Sec. 34 (D) Losses.

- Requisites for deductibility

Losses are deductible for Income Tax purposes if the following requisites are met:

1. The loss must be incurred in trade, profession, or business of the

taxpayer, or any transaction entered into for profit;
2. It must be actually sustained within the taxable year;
3. It must be evidenced by a closed and completed transaction;
4. It must not be compensated for by insurance or other form of indemnity;
and
5. The taxpayer has filed a sworn declaration of loss within 45 days after the
date of the occurrence of casualty or robbery, theft, or embezzlement.

NOTE: No loss shall be allowed as a deduction if a the time of the filing of the
return, if such loss has been claimed as a deduction for estate tax in the
return.

Cases:

Fernandez Hermanos Inc. v. CIR, 29 SCRA 552

Four cases involves two decisions of CTA. These cases raise two similar issues and
so Court decided to resolve the four appeals in this joint decision. Hermanos is an
investment company.

Upon verification of the taxpayer's income tax returns for the period in question, the
Commissioner of Internal Revenue assessed as alleged deficiency income taxes for
the years 1950- 1954 in the total amount of 166k.

1. Losses
a. Losses in Mati Lumber Co
b. Losses in or bad debts of Palawan Manganese Mines, Inc.
c. Losses in Balamban Coal Mines
d. Losses in Hacienda Dalupiri
e. Losses in Hacienda Samal
2. Excessive depreciation of Houses
3. Taxable increase in net worth

Tax court allowed Hermanos to deduct all from its gross income except Losses in or
bad debts of Palawan Manganese Mines, Inc., Losses in Hacienda Samal and
Excessive depreciation of Houses. The assessed amount was reduced from 166k to
123k.

Issues: Whether or not allowances and disallowances of deductions made

were valid.

Held:
1. Allowance - Losses in Mati Lumber.Mati Lumber Ceased operation. The
contention of CIR is that even though the lumber company ceased operation it
 still has properties of considerable value, the Supreme Court affirmed the tax
court because if proceeds realized from sawmill properties be distributed to the
stock holders, it shall be considered as income for the year the proceedswere
received.

2. Disallowed - Losses in or bad debts of Palawan Manganese Mines.

Hermanos insists that it is either bad debts or losses (it is ambiguous). This is
not a debt but an investment because Hermanos does not expect to be paid
since the 15% is not a payment of loan and can only be received if Palawan
mines produce an income due to an agreement that 15% income shall be paid
back to Hermanos. As for losses,Voluntary advances made without expectation
of repayment do not result in deductible losses. 1955 PH Fed. Taxes, Par. 13,
329.

3. Disallowed - losses in Balamban Coal Mines

This should only be considered losses for 1952 when the mines were abandoned
and not from the year where income is not produced due to lack of sales. SC
affirmed the disallowance made by the Tax Court.

4. Allowed - Losses in Hacienda Dalupiri (1950 to 1954) and Hacienda

Samal (1951-1952)
Hacienda Dalupiri was a cattle farm since it is operated for business and since
it sustained losses in its operation, which losses were determined by means of
inventories authorized under Section 100 of Revenue Regulations No. 2, it was
error to disallowed the deduction of said losses.The same is true with respect to
loss sustained in the operation of the Hacienda Samal for the years 1951 and
1952. The court is satisfied with the evidence submitted by the taxpayer for
Dalupri and Samal.

5. Disallowed- Excessive depreciation of Houses (1950-1954).

Taxpayer claims 10% while CIR claims it should only be a 3% depreciation per
annum. Sustained Tax Court's finding that the taxpayer did not submit adequate
proof of the correctness of the taxpayer's claim that the depreciable assets or
buildings in question had a useful life only of 10 years so as to justify its 10%
depreciation per annum claim such finding being supported by the record.

6. Allowed - Taxable increase in net worth (1950-1951). Here, the Commissioner

treated the increase in net worth as taxable income. Hermosas record of
liability with Manila Insurance were lost. It was reconstituted to the amount of
PHP 349k as the liability of the insurance company but actually it is only PHP
319k showing an excess of 30k which was then corrected in 1951. 30k was
treated by CIR to be an increase in the net worth of the taxpayer. The principle
underlying the taxability of an increase in the net worth of a taxpayer rests on
the theory that such an increase in net worth, if unreported and not explained
by the taxpayer, comes from income derived from a taxable source.

As for the 2nd issue, it has been held that "a judicial action for the collection of a tax
is begun by the filing of a complaint with the proper court of first instance, or where
the assessment is appealed to the Court of Tax Appeals, by filing an answer to the
taxpayer's petition for review wherein payment of the tax is prayed for."
Plaridel Security v. CIR, 21 SCRA 1187

Facts: As suretyof Constancio San Jose, with indemnity agreement, the Plaridel
Security paidthe amount of 44k. The trial court also ordered San Jose to reimburse
the amount that Plaridel Security will pay. Later on the Plaridel Security declared the
amount paid as deductible loss which was disallowed by CIR. It was elevated to the
Tax Court then to the SC.

Issue: Whether such loss is deductible.

Held: It is not. the rule is that loss deduction will be denied if there is a
measurable right to compensation for the loss, with ultimate collection reasonably
clear. If there is a reasonable ground for reimbursement, such as where the court
ordered the principal to compensate, the taxpayer must seek his redress and may
not secure a loss deductionuntil he establishes that no recovery can be
made. The taxpayer (petitioner) must exhaust his remedies first to recover or
reduce his loss. But assuming that there was no reasonable expectation of recovery,
still no loss deduction can be had. Sec. 30 (d) (2) of the Tax Code requires a charge-
off as one of the conditions for loss deduction. Though there is still no fulfillment of
the obligation of reimbursement, there is no proof that those obliged are insolvent.
Thus, it was too premature for petitioner to claim a loss deduction.

Even if there is no reasonable expectation of recovery, still no loss deduction can be

had. Sec. 30 (d) (2) of the Tax Code requires a charge-off as one of the conditions
for loss deduction:

In the case of a corporation, all losses actually sustained and charged-off

within the taxable year and not compensated for by insurance or otherwise.

In the case of a corporation, losses sustained during the taxable year and not
compensated for by insurance or otherwise.

Other types of losses

a. Capital losses
(i)Limitation. - Losses from sales or exchanges of capital assets shall be
allowed only to the extent provided in Section 39.

(ii) Securities Becoming Worthless. - If securities as defined in Section 22(T)

become worthless during the taxable year and are capital assets, the loss
resulting therefrom shall, for purposes of this Title, be considered as a loss
from the sale or exchange, on the last day of such taxable year, of capital
assets.

b. Securities becoming worthless

(i) Loss in shrinkage in value of stockthrough fluctuation in the market is not
deductible from
 gross income. (To be deductible, the loss must be actually suffered when the
stock is disposed of.

(ii) Exception: If the stock of the corporation becomes worthless, the cost or
other basis may be
deducted by its owner in the taxable year in which

c. Losses on wash sales of stocks or securities

Wash Sale is a sale or other disposition of stock or securities where
substantially identical securities (substantially the same as those disposed of)
are acquired or purchased (or there was an option to acquire, and the
acquisition or option should be by purchase or exchange upon which gain or
loss is recognized under the income tax law) within a 61-day period, beginning
30 days before the sale and ending 30 days after the sale.

General rule: Not deductible from gross income Exception: If by a dealer in

securities in the course of ordinary business, it is deductible.

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

e. NOLCO (Net Operating Loss Carry Over)

Net operating loss (NOL)is the excess of allowable deduct ions over gross
income for any taxable year immediately preceding the current taxable year.

NOLCO: The NOL of the business or enterprise which had not been previously
offset as deduction from gross income 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, provided however, that any net
loss incurred in a taxable year during which the taxpayer was exempt from
income tax shall not be allowed as a deduction. (Sec. 34(3)(D), NIRC)

***Note: An individual who avails of 40% OSD shall not simultaneously claim
deduction of NOLCO.
***Note: Domestic and resident foreign corporations taxed during the taxable
year with Minimum Corporate Income Tax cannot enjoy the benefit of NOLCO.

Exception: Mines other than oil and gas wells, where a net operating loss
without the benefit of incentives provided for under EO No. 226 (Omnibus
Investments Code) incurred in any of the first ten (10) years of operation may
be carried over as a deduction from taxable income for the next five (5) years
immediately following the year of such loss.

Requisites for NOLCO:

(1) The taxpayer was not exempt from income tax the year the loss was
incurred;
(2) There has been no substantial change in the ownership of the business or
enterprise wherein:
 a) AT LEAST 75% of nominal value of outstanding issued shares is held
by or on behalf of the same persons; or
b) AT LEAST 75% of the paid up capital of the corporation is held by or
on behalf of the same persons.

Case:
PICOP v. CIR, GR No. L-106949, 1 December 1995

PICOP v. CIR

PICOP received two letters of assessment and demands, one for deficiency
transaction tax and documentary and science stamp tax; and the other for
deficiency income tax for 1977. TOTAL 88k. Both parties appealed on separate
Petitions, Supreme Court referred the two cases to the Court of Appeals which
rendered a decision with further reduction of the liability of PICOP. Both parties once
more filed separate petitions which were consolidate.

PICOP maintains that it is not liable to pay assailing the 35% deficiency tax that CA
held due from it and the deficiency income tax resulting from disallowance of
certain claimed financial guarantee expenses and claimed year-end adjustments of
sales and cost of sales figures by PICOP's external auditors.Picop claims that it is
exempt from the payment of the transaction tax by virtue of its tax exemption
under R.A. No. 5186.

The CIRinsists that the Court of Appeals erred in finding PICOP not liable for
surcharge and interest on unpaid transaction tax and for documentary and science
stamp taxes and in allowing PICOP to claim as deductible expenses:net operating
losses of another corporation and interest payments on loans for the purchase of
machinery and equipment.(surcharge -an increase in amount. In this case, if there is
delay in payment of tax after returns there will be a 25% increase in that amount of
tax to be paid with 14% interest)

Issues:

1. Whether PICOP is liable for 35% under PD 1154.

2. Whether Picop is liablefor interest and surchargeon unpaid transaction tax.

R.A. No. 5186 says all taxes under NIRC except income tax. Picop issued
commercial paper consisting of serially numbered promissory notes. On these
promissory notes, Picop paid interestand in respect to these interest CIR required to
pay its 35% as transaction tax based on PD 1154. Previously, PICOP issued
debenture bonds not intended for money market where BIR ruled exempt from 35%
tax because PD 1154 seeks to regulate money market transactions. Ruling is not
applicable to promissory notes, however, because promissory notes constitute the
very archtype of money market instruments.The 35% transaction tax is imposed on
interest income from commercial papers issued in the primary money market. Being
a tax on interest, it is a tax on income. PICOP, however, is not liable for other taxes
under PD 1154 prior its effectivity.
2. CIR prays that Picop be held liable for a twenty-five percent (25%) surcharge and
for interest at the rate of fourteen percent (14%) per annum from the date
prescribed for its payment relying on Revenue Regulation 7-77.P.D. No. 1154 did not
itself impose, nor did it expressly authorize the imposition of, a surcharge and
penalty interest in case of failure to pay the thirty-five percent (35%) transaction tax
when due. Neither did Section 210 (b) of the 1977 Tax Code which re-enacted
Section 195-C inserted into the Tax Code by P.D. No. 1154.

f. Bad debts
General rule: Taxpayer must ascertain and demonstrate with reasonable
certainty the uncollectibility of debt. Exceptions: Banks and insurance
companys receivables.

Requisites for deductibility

(1) Valid and legally demandable debt due to the taxpayer
(2) Debt is connected with the taxpayer's trade, business or practice of
profession;
(3) Debt was not sustained in a transaction entered into between related
parties;
(4) Actually ascertained to be worthless and uncollectible as of the end of the
taxable year taxpayer had determined with reasonably degree of
certainty that the claim could not be collected despite the fact that the
creditor took reasonable steps to collect); and
(5) Actually charged off the books of accounts of the taxpayer as of the end
of the taxable year

Case:
Phil. Refining v. CA, 256 SCRA 667 CHARLES

Petitioner Phil. Refining Co. was assessed by Respondent Commissioner of Internal

Revenue to pay a deficiency tax for the year 1985. It was protested by PRC on April
1989 on the ground that it was based on the erroneous disallowances of bad debts
and interest expense, although the same are both allowable and legal deductions.
However, CIR issued a warrant of garnishment against the deposits of PRC at a
branch of City Trust Bank in Makati, which the PRC considered as a denial of its
protest.PRC filed a petition for review with the Court of Tax Appeals that the bad
debts and interest expense are legal and allowable deductions.In its decision, CTA
reduced the deficiency income tax assessment to P237,381.26 with surcharge and
interest incident to delinquency.PRC elevated the case to the Court of Appeals which
denied due course to the petition for review and dismissed the case.

According to the CTA and CA, out of 16 accounts alleged as bad debts, only 3
accounts have met the requirements of worthlessness of the accounts, hence were
properly written off as bad debts. Other accounts have not satisfied the
requirements of the worthlessness of a debt.
This decision was based on the ruling in Collector vs. Goodrich International
Rubber Co., which established the rule in determining the worthlessness of a debt.
In said case, the Court held that for debts to be considered as worthless, and
thereby qualify as bad debts making them deductible, the taxpayer should show
that
(1) there is a valid and subsisting debt;
(2) the debt must be actually ascertained to be worthless and uncollectible during
the taxable year;
(3) the debt must be charged off during the taxable year; and
(4) the debt must arise from the business or trade of the taxpayer. Additionally,
before a debt can be considered worthless, the taxpayer must also show that it is
indeed uncollectible even in the future.

Furthermore, there are steps outlined to be undertaken by the taxpayer to prove

that he exerted diligent efforts to collect the debts, viz: (1) sending of statement of
accounts;
(2) sending of collection letters;
(3) giving the account to a lawyer for collection; and
(4) filing a collection case in court.

ISSUE: WON PRC satisfied the requirements of worthlessness of a debt as to the 13

accounts disallowed as deductions

HELD: NO.The only evidentiary support given by PRC for its aforesaid claimed
deductions was the explanation or justification posited by its financial adviser or
accountant. Her allegations were not supported by any documentary evidence,
hence, both CA and CTA ruled that said contentions per se cannot prove that the
debts were indeed uncollectible and can be considered as bad debts as to make
them deductible.
Both Courts are corrects as it is shown by PRCs own submission and the discussion
thereof which the Supreme Court have taken time and patience to cull from the
antecedent proceedings.

ACCOUNTS
Remoblas Store and CM Variety Store: According to PRC, stores were burned and no
assets can be garnished. However, PRC failed to show any documentary evidence.

Tomas Store: According to PRC, owner was murdered and no visible assets could
satisfy the debts. Again, PRC failed to present proof of efforts exerted to collect the
debt.

Aboitiz Shipping Corporation and J. Ruiz Trucking: Their cargo was hijacked so PRC
gave 30% rebates. PRC failed to present an iota of proof.

Debt of Renato Alejandro: PRC claimed that the whereabouts of Renato, a former
employee of PRC, are unknown after he failed to pay the judgment against him,
thus, the balance cannot be collected. PRC failed to prove existence of the case
against debtor Renato.
Debt of Lucito Sta. Maria: His debt is due to the loss of his stocks through robbery
and the account is uncollectible due to his insolvency. PRC likewise failed to submit
documentary evidence.

3 Foreign Corporation Debtors: PRC contends that these debtors can be sued only in
their country of incorporation so they did not file any collection and write them off
as bad debts. PRC failed to show proof of its efforts to collect the debts.

Enriched Food Corporation: PRC claims that it sent several letters to collect the
debt. This is not sufficient to sustain its position and they were unable to show
alleged demand letters.

AFPCES: PRC said they did not file a collection suit because the debtor is a
government agency. The Court said that
AFPCES does not enjoy immunity from suit.

The findings of fact of the CTA are binding on the Supreme Court and in the absence
of strong reasons for the Court to delve into facts, only questions of law are open for
determination. Due to the desire of the Supreme Court to satisfy petitioners calls for
clarification and to use this case as a vehicle for exemplification, this appeal could
very well have been summarily dismissed.

g. Depreciation

1. Requisites for deductibility

2. Methods of computing depreciation allowance

Methods Formula: Depreciation =

Straight-line method (Acquisition Cost Salvage Value)/
Useful Life
Declining balance 1st year = 40% dep., 2nd year, 30%, ..last
year 10%
Acquisition Cost x 40% = 1 st year
depreciation
Acquisition Cost x 30% =2 nd year
depreciation
Sum of year digit (Acquisition Cost Salvage Value) x nth
period/Sum of years (1+2+3+4+5)
Any other method which may be
prescribed by the
Secretary of Finance upon the
recommendation of
the CIR

Basilan Estate v. CIR

Facts: On MARCH 24, 1954 Basilan Estate, Inc. filed itsincome tax returnfor
1953paying the amount of 8k. The Commission on February of 1959, assessed
Basilan Estate for deficiency income tax pursuant to Section 25 of the Tax code in
the total amount of PHP 90,788. Upon failure of payment, a warrant of distraint and
levy was issued but was not executed due to the order of the Deputy Commissioner.
When it reached the CTA, the court found no prescription and affirmed the
assessment. On 1964, the case was elevated Before the Supreme Court.

Issues:
1. Prescription of assessment
2. Improper disallowance
3. the existence of accumulated profits
4. That Exemption of the petitioner from penalty tax under R.A. 1823
amending the tax code.
Held:
1. As for the prescription, court affirmed CTA finding no prescription. Supreme Court
Said, The notice of assessment shows the assessment to have been made on
February 26, 1959, well within the five-year period. On the right side of the notice is
also stamped "Feb. 26, 1959" denoting the date of release, according to the
practice Bureau of Internal Revenue.

2. Regarding the issue on Improper, the question to be resolved is whether

depreciation is determined from the acquisition cost(amount spent to acquire such
assets) or the reappraised value. It is Acquisition Cost. As determined by the
Commission with concurrence of the Petitioner, the allowable depreciation of the
assets is PHP 36K but it was reappraised to 47.3k + 3.9k new assets = 51k and from
there amount, 10.5k was disallowed.

Depreciation is the gradual diminution in the useful value of

tangible property resulting from wear and tear.

From earnings the value of the tangibleproperty invested is recovered, so

that at the end of any given term of years, the original investment remains as it
was in the beginning. Such recovery of capital investment is allowed by law
precisely SECTION 30 (f) (1) of the tax code.

However, the tax law does not allow depreciation of an asset beyond its
acquisition cost. The reason is that deductions from gross income are privileges,
not matters of right. They are not created by implication but upon clear expression
in the law.Recovery of profit will arise if it will be allowed beyond the acquisition
cost. Recoveryin due time thru depreciation of investment made is the
philosophy behind depreciation allowance.

SC sustained the taxpayer for the 6k disallowed by the Commission on the ground
of lack of proof. Receipts should be kept for 5 years and when the taxpayer was
assessed on 1959, the 5 years had lapsed. Section 337 of the Tax Code.

3. Section 25 of the tax code imposes surtax on profits unreasonably accumulated.

 If any corporation(except banks, insurance companies, or personal
holding companies, whether domestic or foreign)is formed or availed of
for the purpose of preventing the imposition of the tax upon its
shareholders or members or the shareholders or members of another
corporation, through the medium of permitting its gains and profits to
accumulate instead of being divided or distributed, there is levied and
assessed against such corporation, for each taxable year, a tax equal
to twenty-five per centum of the undistributed portion of its
accumulated profits or surplus which shall be in addition to the tax
imposed by section twenty-four, and shall be computed, collected and
paid in the same manner and subject to the same provisions of law,
including penalties, as that tax.

Petitioner violated this section because of 347k unreasonably accumulated.

Dec 1953, assets were PHP 388,617.00 while the liabilities amounted to only PHP
61,117.31 or a ratio of 6:1.

The corporation had considerable capital adequate to meet the reasonable needs of
the business amounting to PHP 327,499.69 (assets less liabilities).

The PHP 200,000 reserved for electrification of drier and mechanization and the PHP
50,000 reserved for malaria control, these amounts are included in the 347k but are
reverted to the general fund only in 1953. If there were any plans for these amounts
to be used in further expansion through projects, it did not appear in the records as
was properly indicated in 1948 when such amounts were reserved.

Withdrawal by shareholders, of large sums of money as personal loans. Large

amounts were withdrawn by or advanced to the stockholders yet 347k remained.

As correctly held by the Court of Tax Appeals, while certain expenses of the
corporation were credited against these amounts, the unspent balance was retained
by the stockholders without refunding them to petitioner at the end of each year.
These advances were in fact indirect loans to the stockholders indicating the
unreasonable accumulation of surplus beyond the needs of the business.

Investment of undistributed earnings in assets having no proximate connection with

the business as hospital building and equipment worth P59,794.72.

In 1953, with an increase of surplus amounting to P677,232.01, the capital stock

was increased to P500,000 although there was no need for such increase.

4. Exepmption:THERE IS NONE

Petitioner avails of an exemption found in Section 25 of the revenue code as

amended by R.A. 1823 whereby accumulated profits or surplus if invested in any
dollar-producing or dollar-earning industry or in the purchase of bonds issued by the
Central Bank, may not be subject to the 25% surtax. Unreasonable accumulation
was 1953, the act was amended only on 1957.
Charitable Contribution

Requisites for deductibility:

(1) Actually PAID or made to the ENTITIES or institutions specified by law;
(2) Made within the TAXABLE year.
(3) It must be EVIDENCED by adequate receipts or records.
(4) For Contributions Other than Money: The amount shall be BASED on the
acquisition cost
(5) For Contributions subject to the statutory limitation: It must NOT EXCEED 10%
(individual) or 5% (corporation) of the taxpayers taxable income before
charitable contributions

Roxas v CTA
GR No L-25043, April 26, 1968

Facts: Antonio, Eduardo and Jose Roxas, brothers and at the same time partners of
the Roxas y Compania, inherited from their grandparents several properties
including agricultural lands in Batangas, a residential house in Malate, Maynila and
shares of stocks in different corporations.

The CIR demanded from the partnership payment of deficiency taxes resulting from
the following:
P 150 real estates dealers tax based on the rental received;
P150 tax for dealers in securities,
50% unreported net profits on the sale of Nasugbo farms;
Disallowance of various contribution for/to:
- Tickets for Banquet in honor of S. Osmea P 40.00
- Philippine Air Force Chapel 100.00 & Manila Police Trust Fund 150.00
- Philippines Herald's fund for Manila's neediest families 100.00 +100.00
+120 +120
- Our Lady of Fatima Chapel, FEU 50.00
- Pasay City Firemen Christmas Fund 25.00+50.00 + 25.00
- Baguio City Police Christmas fund 25.00
- Hijas de Jesus' Retiro de Manresa 450.00

Issue: Are the deductions for business expense and contribution?

Held.
The contributions to the Christmas funds of the Pasay City Police, Pasay City
Firemen and Baguio City Police are not deductible for the reason that the Christmas
funds were not spent for public purposes but as Christmas gifts to the families of
the members of said entities. The tax code enunciated that a contribution to
a government entity is deductible when used exclusively for public
purposes.
Contributions to Our Lady of Fatima chapel at the Far Eastern University were
rightfully disallowed because said university gives dividends to its stockholders. The
net income of said university inures to the beneit of its stockholders.

On the other hand, the contribution to the Manila Police trust fund is an allowable
deduction for said trust fund belongs to the Manila Police, a government entity,
intended to be used exclusively for its public functions.

Contributions to the Philippines Herald's fund for Manila's neediest families are
allowable deductions because such contributions were not made to the Philippines
Herald but to a group of civic spirited citizens organized by the Herald solely for
charitable purposes and said citizens do not receive prots.

** After the war, they sold 13,500 hectares of their land to their tenants through the
urging of the government in instalment. The partnership gained Php 42, 480 in 953
and Php29,500 in 1955 from this sale but only declared half of each amount
alleging that the gain is earned through sale of capital asset.. The partnership also
gained Php8,000 per years from rental paid by Jose on the residential house.

- Roxas y Cia. cannot be considered a real estate dealer for the sale in
question. Hence, pursuant to Section 34 of the Tax Code the lands sold to
the farmers are capital assets, and the gain derived from the sale thereof
is capital gain, taxable only to the extent of 50%.