COMMISSIONER OF INTERNAL G.R. No. 172231
REVENUE,
Petitioner,
Present:
- versus - Ynares-Santiago, J. (Chairperson),
Austria-Martinez,
Callejo,
Sr.,
Chico-Nazario, and
Nachura, JJ.
ISABELA
CULTURAL
CORPORATION, Promulgated:
Respondent.
x
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x
YNARES-SANTIAGO, J.:
Petitioner Commissioner of Internal Revenue (CIR) assails the September
30, 2005 Decision[1] of the
Court of Appeals in CA-G.R. SP No. 78426 affirming the February 26, 2003
Decision[2] of
the Court of Tax Appeals (CTA) in CTA Case No. 5211, which cancelled and set
aside the Assessment Notices for deficiency income tax and expanded withholding
tax issued by the Bureau of Internal Revenue (BIR) against respondent Isabela
Cultural Corporation (ICC).
The facts show that on
The deficiency income tax of P333,196.86, arose from:
(1) The BIR’s
disallowance of ICC’s claimed expense deductions for professional and security
services billed to and paid by ICC in 1986, to wit:
(a) Expenses for the auditing services of SGV
& Co.,[3]
for the year ending
(b) Expenses for the legal services [inclusive
of retainer fees] of the law firm Bengzon Zarraga Narciso Cudala Pecson Azcuna
& Bengson for the years 1984 and
1985.[5]
(c) Expense for security services of El
Tigre Security & Investigation Agency for the months of April and May 1986.[6]
(2) The alleged
understatement of ICC’s interest income on the three promissory notes due from
Realty Investment, Inc.
The deficiency expanded withholding tax of P4,897.79 (inclusive
of interest and surcharge) was allegedly due to the failure of ICC to withhold
1% expanded withholding tax on its claimed P244,890.00 deduction for security
services.[7]
On
On
The CTA also held that ICC did not understate its interest income on the
subject promissory notes. It found that
it was the BIR which made an overstatement of said income when it compounded
the interest income receivable by ICC from the promissory notes of Realty
Investment, Inc., despite the absence of a stipulation in the contract
providing for a compounded interest; nor of a circumstance, like delay in
payment or breach of contract, that would justify the application of compounded
interest.
Likewise, the CTA found that ICC in fact withheld 1% expanded withholding
tax on its claimed deduction for security services as shown by the various
payment orders and confirmation receipts it presented as evidence. The dispositive portion of the CTA’s
Decision, reads:
WHEREFORE, in view of all the foregoing, Assessment Notice
No. FAS-1-86-90-000680 for deficiency income tax in the amount of P333,196.86,
and Assessment Notice No. FAS-1-86-90-000681 for deficiency expanded
withholding tax in the amount of P4,897.79, inclusive of surcharges and
interest, both for the taxable year 1986, are hereby CANCELLED and SET ASIDE.
SO ORDERED.[9]
Petitioner filed a petition for review with the Court of Appeals, which
affirmed the CTA decision,[10] holding that although the professional
services (legal and auditing services) were rendered to ICC in 1984 and 1985,
the cost of the services was not yet determinable at that time, hence, it could
be considered as deductible expenses only in 1986 when ICC received the billing
statements for said services. It further
ruled that ICC did not understate its interest income from the promissory notes
of Realty Investment, Inc., and that ICC properly withheld and remitted taxes
on the payments for security services for the taxable year 1986.
Hence, petitioner, through the Office of the Solicitor General, filed the
instant petition contending that since ICC is using the accrual method of
accounting, the expenses for the professional services that accrued in 1984 and
1985, should have been declared as deductions from income during the said years
and the failure of ICC to do so bars it from claiming said expenses as deduction
for the taxable year 1986. As to the
alleged deficiency interest income and failure to withhold expanded withholding
tax assessment, petitioner invoked the presumption that the assessment notices
issued by the BIR are valid.
The issue for resolution is whether the Court of Appeals correctly: (1) sustained the deduction of the expenses
for professional and security services from ICC’s gross income; and (2) held
that ICC did not understate its interest income from the promissory notes of Realty
Investment, Inc; and that ICC withheld the required 1% withholding tax from the
deductions for security services.
The requisites for the deductibility of ordinary and necessary trade,
business, or professional expenses, like expenses paid for legal and auditing
services, are: (a) the expense must be ordinary and necessary; (b) it must have been paid or incurred
during the taxable year; (c) it must have been paid or incurred in carrying
on the trade or business of the taxpayer; and (d) it must be supported by
receipts, records or other pertinent papers.[11]
The requisite that it must have been paid
or incurred during the taxable year is further qualified by Section 45 of
the National Internal Revenue Code (NIRC) which states that: “[t]he deduction
provided for in this Title shall be taken for the taxable year in which ‘paid
or accrued’ or ‘paid or incurred’, dependent
upon the method of accounting upon the basis of which the net income is
computed x x x”.
Accounting methods for tax purposes comprise a set of rules for
determining when and how to report income and deductions.[12] In the instant case, the accounting method
used by ICC is the accrual method.
Revenue Audit Memorandum Order No. 1-2000, provides that under the
accrual method of accounting, expenses not being claimed as deductions by a
taxpayer in the current year when they are incurred cannot be claimed as
deduction from income for the succeeding year.
Thus, a taxpayer who is authorized to deduct certain expenses and other
allowable deductions for the current year but failed to do so cannot deduct the
same for the next year.[13]
The accrual method relies upon the taxpayer’s right to receive amounts or
its obligation to pay them, in opposition to actual receipt or payment, which
characterizes the cash method of accounting.
Amounts of income accrue where the right to receive them become fixed,
where there is created an enforceable liability. Similarly, liabilities are accrued when fixed
and determinable in amount, without regard to indeterminacy merely of time of
payment.[14]
For a taxpayer using the accrual method, the determinative question is,
when do the facts present themselves in such a manner that the taxpayer must
recognize income or expense? The accrual
of income and expense is permitted when the all-events test has been met. This test requires: (1) fixing of a right to
income or liability to pay; and (2) the availability of the reasonable accurate
determination of such income or liability.
The all-events test requires the right to income or liability be fixed,
and the amount of such income or liability be determined with reasonable
accuracy. However, the test does not
demand that the amount of income or liability be known absolutely, only that a
taxpayer has at his disposal the information necessary to compute the amount
with reasonable accuracy. The all-events
test is satisfied where computation remains uncertain, if its basis is
unchangeable; the test is satisfied where a computation may be unknown, but is
not as much as unknowable, within the taxable year. The amount of liability does not have to
be determined exactly; it must be determined with “reasonable accuracy.” Accordingly, the term “reasonable accuracy”
implies something less than an exact or completely accurate amount.[15]
The propriety of an accrual must be judged by the facts that a taxpayer
knew, or could reasonably be expected to have known, at the closing of its
books for the taxable year.[16] Accrual method of accounting presents largely
a question of fact; such that the taxpayer bears the burden of proof of
establishing the accrual of an item of income or deduction.[17]
Corollarily, it is a governing principle in taxation that
tax exemptions must be construed in strictissimi juris
against the taxpayer and liberally in favor of the taxing authority; and one
who claims an exemption must be able to justify the same by the clearest grant
of organic or statute law. An exemption from the common burden cannot be
permitted to exist upon vague implications.
And since a deduction for income tax purposes partakes of the nature of a
tax exemption, then it must also be strictly construed.[18]
In the instant case, the expenses for professional fees consist of
expenses for legal and auditing services.
The expenses for legal services pertain to the 1984 and 1985 legal and
retainer fees of the law firm Bengzon Zarraga Narciso Cudala Pecson Azcuna
& Bengson, and for reimbursement of the expenses of said firm in connection
with ICC’s tax problems for the year 1984.
As testified by the Treasurer of ICC, the firm has been its counsel since
the 1960’s.[19] From the nature of the claimed deductions and
the span of time during which the firm was retained, ICC can be expected to have
reasonably known the retainer fees charged by the firm as well as the
compensation for its legal services. The
failure to determine the exact amount of the expense during the taxable year
when they could have been claimed as deductions cannot thus be attributed
solely to the delayed billing of these liabilities by the firm. For one, ICC, in the exercise of due
diligence could have inquired into the amount of their obligation to the firm,
especially so that it is using the accrual method of accounting. For another, it could have reasonably determined
the amount of legal and retainer fees owing to its familiarity with the rates charged
by their long time legal consultant.
As previously stated, the accrual method presents largely a question of
fact and that the taxpayer bears the burden of establishing the accrual of an expense
or income. However, ICC failed to
discharge this burden. As to when the
firm’s performance of its services in connection with the 1984 tax problems
were completed, or whether ICC exercised reasonable diligence to inquire about the
amount of its liability, or whether it does or does not possess the information
necessary to compute the amount of said liability with reasonable
accuracy, are questions of fact which ICC never established. It simply relied on the defense of delayed
billing by the firm and the company, which under the circumstances, is not sufficient
to exempt it from being charged with knowledge of the reasonable amount of the expenses
for legal and auditing services.
In the same vein, the professional fees of SGV & Co. for auditing the
financial statements of ICC for the year 1985 cannot be validly claimed as
expense deductions in 1986. This is so
because ICC failed to present evidence showing that even with only “reasonable
accuracy,” as the standard to ascertain its liability to SGV & Co. in the
year 1985, it cannot determine the professional fees which said company would
charge for its services.
ICC thus failed to discharge the burden of proving that the claimed
expense deductions for the professional services were allowable deductions for
the taxable year 1986. Hence, per Revenue
Audit Memorandum Order No. 1-2000, they cannot be validly deducted from its
gross income for the said year and were therefore properly disallowed by the
BIR.
As to the expenses for security services, the records show that these
expenses were incurred by ICC in 1986[20]
and could therefore be properly claimed as deductions for the said year.
Anent the purported understatement of interest income from the promissory
notes of Realty Investment, Inc., we sustain the findings of the CTA and the
Court of Appeals that no such understatement exists and that only simple
interest computation and not a compounded one should have been applied by the BIR. There is indeed no stipulation between the
latter and ICC on the application of compounded interest.[21] Under Article 1959 of the Civil Code, unless
there is a stipulation to the contrary, interest due should not further earn
interest.
Likewise, the findings of the CTA and the Court of Appeals that ICC truly
withheld the required withholding tax from its claimed deductions for security
services and remitted the same to the BIR is supported by payment order and
confirmation receipts.[22] Hence, the Assessment Notice for deficiency
expanded withholding tax was properly cancelled and set aside.
In sum, Assessment Notice No. FAS-1-86-90-000680 in the amount of
P333,196.86 for deficiency income tax should be cancelled and set aside but only
insofar as the claimed deductions of ICC for security services. Said Assessment is valid as to the BIR’s
disallowance of ICC’s expenses for professional services. The Court of Appeal’s cancellation of Assessment
Notice No. FAS-1-86-90-000681 in the amount of P4,897.79 for deficiency
expanded withholding tax, is sustained.
WHEREFORE, the petition is PARTIALLY GRANTED. The September 30, 2005 Decision of
the Court of Appeals in CA-G.R. SP No. 78426, is AFFIRMED with the MODIFICATION
that Assessment Notice No. FAS-1-86-90-000680, which disallowed the expense deduction
of Isabela Cultural Corporation for professional and security services, is
declared valid only insofar as the expenses for the professional fees of SGV
& Co. and of the law firm, Bengzon Zarraga Narciso Cudala Pecson Azcuna
& Bengson, are concerned. The
decision is affirmed in all other respects.
The case is remanded to the BIR for the computation of Isabela Cultural
Corporation’s liability under Assessment Notice No. FAS-1-86-90-000680.
SO ORDERED.
CONSUELO
YNARES-SANTIAGO
Associate Justice
WE CONCUR:
MA. ALICIA AUSTRIA-MARTINEZ
Associate Justice
ROMEO J. CALLEJO, SR. MINITA V.
CHICO-NAZARIO
Associate Justice Associate Justice
ANTONIO
EDUARDO B. NACHURA
Associate Justice
ATTESTATION
I attest that the conclusions in the above decision were
reached in consultation before the case was assigned to the writer of the
opinion of the Court’s Division.
CONSUELO YNARES-SANTIAGO
Associate Justice
Chairperson, Third Division
CERTIFICATION
Pursuant to Section 13, Article VIII of the Constitution
and the Division Chairperson’s Attestation, it is hereby certified that the
conclusions in the above Decision were reached in consultation before the case
was assigned to the writer of the opinion of the Court’s Division.
REYNATO
S. PUNO
Chief Justice
[1] Rollo, pp. 48-59. Penned by Associate Justice Delilah
Vidallon-Magtolis and concurred in by Associate Justices Bienvenido L. Reyes
and Josefina Guevara-Salonga.
[2]
[3]
Sycip, Gorres, Velayo & Co.
[4]
Exhibits “O” to “T,” records, pp. 128-133.
[5]
Exhibits “U” to “DD,” id. at 134-143.
[6]
Exhibits “EE” to “II,” id. at
144-148.
[7] Rollo, p. 56.
The following is an itemized schedule of ICC’s
deficiency assessment:
Taxable income (loss) per return P(114,345.00)
Add: Additional Taxable Income
(1) Interest income P429,187.47
(2) Other income
Rent income 9,169.64
Investment
service income 23,725.36
(3)
Disallowance of prior year’s
expenses
(a)
Professional fees (1985) 496,409.77
(b)
Security services (1985) 41,814.00 1,000,306.24
Net Taxable Income per
investigation P885,961.24
Tax due thereon P310,086.43
Less: Tax Paid 143,488.00
Balance P166,598.43
Add: 25% Surcharge 41,649.61
Sub-total P208,248.04
Add: 60% Interest 124,948.82
Total Amount Due and Collectible P333,196.86
Expanded Withholding Tax
Security Services P2,448.90
Add: 25% Surcharge 612.22
Sub-total P3,061.12
Add: 60% Interest 1, 836.67
Total Amount Due and Collectible P4,897.79
(CTA Decision, Rollo, p. 174)
[8]
Commissioner of Internal Revenue v. Isabela Cultural Corporation, 413 Phil.
376.
[9] Rollo, p. 181.
[10]
The dispositive portion of the Court of Appeal’s Decision, states:
WHEREFORE, the petition is hereby DISMISSED for lack of merit
and the decision appealed from is hereby AFFIRMED.
SO ORDERED. (
[11] Commissioner
of Internal Revenue v. General Foods (Phils.), Inc., G.R. No. 143672, April
24, 2003, 401 SCRA 545, 551.
[12]
De
[13]
Chapter II-B.
[14]
Mertens Law of Federal Income Taxation, Vol. 2 (1996), Cash and Accrual
Methods, Chapter 12A, § 12A:51, p. 12A-77.
[15]
[16]
[17]
[18] Commissioner of Internal Revenue v.
General Foods (Phils.), Inc., supra
note 11 at 550.
[19]
TSN, July 20, 1995, p. 86.
[20]
Exhibits “EE” to “II,” records, pp. 144-148.
[21]
Exhibits “E” to “J,” id. at 119 to
123.
[22]
Exhibits “QQ” to “WW,” id. at
171-191.