair that keep the property in this ordinarily efficient operating Outright Expense
condition

EXPENSES ALLOWABLE TO PRIVATE EDUCATIONAL INSTITUTIONS

Section 34(A) (2) of the Tax Code, as amended
In addition to the expenses allowable as deductions under Section 34, a private educational
institution; referred to under Section 27(B) of this Code, may at its option elect to either:
1. Capitalize and claim depreciation as deduction; or
2. Claim as outright expense.

INTEREST EXPENSE
Section 34(B) of the Tax Code, as amended by CREATE Law
In General. The amount of interest paid or incurred within a taxable year on indebtedness in
connection with the taxpayer's profession, trade or business shall be allowed as deduction from
gross income.
REQUISITES FOR DEDUCTIBILITY under RR 5-2021 in relation to CREATE Law.
1. The indebtedness must be that of the taxpayer;
2. The interest must have been stipulated in writing;
3. The interest must be legally due;
4. The interest payment arrangement must not be between related taxpayers as
mandated in Sec. 34(B)(2)(b); in relation to Sec. 36(B) both of the Tax Code of 1997
5. The interest must not be incurred to finance petroleum operations; and
6. The interest was not treated as "capital expenditure", if such interest was incurred in
acquiring property used in trade, business or exercise of profession.
Provided, however, that the taxpayer's otherwise allowable deduction for interest
expense shall be reduced by twenty percent (20%) of the interest income subjected to
final tax: Provided, finally, that if the interest income tax is adjusted in the future, the
interest expense reduction rate shall be adjusted accordingly based on the prescribed
standard formula as defined in the rules and regulations to be promulgated by the
secretary of finance, upon the recommendation of the Commissioner of Internal Revenue
(CIR).
 Prior to CREATE law, the reduction in the allowable interest expense was 33% of
income subjected to final tax.
The reduction of interest expense by a percentage of income subjected to final
withholding tax is known as the "tax arbitrage” rule.
TRAIN LAW:
Using the RCIT rate of 30% prior to the effectivity of CREATE law for purposes of
illustration, interest expense will result to a lower taxable income but the taxpayer will
enjoy tax benefit (tax savings) of 30% (TRAIN law). On the other hand, the taxpayer
may deposit the proceeds of the loan/borrowings in a bank to yield interest income which
will be subjected to a final tax which is usually lower (20%) compared to the regular
corporate income tax of 30% (TRAIN law), thereby creating “double tax benefit" on the
part of the taxpayer. Difference = 30% - 20% =10%. To neutralize the impact of the
imbalance between the tax savings arising from the reduced taxable income from the
recognition of interest expense and the tax charge to the interest income derived from
such bank deposit, the interest expense to be recognized shall be reduced by 33% of
interest income subjected to FWT.
Difference = RCIT 30% - FWT rate of 20% = 10%
Reduction =10%/30% = 33% (prior to CREATE Law)

CREATE LAW:
The taxpayer's otherwise allowable deduction for interest expense shall be reduced by
an amount equivalent to twenty percent (20%) of interest income subjected to final tax.
However, if the final withholding tax rate on interest income of 20% will be adjusted in
the future, the interest expense reduction rate shall be adjusted accordingly.
Difference = RCIT 25% - FWT rate of 20% = 5%
Reduction = 5%/25% = 20% (CREATE Law)
In the case of corporations, since the income tax rates changed effective July 1, 2020, it
follows that the deduction from the interest expense of 20% shall be effective also on the
said date.

MSMEs

For other domestic corporations with net taxable income not exceeding Five Million
Pesos (P5, 000,000) and total assets not exceeding One Hundred Million (P100,
000,000), excluding the land on which the particular business entity's office, plant and
equipment are situated, the deduction is 0% since there is no difference in the income
tax rate on the taxable income (20%) with the tax rate applied on the interest income
subjected to final tax (20%). Thus, there is no interest arbitrage. The allowable intèrest
expense shall be the same with the actual interest incurred.
NOTE:
 Interest (tax) arbitrage shall apply only to interest expense arising from
"borrowings or Ioans”.
 Interest expense arising from "unpaid taxes” or “tax assessment” or interest on
tax delinquency or deficiency, provided, the tax is related to trade, business or
practice of profession shall not be covered by this limitation. Meaning, the related
interest shall be 100% deductible.
  In the case of individuals engaged in business or practice of profession, such
deduction shall take effect upon the effectivity of the CREATE law on April 11,
2021 instead of July 1, 2020.

COMPUTATION:
Interest Expense (from borrowings) Pxxx
Less: Reduction
Interest income subject to FWT Pxxx
Multiply by either:
TRAIN Law 33%
CREATE law (except MAMEs) 20% (xxx)
Deductible Interest Pxxx

OPTIONAL TREATMENT OF INTEREST [Sec. 34(B)(3)]

Interest related to acquisition of property used in trade, business or profession may, at the option of the
taxpayer, be:
1. Claimed as outright expense;
2. Capitalize and claim depreciation.
NON-DEDUCTIBLE INTEREST
1. Interest paid to persons classified as related taxpayers under Section 36(B) of RA 8424 (the Tax
Code);
2. If the indebtedness is incurred to finance petroleum exploration [Sec.34(B)(2)(b)]
3. Interest on preferred stock
PREPAID INTEREST [Sec.34 (B)(2)(a)]
"Prepaid interest" of an individual under cash basis is deductible not in the year that the interest was paid
in advance but in the year that the indebtedness was fully paid. However, if the indebtedness is payable
in periodic amortization, 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. Prepaid interest
shall likewise be allowed as deduction from the gross income “at the time of payment” for businesses
engaged in rendering services using cash basis of accounting.

TAXES [Sec.34(C) of the Tax Code, as amended]

The term “taxes” means, taxes proper and no deductions should be allowed for amounts representing
interest, surcharge, or penalties incident to delinquency.

GENERAL RULE - Taxes paid or incurred within the taxable year in connection with the taxpayer's
profession, trade or business, shall be allowed as deduction.
EXCEPTION - The following taxes are not deductible:
1. Income tax
2. Income tax paid abroad if claimed as tax credit
3. Estate tax
4. Donor's tax
5. Special assessment

LIMITATIONS ON DEDUCTIONS [Sec. 34(C)(2)]. In the case of a non-resident alien individual engaged
in trade or business in the Philippines and a resident foreign corporation, the deductions for taxes shall be
allowed only if and to the extent that they are connected with income from sources within the Philippines.
CREDIT AGAINST TAX FOR TAXES OF FOREIGN COUNTRIES [Sec. 34(C)(3)]
Income Tax paid or incurred during the year to any foreign country, at the option of the following
taxpayers, may be treated as operating expenses by the following taxpayers:
 Resident citizen;
 Domestic corporation;
 Partnerships and Estates - In the case of any such individual who is a member of a general
professional partnership or a beneficiary of an estate or trust, his proportionate share of such
taxes of the general professional partnership or the estate or trust paid or incurred during
the taxable year to a foreign country, if his distributive share of the income of such partnership or
trust is reported for taxation purposes.

An alien individual and a foreign corporation shall not be allowed the credits against the tax for
the taxes of foreign countries allowed under this paragraph.

LOSSES [Sec. 34(D) of the Tax Code, as amended]

Losses actually sustained during the taxable year and not compensated for by insurance or other forms of
indemnity shall be allowed as deductions: (a) If incurred in trade, profession or business; (b) Of property
connected with the trade, business or profession, if the loss arises from fires, storms, shipwreck, or other
casualties, or from robbery, theft or embezzlement.
KINDS OF LOSSES:
1. Casualty Losses
2. Net operating loss carry-over (NOLCO)
3. Capital losses and securities becoming worthless
4. Special Losses
a) Losses from wash sales of stock or securities
b) Wagering losses
c) Abandonment losses
CASUALTY LOSSES (RMO 31-09 dated October 16, 2009)
REQUISITES FOR DEDUCTIBILITY:
1. The loss arises from fires, storms, shipwreck, or other casualties, or from robbery, theft or
embezzlement;
2. The property lost is connected with the trade, business or practice of profession;
3. Actually sustained during the taxable year;
4. Not compensated for by insurance or other forms of indemnity
5. Incurred in trade, profession or business
6. Reported with the BIR within forty-five (45) days from the time of loss; and
7. Not claimed as deduction for estate tax purposes.

NET OPERATING LOSS CARRY-OVER (NOLCO)[Sec.34(D)(3)]

“Net Operating Loss” means the excess of allowable deduction over gross income of the
business in a taxable year. The net operating loss of the business or enterprise for any taxable year shall
be carried over as a deduction from gross income for the next three (3) consecutive taxable years
immediately following the year of such loss. However, under RA 11494, also known as the Bayanihan
Act II, the NOLCO of the business or enterprise for taxable years 2020 and 2021 shall be carried over as
a deduction from gross income for the next five (5) consecutive taxable years immediately following the
year of loss.
Summary:
 NOLCO incurred prior to 2020 and 2021 - 3 consecutive years
 NOLCO incurred in 2020 and 2021 - 5 consecutive years
 NOLCO beginning 2022 - 3 consecutive years
REQUISITES FOR DEDUCTIBILITY
1. At the time of incurring net loss, the taxpayer must not be exempt from income tax; and
2. There is no substantial change in the ownership of the business or enterprise in that
a) Not less than seventy-five (75%) in nominal value of outstanding issued shares, the
business is in the name of a corporation, is held by or on behalf of the same persons; or

b) Not less than seventy-five (75%) of the paid-up capital of the corporation, if the
business is in the name of a corporation, is held by or on behalf of the same persons.
Additional Requirements for NOLCO incurred in 2020 and 2021 under Bayanihan Act II and RR 25-
2020:
1. NOLCO shall be separately shown in the taxpayers income tax return for taxable year
2020 and in the Reconciliation portion of the Tax Return;
2. Unused NOLCO shall be presented in the Notes to the 2020 Financial Statements (with
details of year sustained and amount claimed);
3. NOLCO for taxable year 2020 shall be presented in the Notes to the Financial
Statements separately from the NOLCO for other taxable years.

NOLCO FOR MINES OTHER THAN OIL & GAS WELLS

For mines other than oil and gas wells, net operating loss incurred in any of the first ten (10) years of
operation may be carried over for the next five (5) years.

LOSSES FROM WASH SALES OF STOCK OR SECURITIES

In case of any loss claimed to have been sustained from any sale or other disposition of shares of
stock or securities shall not be deductible if:
1. The seller is not a dealer in securities;
2. Within a period of thirty (30) days before the sale ending thirty (30) days after the sale, the
seller either:
a) Acquired (by purchase or exchange) stock or securities identical to the stock or securities
sold; or
b) Has entered into a contract or option to acquire stock or securities identical to the stock
or securities sold.

WAGERING LOSSES Sec. [34(D) (6)]

Losses from wagering transactions shall be allowed only to the extent of the gains from such
transactions.

ABANDONMENT LOSSES
1) In the event a contract area where petroleum operations are undertaken is partially or wholly
abandoned, all accumulated exploration and development expenditures pertaining thereto
shall be allowed as deduction.
2) In case a producing well is subsequently abandoned, the unamortized costs thereof, as well
as the undepreciated costs of equipment directly used therein, shall be allowed as
deduction.
EFFECT IF ABANDONED WELL IS REENTERED AND PRODUCTION IS RESUMED OR
EQUIPMENT IS RESTORED INTO SERVICE
If the abandoned well is re-entered and production is resumed or equipment is restored into
service, the effects are:
 a) The amount previously claimed as deduction shall be recognized as income; and
b) Such amount shall also be capitalized and amortized or depreciated, as the case may
be.

BAD DEBTS [Sec. 34 (E)]

REQUISITES FOR DEDUCTIBILITY:
1) There must be an existing indebtedness due to the taxpayer which must be valid and legally
demandable;
2) The same must be connected with the taxpayer's trade, business or practice of profession;
3) The same must not be sustained in a transaction between related taxpayers;
4) The same must be actually charged off in the books of accounts of the taxpayer as of the
end of the taxable year; and
5) The same must be actually ascertained to be worthless and uncollectible.

SECURITIES BECOMING WORTHLESS

REQUISITES FOR DEDUCTIBILITY
1) Securities are ascertained to be worthless;
2) The same is charged off within the taxable year;
3) It must be a capital asset.

DEPRECIATION (Sec. 34 (F)

There shall be allowed as depreciation deduction a reasonable allowance for the exhaustion, wear
the tear (including reasonable allowance for obsolescence) of property used in the trade or business.
In the case of property held by one person for life with remainder to another person, the deduction
shall be computed as if the in life tenant were the absolute owner of the property and shall be
allowed to the life tenant. In the case of property held in trust, the allowable deduction shall be
apportioned between the income beneficiaries and the trustees in accordance with the pertinent
provisions of the instrument creating the the trust, or in the absence of such provisions, on the basis
of the trust income allowable to each.
REQUISITES FOR DEDUCTIBILITY:
1) The property subject to depreciation is used in the trade, business or practice of profession;
2) The allowance for depreciation must be sustained by the person who owns or who has a
capital investment in the property;
3) The allowance for depreciation must be reasonable;
4) The allowance for depreciation should not exceed the cost of the property;
5) The schedule of the allowance must be attached to the return.
METHODS OF COMPUTATION IN GENERAL [Sec. 34(F)(2)]
1) Straight-line method
2) Declining-balance method -rate should not exceed twice the rate in straight-line method
3) Sum-of-the-year-digit method; and
4) Any other method which may be prescribed by the Secretary of finance upon
recommendation of the Commissioner of Internal Revenue (CIR) / BIR.
PROPERTIES USED IN PETROLEUM OPERATIONS [Sec. 34 (F) (4)]
1) Straight-line
2) Declining-balance method
NOTE: Useful life to be used in shorter period
between:
a. 10 years; or
b. Useful life
 Properties directly related to
production

Properties not directly related to

production

PROPERTIES USED IN MINING OPERATIONS [Sec. 34(F) (5)]

If expected life of property is ten Normal rate of depreciation (depreciation over actual
(10) years or less useful life)
If expected life is more than ten Depreciated over any number of years between five
(10) years (5) years and the expected life.
DEPRECIATION DEDUCTIBLE BY NON-RESIDENT ALIENS ENGAGE IN TRADE OR
BUSINESS OR RESIDENT FOREIGN CORPORATION
In the case of non-resident aliens engage in trade or business or resident foreign corporations,
depreciation shall be allowed only if the property is located in the Philippines.
OBSOLESCENCE MAY BE DEDUCTED IN ADDITION TO DEPRECIATION Allowance for
obsolescence may be deducted in addition to reasonable allowance for the exhaustion, wear and
tear.
DEPLETION OF OIL AND GAS WELLS AND MINES [Sec. 34 (G)]
In case of oil and gas wells or mines, capital invested may be amortized using cost-depletion method,
provided:
1) When allowance for depletion shall equal capital invested, no further allowance shall be granted;
2) After production in commercial quantities has commenced, intangible exploration and
development drilling costs shall be treated as follows:

INTANGIBLE EXPLORATION AND DEVELOPMENT DRILLING COSTS

KINDS TREATEMENT
Incurred for non-producing wells Deducted in the year incurred.
and/or mines
At the option of taxpayer:

OPTION- Deductible in full in the year paid

Incurred for producing wells or incurred; or
and/or mines OPTION 2- Capitalize and amortize.

DEPLETION OF OIL AND GAS WELLS AND MINES DEDUCTIBLE BY A NON-RESIDENT ALIEN
INDIVIDUAL OR FOREIGN CORPORATION
In the case of non-resident aliens engage in trade or business or resident foreign corporations, depletion
shall be allowed only if the oil and gas wells or mines are located in the Philippines.

CHARITABLE CONTRIBUTIONS [Sec. 34 (H)]

Contributions or gifts actually paid or made within the taxable year to, or for the use of the Government of
the Philippines or any of its agencies or any political subdivision thereof exclusively for public purposes, or
to accredited domestic corporations or associations organized and operated exclusively for religious,
charitable, scientific, youth and sports development, cultural or educational purposes or for the
rehabilitation of veterans, or to social welfare institutions, or to nongovernment organizations, in
accordance with rules and regulations promulgated by the Secretary of Finance, upon recommendation of
the Commissioner, no part of the net income of which inures to the benefit of any private stockholder or
individual in an amount not in excess of ten percent (10%) in the case of an individual, and five percent
(5%) in the case of a corporation, of the taxpayer's taxable income derived from trade, business or
profession as computed without the benefit of this and the following subparagraphs.
FULLY DEDUCTIBLE DONATIONS
The following charitable contributions shall be fully deductible:
1) Donations to the Government of the Philippines or to any of its agencies or political
subdivisions including fully owned government corporations, exclusively to be used in
undertaking priority activities in:
a. Education;
b. Health;
c. Youth
d. Sports development;
e. Human settlements;
f. Science and culture;
g. Economic development.
2) Donations to foreign institutions or international organizations which are fully deductible in
pursuance of:
a. Agreements;
b. Treaties;
c. Commitments; or
d. Special laws.
3) Donations to Accredited Non-Government Organizations The term "non-government
organization" means a non-profit domestic corporation:
a. Organized and operated exclusively for:
i. Scientific;
ii. Research;
iii. Educational;
iv. Character building;
v. Youth and sports development;
vi. Health; vii. social welfare;
vii. Cultural;
viii. Charitable purposes; or
ix. A combination thereof.

b. No part of the net income of which inures to the benefit of any private individual;
c. Not later than 15th day of the third (3 rd) month after the close of the taxable year in
which contributions are received, makes utilization, unless an extended period is
granted by the Secretary of Finance, upon recommendation of the Commissioner of
Internal Revenue.
d. The level of administrative expense of which shall, on an annual basis, in no case to
exceed thirty percent (30%) of the total expenses;
e. The assets of which, in the event of dissolution, would be distributed to:
i. Another domestic corporation organized for similar purpose or purposes; or
ii. The state for public purposes; or
 iii. Another organization to be used in such manner as in the judgement of the
court shall best accomplish the general purpose for which the L dissolved
organization was organized.

PER SPECIAL LAWS, DONATIONS MADE TO THE FOLLOWING ARE DEDUCTIBLE IN FULL:
1. Integrated Bar of the Philippines (P.D.181)
2. International Rice Research Institute (R.A.2707)
3. Development Academy of the Philippines (P.D.205)
4. The University of the Philippines & other state colleges
5. Cultural Center of the Philippines
6. Artesian Well Fund (R.A. 1977)
7. Ramon Magsaysay Award Foundation
8. Task Force on Human Settlement
9. Donations to the National Museum, Library and Archives (P.D. 373)
10. National Commission on Culture
11. Humanitarian Science Foundation
12. National Social Action Council
DONATIONS SUBJECT TO LIMIT
The following donations, which do not fall under fully deductible donations, shall be subject to limit:
1) Donations to the Government of the Philippines or any agencies or any political subdivision
thereof exclusively for public purposes;
2) Donations to accredited domestic corporations or associations operated exclusively for:
a. Religious;
b. Charitable;
c. Scientific;
d. Youth and sports development;
e. Cultural;
f. Educational
g. Rehabilitation of veterans;
h. Social welfare institutions; or
i. Non-government organization.
LIMIT:
TAXPAYER RATE BASE
Corporation 5% Taxable Income from trade, business or practice to
Individual 10% profession before charitable contributions

VALUATION IN CASE OF DONATION OF NON-CASH PROPERTY

The amount of any charitable contribution of property other than money shall be based on the
acquisition cost.

RESEARCH AND DEVELOPMENT [Sec. 34(I)] 3

A taxpayer may treat research or development expenditures which are paid or incurred by him during the
taxable year in connection with his trade, business or profession as ordinary and necessary expenses
which are not chargeable to capital account. The expenditures so treated shall be in allowed as deduction
during the taxable year when paid or incurred.

If not chargeable to capital account Claim as outright expense

If chargeable to capital amount but not At option of the taxpayer:

chargeable to the property subject to
depreciation r depletion OPTION 1- Claim as outright expense.
OPTION2- Amortize over 60 months
If chargeable to property subject to Capitalize
Depreciation or depletion
LIMITATIONS ON DEDUCTION
The following Research and Development expenditures are not deductible:
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 of a character which is subject to
depreciation and depletion; and
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.

PENSION TRUSTS [Sec. 34 (J)]

AMOUNT DEDUCTIBLE

Actual contribution to the extent of pension liability Pxx

PENSION LIABILITY
Amortization of Past Service Cost xx
Total Pxx
PENSION LIABLITY
Pension liability is equivalent to Normal Cost.

PAST SERVICE COST

Past service cost is the excess of actual contribution over the Normal Cost. It shall be amortized
over ten (10) years.

OPTIONAL STANDARD DEDUCTION (OSD) [Sec. 34 (L)]

Optional Standard Deduction CA be claimed IN LIEU of itemized deductions. The following may be
allowed to claim OSD:
1) Individuals
a. Resident Citizen
b. Non-resident citizen
c. Resident alien
d. Taxable estates and trusts
2) Corporations
a. Domestic corporation
b. Resident foreign corporation

AMOUNT DEDUCTIBLE
Individuals/Estates/Trusts 40% of Gross Sales/Gross Receipt
Corporation/Partnerships 40% of Gross Income x 40%

NON-DEDUCTIBLE ITEMS (Sec. 36) 1)

1) Bribes, Kickbacks and other similar payments
2) Personal, living or family expenses
3) Any amount paid out for new buildings or for permanent improvements, or betterments made
to increase the value of any property or estate
 4) Any amount expended in restoring property or in making good the exhaustion thereof for
which an allowance is or has been made
5) 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.
6) Interest, Losses and Bad Debts:
a. Between members of a family. Family of an individual shall include only his brothers and
sisters (whether by the whole or half-blood), spouse, ancestors, and lineal descendants;
or
b. Except in the case of distributions in liquidation, between an individual and a corporation
more than fifty percent (50%) in value of the outstanding stock of which is owned, directly
or indirectly, by or for such individual; or
c. Except in the case of distributions in liquidation, between two corporations more than fifty
percent (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 or exchange was a
personal holding company;
d. Between the grantor and a fiduciary of any trust; or
e. Between the fiduciary of a trust and fiduciary of another trust if the same person is the
grantor with respect to each trust; or

QUIZZER
f. Between a fiduciary of a trust and a beneficiary of such trust.

Choose the letter of the correct answer.

Principles
1. Statement 1: Deductions are items or amounts allowed to be subtracted from gross
income to arrive at the taxable income.
Statement 2: Exclusions are receipts which are excluded from the gross income, hence,
do not form part of the gross income.
a. Only statement 1 is correct
b. Only statement 2 is correct
c. Both statements are correct
d. Both statements are incorrect
 Answer: C

2. Which of the following is not a characteristic of a deduction?

a. It is a reduction of wealth that helped earn the income subject to tax.
b. An immunity or privilege, a freedom from a charge or burden to which others are
subjected.
c. It is not a receipt.
d. It is a subtraction to arrive at income subject to tax.

 Answer: B
o "B" refers to “exclusions", not deductions.
3. Political campaign contributions are not deductible from gross income
a. If they are not reported to the Commission on Elections.
b. If the candidate supported wins the election because of possible corruption.
c. Since they do not help earn the income from which they are to be deducted.
d. Since such amounts are not considered as income of the candidate to whom
given.
 Answer: C
4. Statement 1: Deductions from gross income are not presumed.
Statement 2: As a rule, deductions means itemized deductions
a. Only statement 1 is correct
b. Only statement 2 is correct
c. Both statements are correct
d. Both statements are incorrect

 Answer: C; Refer also to Quizzer #8 and #9

5. Statement 1: Revenue expenditures are period costs that are related to a particular
period of time of business operation.
Statement 2: Capital expenditures are non-recurring expenditures related to acquisition
of depreciable assets to be used in the business.

a. Only statement 1 is correct

b. Only statement 2 is correct
c. Both statements are correct
d. Both statements are incorrect
 Answer: C

6. Lester bought an equipment under a two-year installment basis to be used in his office in
the practice of his profession. Lester will pay P50, 000 monthly for a period of twelve
(12) months. For income tax purposes, the P50,000 monthly payment shall be:
a. Treated as business rental, hence deductible
b. Treated as capital expenditure, hence not deductible
c. Treated as depreciation expense, hence deductible
d. Treated as ordinary business expenses
 Answer: B
Pro-forma Journal Entries:
Upon acquisition:
Equipment Pxx
Account Payable Pxx
Installment payment:
Account Payable Pxx
Cash Pxx
7. Statement 1: A taxpayer can only deduct an item or amount from gross income only if
there is a law authorizing such a deduction.
Statement 2: For income tax purposes, a taxpayer is free to deduct from ross income the
full amount of the deduction allowed, or a lesser amount or not to claim any deduction at
all.
a. Only statement 1 is correct
b. Only statement 2 is correct
c. Both statements are correct
d. Both statements are incorrect
 Answer: C
8. In cases of deductions and exemptions on income tax returns, doubts shall be resolved
a. Strictly against the taxpayer
b. Strictly against the government
c. Liberally in favor of the taxpayer
d. Liberally in favor of the employer
 Answer: A
9. Statement 1: The taxpayer has the burden of justifying the allowance of any deduction
claimed.
Statement 2: Deductions are strictly construed against the government.
a. Only statement 1 is correct
b. Only statement 2 is correct
c. Both statements are correct
d. Both statements are incorrect
 Answer: C
10. Statement 1: Only business expenses may be deducted from the gross income
taxpayers.
Statement 2: Itemized deductions from gross income should be duly supported by
vouchers or receipts.
a. Only statement 1 is correct
b. Only statement 2 is correct
c. Both statements are correct
d. Both statements are incorrect
 Answer: C
 Personal and non-business related expenses are not allowed to be deducted from
the gross income for income taxation purposes.
 Refer also to Page 406 for non-deductible items

11. Which of the following is a deductible expense for income tax purposes?
a. Salaries of domestic servants
b. Ordinary repair of the personal car
c. Provision for doubtful accounts
d. None of the above
 Answer: D
 “A and B" are personal expenses
  “C" is unrealized loss. Unrealized gains and losses are not recognized for tax
purposes.

12. This is not a requisite for business expense to be deductible

a. It must be reasonable
b. It must be paid during the taxable year
c. The withholding tax otherwise required have been deducted and remitted to the
BIR
d. It must be ordinary and necessary
 Answer: B
 "B" is incorrect. Business expenses incurred and/or paid may be deducted from the
taxpayer's gross income.

13. One of the requirements in order for expenses to be claimed as deduction for income tax
purposes is that, it should be subject to withholding tax if applicable. What is the
withholding tax rate applicable to rental payments?
a. 1% c. 2%
b. 5% d. 10%
 Answer: B
 Refer to the preceding number (letter "C") for the requisites for business expense to
be deductible.. Some of the creditable withholding tax rates under RR 11-2018 and
RR 14-2018

PURCHASE OF/ PAYMENT FOR: CWT%

Professional fees, talent fees, etc. for service rendered
Individual Payee:
Non- individual Payee:
If gross income didn’t exceed P3M 5%
If gross income did not exceed P720, 000 10%
If gross income > P3M or, regardless of amount if vat 10
If gross income is exceed P270, 000 15%
register
Rentals 5%
Income payments made by top withholding agent to their local supplier
of good or services:
Goods 1%
Services 2%

Income payments to beneficiaries of estates/ trust. 15%

(except tax and incomes subject t FWT)

Income payments to partners of GPPs

More than P720, 000 15%
Not more than P720, 000 10%

In theincome
14.Certain conduct of his business
payments in 2021,
made by credit card Modesto
companiesfound it necessary to 1%
give gifts to the
government officials with whom he had official dealings.
a. These gifts are deductible expenses subject to the substantiation rule.
b. The value of the gift, if de minimis, are allowed to be deducted.
 c. Irrespective of the value, the gifts are considered as bribes and not allowed to be
deductible.
d. These gifts are deductible if found to be necessary and properly supported by
receipts.
 Answer: B.; "C” is a bribe, hence, non-deductible.

Ordinary Business/Professional Expenses

15. Which of the following is not deductible from gross income?
a. Salaries and wages of employees
b. Entertainment, amusement and recreation expenses
c. Rental expenses
d. Bribes, kickbacks and other similar payments
 Answer: D
 "D" is illegal payment, hence, non-deductible; Refer to page 330
 "A-C" are ordinary business expenses
16. Which of the following can be deducted from gross income in the year paid or incurred?
a. Repairs that materially add to the value of the property
b. Repair that appreciably prolong the life of the property
c. Repair that keep the property in its ordinarily efficient operating condition
d. All of the choices
 Answer: C; “A and C" shall be capitalized.

17. Which of the following is allowable expense (s) of an employer?

a. Tax withheld by a corporation from its employees' salary.
b. Kickback payment to a government official.
c. Distribution of profits to partners.
d. None of the above
 Answer: D
 "A" is a liability, not a deductible expense.
Sample Journal Entry:
Compensation expense Pxx
Cash Pxx
Withholding tax payable xx
 "B" is an illegal payment, hence, non-deductible.
 "C" distribution of company profits is not a business expense
Sample Journal Entry:
Retained earnings Pxx
Dividend payable/Cash Pxx

18. The following are the requisites for deduction of compensation expense, except
a. Personal services must have been actually rendered
b. The compensation for such services must be reasonable
c. Both “a" and “b”
d. Neither "a" nor "b”
 Answer: D.; “A and B" are required for compensation expense to be deductible.
19. Which of the following is allowable compensation expense of an employer?
a. Salary of employee paid for a limited period of time after his death to his widow is
allowable deduction of the employer.
b. Manager's expense account subject to fringe benefit tax.
c. Both “a” and "b”
d. Neither "a" nor “b"
 Answer: C

20. Statement 1: Cost of technical books used by a CPA in the practice of his profession is
allowable business expense.
Statement 2: Tuition fees, board and lodging incurred by a medical doctor while
attending a continuing professional education seminar is allowable business expense.
a. Only statement 1 is correct
b. Only statement 2 is correct
c. Both statements are correct
d. Both statements are incorrect
 Answer: C ; Both expenditures are business related
21. Which of the following business expenses of a professional practitioner is not alowed to
be deducted from the gross income?
a. Professional expenses incurred outside the Philippines by a nonresident alien
engaged in business in the Philippines.
b. Income tax paid by a resident citizen to a foreign country.
c. Entire amount incurred for meals, lodging, and travel in connection with own
business.
d. None of the above
 Answer: A
 NRA-NETB is taxable only on income derived from Philippine sources. Consequently,
expenses incurred abroad shall not be deducted from gross income derived in the
Philippines.
 Income tax payments abroad by a resident citizen or domestic corporation may be
claimed as a tax credit or as a deduction from the gross income (OPEX), at the option of
the taxpayer.
 "C" is an ordinary and necessary business expense.

22. The following are allowable compensation expenses of the employer, except
a. Overtime pay paid to a rank-and-file employee.
b. Cash dividends paid
c. Amounts paid for pensions of retired employees
d. All of the above
 Answer: B
 "A and C" are ordinary business expenses, deductible from gross income
 "B" is a distribution of company's earnings
 23. Earl is the product manager of Mcdo Bee Inc. Earl had a dinner with Clifford, owner of a
chain of restaurants, to convince the latter to carry Mcdo Bee products. Clifford agreed. After
dinner, Earl and Clifford went their separate ways. Earl decided to celebrate by going to a
bar where he picked-up a partner and consumed a bottle of liquor. He drove home and on
his way, he sideswiped Delfin, a pedestrian who suffered injuries as a result of the accident.
Earl settled the case extra-judicially by paying Delfin amounting to P100,000 for actual
damages (the money comes from Mcdo Bee Inc.). Which of the following is correct?
a. The expenses incurred in having dinner with Clifford may be deducted from gross
income of Mcdo Bee.
b. The expenses incurred by Earl while celebrating with a partner in a bar is deductible
to expense of Mcdo Bee.
c. The amount paid to Delfin may be deducted from gross income of Mcdo Bee.
d. The amount paid to Delfin may be deducted but the amount will be reduced to an
equitable amount to qualify as ordinary and necessary expenses.
 Answer: A
 “A" is an ordinary business expense (promotional representation cost)
 The expenses incurred in the bar as well as the amount paid to Delfin are non-business
related (personal expenses), consequently, non-deductible.
ADDITIONAL TRAINING EXPENSES UNDER THE CREATE LAW
24. (Based on illustration in RR 5-2021). COD Corporation, a domestic manufacturing
corporation, had gross sales of P100,000,000 for fiscal year ending June 30, 2021 and
incurred cost of sales of P60,000,000 and cost of sales of P17,500,000, with the following
details:
Cost of Sales
Direct materials P30, 000,000
Direct labor 20,000,000
Manufacturing overhead 10,000,000 P60, 000,000
Operating expenses
Salaries and wages P7, 000,000
Taxes 300,000
Depreciation 3,500,000
Professional fees 200,000
Advertising expenses 3,000,000
Training expenses 3,000,000
Office supplies 500,000 P17, 500,000
How much is the additional allowable training expense, if any?
a. P0 c. P1,500,000
b. P1,000,000 d. P3,000,000
 Answer: C
 Additional deduction = ½ of value of the actual training expenses of P3M = P1.5M
 The amount of P1, 500,000, which is one-half of the value of the actual training expenses of
P3, 000,000.00, can be claimed as additional deduction, since it did not exceed ten percent
(10%) of the Direct Labor Wage. In this scenario, the corporation's direct labor wages
incurred was P 20,000,000.00. Thus, the one-half value of the actual training expenses of
P1, 500,000 did not exceed the P2, 000,000 (10% of P20, 000,000.00) threshold. Provided
further, that all the prescribed requirements has been complied with (e.g.,
Apprenticeship Agreement, Certification from DepEd or TESDA or CHED, whichever is
 applicable). If the company's direct labor wage is only P 10,000,000.00, the additional
deduction that can be allowed shall be P1, 000,000 and not P1, 500,000.

25. How much is the taxable net income of the Company?

a. P1,500,000 c. P40,000,000
b. P17,500,000 d. P21,000,000
 Answer: D

Gross Sales P100,000

Cost of Sales (60,000,000)
Gross Income P40,000,000
Expenses before additional deduction for training expense (17,500,000)
Additional allowable expenses for training services
(P3,000,000 x ½ ) (1,500,000)
Net Taxable Income P21,000,000

 Section 34(A)(1)(a)(V) of the Tax Code, as amended, provided: Upon effectivity of CREATE
law, an additional deduction from taxable income of one-half (1/2) of the value of labor training
expenses incurred for skills development of enterprise-based trainees enrolled in public senior
high schools. public higher education institutions, or public technical vocational institutions
and duly covered by an apprenticeship agreement under presidential decree no. 442, series
of 1974, or the "Labor Code of the Philippines", as amended, shall be granted to enterprises:
Provided, further, that for the additional deduction for enterprise-based training of students
from public educational institutions, the enterprise shall secure proper certification from the
DEPED, TESDA, or CHED: Provided, finally, that such deduction shall not exceed ten percent
(10%) of direct labor wage (RR 5-2021).

INTEREST EXPENSE

26. This is a non-deductible interest expense

a. Interest paid on indebtedness incurred to finance petroleum exploration.
b. Interest paid by a corporation on scrip dividends.
c. 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.
d. Interest paid on tax deficiency if the tax where the interest is in itself an item that is
deductible from gross income.
 Answer: A
REQUIREMENTS FOR DEDUCTIBILITY in relation to CREATE Law, of interest expense
as laid down in RR 5-2021:
1. The indebtedness must be that of the taxpayer;
2. The interest must have been stipulated in writing;
3. The interest must be legally due;
4. The interest payment arrangement must not be between related taxpayers as mandated
in Sec. 34(B) (2)(b). in relation to Sec. 36( both of the Tax Code of 1997
5. The interest must not be incurred to finance petroleum operations; and
6. The interest was not treated as "capital expenditure", if such interest was incurred in
acquiring property used in trade, business or exercise of profession.
Provided, further, that the taxpayer's otherwise allowable deduction for interest expense
shall be reduced by an amount equivalent to twenty percent (20%) of interest income
 subjected to final tax. However, if the final withholding tax rate on interest income of 20%
will be adjusted in the future, the interest expense reduction rate shall be adjusted
accordingly.

27. This is a deductible interest expense

a. Interest on deposits paid by authorized banks of the BSP to depositors, if it is
shown that the tax on such interest was withheld and paid.
b. Interest paid on indebtedness between related taxpayers.
c. Interest paid on preferred stock
d. Interest paid when there is no stipulation for the payment thereof
 Answer: A
 "B and D" are non-deductible as provided under RR 5-2021.
 "C" is non-deductible. It shall be treated as dividend payment rather than payment of interest.
28. Which of the following is a deductible expense for income tax purposes?
a. Interest paid on delinquent business taxes
b. Provisions for doubtful accounts
c. Ordinary repair for personal car
d. Salaries of domestic servants.
 Answer: A
 “A" is deductible, provided the tax is pertaining to a tax classified as operating expenses
under the Tax Code. "Business taxes", in general are classified as operating expense for
income taxation purposes. Consequently, the interest associated with those types of taxes
shall likewise be treated as operating expenses, specifically under "interest expense"
account.
 "B and D" are non-deductible (RR 13-2000). Refer to the explanatory note in the preceding
number.
 "C" is non-deductible. It shall be treated as dividend payment rather than payment of
interest.
29. Statement 1: As a rule, the interest must be on an indebtedness of the taxpayer,
otherwise it is not deductible.
Statement 2: Interest paid by the taxpayer on a mortgage upon real estate of which he is
the legal or equitable owner, even though the taxpayer is not directly liable upon the
bond or not secured by such mortgage, may be deducted as interest on his
indebtedness.
a. Only statement 1 is correct
b. Only statement 2 is correct
c. Both statements are correct
d. Both statements are incorrect
 Answer: C
30. In 2020 (prior to the effectivity of the CREATE Law), Roy borrowed money from the
Bank amounting to P1, 000,000 at an annual interest rate of 7%. He invested the money
in deposit substitutes earning annual interest income of 8%. How much is the deductible
interest?
a. P43,600 c. P70,000
b. P26,400 d. P80,000
 Answer: A
 Actual interest = P1, 000,000 x 7% P70, 000
Less: Reduction = P1, 000,000 x 8% x 33% (26,400)
Allowable interest expense P43, 600
 This is known as the "tax arbitrage" rule. Interest expense will result to a lower taxable
income but the taxpayer will enjoy tax benefit (tax savings) of 30%. On the other hand, the
taxpayer may deposit the proceeds of the loan/borrowings in a bank to yield interest income
which will be subjected to a final lax which is usually lower (20%) compared to the regular
corporate income tax of 30%, thereby creating "double tax benefit" on the part of the
taxpayer. Difference = 30%-20% = 10%. To neutralize the impact of the imbalance between
the tax savings arising from the reduced taxable income from the recognition of interest
expense and the tax charge to the interest income derived from such bank deposit, the
interest expense to be recognized shall be reduced by 30% of interest income subjected to
FWT (Difference =10; Reduction= 10%/30% = 33%). However, this scheme shall apply only
to interest expense arising from "borrowings or loans".