Northern CPAR: Taxation – Regular Income Tax: Deductions from Gross Income

NORTHERN CPA REVIEW

th
4 Floor Pelizloy Centrum, Lower Session Road, Baguio City, Philippines
Mobile Numbers: SMART 09294891758 & GLOBE 09272128204
E-mail Address: ncpar@yahoo.com
REX B. BANGGAWAN, CPA, MBA

TAXATION
REGULAR INCOME TAXATION: DEDUCTIONS FROM GROSS INCOME
General characteristics of allowable deductions:
1. The deductions are legal, ordinary, actual and necessary expenses of business or
profession.
2. The deductions pertains income which are subject to regular tax.
3. The deductions are not incurred with related parties to the taxpayer.
Related parties:
1. Members of a family
2. Except in cases of distribution in liquidation, and the direct or indirect controlling
individual
3. Except in cases of distribution in liquidation, corporations under direct or indirect
common control by or for the same individual
4. Grantor and fiduciary of any trust
5. Fiduciaries of trusts with the same grantor
6. Fiduciary of a trust and beneficiary of such trust
Deductions from Gross Income:
A. Interest
Requisites:
1. there should be a valid indebtedness
2. there must be legal liability to pay interest
3. the indebtedness must have been incurred in connection with the taxpayer’s trade,
profession or business
4. for interest incurred abroad by taxpayers who are subject to income tax only on
income earned within the Philippines, the indebtedness must have been actually
incurred to provide funds for use in connection with the conduct or operation of
trade or business in the Philippines
5. the deductible amount of interest shall be reduced by an amount equal to the
following percentage of the interest income:
Beginning January 1, 41%
1998
Beginning January 1, 39%
1999
Beginning January 1, 38%
2000
Beginning November 1, 42%
2005
Beginning January 1, 33%
2009
Non-deductible interest:
1. Interest paid in advance through discount on indebtedness incurred by an
individual taxpayer reporting income under the cash basis. If the discounted
liability is payable in installment, the amount of interest which corresponds to the
amount of the principal amortized or paid during the year shall be allowed as
deduction in such taxable year.
Note: If the borrower is a corporation, pre-deducted interest could be claimed as
deduction in the year of granting of the loan.
2. Interest payments with related parties
3. If the indebtedness is incurred to finance petroleum operations
Capitalization of interest
At the option of the taxpayer, interest incurred to acquire property used in trade,
business or profession may be allowed as a capital expenditure
Note: the capitalization of borrowing cost under PAS 23 is not followed for taxation
purpose. The interest expense up to repayment of the debt may be capitalized.
1
Driven for real excellence! TAX by Rex B. Banggawan, CPA, MBA TAX – 6 Batch – HQ07
th
Northern CPAR: Taxation – Regular Income Tax: Deductions from Gross Income
Special Cases:
1. Interest on preferred stock – these are dividends; hence, not deductible on
interest
2. Interest on scrip dividends – since there is an evidence of indebtedness, these
are deductible interest
B. Taxes
Generally, taxes paid or accrued within the taxable year in connection with the
taxpayer’s trade or business or exercise of a profession, are deductible from gross
income. The deductible tax include national and local taxes such as community tax,
city taxes (mayor’s permit, real estate, professional tax; etc.), however, the deductible
tax component is the tax proper only. Interest on delinquent taxes are deductible
from gross income but as “interest expense” not taxes.
Note: no deduction is allowed for surcharges or penalties on delinquent taxes.
Interest on tax delinquency is deductible as interest expense.
Requisites:
1. must be paid or accrued within the taxable year
2. must be incurred in connection with the taxpayer’s trade, professional or business
Non-deductible Taxes:
1. Philippine income tax, except fringe benefit tax
2. Estate or donor’s tax
3. Special assessment
4. Income tax imposed by a foreign country if the taxpayer opted to claim them as
deduction rather than as tax credit
5. Stock transaction tax
6. Value-added tax on business
Tax Credit for Foreign Income Tax Paid
Can be claimed only by those taxable on world income such as resident citizen and
domestic corporations
Taxpayer has the option to claim the foreign income tax either as:
1. tax credit or
2. deduction from income
Limit of Tax Credit:
1. 1st Limitation: Per Country Evaluation - whichever is lower of the actual amount of
foreign tax paid and the amount which reflects the ratio which the gross income
from the foreign country bears with the total world taxable income to the
Philippine income tax
For instance, the amount creditable or deductible for tax paid per foreign country
is: Country x taxable Income

x Philippine Income
Total world taxable Income Tax

2. 2nd Limitation: Total Foreign Country Evaluation: whichever is lower of the

aggregate lower values of the per-country evaluation and the amount which
reflects the ratio of the taxable income from all foreign countries bears with the
total world taxable income to the Philippine tax.
Total foreign taxable income
x Philippine Income Tax
Total world taxable income

Rules on Income Taxes Paid:

Taxpayers who are taxable on:
World Philippine income only
income
Foreign taxes paid* Deductible Qualified**
Foreign income tax Deductible/ Non-deductible/ Non-
paid Creditable creditable
Philippine taxes Deductible Deductible
paid*
Philippine income tax Non- Non-deductible
paid deductible
*other than the non-deductible taxes above
2
Driven for real excellence! TAX by Rex B. Banggawan, CPA, MBA TAX – 6 Batch – HQ07
th
Northern CPAR: Taxation – Regular Income Tax: Deductions from Gross Income
**deductible to the extent they are connected with income from sources in the
Philippines only (Sec. 34 C (2), NIRC)
Refund of taxes: The refund of a deductible tax is taxable if it created a tax benefit in
the year it is deducted
C. Losses
1. Ordinary Loss
Requisites:
1. loss must be actually sustained during the taxable year
2. not compensated for by insurance or other forms of indemnity
3. it must be sustained in a close and completed transaction
4. the loss must be that of the taxpayer
5. the loss must be reported to the BIR within 45 days from the date of loss or
discovery
6. not claimed as a deduction in the estate tax return for individual income tax
payer only*
Note: * In estate taxation, losses incurred during the settlement of the estate such as
theft of property or results of calamity may be claimed as deduction in
determining the net taxable estate.
Deductible losses:
1. loss incurred in trade, profession or business
2. loss due to fire, storm, shipwreck or other casualty of property connected with
trade, profession or business
3. loss due to theft, robbery, or embezzlement if the property is connected with trade,
profession or business
Measure of the loss:
1. Total Loss – book value of the property
2. Partial Loss – replacement cost of the damaged portion of the asset or the book
value thereof at the time of loss, whichever is lower.
Note: The asset must be written-off before a loss can be claimed as a deduction.
Abandonment Losses
1. Petroleum operation – all accumulated exploration and development expenditures
pertaining to partially or wholly abandoned of contract area shall be allowed as a
deduction, provided notice of abandonment shall be filed with the Commissioner of
Internal Revenue
2. Producing wells – the unamortized costs thereof, as well as the undepreciated
costs of equipment directly used therein , shall be allowed as a deduction in the
year such well, equipment or facility is abandoned by the contractor
Note: if the abandoned well is re-entered and production is resumed, or if such
equipment is restored into use, the same cost claimed as deduction shall be reverted
back into gross income subject to the income tax benefit rule.
Special Cases:
1. If there is a pending proceeding in which the loss can be recovered, deduction for
the loss is delayed until recovery becomes impossible. Pending the resolution of
the proceeding, the transaction is not yet complete; hence, the loss is not yet
actually sustained.
2. Loss of income – cannot be deducted unless the related income has already been
included in gross income (For example: worthless receivable is not deductible
under cash basis of reporting income).
3. Losses on sale or exchanges of property with related parties – not deductible.
Net Operating Loss Carry Over (NOLCO)
Any excess of allowable deductions over gross income of a business in a taxable year
immediately preceding the current taxable year shall be carried over as a deduction
from gross income for the next consecutive taxable years immediately following the
year of such loss provided there is no substantial change in the ownership of the
business. (This is discussed extensively in your Corporate Income Tax Handouts.)
2. Capital Loss
Capital losses are deductible only to the extent of capital gains. But a net capital
loss carry-over can be deducted in the following year it arose for non-corporate
taxpayers. (Please check handouts in Dealings in Properties.)

3
Driven for real excellence! TAX by Rex B. Banggawan, CPA, MBA TAX – 6 Batch – HQ07
th
Northern CPAR: Taxation – Regular Income Tax: Deductions from Gross Income
D. Bad Debts
Requisites:
1. There must be valid and subsisting debt due to the taxpayer.
2. it must be connected with the taxpayer’s trade, profession or business
3. the debt is actually ascertained to be worthless
4. it must be charged-off within the taxable years
Recovery of bad debts
1. Taxpayers under cash basis – Taxable but subject to Income Tax Benefit Rule
2. Taxpayers under accrual basis – Always taxable
Non-deductible bad debts:
1. Those incurred under cash basis of reporting gross income
2. Those sustained in a transaction entered into by related parties
3. For taxpayers not taxable on world income, those that represents loss of foreign
income.
The rules on bad debts may be applicable to debt securities becoming worthless for
dealers in securities only such as domestic banks and trusts companies whose major
part of business are dealing with securities. For other taxpayers where such security
is a capital asset, the rules on capital loss apply and are deductible subject to limit.
Special Cases with Bad Debts:
Receivables assigned without recourse – only the difference of amount paid and
amount recovered is allowed as deduction.
E. Depreciation
Requisites:
1. the property must be used in trade, profession or business
2. the property must have a limited useful life
3. the provision must be charged off during the taxable year
4. the provision must be reasonable
Special Option with depreciation:
1. For a proprietary or private educational institution only
2. May either choose to:
a. charged off as capital outlays of depreciable asset in the year of acquisition; or
b. deduct allowance for depreciation
Basis of Depreciation
The fair market value at the time of acquisition
1. The taxpayer and the Commissioner of Internal Revenue shall agree in writing
about the useful life and rate of depreciation. Such agreement shall be binding
upon the taxpayer and the National Government in the absence of circumstances
not taken into consideration during the adoption of the agreement.
2. Any change in the agreed rate and useful life shall operate prospectively.
3. In default of such agreement, the adoption of the taxpayer of useful life and
depreciation rate for depreciable assets without the objection of the Commissioner
or his duly authorized representative shall be considered binding.
Methods of Depreciation
1. Straight line
2. Declining balance
3. Sum of the years
4. Other methods which may be prescribed by the Secretary of Finance upon
recommendation of the Commissioner of Internal Revenue
Petroleum Operation:
- The taxpayer may choose either declining-balance method or straight line method
at the option of the contractor.
Useful life of depreciable asset:
1. used in or related to the production of petroleum – 10 years or shorter as may
be permitted by the Commissioner of Internal Revenue
2. not used in or not related to the production of petroleum – 5 years under
straight line method
Mining Operations:
- For all properties used in mining operations, other than petroleum operation:
1. 10 year useful life or less – At normal rate of depreciation

4
Driven for real excellence! TAX by Rex B. Banggawan, CPA, MBA TAX – 6 Batch – HQ07
th
Northern CPAR: Taxation – Regular Income Tax: Deductions from Gross Income
2. More than 10 years useful life – depreciated over any number of years between
5 and the expected life. Provided the taxpayer notifies the CIR at the beginning
of the deprecation period of the rate to be used.
F. Depletion (Cost Depletion) – available only for oil and gas wells and mines.
Exploration Expenditure – expenditures paid or incurred in ascertaining the existence,
location and extent, or quality of any deposit or ore or other minerals before the
beginning of the development stage of the mine or deposit.
Development Expenditure – paid or incurred during the development stage of the
mine. The development stage begins when ore or other minerals are shown to exist in
commercial quality and quantity and end upon commencement of actual commercial
extraction.
Method to Use: Cost-Depletion Method
Depletion should be provided only up to the extent of capital investment in the mine
only. Capital investment in the
mine
Unit depletion charge =
Units expected recoverable

Oil and Gas Wells or Mines: Treatment of Intangible Exploration and

Development Drilling Costs
Provided that production in commercial quantities has commenced, if intangible
development drilling cost are incurred for:
1. Non-producing wells and or mines – deductible in the year incurred
2. Producing wells and or mines – at the option of the taxpayer, deduction in full in
the year paid or incurred, or capitalized and amortized
Note: tangible development costs are capitalized and are subject to depreciation
If intangible exploration, drilling and development expenses are claimed as
deductions, they should not be added to the adjusted cost basis of the mining property
for purposes of computing the cost depletion.
Irrevocable Alternative Deduction: Applicable to Mining Operation only
The taxpayer may, at his option, deduct exploration and development expenditures
accumulated as cost or adjusted basis for cost depletion as of date of prospecting, as
well as exploration and development expenditures paid or incurred during the taxable
year.
Limit: the amount of deductible exploration and development cost shall not exceed
25% of taxable income, without the benefit of any tax incentive under existing laws.
Once elected, the scheme shall be binding and irrevocable in succeeding taxable
years.
Deductibility of Depreciation or Depletion on Mining Properties:
Taxpayers who are taxable on:
Depreciable or World Philippine income
Depletable Asset income only
Located abroad Deductible Non-deductible
Located in the Philippines Deductible Deductible
G. Charitable and Other Contributions
Requisites:
1. the contribution or gift must be actually paid
2. the contribution of property must be measured based on acquisition cost
3. it must be given to an organization specified by law
4. net income of the specified institution must not inure to the benefit of any private
stockholder or individual
5. the person making the contribution must be engaged in trade, business or
profession
Note: if the taxpayer is not engaged in trade, business or profession, the rules on
Donor’s taxation applies. Similar gifts are usually exempt under donor’s taxation
provided that not more than 30% of the donation is used for administrative purposes
by such done non-profit entity.
Classification of contributions

5
Driven for real excellence! TAX by Rex B. Banggawan, CPA, MBA TAX – 6 Batch – HQ07
th
Northern CPAR: Taxation – Regular Income Tax: Deductions from Gross Income
A. Fully deductible contributions
1. Donation to the government or political subdivisions including fully owned
government and controlled corporations to be used exclusively in undertaking
priority activities in:
1. Education 4. Human settlements
2. Health 5. Culture and sports
3. youth and sport development 6. Economic developments
Provided, donation to the government that are not in accordance with priority
activities are subject to limit.
2. Donation to foreign institution or international organization in compliance with
agreement or treaties.
3. Donations to accredited domestic non-government organizations. These
includes organizations exclusively for:
1. Scientific 6. Health
2. Research 7. Social welfare
3. Educational 8. Cultural
4. character building 9. Charitable
5. youth and sports development 10. Any combination of the listed
purposes
Requisites:
1. the donation must be utilized by the donee institution not later than the 15 th day
of the third month following the close of the taxable year
2. the administrative expense must not exceed 30% of the total expenses
3. Upon dissolution, assets must be distributed to another non-profit domestic
corporation of to the Government
- if these conditions are not complied with, the donation is subject to limit
B. Contributions subject to limit
1. Donations to the Government of the Philippines or political subdivisions
exclusively for public purposes (non-priority activities)
2. Donation to non-government organization or to domestic corporations
organized exclusively for the following purposes:
1. Religious 5. Cultural
2. Charitable 6. Educational
3. Scientific 7. Rehabilitation of veterans
4. Youth and sports development 8. Social welfare
Limit of deduction:
Based on the taxable income derived from business or profession prior to the
deduction of contributions (either fully deductible or subject to limit)
1. 10% for Individual
2. 5% for Corporations
Deductible Contribution subject to limit
The deductible contribution subject to limit shall be whichever is lower of the
actual contribution with the limit as set forth herein.
H. Contribution to Pension Trust
Current Service Cost – actually computed value of services rendered by a plan
employee during the year
Past Service Cost – value of services rendered by employees in the past that partially
satisfy vesting conditions
Rules for Pension Expense:
1. Payments to the trust to cover pension liability accruing during the year (current
service cost) are fully deductible expense for the taxable year.
2. Payment to the trust in excess of the current period costs is attributed to past
service cost up to the balance of unfunded past service cost. Funding of past
service cost is amortized over a period of 10 years starting from the year in which
the contribution was made.
Actuarially, costs that accrue during the current year include the value of services
rendered currently (current service cost and interest cost).
Note: Deductions claimed for non-vesting employees should be reversed to gross
income.

6
Driven for real excellence! TAX by Rex B. Banggawan, CPA, MBA TAX – 6 Batch – HQ07
th
Northern CPAR: Taxation – Regular Income Tax: Deductions from Gross Income
I. Research and Development Cost
Requisites:
1. It must be paid or incurred during the taxable year
2. it must be connected with the trade, profession or business of the taxpayer
3. it is not chargeable to capital accounts (capitalizable expenditure)

Amortization of Capitalizable Research and Development Costs that are not

chargeable to a property of a kind that is subject to depreciation or depletion:
1. the taxpayer should treat the expenditure as a deferred charge
2. amortized over a period of not less than 60 months starting from the month in
which the taxpayer first derived benefits from such deferred expense
Non-deductible research and development expenditures:
1. expenditure for the acquisition of improvement of a land ( in connection with
research projects)
2. any expenditure for the improvement of property to be used in connection with
research and development of a kind which is subject to depreciation and depletion;
and (these items are capitalized then charged off to depreciation)
3. 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 and
gas. (exploration costs are non-deductible, only development costs)
J. Expenses, in general
Requisites:
1. it must be ordinary and necessary
2. it must be paid or incurred during the taxable year
3. it must be directly attributable to the development, operation, management and or
conduct of the trade, profession or business
4. it must be reasonable
5. the amount paid 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
6. it must be supported by official receipts or adequate records
A. Compensation
Requisites:
1. personal services must have been actually rendered
2. the compensation for such services must be reasonable, including the grossed-
up monetary value of fringe benefit furnished to the employee and the
applicable final tax remitted to the BIR
B. Traveling Expenses
Requisites:
1. must be incurred while away from home
2. in pursuant of a trade, profession or business
C. Entertainment, Amusement or Recreation Expenses (EAR)
Requisites:
1. it must be directly related to the furtherance of the conduct of trade, profession
or business
2. it must not be contrary to law, morals, good customs, public policy or public
order
3. it must not have been paid directly or indirectly to an official or employee of the
Government (local or national, including government-owned and controlled
corporations) or of a foreign government, or to a private individual, corporation,
General Professional Partnership or a similar entity, if it constitute bribe,
kickback or other similar payments
4. the official receipts, invoices, bills or statement of accounts should be in the
name of the taxpayer claiming the deduction
Limit of deductible amount for EAR:
A. Taxpayers deriving income from either sales of properties or sale of services:
Whichever is lower of the following and the actual EAR expense
1. Taxpayers engaged in sale of goods or properties – ½ of 1% ( or .5%) of net sales
(i.e.: sales less sales returns, allowances and discounts)
2. Taxpayers engaged in sale of services (profession, lessors) – 1% of net revenue
(i.e.: gross revenue less discounts)
B. Taxpayers deriving income from both sale of properties and services, the deductible
amount shall be whichever is lower between the two tests below:
7
Driven for real excellence! TAX by Rex B. Banggawan, CPA, MBA TAX – 6 Batch – HQ07
th
Northern CPAR: Taxation – Regular Income Tax: Deductions from Gross Income
1st Limit Test:
Note: The tentative deductible amounts are first determined using rule 1 and 2 above
for each respective class of business (service or sales).
The final deductible amounts shall be whichever is lower of the respective tentative
deductible amount and the respective amounts which the total sales or revenue bears
to the total sales and revenue bears to the actual entertainment, amusement or
recreation expenses.
2nd Limit Test:
Net Sales
x Actual total EAR for
1.) Total Net Sales and Revenue sales and service

Net Revenue
2.)
x Actual total EAR for
Total Net Sales and Revenue sales and service
OPTIONAL STANDARD DEDUCTIONS (OSD)
- This deduction equivalent to 40% of the gross income (corporations) or sales
(individuals) may be opted to in lieu of the itemized deductions as discussed above.
- Can be claimed only by individual taxpayers only, self-employed or engaged in a
profession, except non-resident aliens (whether engaged in business or not).
- The qualified individual taxpayer must signify in his annual income tax return his
intention to elect the optional standard deduction.
- Election of OSD shall be irrevocable for the taxable year for which the return was
made.
- Cannot be chosen by to by the taxpayer simply because he cannot substantiate his
items of deductions already claimed. The choice must be made and indicated in the
return.
- Also apply to other items of gross income received by the taxpayer even not actually
engaged in business, for example: share of the net income of a co-ownership if the
individual has no business expenses.
Points to Remember with Optional Standard Deductions
OSD substitutes business deductible expenses of an individual taxpayer. It therefore
substitutes NOLCO which is a business deductible but not Premium on Health and
Hospitalization Insurance, being an additional personal exemption.
EXAMPLES OF NON-DEDUCTIBLE ITEMS FROM GROSS INCOME
A. personal, living, or family expenses
B. any amount paid out for new buildings or for permanent improvements, or
betterments made to increase the value of any property or estate (this rule don’t apply
to intangible drilling and development costs incurred in petroleum operations)
C. any amount expended in restoring property or in making good the exhaustion thereof
for which an allowance is or has been made; or
D. 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
E. losses from sales or exchanges of property directly or indirectly between related
parties.

CPA EXAM DRILL QUESTIONS:

1. All of the following cannot claim deductions, except
a. Non-resident corporation c. Resident citizen who is a pure
compensation earner
b. NRA-NETB d. Non-resident citizen engaged in trade or
business
2. All of the following cannot claim personal exemption, except
a. Domestic corporation c. NRA-ETB
b. NRA-NETB d. General professional partnership
3. Which of the following can be deducted as interest?
a. Interest on personal debt c. Imputed interest on capital
b. Interest on debt from a related creditor d. Interest on assessed tax
delinquency

8
Driven for real excellence! TAX by Rex B. Banggawan, CPA, MBA TAX – 6 Batch – HQ07
th
Northern CPAR: Taxation – Regular Income Tax: Deductions from Gross Income
4. All of the following cannot deduct business expenses incurred abroad on foreign
operation, except
a. Domestic corporation c. Non-resident citizen engaged in
trade or business
b. Resident corporation d. Non-resident alien engaged in
trade or business
5. Business expenses incurred abroad by a taxpayer may still be deducted by a resident
foreign corporation provided
a. it is incurred or is used for its foreign operation
b. it is not illegal nor against moral
c. it does not represent any bribe or kickback to government officials
d. it is used or is incurred in connection with the conduct of its Philippine business
6. Which is a non-deductible expense?
a. Salaries of staff in a professional practice c. Transportation incurred in
providing services to clients
b. Tuition fee of the dependents of the taxpayer d. Rental of the taxpayer’s
business establishment
7. Which of the following can either be capitalized or expensed at the option of the
taxpayer?
a. Discount interest upon the receipt of the loan for a taxpayer reporting his taxable
income at cash basis
b. Interests incurred to finance Petroleum Operations
c. Interest expense incurred for borrowings to financed acquisition of property for
use in business or trade
d. Discount interest upon the receipt of the loan for a taxpayer reporting his taxable
income at accrual basis
8. During 2007, Insider, Inc. borrowed long-term loans from a bank incurring thereon a
total interest of P150,000. It earned an extra P50,000 when it temporarily invested the
same to another bank prior to disbursement. On the other hand, it has earned an
interest income from notes receivable from various customers amounting to P100,000.
How much is the deductible interest expense for Insider, Inc. in 2007?
a. P150,000 b. P 0 c. P 87,500 d. P 129,000
9. Select the incorrect statement.
a. Interest expense incurred abroad by a domestic corporation can be deducted
b. Interest expense incurred abroad by a resident corporation for its Philippine
operation is deductible
c. Receivable charged-off by a domestic corporation from a foreign receivable can be
deducted
d. Write-off of a foreign receivable account representing income abroad is deductible
by a resident corporation
10.Which of the following can be a deductible tax expense?
a. Special assessment c. Stock transaction tax
b. Fringe benefit tax d. Surcharges and penalties on delinquent taxes
11.Which cannot be a deductible as tax expense?
Interest on Foreign tax paid Fringe
delinquent claimed as tax benefit tax
tax credit
a. Yes Yes Yes
b. Yes Yes No
c. No No Yes
d. No No No
12.Asiatica Sea Breeze, Inc., a domestic corporation, paid income tax for its Japanese and
Indonesian operation amounting to P1,500,000 and P800,000 respectively. Taxable
income from its Japanese and Indonesian operation was P5,000,000 and P2,000,000
respectively. Taxable income attributable from sources within the Philippines was
P10,000,000. How much is the creditable foreign income tax of Asiatica Sea Breeze,
Inc.?
a. P 0 b. P2,300,000 c. P 2,450,000 d.
P2,200,000

9
Driven for real excellence! TAX by Rex B. Banggawan, CPA, MBA TAX – 6 Batch – HQ07
th
Northern CPAR: Taxation – Regular Income Tax: Deductions from Gross Income
13.Assuming Asiatica Sea Breeze, Inc. is a resident Japanese corporation, how much is
the deductible foreign tax expense if it claimed the foreign taxes paid as deductions to
gross income?
a. P 0 b. P2,300,000 c. P 1,500,000 d. P
2,450,000
14.Which of the following losses can be deducted from gross income?
a. losses on the destruction of the principal residence of the taxpayer
b. losses for which a deduction has been in the estate tax return
c. losses incurred from trading domestic securities through the Philippine Stock
Exchange
d. loss arising from the disposition of a real property classified as ordinary asset
15.Which of the following losses cannot be initially deducted upon the happening of the
event?
Loss on Theft where Loss of
embezzlement the income
pending perpetrator is under the
investigation identified cash basis
a. Yes Yes Yes
b. Yes Yes No
c. No Yes No
d. No No No
16.A loss is deductible in which of the following scenario?
a. A corporation which is a party to a consolidation exchange its shares of stock
costing P5,000,000 to the stock of the new corporation with fair value of
P3,500,000
b. A stockholder acquires control to a corporation upon exchanging properties worth
P10,000,000 for the stocks of the corporation with fair value of P8,000,000
c. A stockholder of a corporation, which is a party to a merger, exchanges its stock
investment costing P3,000,000 for the stocks of the surviving corporation with fair
value of P2,000,000 and a property worth P500,000
d. An stockholder with substantial holding but not control sold properties to the
corporation at a loss
17.Losses from the following transactions are transactions between related parties and
hence not allowed as deductible for tax purposes, except?
a. Losses from sales and exchanges of properties between corporations which are
controlled directly and indirectly by the same individual
b. Losses incurred in liquidation by the controlling individual from his interest in a
controlled corporation
c. Losses from transaction between fiduciaries of trusts wherein the grantor is the
same person, between grantor and fiduciary of a trust or between the fiduciary of a
trust and the beneficiary
d. Losses incurred by a controlling (owning more than 50%) individual to a controlled
corporation
18.An ordinary and necessary expenses which is fully documented and supported by
receipts may be fully deducted for income tax purposes over and above the limit set
by law
a. medical expense b. contribution c. representation d.
high school fee
19.Which of the following is a deductible expense for income tax purposes?
a. Salaries of domestic servants c. Provision for doubtful accounts
b. Ordinary repair of the personal car d. None of the above
20.The following are examples of corporate expenses deductible from gross income,
except one:
a. Representation expenses designed to promote business.
b. Contributions to drum up business like contribution of soft drinks to barrio fiestas.
c. Expenses paid to an advertising firm in order to create a favorable image for the
corporation.
d. Premiums on life insurance covering the life of an employee if the beneficiary is his
heirs.
21.Flores Corporation took two insurance on the life of its President, Mr. Chan. In one
policy, the beneficiary is the corporation to compensate it for its expected loss in case
10
Driven for real excellence! TAX by Rex B. Banggawan, CPA, MBA TAX – 6 Batch – HQ07
th
Northern CPAR: Taxation – Regular Income Tax: Deductions from Gross Income
of death of its President. The other policy designates Mr. Chan’s wife as its irrevocable
beneficiary.
Q1: Are the insurance premiums paid by Flores Corporation in both policies
deductible?
Q2: Will the insurance proceeds be treated as income subject to tax by the corporation
and by the wife.
a. Yes to both questions. c. Yes to 1st question and No to 2nd question.
b. No to both questions. d. No to 1st question and Yes to 2nd question.
22.Interest on business is deductible for income tax purposes. However, one of the
following is not deductible –
a. Interest on delinquency tax.
b. Interest on indebtedness incurred to purchase delivery equipment.
c. Interest on indebtedness secured to purchase a tax-exempt security.
d. None of the above
23.If a stockholder receives a taxable stock dividend, what is the measure of income
applicable to him?
a. Par value of the shares on the date he receives them.
b. Fair market value of the shares on the date of declaration.
c. The adjusted cost of the old shares and the new shares of the corporation.
d. The book value of the shares of the preceding calendar year.
24.Generally, sales of real property are subject to tax. Which of the following sales of land
is not allowed by the law to be subjected to tax?
a. Land sold by the church. c. Land sold to Government Corporation.
b. Land foreclosed by the bank. d. None of the these
25.One is not a deductible tax
a. Business tax c. Energy tax on electrical power consumption
b. Privilege tax d. Occupation tax
26.One is a deductible tax
a. Estate tax b. Franchise tax c. Donor’s tax d. Special
assessment
27.One is entitled to tax credit for taxes paid to foreign country
a. Resident aliens c. Non-resident aliens with reciprocity
b. Domestic corporation d. Non-resident citizens
28.One is entitled to tax credit for taxes paid to foreign country
a. Non-resident aliens
b. Foreign corporations
c. Resident aliens with income derived solely from sources within the Philippines.
d. Beneficiaries of the estates and trusts.
29.The following taxpayers can claim tax credit except one
a. Domestic corporations c. Members or beneficiaries of partnership
or trust
b. Resident Filipino citizens d. Non-resident aliens
30.Vicor Co., a domestic corporation has net income from within the Philippines,
P200,000 and from the USA, P300,000. Income tax paid on income from USA is
P110,000. The tax credit on income tax paid to US government is
a. P105,000 b. P64,000 c. P 96,000 d. P110,000
31.One is not a deductible loss
a. Loss due to removal or demolition of old building, the scrapping of old machinery
or equipment incident to renewal or replacement.
b. Loss due to removal of building or real estate purchased when the purchase was
for the acquisition of the land and without intending to use the building.
c. Loss in value of securities of such extent that the securities have become worthless
and are written off.
d. Loss in usefulness in business of an asset so that the business is discontinued or
the asset is discarded.
32.A building was partially destroyed by fire in 2006. It had a book value of P4,000,000.
The insurance company was willing to pay P3,000,000 which was refused by the
owner of the building. Finally, the claim was settled in 2008 for P3,500,000. The
P3,500,000 proceeds is
11
Driven for real excellence! TAX by Rex B. Banggawan, CPA, MBA TAX – 6 Batch – HQ07
th
Northern CPAR: Taxation – Regular Income Tax: Deductions from Gross Income
a. Exempt b. taxable in full c. Subject to final tax d.
partly taxable
33.Referring to immediately preceding problem, the taxpayer can claim a deductible loss
of
a. P1,000,000 in 2006 b. P1,000,000 in 2008 c. P500,000 in 2006 d.
P500,000 in 2008
34.In 2006, Boy’s residence was totally destroyed by fire. The property had an adjusted
basis and a fair market value of P130,000 before the fire. During 2006, Boy received
insurance reimbursement of P120,000 for the destruction of his home. Boy’s 2006
adjusted gross income was P70,000. Boy had no casualty gains during the year. What
amount of the fire loss was Boy entitled to claim as an itemized deduction on his 2007
tax return?
a. P 0 b. P8,500 c. P 8,600 d. P10,000
35.The following were taken from the income statement of ABC corporation for the year
2007:
Gross profit on sales P800,000
Less: Deductible expenses P440,000
Provision for bad debts 80,000 520,000
Net income before income tax P280,000
Additional information:
a. Accounts written-off during the year and charged to allowance for bad debts –
P50,000.
b. Recoveries on accounts receivable previously written-off in 2006 and credited to
allowance for bad debts.
Allowed as deduction by the BIR P 30,000
Disallowed by the BIR as deduction 20,000
The net income before income tax of ABC Corporation is:
a. P280,000 b. P260,000 c. P330,000 d. P340,000
36.Which of the following assets is subject to depreciation for income tax purposes?
a. Stock in trade b. Goodwill c. Equipment used in business d.
Residential house
37.A store building was constructed on January 2, 2002 with a cost of P570,000. Its
estimated useful life is 16 years with scrap value of P70,000 after 16 years. In January,
2007 replacement of some worn-out parts of the building costing P50,000 was spent.
After the repairs, the building was appraised with a fair market value of P770,000 .
the allowable deduction for depreciation for the year 2007 is
a. P35,795.45 b. P43,750.00 c. P49,431.82 d.
P31,250.00
38.Angel is a cash basis self-employed air-conditioning repairman with 2006 gross
business receipts of P200,000. Angel’s cash disbursements were as follows:
Air conditioning parts P 25,000
Yellow pages listing 20,000
Estimated national income on self-employment income 10,000
Business long-distance telephone calls 4,000
Charitable contributions 2,000
What amount should Angel report as self-employment income before personal
exemption?
a. P151,000 b. P149,000 c. P141,000 d. P139,000
39.Which of the following is correct regarding Net Operating Loss Carry-Over?
a. Claimable by taxpayers even if not engaged in trade or business
b. The carry-over period can be extended by the application of MCIT in any given
year
c. NOLCO can be claimed only up to the extent of available taxable income in any
given subsequent period
d. NOLCO can be claimed simultaneously with OSD
40.Pinoy Exporters, Inc., a pioneer BOI-registered entity, incurred substantial losses from
its initial year of operation totaling P25,000,000. Under E.O. 226, pioneer firms as
defined therein enjoys tax holiday for its first 6 years of operation. If Pinoy Exporter,
Inc. has a taxable income before NOLCO of P18,000,000 in its second year of
operation. How much NOLCO can be claimed?
12
Driven for real excellence! TAX by Rex B. Banggawan, CPA, MBA TAX – 6 Batch – HQ07
th
Northern CPAR: Taxation – Regular Income Tax: Deductions from Gross Income
a. P 25,000,000 b. P18,000,000 c. P 0 d. P
8,333,333
41.Concerning write-off of bad debts, which of the following is deductible?
a. When incurred at the cash basis of reporting taxable income
b. When a right of recourse to a third party can be invoked
c. The balance of a loans receivable which remains outstanding after final liquidation
of the taxpayer under an insolvency proceeding
d. Incurred from personal credit of the taxpayer
42.Blue Moon, Inc. is a resident international mining corporation with various mining
operation across Europe and America. It has properties abroad equivalent to
P4,000,000,000 with expected residual value of P500,000,000 and an average useful
life of 20 years. In the Philippines, it has P60,000,000 mining properties with
estimated residual value of P10,000,000 and a useful life of 10 years. How much is the
total depreciation deductible against gross income for Philippine income tax
purposes?
a. P 0 b. P175M only c. P 180M d. 5M only
43.Using the same choices in the immediately preceding problem and assuming Blue
Moon, Inc. is a domestic corporation, how much is the total claimable depreciation
expense? _________
44.Which of the following depreciation is deductible?
a. Depreciation for a building of a private educational institution where the initial
cost of construction is charged to expensed
b. The portion of depreciation determined by the BIR as unreasonable for the current
period
c. Depreciation for personal properties of the taxpayer such as his cars and cell
phones
d. Depreciation in value of land due to calamity
45.Which of the following can deduct depreciation expense?
a. Taxpayer operating a service business c. Taxpayer earning purely compensation
income
b. A non-resident foreign corporation d. Taxpayer earning purely passive income
46.Which contribution is not fully deductible?
a. Donation to the government or government-owned and controlled corporation to
be used in priority activities
b. Donations to foreign governments or international organization in compliance to
treaties
c. Donation for non-government organization engaged exclusively for educational
purposes
d. Donations to accredited domestic non-government institutions
47.Which of the following contribution is subject to limit?
a. Donations to beggars on the street
b. Donations to Bahay Kalinga, an accredited non-profit charitable institution
c. Donations to the government of the Philippines for public purpose
d. Donations to BOI- registered entities operating on areas covered by the Investment
Priority Plan
48.Transient, Inc., a domestic corporation, has the following lists of contributions to
various institutions and organizations:
A. P50,000 to a scientific research institute accredited by the government
B. P40,000 to a fund raising drive of GMA 7 for St. Bernard, Samar incident victims
C. P20,000 regular donations to squatters nearby the company office
D. P300,000 to the Roman Catholic Church
Transient, Inc. taxable income before contribution is appropriately determined as
P5,800,000. How much is the total deductions for contributions allowable?
a. P290,000 b. P380,000 c. P 400,000 d. P340,000
49.Assuming that the taxpayer in the immediately preceding is a single individual, how
much is the taxable income?
a. P5,220,000 b. P5,200,000 c. P 5,390,000 d.
P5,410,000
50.Lenovo, Inc., a domestic corporation, conducted a research and development activity
in connection to its product, T60. Total costs of research and development was
13
Driven for real excellence! TAX by Rex B. Banggawan, CPA, MBA TAX – 6 Batch – HQ07
th
Northern CPAR: Taxation – Regular Income Tax: Deductions from Gross Income
P9,000,000. Due to this, additional features and utilities were introduced to the T60
which were intended to increase sales for the next 3 years starting the first sales
promo on January 2008. Starting January 2008, Lenovo T60 sales did increased
significantly year throughout. How much is the deductible research and development
cost that can be claimed by Lenovo, Inc. for the quarter ended December 2008?
a. P2,250,000 b. P750,000 c. P 450,000 d. P375,000
51.Which of the following is incorrect concerning general expenses?
a. Only transportation from the taxpayer’s office to his clients and vice versa can be
claimed as transportation expenses
b. Travel expenses are deductible only when incurred or paid abroad hence inshore
travel costs are non-deductible
c. Travel expenses include those that are incurred while away from home for
business purpose
d. For fixed and variable advance allowances that are retained by the employee is
taxable as income upon him
52.Affluent, Inc., a resident corporation, is engaged at both service and sales of goods. A
summary of its operation is provided as follows:
Sales of Service Sales of Goods
Gross Receipts P Net sales P
4,000,000 8,000,000
Direct costs of services 2,500,000 Cost of goods sold 4,500,000
Other deductible expenses 1,000,000 Other deductible 3,000,000
expenses
Entertainment expenses: Entertainment expenses:
Food and beverages for client
visitors 45,000 45,000
Payments to GRO and call boy
entertainers 50,000 60,000
How much is the deductible entertainment, amusement and recreation expenses?
a. P 70,000 b. P 80,000 c. P 90,000 d. P190,000
53.Which of the following cannot claim optional standard deduction?
a. A taxpayer earning purely compensation income but received distribution from a
taxable estate or trust
b. A taxpayer earning a combination of compensation and passive income subject to
final tax
c. A domestic corporation engaged in business
d. A non-resident alien engaged in trade or business
54.Select the correct statement concerning Optional Standard Deduction?
a. Can be resorted to by the taxpayer if he cannot substantiate his business expenses
under itemized deductions
b. OSD cannot be revoked by the taxpayer for 3 consecutive taxable period
c. Can be claimed simultaneously with NOLCO
d. Can be claimed simultaneously with a deduction for health and hospitalization
insurance by an individual taxpayer in business
55.Optional standard deduction is not allowed to
a. Individuals earning purely compensation c. Corporations deriving purely
passive income subject to final tax
b. Non-resident corporations d. Any of these
56.Which is not correct concerning OSD?
a. It is computed as 40% of gross income or gross receipts less direct cost of services
for any taxpayer
b. It is computed as 40% of gross income for corporations
c. It is computed as 40% of gross sales or revenue for individual taxpayers
d. Gross income means gross sales or revenue less cost of goods sold or cost of
services
57.Which is incorrect?
a. GPP can claim OSD similar to those claimable by corporations
b. A partner in a GPP can still claim either itemized deductions or optional deductions
from his share in the net income of the GPP
c. To avail of the OSD, the taxpayer must signify in his return his election of the OSD
14
Driven for real excellence! TAX by Rex B. Banggawan, CPA, MBA TAX – 6 Batch – HQ07
th
Northern CPAR: Taxation – Regular Income Tax: Deductions from Gross Income
d. The taxpayer who wants to avail of the OSD must always use the OSD in filing his
quarterly return.

INTEGRATIVE CASES:
Case A: Mr. A has two dependents. During 2010 he has the following income:
Professional income P
400,000
Compensation income, net of P1,800 SSS, P1,200 Pag-Ibig and 50,000
P1,300 PhilHealth
Gross interest income (non-bank P4,000) 10,000
Gain on sale of personal jewelries (purchased 2010) 12,000
Entertainment, recreation expense 2,800
Contributions to government priority activities 20,000
Contributions to a foundation in Hong Kong 15,000
Contributions to non-profit organizations 50,000
Loss on sale of office typewriter 10,000
Loss on sale of personal car (held 7 years) 30,000
Office supplies expense 40,000
Salaries of a senior citizen employee (contracted for 2 years) 30,000
Office utilities expense 20,000
Bank interest expense 10,000

Required: Compute the taxable income using:

1. Itemized deductions ___________
2. Optional standard deductions ___________

Case B: ABC Corporation reported the following items of income and expenses:
Net Sales P
2,500,000
Cost of sales 1,200,000
Gain on sale of old warehouse 300,000
Gain on sale of 10-year bonds 50,000
Gain on sale of 4 year-bonds 20,000
Loss on failure to exercise a call option 30,000
Loss on assignment of accounts receivables 40,000
Entertainment, amusement and recreation 50,000
expense
Premium on the insurance of company 20,000
assets
Premium on the life insurance of company 40,000
president
Car benefits given to a supervisor of the 81,600
company
Share in the SSS, Pag-Ibig and PhilHealth of 30,000
employees
Contributions to the government for public 40,000
use
Discounts granted to senior citizens 20,000
Contributions to pension (P40,000 for prior 54,000
service cost)
Regular salaries of non-senior citizen 400,000
employees
Salaries of senior citizen employees 50,000
Utilities, supplies and miscellaneous 70,000
expense
Contributions to religious institutions 50,000

Required: Compute the taxable income using:

1. Itemized deductions ___________
2. Optional standard deductions ___________

--- End of Self-Test Exercises ---

15
Driven for real excellence! TAX by Rex B. Banggawan, CPA, MBA TAX – 6 Batch – HQ07
th
Northern CPAR: Taxation – Regular Income Tax: Deductions from Gross Income

16
Driven for real excellence! TAX by Rex B. Banggawan, CPA, MBA TAX – 6 Batch – HQ07
th