Income Taxation

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Income Tax - tax on all yearly profits arising from property, professions, trades or offices, or as a tax on a person's income, emoluments, profits and the like.

TYPES OF INCOME TAXES:

1. Personal income tax on individuals

2. Regular corporate income tax on corporations

Minimum corporate income tax on corporations

4. Capital gains tax on sale of shares of stocks of a domestic corporation by a person who is not a dealer in securities and capital gains tax on sale of real property classified as a capital asset by a person who is not a real estate dealer or developer

5. Tax on passive investment income, such as interest, dividend, and royalty

6. Fringe benefits tax

7. Branch profit remittance tax on Philippine branches of foreign corporation

8. Tax on improperly accumulated earnings tax of corporations

9. Final withholding income tax on certain income from sources within the Philippines payable to the resident or non-resident persons, or to certain special persons.

FEATURES OF THE INCOME TAX LAW

1. Direct tax - burden is borne by the income recipient upon whom the tax is imposed.

2. Progressive tax - tax base increases as the tax rate increases.

3. Most comprehensive system of imposing income tax, adopting the citizenship principle, residence principle, source principle.

4. Semi-schedular or semi global system

5. Law of American origin.

DIRECT TAX - taxpayer who pays the tax is directly liable

INDIRECT TAX - paid by a person who is not directly liable and therefore may shift or pass on the tax to another person or entity

CRITERIA IN IMPOSING INCOME TAX

1. Citizenship Principle

2. Residence Principle

3. Source Principle

WHEN IS INCOME TAXABLE?

1. There is income, gain or profit.

2. The income, gain or profit is received, accrued, or realized during the taxable year

3. The income, gain or profit is not exempt from income tax.

FREQUENTLY ASKED QUESTIONS:

1) What is income?

 Income means all wealth, which flows into the taxpayer other than as a mere return of capital.

2) What is Taxable Income?

 Taxable income means the pertinent items of gross income specified in the Tax Code as amended, less the deductions and/or personal and additional exemptions, if any, authorized for such types of income, by the Tax Code or other special laws.

3) What is Gross Income?

 Gross income means all income derived from whatever source.

4) What comprises gross income?

Gross income includes, but is not limited to the following:

Compensation for services, in whatever form paid, including but not limited to fees, salaries, wages, commissions and similar item

Gross income derived from the conduct of trade or business or the exercise of profession

Gains derived from dealings in property

Interest

Rents

Royalties

Dividends

Annuities

Prizes and winnings

Pensions

Partner's distributive share from the net income of the general professional partnerships

5) What are some of the exclusions from gross income?

Life insurance

Amount received by insured as return of premium

Gifts, bequests and devises

Compensation for injuries or sickness

Income exempt under treaty

Retirement benefits, pensions, gratuities, etc.

Miscellaneous items

income derived by foreign government

income derived by the government or its political subdivision

prizes and awards in sport competition

prizes and awards which met the conditions set in the Tax Code

13th month pay and other benefits

GSIS, SSS, Medicare and other contributions

gain from the sale of bonds, debentures or other certificate of indebtedness

gain from redemption of shares in mutual fund

6) What are the allowable deductions from gross income?

Except for taxpayers earning compensation income arising from personal services rendered under an employer-employee relationships where the only deduction provided that the gross family income does not exceed P250,000 per family is the premium payment on health and/or hospitalization insurance, a taxpayer may opt to avail any of the following allowable deductions from gross income:

a)Optional Standard Deduction - an amount not exceeding 40% of the net sales for individuals and gross income for corporations; or

b) Itemized Deductions which include the following:

Expenses

Interest

Taxes

Losses

Bad Debts

Depreciation

Depletion of Oil and Gas Wells and Mines

Charitable Contributions and Other Contributions

Research and Development

Pension Trusts

In addition, individuals who are either earning compensation income, engaged in business or deriving income from the practice of profession are entitled to personal and additional exemptions as follows:

Personal Exemptions:

For single individual or married individual judicially decreed as legally separated with no qualified dependents………………………………………P 50,000.00

For head of family……………………………P 50,000.00

For each married individual *…………P 50,000.00

Note: In case of married individuals where only one of the spouses is deriving gross income, only such spouse will be allowed to claim the personal exemption.

Additional Exemptions:

For each qualified dependent, an P25,000 additional exemption can be claimed but only up to 4 qualified dependents

The additional exemption can be claimed by the following:

The husband who is deemed the head of the family unless he explicitly waives his right in favor of his wife

The spouse who has custody of the child or children in case of legally separated spouses. Provided, that the total amount of additional exemptions that may be claimed by both shall not exceed the maximum additional exemptions allowed by the Tax Code.

The individuals considered as Head of the Family supporting a qualified dependent

The maximum amount of P 2,400 premium payments on health and/or hospitalization insurance can be claimed if:

Family gross income yearly should not be more than P 250,000

For married individuals, the spouse claiming the additional exemptions for the qualified dependents shall be entitled to this deduction

7) Who are required to file the Income Tax returns?

Individuals

Resident citizens receiving income from sources within or outside the Philippines

employees deriving purely compensation income from 2 or more employers, concurrently or successively at anytime during the taxable year

employees deriving purely compensation income regardless of the amount, whether from a single or several employers during the calendar year, the income tax of which has not been withheld correctly (i.e. tax due is not equal to the tax withheld) resulting to collectible or refundable return

self-employed individuals receiving income from the conduct of trade or business and/or practice of profession

individuals deriving mixed income, i.e., compensation income and income from the conduct of trade or business and/or practice of profession

individuals deriving other non-business, non-professional related income in addition to compensation income not otherwise subject to a final tax

individuals receiving purely compensation income from a single employer, although the income of which has been correctly withheld, but whose spouse is not entitled to substituted filing

marginal income earners

Non-resident citizens receiving income from sources within the Philippines

Aliens, whether resident or not, receiving income from sources within the Philippines

Corporations no matter how created or organized including partnerships

domestic corporations receiving income from sources within and outside the Philippines

foreign corporations receiving income from sources within the Philippines

taxable partnerships

Estates and trusts engaged in trade or business

8) Who are not required to file Income Tax returns?

a. An individual who is a minimum wage earner

b. An individual whose gross income does not exceed his total personal and additional exemptions

c. An individual whose compensation income derived from one employer does not exceed P 60,000 and the income tax on which has been correctly withheld

d. An individual whose income has been subjected to final withholding tax (alien employee as well as Filipino employee occupying the same position as that of the alien employee of regional headquarters and regional operating headquarters of multinational companies, petroleum service contractors and sub-contractors and offshore-banking units, non-resident aliens not engaged in trade or business)

e. Those who are qualified under “substituted filing”. However, substituted filing applies only if all of the following requirements are present :

the employee received purely compensation income (regardless of amount) during the taxable year

the employee received the income from only one employer in the Philippines during the taxable year

the amount of tax due from the employee at the end of the year equals the amount of tax withheld by the employer

the employee’s spouse also complies with all 3 conditions stated above

the employer files the annual information return (BIR Form No. 1604-CF)

the employer issues BIR Form No. 2316 (Oct 2002 ENCS version ) to each employee.

9) Who are exempt from Income Tax?

Non-resident citizen who is:

a) A citizen of the Philippines who establishes to the satisfaction of the Commissioner the fact of his physical presence abroad with a definite intention to reside therein

b) A citizen of the Philippines who leaves the Philippines during the taxable year to reside abroad, either as an immigrant or for employment on a permanent basis

c) A citizen of the Philippines who works and derives income from abroad and whose employment thereat requires him to be physically present abroad most of the time during the taxable year

d) A citizen who has been previously considered as a non-resident citizen and who arrives in the Philippines at any time during the year to reside permanently in the Philippines will likewise be treated as a non-resident citizen during the taxable year in which he arrives in the Philippines, with respect to his income derived from sources abroad until the date of his arrival in the Philippines.

Overseas Filipino Worker, including overseas seaman

An individual citizen of the Philippines who is working and deriving income from abroad as an overseas Filipino worker is taxable only on income from sources within the Philippines; provided, that a seaman who is a citizen of the Philippines and who receives compensation for services rendered abroad as a member of the complement of a vessel engaged exclusively in international trade will be treated as an overseas Filipino worker.

NOTE: A Filipino employed as Philippine Embassy/Consulate service personnel of the Philippine Embassy/consulate is not treated as a non-resident citizen, hence his income is taxable.

10) What are the procedures in filing Income Tax returns (ITRs)?

For “with payment” ITRs (BIR Form Nos. 1700 / 1701 / 1701Q / 1702 / 1702Q / 1704)

File the return in triplicate (two copies for the BIR and one copy for the taxpayer) with the Authorized Agent Bank (AAB) of the place where taxpayer is registered or required to be registered. In places where there are no AABs, the return will be filed directly with the Revenue Collection Officer or duly Authorized Treasurer of the city or municipality in which such person has his legal residence or principal place of business in the Philippines, or if there is none, filing of the return will be at the Office of the Commissioner.

For “no payment” ITRs -- refundable, break-even, exempt and no operation/transaction, including returns to be paid on 2nd installment and returns paid through a Tax Debit Memo(TDM)

File the return with the concerned Revenue District Office (RDO) where the taxpayer is registered. However, "no payment" returns filed late shall be accepted by the RDO but instead shall be filed with an Authorized Agent Bank (AAB) or Collection Officer/Deputized Municipal Treasurer (in places where there are no AABs), for payment of necessary penalties.

11) How is Income Tax payable of individuals (resident citizens and non-resident citizens)computed?

Gross Income	P ___________
Less: Allowable Deductions (Itemized or Optional)	___________
Net Income	P ___________
Less: Personal & Additional Exemptions	___________
Net Taxable Income	P ___________
Multiply by Tax Rate (5 to 32%)	____________
Income Tax Due: Tax withheld (per BIR From 2316/2304)	P ___________
Income tax payable	P____________

                                   


12) How is Income Tax paid?

Through withholding

Generally 10% or 15% if the gross annual business or professional income exceeds P720,000 per year

20% - Fees paid to directors who are not employees and 20% of professional fees paid to non-individuals

Other withholding tax rates

Pay the balance as you file the tax return, computed as follows:

Income Tax Due	P ___________
Less: Withholding Tax	___________
Net Income Tax Due	P ___________

13) Is the Minimum Corporate Income Tax (MCIT) an addition to the regular or normal income tax?

No, the MCIT is not an additional tax. An MCIT of 2% of the gross income as of the end of taxable year (whether calendar or fiscal year, depending on the accounting period employed) is  imposed on a corporation taxable under Title II of the Tax Code, as amended, beginning on the 4th taxable year immediately following the taxable year in which such corporation commenced its business operations when the MCIT is greater than the regular income tax.  The MCIT is compared with the regular income tax, which is due from a corporation. If the regular income is higher than the MCIT, then the corporation does not pay the MCIT but the amount of the regular income tax.

Notwithstanding the above provision, however, the computation and the payment of MCIT, shall likewise appply at the time of filing the quarterly corporate income tax as prescribed under Section 75 and Section 77 of the Tax Code, as amended.  Thus, in the computation of the tax due for the taxable quarter, if the computed quarterly MCIT is higher than that quarterly normal income tax, the tax due to be paid for such taxable quarter at the time of filing the quarterly income tax return shall be the MCIT which is two percent (2%) of the gross income as of the end of the taxable quarter. In the payment of said quarterly MCIT, excess MCIT from the previous taxable year/s shall not be allowed to be credited.  Expanded withholding tax, quarterly corporate income tax payments under the normal income tax, and the MCIT paid in the previous taxable quarter/s are allowed to be applied against the quarterly MCIT due.

14) Who are covered by MCIT?

The MCIT covers domestic and resident foreign corporations which are subject to the regular income tax. The term “regular income tax” refers to the regular income tax rates under the Tax Code. Thus, corporations which are subject to a special corporate tax system do not fall within the coverage of the MCIT.

For corporations whose operations or activities are partly covered by the regular income tax and partly covered by the preferential rate under special law, the MCIT shall apply on operations by the regular income tax rate. Newly established corporations or firms which are on their first 3 years of operations are not covered by the MCIT.

15) When does a corporation start to be covered by the MCIT?

A corporation starts to be covered by the MCIT on the 4th year of its business operations. The period of reckoning which is the start of its business operations is the year when the corporation was registered with the BIR. This rule will apply regardless of whether the corporation is using the calendar year or fiscal year as its taxable year.

16) When is the MCIT reported and paid? Is it quarterly?

The MCIT is paid on an annual basis and quarterly basis. The rules are governed by Revenue Regulations No. 12-2007.

17) How is MCIT computed?

The MCIT is 2% of the gross income of the corporation at the end of the year.

“Gross income” means gross sales less sales returns, discounts and cost of goods sold. Passive income, which have been subject to a final tax at source do not form part of gross income for purposes of the MCIT.

Cost of goods sold includes all business expenses directly incurred to produce the merchandise to bring them to their present location and use.

For trading or merchandising concern, cost of goods sold means the invoice cost of goods sold, plus import duties, freight in transporting the goods to the place where the goods are actually sold, including insurance while the goods are in transit.

For a manufacturing concern, cost of goods manufactured and sold means all costs of production of finished goods such as raw materials used, direct labor and manufacturing overhead, freight cost, insurance premiums and other costs incurred to bring the raw materials to the factory or warehouse.

For sale of services, gross income means gross receipts less sales returns, allowances, discounts and cost of services which cover all direct costs and expenses necessarily incurred to provide the services required by the customers and clients including:

Salaries and employees benefits of personnel, consultants and specialists directly rendering the service;

Cost of facilities directly utilized in providing the service such as depreciation or rental of equipment used;

Cost of supplies

Interest Expense is not included as part of cost of service, except in the case of banks and other financial institutions.

“Gross Receipts” means amounts actually or constructively received during the taxable year. However, for taxpayers employing the accrual basis of accounting, it means amounts earned as gross income.

18) What is the carry forward provision under the MCIT?

Any excess of the MCIT over the normal income tax may be carried forward on an annual basis and be credited against the normal income tax for 3 immediately succeeding taxable years.

19) How would the MCIT be recorded for accounting purposes?

Any amount paid as excess minimum corporate income tax should be recorded in the corporation’s books as an asset under account title “Deferred charges-MCIT”

20) How long can we amend our income tax return?

There is no prescription period for amending the return. When the taxpayer has been issued a Letter of Authority, he can no longer amend the return.

21) Can a benefactor of a senior citizen claim him/her as additional dependent in addition to his/her 3 qualified dependent children at P 25,000 each?

No, pursuant to Revenue Regulations 2-94, the benefactor of a senior citizen cannot claim the additional exemption.

22) What is a tax treaty?

A tax treaty formally known as convention or agreement for the avoidance of double taxation and the prevention of fiscal evasion with respect to taxes on income (and on capital) could be defined in terms of its purpose.  First, a tax treaty is intended to promote international trade and investment in several ways, the most important of which is by allocating taxing jurisdiction between the Contracting States so as to eliminate or mitigate double taxation of income.  Second, a tax treaty is intended to permit the Contracting States to better enforce their domestic laws so as to reduce tax evasion.  These purposes are in fact incorporated in the title and the preamble.

23) What are the effective Philippine tax treaties?

The Philippines has thirty-seven (37) effective tax treaties.  The following tax treaties and their dates of effectivity as as follows:

Effective Philippine Tax Treaties (as of June 2010)

Country	Date of Effectivity	Date and Venue of Signature
1. Australia	January 1, 1980	May 11, 1979, Manila, Philippines
2. Austria	January 1, 1983	April 4, 1981, Vienna, Austria
3. Bahrain	January 1, 2004	November 7, 2001, Manila, Philippines
4. Bangladesh	January 1, 2004	September 8, 1997, Manila, Philippines
5. Belgium	January 1, 1981	October 2, 1976, Manila, Philippines
6. Brazil	January 1, 1992	Sept. 29, 1983, Brasilia, Brazil
7. Canada	January 1, 1977	March 11, 1976, Manila, Philippines
8. China	January 1, 2002	November 18, 1999, Beijing, China
9. Czech	January 1, 2004	November 13, 2000, Manila, Philippines
10. Denmark (Renegotiated)	January 1, 1998	June 30, 1995, Copenhagen, Denmark
11. Finland	January 1, 1982	October 13, 1978, Manila, Philippines
12. France	January 1, 1978	January 9, 1976, Kingston, Jamaica
13. Germany	January 1, 1985	July 22, 1983, Manila, Philippines
14. Hungary	January 1, 1998	June 13, 1997, Budapest, Hungary
15. India	January 1, 1995	February 12, 1990, Manila, Philippines
16. Indonesia	January 1, 1983	June 18, 1981, Manila, Philippines
17. Israel	January 1, 1997	June 9, 1992, Manila, Philippines
18. Italy	January 1, 1990	December 5, 1980, Rome, Italy
19. Japan	January 1, 1981	February 13, 1980, Tokyo, Japan
20. Korea	January 1, 1987	February 21, 1984, Seoul, Korea
21. Malaysia	January 1, 1985	April 27, 1982, Manila, Philippines
22. Netherlands	January 1, 1992	March 9, 1989, Manila, Philippines
23. New Zealand	January 1, 1981	April 29, 1980, Manila, Philippines
24. Norway	January 1, 1998	July 9, 1987, Manila, Philippines
25. Pakistan	January 1, 1979	February 22, 1980, Manila, Philippines
26. Poland	January 1, 1998	September 9, 1992, Manila, Philippines
27. Romania	January 1, 1998	May 18, 1994, Bucharest, Romania
28. Russia	January 1, 1998	April 26, 1995, Manila, Philippines
29. Singapore	January 1, 1977	August 1, 1977, Manila, Philippines
30. Spain	January 1, 1994	March 14, 1989, Manila, Philippines
31. Sweden (Renegotiated)	January 1, 2004	June 24, 1998, Manila, Philippines
32. Switzerland	January 1, 2002	June 24, 1998, Manila, Philippines
33. Thailand	January 1, 1983	July 14, 1982, Manila, Philippines
34. United Arab Emirates	January 1, 2009	September 21, 2003, Dubai, UAE
35. United Kingdom of Great Britain  and Northern Ireland	January 1, 1979	June 10, 1976, London, United Kingdom
36. United States of America	January 1, 1983	October 1, 1976, Manila, Philippines
37. Vietnam	January 1, 2004	November 14, 2001, Manila, Philippines

24) What office can we inquire about the said tax treaties?

The International Tax Affairs Division (ITAD).

25) What taxes are covered b Philippine tax treaties?

Income taxes imposed by the domestic laws of the Contracting States, including substantially similar taxes that may be imposed later, in addition to, or in place, are covered by the tax treaties. In the Philippines, this is generally limited to Title II (Tax on Income) of the National Internal Revenue Code of 1997, as amended.

26) How is business income treated under our tax treaties?

The business profits of a resident of a Contracting State shall not be taxable in the Philippines unless that enterprise of a resident of a Contracting State carries on business in the Philippines through a permanent establishment.

27) What is the concept of permanent establishment (PE) as used in tax treaties?

PE is defined as a fixed place of business through which the business of the enterprise is wholly or partly carried on.  The concept of permanent establishment is used to determine the rights of a Contracting State to tax the business profits of enterprises of the other Contracting State.  Under this concept, profits of an enterprise of a Contracting State are not taxable by the other Contracting State, unless the enterprise carries on business through a permanent establishment situated in the other Contracting State.

A list of places, circumstances, and activities which constitute a permanent establishment is provided under the different tax treaties which the Philippines has with other countries.

28) What is the Most-Favored-Nation clause (MFN)?

The appearance of the MFN clause in the tax treaty means that a Contracting State will grant to a resident of the other Contracting State the same lower rate of tax or exemption the former has granted to a resident of a third State.

29) What is the tax treatment on immovable property?

Income from an immovable property is taxable in the Contracting State where the property is situated.  This term is generally defined under the domestic laws of the Contracting States.  However, this is further defined in the tax treaties.

30) How are capital gains taxed under our tax treaties?

Gains from the alienation of immovable property or movable property forming part of the business property of a permanent establishment or pertaining to a fixed base are taxed in the Philippines if the immovable property or permanent establishment or fixed base is located here.

Sources: Reviewer in Taxation by Atty. Victorino C. Mamalateo

www.bir.gov.ph